Aboussie v. U.S.
| Decision Date | 09 December 1985 |
| Docket Number | No. 84-2627,84-2627 |
| Citation | 779 F.2d 424 |
| Parties | -383, 85-2 USTC P 9860 Alex A. ABOUSSIE, Alice Aboussie, Robert Aboussie and Linda Aboussie, Appellants, v. UNITED STATES of America, Appellee. |
| Court | U.S. Court of Appeals — Eighth Circuit |
Gerald J. Zafft, St. Louis, Mo., for appellants.
Douglas Coulter, Dept. of Justice, Washington, D.C., for appellee.
Before ROSS, Circuit Judge, BRIGHT, Senior Circuit Judge, and BOWMAN, Circuit Judge.
Alex and Robert Aboussie 1 initiated this action for tax refunds, alleging that the Government erroneously denied deductions for their distributive shares of losses suffered by their limited partnership, Bevo Place Associates, in 1978. The district court 2 disallowed the Aboussies' deductions, and the Aboussies appeal. We affirm in part and reverse in part, and remand for further proceedings.
Bevo Place Associates was formed in July 1978 to acquire real estate and to construct and rent low-income housing. The limited partnership purchased some land in St. Louis on which it constructed a housing project, Bevo Place Apartments. The partnership substantially completed the housing complex by June 1980.
Bevo Place Associates funded the construction of the housing project through a $4,950,000 loan from the Missouri Housing Development Commission (Missouri Housing). Although Missouri Housing issued only one note representing this debt, the loan materials spoke in terms of two loans: a "construction loan" for an eighteen-month period, carrying six percent interest per annum; and a "permanent loan" for an additional forty years carrying seven and one-half percent interest per annum.
As a condition of loaning money to Bevo Place Associates, Missouri Housing required that the partnership secure mortgage insurance guaranteeing repayment of the loan in case of default. Bevo Place Associates obtained this insurance from the Federal Housing Administration (FHA) and paid its first annual premium in 1978. Bevo Place Associates amortized the premium payment over twenty-one months--the period between when the partnership paid the premium and when the "construction loan" ended.
In making the loan, Missouri Housing charged Bevo Place Associates a $99,000 financing fee for processing and administering the "construction loan." It charged a separate service fee for the "permanent loan." Bevo Place Associates capitalized and amortized the construction loan financing fee over the eighteen-month period of the construction loan.
Other expenses incurred by the partnership in 1978 include $2,434 in real estate taxes on the St. Louis property and $5,000 organizational fees. The partnership amortized the organizational fees over sixty months, starting in July 1978.
On its 1978 income tax return, Bevo Place Associates reported a loss resulting from deductions for the interest paid on its Missouri Housing loan, the taxes paid on the real estate, and for amortized portions of the mortgage insurance premium, construction loan financing fee, and the organizational expenses.
Alex and Robert Aboussie are limited partners of Bevo Place Associates. In 1981, they amended their 1978 tax returns to reflect their distributive shares of the loss claimed by the partnership, and requested refunds in light of their deductions for the loss. The Government denied their refund requests, and the Aboussies brought this suit. The district court upheld the denial, disallowing the Aboussies' claimed deductions. The Aboussies challenge these rulings on appeal.
Under Commissioner v. Idaho Power Co., 418 U.S. 1, 94 S.Ct. 2757, 41 L.Ed.2d 535 (1974), expenditures directly related to the construction of a capital asset are "capital expenditures." Section 263(a)(1) of the Code generally prohibits deductions of such expenditures from current income. 26 U.S.C. Sec. 263(a)(1)(1982). The taxpayer in Idaho Power, for example, sought a current depreciation deduction for transportation equipment used in the construction of capital improvements. The taxpayer relied on section 167(a), which provides that taxpayers can deduct depreciation attributable to the wear and tear on property used in a trade or business. See 26 U.S.C. Sec. 167(a)(1982). The Supreme Court disallowed the deduction, however, determining that the depreciation represented a "cost" of the capital improvements. 418 U.S. at 16-17, 94 S.Ct. at 2766. Section 263(a)(1) therefore barred the taxpayer's claimed current deduction.
