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Accepts Settlement Offer
IR-2004-151, Dec. 16, 2004
WASHINGTON — The Internal Revenue Service announced today that it has
successfully resolved a pending dispute with Hercules Incorporated, over a
listed tax shelter transaction. This transaction, known as a contingent liability
transaction, is at issue in a case pending in the United States Tax Court.
In Notice 2001-17, the Service listed the contingent liability transaction,
and set forth the IRS’s position that the strategy failed to comply with
statutory requirements and lacked economic substance or effect. The contingent
liability transaction was designed to shelter capital gains. In a typical contingent
liability transaction, a taxpayer that has or anticipates a substantial capital
gain transfers intercompany notes to a subsidiary in exchange for stock and
the subsidiary’s assumption of a contingent liability. The taxpayer claims
that the basis in the stock received is equal to the value of the notes without
reduction for the liability transferred. When the stock is sold, often to an
accommodating party, the taxpayer claims a substantial loss that offsets unrelated
capital gains. The taxpayer also claims deductions in later years when the
liabilities are paid or incurred.
In 1999, prior to the publication of Notice 2001-17, Hercules engaged in a
contingent liability transaction and claimed a $154 million capital loss. Hercules
had received an opinion from its outside tax advisor that it was more likely
than not to prevail if the issue were challenged on audit. Following an audit
of the transaction, the IRS issued a statutory notice of deficiency in which
it disallowed the claimed capital loss and determined penalties with respect
to the transaction. In December 2003, Hercules filed a petition in the Tax
Court challenging the tax deficiencies and related penalties.
Under the terms of the settlement, Hercules has agreed to concede 100 percent
of the capital loss claimed from the stock sale, resulting in a tax liability
of approximately $30 million, and to pay a 20 percent accuracy-related penalty
of approximately $6 million. The Service has agreed not to pursue its claim
for a 40 percent penalty for a gross valuation misstatement. Hercules has further
agreed to a limited waiver of the taxpayer privacy and anti-disclosure rules
in connection with this press release.
The resolution of the dispute with Hercules is part of the IRS’s ongoing
enforcement efforts and continuing commitment to aggressively resolve tax shelter
transactions through responsible settlements, or litigation when necessary.
Notwithstanding recent lower court losses in Black & Decker and Coltec,
the Service continues to believe that the contingent liability transaction
does not comply with the tax law. It will continue to pursue cases involving
these transactions in the courts, where appropriate.
"Taxpayers should recognize that recent taxpayer victories at the trial
court level have not deterred the IRS from taking a tough stance on listed
transactions, both inside and outside of the courthouse," said IRS Chief
Counsel Don Korb. "We are pleased that this taxpayer has chosen to put
this shelter controversy behind it. The decision to accept Hercules’ settlement
offer reflects our commitment to resolving controversies involving listed transactions
without litigation — provided the ultimate goal of enforcement is not
compromised."
Related Link: Notice
2001-17 (PDF 17K)