William M. Casey and Liou Dien-Mei Casey v. Commissioner of Internal Revenue

830 F.2d 1092, 60 A.F.T.R.2d (RIA) 5683, 1987 U.S. App. LEXIS 12972

• Court: Court of Appeals for the Tenth Circuit
• Decided: September 30, 1987
• Docket: 85-2543
• Status: Published

Opinions

LOGAN, Circuit Judge.

William M. and Liou Dien-Mei Casey appeal from a decision of the United States Tax Court assessing a deficiency on their 1979 federal income tax return.

The only issue on appeal is whether the Caseys may deduct as “general sales taxes” under I.R.C. § 164(a)(4), as it existed before 1986,¹ amounts paid as New Mexico gross receipts taxes by the builder of a residence sold to them. The Caseys assert that they met the requirements of the statute and that Treas.Reg. § 1.164-3(e)(l) (1964), which they do not satisfy, invalidly interprets the statute. Alternatively, they argue that, even if the regulation is valid, they satisfied both the statute and the regulations. The Tax Court held for the government on the ground that the Caseys had not met the “separately stated” requirement of § 164(b)(5);² it did not consider the other arguments. William M. Casey, 50 T.C.M. (CCH) 1014 (1985).

Because the essential facts are stipulated and many pending cases depend on the outcome of this litigation, we affirm the Tax Court judgment on a ground more generally applicable. The Treasury Department’s interpretation in Treas.Reg. § 1.164-3(e)(l) (1964) that the term “sales tax” means a tax imposed upon the sale of “tangible personal property” or upon the furnishing of “services” must be given effect. Since the Caseys here acquired realty and not tangible personal property, they are not entitled to the deduction.

New Mexico imposes a gross receipts tax on the sale of all services and property, N.M.Stat.Ann. § 7-9-1 et seq. The tax does not apply to the sale of real property, but it does apply to receipts attributable to “improvements constructed on the real property by the seller in the ordinary course of his construction business____” Id. § 7-9-53(A). Thus, when a newly built home and lot are sold, the home builder³ must pay a gross receipts tax on the value of the new home but not on the value of the lot.

The Caseys agreed on March 16, 1979 to purchase a new townhouse and the underlying lot from the builder, Homes by Marilynn, Inc., for $35,250.00 plus settlement charges of $1837.93.⁴ The Caseys and the builder never discussed who would pay the gross receipts tax. Months later, on February 2, 1980, the Caseys requested and received from the builder a letter which indicated that the sale price of the townhouse and lot included $1355.77 for the gross receipts tax.⁵ The Caseys deducted this amount on their 1979 federal income tax returns under I.R.C. § 164(a)(4) and (b)(5), as separately stated general sales taxes paid by a consumer to the seller.

I

The Caseys contend that the sales tax deduction, as plainly set forth in § 164(a)(4) of the statute, is broad enough to allow them to deduct the gross receipts tax paid on the townhouse and lot. They challenge the validity of Treas.Reg. § 1.164-3(e)(l) (1964), which limits the sales tax deduction to amounts paid on sales of tangible personal property and services. For the purposes of this argument, the Caseys concede that the townhouse and lot are realty and thus fall outside the regulation.

The Caseys’ argument against the validity of the regulation is based upon Congress’ changing the language of § 164 in 1964. Under the 1954 Code, § 164(c)(2)(A) explicitly limited federal deductibility of sales taxes to those levied on “tangible personal property.” Congress omitted this explicit limitation in 1964, when it amended the section to read,

“[Sec. 164(a)]

(a) GENERAL RULE. — [T]he following taxes shall be allowed as a deduction for the taxable year within which paid or accrued:

(4) State and local general sales taxes.”

Pub.L. No. 88-272, § 207(a), 78 Stat. 19, 40-41 (1964). Although Congress eliminated the explicit reference to tangible personal property, the Treasury Department’s regulation, amended in 1964, continued to interpret the scope of the deduction as before:

“(e) Sales Tax. (1) The term “sales tax” means a tax imposed upon persons engaged in selling tangible personal property, or upon the consumers of such property____”

Treas.Reg. § 1.164-3(e)(l) (1964). The regulation has not been amended since.

The standard of review for a Treasury regulation is highly deferential:

“This Court has many times declared that Treasury regulations must be sustained unless unreasonable and plainly inconsistent with the revenue statutes and that they constitute contemporaneous constructions by those charged with administration of these statutes which should not be overruled except for weighty reasons.”

Commissioner v. South Texas Lumber Company, 333 U.S. 496, 501, 68 S.Ct. 695, 698, 92 L.Ed. 831 (1948) (citation omitted). The Caseys thus must demonstrate that the regulation is both unreasonable and plainly inconsistent with the statute. The issue reduces to a simple query: Did Congress in 1964 intend to broaden the benefits of the sales tax deduction?

