Rev. Proc. 99-19: interest netting.

May 12, 1999

On May 12, 1999, Tax Executives Institute submitted the following comments to the Internal Revenue Service relating to Revenue Procedure 99-19, which requested comments on the application of section 6621(d) to interest for periods prior to the July 22, 1998, general effective date of recent interest netting legislation. TEI's comments were prepared under the aegis of its IRS Administrative Affairs Committee, whose chair is Stephen W. Boocock of Allegheny Teledyne, Inc. Contributing substantially to the development of the Institute's submission were Philip D. Fracassa of General Motors Corporation, Sheldon A. Kimel of Brunswick Corporation, Dina Shapiro of CitiGroup, Inc., and Neil D. Traubenberg of Sundstrand Corporation.

Section 6621(d) of the Internal Revenue Code was enacted by section 3301 of the Internal Revenue Service Restructuring and Reform Act of 1998, Pub. L. No. 105-206, 112 STAT. 741, and was amended by section 4002(d) of the Tax and Trade Relief Extension Act of 1998, Pub. L. No. 105-277, 112 STAT. 2681. This section provides for a net interest rate of zero to the extent of overlapping tax underpayments and overpayments, and generally applies to interest for periods beginning after July 22, 1998. Under appropriate circumstances, the net interest rate of zero also applies for periods beginning before July 22, 1998. On March 16, 1999, the Internal Revenue Service issued Revenue Procedure 99-19, requesting comments concerning the application of section 6621(d) to interest for periods prior to the July 22, 1998, general effective date. The procedure is reprinted in the March 29, 1999, issue of the INTERNAL REVENUE BULLETIN, 1999-14 I.R.B. 10.

Background

Tax Executives Institute is the preeminent association of business tax executives in North America. Our approximately 5,000 members represent 2,800 of the leading corporations through 52 chapters in the United States, Canada, and Europe. TEI represents a cross-section of the business community, and is dedicated to the development and effective implementation of sound tax policy, to promoting the uniform and equitable enforcement of the tax laws, and to reducing the cost and burden of administration and compliance to the benefit of taxpayers and government alike. As a professional association, TEI is firmly committed to maintaining a tax system that works -- one that is administrable and that taxpayers can comply with in a cost-efficient manner.

Members of TEI are responsible for managing the tax affairs of their companies and must contend daily with the Internal Revenue Service and provisions of the tax law relating to the operation of business enterprises. We believe that the diversity and professional training of our members enable us to bring an important, balanced, and practical perspective to the issues raised by Rev. Proc. 99-19, relating to interest netting.

The Cause of the Problem: The Interest Rate Differential

Section 6621 of the Code establishes the rate of interest to be paid on over- and underpayments of tax. For the past 13 years, the statutory rate of interest on underpayments has exceeded the rate of interest on overpayments by as much as 4.5 percentage points.(1) When the interest rate differential was first enacted as part of the Tax Reform Act of 1986, Congress directed the Treasury Department to implement comprehensive procedures to permit taxpayers to net overpayments with underpayments for interest computation purposes.(2) Unfortunately, no such procedures were implemented.

In 1998, Congress revised the interest charges for periods in which a taxpayer has both an overpayment and an underpayment. As part of the IRS Restructuring and Reform Act, Congress enacted section 6621(d) of the Code, providing "[t]o the extent that, for any period, interest is payable under subchapter A and allowable under subchapter B on equivalent underpayments and overpayments by the same taxpayer of tax imposed by this title, the net rate of interest under this section on such amounts shall be zero for such period." The provision applies to interest for periods beginning after July 22, 1998.

In addition, a transition rule provides:

   Subject to any applicable statute of limitation not having expired with
   regard to either a tax underpayment or a tax overpayment, the amendments
   made by this section shall apply to interest for periods beginning before
   the date of the enactment of this Act if the taxpayer--

  (A) reasonably identifies and establishes periods of such tax overpayments
      and underpayments for which the zero rate applies; and

   (B) not later than December 31, 1999, requests the Secretary of the
      Treasury to apply section 6621(d) of the Internal Revenue Code of 1986,
      as added by subsection (a), to such periods.

TEI commends Congress for providing the much needed equitable relief to taxpayers. Given that the nature of the interest charge on under- and overpayments is intended to represent a fair value for the use of money, the rate differential operated as a penalty that in TEI's view is not supportable. A differential is especially egregious when there are cross payments due -- which may net to zero (or even result in the taxpayer's being a net creditor of the government) -- and yet those payments create an interest charge to the taxpayer. More current audits would alleviate the inequity, but in the meantime a broad interest netting procedure is necessary.

