# Hilton v. Commissioner > United States Tax Court · May 19, 1980 · 74 T.C. 305 URL: https://www.frixlaw.com/law-library/cases/4484238 ## Case - **Full name:** Carol W. Hilton, 1 v. Commissioner of Internal Revenue - **Court:** United States Tax Court - **Decided:** May 19, 1980 - **Citations:** 74 T.C. 305; 1980 U.S. Tax Ct. LEXIS 135 - **Precedential status:** Published - **Opinion:** Opinion of the court by Nims - **Judges:** Nims - **Cited by:** 74 later opinions in the Frix Law Library ## Citator (automated) - No negative treatment found by the automated citator. That is not the same as a confirmation that the case is good law; read the citing cases. - Full citator and citing cases: https://www.frixlaw.com/law-library/cases/4484238 ## Opinion text Nims, Judge: These consolidated cases were assigned to be heard by Special Trial Judge Charles R. Johnston pursuant to Rules 180 and 182, Tax Court Rules of Practice and Procedure. His report was filed on November 7, 1978, and, subsequently, the parties filed exceptions to his report. Such exceptions have been duly considered by the Court. Due regard has also been given to the circumstance that the Special Trial Judge had the opportunity to evaluate the credibility of witnesses. See Rule 182(c) and (d), Tax Court Rules of Practice and Procedure, and the Note thereto, 60 T.C. 1057 , 1149-1150 (1973). Respondent determined the following deficiencies in petitioners’ Federal income taxes: Docket Taxable Nos. Petitioners years Deficiencies 2088-74 Carol W. Hilton. 1969 $12,854.10 Edward R. Bloomquist and Lila M. Bloomquist. $4,704.00 5117-75 CO 1,938.28 o t> percent to 6 percent loan rate to others on a loan debt — we would get a constant of 30 years.” It seems likely, therefore, that the first renewal term rent was related to the expected cost of refinancing the $315,000 balloon — an amount Broadway would have to pay or finance if the buyer-lessor defaulted. In concluding the part of his report dealing with cash flow, Steichen stated that “an analysis of the cash flow from the rentals to be received when adjusted to reflect the financing costs indicates that there would be no cash available for distribution to the partners until the 31st year of the lease term and that where tax considerations are not taken into account the return at that time is too small to justify the wait.” We agrée. The other possibilities for economic gain foreseeable at the inception of the transaction were sale, condemnation, or destruction or mortgage refinancing of the property. Section 21 of the lease deals with a sale or transfer of the property, and provides, in effect, that if the lessor receives a bona fide offer for the purchase of the property and decides to accept such offer, the lessee would have the right to purchase the interest of the lessor for $50,000. The property would still remain subject to the nonrecourse debt. Of this purchase price, the limited partners of both partnerships would be entitled to receive, as a group, 49 percent or $24,500. The limited partners of 14th Property Associates would thus suffer a loss of $155,500, and the limited partners of 37th Property Associates would lose $130,500. If the offering price were greater than $50,000, Broadway, as lessee, would merely exercise its option and pocket the gain. At the trial of this case, petitioners attempted to establish that the language of section 21 of the lease, quoted in our findings, was a mistake, and that section 21 was, in fact, amended during the week before the trial. According to petitioners, the effect of the amendment was to remove the $50,000 purchase option and instead simply to vest in Broadway the right to veto any proposed purchaser which was a competitor of Broadway or did not have Broadway’s credit standing, Broadway no longer having any right of first refusal. Petitioners sought to show that this was the intention of the various parties to the original financing all along, and that the inclusion of the language of section 21 quoted in our findings was an inadvertence. The trier of the facts rejected the petitioners’ version as above outlined and we have no reason to find otherwise. The trial judge had the opportunity to evaluate the credibility of the witnesses and due regard is to be afforded his judgment. Rule 182(d), Tax Court Rules of Practice and Procedure. Accordingly, we have found that the relevant language of section 21 of the lease was intended to read as we have quoted it in our findings of fact. Regardless of section 21, however, petitioners’ opportunity for gain on any sale will be limited to any then-present value of the rental income flow and the residual, the combined total of which, as we have shown, is minimal and in any event less than petitioners investment. The reason for this is that section 26(a) of the lease (also quoted in our findings) gives Broadway carte blanche to sublet the property or assign its leasehold interest after the original term of the lease. Since Broadway will thereby continue to have virtually total control of the property for an additional 68-plus years after the expiration of the original term, and since petitioners’ interest will be strictly limited for all those years, Broadway, and not petitioners, will be in a position to realize the true economic value of the property by the simple expedient of using the property, itself, at nominal cost or subletting or assigning it to another for the then-going rate of property