113 T.C. No. 22



                     UNITED STATES TAX COURT



UNIONBANCAL CORPORATION, F.K.A. UNION BANK, SUCCESSOR IN INTEREST
TO STANDARD CHARTERED HOLDINGS, INC. AND INCLUDABLE SUBSIDIARIES,
   Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 11364-97.                     Filed October 22, 1999.



          In 1984, P was part of a controlled group of
     corporations. On its 1984 Federal income tax return, P
     reported an $11.6 million loss resulting from P’s sale
     of a loan portfolio to its United Kingdom parent
     corporation, SC-UK. United States and United Kingdom
     competent authorities subsequently determined that the
     actual loss was $87.9 million. Pursuant to a
     settlement agreement for the 1984 taxable year, R
     allowed P to deduct $2.3 million of the loss on its
     1984 return. The remaining loss was deferred pursuant
     to sec. 267(f), I.R.C. R determined that under sec.
     1.267(f)-1T(c)(6), Temporary Income Tax Regs., 49 Fed.
     Reg. 46998 (Nov. 30, 1984), P was not entitled to
     deduct the deferred loss in 1988 when it left the
     controlled group before the loan portfolio had been
     disposed of outside the controlled group. Instead, R
     determined that under sec. 1.267(f)-1T(c)(7), Temporary
     Income Tax Regs., supra, SC-UK’s basis in the loan
                               - 2 -


     portfolio was increased by the amount of the deferred
     loss. The United Kingdom has declined to allow SC-UK a
     stepped-up basis in the loan portfolio.
          In 1995, R replaced the temporary regulations under
     sec. 267(f), I.R.C., with final regulations, effective
     prospectively. The final regulations operate to restore a
     deferred loss under sec. 267(f), I.R.C., to the seller when
     it leaves the controlled group, even if the loss property
     has not been disposed of outside the controlled group. R
     denied P’s request for elective retroactive application of
     the final regulations.
          Held: Sec. 1.267(f)-1T(c)(6), Temporary Income
     Tax Regs., supra, is valid. P is not entitled to
     deduct the $85.6 million loss deferred under sec.
     267(f), I.R.C.
          Held: Sec. 1.267(f)-1T(c)(6), Temporary Income
     Tax Regs., supra, does not violate Article 24,
     paragraph (5) of the United States-United Kingdom
     Income Tax Treaty, Dec. 31, 1975, 31 U.S.T. 5668.
          Held: R's refusal to allow P to elect retroactive
     application of the 1995 final regulations under sec.
     267, I.R.C., is permissible under sec. 7805(b), I.R.C.



     Frederick R. Chilton, Jr. and Paolo M. Dau, for petitioner.

     Cynthia K. Hustad, for respondent.



     THORNTON, Judge:   Respondent determined a deficiency in

petitioner's corporate Federal income tax for the taxable year

ending October 31, 1988, in the amount of $1,676,690.   The only

issue before the Court is whether respondent erred in refusing to

allow petitioner a deduction in the amount of $85,612,820

(representing losses previously deferred pursuant to section

267(f) and arising from petitioner’s 1984 sale of certain loans

to a member of the same controlled group) when petitioner left
                                 - 3 -


its controlled group in 1988.1    This question turns on the

validity of section 1.267(f)-1T(c)(6), Temporary Income Tax

Regs., 49 Fed. Reg. 46998 (Nov. 30, 1984), and the application of

section 7805(b).

     The parties submitted this case fully stipulated in

accordance with Rule 122.    The stipulation of facts is

incorporated herein by this reference.

                          FINDINGS OF FACT

     Petitioner is a California corporation, with its principal

office in San Francisco, California.     As described in more detail

below, in 1984 petitioner belonged to a controlled group of

corporations that included its indirect United Kingdom parent

corporation.2    In 1984, petitioner sold a loan portfolio to its

indirect United Kingdom parent corporation, realizing a loss of

$87.9 million.    Respondent determined that petitioner was

permitted to deduct $2.3 million of the losses in taxable year

1984, but pursuant to section 267(f) was required to defer

additional losses associated with the sale.    In 1988, petitioner

left the controlled group, which still held the loan portfolio.


     1
        All section references are to the Internal Revenue Code
in effect for the taxable year in issue, and all Rule references
are to the Tax Court Rules of Practice and Procedure.
     2
        Unless otherwise specified, references to petitioner
include references to petitioner’s predecessor in interest, Union
Bank.
                               - 4 -


Respondent denied petitioner’s claim for a deduction in taxable

year 1988 for the remaining amount of the loss associated with

the sale of the loan portfolio (i.e., $85.6 million).

Organizational Structure and History

     On October 31, 1988, and at all prior times relevant hereto,

Standard Chartered Holdings, Inc. (Standard Chartered) was the

sole shareholder of Union Bancorp, which in turn was the sole

shareholder of Union Bank, a U.S. corporation.   Standard

Chartered Overseas Holdings, Ltd. (SCOH), a United Kingdom

corporation, owned all of the stock in Standard Chartered.

Standard Chartered Bank (Standard Chartered-U.K.), a United

Kingdom corporation, owned all of the stock in SCOH.    Therefore,

Standard Chartered-U.K. was the indirect parent of Union Bank.

     On October 31, 1988, SCOH sold all its stock in Standard

Chartered to California First Bank, an unrelated party.     On

November 1, 1988, Standard Chartered and its subsidiaries, Union

Bancorp and Union Bank, were liquidated into California First

Bank.   California First Bank then changed its name to Union Bank.

     On April 1, 1996, BanCal Tri-State Corp., a Delaware

corporation and parent of The Bank of California, merged into

Union Bank, with Union Bank surviving.   Union Bank transferred

all the assets of its banking business to The Bank of California,

and Union Bank then changed its name to petitioner's present

name, UnionBanCal Corp.
                                - 5 -


The 1984 Sale of the Loan Portfolio

     On December 31, 1984, Union Bank sold to Standard Chartered-

U.K. loans that it had made to various foreign countries (the

loan portfolio).   The sales price was $422,985,520.   The face

value of the loan portfolio was $434,557,415.