What little light the legislative history of the 1964 amendment sheds almost entirely supports the notion that no change was intended. Both the House and Senate reports state that Congress desired to “continue” the sales tax deduction; this reasonably could be construed as an intent to maintain the deduction’s historic boundaries. H.R.Rep. No. 749, 88th Cong., 2d Sess., reprinted in 1964 U.S.Code Cong. & Admin.News 1313, 1357; S.Rep. No. 830, id. at 1726, 1728. To the extent that the 1964 amendments contemplated any change in revenue, they anticipated an increase in revenues from the denial of deductibility of certain state and local taxes other than the sales tax deduction. H.R. Rep. No. 749, id. at 1358, 1361, S.Rep. No. 830, id. at 1727,1729. Congress discussed no change in revenue from the sales tax deduction; from this we may infer that Congress intended no change in the scope of that deduction. The technical explanation of the tax bill refers to the sales tax as being on “tangible personal property.” H.R.Rep. No. 749, id. at 1468; S.Rep. No. 830, id. at 1880 (referring to the House Report technical explanation).

The only evidence from which a contrary intent might be inferred comes from the reports stating that Congress intended to establish a neutral federal posture toward state property, income, and general sales taxes, so that states could choose freely among the three major revenue sources without federal tax law influencing the decision. H.R.Rep. No. 749, id. at 1357; S.Rep. No. 830, id. at 1726. Perhaps it could be argued that the regulation, which denies deductibility for some general sales taxes, creates a federal bias against sales taxes and thus is inconsistent with the statute. We do not accept such an inference as enough to yield a definitive congressional intent for change.

Additionally, we note that between 1964 and 1979, during which time the Treasury Department’s regulation limited the tax deduction to sales of tangible personal property, Congress amended I.R.C. § 164 several times without clarifying or changing subsection (a)(4). See Pub.L. No. 92-580, § 4(a), 86 Stat. 1276, 1277 (1972) (adding a new subparagraph to subsection (b)(2)); Pub.L. No. 94-455, § 1951(b)(3)(A) and (B), 90 Stat. 1520, 1837 (1976) (repealing old subsection (f) and adding a savings provision); Pub.L. No. 95-600, § 111(a) and (b), 92 Stat. 2763, 2777 (1978) (repealing gasoline tax deduction).

When Congress is, or should be, aware of an interpretation of a statute by the agency charged with its administration, Congress’ amendment or reenactment of the statutory scheme without overruling or clarifying the agency’s interpretation is considered as approval of the agency interpretation. This rule has been applied in many tax cases. E.g., Paragon Jewel Coal Co. v. Commissioner, 380 U.S. 624, 636, 85 S.Ct. 1207, 1213, 14 L.Ed.2d 116 (1965); Helvering v. Winmill, 305 U.S. 79, 82-83, 59 S.Ct. 45, 46, 83 L.Ed. 52 (1938). The rule seems particularly appropriate when the interpretation is in a duly promulgated regulation, on an issue as noticeable and frequently applied as the deduction for general sales taxes. We therefore find the Treasury’s interpretation to be consistent with Congress’ intent.⁶

II

The Caseys’ second argument, which they raise somewhat indirectly, is that even if the Treasury regulation is valid, they meet the requirements of the regulation because what they purchased was, in effect, personalty. We reject this contention. We are satisfied that what the Caseys purchased in this case must be classified as real estate.⁷ Federal law, as explicated in the regulation, allows the deduction of state taxes paid on personal but not real property. In such a situation, the federal law incorporates a particular state’s definition of real and personal property. See Reconstruction Finance Corp. v. Beaver County, 328 U.S. 204, 209-10, 66 S.Ct. 992, 995, 90 L.Ed. 1172 (1946). Here, the builder sold a townhouse and lot to the Caseys. Under New Mexico law, the term “real estate ... shall be so construed as to be applicable to lands, tenements, and hereditaments____” N.M.Stat.Ann. § 47-1-1 (1978). The lot clearly is realty, and the townhouse normally qualifies as a tenement.

Despite their admission that a townhouse is realty, the Caseys appear to suggest that the townhouse should be considered a collection of separable building supplies which, under the New Mexico taxing statute, constitutes personal property and, under IRS guidelines, qualifies for the sales tax deduction.⁸ We find such an argument wholly unpersuasive. The Caseys bought a completed townhouse, not the separate building materials therein. Given the finished nature of the townhouse, the argument lacks foundation in New Mexico law; once the tangible personal property is incorporated into a construction project, it becomes real property:

“This court has long subscribed to the three general tests to be applied in determining whether an article used in connection with realty is to be considered a fixture [and thus real property]. First, annexation to the realty, either actual or constructive; second, adaptation or application to the use or purpose to which that part of the realty to which it is connected is appropriated; and third, intention to make the article a permanent accession to the freehold.”

