S. Prestley Blake and Setsu Blake v. Commissioner of Internal Revenue
1982 U.S. App. LEXIS 22993, 697 F.2d 473, 51 A.F.T.R.2d (RIA) 445 (1982)
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Rule of Law:
When a taxpayer donates appreciated property to a charity pursuant to a pre-existing understanding that the charity will sell the property and use the proceeds to purchase another asset from the taxpayer, the transaction will be recharacterized as a sale of the appreciated property by the taxpayer, who is then liable for tax on the gain.
Facts:
- S. Prestley Blake, a major stockholder in Friendly Ice Cream Corporation, owned a yacht named 'America' that he found troublesome and wanted to dispose of.
- After one museum declined to accept the yacht as a gift, Blake entered into discussions with the Kings Point Fund, Inc. (the Fund), a charitable organization.
- Blake and the Fund developed an arrangement regarding the yacht.
- On March 17, 1975, Blake transferred 35,000 shares of Friendly stock, which had a basis of $98 and a market value of approximately $687,000, to the Fund.
- The Fund immediately sold the stock, netting over $700,000.
- The Fund then used $675,000 of the proceeds to purchase the yacht 'America' from Blake.
- Shortly thereafter, the Fund sold the yacht to a third party for $250,000.
- Blake testified that he would not have made such a substantial stock donation 'except for the boat thing.'
Procedural Posture:
- The Commissioner of Internal Revenue determined a deficiency in Blake's income tax.
- Blake filed a petition in the United States Tax Court to challenge the Commissioner's determination.
- The Tax Court ruled in favor of the Commissioner, recharacterizing the transaction as a sale of stock by Blake.
- Blake, as appellant, appealed the Tax Court's decision to the United States Court of Appeals for the Second Circuit; the Commissioner is the appellee.
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Issue:
Does a taxpayer realize a taxable gain when he donates appreciated stock to a charity pursuant to a pre-existing understanding that the charity will sell the stock and use the proceeds to purchase a yacht from him, even if the understanding is not a legally enforceable contract?
Opinions:
Majority - Oakes, Circuit Judge
Yes. A taxpayer realizes a taxable gain where there is an understanding that a contribution of appreciated property will be utilized by the donee charity to purchase an asset from the contributor. The court held that the transaction must be recharacterized as a sale of the stock by Blake, followed by a contribution of the yacht. The court provided two independent bases for its conclusion. First, it found that the Fund was legally obligated to purchase the yacht under a theory of promissory estoppel, as Blake had transferred the stock in detrimental reliance on the Fund's promise to use the proceeds for that purpose. Second, even if the understanding were not legally enforceable, the Tax Court's factual finding of a pre-existing 'understanding' was sufficient to recharacterize the transaction for tax purposes. This 'understanding' amounted to more than wishful thinking and distinguished the case from precedents that required a binding obligation. The court rejected a 'wooden view' of the law, emphasizing that substance must prevail over form and that the charity acted as a mere conduit for the sale proceeds back to the taxpayer.
Analysis:
This decision solidifies the 'step transaction doctrine' in the context of charitable contributions, significantly lowering the threshold for the IRS to recharacterize a multi-step transaction. By holding that a mere 'understanding,' rather than a legally enforceable contract, is sufficient to collapse the steps into a single taxable event, the court makes it more difficult for taxpayers to avoid capital gains by using a charity as an intermediary. This case serves as a strong precedent for looking at the substance and pre-arrangement of a transaction over its form, impacting tax planning for donations of appreciated property where the donor receives a tangible benefit in return.
