Brimberry v. C. I. R.

• Decision Date: 01 February 1979
• Docket Number: No. 77-1105,77-1105
• Parties: 79-1 USTC P 9187 Elton BRIMBERRY and Estate of Norma Louise Brimberry, Deceased, Elton Brimberry, Independent Executor, Petitioners-Appellants, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee.
• Court: U.S. Court of Appeals — Fifth Circuit

Page 975

588 F.2d 975

79-1 USTC P 9187

Elton BRIMBERRY and Estate of Norma Louise Brimberry, Deceased, Elton Brimberry, Independent Executor, Petitioners-Appellants, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee.

No. 77-1105.

United States Court of Appeals, Fifth Circuit.

Feb. 1, 1979.

Dougal C. Pope, Houston, Tex., for petitioners-appellants.

Scott P. Crampton, Asst. Atty. Gen., Myron C. Baum, Acting Asst. Atty. Gen., Gilbert E. Andrews, Act. Chief, App. Section, Karl P. Fryzel, Atty., Tax Div., U. S. Dept. of Justice, Washington, D. C., Meade Whitaker, Chief Counsel, Internal Revenue Service, Washington, D. C., Robert A. Bernstein, Atty., James E. Crowe, Jr., Tax Div., Dept. of Justice, Washington, D. C., for respondent-appellee.

Appeal from the Decision of the Tax Court of the United States.

Before GEE and VANCE, Circuit Judges, and HUNTER, ^* District Judge.

GEE, Circuit Judge:

Elton Brimberry, individually and as independent executor for the estate of his deceased wife, Norma Louise Brimberry, ¹ appeals an order of the Tax Court finding deficiencies in the income taxes due under the couple's joint tax returns for the years 1967 and 1968. The deficiencies resulted from the Commissioner's disallowance of claimed partially worthless debt deductions totalling $169,750 for the two years in question.

On June 24, 1967, Mr. Brimberry loaned $175,000 to Mid-City Baptist Church in New Orleans, hoping to acquire a construction contract from the church. Mr. Brimberry received a promissory note in that amount payable December 23, 1967, and secured by $231,000 worth of first mortgage Series C bonds of the church. Those bonds were in turn secured by the church's real and personal property located on Airline Highway, including its sanctuary, educational building, high school, and gymnasium.

On November 8, 1967, the SEC filed a complaint against the church, alleging securities fraud in connection with the sale of church bonds. The SEC claimed that the church was insolvent and did not have sufficient funds to repay its $175,000 loan due in December or to make required sinking fund payments in January or to repay the first mortgage bonds as they became due. Consequently, the church was placed in receivership. On July 30, 1968, the church filed a petition for a Chapter X reorganization, ² alleging that proceedings under Chapter X would ensure partial, if not full, payment of creditors' claims. The petition was granted, and a trustee in reorganization was appointed. At the time of trial, the Brimberrys' claim was still pending before the bankruptcy court.

The parties stipulated that the financial condition of the church during 1967 and 1968 was accurately reflected in a certified financial statement dated July 31, 1968, except for controversy over the value of the church's real property on Airline Highway. ³ The financial statement showed a deficit of approximately $275,000, using the inflated value of the realty and disregarding contingent liabilities. The parties also stipulated to uncertified statements showing that the church had gross operating receipts of approximately $600,000 during the years 1968 and 1969 and net operating receipts of approximately $35,000 in 1968 and $65,000 in 1969.

The Brimberrys claimed a $100,000 deduction in 1967 as a "loss on business venture" and a $75,000 deduction in 1968 as a "bad debt arising from sales or services." The Commissioner disallowed both deductions in their entirety. At trial the Brimberrys characterized the deductions as partially worthless debt deductions and reduced the total claimed deduction to $169,750, conceding that they can reasonably expect to recover three percent of the loan. Issue was joined on whether the Brimberrys were entitled to a partially worthless debt deduction in any amount for the years 1967 and 1968.

After careful consideration of the facts, the law, and the contentions of the parties, the Tax Court concluded that the Commissioner's determination of deficiencies was neither arbitrary nor erroneous. ⁴ Agreeing with the Tax Court, we affirm the decision.

