Appendix — Philip Morris Inc. v. Commissioner

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UNITED STATES COURT OF APPEALS

FOR THE SECOND CIRCUIT

At a Stated Term of the United States Court of

Appeals for the Second Circuit, held at the United States

Courthouse, Foley Square, in the City of New York, on the

8th day of December, one thousand nine hundred and ninety-

five.

PRESENT: HON. AMALYA L. KEARSE

HON. RALPH K. WINTER

HON. JOSE A. CABRANES,

Circuit Judges.

Docket no.(s): 95-4084

PHILIP MORRIS INCORPORATED,

Petitioner-Appellant,

¥.

COMMISSIONER OF INTERNAL REVENUE,

Respondent - Appelle.

Filed December 8, 1995

George Lange III, Clerk

Appeal from the United States Tax Court.

This cause came on to be heard on the transcript of

record from the United States Tax Court and was argued by

counsel.

ON CONSIDERATION WHEREOF, it is now hereby

ORDERED, ADJUDGED and DECREED that the judgment

of said Tax Court be and it hereby is affirmed in accordance

with the opinion of this Court, with costs to be taxed against

the appellant.

For the Court

GEORGE LANGE III, Clerk

By:

Arthur M. Heller

Administrative Attorney

judmnt_frm

UNITED STATES COURT OF APPEALS

FOR THE SECOND CIRCUIT

No. 508—August Term, 1995

(Argued: November 7, 1995

Decided: December 8, 1995)

Docket No. 95-4084

PHILIP Morris INC.,

Petitioner-Appellant,

alia

COMMISSIONER OF INTERNAL REVENUE,

Respondent-Appellee.

Before:

KEARSE, WINTER, and CABRANES,

Circuit Judges.

Appeal from a judgment of the United States Tax

Court determining deficiencies in appellant’s income tax.

Appellant argues that it should be permitted to consider the

repayment of certain foreign loan obligations in depreciated

currency as a "discharge of indebtedness,” rendering the net

gain from the transactions eligible for tax deferral. We

disagree and affirm.

—

JEROME B. LIBIN, Sutherland, Asbill &

Brennan, Washington, D.C. (William

S. Corey, David A. Golden, of

counsel), for Petitioner-Appellant.

CHARLES BRICKEN, United States Department

of Justice, Washington, D.C. (Assistant

Attorney General Loretta C. Argrett,

Gary R. Allen, Richard Farber, of

counsel), for Respondent-Appellee.

WINTER, Circuit Judge:

Philip Morris Inc. appeals from a Tax Court decision

(Theodore Tannenwald, Jr., Judge) rejecting its claim that

income realized from the repayment of a foreign currency

loan after the currency has depreciated qualifies as "income

by reason of the discharge of indebtedness." Under earlier

caselaw, the income in question would have been considered

as resulting from such a discharge within the meaning of

Section 108 of the Internal Revenue Code in effect for the

relevant tax years. We agree with the Tax Court that the

Supreme Court’s decision in United States v. Centennial

Savings Bank FSB, 499 U.S. 573 (1991), undermined that

caselaw. We therefore affirm.

BACKGROUND

The facts are essentially undisputed. During the

period 1980 through 1984, Philip Morris (taxpayer) borrowed

and repaid foreign currency in six separate transactions. In

four of these transactions, the taxpayer immediately converted

the borrowed funds into U.S. dollars. The proceeds from the

remaining two loans were used to purchase certain machinery

abroad. In all of the transactions the foreign currency had

declined in value against the U.S. dollar by the time of

repayment. The taxpayer thus repaid all of the loans in

foreign currency with a lower U.S. dollar value than the U.S.

dollar value of the currency when borrowed.

The specific transactions were as follows. On

November 24, 1980, the taxpayer borrowed 100 million

Swiss francs (SF) from Union Bank of Switzerland (UBS),

repayable with interest on December 1, 1987. The funds

were converted into U.S. dollars on the date they were

borrowed at a rate of US $1 per SF 1.72038, for a total of

$58,126,693. On September 1, 1983, the taxpayer prepaid

the loan principal plus accrued interest, taking advantage of

an exchange rate of US $1 per SF 2.1875.Y The dollar

value of the principal payment was thus $45,714,286.7

On December 22, 1980, the taxpayer borrowed an

additional SF 125 million from UBS, repayable with interest

on December 31, 1985. The proceeds of this loan were also

converted to U.S. dollars on the date of borrowing, at the rate

of US $1 per SF 1.81308, for a total of $68,943,455. The

taxpayer prepaid the principal and accrued interest and paid

a prepayment penalty on May 31, 1983. On that date the

The taxpayer conceded in the Tax Court that the repayments of its

Swiss franc borrowings had been calculated erroneously using the dollar

cost of the Swiss francs used for repayment instead of their dollar value

on the date of repayment. This error was reflected in its tax returns.

~ On this appeal, we consider the facts as stipulated by the parties and

reflected in the Tax Court’s decision. We have not independently verified

the stipulated figures.

exchange rate was US $1 per SF 2.1005.* The U.S. dollar

value of the principal payment was therefore $59,509,641.

The final Swiss franc borrowing occurred on

December 23, 1980. On that date, the taxpayer borrowed

SF 75 million from Swiss Bank Corporation (SBC), to be

repaid on December 23, 1985. The proceeds were converted

on the same day to U.S. dollars at a rate of US $1 per SF

1.81310, for a total of $41,365,587. On January 7, 1983, the

taxpayer prepaid the SF 75 million principal. The exchange

rate on the date of repayment was US $1 per SF 1.9340,*

giving the repayment a U.S. dollar value of approximately

$38,799,731.2

On December 1, 1981, the taxpayer financed, in

pounds sterling, 80 percent of the contract value of certain

manufacturing equipment to be purchased by the taxpayer,

with the financed amount to be repaid in 10 equal semi-

annual installments with interest. The exchange rate between

the pound sterling and the U.S. dollar on the dates the

machinery was shipped generated a dollar value for 20

percent of the financed amount (representing two semi-annual

installments) of $256,592. The taxpayer made two semi-

annual installment payments in 1983 and two in 1984, with

See supra note 1.

* See supra note 1.

= The Tax Court appears to have figured the repayment value using an

exchange rate of U.S. $1 per SF 2.0150. That was the governing rate on

December 22, 1982, when the taxpayer acquired the Swiss francs used for

repayment. The taxpayer concedes that the dollar value at repayment is

the appropriate measure. See supra note 1.

total U.S. dollar values of $215,633 and $188,410,

respectively.

On September 2, 1982, the taxpayer entered into a

similar transaction, again financing, in pounds sterling, 80

percent of the contract value of manufacturing equipment to

be purchased by taxpayer, with the financed amount to be

repaid in 10 equal semi-annual installments plus interest. On

the date of shipment, 10 percent of the financed amount was

equivalent to US $1,063,367. In 1983, the taxpayer made

one semi-annual installment payment in pounds sterling

having a U.S. dollar value of $981,144, based on the

exchange rate on the date of payment. In 1984, the taxpayer

made two semi-annual installment payments in pounds

sterling having a total U.S. dollar value of $1,759,735, also

based on the exchange rate on the dates of payment.

