Nalle v. C.I.R. ( 1993 )


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  •                                   United States Court of Appeals,
    
                                                Fifth Circuit.
    
                                               No. 92-4954.
    
                     George S. NALLE, III, and Carole Nalle, Petitioners-Appellants,
    
                                                      v.
    
                 COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee.
    
                      Charles A. BETTS and Sylvia I. Betts, Petitioners-Appellants,
    
                                                      v.
    
                 COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee.
    
                                               Aug. 16, 1993.
    
    Appeal from a Decision of the United States Tax Court.
    
    Before SMITH, DUHÉ, and WIENER, Circuit Judges.
    
           JERRY E. SMITH, Circuit Judge:
    
           George and Carole Nalle and Charles and Sylvia Betts (collectively, the "taxpayers") appeal
    
    a decision of the Tax Court upholding the assessment of an income tax deficiency against them by
    
    the Commissioner of Internal Revenue (the "Commissioner"). Because we find the treasury
    
    regulation pursuant to which the Commissioner assessed the deficiency to be an invalid interpretation
    
    of the statute, we reverse.
    
                                                      I.
    
           George Nalle ("Nalle") o wns a fifty-percent interest in the Heritage Square Joint Venture,
    
    which, between 1982 and 1984, identified eight buildings in and around Austin that were appropriate
    
    for rehabilitation and relocation, five of which were slated for demolition in order to accommodate
    
    the expanding campus of the University of Texas at Austin. All eight houses were purchased and
    
    moved to the Heritage Square office subdivision in suburban Rollingwood, where they were restored
    
    to substantially the same style and condition as originally constructed.1
    
    
       1
        The three houses not removed to make way for expansion of the campus were found in other
    parts of Texas and were moved, variously, 20, 70, and 80 miles to Heritage Square.
            Because each house was more than forty years old on the date rehabilitative work
    
    commenced, Nalle claimed an investment tax credit for over $500,000 of the rehabilitation performed
    
    in tax years 1983-86, pursuant to section 48(g) of the Internal Revenue Code (the "Code"), 26 U.S.C.
    
    § 48(g). Heritage did not claim the tax credit for expenditures incurred in refurbishing one of its
    
    properties, the Julia Harris house, but passed the credit on to the purchasers, appellants Charles and
    
    Sylvia Betts, who reported a credit for $35,934 on their joint 1983 federal tax return, $14,322 of
    
    which was carried back to their 1980 return.
    
            On June 28, 1985, the Internal Revenue Service ("IRS") published proposed treasury
    
    regulation 26 C.F.R. § 1.48-12, subsection (b)(5) of which set forth a requirement that "qualified
    
    rehabilitated buildings" such as were eligible for the section 48(g) tax credit not have been relocated
    
    within forty years of the date on which rehabilitation was begun. The regulation was adopted in final
    
    form on October 7, 1988, and was applied retroactively to rehabilitation expenditures incurred after
    
    December 31, 1981. The IRS audited the taxpayers' returns for 1983-86, and on June 9, 1989, issued
    
    a statutory notice of deficiency disallowing the credits.
    
            In the Tax Court, it was stipulated that the houses qualified for the rehabilitation tax credit
    
    but for the exclusion of relocated properties contained in section 1.48-12(b)(5). The taxpayers
    
    argued that the new regulation was invalid because it added a requirement to the statute that had not
    
    previously existed, yet was passed pursuant to the Commissioner's interpretive authority under 26
    
    U.S.C. § 7805(a) and not pursuant to any legislative authority conferred by Congress with respect
    
    to section 48(g). The Commissioner countered that the regulation was not inconsistent with the
    
    statutory text and vindicated a central policy goal of the original legislation (as revealed by the
    
    legislative history)—the revitalization of decayed and deteriorating areas. The Tax Court ruled in
    
    favor of the Commissioner, citing the support for his position contained in the legislative history of
    
    the tax credit.
    
                                                      II.
    
