UNITED HOUSING FOUNDATION, INC., ET AL. v. FORMAN ET AL.
No. 74-157
Supreme Court of the United States
Argued April 22, 1975—Decided June 16, 1975
421 U.S. 837
*Together with No. 74-647, New York et al. v. Forman et al., also on certiorari to the same court.
Simon H. Rifkind argued the cause for petitioners in No. 74-157. With him on the briefs was Martin London.
Daniel M. Cohen, Assistant Attorney General of New
Louis Nizer argued the cause for respondents in both cases. With him on the brief were George Berger, Jay F. Gordon, Ira B. Rose, and Janet P. Kane.
Paul Gonson argued the cause for the Securities and Exchange Commission as amicus curiae urging affirmance. With him on the brief were Solicitor General Bork, Lawrence E. Nerheim, and Richard E. Nathan.†
MR. JUSTICE POWELL delivered the opinion of the Court.
The issue in these cases is whether shares of stock entitling a purchaser to lease an apartment in Co-op City, a state subsidized and supervised nonprofit housing cooperative, are “securities” within the purview of the Securities Act of 1933 and the Securities Exchange Act of 1934.
I
Co-op City is a massive housing cooperative in New York City. Built between 1965 and 1971, it presently houses approximately 50,000 people on a 200-acre site containing 35 high-rise buildings and 236 town houses. The project was organized, financed, and constructed under the New York State Private Housing Finance Law, commonly known as the Mitchell-Lama Act, enacted to ameliorate a perceived crisis in the availability of decent low-income urban housing. In order to encourage pri-
The United Housing Foundation (UHF), a nonprofit membership corporation established for the purpose of “aiding and encouraging” the creation of “adequate, safe and sanitary housing accommodations for wage earners and other persons of low or moderate income,”2 Appendix in Court of Appeals 95a (hereafter App.), was responsible for initiating and sponsoring the development of Co-op City. Acting under the Mitchell-Lama Act, UHF organized the Riverbay Corporation (Riverbay) to own and operate the land and buildings constituting Co-op City. Riverbay, a nonprofit cooperative housing corporation, issued the stock that is the subject of this litigation. UHF also contracted with Community Services, Inc. (CSI), its wholly owned subsidiary, to serve as the general contractor and sales
To acquire an apartment in Co-op City an eligible prospective purchaser4 must buy 18 shares of stock in Riverbay for each room desired. The cost per share is $25, making the total cost $450 per room, or $1,800 for a four-room apartment. The sole purpose of acquiring these shares is to enable the purchaser to occupy an apartment in Co-op City; in effect, their purchase is a recoverable deposit on an apartment. The shares are explicitly tied to the apartment: they cannot be transferred to a nontenant; nor can they be pledged or encumbered; and they descend, along with the apartment, only to a surviving spouse. No voting rights attach to the shares as such: participation in the affairs of the cooperative appertains to the apartment, with the residents of each apartment being entitled to one vote irrespective of the number of shares owned.
Any tenant who wants to terminate his occupancy, or who is forced to move out,5 must offer his stock to Riverbay at its initial selling price of $25 per share. In the extremely unlikely event that Riverbay declines to repurchase the stock,6 the tenant cannot sell it for more than
In May 1965, subsequent to the completion of the initial planning, Riverbay circulated an Information Bulletin seeking to attract tenants for what would someday be apartments in Co-op City. After describing the nature and advantages of cooperative housing generally and of Co-op City in particular, the Bulletin informed prospective tenants that the total estimated cost of the project, based largely on an anticipated construction contract with CSI, was $283,695,550. Only a fraction of this sum, $32,795,550, was to be raised by the sale of shares to tenants. The remaining $250,900,000 was to be financed by a 40-year low-interest mortgage loan from the New York Private Housing Finance Agency. After construction of the project the mortgage payments and current operating expenses would be met by monthly rental charges paid by the tenants. While these rental charges were to vary, depending on the size, nature, and location of an apartment, the 1965 Bulletin estimated that the “average” monthly cost would be $23.02 per room, or $92.08 for a four-room apartment.
