CCA 1040004: An AVA designation can be an amortizable section 197 intangible

Plain-English summary

Chief Counsel Advice considered whether the amount allocated to an American viticultural area designation when purchasing a vineyard could be amortized under IRC § 197. It concluded that the designation is a right granted by a governmental unit, not an interest in land, so it can be a section 197 intangible. The advice warned that valuing the designation may be difficult because the benefit may accrue to comparable vineyards throughout the area. It also noted that an allocated amount is not a separate intangible if the value is already included in the cost of land and improvements, unless facts show a clear premium such as a recognized and marketable trade name.

Ruling snapshot

• Question: Is an amount allocated to the right to use an American viticultural area designation an amortizable section 197 intangible?
• Outcome: Advice given
• Key authorities: IRC § 197; Treas. Reg. § 1.197-2

Full text (IRS public release)

       Office of Chief Counsel
       Internal Revenue Service
       Memorandum
       Number: 201040004
       Release Date: 10/8/2010
       CC:ITA:B07:RNasrallah                        Third Party Communication: None
       POSTN-114336-10                              Date of Communication: Not Applicable

UILC: 197.00-00

date: June 24, 2010

 to:   Nicholas J. Singer
       Attorney, CC:LM:CTM:SF:2
       (Large & Mid-Size Business)

from: Branch Chief, Branch 7, CC:ITA:7
(Income Tax & Accounting)

subject: Treatment of American Viticultural Area Designation Under Section 197

       This Chief Counsel Advice responds to your request for assistance. This advice may
       not be used or cited as precedent.

       LEGEND

       Taxpayer             = ----------------------------------------------------

       Date                 = ----------------------

       Location A           = ----------------

       Location B           = --------------

       X                    = ------

       Y                    = --------


       ISSUE

       When Taxpayer purchased a vineyard that is located in an American viticultural area
       ("AVA"), is the amount of the purchase price allocated by Taxpayer to the right to use
       the AVA designation an amortizable § 197 intangible?

POSTN-114336-10 2

CONCLUSION

For § 197 purposes, the right to use an AVA designation is a license, permit, or other
right granted by a governmental unit and is not an interest in land. Therefore, the right
to use an AVA designation is a § 197 intangible and the amount of the vineyard’s
purchase price allocated by Taxpayer to the right to use the AVA designation is an
amortizable § 197 intangible.

FACTS

On Date, Taxpayer purchased a vineyard in the Location A viticultural area and the
Location B viticultural area. The Alcohol and Tobacco Tax and Trade Bureau ("TTB") of
the United States Department of the Treasury has approved the Location A viticultural
area and the Location B viticultural area as AVAs. Taxpayer allocated a portion of the
purchase price to the right to use the AVA designation and treats such allocated amount
as an amortizable § 197 intangible.

LAW AND ANALYSIS

Section 197(a) of the Internal Revenue Code provides that a taxpayer shall be entitled
to an amortization deduction with respect to any amortizable § 197 intangible. Section
197(c)(1) provides that, in general, the term “amortizable section 197 intangible” means
any § 197 intangible which is acquired after August 10, 1993, and which is held in
connection with the conduct of a trade or business or an activity described in § 212.

Section 197(d)(1)(D) provides that the term "section 197 intangible" means, among
other things, any license, permit, or other right granted by a governmental unit or an
agency or instrumentality thereof. Section 1.197-2(b)(8) of the Income Tax Regulations
provides that § 197 intangibles include any license, permit, or other right granted by a
governmental unit (including for purposes of § 197, an agency or instrumentality
thereof) even if the right is granted for an indefinite period or is reasonably expected to
be renewed for an indefinite period. These rights include, for example, a liquor license,
a taxi-cab medallion (or license), an airport landing or takeoff right (sometimes
referred to as a slot), a regulated airline route, or a television or radio broadcasting
license.

Section 197(e)(2) provides that the term "section 197 intangibles" does not include,
among other things, any interest in land. Section 1.197-(2)(c)(3) provides for this
purpose, an interest in land includes a fee interest, life estate, remainder, easement,
mineral right, timber right, grazing right, riparian right, air right, zoning variance, and any
other similar right, such as a farm allotment, quota for farm commodities, or crop
acreage base. However, an interest in land does not include an airport landing or
takeoff right, a regulated airline route, or a franchise to provide cable television service.

The TTB has promulgated regulations relating to AVAs in 27 CFR Part 9. 27 CFR § 9.3
provides the procedures for submitting a petition (including the information to be
included in such petition) to the Administrator to establish an American viticultural area.
The Administrator is defined in 27 CFR § 9.11 as the Administrator of the TTB.

Pursuant to 27 CFR § 9.11, a viticultural area is defined as a delimited grape growing
region distinguishable by geographical features, the boundaries of which have been
delineated in Subpart C of 27 CFR Part 9 (Approved American Viticultural Areas). 27
CFR § 9.21 provides that the viticultural areas listed in Subpart C of 27 CFR Part 9 are
approved for use as appellation of origin in accordance with 27 CFR Part 4. Two of
these approved American viticultural areas are the Location A viticultural area as
described in 27 CFR § X and the Location B viticultural area as described in 27 CFR §
Y.

