Editor: Greg A. Fairbanks, J.D., LL.M.
In AmerGen Energy Co. LLC, 113 Fed. Cl. 52 (2013), the Court of Federal Claims granted summary judgment to the government and denied AmerGen Energy Co. LLC, an affiliate of Exelon Corp., approximately $1.6 billion in cost basis related to decommissioning liabilities assumed by AmerGen in connection with its purchase of three nuclear power plants. The court ruled that the assumed liabilities did not qualify for purposes of calculating AmerGen’s basis in the acquired assets because the liabilities failed the economic performance prong of the three-prong all-events test.
Between 1999 and 2000, AmerGen purchased the Three Mile Island plant near Harrisburg, Pa.; the Clinton Power Station in DeWitt County, Ill.; and the Oyster Creek Station in New Jersey. AmerGen paid approximately $93 million in cash for the three plants and assumed more than $1.6 billion in decommissioning liabilities. As part of the purchases, AmerGen received decommissioning trust funds from the sellers totaling approximately $974 million. The trust funds were required to satisfy certain regulatory requirements for decommissioning. At the time the court issued its opinion, however, none of the three nuclear power plants that AmerGen purchased had actually been decommissioned.
AmerGen argued that its cost basis in the purchased assets was equal to the cash payments made plus the decommissioning liabilities assumed. AmerGen then claimed depreciation and amortization deductions with respect to certain of the purchased assets based on a cost basis that reflected the inclusion of the decommissioning liabilities. The IRS disagreed with this position and did not allow AmerGen to increase its basis by the decommissioning liabilities. AmerGen paid the tax due and then sued the government for a refund in the Court of Federal Claims.
The court considered AmerGen’s initial argument that Sec. 1012 is the only relevant provision when determining the cost basis of acquired assets such as nuclear power plants, and that it establishes that noncontingent liabilities are included as part of a taxpayer’s basis. The court rejected AmerGen’s position and reasoned that Sec. 1012, by itself, was not dispositive of the issue. Instead, the court found, as the IRS had argued, that it was also necessary to consider the rules in Sec. 461(h) to determine whether AmerGen had incurred noncontingent decommissioning liabilities at the time it purchased the power plants. Sec. 461(h) provides, for purposes of recognizing deductions and credits, that a taxpayer does not incur certain liabilities until economic performance occurs under the all-events test.
Congress enacted the current three-prong all-events test of Sec. 461(h) in 1984. Previously, the test consisted of only two prongs: (1) All of the events must have occurred that establish the fact of the liability; and (2) the amount must be capable of being determined with reasonable accuracy. The third prong requires that “economic performance” of a liability must occur before a taxpayer can account for a liability as incurred.
AmerGen asserted that if it must apply Sec. 461, then—notwithstanding the 1984 amendment to Sec. 461(h)—the pre-1984 two-prong all-events test remains the appropriate test for determining the cost basis of purchased assets. The court, however, rejected AmerGen’s argument and agreed with the IRS that the current version of Sec. 461(h) and its three-prong all-events test, based on the plain language of the statute, is of general applicability. Thus, the court held that Sec. 461(h) should be applied to determine when a taxpayer incurs liabilities for the purposes of cost-basis calculations. The court noted the lack of support in recent case law or treatises to support AmerGen’s position that after 1984 the all-events test for cost basis decoupled from the all-events test for expense deductions.
The court found support for the applicability of the three-pronged all-events test to cost basis in the legislative history of the Deficit Reduction Act of 1984, P.L. 98-369, which added the third prong. The court noted Congress’s concern for the time value of money and revenue losses due to attempts by taxpayers to claim premature accrual of liabilities. Although the legislative history the court cited does not seem to specifically address the timing of liabilities relevant to capital items, the court stated that Congress also understood that these concerns were present not only in the timing of deductions for expenses, but also in timing of the accounting of liabilities relevant to capital items.
The court further concluded that the regulations under Sec. 461(h) apply the three-prong test to cost-basis calculations. AmerGen made numerous arguments why the Sec. 461 regulations did not apply to its situation, but the court ultimately deferred to the government’s application and interpretation of its regulations.
AmerGen also argued that economic performance did in fact occur at the time of purchase. Sec. 461(h)(2)(A)(ii) provides that if a liability of the taxpayer arises out of the providing of property to the taxpayer by another person, economic performance occurs as the person provides such property. AmerGen asserted that the decommissioning liabilities arose out of the providing of property (the power generation business) to the taxpayer (AmerGen) by another person (the sellers). The court summarily dismissed this argument, noting that it was not the seller that conditioned the transfers of property (the nuclear power plants) to include the assumption of certain liabilities (the decommissioning liabilities). Instead, the Nuclear Regulatory Commission mandated that corresponding decommissioning liabilities be assumed by the purchaser of a nuclear power plant.
In addition, in holding that economic performance had not occurred with respect to the decommissioning liabilities at the time of purchase, the court noted that decommissioning activities occur when a nuclear power plant closes, and none of the three nuclear power plants at issue were closed or about to be closed in 1999 or 2000 (and closures were not expected until several years into the future). Accordingly, the court concluded that AmerGen had not satisfied the three-prong test of Sec. 461(h) and could not include the decommissioning liability in the cost basis of the plants as of 1999 or 2000.
In summary, taxpayers should proceed with caution in determining when to include assumed liabilities in basis as part of an asset acquisition. In light of the court’s holding in the AmerGen case, taxpayers should consider the impact when assumed liabilities in an asset purchase satisfy the economic performance prong of Sec. 461.
Greg Fairbanks is a tax senior manager with Grant Thornton LLP in Washington, D.C.
For additional information about these items, contact Mr. Fairbanks at 202-521-1503 or firstname.lastname@example.org.
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