                         110 T.C. No. 27



                     UNITED STATES TAX COURT



          PNC BANCORP, INC., SUCCESSOR TO FIRST NATIONAL
         PENNSYLVANIA CORPORATION, ET AL.,1 Petitioner v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket Nos. 16002-95, 16003-95,           Filed June 8, 1998.
                 16109-96, 16110-96.


          As a result of mergers, P succeeded to the
     interests of two banks. During the years in issue, the
     banks' primary source of revenue was interest charged
     on loans. In the process of making loans, the banks
     incurred costs for property reports, credit reports,
     appraisals, recording security interests, and salaries
     and benefits to bank employees. The lives of the loans
     extended beyond the year in which the expenditures were
     incurred. For financial accounting purposes, loan
     origination expenditures related to completed loans
     were capitalized and amortized over the life of the
     loans. For Federal tax purposes, these expenditures
     were deducted in the year incurred. P argues that,


     1
      The following cases are consolidated: PNC Bancorp, Inc.,
Transferee of Assets of First National Pennsylvania Corporation,
docket No. 16003-95; PNC Bancorp, Inc., Successor to United
Federal Bancorp, Inc., and Subsidiaries, docket No. 16109-96; and
PNC Bancorp, Inc., Transferee of Assets of United Federal
Bancorp, Inc., and Subsidiaries, docket No. 16110-96.
                                   2

     because the expenditures are both recurring and
     integral to the business of the banks, they are
     currently deductible under sec. 162(a), I.R.C.

          Held: The loan origination expenditures were
     incurred in the creation of loans. These loans were
     separate and distinct assets that generated revenue
     over a period beyond the current taxable year. The
     expenditures are not currently deductible under sec.
     162(a), I.R.C., and must be capitalized under sec.
     263(a), I.R.C.


     Robert J. Jones, Thomas R. Dwyer, and Anthony J. O'Donnell,

for petitioner.2

     John A. Guarnieri, David B. Silber, and Richard H. Gannon,

for respondent.



     RUWE, Judge:     These consolidated cases involve deficiencies

determined by respondent as follows:


                   First National Pennsylvania Corp.
                   docket Nos. 16002-95 and 16003-95


             Year                          Deficiency

             1988                           $101,785
             1990                                978


                      United Federal Bancorp, Inc.
                   docket Nos. 16109-96 and 16110-96


             Year                          Deficiency

             1990                            $7,863
             1991                            10,236
             1992                            18,885
             1993                             7,659


     2
      Brief amicus curiae was filed for the American Bankers
Association.
                                 3


     The sole issue for decision is whether loan origination

expenditures were ordinary and necessary business expenses

properly deductible under section 162(a)3 or whether they are

required to be capitalized under section 263.


                         FINDINGS OF FACT


     Some of the facts have been stipulated and are incorporated

herein by this reference.

     During the years in issue, First National Pennsylvania Corp.

(FNPC) was a corporation organized under the laws of Pennsylvania

and was the owner of all the stock of the First National Bank of

Pennsylvania (FNBP), East Bay Mortgage Co., and other

corporations which joined with FNPC in the filing of consolidated

Federal corporation income tax returns (Forms 1120) (the FNPC

Group).   The Forms 1120 of the FNPC Group for the calendar years

1988, 1989, and 1990 were prepared using the accrual method of

accounting.

     During the years 1990 through 1993, United Federal Bancorp,

Inc. (UFB) was a corporation organized under the laws of

Pennsylvania and was the owner of all the stock of the United

Federal Savings Bank (UFSB) and other corporations which joined

with UFB in the filing of Forms 1120 (the UFB Group).   The Forms




     3
      Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the taxable years in
issue, and all Rule references are to the Tax Court Rules on
Practice and Procedure.
                                   4

1120 of the UFB Group for the calendar years 1990 through 1994

were prepared using the accrual method of accounting.

     At all times material, FNBP and UFSB were Federally

chartered banks that were actively engaged in the banking

business.

     Petitioner is a bank holding company organized as a

corporation under the laws of Delaware.    Petitioner's principal

place of business was located in Delaware at the time it filed

the petitions in these cases.4    On or about July 23, 1992, FNPC

was merged into petitioner.    On or about January 21, 1994, UFB

was merged into petitioner.    By virtue of these mergers,

petitioner succeeded by operation of law to the assets and

liabilities of FNPC and UFB.     Petitioner is a transferee at law

of assets of FNPC and UFB and as such would be liable under

section 6901 for any deficiencies in Federal income tax

determined to be owing by FNPC and UFB for the years at issue.

     The principal businesses of FNBP and UFSB (collectively

referred to as the banks) consisted of accepting demand and time

deposits and using the amounts deposited, together with other



     4
      The petitions filed in docket Nos. 16002-95 and 16003-95
were filed by petitioner in response to a notice of deficiency
(in the case of docket No. 16002-95) and a notice of liability
(in the case of docket No. 16003-95) sent to petitioner in its
respective capacities as successor in interest to First National
Pennsylvania Corp. (FNPC) and as transferee of assets of FNPC.
The petitions filed in docket Nos. 16109-96 and 16110-96 were
filed by petitioner in response to a notice of deficiency (in the
case of docket No. 16109-96) and a notice of liability (in the
case of docket No. 16110-96) sent to petitioner in its respective
capacities as successor in interest to United Federal Bancorp,
Inc. and Subs. (UFB) and as transferee of assets of UFB.
                                  5

funds, to make loans.    These loans included consumer and

commercial term loans and letters of credit, as well as

residential and commercial mortgage loans.    The banks also

provided services and products to customers in addition to the

loans.    For consumer customers these services and products

included checking accounts, savings accounts, money market

accounts, safe deposit boxes, automated teller machine (ATM)

cards, overdraft insurance, credit protection insurance,

certified checks, wire transfers, and traveler's checks.     For

commercial customers these services and products included,

deposit products, treasury management services, investment

services, employee benefit plan services, and commercial night

drop services.

     At all times material, loan interest was the largest source

of revenue, and interest on deposits and other borrowings was the

largest expense for each bank.    Each bank also derived revenues

and incurred expenses with respect to safe deposit boxes, ATM

cards, late payments on loans, wire transfers, and traveler's

checks.

     Branches operated by the banks had what are commonly

referred to as "teller operations" and "platform operations".

The teller operation at a branch consisted of teller windows

staffed by tellers who, among other tasks, accepted deposits,

disbursed cash, and sold cashier's checks, traveler's checks, and

money orders.    Tellers referred customers who were interested in

other bank products, such as loan and deposit products, to
                                 6

platform operation employees.   The platform operation at a branch

was conducted by customer service representatives, branch

managers and assistant branch managers, each of whom was assigned

a desk on the floor or "platform" of the branch on the customer's

side of the tellers' windows.   These platform employees were

generally responsible for assisting customers in applying for

consumer loans, renting safe deposit boxes, obtaining ATM cards,

opening checking accounts, and opening new deposit accounts

(including time deposits such as certificates of deposit).    Each

of the banks also had commercial loan officers who were

responsible for the commercial products offered by the respective

institutions, including loan products, cash management and

deposit products, and employee benefit services.

