BulletinNo.1997–10 HIGHLIGHTS OFTHISISSUE · Marion, Marshall, Morgan, and Winston Severe winter storm, ice and flooding February 1-12, 1996 Counties of Dallas, Macon, and Montgomery

INCOME TAX

Rev. Rul. 97–10, page 31.Federal rates; adjusted federal rates; adjusted fed-eral long-term rate, and the long-term exempt rate.For purposes of sections 1274, 1288, 382, and othersections of the Code, tables set forth the rates forMarch 1997.

Rev. Rul. 97–11, page 5.Election in respect of losses attributable to a disas-ter. This ruling lists the areas declared by the Presidentto qualify as major disaster areas under the DisasterRelief and Emergency Assistance Act since the publica-tion of Rev. Rul. 96–13.

T.D. 8708, page 14.Final regulations under section 902 of the Code relate tothe computation of foreign taxes deemed paid.

REG–208172–91, page 59.Proposed regulations under sections 108 and 1017 ofthe Code provide ordering rules for the reduction ofbases of property that affect taxpayers who excludedischarge of indebtedness from gross income. A publichearing will be held on April 24, 1997.

Rev. Proc. 97–18, page 53.This procedure provides guidance for any bank seekingto change its accounting method for bad debts from thesection 585 reserve method to the section 166 specificcharge-off method in order to elect S corporation statusfor the 1997 tax year.

Notice 97–20, page 52.Accounting periods; small business corporations. Pro-cedures are provided under which a taxpayer mayautomatically change its annual accounting period inorder elect to be an S corporation effective for thetaxable year beginning January 1, 1997.

EXEMPT ORGANIZATIONS

Announcement 97–18, page 67.A list is given of organizations now classified as privatefoundations.

ADMINISTRATIVERev. Proc. 97–19, page 55.Timely filing or payment; private delivery services.Criteria and application procedures are provided fordesignation of private delivery services under section7502(f) of the Code.

Notice 97–17, page 34.The “differential earnings rate” under section 809 istentatively determined for 1996 together with the “re-computed differential earnings rate” for 1995.

Notice 97–18, page 35.This notice provides guidance concerning the applicationof sections 1491 through 1494 of the Code to certaintransfers of property by a U.S. person to a foreigncorporation, partnership, trust, or estate. Pursuant tosection 1902 of the Small Business Job Protection Actof 1996, failure to report such a transfer made afterAugust 20, 1996, could result in a penalty equal to 35percent of the value of the property transferred.

Notice 97–19, page 40.This notice provides guidance under sections 877,2107, 2501, and 6039F for expatriates who lose U.S.citizenship or cease to be taxed as long-term residentsof the United States with a principal purpose to avoidU.S. taxes. This notice also provides guidance on theinteraction of section 7701(b)(10) with section 877, asamended by the Health Insurance Portability and Ac-countability Act of 1996.

(Continued on page 4)

Finding Lists begin on page 71.

Bulletin No. 1997–10March 10, 1997

HIGHLIGHTSOF THIS ISSUEThese synopses are intended only as aids to the reader inidentifying the subject matter covered. They may not be reliedupon as authoritative interpretations.

HIGHLIGHTSOF THIS ISSUE—ContinuedADMINISTRATIVE—ContinuedAnnouncement 97–10, page 64.Information on new reporting for medical savings ac-counts, long-term care accounts, and SIMPLE retirementaccounts is provided.

Announcement 97–19, page 68.The Service will continue, through December 31, 1997,

its program to respond to requests for fact-of-filinginformation from firms in the tax professional communitywith respect to their employees and associates. The taxprofessional community consists of all firms that pre-pare tax returns, offer tax advice, or provide tax ser-vices. This includes practitioners governed by TreasuryDepartment Circular 230.

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Mission of the Service

The purpose of the Internal Revenue Service is tocollect the proper amount of tax revenue at the leastcost; serve the public by continually improving the

quality of our products and services; and perform in amanner warranting the highest degree of publicconfidence in our integrity, efficiency and fairness.

Statement of Principlesof Internal RevenueTax AdministrationThe function of the Internal Revenue Service is toadminister the Internal Revenue Code. Tax policyfor raising revenue is determined by Congress.

With this in mind, it is the duty of the Service tocarry out that policy by correctly applying the lawsenacted by Congress; to determine the reasonablemeaning of various Code provisions in light of theCongressional purpose in enacting them; and toperform this work in a fair and impartial manner,with neither a government nor a taxpayer point of view.

At the heart of administration is interpretation of theCode. It is the responsibility of each person in theService, charged with the duty of interpreting thelaw, to try to find the true meaning of the statutoryprovision and not to adopt a strained construction inthe belief that he or she is ‘‘protecting the revenue.’’The revenue is properly protected only when we as-certain and apply the true meaning of the statute.

The Service also has the responsibility of applyingand administering the law in a reasonable,practical manner. Issues should only be raised byexamining officers when they have merit, neverarbitrarily or for trading purposes. At the sametime, the examining officer should never hesitateto raise a meritorious issue. It is also importantthat care be exercised not to raise an issue or toask a court to adopt a position inconsistent withan established Service position.

Administration should be both reasonable andvigorous. It should be conducted with as littledelay as possible and with great cour tesy andconsiderateness. It should never try to overreach,and should be reasonable within the bounds of lawand sound administration. It should, however, bevigorous in requiring compliance with law and itshould be relentless in its attack on unreal taxdevices and fraud.

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Introduction

The Internal Revenue Bulletin is the authoritative instru-ment of the Commissioner of Internal Revenue forannouncing official rulings and procedures of the Inter-nal Revenue Service and for publishing Treasury Deci-sions, Executive Orders, Tax Conventions, legislation,court decisions, and other items of general interest. It ispublished weekly and may be obtained from the Superin-tendent of Documents on a subscription basis. Bulletincontents of a permanent nature are consolidated semi-annually into Cumulative Bulletins, which are sold on asingle-copy basis.

It is the policy of the Service to publish in the Bulletin allsubstantive rulings necessary to promote a uniformapplication of the tax laws, including all rulings thatsupersede, revoke, modify, or amend any of thosepreviously published in the Bulletin. All published rulingsapply retroactively unless otherwise indicated. Proce-dures relating solely to matters of internal managementare not published; however, statements of internalpractices and procedures that affect the rights andduties of taxpayers are published.

Revenue rulings represent the conclusions of the Ser-vice on the application of the law to the pivotal factsstated in the revenue ruling. In those based on positionstaken in rulings to taxpayers or technical advice toService field offices, identifying details and informationof a confidential nature are deleted to prevent unwar-ranted invasions of privacy and to comply with statutoryrequirements.

Rulings and procedures reported in the Bulletin do nothave the force and effect of Treasury DepartmentRegulations, but they may be used as precedents.Unpublished rulings will not be relied on, used, or citedas precedents by Service personnel in the disposition ofother cases. In applying published rulings and proce-dures, the effect of subsequent legislation, regulations,

court decisions, rulings, and procedures must be consid-ered, and Service personnel and others concerned arecautioned against reaching the same conclusions inother cases unless the facts and circumstances aresubstantially the same.

The Bulletin is divided into four parts as follows:

Part I.—1986 Code.This part includes rulings and decisions based onprovisions of the Internal Revenue Code of 1986.

Part II.—Treaties and Tax Legislation.This part is divided into two subparts as follows:Subpart A, Tax Conventions, and Subpart B, Legislationand Related Committee Reports.

Part III.—Administrative, Procedural, and Miscellaneous.To the extent practicable, pertinent cross references tothese subjects are contained in the other Parts andSubparts. Also included in this part are Bank SecrecyAct Administrative Rulings. Bank Secrecy Act Administra-tive Rulings are issued by the Department of theTreasury’s Office of the Assistant Secretary (Enforce-ment).

Part IV.—Items of General Interest.With the exception of the Notice of Proposed Rulemak-ing and the disbarment and suspension list included inthis part, none of these announcements are consoli-dated in the Cumulative Bulletins.

The first Bulletin for each month includes an index forthe matters published during the preceding month.These monthly indexes are cumulated on a quarterly andsemiannual basis, and are published in the first Bulletinof the succeeding quarterly and semi-annual period,respectively.

The contents of this publication are not copyrighted and may be reprinted freely. A citation of the Internal Revenue Bulletin as the source would be appropriate.

For sale by the Superintendent of Documents U.S. Government Printing Office, Washington, D.C. 20402.

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Part I. Rulings and Decisions Under the Internal Revenue Code of 1986Section 42.—Low-Income HousingCreditThe adjusted applicable federal short-term, mid-

term, and long-term rates are set forth for themonth of March 1997. See Rev. Rul. 97–10, page31.

Section 165.—Losses26 CFR 1.165–11: Election in respect of lossesattributable to a disaster.

Election in respect of losses attrib-utable to a disaster. This ruling liststhe areas declared by the President toqualify as major disaster areas under theDisaster Relief and Emergency Assis-tance Act since the publication of Rev.Rul. 96–13.

