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No 'Built-in losses' for bank bad debts

October 22, 2008

Tax planning would be easy if you could just buy tax losses, but the tax law limits the ability of corporations to buy net operating loss carryforwards from other corporations. The "Sec. 382" rules limit the annual use of losses after a corporation changes hands to the value of the corporation multiplied by the "long-term tax-exempt rate, currently 4.94%. If you buy a loss corporation for $1,000,000, you can only use its NOLs at the rate of $49,400 per year.

What if the corporation you buy is about to lose a bunch of money? Can't you buy it just before those losses occur so you can deduct them on your own return? Sec. 382 fights this by applying the NOL limits to "built-in" losses. Except right now, for banks, anyway.

Guest-posting at Marc Ward's LLC blog, Christine Holbrook points out that the IRS has ruled that built-in loss limits won't apply to bad debt deductions taken by newly acquired banks (Notice 2008-83). That means if Wells Fargo buys Wachovia and has to write off humongous bad debts, they won't have to apply the Sec. 382 limits to the bad debt deduction. While the post questions the IRS authority to do this, really, who is going to stop them? But while the IRS is clearly doing this to help smooth the way to sorting out the banking mess, it may prove an awkward precedent for them when times get better.

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