Helvering v. Bruun

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Helvering v. Bruun

Argued February 28, 1940
Decided March 25, 1940

Full case name:	Helvering, Commissioner of Internal Revenue v. Bruun

Citations:	410 U.S. 113; 60 S. Ct. 631; 84 L. Ed. 864

Holding

Court membership

Chief Justice: Charles Evans Hughes
Associate Justices: James Clark McReynolds, Harlan Fiske Stone, Owen Josephus Roberts, Hugo Black, Stanley Forman Reed, Felix Frankfurter, William O. Douglas, Frank Murphy

Case opinions

Helvering v. Bruun, 309 U.S. 461 (1940),^[1] was a case in which the Supreme Court of the United States held that a taxpayer realized a gain after repossessing property improved by a tenant. Under the facts of the case, a taxpayer leased real property for a 99-year term. During the course of the lease, the tenant was permitted to tear down existing improvements and to construct a new building on the property. Pursuant to the lease agreement, the tenant returned the property and all improvements to the taxpayer after default occurred in the eighteenth year.

The value of the new building after repossession was $64,245.68, while the taxpayer’s adjusted basis in the old building was $12,811.43. The government argued, and the court held, that upon repossession the taxpayer realized a gain of $51,434.25.

In reaching this conclusion, the court explained that the following four events may trigger realization of gain or loss: (1) a property exchange; (2) relief of a legal obligation owed to a third party; (3) relief of a legal obligation owed to the party receiving property; and (4) other profit transactions. Brunn is an example of the fourth realization event. Under it, a taxpayer may realize profit by receiving an asset with enhanced value in a transaction even where severance does not occur.

Importantly, Congress enacted sections 109 and 1019 of the Internal Revenue Code in response to Brunn. Section 109 permits the lessor of real property to exclude the value of improvements made by a tenant. Section 1017 then prohibits the taxpayer from adding the value of improvements to the taxpayer’s basis.

While Congress specifically enacted sections 109 and 1019 in response to Brunn, the case still stands for the proposition that repossession of an asset with an enhanced value from a transaction with another party is gross income.

[It is worth noting that part of the Court's analysis was flawed. The Court writes that "[i]t is not necessary to recognition of taxable gain that he should be able to sever the improvement begetting the gain from his original capital. If that were necessary, no income could arise from the exchange of property; whereas such gain has always been recognized as realized taxable gain." This analysis is flawed because in a property exchange, severability is a prerequisite to realization. In a usual property exchange, severance does in fact occur. It occurs as each party to the transaction surrenders his property to the other. Therefore, property exchanges and permanent improvements are two distinct types of transactions. However, since Bruun says that severance is not an element of realization, the Court seems to be departing from the traditional rule established in Eisner v. Macomber, namely, that severance is a prerequisite to realization. This development is troubling, because in effect, it holds that taxpayers can be taxed on appreciation in value even in the absence of a transaction. Public policy would seem to dictate against adapting this result, because various problems arise under a system that taxes taxpayers simply because their property appreciated in value (despite the fact that no exchange occurred) such as: without an exchange, taxpayers might not be able to cover the tax, thereby forcing them to sell their property, or how to deal with property that fluctuates in value from year to year, resulting in a gain one year but a loss the next. These difficulties illustrate the advantages of keeping in place the Court's long-standing policy of requiring severance as a prerequisite to realization.]

While just one of many tax cases decided by the U.S. Supreme Court, it is an excellent example of the power of congress to override a judicial decision through legislative action. In addition, it shows the balance of power between the Court and Congress in shaping U.S. law.