UNITED STATES v. DURHAM LUMBER CO. ET AL.

(363 U.S. 522)

CERTIORARI TO THE UNITED STATES COURT OF APPEALS FOR THE

FOURTH CIRCUIT.

No. 23. Argued October 19, 1959.-Decided June 20, 1960.

Certain general contractors were adjudicated bankrupts after having defaulted both on the payment of federal taxes and on the payment of amounts due to certain subcontractors on the construction of buildings in North Carolina. The owners of the buildings paid to the trustee in bankruptcy the amount remaining due under the contract, and it was agreed that the subcontractors could assert the same rights against the trustee as they could have asserted against the owners. Under §§ 6321 and 6322 of the Internal Revenue Code of 1954, the United States claimed priority for its tax lien on the "property and rights to property" belonging to the general contractors. The Federal Court of Appeals held that, under North Carolina law, the general contractors had no property interest in the amount due under the general construction contract, except to the extent that such amount exceeded the aggregate of all amounts due to subcontractors, and that, therefore, the Government could recover only so much of the construction price as would remain unpaid after deduction of a sum sufficient to pay the subcontractors. Held: Since the Court of Appeals is much closer to North Carolina law than is this Court, and since this Court cannot say that the Court of Appeals' characterization of the taxpayers' property interests under that law is clearly erroneous or unreasonable, the judgment is affirmed. Pp. 523–527.

257 F. 2d 570, affirmed.

Howard A. Heffron argued the cause for the United States. On the brief were Solicitor General Rankin, Assistant Attorney General Rice, Daniel M. Friedman, A. F. Prescott and Myron C. Baum.

Arthur Vann argued the cause for respondents. With him on the brief were C. V. Jones, Daniel M. Williams, Jr. and J. L. Zimmerman.

[523] MR. CHIEF JUSTICE WARREN delivered the opinion of the Court.

This case involves the competing claims of the Federal Government and certain subcontractors to a sum of money owed to the taxpayers under a general construction contract.

The taxpayers, Michael & Embree, were general contractors doing business at Durham, North Carolina. Early in 1954, they agreed to construct certain buildings for persons herein referred to as the "owners." This work was completed on July 15, 1954, but because the owners disputed the amount due under the contract, payment to the taxpayers was delayed.

In completing the construction work, the taxpayers had utilized the services and materials of numerous subcontractors, most of whom had not been compensated. The respondents are two such subcontractors, who in January and February 1955, gave the owners notice of their respective claims against the taxpayers.

On January 18, 1955, the taxpayers were adjudicated bankrupts. At that time, there was an unpaid balance of $5,250 due from the

owners under the construction contract. After extensive negotiations between the owners, the trustee in bankruptcy, and the subcontractors, it was agreed that the owners would absolve themselves from further liability by paying the $5,250 to the trustee, and that the subcontractors could thereafter assert the same rights against the trustee as they could have asserted against the owners. This arrangement was approved by both the Superior Court for Durham County, North Carolina, and the federal bankruptcy court.

Another claimant of the money deposited with the trustee was. the Federal Government, which on August 13, 1954, and November 22, 1954, had assessed the taxpayers for uncollected withholding and unemployment insurance [524] taxes. By virtue of Sections 63211 and 63222 of the Internal Revenue Code of 1954, a federal tax lien attached to all "property and rights to property" belonging to the taxpayers at the time the assessments were made. The Government contended that the money owing under the construction contract was property of the taxpayers to which the tax lien attached.

The referee in bankruptcy, attempting to resolve the competing claims against the fund as if the parties were before a state court, decided that the rights of the Federal Government under its tax lien were superior to those of the respondents. The District Court for the Middle District of North Carolina disagreed, and held that the respondents were entitled to payment of their claims before the Government could satisfy its tax lien. On appeal, the Court of Appeals for the Fourth Circuit affirmed, 257 F. 2d 570. We granted certiorari. 359 U.S. 905.

In affirming the judgment of the District Court, the Court of Appeals stated that the nature and extent of the general contractors' property rights, to which the tax lien attached, must be ascertained under state law. The court then undertook an extensive analysis of the relevant North Carolina statutes and cases. It found that the North Carolina law provides as follows: Subcontractors [525] who have not been paid by the general contractor have a direct, independent cause of action against the owner to the extent of any amount due under the general construction contract, and any money owed by the owner under the construction contract must first be used to satisfy subcontractors' claims of which the owner has notice. Moreover, to insure that the owner will receive notice of outstanding subcontractors' claims, the North Carolina statute, N.C. Gen. Stat., 1950, § 44–8, requires the general contractor, before receiving any payment, to furnish the owner with a statement of all sums due subcontractors, and if the general contractor fails to supply the required statement, he is guilty of a misdemeanor. N.C. Gen. Stat., 1950, § 44-12. Finally, the court found further evidence of the direct and independent nature of the subcontractors' claims against the owner in N.C. Gen. Stat., 1950, § 44-9, which provides that should the owner pay the general

1 Section 6321. Lien for taxes:

"If any person liable to pay any tax neglects or refuses to pay the same after demand, the amount (including any interest, additional amount, addition to tax, or assessable penalty, together with any costs that may accrue in addition thereto) shall be a lien in favor of the United States upon all property and rights to property, whether real or personal, belonging to such person."

