Tax Court: Fuel Blender's Excise Tax Credits Must Be Factored Into COGS Determination

(Parker Tax Publishing June 2023)

The Tax Court held that a fuel blender was allowed to claim as part of its goods cost of goods sold (COGS) only the excise tax that it actually incurred or paid and therefore, the amount of fuel excise tax includible in its COGS was reduced by the amount of the tax credits the fuel blender claimed and received under Code Sec. 6426(b) and (c). The court rejected the taxpayer's argument that it could include its net excise tax liability in calculating its COGS after finding that legislative history confirmed a fuel blender must use its actual excise tax expense, rather than gross excise tax liability, for purposes of calculating its COGS. Growmark, Inc. & Subs. v. Comm'r, 160 T.C. No. 11 (2023).

Background

Growmark, Inc. is an agricultural cooperative that sells gasoline and diesel fuel, renewable fuels, alcohol fuel mixtures, and biodiesel mixtures. Growmark produced and sold in its trade or business alcohol fuel mixtures by blending taxable gasoline with ethanol as well as biodiesel mixtures by blending diesel fuel with soybean-oil "agri-biodiesel."

Growmark incurred a Code Sec. 4081 fuel excise tax liability when it removed a taxable fuel that it owned as a position holder from a rack at a terminal. Growmark also incurred a Code Sec. 4081 fuel excise tax liability with respect to the gallons of ethanol and biodiesel when it removed and sold the ethanol or biodiesel as part of an alcohol fuel mixture or biodiesel mixture. During 2009 and 2010, the years at issue, the excise tax reflected Growmark's fuel mixtures for sale to third parties for use as fuel; Growmark did not use any of the mixtures it produced for sale as fuel in its trade or business.

The ethanol that Growmark produced and then blended with taxable fuel was eligible for either the alcohol fuel mixture excise tax credit under Code Sec. 6426(a)(1) and (b) or the alcohol mixture income tax credit under Code Sec. 40(a)(1). The agri-biodiesel that Growmark produced and then blended with diesel was also eligible for either the biodiesel mixture excise tax credit under Code Sec. 6426(a)(1) and (c) or the biodiesel mixture income tax credit under Code Sec. 40A(a)(1) for each gallon of biodiesel that was blended with diesel fuel.

Growmark was eligible for - but did not elect to use - the income tax credits under Code Secs. 40 and 40A. Instead, Growmark claimed the alcohol fuel and biodiesel mixture excise tax credits under Code Sec. 6426 for all of the alcohol fuel and biodiesel mixtures it produced and sold during 2009 and 2010. It did so because claiming the Code Sec. 6426 excise tax credits against its Code Sec. 4081 excise tax liabilities was administratively easier than using the income tax credits and provided a quarterly financial benefit, as opposed to the annual financial benefit that would have been provided by general business credits claimed on an income tax return. Growmark's entitlement to these credits was not in dispute.

Under Reg. Sec. 1.61-3(a), the gross income of a taxpayer that produces and sells inventory in its trade or business includes the total sales, less the cost of goods sold (COGS). On its tax returns for 2009-2010, Growmark included in its COGS its actual excise tax expense, i.e., its reported excise tax liability reduced by the amount of tax credits it was allowed under Code Sec. 6426. As a result, Growmark's COGS was lower, and its taxable income higher, than it would have been had its excise tax liability not been reduced by the tax credits it received.

In a notice of deficiency, the IRS determined deficiencies with respect to issues other than Growmark's COGS calculation. Growmark filed a petition in the Tax Court, raising an affirmative allegation as to the excise tax COGS calculation. Growmark argued that the Code Sec. 6426 excise tax credit does not reduce excise tax expenses for COGS purposes. The IRS responded that as a fuel blender, Growmark's COGS included actual excise tax expense, which was reduced by the amount of any excise tax credits Growmark received. As the IRS saw it, Growmark first had to apply the mixture credits under Code Sec. 6426(b) and (c) against its fuel excise tax liabilities, and to the extent Growmark's credit allowed under Code Sec. 6426(a) exceeded its fuel excise tax liability, it could request a refund under Code Sec. 6426(e) or take a refundable credit against its income taxes under Code Sec. 34(a)(3).

Analysis

The Tax Court held that Growmark could claim as part of its COGS only that excise tax which it actually incurred or paid. Thus, the court determined that the amount of fuel excise tax includable in Growmark's COGS was reduced by the amount of the tax credits Growmark claimed and received under Code Sec. 6426(b) and (c).

According to the court, legislative history confirmed that the actual excise tax expense, rather than gross excise tax liability, had to be used for purposes of calculating Growmark's COGS. The court noted that the alcohol fuel mixture income tax credit under Code Sec. 40 and the biodiesel mixture income tax credit under Code Sec. 40A are general business credits, and each is "allowed as a credit against" income tax under Code Sec. 38. The court found that the credits operate to reduce, not satisfy, the claimant's income tax liability. Similarly, the court found that Code Sec. 4081(b)(2) reduces the blender's excise tax amount under Code Sec. 4081(b)(1) and is not, as Growmark contended, a payment of that amount. According to the court the words "allowed as a credit against the tax imposed," as used in Code Sec. 6426, refer to a reduction of the tax liability, as opposed to an independent payment of the liability.

The Tax Court noted that three circuit courts reached a similar conclusion based on the plain meaning of the statutory provisions at issue: the Fifth Circuit (Exxon Mobil Corp. v. U.S., 2022 PTC 228 (5th Cir. 2022); the Sixth Circuit (Delek US Holdings, Inc. v. U.S., 2022 PTC 400 (6th Cir. 2022), aff'g 2021 PTC 23 (M.D. Tenn. 2021)); and the Federal Circuit (Sunoco, Inc. v. U.S., 2018 PTC 374 (Fed. Cir. 2018), aff'g 2016 PTC 492 (2016)). The Tax Court found persuasive the reasoning of these courts. In addition, the court noted that the arguments advanced by the taxpayers in these prior decisions were substantively similar to those offered by Growmark. Thus, the court concluded that, consistent with the Fifth, Sixth, and Federal Circuits, and giving effect to the plain meaning of the statutory text at issue, the credits produced from fuel mixtures for sale in the trade or business of the fuel blender are first used, to the extent of the excise tax owed, to reduce excise tax liability. Only then, the court said, are those credits refundable payments to the extent of any excess.

The court found that even if Growmark's argument were not unambiguously foreclosed by statute, the court's interpretation of the text was consistent with the legislative intent of the American Jobs Creation Act of 2004, which revised and restructured the incentives for producing alcohol fuel mixtures. Congress's intent in enacting Code Sec. 6426, the court found, was to provide an "equivalent benefit" to replace the reduce prior-law excise tax rates for alcohol fuel mixtures, as well as to create a similar benefit for biodiesel mixtures, while protecting the solvency of the Highway Trust Fund. The court said that Growmark's interpretation of Code Sec. 6426 would deliver a larger tax benefit by giving taxpayers the benefit of the credit plus a COGS offset that exceeds their actual net fuel costs by the amount of the credit (in effect both a credit and a deduction or offset against gross income). The court said that if Congress intended to increase the benefit of the mixture credit, it would have modified or eliminated the requirement to include the Code Sec. 40 income tax credit in gross income.

For a discussion of the excise tax on taxable fuels and the credits allowed against the excise tax under Code Sec. 6426, see Parker Tax ¶236,101.

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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