NEW LETTER RULING PROCEDURE FOR ENVIRONMENTAL CLEANUP COST ISSUES
By Leonard G. Weld and Charles E. Price
evenue Procedure 98-17 (IRB 1998-5) eliminates some of the restrictions of the letter ruling process. The new procedures allow resolution of capitalization versus expense determinations for environmental cleanup costs in prior and future tax years of a cleanup project. However, these special procedures are only in effect for the two-year period beginning February 2, 1998.
In June 1994, the IRS issued Rev. Rul. 94-38 (1994-1 C.B. 35), which provides guidance regarding the deduction and capitalization of environmental cleanup costs. Many commentators believed the ruling raised more questions than it answered. The fact situation in the ruling was very specific and leaves the tax treatment of many cleanup situations unclear.
Revenue Ruling 94-38
The first question that arose was "Does this ruling apply to all types of contamination cleanup costs?" A Treasury official explained that the ruling does not apply to--
* asbestos abatement,
* underground storage tank removal,
* lead paint removal, or
* contaminated land purchased by the taxpayer.
The severe qualification of the scope of the ruling is consistent with the intention of the principal author, Merrill Feldstein. Feldstein said the omissions were deliberate because most problems have their own fact-specific patterns that should be decided on a case-by-case basis. Other issues left to be resolved on a case-by-case basis include--
* voluntary and mandated cleanups,
* taxpayers who do not own the land,
* land used in business or held as an asset, and
* costs that may be recurring rather than one-time.
Only the treatment of costs for soil remediation and groundwater treatment on the taxpayer's own previously uncontaminated land is made clear in the ruling. That is, remediation and treatment expenditures were deductible, but construction of treatment facilities were capitalizable.
The Tax Court has not helped to clarify the issue of deduction or capitalization. In a 1997 ruling (Norwest 108 T.C. 265), the court disallowed a current deduction for asbestos removal costs. However, rather than explain the operation of Rev. Rul. 94-38, INDOPCO, and the test of "restored to original state or increased value," the court simply reverted to the "plan of restoration" doctrine and required capitalization of the costs.
Revenue Procedure 98-17
Scope. The scope of the letter ruling process for environmental cleanup costs is broader than the scope allowed for other topics. Normally, the national office issues letter rulings on prospective transactions or completed transactions if the request is submitted before the return is filed for the tax year of the transaction. However, under Rev. Proc. 98-17 the letter ruling request can cover "all tax years in which the costs of the environmental cleanup project that are the subject of the request are taken into account for federal income tax purposes." The request may include years for which a return has been filed even if the return is under examination or before an appeals office.
In addition, the national office will not usually issue letter rulings in certain areas because of the factual nature of the problem involved (Rev. Proc. 98-1, IRB 1998-1, 7 Sec. 7.01). However, section 3.04 of Rev. Proc. 98-17 states that "only in rare or unusual circumstances" will the national office refuse to issue a letter ruling solely because of the factual nature of the question. Also, section 3.05 seems to indicate that, unlike other requests, environmental cleanup costs requests may include proposed alternative plans or hypothetical situations. If the IRS is given a proposed plan with sufficient facts to reach a determination, a letter ruling will be issued. If the nature of the cleanup project changes after the letter ruling is issued, the taxpayer may request that the national office modify or supplement the original ruling.
Definitions. Rev. Proc. 98-17 provides the taxpayer with definitions so that the nature of the letter ruling requests under this procedure will be appropriate.
* Environmental cleanup costs: any costs associated with the assessment, mitigation, removal, or remediation of environmental hazards, whether latent or imminent, on the taxpayer's property or the property of another.
* Environmental cleanup project: one or more related environmental cleanup activities. Examples are costs paid or incurred over several years to 1) study, remediate, and monitor soil and groundwater at a manufacturing site; 2) remove and replace asbestos in manufacturing equipment; or 3) remove underground storage tanks, treat contaminated soil and groundwater, and remove asbestos from a facility where the taxpayer intends to begin operations.
Requests. Taxpayers who are not under examination or before an appeals office must simply meet the general requirements of Rev. Proc. 98-1 when filing their letter ruling requests. Taxpayers under examination or before an appeals office must submit their request to the district or appeals office that has jurisdiction over the return. That office will forward the original request to the national office using the Request for Technical Advice form indicating that the request is made under Rev. Proc. 98-17. Rev. Proc. 98-2 (IRB 1998-1, 74) section 6 states that either the taxpayer, district director, or chief, appeals office may request technical advice; section 7 explains when technical advice should be requested. A taxpayer may not request a letter ruling under this revenue procedure if the identical issue is in the taxpayer's return for an earlier period and that issue is pending in litigation.
All requests submitted must be accompanied by a user fee. A fee schedule is found in Appendix A of Rev. Proc. 98-1. These fees vary between $250 and $3,650 depending on the nature of the request and whether the taxpayer qualifies under the reduced user fee section.
Rev. Proc. 98-1 also provides a sample format for a letter ruling request complete with the proper mailing address. The major sections of the request include: statement of facts, ruling requested (language exactly stating the outcome the taxpayer desires), statement of law, analysis, and conclusion.
Effect of the Letter Ruling. In general, the effects of a letter ruling issued under Rev. Proc. 98-17 are the same as the 10 effects found in section 12 of Rev. Proc. 98-1. In summary, a letter ruling may be relied on, subject to limitations, only by the requesting taxpayer. The letter ruling may be revoked or modified if found to be in error, but it will not normally be revoked retroactively. If there is a change in material facts or the transaction is entered into before the letter ruling is issued, the letter ruling may be retroactively revoked or modified.
The conclusion of the letter ruling will be applied prospectively to all future project years and will apply retroactively to all open years unless the IRS specifically limits the retroactive effect. As specified in section 12 of Rev. Proc. 98-1, the letter ruling will be used by the district director examining the taxpayer's returns for prior and future project years. The letter ruling will not affect any tax year subject to an existing settlement or closing agreement entered into with a district director or appeals office.
Withdrawing a Letter Ruling Request
Taxpayers not under examination or before an appeals office for any project year may withdraw a request by meeting the requirements of Rev. Proc. 98-1 section 10. That section states that, if the IRS is going to rule adversely, the taxpayer will be offered the opportunity to withdraw the request before the letter ruling is issued. If the taxpayer's representative does not promptly notify the branch representative of a decision to withdraw, the adverse letter ruling will be issued.
If the taxpayer is under examination or before an appeals office, the district director (or chief, appeals office) may not withdraw a request for a letter ruling. However, anytime before the letter ruling is signed by the national office, the taxpayer may withdraw a request if the district director (or chief, appeals office) consents. If the district director (or chief, appeals office) withholds consent, the letter ruling request will be processed as a request for technical advice under Rev. Proc. 98-2. The scope of the advice will be limited to the years under examination.
As stated earlier, a taxpayer may not request a letter ruling if the identical issue is in the taxpayer's return for an earlier period and that issue is pending in litigation. Therefore, there is no provision for withdrawals. *
Leonard G. Weld, PhD, is chair of the department of accounting and finance at the University of Texas at Tyler. Charles E. Price, PhD, CPA, is an
associate professor at the School of Accountancy, Auburn University.
Edwin B. Morris, CPA
Rosenberg, Neuwirth & Kuchner
Richard M. Barth, CPA
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