2 Section 6322. Period of lien :

"Unless another date is specifically fixed by law, the lien imposed by section 6321 shall arise at the time the assessment is made and shall continue until the liability for the amount so assessed is satisfied or becomes unenforceable by reason of lapse of time." 3 N.C. Gen. Stat., 1950, §§ 44-6 to 44-12.

contractor after receiving notice of a subcontractor's claim, he will nevertheless be liable to the subcontractor to the extent of the amount which was due under the construction contract at the time notice was received.

Based upon these considerations, the Court of Appeals held that, under North Carolina law, the general contractor did not have a property interest in the face amount, as such, of the general construction contract. Specifically, the court said that "except to the extent the claim of the general contractor exceeds the aggregate of the claims of the subcontractors, the general contractor has no right which is subject to seizure under the tax lien." Id., at 574. Therefore, concluded the court, since under North Carolina law the taxpayers possessed merely a right to the residue of the fund, and since the Government's tax lien attached to the property interests of the taxpayers as defined by state law, the Government can recover only "so much of the construction price as will [526] remain unpaid after the owners have deducted a sum sufficient to pay the subcontractors." Id., at 575.

The Court of Appeals was correct in asserting that the Government's tax lien attached to the taxpayers' property interests in the fund as defined by North Carolina law. Aquilino v. United States, ante, pp. 509, 513:4 United States v. Bess, 357 U.S. 51, 55; cf. Morgan v. Commissioner, 309 U.S. 78, 82. It is suggested that the courts of North Carolina have never specifically described the nature of the property rights created by the North Carolina statutes involved in this case, and that the Court of Appeals' interpretation of those statutes is probably incorrect. However, where "[t]he precise issue of state law involved . . is one which has not been decided by the [state] courts," this Court has said that, "[i]n [527] dealing with issues of state law that enter into judgments of federal courts, we are hesitant to overrule decisions by federal courts skilled in the law of particular states unless their conclusions are shown to be unreasonable." Propper v. Clark, 337 U.S. 472, 486-487. Since the Court of Appeals is much closer to North Carolina law than we are, and since we cannot say that the court's characterization of the taxpayers' property interests under that law is clearly erroneous or unreasonable, the judgment is

Affirmed.

5

[For dissenting opinion of MR. JUSTICE HARLAN, concurred in by MR. JUSTICE BLACK, see ante, p. 516.]

This case points up the distinction we drew in Aquilino. The facts here show how it simply begs the question to suggest that the principle of the lien-priority cases is somehow subverted or evaded by recognizing that what constitutes the taxpayer's property in the first place is a question of state law. The facts show, too, that it does not promote clarity to substitute, for the property interests created by state law, a rule of federal property law, the main feature of which seems to be an inquiry into what the consequences would be if state law were different from what it in fact is. It is said that we should regard the subcontractor's interest as equivalent to a lien on the general contractor's claim against the owner, overlooking the fact that the law of North Carolina, as interpreted by the Court of Appeals, indicates that there is no such claim. If we are to equate the subcontractor's interest with something it is not, it would be much more appropriate, in terms of similarity, to equate it with the usual mechanic's lien of a subcontractor on the owner's property being improved which of course is not the general contractor's property, and which could not be taken by the United States under a lien against the general contractor. This only points up the lack of precision and content in the proposed federal definition of property. See also Fidelity & Deposit Co. of Md. v. New York City Housing Auth., 241 F. 2d 142 (C.A. 2d Cir.), cited with approval in United States v. Bess, 357 U.S. 51, 55.

5 See Sims v. United States, 359 U.S. 108, 114: Ragan v. Merchants Transfer & Warehouse Co., 337 U.S. 530, 534; Estate of Spiegel v. Commissioner, 335 U.S. 701, 707-708.

CORY CORPORATION ET AL. v. SAUBER.

(363 U.S. 709)

CERTIORARI TO THE UNITED STATES COURT OF APPEALS FOR THE SEVENTH CIRCUIT.

No. 436. Argued May 16, 1960.-Decided June 20, 1960.

