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set primarily on FNBC’s accounting for swaps and other notional
principal contracts. The agent proposed to disallow the credit
and administrative costs adjustments taken by FNBC. The notice
of proposed adjustment (Form 5701) and attached explanation of
items (Form 886-A) justified the disallowance on the ground that,
by reflecting such adjustments, “FNBC is, in effect, taking a
current deduction from taxable income for expenses which, for the
most part, will be incurred in future taxable years”.
Respondent’s notices of deficiency disallowed the amounts shown
therein with respect to the credit and administrative costs
adjustments because the “carve-out expenses does [sic] not
clearly reflect income in accordance with section 446 of the
Internal Revenue Code”.
XV. Petitioner’s Facts Set Forth in Its Petition
As relevant herein, petitioner’s petition set forth the
following facts to support its allegations of error as to 1990
and 1991:
(s-1) One of the ways that the Bank [FNBC] makes a
profit by selling or purchasing an interest rate swap
contract is through its ability to purchase a swap at
the lower bid price and sell the swap at the higher
offer price while its customers must purchase a swap at
the higher offer price and sell it at the lower bid
price.
(s-2) The compensation that results from the
bid/offer rate differential should neither be all
currently recognized in income at the inception of a
swap, nor all deferred over the life of a swap.
Instead swap compensation should be allocated between
current and deferred income recognition based on when
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