of this type in Bakersfield, Calif. In other words, Broadway’s purchase option was essentially surplusage. This is, perhaps, one explanation for Broadway’s magnanimous acquiescence, if it indeed did acquiesce, in the ante-trial “correction” of section 21. Another possible source of economic gain would be through receipt of the proceeds of condemnation. However, since the act of condemnation lies wholly beyond the control of the owner or the lessee of property, and since the amounts of awards cannot even be speculated in advance, a prospective investor would not ordinarily look to condemnation as a likely source of economic gain. Section 20.3 of the lease provides that should there be a total taking or a taking of such a substantial part of the property that in the judgment of Broadway’s directors the property has been rendered unsuitable for use by Broadway in the operation of its business or it is not feasible to rebuild, the lease will terminate and the lessee must, under such circumstances, offer to purchase the property at a price equal to the unpaid principal of the notes outstanding together with unpaid interest thereon. If the lessor rejects the offer, award proceeds are to go to the lessor. It is thus apparent that in this one situation — a substantial condemnation — there could be a potential for gain by the petitioners. It would appear questionable as to whether, in light of other lease provisions (relating to maintenance of the property, etc.), Broadway (the lessee) could simply keep the condemnation award and continue to pay rent on a nonoperative facility — a possibly attractive choice if the award were sufficiently large, particularly if at the time of the award the mortgage had been substantially reduced or paid off. Nevertheless, the possibility of condemnation for a substantial amount of money, sometime in the future, of a major installation such as a department store building is not, in and of itself, the sort of speculative chance to which even incorrigible gamblers — which we assume these petitioners are not — would likely be attracted. The record contains no intimation that, at the time the instant transactions were entered into or at any other time, there was any prospect of condemnation. We therefore heavily discount condemnation as a consideration in evaluating a potential source of economic gain. A final potential source of economic gain is through mortgage refinancing. Under the mortgage notes, a total prepayment is permitted in any calendar year beginning with 1978, subject to prepayment penalties beginning with 3 percent of the then-outstanding principal and reducing gradually to 0.15 percent in 1997. Taking into consideration the premium to be paid for prepayment and the fixed rental terms which generate no net cash flow during the initial lease term, the only opportunity for economic gain would occur in the event of a substantial decrease in interest rates below the 5y8 percent provided for in the financing. Respondent’s expert, Steichen, testified at the trial that since the stated rate of interest of the mortgage notes was below the prevailing commercial lending rates at the time the financing was obtained, and since there was already in evidence continuing upward pressure on interest rates in general, the likelihood of a substantial reduction in interest payments which would lead to an economic gain through mortgage refinancing was quite remote. We find Steichen’s testimony on this point convincing. Finally, in considering whether petitioners made an investment in the property, we consider it to be significant that none of the petitioners’ cash outlays went to Broadway. Petitioners’ entire investment in 14th P.A. and 37th P.A. went to Cushman and others, but not to Broadway. Such payments constituted, in one sense, brokers’ commissions which customarily (and absent a special agreement for shifting the burden of commissions) are paid by the seller. We do not intend to infer that the cost of brokers’ commissions is not ordinarily taken into consideration by sellers of real estate in fixing the asking price for property, and, if the asking price is obtained, thereby passed on to the buyer. In such cases, the commissions become indirectly part of the cost of the property and one would normally expect that the purchasers of property would negotiate a return on this cash outlay in the form of increased rent. By contrast, Broadway’s rent only covered that part of the investment represented by the mortgage. Indeed, the petitioners do not pretend that the amounts paid to Cushman and others are part of the cost of the property. Bather, they seek to deduct the payments as the cost of services rendered to the partnerships. Thus, by petitioners’ own admission, none of their payments went to the seller, directly or indirectly, so their investment in the property, absent the principal payments on the note, assuming arguendo they may be attributed to petitioners, was zero. Furthermore, Broadway made substantial expenditures related to the property prior to its transfer to Medway which were not reimbursed. Using its own funds, Broadway incurred direct and indirect costs in the acquisition of the land and the construction of the store totaling $3,332,834, yet the selling price of the property under the sale-leaseback was only $3,137,700, a difference of $195,334. It might have been expected that Broadway would have undertaken to recover this outlay as a part of the