     The banks drew their business from their respective

geographic service areas through a combination of walk-in

business, referrals, prior relationships with customers,

advertising, and the direct, active, and personal solicitation of

new and existing customers through telephone calls, letters, and

other means.   Tellers and platform employees of the banks were

encouraged to solicit new business, with an emphasis on

encouraging the customer to look to the banks for a wide variety

of financial services and products.   Each of the banks offered

financial incentives to certain of its platform employees and

tellers to sell multiple products and services (cross-sell

incentives).   The banks conducted training programs for

employees, including classes dealing with lending and the
                                 7

development of skills in selling loans and other products.    UFSB

employed a sales training officer who met with UFSB platform

employees monthly to promote the sale of new UFSB products and

services.

     Banks generally are able to earn profits only if they

successfully manage their "net interest margin", which is the

difference between interest earned and interest paid.    In order

for banks to operate profitably, their net interest margin plus

revenues from fees and other sources must exceed their losses on

loans and investments (i.e., losses from bad debts) plus

operating costs.   A bank's ability to operate profitably is in

large part determined by its credit risk management, since loan

losses are one of the largest controllable expenses at a bank.

Many of the activities that are part of a bank's lending function

are related to credit risk management.   These activities include

the establishment of written policies and procedures, the loan

application process, credit investigation, credit evaluation,

documentation, collections, and portfolio supervision.   A bank

establishes its written policies and procedures with respect to

loans after it has determined the types of loans that it will

offer and the markets that it will target.5   Once the loan

products are identified, the bank develops written policies



     5
      During the years in issue, the banks offered various kinds
of loans and loan commitments to their existing and prospective
customers at varying rates of interest and for varying periods of
time. Some loans were offered at fixed rates of interest and
others at variable rates of interest.
                                  8

regarding its tolerance for risk, how and under what terms loans

are to be made, pricing and profit objectives, documentation

requirements, acceptable levels of credit losses, and collection

and chargeoff procedures.   The risk management process requires

continuous adjustment and refinement to address the competing

interests of marketing loans to as many customers as possible

while at the same time insuring that the bank makes low risk

loans.


Consumer Loans6


     Platform employees at the banks typically met with

prospective consumer borrowers to explain available loan products

and to assist the prospective borrowers in completing a loan

application where appropriate.    The consumer loan applications

were generally taken by branch employees.    The application

identified the prospective borrower and described the prospective

borrower's income and assets, existing debt, the purpose of the

loan, and other data necessary to evaluate the prospective

borrower's financial condition.    Where loans were to be secured

by an interest in real property, the application would also

include a description of the collateral sufficient to permit the

ordering of a property report or appraisal.

     The application process is the primary means by which banks

obtain information from consumer customers.    The banks took a



     6
      Both the FNPC cases and the UFB cases involve expenditures
relating to consumer loans.
                                9

loan application for every consumer loan request.    At UFSB,

approximately 325 to 350 consumer loan applications were taken in

a typical month of which approximately 200 to 220 were approved.

At the main central branch of FNBP and its two satellite offices,

approximately 90 to 100 consumer loan applications were taken in

a typical month of which approximately 80 to 90 were approved.

     Following completion of the application, the banks obtained

a credit report on the prospective borrower.    Where a loan was to

be secured by real property, the banks typically obtained a

property report to identify any liens or other encumbrances.    If

the result of the property report was satisfactory, an appraisal

of the property was typically obtained.

     In evaluating whether to make a consumer loan, the banks

would consider certain financial ratios as well as other criteria

set forth in their established loan policies.   The ratios that

were examined included debt to income and, where the loan was to

be secured with collateral, loan to value.   In addition to

examination of the various financial ratios, the banks often

looked at a loan applicant's payment history and financial

stability.

     Where the consumer loan application was denied, the

responsible platform employee would discuss the reasons for

credit denial with the prospective borrower and encourage the

prospective borrower to apply again in the future.    In
                                10

appropriate instances, the applicant would be offered a smaller

loan or a loan on different terms.7

     Applications for consumer loans that were approved were

generally closed in the branch where the loan application was

taken.   Closing included, among other things, the prospective

borrower's execution of a note or other evidence of indebtedness,

the prospective borrower's execution of a security agreement or

other document conveying a security interest in collateral where

appropriate, the delivery of those documents to the banks and, on

the part of the banks, some act making the loan proceeds

available or, in the case of a new line of credit, some act

memorializing the banks' agreements to disburse funds on demand.

The banks recorded the documents necessary to perfect a security

interest in collateral where appropriate.

     The prospective borrower could decide not to enter into a

loan transaction at any time prior to closing.   Similarly, the

banks could decide not to enter into a loan transaction at any

time prior to closing, except where they had entered into a loan

commitment with the prospective borrower.   The banks generally

did not charge fees in connection with consumer loans because of

competitive factors.8



     7
      In some instances, credit was approved in an amount greater
than that sought in the application, and the appropriate platform
employee was encouraged to "upsell" the loan to the prospective
borrower.
     8
      The term "fees" refers to amounts paid by the borrower in
connection with the loan origination process. The term "costs"
refers to expenses incurred by the banks.
                                11


Commercial Loans


     Respondent disallowed deductions related to the origination

of commercial loans made by FNBP.    No adjustments for commercial

loan origination costs were made with respect to UFSB.9

     FNBP employees with responsibility for commercial products

and services met with prospective commercial borrowers to explain

the available loan products.   Where the prospective borrower

wished to apply for a loan, the responsible employee obtained

information needed to complete a loan application.   FNBP employed

as many as nine commercial loan officers to handle its larger

business customers and to develop new commercial business.     Some

FNBP branch managers also acted as commercial loan officers.

Commercial loan officers at FNBP typically had 25 to 30 clients

and spent approximately 85 percent of their time dealing with

existing clients and about 15 percent of their time with

prospective clients.   FNBP commercial loan officers visited

existing clients on a quarterly basis at which time they

discussed, among other things, the client's financial statements

and overall financial condition.



     Commercial loan applications identified the prospective

borrower and described the prospective borrower's income, assets,

and liabilities; the purpose of the loan; and other data



     9
      There is no explanation for this, and the parties do not
base any of their arguments on this disparity.
                                 12

necessary to evaluate the prospective borrower's financial

condition.    Where loans were to be secured by an interest in real

property, the application would include a description of the

collateral sufficient to permit the ordering of a property report

or appraisal.    FNBP would generally obtain 3 years of financial

statements, interim financial statements, aging reports to

determine the current status of accounts receivable and payable,

and secured transaction reports to determine whether any liens

had been filed against the property of the client.    Applicants

also typically submitted personal financial statements of

guarantors, operating projections, a business plan,

organizational documents, and certificates of good standing and

references.   Information obtained in connection with a commercial

loan request was used to evaluate the creditworthiness of the

client and to identify other needs of the client that might be

met by the bank such as investment services, treasury management

services, and employee benefit services.

