dissenting:
Valero Energy Corporation (“Valero”) realized every taxpayer’s dream — it took an improper deduction, and the Commissioner of Internal Revenue (the “Commissioner”) decided not to challenge it. Rather than acknowledge that she has forfeited her right both to challenge the 1979 deduction and to invoke the “duty of consistency,”1 the Commissioner wants to exact a pound of flesh by challenging the 1984 deduction. I am puzzled by the Commissioner’s position, because in arguing that the 1979 deduction was proper, she undermines her position in countless cases for the sake of a victory in the instant case.
The majority’s mistake is that it sees only two options in this case: reconcile the 1979 and 1984 deductions, or disallow the 1984 deduction.2 Those are the only choices only if one begins with the assumption that a taxpayer should always reimburse the Treasury for improper deductions. When, as in this case, the limitations period has run, courts are left with a third choice: allow the later deduction; acknowledge that the earlier deduction was improper; and admit that the “duty of consistency” is the only barrier that prevents the taxpayer from gaining a windfall.
This case calls for the third choice: The 1979 deduction was improper, the 1984 deduction was proper, and the duty of consistency does not apply. This is so because, in 1979, Valero replaced its obligation to pay the settling customers $115 million in cash with an obligation to deposit 1.15 million shares of Series A stock in a trust fund and to make up the difference, if any, between $115 million and the revenues of the trust.
At that time, Valero was entitled to deduct the fair market value of the stock, $89.1 million, because that obligation accrued and in fact was fulfilled in 1979. Any remaining cost of satisfying the settlement agreement could not be deducted, because it was a future expense “based on events that have not occurred by the close of the taxable year.” United States v. General Dynamics Corp., 481 U.S. 239, 243-44, 107 S.Ct. 1732, 1736, 95 L.Ed.2d 226 (1986). That is to say, in 1979 any further liability was conditional on (1) the trustee’s disposing of the stock and (2) the existence of a shortfall in the trust. If, for example, the value of the stock had increased substantially in the hands of the trustee, there would have been no shortfall for which Valero would have to compensate, and the contingent liability would have evaporated.
Any windfall for the taxpayer was created by the Commissioner’s negligence. The Commissioner could have challenged the 1979 deduction and collected back taxes; she chose instead to challenge the 1984 deduction. As a result, the statute of limitations on the 1979 return has now run. The matter is made worse by the fact that the Commissioner had notice of Valero’s inconsistent treatment of the 1979 deduction before the end of the limitations period.
Thus, the “duty of consistency” does not prohibit Valero from claiming that the 1984 deduction was proper. If the Commissioner had taken the sensible litigation strategy and *917challenged both the 1979 and the 1984 deductions, Valero would not receive a windfall.
I.
The correct way to determine Valero’s tax liability in 1979 is to focus on the substance of its obligations and ask what it was obligated to pay in that year. Under the settlement agreement, Valero contributed stock with a stipulated market value of $89.1 million to a trust fund. It also had a contingent obligation to make up the difference between $115 million and the proceeds to the trust, if and only if the stock did not realize sufficient appreciation, and produce sufficient dividends, to generate the remaining $25.9 million. The only question is whether Valero could take a deduction for that future, contingent obligation.3
Importantly, under the “all events” test, a liability does not accrue until “the last link in the chain of events creating liability” has occurred. General Dynamics, 481 U.S. at 245, 107 S.Ct. at 1737. General Dynamics illustrates how strict the “all events” test is.4 There, the taxpayer sought to deduct estimates of its obligations to pay for the medical care of its employees. The medical care was obtained by the employees in the fourth quarter of the year, but the taxpayer had yet to receive reimbursement forms from those employees. Id. at 240, 107 S.Ct. at 1734455. The Court disallowed the deduction, noting that for a future obligation to be deductible, the liability must first be firmly established. Id. at 243, 107 S.Ct. at 1736. The liability had not been established, because the taxpayer was liable only if properly documented forms were filed. Until that event occurred, the taxpayer might not be liable for the medical services. Id. at 244-45, 107 S.Ct. at 1736-37.
Like the taxpayer in General Dynamics, Valero did not have an established liability in 1979. Until an event occurred that changed the status quo, Valero faced no liability. The final link in the chain of events was the disposition of the stock by the Trustee. Until the stock was sold, there was no liability, because there was no shortfall in the trust.
II.
