Rev. Rul. 59-83

Advice has been requested whether banks using the reserve method of accounting for bad debts permitted by Mimeograph 6209, C.B. 1947-2, 26, for Federal income tax purposes may deduct, as an addition to such reserve, an amount less than that which would result from the method shown in paragraph 3 of that Mimeograph.

The method of computing a reasonable addition to the reserve for bad debts provided banks in paragraph 3, of Mimeograph 6209, involves a moving average experience factor for the determination of the ratio of losses to outstanding loans for taxable years beginning after December 31, 1946. Such a moving average is to be determined on a basis of 20 years of experience, including the taxable year, as representing a sufficiently long period of a bank's experience to constitute a reasonable cycle of good and bad years. The percentage so obtained, applied to loans outstanding at the close of the taxable year, determines the amount of permissible reserve in the case of a bank changing to the reserve method in such year and the minimum reserve which the taxpayer will be entitled to maintain in future years.

A bank, following a change to the reserve method of accounting for bad debts and, until it reaches the prescribed ceiling, may continue to take deductions from taxable income equal to the current moving average percentage of actual bad debts times the outstanding loans at the close of the year, or an amount sufficient to bring the reserve at the close of the year to the minimum mentioned above, whichever is greater.

The word `minimum' as used in paragraph 3 of Mimeograph 6209, was not intended to prevent a bank from deducting, as an addition to a reserve for bed debts, an amount less than that which would result from the method shown in paragraph 3, of that Mimeograph. The effect of claiming a smaller deduction currently is to postpone the date when the reserve will reach the prescribed ceiling. Nor is there any requirement that the `minimum' reserve to which a bank is entitled, be maintained. For example, in the illustration shown in paragraph 3, Mimeograph 6209, the bank could have properly added lesser amounts to the reserve in the first two years and still be in compliance with the Mimeograph.

This principle is equally applicable under Revenue Ruling 54-148, C.B. 1954-1, 60, which supplements Mimeograph 6209, for taxable years beginning after December 31, 1953.