Rev. Rul. 97–11

Under § 165(i) of the Internal Rev-enue Code, if a taxpayer suffers a lossattributable to a disaster occurring in anarea subsequently determined by thePresident of the United States to warrant

assistance by the Federal Governmentunder the Disaster Relief and Emer-gency Assistance Act, 42 U.S.C.§§ 5121–5204c (1988 & Supp. V 1993)(the Act), the taxpayer may elect toclaim a deduction for that loss on thetaxpayer’s federal income tax return forthe taxable year immediately precedingthe taxable year in which the disasteroccurred.Section 1.165–11(e) of the Income

Tax Regulations provides that the elec-tion to deduct a disaster loss for thepreceding year must be made by filing areturn, an amended return, or a claimfor refund on or before the later of (1)the due date of the taxpayer’s incometax return (determined without regard toany extension of time to file the return)for the taxable year in which the disas-ter actually occurred, or (2) the due dateof the taxpayer’s income tax return(determined with regard to any exten-sion of time to file the return) for thetaxable year immediately preceding the

taxable year in which the disaster actu-ally occurred.The provisions of § 165(i) apply only

to losses that are otherwise deductibleunder § 165(a). An individual taxpayermay deduct losses if they are incurred ina trade or business, if they are incurredin a transaction entered into for profit,or if they are casualty losses under§ 165(c)(3).The President has determined that

during 1996 the areas listed below havebeen adversely affected by disasters ofsufficient severity and magnitude towarrant assistance by the Federal Gov-ernment under the Act.

DRAFTING INFORMATION

The principal author of this revenueruling is Jonathan Strum of the Officeof Assistant Chief Counsel (Income Taxand Accounting). For further informationregarding this revenue ruling, contactMr. Strum on (202) 622–4960 (not atoll-free call).

Disaster Areas in 1996 Type of Disaster Date of Disaster

AlabamaCounties of Blount, Colbert, Cullman, DeKalb, Etowah,Jackson, Lauderdale, Lawrence, Limestone, Madison,Marion, Marshall, Morgan, and Winston

Severe winterstorm, ice andflooding

February 1-12, 1996

Counties of Dallas, Macon, and Montgomery Severe storms,flooding and tor-nadoes

March 5-6, 1996

AlaskaThe City of Houston; and the Matanuska-Susitna Borough Wildland fires June 2-15, 1996

ArkansasCounties of Crawford, Franklin, Madison, Marion, Sebastian,and Washington

Severe storms andtornadoes

April 21-22, 1996

CaliforniaCounties of Alameda, Alpine, Amador, Butte, Calaveras,Colusa, Contra Costa, Del Norte, El Dorado, Fresno, Glenn,Humboldt, Lake, Lassen, Madera, Marin, Mariposa,Mendocino, Merced, Modoc, Mono, Monterey, Napa, Ne-vada, Placer, Plumas, Sacramento, San Benito, San Francisco,San Joaquin, San Mateo, Santa Clara, Santa Cruz, Shasta,Sierra, Siskiyou, Solano, Sonoma, Stanislaus, Sutter, Tehama,Trinity, Tulare, Tuolumne, Yolo, and Yuba; and the City ofMorgan Hill

Severe storms,flooding, mud andland slides

December 28, 1996

ConnecticutCounties of Fairfield, Hartford, Litchfield, Middlesex, NewHaven, New London, Tolland, and Windham

Blizzard of 1996 January 7-13, 1996

DelawareCounties of Kent, New Castle, and Sussex Blizzard of 1996 January 6-12, 1996

District of Columbia Blizzard of 1996 January 6-12, 1996

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FloridaCounties of Baker, Citrus, Clay, Dixie, Duval, Hernando,Hillsborough, Levy, Manatee, Nassau, Pasco, Pinellas,Putnam, Sarasota, Taylor, and Volusia

Storm surge,heavy rains, flood-ing, and winddamage due toTropical StormJosephine

October 7, 1996

HawaiiIsland of Oahu Prolonged and

heavy rains, highsurf, flooding,landslides,mudslices andsevere storms

November 5-December 9, 1996

IdahoCounties of Benewah, Bonner, Boundary, Clearwater, Idaho,Kootenai, Latah, Lewis, Nez Perce, and Shoshone; and theNez Perce Indian Reservation

Severe storms andflooding

February 6-23, 1996

Counties of Adams, Benewah, Bonner, Boundary, Boise,Clearwater, Elmore, Gem, Idaho, Kootenai, Latah, Nez Perce,Owyhee, Payette, Shoshone, Valley, and Washington


November 16, 1996-January 3, 1997

IllinoisCounties of Champaign, Henry, Lake, Macon, and Marion Severe storms and

tornadoesApril 18-19, 1996

Counties of Adams, Brown, Cass, Champaign, Crawford,Cumberland, Douglas, Effingham, Franklin, Gallatin,Hamilton, Hancock, Jackson, Jasper, Lawrence, Madison,Menard, Monroe, Perry, Richland, Saline, Sangamon,Schuyler, St. Clair, Vermilion, Wabash, White, and Wil-liamson


April 28-May 17, 1996

Counties of Cook, Dekalb, DuPage, Grundy, Kane, Kendall,LaSalle, Ogle, Stephenson, Will, and Winnebago


July 17-August 7, 1996

IndianaCounties of Bartholomew, Blackford, Boone, Brown, Clark,Clay, Clinton, Crawford, Daviess, Dearborn, Decatur, Dela-ware, Dubois, Fayette, Floyd, Franklin, Gibson, Greene,Hamilton, Hancock, Harrison, Hendricks, Henry, Jackson,Jay, Jefferson, Jennings, Johnson, Knox, Lawrence, Madison,Marion, Monroe, Montgomery, Morgan, Ohio, Orange,Owen, Parke, Perry, Pike, Posey, Putnam, Randolph, Rush,Scott, Shelby, Spencer, Sullivan, Switzerland, Tipton, Union,Vigo, Warrick, Washington, and Wayne.


Counties of Brown, Crawford, Daviess, Dearborn, Dekalb,Dubois, Franklin, Gibson, Harrison, Jefferson, Knox,Lawrence, Martin, Montgomery, Ohio, Orange, Perry, Pike,Posey, Putnam, Ripley, Steuben, Sullivan, Switzerland,Union, Vanderburgh, Warrick, Washington, and Whitley.


April 28-May 25, 1996

IowaCounties of Adair, Adams, Des Moines, Henry, Iowa,Johnson, Keokuk, Lee, Louisa, Madison, Mahaska,Muscatine, Ringgold, Taylor, Union, and Washington.


May 8-28, 1996

Counties of Audubon, Boone, Cherokee, Crawford, Hamilton,Hardin, Harrison, Ida, Monona, Plymouth, Pottawattamie,Sac, Shelby, Story, and Woodbury.


June 15-30, 1996

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Kentucky

Counties of Adair, Allen, Anderson, Ballard, Barren, Bath,Bell, Boone, Bourbon, Boyd, Boyle, Bracken, Breathitt,Breckinridge, Bullitt, Butler, Caldwell, Calloway, Campbell,Carlisle, Carroll, Carter, Casey, Christian, Clark, Clay,Clinton, Crittenden, Cumberland, Daviess, Edmonson, Elliott,Estill, Fayette, Fleming, Floyd, Franklin, Fulton, Gallatin,Garrard, Grant, Graves, Grayson, Green, Greenup, Hancock,Hardin, Harlan, Harrison, Hart, Henderson, Henry, Hickman,Hopkins, Jackson, Jefferson, Jessamine, Johnson, Kenton,Knott, Knox, Larue, Laurel, Lawrence, Lee, Leslie, Letcher,Lewis, Lincoln, Livingston, Logan, Lyon, McCracken, Mc-Creary, McLean, Madison, Magoffin, Marion, Marshall,Martin, Mason, Meade, Menifee, Mercer, Metcalfe, Monroe,Montgomery, Morgan, Muhlenberg, Nelson, Nicholas, Ohio,Oldham, Owen, Owsley, Pendleton, Perry, Pike, Powell,Pulaski, Robertson, Rockcastle, Rowan, Russell, Scott,Shelby, Simpson, Spencer, Taylor, Todd, Trigg, Trimble,Union, Warren, Washington, Wayne, Webster, Whitley, Wolfe,and Woodford


Counties of Bullitt, Owsley, Perry, and Spencer Severe storms,flooding and tor-nadoes

May 28, 1996

MaineCounties of Androscroggin, Franklin, Oxford, Penobscot,Piscataquis, Somerset, and Waldo

Severe storms, icejams and flooding

January 19-February 6, 1996

Counties of Androscroggin, Cumberland, Knox, Oxford, andYork

Severe storms,mudslides, inlandand coastal flood-ing

April 16-17, 1996

Counties of Cumberland, Oxford, and York Severe storms,heavy rains, highwinds, and inlandand coastal flood-ing

October 20-26, 1996

MarylandCounties of Allegany, Anne Arundel, Baltimore, Calvert,Caroline, Carroll, Cecil, Charles, Dorchester, Frederick, Gar-rett, Harford, Howard, Kent, Montgomery, Prince Georges,Queen Anne’s, Somerset, St. Mary’s, Talbot, Washington,Wicomico and Worchester; and the Cities of Baltimore andOcean City.


