N. W. Ayer & Son, Inc. v. Commissioner

N. W. Ayer & Son, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent N. W. Ayer & Son, Inc. v. Commissioner Docket No. 27936 United States Tax Court 17 T.C. 631; 1951 U.S. Tax Ct. LEXIS 64; October 9, 1951, Promulgated *64 Decision will be entered under Rule 50. A partnership purchased land plus buildings in 1920 with the intent to demolish the buildings and erect a modern office building on the site. This intent was subsequently abandoned. In 1929, the partnership transferred the land and buildings to petitioner in a tax-free exchange. In 1933 the buildings were demolished. The land was sold in 1946. Held, for purposes of determining gain or loss on the sale of such land in 1946, the basis thereof was the purchase price paid for the property in 1920 less the allowed depreciation. John F. Thaete, Esq., for the petitioner. Maurice*65 S. Bush, Esq., for the respondent. Rice, Judge. RICE *632 The Commissioner determined a deficiency in income tax for the taxable year 1946 in the amount of $ 12,599.04. The sole issue with which we are concerned is whether the basis of real property involved in this proceeding is $ 80,500 as determined in the deficiency notice, or $ 138,276.23 as contended by petitioner. Some of the facts were stipulated. FINDINGS OF FACT. The stipulated facts are so found and are incorporated herein. Petitioner is a Delaware corporation, incorporated April 24, 1929, and has its principal office and place of business in Philadelphia, Pennsylvania. Its income tax return for the year 1946 was filed with the collector of internal revenue for the first district of Pennsylvania at Philadelphia, Pennsylvania. Its books are kept and its returns filed on the accrual basis. Petitioner has been engaged in the advertising business from the date of its incorporation to the present time. Prior to the incorporation of petitioner, the business was conducted by a partnership under the name of N. W. Ayer & Son (hereinafter referred to as the Partnership). The parties agree that transfer of the Partnership*66 to the corporation was a tax-free exchange. Prior to 1920 the Partnership leased building space in an 8-story building in Philadelphia. They occupied the sixth, seventh, and eighth floors and part of the second floor of this building. The business was growing and their quarters were becoming cramped and inadequate. In 1920 the Partnership purchased property in Philadelphia which was adjacent to the building in which they leased offices. The description of such property is as follows: No. 310 Chestnut Street consisted of a three story brick store building; 312 Chestnut Street was a brownstone front store with a two story brick back building coming out into Orianna Street as 103 South Orianna Street; 314 Chestnut Street was a two story granite banking house. The premises located at 310, 312 Chestnut Street and 103 South Orianna Street, all forming one contiguous unit, were owned by the First National Bank of Philadelphia, in which F. Wayland Ayer, senior partner of N. W. Ayer & Son, was chairman of the board of directors. The bank sought to interest the Partnership in the purchase of this property and also aided it in securing the corner property, *633 314 Chestnut Street from*67 the then owner. The Partnership was only interested in the purchase if they could obtain the whole parcel. On March 30, 1920, the Partnership purchased these properties in the name of Wilfred W. Fry (one of the partners) for the benefit of the Partnership, at a cost of $ 150,000 ($ 85,000 for the property owned by the bank and $ 65,000 for the property at 314 Chestnut Street). On April 19, 1920, Fry executed and acknowledged a deed of trust in which he declared that he held title to said premises for the uses and purposes of the Partnership. The following article appeared on Monday, May 24, 1920, in the Philadelphia Public Ledger: N. W. AYER & SON TO ERECT BUILDING 50-Year-Old Advertising Firm Buys Land Fronting on Chestnut Street N. W. Ayer & Son have purchased property in Philadelphia on which they intend to erect an office building for their own use. The property, which adjoins their present location at 308 Chestnut Street, has a frontage of seventy feet on Chestnut Street and 130 feet on Orianna Street. Three buildings now standing on it will be removed. Advertising headquarters have been at the present location in the Merchant and Mariner Building since that building was*68 erected in 1903. Constantly growing business has necessitated expansion from the two original floors. More than three entire floors are now in use and in addition a restaurant is operated for employees in an adjoining building. A complete printing department is housed in a separate building nearby. There are now about 460 members of the N. W. Ayer & Son "family" in the Philadelphia headquarters besides branch office staffs in New York, Boston, Chicago and Cleveland. N. W. Ayer & Son celebrated their fiftieth anniversary last year. At the time of the purchase of these properties there were a number of tenants scattered throughout the buildings but the second floor of the building located at 310 Chestnut Street was empty. The Partnership cut a doorway through the wall of the second floor of the building in which they were tenants and the second floor of the building at 310 Chestnut Street to permit easy access between the two. The second floor of the property at 310 Chestnut Street was used by the Partnership for additional space and gradually the first floor and basement of the said property were also taken over for their use. Another building (the one located at 314 Chestnut*69 Street) was used to store old files. Said buildings were inadequate for the needs of the Partnership since they were old and did not contain enough space. Portions of said buildings were occupied by tenants from the date of purchase to some time in 1933. At the time the property was purchased it was located in the banking and brokerage district of Philadelphia. Subsequent to such acquisition, *634 a definite trend westward toward Broad Street developed, and the Partnership abandoned its plan for the erection of a modern office building on this site. In 1926, the Partnership purchased other real estate upon which it