CONVEYANCE OF ALASKA CORPORATION'S LAND TO CITY IS DEDUCTIBLE EXPENSE.

Index (UIL) No.: 162.00-00, 263.00-00

[1] Whether Taxpayer may deduct the value of land previously received by it tax-free under the Alaska Native Claims Settlement Act (ANCSA) and conveyed to City as required by § 14(c)(3) of ANCSA.

CONCLUSION

[2] Taxpayer may deduct the value of land previously received by it tax-free under ANCSA and conveyed to City as required by § 14(c)(3) of ANCSA. ¹

BACKGROUND OF ANCSA

[3] ANCSA was enacted in 1971 to settle the aboriginal land claims of Alaska Natives. ² According to principles of federal "Indian law, aboriginal, or 'Indian," title is an exclusive right of possession and occupancy held by the aboriginal inhabitants of America in lands in which fee title is possessed by the United States, as sovereign.

[4] ANCSA was preceded by more than 100 years of uncertainty about the legal status of the Alaska Natives. This uncertainty would have clouded title to Alaska property for decades. ANCSA extinguished the aboriginal title of the Alaska Natives and, in exchange, and in settlement therefor, granted to the Alaska Natives the right to select and to receive fee title from the United States to some 44 million acres of public federal land in Alaska and to receive payment from the United States of $962.5 million.

[5] To implement the settlement, ANCSA divided Alaska into 12 geographic regions. Natives residing in each region were authorized to organize a for-profit business corporation under the laws of the state of Alaska. In addition, Natives residing in some 200 Native Villages, and several urban towns, were authorized to organize either an Alaska for-profit or nonprofit corporation.

[6] The cash portion of the settlement, $962.5 million, was distributed to the Regional Corporations over a period of 12 years. Also, each Regional, Village, and Urban Corporation was granted the right to select and receive conveyance to a specified portion of the 44 million acre land settlement.

[7] Upon enactment, and subject to valid existing rights, Section 11 of ANCSA withdrew certain public lands in Alaska from all forms of appropriation under the public land laws, including the mining and mineral leasing laws, and from selection under the Alaska Statehood Act. In general, the lands withdrawn and thus reserved for selection by the Native Corporations consisted of: (a) the lands in each township ³ that enclosed all or any part of a Native village identified pursuant to ANCSA (the "core" township), plus (b) the lands in each township that were contiguous to or cornered on the core township, plus (c) the lands in each township that were contiguous to or cornered on a township described in (b). ⁴

[8] Under Section 12(a)(1) of ANCSA, the Village Corporations were given three years from the date of enactment of ANCSA to select the particular lands to which they were entitled under the Act. Section 12(a)(1) states that a Village Corporation must select "all of the township or townships in which any part of the village is located," plus such additional area from the lands withdrawn pursuant to Section 11 that would make the total selection equal to the acreage to which the corporation was entitled. Although Section 12(a)(1) appears to mandate selection by a Village Corporation of all lands contained in the core township in which the village is located, this requirement is subject to a number of qualifications. For example, land that was not in federal ownership was not available for selection. In addition, under Section 22(l) of ANCSA, Native Corporations were prohibited from selecting lands within two miles from the boundaries of any home rule or first class city.

[9] By itself, selection of land by a Village Corporation pursuant to ANCSA does not confer any ownership rights on the corporation. Prior to actual conveyance, legal title to selected land remains in the United States. Ownership of selected lands passes to a Native Corporation as a result of conveyance pursuant to Section 14 of ANCSA. Under §s 14(a) and 14(b), as supplemented by § 22(j)(1), lands selected by a Village Corporation are conveyed by the United States either by patent or "interim conveyance." Lands that have been surveyed are conveyed by patent; lands that have not yet been surveyed at the time of conveyance may be conveyed by the issuance of an interim conveyance, the force and legal effect of which is to convey and vest in the Native Corporation exactly the same right, title, and interest in and to the lands as a patent. Upon survey of the lands covered by an interim conveyance, a patent is issued to the recipient. ⁵