The majority opinion is based on the claim that “the Valero Series A stock and the assurance provision are more appropriately viewed as the means by which Valero satisfied its $115 million obligation to the customers, as opposed to obligations unto themselves.” Maj.Op. at 915. Because the settling customers were entitled to $115 million in cash from the Railroad Commission’s ruling, the majority reasons that the Settlement Agreement did not affect that fixed liability, but only established a contractual payment schedule. Maj.Op. at 915. This raises the question of what the majority means by “fixed.”5
*918The first problem with the majority opinion is that it focuses on form over substance. The only reason the majority gives for the conclusion that Valero’s obligation was “fixed” is that Valero’s initial liability was $115 million, and the settlement agreement replaced that liability. Thus, the majority characterizes the settlement agreement as a single obligation that guarantees that the settling customers receive $115 million. As a formal matter, that may be precisely how the parties negotiated the transaction, but the parties’ description of the transaction is irrelevant.6
That the majority’s approach emphasizes form over substance is evidenced by the fact that its rationale collapses when only the form of the transaction changes. If, for example, Valero had entered into the settlement agreement before the Texas Railroad Commission had ruled on the claims, the majority would not be able to argue that Valero had a fixed liability of $115 million in 1979.
Or, assume hypothetically that Valero paid the settling customers $115 million in cash and then “sold” the settlement agreement to another party, as an investment vehicle, for $115 million. Once again, the majority’s rationale for finding the liability to be fixed would disappear, but Valero’s liability would not change. The substance of the transaction is what matters, and the transaction was not a simple payment plan; the settling parties gave up a right to $115 million in cash for 1.15 million shares of stock and the promise to make up a possible shortfall.
The second problem with the majority opinion is that it fails to recognize that Valero’s obligations are not measured by the value the customers received from Valero, but from how much it cost Valero to provide that value. The majority argues that because the settling customers gave up $115 million, Valero necessarily incurred a debt of $115 million. That may be true as a matter of economic theory but not in the world of tax law.
As this court has recognized, the tax laws do not accurately reflect commercial accounting practice, and one reason for this is the “all events test.” See Mooney Aircraft, Inc. v. United States, 420 F.2d 400, 404-05 (5th Cir.1970). The purpose of ‘accrual’ accounting in the taxation context is to try to match, in the same taxable year, revenues with the expenses incurred in producing those revenues. Id. at 403. One accounting technique for matching expenses and revenues is the accrual of estimated future expenses. Id. *919But the method of matching revenues and future expenses is imperfect, because “the all events test is designed to protect tax revenues by ‘(insuring) that the taxpayer will not take deductions for expenditures that might never occur.’ If there is any doubt whether the liability will occur courts have been loath to interfere with the Commissioner’s discretion [in] disallowing a deduction.” Id. at 406.
Focusing on the value paid to a taxpayer in return for an obligation runs roughshod over the very purpose of the all events test. Under the majority’s analysis, anytime a taxpayer enters into a contingent obligation in return for a sum certain, it would be able to take a deduction in the amount of the payment. In this case, the majority’s approach — ironically, supported by the Commissioner — allows Valero to deduct expenses it did not incur.
According to the majority, Valero properly deducted $115 million in 1979 for an obligation that actually cost it $108.9 million,7 so Valero is being allowed to deduct $6.1 million in phantom expenses. Such abuse, however, is precisely what the “all events” test is meant to prevent. See Mooney, 420 F.2d at 410 (stating that “the very purpose of the ‘all events test’ is to make sure that the taxpayer will not deduct expenses that might never occur.”).8
If, on the other hand, the “all events” test were properly applied here, Valero would have been allowed to take a $89.1 million deduction in 1979 and a $19.8 million deduction in 1984,9 i.e., deductions equal to its actual cost. Valero and future taxpayers would not be able to play the odds and hope for the type of windfall the majority is willing to countenance.
III.
Although the majority finds it unnecessary to reach the issue, I would hold that the duty of consistency does not prevent Valero from deducting the 1984 payment. The duty of consistency is based on the equitable principle that “no one shall be permitted to found any claim upon his own inequity or take advantage of his own wrong.” Stearns Co. v. United States, 291 U.S. 54, 61-62, 54 S.Ct. 325, 328, 78 L.Ed. 647 (1934). “The duty of consistency is a doctrine that prevents a taxpayer from taking one position one year, and a contrary position in a later year, after the limitations period has run in the first year.” Herrington v. Commissioner of Internal Revenue, 854 F.2d 755, 757 (5th Cir.1988).
