Norwest Corp. & Subsidiaries v. Comm'r of Internal Revenue
| Decision Date | 08 March 1999 |
| Docket Number | No. 25613–95.,25613–95. |
| Citation | 112 T.C. 89,112 T.C. No. 9 |
| Parties | NORWEST CORPORATION AND SUBSIDIARIES, Successor in Interest to Davenport Bank and Trust Company and Subsidiaries, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
D and N entered into a transaction that resulted in N's owning all the stock of an entity of which D was a part. P concedes that sec. 263(a), I.R.C., requires that D capitalize the costs that were directly related to the transaction. P disputes R's determination that sec. 162(a), I.R.C., does not let D deduct investigatory and due diligence costs and all of its officers' salaries. The investigatory costs relate primarily to services rendered by L, a law firm, before D agreed to participate in the transaction. D retained L to investigate whether a reorganization-like transaction with N would be good for D and its local community, so that D's management and board could decide whether D should agree to such a transaction. The remaining investigatory costs relate to services performed by L in investigating whether, after the transaction, N's director and officer liability coverage would protect D's directors and officers for acts and omissions occurring before the transaction. The due diligence costs relate to services performed by L in connection with N's due diligence review. The disallowed officers' salaries were attributable to the transaction.Held: Sec. 162(a), I.R.C., does not let D deduct any of the disputed costs.
Mark A. Hager, John R. Kalligher, William K. Wilcox, and Walter A. Pickhardt, for petitioner.
Jack Forsberg, for respondent.
Norwest Corp. (Norwest) and Subsidiaries, Successor in Interest to Davenport Bank and Trust Co. (DBTC) and Subsidiaries, petitioned the Court to redetermine respondent's determination of a $132,088 deficiency in DBTC's 1991 consolidated Federal income tax. Following petitioner's concessions, the only issue left to decide is whether section 162(a) allows DBTC to deduct investigatory costs, due diligence costs, and officers' salaries which respondent determined were attributable to an acquisition of DBTC. We hold that DBTC may not deduct any of these costs. Unless otherwise stated, section references are to the Internal Revenue Code in effect for the subject year. Rule references are to the Tax Court Rules of Practice and Procedure. Dollar amounts are rounded to the nearest dollar.
1. General Information
Norwest is a bank holding company that was incorporated in 1929. It is the parent corporation of an affiliated group of corporations (Norwest consolidated group) that files consolidated Federal income tax returns. Its affiliates include 79 commercial banks in 12 States and numerous other corporations which provide financial services. Norwest's stock is traded on the New York and Midwest Stock Exchanges.
Bettendorf Bank, National Association (BBNA), is a member of the Norwest consolidated group. BBNA is a national banking association operating under a charter granted by the Office of the Comptroller of the Currency (OCC). BBNA conducts a general banking business from its main office in Bettendorf, Iowa, and from two branches, one in Bettendorf and the other in Davenport, Iowa.
DBTC is an Iowa State bank that was incorporated in 1932. Before the transaction (defined below), it provided banking and related services in the four-city area that consists of Davenport, Bettendorf, Rock Island, Illinois, and Moline, Illinois (Quad Cities area). Its main office was in Davenport, and it had four branches, three in Davenport and one in Donahue, Iowa. It filed a consolidated Federal income tax return with two wholly owned subsidiaries.
DBTC's only class of stock was thinly traded in the Davenport over-the-counter market. It had 1.2 million shares outstanding, and DBTC's founder (V.O.Figge) and his five children (collectively, the Figges) owned, collectively and beneficially, the following numbers and percentages of these shares:
+------------------------------------+
¦ ¦Number ¦Percentage¦
+------------------------------------¦
¦ ¦
+------------------------------------¦
¦V.O. Figge ¦41,843 ¦3.5 ¦
+-----------------+-------+----------¦
¦John K. Figge ¦61,140 ¦5.1 ¦
+-----------------+-------+----------¦
¦James K. Figge ¦63,450 ¦5.3 ¦
+-----------------+-------+----------¦
¦Thomas K. Figge ¦71,855 ¦6.0 ¦
+-----------------+-------+----------¦
¦Ann Figge Brawley¦77,890 ¦6.5 ¦
+-----------------+-------+----------¦
¦Marie Figge Wise ¦69,655 ¦5.8 ¦
+-----------------+-------+----------¦
¦ ¦385,833¦32.2 ¦
+------------------------------------+
DBTC's directors and executive officers, other than the Figges, owned another 69,727 (5.8 percent) of these shares on September 18, 1991.2. The Transaction
In 1989, Iowa adopted interstate banking legislation that allowed, for the first time, the acquisition of Iowa banks by banking institutions located in States which were contiguous with Iowa and which had enacted reciprocal legislation. DBTC's management expected that national banking would follow and that many large banks, including some from outside Iowa, would be competing in the Quad Cities area. DBTC's management was concerned that banks of DBTC's size (i.e., larger than the small community banks and smaller than the large regional banks) would be unable to compete in the future.