The enactment of section 6621(d) signalled Congress's desire to return fairness and equity to the Code's rules on charging for the use of funds. TEI is disappointed, however, that the Treasury Department and IRS have not embraced the spirit of the legislative rule and provided a full measure of relief. Hence, although it is possible to interpret the transition rule to permit netting when the statute of limitations is open for either the year of the overpayment or the underpayment, Rev. Proc. 99-19 requires the statutes of limitations for both the underpayments and overpayments be open in order to qualify for transitional relief. Such an approach continues the inequity of the current law. As explained in H.R. Rep. No. 105-364, 105th Cong., 1st Sess. 63-64 (1997), "The [House Ways and Means] Committee does not believe that the different interest rates provided for overpayments and underpayments were ever intended to result in the charging of the differential on periods of mutual indebtedness."

The Institute recognizes that the legislative language can also be interpreted in a manner supporting the IRS's narrow view of the transition rule and acknowledges that the explanation of the 1998 legislation prepared by the staff of the Joint Committee on Taxation lends support to the IRS's view. Staff of the Joint Committee on Taxation, General Explanation of Tax Legislation Enacted in 1998, 105th Cong., 2d Sess. 290 (1998). TEI nevertheless believes that a taxpayer-adverse interpretation of current law, even if hypertechnically correct (and many would argue it is not), undermines both section 6621(d)'s remedial effect and the IRS's new mission statement. Accordingly, if full relief cannot be provided under the statute as enacted, TEI believes that the IRS and Treasury should seek a legislative correction.

Section 2: Background

A. Interest for Overlapping Periods. Section 2 of the revenue procedure provides a straightforward description of the background of the 1998 legislation introducing global interest netting. Section 2.03 quotes from the Conference Report that "each overpayment or underpayment is considered only once in determining whether equivalent amounts of overpayment and underpayment overlap for a particular period." H.R. Rep. No. 105-599, 105th Cong., 2d Sess. 257 (1998).

Rev. Proc. 99-19 essentially adopts an interest equalization approach -- equalizing the rates of interest charged on underpayments and paid on overpayments during all periods of mutual indebtedness -- which is similar to the methodology set forth in Rev. Proc. 94-60. TEI agrees that such an approach is administratively easier to apply than the credit/offset approach (whereby credits are allowed "as if" the overpayment had not been previously refunded or the underpayment previously paid). The revenue procedure does not address, however, the tax effects (deductibility, sourcing, etc.) of the equalization process. TEI recommends that the final procedure confirm that this characterization is an independent issue and should only be applied on a net basis (i.e., after the over-and underpayments are offset against each other) to the final liability paid or accrued.

In addition, TEI believes that section 2.03 should be clarified to refer to each dollar of under- and overpayment. Clearly, each dollar amount of under- or overpayment can only be used one time as an offset for purposes of section 6621(d). It is extremely rare, however, that dollar amounts will match exactly; the excess should be available to offset other under- or overpayments. For example, if there is an overpayment in year 1 of $7,000,000 and an underpayment in year 2 of $5,000,000 the excess overpayment from year 1 of $2,000,000 should be available as an offset against any further underpayments up to that dollar amount. Otherwise, a taxpayer with an overpayment in year i of $7,000,000 and an underpayment in year 2 of as little as $1 could be precluded from benefitting from the remaining balance. TEI urges Treasury to provide guidance clarifying this issue.

Similarly, an under- or overpayment that is used in an interest equalization calculation for a given period should not be treated as having been used for another period. For example, assume an overpayment bearing interest from 1991 was refunded in 1998. Assume further two underpayments -- one in 1992 (which was paid in 1994), and a second in 1995 (that was paid in 1997). The overpayment should be available to reduce the interest rate on both an underpayment that bore interest from 1992 until it was paid in 1994, and another underpayment that bore interest from 1995 until it was paid in 1997.

B. Statute of Limitations. Under section 2.04(1) of the proposed procedure, the applicable statute of limitations is that provided under section 6511 of the Code. The procedure, however, refers only to the general rule of section 6511 (i.e., three years from the due date of the return or two years from the date the interest was paid). Because taxpayers and the IRS often agree to extend the general section 6511 limitations period, a statement that section 6511(c) applies in those cases where an extension as been obtained should be added to section 2.04.

Section 2.04(2) permits the limitation period for overpayment interest to be set at the general six-year limitations period applicable to matters brought before the U.S. Court of Federal Claims pursuant to 28 U.S.C. [subsections] 2401 and 2501. This is clearly an appropriate limitations period. A more comprehensive standard for overpayment interest, however, would be to establish the applicable limitations period as either: (i) the limitations period prescribed by section 6511, including extensions of time, or (ii) the limitations period prescribed by 28 U.S.C. [subsections] 2401 and 2501.

Section 3: Scope

A. Applicability. Section 3.01(1) states that the procedure applies only where "both applicable periods of limitation described in section 2.04 of this revenue procedure were open on July 22, 1998." Based on the legislative language, committee reports, and congressional intent, we interpret this statement to mean that the taxpayer will be eligible for netting even though one or both of the statutes may close between July 22, 1998, and December 31, 1999. To avoid future disputes, however, TEI suggests that a statement to this effect be added to the procedure.

