UNWINDS do not always work - The IRS said in a field service advice in June that a US power company had to pay tax on the distribution even though the money was returned

UNWINDS do not always work - The IRS said in a field service advice in June that a US power company had to pay tax on the distribution even though the money was returned

August 01, 2001
UNWINDS do not always work.

A US power company bought a regional electric company, or REC, in the United Kingdom in the early 1990’s when Britain privatized its utilities.  In early 1997, the REC made a cash distribution to the US power company ostensibly as a return of capital.  However, 11 days later, the US power company decided to unwind the distribution and returned the cash.  Five months later, the two companies prepared a formal rescission agreement that said the REC was rescinding the distribution after it became clear the company needed the cash to pay UK windfall profits taxes.

The IRS said in a field service advice in June that the US power company had to pay tax on the distribution even though the money was returned. 

According to the IRS, the only way the US company could have avoided US tax is if it had a legal obligation to return the money.  The US power company failed to establish in this case that it had such an obligation.  The IRS said it was taxable under the “claim of right doctrine” that a company is taxed on money over which it has unfettered use even though it chooses voluntarily to give the money back.

A field service advice is a memo by the national office to an IRS agent in the field.

Keith Martin