             An interpretive regulation promulgated pursuant to the Commissioner's authority under
    
    section 7805(a) is generally "entitled to substantial weight." Lykes v. United States, 
    343 U.S. 118
    ,
    127, 
    72 S. Ct. 585
    , 590, 
    96 L. Ed. 791
     (1952).2 The Supreme Court has provided us with substantial
    
    guidance in reviewing the propriety of such regulations:
    
            In determining whether a particular regulat ion carries out the congressional mandate in a
            proper manner, we look to see whether the regulation harmonizes with the plain language of
            the statute, its origin, and its purpose. A regulation may have particular force if it is a
            substantially contemporaneous construction of the statute by those presumed to have been
            aware of congressional intent. If the regulation dates from a later period, the manner in which
            it evolved merits inquiry. Other relevant considerations are the length of time the regulation
            has been in effect, the reliance placed on it, the consistency of the Commissioner's
            interpretation, and the degree of scrutiny Congress has devoted to the regulation during
            subsequent re-enactments of the statute.
    
    National Muffler Dealers' Ass'n v. United States, 
    440 U.S. 472
    , 477, 
    99 S. Ct. 1304
    , 1307, 
    59 L. Ed. 2d 519
     (1979).
    
                                                       III.
    
            The dispute here is the interpretation of one subsection of the Code provided by a regulation
    
    issued more than five years after the subsection it purports to interpret. The key subsection is section
    
    48(g)(1)(A), which, as it existed for the tax years in question,3 set out a three-part test governing
    
    eligibility for the rehabilitative investment tax credit:
    
                     (A) In general.—The term "qualified rehabilitated building" means any building (and
            its structural components)—
    
                            (i) which has been rehabilitated,
    
                            (ii) which was placed in service before the beginning of the rehabilitation, and
    
                            (iii) 75 percent or more of the existing external walls of which are retained in
                    place as external walls in the rehabilitation process.
    
            Only the last of these requirements, referred to by the parties as the "external wall test,"
    
    concerns us. It is the taxpayers' contention that the external wall test means more or less what it
    
    says—that a building may qualify for the tax credit only if its structure remains substantially the same
    
       2
        Section 7805(a) provides, in pertinent part, that "the Secretary [of the Treasury] shall
    prescribe all needful rules and regulations for the enforcement of this title, including all rules and
    regulations as may be necessary by reason of any alteration of law in relation to internal revenue."
    26 U.S.C. § 7805(a) (Supp.1993). Although the section expressly refers to the Treasury
    Secretary, the Commissioner is an authorized delegate of the Secretary. See 26 C.F.R. §
    601.601(a)(1).
       3
       Section 48 was redesignated as section 47 by the Omnibus Budget Reconciliation Act of
    1990, Pub.L. 101-508, § 11813, 104 Stat. 1388—536 et seq.
    as before rehabilitation. The test, they say, simply serves to distinguish new construction, for which
    
    no credit is allowed, from rehabilitation, for which the credit is available. The Commissioner, relying
    
    largely upon a deferential review of agency determinations, argues that section 1.48-12(b)(5), which
    
    divines in the external wall test a restriction on relocation of non-historic rehabilitated buildings, is
    
    not inconsistent with the origin and purpose of the statute.4
    
              As previously noted, the Tax Court upheld the regulation on the basis that it "harmonized"
    
    with congressional intent, at least as revealed by selected passages from the credit's legislative history:
    
                      The legislative history of section 48 reveals that it is not, as petitioners contend, solely
              a device to promote the rehabilitation of older buildings. From its inception, the tax credit
              for rehabilitation expenditures was intended to provide an economic stimulus for those areas
              susceptible to economic decline and abandonment, particularly the "central cities and
              neighborhoods of all communities."
    
    Nalle v. Commissioner, 
    99 T.C. 187
    , 195, 
    1992 WL 184967
     (quoting H.R.REP. No. 1445, 95th
    
    Cong., 2d Sess. 86, reprinted in 1978 U.S.C.C.A.N. 7046, 7121).
    
              We are mindful, at the outset, of Justice Scalia's recent reference to the use of legislative
    
    history as oftentimes being "the equivalent of entering a crowded cocktail party and looking over the
    
    heads of the guests for one's friends." Conroy v. Aniskoff, --- U.S. ----, ----, 
    113 S. Ct. 1562
    , 1567,
    
    
    123 L. Ed. 2d 229
     (1993) (Scalia, J., concurring). Our reading of the scant legislative history
    
    surrounding the 1978 adoption and 1981 amendment of section 48(g) suggests that, in this case, the
    
    Tax Court picked its few friends from an otherwise indifferent crowd.
    
