Bryant v. Commissioner of Internal Revenue

• Decision Date: 12 April 1940
• Docket Number: No. 9103.,9103.
• Citation: 111 F.2d 9
• Parties: BRYANT v. COMMISSIONER OF INTERNAL REVENUE.
• Court: U.S. Court of Appeals — Ninth Circuit

111 F.2d 9 (1940)

BRYANT v. COMMISSIONER OF INTERNAL REVENUE.

No. 9103.

Circuit Court of Appeals, Ninth Circuit.

April 12, 1940.

Thomas R. Dempsey, A. Calder Mackay, and Arthur McGregor, all of Los Angeles, Cal., for petitioner.

Samuel O. Clark, Jr., Asst. Atty. Gen., and Sewall Key and Berryman Green, Sp. Assts. to Atty. Gen., for respondent.

Before DENMAN, MATHEWS, and STEPHENS, Circuit Judges.

DENMAN, Circuit Judge.

The petitioning taxpayer seeks review of a decision of the United States Board of Tax Appeals that interest paid her during the year 1935 on street improvement bonds issued to obtain street improvements in the city of Los Angeles and in the county of Los Angeles was not "Tax-Free * * * Interest upon (A) the obligations of a State, * * *, or any political subdivision thereof, * * *" made exempt from the federal income tax by Section 22(b) (4) of the Revenue Act of 1934, 48 Stat. 680, 686, 687, 26 U.S.C.A. Int.Rev.Acts, page 670.

All the bonds here in question were issued under one or another of four municipal street improvement acts¹ of the California legislature. It is stipulated that all four acts are alike in their pertinent features, that of 1911 under which the city of Los Angeles created certain improvements in its streets being described in this opinion.

The bonds were issued in the process of a statutory plan whereby the city acquired a public and general improvement of the streets and rights of way it owns. Initially, the city contracted with a contractor for the improvement, the obligation of which the statute required the city, in the circumstances here pertinent, to discharge by issuing its bonds and performing the bond obligations. The bonds are payable in annual installments over a period not exceeding 14 years, with semi-annual interest payments. Each bond principal is for the amount of a tax assessment, imposed in invitum by the city's taxing power, on a separate parcel of property which has a special benefit as distinguished from the general public benefit to the city's street system as a whole. The bonds are serviced by the city's exercise of its governmental function of tax collection, its tax moneys so collected being placed in a special fund in the city treasury where it is held by the city and from which it is paid on demand of the bondholder, in effect, in the final discharge of the original contract for the city's improvement. The pertinent details of the several statutory steps, beginning with the resolution of intention of the city's legislative body to contract for the improvement of its street system and issue and service bonds in payment therefor, are hereafter considered.

The Commissioner has stipulated that the bonds here given to the contractors to accomplish the payment of the city's contracts with them are "bonds issued by the City of Los Angeles and the County of Los Angeles in the State of California." (Emphasis supplied).

The Treasury Regulation interpreting the exemption provides: "* * * Obligations issued by or on behalf of the State or Territory or a duly organized political subdivision acting by constituted authorities empowered to issue such obligations, are the obligations of a State or Territory or a political subdivision thereof. Special tax bills issued for special benefits to property, if such tax bills are legally collectible only from owners of the property benefited, are not the obligations of a State, Territory, or political subdivision. The term `political subdivision', within the meaning of the exemption, denotes any division of the State or Territory which is a municipal corporation, or to which has been delegated the right to exercise part of the sovereign power of the State or Territory. As thus defined, a political subdivision of a State or Territory may, for the purpose of exemption, include special assessment districts so created, such as road, water, sewer, gas, light, reclamation, drainage, irrigation, levee, school, harbor, port improvement, and similar districts, and divisions of a State or Territory." (Emphasis supplied). Art. 22(b) (4)-1, Treasury Regulations 86, promulgated under the Revenue Act of 1934.

The stipulation of the Commissioner that the bonds were "issued by" the city of Los Angeles and the County of Los Angeles bring them within the express wording of the Regulation.

This Regulation thus declaring these bonds, some so stipulated to have been "issued by" the city and some by the county of Los Angeles through their respective treasurers as their statutorily "constituted authorities", to be obligations of political subdivisions of California whose interest is within the exemption of the Revenue Act of 1934, is similar to the Regulation first promulgated in 1919. Up to that time, it was admitted at the argument, the Treasury Department had regarded such interest as within the exemption. Since then Congress at least eight times has reenacted the exemption. On each reenactment substantially the same Regulation has been promulgated. Such regulations were in force up to the filing of the briefs in this review and we have not been advised that they are not still in force.

