Henkind v. Commissioner
| Decision Date | 22 September 1992 |
| Docket Number | Docket No. 6337-89.,Docket No. 6299-89. |
| Citation | 64 T.C.M. 807 |
| Parties | Sol Henkind and Evelyn Henkind v. Commissioner. David B. Simpson and Nancy S. Simpson v. Commissioner. |
| Court | U.S. Tax Court |
Elliot I. Miller and Robert T. Gradoville, 2425 Post Rd., Southport, Conn., for the petitioners. Jane Beaver Wilson, Mark L. Hulse, and Dean Scott, for the respondent.
Memorandum Findings of Fact and Opinion
These cases were assigned to Special Trial Judge D. Irvin Couvillion pursuant to section 7443A(b)(4)1 and Rules 180, 181, and 183. The Court agrees with and adopts the Special Trial Judge's opinion which is set forth below.
COUVILLION, Special Trial Judge:
In these consolidated cases, respondent determined deficiencies in and additions to petitioners' 1982 Federal income taxes as follows:
Addition to Tax
and Increased Interest
-------------------------
Petitioners Docket No. Deficiency Sec. 6661 Sec. 6621(c)
Henkind 6299-89 $321,196.12 $80,299.03 1
Simpson 6337-89 $106,488.00 $26,622.00 1
1 120 percent of the interest due on the deficiency
The issues are whether petitioners, as limited partners, are entitled to deduct their distributive share of the loss sustained by a partnership engaged in automobile leasing, and whether, as a result, petitioners are liable for the section 6661 addition to tax and increased interest under section 6621(c).
In the notices of deficiency, respondent determined that the partnership in which petitioners were partners did not enjoy the benefits and burdens of ownership of the vehicles leased; that, if the partnership was imbued with the benefits and burdens of ownership, the leasing activity was not engaged in for profit under section 183; and, if the activity was engaged in for profit, petitioners are not entitled to deductions in excess of their cash capital contributions for the reason that petitioners were not at risk under section 465. All other adjustments in the notices of deficiency are computational adjustments which will be resolved by the partnership issue. In addition, as to petitioners David B. and Nancy S. Simpson, other adjustments in the notice of deficiency were conceded by them during the audit. A threshold issue, raised by respondent, is whether petitioners are collaterally estopped from litigating the issues here because of certain allegations by them in civil actions in Federal and State courts against the general partner and others involved with the partnership and the dismissal, by the Federal court, of one cause of action asserted by petitioners.
Some of the facts were stipulated and are so found. Petitioners Sol and Evelyn Henkind resided at Scarsdale, New York, at the time their petition was filed. Petitioners David B. and Nancy S. Simpson resided at Tenafly, New Jersey, at the time their petition was filed.
Petitioner David B. Simpson (Mr. Simpson) is an attorney who practices primarily in the areas of real estate, corporate law, and corporate financing. Sometime during the late 1970s, Mr. Simpson began representing petitioner Sol Henkind (Mr. Henkind). Mr. Henkind had been in the real estate development business since 1936 as an owner and builder. Over the years, Mr. Henkind invested in other ventures, including a furniture supply business, an air conditioning supply business, and coat manufacturing. He also invested in gold as a hedge against inflation. At the time of trial, Mr. Henkind was 80 years old.
In 1981, Mr. Henkind was advised by his accountant of an investment opportunity in the automobile leasing business with Aleet Leasing (Aleet), whose principals were Barry Zucker (Mr. Zucker), Norm Samuels (Mr. Samuels), and Stewart Bernstein (Mr. Bernstein). Mr. Henkind contacted his attorney, Mr. Simpson, about the matter. Mr. Simpson arranged a meeting with Mr. Zucker and his attorney, Simon Jacobson (Mr. Jacobson), at the offices of Mr. Jacobson's law firm.