The requirements for the application of the duty of consistency are “(1) a representation or report by the taxpayer; (2) on which the Commission[er] has relied; and (3) an attempt by the taxpayer after the statute of limitations has run to change the previous representation or to recharacterize the situation in such a way as to harm the Commissioner.” Id. at 758. If all elements of the test are met, the Commissioner may act as if the previous representation continued to be true, even if it is not. Id.
The Commissioner concedes that the third prong of the Herrington test has not been met in this case but asks us to be flexible in our approach to the “duty of consistency.” This argument is without merit.
*920Herrington requires that the taxpayer change its position after the statute of limitations has run.10 Logically, the duty of consistency protects the Commissioner from unscrupulous taxpayers who purposely change positions after limitations has run. It does not protect the Commissioner from her own negligence, however. Once she was on notice that Valero had changed its position on the 1979 deduction, the Commissioner should have challenged the deduction before limitations had run.
The Commissioner should be required to accept the consequences of her error. Accordingly, I respectfully dissent.11
. The "duty of consistency” is an equitable doctrine that prevents a taxpayer from taking one position one year, and a contrary position in a later year, after the limitations period has run on the first year. As I discuss later, the duty of consistency is unavailable to the Commissioner in this case. As a result, if she wishes to challenge the 1984 deduction, the Commissioner must argue that the 1975 deduction was proper.
. See Maj.Op. at 913-14 (“Valero's interpretation is that it had two separate obligations regarding the stock — one to transfer the stock to the Settlement Trust and one to pay any difference between $115 million and the income generated by the stock. Valero then contends that these two separate obligations gave rise to two separate tax consequences — a $115 million deduction for the transfer of the stock and a $19.8 million deduction for satisfaction of the assurance provision.”).
. The majority cites Washington Post Co. v. United States, 186 Ct.Cl. 528, 405 F.2d 1279, 1283 (1969), for the proposition that a court may not "parse the stock transfer and assurance provisions of the Plan into separate obligations” in order to "belie the economic realities of the partes’ settlement.” Maj.Op. at 914. But the majority fails to explain how this settlement agreement is analogous to the bonus plan at issue in Washington Post, other than to cite two words from a six-page opinion. Id.
A close reading of Washington Post indicates that the court was more concerned with the substance of the transaction than with the formal structure of the plan. 405 F.2d at 1283 ("So we view this Plan for what it functionally is....”). The majority does exactly what the Washington Post court cautioned against — it focuses on the form of the settlement agreement rather than the substance of the transaction.
. In the usual case, the "all events” test protects the Treasury by deferring uncertain deductions into future years. The net result is that the risk of taxpayers’ overestimating future obligations and thus, deductions, is reduced. In this case, in order to reach a result that easily could have been reached if the Commissioner had challenged the 1979 deduction, the Commissioner asks us, in effect, to make it easier for a taxpayer to deduct uncertain future liabilities. While such an approach benefits the Treasury in this particular case, it reduces tax revenues in other cases. Accordingly, I question both the wisdom and the propriety of the Commissioner’s position in the case sub judice.
.The majority correctly states that ”[w]hen a liability is fixed, 'other uncertainties do not necessarily destroy that initial certainty.' ” Maj. Op. at 915 (citations omitted). The majority's characterization of the liability as "fixed” begs the question, however.
Moreover, cases cited by the majority are distinguishable. I.e., United States v. Hughes Prop*918erties, Inc., 476 U.S. 593, 600, 106 S.Ct. 2092, 2096, 90 L.Ed.2d 569 (1986) (holding that the uncertainty as to when a slot machine will pay a jackpot does not make a liability contingent, because the fact that state law prohibits an operator from changing the odds makes liability certain); Helvering v. Russian Fin. & Constr. Corp., 77 F.2d 324, 327 (2d Cir.1935) (holding that liability accrued when condition in contract was fulfilled, even though a condition subsequent could erase the liability in the future); Washington Post, 405 F.2d at 1284 (holding that incentive program in which taxpayer was irrevocably committed to paying a certain sum was not a contingent liability even if the class of recipients and timing of payment was uncertain). In both Hughes and Washington Post, the taxpayer entered into an irrevocable agreement to pay a sum certain. The final event creating liability had occurred, and only the recipient and timing were uncertain. In the instant case, it was uncertain, in 1979, whether Valero would ever have to make payments (and if so, the amount of such payments) under the settlement agreement.
