Likins-Foster Honolulu Corp. v. CIR

Decision Date16 October 1969
Docket NumberNo. 10060-10061.,10060-10061.
CourtU.S. Court of Appeals — Tenth Circuit


Roy C. Lytle, Oklahoma City, Okl., for petitioners.

Louis M. Kauder, Washington, D. C. (Mitchell Rogovin, Asst. Atty. Gen., Lee A. Jackson and Harry Baum, Department of Justice, Washington, D. C., on the brief), for respondent.

Before PICKETT, HILL and HOLLOWAY, Circuit Judges.

PICKETT, Circuit Judge.

Likins-Foster Honolulu Corporation and its shareholders petitioned for a review of adverse decisions of the Tax Court redetermining deficiencies against Honolulu and various wholly or partially owned subsidiaries and the shareholders thereof. The tax liabilities of 20 transferee shareholders are contingent upon the decision in the principal case. The Commissioner has cross-petitioned as to one of the issues in the principal case and in order to protect an alternate position, has cross-petitioned in 10 of the transferee cases.

The material facts giving rise to this controversy were stipulated by the parties or are not in dispute, and were the subject of extensive findings by the Tax Court. Four wholly-owned subsidiaries of Honolulu owned Wherry Act housing projects1 which were condemned by the United States pursuant to the provisions of the Capehart Act, 42 U.S.C. § 1594a, on October 30 and November 1, 1957. The projects were located at Biggs Air Force Base, Texas and Ft. Ord, California. The complaints and declarations of taking filed under 40 U.S.C. § 258a recited that the estate being taken consisted of all right, title and interest of the particular Wherry corporation "subject to the interest of" the mortgagees. The Wherries contested the proceedings only with regard to the issue of just compensation. In 1960 and 1962 judgments were entered on jury verdicts which were substantially in excess of the sum of money estimated to be just compensation for the property taken and deposited in court with the declaration of taking.

It was stipulated that subsequent to the dates of the filing of the condemnation complaints and the declarations of takings the Wherries made no further payments to the mortgagees on the notes secured by the condemned properties. Subsequent to the condemnation proceedings the United States entered into agreements with the mortgagees assuming the liabilities of the Wherries on the mortgages. These agreements recited that they were executed "as of December 27, 1957" as to Biggs and El Paso and "as of November 1, 1957" with respect to Ord and Monterey. The Wherry Corporations were not parties to these agreements and refused to sign supplemental agreements submitted by one of the mortgagees evidencing release of their liability as mortgagors.2 For the fiscal years ending June 30, 1954 through June 30, 1957 Honolulu and its subsidiaries filed consolidated income tax returns. After February 10, 1958 Honolulu ceased to hold 80% of the stock of Ord, Monterey, Biggs and El Paso and was no longer eligible to file consolidated returns with these subsidiaries. Each of these corporations filed separate returns for the period February 11, 1958 to June 30, 1958 and for the fiscal year ending June 30, 1959.

Following disclaimer by the mortgagees, the Wherries withdrew the deposits pursuant to court order in August and September, 1958. In the fiscal years 1958 or 1959 neither the consolidation nor the subsidiaries in their separate returns reported any income resulting from the condemnations. The Commissioner determined that Honolulu and its subsidiaries had realized gain in the fiscal year ending June 30, 1958 in the amount of the excess of the mortgage principal outstanding as of the dates of condemnation over the depreciated cost basis of the Wherries in the properties condemned. The Tax Court sustained this determination and the taxpayers concede their liability, but dispute the date upon which their gain was realized. It is the position of the taxpayers that the United States took the properties as a whole and became liable for just compensation for the entire value of the respective projects without regard to the amount due on the mortgages, and that at the time of taking the United States was not liable for the payment of the mortgages. Consequently, it is said that because the taxpayers were entitled to be paid for the whole property the liability of the United States on the mortgages was not determined at the date of taking and the continued liability of the mortgagors affected their right to compensation. They support this position by a broad attack on the power of the United States to condemn the projects subject to the outstanding mortgages. This issue was not raised in the condemnation proceedings. The sole issue tried there was the amount of the compensation to be paid for the taking of the property. Likins-Foster Monterey Corporation v. United States, 9 Cir., 308 F.2d 595. While this may be a collateral attack upon the condemnation judgment,3 we are satisfied that by the enactment of the Capehart Act and supplemental legislation, 70 Stat. 682, Congress intended to authorize the United States to condemn Wherry Act projects and to take title to the owner's interest therein subject to existing mortgages. United States v. Certain Interests in Property, etc., 7 Cir., 271 F.2d 379, cert. denied, 362 U.S. 974, 80 S.Ct. 1058, 4 L.Ed.2d 1010. The legislative history of the Act contains a summary of the procedure to be followed in determining the sponsor's interest and concludes: "To determine the value of the lessee's interest it would be necessary for the Commissioner to ascertain the difference between the purchase price as determined by him and the principal obligation (the Mortgage), plus accrued interest." In the following paragraph it is stated: "The Secretary of Defense would assume or purchase subject to the balance due under the insured note secured by the Mortgage on such housing and make all future payments thereon. 3 U.S.Code Cong. and Admin.News 1956, page 4552, 84th Cong., 2nd Session. See also the 1956 Amendments, 70 Stat. 1091 at 1112, indicating in the context of other types of condemnations that the measure of compensation is the difference between the outstanding principal obligation plus interest and the price of the property fixed by the court, and thus confirming that it is the equity in Wherry Act housing which is condemned.