              Foremost among those friends is the above-quoted House report on the Revenue Act of 1978,
    
    which first extended the investment tax credit—previously restricted to equipment and machinery—to
    
    non-historical, non-residential buildings. According to the report, among the reasons for the change
    
    
       4
           Section 1.48-12(b)(5) states, in part, as follows:
    
                              Location at which the rehabilitation occurs. A building, other than a
                      certified historic structure ... is not a qualified rehabilitation building unless it has
                      been located where it is rehabilitated for the thirty-year period immediately
                      preceding the date physical work on the rehabilitation began in the case of a "30-
                      year building" or the forty-year period immediately preceding the date physical
                      work on the rehabilitation began in the case of a "40-year building."
    
              26 C.F.R. § 1.48-12(b)(5) (1992).
    was as follows:
    
                    Presently, there is a similar concern [to that which gave rise to the investment tax
           credit for machinery and equipment] about the declining usefulness of existing, older buildings
           throughout the country, primarily in central cities and older neighborhoods of all
           communities....
    
                    The committee believes that it is appropriate now to extend the initial policy objective
           of the investment credit to enable business to rehabilitate and modernize existing structures.
           This change in the investment credit should promote greater stability in the economic vitality
           of areas that have been developing into decaying areas.
    
    1978 U.S.C.C.A.N. at 7121.
    
           In 1981, Congress imposed a three-tiered structure upon the tax credit: Rehabilitated historic
    
    structures would receive a 257 credit, structures at least forty years ol d a 207 credit, and
    
    thirty-year-old structures, 157. The Tax Court also cited the legislative history of this amendment
    
    to validate the Commissioner's regulation. The Senate Report states as follows:
    
                    The tax incentives for capital formation provided in other sections of this bill might
           have the unintended and undesirable effect of reducing the relative attractiveness of the
           existing incentives to rehabilitate and modernize older business structures. Investments in
           new structures and new locations, however, do not necessarily promote economic recovery
           if they are at the expense of older structures, neighborhoods, and regions. A new structure
           with new equipment may add little to capital formation or productivity if it simply replaces
           an existing plant in an older structure in which the new equipment could have been installed.
           Furthermore, the relocation of business can result in substantial hardship for individuals and
           communities. Since this hardship does not affect the profitability of the business, it may not
           have been fully taken into account in the decision to relocate, even though it is an economic
           detriment to the society as a whole.
    
                   The increased credit for rehabilitation expenditures is intended to help revitalize the
           economic prospects of older locations and prevent the decay and deterioration characteristics
           of distressed economic areas.
    
    S.REP. No. 144, 97th Cong., 1st Sess. 72, reprinted in 1981 U.S.C.C.A.N. 105, 177.
    
           As the above excerpts attest, the Tax Court's conclusion that the 1988 regulation vindicated
    
    the statute's intent to revitalize depressed areas, stated most forcefully in the legislative history
    
    appended to the 1981 amendments, is not entirely without foundation; Congress undoubtedly
    
    considered the bill's revitalizing potential as among its more attractive features.          Thus, the
    
    Commissioner contends that the prohibition on relocation contained in section 1.48-12(b)(5) naturally
    
    arises from Congress's broadly expressed intent (in the legislative history) to benefit depressed
    
    communities. Absent such a prohibition, the Commissioner maintains, nothing prevents a taxpayer
    from doing ostensibly what the taxpayers have done here: relocating old buildings from one
    
    neighborhood to another without conferring any visible benefit upon the "distressed economic areas"
    
    whose plight Congress sought to ameliorate.
    
