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Prop. Regs. May Resolve Many, but Not All, INDOPCO Issues The IRS recently published proposed regulations (REG-125638-01) on the deduction and capitalization of expenditures. The regulations stated purpose, as set forth in the preamble, is to provide certainty and promote consistent interpretation of Sec. 263(a) by taxpayers and IRS field personnel:
The proposed regulations have the greatest effect on the INDOPCO, Inc., 503 US 79 (1992), significant future benefit test. According to the preamble, that test does not provide the certainty and clarity needed for taxpayers to comply with the law or for the Service to administer it. INDOPCO questioned whether internal expenditures (e.g., salary and overhead) in mergers, acquisitions and similar transactions provided a significant future benefit. The IRS wants to take the guesswork out of such questions and eliminate INDOPCOs retroactive effect. It intends to provide a list of intangible assets, on which a taxpayer may rely without having to speculate (at the risk of an audit adjustment and possible penalties) whether to capitalize an expenditure.
TAM 200244019 Obviously, many taxpayers will welcome this enormous change. However, new uncertainties are bound to arise for costs other than acquisition expenses. One such intangible came up in Technical Advice Memorandum (TAM) 200244019, in which a taxpayer acquired an undivided share of local television broadcast rights associated with a sports franchise. Under Sec. 197(e)(6), any item acquired in connection with a sports franchise is not a Sec. 197 intangible and, thus, not eligible for amortization under that provision. In the TAM, the taxpayer did not acquire the team itself and argued that Sec. 197(e)(6) did not exclude the rights. The Service disagreed. After failing under Sec. 197, the taxpayer had to establish a value for the rights and determine their useful life for Sec. 167 depreciation purposes. However, in relying on a line of cases culminating in McCarthy, 807 F2d 1306 (6th Cir. 1986), the Service determined that the intangible asset was not any particular broadcast contract, but rather, the underlying broadcast rights. When one contract expired, another would replace it as a link in a continuing chain of broadcast revenues. Because the broadcast rights adhered to membership in a professional sports league, they had an indefinite life and were not depreciable under Sec. 167. If TAM 200244019 had been decided under the proposed regulations, the starting point would have been to determine whether the expenditure was described in one of the categories in the proposed regulations. Prop. Regs. Sec. 1.263(a)-4(b)(2) defines three categories of intangibles and establishes an open-ended fourth categorya future benefit, that the IRS will identify later in published guidance. Thus, a limited INDOPCO-type standard may be resurrected in the future, but taxpayers will have advance notice as to what constitutes a future benefit and will no longer have to argue that point with auditors. The other categories of intangible assets in the proposed regulations are (1) acquired intangibles, (2) created (or enhanced) intangibles and (3) separate and distinct intangibles. The broadcast rights in the TAM do not appear to be either an acquired or a created intangible. They might be going concern value, an acquired intangible, based on the Services view that the rights were closely linked to the professional teams league membership. However, the fact that the taxpayer did not acquire the team itself would negate that idea. If the broadcast rights were included in any category, they would be a separate and distinct intangible under Prop. Regs. Sec. 1.263(a)-4(b)(3)a property interest of measurable value that is transferable and subject to legal protection. According to the TAM, the broadcast rights were transferred (thus, clearly transferable), and presumably subject to legal protection. The TAM does not discuss valuation; presumably, the parties placed a value on the rights. It would appear that, under the proposed regulations, the broadcast rights would be deemed a separate and distinct asset requiring capitalization. However, if they could not be placed in any of the proposed intangible asset categories, the taxpayer might have been allowed to deduct the cost, a surprising outcome. Prop. Regs. Sec. 1.167(a)-3(b)(1) provides a 15-year safe-harbor amortization period for certain intangibles. Assets for which an amortization period is specifically prescribed or prohibited by the Internal Revenue Code, regulations, or other published guidance are excluded. Although the Service concluded in the TAM that the broadcast rights had an indefinite life, it cited nothing that specifically prohibited their amortization. The TAM is not published guidance. Although McCarthy and its predecessors may be substantial authority, they are not published guidance either, as the proposed regulations use that term. Thus, it appears the proposed regulations would change the results in TAM 200244019, allowing the taxpayer to amortize the broadcast rights over 15 years. Whether the TAM would be invalidated as inconsistent with these regulations, or whether the Service elects to publish guidance that would prohibit that result under Prop. Regs. Sec. 1.167(a)-3(b)(1), remains to be seen.
Conclusion The proposed regulations represent a significant change from past IRS practice. Their stated objectivescertainty, consistent interpretation, reduction of controversies, application of changes prospectively and sound administration of the laware important to both taxpayers and the Service. However, because many types of costs with a questionable future benefit have arisen since INDOPCO, it may take years before taxpayers understand how the new rules apply. By David A. DiMuzio, J.D., LL.M., Grand Rapids, MI |
