Sallies v. Comm'r of Internal Revenue
| Decision Date | 18 July 1984 |
| Docket Number | Docket No. 1035–80. |
| Citation | 83 T.C. No. 5,83 T.C. 44 |
| Parties | ROBERT C. SALLIES AND MARGIE G. SALLIES, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Petitioners sold real estate to a buyer under an installment sale contract. At the closing of this sale, the buyer paid off petitioners' mortgage note and their unsecured promissory note.
Held: The buyer's payment of liabilities of petitioners constitutes a payment in the year of sale. Petitioners received payments in the year of sale totalling more than 30 percent of the selling price and thus do not qualify for the use of the installment method of reporting under section 453(b), I.R.C. 1954, as in effect for the year in issue. Bryan M. Dench, for the petitioners.
David N. Brodsky, for the respondent.
Respondent determined a deficiency in Federal individual income tax against petitioners for 1976 in the amount of $33,940. After a concession by petitioners, the issue for decision1 is whether petitioners are entitled under section 4532 to use the installment method of reporting gain from the sale of certain real estate.
Some of the facts have been stipulated; the stipulation and the stipulated exhibits are incorporated herein by this reference.
When the petition in the instant case was filed, petitioners Robert C. Sallies (hereinafter sometimes referred to as “Sallies”) and Margie G. Sallies, husband and wife, resided in Westbrook, Maine.
In 1959, Sallies acquired the Oxford Hills Publishing Company (hereinafter sometimes referred to as “Oxford”). Oxford, a Maine business corporation, was a family-run business involved principally with newspaper publishing, printing, and related businesses, carried out under the name of the Advertiser-Democrat. Oxford had been in the family since it was established,in 1886.
Petitioners owned all of the outstanding capital stock of Oxford.3 They also owned, as joint tenants, the real estate and building in Norway, Maine, where Oxford conducted its business. The real estate and building were encumbered by a $125,000 mortgage taken by the Norway National Bank (hereinafter sometimes referred to as “the Bank”). This mortgage is evidenced by a mortgage note dated August 28, 1972. The interest on this note is stated as “1– 1/2% above Maine prime rate”.
On March 17, 1976, petitioners borrowed $17,000 from the Bank to buy real estate next to Oxford's building. This loan is evidenced by a promissory note dated March 17, 1976. The stated annual interest rate on this note is 9.5 percent. The Bank did not take a security interest or mortgage in this real estate. Petitioners bought this real estate so they could make a driveway for trucks that delivered newsprint. For many years, Oxford had trouble with parking for its staff and egress for the newsprint trucks. Many times during the noon hour cars were blocked in by newsprint trucks which were loading or unloading.
Petitioners also owned real estate in Norway, Maine, near Oxford's building.
Sometime in the late spring of 1976, petitioners were approached by Howard A. James (hereinafter sometimes referred to as “James”), the president of James Newspapers, Inc. (hereinafter sometimes referred to as “Newspapers”) to discuss the possibility of selling Oxford. In early June 1976, Newspapers tentatively agreed to buy the Real Estate and also to buy either all of the Oxford stock or all of its operating assets.
In the beginning of the negotiations, Sallies told James he wanted to sell Oxford only for cash. James told Sallies that he could not raise the cash necessary to buy Oxford at the price Sallies was asking. After further negotiations, James suggested to Sallies an installment contract sale. James had been reading about installment contracts and had recently bought another newspaper, the Rumsford Times, under an installment contract. In connection with the purchase of the Rumsford Times, James borrowed enough money from the Berlin City Bank to fund the down payment and, at the same time, provide operating capital. James liked this arrangement because it enabled him to buy the Rumsford Times and obtain some operating capital using little or no personal funds. James had no cash available to purchase Oxford. James' intention in structuring the purchase of Oxford as an installment sale was to be able to fund the down payment and provide operating capital by the use of borrowed funds.
