Internet Corporation & Subsidiaries v. Comm'r of Internal Revenue

• Decision Date: 06 December 1999
• Docket Number: V,PETITIONER-APPELLAN,RESPONDENT-APPELLEE,No. 99-1046,99-1046
• Citation: 209 F.3d 901
• Parties: (6th Cir. 2000) INTERMET CORPORATION & SUBSIDIARIES,COMMISSIONER OF INTERNAL REVENUE, Argued:
• Court: U.S. Court of Appeals — Sixth Circuit

Page 901

209 F.3d 901 (6th Cir. 2000)

INTERMET CORPORATION & SUBSIDIARIES, PETITIONER-APPELLANT,

V.

COMMISSIONER OF INTERNAL REVENUE, RESPONDENT-APPELLEE

No. 99-1046

UNITED STATES COURT OF APPEALS FOR THE SIXTH CIRCUIT

Argued: December 6, 1999

Decided and Filed: April 20, 2000

On Appeal from the United States Tax Court. No. 8246-97--Thomas B. Wells, Tax Court Judge.

Eric R. Fox, IVINS, Phillips & Barker, Washington, D.C., for Appellant.

Richard Farber, Edward T. Perelmuter, U.S. Department OF Justice, Appellate Section Tax Division, Washington, D.C., for Appellee.

Before: Ryan and Suhrheinrich, Circuit Judges; Bell, District Judge.^*

OPINION

Ryan, Circuit Judge

This case requires us to decide whether an affiliated group of corporations filing a consolidated federal income tax return is entitled to a 10-year carryback for certain "specified liability" expenses incurred by a member corporation with positive separate taxable income. We conclude that the 10-year carryback is applicable under this scenario. Therefore, we will REVERSE the judgment of the United States Tax Court and REMAND to that court for further proceedings consistent with this opinion.

I.

The relevant facts are undisputed. Intermet Corporation is the common parent of an affiliated group of corporations that manufactures precision iron castings for automotive and industrial equipment producers. The group filed consolidated federal income tax returns for calendar years 1984 through 1992. The group's members used the accrual method of accounting for both financial accounting and federal income tax purposes during this time period.

Intermet claimed that in 1992 it incurred certain "specified liability" (SL) expenses attributable to several member corporations. At issue in this appeal are certain claimed SL expenses incurred by Lynchburg Foundry Co., a member of the group between 1984 and 1992. Lynchburg's claimed SL expenses in 1992 consisted of: (1) $717,617 (plus $299,412.63 in interest) to cover its Michigan Single Business Tax liability for 1986, 1987, and 1988; and (2) interest on its 1987 federal income tax liability in the amount of $2,175.60.

In 1992, Lynchburg had a positive "separate taxable income" (STI), as defined under the Treasury Regulations, of $3,940,085. The STI was positive because Lynchburg's gross income exceeded its deductions. Lynchburg deducted its claimed SL expenses in calculating its 1992 STI. On the other hand, Intermet had a $25,701,038 "consolidated net operating loss" (CNOL) under the Treasury Regulations in 1992, far exceeding Lynchburg's claimed SL expenses.

In 1994, Intermet filed an amended income tax return to carry back to 1984 the claimed SL expenses incurred by Lynchburg during 1992. Intermet claimed this carryback on the ground that the expenses qualified for the 10-year carryback provision for "specified liability loss" (SLL) deductions under the Internal Revenue Code. On March 14, 1997, the IRS issued a notice of deficiency for calendar year 1984, disallowing the carryback. Intermet filed a petition in the United States Tax Court contesting the deficiency determination.

The case was submitted to the Tax Court on a fully stipulated record, presenting the following issues: (1) whether the claimed SL expenses fit the statutory definition of a SLL under I.R.C. § 172(f)(1)(B) (1994) (amended in 1998); and (2) whether Intermet could take advantage of the SLL 10-year carryback where the group had a CNOL but the member that incurred the SL expenses had a positive STI. The Tax Court held in favor of the IRS on issue two, and did not reach the first issue. Intermet Corp. & Subsidiaries v. Commissioner, 111 T.C. 294 (1998).

The Tax Court reasoned that Lynchburg's SL expenses did not qualify for the SLL carryback because they were not "taken into account" in computing Intermet's net operating loss (NOL) for 1992, as required by the Internal Revenue Code. Id. at 304-05. The court first noted that Lynchburg had no separate or individual NOL in 1992 because its gross income exceeded allowable deductions. Id. at 300. The Tax Court then proceeded to determine whether Lynchburg's SL expenses were "taken into account" in computing Intermet's CNOL. Relying on the Treasury Regulations, the court concluded that they were not. Id. at 301-03.

The court correctly noted that the consolidated return regulations do not treat members' SL expenses on a consolidated basis for purposes of calculating a group's CNOL. Instead, SL expenses are netted against a member's income in computing a member's STI, which is then used to calculate the group's CNOL. Based upon these regulations, the Tax Court reasoned an SL expense is "absorbed" by a group member's current income in computing the member's positive STI, and the "exhausted" expenses cannot be used by the group or parent for purposes of the 10-year SLL carryback. Id. at 302.