sales price, but such was not the case. Thus, Broadway dealt with the transaction in this respect in the same manner as it would have done as the true owner of the property; it financed as much of the cost as possible and paid the balance from its own funds. We are, in summary, persuaded that an objective economic analysis of this transaction from the point of view of the buyer-lessor, and therefore the petitioners, should focus on the value of the cash flow derived from the rental payments and that little or no weight should be placed on the speculative possibility that the property will have a substantial residual value at such time, if ever, that Broadway abandons the lease. The low rents and almost nominal cash flow leave little room for doubt that, apart from tax benefits, the value of the interest acquired by the petitioners is substantially less than the amount they paid for it. In terms discussed above, the buyer-lessor would not at any time find it imprudent from an economic point of view to abandon the property. Estate of Franklin v. Commissioner, 544 F.2d 1045 (9th Cir. 1976), affg. 64 T.C. 752 (1975). There is thus no justification for the petitioners’ participation in this transaction apart from its tax consequences. Having so analyzed petitioners’ lack of potential for economic gain, we must nevertheless confront the question of how petitioners’ position differs, if it does, from that of the buyer-lessor in the Frank Lyon case. 25 The facts of the Frank Lyon case are rather complicated but are pointedly significant. Initially, Worthen Bank & Trust Co. (Worthen) planned to construct a bank and office building. Its plans ran afoul of legal and regulatory restrictions and, as an alternative, Worthen proposed a sale and leaseback transaction. Bank regulatory authorities approved the plan as long as Worthen retained a repurchase option after the 15th year of the lease and obtained an independent third-party buyer-lessor. Frank Lyon Co. (Frank Lyon) became interested in the transaction and, after negotiating with several other equally interested entities, Worthen selected Frank Lyon to be the buyer-lessor. Meanwhile, Worthen had already arranged for the financing and the financiers approved Frank Lyon as the buyer-lessor. Frank Lyon, the purchaser, was a substantial corporate entity which participated actively in negotiating the terms and conditions of the sale and leaseback, was personally liable for the payment of the principal and paid, in addition to the mortgage financing, $500,000 out of its own funds to Worthen. The terms of the agreement called for Worthen to lease the land to Frank Lyon for 76 years and to sell the building and lease it back for a 25-year primary term and eight 5-year option terms. The sale and leaseback were effected simultaneously. The lease was a net lease, with Frank Lyon’s, only current financial obligation being the quarterly mortgage payments. Rent payments for the 25-year primary term were calculated to exactly equal the mortgage payments: $582,224 annually for the first 11 years and $613,156 annually for the succeeding 14 years. Thereafter, the amount of rent decreased to $300,000 per year during the option periods totaling 40 years. Worthen had options to repurchase the building at periodic intervals for the amount of the outstanding mortgage plus Frank Lyon’s original $500,000 investment, with 6-percent interest compounded thereon. The District Court held that Frank Lyon was entitled to the depreciation and mortgage interest deductions. The court based its finding that the substance comported with the form on the facts that the rent payments were reasonable, the option prices represented the fair market value of the properties, and the unlikelihood that Worthen would exercise the repurchase option. It refused to draw any negative inference from the fact that rentals combined with the options were sufficient to amortize the loan and pay Frank Lyon a fixed 6-percent return on its equity or that the lease was a net lease. The Court of Appeals reversed. Analogizing property rights to “a bundle of sticks,” the court concluded that Frank Lyon did not have sufficient sticks to allow it to be treated as the owner. The Supreme Court reversed the Court of Appeals, sustaining the form of the transaction, and held that Frank Lyon was indeed the owner of the property for tax purposes, holding that “so-long as the lessor retains significant and genuine attributes of the traditional lessor status, the form of the transaction adopted by the parties governs for tax purposes.” The Court was very careful to circumscribe the scope of its imprimatur: “we emphasize that we are not condoning manipulation by a taxpayer through arbitrary labels and dealings that have no economic significance,” Frank Lyon Co. v. United States, supra at 584 . Among the facts in the Frank Lyon case which distinguish it significantly from those in the case before us are the following: (1) The rent during the initial lease term was sufficient to completely amortize the underlying mortgage principal, whereas in the case before us, the rent will amortize only 90 percent of the note principal, leaving a sizable balloon at the end. (2) The rent in Frank Lyon was fair rental value for the-property and after the initial lease term was substantial and free and clear to the buyer-lessor. In the case before us, the rent is not based on fair rental value. In the first renewal option period, the