Deductibility of environmental remediation costs.
In Letter Ruling(TAM) 9952075, the IRS An abbreviation for the Internal Revenue Service, a federal agency charged with the responsibility of administering and enforcing internal revenue laws. held that the costs of remediating post-acquisition contamination are currently deductible That which may be taken away or subtracted. In taxation, an item that may be subtracted from gross income or adjusted gross income in determining taxable income (e.g., interest expenses, charitable contributions, certain taxes). under Rev. Rul. 94-38. However, environmental remediation Generally, remediation means providing a remedy, so environmental remediation deals with the removal of pollution or contaminants from environmental media such as soil, groundwater, sediment, or surface water for the general protection of human health and the environment or from a costs are capitalizable under Secs. 263 and 263A to the extent they are for pre-acquisition contamination. At issue was the treatment of the costs to remediate re·me·di·a·tion
The act or process of correcting a fault or deficiency: remediation of a learning disability.
re·me land containing both pre- and post-acquisition contamination in preparing for new construction, which led the examining agent to conclude the costs were capital and, therefore, distinguishable from Rev. Rul. 94-38.
Rev. Rul. 94-38 involved a manufacturer that owned and operated a manufacturing plant built on land on which the taxpayer buried hazardous waste Hazardous waste
Any solid, liquid, or gaseous waste materials that, if improperly managed or disposed of, may pose substantial hazards to human health and the environment. Every industrial country in the world has had problems with managing hazardous wastes. discharged from its manufacturing operations Manufacturing operations concern the operation of a facility, as opposed to maintenance, supply and distribution, health, and safety, emergency response, human resources, security, information technology and other infrastructural support organizations. . The land was not contaminated contaminated,
v 1. made radioactive by the addition of small quantities of radioactive material.
2. made contaminated by adding infective or radiographic materials.
3. an infective surface or object. by hazardous waste when the taxpayer purchased it. To comply with Federal, state and local environmental requirements, the taxpayer decided to remediate the contaminated soil and groundwater, and establish a continuous monitoring system. The taxpayer also constructed groundwater treatment facilities that would remain in operation for approximately 10 years. During this time, the taxpayer would continue to monitor the groundwater to ensure compliance with applicable environmental laws. During and after the remediation and treatment, the taxpayer continued to use the land and operate the plant in the same manner as it did prior to remediation, except that new hazardous waste discharges were disposed of in accordance with applicable environmental laws.
Rev. Rul. 94-38 held that the soil remediation and groundwater treatment costs could be deducted de·duct
v. de·duct·ed, de·duct·ing, de·ducts
1. To take away (a quantity) from another; subtract.
2. To derive by deduction; deduce.
v.intr. currently; however, the costs of constructing the groundwater treatment facilities had to be capitalized and depreciated Depreciated may refer to:
The taxpayer purchased property containing manufactured gas man·u·fac·tured gas
A gaseous fuel made from soft coal or various petroleum products. plants, which had been in operation for several years. The manufactured gas plants yielded large quantities of by-products, which were often disposed of on-site in unlined pits. The taxpayer continued to operate the plants, but then switched to supplying natural gas. In preparing the site to construct a new operations facility, the taxpayer incurred environmental remediation costs on the site for both pre- and post-acquisition contamination.
The examining agent determined that the environmental remediation costs were distinguishable from those in Rev. Rul. 94-38 and, as such, were capital expenditures. He proposed multiple rationales to support a finding requiring the capitalization of the environmental remediation costs:
1. The expenditures had to be capitalized under Secs. 263 and 263A, because they were incurred to adapt the property to a new or different use under Regs. Sec. 1.263(a)-1(b).
2. The expenditures had to be characterized as part of the costs of constructing the taxpayer's new operations facility and, therefore, had to be capitalized under Regs. Sec. 1.263(a)-2(a), as costs incurred for the construction of an asset with a useful life extending substantially beyond the tax year.
3. The expenditures had to be characterized as part of a general plan of rehabilitation rehabilitation: see physical therapy. under Norwest, 108 TC 265 (1997), in which the taxpayer incurred costs to remove and replace asbestos insulation in the process of completely renovating and remodeling remodeling /re·mod·el·ing/ (re-mod´el-ing) reorganization or renovation of an old structure.
bone remodeling its building.
