The time limits for filing amended tax returns can present a number of difficult questions. This is particularly true when tax attributes, such as foreign tax credits and net operating loss deductions, are carried back to prior years.
The carryback to one prior year can result in carrybacks to one or more years prior to that. Each carryback is generally reported on amended tax returns for each carryback year. This can raise the question as to whether the amended tax returns for each year are timely filed.
The court addressed this multi-year carryback fact pattern in Trusted Media Brands, Inc. v. United States, No. 15-CV-9872 (S.D.N.Y. 2017).
The Facts & Procedural History
The taxpayer reported a foreign tax credit on its 2002 tax return. The 2002 tax return also reported a $60 million net operating loss. The taxpayer elected to carry the loss back to 1997. In 2011, the taxpayer filed an amended tax return to elect to deduct the foreign taxes it paid rather than take credit for the foreign taxes. This increased the net operating loss in 2002 by $14 million.
The taxpayer filed an amended return for the 1997 tax year to report the increase in its 2002 net operating loss. This also impacted the allowable foreign tax credits in 1997, which could then be carried back to 1995.
The taxpayer filed an amended tax return for 1995 to carry back $2 million in foreign tax credits from 1997.
The dispute related to the 1995, 1997, and 2002 amended tax returns. The question for the court was whether the amended tax returns were timely filed.
The Tax Refund Limitation Rules
There is a limit on the time for filing refund claims.
As noted by the court, there is a 10-year statute of limitations for filing refund claims for foreign tax credit carrybacks and there is a 3-year statute for net operating loss carrybacks. The 3-year statute is 3 years from the year giving rise to the loss. If the 10-year statute applied, the taxpayer’s 1995 refunds could have apparently been timely filed. If the 3-year statute applied, the taxpayer’s 1995 refund would not have been timely filed.
The Amended Return for the 2002 Tax Year
The taxpayer filed an amended tax return for the 2002 tax year to elect to deduct rather than take a credit for foreign taxes paid in 2002.
As a side note, you might wonder why a taxpayer would make this change years after the fact. It is not clear in this case, but this may have been done for one of two reasons. Either (1) the taxpayer had an IRS audit in 2002 or later that it thought the IRS would adjust its foreign tax credits but the audit closed with the IRS not making the adjustment or (2) the taxpayer realized that it might get a state income tax benefit with no loss in Federal income taxes by deducting foreign tax credits rather than taking credit for them.
Setting the “why” aside and getting back to the case, the IRS argued that the 10-year statute did not apply for the 2002 tax year because there was no foreign tax credit carryback.
The taxpayer countered by arguing that the 10-year statute applies if the foreign tax credit carryback is “allowed.” The taxpayer noted that the foreign tax credit carryback was allowed, the taxpayer just chose to forego the foreign tax credit and carryback in favor of a foreign tax deduction.
The IRS argued that “allowed” connotes “something that is actually granted, not just allowable in theory.”
The court did not agree with the taxpayer. It noted that there is a difference between “allowed” and “allowable.” The statue uses the word “allowed.” What the taxpayer was arguing was that the foreign tax credit carryback was “allowable,” even though it was not actually “allowed.” This isn’t a novel concept. This notion comes up in a few other places in our tax laws, such as depreciation that is “allowable” even if not actually taken.
The Amended Return for the 1995 Tax Year
Because the court concluded that the 2002 tax return was not timely filed, it did not have to address the 1995 and 1997 amended returns that flowed from the change to the 2002 amended return. The court did go on to address the 1995 amended return, however.
The question was whether the 1995 refund was “attributable to” the foreign taxes paid in 2002 or to the 1997 foreign tax credit carryback.
The parties agreed that “attributable to means “due to, caused by, or generated by.”
The taxpayer argued that the 1995 refund was “attributable to” the foreign taxes paid in 2002. It noted that the 1995 refund could be traced to the foreign taxes paid in 2002.
The IRS did not agree with this “tracing” argument. Instead, it argued that the court should look to the “immediate cause.” And according to the IRS, the immediate case for the 1995 amended return was the 1997 amended return, not the payment of foreign taxes in 2002.
The court agreed with the IRS. It adopted the IRS’s reasoning that it would not look through the 1997 carryback, which resulted from the payment of foreign taxes in 2002, to see that the 1997 carryback resulted from the payment of foreign taxes in 2002.
Because the court concluded that the 1995 refund was “attributable to” the 1997 foreign tax credit carryback and not the payment of foreign taxes, the 1995 refund claim was not timely.