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were not made to develop the business’s worth that is subject to protection creation. In addition, the amounts
initial status. Rather, they were made to under applicable State, Federal or for- do not create a separate and distinct
maintain and enhance Twitty’s personal eign law and the possession and con- intangible asset within the meaning
business reputation and as such were trol of which is intrinsically capable of paragraph (b)(3) of this section.
deductible expenses, the court held. of being sold, transferred or pledged Accordingly, the amounts paid to
As discussed further below, VCOs (ignoring any restrictions imposed the consultant are not required to
provide a mechanism, even without an on assignability) separate and apart be capitalized under this section.
obligation (i.e., “voluntary”), to pay costs from a trade or business. While the amounts may serve to
that will enhance the reputation of the reduce future operating and capital
business. Importantly, regulatory and The section provides an example of costs and create goodwill with
stakeholder expectations are moving an amount paid that does not create a customers, these benefits, without
in the direction of businesses’ respon- separate and distinct intangible asset or more, are not intangibles for which
sibility to contribute to GHG emis- is otherwise required to be capitalized capitalization is required under
sion reductions. under Regs. Sec. 1.263(a)-4(b)(3) and is this section.
similar to the purpose of VCOs:19
Sec. 263 and Regs. Sec. This example describes an instance of
1.263(a)-4 Demand-side management. a company’s incurring costs on behalf of
Sec. 263 provides that a long-term (i) X coporation, a public utility en- others that provide benefits to the other
benefit is not currently deductible as an gaged in generating and distributing party. The example does not go into the
expense. This consideration achieved electrical energy, provides programs elements of whether the costs are “or-
particular notoriety in INDOPCO.17 In to its customers to promote energy dinary and necessary”; however, it does
that case, the Supreme Court agreed conservation and energy efficiency. show how this type of activity does not
with the IRS that amounts incurred to These programs are aimed at reduc- create capitalized costs.
facilitate a friendly merger were required ing electrical costs to X’s customers,
to be capitalized, as they provided a long- building goodwill with X’s custom- Deductibility of VCOs and
term benefit. ers, and reducing X’s future operat- other ESG costs
This area can be ambiguous in that ing and capital costs. X provides Net-zero emission initiatives, VCOs,
many expenditures are difficult to trace to these programs without obligating and other related voluntary activities
the creation of specific assets but clearly any of its customers participating move toward the internalization of
provide long-term impact. For instance, in the programs to purchase power traditional externalities.20 Participants
expenditures in the areas of marketing, from X in the future. Under these could avoid these costs through trans-
repairs, and research and development programs, X pays a consultant to ferring them to the entire system.
all may provide benefits that extend help industrial customers design Companies are beginning to attempt to
beyond the end of the tax year but are energy-efficient manufactur- measure and bear the full cost of opera-
currently deductible. ing processes, to conduct “energy tions, including external environmental
Treasury sought to provide clarity in efficiency audits” that serve to impacts. These actions are not manda-
the area of intangible assets through the identify for customers inefficien- tory; however, as discussed above, the
issuance of Regs. Sec. 1.263(a)-4. These cies in their energy usage patterns, approach is becoming more and more
provisions, also known as the “INDOP- and to provide cash allowances to expected from stakeholders and in terms
CO” regulations, hold that expenses that encourage residential customers of good management practice.
produce a separate and distinct intangible to replace existing appliances with The TCFD reporting framework
asset are required to be capitalized.18 more energy efficient appliances. and the SEC discussions make it clear
Regs. Sec. 1.263(a)-4(b)(3) defines a (ii) The amounts paid by X to the that although ESG actions and activi-
“separate and distinct” intangible asset as: consultant are not amounts to ac- ties and reporting are voluntary, they are
quire or create an intangible under becoming de facto mandatory in many
[A] property interest of ascertainable paragraph (c) or (d) of this section ways. There are both direct and indirect
and measurable value in money’s or to facilitate such an acquisition or strategic impacts. Companies need to

17. INDOPCO, Inc., 503 U.S. 79 (1992). 20. An externality is a side effect or consequence of an industrial or commercial
18. Regs. Sec. 1.263(a)-4(b)(1)(iii). activity that affects other parties without this being reflected in the cost of the
19. Regs. Sec. 1.263(a)-4(l), Example (4). goods or services of the producer.

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