Opinion
Docket No. 4644–78.
1984-01-26
FLORENZ R. OURISMAN and BETTY JOAN OURISMAN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent
Lipman Redman, Jerry M. Hamovit, and Stephen D. Kahn, for the petitioners. Joyce H. Errecart, for the respondent.
P and D acquired a long-term ground lease of property which they intended to develop with an office building. They formed a partnership to develop such property, but to avoid local usury restrictions on loans to individuals, they formed a corporation to act as their agent in holding record title to the leasehold and improvements and in executing the construction and permanent borrowings. After the permanent loan closing, the corporation reconveyed record title to the leasehold and building to the partnership. Held: Under the circumstances of this case, the partnership, and not the corporation, was the owner of the project for Federal income tax purposes. The corporation held record title and executed the loans as the agent of the partnership. We shall continue to follow our decision in Roccaforte v. Commissioner, 77 T.C. 263 (1981), revd. 708 F.2d 986 (5th Cir. 1983). Lipman Redman, Jerry M. Hamovit, and Stephen D. Kahn, for the petitioners. Joyce H. Errecart, for the respondent.
SIMPSON, Judge:
The Commissioner determined the following deficiencies in the petitioners' Federal income taxes:
+--------------------+ ¦Year ¦Deficiency ¦ +------+-------------¦ ¦ ¦ ¦ +------+-------------¦ ¦1970 ¦$95,183.04 ¦ +------+-------------¦ ¦1971 ¦998,554.81 ¦ +------+-------------¦ ¦1972 ¦49,729.12 ¦ +--------------------+ The issues for decision are: (1) Whether the losses generated by the construction and operation of an office building are attributable to the partnership which constructed and operated such building or to a corporation which was created to act as an agent for such partnership for certain limited purposes; (2) if such losses are attributable to the corporation, whether its reconveyance to the partnership of record title of a leasehold in the land upon which the building was constructed constituted a distribution in liquidation; and (3) whether the corporation was a collapsible corporation within the meaning of section 341(b) of the Internal Revenue Code of 1954.
In this case, the numerous third parties who were aware of the transaction uniformly were advised of the agency relationship. They relied and acted upon its existence and clearly would have been in a position to sue for whatever damages might have been incurred if either the corporate agent or its principals had sought to avoid the various transactions which were entered into in reliance upon that agency. A commercial bank, a savings and loan association, a real estate management company, commercial tenants, an insurance company, the District of Columbia and various public utility companies all entered into specific contracts with the principal and/or the corporate agent in their respective capacities and thereafter could have held the principal and the agent liable for their actions in their respective capacities as principal and agent.
Although the agency relationship may have been established initially, on February 5, 1970, solely because of the shareholder status of the principal, the agent's relations with the principal and with the third parties thereafter (throughout the balance of 1970, 1971 and the first six months of 1972 until the agency was dissolved on June 28, 1972) were consistent with its agency status and provided a substantial, independent stature to that relationship.
Accordingly, I expressly would find that the National Carbide fifth factor was satisfied along with the other five factors.
FINDINGS OF FACT
Most of the facts have been stipulated, and those facts are so found.
The petitioners, Florenz Ourisman and Betty Joan Ourisman, were husband and wife during the years in issue. Mr. Ourisman resided in Washington, D. C., and Mrs. Ourisman resided in Bethesda, Md., when they filed the petition in this case.
The petitioners filed joint Federal income tax returns for 1970, 1971, and 1972 with the Internal Revenue Service Center in Philadelphia, Pa. For each of the years in issue, 5225 Wisconsin Associates (the partnership), a District of Columbia limited partnership, filed a Form 1065, U. S. Partnership Return of Income, with the Internal Revenue Service Center in Philadelphia, Pa.
During the years in issue, Mr. Ourisman was engaged in the real estate business as an investor and developer. During 1969, he and the Donohoe Construction Company, Inc. (Donohoe), explored the possibility of constructing an office building on upper Wisconsin Avenue, N.W., in the District of Columbia. They learned that property located at 5225 Wisconsin Avenue was available for lease, and on October 18, 1969, Mr. Ourisman and Donohoe, as tenants, entered into a 99-year ground lease of such property.
