MCP ASSOCIATES, L.P. - DECISION - 10/31/97 In the Matter of MCP ASSOCIATES, L.P. TAT (E) 95-97 (RP) - DECISION NEW YORK CITY TAX APPEALS TRIBUNAL APPEALS DIVISION REAL PROPERTY TRANSFER TAX - A CONVEYANCE OF A CONTROLLING ECONOMIC INTEREST IN REAL PROPERTY TO A NEWLY CREATED ENTITY WITH NEW PARTNERS AND DIFFERING PARTNERSHIP INTERESTS CLEARLY FALLS WITHIN THE INTENT OF THE RPTT STATUTE. UPON THE MERGER, 100% OF THE PARTNERSHIP INTERESTS IN B.L. COMPANY WERE EXCHANGED FOR NEWLY ISSUED PARTNERSHIP INTERESTS IN PETITIONER. OCTOBER 31, 1997
New York City Tax Appeals Tribunal -----------------------------------x : In the Matter of : : DECISION MCP ASSOCIATES, L.P. : : TAT (E) 95-97 (RP) Petitioner. : : -----------------------------------x : MCP Associates, L.P. (the "Petitioner") filed an Exception to the Determination of an Administrative Law Judge ("ALJ") dated August 9, 1996 which sustained the disallowance of refund claim by the New York City Department of Finance (the "Department") with respect to the merger, under Delaware Partnership Law, of a New York general partnership which owned real property located in New York City (the "City") into a Delaware limited partnership. Petitioner appeared by Aaron Friedman, Esq. and the Commissioner of Finance of the City of New York (the "Commissioner" or "Respondent") appeared by George P. Lynch, Esq., Assistant Corporation Counsel, New York City Law Department. Both parties filed briefs and oral argument was granted by the Tribunal. The ALJ's factual findings, which are based on the parties' stipulated facts and the Exhibits, are related below. Petitioner is a Delaware limited partnership which is the successor by merger to B.L. Company ("BL"), a New York general partnership and nine other general partnerships (the "Merging Entities"). The Merger pursuant to section 17-211 of Delaware's Revised Limited Partnership Act, Del. Code. Ann. tit. 6, 17-211 (hereinafter "Delaware Partnership Law") took effect on December 31, 1991 (the "Merger Date").
Prior to the Merger, BL owned two parcels of real property located in Brooklyn, New York, designated as Block 8241, Lot 1 ("Parcel 1"), and Block 7884, Lot 46 ("Parcel 2") (collectively the "Real Property"). The Real Property was encumbered by a single mortgage dated August 30, 1986, the principal amount of which was $1,334,572 on the Merger Date. On the Merger Date, the fair market values of Parcel 1 and Parcel 2 were $860,000 and $950,000, respectively. None of the other nine Merging Entities owned real property located in the City. follows: Prior to the Merger, BL's partnership interests were held as Partner Percentage Interest Bernard Mandelbaum 26.00 Leon Mandelbaum 26.00 BFP Associates ("BFP") 17.57 LFP Associates ("LFP") 19.25 MFP Associates ("MFP") 11.18 Total 100.00 BFP, LFP, and MFP are New Jersey general partnerships whose partners are ten natural persons (none of whom is either Bernard Mandelbaum or Leon Mandelbaum) and which have, respectively, three, four, and three partners. Petitioner was formed on December 13, 1991 by MCP Investments, Inc. ("Investments") who was its sole general partner and by a single individual who was its initial limited partner (the "Initial Limited Partner"). Investments is a New Jersey corporation whose nineteen shareholders are the ten partners of BFP, LFP, and MFP, and nine trusts for the benefit of children of certain of those partners. The Initial Limited Partner contributed nominal cash to the capital of Petitioner in exchange for an interest in Petitioner. The Initial Limited Partner was to withdraw from -2-
Petitioner upon the consummation of the Merger. Petitioner's Amended and Restated Agreement of Limited Partnership (the "Partnership Agreement") provided in Section 3.3(c) dealing with capital contributions that: As a consequence of the Merger, each Limited Partner is credited with the Capital Contribution set forth opposite their [sic] name on Exhibit "A" and shall acquire the Partnership Percentage as set forth on Exhibit "A". The Limited Partners shall not be required to make any other Capital Contributions to the Partnership. Exhibit A of the Partnership Agreement does not provide for the amount of each capital contribution opposite the name of each limited partner. Rather it contains a statement that: These amounts will be determined for each of the Limited Partners as the sum of the aggregate fair market value of their former interests in the lower tier partnerships (as reflected in their restated capital accounts). Immediately following the Merger, the partnership interests in Petitioner were held as follows: Partner Percentage Interest Bernard Mandelbaum 25.50 Leon Mandelbaum 25.50 BFP 17.20 LFP 18.84 MFP 10.96 Investments 2.00 Total 100.00-3-
