Hansen v. Commissioner of Internal Revenue

• Decision Date: 10 November 1958
• Docket Number: No. 15821.,15821.
• Citation: 258 F.2d 585
• Parties: John R. HANSEN and Shirley G. Hansen, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
• Court: U.S. Court of Appeals — Ninth Circuit

258 F.2d 585 (1958)

John R. HANSEN and Shirley G. Hansen, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 15821.

United States Court of Appeals Ninth Circuit.

August 4, 1958.

Certiorari Granted November 10, 1958.

Emmett E. McInnis, Jr., Seattle, Wash., for petitioner.

Charles K. Rice, Asst. Atty. Gen., Lee A. Jackson, Joseph F. Goetten, Carolyn R. Just, Meyer Rothwacks, Attys., Dept. of Justice, Washington, D. C., for respondent.

Little, LeSourd, Palmer, Scott & Slemmons, Brockman Adams, F. A. LeSourd, Woolvin Patten, Seattle, Wash., amici curiae.

Before POPE, BARNES and HAMLEY, Circuit Judges.

Certiorari Granted November 10, 1958. See 79 S.Ct. 121.

BARNES, Circuit Judge.

Taxpayers, husband and wife, have petitioned for review of a memorandum decision of the Tax Court sustaining deficiencies in income taxes for the years 1951, 1952, and 1953 and imposing penalties for failure to file estimated returns and for substantial underestimation of taxes for those years.

John R. Hansen (hereinafter referred to as petitioner) was, in the years in question, engaged in the business of selling new automobiles. It is stipulated that all such sales were financed by the General Motors Acceptance Corporation (GMAC). As a part of the normal course of dealing, and apparently pursuant to a GMAC "Retail Plan" referred to at the trial, GMAC paid Hansen 95% of the sales price of the car at the time of the sale and retained in a dealer reserve account the remaining 5%. GMAC also credited to that account a certain percentage of the financing charges as payments from the purchaser were received. Under this arrangement no portion of the 5% reserve account was payable to Hansen except at the complete discretion of GMAC; and release of any funds was contingent on there being in the reserve account an amount in excess of 5% of all outstanding contracts. Petitioner, an accrual basis taxpayer, returned as income in the year of sale 95% of the sales price of each automobile sold. He did not accrue and return as income the GMAC reserves in the year of sale — the year they were established. His books reflected an asset account "Due Finance Co." and a liability account "Reserve for Repossession," but these were never taken into or deducted from income. Taxpayer used a specific charge-off account for bad debts arising from the business, but no losses on GMAC reserves were charged to this account. This bad debt account was unrelated to the credit sales financed through GMAC. Petitioner reported as income the amounts paid from these accounts in the year they were released to him by GMAC.

The Commissioner determined that the finance charge attaching to each sale was an integral part of the selling price; that the right to receive from the purchaser the full amount of the contract price was fixed in the year of sale; and that the dealer's reserve was contingent for possible losses and not a proper basis for reduction of gross income. The Tax Court sustained this determination, holding that the amount credited to the dealer's reserve was accruable into income in the year credited to the reserve account. The Tax Court also sustained the penalties for failure to file an estimated return and for substantial under-estimation of taxes. From these two holdings, this petition for review was prosecuted.

I. Accruability of Dealer Reserves

The problem before us is not new to the tax law, although it is apparently one of first impression in this Court. The Tax Court has consistently held dealer reserve accounts accruable in the year established, not in the year of actual payment to the dealer.¹ With equal consistency the Courts of Appeals and the District Courts have taken the opposite view.² The source of taxpayer's anguish in these cases is that a tax must be paid without the funds upon which the tax is levied being available for payment of the tax. This may often be the result of accrual accounting, just as it may be the result of operation of the doctrines of realization and constructive receipt. We are not impressed with the emphasis placed on this element of the case by those courts which have resolved the problem in favor of the taxpayer. On the other hand, the government is not being deprived of revenue in the long run. There is here no tax avoidance device. The dealer reserve amounts have always been reported as income in the year received. The only difference between the taxpayer and his government, therefore, is when, not whether, the amounts are taxable as income.