Finally, on February 10, 1982, a wholly owned

subsidiary of the taxpayer sold to a German bank, for

ultimate sale to the public, 150 million German deutsche

marks (DM) of 9 1/2 percent seven-year bearer bonds, which

were guaranteed by the taxpayer. The net proceeds of the

bearer bond issue amounted to DM 147,888,333 after

underwriting fees and other expenses. Those funds were

transferred from the subsidiary to the taxpayer on a discount

basis on February 16, 1982, and the taxpayer converted the

marks into $62,581,611 on the same day at an exchange rate

of US $1 per DM 2.36313. From March 12, 1984 through

May 3, 1984, the subsidiary repurchased in the market bearer

bonds with a total par value of DM 10 million, for a

purchase price of DM 10,924,825 pius accrued interest. At

the exchange rates prevailing on the dates of prepayments,

the value of DM 10 million was $3,762,505.

The taxpayer treated the foreign exchange gain from

each of these six transactions as income from "the discharge

. of indebtedness" on its federal income tax returns. It

elected to exclude those amounts from its gross income under

I.R.C. § 108 and to reduce the basis of its depreciable assets

under I.R.C. § 1017. The Commissioner disallowed the

elections and determined deficiencies in taxpayer’s income

tax for both years. After an unsuccessful petition in the Tax

Court for a redetermination of the deficiencies, the taxpayer

took the instant appeal.

DISCUSSION

In the hands of a U.S. taxpayer, foreign currency is

considered property. See Federal Nat'l Mortgage Ass’n v.

Commissioner, 100 T.C. 541, 582 (1993). When engaging in

a transaction in a foreign currency, therefore, a taxpayer

ordinarily must translate the foreign currency into U:S.

dollars for the purposes of calculating the U.S. tax

consequences of the transaction. See, e.g., Bernuth Lembcke

Co. v. Commissioner, 1 B.T.A. 1051, 1054 (1925); Rev. Rul.

78-281, 1978-2 C.B. 204. One consequence of this rule is

that a taxpayer may satisfy a foreign currency loan with the

exact sum of foreign currency stipulated and yet realize a

gain or loss when the foreign currency is translated into U.S.

dollars. The question presented on this appeal is whether a

gain from such borrowing and repayment in depreciated

foreign currency is entitled to deferral under the pre-1986

Internal Revenue Code.*

* The Tax Reform Act of 1986 provides that, for tax years beginning

after December 31, 1986, foreign currency borrowings such as those

involved in this case are governed by I.R.C. § 988, which treats foreign

(continued...)

During the tax years at issue, I.R.C. § 108 provided

in pertinent part that

[g]ross income does not include any amount

which (but for this subsection) would be

includible in gross income by reason of the

discharge (in whole or in part) of indebtedness

of the taxpayer if...

business indebtedness.

The statutory definition of "qualified business indebtedness"

includes "indebtedness . . . incurred or assumed .. . by a

corporation," I.R.C. § 108(d)(4)(A), and we assume for the

purposes of this appeal that the six loans at issue would so

qualify. The core of this dispute is whether the taxpayer’s

repayments of foreign currency loans are "discharges" within

the meaning of the statute, and, if they are, whether the

foreign exchange gain produced is by reason of "the

discharge of indebtedness."

Under the only court of appeals decision directly on

point, the foreign exchange transactions in this case would

each have been considered a discharge of indebtedness, and

the income produced would have been "by reason of" that

discharge. See Kentucky & Indiana Terminal R.R. v. United

States, 330 F.2d 520, 523 (6th Cir. 1964). In that case, the

taxpayer sold bonds denominated in pounds sterling and, after

©“ (...continued)

currency gain as ordinary income, I.R.C. § 988(a). See also Pub. L. No.

99-514, § 822(a), 100 Stat. 2373 (1986 amendment limiting Section 198

to situations in which the taxpayer is insolvent or in bankruptcy at the

time of the discharge of indebtedness).

10a

the pound had been devalued, repurchased those bonds in a

combination of dollars and pounds for less than face value.

The differential between the face value of the bonds and the

purchase price thus consisted of two elements: first, the

portion attributable to the repurchase of bonds at less than

face value and, second, the portion attributable to the decline

in the value of the pound sterling. The government urged the

Sixth Circuit to construe only the first of these elements as

income from the discharge of indebtedness under I.R.C.

§ 22(b)(9), Section 108’s predecessor. The court refused,

holding that the taxpayer would not have realized any of the

second type of gain "except for the discharge of the

indebtedness incurred." 330 F.2d at 523.

The Sixth Circuit noted that Section 22(b)(9) was a

congressional reaction to the Supreme Court’s decision in

United States v. Kirby Lumber Co., 284 U.S. 1 (1931), which

held that a taxpayer realized taxable income when it

purchased some of its outstanding bonds at a discount from

the issuing price. The court pointed out that Section 22(b)(9)

responded to the possibility that, under Kirby Lumber, a

corporation might realize a taxable gain without receiving

cash in hand to pay the resultant tax. Kentucky & Indiana,

330 F.2d at 524. The court thus held that

[tlo require the taxpayer in the instant case

to include any part of the gain realized from

the purchase of its outstanding bonds here

involved as taxable income for the year when

such bonds were acquired, would defeat the

underlying purpose of Section 22(b)(9).

Neither the language of this statute nor its

egislative history indicate a Congressional

lla

intent to exclude from the benefits of the

Statute any of the income attributable to the

discharge of taxpayer’s indebtedness, for any

reason whatsoever.

Id. The Commissioner does not dispute the taxpayer’s

assertion that, until Centennial Savings Bank, Kentucky &

Indiana was generally accepted as governing law.”

However, we agree with the Commissioner and the

Tax Court that the Supreme Court’s decision in Centennial

Savings Bank, while not expressly addressing foreign

exchange transactions or the continued viability of Kentucky

& Indiana, effectively undermined the latter decision. The

issue in Centennial Savings Bank was whether a bank could

treat funds received as penalties for customers’ early

withdrawal of certificates of deposit as "income by reason of

the discharge . . . of indebtedness" eligible for exclusion from

gross income and reduction in basis. 499 U.S. at 575. The

Supreme Court responded in the negative on the ground that

the depositors who withdrew their deposits and paid the

penalties did not discharge Centennial from any obligation of

Other decisions have relied upon Kentucky & Indiana in holding that

foreign exchange gains or losses associated with repaying an obligation

in foreign currency are not long-term capital gains or losses, but rather

are ordinary income or losses. See National-Standard Co. v. Commis-

sioner, 749 F.2d 369, 372 (6th Cir. 1984) (loss realized in paying an

obligation in foreign currency as a result of a change in exchange rates

is attributable to paying the debt); Gillin v. United States, 423 F.2d 309,

314 (Ct. Cl. 1970) ("The [currency] conversions were not independent of,

or separate from, the debt but were integral to the arrangement and

formed a necessary part of it .... [T]here was an assumption and

repayment of a debt for less than face value, resulting in ordinary gain

l2a

the debt. /d. at 579. The Court explained that "[a]s used in

§ 108, the term ‘discharge . . . of indebtedness’ conveys

forgiveness of, or release from, an obligation to repay.”

