Refer to Chapter 10, section 10-6, INTANGIBLE ASSETS. And the posted Fitch case. (Concepts in Federal Taxation, 2021th Edition, Murphy, Higgins, Skalberg)

When you read Fitch, did you notice that whatever tangible assets (computers, furniture, etc.) were included in/with Mr. Fitchs accounting practice apparently added up to such immaterial value that the IRS didnt even try to argue that any of the purchase price paid (twice!) for that practice should be allocated to any-thing other than goodwill and other 197 intangibles???

Briefly explain exactly what a 197 intangible is and exactly how, if at all (other than by selling) a taxpayer can get cost recovery with respect to purchased in-tangibles, including goodwill.

Also explain whether and, if so, how the tax law allows a taxpayer to recover the cost of self-createdgoodwill / going-concern value.

FITCH CASE:

DONALD R. FITCH AND BRENDA T. FITCH, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent

UNITED STATES TAX COURT T.C. Memo 2012-358 December 26, 2012

Respondent determined deficiencies in petitioners' Federal income taxes for 2005, 2006, and 2007. The issue for decision as to all years is whether petitioners are en- titled to amortize the purchase price of an accounting practice.

FINDINGS OF FACT

Petitioners reside in California.

Background

On June 14, 2003, Mr. Fitch sold the CPA practice (sale transaction) for $900,000 to Mark Gronke, a CPA who worked for Mr. Fitch as an independent contractor from 1996 through 2003. They executed a sale agreement providing that the $900,000 was "due and payable in full within 1 year at the applicable federal interest rates." The agreement stated that "Mr. Fitch has incurred recent brain surgery, Mr. Fitch understands the need to transfer the business based on health issues." Petitioners reported the $900,000 as a capital gain on their 2003 tax return.

Mr. Fitch performed a small amount of work for the CPA practice after the sale to help ensure a smooth transition. On October 31, 2003, approximately 412 months af- ter the sale, Mr. Gronke suffered a seizure and was hospitalized. Five days later, on November 5, 2003, Mr. Gronke sold the CPA practice back to Mr. Fitch for $900,000. They executed another agreement (repurchase agreement) containing the same terms as the sale agreement. The repurchase agreement stated that "Mark Gronke has incurred severe medical problems... Mr. Gronke understands the need to sell the business based on his health issues."

As a result of the repurchase, petitioners claimed a $900,000 cost basis in the CPA practice and an amortization deduction of $45,000 for each of the three years here in issue. Respondent audited petitioners' returns and disallowed the amortization.

OPINION

A taxpayer is entitled to an amortization deduction with respect to any section 197 intangible, the amount of which is determined by amortizing the basis of the intan- gible ratably over a 15-year period beginning in the month it was acquired.

An amortizable section 197 intangible is any section 197 intangible1/ acquired by a taxpayer after August 10, 1993, and held in connection with the conduct of a trade or business. Sec. 197(c)(1). For purposes of depreciation and amortization, a tax- payer's basis in purchased property is the cost, including any valid liabilities incurred in acquiring the property. Petitioners claimed a $900,000 cost basis in the CPA prac- tice as a result of the repurchase, and they claimed amortization of $45,000 in each

year on their tax return.2/ Respondent argues that "the alleged sales agreements petitioners submitted are untrustworthy and the alleged sales did not take place".

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1/ Sec. 197 intangibles include, inter alia, goodwill, going concern value, business books and records, trade names, and covenants not to compete entered into in connection with the ac- quisition of an interest in a trade or business. Sec. 197(d).

2/ It appears that petitioners miscalculated their amortization. Under sec. 197, petitioners' $900,000 basis is ratably amortized over a 15-year period, which comes out to $60,000 per year. Respondent has not argued that the CPA practice consisted of any class of assets other than intangibles to which part of the $900,000 purchase price should be allocated.

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Respondent attacks the sale and repurchase agreements for their brevity, arguing that they lack "details that would certainly be present on an authentic sales contract of nearly one million dollars." However, the circumstances surrounding the sale and repurchase present a different story. Mr. Fitch was recovering from an aneurysm at the time he sold the CPA practice to Mr. Gronke. They had a working relationship dating back to 1996, and they understood the need to effect a quick sale on account of Mr. Fitch's medical condition. They put the basic elements of their agreement into writing and left the details for later. Likewise, when Mr. Gronke suffered a seizure, they signed a similar agreement to effect a quick repurchase. We find it hard to be- lieve that a lack of details somehow suggests that the agreements were fabricated. Accordingly, we find that petitioners have proven that the sale and repurchase trans- actions actually took place.

The repurchase agreement, by its terms, effected a sale of the CPA practice from Mr. Gronke to Mr. Fitch, not an unwinding of the earlier sale. There is no evidence that Mr. Fitch and Mr. Gronke intended to abrogate, cancel, or void the sale agreement.

Respondent cites section 1.197-2(d)(2)(iii)(C), Income Tax Regs., in support of the position that "no amortization is available under I.R.C. 197 for self-created intan- gibles that are repurchased as part of a series of related transactions". Self-created intangibles generally are not amortizable. Sec. 197(c)(2). However, an exception is provided if a taxpayer disposes of a self-created intangible and later reacquires the intangible from a seller (in whose hands the intangible is amortizable) in an unrelat- ed transaction. Sec. 1.197-2(d)(2)(iii)(C), Income Tax Regs.

Almost all of the intangibles that Mr. Fitch reacquired in the repurchase transaction were originally created by him. The issue therefore turns on whether the sale and repurchase transactions were related. We find that the transactions were impelled by separate business exigencies, namely Mr. Fitch's anuerysm and Mr. Gronke's seizure. It is hard to believe these medical conditions could have been predicted or the trans- actions necessitated by them preplanned. We find that the sale and repurchase are not related transactions, and therefore the rules generally disallowing the amortiza- tion of self-created intangibles do not apply.

Petitioners are entitled to an amortization deduction of $60,000 for each of the years.