Alexander v. United States

• Decision Date: 28 January 1981
• Docket Number: No. 260-79T.,260-79T.
• Citation: 640 F.2d 1250
• Parties: William Paul ALEXANDER and Viola C. Alexander v. The UNITED STATES.
• Court: U.S. Claims Court

640 F.2d 1250

William Paul ALEXANDER and Viola C. Alexander v. The UNITED STATES.

No. 260-79T.

United States Court of Claims.

January 28, 1981.

John S. Campbell, Albuquerque, N. M., attorney of record, for plaintiffs. John D. Laflin and Associates, Albuquerque, N. M., of counsel.

Kevin B. Shea, Washington, D. C., with whom was Asst. Atty. Gen. M. Carr Ferguson, Washington, D. C., for defendant. Theodore D. Peyser and Donald H. Olson, Washington, D. C., of counsel.

Before FRIEDMAN, Chief Judge, and NICHOLS and BENNETT, Judges.

ON CROSS-MOTIONS FOR SUMMARY JUDGMENT

FRIEDMAN, Chief Judge:

The question in this federal tax refund suit is whether the plaintiffs (the Alexanders) made a taxable gift of the amount of a mortgage on real property to their children and grandchildren when, in connection with the sale of the property, which they all owned jointly, the Alexanders agreed that they would continue to make the payments on the existing mortgage. The case is before us on cross-motions for summary judgment. We heard oral argument. We hold that there was no taxable gift of the amount of the mortgage and that the plaintiffs are entitled to recover.

I.

The Alexanders owned an apartment complex in Albuquerque, New Mexico. On or before April 1, 1976, they gave an undivided 36 percent interest in the property to their children and grandchildren ("donees"). The property was subject to a mortgage, on which the Alexanders were personally liable, and the gift was made subject to that mortgage. At the time of the gift, the value of the property was $860,000.

On April 1, 1976, the Alexanders and the donees sold all their interest in the property to the Blacks for $908,000. The sale was made with a so-called wrap-around mortgage, under which the Alexanders remained liable on the underlying mortgage. At that time, the unpaid principal of the mortgage was $258,849. The terms of the sale were that the Blacks would pay $125,000 in cash and $783,000 in monthly installments of $7,044.88. Paragraph 3 of the real estate contract provided that the property was being conveyed subject to the mortgage and that

the Purchaser does not assume or agree to pay said mortgage and the Owners, PAUL ALEXANDER and VIOLA C. ALEXANDER, his wife, agree to be bound and liable on said mortgage and agree to satisfy the monthly payments due on said mortgage out of payments received by them, pursuant to this Real Estate Contract.

The payments on the mortgage by the Alexanders were to be made through an escrow agreement under which the Blacks made the monthly payments to an escrow agent, who in turn made the mortgage payments pursuant to the following provision of the escrow agreement:

Sixty-four percent (64%) of payments received from the purchasers shall be credited to PAUL ALEXANDER and VIOLA C. ALEXANDER, his wife, by transmitting a mortgage payment of TWO THOUSAND SEVEN HUNDRED FIFTY-EIGHT AND 26/100 DOLLARS ($2,758.26) to the Metropolitan Life Insurance Company.... The balance i. e., the remaining 36% without any reduction for mortgage payments shall be delivered to named donees and trustees for donees.

The Alexanders, the donees, and the Blacks all signed both the real estate contract and the escrow agreement.

Although in their federal gift tax return for 1976, the Alexanders did not reduce the fair market value of the property given the donees by 36 percent of the amount of the mortgage, on October 2, 1978, they filed a timely claim for a refund reflecting such reduction. On June 15, 1979, the Alexanders filed suit in this court for a refund, the Commissioner having failed to act on their request within 6 months.

II.

The general rule is that, for gift tax purposes, a gift of property subject to a mortgage is valued at the excess of the fair market value of the property over the amount of the mortgage outstanding at the time of the gift. Janos v. Commissioner, 11 T.C.M. (CCH) 1211 (1952). See generally Powe v. Commissioner, 25 T.C.M. (CCH) 218, aff'd, 389 F.2d 46 (5th Cir. 1967), cert. denied, 393 U.S. 826, 89 S.Ct. 88, 21 L.Ed.2d 97 (1968); Jackman v. Commissioner, 44 B.T.A. 704 (1941), acq. 1941-2 C.B. 7. The amount of the mortgage is deducted from the market value of the property even when the donor agrees to make the mortgage payments, because no consideration exists for the donor's promise to do so, which therefore is not a legally binding obligation. Each mortgage payment is treated as a separate taxable gift when actually made. Rev.Rul. 78-362, 1978-2 C.B. 248. See generally Housman v. Commissioner, 105 F.2d 973 (2d Cir. 1939), cert. denied, 309 U.S. 656, 60 S.Ct. 469, 84 L.Ed. 1005 (1940).

Both parties agree that if the property had not been sold, the gift would be valued at fair market value less the outstanding mortgage. The government contends, however, that the real estate contract and accompanying escrow agreement imposed a binding legal obligation upon the Alexanders to continue to make the mortgage payments, which the donees could enforce, and hence that the fair value of the property would not be reduced by the amount of the mortgage. The government asserts that "a taxable gift is made at the time that a binding obligation to make future payments is incurred." It relies upon such cases as Rosenthal v. Commissioner, 205 F.2d 505 (2d Cir. 1953), and Commissioner v. Copley's Estate, 194 F.2d 364 (7th Cir. 1952), where in different circumstances the court held that a legally binding promise to make future payments constituted a present gift of the amount of those payments.

In the present case, however, we conclude that the Alexanders' agreement to continue to make the mortgage payments did not constitute a legally binding promise that the donees could enforce. Accordingly, the value of the Alexanders' gift to the donees did not include the amount of the mortgage.

Both before and after the sale the Alexanders, and only the Alexanders, were liable to make the mortgage payments. The only difference was that after the sale the Alexanders' obligation to do so ran not only to the mortgage but also to the Blacks. In agreeing with the Blacks to continue to make the mortgage payments, the Alexanders assumed no new obligation but merely agreed to carry out their existing one. Although this promise undoubtedly was a factor in the Blacks' agreement to purchase the property, we hold as a matter of contract interpretation that the promise was not intended to change the Alexanders' legal obligation to or relationship with the donees. Under New Mexico law, a promise to do what one is already obligated to do by law or contract is not consideration. Hale v. Brewster, 81 N.M. 342, 467 P.2d 8 (1970); In re Quantius' Will, 58 N.M. 807, 277 P.2d 306 (1954).

Moreover, as we interpret the contract, the Alexanders' obligation to make the mortgage payments was not absolute, but was conditional upon the payments the Blacks were required to make under the real estate contract. The escrow agent is...