     On October 31, 1988, when SCOH sold all its stock in

Standard Chartered to California First Bank, the loan portfolio

had not been disposed of outside of the controlled group.

Standard Chartered-U.K. transferred the loan portfolio outside of

the controlled group in 1989.

Tax Treatment of the Loan Portfolio Sale for Taxable Year 1984

     On its 1984 corporate Federal income tax return, petitioner

claimed a loss of $11,571,895 in connection with the sale of the

loan portfolio, corresponding to the difference between

petitioner’s basis in the loan portfolio ($434,557,415) and the

sales price ($422,985,520).   In 1995, in the course of

respondent’s Appeals Office review of the audit determinations

for the 1984 taxable year, petitioner filed an amended Federal

income tax return for its 1984 taxable year, claiming a revised

loss of $84,079,067 on the sale of the loan portfolio to Standard

Chartered-U.K.   Respondent denied this affirmative adjustment.

     Petitioner and respondent reached a partial appeals

settlement for taxable year 1984, under which respondent allowed

petitioner a loss deduction in 1984 in the amount of $2,314,379,
                               - 6 -


which represented 20 percent of the loss claimed on petitioner’s

original 1984 return.   Remaining losses associated with the sale

of the loan portfolio were deferred pursuant to section 267(f).3

Tax Treatment of the Loan Portfolio Deferred Loss for Taxable
Year 1988

     On its Federal income tax return for taxable year 1988,

petitioner originally claimed no deduction for any loss resulting

from the sale of the loan portfolio in 1984.    Instead, as

previously discussed, petitioner initially sought to deduct such

losses with respect to its 1984 taxable year.    The settlement of

its 1984 taxable year having resulted in an allowance for that

year of only $2,314,379 of the losses, petitioner sought an

affirmative adjustment for its 1988 taxable year, claiming that

losses deferred from the 1984 loan portfolio sale should be

restored to petitioner on October 31, 1988, when it left the

Standard Chartered controlled group.   Respondent disallowed

petitioner’s claim.

The Competent Authority Process

     For United Kingdom income tax purposes, Standard Chartered-

U.K. claimed losses with respect to the loan portfolio predicated


     3
        The appeals settlement left unresolved the value of the
loan portfolio at the time of its sale to Standard Chartered-U.K.
Accordingly, the amount of any loss deferred under sec. 267 was
not determined as part of the settlement agreement.
                                - 7 -


on the loan portfolio’s having a United Kingdom tax basis of

$422,985,520.   In examining Standard Chartered-U.K.'s tax returns

for 1984 and certain subsequent years, the United Kingdom Inland

Revenue determined that Standard Chartered-U.K.’s tax basis in

the loan portfolio was overstated and consequently that its

allowable losses therefrom should be reduced for United Kingdom

income tax purposes.

     In 1996, petitioner requested competent authority assistance

to resolve the value of the loan portfolio on December 31, 1984,

the amount of the loss realized on that date upon the sale of the

loan portfolio, and the proper treatment of the loss realized.

The United States Competent Authority and the United Kingdom

Competent Authority agreed that the value of the loan portfolio

on December 31, 1984, was $346,630,214 and that petitioner’s loss

on the sale was $87,927,200.   The competent authorities were

unable, however, to resolve the tax treatment of this loss.     The

United States would not withdraw its adjustment disallowing the

loss to petitioner.    In addition, the United Kingdom would not

allow Standard Chartered-U.K. to increase its basis in the loan

portfolio to reflect the loss disallowed petitioner for U.S.

income tax purposes.

     Petitioner has not returned to Standard Chartered-U.K. the

excess of the amount received from it for the loan portfolio over
                                     - 8 -


the value of the loan portfolio as determined under the competent

authority process.4

                                    OPINION

     Section 267(a)(1) generally disallows losses from the sale

or exchange of property between related parties, as defined in

section 267(b).       If a loss is disallowed under section 267(a)(1),

subsection (d) generally provides a corresponding reduction in

the amount of any gain the related purchaser must recognize on a

subsequent resale of the property.5


     4
        In its letter to petitioner, the United States Competent
Authority stated:

          The determination made by the competent authorities
     results in improperly lodged funds in the U.S. to the extent
     of the reduction in the transfer price (i.e., $76,355,304).
     Since * * * [petitioner] and * * * [Standard Chartered-U.K.]
     elect not to repatriate the funds, the $76,355,304 amount
     will be treated as a contribution to the capital of * * *
     [petitioner] by * * * [Standard Chartered-U.K.] during the
     1984 taxable year.
     5
         Sec. 267(a) and (d) provides in pertinent part:

     (a) In General.--

          (1) Deduction for losses disallowed.--No deduction
     shall be allowed in respect of any loss from the sale
     or exchange of property * * *, directly or indirectly,
     between persons specified in any of the paragraphs of
     subsection (b).

                  *       *     *       *     *   *     *

     (d) Amount of Gain Where Loss Previously Disallowed.--If–-

           (1) in the case of a sale or exchange of property to
                                                    (continued...)
                                  - 9 -


     Section 267(f) prescribes special rules for losses incurred

on the sale or exchange of property between related taxpayers

that are members of the same controlled group.6    Section 267(f)(2)

provides:

          (2) Deferral (rather than denial) of loss from sale or
     exchange between members.--In the case of any loss from the
     sale or exchange of property which is between members of the
     same controlled group and to which subsection (a)(1) applies
     (determined without regard to this paragraph but with regard
     to paragraph (3))--

                  (A) subsections (a)(1) and (d) shall not
             apply to such loss, but

                  (B) such loss shall be deferred until the property
             is transferred outside such controlled group and there
             would be recognition of loss under consolidated return
             principles or until such other time as may be
             prescribed in regulations.


