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Taxpayer Can't Deduct Unredeemed Perks Associated with Loyalty Program.
(Parker Tax Publishing August 13, 2014)

A taxpayer's obligation to redeem certain perks given to customers as part of a loyalty reward program was subject to a condition precedent that was only satisfied after the close of taxpayer's tax year, and the exception to the all-events test for trading stamps or premium coupons did not apply to allow a current year deduction. Giant Eagle, Inc. v. Comm'r, T.C. Memo. 2014-146 (7/23/14).

Giant Eagle, Inc. owned and operated supermarkets under the name "Giant Eagle" and gas stations under the name "GetGo." In 2006 and 2007, Giant Eagle offered a customer loyalty program by which customers making qualifying purchases at Giant Eagle could earn "fuelperks!" that were redeemable for a discount against the purchase price of gas at GetGo. Fuelperks! expired three months after the last day of the month in which they were earned and could not be redeemed in cash.

Giant Eagle was an accrual method taxpayer and claimed deductions for unredeemed fuelperks! for 2006 and 2007. The IRS denied the deductions, claiming Giant Eagle did not meet the all events test of Code Sec. 461(h) and Reg. Sec. 1.461-1(a)(2) to currently deduct its liability for fuelperks! because the liability was not fixed until the perks were redeemed.

Giant Eagle argued that the fuelperks! program constituted a unilateral contract under which it became legally obligated to redeem fuelperks! as they were accumulated. Thus, its liability for the outstanding fuelperks! was fixed at the end of 2006 and 2007.

Under an alternative argument, Giant Eagle said an exception in Reg. Sec. 1.451-4(a)(1) to the all-events test applied. Under this exception, if an accrual method taxpayer issues trading stamps or premium coupons with sales, or an accrual method taxpayer is engaged in the business of selling trading stamps or premium coupons, and such stamps or coupons are redeemable by such taxpayer in merchandise, cash, or other property, the taxpayer should, in computing the income from such sales, subtract from gross receipts with respect to sales of such stamps or coupons (or from gross receipts with respect to sales with which trading stamps or coupons are issued) an amount equal to: (1) the cost to the taxpayer of merchandise, cash, and other property used for redemption in the tax year, (2) plus the net addition to the provision for future redemptions during the taxable year (or less the net subtraction from the provision for future redemptions during the tax year). According to Giant Eagle, Reg. Sec. 1.451-4(a)(1) applied and it was thus allowed to offset certain sales revenues by the estimated future costs of redeeming outstanding fuelperks! The IRS, citing Rev. Rul. 78-212, said the regulation did not apply because, among other reasons, fuelperks! were not redeemable in "merchandise, cash, or other property".

OBSERVATION: In Rev. Rul 78-212, the IRS held an accrual method wholesaler-manufacturer of various products distributed through retail stores that, as part of its sales promotion program, issues and redeems coupons that entitle consumers to a discount on the sales price of certain products purchased in the future may not avail itself of section 1.451-4 of the regulations to account for expenses incurred in the redemption of coupons issued with the sale of the product either in or on the package, issued as part of an advertising campaign, or inserted as a part of its retailer's advertisements.

The Tax Court agreed with the IRS and held that Giant Eagle could not deduct the unredeemed fuelperks! before they were redeemed. Under the fuelperks! promotion, the Tax Court noted, redemption of fuelperks! was structured as a discount against the purchase price of gas. Consequently, the purchase of gas was necessarily a condition precedent to the redemption of fuelperks! While the court noted that redemption of fuelperks! could conceivably discount the purchase price of gas to zero, the right to redeem fuelperks! without paying to purchase gas (i.e., for a free tank of gas) would be contingent on the setting of the retail price of gas immediately before the purchase. Accordingly, whether a customer paid something for the purchase of gas or nothing, Giant Eagle's obligation to redeem fuelperks! was subject to a condition precedent that could be satisfied only after the close of its tax year. Thus, the court concluded that Giant Eagle's liability for outstanding fuelperks! became fixed upon their redemption and not when the customer earned the fuelperks! as Giant Eagle had contended. As a result, the court rejected Giant Eagles deductions in 2006 and 2007 for the outstanding fuelperks!

The Tax Court also agreed with the IRS that the exception to the all events test in Reg. Sec. 1.451-4(a)(1) did not apply. The purpose of that regulation, the court noted, is to match sales revenues with the expenses incurred in generating those revenues. Similar to the taxpayer in Rev. Rul. 78-212, allowing Giant Eagle a present deduction with respect to redemptions conditioned on an additional purchase, the court said, would result in a mismatching of expenses and revenues, contrary to the regulation's primary purpose.

For a discussion of the all-events test, see Parker Tax ¶241,520. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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