Counties of Allegany, Carroll, Cecil, Frederick, Garrett, andWashington

Flooding and se-vere storms

January 19-31, 1996

Counties of Allegany and Frederick Severe storms andflooding associ-ated with TropicalStorm Fran

September 6-9, 1996

MassachusettsCounties of Barnstable, Berkshire, Bristol, Dukes, Essex,Franklin, Hampden, Hampshire, Middlesex, Nantucket, Nor-folk, Plymouth, Suffolk, and Worcester


Counties of Essex, Middlesex, Norfolk, Plymouth, andSuffolk

Extreme weatherconditions andflooding

October 20-25, 1996

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MichiganCounties of Bay, Lapeer, Midland, Saginaw, Sanilac, St.Clair,and Tuscola


June 21-July 1, 1996

MinnesotaCounties of Aitkin, Beltrami, Big Stone, Blue Earth, Chisago,Clay, Clearwater, Dakota, Faribault, Freeborn, Kittson,Koochiching, Lake of the Woods, Marshall, Nicollet, Nor-man, Pennington, Polk, Pope, Red Lake, Roseau, Steele,Traverse, Wabasha, Waseca, and Washington


March 14-June 17, 1996

Counties of Cottonwood, Faribault, Freeborn, Jackson, Lin-coln, Lyon, Murray, Nobles, Pipestone, Rock, Waseca, andYellow Medicine

Severe ice storms November 14-30, 1996

MontanaCounties of Chouteau, Deer Lodge, Gallatin, Jefferson, Lewisand Clark, Lincoln, Meagher, Mineral, Missoula, Park,Powell, Ravalli, Sanders, and Silver Bow

Severe storms,flooding and icejams

February 4-29, 1996

Counties of Blain, Flathead, Hill, Liberty, Phillips, and Toole Severe storms,flooding, ice jamsand excessive soilsaturation


NebraskaCounties of Gage, Johnson, Nemaha, and Otoe Tornado and se-

vere stormsMay 8-28, 1996

NevadaCounties of Churchill, Douglas, Lyon, Mineral, Storey andWashoe; and the City of Carson City; and the Walker RiverPaiute tribal lands located in Churchill, Lyon, and MineralCounties


December 20, 1996—January 17, 1997

New HampshireCounties of Hillsborough, Merrimack, Rockingham, Straf-ford, and Sullivan

Fall Northeasterrainstorm

October 20-26, 1996

New JerseyCounties of Atlantic, Bergen, Burlington, Camden, CapeMay, Cumberland, Essex, Gloucester, Hudson, Hunterdon,Mercer, Middlesex, Monmouth, Morris, Ocean, Passaic, Sa-lem, Somerset, Sussex, Union, and Warren


Counties of Hudson, Middlesex, Morris, Somerset, andUnion

Severe storm andflooding

October 18-23, 1996

New YorkCounties of Albany, Bronx, Columbia, Delaware, Dutchess,Greene, Kings, Nassau, New York, Orange, Putnam, Queens,Rensselaer, Richmond, Rockland, Suffolk, Sullivan, Ulster,and Westchester


Counties of Albany, Allegany, Broome, Cattaraugus, Cayuga,Chemung, Chenango, Clinton, Columbia, Cortland, Delaware,Dutchess, Essex, Franklin, Greene, Herkimer, Jefferson,Lewis, Livingston, Madison, Montgomery, Onondaga,Ontario, Orange, Otsego, Putnam, Rensselaer, Saratoga,Schenectady, Schoharie, Schuyler, Steuben, St. Lawrence,Sullivan, Tioga, Tompkins, Ulster, Warren, Washington, Wyo-ming, and Yates


January 19-30, 1996

New York City; and the Counties of Nassau, Suffolk, andWestchester


October 19-20, 1996

8


Counties of Chemung, Clinton, Delaware, Essex, Franklin,Fulton, Lewis, Montgomery, Schoharie, Schuyler, Steuben,and Tompkins

Severe thunder-storms, highwinds, rain, andflooding

November 8-15, 1996

North CarolinaCounties of Alamance, Alexander, Alleghany, Ashe, Avery,Bertie, Buncombe, Burke, Cabarrus, Caldwell, Camden,Caswell, Catawba, Chatham, Cherokee, Chowan, Cleveland,Davidson, Davie, Durham, Edgecombe, Forsyth, Franklin,Gaston, Gates, Graham, Granville, Guilford, Halifax, Harnett,Haywood, Henderson, Hertford, High Point, Iredell, Jackson,Johnston, Lee, Lincoln, Macon, Madison, McDowell,Mecklenburg, Mitchell, Montgomery, Moore, Nash,Northampton, Orange, Pasquotank, Person, Pitt, Polk,Randolph, Rockingham, Rowan, Rutherford, Stanley, Stokes,Surry, Swain, Transylvania, Union, Vance, Wake, Warren,Watauga, Wilkes, Wilson, Yadkin, and Yancey; and theEastern Band of Cherokee Indians Reservation


Counties of Alexander, Burke, Caldwell, Caswell, Catawba,Cherokee, Cleveland, Davidson, Davie, Forsyth, Gaston,Gates, Guilford, Halifax, Haywood, Henderson, Hertford,Iredell, Lincoln, Madison, McDowell, Montgomery,Northampton, Polk, Randolph, Rockingham, RutherfordStokes, Surry, Warren, Watauga, Wilkes, Yadkin, and Yancey

Winter storm February 2-9, 1996

Counties of Beaufort, Bladen, Brunswick, Cateret, Chowan,Columbus, Craven, Duplin, Greene, Hyde, Jones, Lenoir,New Hanover, Onslow, Pamlico, Pender, and Pitt

Severe storms,high wind, andflooding and re-lated effects ofHurricane Bertha

July 10-13, 1996

All Counties Hurricane Fran September 5-7, 1996

Counties of Alamance, Anson, Beaufort, Bertie, Bladen,Brunswick, Buncombe, Caswell, Cateret, Chatham, Chowan,Columbus, Craven, Cumberland, Davidson, Duplin, Durham,Edgecombe, Franklin, Granville, Greene, Guilford, Halifax,Harnett, Henderson, Hertford, Hoke, Hyde, Johnston, Jones,Lee, Lenoir, Martin, Moore, Nash, New Hanover, Onslow,Orange, Pamlico, Pender, Person, Pitt, Polk, Randolph,Richmond, Robeson, Rockingham, Rutherford, Sampson,Scotland, Stanley, Vance, Wake, Warren, Wayne, and Wilson

Hurricane Fran September 5-October 21, 1996

North DakotaCounties of Barnes, Benson, Burleigh, Cass, Cavalier,Dickey, Eddy, Emmons, Foster, Grand Forks, Grant, Griggs,Kidder, LaMoure, Logan, McHenry, McIntosh, McLean,Morton, Nelson, Oliver, Pembina, Pierce, Ramsey, Ransom,Richland, Sargent, Sheridan, Steele, Stutsman, Traill, Walsh,and Wells

Severe storms,flooding, ice jams,and ground satura-tion due to highwater tables


OhioCounties of Adams, Belmont, Brown, Clermont, Columbiana,Gallia, Hamilton, Jefferson, Lawrence, Meigs, Monroe,Scioto, and Washington


January 20-31, 1996

Counties of Adams, Belmont, Brown, Butler, Clermont,Gallia, Hamilton, Hocking, Jefferson, Lawrence, Meigs,Monroe, Paulding, Scioto, Vinton, and Williams

Flooding May 2-June 24, 1996

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OregonCounties of Benton, Clackamas, Clatsop, Columbia, Coos,Deschutes, Douglas, Gilliam, Hood River, Jefferson,Josephine, Lane, Lincoln, Linn, Marion, Morrow,Multnomah, Polk, Sherman, Tillamook, Umatilla, Union,Wallowa, Wasco, Washington, Wheeler, and Yamhill; and thelands of the Coquille Indian Tribe, the Confederated Tribesof Umatilla Indian Reservation, and the Warm Springs IndianReservation.

