Pacific First Federal Sav. Bank v. C.I.R.

Decision Date21 May 1992
Docket NumberNo. 91-70116,91-70116
Citation961 F.2d 800
Parties-605, 92-1 USTC P 50,099 PACIFIC FIRST FEDERAL SAVINGS BANK, Petitioner-Appellee, v. COMMISSIONER INTERNAL REVENUE SERVICE, Respondent-Appellant.
CourtU.S. Court of Appeals — Ninth Circuit

Bruce R. Ellisen, Tax Div., U.S. Dept. of Justice, Washington, D.C., for respondent-appellant.

John F. Coverdale, Fried, Frank, Harris, Shriver & Jacobson, Washington, D.C., for petitioner-appellee.

Appeal from a Decision of the United States Tax Court.

Before WALLACE, Chief Judge, HUG and RYMER, Circuit Judges.

WALLACE, Chief Judge:

The Commissioner of Internal Revenue (Commissioner) appeals the tax court's decision that Treasury Regulation § 1.593-6A(b)(5)(vi), (vii) is invalid because it does not implement the congressional mandate in a reasonable manner. The tax court had jurisdiction pursuant to I.R.C. §§ 6214, 7442. (All references are to the Internal Revenue Code of 1954 (Code or I.R.C.), unless otherwise indicated.) We have jurisdiction over this timely appeal pursuant to I.R.C. § 7482. We reverse and remand to the tax court for further proceedings.


During the relevant period, Pacific First Federal Savings Bank (Pacific) was a mutual savings and loan association with its principal place of business in Tacoma, Washington. Pacific claimed deductions for reasonable additions to a reserve for bad debts for the taxable years 1971 through 1980. The Code provides special rules for determining reasonable additions to reserves for domestic building and loan associations, mutual savings banks, and certain cooperative banks (collectively referred to as "mutual institutions"). Id. § 593(a). In general, mutual institutions may deduct "the amount determined by the taxpayer to be a reasonable addition to the reserve for losses on qualifying real property loans," but that amount may not exceed a cap determined under one of three alternative methods: (1) the percentage of taxable income method, under which the deduction is equal to a specified percentage of the institution's taxable income; (2) the percentage of loans method, under which the deduction is based on a specified percentage of the relevant loans; and (3) the experience method, under which the deduction is based on the taxpayer's bad debt history. Id. §§ 593(b), 585(b). The mutual institution may choose the method that provides the highest deduction. Id. § 593(b)(1)(B).

During the relevant years, Pacific used the percentage of taxable income method to compute its reserve deduction. Pursuant to section 593, the percentage rate used to determine the deduction for 1971 was 54 percent. The rate was gradually reduced each year until it reached 40 percent for 1979 and each year thereafter. Id. § 593(b)(2)(A).

During the taxable years 1981 and 1982, Pacific sustained net operating losses in the amounts of $43,459,246 and $27,748,382, respectively. At that time, the Code permitted mutual institutions to carry back net operating losses to each of the ten taxable years preceding the year of the loss. Id. § 172(b)(1)(F). The net operating loss is first carried back to the earliest permissible year, with any unabsorbed amount carried forward chronologically until fully absorbed. See id. § 172(b)(2). When carried back, the net operating loss is treated as a deduction, thereby reducing taxable income for that year. The taxpayer then receives an appropriate refund. Pacific carried its 1981 net operating loss back to the years 1971 through 1978 and carried its 1982 net operating loss back to the years 1978 and 1979. Pacific did not make any adjustment to its bad debt reserve deductions for the years 1971 through 1979, even though taxable income for those years was reduced by the loss carry-backs.

During an audit, the Commissioner determined that because the net operating loss deduction reduced taxable income for the carry-back years, Pacific was required to recalculate its reserve deductions. Although earlier regulations issued by the Secretary of the Treasury (Treasury) indicated that the reserve deduction did not need to be recalculated, the regulation in effect when Pacific's net operating losses occurred provides that deductions for section 172 losses reduce taxable income for purposes of determining the allowed reserve deduction. Compare Treas.Reg. § 1.593-6(b)(2)(iv) (1971) (taxable income for purposes of section 593 is not reduced by section 172 losses) with Treas.Reg. § 1.593-6A(b)(5)(vi), (vii) (1982) (for the relevant years, taxable income for purposes of section 593 is reduced by section 172 losses). The Commissioner contended that pursuant to the applicable regulations, Pacific was required to recompute its reserve deductions for the loss carry-back years. According to the Commissioner, Pacific's income taxes for 1978, 1979, and 1980 were deficient in the amounts of $1,743,066, $5,057,885, and $2,512,321, respectively.

