January 2002

Supreme Court Addresses Consolidated Product Liability Losses

By By Ricky S. Propper, CPA, American Express Tax and Business Services, Inc.

The Supreme Court heard its first consolidated tax return case since 1934 in United Dominion Industries, Inc. v. United States [87 AFTR 2d 2001-2377 (June 4, 2001)]. The Court considered whether an affiliated group of corporations filing a consolidated tax return must calculate product liability losses (PLL) subject to a 10-year carryback provision on a consolidated basis, or on a separate company basis. Although the issue of whether the members of an affiliated group filing a consolidated return should be treated as separate members or as one single entity is not new, this was the first Supreme Court case to address it.

The Case

A net operating loss attributable to certain product liability expenses (PLE) under IRC section 172 is allowed a special 10-year carryback period instead of the normal two years. United Dominion had consolidated net operating losses (CNOL) that exceeded the aggregate of its 26 individual members’ PLEs for the consolidated tax years 1983 through 1986. At issue were the PLEs of five consolidated group members that reported separate taxable incomes for all the relevant tax years.

Following the single entity approach, United Dominion computed its consolidated PLL each year by adding its individual members’ PLEs. Because the CNOL exceeded the aggregate PLEs of its member companies each tax year, the taxpayer treated the total PLEs as a consolidated PLL subject to the 10-year carryback. The IRS applied the separate member approach, thereby denying United Dominion the ability to use the PLEs incurred by members with positive separate taxable income toward the consolidated PLL subject to the 10-year carryback. In April 2000, the Fourth Circuit Court, reversing the Tax Court, ruled that a member with PLEs must have a separate taxable loss; this conflicted with Sixth Circuit Court’s adoption of the single entity approach a few weeks later in Intermet Corp. and Subsidiaries (209 F.3d 201).

Faced with this conflict in the circuit courts, the Supreme Court chose to resolve the issue of how to apply the IRC requirement that a PLL cannot exceed a taxpayer’s NOL. Neither the IRC nor the regulations explain how a consolidated group should compute its consolidated PLL. In adopting the single entity approach, the Supreme Court noted that there is only one definition of NOL for a group filing a consolidated tax return: consolidated NOL. The Court further articulated the CNOL concept as follows:

There is no definition of separate NOL for a member of an affiliated group. Indeed, the fact that Treasury Regulations do provide a measure of separate NOL in a different context, for an affiliated corporation as to any year in which it filed a separate return … underscores the absence of such a measure for an affiliated corporation filing as a group member. Given this apparently exclusive definition of NOL as CNOL in the instance of affiliated entities with a consolidated return … we think it is fair to say, as United Dominion says, that the concept of separate NOL simply does not exist.

The Court was impressed by the fact that the single entity approach is relatively easy to understand and apply. Furthermore, the Justices were not persuaded that the consolidated tax regulations did not address the computation of PLEs on a consolidated basis, because the regulations do provide for several other items. The Court opined: “The Treasury’s relaxed approach to amending its regulations to track Code changes is well documented.” Finally, the Court stated that the government is free to amend its regulations to provide for a different result.

Refund claims should be considered for consolidated groups that had limited their PLL carrybacks under the IRS and Fourth Circuit’s separate entity approach, provided that these claims are not time-barred.


Edwin B. Morris, CPA
Rosenberg Neuwirth & Kuchner

Stephen Sacks, CPA
Ernst & Young LLP

This Month | About Us | Archives | Advertise| NYSSCPA

The CPA Journal is broadly recognized as an outstanding, technical-refereed publication aimed at public practitioners, management, educators, and other accounting professionals. It is edited by CPAs for CPAs. Our goal is to provide CPAs and other accounting professionals with the information and news to enable them to be successful accountants, managers, and executives in today's practice environments.

©2002 CPA Journal. Legal Notices

Visit the new cpajournal.com.