Corporation Was Not Entitled to Abandonment Loss, as There Was No Qualifying Recognition Event

The A Corporation was the owner of B. In year 1, A deducted a loss under Sec. 165 for a lease it claimed was unfavorable and therefore worthless. The lease was with County C in State D and for the use of Building E by B. Under the terms of the lease, C was obligated to maintain E as a "first class" venue. According to A, C breached this obligation.

During year 1, A contended that E was not "first class" and had fundamental Type F structural flaws and inadequate amenities and facilities. Consequently, A asserted that the lease was terminated and that B had no further obligation in E.

During year 1, A was also apparently attempting to move B outside D to City G. However, C prevented A from taking any steps to move B to a city outside of D. A also asserts that its audited financial statements for year 1 reported the abandonment loss and the lease was no longer listed as an asset. B was subsequently sold in year 2 to H and B continued in E for several years after year 1.

Analysis

Abandonment losses are deductible under Sec. 165(a), which allows any loss sustained during the tax year, not compensated for by insurance or otherwise. The requirements for a loss are found in Regs. Sec. 1.165-2(a), which allows a loss incurred in a business and arising from the sudden termination of the usefulness of any nondepreciable property, when a business is discontinued or when property is permanently discarded from use therein, as a deduction under Sec. 165(a) for the tax year in which the loss is actually sustained.

Regs. Sec. 1.165-1(b) requires that, to be allowable as a deduction under Sec. 165(a), a loss must be evidenced by closed and completed transactions and fixed by identifiable events. Normally, an abandonment loss requires an (1) intention on the part of the owner to abandon the asset and (2) affirmative act of abandonment. The intention to abandon standing alone is not sufficient to establish a recognition event; instead, there must be an affirmative act of abandonment. It is clear that intangible assets (such as a lease) may be the subject of an abandonment loss.

An abandonment does not result simply from cessation of use. The mere diminution in a property's value is also not enough to establish an abandonment loss. Specifically, diminution in value fails to satisfy the requirement under the regulations that a loss be "evidenced by closed and completed transactions, fixed by identifiable events."

Although writing off the lease on its books and asking to be let out of the lease are indications of A's abandonment, neither is conclusive. Rather than actually abandoning the lease, A seems to have transferred its interest in the lease to H as part of the sale, as B continued in E. In addition, the litigation that would have allowed A to get out of its lease was never concluded.

There is also a question of whether A could act on its own to abandon the lease. A apparently had contractual obligations to continue business in the geographic area, which were inextricably linked to its obligation under the lease. Separating the lease from these obligations and abandoning it alone may have been impossible. Instead, A would have had to wait before any abandonment was possible. As a result, A has not demonstrated the recognition event in year 1 necessary to obtain a loss under Sec. 165.

Field Service Advice 200048002 (5/22/00)