Neither Mr. Simpson nor Mr. Henkind had any prior experience in or knowledge of the automobile leasing business. At a series of meetings, they received information about the business from Messrs. Zucker, Samuels, and Jacobson. The proposed leasing business interested Mr. Henkind in several respects. The activity would be conducted through a limited partnership in which Mr. Henkind would be a limited partner. Profits could be expected in two areas. First, the total purchase price of each leased automobile was to be financed through a bank or lending institution, and the monthly payments by the lessee included a 15-percent override which inured to the benefit of the partnership. Secondly, at the end of the lease term, although a balance remained due on the vehicle, referred to as a "balloon" payment, the amount of the balloon was always less than the fair market value of the vehicle. The difference between the fair market value of the vehicle and the balloon was referred to as the "residual" value. Although all lessees had the option to purchase the vehicle at the end of the lease either for the amount of the balloon or, in some cases, a nominal amount, statistics in the leasing industry showed that a significant number of lessees would not exercise the purchase option, thus affording the partnership the opportunity to realize on the residual value of the vehicle. In addition, the purchase option to a lessee was forfeited if a lease was terminated before the end of the lease.
The activity proposed by Aleet contemplated that the total cost of all vehicles would be financed by a bank or other lending institution. Automobiles would be purchased on an individual basis, as lessees were found. No automobiles would be kept in stock or in inventory. Once a lease was entered into, the partnership would assign the lease to the lending bank, with recourse, and all monthly payments would thereafter be made by the lessee directly to the bank. Leases and the financing of the vehicles would generally be for 36-month terms, with the balloon payment due at the end of the lease. Where the lessee did not exercise the purchase option, the partnership would pay the balloon payment and thereafter would either sell or re-lease the vehicle and thereupon realize on the vehicle's residual value.
It was explained to Mr. Henkind that a significant number of lessees could be expected not to exercise the purchase option at the end of a lease for several reasons. Some lessees did not like the car and did not have the means or the desire to dispose of the car, while others did not have the resources to pay the balloon. Also, other leases would terminate either by default or for other reasons during the lease term, in which event, the purchase option was forfeited. It was represented to petitioners that the purchase option would not be exercised by approximately 50 percent of the lessees and approximately 25 to 30 percent of leases would not go the full term.
Another factor which enhanced the leasing business was that, during 1981 and 1982, the economy of the United States was in a period of rising inflation and high interest rates. As a result, prices of new automobiles were rising, which depressed sales of new automobiles. The correspondent effect was that the values of used automobiles were rising. This meant that, at the end of a 3-year lease, the residual value of an automobile could be expected to be high. It was represented to Mr. Henkind that the residual values of automobiles could range from 35 to 50 or 60 percent of an automobile's original cost. In luxury vehicles, the residual could sometimes be expected to equal the original cost. The opportunities from realizing on these residual values looked promising in 1981, and these trends were corroborated by numerous articles in trade journals which came to the attention of Mr. Henkind and Mr. Simpson. However, it was understood that the profit potential on the residuals could not be realized until 3 or 4 years.
The structure proposed by Aleet called for the partnership to engage the services of an agent whose function would be to solicit leases and arrange for the purchase of the vehicles and their financing. The agent would follow through with the transaction at the end of the leases, including the sale or re-leasing of the vehicles not purchased by lessees. The agent would warrant or guarantee the partnership that a certain volume (expressed in dollars) of automobiles would be leased each year for a period of 8 years.
Mr. Henkind insisted that, before he would participate in the leasing business with Aleet, the principals of Aleet would have to personally guarantee the obligations of the agent and, in particular, the obligations of the agent to lease a designated dollar amount of vehicles for the 8 years. The principals of Aleet declined to provide such a guaranty and, therefore, the transaction with Aleet was never consummated.
Sometime after the negotiations with Aleet were terminated, Mr. Samuels advised Mr. Henkind that he knew of a larger leasing company which would be willing to participate in a similar transaction and whose principal would provide the personal guaranty Mr. Henkind had insisted on in the Aleet transaction. The company suggested by Mr. Samuels was Term Industries, Inc., a corporation engaged in the automobile leasing business whose president and 90 percent owner was Gerald Brauser (Mr. Brauser). Mr. Brauser had been in the automobile leasing business for 20 years and, having previously owned automobile dealerships, had been involved with automobile sales and leasing for 40 years. The volume of Mr. Brauser's automobile leasing activities approximated $10 million per year. He had from 30 to 35 employees in his operation, which included credit, insurance, and collection departments, as well as a sales...
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