The partners and partnership interests in BFP, LFP and MFP did not change before, during or after the Merger. As a result of the Merger, the partners of Petitioner received interests in Parcel 1 and Parcel 2, which parcels had fair market values of $860,000 and $950,000, respectively. Immediately following the Merger, Bernard Mandelbaum and Leon Mandelbaum retired from Petitioner. Their interests in Petitioner were redeemed for consideration equal to the fair market value of such interests. The portion of the consideration attributable to the Real Property was the fair market value of the Real Property. Since Leon Mandelbaum and Bernard Mandelbaum collectively owned fifty-one percent of Petitioner, the fair market values of those interests were calculated at fifty-one percent of the value of each of Parcel 1 and Parcel 2 ($438,600 and $484,500, respectively). On January 30, 1992, RPTT returns were filed and the appropriate amounts of RPTT were paid with respect to such transfers. Petitioner does not contest the applicability of the RPTT to those transfers; nor does it seek a refund of the tax that was paid with respect to them. On January 30, 1992, Petitioner filed an RPTT return and paid RPTT of $47,512.50, under protest, in connection with the Merger. On September 13, 1992, Petitioner's representative requested a ruling from Respondent that the RPTT should not apply to the Merger or to the partners' acquisition of partnership interests in Petitioner. On January 27, 1993, Petitioner's representative filed a refund claim for the RPTT paid in connection with the Merger, plus any interest or fees to which Petitioner is entitled. -4-
On December 7, 1993, Respondent issued a letter ruling to Petitioner's representative in which he concluded that the Merger is subject to the RPTT as a conveyance of the Real Property to Petitioner in exchange for interests in Petitioner. On June 7, 1994, Respondent issued a Notice of Disallowance of the refund claim. The reason stated for the disallowance was "per letter ruling issued to you." On August 31, 1994, Petitioner's representative filed a Request for a Conciliation Conference with the Department of Finance's Conciliation Bureau. A Conciliation Conference was held on November 28, 1994. A Decision constituting a final order confirming discontinuance of conciliation was issued by the Conciliation Bureau on April 7, 1995. On June 9, 1995, Petitioner timely filed a Petition for Hearing requesting an allowance of the refund claim. Before the ALJ, Petitioner asserted that, under the provision of the Delaware Partnership Law pursuant to which the Merger took place, the Real Property vested in Petitioner as a matter of law. As a result, it argued, there was no conveyance of real property by deed upon which to impose the RPTT. Petitioner also contended that the provisions of the RPTT which impose the tax on transfers of economic interests in real property did not apply, because the ownership of the partnership interests in the surviving partnership did not differ from the ownership of the partnership interests in the disappearing partnership by fifty percent or more. Respondent, in the letter ruling upon which the Notice of Disallowance was based, originally asserted that the Merger was subject to the RPTT as a conveyance of the Real Property to Petitioner in exchange for interests in Petitioner. In his brief, Respondent contended that the transaction was taxable as the -5-
exchange of partnership interests in BL for partnership interests in Petitioner. In addition, Respondent maintained that the transfer of an economic interest in an entity that owns real property is taxable even where the percentage transferred is less than fifty percent. To the extent relevant here, the ALJ denied Petitioner's RPTT refund claim and found that, since all of the partnership interests in BL were exchanged for newly issued partnership interests in Petitioner, there was a transfer of an economic interest in real property within the meaning of section 11-2102.1(b) of the New York City Administrative Code (the "Code") and the RPTT was properly imposed. In rejecting Petitioner's argument that RPTT should not be imposed, the ALJ stated that: "In a merger of a New York general partnership into a Delaware limited partnership under Delaware Partnership Law, to the extent that the owners of partnership interests in the disappearing partnership also owned interests in the surviving partnership both prior to and after the merger, there is no transfer or exchange of partnership interests in the disappearing partnership. Those interests simply cease to exist as a matter of law and become part of the partnership interests in the surviving partnership owned by the partners prior to the merger." (Determination, Conclusion of Law B) However, the ALJ found that, in the transaction at issue here, the BL Partners did not own partnership interests in MCP before the merger. Rather, she concluded, the BL Partners exchanged their partnership interests in BL for new partnership interests in Petitioner which were issued in order for the Merger to take place. Thus, the ALJ found, this aspect of the Merger was a transfer which was taxable under Section 11-2102.b(1). (Determination at 17) -6-
