Abc Beverage Corp. v. United States

• Decision Date: 13 June 2014
• Docket Number: No. 13–1701.,13–1701.
• Parties: ABC BEVERAGE CORPORATION, Plaintiff–Appellee, v. UNITED STATES of America, Defendant–Appellant.
• Court: U.S. Court of Appeals — Sixth Circuit

756 F.3d 438

ABC BEVERAGE CORPORATION, Plaintiff–Appellee,

v.UNITED STATES of America, Defendant–Appellant.

No. 13–1701.

United States Court of Appeals,Sixth Circuit.

Argued: March 18, 2014.

Decided and Filed: June 13, 2014.

ARGUED:Gilbert S. Rothenberg, United States Department of Justice, Washington, D.C., for Appellant. Ronald G. DeWaard, Varnum LLP, Grand Rapids, Michigan, for Appellee. ON BRIEF:Gilbert S. Rothenberg, Tamara W. Ashford, Richard Farber, Francesca Ugolini, United States Department of Justice, Washington, D.C., for Appellant. Ronald G. DeWaard, Brion B. Doyle, Varnum LLP, Grand Rapids, Michigan, for Appellee.

Before: NORRIS, COLE, and GIBBONS, Circuit Judges.

OPINION

COLE, Circuit Judge.

At a bottling plant in Hazelwood, Missouri, ABC Beverage Corporation makes and distributes soft drinks and other non-alcoholic beverages for Dr. Pepper Snapple Group Inc. ABC leased the facility at first, but after concluding that its rent under the lease was too high, it exercised an option to buy the property. Appraisals valued the property without the lease at $2.75 million, and ABC determined that the fair market value of the property with the lease would be at least $9 million. ABC eventually bought the property for more than $9 million.

On its tax return, ABC reported $2.75 million as its cost of acquiring the property and deducted $6.25 million as a business expense for terminating the lease. The IRS disallowed the deduction and assessed a tax deficiency; ABC paid the deficiency and sued for a refund. On summary judgment, the district court held that ABC should have been allowed to take the deduction, a decision that led to a multi-million dollar judgment in favor of ABC.

The precise question on appeal is this: may a lessee, who buys the leased property from the lessor for a price greater than the value of the property, immediately deduct as a business expense the portion of the purchase price it paid to buy the unexpired lease, or must it capitalize the entire purchase price? This court has already held that the lessee may take the deduction. Cleveland Allerton Hotel, Inc. v. Comm'r, 166 F.2d 805 (6th Cir.1948). Today we recognize that intervening Supreme Court decisions and statutory changes do not require us to modify our prior decision. Accordingly, we affirm the district court's grant of summary judgment.

I. BACKGROUND

ABC is a Michigan corporation that makes and distributes non-alcoholic beverages. Through a subsidiary, ABC acquired a company that held a long-term lease on a bottling plant in Hazelwood, Missouri. The lease contained a provision for calculating rent. Shortly after acquiring the lease, ABC concluded that rent due under the lease exceeded its fair market value. For example, an appraisal determined that the fair market value of the rent was $356,000 per year for 1997, but under the lease the landlord demanded $1.1 million in rent that year. The lease also contained a purchase option, which could be exercised only during a specific time period, and a means for calculating the purchase price. The purchase price would be the fair market value of the property, defined to include the value of the unexpired lease, which had a remaining term of 40 years.

ABC exercised its purchase option, but the parties disagreed about how to calculate the purchase price. ABC sent the landlord proposed calculations in which it would pay at least $9 million for the property. The landlord countered with a price of $14.8 million. Eventually, the parties agreed to a purchase price of $11 million, and ABC bought the property in 1999.

ABC obtained three independent appraisals before it bought the property, and all of the appraisals concluded that the value of the property without the lease was $2.75 million. On its 1997 tax return, ABC capitalized $2.75 million as the cost of purchasing the property. It also claimed a business expense deduction of $6.25 million—the difference between the $2.75 million appraisal value of the property and the $9 million ABC calculated it would have to pay for the property with the lease—for buying out the lease. The Internal Revenue Service disallowed the deduction and assessed an income tax deficiency of $2.5 million against ABC. ABC paid the assessment and brought suit for a refund.

In the district court, ABC and the government each moved for summary judgment. The government primarily argued that I.R.C. § 167(c)(2) prohibits ABC from categorizing any part of the purchase price as a distinct business expense for terminating the lease, and therefore the cost of the property must be the entire purchase price. The district court disagreed, holding that § 167(c)(2) did not apply. The court also rejected the government's argument that a Supreme Court case had effectively overruled otherwise binding Sixth Circuit precedent that permitted ABC to deduct the lease termination expense. And the district court quickly dismissed the government's claim that ABC's deduction was barred by I.R.C. § 263(a)(1), which prohibits the deduction of capital expenditures.

