Tax Court - No deduction for payments to qualified settlement fund until actually made 

December 4: The U.S. Tax Court today issued an opinion finding that deductions for amounts owed to a qualified settlement fund (here, concerning tobacco settlements with almost all U.S. states and territories) were properly disallowed because economic performance had not occurred until payment was actually made into the fund. Suriel v. Commissioner, 141 T.C. No. 16 (December 4, 2013)

Read the Tax Court’s opinion [PDF 147 KB]

Summary

The taxpayer’s wholly owned S corporation claimed deductions for unpaid obligations, both principal and interest, owed into the Tobacco Master Settlement Agreement (MSA) fund—a qualified settlement fund under section 468B.


The IRS disallowed the deductions on the basis that economic performance did not occur until payment was actually made into the MSA fund.


Pursuant to section 1366, the IRS made adjustments to the taxpayer’s individual income tax returns and determined deficiencies in income tax. The taxpayer filed a petition with the Tax Court. The issues in dispute concern the accrual of unpaid obligations incurred when the S corporation settled with 46 states, the District of Columbia, the Commonwealth of Puerto Rico, and four U.S. territories by entering into the Tobacco Master Settlement Agreement (MSA).


The Tax Court today held that the taxpayer was not entitled to deductions for unpaid MSA obligations because economic performance did not occur until the obligations were actually paid into the MSA escrow account. The court also concluded that accrued interest owed into a qualified settlement fund is deductible in the tax year before actual payment is made.


The court found (and the IRS conceded) that the taxpayer reasonably and in good faith relied upon tax professionals in reporting the deductions of over $302 million for the 2004 tax year and thus was not liable for any accuracy-related penalty under section 6662(a).




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