rent is relatively insignificant and, if applied to amortize the refinanced balloon, will provide an insignificant, if any, cash flow to petitioners. (3) The buyer-lessor in Frank Lyon paid $500,000 of its own funds to the seller-lessee; in the case before us none of petitioners’ funds went to Broadway. (4) In Frank Lyon, the buyer-lessor stood to realize a substantial gain in the event the seller-lessee exercised its repurchase option; in the case before us, the petitioners cannot dispose of the property at a profit. (5) In Frank Lyon, the buyer-lessor was a substantial.corporate entity which participated actively in negotiating the terms and conditions of the sale and leaseback, while in the instant case the entire “deal” was packaged as a financing transaction by the orchestrator, Cushman, and then marketed by him and his colleagues as a tax shelter. While, as we have indicated previously, this factor, alone, might not be fatal to petitioners’ cause, considered in concert with the other negative factors outlined above, it lends no credence to any contention that there is here present any “genuine multi-party transaction with economic substance,” as mandated by the Supreme Court in Frank Lyon. Furthermore, the extremely casual, not to say careless, way in which the various tier partnerships were fabricated, financed, and managed gives them an aura of mechanical contrivance which does not inspire confidence in the genuineness of the requisite multiparty transaction. We recently applied the rule in Frank Lyon to uphold the validity of a sale-leaseback transaction in a case where the totality of facts and circumstances convinced us that the substance of the transaction was a bona fide sale-leaseback which should be given effect for tax purposes. Belz Investment Co. v. Commissioner, 72 T.C. 1209 (1979). In that case, the lessee and lessor were both substantial business entities and those two parties, as in Frank Lyon, negotiated the terms of the transaction at arm’s length. Such cannot be said for the case before us. Fourth Cavendish, the putative buyer-lessor, was organized and put into place only after the financing was negotiated and finalized. (6) The fact that the buyer-lessor in Frank Lyon was personally liable on the mortgage was, of course, a significant factor supporting the bona fides of the sale-leaseback transaction in that case. Nevertheless, we regard personal liability on the mortgage as atypical in modern real estate transactions and, consequently, we consider the absence of personal liability as a neutral factor in the case before us. In summary, after considering all of the facts and circumstances in the case before us, we find that the petitioners have failed to show a genuine multiparty transaction with economic substance, compelled or encouraged by business realities and imbued with tax-independent considerations and not shaped solely by tax-avoidance features that have meaningless labels attached. Frank Lyon Co. v. United States, supra at 583-584 . We further find that Medway, the limited partnership from which petitioners seek to derive their deductible losses, is a mere conduit through which Broadway’s debt payments pass on their way to the insurance companies. It follows that petitioners have no “investment” in the property upon which depreciation can be predicated; it also follows that the debt in question has no economic significance to the petitioners and thus they have not, in this case, secured “the use or forbearance of money.” Estate of Franklin v. Commissioner, 544 F.2d at 1049 . We therefore conclude that petitioners, as members of 14th P.A. or 37th P.A., are not entitled to deduct partnership losses resulting from depreciation allowances and interest payments. 26 Payments to Promoters Our determination that the buyer-lessors served as nothing more than a conduit still leaves for consideration the question of the deductibility of the payments to the promoters. The limited partners of 14th P.A. paid $180,000 for their interests. Seventy thousand dollars of this amount was allocated to the capital account of JRYA and then withdrawn by JRYA in 1967 as compensation for services. Young and his salesmen each received a 12y2-percent commission from JRYA for each sale. The remaining $110,000 of the capital contributions made to Í4th P.A. by its limited partners was paid by 14th P.A. as its capital contribution to Medway. Medway, in turn, paid the entire $110,000 to Cushman in 1967. Of that amount, $105,350 was treated as a salary payment to Cushman. The difference in the amount of $4,650 was treated as a withdrawal from Cushman’s capital account, leaving a balance in that account of $5,097.71. The withdrawal of capital was made without any prior unanimous agreement of the partners as required by the partnership agreement. The limited partners of 37th P.A. paid a total of $155,000 for their interests in 1969. Of this amount, $60,000 was allocated to the capital account of JRYA and then withdrawn by JRYA in 1969 as compensation for services, including commissions. The remaining $95,000 of capital contributed by the limited partners in 37th P.A. was in turn paid by 37th P.A. as its capital contribution to Grenada. Grenada, in turn, paid the entire $95,000 to Cushman allegedly as compensation for past and future services. The $70,000 paid by 14th P.A. to JRYA in 1967, the $60,000 paid by 37th P.A. to JRYA in 1969, and the $95,000 paid by Grenada to Cushman in 1969 