Sleiman v. Comm'r Internal Revenue, s. 98-2872

• Decision Date: 10 September 1999
• Docket Number: Nos. 98-2872,98-2873 and 98-2874,s. 98-2872
• Parties: (11th Cir. 1999) Eli T. SLEIMAN, Jr., and Janie L. Sleiman, Petitioners-Appellants, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee. Peter D. Sleiman and Carolina T. Sleiman, Petitioners-Appellants, v. Commissioner of Internal Revenue, Respondent-Appellee. Anthony T. Sleiman and Bonnie C. Sleiman, Petitioners-Appellants, v. Commissioner of Internal Revenue, Respondent-Appellee.
• Court: U.S. Court of Appeals — Eleventh Circuit

Page 1352

187 F.3d 1352 (11th Cir. 1999)

Eli T. SLEIMAN, Jr., and Janie L. Sleiman, Petitioners-Appellants, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee.

Peter D. Sleiman and Carolina T. Sleiman, Petitioners-Appellants, v. Commissioner of Internal Revenue, Respondent-Appellee.

Anthony T. Sleiman and Bonnie C. Sleiman, Petitioners-Appellants, v. Commissioner of Internal Revenue, Respondent-Appellee.

Nos. 98-2872, 98-2873 and 98-2874.

United States Court of Appeals Eleventh Circuit.

Sept. 10, 1999.

Appeals from a Decision of the United States Tax Court. (Tax Court Nos. 12663-95, 12664-95, 12665-95)

Before BARKETT, Circuit Judge, and KRAVITCH and MAGILL^*, Senior Circuit Judges.

KRAVITCH, Senior Circuit Judge:

Eli, Janie, Peter, Carolina, Anthony, and Bonnie Sleiman¹ (together, "appellants") appeal three orders of the United States Tax Court denying their petitions to redetermine their tax liability for the years 1991 and 1992. Their consolidated appeals require us to decide two issues: whether the tax court erred in determining that Eli and Peter could not increase their adjusted bases in S corporations they owned by the amount of loans to the corporations that they personally had guaranteed, and whether the tax court properly upheld the Commissioner of Internal Revenue ("Commissioner")'s reallocation of Anthony's basis in a piece of real property.

I. FACTS AND PROCEEDINGS BELOW

A. Eli's and Peter's Guaranteed Loans

1. Eli and REE

Eli entered into a lease agreement with Blockbuster Video, Inc. ("Blockbuster") in July 1991, in which he agreed to purchase land on Dunn Avenue in Jacksonville, Florida (the "Dunn property"), build a video rental store, and lease it to Blockbuster. The lease agreement provided that if the property was environmentally contaminated, Blockbuster could terminate the lease. On August 21, 1991, Eli formed an S corporation,² Real Estate Equities, Inc. ("REE"), and assigned his rights under the lease to REE. REE subsequently purchased the Dunn property; it owned no assets other than that property. The Dunn property, the former site of a gas station, was environmentally contaminated and required substantial cleanup. Because Florida's Early Detection Initiative ("EDI") program covered the property, the state agreed to cover the costs of environmental remediation. REE completed the environmental cleanup in 1994.

Eli presented evidence that because of the environmental contamination and REE's lack of long-term financing or liquid assets, REE experienced some difficulty in getting a construction loan. REE eventually secured a 1-year, $450,000 loan from SouthTrust Bank of Alabama, N.A. ("SouthTrust") in October 1991. The mortgage note required REE to make monthly interest payments and pay the principal amount on October 23, 1992. To secure the loan, REE pledged the Dunn property, its improvements, and REE's interest in the Blockbuster lease.³ Although the EDI program would cover the costs of environmental cleanup, REE agreed to indemnify SouthTrust against any additional liability arising from the environmental contamination. In addition, Eli personally guaranteed both the mortgage note and REE's commitment to indemnify SouthTrust for any environmental liability. Although Eli did not pledge any of his assets, he promised to refrain from transferring or pledging any of them for less than full and adequate consideration without SouthTrust's consent. SouthTrust never called on Eli's personal guarantee.

A second SouthTrust loan to REE, a ten-year, $450,000 loan made on December 21, 1992 and retroactively effective on the date the construction loan expired, had a similar structure. Like the first loan, the second loan was secured by a mortgage on the property and REE's interest in the Blockbuster lease and by Eli's personal guarantee. SouthTrust's internal credit report showed that REE's cash flow from the Blockbuster lease would be approximately twice the monthly loan payments and that an independent appraiser had valued the Dunn property with the Blockbuster lease at roughly twice the principal amount of the loan. REE reported both loans in its books as liabilities owed to SouthTrust, not capital contributions from Eli. At the time of trial, REE had made all its payments on the SouthTrust loans, and SouthTrust had not called on Eli's personal guarantee.