High winds, se-vere storms andflooding

February 4-21, 1996

Counties of Coos, Douglas, and Lane Flooding, land andmud slides, andsevere storms

November 17-December 11, 1996

Counties of Baker, Gilliam, Grant, Jackson, Josephine,Klamath, Morrow, and Wheeler

Severe winterstorms, land andmudslides andflooding

December 25, 1996-January 6, 1997

PennsylvaniaCounties of Adams, Allegheny, Armstrong, Bedford, Berks,Blair, Bradford, Bucks, Cambria, Carbon, Centre, Chester,Clearfield, Clinton, Columbia, Cumberland, Dauphin, Dela-ware, Fayette, Franklin, Fulton, Greene, Huntingdon, Indiana,Juniata, Lackawanna, Lancaster, Lebanon, Lehigh, Luzerne,Lycoming, Mifflin, Monroe, Montgomery, Montour,Northampton, Northumberland, Perry, Philadelphia, Pike,Schuylkill, Snyder, Somerset, Sullivan, Susquehanna, Union,Washington, Wayne, Westmoreland, Wyoming, and York


Counties of Adams, Allegheny, Armstrong, Beaver, Bedford,Berks, Blair, Bradford, Bucks, Butler, Cambria, Cameron,Carbon, Centre, Chester, Clarion, Clearfield, Clinton, Colum-bia, Crawford, Cumberland, Dauphin, Delaware, Elk, Erie,Fayette, Forest, Franklin, Fulton, Greene, Huntingdon, Indi-ana, Jefferson, Juniata, Lackawanna, Lancaster, Lawrence,Lebanon, Lehigh, Luzerne, Lycoming, Mercer, McKean,Mifflin, Monroe, Montgomery, Montour, Northampton,Northumberland, Philadelphia, Perry, Pike, Potter, Schuylkill,Snyder, Somerset, Sullivan, Susquehanna, Tioga, Union,Venango, Warren, Washington, Wayne, Westmoreland, Wyo-ming, and York



Counties of Adams, Beaver, Bedford, Bucks, and Franklin Severe storms andflooding

June 12-19, 1996

Counties of Armstrong, Blair, Cambria, Clarion, Clearfield,Crawford, Greene, Indiana, Jefferson, and Venango

Severe storms,flooding and tor-nadoes

July 19, 1996

Counties of Cumberland, Huntingdon, Juniata, Mifflin, Mont-gomery, and Perry

Flooding associ-ated with TropicalDepression Fran

September 6-8, 1996

County of Tioga Severe thunder-storms, highwinds, rain andflooding

November 8-15, 1996

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Puerto RicoMunicipalities of Adjuntas, Aguada, Aguadilla, Aibonito,Anasco, Arecibo, Arroyo, Augas Buenas, Barceloneta, Bar-ranquitas, Bayamon, Cabo Rojo, Caguas, Camuy, Canovanas,Carolina, Catano, Cayey, Ceiba, Ciales, Cidra, Coamo,Comerio, Corozal, Dorado, Florida, Guanica, Guayama,Guayanilla, Guaynabo, Gurabo, Hatillo, Humacao, Isabela,Jayuya, Juana Diaz, Juncos, Lares, Las Marias, Las Piedras,Loiza, Manati, Maricao, Maunabo, Mayaguez, Moca,Morovis, Naguabo, Naranjito, Orocovis, Patillas, Penuelas,Ponce, Quebradillas, Rincon, Rio Grande, Salinas, SanGerman, San Juan, San Lorenzo, San Sebastian, Santa Isabel,Toa Alta, Toa Baja, Trujillo Alto, Utuado, Vega Alta, VegaBaja, Villalbo, Yabucoa, and Yauco

HurricaneHortense

September 9-11, 1996

Rhode IslandCounties of Bristol, Kent, Newport, Providence, and Wash-ington


South CarolinaCounties of Dillon, Georgetown, Horry, Marion, and Wil-liamsburg

Severe windsand floodingassociated withHurricane Fran

September 4-October 15, 1996

U.S. Virgin IslandsIslands of St. Croix, St. John, and St. Thomas Hurricane Bertha July 8-9, 1996

VermontCounties of Addison, Bennington, Chittenden, Franklin,Lamoille, Orange, Orleans, Rutland, Washington, Windham,and Windsor

Ice jams andflooding


County of Windham Extreme rainfalland flooding

June 12-14, 1996

VirginiaCounties of Accomack, Albermarle, Alleghany, Amelia,Amherst, Appomattox, Arlington, Augusta, Bath, Bedford,Bland, Botetourt, Brunswick, Buchanan, Buckingham,Campbell, Caroline, Carroll, Charlotte, Charles City, Chester-field, Clarke, Craig, Culpeper, Cumberland, Dickenson,Dinwiddie, Essex, Fauquier, Fairfax, Floyd, Fluvanna,Franklin, Frederick, Giles, Gloucester, Goochland, Grayson,Greene, Greensville, Halifax, Hanover, Henrico, Henry, High-land, Isle of Wight, James City, King George, King &Queen, King William, Lancaster, Lee, Loudoun, Louisa,Lunenburg, Madison, Mathews, Mecklenburg, Middlesex,Montgomery, Nelson, New Kent, Northhampton,Northumberland, Nottoway, Orange, Page, Patrick,Pittsylvania, Powhatan, Prince George, Prince William,Pulaski, Rappahannock, Richmond, Roanoke, Rockbridge,Rockingham, Russell, Scott, Shenandoah, Smyth, South-hampton, Spotsylvania, Stafford, Surry, Sussex, Tazewell,Warren, Washington, Westmoreland, Wise, Wythe, and York;and Cities of Alexandria, Bedford, Bristol, Buena Vista,Charlottesville, Chesapeake, Clifton Forge, Colonial Heights,Covington, Danville, Emporia, Fairfax, Falls Church,Franklin, Fredericksberg, Galax, Hampton, Harrisonburg,Hopewell, Lexington, Lynchburg, Manassas, Manassas Park,

Blizzard of1996

January 6-12, 1996

11


Virginia—Continued

Martinsville, Newport News, Norfolk, Norton, Petersburg,Portsmouth, Poquoson, Radford, Richmond, Roanoke, Salem,South Boston Town, Staunton, Suffolk, Virginia Beach,Waynesboro, Williamsburg, and Winchester


Counties of Alleghany, Augusta, Bath, Bland, Botetourt,Clarke, Fauquier, Frederick, Giles, Grayson, Greene, High-land, Loudoun, Page, Pulaski, Rappahanock, Rockbridge,Rockingham, Shenandoah, Warren, Washington, and Wythe;and the Cities of Buena Vista, Clifton Forge, Covington,Harrisonburg, and Waynesboro

Severe storm, highwinds, flooding,and wind-drivenrain


All Counties Hurricane Fran September 5-7, 1996

Counties of Accomack, Albemarle, Alleghany, Amelia,Amherst, Appomattox, Augusta, Bath, Bedford, Botetourt,Brunswick, Buckingham, Campbell, Charles City, Charlotte,Chesterfield, Clarke, Culpeper, Cumberland, Dinwiddie, Es-sex, Fluvanna, Giles, Gloucester, Goochland, Greene,Greenville, Halifax, Hampton City, Henrico, Henry, High-land, Isle of Wight, James City, King & Queen, KingGeorge, King William, Lancaster, Louisa, Lunenburg, Madi-son, Mathews, Mecklenburg, Middlesex, Montgomery,Nelson, New Kent, Northampton, Northumberland, Nottoway,Orange, Page, Pittsylvania, Powhattan, Prince Edward, PrinceGeorge, Prince William, Rappahannock, Richmond, Roanoke,Rockbridge, Rockingham, Shenandoah, Stafford, Surry, War-ren, Westmoreland, and York; and the Cities of Bedford,Buena Vista, Charlottesville, Danville, Emporia,Fredericksburg, Hampton, Harrisonburg, Hopewell, Lexing-ton, Lynchburg, Martinsville, Newport News, Poquoson,Staunton, Suffolk, Waynesboro, and Williamsburg

Hurricane Franand severe stormconditions includ-ing high winds,tornadoes, wind-driven rain, andriver and flashflooding

September 5-23, 1996

WashingtonCounties of Adams, Asotin, Benton, Clark, Columbia,Cowlitz, Garfield, Grays Harbor, King, Kitsap, Kittitas,Klickitat, Lewis, Lincoln, Pierce, Skagit, Skamania, Snohom-ish, Spokane, Thurston, Wahkiakum, Walla Walla, Whitman,and Yakima

High winds, se-vere storms andflooding


Counties of Klickitat, Pend Oreille, and Spokane Severe ice storms November 19-December 4, 1996

Counties of Adams, Asotin, Benton, Chelan, Clallam, Clark,Columbia, Cowlitz, Ferry, Garfield, Grant, Grays Harbor,Island, Jefferson, King, Kitsap, Kittitas, Klickitat, Lewis,Lincoln, Mason, Okanogan, Pacific, Pend Oreille, Pierce, SanJuan, Skagit, Skamania, Snohomish, Spokane, Stevens,Thurston, Walla Walla, Whatcom, Whitman, and Yakima

Winter storms,land andmudslides andflooding

December 26, 1996

West VirginiaCounties of Barbour, Berkeley, Boone, Braxton, Brooke,Cabell, Calhoun, Clay, Doddridge, Fayette, Gilmer, Grant,Greenbrier, Hampshire, Hancock, Hardy, Harrison, Jackson,Jefferson, Kanawha, Lewis, Lincoln, Logan, Marion,Marshall, Mason, McDowell, Mercer, Mineral, Mingo,Monongalia, Monroe, Morgan, Nicholas, Ohio, Pendleton,Pleasants, Pocahontas, Preston, Putnam, Raleigh, Randolph,Ritchie, Roane, Summers, Taylor, Tucker, Tyler, Upshur,Wayne, Webster, Wetzel, Wirt, Wood, and Wyoming


12


West Virginia—Continued

Counties of Berkeley, Brooke, Grant, Greenbriar, Hampshire,Hancock, Hardy, Jefferson, Marshall, Mason, Mercer, Min-eral, Monroe, Morgan, Nicholas, Ohio, Pendleton, Pleasants,Pocahontas, Preston, Raleigh, Randolph, Summers, Tucker,Tyler, Webster, Wetzel, and Wood

Flooding January 19-February 2, 1996

Counties of Barbour, Boone, Harrison, Lincoln, Logan,McDowell, Mercer, Mingo, Pendleton, Pocahontas, Raleigh,Randolph, Tucker, Upshur, Wayne, Wetzel, and Wyoming

Flooding andheavy winds

May 15-June 10, 1996

Counties of Barbour, Braxton, Clay, Gilmer, Monongalia,Nicholas, Randolph, and Webster

Heavy rains, highwinds, flooding,and slides

July 18-31, 1996

Counties of Berkeley, Grant, Hardy, Hampshire, Jefferson,Mineral, Morgan, Pendleton, Randolph, and Tucker

Heavy rain, highwind, floodingand slides due toHurricane Fran

September 5-8, 1996

WisconsinCounties of Fond du Lac and Green Tornadoes, severe

storms and flood-ing

July 17-22, 1996

Section 166.—Bad Debts26 CFR 1.166–4: Bad debts.

