1940 BTA LEXIS 945">*945 Petitioner purchased real estate subject to delinquent tax assessments. It did not assume liability for the delinquent taxes and was under no personal obligation to pay them. Held, that the petitioner derived no taxable gain from payment of the tax claim with municipal bonds at face value which it acquired for that purpose at a large discount.
42 B.T.A. 759">*759 This proceeding involves an income tax deficiency of $1,995.19 and an excess profits tax deficiency of $558.25 for 1935. The only question in issue is whether the petitioner derived a taxable gain from the payment of taxes which were assessed against and a lien upon certain real estate at the time of its acquisition by the petitioner, with bonds and matured coupons which it purchased for that purpose at a discount.
FINDINGS OF FACT.
The petitioner is a corporation, engaged in operating the Astoria Hotel, Astoria, Oregon. The corporation owning and operating the hotel was unable to pay interest upon its bonds. The bondholders, through a committee, foreclosed1940 BTA LEXIS 945">*946 its lien against the property and took title thereto. The bondholders' committee then organized the Columbia-Astoria Co. and transferred their title to the property to the new company. The new company was unable to operate at a profit. Delinquent taxes had been assessed against and were liens upon the property. The petitioner acquired the hotel property on November 29, 1932, by purchase from the Columbia-Astoria Co. The purchase price to the petitioner was $2,000 cash, five $1,000 bonds of the Pacific Power & Light Co., and three promissory notes in the aggregate face amount of $9,000, payable over an 18-month period. Petitioner executed a chattel mortgage on the hotel furniture as part of the purchase price, but no mortgage or trust was given on the real estate.
At the time the petitioner purchased the property there were delinquent taxes thereon which had been assessed by the county of Clatsop, the city of Astoria, and the Port of Astoria in the total amount of $60,496.08. On November 29, 1932, and for a number of years prior thereto, Austin Osburn was the manager of the hotel. He was instrumental in the organization of the petitioner corporation. 42 B.T.A. 759">*760 He negotiated1940 BTA LEXIS 945">*947 with the Columbia-Astoria Co. for the purchase of that company's interest in the hotel. He knew of the delinquent taxes, which had become a lien upon the hotel property, and knew that the property would be sold for the taxes unless they were paid off. He also knew that the Columbia-Astoria Co. was not in a position to pay the taxes. Due consideration to these facts was given by the parties in arriving at the purchase price. The property had cost originally over $560,000. The petitioner did not contract with the Columbia-Astoria Co. to pay the delinquent taxes. No mention of the delinquent taxes was made in the purchase agreement or in the deed of conveyance. The deed was without covenants of any nature.
In 1932 a large portion of the property located in Astoria was subject to delinquent tax assessments and foreclosure sale. Prior to the date of purchase of the hotel property by the petitioner authorization had been granted by the city of Astoria for the payment of street improvement assessments with city bonds and coupons at face value. There was considerable agitation at the time for permitting the payment of delinquent general and personal property taxes together with1940 BTA LEXIS 945">*948 interest which had been levied by the city of Astoria and the Port of Astoria in the same manner, which was done prior to 1935.
During 1935 the petitioner purchased at a cost of $4,212.60 city of Astoria bonds and coupons of a face value of $14,417.93, and at a cost of $2,306.44 Port of Astoria bonds and coupons of a par value of $4,425. It purchased these bonds and coupons for the specific purpose of paying off the delinquent city and port taxes. During 1935 it turned over to the city of Astoria and the Port of Astoria $16,437.82 face value of the bonds and coupons of those taxing authorities in payment of $16,437.82 delinquent taxes and accrued interest. The cost to the petitioner of the $16,437.82 face value of bonds and coupons was $5,686.95. The taxes and interest thus liquidated are described as follows:
| City of Astoria general property taxes | $11,052.00 |
| City of Astoria property taxes, plus interest | 445.64 |
| Port of Astoria taxes, plus interest | 4,940.18 |
| Total | $16,437.82 |
The personal property taxes in the amount of $445.64 included $31.73 for interest, and the Port of Astoria taxes in the amount of $4,940.18 included $765.38 interest. The balance1940 BTA LEXIS 945">*949 of the $18,842.93 of bonds and matured coupons purchased by the petitioner in 1935, amounting to $2,605.21 face value, was held by the petitioner for payment of taxes in the following year:
42 B.T.A. 759">*761 The petitioner did not report any gain in its income tax return for 1935 from the acquisition of the bonds and matured coupons of the city of Astoria and the Port of Astoria and the payment of taxes therewith as set forth above. The respondent has determined, however, that the petitioner realized a gain from the transactions of $12,323.89, which he designates in his deficiency notice as "profit on sale of bonds." The stated amount of $12,323.89 is the difference between the face value of the bonds and coupons acquired by the petitioner in 1935 and the cost of all of the bonds acquired by it during the year. Since the proof shows that only $16,437.82 of the $18,842.93 of bonds and coupons purchased were disposed of by the petitioner in 1935, the respondent admits that the only profit on the sale of the bonds and coupons in 1935 was the difference between $16,437.82 and the cost of those bonds, which, upon a percentage basis, was $5,686.95.