were deducted as section 162 ordinary and necessary business expenses, salaries to partners, on the respective partnership returns. In addition, Medway deducted, in 1967, $215,000 in salary expenses — $212,850 for Cushman and $2,150 for MacGill — although only about one-half, or $105,350, was paid to Cushman and nothing was ever paid to MacGill. The parties agree that the payments to JRYA and Cushman must meet the requirements of section 162(a) (or sec. 212) to be deductible by the partnerships. Cagle v. Commissioner, 63 T.C. 86 (1974), affd. 539 F.2d 409 (5th Cir. 1976). Their dispute is factual in nature. Petitioners characterize the payments as prepaid management fees and contend that the payments meet section 162 or 212 tests for deductibility as entirely reasonable and fair estimates of the value of potential future services to be rendered. Respondent contends that the payments were either capital in nature or were not properly deductions of the partnerships. It is clear that Cushman and JRYA, through its president, Young, and its salesmen, performed substantial services in organizing the partnership and in selling partnership shares. Similarly, it is clear that Cushman performed substantial services in putting together the sale and leaseback transaction. While expenses incurred in organizing a partnership are nondeductible capital expenses (Cagle v. Commissioner, 539 F.2d at 415), as are expenses incurred in connection with the sale and leaseback, 27 petitioners adhere to their assertion that the entire amount of the promoters’ fees are deductible. The reason for this devotion to their argument: petitioners take the position that none of the promoters’ fees is attributable to these past services. Instead, petitioners ask the Court to believe the frivolous argument that the entire amount of the fees of the promoters is attributable to future services that JRYA is expected to render to 14th P.A. and 37th P.A. and that Cushman is expected to render to Medway and Grenada. Not only were these services nominal at most, as will be seen below, but petitioners’ plaint in effect asks the Court to overlook the 12y2-percent commissions paid by JRYA to its employees for selling these partnership shares. The only significant future duty of JRYA was to have annual partnership returns prepared and this was a relatively simple task. The national accounting firm which performed this service simply used the figures reflected on the annual partnership returns of Medway and Grenada and multiplied them by the appropriate percentages to reflect the interests held by 14th P.A. and 37th P.A. JRYA paid the accounting firm a nominal fee, the amount of which cannot be determined from the record (although it was not less than $100), for preparing each tax return of 14th P.A. and 37th P.A. On brief, petitioners argued that there was another significant service to be performed by JRYA: “communication with the petitioners and being available to answer their questions * * * including aiding petitioners who may wish to dispose of their individual partnership interest.” However, petitioners have not shown that any amount of the fees of the promoters was paid for this service, much less shown what that amount was. JRYA, as the general partner, had one other significant obligation: it was obligated to keep, or to cause to be kept, full and true books of account of 14th P.A. and 37th P.A. in which there would be entered all transactions of the respective partnership and annually to transmit to the limited partners financial statements in addition to the annual partnership tax returns. Petitioners evidently discounted this obligation because it was not cited on brief as one of the justifications for the large payment for future services. In any event, no books of account were, in fact, set up or maintained during the taxable years 1967 through 1969 for 14th P.A. or during the taxable year 1969 for 37th P.A., and no annual financial statements or reports other than the partnership income tax returns were sent to the limited partners of 14th P.A. and 37th P.A. The only record JRYA kept was a trust account indicating cash received and disbursed by each partnership. Finally, in January or February of 1970, the journal and ledger records of 14th P.A. and 37th P.A. were, for the first time, set up by Touche Ross & Co., then newly retained as the partnerships’ accountants. Touche Ross’s fee for setting up the partnerships’ books was $7,500, and it is fair to surmise from the record that this fee covered books for JRYA’s approximately 50 to 60 real property syndications of the general nature of 14th P.A. and 37th P.A. which existed during the years 1967 through 1970. Similarly, the only significant services to be rendered by Cushman were preparation of the partnership tax returns of Medway and Grenada and maintenance of the good corporate standing of Fourth Cavendish. Although an outside accounting firm prepared these returns and was paid a fee for rendering this service, there is no basis in the record for concluding that this fee was anything but nominal. In addition, Cushman’s past compensation did not pay for preparation of the returns. Cushman used Medway’s small residual cash flow from the years 1968 through 1970, along with approximately $920 which had been transferred to Medway from Fourth Cavendish’s capital account, to cover a portion, if not all, of these expenses for the years 1967 through 1972. Cushman also