
From the U.S. Code Online via GPO Access
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[Laws in effect as of January 2, 2001]
[Document not affected by Public Laws enacted between
  January 2, 2001 and January 28, 2002]
[CITE: 26USC585]

 
                     TITLE 26--INTERNAL REVENUE CODE
 
                        Subtitle A--Income Taxes
 
                  CHAPTER 1--NORMAL TAXES AND SURTAXES
 
                   Subchapter H--Banking Institutions
 
Sec. 585. Reserves for losses on loans of banks


(a) Reserve for bad debts

                           (1) In general

        Except as provided in subsection (c), a bank shall be allowed a 
    deduction for a reasonable addition to a reserve for bad debts. Such 
    deduction shall be in lieu of any deduction under section 166(a).

                              (2) Bank

        For purposes of this section--

        (A) In general

            The term ``bank'' means any bank (as defined in section 
        581).

        (B) Banking business of United States branch of foreign 
                corporation

            The term ``bank'' also includes any corporation to which 
        subparagraph (A) would apply except for the fact that it is a 
        foreign corporation. In the case of any such foreign 
        corporation, this section shall apply only with respect to loans 
        outstanding the interest on which is effectively connected with 
        the conduct of a banking business within the United States.

(b) Addition to reserves for bad debts

                          (1) General rule

        For purposes of subsection (a), the reasonable addition to the 
    reserve for bad debts of any financial institution to which this 
    section applies shall be an amount determined by the taxpayer which 
    shall not exceed the addition to the reserve for losses on loans 
    determined under the experience method as provided in paragraph (2).

                        (2) Experience method

        The amount determined under this paragraph for a taxable year 
    shall be the amount necessary to increase the balance of the reserve 
    for losses on loans (at the close of the taxable year) to the 
    greater of--
            (A) the amount which bears the same ratio to loans 
        outstanding at the close of the taxable year as (i) the total 
        bad debts sustained during the taxable year and the 5 preceding 
        taxable years (or, with the approval of the Secretary, a shorter 
        period), adjusted for recoveries of bad debts during such 
        period, bears to (ii) the sum of the loans outstanding at the 
        close of such 6 or fewer taxable years, or
            (B) the lower of--
                (i) the balance of the reserve at the close of the base 
            year, or
                (ii) if the amount of loans outstanding at the close of 
            the taxable year is less than the amount of loans 
            outstanding at the close of the base year, the amount which 
            bears the same ratio to loans outstanding at the close of 
            the taxable year as the balance of the reserve at the close 
            of the base year bears to the amount of loans outstanding at 
            the close of the base year.

    For purposes of this paragraph, the base year shall be the last 
    taxable year before the most recent adoption of the experience 
    method, except that for taxable years beginning after 1987 the base 
    year shall be the last taxable year beginning before 1988.

                 (3) Regulations; definition of loan

        The Secretary shall define the term loan and prescribe such 
    regulations as may be necessary to carry out the purposes of this 
    section.

(c) Section not to apply to large banks

                           (1) In general

        In the case of a large bank, this section shall not apply (and 
    no deduction shall be allowed under any other provision of this 
    subtitle for any addition to a reserve for bad debts).

                           (2) Large banks

        For purposes of this subsection, a bank is a large bank if, for 
    the taxable year (or for any preceding taxable year beginning after 
    December 31, 1986)--
            (A) the average adjusted bases of all assets of such bank 
        exceeded $500,000,000, or
            (B) such bank was a member of a parent-subsidiary controlled 
        group and the average adjusted bases of all assets of such group 
        exceeded $500,000,000.

                  (3) 4-year spread of adjustments

        (A) In general

            Except as provided in paragraph (4), in the case of any bank 
        which for its last taxable year before the disqualification year 
        maintained a reserve for bad debts--
                (i) the provisions of this subsection shall be treated 
            as a change in the method of accounting of such bank for the 
            disqualification year,
                (ii) such change shall be treated as having been made 
            with the consent of the Secretary, and
                (iii) the net amount of adjustments required by section 
            481(a) to be taken into account by the taxpayer shall be 
            taken into account in each of the 4 taxable years beginning 
            with the disqualification year with--
                    (I) the amount taken into account for the 1st of 
                such taxable years being the greater of 10 percent of 
                such net amount or such higher percentage of such net 
                amount as the taxpayer may elect, and
                    (II) the amount taken into account in each of the 3 
                succeeding taxable years being equal to the applicable 
                fraction (determined in accordance with the following 
                table for the taxable year involved) of the portion of 
                such net amount not taken into account under subclause 
                (I).