     5
     (...continued)
     the taxpayer a loss sustained by the transferor is not
     allowable to the transferor as a deduction by reason of
     subsection (a)(1) * * *; and

              (2) * * * the taxpayer sells or otherwise disposes of
         such property * * * at a gain,

         then such gain shall be recognized only to the extent that
         it exceeds so much of such loss as is properly allocable to
         the property sold or otherwise disposed of by the taxpayer.
         * * *
         6
        For this purpose, a controlled group is determined under
the rules provided in sec. 1563(a), except that stock ownership
of more than 50 percent is substituted for the requirement in
sec. 1563 for stock ownership of at least 80 percent. See sec.
267(f)(1). It is undisputed that Standard Chartered-U.K. and
Union Bank were part of the same controlled group at the time of
the sale of the loan portfolio and immediately thereafter. Cf.
Turner Broad. Sys., Inc. & Subs. v. Commissioner, 

,
329-338 (1998).
                               - 10 -



     In November 1984, respondent promulgated 1.267(f)-1T,

Temporary Income Tax Regs., 49 Fed. Reg. 46992 (Nov. 30, 1984)

(the Temporary Regulation).   The Temporary Regulation provides

generally that consolidated return principles apply under section

267(f)(2) to the deferral and restoration of loss on the sale or

exchange of property between member corporations of a controlled

group.   See sec. 1.267(f)-1T(c)(1), Temporary Income Tax Regs.,

49 Fed. Reg. 46998 (Nov. 30, 1984).     As in effect for the years

in issue, the consolidated return rules for deferred intercompany

transactions generally defer a loss on a sale to another

controlled group member and allow for the deferred intercompany

loss to be taken into account by the selling member upon the

earliest of various specified dates.     See sec. 1.1502-

13(c)(1)(i), (f)(1), Income Tax Regs.7    One such specified date is

the date immediately preceding the time when either the selling

member or the member which owns the property ceases to be a

member of the controlled group.   See sec. 1.1502-13(f)(1)(iii),

Income Tax Regs.; see also Turner Broad. Sys., Inc. & Subs. v.

Commissioner, 

, 334-337 (1998).




     7
        Sec. 1.1502-13, Income Tax Regs., as in effect in the
taxable year at issue was repromulgated in 1995 in T.D. 8597,
1995-2 C.B. 147, which also included the 1995 final regulations
under sec. 267(f).
                                - 11 -

     The Temporary Regulation contains a number of exceptions to

this general rule.   One exception (the Loss Restoration

Exception) states as follows:

          (6) Exception to restoration rule for selling member
     that ceases to be a member. If a selling member of property
     for which loss has been deferred ceases to be a member when
     the property is still owned by another member, then, for
     purposes of this section, sec. 1.1502-13(f)(1)(iii) shall
     not apply to restore that deferred loss and that loss shall
     never be restored to the selling member. [Sec. 1.267(f)-
     1(T)(c)(6), Temporary Income Tax Regs., 49 Fed. Reg. 46998
     (Nov. 30, 1984).]

     If the Loss Restoration Exception applies, then the

Temporary Regulation provides a basis adjustment (the Basis Shift

Exception) to the purchasing member as follows:

          (7) Basis adjustment and holding period. If paragraph
     (c)(6) of this section precludes a restoration for property,
     then the following rules apply:

               (i) On the date the selling member ceases to be a
          member, the owning member's basis in the property shall
          be increased by the amount of the selling member's
          unrestored deferred loss at the time it ceased to be a
          member * * *. [Sec. 1.267(f)-1(T)(c)(7), Temporary
          Income Tax Regs., 49 Fed. Reg. 46998 (Nov. 30, 1984).]

     The Temporary Regulation remained in force until superseded

by the final regulation, section 1.267(f)-1, Income Tax Regs.

(the Final Regulation).   The Final Regulation is prospective only

and applies with respect to transactions occurring in years

beginning on or after July 12, 1995.     See T.D. 8597, 1995-2 C.B.

147, 160-161.   Under the Final Regulation, consolidated return

principles apply to restore the deferred loss to the seller when
                                - 12 -

it leaves the controlled group, even if the loss property has not

been disposed of outside the controlled group.   See secs.

1.267(f)-1(a)(2), 1.1502-13(f)(1)(iii), Income Tax Regs.

      Petitioner challenges the validity of the Loss Restoration

Exception.   Petitioner asserts that the Temporary Regulation

violates the plain meaning and intent of section 267(f) by

effectively denying it the deferred loss on its 1984 loan

portfolio sale.   In addition, petitioner argues that the

Temporary Regulation violates the U.S. income tax treaty with the

United Kingdom.   See The Convention between the Government of the

United States of America and the Government of the United Kingdom

of Great Britain and Northern Ireland for the Avoidance of Double

Taxation and the Prevention of Fiscal Evasion with respect to

Taxes on Income and Capital Gains, Dec. 31, 1975, U.S.-U.K., 31

U.S.T. 5668 (hereinafter U.S.-U.K. treaty).   Finally, petitioner

argues that respondent's refusal to allow it to elect retroactive

application of the Final Regulation is not authorized by section

7805(b).

I.   Validity of the Temporary Regulation

      A.   Standard of Review

      A legislative regulation “is entitled to greater deference

than an interpretive regulation, which is promulgated under the

general rulemaking power vested in the Secretary by section

7805(a).”    Romann v. Commissioner, 

, 281 (1998); see
                                - 13 -

Ann Jackson Family Found. v. Commissioner, 

, 920 (9th

Cir. 1994), affg. 

 (1991); Greenberg Bros. Partnership

#4 v. Commissioner, 

, 205 (1998); Peterson Marital

Trust v. Commissioner, 

, 797 (1994), affd. 

 (2d Cir. 1996).    As stated in Chevron U.S.A., Inc. v. Natural

Resources Defense Council, Inc., 

, 843-844 (1984):

     If Congress has explicitly left a gap for the agency to
     fill, there is an express delegation of authority to the
     agency to elucidate a specific provision of the statute by
     regulation. Such legislative regulations are given
     controlling weight unless they are arbitrary, capricious, or
     manifestly contrary to the statute.

