INDOPCO DOES NOT AFFECT TRAINING COSTS.

Rev. Rul. 96-62

ISSUE

[1] Does the Supreme Court's decision in INDOPCO, Inc. v. Commissioner, 503 U.S. 79 (1992), affect the treatment of training costs as business expenses, which are generally deductible under section 162 of the Internal Revenue Code?

LAW AND ANALYSIS

[2] Section 162 and section 1.162-1(a) of the Income Tax Regulations allow a deduction for all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business.

[3] Section 263(a) and section 1.263(a)-1(a) provide that no deduction is allowed for any amount paid out for permanent improvements or betterments made to increase the value of any property.

[4] Through provisions such as sections 162(a), 263(a), and related sections, the Internal Revenue Code generally endeavors to match expenses with the revenues of the taxable period to which the expenses are properly attributable, thereby resulting in a more accurate calculation of net income for tax purposes. See INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992); Commissioner v. Idaho Power Co., 418 U.S. 1, 16 (1974).

[5] In INDOPCO, the Supreme Court concluded that certain legal and professional fees incurred by a target corporation to facilitate a friendly merger created significant long-term benefits for the taxpayer and, therefore, were capital expenditures. In reaching this decision, the Court specifically rejected the argument that its decision in Commissioner v. Lincoln Savings and Loan Association, 403 U.S. 345 (1971), should be read as holding "that only expenditures that create or enhance separate and distinct assets are to be capitalized under section 263." INDOPCO at 86-87 (emphasis in original).

[6] The INDOPCO decision clarifies that the creation or enhancement of a separate and distinct asset is not a prerequisite to capitalization. That clarification does not, however, change the fundamental legal principles for determining whether a particular expenditure can be deducted or must be capitalized. As the Supreme Court has specifically recognized, the "decisive distinctions [between capital and ordinary expenditures] are those of degree and not of kind . . . ." Welch v. Helvering, 290 U.S. 111, 114 (1933); Deputy v. du Pont, 308 U.S. 488, 496 (1940). Therefore, with respect to expenditures that produce benefits both in the current year and in future years, the determination of whether such expenditures must be capitalized or may be deducted requires a careful examination of all the facts. Although the mere presence of some future benefit may not warrant capitalization, a taxpayer's realization of future benefits is undeniably important in determining whether an expenditure is immediately deductible or must be capitalized. See INDOPCO at 87-88.

[7] The INDOPCO decision does not affect the treatment of training costs under section 162. Amounts paid or incurred for training, including the costs of trainers and routine updates of training materials, are generally deductible as business expenses under that section even though they may have some future benefit. INDOPCO at 87. See, e.g., Cleveland Electric Illuminating Co. v. United States, 7 Cl. Ct. 220 (1985) (deduction for costs of training employees to operate new equipment in an existing business); Rev. Rul. 58-238, 1958-1 C.B. 90, 91 (deduction for costs of training employees that relate to the regular conduct of the employer's business); see also Ithaca Industries, Inc. v. Commissioner, 97 T.C. 253, 271 (1991) (deduction for costs of training new employees to keep the assembled workforce unchanged), aff'd, 17 F.3d 684 (4th Cir.), cert. denied, 115 S. Ct. 83 (1994). Training costs must be capitalized only in the unusual circumstance where the training is intended primarily to obtain future benefits significantly beyond those traditionally associated with training provided in the ordinary course of a taxpayer's trade or business. See, e.g., Cleveland Electric, 7 Cl. Ct. at 227-29 (capitalization of costs for training employees of an electric utility to operate a new nuclear power plant, which were akin to start-up costs of a new business).

HOLDING

[8] The INDOPCO decision does not affect the treatment of training costs as business expenses, which are generally deductible under section 162.

DRAFTING INFORMATION

[9] The principal author of this revenue ruling is Barry M. Freiman of the Office of Assistant Chief Counsel (Income Tax and Accounting). For further information regarding this revenue ruling, contact Mr. Freiman on (202) 622-4950 (not a toll-free call).