Mr. Ourisman and officials of Donohoe sought construction financing in order to develop the property with a six-story office building. Together, they submitted a request for a loan in the amount of $3,500,000 to American Security & Trust Company (AS&T). Such application listed the “owner” of the property as the Wisconsin-Jenifer Joint Venture, a partnership in which Mr. Ourisman had an 80-percent share and Donohoe had a 20-percent share. The Wisconsin-Jenifer Joint Venture was the partnership that eventually became 5225 Wisconsin Associates. On January 9, 1970, a commitment was given for AS&T to provide interim financing in the amount of $3,150,000 at an interest rate of 10 percent. The commitment provided that the loan would be made to the “Corporate Nominee of Wisconsin-Jenifer Joint Venture” and would be secured by a first deed of trust on the Wisconsin Avenue property. By February 3, 1970, the partnership and AS&T had agreed to the final details of the construction loan.
During 1970, District of Columbia law provided that a loan made to a noncorporate borrower at a rate exceeding 8 percent was usurious. 28 D.C. Code sec. 3301. At such time, the prevailing local interest rate for construction loans was approximately 10 percent. In order to make the construction loan, AS&T required that a nominal debtor be the corporate nominee of the partnership and that, accordingly, record title to the leasehold be held by the corporate borrower. On February 5, 1970, Mr. Ourisman and Donohoe formed Wisconsin-Jennifer, Inc. (the corporation), a District of Columbia corporation. The articles of incorporation specified that the corporation had broad powers to deal with real estate and engage in activities related to real estate development. On the same day, the corporation's board of directors, consisting of Mr. and Mrs. Ourisman and Richard Donohoe, president of Donohoe, resolved that the corporation would act as nominee or agent for the partnership:
To purchase, acquire, hold, improve, operate, sell, convey, and assign title to real and personal property, all as a nominee for a principal or principals;
To borrow or raise money for any of the purposes of the corporation, and to secure the payment thereof, and of the interest thereon, to execute mortgages or to pledge, convey or give an assignment or deed in trust of the whole or any part of any real or personal property, including contracts, choses in action or other intangible property of the corporation;
To carry out any part of the foregoing objects, as nominee or agent, either alone or through or in conjunction with any person, firm, association or corporation, and in any part of the world, and, in carrying on its business and for the purposes herein specified, or which at any time may appear conducive to or expedient for the accomplishment of any such purposes.
The construction loan was closed on May 7, 1970. On that date, Mr. Ourisman and Donohoe executed an agreement creating 5225 Wisconsin Associates, a limited partnership. The partnership certificate provided that the business of the partnership was to acquire the leasehold and construct and operate an office building on the premises. Also on May 7, 1970, the partnership assigned the leasehold to the corporation. The assignment, which recited a consideration of $10, was recorded the next day. The corporation agreed that it would hold the lease and any improvements constructed on the leased property, borrow and repay interim financing from AS&T, and erect a six-story office building “solely as nominee, dummy and straw party for the Partnership, and the Partnership is and shall continue to be the Corporation's principal, the true and lawful owner of the leasehold conveyed to the Corporation * * * together with all improvements erected thereon, and the real party in interest in the aforesaid agreements and transactions.” The agreement also recited a consideration of $10.
Mr. Ourisman and Donohoe intended to retain all but record title to the leasehold and building, and they intended that the corporation would reconvey record title to the partnership as soon as such reconveyance was practical. The partners always regarded themselves as the real owners of the property.
The corporation, as borrower, signed the construction loan agreement with AS&T, as well as a promissory note and a deed of trust. Mr. Ourisman and the principal shareholders of Donohoe personally guaranteed payment of the construction loan. The bank regarded Mr. Ourisman and Donohoe as the true debtors and looked to them for repayment. Finally, on May 7, 1970, the partnership agreed with John F. Donohoe & Sons, Inc., that the latter would act as its leasing and management agent for the building to be erected on the Wisconsin Avenue property.
Between May 1970 and November 1971, the partnership executed 17 leases with prospective tenants of the office building, designating itself as the owner of the leasehold. The contracts with the architects for the design of the building listed the owners as Mr. Ourisman and Donohoe, individually or as partners. The insurance policy obtained for the project listed as the insured the “Wisconsin-Jennifer, Joint Venture Etal.” On applications made to the District of Columbia for certificates of occupancy, the partnership identified itself as the owner of the premises.