Intermet timely appealed the Tax Court's judgment, maintaining that it satisfied the statutory requirements for the SLL carryback. Specifically, Intermet contends that Lynchburg's SL expenses were "taken into account" in calculating Intermet's CNOL because the expenses were used in calculating Lynchburg's STI which, in turn, was used to calculate Intermet's CNOL. It makes no difference, Intermet agrees, whether Lynchburg's STI was positive or negative because Lynchburg's SL expenses would have a direct, dollar-for-dollar impact on both Lynchburg's STI and Intermet's CNOL in either event.

II.

Since the facts are undisputed and this case presents a pure question of law, we review the Tax Court's judgment de novo. Estate of Mueller v. Commissioner, 153 F.3d 302, 304 (6th Cir. 1998) cert. denied, 525 U.S. 1140 (1999). Statutory "provisions granting a [tax] deduction . . . are matters of legislative 'grace' and are construed strictly (in favor of the government)." Weingarden v. Commissioner, 825 F.2d 1027, 1029 (6th Cir. 1987). The taxpayer bears the burden of pointing to a clear provision entitling it to a claimed deduction. Indopco, Inc. v. Commissioner, 503 U.S. 79, 84 (1992).

Where an agency regulation interprets an ambiguous statutory provision, we limit our review to whether the regulation is a reasonable, but not necessarily the best, interpretation. Atlantic Mut. Ins. Co. v. Commissioner, 523 U.S. 382, ___, 118 S. Ct. 1413, 1418 (1998). An agency's interpretation of its own ambiguous regulation also deserves substantial deference if the interpretation is reasonable insofar as it "'sensibly conforms to the purpose and wording of the regulations.'" Martin v. Occupational Safety and Health Review Comm'n, 499 U.S. 144, 151 (1991) (quoting Northern Indiana Pub. Serv. Co. v. Porter Cty. Chapter of Izaak Walton League of Am., Inc., 423 U.S. 12, 15 (1975)). See also Martin v. American Cyanamid Co., 5 F.3d 140, 144 (6th Cir. 1993).

III.

This case presents a straightforward issue, but one that arises in the context of a complex regulatory framework. We therefore proceed to summarize that framework as it existed in 1992, the relevant year here.

The Internal Revenue Code permits a taxpayer to carry an NOL forward to future taxable years or back to preceding taxable years to offset taxable income generated in those years, yielding a tax refund. I.R.C. § 172(b) (1994). This provision "'permit[s] a taxpayer to set off its lean years against its lush years, and to strike something like an average taxable income computed over a period longer than one year.'" Six Seam Co. v. United States, 524 F.2d 347, 351 (6th Cir. 1975) (quoting Libson Shops, Inc. v. Koehler, 353 U.S. 382, 386 (1957)). In 1992, the general carryback period was three years preceding the year in which the NOL was incurred. I.R.C. § 172(b)(1)(A)(i) (1994) (amended in 1997). In 1997, the three-year carryback was reduced to two years.

The Code extends the carryback period to 10 years for certain "specified liability losses." Id. § 172(b)(1)(C) (1994). A transition rule enacted in 1990 prohibits the SLL carryback to years preceding 1984. Omnibus Budget Reconciliation Act of 1990, Pub. L. No. 101-508, § 11811(b)(2)(B), 104 Stat. 1388 (1990).

As of 1992, the Code defined SLL as follows:

(1) In general.--The term "specified liability loss" means the sum of the following amounts to the extent taken into account in computing the net operating loss for the taxable year:

(B) Any amount . . . allowable as a deduction under this chapter with respect to a liability which arises under a Federal or State law . . . if -

(i) In the case of a liability arising out of a Federal or State law, the act (or failure to act) giving rise to such liability occurs at least 3 years before the beginning of the taxable year . . . .

A liability shall not be taken into account under subparagraph (B) unless the taxpayer used an accrual method of accounting throughout the period or periods during which the acts or failures to act giving rise to such liability occurred.

(2) Limitation.--The amount of the specified liability loss for any taxable year shall not exceed the amount of the net operating loss for such taxable year. I.R.C. § 172(f) (1994) (amended in 1998). Thus, a taxpayer is entitled to the SLL carryback if, among other things: (1) SL expenses as defined under section 172(f)(1)(B) exist; (2) the taxpayer has an NOL for the year; (3) the SL expenses are "taken into account" in calculating the NOL; and (4) the SLL carryback does not exceed the NOL for the year.

The Code permits an affiliated group of corporations to file a consolidated return in lieu of separate income tax returns. It does not address whether, or how, the SLL carryback provision applies in the consolidated return context. Rather, the Code delegates to the Secretary of the Treasury broad authority to prescribe regulations

as he may deem necessary in order that the tax liability of any affiliated group of corporations . . . may be returned, determined, computed, assessed, collected, and...