On Appeal from the United States Tax Court Washington, D.C. (Tax Court Nos. 91-19950, 91-19952 & 91-19953).
Before: Scirica, Nygaard and McKEE, Circuit Judges.
In this appeal, we must determine the validity of Treas. Reg. § 1.58-9 (1992). Specifically, the issue is whether the Department of the Treasury may implement a "suspended-tax" approach instead of a "suspended-preference" method in calculating minimum tax under the "tax benefit rule" of former I.R.C. § 58(h), 26 U.S.C. The first approach computes and suspends tax liability until a benefit results while the latter suspends items of tax preference. Because we find the suspended-tax approach to be a reasonable construction of § 58(h), in accord with its language and purpose, we will uphold the regulation.
E.I. du Pont de Nemours & Company, Conoco, Inc., Remington Arms Company, and New England Nuclear Corp.*fn1 filed federal income tax returns for 1979, 1980, and 1981,*fn2 claiming reductions in tax liability through the use of income tax credits carried back from the 1982 tax year. Subsequently, the Internal Revenue Service issued notices of deficiency to taxpayers for $25,633,133. Taxpayers responded by filing petitions in the Tax Court, contending the regulation on which the deficiencies were based exceeded the scope of the authorizing statute, I.R.C. § 58(h).*fn3 The Tax Court sustained the regulation, E.I. Du Pont De Nemours & Co. v. Commissioner, 102 T.C. 1 (T.C. 1994), and taxpayers appealed.*fn4 We will affirm.
In 1969, Congress enacted I.R.C. § 56(a) out of concern over the use of tax deductions and exemptions that enabled some high-income taxpayers to pay little or no income tax.*fn5 Section 56(a) imposed a minimum tax, apart from the regular income tax, on certain deductions and exemptions designated as "items of tax preference."*fn6 During the years relevant to this case, the statute levied a minimum tax of 15% of the amount by which the taxpayer's preferences exceeded its regular tax deduction*fn7 or $10,000, whichever was greater.
In some situations, however, tax preferences did not result in a current tax benefit for the taxpayer. For example, a taxpayer's tax liability could be completely offset by income tax credits, which were not designated as preferences. Yet, even in those cases in which tax preferences did not result in an actual benefit, such as when a taxpayer had enough tax credits to reduce its tax liability to zero, the minimum tax still was imposed. See Occidental Petroleum Corp. v. United States, 231 Ct. Cl. 334, 685 F.2d 1346 (Cl. Ct. 1982) (Occidental I).
To remedy this perceived unfairness, Congress enacted a new provision, I.R.C. § 58(h), in the Tax Reform Act of 1976, Pub. L. No. 94-455, § 301(d)(3), 90 Stat. 1520, 1553 (1976).*fn8 I.R.C. § 58(h) provided:
Regulations to include tax benefit rule
The Secretary shall prescribe regulations under which items of tax preference shall be properly adjusted where the tax treatment giving rise to such items will not result in the reduction of the taxpayer's tax under this subtitle for any taxable years.
Despite the express statutory directive, the Department of the Treasury failed to propose implementing regulations for thirteen years.*fn9 In the meantime, Congress repealed § 58(h) in 1986 and adopted an alternative minimum tax,*fn10 although it later noted that § 58(h) would continue to apply to tax years preceding the 1986 statutory change.*fn11
In 1989, the Treasury Department issued a temporary regulation to implement § 58(h).*fn12 Three years later, the department promulgated a final version of the regulation, 26 C.F.R. § 1.58-9, applicable only to preferences arising in taxable years from 1977 to 1986, when the statute was in effect. Id. § 1.58-9(b). Under the regulation, as specified by § 58(h), a taxpayer is not liable for the minimum tax on its preferences when they result in no current tax benefit, such as when the taxpayer has sufficient credits to offset tax liability for the year without deducting any available preferences.
Operation of the statute and regulation, however, results in an unavoidable secondary effect. When tax credits exceed regular tax liability for a year, the taxpayer is deemed to have received no current tax benefit and no minimum tax is imposed. Yet, the taxpayer still calculates regular tax liability by deducting its preferences. Because the resulting regular tax liability is lower than it otherwise would be without the inclusion of the preferences, fewer credits are necessary to offset the taxpayer's tax liability for the year. Because tax credits may be carried over from year to year, the need for fewer tax credits to offset tax liability in one year "frees up" additional credits for use in other years.
If the taxpayer does not use those "freed-up" tax credits to reduce regular tax liability in any year, then it never benefits from the preferences; thus, no minimum tax may be imposed. See Occidental Petroleum Corp. v. Commissioner, 82 T.C. 819 (T.C. 1984) (Occidental II). If the taxpayer later uses those freed-up credits, however, then it has benefitted from the preferences and must pay the minimum tax. Treas. Reg. § 1.58-9. ...