Certain principles are appropriate for review. A cash basis taxpayer records income upon actual or constructive receipt — and it is well to note that constructive receipt means that the taxpayer has the present right to receive funds which he, for his own reasons, chooses not to exercise (Treas.Reg. 118, § 39.42-2). An accrual basis taxpayer must record income, and pay tax thereon, upon fixation of the right to receive income, not upon its actual or constructive receipt.

"When the right to receive an amount becomes fixed, the right accrues."³

With these basic concepts well in mind, we move to a consideration of the transactions here involved.

Hansen, as an automobile dealer, financed all sales exclusively through GMAC and all sales were written up on a form conditional sales contract supplied by GMAC. This contract provided for a "Total Time Price" computed, in a vastly simplified version, by adding to the cash price of the car (cost plus profit) the finance charges required by GMAC. This total time price reduced by the purchaser's down payment results in the "Time (Deferred) Balance" which becomes due and payable at the GMAC office in whatever number of installments are determined. This contract also provides, beneath the signatures of seller and purchaser, a "Dealer's Recommendation, Assignment and Guaranty," which provides, "for value received," for an immediate assignment to GMAC of the dealer's interest in the contract.

The transaction consummated and evidenced by this contract is subject to three possible interpretations. The government urges that there are here two separate sales: first, of the car by the dealer to the purchaser, giving rise to fixation of the right to receive the "Total Time Price" and requiring that amount to be accrued in the year of sale; second, of the conditional sales contract by the dealer to GMAC, for which GMAC pays less than the fair market value, but which can serve only as a basis for potential loss deductions not here pertinent.⁴ We are in complete agreement with the Court in Texas Trailercoach v. Comm'r, 5 Cir., 1958, 251 F.2d 395, that such a view is totally unrealistic. Such an artificial characterization of the transaction ignores entirely the complete integration of the financing institution that has become the hallmark of the automobile industry. It also ignores the uncontradicted evidence in the instant case showing that all sales were in fact so financed and that no sales could have been consummated without the financial assistance of GMAC.

The transaction, we believe, is properly construed as a single three-cornered arrangement involving the dealer, the purchaser, and the finance company.⁵ But even so, this does not solve the problem. The transaction may still be seen as singular, while its elements are plural. It can be reasoned that the right to the sale price is fixed at the time of the contract, thereby requiring the dealer to accrue that amount, although he has actual receipt of only 95% thereof (cf. Commissioner v. Cleveland Tr. Paving Co., 6 Cir., 1932, 62 F.2d 85.) The only amount not includable in the year of sale would then be that portion of the finance charges to which the dealer is entitled as they become fixed. (See the opinion of Black, J., in Texas Trailercoach, 1956, 27 T.C. 575, 580.) Although such an approach is entirely consistent with the principles of accrual accounting noted earlier, we are of the opinion that the peculiarities of automobile financing make this interpretation as unrealistic as that already rejected. We think Judge Wisdom ably and adequately stated the realities of this type of transaction in the Texas Trailercoach case, supra, where 251 F.2d at page 397, after expressing the general belief that "Tax incidence should reflect the realities of a business transaction," he stated:

"When we get down to what actually happens, * * * we find one transaction — a three-cornered agreement with interrelated obligations of dealer, purchaser, and finance company. Instead of being out of the first step of the transaction (the trailer sale to the purchaser), the finance company dictates the terms of the sale, has obligations running to it in the sales contract, has a fixed percentage for its finance charges worked into the sales price, and is as much a part of the substance of the business transaction as the dealer — whether or not it is the dealer who transfers the title formally to the purchaser, apparently for one hundred per cent of the purchase price. The hard core of the factual situation is that, under the three-way agreement, the dealer receives from the purchaser only a ninety-five per cent claim of right to the unpaid balance, plus a contingent claim, against the purchaser, to the remaining five per cent subject to a number of important conditions in favor of the finance company. The dealer transfers to the finance company, simultaneously, only what he receives from the purchaser. He receives from the finance company ninety-five per cent of the sales price plus a contingent claim, against the finance company, to the remaining five per cent then entirely under the dominion and control of the finance company. The dealer\'s claim to this five per cent may never become fixed or ascertainable; it may never be received."

At the time of the sale the only right which becomes fixed is the right to receive 95% of the sale price, and not the total time price, from the purchaser...