served as the liaison between Broadway and Medway. Petitioners note that Medway granted utility easements across the property which Cushman handled, and they argue that Cushman would be responsible for arranging future note sales in the event Broadway wanted to finance improvements in excess of $500,000. Again, however, petitioners have failed to establish that any amount of the promoters’ fees, much less a specific amount, was paid to compensate Cushman for these services. In addition, nothing in Medway’s partnership agreement mandated that Cushman perform these services without seeking future compensation. Medway and Grenada were also supposed to maintain formal books of account, but none existed. The accounting records of Medway consisted of annual spread sheets which were prepared by the accountants Moroney and Donelan in conjunction with preparing the annual partnership returns of Medway. Grenada had no books of account or other accounting records other than its tax returns. Any notion one may have that the principals are credible in their assertion that the promoters’ fees were intended as prepayment for services is quickly erased by two episodes which illustrate the extent to which the promoters went in an attempt to qualify the promoters’ fees, at least in form, as a deductible expense. The first deals with the year 1967 and focuses on the promoters’ attempt to maximize 14th P.A.’s deduction attributable to salary payments in 1967. Of the $110,000 paid by 14th P.A. to Medway, $105,350 was paid in turn to Cushman “for services,” the nature of which are undisclosed by the record. The other $4,650 was withdrawn by Cushman as a return of capital. Under the terms of Medway’s partnership agreement, which provided that all profits and losses were to be allocated on the basis of each partner’s profit-and-loss sharing ratio, only 49 percent of the $105,350 should have been allocated to 14th P.A. In 1968 when the Medway partnership return was being prepared, Milton Hecht, an employee in the real estate department of Wood, Struthers, became aware that 14th P.A.’s share of the Cushman salary was only 49 percent. He felt that the payment by 14th P.A. conflicted with the understanding of the parties, and he took steps to obviate that result. 28 The accountants were able to allocate the total salary payments to 14th P.A. by reflecting a salary figure on the Medway return of $215,000 which was approximately double the actual figure for Medway’s salary. This left 14th P.A. with a 49-percent share of the loss, equal to $105,350. Cushman and MacGill, the other two partners in Medway to whom the excess salary was allegedly paid, were not adversely affected by the fictitious salary expense because they received the newly created offsetting losses. No matter how hard petitioners attempt to defend their accounting treatment of this item by citing to a presumed intent of the parties or arguing that the same result would obtain with a special allocation, the fact remains that the parties created fictitious entries on the partnership return to achieve the desired result. The second time the promoters took positive (and questionable) steps to manipulate the numbers occurred in 1969 with the formation of 37th P.A. and Grenada. Prior to that time, Cushman owned 50 percent of Medway, MacGill owned 1 percent, and 14th P.A. owned 49 percent. Obviously, the simple way to bring in additional limited partners would have been for 37th P.A. to acquire 49 percent of Medway. Had that been done, the $95,000. paid by 37th P.A. would clearly not have been a deductible expense. The promoters chose not to effect the transaction in this manner, opting instead to form another new partnership, Grenada, transfer Cushman’s 49.5-percent interest in Medway to Grenada, and have 37th P.A. acquire a 99-percent limited partnership interest in Grenada. Cushman retained a 1-percent general partner interest in Grenada. The $95,000 paid by 37th P.A. to Grenada was paid out to Cushman as “salary to partner” and deducted by Grenada as such. Petitioners baldly assert that Grenada was formed solely to permit Cushman to keep control of Medway to protect his relationship with Broadway. This may have been important to Cushman, but the formation of Grenada did nothing to help him in that regard. Pursuant to Grenada’s partnership agreement, Cushman could have been removed as a general partner by the limited partners of 37th P.A. at any time. Even if Cushman formed Grenada for that purpose, it is patently obvious that petitioners used Grenada in such a way as to qualify the $95,000 payment from 37th P.A., at least in form, as a deductible salary expense. It is also patently clear in this instance that petitioners do not even have a colorable argument to defend the characterization of that payment as a prepaid salary expense. Cushman would not be called upon to perform services for Grenada. Any de minimis duties that could arise would be at the Medway level. Petitioners’ argument that Grenada should bear a proportionate share of the costs of compensating Cushman because Grenada was benefiting from the services is beside the point. Cushman was allegedly already compensated for those future services. The burden of proving whether and the extent to which the promoters’ fees are deductible as payments for future services is of course on the petitioners. The petitioners have failed to carry their burden of proving that all or some portion of the promoters’ fees constituted deductible prepaid fees for future services. 