            This fact, however, urged so strenuously by the Commissioner as determinative of the issue
    
    before us, cannot support the stress he places upon it. Contrary to the Commissioner's interpretation,
    
    the legislative history never speaks in exclusive terms of the goal of urban revitalization, nor can it
    
    be said that Congress structured the statute to vindicate such a goal exclusive of other concerns. Had
    
    it intended to do so, a restriction upon the credit's availability solely to "certified" depressed areas
    
    would seem in order, just as the credit for historic rehabilitation was limited to certified historic
    
    struct ures. Even with the regulatory prohibition on relocation in place, the statute presents a
    
    singularly imprecise means for revitalizing depressed areas: Any old building, even one located in a
    
    wealthy area, may still qualify, so long as it is not moved—even to a depressed area.
    
            A better reading of the legislative history is that Congress merely anticipated that urban
    
    revitalization would be a collateral benefit of the legislation. The 1978 history speaks primarily of
    
    a desire to redress the then-skewed incentives leading businesses to invest in new equipment and
    
    machines and new buildings to house them. While the old buildings targeted by the credit are
    
    "primarily in central cities and older neighborhoods" (emphasis added), nothing in either the statute
    
    or the history suggests that they are exclusively so or that the credit should be limited to those that
    
    are. Rather, t he explanation of the provision expresses the expectation that, as an added bonus,
    
    "[t]his change ... should promote greater stability in the economic vitality of areas that have been
    
    developing into decaying areas." 1981 U.S.C.C.A.N. at 7121.
    
            The legislative history to the 1981 amendment states the revitalization goals of the statute in
    
    far stronger terms than does the 1978 history, but it too must be understood in its proper context.
    
    The 1981 amendment merely increased (and differentiated depending on age and historical value) the
    
    credit, in order to enhance the relative attractiveness to businesses of rehabilitating old structures
    
    vis-à-vis relocating to newer ones. Thus, the language stressing the negative impact of relocation on
    
    depressed communities meant relocation from old to new buildings, not from poor to wealthy areas;
    just as with the 1978 history, the Congress was acting on the expressed assumption that most of the
    
    old buildings subject to the credit were in depressed areas, and, therefore, that the increased credit
    
    would benefit those neighborhoods primarily.
    
             The inconclusiveness of the legislative history, however, is by no means dispositive. If it
    
    were, we might be inclined to side with the Commissioner, in light of the deference courts generally
    
    owe to interpretations of a statute by an agency charged with its enforcement. See Chevron U.S.A.,
    
    Inc. v. Natural Resources Defense Council, 
    467 U.S. 837
    , 844-45, 
    104 S. Ct. 2778
    , 2783, 
    81 L. Ed. 2d 694
     (1984). Here, however, we deal not with the sort of "legislative regulation" at issue in Chevron,
    
    see id. at 843-44, 104 S.Ct. at 2782, but with an interpretive regulation promulgated under the
    
    Commissioner's authority pursuant to section 7805(a). Accordingly, "we owe the interpretation less
    
    deference than a regulation issued under a specific grant of authority to define a statutory term or
    
    prescribe a method of executing a statutory provision." Rowan Cos. v. United States, 
    452 U.S. 247
    ,
    
    253, 
    101 S. Ct. 2288
    , 2292, 
    68 L. Ed. 2d 814
     (1981); United States v. Vogel Fertilizer Co., 
    455 U.S. 16
    , 24, 
    102 S. Ct. 821
    , 827, 
    70 L. Ed. 2d 792
     (1982).
    
            More significant for purposes of judicial analysis, however, is the lack of ambiguity in the
    
    statute. In section 48(g), Congress crafted a detailed and reasonably precise means for determining
    
    eligibility for the tax credit; the three-part "external wall test" and the statutory definitions of all key
    
    phrases evidence that Congress left relatively little for the Commissioner to interpret. Like the
    
    regulation invalidated in Vogel Fertilizer, section 1.48-12(b)(5) "purports to do no more than add
    
    a clarifying gloss on a term ... that has already been defined with considerable specificity by
    
    Congress." 455 U.S. at 24, 102 S.Ct. at 827.
    
            In the absence of any ambiguity, our analysis must be confined to the plain language of the
    
    statute. As the Supreme Court has stated,
    
            Legislative history can be a legitimate guide to a statutory purpose obscured by ambiguity,
            but in the absence of a clearly expressed legislative intention to the contrary, the language of
            the statute itself must ordinarily be regarded as conclusive. Unless exceptional circumstances
            dictate otherwise, when we find the terms of a statute unambiguous, judicial inquiry is
            complete.
    