demolished the buildings and erected a 13-story office building begun in 1927 and completed in 1928, at which time the Partnership moved from the Chestnut Street property to the new building. In its income tax returns for the years 1920 through 1932, inclusive, the Partnership and then petitioner claimed and were allowed depreciation in the total amount of $ 11,723.77 on the building (enumerated above) which it had purchased in 1920. For many years after the purchase of the properties at 310, 312 and 314 Chestnut Street and 103 South Orianna Street, the Partnership*70 and later the petitioner sought to sell these properties. In 1933 said buildings were demolished. Petitioner did not claim a demolition loss in its 1933 income tax return. On February 4, 1946, petitioner sold its lands at 310, 312 and 314 Chestnut Street and 103 South Orianna Street for $ 25,000.50. Under the enumerated facts, plus all others in the record, we find that the premises were purchased in 1920 with the intention of demolishing the buildings situated thereon and erecting a new office building on the site. OPINION. The sole issue we must decide is the amount of loss to which the petitioner is entitled in its 1946 income tax return for the sale of the property acquired by the Partnership in 1920. This is dependent upon the basis which the land had in the hands of petitioner at the time of its sale in 1946. Petitioner maintains that this basis was the cost of the property ($ 150,000) less any depreciation allowed up to 1933 ($ 11,723.77). The respondent argues that this basis was $ 80,500. The difference between this figure and the $ 150,000 originally paid for the property, respondent allocates to the buildings on the property at the time of the purchase. Such amount*71 respondent argues should have been used up in the years 1920 to 1933, inclusive, by means of depreciation and demolition loss sustained on the buildings in 1933. The petitioner has agreed that if an allocation is proper in this case the correct allocation is that set forth by the respondent. Respondent's position therefore is that petitioner's loss with respect to the buildings occurred in 1933 when the buildings were demolished and not in 1946 when the lands on which the buildings had been located were sold. Section 23 (f) of the Internal Revenue Code provides as follows: *635 SEC. 23. DEDUCTIONS FROM GROSS INCOME. In computing net income there shall be allowed as deductions: * * * * (f) Losses by Corporations. -- In the case of a corporation, losses sustained during the taxable year and not compensated for by insurance or otherwise. Regulations 111, section 29.23 (e)-2 provides: Voluntary Removal of Buildings. -- Loss due to the voluntary removal or demolition of old buildings, the scrapping of old machinery, equipment, etc., incident to renewals and replacements is deductible from gross income. When a taxpayer buys real estate upon which is located a building, which*72 he proceeds to raze with a view to erecting thereon another building, it will be considered that the taxpayer has sustained no deductible loss by reason of the demolition of the old building, and no deductible expense on account of the cost of such removal, the value of the real estate, exclusive of the old improvements, being presumably equal to the purchase price of the land and building plus the cost of removing the useless building. Cases involving the interpretation of this Code provision and the regulation promulgated thereunder look to the intent of the purchaser at the time of the purchase. If the property is bought with the intent to raze the buildings situated thereon and erect a new building, no deduction is allowed at the time of demolition. Liberty Baking Co. v. Heiner (C. A. 3, 1930), 37 F. 2d 703; Providence Journal Co. v. Broderick (C. A. 1, 1939), 104 F. 2d 614; Robert B. Griffin, 17 B. T. A. 255 (1929); and Lansburgh & Brother, Inc., 23 B. T. A. 66 (1931). The fact that a certain value was placed on the buildings at the time of the*73 purchase, that rent was collected, and depreciation claimed has been held to be immaterial where at the time of purchase the intent was to demolish the buildings. Providence Journal Co. v. Broderick, supra. The rationale of such cases is that where there is a purchase of land with the intent to demolish any building situated thereon and erect a new one, no part of the price paid is allocable to the buildings since the buildings have no value to the purchaser and it is the land which is purchased, not the land and buildings. The purchase price, therefore, represents the cost of the land. This same situation exists in the instant case. Petitioner's predecessor Partnership purchased the property solely with the intention of erecting a new building thereon. The buildings already on the premises were wholly inadequate for the use of the Partnership. Therefore, the $ 150,000 paid for the property was the cost to the Partnership of the land. The buildings were incidental. A subsequent abandonment of intention because of the gradual shift in the business center away from that locality is immaterial under such circumstances. The intent of the taxpayer*74 on the date of purchase is, therefore, the determinative factor under the court decisions. Such intent to demolish and erect a new building causes a taxpayer to come within the *636 exception contained in the regulation. If he comes within the exception, he sustains no deductible loss in the year of demolishment but acquires a basis in the land equal to the purchase price of the entire property, less depreciation allowed. Since, in this case, the intent of the Partnership brought it within the exception, thus fixing the basis of the land, and since the petitioner transferee took the basis of the assets transferred to it by the Partnership transferor, it follows that petitioner must be treated with respect to the basis of the land as if it were the Partnership. The $ 150,000 represented the cost of the land when purchased. The $ 25,000.50 represented the money received by petitioner upon sale of such land. Therefore the loss which it suffered upon the sale was the difference between the initial cost and the selling price less depreciation already claimed. Decision will be entered under Rule 50.