Donohoe acted as the general contractor for construction of the building. While the building was under construction, Mr. Ourisman and Donohoe sought permanent financing. On March 15, 1971, they applied to Jefferson Federal Savings and Loan Association (Jefferson) for a permanent loan. Their application was made in the name of the corporation, but specified that Mr. Ourisman and Donohoe were the owners of the building. Jefferson agreed to provide permanent financing in the amount of $3,650,000.
On October 28, 1971, the corporate board of directors resolved that it secure the permanent financing from Jefferson, “acting solely, however, as the nominee and at the direction of the owner of said leasehold estate, 5225 Wisconsin Associates.” The permanent loan was closed on November 4, 1971. The loan carried an interest rate of 8– 1/2 percent, and the corporation was the nominal borrower. There was no personal liability on the note; Jefferson was secured by a deed of trust on the property. Also on November 4, 1971, the corporation reassigned the leasehold to the partnership. The assignment, which recited a consideration of $10, was recorded on the same day. On June 28, 1972, the corporation dissolved.
During its existence, the corporation never opened a bank account. When loan proceeds were periodically advanced to it, the corporation endorsed the checks to the partnership. The partnership made all interest and principal payments to AS&T and Jefferson. The partnership paid every expense, including legal, accounting, and bonding costs, associated with the project. The partnership contracted for all building utilities in its own name and paid all utility bills. On its income tax returns for 1970 and 1971, the corporation reported no income, listed no assets or liabilities, and stated that its business was “Corporate Nominee.” No capital was ever paid into the corporation, and it never issued any stock. The corporation made no distributions prior to November 4, 1971. The corporation received no rental income; instead, the management agent collected such rents and distributed them to the partnership. The corporation did not perform any services for any parties other than the partnership.
On its returns for 1970, 1971, and 1972, the partnership claimed losses attributable to the holding of the ground lease and the construction and operation of the building. On their returns for such years, the petitioners deducted their share of such losses. In his notice of deficiency, the Commissioner disallowed such deductions, determining that the partnership was not entitled to deduct expenses incurred during 1970 and most of 1971 in the holding of the lease and the construction and operation of the office building. He determined that such losses were those of the corporation. Accordingly, the Commissioner also determined that income earned from the project during 1971 was attributable to the corporation. He also determined that the petitioners realized ordinary gain as a result of liquidating distributions that they received from the corporation during 1970 and 1971. The Commissioner determined that, in 1971, the corporation had distributed all its assets to the partnership and that the corporation was a collapsible corporation so that the gain on the liquidation was ordinary income.
OPINION
The first issue for decision is whether the losses generated by the construction and operation of the office building are attributable to the corporation or to the individual partners in the partnership. The petitioners argue that the corporation acted solely as the agent of the partnership, holding record title to the leasehold and obtaining project financing on behalf of the partnership only in order to comply with local usury restrictions. Thus, they conclude that the partnership, as the principal, is the entity which is responsible for the tax consequences of the construction project. However, the Commissioner contends that there was no agency relationship, recognized for tax purposes, between the corporation and the partnership and that the losses generated by the project are properly attributable to the corporation.
The principles guiding our decision were set forth by the Supreme Court in Moline Properties, Inc. v. Commissioner, 319 U.S. 436 (1943), and National Carbide Corp. v. Commissioner, 336 U.S. 422 (1949). In Moline Properties, the Supreme Court considered the argument that a corporation was the nontaxable agent of its owner. In that case, one Mr. Thompson created a corporation at the urging of his mortgagee. The corporation took title to Mr. Thompson's real estate and assumed his mortgage debt. The mortgagee initially controlled the corporation, but Mr. Thompson assumed control upon the refinancing of the obligation with a different lender. The corporation instituted and defended lawsuits concerning its holdings, leased a portion of the realty, and ultimately disposed of its holdings. The corporation sought to avoid taxation on the gain by arguing that it was taxable to Mr. Thompson; the Commissioner contended that the gain was taxable to the corporation.
The Supreme Court rejected the taxpayer's contention that the corporation should not be regarded as a separate viable entity for tax purposes. The Court stated:
The doctrine of corporate entity fills a useful purpose in business life. Whether the purpose be to gain an advantage under the law of the state of incorporation or to avoid or to comply with the demands of creditors or to serve the creator's personal or undisclosed convenience, so long as that purpose is the equivalent of business activity or is followed by the carrying on of business by the corporation, the corporation remains a separate taxable entity. * * * [319 U.S. at 438–439; fn. refs. omitted.] The Court found that the corporation had served Mr. Thompson's business interests and engaged in business activity from its creation and that the corporation was thus a separate taxable entity.
