Metrocorp, Inc. v. Commissioner , 116 T.C. No. 18 ( 2001 )

116 T.C. No. 18UNITED STATES TAX COURT
METROCORP, INC., Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 19780-98. Filed April 13, 2001.
M, a State bank, acquired a portion of the assets
and assumed a portion of the deposit liabilities of C,
a failed Federal savings association. Before the
transaction, the deposit liabilities of M and C were
insured by different funds (B and S, respectively)
administered by the Federal Deposit Insurance
Corporation. The transaction was a “conversion
transaction” under 12 U.S.C. sec. 1815(d)(2)(B) (1994),
because M and C each participated in a different fund,
and M assumed C’s deposit liabilities. R determined
that the exit and entrance fees related to the
transaction which M paid to S and B, respectively,
under 12 U.S.C. sec. 1815(d)(2)(E) (1994), were non-
deductible capital expenditures. The fees were
capitalizable, R asserts, because they produced
significant future benefits to M in that M, following
the assumption, insured all of its deposit liabilities
through B. M’s use of B to insure all of its deposit
liabilities meant that M’s future costs for compliance
and insurance premiums would be lower than if M had
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continued to use S to insure the assumed deposit
liabilities.
Held: M’s payment of the fees produced no
significant future benefit to M that would require
capitalization of either fee.
OPINION
James R. Walker and Charles L. Mastin II for petitioner.
Jennifer L. Nuding, for respondent.
LARO, Judge: The parties submitted this case to the Court
without trial. See Rule 122. Respondent determined deficiencies
of $15,288, $14,372, and $14,375 in petitioner’s respective
taxable years ended October 31, 1993, 1994, and 1995. Following
concessions, we must decide whether petitioner may deduct the
exit and entrance fees which its subsidiary, Metrobank, paid to
the Federal Deposit Insurance Corporation (FDIC) with respect to
a “conversion transaction” under 12 U.S.C. sec. 1815(d)(2)(B)(iv)
(1994). We hold it may.1 Unless otherwise indicated, section
references are to the Internal Revenue Code applicable to the
relevant years. Rule references are to the Tax Court Rules of
Practice and Procedure.
Background
The parties have filed with the Court a stipulation of facts
and certain related exhibits. We incorporate herein by reference
that stipulation of facts and those exhibits. We find the
1
Our holding renders moot the parties’ other dispute;
namely, whether the fees, if capitalizable, are amortizable.
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stipulated facts accordingly, and we set forth the relevant facts
in this background section. We also set forth in this section,
as they relate to the operation of the FDIC and of the insurance
funds at issue, the pertinent provisions of title 12 of the
United States Code (1994) (title 12).
Petitioner is a Delaware corporation whose principal office
was in East Moline, Illinois, when its petition was filed. It is
a bank holding company that files consolidated Federal income tax
returns.2 It reports its income and expenses using an accrual
method and on the basis of a fiscal year ending on October 31.
It includes in its consolidated returns a wholly owned
subsidiary, Metrobank, that is a bank chartered in Illinois.
The FDIC is a congressionally established corporation that
serves primarily to protect financial institution depositors by
insuring any deposit up to $100,000 that is held by a bank or
savings association participating in the FDIC insurance program.
The Banking Insurance Fund (BIF) and the Savings Association
Insurance Fund (SAIF) are separate funds which the FDIC maintains
and administers under this program. The BIF insures the deposit
liabilities of participating banks, e.g., Metrobank. The SAIF
2
For purposes of title 12, the term “bank” generally refers
to a State-chartered bank, and the term “savings association”
generally refers to a Federal- or State-chartered savings
association (or savings and loan or thrift as it is sometimes
called). 12 U.S.C. sec. 1813(a) and (b) (1994). We use herein
the same terminology. We refer collectively to banks and savings
associations as financial institutions.
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insures the deposit liabilities of participating savings
associations; e.g., Community Federal Savings Bank (Community).
Each financial institution that participates in the FDIC’s
insurance program is generally assessed a semiannual charge
(premium) equal to its liability for deposits multiplied by the
applicable rate set forth in 12 U.S.C. sec. 1817(b)(1)(C) or (D)
(1994). Any amount assessed against a participant in the BIF is
deposited into the BIF and is available to the FDIC for use with
respect to any BIF participant. Any amount assessed against a
participant in the SAIF is deposited into the SAIF and is
available to the FDIC for use with respect to any SAIF
participant.
Community is a failed savings association. On October 16,
1990, Metrobank submitted to the FDIC a bid to consummate a
transaction (transaction) under which Metrobank would acquire a
portion of Community’s assets and assume a portion of Community’s
deposit liabilities. Because Community and Metrobank each
insured its deposit liabilities through a different FDIC fund,
and Metrobank had agreed to assume Community’s deposit
liabilities, which would be insured after the transaction by the
BIF instead of the SAIF, the transaction was a conversion
transaction under 12 U.S.C. sec. 1815(d)(2)(B)(iv) (1994).
Section 1815(d)(2)(B) of title 12 defines a "conversion
transaction" as:
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(i) the change of status of an insured depository
institution from a Bank Insurance Fund member to a
Savings Association Insurance Fund member or from a
Savings Association Insurance Fund member to a Bank
Insurance Fund member;
(ii) the merger or consolidation of a Bank
Insurance Fund member with a Savings Association
Insurance Fund member;
(iii) the assumption of any liability by--
(I) any Bank Insurance Fund member to
pay any deposits of a Savings Association
Insurance Fund member; or
(II) any Savings Association Insurance
Fund member to pay any deposits of a Bank
Insurance Fund member;
(iv) the transfer of assets of--
(I) any Bank Insurance Fund member to
any Savings Association Insurance Fund member
in consideration of the assumption of
liabilities for any portion of the deposits
of such Bank Insurance Fund member; or
(II) any Savings Association Insurance
Fund member to any Bank Insurance Fund member
in consideration of the assumption of
liabilities for any portion of the deposits
of such Savings Association Insurance Fund
member;
Financial institutions are required by 12 U.S.C. sec.
1815(d)(2)(E) (1994) to pay to the FDIC exit and entrance fees on
conversion transactions, and Metrobank agreed in its bid to pay
these fees to the FDIC. That section provides:
Each insured depository institution participating in a
conversion transaction shall pay--
(i) in the case of a conversion
transaction in which the resulting or
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acquiring depository institution is not a
Savings Association Insurance Fund member, an
exit fee * * * which–-
(I) shall be deposited in the
Savings Association Insurance Fund;
or
(II) shall be paid to the
Financing Corporation, if the
Secretary of the Treasury
determines that the Financing
Corporation has exhausted all other
sources of funding for interest
payments on the obligations of the
Financing Corporation and orders
that such fees be paid to the
Financing Corporation;
(ii) in the case of a conversion
transaction in which the resulting or
acquiring depository institution is not a
Bank Insurance Fund member, an exit fee in an
amount to be determined by the [Federal
Deposit Insurance] Corporation * * * which
shall be deposited in the Bank Insurance
Fund; and
(iii) an entrance fee in an amount to be
determined by the [Federal Deposit Insurance]
Corporation * * *, except that--
(I) in the case of a
conversion transaction in which the
resulting or acquiring depository
institution is a Bank Insurance
Fund member, the fee shall be the
approximate amount which the
[Federal Deposit Insurance]
Corporation calculates as necessary
to prevent dilution of the Bank
Insurance Fund, and shall be paid
to the Bank Insurance Fund; and
(II) in the case of a
conversion transaction in which the
resulting or acquiring depository
institution is a Savings
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Association Insurance Fund member,
the fee shall be the approximate
amount which the [Federal Deposit
Insurance] Corporation calculates
as necessary to prevent dilution of
the Savings Association Insurance
Fund, and shall be paid to the
Savings Association Insurance Fund.
Metrobank consummated the transaction on November 2, 1990,
and the FDIC approved the transaction on November 6, 1990,
effective as of November 2, 1990. After the transaction, all of
Metrobank's deposit liabilities (including those assumed from
Community) were insured by the BIF. Metrobank could not have
insured through the BIF the deposit liabilities it had assumed
from Community without paying the exit and entrance fees.
In total, Metrobank paid to the FDIC an exit fee of $309,565
and an entrance fee of $43,339 on its assumption of Community’s
deposit liabilities. Metrobank paid those fees in five annual
installments, paying $71,518 in each subject year ($62,735 for
the exit fee and $8,783 for the entrance fee).3 For each of the
subject years, petitioner claimed a deduction for the payment of
the fees during that year. Petitioner also claimed for those
respective years deductions of $465,046, $463,583, and $311,245
that Metrobank paid to the FDIC as semiannual insurance premiums
under 12 U.S.C. sec. 1817 (1994).
3
We recognize that the sum of the exit and entrance fee
($309,565 + $43,339 = $352,904) is $4,186 less than the total of
the five payments ($71,518 x 5 = $357,590). The record does not
adequately explain the difference.
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Pursuant to 12 U.S.C. sec. 1815(d)(2)(E)(i) and (iii)
(1994), the FDIC deposited the exit fee into the SAIF, and it
deposited the entrance fee into the BIF. Metrobank calculated
the exit fee from a formula under which the fee equaled 0.9
percent (.009) multiplied by the total liability that it assumed
from Community as to the deposits. See 12 C.F.R. secs. 312.1(j),
312.5(c) (2000). Metrobank calculated the entrance fee from a
different formula under which the fee equaled the “Bank Insurance
Fund reserve ratio” (BIF reserve ratio) multiplied by the
“entrance fee deposit base” received from Community. 12 C.F.R.
secs. 312.1(g), 312.4(b) (2000). The BIF reserve ratio was the
ratio of the net worth of the BIF to the value of the aggregate
total domestic deposits held in all participants of the BIF. See
12 C.F.R. sec. 312.1(c) (2000). The entrance fee deposit base
was “those deposits which the Federal Deposit Insurance
Corporation * * * [estimated] to have a high probability of
remaining with * * * [Metrobank] for a reasonable period of time
following the * * * [conversion transaction], in excess of those
deposits that would have remained in the * * * [SAIF had
Community] been resolved by means of an insured deposit
transfer.” 12 C.F.R. sec. 312.1(g) (2000). Community generally
would have been resolved by an insured deposit transfer if its
deposit liabilities had been paid by the FDIC or Resolution Trust
Corporation. See id.- 9 -
If Metrobank did not pay its annual FDIC insurance premiums
after the transaction, the FDIC could commence administrative
proceedings to terminate involuntarily Metrobank's FDIC
insurance. Metrobank could also in certain circumstances
voluntarily terminate its FDIC insurance. Metrobank would not
have been entitled to a refund for the exit or entrance fee which
it paid to the FDIC incident to the transaction if it terminated
its FDIC insurance after the transaction either voluntarily or
involuntarily.
At the end of 1990, the approximate rates for depository
insurance under the BIF and the SAIF were .12 percent (.0012) and
.208 percent (.00208), respectively. As of the same time, SAIF
rates were set to exceed BIF rates until 1998.
Respondent determined that petitioner could not deduct
either fee that Metrobank paid to the FDIC incident to the
conversion transaction and disallowed petitioner’s deductions for
those payments. According to the notice of deficiency:
It has been determined that your deductions for the
entrance and exit fee paid to the Federal Deposit
Insurance Corporation for the transfer of your insured
deposits from one depository insurance to another
depository insurance fund is a non-deductible capital
expenditure that is not subject to depreciation or
amortization.[4]
4
The notice of deficiency indicates that the deposits were
actually transferred from the SAIF to the BIF. This is not true.
As explained herein, the BIF and the SAIF do not hold a financial
institution’s deposits but merely insure the deposits held by the
(continued...)
