Rev. Rul. 70-539

Advice has been requested whether, under the circumstances described below, a taxpayer has made a binding election under the provisions of section 266 of the Internal Revenue Code of 1954, with regard to the capitalization of certain expense items.

The taxpayer, a domestic corporation organized in 1966 and engaged in the business of developing real estate, capitalized interest, taxes, and other carrying charges by including them in the tax basis of the property sold for the taxable years 1966, 1967, and 1968. In 1969 the taxpayer filed a claim for refund along with amended returns for 1966, 1967, and 1968. On the amended returns the taxpayer deducted as current operating expenses the interest, taxes, and other carrying charges which it had charged to the basis of property sold on the original returns and recomputed the gain or loss on the sales accordingly.

The specific question in the instant case is whether the taxpayer made a valid and binding election to capitalize interest, taxes, and other carrying charges by including such amounts in the cost of its property when filing its original Federal income tax returns for 1966, 1967, and 1968.

Section 266 of the Code provides that no deduction shall be allowed for amounts paid or accrued for such taxes and carrying charges as under regulations are chargeable to capital account with respect to property, if the taxpayer elects, in accordance with such regulations, to treat such taxes or charges as so chargeable.

Section 1.266-1(c)(3) of the Income Tax Regulations provides, in part, that if the taxpayer elects to capitalize an item or items under section 266 of the Code, such election shall be exercised by filing with the original return for the taxable year for which the election is made a statement indicating the item or items (whether with respect to the same project or to different projects) which the taxpayer elects to treat as chargeable to capital account.

The facts in the instant case are distinguishable from Kentucky Utilities Company v. Glenn, et al. 394 F. 2d 631 (1968), which holds that although Kentucky Utilities Company did not file formal statements with its returns for the years 1947 through 1953, electing to capitalize rather than deduct social security taxes, it was clear that up to 1951 it treated social security taxes on the tax return which it filed as if it had elected to capitalize such expense. Accordingly, this amounted to a sufficient election to capitalize to preclude a subsequent election of a deduction for such taxes in amended returns. In the Kentucky Utilities Company case the taxpayer attached a schedule to its "original" returns indicating that social security taxes on unfinished construction had been capitalized. Further, a statement was attached to the "original" returns indicating that the taxpayer had "elected" to deduct ad valorem taxes on unfinished construction as a current expense, making specific reference to the predecessor of section 266 of the Code (section 24(a)(7) of the Internal Revenue Code of 1939, substantially unchanged) rather than to capitalize such taxes as had been done with the social security taxes.

The taxpayer in the instant case did not file a statement with its original returns for the years 1966, 1967, and 1968 identifying the item or items it elected to treat as chargeable to capital account.

Accordingly, the taxpayer in the instant case did not make a valid and binding election under the provisions of section 266 of the Code to capitalize the items in question when it filed its original Federal income tax returns for 1966, 1967, and 1968. Therefore, such items are deductible on the taxpayer's amended returns for those years and he must recompute the basis of the property sold and take into account the revised gains or losses on such properties.