Id. at 580 (footnote omitted) (emphasis in original). To

determine whether a release of an obligation has occurred,

Centennial Savings Bank suggested scrutiny of both the end

result of the transaction and the repayment terms agreed to at

the outset of the lender-borrower relationship. /d at 581.

Because, in Centennial’s case, the prepayment penalty income

was an original term of the certificate of deposit and not the

result of the release of any legal obligation, the Supreme

Court held that the prepayment penalty did not constitute

income by reason of a discharge. Jd.

In the instant case, the Tax Court held that the

rationale of Centennial Savings Bank applied and that the

taxpayer's gains from the foreign currency transactions were

not the result of a discharge of indebtedness within the

meaning of Section 108. Philip Morris Inc. v. Commissioner,

104 T.C. 61, 73 (1995). In the Tax Court’s view, although

a satisfaction of indebtedness in depreciated currency may be

the occasion for the realization of income, the income is not

realized "by reason of the discharge . . . of indebtedness”

under Section 108 unless there is a forgiveness or release of

an obligation imposed in connection with the underlying debt.

Id.

The taxpayer argues that the Supreme Court did not

have foreign exchange transactions in mind when it decided

Centennial Savings Bank. This may be true. Indeed, the

Court’s opinion appears predicated, in part, on a desire to

avoid a tax windfall to those who are relieved of a debt in

circumstances that generate current income. Here, in

l3a

contrast, the taxpayer has taken advantage of favorable

market conditions to eliminate preexisting debt by a payment

that fulfills the terms of the original debt but is functionally

less than that debt. Unlike Centennial Savings Bank, the

facts of this case are similar to those presented in Kirby

Lumber. It therefore appears to be just the type of situation

that Congress sought to ameliorate by "“establish[ing] the

tax-deferral mechanism in § 108 so that the prospect of

immediate tax liability would not discourage businesses from

taking advantage of opportunities to repurchase or liquidate

their debts at less than face value.” Centennial Savings Bank,

499 U.S. at 582-83 (citations omitted). The legislative

history of Sections 22(b)(9) and 113(b)(3), the progenitors of

Sections 108 and 1017, provides some support for this

argument. See S. Rep. No. 1631, 77th Cong., 2d Sess. 77

(1942). Nevertheless, we are not at liberty to entertain the

taxpayer’s position in light of the Supreme Court’s clear

holding in Centennial Savings Bank that Section 108(a)

requires a forgiveness or release of an obligation of the

underlying debt to constitute the requisite discharge of

indebtedness. 499 U.S. at 583.

One final matter remains. The taxpayer argues that if,

as we have determined, the rationale of Centennial Savings

Bank governs the disposition of this case, four of the

transactions—the three Swiss franc loans and the German

mark loan—fall within the requirements of Centennial

Savings Bank because the taxpayer took affirmative action to

prepay those borrowings. We d’sagree. In each case, the

prepayment represented the fulfillment of the original

obligation to repay the amount borrowed. While the

repayment may have been accelerated and may have entailed

negotiation over the prepayment fee and other ancillary

l4a

matters, the foreign exchange gains here resulted not from the

forgiveness of an obligation to pay but from the performance

of that obligation. They thus fall outside the scope of

Section 108 as interpreted by Centennial Savings Bank.

We therefore affirm

lSa

UNITED STATES TAX COURT

Received May 22, 1995

PHILIP MORRIS INCORPORATED,

Petitioner,

Docket No. 28279-92

COMMISSIONER OF

INTERNAL REVENUE,

Respondent.

NOTICE OF APPEAL

Notice is hereby given that petitioner, Philip Morris

Incorporated, hereby appeals to the United States Court of

Appeals for the Second Circuit from that part of the decision

of this Court entered in the above-captioned proceeding on

April 7, 1995, relating to the proper treatment of certain

gains resulting from foreign currency borrowings.

May 22, 1995

Jerome B. Libin

Tax Court No. LJ0518

SUTHERLAND, ASBILL & BRENNAN

1275 Pennsylvania Avenue, N.W.

Washington, D.C. 20004-2404

(202) 383-0100

Counsel for Petitioner

l6a

UNITED STATES TAX COURT

PHILIP MORRIS INCORPORATED, )

)

Petitioner. )

)

v. \Docket No. 28279-92

COMMISSIONER OF

INTERNAL REVENUE

)

Respondent.

DECISION

Pursuant to the opinion of the Court filed January 23,

1995, and incorporating herein the facts recited in

respondent’s computation as the findings of the Court, it is

ORDERED AND DECIDED: That there are deficien-

cies in income tax due from the petitioner for the taxable

years 1982, 1983 and 1984 in the amounts of $365,554,

$8,445,426 and $1,900,758 respectively.

(Signed) THEODORE TANNENWALD JR.

Judge.

Entered: April 7, 1995

17a

Docket No. 28279-92

The parties stipulate that the foregoing decision is in

accordance with the opinion of the

Court and the

respondent’s computation, and that the Court may enter this

decision without prejudice to the night of either party to

contest the correctness of the decision entered herein.

JEROME B. LIBIN

Counsel for Petitioner

Tax Court No. LJ0518

Sutherland, Asbill & Brennan

1275 Pennsylvania Ave., N.W.

Washington, D.C. 20004-2404

(202) 383-0100

Date: April 4. 1995

STUART L. BROWN

Chief Counsel

Internal Revenue Service

LEWIS R. MANDEL

Special Trial Attorney

Tax Court No. ML0032

1600 Stewart Avenue

Suite 601

Westbury, New York 11590

(516) 832-2400

Date: April 5, 1995

18a

PHILIP MORRIS INCORPORATED, PETITIONER

V. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT

Docket No. 28279-92. Filed January 23, 1995.

P borrowed in foreign currencies which it converted

into U.S. dollars and later repaid the borrowings in the same

foreign currency which it had purchased with U.S. dollars.

P reported its gain, represented by the difference in U.S.

dollars between the value of the foreign currencies at the time

of the borrowings and the U.S. dollar cost of the currencies

used for repayment, as income from the discharge of

indebtedness and elected to exclude such income from gross

income under sec. 108, I.R.C., and reduce the basis in its

assets under sec. 1017, I.R.C. Held: P’s gain does not

constitute income by reason of the discharge of indebtedness

eligible for exclusion from gross income under sec. 108,

I.R.C. Kentucky & Ind. Terminal R.R. v. United States, 330

F.2d 520 (6th Cir. 1964), has been sapped of its vitality by

United States v. Centennial Sav. Bank FSB, 499 U.S. 573

(1991).