See also Nationsbank v. Variable Annuity Life Ins. Co., 

, 256-257 (1995).

     The Temporary Regulation is a legislative regulation because

it was promulgated under the specific delegation of authority

contained in section 267(f)(2)(B).   See Coca-Cola Co., &

Includible Subs. v. Commissioner, 

, 19 (1996) (“A

legislative regulation is made pursuant to a specific grant of

authority, often without precise congressional guidance, to

define a statutory term or prescribe a method of executing a

statutory provision.”); see also Romann v. Commissioner, 

, 281-282 (1998); Schwalbach v. Commissioner, 

,

222-223 (1998).   Contrary to petitioner’s assertion, the mere

fact that the Temporary Regulation may embody interpretations of

the operative statutory language does not alter its
                              - 14 -

characterization as a legislative regulation.   Cf. Batterton v.

Francis, 

, 425 (1977); Levesque v. Block, 

, 183 (1st Cir. 1983).

     As a general proposition, temporary regulations are entitled

to the same deference we accord final regulations.   See Schaefer

v. Commissioner, 

, 229 (1995); Peterson Marital Trust

v. Commissioner, supra at 797; Truck & Equip. Corp. v.

Commissioner, 

, 149 (1992).   The Temporary Regulation

was promulgated without notice and public comment procedures.8

Petitioner argues that the Temporary Regulation therefore is not

entitled to Chevron deference, citing Bankers Life & Cas. Co. v.



     8
       The Treasury Decision in which the Temporary Regulation
was promulgated explained the absence of notice and public
comment procedures as follows:

          There is a need for immediate guidance with respect to
     the provisions contained in this Treasury decision. For
     this reason, it is found impracticable to issue this
     Treasury decision with notice and public procedure under
     subsection (b) of section 553 of Title 5 of the United
     States Code * * *. [T.D. 7991, 1985-1 C.B. 71, 81.]

     Under the Administrative Procedure Act, 5 U.S.C. sec.
553(b)(3)(B) (1984), notice and public comment procedures are not
required “when the agency for good cause finds (and incorporates
the finding and a brief statement of reasons therefor in the
rules issued) that notice and public procedure thereon are
impracticable, unnecessary, or contrary to the public interest.”

     Petitioner does not contend that the Temporary Regulation is
invalid for failure to comply with notice and public comment
procedures or to meet the requirements of the good cause
exception cited above. Accordingly, we do not reach these
issues.
                               - 15 -

United States, 

, 981 (7th Cir. 1998).9   We need not

resolve this question, however, for we conclude that the

Temporary Regulation is valid even under the traditional standard

of review for interpretive regulations as articulated in National

Muffler Dealers Association, Inc. v. United States, 

,

476 (1979).   Cf. Union Carbide Corp. v. Commissioner, 

, 388 (1998); Sim-Air, USA, Ltd. v. Commissioner, 

,

194 (1992).   Under that standard, we must defer to respondent’s

regulations if they “implement the congressional mandate in some

reasonable manner.”   National Muffler Dealers Association, Inc.

v. United States, supra at 476.   The critical inquiry is “whether

the regulation harmonizes with the plain language of the statute,




     9
        In Bankers Life & Cas. Co. v. United States, 

, 981 (7th Cir. 1998), the Court of Appeals for the Seventh
Circuit followed Chevron U.S.A., Inc. v Natural Resources Defense
Council, Inc., 

 (1984), and accorded deference to
interpretive regulations issued under sec. 7805(a) with notice
and comment procedures. The court cited Atchison, Topeka & Santa
Fe Ry. v. Pena, 

 (7th Cir. 1994), for the proposition
that “the notice and comment procedure was the sine qua non for
Chevron deference.” The court in Bankers Life & Cas. Co. did not
address the appropriate standard of review for legislative
regulations issued without notice and comment procedures.

     In Kikalos v. Commissioner, ___ F.3d ___ (7th Cir. 1999),
revg. in part T.C. Memo. 1998-92, the Court of Appeals for the
Seventh Circuit sua sponte raised the issue of the degree of
deference owed to temporary interpretive regulations issued by
respondent under section 163 without notice and comment
procedures. Because both parties assumed that Chevron deference
applied in this circumstance, the court reserved judgment on
whether a lesser degree of deference was appropriate.
                                 - 16 -

its origin, its purpose.”     Id.; see also Ann Jackson Family

Found. v. Commissioner, 15 F.3d at 920.

     B.    The Parties’ Positions

     The parties have stipulated that petitioner realized a loss

of $87,927,200 on the sale of the loan portfolio to Standard

Chartered.     The parties also agree that section 267(f) provides

for deferral rather than denial of losses arising from sales

between corporations that are members of the same controlled

group.     The crux of their disagreement is whether the deferred

loss must be restored to petitioner, or whether the Temporary

Regulation permissibly denies the loss to petitioner, allowing

instead a basis adjustment to the purchasing member of the

controlled group.

     1.    Does the Temporary Regulation Violate the Mandate of the
           Statute?

     Petitioner argues that the Temporary Regulation imposes a

result expressly prohibited by the statute.     Specifically,

petitioner notes that section 267(a)(1), if applicable, would

disallow the seller's loss, with a corresponding reduction under

subsection (d) of any subsequent gain by the purchaser upon

resale of the loss property outside the controlled group.

Section 267(f)(2)(A), however, states that subsections (a)(1) and

(d) “shall not apply” to loss sales between controlled group

members.    Therefore, petitioner concludes, in the case of loss
                               - 17 -

sales between controlled group members, “If the seller’s loss may

not be disallowed to the seller, then of necessity it must

eventually be allowed to the seller, i.e., restored to it.”

Petitioner argues that, as applied to petitioner, the Temporary

Regulation impermissibly imposes the loss disallowance rule of

section 267(a)(1) and reinstates the gain-reduction rule of

section 267(d).

