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Thursday, January 4, 2007

Government Wins Summary Judgment in First "LILO" Tax Shelter Case

The U.S. District Court awarded the Government summary judgment today in the first "LILO" tax shelter case:  BB&T Corp. v. United States, No. 1:04CV00941 (M.D. NC 1/4/06):

Plaintiff BB&T Corporation (“BB&T”) seeks to recover funds allegedly overpaid when the IRS disallowed certain tax deductions associated with BB&T’s participation in a Lease-In/Lease-Out (“LILO”) transaction (the “Transaction”) with Sodra Cell AB (“Sodra”), a Swedish company. ...

The parties have not cited, nor has the Court located, any decisions discussing income tax deductions associated with LILO transactions. Thus, the propriety of BB&T’s deductions associated with the Transaction is an issue of first impression. ...

BB&T did not acquire a current leasehold interest in the Equipment. When the substance of the Transaction, and not its form, is considered, BB&T acquired only a future interest in the right to use and possess the Equipment. Moreover, when the reciprocal and offsetting obligations of the Transaction are disregarded, it becomes clear that BB&T paid transaction costs and invested in government securities purchased through the Equity PUA. As such, BB&T was not entitled to deduct rent and other transaction costs on its 1997 income taxes. The Government’s Motion for Summary Judgment on the propriety of the rent and expense deductions is GRANTED. ...

Section 163(a) was intended to create a deduction for interest paid or accrued on indebtedness. Here, the purported loan from HBU to BB&T does not constitute genuine indebtedness. Despite the form of the Loan and Security Agreement, in substance, BB&T was not required to make any payments to HBU. Rather, the debt service payments were made from the proceeds of the loan itself. BB&T has not established that it was entitled to an interest deduction pursuant to section 163(a). The Government’s Motion for Summary Judgment on the interest deductions is GRANTED.

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