Rev. Rul. 73-220

Advice has been requested as to the Federal income tax treatment of interest on savings deposit certificates issued by a savings and loan association under the circumstances described below.

In 1968 the taxpayer, a savings and loan association, issued certificates of deposit for terms of three, four, or five years with interest accruing from the date of deposit and continuing to the conclusion of the term at a rate of not less than 51/4 percent compounded daily but payable at the conclusion of the term. No withdrawal of principal or interest is permitted prior to the conclusion of the original term or any renewal period, except in the case of emergency if it is determined that withdrawal is necessary to prevent great hardship to a certificate holder. In such case, the taxpayer may, in its discretion, permit withdrawal of the entire deposit but, in such event, all accrued and unpaid interest is forfeited by the certificate holder.

The certificates are automatically renewed at the conclusion of the original term or any renewal period for successive periods of three, four, or five years unless presented for withdrawal not later than ten days after the conclusion of the original term or any renewal period. The taxpayer reserves the right not to renew such certificates by giving written notice to the depositor at least ten days prior to the conclusion of the original term or any renewal period.

Section 1.591-1(b) of the Income Tax Regulations provides, in pertinent part, that if a savings and loan association maintains a bonus plan, or issues shares, or accepts deposits, subject to fines, penalties, forfeitures, or other withdrawal fees, it may deduct under section 591 of the Internal Revenue Code of 1954 the total amount credited as dividends or interest upon such shares or deposits, notwithstanding that as a customary condition of withdrawal such association has the right, pursuant to by-law, contract, or otherwise, to retain or recover a portion of the total amount invested in, or credited as earnings upon, such shares or deposits, or such bonus account, as a fine, penalty, forfeiture, or other withdrawal fee. In any taxable year in which such right is exercised, there is includible in the gross income of the association for such taxable year amounts retained or recovered by it pursuant to the exercise of such right.

Section 1.451-2(a) of the regulations provides, in pertinent part, that income although not actually reduced to a depositor's possession is constructively received by him in the taxable year during which it is credited to his account, set apart for him, or otherwise made available so that he may draw upon it at any time, or so that he could have drawn upon it during the taxable year if notice of intention to withdraw had been given. However, income is not constructively received if the depositor's control of its receipt is subject to substantial limitations or restrictions.

Rev. Rul. 66-45, 1966-1 C.B. 95, points out that the phrase "or otherwise made available" was added to section 1.451-2 of the regulations to make it clear that it is the right of withdrawal during the taxable year, rather than the formal setting apart or crediting of income, that causes such income to be constructively received.

It is held that the interest credited with respect to the savings deposit certificates is deductible by the taxpayer in the taxable year credited. If a certificate holder withdraws the entire deposit as a result of the "emergency provision," the taxpayer must include in its gross income for that taxable year the entire amount of interest previously credited and deducted for Federal income tax purposes with respect to the certificate.

It is further held that since the certificate holder is precluded from withdrawing from his account except in the case of emergency and then only by forfeiting all accrued and unpaid interest, the interest credited by the taxpayer with respect to the certificate is not includible in the certificate holder's gross income until the taxable year in which the original term of the certificate has been concluded. At that time, even if the certificate holder does not exercise his option to withdraw, he will be considered to have constructively received the entire amount of interest accrued during the original term. Any renewal of the original term of a certificate will be treated as a new certificate as far as the Federal income tax treatment of the interest earned thereon is concerned.

For deposits made after December 31, 1970, with respect to certificates of deposit (irrespective of term) and other deposit arrangements issued with original issue discount, section 1.163-4 of the regulations (with respect to interest deductions by organizations described in section 591 of the Code) provides that the amount of such discount is deductible as interest and shall be prorated over the life of the obligation. Further, section 1232(a)(3)(A) of the Code as amended by section 413(a) of the Tax Reform Act of 1969 and sections 1.1232-1(d) and 1.1232-3A(e) of the regulations require the holder of any certificate of deposit or other deposit arrangement issued with original issue discount to include in his gross income the ratable monthly portion of the original issue discount with respect to any deposits made after December 31, 1970. Section 1.1232-3A(b)(2) of the regulations further provides that this ratable inclusion of original issue discount in gross income applies only to obligations with terms of over one year. Any renewal after December 31, 1970, of the original term of a certificate will be treated as a deposit made after such date with respect to such certificate.

Rev. Rul. 69-638, 1969-2 C.B. 139, which holds similarly, but without designation as to taxable years of applicability, is hereby superseded.

See Rev. Rul. 73-221, this page, with respect to the treatment of interest on unmatured short-term savings certificates (relating to deposits made before January 1, 1971 and having terms of one year or less).