     We disagree.   By rendering inapplicable the general rules

contained in subsections (a)(1) and (d), section 267(f)(2)(A)

simply makes operable the special rules of subsection (f).    Those

special rules indicate that when the selling member leaves the

controlled group before the loss property is disposed of outside

the group, the loss is deferred until such time as may be

prescribed in regulations.

     The Temporary Regulation does not replicate the loss

disallowance and gain adjustment mechanisms of subsections (a)(1)

and (d).   Generally speaking, under subsection (a)(1) the loss is

denied absolutely, not only to the seller but to any party.    The

gain-reduction adjustment under subsection (d) mitigates the

subsection (a)(1) loss disallowance only where the transferee

subsequently resells the loss property at a gain.   By contrast,

the Temporary Regulation generally preserves the deferred loss in

the controlled group for U.S. income tax purposes by means of a
                               - 18 -

basis adjustment that applies without regard to whether the loss

property is subsequently resold at a gain or loss.

     2.   Does the Temporary Regulation Permissibly Accrue the
          Benefit of the Deferred Loss to the Purchasing Member
          Rather Than to the Selling Member?

     Petitioner argues that recognition of the deferred loss by

the purchasing party is inconsistent with a general principle

that allowable losses should be confined to the taxpayer

sustaining them, citing various cases, including New Colonial Ice

Co. v. Helvering, 

, 440-441 (1934).   Section 267,

however, constitutes a statutory exception to any such general

principle.   Losses otherwise allowable under section 165 are

disallowed under section 267 to prevent abuses resulting from the

generation of loss deductions by persons with common economic

interests.   See Davis v. Commissioner, 

 (1987), affd.

 (6th Cir. 1989); Hassen v. Commissioner, 

(1974), affd. 

 (9th Cir. 1979).

     In McWilliams v. Commissioner, 

 (1947), the

Supreme Court thoroughly considered and explained the purposes of

section 24(b) of the Internal Revenue Code of 1939, which was the

predecessor to section 267:

     Section 24(b) states an absolute prohibition--not a
     presumption--against the allowance of losses on any sales
     between the members of certain designated groups. The one
     common characteristic of these groups is that their members,
     although distinct legal entities, generally have a near-
     identity of economic interests. It is a fair inference that
     even legally genuine intra-group transfers were not thought
                               - 19 -

     to result, usually, in economically genuine realizations of
     loss, and accordingly that Congress did not deem them to be
     appropriate occasions for the allowance of deductions.
     * * *

         We conclude that the purpose of section 24(b) was to put
     an end to the right of taxpayers to choose, by intra-family
     transfers and other designated devices, their own time for
     realizing tax losses on investments which, for most
     practical purposes, are continued uninterrupted. [Id. at
     699-700; fn. ref. omitted.]

     In sum, under section 267(a)(1), to the extent that a

property sale between related taxpayers gives rise to an

otherwise deductible loss to the seller, it is a loss that is

neither recognized nor allowed.    For purposes of this rule, it is

irrelevant whether the sale was bona fide.   “Congress obviously

did not want the courts to face the difficult task of looking

behind the sales.   Instead, Congress made its prohibition

absolute in reach, believing that this would be fair to the great

majority of taxpayers.”   Miller v. Commissioner, 

, 189

(1980).

      In Turner Broad. Sys., Inc. & Subs. v. Commissioner, 

, 332-333 (1998), we concluded that the special rules of

section 267(f) reflect an extension of the related party

provisions of section 267(a)(1):

         The legislative history regarding section 267(f)
     indicates that it was intended to “extend” the related party
     provisions of section 267 even though subsection (f)(2)(A)
     makes subsections (a)(1) and (d) inapplicable.
     Nevertheless, there is a general theme that runs through the
     gain recognition limitation in section 267(d) and the loss
     deferral provisions of subsection (f) in that they both
                              - 20 -

     prevent an immediate loss deduction to the seller and accrue
     the loss either in terms of a limited gain recognition to
     the purchaser pursuant to section 267(d) or as a deferral of
     the tax benefit of the loss pursuant to section 267(f). We
     think what Congress intended to ‘extend’ was the class of
     transaction in which there would be a delay, of some kind,
     in the recognition of a loss until there was an economically
     genuine realization of the loss. [Fn. ref. omitted;
     emphasis added.]

     Consistent with this rationale, the Temporary Regulation

reasonably interprets section 267(f) as requiring deferral until

the loss property is disposed of outside the controlled group, at

which time there is an economically genuine realization of the

loss.

     Nothing in the statutory language expressly mandates that

the benefit of the deferred loss accrue to the seller.

Petitioner cites various cases, including Hassen v. Commissioner,

supra, and Grady Whitlock Leasing Corp. v. Commissioner, T.C.

Memo. 1997-405, for the proposition that the loss that is

disallowed under section 267(a)(1) is the seller’s loss.

Therefore, petitioner concludes, the loss that is deferred under

section 267(f) must be the seller’s loss, rather than the

controlled group’s loss, and must be restored to the seller.    The

cited cases, however, add nothing to the analysis other than to

show that section 267(a)(1) does not permit recognition of the

loss putatively sustained by the seller.   The statute does not

otherwise identify the disallowed loss with the seller.    To the

contrary, the gain-reduction adjustment under subsection (d)
                                - 21 -

explicitly identifies the loss with the property transferred and

not with the seller.   Specifically, subsection (d) provides that

where the “loss sustained by the transferor" is disallowed under

subsection (a)(1), the “loss * * * properly allocable to the

property sold or otherwise disposed of" reduces any gain

recognized by the transferee.    Similarly, the Temporary

Regulation effectively identifies the deferred loss with the loss

property by means of a basis adjustment.

     Petitioner argues that the use of the verb “defer” in

section 267(f) necessarily denotes postponement and restoration

of the seller’s loss to the seller.      Under the literal language

of the statute, however, what is deferred under section

267(f)(2)(B) is not the seller's recognition of the seller's

loss, but rather the "loss" itself.      Under the Temporary

Regulation, this loss is not recognized by the seller or any

other party while the controlled group continues to hold the loss

property.    Rather, the loss is recognized only when the loss

property leaves the controlled group.      This result is within the

statutory delegation of authority to the Treasury Department.