     As a general rule, evaluation of a commercial loan

application required FNBP to obtain more information and to

expend more resources than was required in the case of a consumer

loan application.   In a typical month, each of the nine

commercial loan officers at FNBP took between 2 and 10 commercial

loan requests.   With respect to commercial loans, it was common

for FNBP and the prospective borrower to negotiate the loan

terms.
                                  13

     In evaluating whether to make a commercial loan, FNBP would

consider factors similar to those considered in evaluating

consumer loans.    FNBP examined payment capacity, including debt-

to-income ratios, payment history, financial stability, and,

where appropriate, issues relating to collateral including loan-

to-value ratios.     Financial stability for commercial borrowers

involves an examination of sales, earnings, and management.

     Commercial loans were closed at various locations including

FNBP's offices, the prospective borrower's place of business, or

an attorney's office.10    Closing included, among other things,

the borrower's execution of a note or other evidence of

indebtedness, execution of a document conveying a security

interest in collateral, delivery of those documents to FNBP and,

on the part of FNBP, some act making the loan proceeds available

or, in the case of a new line of credit, some act memorializing

FNBP's agreement to disburse funds on demand.      The closing of

some commercial loans was handled by FNBP employees, and others

were handled by outside legal counsel.      If the closing were

handled by FNBP employees, closing documents would be prepared

and recorded by those employees.       If the closing were handled by

outside counsel, the outside counsel would prepare and record

closing documents.    The recording of security interests in



     10
      When the loan application was denied, the employee dealing
with the prospective commercial borrower would discuss the
reasons for credit denial with the prospective borrower and
encourage the prospective borrower to apply again in the future.
In appropriate instances, the applicant would be offered a
smaller loan or a loan on different terms.
                                   14

connection with commercial loans was an event which occurred

regularly at FNBP.

     FNBP charged fees with respect to some commercial real

estate loans but did not charge fees with respect to other

commercial loans because of competitive pressures.


Computation of Respondent's Adjustments


     Respondent disallowed deductions for certain costs that the

banks had identified as costs incurred in connection with the

origination of loans.     For financial accounting purposes, the

banks had deferred these costs over the expected life of the

subject loans in a manner consistent with the Statement of

Financial Accounting Standards No. 91, "Accounting for

Nonrefundable Fees and Costs Associated with Originating or

Acquiring Loans and Initial Direct Costs of Leases" (SFAS 91).11

     SFAS 91 was adopted by the Financial Accounting Standards

Board in 1986, effective for fiscal years beginning after

December 15, 1987.12    Paragraph 5 of SFAS 91 provides that "loan

origination fees", as defined in SFAS 91, must be "deferred and

recognized over the life of the loan as an adjustment of yield

(interest income)", and that "direct loan origination costs", as

defined in paragraph 6 of SFAS 91, must be "deferred and


     11
      The banks determined the costs at issue to be deferred for
financial reporting purposes in a manner consistent with SFAS 91.
Respondent used these amounts to compute the adjustments, but
does not rely on SFAS 91 in determining whether these costs can
be deducted under sec. 162(a).
     12
          The relevant text of SFAS 91 is examined infra.
                               15

recognized as a reduction in the yield of the loan" except for

certain cases involving "troubled debt restructuring".    Paragraph

5 of SFAS 91 further provides that "Loan origination fees and

related direct loan origination costs for a given loan shall be

offset and only the net amount shall be deferred and amortized."


     FNPC Costs at Issue


     FNPC adopted SFAS 91 on a prospective basis effective for

transactions entered into after December 31, 1987.   Prior to its

application of SFAS 91, FNPC, in accordance with its established

accounting practices, treated the costs described in SFAS 91 as

current expenses for financial accounting and reporting purposes.

In 1988, FNPC began to defer fees and costs described in SFAS 91

for financial accounting and reporting purposes.   For each of the

years in issue and, to the best knowledge of management, for all

prior years, FNBP currently deducted the costs described in SFAS

91 for Federal income tax purposes.   To apply SFAS 91, FNPC

established separate ledger accounts in order to record fees and

costs subject to deferral, as well as to reflect the portion of

net deferred fees and costs recognized as an adjustment to

interest yield in accordance with SFAS 91.   To comply with SFAS

91, FNPC deferred the net amount of the costs and fees in each of

the ledger accounts and recognized these net amounts as

components of interest income over the estimated lives of the

loans.
                                 16

     The FNPC ledger accounts were adjusted at least annually to

reflect the portions of the deferred costs (which costs were

determined pursuant to SFAS 91) and deferred fees that had been

recognized as components of interest income in computing net

income for financial reporting purposes.    The FNPC ledger

accounts were titled:    Commercial loans--deferred fees/costs;

Installment loans--deferred fees/costs; and Mortgage loans--

deferred fees/costs.    The balances in a particular FNPC ledger

account at the end of a given period reflected the cumulative net

amount that had been deferred but had not been recognized for

financial reporting purposes by FNPC as a component of interest

income under SFAS 91.    Current balances in the FNPC ledger

accounts did not separately break out the amount of such fees,

costs, and adjustments to yield entered in those accounts.     A

change in the balance of an FNPC ledger account from the end of

one year to the end of the next year reflected the net fees and

costs deferred by FNPC in calculating its net income for

financial reporting purposes under SFAS 91.

     The Schedules M-1, Reconciliation of Income per Books With

Income per Return, filed with FNPC's Forms 1120 for the periods

in question, reflect that the net costs and fees recorded in the

FNPC ledger accounts were deferred and amortized pursuant to SFAS

91 for financial accounting purposes, and that the net costs and

fees were currently deducted as expenses or reported as income

for Federal income tax purposes.
                                 17

     The evidence does not separately identify the allocated

costs that were reflected in the FNPC ledger accounts used by

respondent in calculating the disallowed amounts.    However,

because those ledger accounts were established in order to comply

with SFAS 91, the allocated costs reflected in the disallowed

amounts necessarily consisted of some combination of the

following:    (1) Costs paid by FNBP to third parties for property

reports, credit reports and appraisals, and costs for recording

security interests, and (2) an allocable portion of the costs

incurred by FNBP for salaries and benefits of its employees (and

related costs) attributable to the following activities:

Evaluating the financial condition of prospective borrowers;

evaluating and recording guaranties, collateral and other

security arrangements; negotiating loan terms; preparing and

processing loan documents; and closing loan transactions.    The

costs at issue in the FNPC cases do not include any costs

incurred in connection with unsuccessful loan efforts (i.e.,

where a loan was not originated) or any costs incurred following

a loan's origination by FNBP.