On appeal, Petitioner asserts that, even assuming, arguendo, that the ALJ was correct in finding that "no transfer would have occurred had the partners in BL, the disappearing partnership, owned their partnership interests in Petitioner, the surviving partnership, before the merger" (Determination at 19), the owners of BL did own their interests in Petitioner before the merger. Petitioner contends: (a) that the Partnership Agreement, by its terms, evidences the fact that the initial Limited Partner, who contributed $100 to Petitioner, acted "merely as an agent or dummy on behalf of the Limited Partners (as said term is defined in the Partnership Agreement)" and; (2) that the Code provides at 11-2106(b)(7), that a transfer "from a mere agent, dummy, straw man or conduit to his or her principal" is not subject to RPTT. (Petitioner's Brief at 2) Alternatively, Petitioner contends, a merger whereby the owners of the disappearing entity retain their ownership in the surviving entity at and after the consummation of the merger is not subject to RPTT regardless of the fact that interests in the surviving entity were not owned by these same persons prior to the merger. According to Petitioner, the ALJ erred in looking to who owned Petitioner (the surviving entity) before the merger. Respondent maintains that the ALJ's Determination is fully supported by the law and the record and should, therefore, be affirmed. The Commissioner asserts that "realty-owning partnership interests (in [BL]) were exchanged for partnership interests in [Petitioner] as part of the merger in question," resulting in a 1 transfer subject to RPTT. In response to Petitioner's arguments, 1It should be noted that changes to the Code since the date of this transaction have liberalized the City's posture but it is not clear that such changes would necessarily affect a transaction like this one. Section 11-2106.b(8) of the Code now provides an exemption from the RPTT for transfers that affect a mere change of identity or form of ownership of the real property or economic interest therein to the extent the beneficial ownership remains the -7-
Respondent contends that the presence of Petitioner's Initial Limited Partner satisfies neither the prior ownership requirement referred to in the ALJ's Determination nor the conditions for the statutory agency exemption. For the reasons stated below, we affirm the ALJ's conclusion that the conveyance at issue here is subject to RPTT. Pursuant to 11-2102.b(1) of the Code, RPTT is imposed, in relevant part, on "each instrument or transaction (unless evidenced by a deed subject to tax under subdivision a), at the time of the transfer, whereby any economic interest in real property is transferred by a grantor to a grantee, where the consideration exceeds twenty-five thousand dollars." Prior to the Merger, the BL partnership was comprised of five partners and owned 100% of the subject realty. Pursuant to the Merger, 100% of the partnership was conveyed to a newly formed entity, MCP Associates, L.P., Petitioner herein. Petitioner had six partners, five of whom had been partners in BL, and a new sixth partner, Investments, which was its general partner. After the Merger, the percentage partnership interests previously held by the five partners of BL were spread among the six partners of MCP; none of the 5 partners in BL retained the same percentages they had held in BL prior to the Merger. Such a conveyance of a controlling economic interest in real property to a newly created entity with new partners and differing partnership interests clearly falls 2 within the intent of the RPTT statute. We agree with the ALJ to the extent that she found that the partnership interests in BL were same (the "Mere Change" exemption). This provision was not yet in the Code at the time of this transaction. 2 See generally Goldman, Sachs & Co. v. Michael, 113 A.D.2d 326 (1st Dept. 1985). While Goldman does not involve a merger claim, it is helpful with regard to the scope of RPTT; see discussion re mergers, infra at 11. -8-