Several times during the construction of Co-op City, Riverbay, with the approval of the State Housing Commissioner, revised its contract with CSI to allow for increased construction costs. In addition, Riverbay incurred other expenses that had not been reflected in the
These increases in the rental charges precipitated the present lawsuit. Respondents, 57 residents of Co-op City, sued in federal court on behalf of all 15,372 apartment owners, and derivatively on behalf of Riverbay, seeking upwards of $30 million in damages, forced rental reductions, and other “appropriate” relief. Named as defendants (petitioners herein) were UHF, CSI, Riverbay, several individual directors of these organizations, the State of New York, and the State Private Housing Finance Agency. The heart of respondents’ claim was that the 1965 Co-op City Information Bulletin falsely represented that CSI would bear all subsequent cost increases due to factors such as inflation. Respondents further alleged that they were misled in their purchases of shares since the Information Bulletin failed to disclose several critical facts.8 On these bases,
Petitioners, while denying the substance of these allegations,9 moved to dismiss the complaint on the ground that federal jurisdiction was lacking. They maintained that shares of stock in Riverbay were not “securities” within the definitional sections of the federal Securities Acts. In addition, the state parties moved to dismiss on sovereign immunity grounds.
The District Court granted the motion to dismiss. Forman v. Community Services, Inc., 366 F. Supp. 1117 (SDNY 1973). It held that the denomination of the shares in Riverbay as “stock” did not, by itself, make them securities under the federal Acts. The court further ruled, relying primarily on this Court‘s decisions in SEC v. C. M. Joiner Leasing Corp., 320 U. S. 344 (1943), and SEC v. W. J. Howey Co., 328 U. S. 293 (1946), that the purchase in issue was not a security transaction since it was not induced by an offer of tangible material profits, nor could such profits realistically be expected. In the District Court‘s words, it was
The Court of Appeals for the Second Circuit reversed. Forman v. Community Services, Inc., 500 F. 2d 1246 (1974). It rested its decision on two alternative grounds. First, the court held that since the shares purchased were called “stock” the Securities Acts, which explicitly include “stock” in their definitional sections, were literally applicable. Second, the Court of Appeals concluded that the transaction was an investment contract within the meaning of the Acts and as defined by Howey, since there was an expectation of profits from three sources: (i) rental reductions resulting from the income produced by the commercial facilities established for the use of tenants at Co-op City; (ii) tax deductions for the portion of the monthly rental charges allocable to interest payments on the mortgage; and (iii) savings based on the fact that apartments at Co-op City cost substantially less than comparable nonsubsidized housing. The court further ruled that the immunity claims by the state parties were unavailing.11 Accordingly, the
In view of the importance of the issues presented we granted certiorari. 419 U. S. 1120 (1975). As we conclude that the disputed transactions are not purchases of securities within the contemplation of the federal statutes, we reverse.
II
“any note, stock, treasury stock, bond, debenture, evidence of indebtedness, certificate of interest or participation in any profit-sharing agreement, collateral-trust certificate, preorganization certificate or subscription, transferable share, investment contract, voting-trust certificate, certificate of deposit for a security, fractional undivided interest in oil, gas, or other mineral rights, or, in general, any interest or instrument commonly known as a ‘security,’ or any certificate of interest or participation in, temporary or interim certificate for, receipt for, guarantee of, or warrant or right to subscribe to or purchase, any of the foregoing.”12
In providing this definition Congress did not attempt to articulate the relevant economic criteria for distinguishing “securities” from “non-securities.” Rather, it sought to define “the term ‘security’ in sufficiently broad and general terms so as to include within that definition the many types of instruments that in our commercial world
In making this determination in the present case we do not write on a clean slate. Well-settled principles enunciated by this Court establish that the shares purchased by respondents do not represent any of the “countless and variable schemes devised by those who seek the use of the money of others on the promise of profits,” Howey, 328 U. S., at 299, and therefore do not fall within “the ordinary concept of a security.”
