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United States: Tax Court Rules That Payments By Tobacco Distributor To Tobacco Master Settlement Agreement Qualified Settlement Fund Not Deductible Until Paid
In Suriel v. Comm'r, 141 T.C. No. 16 (Dec. 4,
2013), the Tax Court ruled that, under the specific facts in this
case, the economic performance rules under IRC Section 461(h),
permitting a tax deduction for certain liabilities when a liability
is fixed and before the liability is actually paid, did not trump
the qualified settlement fund economic performance rules under
Treas. Reg. section 1.468B-3(c)(1), which require actual payment to
occur in order to claim a tax deduction.
In Suriel, the taxpayer, a distributor, but not a
manufacturer, of tobacco products in the US, made payments to the
qualified settlement fund established under the Tobacco
Master Settlement Agreement, which provides liability protection
for manufacturers of tobacco products. The settlement
resolved claims by 46 states, DC, Puerto Rico and 4 US territories
which had commenced or were expected to commence litigation in
order to assert claims for monetary, equitable, and injunctive
relief against tobacco product manufacturers under consumer
protection and antitrust laws. Although the taxpayer
was not a manufacturer of tobacco products, the taxpayer was able
to join in the settlement under a special provision provided for
distributors of tobacco products. The taxpayer joined in the
Tobacco Master Settlement Agreement in order to ease its ability to
sell cigarettes it purchased from Protabaco, a Columbian cigarette
manufacturer, which was not a party to the Tobacco Master
Settlement Agreement. The taxpayer took a tax deduction
for the amount it owed, but had not paid, to the qualified
settlement fund. The taxpayer argued that it was not liable
to make payments to the qualified settlement fund, but rather that
it had assumed a liability of Protabaco, who was a manufacturer of
tobacco products, and therefore the year of deduction was
determined pursuant to the economic performance rules under IRC
Section 461(h).
The Tax Court determined that, under the terms of the operative
documents, the taxpayer obligated itself as if it were a
manufacturer of tobacco products and therefore, the taxpayer was
paying its own liability to the qualified settlement fund, not a
liability it had assumed on behalf of Protabaco, because Protabaco
had chosen not to enter into the Tobacco Master Settlement
Agreement. As a result, there was no Protabaco liability for
the taxpayer to assume. Rather, the liability to make
payments to the qualified settlement fund was binding on the
taxpayer and was not a result of the taxpayer's obligations to
Protabaco in exchange for cigarettes. Accordingly, the
economic performance rules under IRC Section 468B requiring payment
in order to claim a tax deduction determined the year of the
deduction. The court also held that the qualified settlement
fund rules control the timing of economic performance for all
obligations to a qualified settlement fund, including interest
payments.
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