                                                          The applicable
        If the case of the--                               fraction is--
          1st succeeding year.....................               \2/9\
          2nd succeeding year.....................               \1/3\
          3rd succeeding year.....................                \4/9\.


        (B) Suspension of recapture for taxable year for which bank is 
                financially troubled

            (i) In general

                In the case of a bank which is a financially troubled 
            bank for any taxable year--
                    (I) no adjustment shall be taken into account under 
                subparagraph (A) for such taxable year, and
                    (II) such taxable year shall be disregarded in 
                determining whether any other taxable year is a taxable 
                year for which an adjustment is required to be taken 
                into account under subparagraph (A) or the amount of 
                such adjustment.
            (ii) Exception for elective recapture for 1st year

                Clause (i) shall not apply to the 1st taxable year 
            referred to in subparagraph (A)(iii)(I) if the taxpayer 
            elects a higher percentage in accordance with such 
            subparagraph.
            (iii) Financially troubled bank

                For purposes of clause (i), the term ``financially 
            troubled bank'' means any bank if, for the taxable year, the 
            nonperforming loan percentage of such bank exceeds 75 
            percent.
            (iv) Nonperforming loan percentage

                For purposes of clause (iii), the term ``nonperforming 
            loan percentage'' means the percentage determined by 
            dividing--
                    (I) the sum of the outstanding balances of 
                nonperforming loans of the bank as of the close of each 
                quarter of the taxable year, by
                    (II) the sum of the amounts of equity of the bank as 
                of the close of each such quarter.

          In the case of a bank which is a member of a parent-subsidiary 
            controlled group for the taxable year, the preceding 
            sentence shall be applied with respect to such group.
            (v) Other definitions

                For purposes of this subparagraph--
                (I) Nonperforming loans

                    The term ``nonperforming loan'' means any loan which 
                is considered to be nonperforming by the primary Federal 
                regulatory agency with respect to the bank.
                (II) Equity

                    The term ``equity'' means the equity of the bank as 
                determined for Federal regulatory purposes.

        (C) Coordination with estimated tax payments

            For purposes of applying section 6655(e)(2)(A)(i) with 
        respect to any installment, the determination under subparagraph 
        (B) of whether an adjustment is required to be taken into 
        account under subparagraph (A) shall be made as of the last day 
        prescribed for payment of such installment.

                     (4) Elective cut-off method

        If a bank makes an election under this paragraph for the 
    disqualification year--
            (A) the provisions of this subsection shall not be treated 
        as a change in the method of accounting of the taxpayer for 
        purposes of section 481,
            (B) the taxpayer shall continue to maintain its reserve for 
        loans held by the bank as of the 1st day of the disqualification 
        year and charge against such reserve any losses resulting from 
        loans held by the bank as of such 1st day, and
            (C) no deduction shall be allowed under this section (or any 
        other provision of this subtitle) for any addition to such 
        reserve for the disqualification year or any subsequent taxable 
        year.

    If the amount of the reserve referred to in subparagraph (B) as of 
    the close of any taxable year exceeds the outstanding balance (as of 
    such time) of the loans referred to in subparagraph (B), such excess 
    shall be included in gross income for such taxable year.

                           (5) Definitions

        For purposes of this subsection--

        (A) Parent-subsidiary controlled group

            The term ``parent-subsidiary controlled group'' means any 
        controlled group of corporations described in section 
        1563(a)(1). In determining the average adjusted bases of assets 
        held by such a group, interests held by one member of such group 
        in another member of such group shall be disregarded.

        (B) Disqualification year

            The term ``disqualification year'' means, with respect to 
        any bank, the 1st taxable year beginning after December 31, 
        1986, for which such bank was a large bank if such bank 
        maintained a reserve for bad debts for the preceding taxable 
        year.