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Discussion
We are faced once again with the question of whether an
expenditure may be deducted currently as an expense or must be
capitalized and deducted in a later year. Following INDOPCO,
Inc. v. Commissioner, 503 U.S. 79 (1992), in which the Supreme
Court clarified that nonasset-producing expenditures5 may require
capitalization if they provide significant future benefits to the
payor, the parties dispute whether petitioner’s entrance and exit
fees are capitalizable expenditures. Respondent determined and
asserts they are. Respondent’s sole argument in support of his
assertion is that Metrobank’s payment of the fees generated
significant future benefits for it. Respondent lists the
following as future benefits which are significant to Metrobank:
(1) Metrobank was able to insure its entire liability for
deposits through one fund, subjecting itself to only one
regulatory scheme and minimizing its risk of complicated
compliance problems; (2) insurance premiums under the BIF were
less than insurance premiums under the SAIF; and (3) the BIF was
more stable than the SAIF. Petitioner asserts it may deduct the
4
(...continued)
financial institutions.
5
We use the term nonasset-producing expenditures to refer
to expenditures which do not create or enhance a separate and
distinct asset.
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fees. Petitioner argues that Metrobank derived no significant
long-term benefit from its payment of either fee.
We decide this case as framed by respondent and hold that
petitioner may deduct the fees. In reaching this holding, we
specifically note that respondent did not determine, and has
declined to argue, that the fees should be capitalized on the
grounds that they were necessarily incurred in connection with
the acquisition of another financial institution or, more
specifically, the acquisition of the assets and liabilities of
another financial institution. See, e.g., INDOPCO, Inc. v.
Commissioner, supra; Ellis Banking Corp. v. Commissioner, 688
F.2d 1376 (11th Cir. 1982), affg. in part and remanding in part
on an issue not relevant herein T.C. Memo. 1981-123; American
Stores Co. & Subs. v. Commissioner, 114 T.C. 458 (2000). If
respondent had made such a determination or argument, petitioner
may well have wanted to offer evidence relating to it. In order
to avoid prejudicing petitioner with respect to a theory not
raised before the case was submitted, we save any comment on that
theory for another day. See Leahy v. Commissioner, 87 T.C. 56,
64-65 (1986) (Court declined to consider a theory raised by
respondent on brief where, as here, the parties submitted the
case with the facts fully stipulated and presumably with an
understanding of the legal issues to be presented and defended);
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see also Concord Consumer Hous. Corp. v. Commissioner, 89 T.C.
105, 106-107 n.3 (1987).
Our analysis begins with a general background of the FDIC
and the pertinent insurance funds. Congress established the FDIC
in 1933 to insure bank deposits, see Lebron v. National R.R.
Passenger Corp., 513 U.S. 374, 388 (1995); FDIC v. Godshall, 558
F.2d 220, 221 (4th Cir. 1977), and it established the Federal
Savings and Loan Insurance Corporation (FSLIC) in 1934 to insure
savings association deposits, see United States v. Winstar Corp.,
518 U.S. 839, 844 (1996). Savings associations were required to
participate in the FSLIC insurance system but could withdraw from
the FSLIC insurance fund by converting from a Federal to a State
charter. See Great W. Bank v. Office of Thrift Supervision, 916
F.2d 1421, 1423 (9th Cir. 1990).
High interest rates, inflation, Government deregulation,
fraud, and insider abuse caused a crisis in the savings
association industry during the late 1970's and the 1980's. The
FSLIC’s insurance fund was threatened by this crisis when a large
number of failing savings associations approached the FSLIC with
deposit insurance liabilities and hundreds of savings
associations actually failed. The FSLIC’s insurance fund became
insolvent by billions of dollars after the FSLIC paid out
billions of dollars to cover the failed savings associations’
insured deposits and incurred additional liabilities on its
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closing of hundreds of problem savings associations. See United
States v. Winstar Corp., supra at 845-846; Great W. Bank v.
Office of Thrift Supervision, supra at 1423.
The Federal Home Loan Bank Board (Bank Board) was an
independent agency in the Executive Branch of the United States
with broad discretionary powers over the Federal home loan bank
system. In 1985, the Bank Board attempted to replenish the FSLIC
insurance fund by raising the insurance premiums charged to the
FSLIC-insured institutions through a "special assessment" at the
maximum amount allowed by Congress. As a result, many healthy
FSLIC-insured savings associations, which paid insurance premiums
of approximately $2.08 per $1,000 of insured deposits, took the
steps necessary to meet the requirements to withdraw from the
FSLIC insurance system and obtain insurance from the FDIC, which
charged insurance premiums of only $.83 per $1,000 of insured
deposits. See Great Western Bank v. Office of Thrift
Supervision, supra at 1423-1424.
Congress responded to the savings associations’ attempt to
change their insurer from the FSLIC to the FDIC by passing the
Competitive Equality Banking Act of 1987 (CEBA), Pub. L. 100-86,
101 Stat. 552. In relevant part, CEBA: (1) Imposed a moratorium
that prohibited savings associations from leaving the FSLIC
insurance fund and (2) imposed a final insurance premium on
savings associations which left the FSLIC insurance fund after
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the moratorium expired. See CEBA sec. 306(h), 101 Stat. 602,
amended by Pub. L. 100-378, sec. 10, 102 Stat. 887, 889 (1988),
current version at 12 U.S.C. sec. 1730(d)(1) (1994). The intent
of CEBA was to recapitalize the depleted FSLIC. See Branch
Banking & Trust Co. v. FDIC, 172 F.3d 317, 320 (4th Cir. 1999).
CEBA proved to be ineffective in replenishing the FSLIC’s
insurance funds, and, on August 9, 1989, Congress enacted the
Financial Institutions Reform, Recovery and Enforcement Act of
1989 (FIRREA), Pub. L. 101-73, 103 Stat. 183, as an emergency
measure to prevent the collapse of the savings association
industry. See H. Rept. 101-54(I) at 307 (1989); see also H.
Conf. Rept. 101-222 at 393 (1989); United States v. Winstar
Corp., supra at 856. In relevant part, FIRREA abolished the
FSLIC, transferred to the FDIC the responsibility of insuring the
deposits at savings associations, and established the BIF and the
SAIF. FIRREA gave the FDIC responsibility for regulating both
the insurance fund it had traditionally administered (now known
as the BIF) and the insurance fund formerly regulated by the
FSLIC (now known as the SAIF). See FIRREA secs. 202, 215, 103
Stat. 188, 252. FIRREA imposed on SAIF (as opposed to BIF)
participants higher deposit premiums and a higher degree of
supervision in an attempt to ensure the SAIF’s strength. See
generally 12 U.S.C. sec. 1817 (1994).
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Congress anticipated that SAIF participants would try to
convert to BIF participants in order to escape the higher SAIF
premiums and regulatory costs. Thus, Congress included in FIRREA
certain control measures to prevent an exodus from the SAIF. See
12 U.S.C. sec. 1815(d)(2)(E) and (F) (1994). First, FIRREA
required that entrance and exit fees be paid to the respective
funds as to a conversion transaction between a BIF participant
and a SAIF participant. See 12 U.S.C. sec. 1815(d)(2)(E) (1994).
A higher exit fee was placed on financial institutions leaving
the SAIF for the BIF in order to discourage SAIF-insured
institutions from insuring their deposits with the BIF. See 12
U.S.C. sec. 1815(d)(2)(F) (1994). Second, FIRREA imposed a 5-
year moratorium beginning on August 9, 1989, to replace the
expired CEBA moratorium.6 See 12 U.S.C. sec. 1815(d)(2)(A)(ii)
(1994). Under the FIRREA moratorium, SAIF-insured institutions
were generally unable to enter into conversion transactions,
which essentially prevented them from converting to BIF-insured
institutions and essentially ensured mandatory SAIF participation
for savings associations during the moratorium’s duration.
FIRREA imposed two relevant exceptions to the moratorium.
First, the FDIC could allow certain conversion transactions
involving the acquisition of a depository institution that was in
6
Congress later extended the 5-year FIRREA moratorium,
which was in effect during the relevant years.
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default or in danger of default.7 A financial institution that
utilized this exception was required to pay an exit fee to the
fund that insured the assumed deposit liabilities before the
transaction and an entrance fee to the fund that insured the
assumed deposit liabilities after the transaction. See 12 U.S.C.
sec. 1815(d)(2)(C), (E) (1994). Congress provided explicitly
that the entrance fee was imposed to prevent dilution of the
reserves of the fund that began insuring the assumed deposit
liabilities as a result of the transaction. See H. Rept. 101-
54(I), at 325. The pertinent legislative history does not
contain an explicit explanation of Congress’ intent as to the
imposition of the exit fee.
Under the second exception to the moratorium, certain
conversion transactions could be consummated through a merger or
consolidation (collectively, merger). See 12 U.S.C.
sec. 1815(d)(3) (1994); see also FIRREA sec. 206(a)(7), 103 Stat.
196. Under this exception, which Metrobank could have utilized
to effect the transaction, but decided not to, a bank holding
company that controlled a SAIF-insured savings association could
generally merge the savings association’s assets and liabilities
with a BIF-insured subsidiary. Because the deposit liabilities
of the SAIF-insured institution and a certain percentage of
7
The subject transaction was consummated under this
exception.
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future deposits always remained assessable by the SAIF, the
financial institution utilizing this exception was not required
to pay the exit and entrance fees as to the conversion
transaction. See 12 U.S.C. sec. 1815(d)(3)(B), (G) (1994). The
institution, however, could not during the moratorium period stop
paying SAIF assessments on the ascertained percentage of the
future deposits. The institution could switch the insurance
coverage on those deposits, if it so desired, after the
moratorium expired but only if the FDIC approved the switch and
the institution paid the requisite exit and entrance fees.
With this backdrop in mind, we turn to the relevant text of
the Internal Revenue Code. Section 162(a) generally provides
that a taxpayer may deduct "all the ordinary and necessary
expenses paid or incurred during the taxable year in carrying on
any trade or business".8 Section 263(a)(1) generally provides
that a deduction is not allowed for "Any amount paid out for new
buildings or for permanent improvements or betterments made to
increase the value of any property or estate." Whether an
expense is deductible under section 162(a) or must be capitalized
under section 263(a)(1) is a factual determination for which
8
An expense is ordinary if it is of common or frequent
occurrence in the type of business involved. See Deputy v. du
Pont, 308 U.S. 488, 495 (1940); Welch v. Helvering, 290 U.S. 111,
114 (1933). An expense is necessary if it is appropriate or
helpful to the development of the taxpayer's business. See
Commissioner v. Tellier, 383 U.S. 687, 689 (1966); Welch v.
Helvering, supra.- 18 -
there is no controlling rule. Petitioner, as the taxpayer, bears
the burden of establishing its right to deduct the disputed fees.
See INDOPCO, Inc. v. Commissioner, 503 U.S. at 84, 86; Welch v.
Helvering, 290 U.S. 111, 114-116 (1933); see also A.E. Staley
Manufacturing Company and Subs. v. Commissioner, 119 F.3d 482,
486 (7th Cir. 1997), revg. and remanding 105 T.C. 166 (1995).
When an expense creates a separate and distinct asset, it
usually must be capitalized. See, e.g., Commissioner v. Lincoln
Sav. & Loan Association, 403 U.S. 345 (1971); FMR Corp. & Subs.
v. Commissioner, 110 T.C. 402, 417 (1998); Iowa-Des Moines Natl.
Bank v. Commissioner, 68 T.C. 872, 878 (1977), affd. 592 F.2d 433(8th Cir. 1979). When an expense does not create such an asset,
the most critical factors to consider in passing on the question
of deductibility are the period of time over which the taxpayer
will derive a benefit from the expense and the significance to
the taxpayer of that benefit. See INDOPCO, Inc. v. Commissioner,
supra at 87-88; United States v. Mississippi Chem. Corp., 405
U.S. 298, 310 (1972); FMR Corp. & Subs. v. Commissioner, supra at
426; Connecticut Mut. Life Ins. Co. v. Commissioner, 106 T.C.
445, 453 (1996). Expenses must generally be capitalized when
they either: (1) Create or enhance a separate and distinct asset
or (2) otherwise generate significant benefits for the taxpayer
extending beyond the end of the taxable year.
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Respondent makes no assertion that either fee created or
enhanced a separate and distinct capital asset. Respondent’s
sole argument in support of the determination is that the fees
generated for Metrobank the proffered benefits listed supra p.