Eli received $55,400 in distributions from REE in 1992. On his 1992 tax return, he claimed that none of this money constituted taxable capital gains because his adjusted basis in REE included the amount of the SouthTrust loans that he had personally guaranteed. The Commissioner disagreed and issued a Notice of Deficiency.

2. Peter and TNE

Peter's transactions with his S corporation, Triple Net Equities, Inc. ("TNE"), resembled those between Eli and REE. Peter entered into a lease agreement with Blockbuster in March 1991, agreeing to purchase land on Roosevelt Boulevard in Jacksonville (the "Roosevelt property"), build a video rental store, and lease it to Blockbuster. Like the Dunn property, the Roosevelt property was an environmentally contaminated former gas station that had been accepted into Florida's EDI program.⁴ In August 1991, Eli incorporated TNE, later assigning the Blockbuster lease to it. Like REE's Blockbuster lease agreement, TNE's Blockbuster lease agreement provided that if the property was environmentally contaminated, Blockbuster could terminate the lease. TNE subsequently purchased the Roosevelt property; the property was the corporation's only asset.

Peter testified that TNE was unable to secure a traditional bank loan because the property was contaminated. TNE therefore financed the purchase and construction costs of the Roosevelt property with loans from Peter's other businesses. In order to pay off these loans, TNE borrowed $450,000 from SouthTrust on October 2, 1992. As security for the loan, TNE pledged the Roosevelt property and its improvements, TNE's interest in the Blockbuster lease, and TNE's right to participate in Florida's EDI program. Although the EDI program would cover the costs of environmental cleanup, TNE agreed to indemnify SouthTrust against any additional liability arising from the environmental contamination. In addition, Peter personally guaranteed the loan.⁵ Although Peter did not pledge any of his assets, he promised to refrain from transferring or pledging any of his assets for less than full and adequate consideration without SouthTrust's consent. SouthTrust's internal credit report showed that it expected TNE's cash flow from the Blockbuster lease to be more than one and one-half times the monthly payments on the loan and that it valued the Roosevelt property, with the Blockbuster lease, at roughly twice the principal amount of the loan. Like REE, TNE reported the loan in its books as a liability owed to SouthTrust, not as a capital contribution from Peter. At the time of trial, TNE had made all its payments on the SouthTrust loan, and SouthTrust had not called on Peter's personal guarantee.

In 1992, Peter received $119,397 in distributions from TNE. Like Eli, in his 1992 tax return, he claimed that none of this money constituted capital gains because his adjusted basis in TNE included the amount of the SouthTrust loan that he had personally guaranteed. The Commissioner disagreed and issued a Notice of Deficiency.

B. Anthony's Allocation of Acquisition Cost

During 1991 and 1992, Anthony was the sole shareholder of Miramar Equities, Inc. ("ME"), an S corporation. ME purchased the Miramar Shopping Center ("Shopping Center") from Country, Inc. in July 1992. The purchase and sale agreement allocated $60,000 of the $745,000 purchase price to land. On ME's 1992 income tax return, it used this $60,000 valuation to establish its depreciation deduction.⁶ The Commissioner disagreed, determining that ME should have allocated $377,735 of the purchase price to land. It therefore disallowed a portion of ME's claimed depreciation deduction and issued a Notice of Deficiency.

C. Proceedings Below

Appellants filed petitions in the United States Tax Court in July 1995, challenging the Commissioner's Notices of Deficiency regarding their 1991 and 1992 tax returns. After the parties stipulated to a number of facts, the consolidated cases went to trial in 1997. The tax court issued a Memorandum Opinion in November 1997. With regard to the guaranteed loans to REE and TNE, the tax court held that Eli and Peter could not treat their personal guarantees of the SouthTrust loans as capital contributions that increased their adjusted bases in the S corporations.

The parties presented no testimony at trial regarding the allocation of basis to the land and buildings that ME had purchased. Anthony introduced into evidence the purchase and sale agreement showing that ME and Country, Inc., the seller, had allocated $60,000 of the purchase price to land and $685,000 to buildings. The parties stipulated to two other appraisals made before and after ME purchased the Shopping Center, each of which assigned a value of more than $500,000 to the land. The tax court held that appellants had not met their burden of proving that the Commissioner's reallocation of their basis was incorrect. The only evidence appellants had offered of ME's proposed allocation was the purchase and sale agreement, and the court found that this document was not determinative. The court therefore upheld the Commissioner's reallocation.

II. THE GUARANTEED LOANS

Operating a small business as an S corporation has certain tax consequences. The corporation is not subject to the corporate income tax; instead, its profits and losses "pass through" to its shareholders' personal income tax returns. See 26 U.S.C. 1366. When an S corporation with no accumulated earnings or profits makes a distribution to a shareholder, the shareholder must recognize capital gain only on that portion of the distribution that exceeds her adjusted basis in...