exchanged for newly issued partnership interests in Petitioner. The exchange was clearly a transfer of a controlling economic interest subject to the RPTT. 3 We do not need to reach Petitioner's argument that the initial limited partner was a mere "straw man", because we are unpersuaded by the ALJ's reasoning that the identity of the pre-merger principals of Petitioner should impact the taxability of this transaction. If non-taxability could be assured by having the surviving entity owned by the same parties both before and after the merger, then every otherwise taxable transfer could be rendered non-taxable by structuring the deal so as to substitute the new owners at some point before the moment of merger. Clearly, the only manageable test for determining whether a transfer occurred would be the identity (or lack of it) between the owners of the disappearing entity and the post-merger owners of the surviving entity; that is, the inquiry into the interests which control the only two entities that had or will have an economic interest in the real property in question. However, even if we sought to support the ALJ's result (which we believe to be correct), by invoking her Conclusion of Law B (which we find questionable), Petitioner's "straw man" argument would still fail. Petitioner seeks to engraft an RPTT concept onto an analysis of the continuity between disappearing and surviving entities under Delaware law. Here, the use of an intervening party keeps the transaction within the sphere of "transfers" subject to 3Sec. 11-2101.7 of the Code defines a "transfer" for purposes of RPTT as follows: "When used in relation to an economic interest in real property, the terms "transfer" or "transferred" shall include the transfer or transfers or issuance of shares of stock in a corporation, interest or interests in a partnership, association or other unincorporated entity, or beneficial interests in a trust, whether made by one or several persons, or in one or several related transactions, which shares of stock or interest or interests constitute a controlling interest in such corporation, partnership, association, trust or other entity." -9-
RPTT. The "straw man" exemption in the City's RPTT Law was intended to shield from tax a transfer between an essentially identical transferee and transferor, not to prevent inquiry into the identity of transferor and transferee where the interplay between "merger" and "transfer" must be painstakingly established. In the final analysis, Petitioner's claim must fail because 100% of the partnership interests in BL were exchanged for newly issued partnership interests in Petitioner. It cannot be gainsaid that a controlling interest in BL was in fact transferred. Petitioner can only argue that its partners had so great a similarity to the partners of BL that we must ignore the structure of the transaction and find no transfer. The argument might be more convincing if the ownership interests in Petitioner were 4 identical to those in BL, but that is not what happened here. Here, the disappearing general partnership transferred 100% of its interest to an entity containing a new general partner. alleged insignificance of the new partner's 2% interest is belied by the legal requirement for the selfsame partner's presence as the sole general partner in a limited partnership; in other words, regardless of the size of its share in the entity, the newly introduced party played a key and indispensable role, coloring the entire composition of the surviving entity with its presence. Upon the Merger, the partnership interests in BL were exchanged for newly issued partnership interests in Petitioner. 5 The 4For purposes of this decision, we do not need to reach the issue of whether this argument could be controlling and, therefore, we do not decide it here. 5 The ALJ expends much effort (Determination pp. 19-21) in demonstrating that the transfer of "an economic interest" in real property which is less than "a controlling interest" does not subject such transfer to RPTT. We agree with that conclusion, but we find it irrelevant to the instant transaction because, as we have concluded, supra, BL transferred to Petitioner 100% of its interest in the Real Property when it merged into Petitioner. The examples in the rules which allow for tax-free mergers (as we will demonstrate in greater detail, infra) deal only with situations in -10-
Contrary to Petitioner's assertions, the transfer is outside of the intent and scope of what is illustrated by the "merger examples" in the RPTT Rules. There is no specific statutory provision exempting mergers from RPTT; however, the RPTT Rules provide three examples of mergers which are not taxable precisely because, as the ALJ explained, there is no transfer of a controlling economic interest. However, the facts in each of the examples are clearly distinguishable from the instant case. The first example involves the merger of a wholly-owned subsidiary corporation (which owned real property in the City) into its parent, (the Parent-Subsidiary Merger); the second refers to the merger of a wholly-owned subsidiary (owning real property in the City) into another wholly-owned subsidiary corporation (the Brother-Sister Merger) (See 19 RCNY 23-03(e)(2) Illustrations (ii) and (iii). The third example involves the merger of two limited partnerships where A owned a 90% limited partnership interest and B owned a 10% general partnership interest in both the disappearing limited partnership and in the surviving limited partnership. Following the merger, A