In addition, the TTB has promulgated regulations relating to AVAs in 27 CFR Part 4 with
respect to the labeling and advertising of wine. Under 27 CFR § 4.23(a), the names of
one or more grape varieties may be used as the type designation of a grape wine only if
the wine is also labeled with an appellation of origin as defined in 27 CFR § 4.25(a). 27
CFR § 4.25(a)(1) provides that for American wine, an American appellation of origin is:
(i) the United States; (ii) a state; (iii) two or no more than three states which are all
contiguous; (iv) a county (which must be identified with the word “county" in the same
size of type, and in letters as conspicuous as the name of the county); (v) two or no more
than three counties in the same states; or (vi) a viticultural area as defined in 27 CFR §
4.25(e). 27 CFR § 4.34(b) provides in pertinent part that an appellation of origin
disclosing the true place of origin of the wine shall appear in direct conjunction with and
in lettering substantially as conspicuous as the class and type designation if a varietal
(grape type) designation is used on the label.

For purposes of 27 CFR Part 4, a viticultural area for American wine is defined in 27
CFR § 4.25(e)(1)(i) as a delimited grape growing region distinguishable by geographical
features, the boundaries of which have been recognized in 27 CFR Part 9. 27 CFR §
4.25(e)(3)(i), (ii), and (iv) provide that in the case of American wine, a wine may be
labeled with a viticultural area appellation only if the appellation has been approved
under 27 CFR Part 9, not less than 85 percent of the wine is derived from grapes grown
within the boundaries of the viticultural area, and it has been fully finished within the
state or one of the states, within which the labeled viticultural area is located. 27 CFR §
4.25(e)(2) provides that petitions for establishment of American viticultural areas may
be made to the Administrator by any interested party.

The TTB approves the areas established as AVAs. Any winemaker regardless of
whether they have petitioned to establish an AVA may use an AVA designation on its
wine bottle label if that winemaker meets the requirements set forth by the TTB.
These requirements are that the vitcultural area appellation has been approved by the
TTB under 27 CFR Part 9, not less than 85 percent of the wine is derived from grapes
grown within the boundaries of the viticultural area, and it has been fully finished within
the state or one of the states, within which the labeled viticultural area is located.
Accordingly, the right to use an AVA designation is a right granted by a governmental
unit and is a § 197 intangible within the meaning of § 197(d)(1)(D).

POSTN-114336-10 4

However, an interest in land is not a § 197 intangible. Section 1.197-2(c)(3) provides a
nonexclusive list of examples of interests in land. For this purpose, an interest in land
includes a fee interest, life estate, remainder, easement, mineral right, timber right,
grazing right, riparian right, air right, zoning variance, and any other similar right, such
as a farm allotment, quota for farm commodities, or crop acreage base. Arguably, the
AVA designation is an interest in land because the grapes producing the wine are
harvested from the vineyard and the vineyard is land. However, the AVA designation
applies to one of the uses of a particular crop from any land within the designated
viticultural area, which is further processed into a finished product. It is not the right to
or a limitation on the uses or product of a particular piece of land within the designated
viticultural area. Consequently, the AVA designation is not similar to any of the
enumerated examples of interests in land as stated in § 1.197-(2)(c)(3) and, thus, is not
an interest in land under § 197(e)(2) and § 1.197-2(c)(3).

CASE DEVELOPMENT, HAZARDS AND OTHER CONSIDERATIONS

We have concerns about how a taxpayer would value the right to use an AVA
designation. It is unclear whether the value of the right to use an AVA designation
attaches to an acquisition of a particular vineyard within an AVA. The benefit in value
from the right to use an AVA designation accrues to all land whose highest and best use
is as a vineyard within such designated viticultural area. Consequently, all of the
closest comparable vineyards share the same intangible benefit thereby making an
appraiser’s determination of the increment of value assigned to the intangible benefit
and finding comparable vineyards outside of the particular AVA factually difficult.

In addition, § 197(f)(8) provides that § 197 shall not apply to any increment of value if,
without regard to § 197, such increment is properly taken into account in determining
the cost of property (the land and tangible improvements) that is not a § 197 intangible.
Without § 197, the benefit of an AVA designation to a vineyard would be subsumed into
the value of the land and improvements. Only if there was a factual showing of some
clear premium, such as a recognized and marketable tradename to a taxpayer's
vineyard, would an intangible asset be recognized.

This writing may contain privileged information. Any unauthorized disclosure of this
writing may undermine our ability to protect the privileged information. If disclosure is
determined to be necessary, please contact this office for our views.

POSTN-114336-10 5

Please call (202) 622-4930 if you have any further questions.

                                   GEORGE BLAINE
                                   Associate Chief Counsel
                                   (Income Tax & Accounting)



                             By: ___KATHLEEN REED_______
                                 Kathleen Reed
                                 Branch Chief, Branch 7
                                 (Income Tax & Accounting)