19a

Jerome B. Libin, William S. Corey, and David A.

Golden, for petitioner.

Lewis R. Mandel, for respondent.

OPINION

TANNENWALD, Judge: Respondent determined

deficiencies in petitioner’s Federal income taxes for the 1982,

1983, and 1984 taxable years in the amounts of $4,594,256,

$11,217,945, and $6,111,795, respectively. The parties have

settled all but one issue involving the proper treatment of

gains resulting from the use of foreign currency, the value of

which changed in relation to the U.S. dollar between the

dates of borrowings and repayments in the same currency.

All the facts have been stipulated and are so found.

The stipulation of facts and the exhibits attached thereto are

incorporated herein by this reference.

Petitioner is a corporation organized and existing

under the laws of the Commonwealth of Virginia with its

principal office in New York, New York. During the taxable

years in issue, petitioner was the common parent of a group

of affiliated corporations. At all relevant times, petitioner

used the accrual method of accounting and filed consolidated

Federal income tax returns for the taxable years before us

with the Internal Revenue Service, Holtsville, New York.

Petitioner engaged in the following six transactions:

(1) On November 24, 1980, petitioner borrowed 100

million Swiss francs (SF) from Union Bank of Switzerland

(UBS). The loan bore interest at 6/2 percent per annum and

was repayable on December 1, 1987. The proceeds were

converted into U.S. dollars on the date of borrowing, at

the rate of US$1 equals SF1.72038, for a total of

20a

$58,126,692.94. On September 1, 1983, petitioner prepaid

the principal plus accrued interest, without incurring a

prepayment penalty. On that date, the spot rate was US$1

equals SF2.1875 so that the U.S. dollar value of the principal

payment was $45,714,286. The source of the SF100 million

prepayment was: (a) SF85,229,861 acquired by petitioner on

May 31, 1983, and placed on deposit with UBS until the date

of prepayment, which amount was part of the proceeds of six

forward contracts purchased by petitioner on May 10, 1983,

at a weighted average rate of exchange of US$1 equals

SF2.03045218; (b) accrued interest income of SF981,250 on

said deposit, converted at an exchange rate of US$1 equals

SF2.1433; and (c) SF13,788,889 acquired by petitioner on

September 1, 1983, which amount was part of the proceeds

of a forward contract purchased by petitioner on August 18,

1983, at an exchange rate of US$1 equals SF2.1433.

(2) On December 22, 1980, petitioner borrowed

SF125 million from UBS. The loan bore interest at 7 percent

per annum and was repayable on December 31, 1985. The

proceeds were converted on the date of borrowing at the rate

of US$1 equals SF1.81308, for a total of $68,943,455.34.

On May 31, 1983, petitioner prepaid to UBS the principal

and accrued interest plus a prepayment penalty. On that date

the spot rate was US$1 equals SF2.1005, so that the U.S.

dollar value of the principal payment was $59,509,641. The

SF125 million was acquired on May 31, 1983, as part of the

proceeds of the SF280.6 million in aggregate forward

contracts purchased by petitioner on May 10, 1983, at a

weighted average exchange rate of US$1 equals

SF2.03045218.

2la

(3) On December 23, 1980, petitioner borrowed SF75

million from Swiss Bank Corp. (SBC). The loan bore

interest at 7 percent per annum and was repayable on

December 23, 1985. The proceeds were converted on the

date of borrowing at the rate of US$1 equals SF1.81310, for

a total of $41,365,586.86. On January 7, 1983, petitioner

prepaid the SF75 muilion principal. On that date, the spot

rate was US$1 equals SF1.9340. The source of the SF75

million was a SF100 million private placement issue by

petitioner on December 22, 1982, when the spot rate was

US$1 equals SF2.0150, so that the U.S. dollar value of the

repayment was $37,220,844.

(4) On January 13, 1982, petitioner financed, in

pounds sterling, 80 percent of the contract value of certain

rotary tobacco-cutting machines purchased by petitioner, with

the financed amount (including a 2.6-percent finance charge

equivalent) to be repaid in 10 equal semiannual installments

with interest at 8.5 percent per annum on the unpaid balance.

The pound sterling/dollar exchange rate of the 80 percent of

the contract value plus the finance charge equivalent was

US$1,282,959 and of two semiannual installments was

US$256,592. In 1983, two semiannual installments were

paid in pounds sterling having U.S. dollar value of $215,633

based on the exchange rate on the dates of payment. In

1984, two semiannual installments were paid in pounds

sterling, the U.S. dollar value of such repayment being

US$188,410.

(5) On September 28, 1982, petitioner financed, in

pounds sterling, 80 percent of the contract value of certain

cigarette manufacturing machinery to be purchased by

petitioner, with the financed amount (including a 2.6-percent

22a

finance charge equivalent) to be repaid in 10 equal

semiannual installments and interest at 11 percent per annum

on the unpaid balance. The contemporaneous pound

sterling/dollar exchange rate of the 80 percent of the contract

value plus the finance charge equivalent was US$10,633,669,

and one semiannual installment was equivalent to

US1,063,367, and of two semiannual installments was

equivalent to US$2,126,734. In 1983, petitioner made one

semiannual installment payment in pounds sterling having a

U.S. dollar value of $981,144, based on the exchange rate on

the date of payment. In 1984, petitioner made two

semiannual installment payments in pounds sterling having a

total U.S. dollar value of $1,759,735 based on the exchange

rate on the dates of payment.

(6) On February 10, 1982, a wholly owned subsidiary

of petitioner sold to a German bank, for ultimate sale to the

public, 150 million German marks (DM) of 9'4-percent,

7-year bearer bonds, which were guaranteed by petitioner.

The net proceeds of the bearer bond issue amounted to

DM147,888,333.33 after underwriting and other expenses.

The net proceeds were transferred from the subsidiary

to petitioner on a discount basis at a 10'4-percent

interest rate on February 16, 1982. Petitioner received

DM147,888,333.33 and was obligated to repay DM150

million. The net proceeds of DM147,888,333.33 were

converted by petitioner into US$62,581,611.08 on

February 16, 1982, at an exchange rate of US$1 equals

DM2.36313. From March 12 through May 3, 1984, the

subsidiary purchased in the market bearer bonds with an

aggregate par value of DM10 million, at an aggregate

purchase price of DM10,924,824.92 plus accrued interest. A

portion of the funds for the repurchase of bonds was supplied

23a

by petitioner through a series of prepayments by it

aggregating DM10 million of its intercompany indebtedness

to the subsidiary, plus accrued interest. At the exchange rates

on the dates of prepayments, the cost of DM10 million was

US$3,769,505.

In each transaction, the value of the foreign currency

had decreased in value relative to the U.S. dollar between the

date the borrowings were incurred and the date of repayment,

so that fewer dollars were necessary to acquire the foreign

currency for repayment than the U.S. dollar value of the

borrowings at the time they were created.

