Burman v. Commissioner

I. N. BURMAN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Burman v. Commissioner Docket No. 40598. United States Board of Tax Appeals 23 B.T.A. 639; 1931 BTA LEXIS 1846; June 9, 1931, Promulgated *1846 1. Fair market value of notes in connection with the sale of real estate as determined by the respondent approved. 2. Petitioner held not entitled to the benefit of the capital gain provisions of section 208 of the Revenue Act of 1926. 3. A commission paid in connection with the purchase of real estate constitutes a part of the cost of the property and is not deductible as an expense. H. N. Roth, Esq., for the petitioner. Eugene Harpole, Esq., for the respondent. TRAMMELL *639 This proceeding is for the redetermination of a deficiency in income tax of $7,412.93 for 1925. The matters put in issue by the petition as amended are the correctness of the respondent's action (1) in determining that certain notes of a face value of $65,000 received by the petitioner in connection with the sale of an orange grove had a fair market value equal to their face value and (2) in failing to allow as a deduction an amount of $12,500 paid by the petitioner as a commission to a real estate agent for personal services rendered in the purchase of real estate in which the petitioner was trading for profit. In his answer to the amended petition the*1847 respondent asks that the deficiency be increased by computing the petitioner's tax liability at normal and surtax rates instead of on a capital gain basis. FINDINGS OF FACT. The petitioner is a resident of Orlando, Fla. Two months after going to Florida in the latter part of 1918 he went into the real estate business. During 1925 the petitioner in addition to being engaged in the real estate business in which he bought and sold real estate for profit, was also engaged in the hotel business, the laundry business and in the operation of orange groves. In 1919 the petitioner bought an orange grove consisting of about 25 acres, situated near Orlando, Fla., at a cost of $30,000. This property was bought and held by the petitioner solely for the purpose of resale at a profit. In 1925 the petitioner sold this property to the Southern Development Corporation, hereinafter referred to as the corporation, for $90,000, receiving $25,000 in cash and $65,000 in notes secured by a first mortgage on the property. All of the notes were dated July 1, 1925, and bore interest from date at 8 per cent per annum, payable semiannually. One of *640 the notes was for $21,666.66 and was*1848 due one year from date. The other two were for $21,666.67 each and were due two and three years from date, respectively. It was contemplated that the corporation would subdivide the property into lots. The mortgage accordingly provided for the release from time to time of such lots as the corporation might designate upon the payment to the petitioner of a stipulated amount for each lot for which release was sought. The note due July 1, 1926, was paid by certain amounts received by the petitioner for the release of lots and by the petitioner accepting certain certificates of deposit issued by the bank of Commerce. The Bank of Commerce, which closed sometime afterwards, had taken over the assets of the Bank of Orange which had been closed, and issued to the depositors of the Bank of Orange certificates of deposit payable in one and two years. Up to and including January 17, 1928, payments totaling $18,548.09, exclusive of interest, had been made on the note due July 1, 1927. Of the total payments, $8,648.09 represented certificates of deposit of the Bank of Commerce turned over to the petitioner on January 17, 1928. The Bank of Commerce closed about a year later. Interest*1849 on the notes due July 1, 1927, and July 1, 1928, was paid regularly through July 1, 1927. The payment of January 17, 1928, was the last payment made by the corporation on either of the remaining unpaid notes. The petitioner took up the matter of payment of the notes with the officers of the corporation and was informed that the corporation was unable to pay, but that as soon as collection could be made from those who had purchased lots from it payment would be made. Upon organization of the corporation in 1925 its organizers, who had been operating a real estate business as a partnership, transferred the partnership assets to the corporation for its entire capital stock of 2,400 shares of no par value. The partnership assets were taken over by the corporation at a valuation of $57,395.17. When the corporation purchased the property from the petitioner it assessed its stockholders on their holdings in order to obtain the money to make the cash payment. The corporation's assets at the end of 1925 consisted principally of real estate and land contracts. By considering the land contracts at their face value and the real estate as being worth the purchase price, the corporation's*1850 balance sheet at December 31, 1925, showed a surplus of $138,676.45. The corporation had agreed to pay the petitioner $90,000 for the land purchased from him. The corporation at December 31, 1925, had land contracts in the amount of $258,097.56. These represented agreements entered into with various persons for the purchase of lots, the corporation getting as large *641 a cash payment as possible at the time the agreements were made and taking notes due in one and two years or longer for the balance. These contracts were made on a highly speculative value with persons living in Florida and other States. The corporation has never paid any dividends and since 1927 has transacted no business other than the payment of interest on borrowed money. In 1925 after receipt of the notes and mortgage from the corporation the petitioner tried to discount them at a bank but without success. The same year he also sought to borrow $15,000 from the bank on them but was unable to do so. In determining the deficiency here involved the respondent determined that the notes had a fair market value equal to their face value, or $65,000. The respondent computed the tax on the profit from*1851 the sale of the orange grove under the capital gain provisions of the statute. In 1925 the petitioner paid Walter Rose $12,500 as a commission for purchasing a certain tract of real estate for him during that year. This property was bought and held by the petitioner solely for the purpose of resale at a profit in his business as a real estate dealer. The petitioner took the amount as a deduction in his income-tax return. The respondent disallowed the deduction in determining