How does a bank change its method of account-ing for bad debts from the § 585 reserve methodto the § 166 specific charge-off method so that itmay elect S corporation status for the 1997 taxyear? See Rev. Proc. 97–18, page 53.

Section 280G.—Golden ParachutePaymentsFederal short-term, mid-term, and long-term

rates are set forth for the month of March 1997.See Rev. Rul. 97–10, page 31.

Section 382.—Limitation on NetOperating Loss Carryforwards andCertain Built-In Losses FollowingOwnership ChangeThe adjusted federal long-term rate is set forth

for the month of March 1997. See Rev. Rul.97–10, page 31.

Section 412.—Minimum FundingStandardsThe adjusted applicable federal short-term, mid-


Section 446.—General Rule forMethods of Accounting26 CFR 1.446–1: General rule for methods ofaccounting.


Section 467.—Certain Paymentsfor the Use of Property or ServicesThe adjusted applicable federal short-term, mid-


Section 468.—Special Rules forMining and Solid WasteReclamation and Closing CostsThe adjusted applicable federal short-term, mid-


Section 481.—AdjustmentsRequired by Changes in Method ofAccounting26 CFR 1.481–1: Adjustments in general.


Section 483.—Interest on CertainDeferred PaymentsThe adjusted applicable federal short-term, mid-


Section 585.—Reserves for BadDebts26 CFR 1.585–1: Reserve for losses on loans ofbanks.


Section 807.—Rules for CertainReservesThe adjusted applicable federal short-term, mid-


Section 846.—Discounted UnpaidLosses DefinedThe adjusted applicable federal short-term, mid-


13

Section 877.—Expatriation ToAvoid TaxWhat are the tax consequences under sections

877, 2107, 2501, and 6039F for individuals wholose U.S. citizenship or cease to be taxed aslong-term residents of the United States with aprincipal purpose to avoid U.S. taxes? See Notice97–19, page 40.

Section 902.—Deemed Paid CreditWhere Domestic Corporation Owns10 Percent or More of Voting Stockof Foreign Corporation26 CFR 1.902.1: Credit for domestic corporateshareholder of a foreign corporation for foreignincome taxes paid by the foreign corporation.

T.D. 8708

DEPARTMENT OF THE TREASURYInternal Revenue Service26 CFR Parts 1 and 602

Computation of Foreign TaxesDeemed Paid Under Section 902Pursuant to a Pooling Mechanismfor Undistributed Earnings andForeign Taxes

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Final regulations.

SUMMARY: This document contains fi-nal income tax regulations relating tothe computation of foreign taxes deemedpaid under section 902. Changes to theapplicable law were made by the TaxReform Act of 1986 and by the Techni-cal and Miscellaneous Revenue Act of1988 (TAMRA). These regulations pro-vide guidance needed to comply withthese changes and affect foreign corpo-rations and their United States corporateshareholders.

DATES: These regulations are effectiveJanuary 7, 1997.

Applicability: For the specific datesof applicability of these regulations, see§§ 1.902–1(g) and 1.902–3(l).

FOR FURTHER INFORMATIONCONTACT: Caren S. Shein (202) 622–3850 (not a toll free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collection of information con-tained in these final regulations has beenreviewed and approved by the Office ofManagement and Budget in accordancewith the Paperwork Reduction Act (44U.S.C. 3507) under control number

1545– 1458. Responses to these collec-tions of information are required by theIRS to implement the section 902 pool-ing regime enacted in the Tax ReformAct of 1986.An agency may not conduct or spon-

sor, and a person is not required torespond to, a collection of informationunless the collection of information dis-plays a valid control number.The burden for the collection of infor-

mation is reflected in the burden forForm 1118.Comments concerning the accuracy of

this burden estimate and suggestions forreducing this burden should be sent tothe Internal Revenue Service, Atten-tion: IRS Reports Clearance OfficerT:FP, Washington, DC 20224, and to theOffice of Management and Budget,Attention: Desk Officer for the Depart-ment of the Treasury, Office of Informa-tion and Regulatory Affairs, Washington,DC 20503.Books or records relating to the col-

lections of information must be retainedas long as their contents may becomematerial in the administration of anyinternal revenue law. Generally, tax re-turns and tax return information areconfidential, as required by 26 U.S.C.6103.

Background

Section 902 (26 CFR part 1) wasamended by section 1202(a) of the TaxReform Act of 1986 (Public Law 99–514, 100 Stat. 1085), and section1012(b) of the Technical and Miscella-neous Revenue Act of 1988 (TAMRA)(Public Law 100– 647, 102 Stat. 3242).On January 6, 1995, the IRS published anotice of proposed rulemaking in theFederal Register (60 FR 2049 [INTL–933–86 (1995–1 C.B. 959)]). The pro-posed regulations provide guidanceneeded to comply with section 902 asamended in 1986 and 1988. No publichearing was requested or held, but nu-merous written comments were received.The proposed regulations, with certainchanges made in response to comments,are adopted in this Treasury decision asfinal regulations. The principal changesto the regulations, as well as the majorcomments and suggestions, are dis-cussed below.

Explanation of Provisions

Section 1.902–1

In the preamble to the proposed regu-lations, the IRS requested comments on

whether the holding of Revenue Ruling71–141 (1971–1 C.B. 211) should beexpanded to allow taxes paid by aforeign corporation to be considereddeemed paid by domestic corporationsthat are partners in domestic limitedpartnerships or foreign partnerships,shareholders in limited liability compa-nies, beneficiaries of domestic or foreigntrusts and estates, or interest holders inother pass-through entities. The revenueruling held that two 50-percent domesticcorporate general partners of a domesticgeneral partnership that owned 40 per-cent of a foreign corporation were en-titled to compute an amount of foreigntaxes deemed paid under section 902with respect to dividends they receivedfrom the foreign corporation through thepartnership.The IRS received numerous com-

ments in response to the request in thepreamble. The commenters uniformlyargue that the aggregate theory of part-nerships should apply to allow domesticcorporate partners to compute anamount of foreign taxes deemed paidwith respect to dividends paid to anypartnership by a foreign corporation,provided that the partner owns at least10 percent of the voting stock of theforeign corporation through the partner-ship.The final regulations do not resolve

under what circumstances a domesticcorporate partner may compute anamount of foreign taxes deemed paidwith respect to dividends received froma foreign corporation by a partnership orother pass-through entity. That issue willbe the subject of a future proposedregulations project. However, in recogni-tion of the holding in Revenue Ruling71–141 (1971–1 C.B. 211) that a gen-eral partner of a domestic general part-nership may compute an amount offoreign taxes deemed paid with respectto a dividend distribution from a foreigncorporation to the partnership, § 1.902–1(a)(1) is amended to define a domesticshareholder as a domestic corporationthat ‘‘owns’’ the requisite voting stockin a foreign corporation rather than onethat ‘‘owns directly’’ the voting stock.The IRS is still considering under whatother circumstances the revenue rulingshould apply.Section 1.902–1(a)(8) is amended to

clarify under what circumstances thepool of post-1986 foreign income taxesmust be reduced to account for distribu-tions made in prior post-1986 taxableyears. The regulations require a reduc-tion in the taxes pool for taxes attribut-

