Estate of Levine v. C.I.R., 1184

• Court: United States Courts of Appeals. United States Court of Appeals (2nd Circuit)
• Citation: 634 F.2d 12
• Docket Number: No. 1184,1184
• Parties: 80-2 USTC P 9549 ESTATE of Aaron LEVINE, Deceased, Harvey Levine, Executor and Anna Levine, Surviving Wife, Petitioners-Appellants, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee. Docket 80-4034.
• Decision Date: 10 July 1980

Page 12

634 F.2d 12 80-2 USTC P 9549 ESTATE of Aaron LEVINE, Deceased, Harvey Levine, Executor
and Anna Levine, Surviving Wife, Petitioners-Appellants,
v.
COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee. No. 1184. Docket 80-4034. United States Court of Appeals,
Second Circuit. Argued June 6, 1980.
Decided July 10, 1980.

L. William Fishman, New York City (Rosen & Reade, Martin Rosen and Barry L. Gardiner, New York City, of counsel), for petitioners-appellants.

Richard D. Buik, Tax Div., Dept. of Justice, Washington, D. C. (M. Carr Ferguson, Asst. Atty. Gen., Tax Div., Dept. of Justice, Gilbert E. Andrews, and Jonathan S. Cohen, Washington, D. C., of counsel), for respondent-appellee.

Page 13

Before FRIENDLY, KAUFMAN and TIMBERS, Circuit Judges.

FRIENDLY, Circuit Judge:

The estate of Aaron Levine and his widow Anna ¹ appeal from a part of a decision of the Tax Court, 72 T.C. No. 68 (1979), which found a deficiency of $130,428.42 in Aaron Levine's 1970 income tax. The deficiency resulted from a determination by the Commissioner that the taxpayer had realized gain upon his gift, on January 1, 1970, of income producing property consisting of land and a building at 20-24 Vesey Street in New York City (the property) to a previously created trust for the benefit of three grandchildren.

The property was originally purchased on November 1, 1944, by a corporation wholly owned by Levine. On August 22, 1957, the corporation, which was in the course of dissolution, made a liquidating distribution of the property to the taxpayer. Thereafter Levine obtained two non-recourse mortgages secured by the property. One of these, for $500,000, was obtained on March 17, 1966, from the Bowery Savings Bank and represented the consolidation of numerous earlier mortgages. ² The other, for $300,000, was obtained from the Commercial Trading Company on November 21, 1968; this was later amortized to $280,000.

Levine filed a gift tax return for 1970 reporting the transaction as follows:

20-24 Vesey Street, City, County and State
                of New York--Appraisal value $925,000.00
                Mortgages
                Bowery Savings Bank $500,000.00
                 Interest accrued
                 12/1/69 to 12/31/69 2,291.67
                Commercial Trading * 280,000.00
                 Interest accrued
                 12/1/69 to 12/31/69 3,616.67
                 -----------
                 $785,908.34
                Expenses incurred by donor in 1969 and
                assumed and paid by donee:
                Improvements $117,716.53
                Supplies 387.83
                Repairs 1,253.93
                Paint 63.60
                Electricity 1,827.56
                Steam 3,324.13
                 -----------
                Total expenses 124,573.58
                Total mortgages,
                 interest and expenses 910,481.92
                 -----------
                Equity $ 14,518.08
                * Between November 1968 and January 1970, $20,000 of the $300,000 principal
                 was amortized.
                

and paid a gift tax on the equity of $14,518.08. The propriety of this was not challenged. However, the Commissioner assessed a deficiency in income tax on the ground that Levine had realized a gain in the amount of the excess of the total mortgages, interest and expenses aggregating $910,481.34, all of which were assumed by

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the donee, over Levine's adjusted basis, which, as increased by stipulation between the parties, was $485,429.55. The result was an excess of $425,051.79 and, upon application of capital gains rates, a deficiency of $130,428.42 in income tax. The Tax Court upheld the Commissioner largely on the authority of Crane v. C.I.R., 331 U.S. 1, 67 S.Ct. 1047, 91 L.Ed. 1301 (1947), which had affirmed this court's decision, 153 F.2d 504 (1945) (L. Hand, J.). This appeal followed.