the deficiency. OPINION. TRAMMELL: The petitioner contends that the notes of the corporation having a face value of $65,000 had no fair market value at the time of their receipt and that the respondent erred in determining that they had a fair market value equal to their face value. The respondent contends that the notes had a fair market value of $65,000 as determined by him. The evidence shows that while Florida land was selling freely in 1925, it was selling only at highly speculative values. Under such circumstances the corporation acquired several parcels of land which according to the evidence had values that, except for the speculative and inflated prices, were only fractional parts of the*1852 amounts it had agreed to pay for them. Such values after the speculative period was over were in most instances much less than the outstanding purchase price mortgages on the property. In some instances these mortgages were found to be twice the value of the property when the speculative period was over. It does not however appear that any reduction in values occurred during the taxable year. During that year it is not shown that the properties had a market value less than the prices at which a willing buyer and a willing seller were willing to trade. With respect to the value of the land *642 the petitioner submitted the testimony of two witnesses. Their testimony is to the effect that the land in question had a value of only $40,000 in 1925. But this seems to be based on the theory that except for the speculative prices the land would have had that value. It seems to be inconsistent with the actual facts, which show that parties dealing at arm's length valued it at a higher price. We must consider only the facts actually known or reasonably anticipated during the year when the transaction occurred. The real question is what the market value of the notes was, if any. *1853 On this question the record shows that the petitioner tried to discount the notes at a bank and also tried to obtain a loan on them from the bank, without success. No explanation is offered as to the bank's refusal to let him have money on them. Various reasons other than the market value of the notes might have influenced the bank in taking the action it did. The petitioner's failure to obtain money on the notes under the circumstances presented does not establish a lack of fair market value. See ; . The petitioner also submitted the testimony of a witness who in 1925 attempted to sell some mortgage notes but was unable to do so. This witness was not in the business of buying and selling mortgage notes. His testimony does not show whether the mortgage notes he tried to sell were similar to those of the petitioner, nor does it show why he was unable to sell the notes. We do not think the testimony of this witness is indicative of a lack of fair market value for the notes held by the petitioner. By contending that the notes had no fair market value at the time of their receipt the*1854 petitioner assumes the burden of establishing such contention. We can not take judicial notice of whether the notes had a market value. Nor do we consider the fact that the petitioner himself failed to sell or secure a loan thereon from a particular bank as having any weight. There may have been other reasons aside from the marketability of the notes which prevented the particular bank from accepting them. No witness testified that there was no market for such notes. In our opinion the evidence does not sustain the petitioner's contention. The petitioner not having established any lesser value or shown by a preponderance of the evidence that these notes had no fair market value, we must affirm the respondent's determination. In determining the tax on the petitioner's profit from the sale of the orange grove to the corporation the respondent computed the tax under the capital gain provisions of the statute. In his answer to the amended petition he alleges that the tax should be computed at normal and surtax rates instead of in the manner in which he computed it, for the reason that the petitioner acquired and held the *643 property for the purpose of future sale at*1855 a profit and not as an investment. The petitioner denies that the profit from the sale should be computed at normal and surtax rates. Section 208(a) of the Revenue Act of 1926 provides in part as follows: For the purposes of this title - (1) The term "capital gain" means taxable gain from the sale or exchange of capital assets consummated after December 31, 1921; * * * (8) The term "capital assets" means property held by the taxpayer for more than two years (whether or not connected with his trade or business), but does not include stock in trade of the taxpayer or other 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, or property held by the taxpayer primarily for sale in the course of his trade or business. Since real estate is not the kind of property properly to be included in the petitioner's inventory, ; , the question to be determined is whether the real estate here involved constituted property held by the petitioner primarily for sale in the course of his trade or business. *1856 The petitioner's testimony shows that he went to Florida in the latter part of 1918 and that two months afterwards he went into the business of a dealer in real estate. In 1919 he purchased the orange grove solely for the purpose of resale at a profit. In 1925, while carrying on his business as a real estate dealer in addition to other activities, he was able to sell the property. From the facts before us we think the property was held by the petitioner primarily for sale in the course of his business within the meaning of the statute. The petitioner is therefore not entitled to the benefit of the capital gain provisions of the statute. See ; . The petitioner contends that the respondent erred in failing to allow as an expense a deduction of $12,500 representing the commission paid to Rose for purchasing certain real estate. The petitioner testified that the property was bought and held by him solely for the purpose of resale at a profit in his business as a real estate dealer. We have held that commissions paid on the purchase of securities constitute part of the cost of*1857 the securities and are not deductible as an expense even though the purchaser was engaged in the business of buying, holding and selling securities. ; affd., . We think our decision in the Hutton case is applicable and controlling here. The contention of the petitioner is therefore denied. Judgment will be entered under Rule 50.