WHITAKER, J., abstained.
SWIFT, J., concurring:
I agree with the holding of the majority but wish to comment on their analysis of the National Carbide fifth factor as it applies to this case. I understand that factor simply to require that the corporation's status as agent vis a vis its principal in the transaction in question must rise to the level of a relationship which stands on its own. In the language of the Supreme Court
[i]f the corporation is a true agent, its relations with its principal must not be dependent upon the fact that it is owned by the principal. [National Carbide Corp. v. Commissioner, supra, 336 U.S. at 437.] The majority herein, the Fifth Circuit in Roccaforte v. Commissioner, 708 F.2d 986 (1983), and the Court of Claims in Harrison Property Management Co. v. United States, 475 F.2d 623 (1973), cert. denied 414 U.S. 1130 (1974), place excessive emphasis on the ownership of the corporate agent by the principal in evaluating this factor.
A proper application of the National Carbide fifth factor should focus on the manner and degree the agency was represented to third parties and the degree to which third parties acted in reliance upon the agency relationship. If the agency representations and third party reliance thereon were significant, it should be concluded that the agency relationship achieved a legal stature sufficiently independent of the control of the principals to satisfy the National Carbide fifth factor. Once the agency representations and third party reliance thereon are established, it is not meaningful nor realistic to require that the agent corporation also must have received a fee for its nominal services as agent or to require that it acted as agent for others.
HAMBLEN, J., agrees with this concurring opinion.
FAY, J., dissenting:
I respectfully dissent herein for the same reasons I dissented in Roccaforte v. Commissioner, 77 T.C. 263, 290–291 (1981), revd. 708 F.2d 986 (5th Cir. 1983).
The Fifth Circuit in Roccaforte v. Commissioner, 708 F.2d at 989–990, agreed with my interpretation of National Carbide Corp. v. Commissioner, 336 U.S. 422, 437 (1949), that a true corporate agency cannot exist when the corporation-partnership relations are dependent on the partners' ownership and control of the corporation.
Since the majority opinion herein, as in Roccaforte, finds that the relations between the corporation and partnership were dependent on the fact that the corporation was owned and controlled by the partners, I would again hold that, for tax purposes, the corporation was not a mere agent of the partnership.
GOFFE, WILBUR, and CHABOT, JJ., agree with this dissent.
COHEN, J., dissenting: I respectfully dissent.
The facts of this case are far from unusual. Petitioner was a member of a partnership engaged in the real estate business and sought construction financing in order to develop an office building. He, not unlike innumerable other business persons in a variety of other businesses, found that the usury laws of the jurisdiction in which the building was to be constructed were not consistent with commercial reality. He, not unlike innumerable other business persons in a variety of other businesses, found a way around the local usury laws. As set forth in the stipulation:
12. At the time involved, the District of Columbia Code made a loan at a rate exceeding eight percent (8%) to non-corporate borrowers usurious. D.C. Code, Title 28, sec. 3301. That prohibition was inapplicable to loans to corporations. D.C. Code, Title 29, sec. 904(h).
13. The partnership of Donohoe and Ourisman could not borrow the funds required to construct the office building under the loan commitment without raising usury problems.
14. Wisconsin-Jennifer, Inc. (the “Corporation”) was formed by Donohoe and Ourisman on February 5, 1970. * * *
15. AS&T advised Donohoe and Ourisman that it would be necessary for record title to the leasehold to be held by its borrower, here a corporation.
* * *
17. Immediate reconveyance of the leasehold to Associates after the construction loan closed on May 7, 1970, was believed by the parties not to be practical under the District of Columbia usury law because the loan called for periodic advances as construction proceeded. Each advance of funds in a construction loan is treated as a separate loan transaction; accordingly, it was necessary that title to the leasehold be in the name of the Corporation at the time of each advance. Moreover, reconveyance with each advance would have created what the parties believed to be a highly impractical situation in which it would have been necessary to assign and reassign the leasehold with each recurring advance of funds. * * *
Not unlike innumerable other businesses, petitioner's office building venture incurred losses in the initial years. Unlike many of those other businesses, however, petitioner's corporation could not maintain the requirements established by Congress as embodied in subchapter S of the Internal Revenue Code, which are necessary for a corporation to pass losses through to its shareholders. The corporation's receipt of “passive investment income,” i.e., rents, would soon effect a termination of any subchapter S election. Section 1372(e)(5) during the years in issue, now section 1362(d)(3); see Howell v. Commissioner, 57 T.C. 546, 556 (1972). But now petitioner and the majority have avoided the limitations established by Congress just as neatly as petitioner and his partner avoided the local usury laws.