     Respondent disallowed FNPC's claimed deductions for loan

origination costs in the amounts of $568,283, $392,321, and

$26,060 in taxable years 1988, 1989, and 1990, respectively.

These adjustments represent amounts (net of amortization or yield

adjustments) that were deferred by FNPC in its ledger accounts to

comply with SFAS 91 for financial accounting and reporting

purposes.    The fees and costs included in determining these
                                18

amounts were included in income and deducted by FNPC for Federal

income tax purposes on a current basis.   Because respondent's

adjustments were based on the balances in the FNPC ledger

accounts, those adjustments took into account any amortization or

yield adjustment that was reflected in such accounts.


     UFB Costs at Issue


     UFB adopted SFAS 91 effective for 1988 on a retroactive

basis for its outstanding residential mortgage loans and on a

prospective basis for its other loans.    Prior to its application

of SFAS 91, UFB, in accordance with its established accounting

practices, treated the costs described in SFAS 91 as current

expenses for financial accounting and reporting purposes.     In

1988, UFB began to defer fees and costs described in SFAS 91 for

financial accounting and reporting purposes.   For each of the

years in issue and, to the best knowledge of management, for all

prior years, UFB currently deducted the costs described in SFAS

91 for Federal income tax purposes.   To apply SFAS 91, UFB

established ledger accounts to record fees and costs subject to

deferral with respect to several categories of loans in

accordance with SFAS 91.   Unlike the ending balances in the FNPC

ledger accounts, which reflected only net numbers, the UFB ledger

accounts recorded fees and costs separately.   In addition, the

amortization or adjustments to yield of amounts deferred under

SFAS 91 by UFB were recorded in separate general ledger accounts.
                                19

     Some of the deferred costs recorded in the UFB ledger

accounts were based on standard cost surveys performed by UFB for

the purpose of complying with SFAS 91.   Different standard cost

amounts were determined by UFB for subcategories of loans within

a general category.   For example, with respect to consumer loans

originated in 1991 and 1992, different standard cost amounts were

determined for unsecured consumer loans, secured consumer loans

for which UFSB performed an appraisal, and secured consumer loans

for which an outside third party performed an appraisal.    Except

with respect to records maintained in connection with its

standard cost surveys, UFB did not maintain time records

reflecting the amount of time UFSB employees spent working on

individual consumer lending transactions.   UFB likewise did not

maintain records summarizing actual expenditures for items such

as supplies, telephone calls, credit reports, property reports,

title searches, recording fees and attorney's fees with respect

to individual consumer lending transactions.

     The fees and costs recorded in the UFB ledger accounts were

deferred and recognized as a component of interest income over

the estimated expected life (not the contractual life) of the

loans to which they related in accordance with SFAS 91.    For

Federal income tax purposes, the amounts recorded in the UFB

ledger accounts were reported by UFB as current items of income

or expense.   The Schedules M-1 filed with UFB's Forms 1120 for

the periods in question reflect that the net amount of the costs

and fees recorded in the UFB ledger accounts was deferred and
                                  20

amortized pursuant to SFAS 91 for financial accounting purposes,

and that such costs and fees were currently reported as income or

deducted as expenses for Federal income tax purposes.

     Respondent calculated the adjustments in issue in the UFB

cases based solely on the balances in some of the UFB fee and

cost ledger accounts.   The fees and costs reflected in those

accounts were included in income and deducted by UFB on its Forms

1120 for the years received or incurred.    Respondent reduced the

adjustments so determined by an allowance for amortization, which

was calculated using a half-year convention and was based on an

estimated loan life of 3 years.    The amortization deduction

permitted by respondent differs from the amortization taken into

account by UFB as a component of interest income in accordance

with SFAS 91.

     The costs at issue in the UFB cases include only costs

incurred by UFSB with respect to the origination of consumer

loans and specifically include only standard costs paid by UFSB

to record security interests and standard costs paid to third

parties for property reports, credit reports, and appraisals.

Respondent made no adjustments with respect to other UFSB loan

categories, such as commercial loans and residential and

commercial mortgage loans.   The costs at issue in the UFB cases

do not include any costs incurred in connection with UFSB's

unsuccessful loan efforts (i.e., where a loan was not originated)

or any costs incurred following a loan's origination by UFSB.

The following table reflects the loan origination costs
                                 21

disallowed and the amortization amounts allowed by respondent for

UFSB as well as the increased income determined by respondent as

a result of these adjustments:


              Net Loan             Amortization      Increased
  Year    Origination Cost1          Amount           Income

  1990          $30,094               ($5,016)       $25,078
  1991           60,225               (20,069)        40,156
  1992          108,410               (48,175)        60,235
  1993          101,955               (78,220)        23,735

     1
      This is the excess of deferred loan origination costs over
deferred fees.


                               OPINION


     The sole issue for decision is whether certain expenditures

incurred in connection with the origination of loans are

deductible as ordinary and necessary business expenses under

section 162.   Respondent determined that they are not deductible

because section 263 requires that they be capitalized.

     To qualify as an allowable deduction under section 162(a),

an item must (1) be paid or incurred during the taxable year; (2)

be for carrying on any trade or business; (3) be an expense; (4)

be a necessary expense; and (5) be an ordinary expense.

Commissioner v. Lincoln Sav. & Loan Association, 403 U.S. 345,

352 (1971).    Respondent argues that the expenses in question were

not ordinary and, therefore, not currently deductible.

     In one sense, the term "ordinary" in section 162 prevents

the deduction of expenses that are not normally incurred in the

type of business in which the taxpayer is engaged ("ordinary" in
                                   22

the sense of "normal, usual, or customary" in a taxpayer's trade

or business).     Deputy v. du Pont, 308 U.S. 488, 495 (1940).     More

importantly, the term "ordinary" serves as a means to "clarify

the distinction, often difficult, between those expenses that are

currently deductible and those that are in the nature of capital

expenditures, which, if deductible at all, must be amortized over

the useful life of the asset."     Commissioner v. Tellier, 383 U.S.

687, 689-690 (1966).

     No current deduction is allowed for a capital expenditure.