In its consolidated returns for 1983 and 1984,

petitioner treated its gain from the aforesaid use of foreign

currency (hereinafter referred to as exchange gain),

representing the difference between the U.S. dollar value of

the foreign currency on the date of borrowing and the dollar

cost of the currency used for repayment, as income from the

discharge of indebtedness under section 108” and reduced its

basis under section 1017 by the same amount.

In the notice of deficiency, respondent disallowed

petitioner’s elections under section 108 and treated the

amounts of gain reported by petitioner as section 61 ordinary

income and not income from discharge of indebtedness

eligible for such election.

Section 108 provides in pertinent part:

’ Unless otherwise indicated, all statutory references are to the Internal

Revenue Code in effect for the years at issue, and all Rule references are

to the Tax Court Rules of Practice and Procedure.

24a

SEC. 108(a). EXCLUSION FROM GROsS INCOME.—

(1) IN GENERAL.—Gross income does not

include any amount which (but for this

subsection) would be includible in gross

income by reason of the discharge (in whole

or in part) of indebtedness of the taxpayer if—

* * * *€* * * *

business indebtedness.

"{I]ndebtedness of the taxpayer" means any

indebtedness for which the taxpayer is liable or subject to

which the taxpayer holds property. Sec. 108(d)(1).

Indebtedness is treated as "qualified business indebtedness"

where it is incurred or assumed by a corporation which elects

to treat it as such indebtedness. Sec. 108(d)(4).4 The

amount excluded as qualified business indebtedness "shall be

applied to reduce the basis of the depreciable property of the

taxpayer", as provided by section 1017. Sec. 108(c)(1).

Thus, section 108 does not exempt income from taxation, but

defers the payment of tax.

Petitioner initially argues that: (1) For purposes of

determining their U.S. tax consequences, the borrowings must

be accounted for as if they were U.S. dollar borrowings; (2)

it satisfied its indebtedness for fewer dollars than it originally

borrowed; and (3) in this context, the classic test of income

from the discharge of indebtedness has been satisfied, and

consequently such income is eligible for exclusion from gross

» Respondent does not dispute that petitioner made a timely and proper

form of election.

25a

income under section 108 and reduction of basis under

section 1017. Petitioner further asserts that its exchange gain

should be recomputed so as to represent the difference

between the U.S. dollar value of the foreign currency on the

date of the borrowings and the U.S. dollar value of that

currency on the date or repayment. Petitioner also suggests,

without explanation or argument, that it is entitled to

recognize gain or loss on the difference between the U.S.

dollar value of the foreign currency used to repay the

borrowings at the date that currency was acquired and such

value at the time of repayment.

Respondent argues that, because the foreign currency

obligations were paid in full in the same currency, there was

no "discharge of indebtedness" within the meaning of section

108 and therefore petitioner is not entitled to exclude the

exchange gain from income under that section. Respondent

further contends that, in any event, the exchange gain was not

income from discharge of indebtedness within the meaning of

section 61(a)(12), and that we should overrule our decision

in National-Standard Co. v. Commissioner, 80 T.C. 551

(1983), affd. 749 F.2d 369 (6th Cir. 1984), and hold that the

exchange gain constituted short-term capital gain measured

by the difference between the U.S. dollar value of the foreign

currency on the date the indebtedness was incurred and the

U.S. dollar value of the foreign currency used in repayment

on the date it was acquired (not the date of repayment) and

based upon a holding period measured from the date the

foreign currency used for repayment was acquired and the

date of repayment. Respondent does not address the question

of how we should treat the difference between the U.S. dollar

value on the date of acquisition of the foreign currency and

such value of the date of repayment.

26a

Initially, we note that neither party disputes the

proposition that exchange gain arises as a result of a

transaction separate from the underlying transaction in respect

of which the foreign currency or its proceeds in U.S. dollars

were used, e.g., to acquire property. See, e.g., Church's

English Shoes, Ltd. v. Commissioner, 229 F.2d 957 (2d Cir.

1956), affg. per curiam 24 T.C. 56 (1955); FNMA vy.

Commissioner, 100 T.C. 541, 583 (1993); Levin vy.

Commissioner, 87 T.C. 698, 729 n.19 (1986), affd. 832 F.2d

403 (7th Cir. 1987); National Standard Co. v. Commissioner,

80 T.C. at 555; Willard Helburn, Inc. v. Commissioner, 20

T.C. 740 (1953), affd. 214 F.2d 815 (1st Cir. 1954); H. Conf.

Rept. 99-841 (Vol. II), 1986-3 C.B. (Vol. 4) 1, 662.% Nor

do the parties disagree that foreign currency in the hands of

a U.S. taxpayer is considered property. FNMA v. Commis-

sioner, 100 T.C. at 582.

We deal first with petitioner’s assertion that we should

treat the transactions involved herein as borrowings and

repayments in U.S. dollars. Admittedly, there is language in

the decided cases which lends support to this position. Thus,

in America-Southeast Asia Co. v. Commissioner, 26 T.C. 198

(1956), the taxpayer borrowed pounds sterling to purchase

* Under Bowers v. Kerbaugh Empire Co., 271 U.S. 170 (1926), it was

once uncertain whether borrowing, such as is involved herein, produced

taxable gain, see, e.g., B.F. Goodrich Co. v. Commissioner, 1 T.C. 1098

(1943); Coverdale v. Commissioner, a Memorandum Opinion of this

Court dated June 28, 1945, but that line of cases now holds little validity,

Vukasovich, Inc. v. Commissioner, 790 F.2d 1409 (9th Cir. 1986), affg.

in part and revg. in part T.C. Memo. 1984-611; National-Standard Co. v.

Commissioner, 80 T.C. 551, 568-569 (Tannenwald, J. dissenting) (1983),

affd, 749 F.2d 369 (6th Cir. 1984); Willard Helburn, Inc. v.

Commissioner, 20 T.C. 740 (1963), affd. 214 F.2d 815 (1st Cir. 1954);

Ravenscroft, Taxation and Foreign Currency 214 (1973).

27a

burlap, of which it was a dealer, and realized exchange gain

on the repayment of its obligation with the same amount of

pounds sterling. In the course of deciding that the gain

should be treated as ordinary income from the taxpayer’s

business of dealing in burlap and not as capital gain arising

from speculation in foreign exchange separate from that

business, we stated at 200:

The end result of petitioner’s purchase of

burlap with borrowed pounds sterling was

that it was able to purchase burlap worth

$96,013.33 and subsequently settle the debt

which it owed for $66,603.32. We are

satisfied that the resulting gain, while

measured by the difference in the value of

pounds sterling at the time they were

borrowed and the value when they were

repaid, is a gain arising directly out of

petitioner's trade or business from the

settlement of a debt incurred therein for less

than its face amount. * * * [Emphasis added. }

We think our translation of the transaction into dollars was

for the limited purpose of deciding the issue of capital gain

versus ordinary income from a trade or business. In this

connection, we note that there is no reference in our opinion

to the question whether the ordinary income constituted

income from the discharge of indebtedness that could be

excluded from gross income under the then-applicable

sections 22(b)(9) and 113(b)(3) of the Internal Revenue Code

of 1939 (the predecessors of sections 108 and 1017, involved

herein). Similar reasoning disposes of Rev. Rul. 74-122,

1974-1 C.B. 21, and Rev. Rul. 78-281, 1978-2 C.B. 204,

28a

cited by petitioner, which dealt with the measurement of

foreign currency income received for the performance of

services and the purchase price of property acquired with

foreign currency.