Pacific petitioned the tax court seeking redetermination of the deficiencies. Pacific argued that Treasury Regulation § 1.593-6A(b)(5)(vi), (vii) is an unreasonable interpretation of the statute and, therefore, invalid. The tax court, in a 13-5 reviewed decision, held that the regulation was invalid. See Pacific First Federal Savings Bank v. Commissioner, 94 T.C. 101, 107 (1990) (Pacific First ).


The Commissioner argues that the tax court erred in invalidating Treasury Regulation § 1.593-6A(b)(5)(vi), (vii). The only other circuit court to address this issue has criticized and rejected the tax court's decision in Pacific First. See Peoples Federal Savings & Loan Association of Sidney v. Commissioner, 948 F.2d 289, 291, 303-305 (6th Cir.1991) (Peoples Federal ); see also First Federal Savings Bank of Washington v. United States, 766 F.Supp. 897, 899-900 (E.D.Wash.1991), appeal docketed, No. 91-35690 (9th Cir. May 21, 1991) (rejecting the tax court's decision in Pacific First and upholding the regulation). "Uniformity among the circuits is especially important in tax cases to ensure equal and certain administration of the tax system. We would therefore hesitate to reject the view of another circuit." First Charter Financial Corp. v. United States, 669 F.2d 1342, 1345 (9th Cir.1982) (First Charter ). We believe much of the Sixth Circuit's reasoning is persuasive, and write separately only to clarify the analysis supporting the validity of the regulation.


In the past, there has been some ambiguity in our circuit over the proper scope of review of tax court decisions. Estate of Schnack v. Commissioner, 848 F.2d 933, 935 (9th Cir.1988) (Estate of Schnack ). The parties have stipulated to the facts in this case. Therefore, we are only faced with a question of law concerning the validity of the regulation, which we review de novo. Id. Some of our earlier decisions, however, appear to indicate that deference should be given to decisions of the tax court. See, e.g., First Charter, 669 F.2d at 1345. In Vukasovich, Inc. v. Commissioner, 790 F.2d 1409, 1411-13 (9th Cir.1986), we recognized the difficulty with some of our previous decisions and concluded that, in general, no special deference should be given the tax court when reviewing a pure question of law. See also Lynch v. Commissioner, 801 F.2d 1176, 1178-79 (9th Cir.1986) (no deference to tax court's conclusions of law). This interpretation of our circuit's case law history was followed in Estate of Schnack, 848 F.2d at 935,

Even if deference to the tax court on a legal question is proper in certain circumstances, such deference would be inappropriate in this appeal. The purpose of deferring to legal decisions of the tax court is to foster the value of tax law uniformity. As we pointed out in Vukasovich, in the realm of national tax law, "it is more important that the applicable rule of law be settled than it be settled right." 790 F.2d at 1413, quoting Burnet v. Coronado Oil & Gas Co., 285 U.S. 393, 406, 52 S.Ct. 443, 447, 76 L.Ed. 815 (1932) (Brandeis, J., dissenting). Therefore, we conclude that in cases such as this one, where the tax court decision has been thoroughly considered and rejected by another circuit, no special deference should be given to the tax court's conclusions of law.

The parties also disagree over the degree of deference to be given to the Treasury's regulation. The challenged regulation was issued under the Treasury's authority to "prescribe all needful rules and regulations...." I.R.C. § 7805. The Sixth Circuit concluded that the rule of deference established by Chevron U.S.A. Inc. v. Natural Resources Defense Council, 467 U.S. 837, 104 S.Ct. 2778, 81 L.Ed.2d 694 (1984) (Chevron ), should be applied to this interpretive regulation. See Peoples Federal, 948 F.2d at 299-300. We need not decide whether Chevron applies to the regulations in this case, however, because the traditional rule of deference to Treasury regulations supports our decision to uphold the challenged regulation. The Supreme Court has consistently held that courts must defer to the Treasury's interpretive regulations if they "implement the congressional mandate in some reasonable manner." National Muffler Dealers Association v. United States, 440 U.S. 472, 476, 99 S.Ct. 1304, 1306, 59 L.Ed.2d 519 (1979) (National Muffler ) (internal quotations omitted); see also Cottage Savings Association v. Commissioner, --- U.S. ----, 111 S.Ct. 1503, 1508, 113 L.Ed.2d 589 (1991) (Treasury's interpretations of the Code should be upheld "so long as they are reasonable").

In determining whether the regulation is consistent with the congressional mandate, "we look to see whether the regulation harmonizes with the plain language of the statute, its origin, and its purpose." National Muffler, 440 U.S. at 477, 99 S.Ct. at 1307. The majority of the tax court apparently determined that this "harmony" standard requires the reviewing cou...

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