1975 U.S. Tax Ct. LEXIS 26">*26
In September 1968 petitioner-husband was transferred by his employer from New York to San Francisco. As a result of the transfer, petitioners sold their residence in Greenwich, Conn., at an adjusted sales price of $ 162,307. One week later they purchased a new residence in Belvedere, Calif., at a cost of $ 138,222. This new residence had been constructed by the vendor on land leased to him for 75 years, as was required by the terms of the lease. Pursuant to provision 5 in the lease, which proscribed any transfer or assignment of rights in the residence without an accompanying transfer or assignment of the lessee's leasehold interest, petitioners assumed this ground lease from the vendor-lessee for its remaining term of 73 years. They then included $ 29,148, the capitalized value of their future payments under the lease, when computing the cost of their new residence.
65 T.C. 378">*379 OPINION
Respondent determined a deficiency of $ 6,881 in petitioners' Federal income tax for the year 1968.
Petitioners have made one concession. At issue is whether the discounted present value of future lease payments should be included in computing petitioners' cost of purchasing their new residence for the purpose of applying the nonrecognition of gain provisions of
All of the facts are stipulated. The stipulation 1975 U.S. Tax Ct. LEXIS 26">*29 of facts and exhibits attached thereto are incorporated herein by this reference. The pertinent facts are summarized below.
Richard E. Boesel, Jr., and Virginia N. Boesel (herein called petitioners) are husband and wife whose legal residence was Belvedere, Calif., when they filed their petition in this proceeding. They filed their joint Federal income tax return for 1968 with the Internal Revenue Service Center at Ogden, Utah.
In September 1968, Richard E. Boesel, Jr., was transferred by his employer from its New York office to its San Francisco office. As a result of this transfer, the petitioners sold their residence located in Greenwich, Conn., on August 13, 1968, at an adjusted sales price of $ 162,307. Petitioners realized an estimated net gain of $ 103,589 on the sale of this residence, which was computed as follows:
Net sales price of Connecticut home | $ 163,589 |
Less: "Estimated" cost basis | (60,000) |
Gain | 103,589 |
65 T.C. 378">*380 On August 20, 1968, the petitioners purchased from H. Morgan Noble and Cherry K. Noble a dwelling for use as a personal residence in Belvedere, Calif. This dwelling, exclusive of the land upon which it is situated, will hereinafter be referred1975 U.S. Tax Ct. LEXIS 26">*30 to as "the new residence." In the escrow statement dated August 20, 1968, the purchase price of the new residence was computed as follows:
Purchase price | $ 132,000 | |
Title insurance policy | $ 645 | |
Notary fee, recording, | ||
and termite inspection | 35 | 680 |
Total cost | 132,680 | |
Less credit from broker | (1,500) | |
Net cost or purchase price | ||
of Belvedere home per escrow | ||
statement | 131,180 |
To the above purchase price the petitioners added improvement costs of $ 7,042 resulting in a total cost of $ 138,222 for the replacement residence in California.
The Belvedere residence is situated on land leased for $ 1,500 per year for a term of 75 years pursuant to a contract executed by and between West Shore Co., a partnership, lessor, and H. Morgan Noble and Cherry K. Noble, lessee, on February 26, 1965. Absent an extension of time granted for any of several express delays beyond the lessee's control, provision 5 2 of the lease required the lessee to commence and complete construction of a single family dwelling on the leased property within 48 months after the commencement of the lease term or suffer termination of the leasehold interest at the lessor's option. Although1975 U.S. Tax Ct. LEXIS 26">*31 this residence became the exclusive property in fee simple of H. Morgan and Cherry K. Noble after its timely construction, 65 T.C. 378">*381 it entered into a very close relationship with the leased land for the duration of the leasehold estate by virtue of three other unequivocal terms of the lease.