14

able to earnings distributed to sharehold-ers ineligible for the deemed paid credit(for example, a foreign shareholder, aU.S. individual shareholder, or a domes-tic corporate shareholder that owns lessthan 10 percent of the foreign corpora-tion’s voting stock) and to shareholdersthat are eligible for the credit but thatchoose to deduct foreign taxes undersection 164(a) in the year of the distri-bution rather than claim a credit.The IRS understands that some tax-

payers have taken the position, contraryto the position taken in § 1.902–1(a)(8)of the proposed regulations, that al-though post-1986 undistributed earningsmust be reduced to account for alldistributions out of current or accumu-lated earnings and profits, post-1986foreign income taxes should be reducedonly to account for taxes attributable todistributions with respect to which ashareholder both is eligible to claim acredit for foreign taxes deemed paidunder section 902(a) and in fact electsto credit foreign taxes for the taxableyear under section 901(a). These taxpay-ers argue that only in those circum-stances are foreign taxes ‘‘deemed paid’’and thus required to be removed fromthe taxes pool under a literal reading ofsections 902(a) and 902(c)(2)(B).The IRS has not changed its position

as reflected in § 1.902–1(a)(8)(i) of theproposed regulations that the foreigntaxes pool must be reduced to accountfor foreign taxes attributable to all dis-tributions and deemed distributions orinclusions to all shareholders. However,the text of the final regulations has beenamended to clarify the rule. The require-ment that the foreign taxes pool must bereduced proportionately as the earningspool is reduced is consistent with thelegislative history of the Tax ReformAct of 1986 (Public Law 99–514). TheHouse Report states that under the pool-ing regime, ‘‘[a] dividend or subpart Finclusion is considered to bring with it apro rata share of the accumulated for-eign taxes paid by the subsidiary.’’ H.R.Rep. No. 426, 99th Cong., 1st Sess. 357(1985). In addition, removing taxes at-tributable to distributions to ineligibleshareholders and eligible shareholdersthat choose to deduct foreign taxes issupported by the general matching prin-ciples of section 902, which presumethat a dividend distribution will carrywith it a ratable share of the foreigncorporation’s taxes. If taxes paid withrespect to distributed earnings remainedin the pool, eligible shareholders eventu-ally could receive credits for more than

their ratable share of the foreign corpo-ration’s taxes, a result at odds with thestatutory scheme.Section 1.902–1(a)(8)(i) is amended

to correct an oversight in the proposedregulation. In the case of a distributionout of current earnings and profits thatis treated as a ‘‘nimble’’ dividend undersection 316(a)(2) when there is a deficitin accumulated earnings and profits,post-1986 foreign income taxes are notreduced. This rule is not inconsistentwith the general rule of paragraph(a)(8)(i) that the foreign taxes pool mustbe reduced to account for taxes attribut-able to all distributions and deemeddistributions out of post-1986 undistrib-uted earnings. Rather, it reflects the factthat under section 902 and these regula-tions, no taxes are deemed paid withrespect to a nimble dividend under sec-tion 316(a)(2) because the post-1986undistributed earnings pool is zero orless than zero.Section 1.902–1(a)(9), defining post-

1986 undistributed earnings, is amendedto clarify that the earnings pool isreduced only to account for distributionsor deemed distributions that reduceearnings and profits and inclusions thatresult in previously-taxed amounts de-scribed in sections 959(c)(1) and (c)(2)or 1293(c). Thus, for example, in thecase of a controlled foreign corporationowned 60 percent by a domestic corpo-rate shareholder and 40 percent by aforeign shareholder, the earnings andtaxes pools are reduced only to accountfor 60 percent of the foreign corpora-tion’s subpart F income.The rules precluding special alloca-

tions of earnings and taxes in § 1.902–1(a)(9)(iv) and (10)(ii) of the proposedregulations have been retained in thefinal regulations. These regulations areintended to reverse the result inVulcanv. Commissioner, 96 T.C. 410 (1991),aff’d per curiam, 959 F.2d 973 (11thCir. 1992), nonacq. 1995–1 C.B. 1, forpost-1986 taxable years. Several com-menters argued that theVulcan decisionwas correct and should be applied toboth pre-1987 and post-1986 taxableyears, and the regulations should berevised to reflect the decision. For thereasons stated in the preamble to theproposed regulations, the IRS declinesto do so.Commenters also argued that the rule

precluding special allocations of earn-ings and taxes is inconsistent with§ 1.904–6(a)(2). Section 1.904–6(a)(2)is an anti-abuse rule designed to preventthe use of accommodation parties to

improve a United States taxpayer’s for-eign tax credit position. The rule statesthat if a taxpayer receives or accrues adividend from a noncontrolled section902 corporation and the Commissionerestablishes the existence of an expressor implied agreement that the dividendis paid out of the foreign corporation’spassive or high withholding tax interestearnings, then only taxes imposed onpassive or high withholding tax interestearnings will be considered related tothe dividend. The IRS may invoke thisrule to prevent a shareholder from shel-tering investment income from tax byinvesting it through a noncontrolled sec-tion 902 corporation that distributes onlythe investment earnings to the share-holder, which then treats the distributionas a dividend sheltered by taxes paid onthe corporation’s high-taxed active busi-ness income. The IRS believes that thisnarrowly defined anti-abuse rule is anappropriate exception to the general ruleof § 1.902–1(a)(9)(iv) and (a)(10)(ii)barring special allocations of earningsand taxes.Section 1.902–1(a)(11) has been

amended to clarify that the definition ofa dividend in section 316(a) applies forpurposes of section 902, and that thesection 902 definition of a dividend alsoincludes deemed dividends under sec-tions 551 and 1248. Deemed inclusionsunder sections 951(a) and 1293 are notdividends for purposes of section 902.However, sections 960(a)(1) and 1293(f)provide that deemed paid taxes withrespect to inclusions under sections951(a) and 1293 are determined undersection 902 in the same manner as if adividend was paid.Paragraph (a)(11) also has been

amended to add a cross-reference tosection 1291 and § 1.1291–5 of theproposed regulations, which providespecial rules for computing foreign taxesdeemed paid with respect to distribu-tions from section 1291 funds. Thesedistributions are treated as dividendssolely for foreign tax credit purposes,but the general section 902 computa-tional rules do not apply.A commenter correctly pointed out

that the regulation’s inclusion of deemeddistributions under section 551 as divi-dends for purposes of section 902 iscontrary to the holding in RevenueRuling 74–59 (1974–1 C.B. 183) that anamount includible in gross income undersection 551 is not considered a dividendreceived for purposes of the allowanceof a foreign tax credit under section902. The holding of the revenue ruling

15

is based on language in the 1937 legis-lative history of the foreign personalholding company provisions. The Reportof the Joint Committee on Tax Evasionand Avoidance of the Congress of theUnited States, H.R. Doc. No. 337, 75thCong., 1st Sess. 18 (1937), recom-mended that shareholders of foreign per-sonal holding companies not be alloweda credit for foreign income taxes paidby the foreign corporation with respectto amounts deemed distributed. The Re-port goes on to state that the committeerecommended against allowing a creditbecause ‘‘it is not administratively fea-sible, although it might seem equitableunder the circumstances.’’Section 551(b) provides that amounts

required to be included in the grossincome of a U.S. shareholder undersection 551(a) are treated as dividends,and under current law it is administra-tively feasible to allow deemed paidtaxes to be computed with respect todeemed dividends. In addition, the Codenow includes other anti-deferral regimes,e.g., the subpart F and passive foreigninvestment company provisions, the ap-plication of which may overlap with theforeign personal holding company rules.Shareholders are permitted to computedeemed paid taxes with respect to sub-part F and passive foreign investmentcompany inclusions.The IRS, therefore, has concluded the

revenue ruling is not supported by cur-rent law. A shareholder of a foreignpersonal holding company should beentitled to compute deemed paid taxeswith respect to amounts required to beincluded in gross income as dividendsunder section 551(a). Revenue Ruling74–59 (1974–1 C.B. 183) is herebyrevoked effective as of the date theseregulations are published in theFederalRegister.A commenter argued that the rule in

§ 1.902–1(b)(4), providing that no taxesare deemed paid with respect to divi-dends out of current earnings and profitswhen the foreign corporation has nopost-1986 undistributed earnings and noaccumulated earnings and profits (so-called ‘‘nimble’’ dividends) conflictswith the general purpose of the foreigntax credit to prevent double taxation.The rule is retained in the final regula-tions for two reasons. First, the legisla-tive history of the Tax Reform Act of1986 (Public Law 99–514) clearly indi-cates that Congress was aware of theissue and agreed with the position statedin the regulation. See S. Rep. No. 313,99th Cong., 2d Sess. 321 (1986). Sec-

ond, because no taxes can be deemedpaid under the computational rules ofsection 902 when post-1986 undistrib-uted earnings are zero or less than zero,no taxes are removed from the post-1986 foreign income taxes pool. Thus,all of the foreign corporation’s taxesremain in its post-1986 foreign incometaxes pool and are available to becredited if the corporation pays anotherdividend in a later year in which thepost-1986 undistributed earnings pool ispositive.Section 1.902–1(c)(8) of the proposed

regulations reserved on the applicationof section 902 in section 304 exchanges.Commenters suggested that the regula-tions should address this area by incor-porating the holdings in Revenue Ruling91–5 (1991–1 C.B. 114), and RevenueRuling 92–86 (1992–1 C.B. 199). Inaddition, the commenters argued that theregulations should state that a deemedpaid credit is available in a section 304exchange involving a foreign parent cor-poration. The IRS is still studying thearea and the regulations thus continue toreserve on the application of section 902in a section 304 exchange.Section 1.902–1(c)(9) of the proposed

regulations is reserved in these finalregulations. The proposed regulationprovided a cross-reference to regulationsunder section 905(c) with respect toadjustments to post-1986 undistributedearnings and taxes that result from asection 482 allocation of income. Therecurrently are no regulations under sec-tion 905(c) addressing section 482 allo-cations and the IRS, therefore, has re-served this paragraph pending issuanceof final regulations under section 905(c).Section 1.902–1(d)(3)(ii) through (iv)

of the proposed regulations is not in-cluded in the final regulations. Para-graph (d)(3) set out rules and examplesexercising a grant of regulatory author-ity under the last sentence of section904(d)(2)(E)(i) to limit beyond the stat-ute the circumstances under which adividend paid to a new U.S. shareholderby a controlled foreign corporation outof earnings accumulated while it was acontrolled foreign corporation will betreated as dividends from anoncontrolled section 902 corporation.Identical rules were proposed in 1992under section 904(d). See § 1.904–4(g)(3)(ii) through (iv) of the proposedregulations. The rules address the char-acter of a dividend distribution undersection 904(d) and are more appropri-ately placed in the regulations under thatsection. After considering the comments

received, the rule will be finalized aspart of the section 904 regulations.