The district court also held, despite the government's arguments to the contrary, that ABC had “established the fair market value of the property, that the lease was excessive, and that the amount [ABC] paid to acquire the property over the fair market value of the property is attributable to buying out the onerous lease.” The court did find, however, a genuine dispute of material fact, precluding summary judgment, about when ABC could take the deduction. The jury found in ABC's favor on that issue, and the court entered a $2.9 million judgment against the government.

The government now appeals, arguing that the deduction is barred by I.R.C. §§ 263(a)(1) and 167(c)(2), and that intervening Supreme Court decisions have effectively overruled an otherwise binding Sixth Circuit precedent. The district court had jurisdiction under 28 U.S.C. § 1346(a)(1), and we have jurisdiction under 28 U.S.C. § 1291.

II. ANALYSIS

The government concedes that Cleveland Allerton, if it remains good law, controls the outcome of this case and permits ABC to deduct the lease expense. In Cleveland Allerton, a hotel stood in ABC's shoes: it ran a business on leased property, concluded that rent was excessive, and sought to escape the burdensome lease by buying the property and lease. 166 F.2d at 805–06. The hotel put forth uncontradicted evidence that the property's value without the lease was $200,000, and it paid $441,250 to buy the property and lease together. Id. at 806. The hotel wanted to deduct $241,250 as a business expense for terminating the lease. Id. The government disallowed the deduction, arguing that the entire purchase price should be capitalized for two reasons: first, a third-party purchaser would be required to capitalize the entire purchase price, and second, the hotel had not specifically designated the $241,250 as the price of the lease. Id. The Tax Court agreed with the government. Id.

This court reversed the Tax Court. Id. at 807. Looking “through form to substance,” we found it clear that the hotel paid $200,000 for the property and $241,250 to escape the burdensome lease. Id. at 807. The hotel was not like a third-party purchaser, we reasoned, because the hotel already had full control of the land, subject only to its obligation to surrender the land at the end of the lease. Id. at 806–07. For the hotel, the lease was a liability it sought to extinguish; for a third party, the lease would be an asset capable of producing income from rent payments. See id. And though the hotel had not allocated a specific amount of the purchase price to the lease, that price could be found simply by subtracting the established value of the property from the total price paid. Id. at 807. We therefore held that the hotel was entitled to deduct the amount paid to buy out the lease, even though it incurred the expense while acquiring a capital asset. See id.

Over 65 years later, the government asks us to revisit Cleveland Allerton. But a published prior panel decision “remains controlling authority unless an inconsistent decision of the United States Supreme Court requires modification of the decision or this Court sitting en banc overrules the prior decision.” Salmi v. Sec'y of Health & Human Servs., 774 F.2d 685, 689 (6th Cir.1985). No decision of the Supreme Court, nor any statutory change, requires modification of Cleveland Allerton.

A. Millinery Center

First, as the government concedes, the district court correctly found that the Supreme Court's decision in Millinery Center Building Corp. v. Commissioner, 350 U.S. 456, 76 S.Ct. 493, 100 L.Ed. 545 (1956), did not abrogate Cleveland Allerton. On a set of facts similar to those in Cleveland Allerton, the Second Circuit refused to permit a deduction for a lease, which was bought out while acquiring real estate. Millinery Ctr. Bldg. Corp. v. Comm'r, 221 F.2d 322, 323 (2d Cir.1955). The Supreme Court granted certiorari because of the “apparent conflict” between that decision and Cleveland Allerton. Millinery Ctr., 350 U.S. at 458–59, 76 S.Ct. 493. But the Court's opinion turned on the petitioner's lack of evidence that the rent under its lease was actually burdensome. See id. at 458–60, 76 S.Ct. 493. Absent such evidence, the Court concluded, the petitioner had to capitalize the entire purchase price. See id. at 460, 76 S.Ct. 493. Importantly, the Court did not decide whether a taxpayer could deduct the cost of buying out a burdensome lease because, in the facts before it, there was no burdensome lease. Rather, it left open the question before this court again today: “Whatever possible merit petitioner's contention might have were there proof of excessive purchase price can await such a case.” Id. at 460, 76 S.Ct. 493. Thus, Millinery Center does not require us to modify Cleveland Allerton.

B. Woodward, Idaho Power, and INDOPCO

Nor must we revise Cleveland Allerton in light of the three other ...