     3.   The Temporary Regulation Is Consistent With the
          Pertinent Legislative History.

     This result also harmonizes with the purpose of the statute

to prevent premature recognition of losses among related

taxpayers.    Before the enactment of subsection (f) in 1984,
                               - 22 -

section 267 had long included certain controlled corporations

within the definition of related parties under section 267(b)

that were subject to the general loss disallowance and gain

adjustment provisions of subsections (a)(1) and (d).10   When

Congress created the special rules of section 267(f), it also

enlarged the class of controlled corporations defined as related

parties, to curb further the sorts of abuses that section 267 was

meant to address:

     Congress believed that certain related parties, such as
     * * * controlled corporations should be made subject to the
     related party rules in order to prevent tax avoidance on
     transactions between those parties. [Staff of Joint Comm. on
     Taxation, General Explanation of the Revenue Provisions of
     the Deficit Reduction Act of 1984, at 542 (J. Comm. Print
     1985).]

     The House bill would have simply applied the general loss

disallowance rules of section 267(a)(1) to the expanded class of

controlled corporations.11   The Senate bill followed the House


     10
        Prior to amendment in 1984, sec. 267(b)(3) defined as
related taxpayers:

     Two corporations more than 50 percent in value of the
     outstanding stock of each of which is owned, directly or
     indirectly, by or for the same individual, if either one of
     such corporations, with respect to the taxable year of the
     corporation preceding the date of the sale or exchange was,
     under the law applicable to such taxable year, a personal
     holding company or a foreign personal holding company.

     11
          The House report stated:

           the bill extends the loss disallowance and accrual
                                                    (continued...)
                                 - 23 -

bill in its expanded definition of related taxpayers, but

provided special rules for sales or exchanges between controlled

group members.     The Senate bill generally would have allowed the

party transferring property to a member of the same controlled

group to recognize the loss in the year that the loss property

was disposed of outside the controlled group.12


     11
        (...continued)
            provisions of section 267 * * * to transactions between
            certain controlled corporations. For purposes of these
            loss disallowance and accrual provisions, corporations
            will be treated as related persons under the controlled
            corporation rules of section 1563(a), except that a 50-
            percent control test will be substituted for the 80-
            percent test. (These rules are not intended to
            overrule the consolidated return regulation rules where
            the controlled corporations file a consolidated
            return.) [H. Rept. 98-432 (Vol. 2), at 277 (1984); fn.
            ref. omitted.]
      12
           Section 180 of the Senate bill provided in pertinent
part:
           (c) Deferral (Rather Than Denial) of Loss From Sale or
      Exchange Between Members of a Controlled Group.--Section 267
      * * * is amended by adding at the end thereof the following
      new subsection:
           “(g) Deferral of Losses From Sales or Exchanges Between
      Members of Controlled Groups.--In the case of any loss from
      a sale or exchange of property between members of the same
      controlled group to which subsection (a)(1) applies
      (determined without regard to this subsection)--
                “(1) subsections (a)(1) and (d) shall not apply to
           such loss, but
                “(2) no deduction shall be allowed with respect to
           such loss to the transferor of such property until the
           first taxable year of such transferor in which the
           transferee--
                      (A) sells, exchanges or otherwise disposes of
                such property (or exchanged basis property with
                respect to such property) to a person other than a
                                                     (continued...)
                              - 24 -

     The Senate report stated in pertinent part:

     The bill extends the loss disallowance and accrual
     provisions of section 267 * * * to transactions between
     certain controlled corporations. For purposes of these loss
     disallowance and accrual provisions, corporations will be
     treated as related persons under the controlled corporation
     rules of section 1563(a), except that a 50-percent control
     test will be substituted for the 80-percent test. These
     rules are not intended to overrule the consolidated return
     regulation rules where the controlled corporations file a
     consolidated return. In the case of controlled
     corporations, losses will be deferred until the property is
     disposed of * * * by the affiliate to an unrelated third
     party in a transaction which results in a recognition of
     gain or loss to the transferee, or the parties are no longer
     related. In a transaction where no gain or loss is
     recognized by the transferee, the loss is deferred until the
     substitute basis property is disposed of. [S. Print 98-169
     (Vol. 1), at 496 (1984); fn. ref. omitted; emphasis added.]

     In support of its position, petitioner relies upon the

underscored Senate report language supra.   This report language

was dropped, however, in the conference committee report, which

stated as follows:

     The provision generally follows the Senate amendment with
     the following modifications:

               *     *   *    *    *    *     *

         (3) The operation of the loss deferral rule is clarified
     to provide that any loss sustained shall be deferred until
     the property is transferred outside the group, or until such
     other time as is provided by regulations. These rules will
     apply to taxpayers who have elected not to apply the


     12
       (...continued)
                member of such controlled group (determined as of
                the time of the disposition), and
                      (B) recognizes gain or loss on such
                disposition”. [S. Print 98-169 (Vol. 2), at 520-
                521 (1984).]
                                - 25 -

     deferral intercompany transactions rules, except to the
     extent regulations provide otherwise. [H. Conf. Rept. 98-
     861, at 1033 (1984), 1984-3 C.B. (Vol. 2) 1, 287.]

     Petitioner argues that the indication in the conference

committee report that it “generally” follows the Senate bill

reflects a legislative intent to adopt the sense of the Senate

report language in question without expressly repeating it.    We

are unpersuaded that this is so.   It is clear that the conference

committee report “generally” follows the Senate bill by including

special rules for transfers between controlled group members,

unlike the House bill, which contained no such special rules.    It

is also clear that the special rules actually adopted by the

conference committee (and enacted into law) differ significantly

from the Senate bill.   Among these differences is the omission of

the Senate provision requiring that the deferred loss be restored

to the transferor.   It seems clear that Congress, having

considered the issue, ultimately rejected any mandate that the

deferred loss be recognized by the transferor when it leaves the

controlled group.    Instead, Congress specified that the deferral

lasts until the property is transferred outside the controlled

group, or until such other time as regulations may prescribe.