A
We reject at the outset any suggestion that the present transaction, evidenced by the sale of shares called “stock,”13 must be considered a security transaction simply because the statutory definition of a security includes the words “any ... stock.” Rather we adhere to the basic principle that has guided all of the Court‘s decisions in this area:
“[I]n searching for the meaning and scope of the word ‘security’ in the Act[s], form should be disregarded for substance and the emphasis should be on economic reality.” Tcherepnin v. Knight, 389 U. S. 332, 336 (1967).
See also Howey, supra, at 298.
“[A] thing may be within the letter of the statute and yet not within the statute, because not within its spirit, nor within the intention of its makers.” Church of the Holy Trinity v. United States, 143 U. S. 457, 459 (1892).
See also United States v. American Trucking Assns., 310 U. S. 534, 543 (1940).14 Respondents’ reliance on Joiner as support for a “literal approach” to defining a security is misplaced. The issue in Joiner was whether assignments of interests in oil leases, coupled with the promoters’ offer to drill an exploratory well, were securities. Looking to the economic
In holding that the name given to an instrument is not dispositive, we do not suggest that the name is wholly irrelevant to the decision whether it is a security. There may be occasions when the use of a traditional name such as “stocks” or “bonds” will lead a purchaser justifiably to assume that the federal securities laws apply.
In the present case respondents do not contend, nor could they, that they were misled by use of the word “stock” into believing that the federal securities laws governed their purchase. Common sense suggests that people who intend to acquire only a residential apartment in a state-subsidized cooperative, for their personal use, are not likely to believe that in reality they are purchasing investment securities simply because the transaction is evidenced by something called a share of stock. These shares have none of the characteristics “that in our commercial world fall within the ordinary concept of a security.” H. R. Rep. No. 85, supra, at 11. Despite their name, they lack what the Court in Tcherepnin deemed the most common feature of stock: the right to receive “dividends contingent upon an apportionment of profits.” 389 U. S., at 339. Nor do they possess the other characteristics traditionally associated with stock: they are not negotiable; they cannot be pledged or hypothecated; they confer no voting rights in proportion to the number of shares owned; and they cannot appreciate in value. In short, the inducement to purchase was solely to acquire subsidized low-cost living space; it was not to invest for profit.
B
The Court of Appeals, as an alternative ground for its decision, concluded that a share in Riverbay was also an “investment contract” as defined by the Securities Acts. Respondents further argue that in any event what they agreed to purchase is “commonly known as a ‘security’ ” within the meaning of these laws. In considering these claims we again must examine the substance—the economic realities of the transaction—rather than the
“whether the scheme involves an investment of money in a common enterprise with profits to come solely from the efforts of others.” Howey, 328 U. S., at 301.16
This test, in shorthand form, embodies the essential attributes that run through all of the Court‘s decisions defining a security. The touchstone is the presence of an investment in a common venture premised on a reasonable expectation of profits to be derived from the entrepreneurial or managerial efforts of others. By profits, the Court has meant either capital appreciation resulting from the development of the initial investment, as in Joiner, supra (sale of oil leases conditioned on promoters’ agreement to drill exploratory well), or a participation in earnings resulting from the use of investors’ funds, as in Tcherepnin v. Knight, supra (dividends on the investment based on savings and loan association‘s profits). In such cases the investor is “attracted solely by the prospects of a return” on his investment. Howey, supra, at 300. By contrast, when a purchaser is motivated by a
In the present case there can be no doubt that investors were attracted solely by the prospect of acquiring a place to live, and not by financial returns on their investments. The Information Bulletin distributed to prospective residents emphasized the fundamental nature and purpose of the undertaking:
“A cooperative is a non-profit enterprise owned and controlled democratically by its members—the people who are using its services. ...