10, which, respondent asserts, are significant long-term benefits
to Metrobank. We disagree with respondent that any of these
benefits are significant long-term benefits which would require
either fee’s capitalization. Although the fees may arguably have
produced one or more future benefits for Metrobank, none of those
benefits, when considered either separately or together, is
enough to characterize either fee as a capitalizable expense.
Under the requisite test, capitalization is not always required
when an incidental future benefit is generated by an expense.
See INDOPCO, Inc. v. Commissioner, supra at 87.
We are unable to find as a fact that Metrobank’s payment of
either fee produced for Metrobank a significant future benefit
requiring capitalization. Whether a benefit is significant to
the taxpayer who incurs the underlying expense rests on the
duration and extent of the benefit, and a future benefit that
flows incidentally from an expense may not be significant. See
id. at 87-88. We find as a fact that Metrobank’s payment of the
fees produced for it no significant long-term benefit.
Metrobank did not pay either fee as a condition to obtaining
FDIC insurance in the first place. Metrobank always had and,
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absent a decision by it to the contrary, would always have had
FDIC insurance for its deposit liabilities, including those
deposit liabilities assumed from Community. Metrobank paid the
fees to insure its assumed deposit liabilities with the BIF, the
insurance fund in which it was already a participant, rather than
with the SAIF, a fund with which it was unaffiliated. Any
benefit that Metrobank derived from insuring the assumed deposit
liabilities with the BIF, rather than the SAIF, is insignificant
when weighed against the primary purpose for the payment of the
fees. That purpose, as explained herein, was, in the case of the
exit fee, to protect the integrity of the SAIF for the direct
benefit of the FDIC and the potential benefit of the SAIF’s
participants, one of which was not Metrobank, by imposing upon
Metrobank a final premium for the insurance coverage that the
assumed deposit liabilities had received while insured by the
SAIF before their assumption. The primary purpose of the
entrance fee, as also explained herein, was to protect the
integrity of the BIF by charging an additional first-year premium
for insurance coverage on the assumed deposit liabilities.
It is critical that Metrobank would not have recovered any
portion of either fee were it to have severed its relationship
with the BIF. Metrobank paid the exit fee to the SAIF as a
nonrefundable, final premium for insurance that it had already
received. The SAIF had insured the assumed deposit liabilities
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before the conversion transaction, and Metrobank was not
affiliated with the SAIF either before or after the transaction.
Metrobank had neither a right nor a chance to recover any of the
exit fee following its payment of the fee to the SAIF; SAIF funds
were available for use by the FDIC only with respect to SAIF
participants. As we view the exit fee in the context of the
statutory scheme, we see that the fee serves mainly to compensate
the former insurer (in this case, the SAIF) for its future loss
of income as to the assumed deposit liabilities, which
compensation flowed to the direct benefit of the FDIC and the
potential benefit of the former insurance fund’s participants.
But for the conversion transaction, the former insurer would have
received income in the form of the semiannual insurance premiums
payable on the deposit liabilities which were the subject of the
assumption, and a failing SAIF participant could have had an
opportunity to reach that income were the FDIC to have allowed
it. Here, the exit fee gave to the SAIF (and to its
participants) 0.9 percent of the deposit liabilities assumed by
Metrobank which translates into four to five times the annual
assessment which the SAIF would otherwise have received as to
those liabilities had they not been assumed by Metrobank.
We view the entrance fee as also paid as a nonrefundable
premium for insurance coverage; in contrast with the exit fee,
however, we understand the entrance fee to be paid for the
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current year’s insurance. The use and purpose of the entrance
fee is diametrically different from that of the exit fee. In
addition to the fact that the entrance fee is significantly less
than the exit fee, the entrance fee is paid to the fund that
insures the deposits of the institution that assumes the deposit
liabilities in a conversion transaction. Moreover, the entrance
fee is imposed in accordance with an express congressional intent
to prevent dilution of the reserves of the current insurer
through the addition of unworthy participants which could prove
to be financially troubled and cause an undesired depletion of
that insurer’s resources. See H. Rept. 101-54(I), at 325 (1989).
But for the imposition of the entrance fee, the participants in
an FDIC fund could deplete the reserves of that fund if the fund
became liable for an extraordinary amount of deposit liabilities
which had been assumed by the participants in conversion
transactions. After a BIF participant assumes the deposit
liabilities of a SAIF participant and pays an entrance fee,
however, the value of the BIF generally bears the same ratio to
the total deposits insured by the BIF (inclusive of the deposits
underlying the assumed deposit liabilities) as before the
conversion transaction.
We find additional support for our conclusion that Metrobank
derived insignificant benefits from its payment of the fees by
noting that Metrobank paid both fees incident to its management’s
- 23 -
decision to assume the deposit liabilities of a failed savings
association. Metrobank’s management obviously made a business
decision to pay the two fees to insure the assumed deposit
liabilities with its regular insurer, the BIF; management decided
not to forgo the fees, merge under the second exception to the
moratorium, and insure the deposit liabilities with the SAIF.
The BIF’s annual insurance premiums were less expensive than
those of the SAIF, and Metrobank, being a participant in the BIF,
was obviously more familiar with its requirements. Although
respondent observes correctly that Metrobank could have avoided
the fees by assuming the deposit liabilities through a merger,
Metrobank chose for business reasons not to do so. We decline to
second-guess that business judgment. Under the facts herein, the
exercise of such a sound and reasonable business practice under
which a taxpayer such as Metrobank acts to minimize its recurring
operating costs is not a significant future benefit that requires
capitalization of the related nonasset-producing expenditures.
Cost saving expenditures such as this, which are incurred in the
process of fulfilling an everyday sound and reasonable business
practice, as opposed to effecting a change in corporate
structure, qualify for current deductibility under section
162(a). See T.J. Enters., Inc. v. Commissioner, 101 T.C. 581,
589 (1993) (“Expenditures designed to reduce costs are * * *
generally deductible.”), and the cases cited therein. This is
- 24 -
especially true where, as is here, the fees relate solely to the
optional insurance of a liability and do not relate directly to
either a capital asset or to an income producing activity. Cf.
INDOPCO, Inc. v. Commissioner, 503 U.S. at 83-84 (capitalization
generally required to match an expense with the income to be
generated therefrom).
Respondent analogizes petitioner’s payment of the fees with
the purchase of a nontransferable membership interest, which,
respondent asserts, is a capitalizable expense. According to
respondent, Metrobank’s membership interest in the BIF entitled
it to: (1) A substantial reduction in future depository
insurance premiums, (2) the right to insure all of its deposits
in a more stable insurance fund, and (3) the need to adhere to
only one regulatory scheme. We disagree with respondent’s
analogy.9 First, as mentioned above, respondent makes no
assertion that Metrobank’s payment of either fee was related to
the purchase of a capital asset.10 Second, Metrobank was already
9
We recognize that title 12 uses the terms BIF member and
SAIF member to refer to the participants of those funds. See,
e.g., 12 U.S.C. sec. 1813(d) (1994). We do not understand
Congress’ use of the word “member” to refer to a membership
interest in the funds in the property sense of the word. In
fact, respondent has not even made such an argument.
10
In this regard, respondent relies incorrectly on
Darlington-Hartsville Coca-Cola Bottling Co. v. United States,
273 F. Supp. 229 (D.S.C. 1967), affd. 393 F.2d 494 (4th Cir.
1968), and Rodeway Inns of Am. v. Commissioner, 63 T.C. 414(1974), to support his position herein. The taxpayer in each of
(continued...)
- 25 -
participating in the BIF program before the transaction, and
Metrobank could have continued its participation in the BIF
program had it not consummated the transaction. Third, new banks
are not charged either fee to insure their deposit liabilities
with the BIF, nor is either fee imposed when a bank assumes the
deposit liabilities of another bank. Fourth, the fees were
nonrefundable, and any perceived benefit derived from Metrobank
from its payment of the fees would have been extinguished
completely had Metrobank terminated its FDIC insurance.
We conclude and hold that the fees are currently deductible.
In so concluding, we note that respondent does not argue that the
facts at hand are similar to the facts of Commissioner v. Lincoln
Sav. & Loan Association, 403 U.S. 345 (1971).11 Nor do we find
that such is the case. Whereas the payments in the Lincoln
Savings case served to create or enhance for the taxpayer a
separate and distinct asset, to wit, a “distinct and recognized
property interest in the Secondary Reserve”, id. at 354-355, the
payments here did no such thing.
10
(...continued)
those cases purchased a capital asset incident to the payment of
the expenses in dispute there.
11
In fact, respondent does not even mention Commissioner v.
Lincoln Sav. & Loan Association, 403 U.S. 345 (1971), in his
brief.
- 26 -
We have considered all arguments of the parties and, to the
extent not discussed herein, find those arguments to be
irrelevant or without merit. To reflect concessions,
Decision will be entered
under Rule 155.
Reviewed by the Court.
WELLS, CHABOT, COHEN, SWIFT, GERBER, COLVIN, FOLEY, VASQUEZ,
and THORNTON, JJ., agree with this majority opinion.
- 27 -
SWIFT, J., concurring: I write separately to clarify why I
believe the fees paid by Metrobank to the FDIC are currently
deductible.
In INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 86-87 (1992),
the Supreme Court described two closely related types of costs
that are to be capitalized under section 263: (1) Costs incurred
in connection with the acquisition, creation, or enhancement of a
specific capital asset; and (2) costs that provide significant
benefits that accrue to a taxpayer in future years.
Recently, in analyzing costs allegedly incurred in
connection with the acquisition or creation of a capital asset,
three Courts of Appeals have reversed all or part of recent Tax
Court opinions. See Wells Fargo & Co. & Subs. v. Commissioner,
224 F.3d 874 (8th Cir. 2000), affg. in part and revg. in part
Norwest Corp. & Subs. v. Commissioner, 112 T.C. 89 (1999); PNC
Bancorp, Inc. v. Commissioner, 212 F.3d 822 (3d Cir. 2000), revg.
110 T.C. 349 (1998); A.E. Staley Manufacturing Co. & Subs. v.
Commissioner, 119 F.3d 482 (7th Cir. 1997), revg. and remanding
105 T.C. 166 (1995). In these opinions, because of the close
relationship of the above types of costs, the Courts of Appeals
use language and analyses that are relevant in the instant case
to the issue as to the capitalization of fees paid because they
allegedly provided to Metrobank significant future benefits.
- 28 -
In Wells Fargo & Co. & Subs. v. Commissioner, 224 F.3d at
885-887, the Court of Appeals for the Eighth Circuit explained as
follows:
it is not proper to decide that a cost must be
capitalized solely because the fact finder determines
that the cost is “incidentally connected” with a long
term benefit. This is supported by both Lincoln
Savings and INDOPCO. * * *
* * * * * * *
The INDOPCO case addressed costs which were directly
related to the acquisition, while * * * [Wells Fargo]
involves costs which were only indirectly related to
the acquisition. * * * In this case, there is only an
indirect relation between the salaries (which originate
from the employment relationship) and the acquisition
(which provides the long term benefit * * *).
Based on the above analysis of the Court of Appeals for the
Eighth Circuit, salary and investigatory costs indirectly
relating to the acquisition of a capital asset and indirectly
providing the taxpayer with future benefits were not required to
be capitalized under INDOPCO because they did not directly
provide significant future benefits to the taxpayer. See id.
at 889.
In PNC Bancorp, Inc. v. Commissioner, 212 F.3d at 829,
involving expenses paid for credit reports, appraisals, and
salaries relating to consumer loans, the Court of Appeals for the
Third Circuit refused to conclude that --
- 29 -
in performing credit checks, appraisals, and other
tasks intended to assess the profitability of a loan,
the banks “stepped out of [their] normal method of
doing business” so as to render the expenditures at
issue capital in nature. Encyclopaedia Britannica,
Inc. v. Commissioner, 685 F.2d 212, 217 (7th Cir.
1982).