29 Having decided the principal issue and the payments to general partners issue in favor of respondent, it is unnecessary for us to consider the alternative issues raised by respondent. Decisions will be entered for the respondent in docket Nos. 2088-71, 5117-75, 5172-75, 5571-75, 5641-75, 5654-75, 5655-75, 6851-75, 7210-75 and 8056-76. Appropriate orders will be issued with respect to docket Nos. 5622-75, 8097-75, 8052-76, 8055-76 and 8060-76. Some of the petitioners invested in 14th P.A., while others invested in 37th P.A., but the legal issues herein are identical as to the investments in both partnerships. All statutory references are to the Internal Revenue Code of 1954 as amended and in effect during the years in issue. The record contains some internal inconsistencies regarding the ownership of Fourth Cavendish. However, for present purposes, we will accept as correct petitioners’ contention that Cushman was the actual owner of Fourth Cavendish. It is apparent that the recital in Medway’s partnership agreement that 14th P.A. contributed no capital is inconsistent with any purported purchase by 14th P.A. of a capital interest in Medway. Medway did not file a separate election to adjust the basis of the partnership property but did indicate on the depreciation schedule of its 1969 return that a basis adjustment was being used in calculating the depreciation on property acquired on Jan. 1, 1969. Conn. Gen. Stat. Ann. secs. 34-9 and 34-10 (West 1969). The figures upon which the forecasts are premised are not strictly accurate for two reasons: first, the accountants assumed that the mortgage principal would be $3,100,000 rather than the actual amount of $3,137,000, with a corresponding increase in the rental payments. Second, the annual “Trustee’s Fees” were approximately $292 rather than $200. The 1967 Accountants’ Forecast was prepared for individuals who were expected to purchase a one-third interest in 14th P.A.’s 49-percent interest in Medway. Young decided to sell equal shares in 14th P.A. to five individuals, and for this reason, the losses to be realized by a holder of a one-fifth interest in a 49-percent interest in Medway were “penciled in” under a column headed “V5 of 49%” on page 2 of the forecast. The accountants’ letter accompanying the 1969 Accountants’ Forecast set forth the information used and the assumptions made in preparing the Forecast. The information included a simplified balance sheet for Medway and other information obtained from Young concerning depreciation on the store, mortgage amortization, and lease income renewal options. The income tax calculations were said to be based upon the position of an investor having taxable income in the amount of $50,000 prior to deducting his share of the partnership loss. The accountants assumed the investor would file a joint return at 1969 Federal and California income tax rates, including a 5-percent Federal surcharge for 1969. In preparing the forecasts, the -accountants relied upon schedules of indicated profit and loss made available to them by JRYA. At the time the accountants prepared the 1967 Forecast, they did not have available a copy of the lease, the mortgage indenture, or other documents reflecting the details of the sale-leaseback transaction between Broadway and Fourth Cavendish. The accountants were aware that JRYA and Young would show these forecasts to prospective participants in partnerships to be formed. (A) — Allocation of capital account to general partner for services. Reference is made to the accompanying accountants’ letter. (A) — Allocation of capital account to general partner for services. Reference is made to the accompanying accountants’ letter. As previously indicated, Young and his salesmen each received a 12%-percent commission from JRYA for each sale. The lease permits Broadway to refinance improvements costing in excess of $500,000, using Fourth Cavendish as a vehicle to sell corporate notes. This analysis is detailed infra at pp. 348-353. 14th P.A. reported the allocated loss to be $63,554 on its 1970 partnership return. There is a $30 discrepancy in the figures for this year. Includes a $70,000 deduction for payments to partners. Medway allocated a loss of $57,332 to 14th P,A. on its partnership return for 1970. Includes $60,000 partnership payment. Some of the petitioners invested in 14th P.A. while others invested in 37th P.A., but the legal issues herein are identical. See discussion of the “Multi-Tiered Partnership” in A. Willis, Partnership Taxation, sec. 61-07, p. 181 (2d ed. 1976). The issues as framed by the parties are stated above in the preamble. As we have found in the findings of fact, Fourth Cavendish was used as the single vehicle for the sale and leaseback of three stores, including the one in Bakersfield with which we are concerned. However, since the transaction involving each of the three was, in a manner of speaking, hermetically sealed off from, and essentially unrelated to, the other two, we will, for simplicity of expression, deal with Fourth Cavendish in this opinion as though it were the single-purpose corporation for only the Bakersfield property (i.e., the property). Frank Lyon Co. v. United States, 435 U.S. 561 (1978). The tax consequences of real estate sale-leaseback transactions have been exhaustively analyzed by the courts and commentators, both before and after the Frank Lyon