## Facts

- Aaron Levine acquired an income-producing New York City property (20–24 Vesey Street) through a liquidating distribution from his wholly owned corporation.
- Levine financed the property with two nonrecourse mortgages, including a $500,000 mortgage and a second mortgage initially $300,000 (later amortized to $280,000).
- Levine made improvements, claimed depreciation deductions, and retained some loan proceeds that were not reinvested, reducing his adjusted basis relative to the property’s encumbrances.
- On January 1, 1970, Levine transferred the property to a trust for three grandchildren.
- The trust assumed the outstanding mortgages and related obligations, including accrued interest and unpaid expenses connected to the property.
- Levine treated the transfer as a gift for gift-tax purposes (paying gift tax on the net equity) and reported no income from the transfer.
- The Commissioner determined a 1970 income-tax deficiency, asserting Levine realized capital gain because the assumed liabilities exceeded the property’s adjusted basis.

## Issues

1. Whether a transfer of encumbered property to a trust characterized as a gift results in a taxable “sale or exchange” to the extent the transferee assumes nonrecourse liabilities.
2. Whether the donor recognizes capital gain under I.R.C. § 1001 when assumed mortgages and related obligations exceed the donor’s adjusted basis in the transferred property.

## Decision

- The Second Circuit affirmed the Tax Court’s decision sustaining the Commissioner’s 1970 deficiency determination.
- The court held that the trust’s assumption of the property’s nonrecourse mortgages, accrued interest, and unpaid expenses constituted consideration to Levine and was included in his amount realized.
- Because the assumed liabilities exceeded Levine’s adjusted basis, Levine recognized capital gain equal to that excess.
- The court accepted that the transaction could be part gift (equity portion) and part sale or exchange (liability-assumption portion) for income-tax purposes.

## Legal Principles

- A transferor’s amount realized under I.R.C. § 1001 includes liabilities from which the transferor is relieved when property is transferred subject to debt or when the transferee assumes the debt, including nonrecourse debt.
- Donative intent and gift-tax treatment do not prevent income recognition where the transferee’s assumption of liabilities functions as consideration.
- When assumed liabilities exceed the transferor’s adjusted basis in the property, the transferor recognizes gain measured by the excess, even if the transfer is structured as a gift to a trust.

## Conclusion

The court held that funding a trust with mortgaged property can trigger capital gain when the trust assumes nonrecourse liabilities and related obligations exceeding the donor’s adjusted basis, treating the liability relief as consideration and the transaction as part sale for income-tax purposes.


Estate of Levine v. Commissioner, 634 F.2d 12 (2d Cir. 1980)