The Court of Appeals for the Third Circuit, in PNC Bancorp,
Inc. v. Commissioner, 212 F.3d at 830, continued as follows
(quoting from a portion of the taxpayer’s brief):
the Tax Court proceeded from the clearly accurate
premise that the expenses in question were associated
with the loans, incurred in connection with the
acquisition of the loans, or “directly related to the
creation of the loans,” * * * to the faulty conclusion
that these expenses themselves created the loans. We
conclude that the term “create” does not stretch this
far. In Lincoln Savings, it was the payments
themselves that formed the corpus of the Secondary
Reserve; therefore, it naturally follows that these
payments “created” the reserve fund. In * * * [the
taxpayer's] case, however, the expenses are merely
costs associated with the origination of the loans; the
expenses themselves do not become part of the balance
of the loan. * * * [Citation omitted.]
While purporting to apply the Lincoln Savings
language, both the Tax Court and the
government effectively have transformed that
language, by subtle but significant degrees,
from a test based on whether a cost “creates”
a separate and distinct asset, into a much
more sweeping test * * * . * * *
In PNC Bancorp, Inc. v. Commissioner, 110 T.C. at 370, we
concluded that the costs in issue were “assimilated” into the
asset that was acquired. In contrast, the Court of Appeals for
- 30 -
the Third Circuit held that the costs reflected “recurring,
routine day-to-day business” costs that may be currently deducted
as the costs were not incurred for significant future benefits.
PNC Bancorp, Inc. v. Commissioner, 212 F.3d at 834. While the
benefits from the consumer loans would continue for years, the
Court of Appeals for the Third Circuit resolved not to expand the
type of costs that must be capitalized “so as to drastically
limit what might be considered as 'ordinary and necessary'
expenses.” Id. at 830.
A.E. Staley Manufacturing Co. & Subs. v. Commissioner,
119 F.3d 482 (7th Cir. 1997), involved fees paid to investment
bankers to explore alternative transactions in connection with an
unsuccessful defense of a hostile tender offer. In reversing the
Tax Court’s holding that the fees had to be capitalized, the
Court of Appeals for the Seventh Circuit relied on the “well-worn
notion” that costs incurred in defending a business are currently
deductible. Id. at 487.
As noted in A.E. Staley Manufacturing by the Court of
Appeals for the Seventh Circuit, the test to apply under INDOPCO
is difficult to articulate and to apply. See id. The test is
very factual and practical. In an effort to partially reconcile
the various statements of the INDOPCO test and, in particular, in
light of the recent Courts of Appeals’ opinions reversing the Tax
Court’s application of the INDOPCO test, I offer the following:
- 31 -
Under INDOPCO, direct and indirect (e.g.,
overhead) costs that are similar to routine expenses
incurred by a taxpayer in the ordinary and normal
course of its business (e.g., salaries and insurance
fees) need not be capitalized unless they directly
relate to the acquisition, creation, or enhancement of
a specific capital asset or unless they directly
produce significant benefits to the taxpayer that
accrue to the taxpayer in future years.
Applying this statement of the INDOPCO capitalization test
to the fees involved in this case, it becomes clear that the fees
should be currently deductible. Relevant aspects of the fees are
described on pages 18-24 of the majority’s opinion. I would
emphasize that the fees --
(1) Were paid to the FDIC, the Federal governmental
agency which routinely supervises Metrobank in the
normal course of its business, not to Community, the
transferor of the deposit liabilities and not to third-
parties such as lawyers and financial advisers for a
specific service necessary to consummate the conversion
transaction;
(2) Were similar to other insurance fees that were
routinely paid by Metrobank to the Federal government
in the normal course of Metrobank’s banking business;
(3) Both in amount paid per year ($71,518) and in the
total cumulative amount paid over five years
($352,904), were generally less than Metrobank’s total
regular insurance premiums paid into the FDIC funds in
a single year (in 1993 and 1994, $465,046 and $463,583
respectively, and in 1995, $322,245);
(4) Did not provide Metrobank with any additional
insurance coverage with regard to its deposit
liabilities (including those transferred from
Community) and were not paid in lieu of the regular
future annual insurance premiums due;
- 32 -
(5) Once paid by Metrobank into the insurance funds,
were not refundable to Metrobank and were available for
use by the FDIC to assist any participant in the funds;
(6) Were triggered by and were coincidental with the
conversion transaction, but had the origin and purpose,
and were assessed and paid not because thereof but
because of the broader purpose to shore up the
financial strength of the FDIC’s insurance funds, the
financial strength of which was of ongoing and
necessary concern not just to the FDIC but to the
entire financial community (and which concern reflected
the same purpose for which Metrobank and others paid
the annual premiums into the FDIC insurance funds). In
other words, the FDIC, Metrobank, Community, and all
other contributors into the insurance funds had the
same purpose for paying the annual premiums and for
paying the exit and entrance fees (i.e., the
maintenance of the financial integrity of the Federal
government’s depository liability insurance programs,
essential not just to the government, but also to every
participant in the financial community -- the
government, the banks and savings and loans, and even
you and I, the depositors who hope and trust that we
will always be able to get our money back).
For the reasons stated, I respectfully concur.
- 33 -
CHIECHI, J., concurring: Respondent chose to ask the Court
to decide the issue of whether the exit fee and the entrance fee
should be capitalized solely on the basis of respondent’s theory
that those fees generated certain significant future benefits for
Metrobank. The majority states that it will “decide this case as
framed by respondent”. Majority op. p. 11. However, the
majority rejects respondent’s reliance on Darlington-Hartsville
Coca-Cola Bottling Co. v. United States, 273 F. Supp. 229 (D.S.C.
1967), affd. 393 F.2d 494 (4th Cir. 1968), and Rodeway Inns of
America v. Commissioner, 63 T.C. 414 (1974),1 because: “The
taxpayer in each of those cases purchased a capital asset
incident to the payment of the expenses in dispute there.”
Majority op. p. 24 note 10. I am concerned that such language by
the majority could be read to suggest its view on what the result
in this case would have been if respondent had argued that the
exit fee and the entrance fee should be capitalized because such
fees constitute amounts expended to acquire an asset with a life
extending substantially beyond the taxable year of acquisition.
See, e.g., Commissioner v. Idaho Power Co., 418 U.S. 1, 13
(1974); Woodward v. Commissioner, 397 U.S. 572, 575-576 (1970);
Ellis Banking Corp. v. Commissioner, 688 F.2d 1376, 1379 (11th
Cir. 1982), affg. in part and remanding in part T.C. Memo. 1981-
1
On brief, respondent described those two cases as cases in
which “the courts held that the taxpayers could not deduct
expenses that were part of a plan to produce a positive business
benefit for future years.”
- 34 -
123; American Stores Co. & Subs. v. Commissioner, 114 T.C. 458,
468-470 (2000). If the majority intended to express no opinion
on what the result in this case would have been if respondent had
advanced such an argument, the majority should not have used
language that, in my view, could be construed to suggest such an
opinion.2
I have considered and resolved the issue of whether the exit
fee and the entrance fee should be capitalized solely on the
basis of respondent’s theory that those fees produced certain
significant long-term benefits for Metrobank. On the record
presented, I, like the majority, reject respondent’s theory that
the benefits which respondent asserts the fees in question
produced are significant long-term benefits requiring
capitalization of those fees.3 However, I disagree with the
majority that the exit fee is a “final premium for insurance that
it had already received”, majority op. p. 20, and that the
entrance fee is a “premium * * * paid for the current year’s
2
Similarly, if the majority decided this case “as framed by
respondent”, majority op. p. 11, the majority should not have
concluded that, although respondent does not argue that the facts
presented in this case are similar to the facts in Commissioner
v. Lincoln Sav. & Loan Association, 403 U.S. 345 (1971), see
majority op. p. 25, the facts in the instant case are not similar
to those facts, see id.3
Unlike the majority, I have not considered whether there
are any benefits other than those alleged by respondent that are
significant future benefits generated for Metrobank by the fees
in question. See majority op. pp. 18-19.
- 35 -
insurance”, majority op. pp. 21-22. In my view, the record and
12 U.S.C. secs. 1815 and 1817 (1994) regarding the nature, use,
and purpose of those nonrefundable fees, which were paid in five
annual installments, belie the majority’s analogy of the exit fee
and the entrance fee to premiums paid for insurance coverage
provided.
THORNTON, J., agrees with this concurring opinion.
- 36 -
RUWE, J., dissenting: The majority refuses to consider
whether the exit and entrance fees should be capitalized as costs
incurred in connection with the acquisition of a capital asset
because the majority believes that respondent failed to include
this theory in his determination. The majority reads the notice
of deficiency too narrowly. Respondent’s determination, as
contained in the notice of deficiency, states:
It has been determined that your deductions for the
entrance and exit fee paid to the Federal Deposit
Insurance Corporation for the transfer of your insured
deposits from one depository insurance to another
depository insurance fund is a non-deductible capital
expenditure that is not subject to depreciation or
amortization.
The language contained in the notice of deficiency is broad and
disallows deduction of the fees simply because respondent
determined that the fees were capital expenditures.
The broad language contained in the notice of deficiency
should not have misled petitioner into believing that it did not
have to establish that the fees were not costs incurred in
connection with the acquisition of a capital asset. Petitioner’s
primary argument on brief was that the fees were for deposit
insurance coverage for the years in issue. Petitioner’s
alternative argument was that if the fees must be capitalized
then they are to be associated with the acquired deposits and
amortized over the useful life of the core deposits. Thus,
petitioner recognized that the fees might be viewed as being
incurred in connection with the acquisition of capital assets.
- 37 -
There is nothing to indicate that there were any additional facts
bearing on this case that could have been introduced. This case
was submitted on the stipulated facts, and there is nothing to
indicate that petitioner was not aware of its burden of proving
entitlement to the claimed deductions, including the need to
establish that the fees were not incurred in connection with the
acquisition of assets.
This is not a case where respondent issued a narrowly drawn
notice of deficiency and subsequently advanced new grounds not
directly or implicitly within the ambit of the determination.
See Pagel, Inc. v. Commissioner, 91 T.C. 200, 212 (1988), affd.
905 F.2d 1190 (8th Cir. 1990); Sorin v. Commissioner, 29 T.C.
959, 969 (1958), affd. per curiam 271 F.2d 741 (2d Cir. 1959);
Weaver v. Commissioner, 25 T.C. 1067, 1085 (1956). While the
language contained in the notice of deficiency does not
specifically state that the fees were costs incurred in
connection with the acquisition of a capital asset, that is a
reason for capitalization that is within the scope of the
determination. The failure to enumerate every theory that could
support a determination should not prevent us from deciding this
case on what we consider to be the correct application of the law
to the facts presented. See Rendina v. Commissioner, T.C. Memo.
1996-392; Barnette v. Commissioner, T.C. Memo. 1992-595, affd.
without published opinion sub nom. Allied Management Corp. v.
- 38 -
Commissioner, 41 F.3d 667 (11th Cir. 1994). Indeed, this Court
has recognized on several occasions that we have the inherent
authority to decide a case on grounds not raised in the notice of
deficiency and will do so if petitioner is not surprised or
prejudiced by the ground. See Seligman v. Commissioner, 84 T.C.
191, 198 (1985), affd. 796 F.2d 116 (5th Cir. 1986); Estate of
Horvath v. Commissioner, 59 T.C. 551, 555 (1973); Barr v.
Commissioner, T.C. Memo. 1989-69 n.24; Gmelin v. Commissioner,
T.C. Memo. 1988-338 n.18, affd. without published opinion 891
F.2d 280 (3d Cir. 1989).1
Petitioner bears “the burden of clearly showing the right to
the claimed deduction”. INDOPCO, Inc. v. Commissioner, 503 U.S.
79, 84 (1992). In order for us to decide that petitioner is
entitled to a current business expense deduction under section
162(a), petitioner must establish that the fees: (1) Did not
create or enhance a separate or distinct asset;2 (2) did not
1
Where the record contains sufficient facts to permit us to
decide a case on an issue that would dispose of it, we shall do
so, regardless of whether the parties have pleaded the issue.
See Rendina v. Commissioner, T.C. Memo. 1996-392; Barnette v.
Commissioner, T.C. Memo. 1992-595, affd. without published
opinion sub nom. Allied Management Corp. v. Commissioner, 41 F.3d
667 (11th Cir. 1994); see also Park Place, Inc. v. Commissioner,
57 T.C. 767, 768-769 (1972).
2
See Commissioner v. Lincoln Sav. & Loan Association, 403
U.S. 345, 354 (1971).
