## Facts

- American Realty Trust (ART) was organized as a real estate investment trust (REIT) and sought the tax treatment available to qualifying REITs, including meeting a requirement to distribute at least 90% of taxable income to shareholders.
- In 1965, ART agreed to acquire the Palm Beach Towers resort property from Harry Helmsley for $7 million: $2.5 million cash and acquisition subject to a $4.5 million mortgage.
- ART simultaneously agreed to lease the property back on a net-lease basis to Palm Beach Towers, Inc., a Helmsley-controlled corporation, with certain lease obligations undertaken or guaranteed by Helmsley personally.
- Under the lease, the lessee paid fixed annual net rent and assumed responsibility for operating expenses, taxes, insurance, repairs, and capital improvements.
- The transaction included an option, delivered at closing, allowing Helmsley to repurchase the property at prices that decreased over time; the option was later exercised in 1971 after assignment to a Helmsley-owned corporation.
- For tax years including 1968, ART treated itself as the owner and claimed depreciation on the building and interest deductions on the assumed mortgage.
- After auditing ART’s 1968 return, the IRS recharacterized the transaction as a loan to Helmsley, disallowed ART’s depreciation and interest deductions, and treated “rent” as interest, increasing ART’s taxable income and affecting its REIT distribution compliance.
- ART paid the assessment, sought a refund, and filed a refund action; a jury found the transaction was entered in good faith, not solely for tax reasons, and for legitimate commercial purposes, resulting in judgment for ART.

## Issues

1. Whether the sale-and-leaseback with a repurchase option transferred tax ownership to ART so that ART could claim depreciation deductions.
2. Whether the transaction should instead be treated, in substance, as a secured financing arrangement (loan) with Helmsley remaining the tax owner.

## Decision

- The Fourth Circuit affirmed the judgment for ART.
- The court upheld the jury’s determination that the transaction had economic substance and was not merely a disguised loan.
- ART, as buyer-lessor, was entitled to claim depreciation deductions (and related tax treatment) as the tax owner during the relevant period.

## Legal Principles

- Federal tax consequences depend on the substance of a transaction rather than its formal labels.
- In sale-and-leaseback arrangements, entitlement to depreciation turns on which party, in substance, holds the benefits and burdens of ownership.
- A sale-and-leaseback may be respected where it reflects a genuine multi-party transaction with economic substance and business purpose, even if tax benefits are expected.
- Whether a purported sale-and-leaseback is a true sale or a financing device is fact-intensive; when evidence supports competing characterizations, the determination may be left to the factfinder and upheld on appeal if supported by sufficient evidence.

## Conclusion

The court sustained a jury finding that ART’s Palm Beach Towers sale-and-leaseback, despite a net lease and repurchase option, had sufficient economic substance to be treated as a true sale for tax purposes, allowing ART to claim depreciation and rejecting the IRS’s secured-loan recharacterization.


American Realty Tr. v. United States, 498 F.2d 1194 (4th Cir. 1974)