The deductibility of partially worthless debts is governed by section 166(a) (2) of the Internal Revenue Code, which provides as follows:

Partially worthless debts. When satisfied that a debt is recoverable only in part, the Secretary may allow such debt, in an amount not in excess of the part charged off within the taxable year, as a deduction.

The language of the statute is permissive rather than mandatory, and whether a debt is partially deductible is a decision committed to the sound discretion of the Commissioner. Ensley Bank & Trust Co. v. United States, 154 F.2d 968, 970 (5th Cir.), Cert. denied, 329 U.S. 732, 67 S.Ct. 94, 91 L.Ed. 633 (1946). See also Olympia Harbor Lumber Co. v. Commissioner of Internal Revenue, 79 F.2d 394 (9th Cir. 1935); Stranahan v. Commissioner of Internal Revenue, 42 F.2d 729, 731 (6th Cir. 1930), Cert. denied, 283 U.S. 822, 51 S.Ct. 346, 75 L.Ed. 1437 (1931). The taxpayer must demonstrate to the "satisfaction" of the Commissioner what part of the debt is worthless. Treas.Reg. § 1.166-3(a)(2) (iii). In evaluating the taxpayer's claim of partial worthlessness, the Commissioner must consider all the circumstances, including the value of any collateral securing the debt and the financial condition of the debtor. Treas.Reg. § 1.166-2(a). The Commissioner's determination will not be disturbed unless it is plainly arbitrary or unreasonable, indicating an abuse of discretion. Ensley Bank & Trust Co. v. United States, supra.

In reviewing the determination of the Commissioner, we must keep in mind that the "question of the fact of a partial loss is not a question . . . for our consideration. The question for (our) consideration is whether or not there has been an abuse of discretion by the Commissioner in refusing to permit a deduction." Olympia Harbor Lumber Co. v. Commissioner of Internal Revenue, 79 F.2d 394, 396-97 (9th Cir. 1935). And we must also remember that "(w)here a showing to the satisfaction of the Commissioner is required, it is reasonably likely that the need of administrative experience to make the determination, as well as the difficulty of exact proof, was a controlling reason for the delegation of power. A court should not lightly substitute its own judgment." United States v. Beckman, 104 F.2d 260, 262 (3d Cir.), Cert. denied, 308 U.S. 593, 60 S.Ct. 123, 84 L.Ed. 496 (1939), quoting Magill, Finality of Determinations of the Commissioner of Internal Revenue, 30 Colum.L.Rev. 147, 166-67 (1930).

Brimberry contends that the Commissioner abused his discretion in refusing to allow a partially worthless debt deduction in any amount for the years 1967 and 1968. It is Brimberry's position that, although the Commissioner was not obligated to accept Brimberry's claimed deductions of $100,000 in 1967 and $69,750 for 1968, the Commissioner was obligated to make his own determination of the extent to which the debt had become partially worthless, considering all the facts and circumstances of the case. Brimberry concludes that the Commissioner's refusal to allow any amount, "even $1.00," is arbitrary and unreasonable. Even if we accepted Brimberry's premise that the Commissioner was obligated to make his own determination of the extent to which the debt had become partially worthless, ⁵ we cannot accept his conclusion that the Commissioner's refusal to allow any amount, "even $1.00," constitutes an abuse of discretion on the facts of this case.

Brimberry's conclusion as to the partial worthlessness of his debt is based on the following factors: the insolvency of the church, the SEC's complaint against the church in 1967, and the church's institution of a Chapter X reorganization proceeding in 1968. Brimberry's claim of partial worthlessness was triggered by the SEC action filed in 1967, based on his folk wisdom that an SEC action invariably results in bankruptcy. We agree with the Tax Court, however, that the institution of the SEC action need not necessarily be accorded any independent significance. The church was placed in receivership pursuant to the SEC proceeding in order to marshal and preserve its assets, and there was no sound basis in 1967 for concluding that the receivership would fail of its purpose.

The church's institution of a Chapter X reorganization proceeding in 1968 also contributed to Brimberry's conclusion as to the partial worthlessness of the debt. ⁶ Brimberry points to Treasury Regulation § 1.166-2(c), which provides that "(b)...