Volume 108 — Tax Court Reports

Ps were partners in a partnership that was the subject of a partnership proceeding. Held: We lack jurisdiction in this affected items proceeding to redetermine the deficiencies resulting from the partnership adjustments for 1983 and 1984.

R determined deficiencies in Ps' Federal income tax for the years 1988 through 1990. Held: Ps are not entitled to use the sec. 59(g), I.R.C., tax benefit rule to reduce their tentative minimum tax in order to increase the sec. 29, I.R.C., credits available under the sec. 29(b) (5), I.R.C., limitation. First Chicago Corp. v. Commissioner, 88 T.C. 663 (1987), affd. 842 F.2d 180, 181 (7th Cir. 1988), distinguished.

P was in the business of franchising the right to operate Mister Donut shops in the United States and abroad. On Jan. 31, 1989, P sold its Asian and Pacific Mister Donut business operations for $ 2,050,000. Pursuant to the agreement, P transferred its franchise agreements, trademarks, Mister Donut System, and goodwill for each of the Asian and Pacific countries in which P had existing franchise agreements, as well as its trademarks and Mister Donut System for those Asian and Pacific countries in which it had registered trademarks but did not have franchise agreements. In the purchase agreement, P allocated $ 1,930,000 of the sale price to goodwill and a covenant not to compete. On its 1989 Federal income tax return, P reported the income allocated to these assets as foreign source income for purposes of computing P's foreign tax credit limitation under sec. 904(a), I.R.C. R determined that the goodwill and covenant not to compete were inherent in P's franchisor's interest. R further determined that the sale of P's franchisor's interest produced U.S. source income under sec. 865(d)(1), I.R.C. Held: The goodwill inherent in the Mister Donut business in Asia and the Pacific was embodied in, and inseverable from, P's franchisor's interest and trademarks that were conveyed to D. The income attributable to the sale of P's franchisor's interest and trademarks constitutes U.S. source income under sec. 865(d)(1), I.R.C. Held, further: P's covenant not to compete, which prohibited P from carrying on any business similar to Mister Donut or disclosing any part of the Mister Donut System in specified Asian and Pacific countries, possessed independent economic significance and is severable from P's franchisor's interest and trademarks. Held, further: P has not shown that more than $ 300,000 of the sale price should be allocated to the covenant not to compete. R concedes that any amount allocated to the covenant constitutes foreign source income. Held, further: A pro rata portion of P's selling expenses must be allocated to the sale of the covenant not to compete. Sec. 862(b), I.R.C.

R extended the time for P to pay estate tax under sec. 6161(a), I.R.C. P filed a request for further extension of time to pay tax under sec. 6161(a), I.R.C., which is now pending with the Commissioner. P moved to delay entry of decision until an extension of time to pay tax under sec. 6161(a), I.R.C., no longer applies. Held, under the rationale of Estate of Bailly v. Commissioner, 81 T.C. 949 (1983), we will delay entry of decision until P's extension of time to pay tax under sec. 6161, I.R.C., is no longer in effect.

P was a State employee. In October 1989, P elected to transfer from the State Retirement System to the State Pension System effective November 1989. As a consequence, P received a Transfer Refund in 1989 consisting principally of previously taxed contributions and taxable earnings. Shortly thereafter, P deposited approximately one-half of the taxable portion into an IRA with Loyola. P included the entire taxable portion of the Transfer Refund in income on an amended tax return for 1989. See Dorsey v. Commissioner, T.C. Memo. 1995-97. In April 1991, P closed his Loyola IRA. On a 1991 tax return, P included in income a portion of the earnings generated by the IRA but not the balance. P contends that sec. 72(e)(6) provides P with a basis in his IRA equal to the amount rolled over from his Transfer Refund into the IRA. R contends that such an application of sec. 72(e)(6) is contrary to legislative intent. Held, Sec. 72(e)(6) provides P with a basis in his entire Loyola IRA contribution, the genesis of which was P's taxed retirement savings; thus, the distribution of such contribution in 1991 is not includable in P's income. Secs. 72(e)(6), 408(d)(1), I.R.C. 1986.

