1987 U.S. Tax Ct. LEXIS 174">*174
Ps (individuals and their wholly owned corporation) sold real estate and a day-care center and nursery school business in 1979 for $ 175,000, receiving $ 10,000 of the sales price that year. Ps did not report the sale or the receipt of the $ 10,000 on their 1979 individual or corporate returns. On their 1980 returns, Ps reported the sale (reporting only the balance of $ 165,000) as a closed transaction that year. After audit, Ps filed amended 1979 returns, reporting the full sales price of $ 175,000 and attempting to elect the installment method of reporting their gain.
89 T.C. 1177">*1177 Respondent determined deficiencies in petitioners' respective individual and corporate Federal income tax as follows:
Taxpayer | Year | Deficiency |
Joseph H. Gibson and | ||
Gloria I. Gibson | 1979 | $ 10,524.87 |
1980 | 42.00 | |
ABC, Inc. | 1979 | 5,965.62 |
1980 | 172.72 |
89 T.C. 1177">*1178 After concessions the issues for decision are (1) whether the "binding election" rule of
FINDINGS OF FACT
Some of the facts have been stipulated and are so found. The stipulation of facts, supplemental stipulation of facts, and exhibits attached thereto are incorporated herein by this reference.
Petitioners in this joint case are Joseph H. Gibson and Gloria I. Gibson and ABC, Inc. Petitioners Joseph H. Gibson and Gloria I. Gibson (the Gibsons) are individuals who resided in Detroit, Michigan, at the time the petition was filed. Petitioner ABC, Inc. (ABC or the corporation), was the Gibsons' wholly owned corporation, and at the time the petition was filed had its principal office at the Gibsons' residence in Detroit, Michigan. The Gibsons were the officers of the corporation as well as the sole shareholders. Both the individual petitioners1987 U.S. Tax Ct. LEXIS 174">*177 and the corporation filed their tax returns on the calendar year basis and used the cash method of accounting.
On October 10, 1969, the Gibsons purchased the land and building located at 19220-19222 Conant Avenue, Detroit, Michigan, for $ 18,000. On June 24, 1975, petitioner Joseph H. Gibson purchased the land located at 19228 Conant in Detroit, Michigan, for $ 5,500. These properties collectively will be referred to herein as the Conant property.
In 1972, ABC was formed to operate a day-care center and nursery school located on the Conant property. Pursuant to 89 T.C. 1177">*1179 an informal oral agreement, ABC leased the Conant property from the Gibsons. There was no written lease, and the record does not establish the terms of the oral agreement. Between 1972 and 1979, ABC made substantial permanent improvements to the Conant property, such as repairing a wall and a fence, renovating the kitchen, and adding a bathroom. 2 These permanent improvements were designed to bring the property into compliance with local zoning code requirements for a day-care center and nursery school.
1987 U.S. Tax Ct. LEXIS 174">*178 On December 23, 1979, the Gibsons executed a land sales contract in ABC's name, selling the Conant property and the day-care center and nursery school business to Casanova Hudson (Hudson). 3 The total purchase price was $ 175,000, calling for $ 10,000 down in 1979 and the remaining $ 165,000 to be paid in installments over a 2-year period ending in December of 1981. The parties agree that the value of the Conant property (including the improvements) at the time of sale was $ 81,500. The balance of the purchase price ($ 93,500) is allocable to the intangible assets (goodwill and going-concern value) of the day-care center and nursery school business. 4
1987 U.S. Tax Ct. LEXIS 174">*179 Neither the individual petitioners nor the corporate petitioner reported the sale of the Conant property and day-care and nursery school business, or their receipt of the $ 10,000 from that sale, on their original 1979 Federal income tax returns. Instead, on their 1980 returns, petitioners reported the sale on the completed or closed-transaction basis, allocating the purchase price between the corporation and the individuals, as follows: 89 T.C. 1177">*1180
Gibsons | ABC | Total | |
Purchase price | $ 97,380 | $ 67,500.00 | 1 $ 164,880.00 |
Adjusted basis | 80,000 | 2 34,133.85 | 114,133.85 |
Net gain (before sec. 1202 | |||
deduction) | 17,380 | 33,366.15 | 50,746.15 |
The record does not explain why petitioners reported a purchase price that was $ 10,120 less than the actual purchase price.
