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Cottage (P), and S&L, held numerous long term low-interest mortgages that declined in value when the interest rates surged in the late 1970s. P would have benefited from selling the devalued mortgages in order to realize a tax-deductible loss. They were deterred by the FHLBB who regulated them which required them to record their losses on their books. Reporting such losses would have placed many S&L’s at risk of foreclosure by FHLBB. FHLBB then relaxed its requirements for reporting losses and determined that if the mortgages were exchanged for substantially identical mortgages held by other lenders, the losses need not be reported. The purpose was to generate tax losses but would not affect any economic position regarding the S&L. P did such an exchange and claimed $2,447,091 as the adjusted difference between the face value of the mortgages it traded and the fair market value of the mortgages it received. P did not report the losses to FHLBB. The IRS disallowed the claimed deduction. The Tax Court allowed it. The Court of Appeals reversed because it determined that the losses were not actually sustained during the 1980 tax year.

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