Abandonment loss deduction denied for branching rights obtained in FSLIC-assisted thrift acquisition.

In Letter Ruling (TAM) 9933003, the IRS concluded that branching rights received in the acquisition of insolvent Federal savings and loan associations did not constitute "Federal financial assistance" under Sec. 597. Consequently, it ruled that the taxpayer improperly claimed Sec. 165(a) abandonment loss deductions in connection with the subsequent sale of the acquired branches. The ruling and its rationale suggest that the Service will vigorously contest taxpayers' efforts to claim deductions associated with branching rights and other intangible assets received as part of Federally assisted acquisitions of insolvent thrifts.

The taxpayer had acquired three insolvent Federal savings and loan associations in supervisory mergers approved by the Federal Home Loan Bank Board (FHLBB). The acquisitions were accomplished through an assistance agreement with the Federal Savings and Loan Insurance Corporation (FSLIC). The assistance agreement provided the taxpayer with "indemnification and/or financial assistance" in the acquisition of the insolvent thrifts. Following the acquisitions, the insolvent thrifts ceased to exist as separate entities and their historic businesses were conducted by the taxpayer as branches.

The taxpayer treated the excess of liabilities assumed in the acquisitions over the fair market value (FMV) of the assets acquired as core deposits and goodwill. The taxpayer amortized these amounts over various periods for financial accounting purposes, but initially claimed no deductions for Federal tax purposes.

The taxpayer subsequently sold the branches pursuant to sale agreements that contained noncompetition provisions covering various geographical areas within the state in which the branches were located. On its Federal income tax return for the year of the sales, the taxpayer did not allocate any of the acquired thrifts' excess liabilities to the branches' adjusted bases in computing gain from their sale. On IRS examination, however, the taxpayer claimed that a portion of the amount represented the FMV of the branching rights granted to the taxpayer in the acquisition. The taxpayer further contended that the branching rights had an FMV basis because they were FSLIC-provided Federal financial assistance under Sec. 597 (as in effect when the taxpayer acquired the insolvent thrifts). Accordingly, the taxpayer maintained that it should be permitted to deduct the branching rights' FMV under Sec. 165(a) when it sold the branches, because it abandoned the branching rights in the sales.

Noting that the FSLIC was a separate entity from the FHLBB, the Service determined "[u]nder the facts of this case" that the assistance agreement between the FSLIC and the taxpayer did not grant or promise the branching rights. Rather, it merely conditioned the taxpayer's obligations on its receipt of a charter from the FHLBB to operate in the state in which the insolvent thrifts were operating. The IRS further concluded that the FSLIC-provided financial assistance that the taxpayer received under the assistance agreement could not consist of branching rights; the authority to grant branching rights resided exclusively with the FHLBB, not with the FSLIC. The Service also mentioned that the FSLIC and the FHLBB did not appear to have considered branching rights in computing the cost of the taxpayer's assistance package. Therefore, it concluded that the branching rights did not have an FMV basis, because the rights granted to the taxpayer did not meet the Sec. 597 definition of Federal financial assistance, which was limited to assistance provided by the FSLIC.

In the TAM, the IRS took the unusual step of addressing additional issues that were rendered moot by the conclusion that the branching rights did not have an FMV basis under Sec. 597. This suggests that the Service is prepared to actively oppose (and probably litigate) taxpayers' attempts to claim deductions relating to branching rights and other intangible assets received in FSLIC-assisted acquisitions of failed and failing thrifts.

Even assuming that the branching rights received an FMV basis under Sec. 597 as FSLIC-provided Federal financial assistance, the IRS determined that the taxpayer improperly computed the branching rights' FMV basis by not taking into account other possible benefits imbedded in the acquired thrifts' excess liabilities, such as the valuable contract right that the industry has claimed in the Winstar litigation (Winstar Corp., 116 SCt 2432 (1996)) that results from the favorable accounting treatment of supervisory goodwill.

In any case, the Service also ruled that the taxpayer was not entitled to a Sec. 165(a) abandonment loss deduction; it did not unambiguously communicate an intent to abandon its branching rights and, in fact, the "narrowly-drawn noncompete covenant" relating to the acquired branches sale communicated that the taxpayer intended to preserve its right to conduct business in the state in which the branches were located.

FROM KYLE KLEIN, WASHINGTON, DC