Margaret W. DeBusschere (Mrs. DeBusschere) 1987 U.S. Tax Ct. LEXIS 174">*180 and her husband had for many years operated a bookkeeping, accounting, and tax-preparation business. Mrs. DeBusschere had no specialized training in accounting or tax law, and had learned the business on the job. Mrs. DeBusschere had performed bookkeeping and accounting services for ABC from the time it was formed in 1972, including the preparation of ABC's Federal corporate income tax returns. She had also prepared the corporate returns for another corporation that Mr. Gibson controlled. Mrs. DeBusschere prepared the original 1979 and 1980 returns for both the Gibsons and the corporation.
Mrs. DeBusschere was vaguely aware that petitioners' sale of the Conant property and the day-care center and nursery school business had occurred before the end of 1979. However, Mr. Gibson told her that the purchaser (Hudson) had not taken possession of the property or taken over the business until 1980, and thus, the sale should not be reported until 1980. Mrs. DeBusschere felt that the question was borderline but did as Mr. Gibson told her and reported the sale on petitioners' 1980 returns. Mrs. DeBusschere did not know the terms of the agreement between petitioners and Hudson. She never1987 U.S. Tax Ct. LEXIS 174">*181 saw the purchase contract, nor any other documentation in regard to the sale, and the figures she used in reporting the sale on the 1980 individual and corporate returns were figures given to her by Mr. Gibson. 5 Those figures understated the sales price 89 T.C. 1177">*1181 by $ 10,120 and overstated the basis by some $ 71,000.
In 1981, Hudson defaulted on the purchase contract, and petitioners successfully sued to regain possession of the Conant property. At the time of the trial, the Gibsons still owned the Conant property (and the improvements) and were trying to sell it; the day-care center and nursery school business had1987 U.S. Tax Ct. LEXIS 174">*182 been discontinued; ABC had become inactive, and there was a question as to whether ABC's corporate existence had been terminated.
On June 29, 1982, after respondent had completed his audit of petitioners' 1979 and 1980 taxable years, petitioners filed amended individual and corporate returns for 1979, reporting the sale of the Conant property and the day-care center and nursery school business in that year, and allocating the total purchase price between the individual and corporate taxpayers, as follows:
Gibsons | ABC | Total | |
Purchase price | $ 23,961 | $ 151,039.00 | $ 175,000.00 |
Adjusted basis | 10,620 | 26,947.31 | 37,561.31 |
Net gain (before sec. 1202 | |||
deduction) | 13,341 | 124,091.69 | 137,432.69 |
In allocating the total sales price of $ 175,000 and basis between the individual taxpayers and the corporate taxpayer, these amended returns allocated the land and building to the Gibsons and allocated all of the improvements to the realty, and all of the intangible assets (goodwill and going-concern value) of the business to the corporation. The allocation of the purchase price is still in dispute in this case, but the parties have now agreed on the correct cost, depreciation, 1987 U.S. Tax Ct. LEXIS 174">*183 and adjusted basis figures. 6 In these amended returns, petitioners sought to elect to report the gain from the sale on the installment method under
In his two statutory notices to the individual and corporate petitioners, dated March 28, 1983, respondent determined that the sale occurred in 1979. Respondent allocated $ 81,500 of the purchase price to the Gibsons, reflecting the correct1987 U.S. Tax Ct. LEXIS 174">*184 value of the Conant property (including the improvements) at the time of sale. Respondent allocated the remaining $ 93,500 of the purchase price to ABC for the intangible assets of the day-care and nursery school business. Respondent included all of petitioners' respective gains in 1979, disallowing their use of the installment method claimed in their amended 1979 returns on the ground that petitioners had irrevocably elected on their 1980 returns not to report the sale on the installment method. Respondent's other determinations put at issue in the joint petition have either been resolved by the parties' stipulations or are computational, derivative of our resolution of the two issues for decision.
