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provide for possible damages, because the lawsuit was dropped in
June 1995 and the lawsuit was never refiled against petitioner.
In Steelmasters, Inc. v. Commissioner, T.C. Memo. 1976-324,
the taxpayer was a defendant in a major civil suit during the 2
tax years in issue. During the first year in issue, the taxpayer
was faced with the possible entry of an adverse judgment, and the
taxpayer was advised by counsel of its potential exposure and its
division of the liability. By the second year in question, the
judgment was entered, causing the liability to become fixed. The
Court reasoned that uncertainties regarding outcome are inherent
in any litigation and held that it was entirely reasonable for
the taxpayer’s officers to permit earnings to accumulate as a
means of insulation. See id.
Similar to Steelmasters, Inc., the class action lawsuit that
petitioner faced was also a present and pending contingency in
1995. At the close of 1995, petitioner’s officers knew that
petitioner had been dismissed as a defendant in the adversary
proceeding in the bankruptcy case, but petitioner was also
advised by its attorneys that the plaintiff could refile the case
in another forum. Petitioner also knew that its insurance
company refused to defend it in the lawsuit and that its
attorneys provided an estimate of attorney’s fees in excess of
$100,000. Petitioner also maintained that it had not
participated in deceptive trade practices and that its officers
were comfortable with what they had done. Based on the facts and
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