Section 1.902–2

A commenter suggested that the defi-cit carryback rules in § 1.902–2(a)(1)should be amended to provide that adeficit in post-1986 undistributed earn-ings will not be carried back to pre-1987 years on a return of capital orcapital gain distribution. The rule statesthat a deficit will be carried back when‘‘* * * a corporation makes a distribu-tion to shareholders that is a dividend orwould be a dividend if there werecurrent or accumulated earnings andprofits, * * * .’’ The commenter sug-gests that the rule in the proposedregulation can result in ‘‘locked-in’’taxes when earnings attributable to oneor more pre-1987 years are eliminatedby the deficit carryback. If the deficitstays in the post-1986 pool there is achance it can be absorbed by futureearnings, leaving the pre-1987 earningsand taxes intact. In support of its posi-tion, the commenter argues that section902 establishes rules that minimizedouble taxation by allowing a taxpayerto compute a deemed paid credit on ataxable dividend. The legislative historyindicates that the pooling provisions ofsection 902 are to apply solely forpurposes of computing the deemed paidcredit. Because a return of capital orcapital gain distribution is not a taxabledividend and no section 902 credit isallowable, the commenter argues thatthe pooling rules (including the deficitcarryback rules) should not apply.The IRS declines to adopt the com-

menter’s suggestion. When an amount isdistributed in a post-1986 taxable yearand there is a deficit in post-1986undistributed earnings, the deficit mustbe carried back and reduce earnings andprofits in pre-1987 years to determinewhether any earnings remain to supporttreatment of the distribution as a divi-dend. To the extent there are earningsremaining in one or more pre-1987years after a deficit is carried back, thedistribution is a dividend. Any remain-ing amount is a return of capital andcapital gain. It would be incongruous toadopt a rule providing a different resultif a single dollar of pre-1987 accumu-lated profits remains in a pre-1987 yearafter a post-1986 deficit is carried backthan if the deficit carryback eliminatedall pre-1987 accumulated profits and theentire distribution were treated as areturn of capital.

16

Another commenter argued that theinterplay among § 1.902–2(b)(1) (pre-1987 accumulated deficit carries over tobecome the opening balance of post-1986 undistributed earnings pool) and§ 1.902–1(b)(4) (no taxes deemed paidif a dividend is a nimble dividend) ofthe proposed regulations, and section960 (incorporating the section 902 ruleswith respect to deemed inclusions undersubpart F) results in a denial of deemedpaid taxes to a U.S. shareholder if acontrolled foreign corporation has both apre-1987 accumulated deficit and post-1986 earnings and profits that are en-tirely subpart F income. The commentersuggests that regulations be issued undersection 960 to provide, solely for pur-poses of that section, that accumulateddeficits in pre-1987 accumulated profitswill not carry over into the post-1986pool.The IRS cannot adopt the rule the

commenter suggests. Congress amendedsections 902 and 960 in 1986 specifi-cally to eliminate different earnings andprofits and deemed paid taxes computa-tions for purposes of sections 902 and960. Further, in the situation the com-menter posits, the credits are deferredbut not permanently disallowed. If thecontrolled foreign corporation earnsenough post-1986 income to eliminatethe accumulated deficit, any distributionor deemed distribution will carry with ita ratable share of post-1986 foreignincome taxes.A commenter argued that § 1.902–

2(b)(2) and (3), Example 1, are incorrectbecause they imply that annual deficitsin pre-1987 accumulated profits wererequired to be carried back under pre-1987 section 902 regardless of howforeign income taxes were determined.The commenter argues that pre-1987section 902 requires a ‘‘correlation’’ be-tween accumulated profits as determinedunder U.S. law and the foreign lawmethod by which foreign taxes weredetermined.The IRS disagrees with the comment

and the proposed regulation has notbeen amended. The regulation reflectsthe IRS’ longstanding position that inthe case of a deficit in accumulatedprofits of a foreign corporation for aparticular pre-1987 year, the deficit firstreduces prior years’ accumulated profitson a LIFO basis to the extent thereof,and then the remaining deficit reducesaccumulated profits in subsequent years.That rule applies regardless of whetherforeign law permits or requires the car-ryback or carryforward of losses. See

Revenue Ruling 74–550 (1974–2 C.B.209) and Revenue Ruling 87–72(1987–2 C.B. 170).

Effect on Other Documents

The following revenue ruling is re-voked as of January 7, 1997.Revenue Ruling 74–59, 1974–1 C.B.

183.

Special Analyses

It has been determined that this Trea-sury decision is not a significant regula-tory action as defined in EO 12866.Therefore, a regulatory assessment is notrequired. It also has been determinedthat section 553(b) of the AdministrativeProcedure Act (5 U.S.C. chapter 5) doesnot apply to these regulations, and be-cause the notice of proposed rulemakingpreceding the regulations was issuedprior to March 29, 1996, the RegulatoryFlexibility Act (5 U.S.C. chapter 6) doesnot apply. Pursuant to section 7805(f) ofthe Internal Revenue Code, the notice ofproposed rulemaking preceding theseregulations was submitted to the SmallBusiness Administration for comment onits impact on small business.

Drafting Information

The principal author of these finalregulations is Caren Silver Shein of theOffice of Associate Chief Counsel (In-ternational), within the Office of ChiefCounsel, IRS. However, other personnelfrom the IRS and Treasury Departmentparticipated in their development.

* * * * *

Adoption of Amendments to theRegulations

Accordingly, 26 CFR parts 1 and 602are amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citationfor part 1 is amended by adding entriesin numerical order to read as follows:Authority: 26 U.S.C. 7805 * * *Section 1.902–1 also issued under 26

U.S.C. 902(c)(7).Section 1.902–2 also issued under 26

U.S.C. 902(c)(7). * * *Par. 2. Sections 1.902–1 and 1.902–2

are redesignated §§ 1.902–3 and1.902–4, respectively.Par. 3. Sections 1.902–0, 1.902–1 and

1.902–2 are added to read as follows:

§ 1.902–0 Outline of regulations provi-sions for section 902.

This section lists the provisions undersection 902.

§ 1.902–1 Credit for domestic corpo-rate shareholder of a foreign corpora-tion for foreign income taxes paid by theforeign corporation.

(a) Definitions and special effectivedate.(1) Domestic shareholder.(2) First-tier corporation.(3) Second-tier corporation.(4) Third-tier corporation.(5) Example.(6) Upper- and lower-tier corpora-

tions.(7) Foreign income taxes.(8) Post-1986 foreign income taxes.(i) In general.(ii) Distributions out of earnings and

profits accumulated by a lower-tier cor-poration in its taxable years beginningbefore January 1, 1987, and included inthe gross income of an upper-tier corpo-ration in its taxable year beginning afterDecember 31, 1986.(iii) Foreign income taxes paid or

accrued with respect to high withholdingtax interest.(9) Post-1986 undistributed earnings.(i) In general.(ii) Distributions out of earnings and

profits accumulated by a lower-tier cor-poration in its taxable years beginningbefore January 1, 1987, and included inthe gross income of an upper-tier corpo-ration in its taxable year beginning afterDecember 31, 1986.(iii) Reduction for foreign income

taxes paid or accrued.(iv) Special allocations.(10) Pre-1987 accumulated profits.(i) Definition.(ii) Computation of pre-1987 accu-

mulated profits.(iii) Foreign income taxes attributable

to pre-1987 accumulated profits.(11) Dividend.(12) Dividend received.(13) Special effective date.(i) Rule.(ii) Example.(b) Computation of foreign income

taxes deemed paid by a domestic share-holder, first-tier corporation, and second-tier corporation.(1) General rule.(2) Allocation rule for dividends at-

tributable to post-1986 undistributedearnings and pre-1987 accumulatedprofits.

17

(i) Portion of dividend out of post-1986 undistributed earnings.(ii) Portion of dividend out of pre-

1987 accumulated profits.(3) Dividends paid out of pre-1987

accumulated profits.(4) Deficits in accumulated earnings

and profits.(5) Examples.(c) Special rules.(1) Separate computations required

for dividends from each first-tier andlower-tier corporation.(i) Rule.(ii) Example.(2) Section 78 gross-up.(i) Foreign income taxes deemed paid

by a domestic shareholder.(ii) Foreign income taxes deemed

paid by an upper-tier corporation.(iii) Example.(3) Creditable foreign income taxes.(4) Foreign mineral income.(5) Foreign taxes paid or accrued in

connection with the purchase or sale ofcertain oil and gas.(6) Foreign oil and gas extraction

income.(7) United States shareholders of con-

trolled foreign corporations.(8) Credit for foreign taxes deemed

paid in a section 304 transaction.(9) Effect of section 482 adjustments

on post-1986 foreign income taxes andpost-1986 undistributed earnings.(d) Dividends from controlled foreign

corporations.(1) General rule.(2) Look-through.(i) Dividends.(ii) Coordination with section 960.(3) Dividends distributed out of earn-

ings accumulated before a controlledforeign corporation became a controlledforeign corporation.(i) General rule.(ii) Dividend distributions out of

earnings and profits for a year duringwhich a shareholder that is currently amore-than-90-percent United Statesshareholder of a controlled foreign cor-poration was not a United States share-holder of the controlled foreign corpora-tion.(e) Information to be furnished.(f) Examples.(g) Effective date.