OPINION.
SMITH: Petitioner's contentions1940 BTA LEXIS 945">*950 in this proceeding are that it realized no taxable gain from the payment of $16,437.82 delinquent taxes and interest, which constituted a lien upon its property, with $16,437.82 face value of bonds and matured coupons of the city of Astoria and the Port of Astoria, except the gain on the payment of $445.64 personal property taxes and interest. This admission as to tax liability in respect of payment of the personal property taxes is based upon the theory that the personal property taxes were assessed against and were a personal liability of the petitioner. It submits that the total taxable income from this transaction was not more than $334.23 or 75 percent of the face value of the bonds and coupons utilized in paying personal property taxes and interest.
Petitioner's argument is that the delinquent general property taxes which were a lien upon the hotel property were not assumed by the petitioner; that under the Oregon laws delinquent taxes were obligations of the prior owner and not of the petitioner; and that the fact that they were a lien upon the taxpayer's property did not make them an obligation of the petitioner.
The respondent argues that the income taxes in the amount1940 BTA LEXIS 945">*951 of $60,496.08 were a lien upon the petitioner's property and necessarily payable by it; and that, when the petitioner acquired the municipal bonds and matured coupons at a large discount, and disposed of a portion of them in 1935 in settlement of $15,992.18 of delinquent real property taxes and interest which would otherwise have had to be paid in cash, it realized a taxable gain of the difference between the par value of the bonds and matured coupons so used and the cost 42 B.T.A. 759">*762 thereof. The respondent's argument is predicated on section 22 of the Revenue Act of 1934, which provides in material part as follows:
(a) GENERAL DEFINITION. - "Gross income" includes gains, profits, and income derived from * * * sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from * * * the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever. * * *
The petitioner does not contend that it would not be taxable upon the gain, as contended by the respondent, if it had had a personal liability for the payment of the general property taxes which had1940 BTA LEXIS 945">*952 become a lien upon the hotel property at the time of its acquisition. Its contention is, however, that it had no such personal liability for the reason that the taxes were owed by its vendor and were not assumed by the petitioner.
In , the taxpayer was held to have realized a taxable gain represented by the difference between the amount of money which it had borrowed upon its bonds and the price at which the bonds were redeemed. There was no question in that case but that the petitioner had realized a taxable gain upon a purely business transaction.
In , the Supreme Court held that where a taxpayer purchased property and assumed the payment of bonds secured by the property purchased the difference between the face value of those bonds and the amount paid in redemption of them was taxable gain.
In our opinion the principles laid down by the Supreme Court in the cases cited are not applicable in this proceeding; for here the petitioner did not assume the payment of the delinquent taxes, although it was necessary for it to pay them in order to1940 BTA LEXIS 945">*953 prevent the property being sold for taxes.
In , the court said:
When one purchases land which is subject to a lien for taxes, the subsequent payment of those taxes by the purchaser does not constitute an allowable deduction from gross income, for the reason that the taxes accrued while the land was in other ownership and the payment of them is merely a payment of a part of the cost of acquiring the property.
Numerous cases are cited by the court in support of that proposition.
When the petitioner purchased the hotel property in 1932 it acquired only such title as the vendor had in the property. For such title petitioner paid approximately $16,000. Its cost basis for the property was only the amount which it had paid to its vendor. If it had sold the property with such title as it then held the basis for the computation of gain would be only approximately $16,000. If it had paid $60,496.08 cash in liquidation of the delinquent taxes such payment would be a capital transaction which would have 42 B.T.A. 759">*763 increased the petitioner's cost basis for the property from approximately $16,000 to approximately1940 BTA LEXIS 945">*954 $76,496.08.