We believe a reasonable interpretation of the Act to be that condemnation of the equities was authorized by the statutes, as was done in these cases. The takings were effected under the statutes on the filing of the declarations of taking and making of the deposits. 40 U.S.C. § 258a. As it was obligated to do in such circumstances the Government thereafter made the mortgage payments. It also made the assumption agreements with the mortgagees, as mentioned above. By such assumption of the mortgages with the assent of the mortgagees the Government became directly and primarily liable to the mortgagees. Fitzgerald v. Flanagan, 155 Iowa 217, 135 N.W. 738; Union Stove & Machine Works v. Caswell, 48 Kan. 689, 29 P. 1072, 16 L.R.A. 85. Moreover, such procedure in no way prejudiced the rights of the mortgagors to just compensation for their interests and presented no Constitutional questions. We conclude that such takings of the equities were authorized by the statutes and not violative of the Fifth Amendment.

The law is settled that where mortgaged property is sold and the mortgagor's indebtedness is canceled by the assumption of the mortgage by a third party, the amount of gain realized by the seller is measured by the excess of the outstanding mortgage principal over the seller's basis in the mortgaged property. Int.Rev.Code of 1954, §§ 61(a) (12) and 1001; Crane v. Commissioner, 331 U.S. 1, 67 S.Ct. 1047, 91 L.Ed. 1301; Commissioner of Internal Revenue v. Jacobson, 336 U.S. 28, 69 S.Ct. 358, 93 L.Ed. 477. It is also accepted law that for capital gains purposes, involuntary conversions such as condemnations are treated as "sales or exchanges" under the statute. Kieselbach v. Commissioner, 317 U.S. 399, 63 S.Ct. 303, 87 L.Ed. 358; Hawaiian Gas Products v. Commissioner of Int. Rev., 9 Cir., 126 F.2d 4, cert. denied, 317 U.S. 653, 63 S.Ct. 48, 87 L.Ed. 525. See 3B Mertens, Federal Income Taxation, § 22.100.

In the condemnation proceedings, as provided by 40 U.S.C. § 258a, title to the Wherry projects vested in the United States upon the filing of the declarations of taking and the payment into court of the estimated compensation. Covered Wagon, Inc. v. C. I. R., 8 Cir., 369 F.2d 629; Travis v. United States, 287 F.2d 916, 152 Ct.Cl. 739, cert. denied, 368 U.S. 824, 82 S.Ct. 42, 7 L.Ed.2d 28. The nominal character of the initial deposits in the Texas condemnations did not delay the vesting of title in the United States. United States v. Cobb, 9 Cir., 328 F.2d 115. The date title vested in the United States is also the date the "sale or exchange" necessary for capital gains treatment occurred. Kieselbach v. Commissioner, supra; Covered Wagon, Inc. v. C. I. R., supra. See 3B Mertens, supra, § 22.103.

Except as to Ord, which is discussed in the appendix hereto, we conclude that gains to the mortgagors in connection with the cancellation of their mortgage indebtedness occurred on the execution of the agreements by the Government to assume the mortgage obligations, together with the release of the mortgagors by the mortgagees. See Riss v. C. I. R., 10 Cir., 368 F.2d 965, 968; Newmark v. C. I. R., 2 Cir., 311 F.2d 913; Clarke v. United States, 94 F.Supp. 543, 548 (E.D.Pa.); and 2 Mertens, Federal Income Taxation, § 11.19. Although the right of the mortgagors to have the Government take over the mortgage obligations existed from the condemnation of the equities, there was no assumption of their mortgage obligations until the...

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