The majority opinion (page 11) quotes from the United States Supreme Court opinion in Moline Properties, Inc. v. Commissioner, 319 U.S. 436, 438–439 (1943). The language quoted, it seems to me, when combined with the stipulated facts quoted above, compels the conclusion that petitioner's corporation was a separate taxable entity. The corporation was formed for a business purpose and served that purpose by taking and maintaining title to property. Other cases cited below confirm my conclusion. My main reason for dissent, however, is expressed in the portion of the Moline Properties opinion immediately following the portion quoted by the majority, to wit:
In Burnet v. Commonwealth Imp. Co., 287 U.S. 415, 53 S.Ct. 198, 77 L.Ed. 399, this Court appraised the relation between a corporation and its sole stockholder and held taxable to the corporation a profit on a sale to its stockholder. This was because the taxpayer had adopted the corporate form for purposes of his own. The choice of the advantages of incorporation to do business, it was held, required the acceptance of the tax disadvantages.
In National Carbide Corp. v. Commissioner, 336 U.S. 422 (1949), the Supreme Court stated that its opinion did “not foreclose a true corporate agent or trustee from handling the property and income of its owner-principal without being taxable therefor.” (336 U.S. at 437, majority opinion pages 13–14.) That language, regardless of whether the factors to be considered are six factors of equal weight or four factors and two essential criteria, does not compel a holding of agency in inappropriate circumstances. It anticipates cases where the corporation serves as agent for unrelated taxpayers as well as its shareholders, such as those cases cited by the majority opinion at page 15.
In Strong v. Commissioner, 66 T.C. 12, 24–26 (1976) (Court Reviewed), affd. 553 F.2d 94 (2d Cir. 1977), and cited with apparent reaffirmation by the majority (page 28), this Court stated:
In short, a corporate “straw” may be used to separate apparent from actual ownership of property, without incurring the tax consequences of an actual transfer; but to prevent evasion or abuse of the two-tiered tax structure, a taxpayer's claim that his controlled corporation should be disregarded will be closely scrutinized. If the corporation was intended to, or did in fact, act in its own name with respect to property, its ownership thereof will not be disregarded. [Emphasis added.]
* * *
Having set up a separate entity through which to conduct their affairs, petitioners must live with the tax consequences of that choice. Indeed, the very exigency which led to the use of the corporation serves to emphasize its separate existence. See Moline Properties v. Commissioner, 319 U.S. at 440; David F. Bolger, 59 T.C. at 766. Our conclusion is not based upon any failure of the petitioners to turn square corners with respondent; they consistently made clear their intention to prevent separate taxation of the corporation if legally possible. They took most precautions consistent with business exigency to achieve that end. We simply hold that their goal was not attainable in this case. [Fn. references omitted. Strong v. Commissioner, supra at 24–26.]
I agree with the dissent of Judge Nims in Roccaforte v. Commissioner, 77 T.C. 263, 291–293 (1981), revd. by the Fifth Circuit for reasons discussed in the majority opinion (pages 24–25), in which he stated that “there is no real substantive distinction between this case and Strong v. Commissioner” and:
In short, I would hold that these taxpayers cannot have it both ways: either the corporation must be recognized as a viable entity engaged in business, with all the tax benefits and burdens attendant thereupon, or its relationship with the partnership must be exposed as a transparent artifice, i.e., a sham, designed solely to thwart the law of [the local jurisdiction], an effort upon which this Court should seriously reflect before lending its support.
This Court has repeatedly said that its function is not to rewrite tax laws enacted by Congress. A fortiori, we should not decide cases as an accommodation to a perceived unfortunate effect of nontax oriented local laws. I see no reason to depart from the principles of those cases that hold that the taxpayer must take the chaff with the wheat, or, if you will, with the straw.