Likins-Foster Honolulu Corp. v. C.I.R., LIKINS-FOSTER

Decision Date17 February 1988
Docket NumberLIKINS-FOSTER,No. 87-7001,87-7001
Citation840 F.2d 642
Parties-660, 88-1 USTC P 9187 HONOLULU CORP.; Aliamanu Homes, Ltd.; Likins-Foster Topeka Corp.; Likins-Foster Salinas Corp.; Limita Homes, Inc.; Cardiff Homes, Inc., etc., et al., Petitioners-Appellants, v. COMMISSIONER INTERNAL REVENUE SERVICE, Respondent-Appellee.
CourtU.S. Court of Appeals — Ninth Circuit

Valentine Brookes and Lawrence V. Brookes, Brookes & Brookes, San Francisco, Cal., for petitioners-appellants.

Michael L. Paup, Jonathan S. Cohen and Kenneth L. Greene, Tax Div., U.S. Dept. of Justice, Washington, D.C., for respondent-appellee.

Appeal from a Decision of the Tax Court of the United States.

Before GOODWIN and FLETCHER, Circuit Judges, and KING, * District Judge.

GOODWIN, Circuit Judge:

Taxpayers appeal from a decision of the United States Tax Court, 50 T.C.M. (CCH) 1465 (1985), upholding the Commissioner's allocation, under I.R.C. Sec. 482 (1984), of interest income to Likins-Foster, parent corporation, as a result of interest-free loans made by it to its subsidiary. We affirm.

Likins-Foster Honolulu Corporation, a cash basis taxpayer, is the common parent of an affiliated group of corporations that filed consolidated returns for the tax years ending June 30, 1961, and June 30, 1963 through June 30, 1967.

During its 1963, 1964, 1965, and 1967 fiscal years, Taxpayer made interest-free loans to Roy Turner & Associates, Ltd. (Turner), a member of the consolidated group. In his deficiency notice, the Commissioner of the Internal Revenue Service (Commissioner), pursuant to I.R.C. Sec. 482 (1984), allocated the below amounts as interest income from Turner to Taxpayer:

                Year           Amount
                June 30, 1963  $ 64,366.80
                June 30, 1964   128,182.92
                June 30, 1965   128,472.41
                June 30, 1967     9,669.17
                

The Commissioner determined that the amounts so allocated constituted personal holding company income within the meaning of I.R.C. Sec. 543(a)(1) (1984). Taxpayer urged that the amount allocated to it as interest should not be included in its gross income.

Prior to February 11, 1958, Taxpayer filed consolidated returns with Likins-Foster Ord Corp. (Ord), Likins-Foster Monterey Corp. (Monterey), Likins-Foster Biggs Corp. (Biggs), and Likins-Foster El Paso Corp. (El Paso), collectively referred to as the "Wherry corporations." From and after February 10, 1958, Taxpayer owned 79 1/3 percent of the stock of the Wherry corporations. Because Taxpayer ceased to own 80 percent of the stock of the Wherry corporations as of February 10, 1958, the Wherry corporations became ineligible to file consolidated returns with Taxpayer as of that date.

In 1950, Biggs and El Paso entered into agreements with the Secretary of the Air Force pursuant to the provisions of the Wherry Act for the lease of land and the construction of 400 houses each at Biggs Air Force Base. Ord and Monterey entered into similar agreements with the Secretary of the Army in 1951 and 1952, respectively, for the construction of 500 houses each at Fort Ord Military Reservation.

In 1957, the United States filed a complaint in condemnation and declaration of taking against Biggs and El Paso in a Texas district court, and deposited with that court estimated just compensation. The United States also filed a similar complaint and declaration of taking against Ord and Monterey in the United States District Court for the Northern District of California. At that time the United States deposited amounts with the court as estimated just compensation for Monterey and Ord.

On the dates the complaints were filed, each district court entered judgment awarding title to the condemned properties to the United States, but continuing the proceedings to determine and award just compensation to the Wherry corporations. Thereafter, each Wherry corporation filed an appearance stating that it had no objection to the taking, but that it demanded a jury trial with respect to the determination of just compensation. The consolidated group did not report any income from the condemnations on their federal income tax return filed for the fiscal year ending June 30, 1958.

On August 19, 1958, Ord and Monterey filed motions for withdrawal of the funds deposited by the United States in the district court in California. Biggs and El Paso filed similar motions the next day in district court in Texas.