On June 21, 1976, petitioners, Newspapers (through James, its president), and James (individually), signed a letter of intent regarding the sale of Oxford and the Real Estate. Among the statements made in the letter of intent are the following:
1. [Newspapers] will either purchase from the two of you [petitioners] all of the outstanding stock of Oxford or will purchase from Oxford itself all of its operating assets plus, in either event, real estate associated with the business, i.e., the buildings occupied by the business itself and certain adjoining real estate on or near your business address of 2 Bridge Street in Norway, Maine. We are doing computations to test whether it will be to your advantage to have the transaction treated as an installment sale, and if such turns out to be the case, then [Newspapers] will purchase stock rather than assets, plus, of course, the associated real estate.
2. The overall approach is to provide you with an annual pre-tax income of $24,000, which is the equivalent of an 8% return on $300,000. While doing this, we will also make annual payments over a period not exceeding fifteen years, so as to provide you, after capital gains taxes, with the amount of $300,000.
3. [Newspapers] will transfer to you not less than $20,000 per year, after capital gains tax, although it can be more at the option of [Newspapers]. Each transfer will be considered a contribution to a Capital Account, with contributions to be cumulative. We will assume earnings on the cumulative Capital Account of 7% so that in any particular year [Newspapers] will pay to you the difference between $24,000 and an amount representing 7% on the Capital Account which has been accumulated up to the beginning of the year in question. For example, if at a particular January 1 the cumulative Capital Account amounts to $60,000, then you would be entitled during the year commencing with that January 1, to receive $24,000 minus $4,200, or, $19,800. The funds in the Capital Account will be invested by you at your discretion, except that we at all times will be entitled to credit the 7% on the funds which have been placed in the account in order to compute the annual $24,000 payment. It is understood that the $24,000 will constitute ordinary income to you.
4. The real estate, none of which is owned by Oxford but which is owned by the two of you individually and which is to be transferred, is appraised by you at approximately $270,000, and there is an existing mortgage debt of $75,000 plus a personal note of $17,000. We expect to be able to mortgage the property at 80% of its value, or $216,000, out of which we will pay off the existing indebtedness of $92,000, leaving a net of $124,O00. If we are unable to obtain a loan in the amount of $216,000, we will have the option of taking a smaller loan and if so, it is understood that you will give us a second mortgage equal to the difference between the $216,000 desired and the amount which we can obtain. The amount of the second mortgage will be deducted from the down payment which we will make at the time of closing. The down payment is to be computed at not more than 29&, of the total purchase price,[4] the amount of which has not been computed as yet, but which will be calculated on the basis of transfer of funds necessary to produce for you the annual income of $24,000 described above, plus the acceleration of payments, if we wish to make them.
We did not discuss the terms of the second mortgage, but I [James] suggest that the amount, whatever it may be, could be amortized over a period of 15 years at 8%. Payments due under the second mortgage, if any, would not in any way affect the guaranteed annual income of $24,000.
Sallies reviewed the letter of intent before signing it to make sure that (1) Newspapers would assume the mortgage on the Real Estate and the $17,000 promissory note; (2) the payment schedule would meet petitioners' needs; (3) he understood petitioners' obligations with respect to any business Oxford did before it was actually sold to Newspapers; and (4) petitioners agreed not to compete by starting up another newspaper business.
Sallies' accountant told him it was important that petitioners not accept more than 29 percent of the sales price as a down payment, so that the transaction could qualify for the installment method of accounting for gain. After reviewing the letter of intent, Sallies was satisfied that the transaction would meet these requirements. (See n. 4, supra.)
As Sallies understood it, Newspapers' assumption of the mortgage note and the promissory note meant that petitioners would not have to make any more payments on these notes, and that Newspapers would make the payments. Further, as Sallies understood it, if Newspapers failed to make the payments, then petitioners would in some way take back the business and once again would be responsible for the mortgage payments.
Neil L. Dow (hereinafter sometimes referred to as “Dow”), petitioners' attorney in connection with the sale of Oxford, reviewed the letter of intent but did...
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