Surprising IRS Decision Regarding Deductibility of OREO Expenses

A Summary of IRS Memo 2013-001

By Nancy Hawes, Director, and Roger Poulin, Principal, Tax Practice
March 2013

In a recently-released IRS Advice Memorandum, the IRS concluded that in certain situations, property acquired by a bank through foreclosure or by deed in lieu of foreclosure (known as “other real estate owned” or “OREO”) is not considered property acquired for resale for purposes of Code Sec. 263A(b)(2). In other words, if a taxpayer’s fact pattern meets the generic fact pattern described in the memorandum, the bank will not be viewed as holding the foreclosed property as inventory, but instead “as an extension of the primary activity of originating loans.”

This new interpretation is both significant and favorable, because it will accelerate the deduction of expenditures.  Recently, the IRS has been aggressively asserting that OREO property is inventory.  When categorized as inventory, certain maintenance expenses related to OREO property are not immediately deductible.  Instead, the costs must be capitalized as part of the property, to be recovered as deductions only when the property is sold. By allowing OREO property to be categorized as other than inventory, the IRS concedes these expenses may be deductible when incurred. 

If you have any questions regarding IRS Advice Memorandum 2013-001 and how it may impact you, please contact Nancy Hawes or Roger Poulin.

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