    Burlington N. R.R. v. Oklahoma Tax Comm'n, 
    481 U.S. 454
    , 461, 
    107 S. Ct. 1855
    , 1860, 
    95 L. Ed. 2d 404
     (1987) (citations and internal quotation marks omitted).             Before the Tax Court, the
    
    Commissioner anchored section 1.48-12(b)(5)'s interpretation of the statute in the "external wall test"
    
    of section 48(g)(1)(A)(iii). According to the Commissioner, that subsection's dictum that seventy-five
    
    percent of the pre-existing external walls must be "retained in place" in order to qualify for the credit
    
    necessarily implies a limitation on relocation: " "Retained' and "retained in place' must have different
    
    meanings.... [E]ither the words "in place' provide a restriction on location, or they are superfluous."
    
    Nalle, 99 T.C. at 190 (alteration in original).
    
            We discern, however, a number of difficulties with the Commissioner's "plain language"
    
    interpretation of section 48(g). While, generally, it is a tenet of statutory construction that every
    
    word must be given meaning where possible, such that no word or phrase is rendered superfluous by
    
    interpretation, the original regulations for the tax credit defined "retained in place" and said nothing
    
    respecting a restriction on the relocation of rehabilitated structures.5 The considerable detail of the
    
    regulation suggests that, had Congress intended to incorporate some such restriction within the
    
    phrase "retained in place," here was an opportunity for the Commissioner to mention it. His failure
    
    to do so until after the taxpayers had acted in reliance upon the 1980 proposed regulations weighs
    
    heavily in our analysis, inasmuch as National Muffler directs us to consider not only such reliance
    
       5
        Initially proposed and published in 1980, see 45 Fed.Reg. 71368, 71369 (1980), § 1.48-
    11(b)(4)(iv) was issued in its final form in 1985, see 50 Fed.Reg. 26696, 26699 (1985), and reads
    as follows:
    
                            Retained in place. An existing external wall is retained in place if the
                    supporting elements of the wall are retained in place. An existing external wall is
                    not retained in place if the supporting elements of the wall are replaced by new
                    supporting elements. An external wall is retained in place, however, if the
                    supporting elements are reinforced in the rehabilitation, provided that such
                    supporting elements of the external wall are retained in place. An external wall is
                    retained in place even though it is covered (e.g., with new siding). Moreover, the
                    existing curtain may be replaced with a new curtain provided that the structural
                    framework that provides for the support of the existing curtain is retained in place.
                    An external wall is retained in place notwithstanding that the existing doors and
                    windows in the wall are modified, eliminated, or replaced. A wall may be
                    disassembled and reassembled so long as the same supporting elements are used
                    when the wall is reassembled. Thus, for example, in the case of the brick wall, the
                    wall is considered retained in place even though the original bricks are removed
                    (for cleaning, etc.) and put back to form the wall.
    
            26 C.F.R. § 1.48-11(b)(4)(iv) (1992).
    upon a regulation, but also the consistency of the Commissioner's interpretation of the statute when
    
    scrutinizing regulations for their fidelity to the Congressional mandate. See National Muffler, 440
    
    U.S. at 477, 99 S.Ct. at 1307.
    
            More damning of the Commissioner's claim that section 1.48-12(b)(5) merely clarifies the
    
    statute's application is its logical incoherence. As written, the regulation expressly exempts certified
    
    historic structures; they may still be relocated and qualify for the credit. But the Commissioner does
    
    not explain how the statutory phrase "retained in place," when applied to old buildings, means that
    
    they may not be relocated from their original site, but implies no such limitation when applied to old,
    
    historic buildings. 6
    
            Similar attempts at such invest ment tax credit alchemy by the Commissioner have been
    
    rejected recently by two courts intimately familiar with tax appeals. See Griffin Indus. v. United
    
    States, 92-2 U.S.T.C. (CCH) ¶ 50,606 at 86129 (Cl.Ct.1992) (invalidating 26 C.F.R. § 1.48-9(g)(1));
    