During 1990, Norwest began talking to DBTC about joining their businesses, and these discussions intensified in early 1991.2 DBTC retained the law firm of Lane & Waterman (L & W) to assist it in these discussions. L & W investigated whether DBTC would strategically fit with Norwest and its affiliates, and whether a reorganization between DBTC and Norwest would be good for the community.
On June 10, 1991, DBTC's board of directors met to consider merging DBTC into Norwest. Over V.O. Figge's objection to the merger, the board authorized John K. Figge, James K. Figge, and Thomas K. Figge, in their capacities as executive officers, to negotiate with Norwest and to hire legal and other representatives with the intent to recommend to DBTC's board a letter of intent between DBTC and Norwest on a plan of reorganization. The board also appointed an ad hoc committee (special committee) consisting of four outside directors to perform an independent due diligence review, to obtain professional advice, and to report to DBTC's board as to the fairness and appraisal of the proposed transaction. Norwest's board of directors, on the same day, authorized using up to 10 million shares of Norwest common stock to effect a transaction with DBTC.
DBTC retained J.P. Morgan & Co., Inc., as its financial adviser for any transaction with Norwest and to render an opinion as to the fairness of the consideration that DBTC's shareholders might receive in the transaction. DBTC retained KPMG Peat Marwick to render opinions primarily on whether the proposed transaction would be a reorganization for Federal income tax purposes, and whether the proposed transaction would qualify for a desired method of accounting.
On July 22, 1991, DBTC's board met to consider a transaction (transaction) whereby DBTC and BBNA would be consolidated to form a national bank (New Davenport) which would be wholly owned by Norwest. At the meeting, the special committee recommended that the transaction be approved, and J.P. Morgan opined that the transaction was fair to DBTC's shareholders from a financial point of view. DBTC's board approved the transaction. On the same day, BBNA's board approved the transaction.
Four other events also occurred on July 22, 1991, with respect to the transaction. First, Norwest, BBNA, and DBTC entered into an agreement (agreement) whereby they agreed to the transaction subject to regulatory approval, approval of DBTC's and BBNA's shareholders, and the satisfaction of certain conditions which included: (1) The receipt of regulatory approvals, including the approval of the OCC, without any requirement or condition that Norwest would consider unduly burdensome, and (2) the receipt of Peat Marwick's opinions that the transaction would qualify for the desired method of accounting and as a tax-free reorganization.
Second, Norwest entered into voting agreements with certain DBTC shareholders. These shareholders held 24.5 percent of DBTC's stock and included John Figge, James Figge, Thomas Figge, and other members of the Figge family. The voting agreements provided that these shareholders would vote their shares in favor of the transaction and that they would help Norwest complete the transaction.
Third, BBNA entered into employment agreements with V.O. Figge, John Figge, James Figge, Thomas Figge, and Richard R. Horst. The employment agreements provided that the five listed people would be employed as officers of New Davenport for 1 year at the same salaries they were receiving from DBTC. The parties to the transaction contemplated that John Figge, James Figge, and Thomas Figge would become senior vice presidents of New Davenport and that the members of DBTC's board would become members of New Davenport's board. Norwest agreed to cause John Figge to be elected to its board.
Fourth, Norwest issued a press release announcing that it had agreed with DBTC to acquire DBTC. The release, quoting V.O. Figge, stated in part:
After extensive deliberations, the Board [of DBTC] has determined that it is in the best interests of Davenport Bank and its stockholders, customers, employees, and the community it serves, to become part of a larger and more diversified financial institution that offers local, national and international resources through what might be termed a personal hometown presence * * *
* * *
It is for these reasons that the board has given careful consideration to a merger with an organization that competes aggressively on a regional...
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