B. Inapplicability. Section 3.02(2) provides that the interest netting is not available in respect of any period during which interest was not allowable or payable by law (e.g., the 45-day interest disallowance rule under section 6611(e)). In enacting section 6621(d), Congress recognized the inequity of charging a net amount of interest in situations where there is mutual indebtedness between the government and the taxpayer. Charging a taxpayer interest for a period of underpayment that runs concurrently with a non-interest bearing overpayment is fundamentally inequitable. On a net basis, the government was not harmed during that period, and no net interest should be due.

Moreover, the requirement serves to complicate an already complex calculation. TEI therefore recommends that the requirement be deleted.(3)

Section 4: Application Procedures

A. Filing Form 843. Section 4.01 of the procedure defines the format for requesting the application of interest netting on Form 843, Claim for Refund and Request for Abatement. The procedure provides instructions for completion and submission of the form.

TEI recognizes that uniform procedures for requesting netting must be established. We suggest, however, that the very newness of the netting requirement, especially combined with its overall purpose to provide relief, speaks powerfully of the need for flexibility. Thus, we recommend that the revenue procedure include a statement that the filing of Form 843 is intended to initiate the review of claims for global netting and the failure to adhere to the procedural filing requirements will not -- in and of itself -- result in a disallowance of the claim, where there has been a good faith attempt by the taxpayer to provide the information that is available at the time the claim is filed.

This is particularly important given the cliff effect of the transition rule. A taxpayer filing a request by December 31, 1999, receives the benefit of interest netting to the extent permitted by the applicable statutes of limitations. A taxpayer failing to file a request, however, loses the entire benefit for interest accruing prior to the date of enactment. This creates problems for two categories of taxpayers:

* Taxpayers with audits pending, or not yet commenced, for one or more pre-1998 years as of December 31, 1999. These taxpayers will not be able to predict whether an over- or underpayment will exist for those years, much less calculate the amount.

* Taxpayers that have already "matched" underpayments and overpayments for purposes of a global netting computation, but with pending refund claims, future carrybacks, or possible future adjustments. These taxpayers face the possibility that either the overpayment or underpayment will be eliminated, thereby denying them a full measure of relief.

TEI recommends that forthcoming guidance confirm that the taxpayer will be deemed to have sufficiently identified and established the existence of over- or underpayments if, by the deadline, the taxpayer has filed a Form 843 that:

* Reasonably provides a schedule of the dates, amounts, and taxable years of any overpayments and underpayments that are available as of December 31, 1999, to be used against a future potential refund or assessment in applying interest netting for periods prior to October 1, 1998; and

* Identifies any year for which an audit is in process or expected.

Moreover, we recommend that the guidance clarify that, if a taxpayer has employed a particular under or overpayment in a global netting calculation and the corresponding "matching" over- or underpayment is recaptured or abated due to subsequent adjustments, that taxpayer is entitled to choose another "match" for the surviving under- or overpayment, so long as the same amount is never used twice for the same period.

B. Special Procedure. Section 4.06 provides that no Form 843 is required when a computation of interest is required in connection with a return under consideration by the IRS. In such a case, a letter or written statement will suffice to qualify the taxpayer for global interest netting. Although this informal procedure represents a step in the right direction, we believe the IRS needs to address the situation where a taxpayer cannot provide a final computation of how the net zero interest rate applies.

Hence, the procedure should be broadened to include returns not yet under consideration by the IRS, but where such consideration is imminent (e.g., unaudited returns for Coordinated Examination Program taxpayers). In addition, a written statement requesting the application of interest netting and otherwise evidencing taxpayer's intent to cooperate with the IRS in determining the proper application of the interest netting rules -- including preparing the relevant computations when available -- should be sufficient to accord the taxpayer with the benefits of section 6621(d). This document, even in the absence of computations, should serve as a valid written statement within the meaning of section 4.06 of the procedure because it provides adequate notice that the taxpayer is requesting global interest netting.

Same-Taxpayer Rule

Rev. Proc. 99-19 provides that the interest netting procedures apply only in respect of over- and underpayments of the "same taxpayer." See, e.g., Rev. Proc. 99-19, [sections] 2.03(1). There are situations in which the tax liabilities of a parent corporation and related party are so closely aligned that distinguishing between the two for purposes of the netting rules is not appropriate. We believe the procedure should be revised to extend relief in such situations and that, should the IRS conclude that the Code stands as a barrier to such relief, the Treasury Department should seek a legislative change.