In Gillin v. United States, 191 Ct. Cl. 172, 423 F.2d

309 (1970), the taxpayer borrowed Canadian dollars which he

immediately converted into U.S. dollars for the payment of

personal expenses and investments. He repaid these

borrowings in the same amount of Canadian dollars which he

had purchased with U.S. dollars at the time or repayment. In

the interval between the borrowing and the repayment, the

Canadian dollar had depreciated in value vis-a-vis the U.S.

dollar. The Court of Claims held that the gain should be

treated as income from the discharge of indebtedness under

section 61(a)(12) and not as capital gain. In so holding, the

Court of Claims stated at 423 F.2d 313: "In effect, the

taxpayer borrowed United states funds, and the source of his

gain was a decline in the value of the debt in terms of

American dollars, enabling him to retire it for less United

States currency than he received in incurring it." Here again,

the issue involved the characterization of the exchange gain

between two types of income for purposes of inclusion in

gross income; the issue of excludability under section 108

was not involved, presumably because the borrowings did not

meet the requirement of qualified business indebtedness.

Moreover, we note that the Court of Claims did not say there

was borrowing and repayment in U.S. dollars but merely

stated that this is in effect what happened. Our view that this

difference in expression should be accorded significant

impact is reinforced by the fact that the court’s immediately

preceding sentence referred to the proximity of the

conversions to the loan and repayment as making "clear that

29a

plaintiff's intent in borrowing the Canadian dollars was to

acquire United States money at once and that currency, in

turn, was to be used later to buy back Canadian Funds to

repay the debt, if possible at an exchange profit." /d. Thus,

we are Satisfied that the language of the Court of Claims does

not inhibit our analysis of the issue of the exclusion from

gross income under section 108.

Finally, we address National-Standard Co. v.

Commissioner, 80 T.C. 551 (1983). In that case, the taxpayer

borrowed Luxembourg francs to acquire a 50-percent stock

interest in a Luxembourg corporation. Later, the taxpayer

refinanced the loan with Belgian francs, which had the same

dollar value as Luxembourg francs. After selling the stock

in the Luxembourg corporation, the taxpayer purchased

sufficient Belgian francs, with U.S. dollars, to repay the debt.

At each step, the value of the U.S. dollar had decreased

compared to both the Luxembourg and Belgian francs. In

holding there was no sale or exchange of foreign currency,

we stated:

Likewise, when petitioner purchased francs to

repay the Societe Generale loan, the purchased

francs were transferred the same day to

Societe Generale in satisfaction of the debt.

Consequently, under the rationale of Kenan v.

Commissioner [, 114 F.2d 217 (2d Cir. 1940),]

no loss was realized.*

And yet, petitioner certainly realized an

economic loss upon the repayment of each of

the loans herein as a result of the currency

fluctuations, which loss is recognized for tax

purposes. This [exchange] loss * * * was due

30a

to the fact that the amount of the debt itself

had increased, in terms of U.S. dollars.

In short, the losses incurred herein

were the result of the repayment of an

indebtedness with more U.S. dollars than were

originally borrowed. * * *

* * * However, the amount petitioner

"realized" was not the U.S. dollar value of

francs when borrowed. Rather, it was the

extinguishment of a debt at a time that debt

had a U.S. dollar value equal to the cost of

the francs used to pay off such debt.

= This is not to say that the amount repaid

was in fact more than the face amount of the

debt. To the contrary, exactly what was owed,

was paid, to wit, BF250 million. Rather the

U.S. dollar cost of repaying that loan had

increased.

[ National-Standard Co. v. Commissioner,

80 T.C. at 563-564; emphasis added. ]

We think petitioner’s reliance on the first italicized

language is misplaced particularly since, although it quotes

the second italicized language constituting footnote 13, it fails

to discuss the impact of footnote 13. Clearly, we were

attempting to reconcile the fact that there was no loss realized

upon the actual satisfaction of the debt with the fact that

there was an economic loss from the combined transactions.

Discussion of paying the debt with more U.S. dollars was

used merely to explain there was an economic loss, despite

3la

paying back the face value of the debt. Footnote 13

specifically explains that, despite exchange loss, the face

amount of the debt was paid, thus indicating that our

discussion of U.S. dollars should not be interpreted as

applying in a different context such as is involved herein.

In view of the foregoing, we are not disposed to deem

the borrowings and repayments herein as representing only

U.S. dollar transactions and ignore the fact that they were

undertaken and implemented in accordance with their terms;

i.e., in foreign currencies. See Miller, "Foreign Currency

Transactions: A Review of Some Recent Developments", 33

Tax Law. 825, 838 (1980). But see Newman, "Tax

Consequences of Foreign Currency Transactions: A Look at

Current Law and an Analysis of the Treasury Department

Discussion Draft", 36 Tax Law. 223, 232 (1983).

In the final analysis, our disposition of the issue

before us turns upon whether we should apply Kentucky &

Ind. Terminal R.R. v. United States, 330 F.2d 520 (6th Cir.

1964) (Kentucky & Indiana), as petitioner contends, or

United States v. Centennial Sav. Bank FSB, 499 U.S. 573

(1991) (Centennial Savings), as respondent contends.

In Kentucky & Indiana, the taxpayer, in 1911, issued

bonds in pounds sterling. In 1951, it purchased 438 of these

bonds in the open market, paying for most of them in U.S.

dollars and the remainder in pounds sterling. The excess of

the face value of the bonds over the purchase price consisted

of two elements: (1) The discount between the face value of

the bonds in U.S. dollars and the acquisition price, and (2)

the difference between the 1911 and 1951 values of the

pounds sterling. The taxpayer elected to exclude such excess

from gross income and reduce its basis in its assets under

32a

sections 22(b)(9) and 113(b)(3) of the Internal Revenue Code

of 1939 (the predecessors of sections 108 and 1017).

Respondent allowed the election to the extent of the first

element of the excess but disallowed the amount represented

by the second element. The Court of Appeals for the Sixth

Circuit held for the taxpayer on the ground that the exchange

gain represented by the second element would not have been

realized "except for the discharge of the indebtedness

incurred". 330 F.2d at 523. It reasoned that the taxpayer

"would derive no funds with which to pay the tax" on such

gain and went on to state:

To require the taxpayer in the instant

case to include any part of the gain realized

from the purchase of its outstanding bonds

here involved as taxable income for the year

when such bonds were acquired, would defeat

the underlying purpose of Section 22(b)(9).