“People find living in a cooperative community enjoyable for more than one reason. Most people join, however, for the simple reason that it is a way to obtain decent housing at a reasonable price.17
“The common bond of collective ownership which you share makes living in a cooperative different. It is a community of neighbors. Home ownership, common imterests and the community atmosphere make living in a cooperative like living in a small town. As a rule there is very little turnover in a cooperative.” App. 162a, 166a.
Nowhere does the Bulletin seek to attract investors by the prospect of profits resulting from the efforts of the promoters or third parties. On the contrary, the Bulletin repeatedly emphasizes the “nonprofit” nature of the endeavor. It explains that if rental charges exceed expenses the difference will be returned as a rebate, not invested for profit. It also informs purchasers that they will be unable to resell their apartments at a profit since the apartment must first be offered back to Riverbay “at the price . . . paid for it.”19 Id., at 163a. In short, neither of the kinds of profits traditionally associated with securities was offered to respondents.
The Court of Appeals recognized that there must be an expectation of profits for these shares to be securities, and conceded that there is “no possible profit on a resale of [this] stock.” 500 F. 2d, at 1254. The court cor-
The Court of Appeals also found support for its concept of profits in the fact that Co-op City offered space at a cost substantially below the going rental charges for comparable housing. Again, this is an inappropriate theory of “profits” that we cannot accept. The low rent derives from the substantial financial subsidies provided by the State of New York. This benefit cannot be liquidated into cash; nor does it result from the managerial efforts of others. In a real sense, it no more embodies the attributes of income or profits than do welfare benefits, food stamps, or other government subsidies.
The final source of profit relied on by the Court of Appeals was the possibility of net income derived from the leasing by Co-op City of commercial facilities, pro-
Initially we note that the prospect of such income as a means of offsetting rental costs is never mentioned in the Information Bulletin. Thus it is clear that investors were not attracted to Co-op City by the offer of these potential rental reductions. See Joiner, 320 U. S., at 353. Moreover, nothing in the record suggests that the facilities in fact return a profit in the sense that the leasing fees are greater than the actual cost to Co-op City of the space rented.22 The short of the matter is
that the stores and services in question were established not as a means of returning profits to tenants, but for the purpose of making essential services available for the residents of this enormous complex.23 By statute these facilities can only be “incidental and appurtenant” to the housing project.
In holding that there is no federal jurisdiction, we do not address the merits of respondents’ allegations of fraud. Nor do we indicate any view as to whether the type of claims here involved should be protected by federal regulation.26 We decide only that the type of
Since respondents’ claims are not cognizable in federal court, the District Court properly dismissed their complaint.27 The judgment below is therefore
Reversed.
MR. JUSTICE BRENNAN, with whom MR. JUSTICE DOUGLAS and MR. JUSTICE WHITE join, dissenting.
I dissent. The property interests here are “securities,” in my view, both because they are shares of “stock” and because they are “investment contracts.”
I
Both the
The record discloses little of the activities of Riverbay Corporation, the owner and operator of Co-op City, as a lessor of commercial and office space. It does appear, however, that revenues well in excess of $1 million per year flow into the corporation from such activities, Appendix in Court of Appeals 361a (hereafter App.), a fact noted by the Court of Appeals. 500 F. 2d 1246, 1254 (CA2 1974). Even after deduction of expenses—taxes alone take half of the gross—the residue could hardly be de minimis, even for an operation as large as Co-op City. Therein lies the patent fallacy of the Court‘s conclusion that this aspect of the corporation‘s activities is “speculative and insubstantial.” Ante, at 856. The District Court rightly recognized that management by third parties is essential in a project so massive as Co-op City. 366 F. Supp. 1117, 1128 (SDNY 1973). Co-op City residents as stockholders were thus necessarily bound to rely on the management of Riverbay Corporation to produce income in the form of rents from the commercial and office space made an integral part of the project.
