Colorado Springs Nat. Bank v. U.S., 74-1073

• Decision Date: 11 November 1974
• Docket Number: No. 74-1073,74-1073
• Parties: 74-2 USTC P 9809 The COLORADO SPRINGS NATIONAL BANK, a National Banking Association, Plaintiff-Appellee, v. UNITED STATES of America, Defendant-Appellant.
• Court: U.S. Court of Appeals — Tenth Circuit

Page 1185

505 F.2d 1185

74-2 USTC P 9809

The COLORADO SPRINGS NATIONAL BANK, a National Banking Association, Plaintiff-Appellee, v. UNITED STATES of America, Defendant-Appellant.

No. 74-1073.

United States Court of Appeals, Tenth Circuit.

Argued Sept. 10, 1974.

Decided Nov. 11, 1974.

Rendle Myer, Denver, Colo. (Richard W. Hanes, Gregory R. Piche, Spurgeon, Aman & Hanes, Colorado Springs, Colo., and Neef, Swanson & Myer, Denver, Colo., on the brief), for plaintiff-appellee.

Gary R. Allen, Atty., Tax Div., Dept. of Justice (Scott P. Crampton, Asst. Atty. Gen., Meyer Rothwacks, Jonathan S. Cohen, and Charles E. Anderson, Attys., Tax Div., Dept. of Justice, and James L. Treece, U.S. Atty., of counsel, on the brief), for defendant-appellant.

John Fletcher Rolph, III, and Henry C. Ruempler, III, Washington, D.C., filed a brief for amicus curiae The American Bankers Ass'n.

R. Michael Duncan and Robert R. Rickett, Washington, D.C., filed a brief for amicus curiae Interbank Card Ass'n.

Before BREITENSTEIN, BARRETT and DOYLE, Circuit Judges.

BREITENSTEIN, Circuit Judge.

This is an action under 26 U.S.C. 7422 for the refund of federal income taxes. The question is whether certain costs incurred by taxpayer, appellee Colorado Springs National Bank, in its participation in the Master Charge credit card system are deductible as business expenses under 26 U.S.C. 162(a). Taxpayer had judgment for $13,915.55 plus interest and the United States appeals. We affirm.

I

Taxpayer is a national bank organized and existing under the provisions of Title 12, U.S.C. It was chartered in 1907 and since then has engaged in banking in the Colorado Springs, Colorado, area. In 1969 it was the third largest bank in the area. It is a full service, commercial bank which during its life has made a great variety of loans.

In 1967 Colorado National Bank of Denver acquired the right to use the BankAmericard credit card system and to affiliate with other Colorado banks in that activity. BankAmericard permits the franchising of only one bank in a particular community. First National Bank of Colorado Springs obtained the right to use BankAmericard in the Colorado Springs area and taxpayer failed in its efforts to join BankAmericard. Taxpayer then developed a credit card system of its own known as V.I.P. (Verified Instant Payment). Essentially, V.I.P. was a check guarantee concept coupled with a revolving line of automatic credit extension to cover checking account overdrafts. V.I.P. did not provide a competitive alternative to BankAmericard because of its limited scope and check dependence.

In late 1968, the Master Charge credit card system was introduced to Colorado. Three Denver banks organized Mountain States Bankcard Association (MSBA), a non-profit corporation, to handle the Master Charge program through Interbank Card Association. Interbank is a nationwide clearinghouse for Master Charge cards. On February 11, 1969, taxpayer became a member of MSBA by the payment of a $10,000 fee. This fee was a one-time, non-refundable payment that could not be separately transferred. If the bank were sold, the Master Charge franchise or license would go with the bank.

Master Charge requires three basic contractual relationships. First is a contract between a bank and a participating merchant. This provides that the merchant will honor all cards issued to cardholders by member banks and that the bank will accept from the merchant for immediate deposit or cash, usually at a negotiated discount, the sales slips signed by cardholders when making purchases. The bank takes all of the credit risk.

Second is a contract between the bank and the cardholder by which the cardholder assumes responsibility for credit extended to the holder on the basis of the card and agrees to pay the bank the obligations evidencing such credit, with interest or finance charges if not paid within a specified time after the bank's billing. The cardholder releases the bank from all defenses and claims whih the holder may have against the merchant who honored the card.

Third is an interchange agreement among the member banks providing rules and mechanisms for clearing authorizations and for processing and charging card sales slips to the card issuing bank. This arrangement is comparable to the check-clearing mechanisms furnished by clearinghouses.