Neither the language of this statute nor its

legislative history indicate a Congressional

intent to exclude from the benefits of the

statute any of the income attributable to the

discharge of taxpayer’s indebtedness, for any

reason whatsoever. [330 F.2d at 524.]

In United States v. Centennial Sav. Bank FSB, supra,

the issue was whether a penalty for early withdrawal of time

deposits, in accordance with restrictions in the agreements

governing the deposits, constituted income from the discharge

of indebtedness eligible for exclusion and reduction in basis

under sections 108 and 1017. The Supreme Court held that

it was not so eligible on the ground that the withdrawal,

consisting of the face amount of the deposit less the penalty

33a

for early withdrawal, was in accordance with the terms of the

deposit, i.e., at the agreed face value under such

circumstances. Petitioner argues that Centennial Savings did

not involve foreign currency transactions, that the Supreme

Court made no reference to Kentucky & Ind. Terminal R_R.

v. United States, supra, or any other cases involving foreign

currency transactions, and that it held only that a payment of

a dollar indebtedness at less than its original amount in

accordance with terms of repayment (a situation that did not

exist in Kentucky & Indiana) does not give rise to income

from the discharge of indebtedness within the meaning of

section 108. Consequently, petitioner asserts that Kentucky

& Indiana retains its vitality and controls our decision herein.

Petitioner unduly narrows the scope of Centennial

Savings when it seeks to confine its impact to situations

where the amount of the repayment of an indebtedness at less

than its face value is "determinable under the express terms

of the original borrowing documentation." The Supreme

Court’s articulation of the scope of section 108 goes beyond

the factual context of that case. We think that the

articulation rests upon a broad fundamental premise, namely:

As used in §108, the term "discharge * * * of

indebtedness" conveys forgiveness of, or

release from an obligation to repay.®

* "Discharge" can be used to signify various

means of extinguishing a legal duty. See

generally Black’s Law Dictionary 463 (6th ed.

1990). Thus, a debtor might be said to

“discharge” his debt by satisfying it. But

§ 108 uses "income by reason of the discharge

34a

* * * of indebtedness" to refer to the change

in the debtor’s financial condition when the

debtor is no longer legally required to satisfy

his debt either in part or in full. "Discharge"

in this sense can occur only if the creditor

cancels or forgives a repayment obligation.

[United States v. Centennial Savings Bank

FSB, 449 U.S. at 580-581.]

In footnote 7, it concludes that "Centennial’s reliance on

§108 fails for a * * * fundamental reason—the absence of a

‘discharge’ for purposes of the statute." Jd. at 582 n.7.

Granted that Centennial Savings did not expressly

overrule Kentucky & Indiana, it cannot be gainsaid that the

rationale of the Supreme Court is inconsistent with that of the

Court of Appeals for the Sixth Circuit. We are satisfied that,

at least as far as this case is concerned, Kentucky & Indiana

has been sapped of its vitality. See Vukasovich, Inc. v.

Commissioner, 790 F.2d 1409, 1416 (9th Cir. 1986), affg. in

part and revg. in part T.C. Memo 1984-611 (where the

impact of a Supreme Court opinion is not clearly discernible,

it is up to the lower court to decide the case before it

according to its reasoned "view of the way the Supreme

Court would decide the pending case today"); see also Hicks

v. Commissioner, 47 T.C. 71, 74 (1966).* In the same vein,

we are satisfied that, if our analysis of the language of

America-Southeast Asia Co. v. Commissioner, 26 T.C. 198

*' We note that, in any event, we would not necessarily be bound by

Kentucky & Ind. Terminal R.R. v. United States, 330 F.2d 520 (6th Cir.

1964), since an appeal in this case would not lie to the Court of Appeals

for the Sixth Circuit. Golsen v. Commissioner, 54. T.C. 742 (1970),

affd., 445 F.2d 985 (10th Cir. 1971).

35a

(1956); Gillin v. United States, 191 Ct. Cl. 172, 423 F.2d 309

(1970); and National-Standard Co. v. Commissioner, 80 T.C.

551 (1983), is incorrect, Centennial Savings deprives

petitioner of any support therefrom. Moreover, the Supreme

Court concluded "that Congress did not intend to extend the

benefits of §108 beyond the setting in which a creditor agrees

to release a debtor from an obligation assumed at the outset

of the relationship." United States v. Centennial Sav. Bank

FSB, 499 U.S. at 584. This statement directly conflicts with

that of the Court of Appeals for the Sixth Circuit in Kentucky

& Ind. Terminal R.R. v. United States, supra, as to legislative

intention (see supra p. 71).

We think the teaching of Centennial Savings is clear,

namely that the discharge of an indebtedness may be the

occasion for the realization of income but, unless there is a

cancellation or forgiveness of a portion of the indebtedness

not reflected in the terms of the indebtedness, such income is

not realized "by reason of the discharge * * * of

indebtedness of the taxpayer" (emphasis added) as required

by section 108(a). See Ravenscroft, Taxation and Foreign

Currency 215-216 (1973).

The conclusion that the occasion may differ from the

reason for realization finds support in the fact that petitioner

would have had no taxable gain absent its conversion of the

proceeds of the borrowings to, and the obtaining of the

means of repayment from, U.S. dollars. If the foreign

currency had not been exchanged, and instead held in its

borrowed form, petitioner would have had a loss (albeit

unrealized) on the value of its currency in hand exactly

offsetting the economic gain (albeit unrealized) from

repayment in a devalued currency, and thus no gain or loss

36a

for tax purposes. Willard Helburn, Inc. v. Commissioner, 20

T.C. 740, 743 (1953), affd. 214 F.2d 815 (1st Cir. 1954); see

National-Standard Co. v. Commissioner, 80 T.C. at 569 n.4

(Tannenwald, J., dissenting) ("the value at the time of

borrowing and the cost of acquisition would be the same").

Petitioner has taxable gain on the occasion of the discharge

of its indebtedness but only because it exchanged the foreign

currency for U.S. dollars (the reason). -

Our interpretation of section 108 finds support in the

legislative history of section 22(b)(9) of the Internal Revenue

Code of 1939 (the predecessor of section 108). At the time

of its initial enactment, in the Revenue Act of 1939, ch. 247,

sec. 215, 53 Stat. 862, 875, the report of the House Ways and

Means Committee made clear that the purpose of the section

was to provide relief to a corporate taxpayer which acquired

its evidences of indebtedness "at less than their fact value".