- 39 -
create significant future benefits;3 and (3) were not incurred in
connection with the acquisition of a capital asset.4
Capitalization is generally required for expenditures that
are incurred by a taxpayer “in connection with” the acquisition
of an asset. Such expenditures include more than just the stated
purchase price of the asset. For example, wages paid in
connection with the acquisition of a capital asset or legal fees
paid to consummate an acquisition must be capitalized. See
Commissioner v. Idaho Power Co., 418 U.S. 1 (1974); American
Stores Co. & Subs. v. Commissioner, 114 T.C. 458 (2000).
In Commissioner v. Idaho Power Co., supra at 13, the Supreme
Court observed:
Of course, reasonable wages paid in the carrying on of
a trade or business qualify as a deduction from gross
income. * * * But when wages are paid in connection
with the construction or acquisition of a capital
asset, they must be capitalized and are then entitled
to be amortized over the life of the capital asset so
acquired. * * *
In American Stores Co. & Subs. v. Commissioner, supra at 469, we
explained:
A particular cost, no matter what its type, may be
deductible in one context but may be required to be
capitalized in another context. Simply because other
cases have allowed a current deduction for similar
3
See INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 87-88
(1992).
4
See Commissioner v. Idaho Power Co., 418 U.S. 1, 13 (1974);
American Stores Co. & Subs. v. Commissioner, 114 T.C. 458, 469
(2000).
- 40 -
expenses in different contexts does not require the
same result here. * * *
* * * * * * *
As previously indicated, expenditures which otherwise
might qualify as currently deductible must be
capitalized if they are incurred “in connection with”
the acquisition of a capital asset. Commissioner v.
Idaho Power Co., supra at 13. * * *
As further explained in Ellis Banking Corp. v. Commissioner, 688
F.2d 1376, 1379 (11th Cir. 1982):
The requirement that costs be capitalized extends
beyond the price payable to the seller to include any
costs incurred by the buyer in connection with the
purchase, such as appraisals of the property or the
costs of meeting any conditions of the sale. See,
e.g., Woodward v. Commissioner, 1970, 397 U.S. 572, 90
S.Ct. 1302, 25 L.Ed.2d 577; United States v. Hilton
Hotels Corp., 1970, 397 U.S. 580, 90 S.Ct. 1307, 25
L.Ed.2d 585. Further, the Code provides that the
requirement of capitalization takes precedence over the
allowance of deductions. §§ 161, 261; see generally
Commissioner v. Idaho Power Co., 1974, 418 U.S. 1, 94
S.Ct. 2757, 41 L.Ed.2d 535. Thus an expenditure that
would ordinarily be a deductible expense must
nonetheless be capitalized if it is incurred in
connection with the acquisition of a capital asset.6
The function of these rules is to achieve an accurate
measure of net income for the year by matching outlays
with the revenues attributable to them and recognizing
both during the same taxable year. When an outlay is
connected to the acquisition of an asset with an
extended life, it would understate current net income
to deduct the outlay immediately. * * *
6
We do not use the term “capital asset” in the
restricted sense of section 1221. Instead, we use the
term in the accounting sense, to refer to any asset
with a useful life extending beyond one year.
Metrobank chose to acquire Community’s assets. One way to
accomplish this was through a conversion transaction where assets
of an SAIF insured institution are transferred to a BIF insured
- 41 -
institution and, after the transfer, all deposits are insured by
the BIF. Pursuant to this method, Metrobank was required to pay
the exit and entrance fees. The other way Metrobank could have
acquired Community’s assets was to effectuate a merger with
Community. If Metrobank had chosen to acquire Community through
a merger it would have avoided the requirement to pay exit and
entrance fees, but the deposits acquired from Community would
have continued to be insured by the SAIF. Metrobank undoubtedly
had its reasons for not entering into a merger transaction. On
brief, petitioner states that among its reasons for choosing to
acquire Community’s assets in a conversion transaction in which
it had to pay the exit and entrance fees were to reduce future
deposit insurance premiums and reduce the future regulatory and
reporting requirements that would otherwise have applied.5
The fact that the expenditures by Metrobank were incurred in
connection with the acquisition of Community’s assets is
5
These objectives appear to be significant long-term
benefits that support respondent’s argument. Petitioner states
on page 13 of its brief:
Metrobank’s purposes for incurring the
expenditures were twofold. First, by electing to
convert the deposits assumed from the SAIF to the BIF,
Petitioner hoped to reduce future deposit insurance
assessments because the BIF assessment rate was much
less than the SAIF assessment rate. Second, Petitioner
was already a member of BIF and understood the FDIC
rules and regulations for insurance coverage through
this system. Maintaining insurance coverage under both
funds would significantly increase the reporting and
administrative requirements on an ongoing basis.
- 42 -
especially clear in the case of the exit fee. On page 20, the
majority asserts that the “purpose” of the exit fee was to
protect the integrity of the SAIF for the potential benefit of
SAIF participants. While this may have been the FDIC’s purpose,
it surely was not one of Metrobank’s business purposes.
Metrobank was never insured by the SAIF and derived no insurance
coverage from the SAIF in return for payment of the exit fee. To
the extent that “purpose” is relevant to the issue of
capitalization versus deduction, it is the payor’s (taxpayer’s)
purpose for making an expenditure that controls whether the
expenditure must be capitalized. See INDOPCO, Inc. v.
Commissioner, 503 U.S. at 85, 88-89. The majority, at pp. 20-21,
erroneously relies on the payee’s purpose for imposing the exit
fee in order to justify the payor’s (petitioner’s) deduction.
The majority allows the exit fee as an insurance expense
deduction. It justifies its conclusion that the exit fee did not
produce significant future benefits for Metrobank by finding that
all the insurance benefits from the SAIF had been received prior
to Metrobank’s acquisition of Community’s assets.6 The majority
thus rejects petitioner’s primary argument that the exit fee was
paid for deposit insurance coverage that Metrobank received
during the years in issue.7 As described on page 20 of the
6
Petitioner acquired Community’s assets on Nov. 2, 1990.
7
The years in issue are petitioner’s fiscal years ending
(continued...)
- 43 -
majority opinion, the exit fee paid by Metrobank was for
insurance coverage that Community’s deposit liabilities had
received before Metrobank acquired Community’s assets and assumed
its liabilities.8 Nevertheless, the majority concludes that
“Metrobank paid the exit fee to the SAIF as a nonrefundable,
final premium for insurance that it had already received.”
Majority op. p.20. (Emphasis added.) Of course, if the exit fee
was paid for insurance that Metrobank had already received, it
would follow that there was no significant future benefit.
However, the majority’s conclusion that the exit fee was a
“premium” for insurance coverage that Metrobank had already
received from the SAIF is clearly wrong.
Metrobank never received any “insurance” benefit from the
SAIF. Any SAIF insurance benefit was derived prior to
Metrobank’s acquisition of Community’s assets. Indeed, the
majority acknowledges that “Metrobank was not affiliated with the
SAIF either before or after the transaction” whereby it acquired
Community’s assets and liabilities. Majority op. p. 21.
Metrobank would have no reason to pay for “insurance” coverage on
deposits for a period prior to its acquisition of those deposits.
7
(...continued)
Oct. 31, 1993, 1994, and 1995.
8
It is ironic that the majority relies on this theory that
petitioner never argued. Petitioner argued that the exit fee
paid to the SAIF was for insurance coverage that it received
during the years in issue. The majority correctly recognizes
that Metrobank was not insured by the SAIF during those years.
- 44 -
It is obvious that Metrobank paid the exit fee because it was
required in order for Metrobank to acquire Community’s assets.
The exit fee was paid for, and in connection with, the
acquisition of Community’s assets.
Petitioner has failed to prove its entitlement to the
deductions in issue. The uncontroverted facts show that the fees
were costs incurred in connection with the acquisition of a
capital asset. Accordingly, the fees should be capitalized.
WHALEN, HALPERN, BEGHE, GALE, and MARVEL, JJ., agree with
this dissenting opinion.
- 45 -
HALPERN, J., dissenting:
I. Introduction
We are faced here with a question of fact, whether
petitioner’s payments of the exit and entrance fees constitute
capital expenditures. Petitioner bears the burden of proving
that they do not. See Rule 142(a). I do not believe that
petitioner has carried that burden. Therefore, I would sustain
respondent’s deficiency determinations to the extent allocable to
respondent’s disallowance of deductions for those payments.
II. Background
A. Facts
This case was submitted for decision without trial, the
parties having stipulated or otherwise agreed to facts that each
believed sufficient to make his (its) case. See Rule 122(a).
The fact that this case was submitted upon a stipulated record
does not alter petitioner’s burden of proof. See Rule 122(b).
Following is a summary of the significant facts relied on by
petitioner.
Metrobank purchased certain assets of a failed savings
association from the Resolution Trust Company (the purchase, the
assets, Community, and the RTC, respectively). It did so
pursuant to a purchase and assumption agreement (the agreement),
which states that, as consideration for the assets (and certain
rights and options it acquired), Metrobank would pay to the RTC a
premium of $400,000 and assume certain deposit and other
- 46 -
liabilities of Community’s and undertake certain other
obligations and duties. At the time of the purchase, Metrobank
was an “insured depository institution”, within the meaning of
section 204(c) of the Financial Institutions Reform, Recovery,
and Enforcement Act of 1989, Pub. L. 101-73, 103 Stat. 191 (1989)
(hereafter, without citation, FIRREA), 12 U.S.C. sec. 1813 (c)(2)
(1988), and the purchase constituted a “conversion transaction”
(conversion transaction) within the meaning of 12 U.S.C. sec.
1815(d)(2)(B) (Supp. I, 1989). As a consequence, Metrobank
required the approval of the Federal Deposit Insurance
Corporation (the FDIC), which it obtained, to participate in the
purchase. 12 U.S.C. sec. 1815(d)(2)(A) (Supp. I, 1989). Because
the purchase constituted a conversion transaction, Metrobank was
obligated to pay the exit and entrance fees imposed by 12 U.S.C.
section 1815(d)(2)(E) (Supp. I, 1989) (the exit fee and the
entrance fee, respectively, or, collectively, the fees), which
were assessed against it by the FDIC and became its liability.
See 12 U.S.C. sec. 1815(d)(2)(F) (Supp. I, 1989); 12 C.F.R. sec.
312.10(a) (1991). Metrobank paid the fees over 5 years, as
permitted by 12 C.F.R. section 312.10(e) (1991), and deducted
each payment (the payments) on its Federal income tax return for
the year in which payment was made.
B. Issue Raised by the Pleadings
On account of Metrobank’s deductions of the payments (for
1993 through 1995), respondent determined deficiencies in tax.
- 47 -
In his notice of deficiency (the notice), respondent explained
the adjustments giving rise to the deficiencies related to the
payments as follows:
It has been determined that your deductions for the
entrance and exit fee paid to the Federal Deposit
Insurance Corporation for the transfer of your insured
deposits from one depository insurance [fund] to
another depository insurance fund is a non-deductible
capital expenditure that is not subject to depreciation
or amortization. Accordingly, your taxable income is
being increased as follows: [$71,518 for each year].
In the petition, petitioner assigned the following errors to
respondent’s adjustments:
The Commissioner erred in disallowing petitioner’s
payment of $71,518 to the Federal Deposit Insurance
Corporation as an ordinary and necessary business
expense. The expenditure is allowable as an ordinary
and necessary business expense pursuant to Section
162(a) and Treas. Reg. § 1.162-1(a).
By the answer, respondent denied petitioner’s assignments of
error. Respondent did not, however, disagree with petitioner’s
averments, which, in substance, reflect the facts stipulated.
Petitioner filed no reply.