As stockholders, Co-op City residents also necessarily relied on corporate management to build and operate the facility efficiently to the end that monthly charges would be minimized. The Court of Appeals held that profits were involved partly because Co-op City offered housing at bargain prices. 500 F. 2d, at 1254. The Court substitutes its own judgment in holding that “[t]he low rent derives from the substantial financial subsidies provided by the State of New York.” Ante, at 855. It is simple common sense that management efficiency necessarily enters into the equation in the determination of the charges assessed against residents. But even to the extent that the resident-stockholders do benefit in re-
The Court of Appeals also relied on the tax deductibility accorded to portions of the monthly carrying charges paid by Co-op City residents as a source of profit to them. 500 F. 2d, at 1254. The Court rejects this argument with the statement that “[t]hese tax benefits are nothing more than that which is available to any homeowner....” Ante, at 855. This is true but irrelevant to the question whether they constitute profits that “come solely from the efforts of others.” The special federal tax provision for cooperative owners,
In SEC v. C. M. Joiner Leasing Corp., 320 U. S. 344 (1943), the investment was in oil leases. In Howey it involved citrus groves. Though taxation was not a factor in the Court‘s disposition of those cases, each of those investments was of a type offering tax advantages as a principal attraction to the investor. Cunnane, Tax Shelter Investments After the 1969 Tax Reform Act, 49 Taxes 450 (1971). It is no answer that the individual investor could have obtained the same tax advantages by purchasing an entire citrus business or by becoming an independent oil operator. He could, but if he did his profits from tax advantages would not then “come solely from the efforts of others.” It is only when he relies on third parties to produce the profits for him that, as here, the question of investment contract analysis arises.
Besides its express rejection of each of the forms of profit found by the Court of Appeals, the Court must surprise knowledgeable economists with its proposition, ante, at 852, that profits cannot assume forms other than appreciation of capital or participation in earnings.1 All of the varieties of profit involved here accrue to the resident-stockholders in the form of money saved rather than money earned.2 Not only would simple common sense teach that the two are the same, but a more sophisticated economic analysis also compels the conclusion that in a practical world there is no difference between
There can be no doubt that one of the inducements to the resident-stockholders to purchase a Co-op City apartment was the prospect of profits in one or more of the forms I have discussed. The fact that literature encouraging purchase mentioned some is important, although not conclusive, evidence. See Joiner, supra, at 353. The Information Bulletins, while not mentioning income from commercial and office space as an advantage of stock ownership, did emphasize the “reasonable price” of the housing, App. 166a, 187a, and they asserted that “every effort” would be made to keep monthly carrying charges low, id., at 174a, 194a. Tax benefits were also discussed as an advantage of ownership, though of course no guarantee of favorable federal and state tax treatment was made. Id., at 175a, 195a.
I do not deny that there are some limits to the broad statutory definition of a security, and the Court‘s distinction between securities and consumer goods is not frivolous. Ante, at 858. But the distinction is not useful in the resolution of the question before us. Of course, the purchase of the stock to get an apartment involves an element of consumption, but it also involves an element of investment. The variable annuity contract con-
II
Moreover, both statutes define the term “security” to include “stock.” Therefore, coverage under the statutes is clear under the Court‘s holding in Joiner that “[i]nstruments may be included within any of these definitions, as matter of law if on their face they answer to the name or description.” 320 U. S., at 351; see Tcherepnin, 389 U. S., at 339. “Security” was broadly defined with the explicit object of including “the many types of instruments that in our commercial world fall within the ordinary concept of a security,” H. R. Rep. No. 85, 73d Cong., 1st Sess., 11 (1933). Stock is therefore included because instruments “such as notes, bonds, and stocks, are pretty much standardized and the name alone carries well-settled meaning.” Joiner, 320 U. S., at 351. Even if this principle nevertheless allows room for exception of some instruments labeled “stock,” the Court‘s justification for excepting the stock involved in this case is singularly unpersuasive. The Court states that “[c]ommon sense suggests that people who intend to acquire only a residential apartment in a state-subsidized cooperative, for their personal use, are not likely to believe that in reality they are purchasing investment securities simply because the transaction is
While the absence in the case of Co-op City stock of some features normally associated with stock is a relevant consideration, the presence of the attributes that led me to conclude that this stock constitutes an “investment contract,” leads me also to conclude that it is a “stock” for purposes of the two statutes. Cf. Affiliated Ute Citizens v. United States, 406 U. S. 128 (1972).