        (C) Election made by each member

            In the case of a parent-subsidiary controlled group, any 
        election under this section shall be made separately by each 
        member of such group.

(Added Pub. L. 91-172, title IV, Sec. 431(a), Dec. 30, 1969, 83 Stat. 
616; amended Pub. L. 94-455, title XIX, Sec. 1906(b)(13)(A), Oct. 4, 
1976, 90 Stat. 1834; Pub. L. 97-34, title II, Sec. 267(a), Aug. 13, 
1981, 95 Stat. 266; Pub. L. 99-514, title IX, Sec. 901(a), (d)(1), Oct. 
22, 1986, 100 Stat. 2375, 2378; Pub. L. 100-203, title X, 
Sec. 10301(b)(2), Dec. 22, 1987, 101 Stat. 1330-429; Pub. L. 100-647, 
title I, Sec. 1009(a)(2), (3), Nov. 10, 1988, 102 Stat. 3445; Pub. L. 
101-508, title XI, Sec. 11801(a)(26), (c)(12)(C)-(E), Nov. 5, 1990, 104 
Stat. 1388-521, 1388-527; Pub. L. 104-188, title I, Sec. 1616(b)(6), 
Aug. 20, 1996, 110 Stat. 1856.)


                               Amendments

    1996--Subsec. (a)(2)(A). Pub. L. 104-188 struck out ``other than an 
organization to which section 593 applies'' after ``section 581)''.
    1990--Subsec. (b)(1). Pub. L. 101-508, Sec. 11801(c)(12)(C), 
substituted ``shall not exceed the addition to the reserve for losses on 
loans determined under the experience method as provided in paragraph 
(2).'' for ``shall not exceed the greater of--
        ``(A) for taxable years beginning before 1988 the addition to 
    the reserve for losses on loans determined under the percentage 
    method as provided in paragraph (2), or
        ``(B) the addition to the reserve for losses on loans determined 
    under the experience method as provided in paragraph (3).''
    Subsec. (b)(2). Pub. L. 101-508, Sec. 11801(a)(26), (c)(12)(D), 
redesignated par. (3) as (2) and struck out former par. (2) which 
related to use of percentage method for determining amount to add to 
reserve for bad debts.
    Subsec. (b)(3). Pub. L. 101-508, Sec. 11801(c)(12)(D), (E), 
redesignated par. (4) as (3), substituted heading for one which read: 
``Regulations; definition of eligible loan, etc.'', and amended text 
generally. Prior to amendment, text read as follows: ``The Secretary 
shall define the terms `loan' and `eligible loan' and prescribe such 
regulations as may be necessary to carry out the purposes of this 
section; except that the term `eligible loan' shall not include--
        ``(A) a loan to a bank (as defined in section 581),
        ``(B) a loan to a domestic branch of a foreign corporation to 
    which subsection (a)(2) applies,
        ``(C) a loan secured by a deposit (i) in the lending bank, or 
    (ii) in an institution described in subparagraph (A) or (B) if the 
    lending bank has control over withdrawal of such deposit,
        ``(D) a loan to or guaranteed by the United States, a possession 
    or instrumentality thereof, or a State or a political subdivision 
    thereof,
        ``(E) a loan evidenced by a security as defined in section 
    165(g)(2)(C),
        ``(F) a loan of Federal funds, and
        ``(G) commercial paper, including short-term promissory notes 
    which may be purchased on the open market.'' Former par. (3) 
    redesignated (2).
    Subsec. (b)(4). Pub. L. 101-508, Sec. 11801(c)(12)(D), redesignated 
par. (4) as (3).
    1988--Subsec. (c)(3)(A)(iii)(I). Pub. L. 100-647, 
Sec. 1009(a)(2)(B), substituted ``such higher percentage of such net 
amount as the taxpayer may elect'' for ``such greater amount as the 
taxpayer may designate''.
    Subsec. (c)(3)(B)(ii). Pub. L. 100-647, Sec. 1009(a)(2)(C), 
substituted ``elects a higher percentage'' for ``designates an amount''.
    Subsec. (c)(4). Pub. L. 100-647, Sec. 1009(a)(3), inserted at end 
``If the amount of the reserve referred to in subparagraph (B) as of the 
close of any taxable year exceeds the outstanding balance (as of such 
time) of the loans referred to in subparagraph (B), such excess shall be 
included in gross income for such taxable year.''
    Subsec. (c)(5)(C). Pub. L. 100-647, Sec. 1009(a)(2)(A), added 
subpar. (C).
    1987--Subsec. (c)(3)(C). Pub. L. 100-203 substituted ``section 
6655(e)(2)(A)(i)'' for ``section 6655(d)(3)''.
    1986--Subsec. (a). Pub. L. 99-514, Sec. 901(a)(1), amended subsec. 
(a) generally. Prior to amendment, subsec. (a) read as follows: ``This 
section shall apply to the following financial institutions:
        ``(1) any bank (as defined in section 581) other than an 
    organization to which section 593 applies, and
        ``(2) any corporation to which paragraph (1) would apply except 
    for the fact that it is a foreign corporation, and in the case of 
    any such foreign corporation this section shall apply only with 
    respect to loans outstanding the interest on which is effectively 
    connected with the conduct of a banking business within the United 
    States.''
    Subsec. (b)(1). Pub. L. 99-514, Sec. 901(d)(1), substituted 
``subsection (a)'' for ``section 166(c)''.
    Subsec. (c). Pub. L. 99-514, Sec. 901(a)(2), added subsec. (c).
    1981--Subsec. (b)(2). Pub. L. 97-34 defined ``allowable percentage'' 
to mean 1.0 percent for taxable years beginning in 1982 and 0.6 percent 
for taxable years beginning after 1982, previously so applicable for 
taxable years beginning after 1981 and redefined ``base year'' by 
substituting the last taxable year beginning before 1976 for taxable 
years beginning after 1975 but before 1983, for the last taxable year 
beginning before 1976 for taxable years after 1975 but before 1982; and 
the last taxable year beginning before 1983 for taxable years beginning 
after 1982, for the last taxable year beginning before 1982 for taxable 
years beginning after 1981.
    1976--Subsec. (b)(3), (4). Pub. L. 94-455 struck out ``or his 
delegate'' after ``Secretary''.