Post-Acquisition Environmental Remediation Costs
The Service noted that, "[w]hile Rev. Rul. 94-38 does anticipate that the taxpayer will continue to use the property in the same manner that it did prior to the cleanup, [it] do[es] not believe that [a taxpayer's] intent to build a new building on the site would change the tax treatment of cleanup costs to which Rev. Rul. 94-38 would otherwise apply." The IRS further reiterated that, because the post-acquisition remediation costs merely are restorative re·stor·a·tive
1. Of or relating to restoration.
2. Tending or having the power to restore.
A medicine or other agent that helps to restore health, strength, or consciousness. in nature, they do not adapt the property to a new or different use. Therefore, the remediation costs alone do not adapt the site to a new or different use; rather, they merely restore the site to the condition that existed at the time the taxpayer acquired the property. For the same reasons, the Service also found that the post-acquisition remediation costs need not be capitalized as land preparation costs as part of the construction of the operations facility.
Additionally, the IRS concluded that this situation is distinguishable from Norwest, as well as from other cases in which the "plan of rehabilitation" doctrine has been applied, because the environmental remediation costs were not directly related to the construction of the operations facility. Unlike the asbestos removal costs in Norwest (which were directly related to the renovation of the building), the costs in Rev. Rul. 94-38 are for restoration of an asset separate and apart from the new operations facility--the land. Because the environmental remediation costs are for land restoration, the Service held that such costs should not be considered part of a plan of rehabilitation or improvements to its building. This distinction, that the costs be "directly related to the renovation of the building" is very important, because it could be interpreted as a narrowing of the IRS's position on capitalization of costs related to self-constructed property. However, it is certain that the Service recognized the sensitive policy implications of the treatment of environmental remediation costs and, accordingly, was more inclined to permit the current deduction of such costs.
Finally, the IRS concluded that the taxpayer's remediation costs pertaining per·tain
intr.v. per·tained, per·tain·ing, per·tains
1. To have reference; relate: evidence that pertains to the accident.
2. to the post-acquisition contamination are not allocable al·lo·ca·ble
Capable of being allocated.
Adj. 1. allocable - capable of being distributed
distributive - serving to distribute or allot or disperse to the production of real or tangible personal property under Sec. 263A, because such costs relate to the restoration of the land and not to the construction of the operations facility.
Pre-Acquisition Environmental Remediation Costs
Not surprisingly, the Service concluded that, to the extent the remediation costs pertain to pertain to
verb relate to, concern, refer to, regard, be part of, belong to, apply to, bear on, befit, be relevant to, be appropriate to, appertain to environmental contamination present when the taxpayer acquired the site, that portion of the overall cost may not be deducted under Sec. 162. Rev. Rul. 94-38 clearly required that, to qualify for a current deduction, the taxpayer must be both the property's owner and the party that contaminated the property with hazardous waste from its business. Accordingly, as the remediation of pre-existing contamination does more than restore the site to the condition that existed at the time of the taxpayer's purchase, such costs constitute an improvement or betterment bet·ter·ment
1. An improvement over what has been the case: financial betterment.
2. Law An improvement beyond normal upkeep and repair that adds to the value of real property. and are capital in nature.
Observation: The fact that a taxpayer had to request technical advice from the IRS National Office on the issue of environmental remediation costs indicates that Service examining agents still have not accepted the National Office's position on the breadth of INDOPCO. Further, while recent rulings in this area provide welcome relief (e.g., Rev. Rul. 2000-4), this TAM clearly demonstrates the need for additional guidance from the Service in this area--both for practitioners and for IRS examining agents.
(Author's note: The views and opinions are those of the author and do not necessarily represent the views and opinions of KPMG KPMG Klynveld Peat Marwick Goerdeler (accounting firm)
KPMG Kaiser Permanente Medical Group
KPMG Keiner Prüft Mehr Genau (German)
KPMG Kommen Prüfen Meckern Gehen LLP LLP - Lower Layer Protocol .)
FROM PAUL K. GIBBS, CPA (Computer Press Association, Landing, NJ) An earlier membership organization founded in 1983 that promoted excellence in computer journalism. Its annual awards honored outstanding examples in print, broadcast and electronic media. The CPA disbanded in 2000. , WASHINGTON, DC