Sec. 263(a); INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 83

(1992).     Section 1.263(a)-2(a), Income Tax Regs., includes as

examples of capital expenditures "The cost of acquisition,

construction, or erection of buildings, machinery and equipment,

furniture and fixtures, and similar property having a useful life

substantially beyond the taxable year."     Section 461(a) provides

that "The amount of any deduction * * * shall be taken for the

taxable year which is the proper taxable year under the method of

accounting used in computing taxable income."     Section 1.461-

1(a)(2), Income Tax Regs., provides further guidance as to when a

capital expenditure should be taken into account for Federal

income tax purposes under an accrual method of accounting:


     any expenditure which results in the creation of an
     asset having a useful life which extends substantially
     beyond the close of the taxable year may not be
     deductible, or may be deductible only in part, for the
     taxable year in which incurred. * * *[13]


     13
          Sec. 1.461-1, Income Tax Regs., was amended by T.D. 8408,
                                                       (continued...)
                                  23


     The Supreme Court in INDOPCO, Inc. v. Commissioner, supra at

83-84, stated:


     The primary effect of characterizing a payment as
     either a business expense or a capital expenditure
     concerns the timing of the taxpayer's cost recovery:
     While business expenses are currently deductible, a
     capital expenditure usually is amortized and
     depreciated over the life of the relevant asset, or,
     where no specific asset or useful life can be
     ascertained, is deducted upon dissolution of the
     enterprise. * * * Through provisions such as these,
     the Code endeavors to match expenses with the revenues
     of the taxable period to which they are properly
     attributable, thereby resulting in a more accurate
     calculation of net income for tax purposes. * * *


     Income tax deductions are a matter of legislative grace and

the burden of clearly showing the right to the claimed deduction

is on the taxpayer.     INDOPCO, Inc. v. Commissioner, supra at 84.

Moreover, deductions are strictly construed and allowed only "'as

there is clear provision therefor.'"     Id. (quoting New Colonial

Ice Co. v. Helvering, 292 U.S. 435, 440 (1934)).

     In light of these general principles, we now turn to the

facts of these cases.    All the costs at issue were incurred by



     13
      (...continued)
1992-1 C.B. 155, 165. The relevant changes were effective Apr.
10, 1992, and provide:

     under section 263 or 263A, a liability that relates to
     the creation of an asset having a useful life extending
     substantially beyond the close of the taxable year is
     taken into account in the taxable year incurred through
     capitalization * * * and may later affect the
     computation of taxable income through depreciation or
     otherwise over a period including subsequent taxable
     years, in accordance with applicable Code sections and
     guidance published by the Secretary. * * *
                                   24

the banks to create new loans.14    The costs, which the banks

identified as loan origination costs in their books and records,

were deferred by the banks for financial accounting purposes in

accordance with SFAS 91 and were currently deducted by them for

Federal income tax purposes.15   The costs at issue include

amounts paid to record security interests and amounts paid to

third parties for property reports, credit reports, and

appraisals.   In the case of FNBP, the costs at issue also include

an allocable portion of the salaries and fringe benefits paid to

employees for evaluating the borrower's financial condition,

evaluating guaranties, collateral and other security

arrangements, negotiating loan terms, preparing and processing

loan documents, and closing the loan transaction.

     Respondent contends that the loans constitute separate and

distinct assets of the banks.    In Commissioner v. Lincoln Sav. &

Loan Association, supra at 354, the Supreme Court held that the

payments in that case served:


     to create or enhance for Lincoln what is essentially a
     separate and distinct additional asset and that, as an
     inevitable consequence, the payment is capital in
     nature and not an expense, let alone an ordinary



     14
      While the evidence does not specifically identify the
lives of the loans in question, petitioner makes no argument that
the lives of such loans did not extend substantially beyond the
taxable years in which the loans were originated.
     15
      The provisions of SFAS 91 do not control the proper
characterization of the costs at issue. Thor Power Tool Co. v.
Commissioner, 439 U.S. 522, 542-543 (1979); Old Colony R.R. Co.
v. Commissioner, 284 U.S. 552, 562 (1932) (holding that
compulsory accounting rules do not control tax consequences).
                               25

     expense, deductible under § 162(a) in the absence of
     other factors not established here. * * *


In INDOPCO, Inc. v. Commissioner, supra at 86, the Supreme Court

explained that "Lincoln Savings stands for the simple proposition

that a taxpayer's expenditure that 'serves to create or enhance *

* * a separate and distinct' asset should be capitalized under §

263."

     Petitioner does not argue that the loans are not separate

and distinct assets of the banks.   Clearly they are. Rather,

petitioner argues that there are "other factors" present which

allow deductibility of the loan origination costs.   The factors

upon which petitioner relies are that the type of costs in issue

are incurred every day in the banking business, they are integral

to the day-to-day banking operations of the banks, and they

provide only short-term benefits.   Petitioner concludes that the

"every-day, recurring costs" at issue are currently deductible

under section 162(a).


Recurring Expenses


     Relying on Iowa-Des Moines Natl. Bank v. Commissioner, 68

T.C. 872 (1977), affd. 592 F.2d 433 (8th Cir. 1979); Colorado

Springs Natl. Bank v. United States, 505 F.2d 1185 (10th Cir.

1974); and First Natl. Bank of South Carolina v. United States,

558 F.2d 721 (4th Cir. 1977), petitioner asserts that credit

evaluation and recordkeeping costs, such as those at issue here,

are currently deductible and not required to be capitalized under
                                 26

section 263(a).16   These cases addressed the deductibility of

costs incurred by taxpayers to expand their banking businesses by

issuing credit cards.   The costs deducted by the taxpayers in

these cases included payments to "agent banks" for services

performed in screening the credit history of prospective credit

cardholders, payments to third parties for the collection of

credit data, payments to a clearinghouse for entering credit card

data on the taxpayer's behalf, and salaries paid to employees in

connection with starting up the taxpayer's credit card system,

including costs to perform credit evaluations of prospective

cardholders.

     Petitioner focuses on the similarity of the type of expenses

in the instant cases.   However, the holdings in the cases upon

which petitioner relies were not simply based on the "everyday,

recurring nature" of the costs at issue.   Rather, the critical

factor for allowing the current deduction of certain of the

expenses in those cases was that the costs "for advertising and

promotional aids, salaries, data processing, and credit bureau

searches were merely related to the active conduct of an existing

business and did not create or enhance a separate and distinct

asset or property interest."   Iowa-Des Moines Natl. Bank v.

Commissioner, supra at 879 (emphasis added).   Similarly, in

Colorado Springs Natl. Bank v. United States, supra at 1192, the

Court of Appeals for the Tenth Circuit noted that "The start-up


     16
      Petitioner also cites First Sec. Bank of Idaho N.A. v.
Commissioner, 63 T.C. 644 (1975), affd. 592 F.2d 1050 (9th Cir.
1979), in support of its assertion.
                                27

expenditures here challenged did not create a property interest.

They produced nothing corporeal or salable."   See also First

Natl. Bank of South Carolina v. United States, supra at 723

("Membership in ASBA is not a separate and distinct additional

asset created or enhanced by the payments in question.").

     The cases cited by petitioner are distinguishable from the

facts before us because the expenses in the instant cases created

loans which were separate and distinct assets.   Although

petitioner may be correct that loan origination expenses are

"similar" to those incurred in the cases on which it relies,

nonetheless, in the instant cases separate and distinct assets

were created.   Thus, the cited cases do not support petitioner's

argument and certainly are not "direct precedent" as it contends.

See Ellis Banking Corp. v. Commissioner, T.C. Memo. 1981-123,

affd. in part and remanded in part on another issue 688 F.2d 1376

(11th Cir. 1982) (distinguishing cases the taxpayer relied upon

by the fact that separate and distinct assets were not acquired).

