Business Real Estate Trust v. Commissioner , 25 B.T.A. 191 ( 1932 )

BUSINESS REAL ESTATE TRUST OF BOSTON, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Business Real Estate Trust v. Commissioner

Docket Nos. 33469, 42684, 50305.

United States Board of Tax Appeals

25 B.T.A. 191; 1932 BTA LEXIS 1560;

January 15, 1932, Promulgated

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Where sums are paid to procure the unexpired terms of leases held by tenants of buildings already owned in fee and other buildings acquired under 99-year leases and in fee, with the sole object in view of immediately demolishing the buildings to permit the erection of a new building for lease to a known tenant for a long term at a substantial rental, the amounts, under the circumstances, should be treated as a part of the cost of the new building and recovered ratably over its life.

John P. Wright, Esq., and Schuyler Dillon, C.P.A., for the petitioner.

James L. Backstrom, Esq., for the respondent.

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ARUNDELL

These proceedings were consolidated for hearing and report and involve deficiencies in income taxes for the fiscal years ending on September 30, in 1924, 1927 and 1928 in the respective amounts of $129.57, $2,677.10 and $3,081.51. All except one of the issues raised by the petitions have been waived or settled by stipulation. The issues agreed upon will be given effect in the computations to be filed under Rule 50. The question remaining for decision is whether the cost of securing the cancellation of certain leases on buildings to permit their demolition and the immediate erection of a new building on the premises is deductible ratably over the life of the lease subsequently executed for the new building, or, in the alternative, whether the cost should be allowed as part of the cost of the new building and depreciated over the life of the building.

FINDINGS OF FACT.

The petitioner is a Massachusetts trust formed in 1901. Wm. Filene'sSons Company, a corporation operating a department store in Boston, in 1909 expressed a desire to obtain larger quarters in which to conduct its business. The desire of the corporation in that respect reached petitioner through a real estate broker in Boston. Negotiations subsequently carried on resulted in the execution of an agreement on February 14, 1911, between petitioner and the corporation for the erection of a new building for lease to the latter. This agreement recited that the petitioner was the owner of parcels of land numbered 10 to 20, inclusive, Summer Street, Boston, and intended to acquire by lease or purchase in fee certain other described adjoining properties for the purpose of constructing a new uniform building thereon for lease to the corporation for a period of 34 years and one month, from September 1, 1912. It provided for the accomplishment of certain things before the proposed lease would become effective. Among the conditions imposed was a provision that all of the property not then owned, except one parcel, was to be acquired on or before July 1, 1911, otherwise neither party should become liable to the other. The agreement further provided that petitioner should use all reasonable efforts to complete the building on or before July 1, 1912, and that the rental to be paid would be based upon the cost of the new building and such cost was to include sums paid by petitioner to clear the properties of leases.

On or before July 1, 1911, petitioner acquired the premises located at 22-24 Summer Street and 422-424 Washington Street under 99-year leases and the balance of the property in fee. Petitioner expended $18,500 in acquiring the 99-year lease on 22-24 Summer Street. It also paid to the various tenants occupying the buildings on land already owned by it and at this time acquired in fee and by 99-year leases, certain amounts for the early surrender of their leases prior to their date of expiration. There was paid in cash to the several tenants $413,562.57. In addition thereto petitioner allowed the occupancy, rent free for four months, of 12 Summer Street, resulting in a loss of rent of $1,266.68; and 426 Washington Street, resulting in a loss of rent of $3,166.66. It also issued its own capital stock of a par value of $50,000 to various tenants in part payment for the surrender of the leases held by them. The unexpired terms of leases acquired of tenants of the buildings were from eight months to eight years and eleven months. The lease having the longest unexpired term expired on September 1, 1920. It was necessary for petitioner to acquire the leases in order to obtain possession of the properties in time to demolish the old buildings, erect thereon the new building, and to otherwise carry out the provisions of the agreement of February 14, 1911.

The improvements located on the parcels owned or acquired as just stated were demolished, and thereafter petitioner erected a single department store building on the site. The parcels of land, together with the new building, were leased to Wm. Filene'sSons Company on September 1, 1912, for a term of 34 years and one month from the date of the lease.

It has been stipulated that the cost of the new building was $2,210,413.13, exclusive of the cost of the leases, and the March 1, 1913, value of the building was at least that amount. A reasonable rate of depreciation on the new building is 2 1/2 per cent per annum.

OPINION.

