Commissioner v. Tufts PDF

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Answer to the Commissioner vs. Tufts court case...

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Lauren Bombace Professor Harris ACC 385 March 21, 2018 A brief of Commissioner v. Tufts, 461 U.S. 300 (1983) Facts: In 1970, Respondent Clark Pelt - builder and owner of Clark, Inc. - formed a general partnership in order to construct a 120-unit apartment complex in Duncanville, Texas. The partners entered into a non-recourse loan agreement for $1,851,500, meaning that neither the partnership nor any of its partners had any personal liability for any default on the loan (Commissioner v. Tufts, 1983). The construction of the complex was completed in August, 1971. In each tax year, all partners claimed as income tax deductions their allocable shares of ordinary losses and depreciation. These deductions taken in 1971-72 totaled $439,972, leaving the partnership’s adjusted basis in the property $1,455,740 as of August, 1971 (Commissioner v. Tufts, 1983). The partnerships rental income was less than expected, and they were unable to make the mortgage payments. Each partner sold his partnership interest to an unrelated third party, Fred Bayles, who assumed the non-recourse mortgage (Commissioner v. Tufts, 1983). On the date of transfer, the fair market value of the property did not exceed $1,400,000 therefore each partner reported the sale on his federal income tax return and indicated that a partnership loss of $55,740 has been sustained (Commissioner v. Tufts, 1983). The Commissioner of the IRS audited this transaction and determined that the sale of the partnership resulted in a capital gain of approximately $400,000 since the buyer assumed a $1,851,500 mortgage when the adjusted basis was only $1,455,740 (Commissioner v. Tufts, 1983). Issue: Whether a tax payer must include in the “amount realized” the outstanding amount of nonrecourse obligation exceeding the fair market value of property being sold or disposed.

Analysis: In order to resolve this case, the Supreme Court looked to a previous ruling under Crane v. Commissioner, 331 U.S. 1 (1947), in which the court held that a mortgagor who transfers a property subject to the mortgage benefits as if the purchaser had paid the mortgage on the property (Crane v. Commissioner, 1947). This case supports the doctrine of U.S. income tax law that even when a taxpayer is not personally liable on a debt, the amount realized upon any sale or disposition of the mortgaged property must include any portion of the nonrecourse debt that is assumed by the buyer (WithumSmith+Brown, 2012). The Court treated the amount realized as it had treated basis – by including the outstanding value of the mortgage. When relating this back to Commissioner v. Tufts, the Crane case (specifically footnote #37) concludes that if a buyer assumes a nonrecourse mortgage that exceeds the fair market value of the property, the seller is required to include in the amount realized the full balance of the mortgage (Nitti, 2014). Thus, we ignore the nonrecourse nature of the obligation in determining the amount realized upon disposition of property, since it is not economically different than a normal loan. Basically, if you have a loan for more than the property is worth, and the property is given up in exchange for getting out of paying the loan, then the amount of money you earn is equal to the loan minus your adjusted basis in the property. Conclusion: The Supreme Court found that when a taxpayer sells or disposes of property, then he is required to include the outstanding amount of the obligation as an asset realized (Commissioner v. Tufts, 1983). It is not relevant that this was a nonrecourse loan or that the loan was in excess of fair market value of the property at the time. Justice Blackmun issued the opinion for the Court in reversing the Court of Appeals and holding that the Respondent must account for the proceeds of obligations that he has received tax-free and included in the basis

(Commissioner v. Tufts, 1983). Therefore, the Respondent should recognize a $400,000 gain on the default of the loan to a third party.

Citations Commissioner v. Tufts. 2 May 1983. Crane v. Commissioner. 14 April 1947. Nitti, T. (2014, January 07). Tax Geek Tuesday: Crane, Tufts, And the Art Of Liability Assumption. Retrieved March 11, 2018, from https://www.forbes.com/sites/anthonynitti/2014/01/07/tax-geek-tuesday-crane-tufts-andthe-art-of-liability-assumption/3/#2b5bd0d92d02 WithumSmith+Brown. (2012, January 31). Tax Law's Most Important Cases, Volume 1: The Lasting Impression of Crane v. Commissioner. Retrieved March 11, 2018, from https://double-taxation.com/2012/01/30/tax-laws-most-important-cases-volume-1-thelasting-impression-of-crane-v-commissioner/...