[10] Section 14(c) of ANCSA (as amended by ANILCA) imposes certain requirements on Native Corporations with respect to their lands. Specifically, Section 14(c) of ANCSA states:

     Each patent issued pursuant to sub§s (a) and (b) shall be

[12] Section 21 of ANCSA (as amended by ANILCA) provides special tax provisions to ensure that the receipt of certain revenues, stock, and land by the Native Corporations were tax-free. Specifically, Section 21 provides:

     (a) Revenues originating from the Alaska Native Fund shall not

     (1) Notwithstanding any other provision of law, each Native

FACTS

[15] Taxpayer is a Village Corporation located in City, Alaska, and is within the geographic region encompassed by Region Native Corporation, a Native Regional Corporation. Pursuant to ANCSA, Taxpayer was entitled to receive $a and rights to the surface estate to some b acres of land. ANCSA permitted Taxpayer to make its Section 12(a) selections from c townships around City. However, the federal government owned very little land within the boundaries of City. In addition, City is a first class city and, as a result of ANCSA Section 22(l), there were doubts about Taxpayer's entitlement to select lands in City or within two miles of its boundaries.

[16] In accordance with Section 12(a) of ANCSA, Taxpayer was obligated to exercise its selection rights within three years of December 18, 1971, the date of ANCSA's enactment. However, because of the uncertainties about which federal lands were available for selection (in addition to the two-mile boundary question, most of Alaska was unsurveyed, and there were many competing claims to federal lands that had yet to be resolved), Taxpayer, like most Native Corporations, overselected, indicating its priority among selections. Nearly all of the land Taxpayer selected was located well outside the existing boundaries of City and did not abut any existing City-owned land outside the city limits. Through Year 1, Taxpayer has received Section 12(a) conveyance under d patents to the surface estate to e acres and f interim conveyance documents to the surface estate to g acres. Taxpayer is still awaiting conveyance of approximately h acres of Section 12(a) land selections.

[17] As a Village Corporation, Taxpayer's lands were burdened by Section 14(c)(3) of ANCSA, which obligates each Native Corporation to convey to the municipality the "improved land on which the Native village is located" and additional land as necessary for "community expansion" and "appropriate rights-of-way for public use" and "other foreseeable community needs." Discussions between Taxpayer and City regarding 14(c)(3) land conveyances began as early as Year 2, before Taxpayer had received conveyance to any of its lands. From the start, it was clear that the discussions would involve detailed and protracted negotiations, not only about the identification and size of parcels, but also about the type of interest -- fee ownership vs. easement -- that would be conveyed. It was not until some 15 years later, in Year 3, that a final agreement was reached for the conveyance to City of fee title to i separate parcels aggregating j acres and k separate easements encompassing l acres. The agreement also provided for the conveyance to Taxpayer of m City-owned properties encompassing n acres. The agreement was committed to writing and was signed on behalf of Taxpayer and City on Date 1.

[18] On its corporate income tax returns for the tax years ended Date 2, Date 3, and Date 4, Taxpayer claimed deductions identified as "14(c) Conveyance" of $o, $p, and $q, respectively. The amounts of these deductions were based on the appraised values arrived at by Firm. The appraisals of real property transferred (or to be transferred) to City were done in Year 4 but were based on the values as of the date of conveyance (via interim conveyance or patent) to Taxpayer by the U.S. Government during the period from Year 5 to Year 6.

LAW AND ANALYSIS

[19] Taxpayer argues that the fair market value of property it conveyed to City in satisfaction of its Section 14(c)(3) obligation is an ordinary and necessary business expense under Section 21(h) of ANCSA and under § 162. Taxpayer further argues that the Section 14(c)(3) conveyance is not a capital expenditure under § 263.

[20] Section 162(a) allows a deduction for all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business.

[21] Section 161 provides that in computing taxable income, a deduction is allowed for the items specified in part VI (which includes § 162), subject to the exceptions provided in part IX (which includes §s 263 and 265). See also § 261.