OPINION
As in effect at the time petitioners sold the Conant property and the day-care and nursery school business in 1979,
1987 U.S. Tax Ct. LEXIS 174">*187 89 T.C. 1177">*1184 The issue of how or when a valid election of the installment method may be made has been litigated frequently, involving not only
The lead case on the "binding election" rule is
In applying the "binding election" rule set forth by the Supreme Court in
Much of the litigation in this area grew out of respondent's initial administrative position that election of the installment method had to be made on a
In another line of cases, which we have dubbed category (3) cases, the transaction was reported in some fashion on the return for the year of sale. However, in almost every instance, the legal effect of the transaction had been erroneously characterized as something other than a sale, so that the taxpayer in effect neither made nor had occasion to make a choice as to recognition of gain or the method of reporting the gain from the sale. In some cases, the taxpayer erroneously believed the gain from the sale of a principal residence was not recognizable and could be deferred under section 1034.
We frequently cite the above cases for the proposition that they allow "a taxpayer to elect the installment method subsequent to filing his tax return for the year of sale when the taxpayer's original choice of reporting income from the sale is an impermissible method."
Only one case in this category (3) group strictly involves a choice between different methods of reporting the gain from an admitted sales transaction.
The parties have not cited and we have not found any case with facts akin to those of the present case. Here, there is no question about the legal characterization of the transaction -- it was a sale of the land and business in 1979 for $ 175,000. Petitioners received a payment of $ 10,000 in 1979. Petitioners filed timely tax returns1987 U.S. Tax Ct. LEXIS 174">*196 for the year of the sale but they reported neither the sale nor their receipt of $ 10,000 that year. On their 1980 returns they reported the 89 T.C. 1177">*1188 balance of the sales price ($ 165,000), and reported the sale as a completed or closed transaction that year. The closed-transaction method is a proper method of reporting the gain from the sale, even though the payments of the purchase price were to be made over a 2-year period. The closed-transaction method is inconsistent with the installment method. Accordingly, on these facts respondent says the "binding election" rule of
After the audit, petitioners filed amended returns for the year of sale and attempted to elect the installment method for reporting the gain on their sale. Petitioners do not come within the holdings in the category (2) cases that an election can be made by filing amended returns for the year of sale (1) where no payment was received in the year of sale, and (2) where there has been no prior election of any inconsistent method of reporting the income. 1987 U.S. Tax Ct. LEXIS 174">*197 Petitioners fail on both counts. Thus, petitioners concentrate on the category (3) cases, arguing that they are not bound by their election of the closed-transaction method because it was an impermissible method; impermissible, they say, because the election was made in the wrong year, in 1980 rather than in 1979, the year of the sale. However, the method itself was proper. What we must decide is whether petitioners' error as to the year renders an otherwise proper method "impermissible" so as to relieve them from their election.
Here, the legal effect of the transaction was never erroneously characterized by petitioners. It was a sale and was always viewed by petitioners as a sale. Thus, most of the "impermissible method" cases are distinguishable for that reason. Whereas the taxpayers in those cases had not had an opportunity to choose a reporting method, petitioners here had the opportunity and made a choice of an available, proper method. Even in
While we have not found any cases exactly on point, we have found cases with parallel situations whose reasoning supports our conclusion. One line of such cases involves the taxpayer's choice of method for depreciation. In those cases, a distinction is drawn between an error in the choice of method and an error in the choice of year.
If a taxpayer1987 U.S. Tax Ct. LEXIS 174">*199 tries to select an impermissible method of computing depreciation, he will not be bound by his choice.
In
In
If subsequent use will make a tentative election binding, we see no reason not to impute an election made in a year after the first year the property could properly be depreciated to the appropriate year where the taxpayer has inadvertently made an election in the wrong year. In either case, the taxpayer has had his opportunity to make his choice. It is the taxpayer's choice of year that is in error, not his choice of method. * * * [
Accordingly, we concluded that the taxpayer was bound1987 U.S. Tax Ct. LEXIS 174">*202 by his choice of the straight-line method.
