Rev. Proc. 83-91

SECTION 1. PURPOSE

The purpose of this revenue procedure is to modify Section 3.09 of Rev. Proc. 70-20, 1970-2 C.B. 499, as a result of the United States Tax Court decision in New Mexico Bancorporation v. Commissioner, 74 T.C. 1342 (1980).

SEC. 2. BACKGROUND

(1) In the New Mexico Bancorporation case the tax court held that interest paid on repurchase agreements collateralized by obligations that were tax-exempt under section 103 of the Internal Revenue Code was deductible and not subject to disallowance under section 265(2).

(2) Section 3.09 of Rev. Proc. 70-20 provides that section 265(2) of the Code should not be deemed applicable to interest paid or accrued by banks on indebtedness which they incur in the ordinary course of their day-today business unless there are circumstances demonstrating a direct connection between the borrowing and the tax-exempt investment. For example see Rev. Rul. 67-260, 1967-2 C.B. 132. Under Rev. Proc. 70-20 it will ordinarily be inferred that a direct connection does not exist in cases involving repurchase agreements (not involving tax-exempt securities). Thus, repurchase agreements secured by tax-exempt obligations would not come within the safe harbor of Rev. Proc. 70-20 but would instead be subject to the provisions of Rev. Proc. 72-18, 1972-1 C.B. 740, and specifically the presumption created by section 3.03. This is not consistent with New Mexico Bancorporation and because the Service will follow the result in that case, section 3.09 of Rev. Proc. 70-20 is hereby modified.

SEC. 3. IMPLEMENTATION

Section 3.09 of Rev. Proc. 70-20 is modified to read as follows:

.09 In summary, section 265(2) of the Code should not be deemed applicable to interest paid or accrued by banks on indebtedness which they incur in the ordinary course of their day- to-day business unless there are circumstances demonstrating a direct connection between the borrowing and the tax exempt investment. It will ordinarily be inferred that a direct connection does not exist in cases involving the following classes of short-term bank indebtedness: bank deposits (including interbank deposits and certificates of deposit); short-term notes; short-term Euro-dollar deposits and borrowings; Federal funds transactions (and other day-to-day and short-term interbank borrowings), repurchase agreements, and borrowings, directly from the Federal Reserve to meet reserve requirements. However, even though indebtedness falls within one of these categories unusual facts and circumstances outside of the normal course of business may demonstrate a direct connection between the borrowing and the investment in tax-exempt securities. A direct connection will be deemed to exist in circumstances such as those set forth in Rev. Rul. 67-260, which holds that interest expense incurred by a bank on certificates of deposit was not deductible where the certificates of deposit were issued to a state in exchange for tax-exempt obligations having maturity dates approximately the same as the certificates of deposit. On the other hand, a direct connection will not be inferred merely because tax exempt obligations were held by the bank at the time of its incurring indebtedness in the course of its day-to-day business. See, for example, Rev. Rul. 61-222, 1961-2 C.B. 58, and Rev. Rul. 67-287, 1967-2 C.B. 133.

SEC. 4. EFFECT ON OTHER DOCUMENTS

Section 3.09 of Rev. Proc. 70-20 is modified.