     4.   Relevance of Purchasing Member’s Tax Treatment Under
          United Kingdom Tax Law.

     In the final analysis, petitioner's argument that the

Temporary Regulation is invalid rests on the United Kingdom’s
                                 - 26 -

refusal to allow Standard Chartered-U.K. to recognize the loss.

Petitioner contends that, in this specific fact situation,

because the United Kingdom denied the loss for United Kingdom tax

purposes to the member of the controlled group who bought the

property, the Temporary Regulation has the effect of denying and

not deferring the loss, contrary to section 267(f).

       We disagree.   Under the Temporary Regulation, Standard

Chartered-U.K. was entitled under U.S. tax law to have its basis

in the loan portfolio increased for U.S. income tax purposes.

The inability of Standard Chartered-U.K. to avail itself of the

deferred loss under United Kingdom tax law is irrelevant.     Had

petitioner transferred the loan portfolio to a U.S. affiliate, or

had its foreign affiliates been located outside the United

Kingdom, the results might have been different.     We agree with

respondent that the validity of the Temporary Regulation cannot

depend upon the treatment of the deferred loss under foreign tax

law.    Cf. United States v. Goodyear Tire & Rubber Co., 

, 143-145 (1989); Biddle v. Commissioner, 

, 578-

579 (1938).

       5.   Effect of the Final Regulation on the Validity of the
            Temporary Regulation.

       Petitioner contends that the Loss Restoration Exception in

the Temporary Regulation is "diametrically, fundamentally and

precisely opposed" to the treatment of deferred losses under the
                               - 27 -

Final Regulation, and that both cannot be reasonable

interpretations of the statute.   Petitioner contends that the

Final Regulation is evidence that the Temporary Regulation was in

error.

     We are unpersuaded by petitioner's arguments.   After

receiving public comments on the Temporary Regulation, the

Treasury Department adopted the changes incorporated in the Final

Regulation, explaining that it was simplifying the rules to

correspond more closely to the consolidated return rules.13   It is

well established that “the agency administering the statute has

flexibility to change a regulation in the light of administrative

experience.”   Central Pa. Sav. Association & Subs. v.


     13
        The Notice of Proposed Rulemaking for the proposed 1995
regulations states:

               The proposed regulations retain the basic approach
          of the current regulations but simplify their operation
          by more generally incorporating the consolidated return
          rules.

               The proposed regulations eliminate the rule that
          transforms S's [selling member's] loss into additional
          basis in the transferred property when S ceases to be a
          member of the controlled group. Instead, the proposed
          regulations generally allow S's loss immediately before
          it ceases to be a member. This conforms to the
          consolidated return rules, and eliminates the need for
          special rules. An anti-avoidance rule is adopted,
          however, to prevent the purposes of section 267(f) from
          being circumvented, for example, by using the proposed
          rule to accelerate S's loss. [Notice of Proposed
          Rulemaking, Consolidated Groups and Controlled Groups--
          Intercompany Transactions and Related Rules, reprinted
          in 1994-1 C.B. 724, 732.]
                               - 28 -

Commissioner, 

, 390 (1995).    Moreover, a Treasury

regulation “is not invalid simply because the statutory language

will support a contrary interpretation.”    United States v. Vogel

Fertilizer Co., 

, 26 (1982).    The question is “not

whether the Treasury Regulation represents the best

interpretation of the statute, but whether it represents a

reasonable one.”   Atlantic Mut. Ins. Co. v. Commissioner, 

, 389 (1988).   As discussed above, the Temporary

Regulation is a reasonable interpretation of section 267(f).

     II.   The Temporary Regulation Does Not Violate the United
           States-United Kingdom Income Tax Treaty

     Petitioner argues that the Temporary Regulation is

inconsistent with Article 24, paragraph (5) of the U.S.-U.K.

treaty, which provides as follows:

          Enterprises of a Contracting State, the capital of
     which is wholly or partly owned or controlled, directly or
     indirectly, by one or more residents of the other
     Contracting State, shall not be subjected in the first-
     mentioned Contracting State to any taxation or any
     requirement connected therewith which is other or more
     burdensome than the taxation and connected requirements to
     which other similar enterprises of the first-mentioned State
     are or may be subjected.

     Neither section 267(f) nor the Temporary Regulation

discriminates between United Kingdom taxpayers and U.S.

taxpayers, or between U.S. taxpayers owned by United Kingdom

interests and U.S. taxpayers not owned by United Kingdom
                               - 29 -

interests.   For U.S. income tax purposes, petitioner was treated

no differently than any other U.S. taxpayer.

     Petitioner argues that the Temporary Regulation

discriminates against U.S. subsidiaries owned by foreign

purchasing members without effectively connected income, because

“losses sustained by such subsidiaries are uniformly denied”

under the Temporary Regulation, in the absence of competent

authority intervention.   Petitioner argues that this “requirement

of competent authority intervention, entirely avoided by a U.S.

corporation with a U.S. parent,” is more burdensome than

requirements imposed on U.S.-owned corporations, in contravention

of Article 24 of the U.S.-U.K. treaty.

     Petitioner’s argument is without merit.   The operation of

neither section 267(f) nor the Temporary Regulation is

conditioned on the country of incorporation of the taxpayer’s

parent, but rather on the taxpayer’s selling property at a loss

to members of the same controlled group, without reference to

where those related parties may be incorporated.   A U.S.

corporation with a U.S. parent would face the same burdens and

requirements as petitioner, all other things being equal, if it

sold property at a loss to a United Kingdom corporation that was

a member of the same controlled group.   Conversely, a U.S.

corporation with a United Kingdom parent might sell property to a

U.S. affiliate without implicating the competent authority
                                 - 30 -

process.    We agree with respondent that petitioner’s problem, to

the extent it has one, does not arise under U.S. income tax law

but under United Kingdom tax law, which has not given effect to

the increase in Standard Chartered-U.K.’s basis as provided under

the Temporary Regulation.   The failure of the competent authority

process to resolve this inconsistent treatment under U.S. and

U.K. tax laws is unfortunate, but it does not reflect upon the

validity of either section 267(f) or the Temporary Regulation.

