CRI-Leslie, LLC v. Comm'r of Internal Revenue

882 F.3d 1026

CRI–LESLIE, LLC, Donald W. Wallace, Tax Matters Partner, Petitioner–Appellant,

v.COMMISSIONER OF INTERNAL REVENUE, Respondent–Appellee.

No. 16-17424

United States Court of Appeals, Eleventh Circuit.

February 15, 2018

Charles A. Carlson, Leslie J. Barnett, Christopher Dingman, Micah G. Fogarty, David L. Koche, Barnett Bolt Kirkwood Long & Koche, Tampa, FL, for Petitioner–Appellant.

Deborah K. Snyder, Teresa E. McLaughlin, U.S. Department of Justice, Chief Appellate Section Tax Division, Washington, DC, Timothy A. Sloane, Andrew Michael Tiktin, Miami, FL, William J. Wilkins, Chief Counsel—IRS, Washington, DC, for Respondent–Appellee.

Before MARCUS and NEWSOM, Circuit Judges, and BUCKLEW,^* District Judge

NEWSOM, Circuit Judge:

More than 40 years ago, Judge Henry Friendly lamented that "[t]he problem with respect to the tax treatment of payments for the termination of contract rights having a property flavor is among the most frustrating in income tax law." Sirbo Holdings, Inc. v. Comm'r , 509 F.2d 1220, 1223 (2d Cir. 1975). Alas, not much has changed. This partnership-tax case, arising in the same sphere, presents what appears to be a question of first impression:

Is a taxpayer that contracts to sell property used in its trade or business entitled to treat as capital gain an advance deposit that it rightfully retains when its would-be buyer defaults and cancels the deal? Constrained by the Internal Revenue Code's plain (if somewhat peculiar) language, we hold that it is not.

I

The pertinent facts are undisputed. In 2005, CRI–Leslie, LLC paid $13.8 million to buy what was then called the Radisson Bay Harbor Hotel in Tampa, along with the hotel's restaurant—Crabby Bill's—and the prime waterfront property on which both sat. Although CRI–Leslie ultimately hoped to sell the property for a profit, it hired a third party to run the hotel and restaurant in the meantime.

Just more than a year later, CRI–Leslie reached an agreement to sell the property to another company for $39 million. Over the course of the next two years—during which CRI–Leslie (through its manager) continued to operate the hotel and restaurant—the parties amended the contract several times, eventually settling on a total purchase price of $39.2 million, $9.7 million of which was paid immediately to CRI–Leslie as a nonrefundable deposit and would thereafter be credited toward the purchase price at closing. Unfortunately, in 2008 CRI–Leslie's buyer defaulted on the agreement and forfeited the $9.7 million deposit.

On its 2008 tax return—at issue here—CRI–Leslie reported the $9.7 million as long-term capital gain. The IRS, though, later sent CRI–Leslie an "adjustment" for the 2008 tax year—rarely a good thing—in which it determined that CRI–Leslie had improperly reported the amount of the forfeited deposits as net long-term capital gain rather than ordinary income.

CRI–Leslie filed a petition for readjustment in the Tax Court, asserting that the Internal Revenue Code was meant to prescribe the same tax treatment for gains related to the disposition of "trade or business" property regardless of whether the property is successfully sold or (as here) the sale agreement is canceled. The IRS responded that the plain text of the governing Code provisions distinguishes between consummated and terminated sales of trade-or-business property, providing capital-gains treatment only for the former. The parties jointly submitted the case to the Tax Court for decision without trial, and that court agreed with the IRS, holding that under the Code's unambiguous language CRI–Leslie couldn't treat the forfeited deposit as capital gain.

CRI–Leslie filed this appeal, which presents a pure question of statutory interpretation that we review de novo . Ocmulgee Fields, Inc. v. Comm'r , 613 F.3d 1360, 1364 (11th Cir. 2010).

II

We begin with a point of agreement. It is common ground that if the sale of the Radisson Bay Harbor had gone through as planned, the $9.7 million deposit—which per the contract's terms would have gone toward the purchase price—would have been taxed at the lower capital-gains rate. As relevant here, I.R.C. § 1231 states that "any recognized gain on the sale or exchange of property used in the trade or business" shall "be treated as long-term capital gains." I.R.C. § 1231(a)(1)–(3). Section 1231 goes on to specify that "[f]or purposes of this section," the "term ‘property used in the trade or business’ means property used in the trade or business, of a character which is subject to the allowance for depreciation provided in section 167, held for more than 1 year, and real property used in the trade or business, held for more than 1 year ...." Id . § 1231(b)(1). Helpfully, the parties have stipulated that the property at issue here is properly classified as "property used in [CRI–Leslie's] trade or business" within the meaning of Section 1231. Accordingly, it is undisputed that if CRI–Leslie had sold the property in 2008, the resulting income, including the $9.7 million at issue here, would have constituted Section 1231 gain and, as such, been taxed as long-term capital gain.