H. Rept. 855, 76th Cong., Ist Sess. 7 (1939), 1939-2 C.B.

504, 507; see Colonial Sav. Association v. Commissioner, 854

F.2d 1001, 1005 (7th Cir. 1988), affg. 85 T.C. 855 (1985)

and 87 T.C. 665 (1986); see also S. Rept. 1631, 77th Cong.,

2d Sess. 77 (1942), 1942-2 C.B. 504, 564, referring to the

repurchase of a corporation’s "own bonds at a discount”;

Report of the Staff of the Joint Committee on Internal

Revenue Taxation 23 (1951), referring to a corporation which

"buys back its own bonds at less than their face value". We

are unimpressed with petitioner’s effort to find sustenance in

the fact that, in enacting section 988,” the legislative history

- For tax years beginning after Dec. 31, 1986, foreign currency

borrowings, such as are involved herein, are subject to sec. 988. The

borrowings are considered "section 988 [transactions]", sec.

(continued...)

37a

indicates that section 988 "reverses the result in the Kentucky

& Indiana Terminal Railroad case" and that business

taxpayers "rely on this decision". S. Rept. 99-313 (1986),

1986-3 C.B. (Vol. 3) 1, 435, 461; Staff of Joint Comm. on

Taxation, General Explanation of the Tax Reform Act of

1986, at 1, 1070, 1098 (J. Comm. Print 1987). Leaving aside

the impact of the later opinion of the Supreme Court in

United States v. Centennial Sav. Bank FSB, supra, on the

1986 legislative history, we think petitioner gives it too broad

a reading. There is nothing in that history to indicate that

Congress was approving public understanding or the judicial

resolution of the issue before us; Congress only said that it

was establishing a new set of rules, irrespective of the

correctness of preexisting case law.

In sum, we hold that petitioner’s exchange gain was

not "includible in gross income by reason of the discharge"

of its indebtedness within the meaning of section 108, and

therefore petitioner is not entitled to elect to exclude such

income under section 108 and reduce the basis in its assets

under section 1017. Under the circumstances of this case,

where, as far as we can determine, the amount to be included

does not depend upon its characterization as ordinary income

or short-term capital gain, we have no need to address

respondent’s argument in this respect. Discussion of

respondent’s argument would require us to revisit National-

Standard Co. v. Commissioner, supra, a path which we are

not inclined to travel under the circumstances herein. In this

connection, we note that it does not necessarily follow, as

+ (...continued)

988(c)(1)(A)i) and (B)i), and the foreign currency gain is treated as

ordinary income, sec. 988(a).

38a

respondent appears to assert, that a holding that income does

not arise "by reason of the discharge * * * of indebtedness"

(emphasis added) requires the conclusion that it is not

"income from discharge of indebtedness" under section

61(a)(12). Similarly, we find it unnecessary to consider

petitioner’s suggestion, see supra pp. 65-66, that we break

the exchange gain into two parts.®

In order to reflect our holding herein and the

disposition of the settled issues,

Decision will be entered under Rule 155.

If we are in error as to the lack of necessity to deal with these

arguments, they can be dealt with under Rule 155.

39a

STATUTORY PROVISIONS

INTERNAL REVENUE CODE OF 1939

Section 22. * * * (b) EXCLUSIONS FROM GROSS

INCOME — The following items shall not be included in

gross income and shall be exempt from taxation under this

chapter:

** *

(9) INCOME FROM DISCHARGE OF INDEBTED-

NESS — In the case of a corporation, the amount of any

income of the taxpayer attributable to the discharge, within

the taxable year, of any indebtedness of the taxpayer or for

which the taxpayer is liable evidenced by a security (as

hereinafter in this paragraph defined) if —

(A) it is established to the satisfaction of the

Commissioner, or

(B) it is certified to the Commissioner by any

Federal agency authorized to make loans on

behalf of the United States to such

corporation or by any Federal agency

authorized to exercise regulatory power

over such corporation,

that at any time of such discharge, the taxpayer was in an

unsound financial condition, and if the taxpayer makes and

files at the time of filing the return, in such manner as the

Commissioner, with the approval of the Secretary, by

regulations prescribes, its consent of the regulations

prescribed under section 113(b)(3) then in effect. In such

case, the amount of any income of the taxpayer attributable

to any unamortized premium (computed as of the first day of

the taxable year in which such discharge occurred) with

40a

respect to such indebtedness, shall not be included in gross

income and the amount of the deduction attributable to any

unamortized discount (computed as of the first day of the

taxable year in which such discharge occurred) with respect

to such indebtedness shall not be allowed as a deduction. As

used in this paragraph, the term "security" means any body,

debenture, note, or certificate, or other evidence of

indebtedness, issued by any corporation, in existence on June

1, 1939. This paragraph shall not apply to any discharge

occurring before the date of the enactment of the Revenue

Act of 1939, or in a taxable year beginning after December

31, 1942.

INTERNAL REVENUE CODE OF 1954

Section 61. (a) GENERAL DEFINITIONS. —

Except as otherwise provided in this subtitle, gross income

means all income from whatever source derived, including

(but not limited to) the following items: * * *

(12) Income from discharge of indebtedness.

Section 108. (a) EXCLUSION FROM GROSS

INCOME.

(1) In GENERAL — Gross income does not

include any amount which (but for this subsection)

would be includible in gross income by reason of the

discharge (in whole or in part) of indebtedness of the

taxpayer if —

(A) the discharge occurs in a title 11 case,

(B) the discharge occurs when the tax-

payer is insolvent, or

4la

fied business indebtedness.

(2) COORDINATION OF EXCLUSIONS —

(A) Title 11 Exclusion Takes Precedence

— Subparagraphs (B) and (C) of paragraph (1)

shall noi apply to a discharge which occurs in a

title 11 case.

(B) Insolvency Exclusion Takes

Precedence Over Qualified Business Exclusion —

Subparagraph (C) of paragraph (1) shall not

apply to a discharge to the extent that the

taxpayer is insolvent.

(3) INSOLVENCY EXCLUSION LIMITED

TO AMOUNT OF INSOLVENCY — In the case of

a discharge to which paragraph (1)(B) applies, the

amount excluded under paragraph (1)(B) shall not

exceed the amount by which the taxpayer is insolvent.

Section 1017. (a) GENERAL RULE — If —

(1) an amount is excluded from gross income

under subsection (a) of section 108 (relating to

discharge of indebtedness), and

(2) under subsection (b)(2)(D), (b)(5), or

(c)(1)(A) of section 108, any portion of such amount

is to be applied to reduce basis,

then such portion shall be applied in reduction of the basis of

any property held by the taxpayer at the beginning of the

taxable year following the taxable year in which the

discharge occurs.

42a

JUDICIARY AND JUDICIAL PROCEDURE,

28 U.S.C. (1994)

Section 1254. Courts of appeals; certiorari; certified

questions

Cases in the courts of appeals may be revised by the

Supreme Court by the following methods:

(1) By writ of certiorari granted upon the

petition of any party to any civil or

criminal case, before or after rendition of

judgment or decree.

This is a copy of a public record, reproduced as it was published. It is not legal advice, and it may not be the version a court would rely on. Check the official source before you cite it.