The administrative practice at least until 1936, or for more than 22 years, appears to have been to treat as within the statutory exemption interest upon bonds which were not general obligations of the issuing political subdivision but were payable only out of a particular fund.² In 1936, two years after the tax year here involved, a contrary opinion was expressed in G. C. M. 16861, XV-2 Cum.Bull. 179 (1936).³

The established administrative practice of so many years, during which time the exemption was several times reenacted, carries weight as a construction of the statute which is not offset, at least as to the tax year in question, by the later expression of opinion in G. C. M. 16861, XV-2 Cum.Bull. 179 (1936).

In deciding this case, we need not and do not go beyond construing the federal statute. Considering the review apart from the stipulation and the administrative construction, it appears that the statute was intended to exempt interest upon bonds of the character here involved.

The Supreme Court, in 1895, decided the case of Pollock v. Farmers' Loan & Trust Co., 157 U.S. 429, 585, 586, 15 S.Ct. 673, 691, 39 L.Ed. 759, and gave as a basis for holding invalid a federal tax on the interest from municipal securities the reasoning expressed by Chief Justice Marshall in Weston v. City Council of Charleston, 2 Pet. 449, 468, 7 L.Ed. 481, to the effect that: "The right to tax the contract to any extent, when made, must operate upon the power to borrow before it is exercised, and have a sensible influence on the contract. The extent of this influence depends on the will of a distinct government. To any extent, however inconsiderable, it is a burthen on the operations of government. * * * The tax on government stock is thought by this court to be a tax on the contract, a tax on the power to borrow money on the credit of the United States, and consequently to be repugnant to the constitution."

The Pollock opinion, after quoting this matter, goes on to state, page 586 of 157 U.S., page 691 of 15 S.Ct., 39 L.Ed. 759: "* * * Applying this language to these municipal securities, it is obvious that taxation on the interest therefrom would operate on the power to borrow before it is exercised, and would have a sensible influence on the contract, and that the tax in question is a tax on the power of the states and their instrumentalities to borrow money, and consequently repugnant to the constitution." (Emphasis supplied).

The Pollock case was decided prior to the adoption in 1913 of the Sixteenth Amendment, but in distinguishing between the invalidity of taxation of the bond interest and the validity of taxation of the profit from the sale of bonds, the Supreme Court quotes in the subsequent case of Willcuts v. Bunn, 282 U.S. 216, 227, 51 S.Ct. 125, 75 L.Ed. 304, 71 A.L.R. 1260, the language of Chief Justice Marshall appearing in Weston v. City Council supra.

It appears from congressional reports and debates that not only was the exemption enacted and reenacted because of doubt as to the effect of the Sixteenth Amendment on a source of income previously declared immune by the Pollock case,⁴ but also on grounds of policy⁵ apart from the constitutional question. As recently as 1938 apprehension was expressed in terms of road districts, sewer districts and the like, that a tax on the interest from state and municipal securities would burden the borrowing power of the states and their political subdivisions, whether or not that burden be regarded as one forbidden by the Constitution.⁶

Respondent contends that the bonds here involved are private rather than public in character, that they were not issued in the exercise of governmental borrowing power, but represent borrowing by private individuals. It seems to us this contention disregards realities.

Not only are the bonds public in character, they were issued in the performance of an essential governmental function. We are not concerned here with bonds to repay money borrowed to create works of a proprietary character from whose income for services rendered the bond principal and interest are paid. The borrowing here is on the pledge of governmental taxing power for improvement of streets and roads held, in California, in a governmental and not a proprietary capacity. McNeil v. City of Pasadena, 166 Cal. 153, 155, 135 P. 32, 48 L.R.A.,N.S., 138. Cf. Brush v. Commissioner, 300 U.S. 352, 371, 373, 57 S.Ct. 495, 81 L.Ed. 691, 108 A.L.R. 1428.

Our succeeding extended consideration of the statutes under which these bonds were created and of the decisions of the California courts showing that they were issued in the exercise of governmental taxing power to support governmental borrowing for the creation of governmental improvements, is made in pursuance of the principle stated by the Supreme Court t...