1975 U.S. Tax Ct. LEXIS 26">*32 The last sentence in provision 5 dictates that "No improvements on the leased land shall be transferred or assigned, except with the transfer or assignment of the whole of Lessee's interest under this lease." Thus, the owner in fee simple of the completed dwelling and the lessee of the land must have the same identity. In addition, provision 19 of the lease states in part that:
At any time within ninety (90) days prior to the expiration of this lease, on condition that Lessee shall not then be in default under any of the covenants and conditions hereof, Lessee shall have the right to remove all improvements from the leased land at the sole cost and expense of Lessee.
Provision 19 thereby insures that the dwelling required to be built as a condition of the lease term's continuance will not be separated from the land subject to the lease for the duration of the estate.
Further evidence of this intimate relationship is found in provision 8 3 which permits the lessee, upon the destruction of the dwelling, to either rebuild or terminate the lease, pay all outstanding liens and encumbrances, and clean up the land for return to the lessor. Regardless of which election is made, the1975 U.S. Tax Ct. LEXIS 26">*33 dwelling and land are treated alike. If the dwelling is either repaired or rebuilt, their coexistence continues; but if lessee elects to withdraw, the building and leasehold estate disappear. Neither may continue to exist in the other's absence.
1975 U.S. Tax Ct. LEXIS 26">*34 65 T.C. 378">*382 Pursuant to the mandate of provision 5, the original lessees, H. Morgan Noble and Cherry K. Noble, assigned their leasehold interest to petitioners and recorded that act in the County Recorder's Office, Marin County, Calif., on August 20, 1968.
The ground lease assumed by petitioners provides that they shall pay all taxes and assessments on the land during the lease term and that the land is to remain free from all mechanics' or materialmen's liens. Liability for harm to persons or property on the land accrues solely to the lessee. The lessee may encumber the property by mortgage, deed of trust, or other security instrument in order to build on the land subject to the lessor's primary title to the land. A security holder may, upon lessee's default, elect to take over the lessee's obligations. Assignment of rights by the lessee is permitted with the lessor's consent. Without such consent, however, any attempted assignment by the lessee, except by devise or by will, will result in termination of the lease at the lessor's option. Nonetheless the lessee has an unrestricted right to lease the land in conjunction with any lease of improvements thereon. A security deposit1975 U.S. Tax Ct. LEXIS 26">*35 of $ 1,500 was made, to be repaid upon termination of the lease or retained as the last year's "rent." If the leased land is taken by eminent domain, the lease terminates and any award is to be divided between the lessor (for land value) and the lessee (for value of improvements thereon). Improvements remaining on the land at the expiration of the lease term become the property of the lessor without compensation. Default by the lessee empowers the lessor to end the leasehold, or relet the land and lease, or sell the improvements for the lessee's account. Arbitration over disputes is available to both parties.
When computing the nonrecognized gain on the sale of the Connecticut residence, petitioners added to the $ 138,222 cost of the replacement residence in Belvedere the amount of $ 29,148, which purported to represent the discounted present value in 1968 of the future payments on a remaining 73-year lease at $ 1,500 per year. As a result, they reported no gain on the sale of the Connecticut residence on their 1968 Federal income tax return.
In his notice of deficiency dated December 15, 1972, respondent determined that petitioners realized a long-term capital gain of $ 25,3671975 U.S. Tax Ct. LEXIS 26">*36 on the sale of their personal residence in Greenwich, Conn., for the following reasons:
65 T.C. 378">*383 Since the present value of lease payments for land on which the new residence is located does not represent a liability on property acquired and since the present value of lease payments does not measure the amount of indebtedness attached to the interest in the property acquired, such present value cannot be included as part of the purchase price. * * *
Petitioners contend that a lease with an unexpired term of 73 years is the economic equivalent of a fee in such property. Such equivalency is recognized under other sections of the Code, e.g.,
Petitioners urge that the cost basis of property equals initial outlay plus any liabilities1975 U.S. Tax Ct. LEXIS 26">*37 assumed to protect the investment. Thus, they claim to have made an investment in excess of $ 138,000 to acquire a residence and incurred an additional liability in the amount of the present value of the lease payments to protect their investment. Their argument is founded on the fact that if they fail to make these lease payments, the lessor has the right under their lease to remove them from the premises and thus deprive them of their $ 138,222 investment.
