Deduction of Contested Liabilities: The Validity of Certain Treasury Regulations under Internal Revenue Code Section 461(f)
Poirier & McLane Corp. v. Commissioner, 63 T.C. 570 (1975), rev'd, 547 F.2d 161 (2d Cir. 1976), cert. denied, 431 U.S. 967 (1977).
For some time accrual method taxpayers have been permitted, in certain circumstances, to currently deduct amounts of liabilities asserted against them but not yet precisely determined through litigation or settlement. In what circumstances these deductions should be permitted has consistently confounded courts and legal writers concerned with the fair administration of the federal tax laws. This confusion was compounded when the Supreme Court denied certiorari in the case of Poirier & McLane Corp. v. Commissioner.
Under an early Supreme Court rule all such deductions had to meet the "all events" test before they could be allowed to offset taxable income. This meant that until the fact and amount of the liability had been definitively established, no such deduction would be allowed. Contested liabilities generally could not meet this test until litigation was concluded or final settlement had been made. The Court of Claims adopted a rule which distinguished certain fact situations and exempted them from the Supreme Court rule. If the contested liability was paid by the party, then a deduction could be taken even though neither the fact nor the precise amount of the liability had been determined. This became known as the Chestnut Rule and was subsequently accepted by the Treasury Department.
When the Chestnut Rule reached the Supreme Court, it was denied application and the "all events" test was reaffirmed. Congress responded to this by expressly overruling the Supreme Court case and effectively reinstating the Chestnut Rule by enacting Internal Revenue Code section 461(f).
Reid, Thomas G.
"Deduction of Contested Liabilities: The Validity of Certain Treasury Regulations under Internal Revenue Code Section 461(f),"
University of Dayton Law Review: Vol. 3:
2, Article 12.
Available at: https://ecommons.udayton.edu/udlr/vol3/iss2/12