In sum, I conclude that the interests purchased by the stockholders here were “securities” both because they were “stock” and because they were “investment contracts.”5 In my view therefore the Court of Appeals correctly held that the District Court erred in dismissing this suit.6
III
At oral argument, petitioner United Housing Foundation contended strenuously that comprehensive state participation and regulation of the construction and operation of Co-op City constituted Riverbay Corporation not a capitalistic enterprise but a beneficial public housing enterprise, created by a partnership of public and private groups for the benefit of people of modest incomes. I need not disagree with this characterization to conclude that nevertheless there is a role for the fed-
“[I]f ever there was a group of people who need and deserve full and careful disclosure in connection with proposals for the use of their funds, it is this type of group.... The housing selection decision is a critical one in their lives. The cost of housing demands a good percentage of their incomes. Their savings are most likely to be minimal, and they probably don‘t have lawyers or accountants to guide them. Further, they are people likely to put a great deal of credence in statements made with respect to an offering by reputable civic groups and labor unions, particularly when the proposal is stamped with the imprimatur of the state.” 366 F. Supp., at 1125.
I part from the District Court in concluding however that investors not only should be protected but, under my reading of the statutes, are protected by the securities laws. A different, perhaps better, form of redress can and will be devised for this kind of investment, but until it is these investors are not to be denied what the
Notes
The Housing Finance Agency is a “public benefit corporation” under New York law,
The State of New York, unlike the agency, may assert the Eleventh Amendment, but it has consented to suit. “With regard to duties and liabilities arising out of this article the state, the commissioner or the supervising agency may be sued in the same manner as a private person.”
Respondents assert that if Co-op City becomes bankrupt they stand to lose their whole investment. But, in view of the fact that the State has financed over 92% of the cost of construction and carefully regulates the development and operation of the project, bankruptcy in the normal sense is an unrealistic possibility. In any event, the risk of insolvency of an ongoing housing cooperative “differ[s] vastly” from the kind of risk of “fluctuating” value associated with securities investments. SEC v. Variable Annuity Co., 359 U. S. 65, 90-91 (1959) (BRENNAN, J., concurring). See Hannan & Thomas, supra, at 242-249; Long, Introduction to Symposium: Interpreting the Statutory Definition of a Security: Some Pragmatic Considerations, 6 St. Mary‘s L. J. 96, 126-128 (1974).
“(a) the income from such facilities is used only to offset common area expenses and (b) the operation of such facilities is incidental to the project as a whole and are not established as a primary income source for the individual owners of a condominium or cooperative unit.” Ibid.
See also SEC Real Estate Advisory Committee Report 74-91 (1972); Dickey & Thorpe, Federal Security Regulation of Condominium Offerings, 19 N. Y. L. F. 473 (1974).
Several commentators have noted the inconsistency between the SEC‘s position in the above release and the decision by the Court of Appeals in this case, which the SEC now supports. See Berman & Stone, Federal Securities Law and the Sale of Condominiums, Homes, and Homesites, 30 Bus. Law. 411, 420-425 (1975); Comment, Condominium Regulation: Beyond Disclosure, 123 U. Pa. L. Rev. 639, 654-655 (1975); Note, supra, n. 20, at 628. In view of this unexplained contradiction in the Commission‘s position we accord no special weight to its views. See Reliance Electric Co. v. Emerson Electric Co., 404 U. S. 418, 426 (1972); Blue Chip Stamps v. Manor Drug Stores, ante, at 746-747, n. 10.