The Aboussies sought to deduct their distributive shares of Bevo Place Associates' 1978 loan interest under section 163, and real estate taxes under section 164. 26 U.S.C. Secs. 163(a), 164(a)(1)(1982). The district court concluded, however, that section 263(a)(1) prohibited these deductions as relating to capital expenditures. The court reasoned that the partnership incurred the interest and tax expenses in the construction of a capital asset, the housing project. Therefore, the expenses constituted nondeductible "amount[s] paid out for new buildings" under section 263(a)(1).
We reject the district court's analysis and ruling that section 263(a)(1) bars the current deduction of interest and taxes incurred during the construction of a capital asset. The district court's holding not only conflicts with the historical treatment of these expenses, see Keller, The Capitalization of Construction Costs: Expanding the Scope of Idaho Power, 62 Taxes 618, 627 (1984), but also is contrary to several Code provisions. Section 266 and its regulations, for example, provide that taxpayers can elect between capitalizing or deducting interest relating to the construction of a capital asset. See 26 U.S.C. Sec. 266 (1982); Treas.Reg. Sec. 1.266-1(b)(ii)(a). The district court's holding eradicates the taxpayer's right to elect deductions by requiring mandatory capitalization under section 263(a)(1). See also Treas.Reg. Sec. 1.163-1(a) ().
Section 189 of the Code also becomes irrelevant under the court's interpretation of the scope of section 263(a)(1). Enacted in 1976, the carefully drafted provisions of section 189 require capitalization of most construction period interest and taxes. See 26 U.S.C. Sec. 189(a)(1982). The section specifically excludes interest and taxes incurred in the construction of low-income housing. See 26 U.S.C. Sec. 189(d)(1)(1982). Bevo Place Associates' 1978 interest and taxes, incurred constructing low-income housing, are therefore exempted from capitalization under section 189. Notwithstanding this specific exclusion, however, the district court interpreted section 263(a)(1) to independently require such capitalization. Under the district court's interpretation of section 263(a)(1), section 189 is virtually meaningless. 3 The legislative history of section 189 indicates that Congress intended to change the abuses of the existing law, which it interpreted as permitting current deductions of construction period interest and taxes, and not merely to pad the Code with a redundant section. 4
We conclude that section 263(a)(1) does not require capitalization of Bevo Place Associates' 1978 interest and taxes. We therefore reverse the district court's holding on this issue and remand with directions that the court permit the Aboussies to deduct their share of the interest and taxes that the court determines the partnership "paid or accrued" in 1978. 26 U.S.C. Secs. 163(a), 164(a)(1).
The district court also denied the Aboussies' claimed business deductions of an amortized portion of the mortgage insurance premium paid to the FHA in 1978. The court determined that the premium represented a cost of constructing the housing project, and therefore, a nondeductible capital expenditure under section 263(a)(1). The court alternatively held that Bevo Place Associates was not engaged in a "trade or business" in 1978, and that the premium payment hence constituted a nondeductible preoperating expense.
We do not agree with the characterization of the partnership's mortgage insurance premium as a construction cost of the housing project. Nondeductible capital expenditures under section 263(a)(1) include those expenses arising directly and immediately from the construction of a capital asset. See Idaho Power, supra. The annual premium payment related only incidentally to the housing project's construction: the premium purchased one year of mortgage insurance for the partnership; the mortgage insurance in turn helped the partnership obtain the Missouri Housing loan; and the loan ultimately financed the construction of the housing project. This attenuated connection between the 1978 premium and the eventual construction of the housing project does not make the payment of the premium a construction cost of the housing project. See Rev.Rul. 56-264, 1956-1 C.B. 153 (). The partnership therefore was not required to capitalize the premium as a construction cost and amortize it over the life of the housing project. 5
We, however, affirm the district court's disallowance of the Aboussies' claimed deductions for the premium payment on grounds set forth in the district court's alternative holding that the premium represented a nondeductible preoperating expense. The Aboussies claimed the premium deductions under section 162(a), which authorizes deductions of expenses incurred in "carrying on any trade or business." 26 U.S.C. Sec. 162(a)(1982). The district court found that Bevo Place Associates did not begin carrying on a business until 1980, when its housing project was substantially ready for rental. Accordingly, the court held that section 162(a) did not permit the Aboussies' deduction for the 1978 insurance premium, an expense incurred...
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