III. Discussion
A. Introduction
The details of the purchase are not in controversy. The
pleadings establish that the only issue for decision is whether
the payments entitle Metrobank to a deduction pursuant to section
162(a) and section 1.162-1(a), Income Tax Regs. Section 162(a)
allows “as a deduction all the ordinary and necessary expenses
- 48 -
paid or incurred during the taxable year in carrying on any trade
or business”. As pertinent to this case, section 1.162-1(a),
Income Tax Regs., states that, among items included in business
expenses, are “insurance premiums against fire, storm, theft,
accident, or other similar losses in the case of a business”.
Petitioner’s burden is to prove that the payments are not capital
expenditures as alleged by respondent in the notice.1 I believe
that petitioner has failed to carry that burden. Specifically,
petitioner has not shown that, as to it, the exit fee is anything
other that a cost incident to the purchase, nor has it shown that
the entrance fee purchased an insurance benefit or, even if it
did, that such insurance benefit did not extend beyond the year
in which the purchase occurred.
B. The Exit Fee
1. Introduction
The exit fee is imposed by 12 U.S.C. section
1815(d)(2)(E)(i) (Supp. I, 1989), in an amount to be determined
jointly by the FDIC and the Secretary of the Treasury
(Secretary). See 12 U.S.C. sec. 1815(d)(2)(F) (Supp. I, 1989).
The origin of the exit fee requirement is section 206(a)(7) of
FIRREA. With respect to transactions such as the purchase,
1
On the basis of the notice and the pleadings, it is
apparently respondent’s position that, if the payments are not
capital expenditures, they may be deducted as ordinary and
necessary business expenses under sec. 162(a).
- 49 -
regulations establish the amount of the exit fee as “the product
derived by multiplying the dollar amount of the retained deposit
base transferred from the Savings Association Insurance Fund
member to the Bank Insurance Fund member by 0.90 percent
(0.0090)”. 12 C.F.R. sec. 312.5(c)(2) (1991). In pertinent
part, the term “retained deposit base” means:
the total deposits transferred from a Savings
Association Insurance Fund Member to a Bank Insurance
Fund Member * * * less the following deposits:
(1) Any deposit acquired, directly or indirectly,
by or through any deposit broker; and
(2) Any portion of any deposit account exceeding
$80,000.
12 C.F.R. sec. 312.1(j) (1991).
2. Failure of Petitioner To Establish Purpose of the
Exit Fee
There is no clear explanation in FIRREA of the purpose of
the exit fee. Moreover, the majority recognizes: “The pertinent
legislative history does not contain an explicit explanation of
Congress’ intent as to the imposition of the exit fee.” Majority
op. p. 16. Nevertheless, the majority speculates variously that
the purpose of the exit fee is “to discourage SAIF-insured
institutions from insuring their deposits with the BIF”, Majority
op. p. 15, “to protect the integrity of the SAIF, id. p. 20, and
“to compensate the former insurer (in this case, the SAIF) for
its future loss of income as to the assumed deposit liabilities”,
id. p. 21. The majority also speculates that the purpose of the
- 50 -
exit fee is to compensate the Savings Association Insurance Fund
from the cherry-picking of its desirable members: “But for the
conversion transaction, the former insurer would have received
income in the form of the semiannual insurance premiums payable
on the deposit liabilities which were the subject of the
assumption, and a failing SAIF participant could have had an
opportunity to reach that income were the FDIC to have allowed
it.” Id.
The majority has failed to reconcile its various
speculations with the condition imposed by 12 U.S.C. section
1815(d)(2)(C) (Supp. I, 1989), pertinent to the approval by the
FDIC of a conversion transaction during the 5-year moratorium
imposed by 12 U.S.C. sec. 1815(d)(2)(A)(ii)(Supp. I, 1989), that
the FDIC may approve such a conversion transaction any time if:
(ii) the conversion occurs in connection with the
acquisition of a Savings Association Insurance Fund
member in default or in danger of default, and the
Corporation determines that the estimated financial
benefits to the Savings Association Insurance Fund or
the Resolution Trust Corporation equal or exceed the
Corporation’s estimate of loss of assessment income to
such insurance fund over the remaining balance of the
5-year period referred to in subparagraph (A) * * *
Apparently, Congress intended the FDIC to approve conversion
transactions involving a failed or failing Savings Association
Insurance Fund (SAIF) member during the moratorium only if the
loss of that member would improve the SAIF (e.g., if the present
- 51 -
value of any expected bailout of such member exceeded the present
value of any expected premiums).2
Because petitioner failed to establish Congress’ purpose in
enacting the exit fee requirement, the majority’s conclusions as
to that purpose are not supported by the record. Perhaps
petitioner could have obtained indirect evidence of Congress’
purpose for the exit fee by establishing the rationale behind the
FDIC’s and the Secretary’s decisions in implementing 12 U.S.C.
section 1815(d)(2)(F)(i) (1988) (by promulgating 12 C.F.R. sec.
312.5) (1991).3 Petitioner, however, did not do so. The record,
therefore, contains no evidence from which we could conclude that
the exit fee was collected and expended on petitioner’s behalf
for any benefit (for instance, insurance for the remainder of the
2
The majority may have in mind the exit fee previously
imposed by the Competitive Equality Banking Act of 1987 (CEBA),
Pub. L. 100-86, 101 Stat. 552. See discussion in Majority op.
p. 13. That exit fee, imposed by 12 U.S.C. sec. 1441(f)(4)
(1988), was designed to protect against the Federal Savings and
Loan Insurance Corporation’s losing insured institutions. See
H. Rept. 100-62, at 42 (1987) (“Some profitable well-capitalized
institutions are considering converting from an institution
insured by FSLIC to an institution insured by FDIC. * * * In
order to reduce the amount of assessments flowing out of FSLIC
during the recapitalization period, the Committee believes it is
necessary to require the payment of a exit fee.”)
3
See, e.g., 55 Fed. Reg. 10406, 10408 (Mar. 21, 1990),
prescribing interim rule for assessment of exit fee and setting
exit fee at 0.90 percent of the deposit base as the “approximate
present value of each SAIF member’s pro rata share of interest
expense on the obligations of the Financing Corporation (“FICO”)
projected over the next thirty years.”
- 52 -
year in which the purchase occurred) that would entitle
petitioner to a deduction under section 162(a).
3. Petitioner Has Failed To Carry Its Burden of Proof
Without any clear understanding of the purpose of the exit
fee, I fail to see how petitioner has carried its burden of
showing that the payments (as allocable to the exit fee) are not
a capital expenditure. Petitioner argues: “The exit fee
assessment is merely a one-time payment required by the FDIC to
protect the SAIF when deposits are transferred out of the fund.”
Even if that claim were true, so what? How does it establish
that the exit-fee-allocable payments were anything other than a
cost incident to the purchase?
The purchase was an asset purchase, with Metrobank acquiring
assets relating to the main office and one branch of Community.
The assets were cash, cash items, securities, loans, various
business assets, certain records and documents, and any assets
securing liabilities assumed by Metrobank. The liabilities
assumed by Metrobank pursuant to the agreement (the liabilities)
consisted of indebtedness for deposits, secured indebtedness, and
any indebtedness for unpaid employment taxes and ad valorem
taxes.
With exceptions not here relevant, section 1012 provides the
following rule: “The basis of property shall be the cost of such
- 53 -
property”. Section 1.1012-1(a), Income Tax Regs., provides:
“The cost is the amount paid for such property in cash or other
property.” As used in section 1012, the term “cost” (cost) has
been interpreted to include any indebtedness to the seller for
the purchase price of the property and any indebtedness to a
third party secured by the property. See, e.g., Parker v.
Delaney, 186 F.2d 455 (1st Cir. 1950) (purchase money
indebtedness included in cost basis); Blackstone Theatre Co. v.
Commissioner, 12 T.C. 801, 804 (1949) (cost basis of property
acquired subject to liens for taxes and penalties includes amount
of such liens); sec. 1.1012-1(g)(1), Income Tax Regs. (cost of
property includes amount attributable to debt instrument issued
in exchange for property). Cost also includes expenses of, or
incident to, the acquisition of property. See, e.g, Warner
Mountains Lumber Co. v. Commissioner, 9 T.C. 1171, 1174 (1947)
(fee paid to attorney for examining title of property to be
purchased is part of cost of property); sec. 1.263(a)-2(d),
Income Tax Regs. (fees for architect’s services); sec. 1.263(a)-
2(e), Income Tax Regs. (“Commissions paid in purchasing
securities”), approved in principle by Helvering v. Winmill, 305
U.S. 79 (1938).
It is clear that the cost of the assets includes not only
the $400,000 premium paid by Metrobank to the RTC but also the
liabilities. The conclusion suggested by the facts before us is
- 54 -
that the exit fee, which was imposed by statute and not by
contract, was also part of that cost. If the only measurable
benefit to Metrobank resulting from payment of the exit fee is
that such payment enabled Metrobank to proceed with the purchase,
then I fail to see how the exit fee is anything other than a cost
incident to the purchase of the assets. There is nothing in the
record (or in FIRREA) to support the majority’s finding that:
“Metrobank paid the exit fee to the SAIF as a non-refundable,
final premium for insurance that it had already received.”
Majority op. p. 20 (emphasis added).4 Even if that were taken as
a statement with respect to Community, it would not justify a
current deduction for Metrobank any more than would Metrobank’s
payment of its indebtedness for Community’s unpaid employment
taxes and ad valorem taxes, which it assumed pursuant to the
agreement.
4. Conclusion
Petitioner bears the burden of proof, and the pleadings
clearly establish what it is that petitioner must prove, viz,
that the exit-fee-allocable payments were not a capital
expenditure. Clearly, respondent has failed to convince the
majority that petitioner enjoyed the long-term benefits claimed
for it by respondent. That, however, in no way satisfies
petitioner’s burden. Petitioner has failed to prove that the
4
To the contrary, see supra note 3.
- 55 -
exit fee constituted anything other than a cost incident to the
purchase and, therefore, a capital expenditure. Petitioner has
failed to prove its entitlement to a deduction on account of
payment of the exit fee pursuant to section 162(a).
C. The Entrance Fee
1. Introduction
The entrance fee is imposed by 12 U.S.C. section
1815(d)(2)(E)(iii) (Supp. I, 1988) in an amount to be determined
by the FDIC. The FDIC is guided in making that determination as
follows:
in the case of a conversion transaction in which the
resulting or acquiring depository institution is a Bank
Insurance Fund member, the fee shall be the approximate
amount which the Corporation calculates as necessary to
prevent dilution of the Bank Insurance Fund, and shall
be paid to the Bank Insurance Fund;
12 U.S.C. sec. 1815(d)(2)(E)(iii)(I) (Supp. I, 1989). With
respect to transactions such as the purchase, regulations
establish the amount of the entrance fee as “the product derived
by multiplying the dollar amount of the entrance fee deposit base
transferred from the Savings Association Insurance Fund member to
the Bank Insurance Fund member by the Bank Insurance Fund ratio.”
12 C.F.R. sec. 312.4(c)(2) (1991). The term “entrance fee
deposit base” is defined in 12 C.F.R. section 312.1(g) (1991) as
follows:
The term "entrance fee deposit base" generally
refers to those deposits which the Federal Deposit
Insurance Corporation, in its discretion, estimates to
- 56 -
have a high probability of remaining with the acquiring
or resulting depository institution for a reasonable
period of time following the acquisition, in excess of
those deposits that would have remained in the
insurance fund of the depository institution in default
or in danger of default had such institution been
resolved by means of an insured deposit transfer. The
estimated dollar amount of the entrance fee deposit
base shall be determined on a case-by-case basis by the
Federal Deposit Insurance Corporation at the time
offers to acquire an insured depository institution (or
any part thereof) are solicited by the Federal Deposit
Insurance Corporation or the Resolution Trust
Corporation.
The term “Bank Insurance Fund reserve ratio” is defined in
12 C.F.R. section 312.1(c) (1991) as follows:
The term "Bank Insurance Fund reserve ratio" shall
mean the ratio of the net worth of the Bank Insurance
Fund to the value of the aggregate total domestic
deposits held in all Bank Insurance Fund members. * *
*
Like the exit fee, the origin of the entrance fee
requirement is in section 206(a)(7) of FIRREA. H. Rept. 101-
54(I) (1989), is the report of the Committee on Banking, Finance
and Urban Affairs that accompanied H.R. 1278, 101st Cong., 1st
Sess. (1989), which, as enacted, became FIRREA. That report
states that the entrance fee “must be enough to prevent the
dilution of the reserves of the Fund to be joined by the
institution.” H. Rept. 101-54(I) at 325.