     The facts and circumstances of each case must be examined to

determine whether an expense should be capitalized or currently

deducted.   See INDOPCO, Inc. v. Commissioner, 503 U.S. at 86;

Deputy v. du Pont, 308 U.S. at 496; United States v. General

Bancshares Corp., 388 F.2d 184, 187-188 (8th Cir. 1968)

(expenditures must be viewed "in context with the transaction in

which they are incurred to assess their proper

characterization.").   A particular cost, no matter what its type,

may be deductible in one context but may be required to be
                                  28

capitalized in another context.    For example, in Commissioner v.

Idaho Power Co., 418 U.S. 1, 13 (1974), the Supreme Court noted

the following regarding wages paid by a taxpayer in its trade or

business:


     Of course, reasonable wages paid in the carrying on of
     a trade or business qualify as a deduction from gross
     income. * * * But when wages are paid in connection
     with the construction or acquisition of a capital
     asset, they must be capitalized and are then entitled
     to be amortized over the life of the capital asset so
     acquired.[17]


Simply because other cases have allowed a current deduction for

similar expenses in different contexts does not require the same

result here.   Expenditures, which otherwise might qualify as

currently deductible must be capitalized if they are incurred in

the acquisition of a separate and distinct asset regardless of

their recurring nature.   "[A]n expenditure that would ordinarily

be a deductible expense must nonetheless be capitalized if it is

incurred in connection with the acquisition of a capital asset."

Ellis Banking Corp. v. Commissioner, 688 F.2d at 1379.

     In Commissioner v. Idaho Power Co., supra at 16, the Supreme

Court considered the interrelationship between Part VI (which

includes section 161 and following, relating to items deductible)



     17
      "It is clear that an expenditure need not be for a capital
asset, as described in Section 1221 * * * in order to be
classified as a capital expenditure." Georator Corp. v. United
States, 485 F.2d 283, 285 (4th Cir. 1973); see also NCNB Corp. v.
United States, 684 F.2d 285, 290 n.7 (4th Cir. 1982) (recognizing
that, although sec. 1221 defines capital asset, "it does so for
the purpose of determining capital gains and losses and not for
determining what expenditures are capital.").
                                29

and Part IX (which includes section 261 and following, relating

to items not deductible) of the Internal Revenue Code.    The Court

held that the priority-ordering directives of sections 161 and

261 require that the capitalization provision of section 263(a)

take precedence over section 162(a).     Commissioner v. Idaho Power

Co., supra at 17.   Section 161 provides that "In computing

taxable income under section 63, there shall be allowed as

deductions the items specified in this part, subject to the

exceptions provided in part IX".     As the Supreme Court explained:


     The clear import of § 161 is that, with stated
     exceptions set forth either in § 263 itself or provided
     for elsewhere (as, for example, in § 404 relating to
     pension contributions), none of which is applicable
     here, an expenditure incurred in acquiring capital
     assets must be capitalized even when the expenditure
     otherwise might be deemed deductible under Part VI.
     [Commissioner v. Idaho Power Co., supra at 17; emphasis
     added.]


And, as the Supreme Court more recently observed:


     The notion that deductions are exceptions to the norm
     of capitalization finds support in various aspects of
     the Code. Deductions are specifically enumerated and
     thus are subject to disallowance in favor of
     capitalization. See §§ 161 and 261. Nondeductible
     capital expenditures, by contrast, are not exhaustively
     enumerated in the Code; rather than providing a
     "complete list of nondeductible expenditures," Lincoln
     Savings, 403 U.S., at 358, * * * § 263 serves as a
     general means of distinguishing capital expenditures
     from current expenses. See Commissioner v. Idaho Power
     Co., 418 U.S., at 16. * * * For these reasons,
     deductions are strictly construed and allowed only "as
     there is a clear provision therefor." [INDOPCO, Inc.
     v. Commissioner, 503 U.S. at 84.]
                               30

     Petitioner failed to cite, nor do we find, any authority

which stands for the proposition that expenses incurred in the

creation of separate and distinct assets are currently deductible

if such expenses are incurred regularly.   Accordingly, the fact

that the banks incurred expenditures on a recurring basis does

not ensure their characterization as "ordinary" if they are

incurred in the creation of a separate and distinct asset.    See

Helvering v. Winmill, 305 U.S. 79, 84 (1938) (denying deduction

for commissions even though they were regular and recurring

expenses in the taxpayer's business of buying and selling

securities).


Integral Part of Business


     Petitioner contends that another important factor in

determining whether the particular expenditures should be

capitalized or currently deducted is that they are integrally

related to the conduct of the banks' business.   Petitioner argues

that this factor addresses the pragmatic concern that, in some

businesses, almost all costs theoretically could be allocated in

some fashion to the acquisition of assets, so that under an

overly expansive view of section 263, the availability of section

162 deductions for such businesses would be largely eliminated.

We have examined the cases and revenue rulings cited by

petitioner in support of this argument and do not find them

controlling, nor do we find that they support the proposition for

which petitioner contends.
                                  31

     Furthermore, petitioner's fear of an "overly expansive"

application of section 263 is not warranted here.   It is clear

that the expenses at issue are directly related to the creation

of the loans.   Petitioner provides little, if any, explanation

regarding the method the banks employed in identifying the

expenses associated with the origination of the loans.   However,

because the parties stipulated that the banks deferred the

expenses at issue for financial accounting purposes in a manner

consistent with SFAS 91, we turn to the definitions contained

therein for such explanation.18

     Generally, paragraph 5 of SFAS 91 requires that direct loan

origination costs "shall be deferred and recognized as a

reduction in the yield of the loan".19   Paragraphs 6 and 7 of

SFAS 91 define what type of costs must be deferred and those

which are currently expensed:


     6.   Direct loan origination costs of a completed loan
     shall include only (a) incremental direct costs of loan
     origination incurred in transactions with independent
     third parties for that loan and (b) certain costs
     directly related to specified activities performed by
     the lender for that loan. Those activities are:
     evaluating the prospective borrower's financial


     18
      We reiterate that SFAS 91 does not control the correct
characterization of the subject expenses. We merely examine the
statement to define the nature of the costs at issue and how they
relate to the asset created. Furthermore, we note that
petitioner does not argue that the direct costs of the loans, as
reflected in the banks' financial accounting records, were
inaccurately or improperly allocated.
     19
      Paragraph 5 of SFAS 91 also requires that "Loan
origination fees and related direct loan origination costs for a
given loan shall be offset and only the net amount shall be
deferred and amortized."
                                 32

     condition; evaluating and recording guarantees,
     collateral, and other security arrangements;
     negotiating loan terms; preparing and processing loan
     documents; and closing the transaction. The costs
     directly related to those activities shall include only
     that portion of the employees' total compensation and
     payroll-related fringe benefits directly related to
     time spent performing those activities for that loan
     and other costs related to those activities that would
     not have been incurred but for that loan.