    Pepcol Mfg. Co. v. Commissioner, 
    98 T.C. 127
    , 134, 
    1992 WL 17457
     (1992) (en banc) (same). The
    
    Commissioner cannot explain away this ultimate incompatibility of his regulation with the statute by
    
    reference to the legislative history; where a plain reading of the statute precludes the Commissioner's
    
    interpretation, no legislative history—be it ever so favorable—can redeem it.7
    
       6
        We note that the statute was amended in 1986 to divorce the treatment of certified historic
    structures from that of non-historic qualified rehabilitated buildings by limiting the application of
    the external wall test solely to the latter structures. See Tax Reform Act of 1986, Pub.L. No. 99-
    514, § 251(b), 100 Stat. 2085, 2184 (1986). The amendment renders the Commissioner's
    interpretation of the phrase "retained in place" at least plausible, if only as applied prospectively
    from the date of passage. But here the Commissioner has sought to extend § 1.48-12(b)(5)
    retroactively to rehabilitation expenditures incurred after December 31, 1981. That the statute
    had to be amended to conform to the regulation, rather than the reverse, strongly implies the
    regulation's invalidity as an interpretation of the statute prior to the amendment.
    
                   Moreover, Treasury regulation 26 C.F.R. § 1.191-2(e)(6) formerly expressly
            provided that the expenses incurred in relocating a certified historic structure could be
            included in the rehabilitation expenses subject to amortization under Code § 191.
            Although § 191 was repealed in the Economic Recovery Tax Act of 1981, Pub.L. 97-34,
            § 212(d)(1), 95 Stat. 172, 239, it is further evidence of the implausibility of § 1.48-
            12(b)(5)'s interpretation of the statute.
       7
        Lastly, we point out that while the Commissioner disputes the taxpayers' contention that §
    1.48-12(b)(5) creates an additional requirement to those contained in the statute, the taxpayers
    simply are quoting the Commissioner's own words back to him. The notice of proposed
    rulemaking that introduced § 1.48-12(b)(5) in 1985 stated that "[t]he proposed regulations
            We find, therefore, that the interpret ation urged by the Commissioner, and embodied in
    
    section 1.48-12(b)(5) finds no support in the statutory text. While this resolution relieves us of the
    
    need to reach the taxpayers' argument against the retroactive application of the regulation, we find
    
    troubling the Commissioner's understanding of the appropriate burden to be placed upon taxpayers
    
    seeking to comply with the Code. According to the taxpayers, they closely examined the Code and
    
    accompanying regulations available at the time they conceived their business plan. According to the
    
    Commissioner, the taxpayers were wanting in diligence; somehow, they were obliged not only to
    
    consult the legislative history, but to glean therefrom the doubtful conclusion that their credits would
    
    be disallowed were they to relocate the buildings after rehabilitating them.
    
            Thus to require similarly-situated taxpayers in the future to examine the legislative history
    
    before relying upon the plain-spoken word of Congress would be to teach what we believe to be
    
            a false and disruptive lesson in the law. It says to the bar that even an "unambiguous [and]
            unequivocal" statute can never be dispositive; that, presumably under penalty of malpractice
            liability, the oracles of legislative history, far into the dimmy past, must always be consulted.
            This undermines the clarity of law, and condemns litigants (who, unlike us, must pay for it out
            of their own pockets) to subsidizing historical research by lawyers.
    
    Conroy, --- U.S. at ----, 113 S.Ct. at 1567 (Scalia, J., concurring) (brackets in original). Yet this
    
    "false and disruptive lesson in the law" is precisely that which the Tax Court took upon itself to teach
    
    the taxpayers in this case. "Confronted with recently enacted legislation, and in light of the magnitude
    
    of their rehabilitation project," the court stated, "petitioners should have examined the statute and its
    
    background in greater detail prior to proceeding with the purchase of the buildings." Nalle, 99 T.C.
    
    at 196. We disagree and, accordingly, REVERSE the decision of the Tax Court.
    
    
    
    
    contain additional restrictions applying in the case of buildings that have been moved." See L.R.
    238-81, 1985-2 C.B. 777, 778 (emphasis added).