Source Advisors


May 08, 2015 by Charles Duncan

Charles Duncan
Charles Duncan


As the first tax season under the final tangible property regulations progresses, many tax practitioners have turned their attention to the treatment of environmental remediation costs under the new regulations. Examples specifically addressing environmental remediation costs have been present in the repair regulations since they were first proposed in 2006 and are drawn from three cases and one revenue ruling issued in the 1990s and early 2000s. The final regulations present significant opportunities for tax savings or risk mitigation.


  • 1994: The Service issues Revenue Ruling 94-38. Here the Service ruled that a taxpayer who remediates soil and groundwater contamination arising from its manufacturing process did not have to capitalize the remediation costs under section 263(a), but rather the costs should be deducted under section 162.
  • 1997: In Norwest Corp. v. Commissioner, 108 T.C. 265, the Tax Court held that the cost of removing asbestos was part of a general plan of rehabilitation and renovation of the underlying building and must be capitalized under section 263(a). Norwest had constructed the facility in 1969. The initial construction included asbestos-containing materials. The Tax Court found that Norwest decided to remove the asbestos because the removal was essential to remodeling the building to accommodate additional personnel. As part of the remodeling process, the asbestos removal costs were capitalized under the general plan of rehabilitation doctrine.
  • 2000: In Dominion Resources Inc. v. United States, the Fourth Circuit held that a taxpayer must capitalize under section 263(a) the costs of environmental remediation that adapt the property to a new and different use. Dominion Resources had operated a facility as a power plant, during which time the site was contaminated. The power plant was decommissioned and put on the market as part of Dominion’s real estate development business. After putting the property on the market, Dominion decided to clean up sludge, asbestos, and other contaminants at the site, ostensibly to limit risk to trespassers and downstream residents if the property flooded. The Court found instead that the clean-up costs allowed Dominion to put the property to new and different uses.
  • 2001: InUnited Dairy Farmers, Inc. v. United States, the Sixth Circuit held that the costs to remediate soil contamination from leaking underground tanks must be capitalized under section 263(a). United Dairy Farmers operated retail gas stations and had unknowingly purchased two locations that had leaking underground gasoline tanks. Since United Dairy Farmers had not contaminated the property through its own business operations, the Court held that ameliorating the contamination must be capitalized.
  • 2006: Treasury proposed the “Repair Regulations”. These regulations had two examples drawn United Dairy Farmersand Norwest. In the first example, a taxpayer purchased land already contaminated by leaking underground tanks. Just as in United Dairy Farmers, the taxpayer had to capitalize the soil remediation costs that ameliorated a pre-existing condition. In the second example, a taxpayer undertook a remodeling project to expand its operations at a facility that it had constructed decades earlier with asbestos-containing materials. Unlike in Norwest, the asbestos-containing materials had not already contaminated the facility, but Federal regulations required its removal prior to beginning any remodeling work that could disturb it. The example described the asbestos removal costs as not ameliorating a pre-existing condition. Instead, the costs were capitalized under section 263A as costs that directly benefit or were incurred by reason of an improvement, the remodeling project.
  • 2008: Treasury issued substantially revised repair regulations. The underground storage tanks example had no substantive change. The asbestos remediation example was revised to state that the asbestos had begun to deteriorate. The example was also revised so that the asbestos removal was no longer required due to a remodeling project. With these differences, the asbestos removal costs were not capitalize-able as the amelioration of a pre-existing defect. A new example drawn from Dominion Resources was added. This example required the capitalization of environmental remediation costs where a taxpayer cleans up its former manufacturing facility to sell it to a residential developer. As in Dominion Resources, these costs were characterized as costs that adapt the property to a new or different use.
  • 2011: Treasury issued the temporary Tangible Property regulations addressing not just the repair regulations, but a wide variety of tangible property capitalization issues. The examples drawn from the three cases did not change substantively.
  • 2013: Treasury issued in final form some of the Tangible Property regulations, including all of the repair regulations. The underground tanks and asbestos removal examples did not change substantively. The Dominion Resources example was revised so that the taxpayer itself will develop the residential properties.


As the history makes clear, slight factual differences can drastically alter the tax treatment of remediation costs. Ameliorating pre-existing contamination or remediation that adapts the property to a new or different use must be capitalized under section 263(a). The presence of a possible contaminant, like underground storage tanks that have not leaked or asbestos in good condition does not create a preexisting defect. If these possible contaminants require remediation arising from a taxpayer’s use of the property, the costs will often be deductible. Even if the costs are not currently deductible under the final Tangible Property Regulations, taxpayers should be advised to consider alternative routes to deductibility for prior year costs. For example, section 198 which sunset after December 31, 2011, allowed a current deduction for qualified environmental remediation expenditures. These expenditures are costs that would otherwise be capitalize-able and that are paid in connection with the abatement or control of hazardous substances at a qualified contamination site. If a taxpayer can meet the requirements for 9100 relief, it can make a late section 198 election.

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