At first blush the layman and even the lawyer or judge not conditioned by exposure to tax law would find it difficult to understand how a taxpayer can realize $425,051.79 in gain by giving away property in which he possessed an equity of $14,518.08. Doubtless Mrs. Crane experienced a similar difficulty when she was held to have realized $275,500 (for a net taxable gain of $23,031.45), after she netted a mere $2,500 on the sale of an apartment building that she had inherited subject to a $255,000 mortgage and $7,042.50 in overdue interest payments, and had sold, under threat of foreclosure, subject to the same mortgage principal and $15,857.71 in defaulted interest payments. However, as stated in the ironic dictum of a distinguished tax practitioner's imaginary Supreme Court opinion, ³ "(e)veryday meanings are only of secondary importance when construing the words of a tax statute and are very seldom given any weight when a more abstruse and technical meaning is available." ⁴ In any event, Crane binds us whatever the yearnings of our untutored intuitions may be. What is more, few scholars quarrel with the wisdom of its holding, as distinguished from some of its language including the famous note 37, 331 U.S. at 14, 67 S.Ct. at 1054, of which more hereafter. ⁵

Instead of addressing himself directly to the ultimately dispositive question, what did Mrs. Crane receive, Chief Justice Vinson stated in his Crane opinion, 331 U.S. at 6, 67 S.Ct. at 1051, that "Logically, the first step . . . is to determine the unadjusted basis of the property . . . ." This must have struck Mrs. Crane as peculiar since she had claimed what would normally be the most favorable stance for the Commissioner in the determination of gain, namely, that her basis was zero. The answer to the Chief Justice's question lay in then § 113(a)(5), incorporated as modified in I.R.C. § 1014(a), which says that if property is acquired from a decedent the unadjusted basis is "the fair market value of such property at the time of such acquisition." On Mr. Crane's death the property had been appraised somewhat unscientifically one might guess as having exactly the value of the encumbrances, $262,042.50. If "property" as used in § 113(a) meant simply what the property was worth to Mrs. Crane, i. e., her "equity", her basis was zero, as she contended. However, Crane accepted the Commissioner's theory that since the term referred to "the land and buildings themselves, or the owner's rights in them, undiminished by the mortgage, the basis was the appraised value of $262,042.50."

The next step was to determine whether the unadjusted basis should be adjusted by deducting depreciation "to the extent allowed (but not less than the amount allowable)" as required by § 113(b)(1)(B), now incorporated as modified in I.R.C. § 1016(a)(2). Here again the parties took unconventional positions. Proceeding from her zero basis theory, Mrs. Crane maintained that no depreciation could be taken, although she had in fact taken depreciation deductions totalling $25,500, 331 U.S. at 3 n.

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2, 67 S.Ct. at 1049. The Commissioner, true to his theory of basis, see §§ 23(n) and 114(a) of the 1938 Act, now I.R.C. § 167(g), thought that depreciation deductions of $28,045.10 should have been taken, and the Court agreed.

"At last", said the Chief Justice, 331 U.S. at 12, 67 S.Ct. at 1054, "we come to the problem of determining the 'amount realized' on the 1938 sale." In fact the Court's answers to the two earlier questions had predetermined the answer to the dispositive one. If non-recourse mortgages contribute to the basis of property, then they must be included in the amount realized on its sale. Any other course would render the concept of basis nonsensical by permitting sellers of mortgaged property to register large tax losses stemming from an inflated basis and a diminished realization of gain. It would also permit depreciation deductions in excess of a property holder's real investment which could never subsequently be recaptured. Although the Court bolstered its holding by explicating the use of the word "property" in § 111(a) and (b) of the 1938 Act, now I.R.C. § 1001(a) and (b), and with certain other arguments, ⁶ it was hardly necessary to go beyond the statement that "(i)f the 'property' to be valued on the date of acquisition is the property free of liens, the 'property' to be priced on a subsequent sale must be the same thing." (Footnote omitted.) 331 U.S. at 12, 67 S.Ct. at 1054. ⁷

Taxpayer argues that, be all this as it may, Crane is inapplicable because the transaction here was a gift and not a sale.

Apart from the general incongruity in finding that a gift yields a realized gain to the donor, petitioner argues that it is by no means clear how the Code's gross income, realization and recognition provisions apply to a donor's "gain" realized as incidental to a gift. Section 61(a)(3) defines gross income to include "(g)ains derived from dealings in property" a term seemingly broad enough to include gains from gifts. The same is true with respect to § 1001(a), which provides that "(t)he gain from the sale or other disposition of property shall be the excess of the amount realized therefrom over the adjusted basis provided in section 1011 for determining gain . . . ." (Emphasis supplied). Apparent difficulty is encountered, however, when we come to the critical provision, § 1001(c), entitled "(r)ecognition of gain or loss", which states that "(e)xcept as otherwise provided in this subtitle, the entire amount of the gain or loss, determined under this section, on the sale or exchange of property shall be recognized." (Emphasis supplied).

Taxpayer suggests that the change in language from "other disposition of property" in § 1001(a), which seems broad enough to encompass a gift, but see United States v. Davis, 370 U.S. 65, 68-69 & n. 5, 82 S.Ct. 1190, 1192, 8 L.Ed.2d 335 (1962), to "sale or exchange" in § 1001(c), which would appear not to be so, postpones recognition of any "gain" realized in the instant transaction. This, he argues, is appropriate because while a sale or exchange...