Case: Skouti v. Franchise Tax Board - 3DCA rules for tax board in nonrecognition-of-gain dispute; plaintiffs’ destroyed grapevines not sufficiently similar to replacement orchard under IRC § 1033

Decided: 2/11/2025

Docket

Case Overview:

Procedural posture: Appeal from the superior court’s order granting summary judgment to the Franchise Tax Board

Plaintiff-appellants: Ahmad Skouti, et al.

Defendant-respondent: Franchise Tax Board

Third District Court of Appeal case no.: C100135

Appeal from: Sacramento Superior Court (Krueger, J.)

Advocates: J. Jackson Waste and Joseph J. Doerr for Skouti; Jennifer Henderson and Lauren Freeman for the Franchise Tax Board

Facts:

Grape-farmer plaintiffs won a $7.5 million jury award against their crop advisor, $3,260,166 of which was for damage to raisin crop between 2002 and 2004. Plaintiffs collected the judgment in 2007.

In 2007, plaintiffs elected for the raisin-crop damage portion of the jury award to be treated under Internal Revenue Code § 1033 (adopted for California tax law through Revenue & Taxation Code § 18031). IRC § 1033 permits nonrecognition of gain from involuntary conversions of property if the taxpayer “purchases other property similar or related in service or use to the property so converted.”

Defendant Franchise Tax Board rejected the plaintiffs’ request for IRC § 1033 treatment for plaintiffs’ state income tax return. Plaintiffs exhausted administrative remedies and filed a complaint against the Board for refund of taxes.

Plaintiffs and the Board cross-moved for summary judgment. Plaintiffs said that they used the $3,260,166 to purchase citrus orchards to replace the destroyed vines. Plaintiffs asserted that the citrus orchards were similar to the damaged vineyards “in that they contained mature perennial crops that were farmed for commercial agricultural production and harvested once each year for sale to consumers.”

The superior court granted the Board’s motion for summary judgment, finding that the replacement property—the citrus orchards—was not sufficiently similar to the destroyed grapevines under IRC § 1033.

Question:

(1) Did the plaintiffs’ purchase of a citrus orchard to replace destroyed (involuntarily converted) grapevines qualify for nonrecognition-of-gain treatment under IRC § 1033?

Answer:

(1) No, the plaintiffs did not satisfy IRC § 1033 because the destroyed grapevines were not similar to, or related in service or use to, the citrus orchard.

The similarity test under IRC § 1033 is a practical one. Has the taxpayer achieved a sufficient continuity of investment to justify the non-recognition of the gain from the destroyed property? Or are the differences between the destroyed property and replacement property so great as to “compel the conclusion” that the taxpayer took advantage of the conversion to change the nature of the taxpayer’s investment? Davis v. United States, 589 F.2d 446, 449 (9th Cir. 1979).

Here, the destroyed property was plaintiffs’ grapevines. These agricultural fixtures are improvements to land. The replacement property was a citrus orchard that consisted of “both agricultural fixtures and land.” Slip Op. at 6.

Agricultural fixtures by themselves represent a different investment than land with agricultural fixtures. The risks are different. For example, if the plaintiffs’ citrus trees were destroyed, the “plaintiffs could still have two parcels of productive land even if all agricultural fixtures were damaged.” Id.

Plaintiffs’ “purchase of land containing agricultural fixtures does not constitute a continuation of their investment in agricultural fixtures alone.” Id. at 8.

Outcome:

The Third District Court of Appeal affirmed the superior court’s order granting summary judgment to the Franchise Tax Board and the resulting judgment of dismissal.

Justice Robie authored the opinion, joined by Justices Earl and Duarte.

Links:

Westlaw: 2025 WL 455471