During April, 1969, banks participating in the MSBA Master Charge program began soliciting merchants to participate in the program. On June 1, 1969, those merchants were allowed to accept Master Charge transactions from tourists who utilized Master Charge cards on a local basis in other parts of the country. Eighty percent of the merchants signed up by taxpayer to participate in 1969 were existing customers of taxpayer. On July 1, 1969, taxpayer issued its own Master Charge cards to selected individuals, seventy-two percent of whom were existing customers of taxpayer.

Between February 11, 1969, when taxpayer acquired its Master Charge authorization, and July 1, when its participation in the system became operational by the issuance of its own Master Charge cards, taxpayer incurred preoperation expenses in addition to the $10,000 MSBA fee. These fell into the following general categories:

1. Computer costs, $1,329.50, incurred to keypunch and insert its customer account data into the MSBA computer.

2. Computer service and assessment fees, $12,788.50, paid to MSBA. These included a new merchant fee for the addition of each merchant to the system, a cardholder fee for the addition of each cardholder to the system, and a maintenance fee for computer operation.

3. Advertising and promotional costs, $3,826.74, paid by taxpayer to familiarize the public with the Master Charge system.

4. Credit Bureau reports, $7,079.15, secured by taxpayer to ascertain the risks present in credit extension to cardholders.

5. Travel, education, and entertainment expenses, $1,151.96, of employees reimbursed by taxpayer for attendance at MSBA meetings held to motivate the employees and familiarize them with the Master Charge system.

6. Temporary clerical service, $177.38, required by taxpayer to augment its existing staff.

These start-up expenses totalled $26,353.23. In its federal income tax return for 1969, taxpayer claimed them and the $10,000 fee paid to MSBA as deductible business expenses. Internal Revenue Service disallowed the deductions and assessed additional taxes amounting to $19,194.56. Taxpayer paid the assessment, filed claim for refund which was disallowed, and brought this suit.

At the conclusion of the trial the court made oral findings which will be discussed later. It held that the $10,000 MSBA fee was a capital expenditure and that the start-up costs were deductible business expenses. Taxpayer has not appealed from the adverse ruling on the fee. The United States has appealed from the ruling on the start-up expenses. We are not concerned with the deductibility of the fee or with any problem relating to its amortization. With relation to above Item 2 of the start-up costs, the United States concedes in its brief that a $1,962.25 portion thereof, representing a recurring quarterly charge of MSBA for maintaining files on credit cardholders, is a deductible business expense.

II

Bank credit cards play an important role in consumer transactions. Amicus Interbank says that about 6,000 banks have issued over 30 million Master Charge cards which are accepted at over one million retail outlets, and that at the end of 1970 1,200 banks reported outstandings on credit cards of 3.8 billion dollars. Amicus American Bankers Association, with a membership of over 13,000 commercial banks, says that a determination of the issue presented will affect the tax liabilities of commercial banks in the amount of 'several hundred million dollars.'

The Comptroller of the Currency who is charged by Congress with supervision and regulation of national banks has ruled that expenditures by commercial banks for the development and implementation of credit card programs must be charged to expense rather that capital. In an August 21, 1972, letter to the Assistant Secretary for Tax Policy, U.S. Treasury Department, he wrote that: 'This policy has as its basis our responsibility of assuring the solvency and liquidity of National Banks and the concurrent protection of depositors and shareholders.' He added that if IRS disallows the current deduction of such expenditures, '* * * banks will be reluctant to expend funds to develop, expand, and make technological advances in banking services. Clearly, such a result would be contrary to the objectives of our expanding national economy.'

Compulsory accounting rules of a regulatory agency do not control tax consequences. See Commissioner of Internal Revenue v. Lincoln Savings & Loan Ass'n, 403 U.S. 345, 355, 91 S.Ct. 1893, 29 L.Ed.2d 519, and Old Colony Railroad Co. v. Commissioner of Internal Revenue, 284 U.S. 552, 562, 52 S.Ct. 217, 76 L.Ed. 484. We recognized this principle in Mountain Fuel Supply Co. v. United States, 10 Cir., 449 F.2d 816, 822, cert. denied, 405 U.S. 989, 92 S.Ct. 1251, 31 L.Ed.2d 455, and said, however, that accounting methods of regulatory agencies 'demonstrate a reason why some accommodation should be made when possible.' Although the action of the Comptroller is not determinative, it is a factor for consideration.

III

The pertinent provision of 26 U.S.C. 162(a) allows as a deduction 'all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business.' The question is whether the start-up costs of taxpayer's participation in the Master Charge program are deductible under 162(a).

Section 162(a) sets up five separate requirements, all of which must be satisfied to support deduction. There must be (1) an ordinary and (2) necessary (3) expense (4) incurred during the taxable year (5) in carrying on a trade or business. See Lincoln Savings,...