By statutory enactment (§ 69-709 Oregon Code, 1930, as amended by chapter 324, Oregon Laws, 1933, p. 501, entitled "An Act to Amend Section 69-709, Oregon Code, 1930, Relating to the Payment of Taxes, and Repealing of Inconsistent Acts and Declaring an Emergency"), the tax collector was authorized and required to accept the bonds of the municipality levying the taxes at their par value, in "payment" and satisfaction of the accrued taxes here in controversy in like manner and on the same basis as gold and silver coin of the United States. We see, therefore, that the petitioner in 1935 had an option of paying the delinquent real property taxes here in question either in cash or by purchasing bonds and matured coupons of the municipality and turning them in at face value to the tax collector in payment of such delinquent taxes. In reality the actual cost to the petitioner of the hotel property was the amount which it had paid to its vendor (approximately $16,000) plus the amount which it invested in bonds and matured coupons for the payment of delinquent taxes.
1940 BTA LEXIS 945">*955 , involved the question of the realization of gain from the satisfaction of a real estate mortgage indebtedness which the taxpayer had taken over from a predecessor partnership at less than the face amount thereof. The taxpayer had expressly assumed liability for the mortgage debt when it acquired property from the partnership. At the time of the satisfaction of the indebtedness the taxpayer was solvent and the real estate had a value in excess of the mortgage. We held that the taxpayer realized a taxable gain to the extent of the difference between the face amount of the indebtedness and the amount paid in satisfaction thereof. In our opinion we said:
* * * From an examination of these cases [; ; ; ; certiorari denied, ; 1940 BTA LEXIS 945">*956 , and other cases] the present state of authority seems to be that where a solvent debtor is under direct obligation to make payments for physical property purchased by him or by his assignor, which is still held by him, and satisfies this obligation by paying less than the amounts called for by the obligation, the property continuing to be of a value sufficient to pay the indebtedness, the transaction will result in taxable income to the debtor in the amount by which the face value of the obligation exceeds the amount paid by him for its satisfaction. * * *
* * *
The cases cited by petitioner having to do with similar transactions, in which the debtor is insolvent or in which the debt involved is a mere lien on the property sold and not a personal, direct obligation of the taxpayer, are not pertinent except to give examples of the limitations contained in our statement of the general rule applicable to the instant case, supra.
42 B.T.A. 759">*764 In , the taxpayer purchased the assets of another corporation and as part of the purchase price assumed certain liabilities of1940 BTA LEXIS 945">*957 the vendor corporation other than its bonded indebtedness. Thereafter, it purchased the vendor's outstanding bonds for less than par value. We held that the purchase of these bonds did not result in taxable income. Our opinion in that case was reversed in part by the , but not upon the point above stated.
In , we held that, where property was purchased subject to a mortgage which the purchaser did not assume and the mortgage was later satisfied by payment of an amount of less than its face value, the amount so paid constituted an addition to the cost of the property. We said in our opinion that:
Here the petitioner, instead of assuming the mortgage, bought the property subject to it, and by making the purchase on such terms incurred no personal liability for the debt. Accordingly, payment of the mortgage did not result in the liquidation of a personal debt. By it the petitioner merely satisfied an encumbrance on property in which it had an equity and there was no release of assets "previously offset by the obligation" of the notes1940 BTA LEXIS 945">*958 or bonds evidencing the debt secured by the mortgage.
In , a reclamation district assessment on land was paid off, at face value, with the reclamation district's bonds purchased at a discount. The assessment constituted a lien against the land but was not a personal liability of the owner. We held that the transaction did not result in taxable gain. Cf. .
In our opinion petitioner did not acquire a taxable gain by the payment of delinquent taxes in 1935 in bonds of the city of Astoria and the Port of Astoria which it had acquired for that purpose in 1935 at a large discount. The cost of the bonds so applied simply represented an additional investment by the petitioner in the hotel property. It was a capital transaction and is to be treated just as though the amount paid by the petitioner for the bonds had been paid directly to the tax collector in settlement of the delinquent real property taxes.
The petitioner acknowledges that it derived a taxable profit of $334.23 through the application of the municipal bonds and matured1940 BTA LEXIS 945">*959 coupons in the payment of its personal property taxes in the amount of $445.65, including interest. The net income of the petitioner will be recomputed accordingly.
Reviewed by the Board.
Decision will be entered under Rule 50.