P, a corporation, filed a consolidated tax return with its affiliated companies. P operated a division with assets that included certain section 38 assets upon which investment tax credits (ITC) had been claimed. P transferred the division assets to a wholly owned subsidiary, G. P agreed to transfer its shares in G to another shareholder, H, in return for H's shares in P. The two transactions qualified for nonrecognition status under secs. 351, 355, and 368 (a) (1) (D), I.R.C. R determined a deficiency for P's failure to include ITC recapture in income under sec. 47(a), I.R.C., on its 1986 consolidated tax return, relying on Rev. Rul. 82-20, 1982-1 C.B. 6. Sec. 1.1502-3(f) (2) and (3), Income Tax Regs., particularly Example (5) thereof, provides for no recapture. Held:Rev. Rul. 82-20, 1982-1 C.B. 6, is an unwarranted attempt to limit the scope of the regulations; no ITC recapture is includable in P's income.

P moved for partial summary judgment, claiming that it is entitled to a $ 1,555,428 ordinary deduction in its TYE 1990 stemming from contingent asset acquisition costs that became fixed in that year, after the expiration of the useful life of the asset to which they correspond. R objected to P's motion and filed a cross-motion for partial summary judgment, arguing: (1) the contingent asset acquisition costs were not attributable to the subscriber relationships asset but must be allocated to nonamortizable intangibles; and, in the alternative, (2) the expiration of the useful life of the subscriber relationships bars any further cost recovery by P. Held: The contingent acquisition costs at issue are allocable to the basis of the subscriber relationships in P's TYE 1990. Meredith Corp. & Subs. v. Commissioner, 102 T.C. 406 (1994), followed. Held, further, P is entitled to an ordinary deduction in full in its TYE 1990 for contingent asset acquisition costs incurred in that year, after the underlying asset had been fully amortized. Arrowsmith v. Commissioner, 344 U.S. 6 (1952) and sec. 1.338(b)-3T, Temporary Income Tax Regs., 51 Fed. Reg. 3592 (Jan. 29, 1986), applied.

P, a closely held corporation, advanced funds to its shareholders. The advances were used to pay expenses relating to construction projects and were not subject to written repayment terms. After each project was completed, amortization schedules were prepared and the shareholders began repaying the advances. Prior to the shareholder's repayments, P did not report interest income from the advances. HELD: P, pursuant to sec. 7872, I.R.C., has interest income from below-market demand loans it made to its shareholders.

P formed wholly owned corporations (one a DISC, the other an FSC). P computed and reported its Federal income using the completed contract method. Held: Sec. 1.994-1(c) (6), Income Tax Regs., interpreted to require P to reduce gross export receipts by related period costs even though P is permitted to elect to deduct those costs in years prior to the combined taxable income computation.

P, a former insurance agent for State Farm Insurance Companies, received termination payments after his retirement on December 31, 1987, pursuant to the terms of an independent contractor Agent's… Held: the termination payments P received were not derived from a trade or business carried on by him as an insurance agent during 1990 and 1991. Therefore, such payments are not subject to self-employment tax under sections 1401 and 1402, I.R.C., and P is not liable for such tax.

P, a wholly owned domestic subsidiary, purchased assembly services from its parent, a foreign corporation. Held: sec. 6038A, I.R.C., applies to P for the year at issue.

P made contractually required monthly contributions to 39 multiemployer pension plans. P also provided vacation pay benefits to its employees under various plans. Held: pension contributions, based on units of service worked after the close of TYE 8801 and before Oct. 17, 1988, were not on account of P's TYE 8801, as required by sec. 404(a)(6), I.R.C., and are therefore not deductible in that year.

Held: Fees paid in connection with cancellation of legs of commodity forward contracts treated as capital losses, not ordinary losses. Held: Fees paid in connection with cancellation of legs of commodity forward contracts treated as capital losses, not ordinary losses.

Held: Ps donated to various charitable organizations (the Charities) appreciated stock in C1. Held: Ps donated to various charitable organizations (the Charities) appreciated stock in C1. Prior to the gifts, C1 and C2 entered into a merger agreement, C2 made a tender offer for the shares of C1, and shares of C1 sufficient to approve the merger were tendered or guaranteed.