For example, consider the interaction of under- and overpayments of a related supplier and a foreign sales corporation (FSC), a foreign corporation that cannot be included in the parent's consolidated return. While the FSC is not part of the affiliated group (by operation of section 1504(b)), the interdependence of the two entities is so great that they should be treated as the same taxpayer for purposes of the interest netting rules. The fairness of TEI's recommendation is demonstrated by the following example:

   Company A, a U.S. corporation, establishes FSC B. On A's amended tax
   return, additional export sales of A generate an additional commission
   payable to B of $1,000,000. This commission expense creates a refund due of
   $350,000. On B's tax return, assume that the commission income generates a
   liability of $125,000. Because of the differential in interest rates
   applicable to corporate taxpayers, B will pay interest at a greater rate on
   its tax liability than the rate at which A is earning interest on its
   refund.

Another example where the same-taxpayer rule needs adjustment is a target company acquired by the taxpayer in a stock acquisition, where the target becomes part of the taxpayer's consolidated group. In this situation, pre-acquisition over- and underpayments of the target should be available to offset post-acquisition under- and overpayments of the taxpayer's consolidated group, which includes the target. Consider this example:

   ABC Co. acquires XYZ Co. in 1994 in a stock acquisition, after which XYZ
   becomes a member of the ABC consolidated group. Prior to its acquisition,
   XYZ was a separate taxpayer unaffiliated with any other taxpayer. In 1998,
   XYZ pays tax related to an adjustment in taxable income of $100,000 for tax
   year 1992. This adjustment creates a deduction for the ABC group
   attributable to XYZ of $100,000 in 1996. Because of the differential in
   interest rates, XYZ will pay interest at a greater rate on its liability
   than ABC will earn on its refund.

These are classic examples of instances in which the most comprehensive interest netting procedures possible should be employed. Thus, TEI suggests that the "same taxpayer" be defined as (i) any two taxpayers that are affiliated under section 1504(a) of the Code -- without regard to the exclusions set forth in section 1504(b); and (ii) the taxpayer and those consolidated subsidiaries of the taxpayer that filed separate returns for years prior to being acquired by the taxpayer in a stock acquisition or in a transaction to which section 381 applied (and where no section 338 election has been made).

Conclusion

Tax Executives Institute appreciates this opportunity to present our views on Rev. Proc. 99-19, relating to interest netting. If you have any questions, please do not hesitate to call Stephen W. Boocock, chair of TEI's IRS Administrative Affairs Committee, at [phone], or Mary L. Fahey of the Institute's professional staff at [phone].

(1) The rate on underpayments of tax by a corporation is the federal short-term rate plus 3 percentage points; the overpayment rate is the federal short-term rate plus 2 percentage points. In addition, "large corporate underpayments" are subject to an interest rate equal to the federal short-term rate, plus 5 percentage points (the so-called "hot interest" provision), while large corporate overpayments bear interest at the federal short-term rate plus .5 percentage point. The higher large corporate underpayment interest rate applies only to periods after the "applicable date." The calculation of the applicable date differs. If deficiency procedures apply, the applicable date is the 30th day following the earlier of the date on which (a) the first letter of proposed deficiency that allows the taxpayer an opportunity for administrative review in the IRS's Office of Appeals, or (b) the statutory notice of deficiency is sent by the IRS. If the deficiency procedures do not apply, the applicable date is 30 days after the date on which the IRS sends the first letter or notice that notifies the taxpayer of the assessment or proposed assessment. Although the hot interest rules are especially unfair (since they produce a differential of 4.5 percentage points), TEI believes the "normal" 2.5 percentage point differential is also indefensible.

(2) In the legislative history of the Tax Reform Act of 1986, Congress signalled its desire to ameliorate the unfairness of section 6621's interest-rate differential (whereby the interest rate imposed on underpayments is higher than the rate paid on overpayments). H.R. Rep. No. 99-841, 99th Cong., 2d Sess. II-785 (1986) (Conference Report). Twice thereafter (in 1990 and 1994), Congress formally restated its mandate that netting procedures be developed. H.R. Rep. No. 103-826(1), Subtitle B, 103d Cong., 2d Sess., reprinted in 1994 U.S. Code Cong. & Admin. News 3773, 3950; H.R. Rep. No. 101-964, 101st Cong., 2a Sess. (Conference Report), reprinted in 1990 U.S. Code Cong. & Admin. News 2374, 2805-2806 (providing that the Treasury Department should develop "the most comprehensive crediting procedures under section 6402 that are consistent with sound administrative practice").

(3) TEI recognizes that the IRS has a statutory basis for imposing the limitation, but suggests that rather than working to develop the most restrictive netting procedures that are possible, the IRS seek to implement the rules in as liberal a manner as possible. Such an approach would clearly accord with congressional intent and IRS procedures. See, e.g., Rev. Proc. 94-60, 1994-2 C.B. 774 (interest-free periods not disregarded when interest is netted within a single tax year).3