Petitioners equate their obligation to make future lease payments with any other debt payable in installments, e.g., a mortgage, whereby continued payments are required to retain the underlying asset. In signing the lease, petitioners allegedly assumed the liability to make periodic lease payments in order to protect their investment in both the land and the building, which together constituted their new residence. They assert that in liberalizing the treatment previously accorded the taxation of gains from the sale of personal residences, Congress obviously intended that the purchase price of a replacement residence would include the supporting "real estate." Moreover, it is urged that the term "real estate" is often used1975 U.S. Tax Ct. LEXIS 26">*38 in a broad sense to mean any estate in land, whether freehold or less than freehold, including such interests as leaseholds. Petitioners claim they have an "equity" in the land measured by the fair market value of the land, less the present value of future lease payments and 65 T.C. 378">*384 the value of the lessor's reversionary interest at the end of the leasehold term. By contrast, their equity in the building is more easily measured by the value of their cash outlay plus the value of the mortgage. The present 1968 value of their obligation to make future lease payments is considered, therefore, an indebtedness which constituted part of the total consideration for their purchase. Though differing in form, they assert that the leasehold contract is financially equivalent to the indebtedness represented by the mortgage loan promissory note which they concurrently signed. In sum, the petitioners argue that the cash outlay, the value of the mortgage promissory note, and the contract value of the leasehold obligation added together represent their true economic cost of purchasing the new residence.
Respondent contends that nonrecognition treatment is improper here because the petitioners1975 U.S. Tax Ct. LEXIS 26">*39 did not purchase any land and did not at any time gain an equity in any land. Predicating his argument on the silence found in
65 T.C. 378">*385 It is respondent's position that
1975 U.S. Tax Ct. LEXIS 26">*43 Prior to the enactment of
Upon review of the relevant authorities, we fail to find even tacit approval for the theory advanced by petitioners. Transcending these precedents is an unequivocal mandate that
In
This Court subsequently found in two separate Memorandum Opinions that a taxpayer's failure to become the purchaser of record of a new residence within the time constraints imposed by
Nonrecognition of gain treatment most recently was denied in
Respondent's stance on this matter is contained in
Embodied within the statutory language and authorities set forth above requiring continuity of record title as a precondition to nonrecognition of gain under
Notwithstanding their failure to obtain title to the new land, petitioners contend that in "economic reality" a leasehold of the duration in issue is the practical equivalent of ownership1975 U.S. Tax Ct. LEXIS 26">*49 in fee simple and would have us grant nonrecognition relief on that basis. Moreover, they view the regulations issued under
Petitioners' reliance on
Petitioners assert that Congress clearly intended to include supporting real estate, however obtained, as part of the purchase price of a replacement 1975 U.S. Tax Ct. LEXIS 26">*53 residence. Drawing upon our opinions in
65 T.C. 378">*391 Since our decision is consistent with the position assumed by respondent in
To reflect this conclusion and the concession of another issue,
1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩
2. 5.
3. 8.
4. The operative provisions of
(a) Nonrecognition of Gain. -- If property (in this section called "old residence") used by the taxpayer as his principal residence is sold by him after December 31, 1953, and, within a period beginning 1 year before the date of such sale and ending 1 year after such date, property (in this section called "new residence") is purchased and used by the taxpayer as his principal residence, gain (if any) from such sale shall be recognized only to the extent that the taxpayer's adjusted sales price (as defined in subsection (b)) of the old residence exceeds the taxpayer's cost of purchasing the new residence.↩
5. By use of the term "fee simple" we do not foreclose the possibility that certain other forms of ownership which are considered the equivalent thereof for tax purposes may not also qualify. See sec. 1055 which concerns redeemable ground rents; see also
6. The taxpayers also failed to show that the new residence was occupied as their principal residence within the requisite time period.↩
7. Congress has granted limited nonrecognition relief to electing taxpayers who have "attained the age of 65 before the date of such sale" and do not reinvest the entire amount realized.
8. In
9. Nonrecognition relief was extended to a taxpayer who purchased new land, moved his dwelling to it, and sold the land upon which the dwelling originally was located in