still owned a 90% limited partnership interest and B still owned a 10% limited partnership interest in the surviving limited partnership. (See 19 RCNY 23-03(e)(4)). None of the above examples provides support for a finding that the merger at issue herein was not subject to RPTT. Petitioner has not shown, and we do not find, that the RPTT intended to treat as nontaxable a conveyance wherein one party contributed 100% of its interest in real property to a second entity that was comprised of additional partners and different percentage partnership interests. which the principals are identical on both ends. Confusion is engendered here because the Petitioner contends that, since the surviving entity differed in ownership from the disappearing entity only in that a new partner appeared with a two percent interest, only such "2% interest" could have been transferred. In fact, as indicated above, a 100% interest was transferred. The only relevance of the "2% partnership interest" is as a starting point for inquiring into whether the entire transfer was a real one, or was illusory, in view of the small practical effect. We hold with the former point of view. -11-
Lastly, we find that this transaction also does not come within the multi-step conveyance exemption set forth in 19 RCNY 6 23-03(f). Assuming, arguendo, that the exchange of BL partnership interests for interests in Petitioner, and the subsequent redemption of Bernard and Leon Mandelbaum's interests from Petitioner, were part of a single overall "plan", such "plan" resulted in a change in the respective percentage interests of the 6The rule states that: A series of transfers pursuant to a plan to reorganize an ownership network of real property in New York City will be treated as a direct transfer from the entity originally owning the real property or economic interest therein to the entity ultimately owning the real property or economic interest therein, and the tax will apply to the deemed direct transfer if the following factors are present: (1) the series of transfers under the plan has a fixed beginning and end; (2) the final transfer under the plan is completed within thirty days of the first transfer under the plan; (3) the plan will not result in a change in the respective percentage interests of the individuals or entities which were the owners of the network at the beginning of the plan (for this purpose, changes in the ownership of the owners themselves will not be taken into account, although such changes may be subject to tax on their own facts); and (4) the plan requires each interim holder of the real property or economic interest therein to hold such interest solely to pass on to another individual or entity. Under such a plan, each of the interim transfers will be presumed to be transfers to or from conduits. The determination of whether a conveyance falls within this subdivision (f) will be made by the Commissioner of Finance on a case by case basis after a review of all the documentation supporting such treatment. -12-
owners of the network at the beginning of the plan and thus fails to fulfill the requirements of 19 RCNY 23-03(f)(3). 7 Finally, even if the instant transaction had, as its single paramount goal, the business purpose of facilitating the redemption of the shares of Bernard and Leon Mandelbaum; and even if the series of events in pursuit of such goal resulted in the imposition of RPTT on two transfers, Petitioner is precluded from urging that equity requires refund of the tax at issue, because such taxation as occurred resulted from the form of transaction chosen by Petitioner. A taxpayer is bound to pay the tax incurred by a freely chosen form or structure, even where an alternative choice, inadvertently unused, could have produced a non-taxable event. See Commissioner v. National Alfalfa Dehydrating & Milling Co., 417 U.S. 134 (1974); Sverdlow v. Bates, 283 A.D. 487 (3rd Dept. 1954). 7In addressing this point, we disagree with the ALJ's conclusion that she was precluded from addressing such issue because "[she] addressed the parties attention to this issue at a pre-hearing conference and neither side has pursued it." (Determination at 22) The City Tribunal decisions relied on by the ALJ in reaching her conclusion (Matter of U.S. Life Realty Corp., TAT Nos. (E) 134 (GC); 93-135 (GC) (April 23, 1996) and Matter of Andal Corp., TAT (E) 93-179 (GC) (June 30 1995)) are inapposite. Both cited cases required additional facts in order for the ALJ to adequately address the relevant issues while the instant case simply calls for the application of the Rules to the facts stipulated. -13-
Based on the above, the Determination is hereby sustained. 8 Dated: October 31, 1997 New York, New York MARK FRIEDLANDER Commissioner and President SUSAN GROSSMAN Commissioner 8We have considered all of Petitioner's remaining arguments and have found them unpersuasive. -14-