## Facts

- Idaho Power Company, a regulated electric utility, owned transportation and construction equipment used both in routine operations and in constructing its own capital facilities (including transmission lines).
- For federal income tax purposes, the company claimed depreciation deductions under I.R.C. § 167(a) on all equipment, including the portion attributable to construction use.
- For regulatory accounting, the company capitalized construction-related depreciation into the cost of the constructed facilities, as required by utility regulators.
- The Commissioner disallowed the current deduction for the construction-related portion of depreciation, treating it as a capital expenditure required to be capitalized under I.R.C. § 263(a)(1).
- The Tax Court sustained the Commissioner; the Ninth Circuit reversed; the Supreme Court granted certiorari.

## Issues

1. Whether depreciation on equipment, to the extent allocable to the taxpayer’s construction of its own capital facilities, is currently deductible under I.R.C. § 167(a) or must be capitalized under I.R.C. § 263(a)(1).
2. Whether § 263(a)(1)’s reference to “any amount paid out” can reach depreciation allocations, and how I.R.C. § 161 affects the priority between deductions and capitalization.

## Decision

- The Supreme Court reversed the Ninth Circuit and reinstated the Commissioner’s position.
- Depreciation on equipment allocable to construction of the taxpayer’s capital facilities must be capitalized as part of the facilities’ cost under § 263(a)(1), rather than deducted currently under § 167(a).
- Section 161 makes § 167(a) deductions subject to the exceptions in Part IX, including § 263; thus, when costs fall within § 263, capitalization controls.
- Construction-related depreciation is a cost of acquiring a capital asset and must be included in basis to prevent distortion of income and to maintain parity with contracting out construction.
- Justice Douglas dissented.

## Legal Principles

- Costs properly attributable to the acquisition or construction of a capital asset must be capitalized under § 263(a)(1), even if the costs are noncash allocations such as depreciation.
- Deductions allowed under Part VI of the Code (including § 167(a)) are limited by capitalization exceptions in Part IX (including § 263) pursuant to § 161.
- “Amount paid out” in § 263(a)(1) is construed broadly to include allocable costs of construction that form part of the asset’s acquisition cost, not only contemporaneous cash expenditures.
- Tax accounting seeks to match the costs of creating long-lived assets to the periods benefited; immediate expensing of construction-related depreciation would misstate income.
- Capitalization rules should treat self-constructed assets comparably to assets built by independent contractors, whose charges would embed equipment depreciation in capital cost.

## Conclusion

The Court held that depreciation attributable to equipment used to construct a taxpayer’s own capital facilities must be capitalized into the facilities’ cost under § 263(a)(1), and recovered over time through depreciation of the completed capital assets, notwithstanding the general depreciation deduction in § 167(a).


Comm’r of Internal Revenue v. Idaho Power Co., 418 U.S. 1 (1974)