Another analogous case of an error in choice of year, not in choice of method, is
Here, too, petitioners have selected a proper method of reporting the gain from their sale, the closed-transaction method. Here, too, petitioners have no legal opportunity to choose between reporting1987 U.S. Tax Ct. LEXIS 174">*203 the sale in 1979 or 1980. Contrary to their argument, they have not selected an impermissible method. They have merely misapplied the proper method they selected by reporting the income in the wrong year. That error in their application of the acceptable method must be corrected as it was in
The parties seem to agree that at least $ 93,500 of the purchase price is allocable to ABC, representing the goodwill and going-concern value of the day-care center and nursery school business. The remaining dispute is over the allocation between the Gibsons and ABC of the remaining $ 81,500, 1987 U.S. Tax Ct. LEXIS 174">*204 representing the real property and improvements. Respondent determined that the entire $ 81,500 was allocable to the Gibsons as owners of the real estate. Petitioners argue that the portion allocable to the improvements, which they calculate to be $ 57,539, is taxable to the 89 T.C. 1177">*1192 lessee, ABC, not to the Gibsons. 12 On the factual record before us, we cannot accept petitioners' argument.
While it is not clear whether ABC or the Gibsons actually paid for these improvements, we will assume for purposes of our discussion that ABC, as lessee, paid for them. Generally, a lessee's permanent, unremovable improvements to leased realty revert to the lessor upon termination of the lease, and, absent agreement to the contrary, the lessor is not obligated to pay the lessee for the value of the improvements. 13 See
To reflect the parties' concessions and the foregoing,
1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954 as amended and in effect during the taxable years in question, and all "Rule" references are to the Tax Court Rules of Practice and Procedure.↩
2. It is not entirely clear whether the Gibsons or the corporation paid for the improvements. The record indicates that the mortgage on the Conant property was increased by $ 6,000 in 1975, the year Mr. Gibson purchased 19228 Conant, and by $ 62,500 in 1976. The stated purpose of the mortgage loan was construction, which suggests that this may have been the source of funds for the improvements to the Conant property.↩
3. While the parties discuss somewhat inconclusively the fact that the land contract was in the name of ABC, we need not address the effect, if any, of such fact. There is no dispute that the sales proceeds must be allocated between the individuals and their corporation, and that the sale occurred in 1979.↩
4. See
1. This composite figure was described in the returns as the gross sales price minus sale expenses.↩
2. This was described in the corporate return as a cost of $ 55,129.88, less depreciation of $ 20,996.03.↩
5. The testimony of Mr. Gibson and Mrs. DeBusschere was in sharp conflict on the matter of the preparation of the original 1979 and 1980 individual and corporate returns. Based upon the Court's observation of the demeanor of both witnesses and a careful consideration of their testimony as a whole, the Court found Mrs. DeBusschere to be more credible and has generally adopted her version of the events.↩
6. Those agreed figures are as follows:
Petitioner | Cost | Depreciation | Adjusted basis |
Joseph H. and Gloria I. Gibson | $ 23,500.00 | $ 7,380.00 | $ 16,120.00 |
ABC, Inc. | 49,846.69 | 22,899.38 | 26,947.31 |
Total | 73,346.69 | 30,279.38 | 43,067.31 |
7.
(1) General rule. -- Income from -- (A) a sale or other disposition of real property, or (B) a casual sale or other casual disposition of personal property (other than property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year) for a price exceeding $ 1,000, (2) Limitation. -- Paragraph (1) shall apply only if in the taxable year of the sale or other disposition -- (A) there are no payments, or (B) the payments (exclusive of evidences of indebtedness of the purchaser) do not exceed 30 percent of the selling price.
Sec. 2(a) of the Installment Sales Revision Act of 1980, Pub. L. 96-471, made extensive changes to
8.
(b)
The validity of this regulation has been upheld.
2. Those cases where election of the installment method was made on an amended return for the year of sale not barred by the statute of limitations or the operation of any other law or rule of law,
3. Those cases where the election had been made on a delinquent return for the year of sale. [
Possibly, the problem in
9. In that Court-reviewed opinion, we indicated that we would follow the principle announced by the Fifth Circuit in
10. See also
11. Any appeal in the present case would lie to the U.S. Court of Appeals for the Sixth Circuit. Because of the factual differences between the present case and
12. Petitioners presented no evidence to establish the proper allocation of the $ 81,500 between the realty and the improvements. Rule 142(a).↩
13. A lessee may be able to deduct any unamortized balance of the costs of leasehold improvements in the year the lease is terminated. See