I. Norwest Bank Nebraska, N.A., a subsidiary of petitioner, removed asbestos-containing materials from its Douglas Street building in connection with the building's renovation and remodeling. On its 1989 return, petitioner claimed a $ 902,206 ordinary and necessary business deduction with respect to the asbestos-removal expenditures. In the notice of deficiency, respondent disallowed the deduction. Held: The costs of removing the asbestos-containing materials must be capitalized because they were part of a general plan of rehabilitation and renovation that improved the Douglas Street building. II. Petitioner's subsidiary Norwest Bank Minneapolis (NBM) owned "blocked deposits" at the Central Bank of Brazil (Central Bank) consisting of principal repayments of dollar-denominated loans previously made to Brazil in the ordinary course of NBM's banking business. The Central Bank prevented petitioner from repatriating these deposits because Brazil had insufficient hard currency (U.S. dollars) to make payments on the loans. In order to reduce petitioner's blocked deposit holdings and decrease its foreign debt exposure, petitioner entered into a debt-equity conversion transaction in 1987 as follows: $ 12,577,136 of petitioner's blocked deposits was exchanged for a 14.361-percent interest in a Brazilian company. Petitioner agreed to maintain the invested funds in Brazil for 12 years. On its consolidated 1987 return, P claimed a $ 4,577,136 loss with regard to the debt-equity conversion transaction. In the notice of deficiency, respondent disallowed petitioner's claimed loss on the grounds that petitioner did not establish that any deductible loss was sustained in 1987. 1. Held: The step transaction doctrine is not applicable. The Central Bank converted the full face value of petitioner's blocked deposits, plus accrued interest, at the official exchange rate without diminution or discount into cruzados, which were used to pay a third party in exchange for its 14.361-percent interest in the Brazilian company. The exchange of the blocked deposits for the cruzados and the conversion of the cruzados into stock was not a transitory step but rather a substantive and significant element of the conversion. Petitioner's loss, if any, is measured by the difference between its basis in the blocked deposits and the fair market value of the cruzados it received. G.M. Trading Corp. v. Commissioner, 103 T.C. 59 (1994), supplemented by 106 T.C. 257 (1996), on appeal (5th Cir., Oct. 4, 1996), followed. Petitioner did not realize a loss because the basis of the blocked deposits and the fair market value of the cruzados were identical on the date of the transaction. 2. Held, further: The 12-year repatriation restriction imposed on petitioner's invested funds warrants a 15-percent discount on the fair market value of the cruzados P received, rendering a $ 1,886,570 loss for petitioner's 1987 tax year. III. In 1989, Norwest Financial Resources, one of petitioner's affiliates, acquired the lease portfolio and other assets of Financial Investment Associates, Inc., for $ 141,456,620. On its 1989 return, petitioner allocated $ 131,513,038 of the $ 141,456,620 purchase price to the lease portfolio. The purchase agreement provided that no part of the purchase price is attributable to goodwill. In the notice of deficiency, respondent determined that petitioner overstated the fair market value of the lease portfolio by $ 1,328,618, which amount should be allocated to goodwill, going-concern value, or other nonamortizable intangible assets. The parties presented experts who valued petitioner's lease portfolio. The difference between the experts' valuations centers around the different discount rates they used (respondent's expert used a 15.6-percent discount rate, while petitioner's expert used an 11.5-percent discount rate). Held: Giving consideration to all the evidence presented, 13 percent is determined to be the appropriate discount rate.

R has moved for entry of decisions based on an agreement with Ps to settle these cases. Held: Ps entered into a settlement agreement with R. R's motions for entry of decision will be granted with respect to all dockets (except with regard to W).

Held: For 1990, (1) subpart F income of a controlled foreign corporation may not be reduced by deficits in earnings and profits of a… Held: For 1990, (1) subpart F income of a controlled foreign corporation may not be reduced by deficits in earnings and profits of a controlled foreign sister corporation; and (2) on the particular facts of this case, subpart F income of a controlled foreign corporation may not be reduced by deficits in earnings and profits of a controlled…

P purchased operating and applications software for use in its banking and related businesses. The software was acquired subject to license agreements that entitled P to use the software on a nonexclusive, nontransferable basis for an indefinite or perpetual term. P did not purchase any exclusive copyright rights or other intellectual property rights underlying any of the software in issue and was not permitted to reproduce the software outside P's affiliated group. Held: The computer software acquired by P is tangible personal property eligible for the investment tax credit. The intrinsic value test set forth in Texas Instruments, Inc. v. United States, 551 F.2d 599 (5th Cir. 1977), and adopted by this Court in Ronnen v. Commissioner, 90 T.C. 74 (1988), is not applied to the computer software in issue. The test of tangibility in Comshare, Inc. v. United States, 27 F.3d 1142 (6th Cir. 1994), is not adopted.

P, a telephone company, purchased certain telecommunications equipment, digital switches, that required computer software to operate. P claimed investment tax credits (ITC) and depreciation deductions under the accelerated cost recovery system (ACRS) with respect to the total cost of each digital switch, which included the cost of the software used in each switch. R determined that P's expenditures allocable to the software did not qualify for the ITC or depreciation under the ACRS. P treated property known as "drop and block" as 5-year property, as defined in sec. 168(c) (2) (B), I.R.C. R determined that the property was 15-year public utility property. For the years in issue, the property was depreciated under the ACRS. 1. Held: P's expenditures allocable to the software qualify for the ITC and depreciation under the ACRS. Norwest Corp. & Subs. v. Commissioner, 108 T.C.     (1997), is followed. 2. Held, further: Drop and block is 5-year property under sec. 168 (c) (2) (B), I.R.C.