Russian Finance (which, coming from another circuit, is not binding on us) is distinguishable, because there the taxpayer faced a liability subject to a condition subsequent. 77 F.2d at 327. The court treated a condition subsequent as an event that erases a preexisting liability rather than as an event upon which liability is conditioned. Id. Accord Lawyers’ Title Guar. Fund v. United States, 508 F.2d 1, 4-7 (5th Cir.1975) (demonstrating the significance, in the application of the all events test, of the differences among an imperfect right subject to later perfection, a condition precedent, and a vested right subject to divestment). Unlike the taxpayer in Russian Finance, Valero faced a liability conditional upon a legal condition precedent — the sale of the stock.
. United States v. Phellis, 257 U.S. 156, 168, 42 S.Ct. 63, 65, 66 L.Ed. 180 (1921) ("We recognize the importance of regarding matters of substance and disregarding forms in applying the provisions of the Sixteenth Amendment and income laws enacted thereunder.”); White Castle Lumber & Shingle Co. v. United States, 481 F.2d 1274, 1276 (5th Cir.1973) ("For tax purposes, courts should not exalt form over substance____”).
. As the majority correctly points out, the trust fund received approximately $95.2 million from transactions in the trust. Valero made up the shortfall with a $19.8 million payment in 1984. Thus, Valero paid only $108.9 million to the settling customers, consisting of stock worth $89.1 million to the trust and $19.8 million in cash. The difference came from price changes in, and dividends on, the stock.
. A number of plausible hypotheticals demonstrate that Valero’s liability was uncertain in 1979. For example, if the trustee had disposed of the Series A stock at $31 a share, the fund would have received $35.6 million from the sale. Add to that the $34.5 million in dividends, and the trust would have a shortfall of $44.7 million in 1984. Because Valero had already provided shares worth $89.1 million, its total liability under the Settlement Agreement would be $133.8 million. On the other hand, if the trustee had sold the stock at $53 per share (and in fact, the trust sold 230,000 shares at $53.91), Valero’s actual cost would be $108.65 million.
.This is assuming, of course, that the Commissioner had not committed what might be considered malpractice in the private sector.
. See Davoli v. Commissioner, 68 T.C.M. (CCH) 104, 107, 1994 WL 371926 (1994) ("We have previously held that where, prior to the expiration of the statute of limitations with respect to the earlier year, the Commissioner knows or has reason to know of the erroneous deduction claimed by the taxpayer, the Commissioner must disallow the deduction for the year in which it is claimed rather than attempt to recoup the applicable tax in the subsequent year.”); Southern Pac. Transp. Co. v. Commissioner, 75 T.C. 497, 560, 1980 WL 4591 (1980) ("The doctrine of ‘duty of consistency’ or ‘quasi-estoppel’ does not apply where all pertinent facts are known to both the Commissioner and the taxpayer. 'It is said that when both parties know the facts, there is no reason to estop the taxpayer from changing his position with respect to the transaction.’ ”).
. In its revised opinion, the majority points out that the result it reaches may have been different if Valero's obligation had been incurred after July 18, 1984, because of 26 U.S.C. § 461(h). Maj.Op. at 915-16 n. 7. The "economic performanee” exception to the all events test does not affect my analysis, however.
Section 461(h) modifies the all events test in limited situations where a taxpayer incurs a liability to make periodic payments over an indefinite period of time. Prior to the enactment of § 461(h), the taxpayer could deduct the entire liability, even if the time period was uncertain, because the taxpayer’s liability for payment was fixed and the amount of liability was determinable with reasonable accuracy. See Boris I. Btrrker and Lawrence Lokken, Federal Taxation of Income, Estates and Gifts ¶ 105.6.4 (2d ed. 1992 & Supp.1995). The result was a windfall to the taxpayer because of the time value of money. Section 461(h) closes the loophole and makes such payments deductible only after economic performance, even if the all events test is met.
The difference between the cases covered by § 461(h) and the case sub judice is obvious: The liability incurred by Valero did not meet the requirements of the all events test in 1979. To that extent, even if § 461(h) had been in force in 1979, it would not apply to this case.