[22] Section 263(a) provides that no deduction is allowed for any amount paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate. Section 1.263(a)-2(c) of the Income Tax Regulations provides that the cost of defending or perfecting title to property is a capital expenditure.

[23] Taxpayer contends that Section 21(h) of ANCSA precludes the Service from concluding that the Section 14(c)(3) conveyances were capital expenditures under § 1.263(a)-2(c). ⁶ Section 21 (h) provides that all expenses paid or incurred by a Native Corporation established pursuant to ANCSA in connection with the selection or conveyance of lands pursuant to ANCSA are deemed to be or to have been ordinary and necessary expenses of the Corporation, paid or incurred in carrying on a trade or business for purposes of any form of Federal, State, or local taxation. The issue raised by this provision of ANCSA is whether the fair value of lands conveyed by Taxpayer to City in accordance with Section 14(c)(3) are expenses paid or incurred in connection with the selection or conveyance of lands pursuant to ANCSA.

[24] In amending ANCSA to add § 21(h), the House Conference Report stated the purpose of the amendment as follows:

     The IRS has held that (1) the value of surveys of the land made

[26] The statute, however, does not define "in connection with the selection or conveyance of lands pursuant to ANCSA." The Service previously read this provision of ANCSA narrowly. In Old Harbor Native Corporation v. Commissioner, 104 T.C. 191 (1995), one issue was whether the taxpayer, an Alaska native village corporation organized under ANCSA, could deduct as an ordinary and necessary business expense an amount paid to lobby the Congress to pass legislation allowing it to exchange certain lands with the United States Government under ANCSA. The land exchange at issue was governed by Section 22(f) of ANCSA, which provides:

     The Secretary [of Interior] . . . [is] authorized to exchange

     We do not read 43 U.S.C. § 1620(h)(2) [Section 21 (h)(2)

[29] Under the rationale of the court in Old Harbor Native Corp., the Section 14(c)(3) conveyance was made "in connection with the selection or conveyance of lands" under ANCSA. Section 14(c)(3) requires a conveyance of land under the Act. This conveyance is encompassed in the clear and unambiguous statutory language of Section 21(h)(2). There is no clear legislative intent to the contrary. Thus, considering the unique facts and circumstances surrounding the enactment of Section 21(h)(2), and reading that § in the light most favorable to the Alaska Natives, we find that Section 21(h)(2) deems the fair market value of the lands conveyed in accordance with Section 14(c)(3) to be an ordinary and necessary business expense. Therefore, the fair market value of the lands conveyed by Taxpayer is deductible under § 162 for federal income tax purposes.

[30] A copy of this technical advice memorandum is to be given to Taxpayer. Section 6110(k)(3) provides that it may not be used or cited as precedent.

² Certain §s of ANCSA have been amended by subsequent legislation, including the Alaska National Interest Lands Conservation Act (ANILCA), enacted on December 2, 1980.

³ By law, federal lands are divided into "townships," which are square areas of land measuring six miles by six miles (36 square miles or 23,040 acres).

⁴ Section 11(a)(1) of ANCSA.

⁵ At the time ANCSA was enacted, most of the some 375 million acres of land in Alaska were still unsurveyed. Section 13 of ANCSA accordingly provides for surveying of lands selected or otherwise designated for conveyance by ANCSA to Village Corporations.

⁶ Section 14(c) of ANCSA imposes on a Village Corporation an obligation with respect to the lands received under the Act. The Alaska Native Foundation, the state of Alaska, and the Bureau of Land Management have all characterized Section 14(c) as creating a "cloud" on the title of all ANCSA lands owned by a Village Corporation. The costs of removing a cloud on the title of property, generally must be capitalized. See, e.g., Lucas v. Commissioner, 388 F.2d 472 (1st Cir. 1967); Brand v. Commissioner, 209 F.2d 255 (6th Cir. 1953); Farmer v. Commissioner, 126 F.2d 542 (10th Cir. 1942); Wacker v. Commissioner, T.C. Memo 1980-324.