On August 21, 1958, the district court in California entered an order for the payment to Ord and Monterey. Those payments were withdrawn pursuant to the order on August 27, 1958, and deposited in Taxpayer's bank account. Similarly, on August 25, 1958, the district court in Texas entered an order for payment to Biggs and El Paso. These payments were withdrawn pursuant to the order on September 2, 1958, and were deposited in Taxpayer's bank account. On September 5, 1958, Taxpayer entered on its book a credit of $888,576.13 to "Gain on Sale of Assets," which represented its share of the total amounts withdrawn from the courts.

On August 11, 1958, each of the Wherry corporations adopted liquidation plans which they reported on their separate federal income tax returns for the fiscal year ending June 30, 1959. Each corporation reported that its principal asset was a group of leasehold improvements which were the subject of ongoing condemnation proceedings. The corporations reported that they had received amounts in partial compensation for the condemned properties but that, because the condemnation proceedings were not yet completed, they could not determine the amount of gain realized as a result of the condemnations. The corporations stated that, in any event, pursuant to I.R.C. Sec. 337 (1984), they were not subject to tax on any realized gain. By August 8, 1959, all assets of the Wherry corporations, including the claim of each corporation against the United States in connection with the condemnation proceedings, had been distributed to their shareholders. In their federal income tax return for their fiscal year ending June 30, 1960, Taxpayer and its subsidiaries did not assign a value to the claims when reporting their gain from the liquidations.

A judgment rendered by jury verdict was entered by the district court in California in favor of Ord and Monterey on June 23, 1960. A consolidated order of payment in the amount of $1,194,181.94, plus interest on part of that amount, was entered in favor of Ord and Monterey on June 29, 1960. Since the United States had previously paid $782,053 to Ord and Monterey, the court ordered payment to those corporations of $467,813.14. Ord and Monterey appealed the judgment of the district court to this court, which affirmed the judgment of the district court on October 1, 1962.

The district court in Texas entered a judgment pursuant to a jury verdict in the amount of $1,700,000 in favor of the former shareholders of Biggs and El Paso on August 7, 1962. The former shareholders of Biggs and El Paso had been made parties to the condemnation proceedings after liquidation of the corporations under the plan of liquidation adopted on August 11, 1958. Pursuant to this order, the United States deposited $1,765,920.57 with the district court on August 15, 1962, and the former shareholders of Biggs and El Paso withdrew that amount on August 29, 1962.

On its consolidated return for its fiscal year ending June 30, 1963, Taxpayer and its subsidiaries reported that they had realized capital gain in the amount of $1,396,115.09 as their share of the final condemnation award payment received with respect to Biggs and El Paso on August 29, 1962. The Commissioner determined that $1,098,022.94 of this final condemnation payment received by Taxpayer constituted a liquidating dividend, and therefore was personal holding company income pursuant to I.R.C. Sec. 543 (1984).

Prior Tax Court Proceedings

Taxpayer, its subsidiaries, and the Wherry corporations reported no gain on the condemnation of the properties on their federal income tax returns for their fiscal year ending June 30, 1959. Instead, Taxpayer and its subsidiaries reported capital gain in the amount of $891,225.56 from "gain on condemnation of Wherry corporations" on their federal income tax return for their fiscal year ended June 30, 1960. The Commissioner determined that Taxpayer received $888,576.13 (its share of the total amount withdrawn from the district courts) from the Wherry corporations as a distribution in liquidation during its fiscal year ended June 30, 1959, and that Taxpayer's adjusted basis in the stock of these corporations was zero. Accordingly, the Commissioner determined that the entire $888,576.13 was capital gain to the Taxpayer. The Commissioner did not contend that Taxpayer was then subject to tax on the distributed claims. The Commissioner also determined that each Wherry corporation realized a gain upon the withdrawal of the amounts deposited with the court by the government, and that Taxpayer and the other shareholders in the Wherry corporations were liable as transferees for the tax on those gains. The Commissioner further determined that I.R.C. Sec. 337 (1984) did not apply, and that each Wherry corporation was subject to tax on the gain it realized. Taxpayer petitioned the Tax Court for a redetermination of the deficiency asserted by the Commissioner.

The Tax Court held that I.R.C. Sec. 337 (1984) did not apply to the gain realized by the Wherry corporations as a result of the condemnations. The court held that the former shareholders of the Wherry corporations, including Taxpayer, were liable as transferees for the tax owed by the Wherry corporations as a result of the condemnations. The court found, as an ultimate fact, that the transferees' liability extended to the amounts withdrawn plus the fair market value of the claims of the Wherry corporations against the United States. The court then stated that the government had not demonstrated that...

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