Co. decision. Some, but not all, of the cases are: Estate of Franklin v. Commissioner, 64 T.C. 752 (1975), affd. 544 F.2d 1045 (9th Cir. 1976); Sun Oil Co. v. Commissioner, 562 F.2d 258 (3d Cir. 1977); American Realty Trust v. United States, 498 F.2d 1194 (4th Cir. 1974); Bolger v. Commissioner, 59 T.C. 760 (1973); Hill v. Commissioner, 63 T.C. 225 (1974), affd sub nom. Tenner v. Commissioner, 551 F.2d 313 (9th Cir. 1977); Miller v. Commissioner, 68 T.C. 767 (1977); Davis v. Commissioner, 66 T.C. 260 (1976), affd 585 F.2d 807 (6th Cir. 1978), cert. denied 440 U.S. 981 (1979). See also L. Raster, “Sale-Leasebacks Economics, Tax Aspects and Lease Terms,” Practising Law Institute (1979). In their brief, petitioners draw attention to the fact that while title to the property is in the Medway partnership as transferee from Fourth Cavendish, there is a traceable claim of ownership to petitioners, and the losses claimed by petitioners are derived from the losses resulting from the ownership of the property by Medway. For convenience, therefore, we will from time to time refer to the petitioners by the generic description “buyer-lessor.” We emphasize that, at this point, we are not considering the partnership and other tax questions inherent in the series of steps leading to the acquisition by petitioners of their respective limited partnership interests in 14th P.A. and 37th P.A. Respondent does not argue that Bolger should be distinguished because the partnerships here may not have assumed (at least at the inception of the sale-leaseback transaction) all of the obligations of the single-purpose financing corporation. Cf. Davis v. Commissioner, 66 T.C. 260 (1976), affd. 585 F.2d 807 (6th Cir. 1978), cert. denied 440 U.S. 981 (1979). For example, Fourth Cavendish transferred all its interest in the property to the trustee for the insurance companies under the mortgage indenture, and Fourth Cavendish also assigned all its interest in the lease to the trustee. In addition, we have found as a fact that Medway did not assume Fourth Cavendish’s obligations under the lease until Jan. 12, 1970. Lichter made computational errors in his calculations which we see no need to discuss. Even based upon petitioners’ assumptions, the present value of the property determined on a conservative actuarial basis would not be indicative of economic substance. Such assumptions are: (1) The pre-tax net income will be $23,000 per annum, commencing at the end of 30 years and ending 23 years thereafter. (2) The property could always be sold for its original cost: $3,150,000 (rounded). (3) The property will be free and clear at the end of 53 years. Deriving factors from see. 20.2031-10{f), table B, Estate Tax Regs., the computation is as follows: (a) Determine present value of $23,000 per year for 53 years ($23,000 x 15.9070).$365,861 (b) Subtract present value of $23,000 per year for 30 years ($23,000 x 13.7648). 316,590 Present value of net pre-tax rent.:. 49,271 (c) Add present value of property to be received free and clear at end of 53 years ($3,150,000 x 0.0456). 143,640 Present value of the property. 192,911 Cost of petitioners’ interest. 334,000 Deficit.(141,089) Steichen stated that, as a general rule, there is a life span in residential properties which extends somewhere between 50 and 60 years of age, after which they tend to become, if not physically deteriorated, at least marked by obsolescence and, therefore, are no longer attractive to the persons who originally inhabited them. Therefore, a residential structure which in the economic sense is consumer durable, is owned by a number of successive persons during the course of its life, with each of these persons or types of persons having different characteristics. Frank Lyon Co. v. United States, 435 U.S. 561 (1978). Petitioner relies on Hill v. Commissioner, 63 T.C. 225 (1974), to sustain its position here. In Hill, the Court found that by virtue of a complicated sale and leaseback transaction, the titular owners were entitled to depreciation and interest deductions. The short answer to petitioner’s argument that Hill should control is Hill antedated Frank Lyon which provides the basis for our decision in the instant case. More to the point, the Court found that the Hill transaction had economic substance. The owners had a reasonable hope of realizing economic gain; they also bore some of the risks, being required to contribute some $30,000 from their own resources during the 3-year period. Unlike the instant case, the Commissioner in Hill did not contest the form of the sale through an economic analysis because the facts would not support the contention that due to an excessive sale price a sale should not be deemed to have occurred. Hill was sanctioned because it had economic substance, something the transactions in the instant case are sorely missing. The latter are capital in nature because they are expenses incurred in connection with the acquisition of a capital asset. Sec. 263(a). On brief, petitioners suggest that Hecht had nothing to do with this action. They evidently forgot that he testified twice, and the second time he admitted that it was his idea to devise a means to allocate all the salary to the petitioners. In so holding, we do not reach the question as to whether such payments for future services would, in fact, be deductible. --- Source: Frix Law Library, https://www.frixlaw.com/law-library/cases/4484238. Public record. Not legal advice.