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debt-to-income and loan-to-value ratios an applicant's ability to pay the debt, taking into account his or her disposable income and income per dependent. ACC would sometimes perform in connection with this step a budgetary analysis to suggest changes to the loan terms (e.g., by decreasing the monthly payment over a longer timeframe) so as to meet preestablished target ratios. Fourth, ACC would conditionally approve or deny an applicant on the basis of all of the information that it had already accumulated. Fifth, as to applications that received a conditional approval, ACC would perform an additional review as to the applicant by verifying (mainly by telephone) his or her employment, residency, and personal references, and by interviewing the applicant by telephone. Sixth, as to the applicants who passed this additional level of review, ACC would communicate to the dealer ACC's approval of the applicant. In some instances, ACC would inform the dealer that it was unwilling to finance the purchase under the terms offered to it but would finance a lesser amount of principal and/or would finance the purchase over a shorter repayment term.

In 1993 and 1994, ACC paid installment contracts expenditures totaling $267,832 and $339,211, respectively. These expenditures, which were attributable to ACC's obtaining of credit reports and screening of credit histories, related primarily to the portion of ACC's payroll and overhead expenses that was attributable to its credit analysis activities.6 None of these expenditures included any postacquisition or servicing expenses. ACC ascertained the amount of these expenditures at the request of its independent auditors. The parties agree that these expenditures are "related" to ACC's credit analysis activities and that the breakdown of specific expenditures is as set forth below. The parties dispute whether any or all of the expenditures is "directly related" to ACC's credit analysis activities, as contended by respondent, or is "indirectly related" to those activities, as contended by petitioners.

6 We use the term "credit analysis activities" to refer to ACC's credit review services and its funding services (i.e., ACC's issuance of the checks to dealers in consideration for the installment contracts).

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1 The record does not indicate the surname of each of the listed employees. Nor does the record indicate the job titles of the employees listed without a surname or describe their daily duties.

2 The parties agree than this column equals $267,832. Actually, it equals $267,834. Because the $2 unexplained difference is immaterial to our analysis, we use the parties' figure of $267,832.

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ACC deducted the installment contracts expenditures of $267,832 on its 1993 Federal income tax return, and it deducted $288,911 of the $339,211 in installment contracts expenditures on its 1994 Federal income tax return. ACC now claims that it was entitled to deduct for 1994 the remaining $50,300 of installment contracts expenditures ($339,211 $288,911). As to the respective years, ACC deducted officers' compensation of $158,099 and $217,036 and salaries/wages of $126,464 and $194,306. The portion of the officers' compensation, salaries/wages, and overhead which was deducted but not in issue is attributable to ACC's servicing of the installment contracts.

For financial accounting purposes, ACC separately listed the installment contracts as assets on its 1993 and 1994 balance sheets. In addition, ACC initially deducted the installment contracts expenditures of $267,832 for 1993 but amended that year's financial statements to amortize the expenditures over the expected life of the related installment contracts. ACC's independent auditors required the amendment and related amortization in order to comply with Statement of Financial Accounting Standards No. 91 (SFAS 91), Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases.7 ACC amortized the installment contracts expenditures of $339,211 over the expected lives of the related installment contracts for 1994.

ACC performed its credit review services as to approximately 1,824 credit applications in 1993 and approximately 2,158 credit applications in 1994. As to those applications, ACC acquired 693 installment contracts in 1993 and 820 installment contracts in 1994; in other words, ACC acquired in each year approximately 38 percent of the installment contracts which were offered to it. The original terms of the

7 The record does not indicate why ACC's auditors believed that the amendment was required under SFAS 91. Whereas SFAS 91 provides explicitly for the deferral of "direct loan origination costs", it does not provide similarly as to the direct costs of acquiring loans. SFAS 91 provides as to the acquisition of loans that "15. The initial investment in a purchased loan or group of loans shall include the amount paid to the seller plus any fees paid or less any fees received. *** All other costs incurred in connection with acquiring purchased loans or committing to purchase loans shall be charged to expense as incurred." We note in passing, however, that rules such as SFAS 91 which are compulsory for financial accounting purposes do not control the proper characterization of an item for Federal income tax purposes. See Thor Power Tool Co. v. Commissioner, 439 U.S. 522, 542-543 (1979); see also Old Colony R.R. Co. v. Commissioner, 284 U.S. 552, 562 (1932).

1993 installment contracts averaged 23.89 months, and their actual duration averaged 17.5 months. The original terms of the 1994 installment contracts averaged 29 months, and their actual duration averaged 19.5 months. Of the 693 installment contracts acquired in 1993, 182 had an actual duration of 12 months or less. Of the 820 installment contracts acquired in 1994, 217 had an actual duration of 12 months or less.

ACC issued a private placement memorandum (PPM) on April 30, 1993, offering up to $2.4 million of its subordinated asset backed notes (notes). ACC intended through the offering to raise funds for its current operation, including the acquisition of installment contracts which would be (and were) pledged to secure ACC's obligations under the notes. The notes matured in 36 months but could be redeemed by the noteholders at 12 or 24 months. The notes bore interest at 12 percent during the first year, 13 percent during the second year, and 14 percent during the final year. The notes were purchased by approximately 50 investors, and approximately 5 of these investors redeemed their notes before maturity.

East-West Capital Corp. (East-West) sold the notes on ACC's behalf and was paid a commission equal to 4 percent of the principal amount of the notes sold, plus 1 percent of the principal outstanding at 12 months, plus 1 percent of the principal outstanding at 24 months. Included in East-West's commission was a 1-percent due diligence fee.

ACC deducted $29,647, $38,239, and $33,783 of offering expenses, commissions, and professional fees, respectively, for 1993. ACC deducted $36,251, $74,361, and $110,432 of offering expenses, commissions, and professional fees, respectively, for 1994. The deductions for 1993 and 1994 included costs attributable to a second private placement offering that was planned in 1993 and abandoned in 1994.

Respondent audited ACC's 1993 and 1994 taxable years. As to 1993, respondent disallowed $198,626 of installment contracts expenditures deducted by ACC, determining that these expenses were capital expenditures relating to assets having a life exceeding 1 year.8 Respondent also disallowed $55,027

8 Respondent made no adjustment to ACC's deduction of installment contracts expenditures for 1994.

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