Garrison General Tire Service, Inc. v. Montgomery, 75 N.M. 321, 404 P.2d 143, 145 (1965). In the instant case, all building supplies were annexed to the realty when they were combined into the townhouse, which sat permanently on the realty; the materials were adapted to the purpose for which the lot was appropriated, i.e., to provide a permanent residence for the eventual purchaser; and the builder intended that these building materials would become permanent accessions to the lot. Thus, the Caseys could win only if they had proved that they bought not the townhouse but the building materials, and that they hired a builder to incorporate the materials into a townhouse. See Rev.Rul. 82-173, 1982-2 C.B. 58.⁹ They could not prove this in the instant case because they bought a completed townhouse.

In conclusion, Treas.Reg. § 1.164-3(e)(l) (1964) narrowly limits the federal deductibility of sales taxes under § 164(a)(4) to taxes paid on tangible personal property. Because the instant case involves taxes paid on real property, the assessed deficiency of $158 is correct, and the decision of the Tax Court is AFFIRMED.

1 . The deduction for general sales taxes was eliminated by Pub.L. No. 99-514, § 134(a)(1), 100 Stat. 2116 (1986); § 164(a)(4), after the 1986 tax amendments, does not deal with sales taxes. Unless otherwise noted, this opinion refers to the pre-1986 law when it mentions § 164(a)(4).

2 . I.R.C. § 164(b)(5) was also repealed in 1986 by Pub.L. No. 99-514, § 134(b)(1).

3 . To avoid double taxation on the materials used in the construction, New Mexico permits a builder to deliver nontaxable transaction certificates to the sellers of materials incorporated into the new home. Id. § 7-9-51. This certificate exempts the seller of the materials from paying the gross receipts tax, but it requires the builder to pay the tax, based upon the value of the building, when the new home is sold. Of course, the builder may pass through the cost of the gross receipts tax to the homebuyer, but the legal incidence of the tax falls on the builder. Mescalero Apache Tribe v. O'Cheskey, 625 F.2d , 970 (10th Cir.1980) (en banc), cert. denied, 450 U.S. 959, 101 S.Ct. 1417, 67 L.Ed.2d 383 (1981).

4 . The "settlement charges” included a credit report, recording fees, mortgage title policy, origination fee, survey, appraisal, prepaid items, prepaid interest, and all other closing costs. See William M. Casey, 50 T.C.M. (CCH) at 1014.

5 . The $1355.77 was derived by treating the $35,-250.00 figure as 104% of the purchase price of the house and land. The New Mexico state rate in 1979 was 33/i%; taxpayers contend that Albuquerque levied an additional lA% city gross receipts tax. The $1355.77 mistakenly includes the value of the underlying lot, since the gross receipts tax applies only to improvements seller placed on the property and not to the underlying lot. N.M.Stat.Ann. § 7-9-53 (1979). Because we disallow the entire deduction, this miscalculation is not material.

6 . The Caseys also argue that although Treas. Reg. § 1.164 — 3(e)(1) recites that the term sales tax "means” a tax imposed on sales of tangible personal property, the regulation’s later statement that the term "also includes” a tax upon furnishing services indicates that we should apply an expansive interpretation; i.e., tangible personal property is merely illustrative of what constitutes the subject of a "sales tax.” We are not impressed with the argument, since the same wording appeared in the regulation during the pre-1964 period, when the Code clearly restricted tax deductions to sales of tangible personal property and services. Treas.Reg. § 1.164-5(b) (1957).

7 . While the Caseys conceded that a townhouse is realty, Reply Brief for Appellants at 10, they earlier appeared to dispute this position by suggesting that their house should be viewed as personalty. Opening Brief for Appellants at 34-35. Regardless of the Caseys’ current position, we reach and decide this issue to guide the disposition of future cases.

8 . "You can add to the tax table amount the general sales tax you paid if you bought ... materials to build a home____” Instructions to Form 1040, p. 16 (1979).

9 . The New Mexico statute now makes this conclusion inescapable. In 1983, § 7-9-3(K) was amended to read:

"‘Service’ includes construction activities and all tangible personal property that will become an ingredient or component part of a construction project. Such tangible personal property retains its character as tangible personal property until it is installed as an ingredient or component part of a construction project in New Mexico."

N.M.Stat.Ann. § 7-9-3(K) (Supp.1987) (emphasis added). See 1983 N.M. Laws Ch. 220, §§ I, 14.1. Upon incorporation into a construction project, building materials shed their identity as tangible personal property.