2. Petitioner’s Claim, and Majority’s Understanding,
as to Purpose of Entrance Fee
On brief, petitioner argues: “Petitioner paid the entrance
fee simply to insure the deposits transferred into the BIF until
- 57 -
the next FDIC premium assessment.” The majority concurs: “[W]e
understand the entrance fee to be paid for the current year’s
insurance.” Majority op. pp. 21-22.
Neither petitioner nor the majority has convinced me that
the entrance fee was a deductible insurance premium. Therefore,
I do not believe that petitioner has carried its burden of
showing that payment of the entrance fee meets the prerequisites
for a deduction under section 162(a).
3. Discussion
Certain business-related insurance expenses unquestionably
are deductible under section 162(a). See, e.g., sec. 1.162-1(a),
Income Tax Regs., discussed supra in sec. III.A. Not all
business-related, annual insurance premiums, however, are
deductible under section 162(a). See, e.g., Commissioner v.
Lincoln Sav. & Loan Association, 403 U.S. 345 (1971) (disallowing
deduction for “additional premiums” (prepayments of future
premiums) paid by taxpayer to Federal Savings and Loan
Association); Commissioner v. Boylston Mkt. Association, 131 F.2d
966 (1st Cir. 1942) (disallowing deduction for prepaid insurance
premiums), affg. a Memorandum Opinion of this Court dated
November 6, 1941. In Black Hills Corp. v. Commissioner, 101 T.C.
173 (1993), Supplemental Opinion at 102 T.C. 505 (1994), affd. 73
F.3d 799 (8th Cir. 1996), we disallowed deductions for those
portions of annual premiums paid for black lung insurance that
- 58 -
the taxpayer had not shown to be commensurate with the actual
risks of loss for the years of payment. We relied on INDOPCO,
Inc. v. Commissioner, 503 U.S. 79 (1992), to conclude that the
premium payments, the deduction of which we disallowed, created
significant future benefits for the taxpayer. See Black Hills
Corp. v. Commissioner, 102 T.C. at 514.
It is a question of fact whether any premium payment creates
future benefits that rule out a current deduction. The fact that
Congress intended an entrance fee adequate to insure nondilution
of the Bank Insurance Fund (sometimes, the Fund) is not, by
itself, a sufficient fact to prove that its payment did not
create a significant future benefit to Metrobank. The Fund was
established by section 211 of FIRREA (adding, among other
provisions, 12 U.S.C. sec. 1821(a)(5) (Supp. I, 1989)). The Fund
was established by Congress for use by the FDIC to carry out its
insurance purposes. See 12 U.S.C. sec. 1821(a)(4)(C) (Supp. I,
1989). Initial funding of the Fund came from the Permanent
Insurance Fund. See 12 U.S.C. sec. 1821(a)(5)(B) (Supp. I,
1989). Additional funding was to come from annual assessments
(the annual assessments) against insured depository institutions.
See 12 U.S.C. sec. 1817(b)(1)(A) (Supp. I, 1989). Congress
established a designated reserve ratio for the Fund of 1.25
percent of estimated insured deposits, or, if justified by
circumstances that raise a significant risk of substantial future
- 59 -
losses, a higher percentage, up to 1.50 percent. 12 U.S.C. sec.
1817(b)(1)(B)(i) (Supp. I, 1989). Assessment rates were fixed
for an initial period that might extend to 1995 (0.12 percent of
insured deposits for the year in question). 12 U.S.C. sec.
1817(b)(1)(C) (Supp. I, 1989). However, with restrictions, the
FDIC could increase rates if necessary to restore the Fund’s
ratio of reserves to insured deposits to its target level. 12
U.S.C. sec. 1817(b)(1)(C)(iv) (Supp. I, 1989). Any assets of the
Fund in excess of 1.25 percent of insured deposits are treated as
a supplemental reserve, which assets, if the supplemental reserve
is no longer needed, are to be distributed to Fund members (but
earnings on those assets are to be distributed annually). See 12
U.S.C. sec. 1817(b)(1)(B)(iii) (Supp. I, 1989). Finally,
assessment income in excess of amounts necessary to maintain the
designated reserve ratio is to be credited against the Fund
member’s assessment for the following year. See 12 U.S.C. sec.
1817(d) (Supp. I, 1989). Clearly, the annual assessment system
for the Fund designed by Congress contemplates continued
participation by insured depository institutions. There are
multiperiod aspects to the system that raise questions as to the
extent of the deductibility of even the annual assessments.
The assessment system established by Congress is detailed
and complex. The majority has made little reference to it. The
entrance fee required of Metrobank was assessed at a rate
- 60 -
different from the annual assessment rate and on a base that did
not necessarily take into account all of the deposit liabilities
assumed by Metrobank pursuant to the purchase. The purpose of
the entrance fee was, as stated, to prevent dilution of the Fund.
Whether the rationale for the actual entrance fee imposed by
12 C.F.R. section 312.4 (1991) is limited to that stated purpose
is not clear. Possibly, the fee imposed by 12 C.F.R. section
312.4 (1991) was designed to make up for what, in hindsight, was
an inadequate annual assessment because, when that assessment was
fixed, the conversion transaction was not taken into account. On
the other hand, perhaps it was a reserve contribution that would
serve only to reduce next year’s annual assessment. Given the
complex nature of the annual assessment system, without testimony
from officials of the FDIC or other information, we do not know
what the assessment of the entrance fee was designed to
accomplish.
4. Conclusion
Petitioner was required to prove a fact: that the payment
of the entrance fee created no significant future benefits that
rule out a current deduction. See INDOPCO, Inc. v. Commissioner,
503 U.S. 79 (1992). Petitioner has failed to do so. Petitioner
has failed to prove its entitlement to a deduction on account of
payment of the entrance fee pursuant to section 162(a).
- 61 -
IV. Conclusion
Petitioner’s task was established by the notice and the
pleadings, to prove that the payments were not capital
expenditures. Respondent has not shifted the grounds on which he
determined the related deficiencies. Respondent has failed to
persuade the majority of his view of the facts. That, as stated,
does not relieve petitioner of its burden to prove facts in
support of its assigned error, that respondent erred in
disallowing petitioner’s deductions for the payments because they
were capital in nature. Petitioner has failed to carry its
burden of proof. Therefore, we should sustain the deficiencies
related to the payments.
RUWE, WHALEN, BEGHE, GALE, and MARVEL, JJ., agree with this
dissenting opinion.
- 62 -
BEGHE, J., dissenting: The stipulated facts establish that
Metrobank paid the exit and entrance fees to acquire selected
assets and deposits of Community. At least some of the acquired
assets were capital, because Metrobank could expect to receive
significant long-term benefits from them. See Citizens &
Southern Corp. v. Commissioner, 91 T.C. 463 (1988) (bank’s
acquisition of “core deposits” from another institution gave rise
to amortizable intangible asset), affd. without published opinion
900 F.2d 266 (11th Cir. 1990). Because the exit and entrance
fees were paid to acquire capital assets, they must be
capitalized. See INDOPCO, Inc. v. Commissioner, 503 U.S. 79(1992); Commissioner v. Idaho Power Co., 418 U.S. 1, 13 (1974)
(costs paid “in connection with” construction or acquisition of
capital assets must be capitalized); Woodward v. Commissioner,
397 U.S. 572 (1970) (expenses incurred in connection with
litigation originating in the acquisition or disposition of
capital assets must be capitalized, regardless of payor’s
subjective motive); A.E. Staley Manufacturing Co. & Subs. v.
Commissioner, 119 F.3d 482, 488 (7th Cir. 1997) (describing
Supreme Court’s INDOPCO decision as “merely reaffirming settled
law that costs incurred to facilitate a capital transaction are
capital costs”), revg. 105 T.C. 166 (1995); sec. 1.263(a)-2(a),
Income Tax Regs. (cost of acquisition of property having useful
life substantially beyond the taxable year is a capital
expenditure).
- 63 -
The majority advance three arguments for avoiding this
seemingly inescapable conclusion. First, the majority claim that
respondent “did not determine, and has declined to argue” that
the fees should be capitalized on the ground that they were
incurred in connection with the acquisition of capital assets.
Majority op. p. 11. Second, the majority assert that the fees
were paid to an insurer (the FDIC) in order to protect the
“integrity” of the insurer’s reserves. Majority op. pp. 19-22.
Third, the majority claim that the fees were deductible “cost
saving expenditures”. Majority op. pp. 22-23. None of these
arguments holds water.
Costs Incurred in Connection With Asset Acquisitions Are
Capital
Even normally deductible costs must be capitalized if they
are sufficiently related to the acquisition of a capital asset
(or to some other capital transaction). As the Supreme Court
stated in Commissioner v. Idaho Power Co., supra at 13:
Of course, reasonable wages paid in the carrying on of
a trade or business qualify as a deduction from gross
income. * * * But when wages are paid in connection
with the construction or acquisition of a capital
asset, they must be capitalized and are then entitled
to be amortized over the life of the capital asset so
acquired.
This Court has recently cited Idaho Power Co. to support the
holding that legal fees, like other expenditures that ordinarily
might qualify as currently deductible, must be capitalized if
- 64 -
they are incurred “in connection with” the acquisition of a
capital asset. See American Stores Co. & Subs. v. Commissioner,
114 T.C. 458, 469 (2000). But see Wells Fargo & Co. & Subs. v.
Commissioner, 224 F.3d 874, 885-888 (8th Cir. 2000)
(distinguishing expenditures directly related to capital
transactions from expenditures indirectly related to such
transactions), affg. in part and revg. in part Norwest Corp. &
Subs. v. Commissioner, 112 T.C. 89 (1999).
Respondent Sufficiently Raised Asset Acquisition Issue
According to the majority, respondent failed to argue that
the exit and entrance fees were connected with Metrobank’s asset
acquisition; we should therefore defer consideration of this
“theory” to another day. Majority op. p. 11. I disagree.
Although respondent didn’t specifically argue that the fees
were paid to acquire Community’s assets and deposits, respondent
did argue that the fees created significant long-term benefits
for Metrobank. The presence of significant long-term benefits is
relevant to the case at hand because it serves to distinguish
payments that result in the acquisition of capital assets from
those that don’t. See sec. 263 (cost of “permanent improvements
or betterments” must be capitalized); INDOPCO, Inc. v.
Commissioner, supra at 87-88 (long-term benefit is an undeniably
important and prominent, if not predominant, characteristic of a
capital asset within the meaning of section 263, in part citing
- 65 -
Central Tex. Sav. & Loan Association v. United States, 731 F.2d
1181, 1183 (5th Cir. 1984)); Wells Fargo & Co. & Subs. v.
Commissioner, supra at 883-884 (a separate and distinct capital
asset always provides long-term benefits). Therefore,
respondent’s broader assertion of long-term benefits necessarily
included the narrower assertion that the fees were part of
Metrobank’s cost of acquiring capital assets.1
More importantly, the stipulated record establishes that the
fees were paid in connection with Metrobank’s asset acquisition.
We should therefore consider the factual, causal, and legal
consequences of that relationship, even if respondent didn’t
expressly raise it as an issue, and even though the case at hand
was submitted fully stipulated under Rule 122. In Ware v.
Commissioner, 92 T.C. 1267 (1989), the taxpayer asserted that we
should reconsider a case submitted under Rule 122 because the
Commissioner allegedly had relied on a theory raised for the
first time on brief. We denied the taxpayer’s motion, and noted
that under appropriate circumstances we can rest our decision for
the Commissioner on reasons neither set forth in the notice of
deficiency nor relied upon by the Commissioner. See Ware v.
Commissioner, supra at 1269, and cases cited therein; Bair v.
1
See majority op. p. 18, which states that “Expenses must
generally be capitalized when they either: (1) Create or enhance
a separate and distinct asset or (2) otherwise generate
significant [long-term] benefits”. (Emphasis added.)