During 1975 through 1980, decedent received royalties from Exxon, which she reported as income. In 1983, Exxon was ordered to make restitution for overcharging its customers. Held: Exxon's claim against decedent was uncertain and unenforceable as of the date of decedent's death. P's deduction pursuant to sec. 2053(a) (3), I.R.C., is limited to the amount paid in settlement of the claim.

P, a California corporation, filed a petition for redetermination before the enactment of the Taxpayer Bill of Rights 2 (TBR2), Pub. L. 104-168, 110 Stat. 1452 (1996). Held: Because P commenced its case (by filing a petition for redetermination) before the enactment of TBR2, P bears the burden of proving that R's position was not substantially justified. 2.

Ds sold multiyear vehicle service contracts (VSC's) in connection with the sale of motor vehicles under a common program administered by A, an unrelated party. Under the terms of the program, Ds retained a portion of the contract price as their profit and remitted the remainder to A: (1) For deposit of a specified amount in escrow to fund their obligations under the VSC, and (2) for payment of A's fees and a premium for excess loss insurance provided by an unrelated insurance company. Ds currently included in gross income only the portion of the contract price that they retained as profit. Ds reported amounts held in escrow only when released to them. Held: 1.(a) At the time Ds sold a VSC they acquired a fixed right to receive, and must currently include in gross income, the portion of the contract price deposited in escrow. The reasoning of Commissioner v. Hansen, 360 U.S. 446 (1959), controls. (b) This amount did not constitute a purchaser deposit. Commissioner v. Indianapolis Power & Light Co., 493 U.S. 203 (1990), distinguished. (c) Nor did this amount constitute a trust fund for the benefit of the purchaser. Angelus Funeral Home v. Commissioner, 47 T.C. 391 (1967), affd. on other grounds 407 F.2d 210 (9th Cir. 1969), and Miele v. Commissioner, 72 T.C. 284 (1979), distinguished. 2. Pursuant to secs. 671 and 677, I.R.C., Ds are treated as owners of the escrow accounts and must currently include investment income of the accounts in gross income. Effect of sec. 468B(g), I.R.C., explained. 3. Premiums are capital expenditures that must be recovered through amortization. Fees are deductible in accordance with a formula that reasonably measures A's performance of services over the life of the VSC's. Ds may not either currently deduct these payments to offset income they are required to recognize with respect to the corresponding portions of the contract price or defer recognition of income until the offsetting deductions are allowable. 4. An adjustment under sec. 481, I.R.C., is sustained.

P is a rural telephone cooperative corporation that operates at cost. Held: the income thus received from the long-distance carriers for B & C services is income for the performance of communication services within sec. 501(c)(12)(B)(i), and is therefore not taken into account to comply with the 85 percent or more requirement of sec. 501(c)(12)(A).

P paid relocation expenses of its employees and provided financial assistance in connection with the sale of their residences. Held: Neither P nor the RSC acquired legal or equitable ownership of the residences for Federal income tax purposes. Held, further, P is entitled to deduct payments to the RSC as ordinary and necessary business expenses. Sec. 162(a), I.R.C.

Secs. 419 and 419A, I.R.C., as enacted by the Deficit Reduction Act of 1984, Pub. Held: The Prime Plan is a welfare benefit plan within the meaning of sec. 419, I.R.C. Held, further: The Prime Plan is not within the scope of sec. 419A (f) (6), I.R.C., because it is an aggregation of separate plans each having an experience-rating arrangement with the related employer.

On Mar. 30, 1987, P, a domestic corporation, entered into an agreement with Borden to sell P's stock in Paty, a limitada organized under the laws of the Federal Republic of Brazil. Held: P's loss is sourced in the United States. Sec. 865, I.R.C., which provides that income from the sale of noninventory personal property is generally sourced at the residence of the seller, is also generally applicable in sourcing losses realized on the sale of such property.

P, a foreign corporation wholly owned by a foreign conglomerate, was engaged in real estate activity in Hawaii. Held: The advances were debt, and P is subject to the sec. 884 excess interest tax provisions. Held, further, sec. 884 and regulations interpreted--excess interest tax provisions apply. Held, further, the questioned assets are includable in the excess interest tax computation.