     7.   All other lending-related costs, including costs
     related to activities performed by the lender for
     advertising, soliciting potential borrowers, servicing
     existing loans, and other ancillary activities related
     to establishing and monitoring credit policies,
     supervision, and administration, shall be charged to
     expense as incurred. Employees' compensation and
     fringe benefits related to those activities,
     unsuccessful loan origination efforts, and idle time
     shall be charged to expense as incurred.
     Administrative costs, rent, depreciation, and all other
     occupancy and equipment costs are considered indirect
     costs and shall be charged to expense as incurred.[20]


     It is clear that the costs at issue are only those directly

related to the creation of the loans.   They do not include costs

associated with loans that were not completed, nor do they

include costs incurred after the closing of a loan.


Short-term Benefit of Expenses


     Petitioner presented the testimony of several witnesses at

trial in an attempt to prove that the value of credit reports and




     20
      Appendix C to SFAS 91 defines the term "incremental direct
costs" to mean "Costs to originate a loan that (a) result
directly from and are essential to the lending transaction and
(b) would not have been incurred by the lender had that lending
transaction not occurred."
                                33

similar financial data lasts only a short period of time.21       We

do not find this evidence determinative of the issue before us.22

     A bank obtains loan applications, credit reports and similar

data to evaluate a potential borrower's financial condition for

purposes of determining whether to make a loan.    When funds are

disbursed and a loan is created, the loan becomes a separate and

distinct bank asset.   Under the reasoning of Commissioner v.

Lincoln Sav. & Loan Association, 403 U.S. at 354, costs that

serve to create a loan, such as costs of credit reports and

financial evaluations, are costs that must be capitalized and

amortized over the useful lives of those loans.    "The requirement

that costs be capitalized extends beyond the price payable to the

seller to include any costs incurred by the buyer in connection

with the purchase, such as appraisals of the property or the

costs of meeting any conditions of the sale."     Ellis Banking

Corp. v. Commissioner, 688 F.2d 1376, 1379 (11th Cir. 1982); see

also Woodward v. Commissioner, 397 U.S. 572 (1970) (ancillary

expenses, such as legal, accounting, and appraisal costs,



     21
      We note that some of the expenditures in issue were
incurred in connection with the preparation and recording of
notes and security interests. The rights created and secured by
these expenditures clearly remain in effect for the life of the
loan. The record does not contain a breakdown showing the
amounts of the various types of expenditures.
     22
      Although the short useful life of credit information was a
factor considered by the court in Iowa-Des Moines Natl. Bank v.
Commissioner, 592 F.2d 433 (8th Cir. 1979), affg. 68 T.C. 872
(1977), we found that the expenditures at issue in that case did
not create or enhance a separate and distinct asset or property
interest. Therefore, Iowa-Des Moines Natl. Bank v. Commissioner,
supra, is distinguishable.
                                 34

incurred in acquiring an asset are capital expenditures); United

States v. Hilton Hotels Corp., 397 U.S. 580 (1970) (fees paid to

a consulting firm and the cost of legal and other professional

services incurred in connection with appraisal proceeding to

value shares of dissenting shareholders in merged corporation

were capital expenditures).

     Credit reports, appraisals, and similar information about

prospective borrowers are critical in deciding whether to make a

loan.   It is the basis on which banks make their credit risk

management decisions.   While the specific information available

when a loan is made may become outdated in a relatively short

period of time, the quality of the decision to make a loan (and

thereby acquire an asset) is predicated on such information.     The

soundness of the decision to make a loan is assimilated into the

quality and value of the loan.   Thus, the direct costs of the

decision-making process should be assimilated into the asset that

was acquired.   See Commissioner v. Idaho Power Co., 418 U.S. at

14 (held that construction-related depreciation cannot be

currently deducted "rather, the investment in the equipment is

assimilated into the cost of the capital asset constructed.")

     In Strouth v. Commissioner, T.C. Memo. 1987-552, the

taxpayers were partners in several partnerships engaged in the

business of purchasing and leasing office equipment to local

companies and professional offices.   Generally, the terms of

these leases ranged from 3 to 5 years.   The partnerships paid a

corporation to perform services associated with the leasing
                                    35

activity, which included, among other things, securing potential

leases, reviewing the lessee's application, checking the lessee's

credit and trade references, and drafting lease documents.         Id.

We held that such expenditures were capital expenditures, because

"they secure for the partnerships the right to receive benefits

under each lease that last well beyond the taxable year of the

expenditure."     Id.

     Costs associated with the origination of the loans

contribute to the generation of interest income and provide a

long-term benefit that the banks realize over the lives of the

underlying loans.       The resulting stream of income extends well

beyond the year in which the costs were incurred.       It was this

income benefit that was the primary purpose for incurring these

expenditures.23    While the useful life of a credit report and

other financial data may be of short duration, the useful life of

the asset they serve to create is not.       Therefore, like the

appraisal costs in Woodward v. Commissioner, supra, and United

States v. Hilton Hotels Corp., supra, the construction-related

depreciation in Commissioner v. Idaho Power Co., supra, and the

lease acquisition costs in Strouth v. Commissioner, supra, the



     23
      Petitioner argues that because the banks used the loan
application process as an opportunity to sell other services and
products, the costs associated with that function are not capital
expenses. Petitioner does not attempt to define which costs are
related to loan origination and which are related to other
selling costs. However, SFAS 91, par. 6 provides that the direct
loan origination costs consist only of those costs related to
activities "that would not have been incurred but for that loan."
(Emphasis added.) Therefore, by definition, the costs at issue
do not include additional selling expenses.
                                 36

loan origination costs herein must be assimilated into the cost

of the asset created.

     Capitalizing expenditures which are connected with the

creation of an asset having an extended life is an important

factor in determining net income.     As the Court of Appeals for

the Eleventh Circuit observed:


     The function of these rules is to achieve an accurate
     measure of net income for the year by matching outlays
     with the revenues attributable to them and recognizing
     both during the same taxable year. When an outlay is
     connected to the acquisition of an asset with an
     extended life, it would understate current net income
     to deduct the outlay immediately. To the purchaser,
     such outlays are part of the cost of acquisition of the
     asset, and the asset will contribute to revenues over
     an extended period. Consequently, the outlays are
     properly matched with revenues that are recognized
     later and, to obtain an accurate measure of net income,
     the taxpayer should deduct the outlays over the period
     when the revenues are produced. [Ellis Banking Corp.
     v. Commissioner, supra at 1379.]


The same is true here.   The costs at issue are directly connected

to the creation of loans, which constitute separate and distinct

assets that are the banks' primary source of income.     Revenues,

in the form of interest payments, are received over the life of

the individual loans.    In order to accurately measure the banks'

net income, the direct costs of originating the loans must be

capitalized and amortized over the life of the loans.