     III.   Respondent’s Authority To Limit the Retroactive Effect
            of the Final Regulation

     During the administrative proceedings of this case,

petitioner requested elective retroactive application of the

Final Regulation.    In a January 16, 1997, Technical Advice

Memorandum, respondent denied petitioner’s request.   Petitioner

argues that respondent’s denial was not authorized by section

7805(b).

     Section 7805(b) provides:

                 (b) Retroactivity of Regulations or Rulings.--
            The Secretary may prescribe the extent, if any, to
            which any ruling or regulation, relating to the
            internal revenue laws, shall be applied without
            retroactive effect.[14]




     14
       Sec. 7805(b) was amended in 1996, effective for
regulations that relate to statutory provisions enacted on or
after July 30, 1996. See Taxpayer Bill of Rights 2, Pub. L.
104-168, sec. 1101(b), 110 Stat. 1452, 1469 (1996). Accordingly,
the amendments are inapplicable to the instant case.
                              - 31 -

     Section 7805(b) “sets out a blanket rule which specifically

permits the Commissioner to prescribe prospective effect to

regulations which would otherwise have retroactive application.”

Wendland v. Commissioner, 

, 381-382 (1982), affd. 

 (11th Cir. 1984), also affd. sub nom. Redhouse v.

Commissioner, 

 (9th Cir. 1984).    Under section

7805(b), there is a presumption that every regulation will

operate retroactively, unless the Secretary specifies otherwise.

See Manocchio v. Commissioner, 

, 1403 (9th Cir.

1983), affg. 

 (1982); Butka v. Commissioner, 

, 129 (1988), affd. 

 (D.C. Cir. 1989).     In the

instant case, the Secretary did specify otherwise and, in doing

so, clearly acted within his authority.    See Butka v.

Commissioner, supra at 129 (“Section 7805(b) certainly gives [the

Secretary] authority to provide, if he so chooses, that the new

regulation will operate only prospectively”).

     Petitioner argues that respondent’s exercise of his

authority to issue prospective regulations, being discretionary,

is reviewable for abuse of discretion.    Petitioner states on

brief:

     Petitioner submits that when retroactive application of a
     regulation would not have inequitable results, Respondent
     does not have the authority to limit retroactivity.
     Congress only gave Respondent the discretion to prevent
     retroactivity to the extent required in order to avoid undue
     hardship or discrimination.
                                - 32 -

     Neither the express language of section 7805(b) nor its

legislative history, however, contains any suggestion of such

conditions on the Secretary’s authority to issue prospective

regulations.   To the contrary, the pertinent legislative history

indicates that section 7805(b) was intended to prevent problems

that might otherwise arise from retroactive application of

regulations, rather than to restrict the Secretary’s ability to

promulgate prospective regulations.

     The predecessor to section 7805(b) was enacted in the

Revenue Act of 1921, ch. 136, section 1314, 42 Stat. 227.      The

legislative history states that the purpose of the 1921 provision

was to–-

     permit the Treasury Department to apply without retroactive
     effect a new regulation or Treasury decision reversing a
     prior regulation of Treasury decision * * *. This would
     facilitate the administration of the internal revenue laws
     in that it would make it unnecessary to reopen thousands of
     settled cases. [H. Rept. 350, 67th Cong., 1st Sess. (1921),
     1939-1 C.B. (Part 2) 168, 180; emphasis added.]

     In 1934, the 1921 provision was reenacted with various

substantive amendments that are not central to the present

discussion.    The pertinent legislative history to the 1934

legislation states:

     The amendment extends the right granted by existing law to
     the Treasury Department to give regulations and Treasury
     decisions amending prior regulations or Treasury decisions
     prospective effect only, by allowing the Secretary * * * to
     prescribe the exact extent to which any regulation or
     Treasury decision, whether or not it amends a prior
     regulation or Treasury decisions, will be applied without
                               - 33 -

     retroactive effect. * * * Regulations, Treasury decisions,
     and rulings which are merely interpretive of the statute,
     will normally have a universal application, but in some
     cases the application of regulations, Treasury decisions,
     and rulings to past transactions which have been closed by
     taxpayers in reliance upon existing practice, will work such
     inequitable results that it is believed desirable to lodge
     in the Treasury Department the power to avoid these results
     by applying certain regulations, Treasury decisions, and
     rulings with prospective effect only. [H. Rept. 704, 73d
     Cong. 2d Sess. (1934), 1939-1 C.B. (Part 2) 554, 583;
     emphasis added.]


     This is not a case where petitioner alleges detrimental

reliance upon an existing practice that would be undone by

retroactive application of new regulations.   Moreover,

petitioner's suggestion that section 7805(b) requires respondent

to apply regulations retroactively if they would be beneficial to

the taxpayer raises significant administrability problems of the

sort which section 7805(b) was intended to prevent.

     Petitioner has cited, and we have discovered, no case

constraining the Secretary’s authority to issue prospective

regulations.   In support of its position, petitioner cites

various cases, including Automobile Club of Mich. v.

Commissioner, 

, 184 (1957), for the proposition that,

in enacting the predecessor to section 7805(b), Congress gave

respondent the authority "to limit retroactive application to the

extent necessary to avoid inequitable results".   The Automobile

Club of Mich. case, however, like all the other cases cited by

petitioner, deals with respondent's obligation to limit
                              - 34 -

retroactivity to avoid inequitable results when taxpayers have

entered into transactions in reliance on past regulations.    That

concern is simply not relevant when the taxpayer is requesting

retroactive application of a new regulation.

     Remaining contentions not addressed herein we deem

irrelevant, without merit, or unnecessary to reach.

     To reflect the foregoing and concessions by the parties,


                                   Decision will be entered

                              under Rule 155.