The Internal Revenue Codes of 1939, § 3405 (c), and 1954, § 4111, placed a 10% excise tax on sales of "self-contained air-conditioning units" and gave the Commissioner of Internal Revenue, with the approval of the Secretary of the Treasury, power to prescribe needful rules and regulations for the enforcement of the provisions relating to such taxes. The Commissioner published revenue rulings in 1948 and 1954 holding that the statute taxed airconditioning units which had certain physical features, were designed for installation in a window or other opening and had “a total motor horsepower of less than 1 horsepower." Held:

1. These rulings were valid. Pp. 711-712.

2. The case is remanded to the Court of Appeals for consideration of the question what is meant by "horsepower" and any other questions which may remain. P. 712.

3. This disposition of the case is without prejudice to such action as the lower courts may deem appropriate to prevent taxpayers, should they ultimately prevail, from obtaining a windfall by reason of taxes collected by them but not paid to the Government. P. 712.

266 F. 2d 58, 267 F. 2d 802, reversed.

Edwin A. Rothschild argued the cause for petitioners. With him on the brief was Stanford Clinton.

Howard A. Heffron argued the cause for respondent. With him on the brief were Solicitor General Rankin, Assistant Attorney General Rice and Grant W. Wiprud.

PER CURIAM.

This suit was instituted by petitioners in the District Court for a refund of excise taxes collected on the sales of two air-conditioning units sold in 1954 and 1955. Section 3405 (c) of the Internal Revenue Code of 1939, 26 [710] U.S.C. (1952 ed.) § 3405 (c), placed a 10% tax on "[s]elf-contained air-conditioning units." 1 Section 3450 gave the Commissioner, with the approval of the Secretary, power to prescribe needful rules and regulations for the enforcement of the provisions relating to such taxes. Pursuant to this power, the Commissioner published revenue rulings in 1948 and in 1954 holding that the statute taxed air-conditioning units which had certain physical features, were designed for installation in a window or other opening and had "a total motor horsepower of less than 1 horsepower." These rulings represented the Commissioner's construction of the Act

1 This was re-enacted in § 4111 of the 1954 Code, 26 U.S.C. § 4111.

2 S.T. 934, 1948-2 Cum. Bull. 180.

3 Rev. Rul. 54-462, 1954-2 Cum. Bull. 410.

66215-61--11

until a different construction, applied prospectively only, was expressed in regulations issued in 1959.

The parties stipulated that the statute applied only to "self-contained air conditioning units of the household type" and that each of the two units in question had an actual motor horsepower of one horsepower. The taxpayers contended that the words "motor horsepower" in the revenue rulings meant actual horsepower; the Government contended that they meant the nominal horsepower given by the manufacturer or "rated" horsepower assigned on the basis of standards established by trade associations. The District Court construed the revenue rulings as referring to actual, not nominal or rated, horsepower and found, in accordance with the stipulation, that each of the two units had an actual horsepower in excess of one horsepower. It found additionally that even the "rated" horsepower of the two units in question was greater than one horsepower. On appeal the Court of Appeals re-[711]versed. 266 F. 2d 58, 267 F. 2d 802. It did not reach the question as to the meaning of the revenue rulings, for it held that "household type" was the controlling statutory criterion, that the horsepower of the units is irrelevant to that issue, that the units in question were clearly of the household type because they were "made to meet the needs of a household," and that the revenue rulings, insofar as they referred to horsepower, were therefore void. The case is here on petition for a writ of certiorari, 361 U.S. 899.

There is much said in the briefs and in oral argument about this case as a test case. It is said that taxes on the sale of about 50,000 units turn on this decision. We intimate no opinion as to the taxes on any sales except the two involved here. The only issues before the Court are the construction and validity of the revenue rulings. Hence we do not reach the question as to what other defenses might have been made. Respondent urges in this Court, contrary to the stipulation below, that the statute taxes all self-contained air-conditioning units, not merely those of the household type. We need not consider which view of the statute is correct for under either view we think the horsepower test is a permissible one. We hold that the revenue rulings which were in force from 1948 to 1959 5 were not void. The factor of horsepower in our opinion may have had some relation to size in the then stage of engineering development and size might well have been relevant to what was then a "self-contained air-conditioning unit." There is indeed evidence that the less-than-one-horsepower test was designed to draw the line between household and commercial types of air-conditoning equipment. Moreover, it appears that the rulings in question were issued after consultation with industry representatives, who asserted that horsepower was a [712] factor relevant to the definition of the statutory term as they understood it. The Commissioner consistently adhered to the horsepower test for more than 10 years, and Congress did not change the statute though it was specifically advised in 1956 that that was the test which was being applied. We cannot say that such a construction was not a permissible one, cf. Universal Battery Co. v. United States, 281 U.S.

This test of horsepower was excluded from the Treasury Regulations promulgated in 1959 under the 1954 Code by T.D. 6423, 1959–2 Cum. Bull. 282.

5 See notes 2 and 3, supra.

Hearings, Subcommittee, House Ways and Means Committee on Excise Taxes, 84th Cong., 2d Sess. 163-165.