US Government Wins Tax Shelter Case

by Glen Shapiro, LawAndTax-News.com, New York

01 May 2008

The Court of Appeals for the Fourth Circuit on Tuesday agreed with a federal district court that BB&T Corporation is barred from obtaining a tax refund of approximately USD4.5mn.

The appeals court ruled on 29th April that BB&T was not entitled to any tax deductions relating to a complex leasing transaction between that company and Sodra Cell, AB, a Swedish wood pulp manufacturer.

BB&T purportedly leased pulp manufacturing equipment from Sodra Cell and immediately leased it back to Sodra Cell. Sodra Cell never lost possession and control of the equipment.

In January 2007, a federal district court found that the lease and lease-back arrangements completely offset each other, and that the parties transferred no significant incidents of ownership. BB&T was thus denied all tax deductions it had claimed with respect to the transaction.

BB&T appealed the district court’s order. The Fourth Circuit this week agreed with the district court’s ruling, holding that the transaction was in substance “a financing arrangement, not a genuine lease and sublease”.

In closing, the Fourth Circuit referred to “Abe Lincoln’s riddle...‘How many legs does a dog have if you call a tail a leg?’... The answer is ‘four,’ because ‘calling a tail a leg does not make it one.’”

This type of leasing arrangement is commonly known as a Lease-In, Lease-Out (LILO) transaction. The government has prevailed in both of the LILO tax shelter cases that have been decided in court.

On 18th April, 2008, a federal jury in Cincinnati, Ohio, found that Fifth Third Bancorp was not entitled to a USD5.6mn refund in a similar LILO transaction.

“Taxpayers seeking to hide behind bogus paper transactions should think twice. Today, taxpayers have once again been told by a federal court that the Government may look at the substance, rather than the form, of a transaction to determine its legitimacy for tax purposes,” commented Nathan J. Hochman, Assistant Attorney General of the Justice Department’s Tax Division.

BB&T Corporation stated on 30th April that it would "not be materially affected" by the decision.

According to the company, it had previously recognized all tax and interest expenses, and paid USD1.2bn in the first quarter of 2007 to the IRS. The payment represented the total tax and interest due on all leveraged lease transactions for all open years.

However, BB&T's management has consulted with outside legal counsel and stated that it continues to believe that the company's treatment of its leveraged lease transactions was "appropriate and in compliance with applicable tax laws and regulations".

BB&T's management is considering its legal options, it revealed.

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