                    Effective Date of 1996 Amendment

    Amendment by Pub. L. 104-188 applicable to taxable years beginning 
after Dec. 31, 1995, see section 1616(c) of Pub. L. 104-188, set out as 
a note under section 593 of this title.


                    Effective Date of 1988 Amendment

    Amendment by Pub. L. 100-647 effective, except as otherwise 
provided, as if included in the provision of the Tax Reform Act of 1986, 
Pub. L. 99-514, to which such amendment relates, see section 1019(a) of 
Pub. L. 100-647, set out as a note under section 1 of this title.


                    Effective Date of 1987 Amendment

    Section 10301(c) of Pub. L. 100-203 provided that: ``The amendments 
made by this section [amending this section and sections 6201, 6425, 
6601, 6651, and 6655 of this title and repealing section 6154 of this 
title] shall apply to taxable years beginning after December 31, 1987.''


                    Effective Date of 1986 Amendment

    Amendment by Pub. L. 99-514 applicable to taxable years beginning 
after Dec. 31, 1986, see section 901(e) of Pub. L. 99-514, set out as a 
note under section 166 of this title.


                    Effective Date of 1981 Amendment

    Section 267(b) of Pub. L. 97-34 provided that: ``The amendment made 
by subsection (a) [amending this section] shall apply to taxable years 
beginning after 1981.''


                             Effective Date

    Section 431(d) of Pub. L. 91-172 provided that: ``The amendments 
made by subsections (a) [enacting this section and section 586 of this 
title] and (c) [amending section 166 of this title] shall apply to 
taxable years beginning after July 11, 1969.''


                            Savings Provision

    For provisions that nothing in amendment by Pub. L. 101-508 be 
construed to affect treatment of certain transactions occurring, 
property acquired, or items of income, loss, deduction, or credit taken 
into account prior to Nov. 5, 1990, for purposes of determining 
liability for tax for periods ending after Nov. 5, 1990, see section 
11821(b) of Pub. L. 101-508, set out as a note under section 29 of this 
title.

                  Section Referred to in Other Sections

    This section is referred to in sections 172, 265, 291, 593, 1277, 
1361 of this title.