Change in Method of Accounting


     Petitioner contends that because the banks have consistently

deducted the costs at issue and, in so doing, have been acting in
                                 37

accordance with established industry practice that has been in

effect for decades, respondent's characterization of these costs

as capital expenditures would amount to a change in its

accounting "methods" contrary to section 446.     Section 446(a)

permits a taxpayer to compute taxable income "under the method of

accounting on the basis of which the taxpayer regularly computes

his income in keeping his books."     A taxpayer's "method of

accounting" includes not only the overall method of accounting,

but also the accounting treatment of any item.     Sec. 1.446-

1(a)(1), Income Tax Regs.   However, section 446(b) provides in

effect that if the taxpayer's method does not clearly reflect

income, the Secretary may redetermine and recompute the taxable

income under a method which, in his opinion, does clearly reflect

income.24   Section 446(b) imposes a burden of proof upon

petitioner to demonstrate that respondent abused his discretion

in changing petitioner's accounting method.     Resnik v.

Commissioner, 66 T.C. 74, 78 (1976), affd. per curiam 555 F.2d

634 (7th Cir. 1977).   Petitioner's burden of proof is heavier

than merely proving that the determination of the Commissioner

was erroneous.   Seligman v. Commissioner, 84 T.C. 191, 199-200

n.9 (1985), affd. 796 F.2d 116 (5th Cir. 1986).

     In Electric & Neon, Inc. v. Commissioner, 56 T.C. 1324

(1971), affd. without published opinion 496 F.2d 876 (5th Cir.

1974), the taxpayer improperly characterized capital expenditures



     24
      Respondent argues that the adjustments in these cases are
based on sec. 263(a), and not on his authority under sec. 446(b).
                               38

(costs the taxpayer incurred in constructing signs with respect

to which it was the lessor) as current deductions.25   Despite

this error, the taxpayer requested that we approve its accounting

method on the grounds that its method "clearly reflected income

over a period of years, and that such practices had been

consistently used over a long period of time."   Id. at 1333.    In

holding that the taxpayer's improper characterization of capital

expenditures failed to reflect income clearly, we stated:


     As a result of its use of an improper method, E & N's
     taxable income would be seriously understated in a year
     when many new signs were constructed for lease, and
     just as seriously overstated in a year when very few
     signs were constructed, with the result of making the
     corporation's financial fortunes appear to be sinking
     when in fact it was enjoying great success, and rising
     when in fact its business was seriously diminished.
     * * * "Income must be reflected with as much accuracy
     as recognized methods of accounting permit." Fort
     Howard Paper Co. [v. Commissioner], 49 T.C. 275, 284
     (1967); see also Caldwell v. Commissioner, 202 F.2d
     112, 115 [(2d Cir. 1953)], affirming on this issue a
     Memorandum Opinion of this Court. That E & N's
     accounting method with respect to the treatment of the
     cost of the leased signs fell short of this requirement
     is obvious. [Electric & Neon, Inc. v. Commissioner,
     supra at 1333.]




     25
      The taxpayer in Electric & Neon, Inc. v. Commissioner, 56
T.C. 1324 (1971), affd. without published opinion 496 F.2d 876
(5th Cir. 1974), treated the entire costs of constructing the
signs it subsequently leased, including materials, supplies,
labor, freight, supervisory salary, workman's compensation
insurance, payroll taxes, licenses, and miscellaneous job costs,
as a current expense for Federal income tax purposes. Id. at
1326. Generally, the signs the taxpayer constructed had useful
lives substantially beyond the taxable year of construction and
the usual term for the original lease of these signs was 5 years.
Id. at 1332-1333.
                                 39

We also pointed out in Electric & Neon, Inc. v. Commissioner,

supra at 1333:


     while consistency is highly desirable when combined
     with some acceptable method of accounting, it is not a
     substitute for correctness; the respondent is justified
     in requiring a change in a taxpayer's method of
     accounting which, although consistently used over a
     period of years, is erroneous, and does not clearly
     reflect income.


     Accordingly, we find that the banks' current deduction of

the costs associated with the origination of the loans did not

clearly reflect their income and, therefore, was not a proper

method of accounting.26   See also Commissioner v. Idaho Power

Co., 418 U.S. at 14 ("capitalization prevents the distortion of

income that would otherwise occur if depreciation properly

allocable to asset acquisition were deducted from gross income

currently realized.").    It is apparent that the banks' current

deduction of the costs at issue improperly accelerated the tax

benefits derived from those costs and did not properly match the

costs with the interest income produced by the loans.    We find

that capitalization of these expenses, subject to recovery by

means of amortization over the life of the loans, does clearly

reflect the banks' income and that respondent was within his

broad authority to require this change.


Legislative Necessity



     26
      We note that petitioner did not offer any evidence to show
how the current deduction of the costs at issue clearly reflects
the banks' income.
                                 40

     Petitioner's final argument is based on its observation

that, following our opinion in Iowa-Des Moines Natl. Bank v.

Commissioner, 68 T.C. 872 (1977), Congress has, on a number of

occasions, enacted specific legislation regarding the income

taxation of banks and other legislation that generally deals with

the capitalization of the costs of acquiring certain types of

assets,27 but has not availed itself of the opportunity to

address the deductibility of loan origination costs.   Petitioner

argues that this, when coupled with the purported longstanding

industry practice of currently deducting costs like those in

issue, suggests that we should allow petitioner to continue to

deduct loan origination costs unless Congress acts to deny such

deductions.   We disagree.

     Petitioner's argument presupposes that because Congress has

not specifically addressed the deductibility of a particular item

over the years, it must mean that Congress intends for that item

to be currently deductible.28   Deductions, however, are matters

of legislative grace and are strictly construed and allowed only

when "'there is a clear provision therefor.'"   INDOPCO, Inc. v.



     27
      For example, the capitalization provisions of sec. 263A
apply only to real and tangible personal property produced by the
taxpayer or real or personal property which is acquired for
resale. Sec. 263A does not apply to costs incurred by a
financial institution in originating loans. Sec. 1.263A-
2(a)(2)(i), Income Tax Regs.
     28
      Petitioner's argument also implies that we are somehow
departing from our opinion in Iowa-Des Moines Natl. Bank v.
Commissioner, 68 T.C. 872 (1977). However, as we explained supra
p.27, the expenditures at issue in that case did not create or
enhance a separate and distinct asset.
                                41

Commissioner, 503 U.S. at 84 (quoting Deputy v. du Pont, 308 U.S.

at 493).   The fact that Congress has not chosen to act in this

area has no special relevance in these cases.


Conclusion


     We have found that the expenditures at issue were incurred

in creating loans that were separate and distinct assets.     We

hold that the banks were not entitled to deduct these

expenditures under section 162(a).   Rather, they are to be

capitalized under section 263(a) and recovered through

amortization.



                                          Decisions will be entered

                                     under Rule 155.