ARUNDELL: In 1910 petitioner was the owner of certain improved property located in the business section of Boston. Wm. Filene'sSons Company was the operator of a large department store in the neighborhood and it was in the market for larger quarters. Negotiations were entered into between petitioner and Filene's and a tentative accord arrived at to the effect that, if petitioner should be able to acquire sufficient property adjoining that then owned by it and would on such property erect a suitable building, Filene's would enter into a long term lease for such property at a substantial rental. To that end petitioner acquired in fee certain adjoining property and on other property it acquired 99-year leases. But the property so acquired by it, as well as the property already owned in fee, was improved and occupied by tenants. Time was of the essence of the agreement with Filene's, and if the deal was to be consummated it was necessary that immediate possession be obtained in order that the old buildings might be demolished and a new structure completed by a definite date. To secure the surrender of the leases by the tenants occupying the properties large sums were paid them to move.

The problem for solution is the proper treatment to be accorded the sums paid the various tenants in order to secure immediate possession of the premises so that a new building might be erected and leased to Filene's. Whether or not expenditures of this character should be treated as losses, ordinary and necessary business expenses or capital expenditures to be added to the cost of the land or recovered over a period has been determined very largely from the purpose which prompted the expenditure. In , we treated an amount paid by the fee owner to its tenant for the surrender of the lease as an ordinary and necessary business expense where the purpose of the owner was to itself enter into the use of the surrendered property for business purposes. In , where the owner paid for the cancellation of a lease in order to rent the same property to another at a higher rental, the amount so expended was permitted to be recovered over the term that the canceled lease had left to run. In the case of , where the owner of a 99-year lease paid a sum to the sublessee to surrender his sublease in order that it might erect on the property another building in compliance with a provision of the long-term lease, we said such an amount should be spread over the 99-year lease on the theory that the benefit would run for so long a time. Other cases where a somewhat similar problem was treated by the Board are , and . See also .

A question closely analogous has arisen as to the proper treatment of demolished buildings. Article 142 of Regulations 45 and similar provisions of all later regulations of the Commissioner provide that a loss may be taken upon a voluntary demolition of an old building. It is provided, however, in a case where property has been acquired with a building on it which the purchaser intended to raze and put the property to some other use, that no loss may be taken on the demolition of the building, but that the entire cost should be treated as having been paid for the land. A view similar to that expressed in article 142 will be found in , and ; and .

The respondent, in reliance on , would have the expenditures here involved spread over the remaining life of the canceled leases and as the expiration dates of these leases have long since passed, no allowance would be permitted during the taxable years before us. Petitioner, on the other hand, asks that the expenditures be spread over the term of the lease to Filene's and, if this can not be done, then over the life of the new building.

There is no dispute between the parties that the expenditures in controversy were made solely in order to prepare the way for the new building to be leased to Filene's. It is equally clear that time was of the essence and that unless immediate possession of the entire property was had the deal could not be put through. That such possession could only be had by the expenditures in quqestion is clear. We do not believe that these expenditures made under the circumstances here present should be added to the cost of the land, title to some of which had been owned in fee long before this transaction arose. Nor were the benefits of the expenditures to inure permanently, or in the cases of the 99-year leases over their term. The payments were made to the tenants to obtain immediate possession so that the new building might be erected for lease to Filene's, and for no other purpose. It is the building that is to produce the income and it seems to us both just and reasonable that these expenditures should be added to the building cost and recovered over its life of 40 years.

The petitioners contend that the expenditures made by them were in the amount of $486,495.91. This amount is arrived at, however, by including certain expenditures which in the present state of the record may not, in our judgment, be included. The sum of $18,500 was expended as a bonus to obtain the 99-year lease on 22-24 Summer Street, and should be treated as a cost of that leasehold estate, recoverable ratably over its term. In one case rents for four months, amounting to $1,266.68, were waived in consideration of the lessee's agreement to cancel the remaining term of his lease. In another instance the lessee was permitted to occupy the leased premises for four months free and there was refunded to him the sum of $1,583.33 for rent paid for April, 1911. This sum, together with a like amount, a total of $3,166.66, is alleged to be the cost of procuring the cancellation of the lease. We have not been informed whether or not petitioner treated the rents accruable under the leases as income and we may not regard the sums as the cost of acquiring the unexpired terms of the leases. In four cases petitioner's own capital stock of a total par value of $50,000 was given in addition to cash for the cancellation of leases. No attempt was made to establish the fair market value of the stock so paid, nor was any evidence offered as to the extent of the stock outstanding or the value of the net assets behind the stock. Accordingly, we must exclude this item as a part of the cost of the building. After making allowance for these items, there remains for recovery ratably over the life of the new building the sum of $413,562.57.

Decision will be entered under Rule 50.