But of course the deal fell through, and CRI–Leslie didn't sell the Radisson. Accordingly, the tax treatment of CRI–Leslie's $9.7 million deposit isn't governed by Section 1231, but rather falls under a different Code provision titled "Gains or losses from certain terminations." I.R.C. § 1234A. In relevant part, Section 1234A provides as follows:

Gain or loss attributable to the cancellation, lapse, expiration, or other termination of ... a right or obligation ... with respect to property which is (or on acquisition would be) a capital asset in the hands of the taxpayer ... shall be treated as gain or loss from the sale of a capital asset.

Id . Stated simply, Section 1234A says that any gain or loss that results from the termination of an agreement to buy or sell property that is properly classified as a "capital asset" will, notwithstanding the termination, be treated as a gain or loss from a consummated sale. Section 1234A thereby ensures capital-gains treatment of income resulting from canceled property sales by relaxing the "sale or exchange" element of the Code's general definition of "[l]ong-term capital gain"—i.e. , "gain from the sale or exchange of a capital asset held for more than 1 year ...." I.R.C. § 1222(3). Critically here, though, Section 1234A applies only to property that is appropriately classified as a "capital asset." The statutory analysis here therefore turns on whether the Radisson Bay Harbor was a "capital asset" in CRI–Leslie's hands during the 2008 tax year.¹

A

As a matter of plain textual analysis, the answer to the question whether the Radisson was a "capital asset" couldn't be clearer. The Code itself defines the term "capital asset" in a way that expressly excludes the property here. As relevant for our purposes, I.R.C. § 1221(a)(2) states that "[f]or purposes of this subtitle"—i.e. , "Subtitle A," comprising all Code provisions related to "Income Taxes," notably including Section 1234A —"the term ‘capital asset’ means property held by the taxpayer (whether or not connected with his trade or business), but does not include ... property, used in his trade or business, of a character which is subject to the allowance for depreciation provided in section 167, or real property used in his trade or business ." Id . § 1221(a)(2) (emphasis added).²

If Section 1221(a)(2)'s definition of "capital asset" sounds familiar, that's because it mirrors almost precisely Section 1231(b)(1)'s definition of the term "property used in the trade or business," already examined. See supra at 1028. There is, however, a decisive difference, which cuts to the very heart of this case: Whereas Section 1231's definition, which applies to consummated sales of trade-or-business property, expressly prescribes capital-gains treatment of the resulting income, Section 1221's definition, which applies (via Section 1234A ) to terminated sales of such property, expressly proscribes capital-gains treatment. Because CRI–Leslie's sale transaction fell through, the controlling question here is whether the Radisson Bay Harbor falls within the terms of Section 1221(a)(2)'s exclusion.

By express agreement of the parties, it does. As the Tax Court observed, CRI–Leslie and the IRS have "stipulated that from the date that CRI–Leslie acquired the property in 2005 and through December 31, 2008, the property was real property used in CRI–Leslie's hotel and restaurant business within the meaning of section 1221(a)(2)." Accordingly, CRI–Leslie "concedes that the hotel property falls within this exclusion and so is not a capital asset as defined in section 1221."

Based on the Code's plain language, that concession is fatal. Tracing it back up the statutory chain leads inexorably to the conclusion that the hotel didn't qualify for capital-gains treatment on CRI–Leslie's 2008 return. If, as CRI–Leslie acknowledges, the hotel isn't a "capital asset" within the meaning of Section 1221, then Section 1234A's special rule, which treats property resulting from the termination of a contract for the sale of a "capital asset" as if it were derived from a consummated sale of that asset—and thus subject to capital-gains treatment under Section 1222(3) —simply doesn't apply. That's it. End of case.

B

Not so fast, CRI–Leslie insists. A plain-text reading of the Code, CRI–Leslie vigorously asserts, impermissibly yields a result that is "illogical, absurd, and directly contrary to the objective of § 1234A." Br. of Appellant at 34. Having carefully considered CRI–Leslie's arguments, we find no basis for disregarding the Code's clear language.

As for absurdity, CRI–Leslie asserts two incongruities. First, it notes that while all "agree that, had the sale of the [p]roperty been completed, the [d]eposit would have been ... applied toward the purchase price and, thus, treated as capital gain" under Section 1231, under a plain-text...