Tax court provides guidance on Pre-1998 SLL claims.

• Author: Ely, Mark H.
• Position: Specified-liability loss

Whether a loss qualifies for Specified-liability loss (SLL) treatment under Sec. 172(f) is a highly litigated area of tax law. Although the provision has been amended twice since its enactment in 1978, neither Congress nor the Service has provided authoritative guidance on characterizing an SLL. As such, practitioners turn to case law, which seems to change whenever a new case is litigated. Although current Sec. 172(f) is clear and unambiguous, many taxpayers have pending losses and issues prior to the last amendment in 1998.

Sec. 172

Generally, under Sec. 172(a), a taxpayer can carry back a net operating loss (NOL) two years, or carry it forward 20 years. Sec. 172(f) is an exception to the two-year carryback rule, which provided for a 10-year carryback for SLLs.

Originally, Sec. 172(f)(1)(B) limited SLLs to product liability losses. In 1984, Congress amended the provision to include losses"with respect to" a liability that arose under a Federal or state law or out of any tort of the taxpayer. In addition, the act that gave rise to the liability must have occurred at least three years prior to the tax year.

Most taxpayers interpreted the phrase "with respect to" as meaning any cost associated with a liability arising under Federal or state law or any tort of the taxpayer. The only interpretive guidance for taxpayers was a few letter rulings, which were, in most cases, taxpayer-favorable and at times a relaxed interpretation of expenses the IRS allowed as SLLs. However, the Service did not issue regulations or release any revenue rulings to provide guidance.

Cases

In Sealy Corp., 107 TC 177 (1996), aff'd, 171 F3d 655 (9th Cir. 1999), the IRS contended that expenses incurred in complying with Federal laws were not SLLs. In Sealy, the expenses were legal, accounting and professional fees incurred as a result of SEC and ERISA reporting requirements and IRS audits. In Sealy, the court ignored the phrase "with respect to" and permitted deductions only for losses resulting from obligations enumerated in Federal or state statutes. Any associated costs were deemed too attenuated to be afforded SLL status.

Sec. 172(f)(1)(B) was amended by the Tax and Trade Relief Extension Act of 1998. The ambiguous phrase "with respect to" was deleted and the types of liabilities considered SLLs were specifically listed.

In Host Marriott; 267 F3d 363 (4th Cir. 2001), aff'g 113 FSupp 2d 790 (DC MD 2000), the Fourth Circuit held that interest payments on Federal...