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Commissioner, 16 T.C. 90, 98 (1951) (Tax Court reviews a
deficiency, not the Commissioner’s reasons for determining it),
affd. 199 F.2d 589 (2d Cir. 1952); Standard Oil Co. v.
Commissioner, 43 B.T.A. 973, 998 (1941) (reasons and theories
stated in statutory notice, even if erroneous, do not restrict
the Commissioner in presenting case before the Court), affd. 129
F.2d 363 (7th Cir. 1942); cf. sec. 7522.
Our Consideration of Asset Acquisition Issue Would Not
Prejudice Petitioner
Although respondent’s actions don’t limit our ability to
consider the relationship between fees paid and assets acquired,
the majority suggest we should close our eyes to that
relationship “in order to avoid prejudicing petitioner”.
Majority op. p. 11. According to the majority, if respondent had
stressed that relationship, “petitioner may well have wanted to
offer evidence relating to it.” Id.I agree that the appropriate question is whether
respondent’s conduct has limited or precluded petitioner’s
opportunity to present pertinent evidence. See Ware v.
Commissioner, supra at 1268-1269; Pagel, Inc. v. Commissioner, 91
T.C. 200, 211-213 (1988), affd. 905 F.2d 1190 (8th Cir. 1990).
However, I disagree that there could be any prejudice in the case
at hand. The stipulated facts clearly establish that Metrobank
paid the fees in order to acquire the assets and deposits it
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wanted to acquire. Indeed, payment of the fees was legally
required, if Metrobank was to consummate the acquisition in the
form it desired; Metrobank accordingly agreed in its bid to pay
the fees to the FDIC. See majority op. p. 5. The record thus
establishes that the fees were part of Metrobank’s cost of
acquisition; I can’t imagine any evidence petitioner could have
presented to support a contrary conclusion.2 See Ware v.
Commissioner, supra, and Pagel, Inc. v. Commissioner, supra.
The majority assert that considering the relationship
between fees paid and assets acquired requires us to “second
guess” petitioner’s business judgment. See majority op. pp. 22-
23. To the contrary, I accept that judgment; the payment of the
fees was a necessary element of the transaction that petitioner,
in its best business judgment, actually decided to achieve.3
2
By contrast, in the cases relied upon by the majority, it
was clearly possible that the taxpayers could have offered
relevant evidence to support their position, or the Court
believed that the record did not permit it to decide the issue.
See Concord Consumers Housing Coop. v. Commissioner, 89 T.C. 105,
106-107 n.3 (1987) (Court did not consider whether taxpayer was
sec. 216 cooperative housing corporation because neither party
addressed the issue and Court could not tell from the record);
Leahy v. Commissioner, 87 T.C. 56, 64-65 (1986) (Commissioner
originally contended that partnership was not entitled to
investment tax credit on ground that partnership was not owner of
the property; later ground was alleged failure to attach
statement to return, as required by regulations).
3
It appears that the only way Metrobank could have acquired
assets and deposits from Community, without paying exit and
entrance fees, would have been to acquire control of Community
(continued...)
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I also disagree with the majority’s suggestion that our
reliance on Metrobank’s asset acquisition would unfairly surprise
petitioner. Petitioner was aware that respondent would rely on
two cases referred to by the majority (see majority op. p. 24
note 10): Darlington-Hartsville Coca-Cola Bottling Co. v. United
States, 273 F. Supp. 229 (D.S.C. 1967), affd. 393 F.2d 494 (4th
Cir. 1968), and Rodeway Inns of Am. v. Commissioner, 63 T.C. 414(1974).4 The majority try to distinguish these cases on the
ground that the taxpayer in each “purchased a capital asset
incident to the payment of the expenses in dispute”. Majority
op. p. 24 note 10. Assuming the majority are correct,
respondent’s reliance on these cases put petitioner on notice of
the importance of the connection between the payment of the fees
and Metrobank’s asset acquisition.
3
(...continued)
and then merge or consolidate with it. See majority op. p. 16;
Financial Institutions Reform, Recovery, and Enforcement Act of
1989, Pub. L. 101-73, sec. 206(a)(7), 103 Stat. 183, 195,
currently codified at 12 U.S.C. sec. 1815(d)(3)(A) (Supp. V,
1999)). Of course, this is not what Metrobank did. Moreover,
such a transaction might have required Metrobank to acquire all
assets (and assume all liabilities, including unknown and
contingent liabilities) of Community, rather than a portion of
them.
4
See Brief for Petitioner at 22 (briefs were simultaneous),
which states: “The Respondent has cited Darlington-Hartsville
Coca-Cola Bottling Co. v. United States, 393 F.2d 494 (4th Cir.
1968) and Roadway Inns of America v. Commissioner, 63 T.C. 414(1974) as support for Respondent’s argument that the exit and
entrance fees were paid as part of a plan to produce a positive
business benefit for future years.”
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There’s other evidence of petitioner’s awareness of the
importance of that connection. In its brief, petitioner argued
in the alternative that, if the fees were capitalized, they
should be amortized over the life of the “core deposits” acquired
from Community. See Brief for Petitioner at 24-25.5 Finally,
respondent’s long-term benefit argument sufficiently raised the
issue whether the fees were part of the cost of acquiring capital
assets, as I explained supra pp. 64-65.
Treating the Fees as Insurance Premiums Is Also Insufficient
Even if I accepted the majority’s invitation to defer
consideration of the asset acquisition “theory” to another day, I
would still conclude that the fees must be capitalized. The
majority assert that deduction is proper because any long-term
benefit to Metrobank “is insignificant when weighed against the
primary purpose for the payment of the fees.” Majority op. p.
20. According to the majority, that primary purpose was to
5
There is no occasion in the case at hand to consider
petitioner’s alternative argument that, if the fees are
capitalizable, petitioner is entitled to amortize them over a 10-
year period; there is no evidence of useful life in the
stipulated record. It does seem to me that amortization should
probably be allowed over such useful life of the core deposits
acquired as could be shown. See Citizens & Southern Corp. v.
Commissioner, 91 T.C. 463 (1988), affd. without published opinion
900 F.2d 266 (11th Cir. 1990); see also First Chicago Corp. v.
Commissioner, T.C. Memo. 1994-300; Trustmark Corp. v.
Commissioner, T.C. Memo. 1994-184, and compare Field Serv. Adv.
Mem. 2000-08-005 (Feb. 25, 2000), where, in a transaction similar
to the case at hand, the taxpayer amortized the entrance and exit
fees over a 10-year period for financial statement purposes.
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“protect the integrity” of the SAIF and the BIF. Id. The
majority additionally assert that “Metrobank paid the exit fee to
the SAIF as a nonrefundable, final premium for insurance that it
had already received”, while the entrance fee was a nonrefundable
premium “for the current year’s insurance.” Majority op. pp. 20-
21. Once again, I disagree.
The majority’s conclusion that Metrobank paid the exit fee
for insurance it had already received is clearly wrong. As the
majority opinion clearly states, the exit fee was paid to the
SAIF. See id. The deposits of Community acquired by Metrobank
were insured by the SAIF only when they were Community’s
deposits; those deposits became insured by the BIF upon their
acquisition by Metrobank.
Therefore, if the exit fees accurately can be described as
premiums for SAIF insurance, they were for insurance coverage the
deposits received before Metrobank acquired them. The only
business purpose Metrobank could have had for paying this “SAIF
insurance expense” was its desire to acquire Community’s assets
and deposits.
The majority’s reliance on the role the fees played in
protecting the “integrity” of the SAIF is misplaced. While it
may have been the FDIC’s purpose in imposing the exit fees, it
certainly wasn’t Metrobank’s reason for paying them. Moreover,
the FDIC’s purpose is of limited relevance to the case at hand.
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See Commissioner v. Lincoln Sav. & Loan Association, 403 U.S.
345, 354 (1971) (“It is not enough, in order that an expenditure
qualify as an income tax deduction * * * that it serves to
fortify FSLIC’s [the predecessor of SAIF] insurance purpose and
operation”).
What all this means is that, even if the majority’s
characterization of the fees as insurance premiums is correct,
the fees nevertheless must be capitalized. As I’ve already
explained, ordinarily deductible expenditures must be
capitalized, when they are incurred in connection with the
acquisition of a capital asset. More generally, however,
insurance premiums that give rise to benefits extending beyond
the end of the taxable year must be capitalized, even if they are
not connected with the acquisition of a capital asset. See
Lincoln Sav. & Loan Association v. Commissioner, 51 T.C. 82, 94
(1968) (citing “long line of decisions by this Court holding that
prepaid insurance premiums are capital expenditures to be
expensed over the years in which coverage is actually obtained”),
revd. 422 F.2d 90 (9th Cir. 1970), revd. 403 U.S. 345 (1971);
sec. 1.461-4(g)(8) Example (6), Income Tax Regs. (where taxpayer
pays premium in 1993 for insurance contract covering claims made
through 1997, period for which premium is permitted to be taken
into account is determined under the capitalization rules,
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because the contract is an asset having a useful life extending
substantially beyond the close of the taxable year).
The entrance and exit fees were in addition to the
semiannual premiums Metrobank paid to the BIF to insure the
acquired deposits after the acquisition. The fees were also
several times greater than the semiannual premiums, as a
percentage of the acquired deposits. See majority op. pp. 7-9,
21.6 The exit and entrance fees therefore resemble premium
prepayments, which entitled Metrobank to insure the acquired
deposits with the BIF in future years. This would support
capitalizing the exit and entrance fees, even if they had no
connection with the acquisition of a separate asset. See Herman
v. Commissioner, 84 T.C. 120 (1985) (one-time purchase of
subordinated loan certificate, which entitled physician, upon
payment of annual premiums, to malpractice insurance coverage,
held capital investment; Commissioner conceded deductibility of
annual premiums).
6
The third of the emphasized points in Judge Swift’s
concurrence (Swift, J., concurring op. p. 31) compares the
entrance and exit fees paid by Metrocorp to acquire the deposits
of Community with the regular semiannual premiums paid by
Metrocorp on its total deposits, including both its own deposits
and the deposits of Community that it acquired. Obviously, the
ratio of the entrance and exit fees to the regular semiannual
premiums would be much higher if the regular premiums paid by
Metrocorp on its own deposits are removed from consideration.
They should be so removed if the much more meaningful comparison
of the entrance and exit fees with the regular premiums on the
acquired deposits is to be made.
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The Cost Savings Argument Is Not Persuasive
The majority’s final argument for deductibility is that cost
savings expenditures, such as payments to escape from burdensome
or onerous contracts, are generally deductible. See majority op.
pp. 23-24. This principle may have been limited by the Supreme
Court’s opinion in INDOPCO, Inc. v. Commissioner, 503 U.S. 79,
88-89 (1992) (identifying benefits of transformation from public
to private company, such as avoidance of shareholder-relations
expenses and administrative advantages of reducing the number of
classes and shares of outstanding stock). Moreover, the
majority’s cost reduction analysis is defective; the case relied
upon by the majority, T.J. Enters., Inc. v. Commissioner, 101
T.C. 581 (1993), is distinguishable. The payments in that case
were made each year to reduce costs that otherwise would have
been payable during each such year; the Court also noted that no
separate and distinct additional asset was acquired by virtue of
the payments sought to be deducted. See T.J. Enters., Inc. v.
Commissioner, supra at 589 n.8, 592-593. By contrast, the fees
in the case at hand entitled Metrobank to insure the acquired
deposits with the BIF for many years to come (and, as noted
above, the fees were connected with the acquisition itself).
Finally, we have held that a payment to terminate a
burdensome contract may be capitalized, if the payment is also
integrally related to the acquisition of a new long-term contract
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with significant future benefits. See U.S. Bancorp & Consol.
Subs. v. Commissioner, 111 T.C. 231 (1998). Even if one were to
agree with the majority that the entrance and exit fees were paid
in order to terminate burdensome insurance premium obligations,
the entrance and exit fees would still fall within the rubric of
long-term benefits.
For all the foregoing reasons, I respectfully dissent.
RUWE, WHALEN, and GALE, JJ., agree with this dissenting
opinion.