§ 1.902–2 Treatment of deficits in post-1986 undistributed earnings and pre-1987 accumulated profits of a first-,second-, or third-tier corporation forpurposes of computing an amount offoreign taxes deemed paid § 1.902–1.

(a) Carryback of deficits in post-1986undistributed earnings of a first-,second-, or third-tier corporation to pre-effective date taxable years.(1) Rule.(2) Examples.(b) Carryforward of deficits in pre-

1987 accumulated profits of a first-,second-, or third-tier corporation to post-1986 undistributed earnings for purposesof section 902.(1) General rule.(2) Effect of pre-effective date defi-

cit.(3) Examples.

§ 1.902–3 Credit for domestic corpo-rate shareholder of a foreign corpora-tion for foreign income taxes paid withrespect to accumulated profits of taxableyears of the foreign corporation begin-ning before January 1, 1987.

(a) Definitions.(1) Domestic shareholder.(2) First-tier corporation.(3) Second-tier corporation.(4) Third-tier corporation.(5) Foreign income taxes.(6) Dividend.(7) Dividend received.(b) Domestic shareholder owning

stock in a first-tier corporation.(1) In general.(2) Amount of foreign taxes deemed

paid by a domestic shareholder.(c) First-tier corporation owning

stock in a second-tier corporation.(1) In general.(2) Amount of foreign taxes deemed

paid by a first-tier corporation.(d) Second-tier corporation owning

stock in a third-tier corporation.(1) In general.(2) Amount of foreign taxes deemed

paid by a second-tier corporation.(e) Determination of accumulated

profits of a foreign corporation.(f) Taxes paid on or with respect to

accumulated profits of a foreign corpo-ration.(g) Determination of earnings and

profits of a foreign corporation.(1) Taxable year to which section 963

does not apply.(2) Taxable year to which section 963

applies.(3) Time and manner of making

choice.(4) Determination by district director.(h) Source of income from first-tier

corporation and country to which tax isdeemed paid.(1) Source of income.

(2) Country to which taxes deemedpaid.(i) United Kingdom income taxes

paid with respect to royalties.(j) Information to be furnished.(k) Illustrations.(l) Effective date.

§ 1.902–4 Rules for distributions attrib-utable to accumulated profits for taxableyears in which a first-tier corporationwas a less developed country corpora-tion.

(a) In general.(b) Combined distributions.(c) Distributions of a first-tier corpo-

ration attributable to certain distributionsfrom second- or third-tier corporations.(d) Illustrations.

§ 1.902–1 Credit for domestic corpo-rate shareholder of a foreign corpora-tion for foreign income taxes paid by theforeign corporation.

(a) Definitions and special effectivedate. For purposes of section 902, thissection, and § 1.902–2, the definitionsprovided in paragraphs (a)(1) through(12) of this section and the specialeffective date of paragraph (a)(13) ofthis section apply.(1) Domestic shareholder. In the case

of dividends received by a domesticcorporation from a foreign corporationafter December 31, 1986, the term do-mestic shareholder means a domesticcorporation, other than an S corporationas defined in section 1361(a), that ownsat least 10 percent of the voting stock ofthe foreign corporation at the time thedomestic corporation receives a dividendfrom that foreign corporation.(2) First-tier corporation. In the case

of dividends received by a domesticshareholder from a foreign corporationin a taxable year beginning after De-cember 31, 1986, the term first-tiercorporation means a foreign corporation,at least 10 percent of the voting stock ofwhich is owned by a domestic share-holder at the time the domestic share-holder receives a dividend from thatforeign corporation. The term first-tiercorporation also includes a DISC orformer DISC, but only with respect todividends from the DISC or formerDISC that are treated under sections861(a)(2)(D) and 862(a)(2) as incomefrom sources without the United States.(3) Second-tier corporation. In the

case of dividends paid to a first-tiercorporation by a foreign corporation in ataxable year beginning after December

18

31, 1986, the foreign corporation is asecond-tier corporation if, at the time afirst-tier corporation receives a dividendfrom that foreign corporation, the first-tier corporation owns at least 10 percentof the foreign corporation’s voting stockand the product of the following equalsat least 5 percent—(i) The percentage of voting stock

owned by the domestic shareholder inthe first-tier corporation; multiplied by(ii) The percentage of voting stock

owned by the first-tier corporation in thesecond-tier corporation.(4) Third-tier corporation. In the case

of dividends paid to a second-tier corpo-ration by a foreign corporation in ataxable year beginning after December31, 1986, a foreign corporation is athird-tier corporation if, at the time asecond-tier corporation receives a divi-dend from that foreign corporation, thesecond-tier corporation owns at least 10percent of the foreign corporation’s vot-ing stock and the product of the follow-ing equals at least 5 percent—(i) The percentage of voting stock

owned by the domestic shareholder inthe first-tier corporation; multiplied by(ii) The percentage of voting stock

owned by the first-tier corporation in thesecond-tier corporation; multiplied by(iii) The percentage of voting stock

owned by the second-tier corporation inthe third-tier corporation.(5) Example. The following example

illustrates the ownership requirements ofparagraphs (a)(1) through (4) of thissection:Example.(i) Domestic corporation M owns 30

percent of the voting stock of foreign corporationA on January 1, 1991, and for all periods thereaf-ter. Corporation A owns 40 percent of the votingstock of foreign corporation B on January 1, 1991,and continues to own that stock until June 1,1991, when Corporation A sells its stock inCorporation B. Both Corporation A and Corpora-tion B use the calendar year as the taxable year.Corporation B pays a dividend out of its post-1986undistributed earnings to Corporation A, whichCorporation A receives on February 16, 1991.Corporation A pays a dividend out of its post-1986undistributed earnings to Corporation M, whichCorporation M receives on January 20, 1992.Corporation M uses a fiscal year ending on June30 as the taxable year.(ii) On February 16, 1991, when Corporation B

pays a dividend to Corporation A, Corporation Msatisfies the 10-percent stock ownership require-ment of paragraphs (a)(1) and (2) of this sectionwith respect to Corporation A. Therefore, Corpora-tion A is a first-tier corporation within the mean-ing of paragraph (a)(2) of this section and Corpo-ration M is a domestic shareholder of CorporationA within the meaning of paragraph (a)(1) of thissection. Also on February 16, 1991, Corporation Bis a second-tier corporation within the meaning ofparagraph (a)(3) of this section because Corpora-tion A owns at least 10 percent of its voting stock,

and the percentage of voting stock owned byCorporation M in Corporation A on February 16,1991 (30 percent) multiplied by the percentage ofvoting stock owned by Corporation A in Corpora-tion B on February 16, 1991 (40 percent) equals12 percent. Corporation A shall be deemed to havepaid foreign income taxes of Corporation B withrespect to the dividend received from CorporationB on February 16, 1991.(iii) On January 20, 1992, Corporation M satis-

fies the 10-percent stock ownership requirement ofparagraphs (a)(1) and (2) of this section withrespect to Corporation A. Therefore, Corporation Ais a first-tier corporation within the meaning ofparagraph (a)(2) of this section and Corporation Mis a domestic shareholder within the meaning ofparagraph (a)(1) of this section. Accordingly, forits taxable year ending on June 30, 1992, Corpora-tion M is deemed to have paid a portion of thepost-1986 foreign income taxes paid, accrued, ordeemed to be paid, by Corporation A. Those taxeswill include taxes paid by Corporation B that weredeemed paid by Corporation A with respect to thedividend paid by Corporation B to Corporation Aon February 16, 1991, even though Corporation Bis no longer a second-tier corporation with respectto Corporations A and M on January 20, 1992, andhas not been a second-tier corporation with respectto Corporations A and M at any time during thetaxable years of Corporations A and M thatinclude January 20, 1992.

(6) Upper- and lower-tier corpora-tions. In the case of a third-tier corpora-tion, the term upper-tier corporationmeans a first- or second-tier corporation.In the case of a second-tier corporation,the term upper-tier corporation means afirst-tier corporation. In the case of afirst-tier corporation, the term lower-tiercorporation means a second- or third-tiercorporation. In the case of a second-tiercorporation, the term lower-tier corpora-tion means a third-tier corporation.(7) Foreign income taxes. The term

foreign income taxes means income, warprofits, and excess profits taxes as de-fined in § 1.901–2(a), and taxes in-cluded in the term income, war profits,and excess profits taxes by reason ofsection 903, that are imposed by aforeign country or a possession of theUnited States, including any such taxesdeemed paid by a foreign corporationunder this section. Foreign income, warprofits, and excess profits taxes shall notinclude amounts excluded from the defi-nition of those taxes pursuant to section901 and the regulations under that sec-tion. See also paragraphs (c)(4) and (5)of this section (concerning foreign taxespaid with respect to foreign mineralincome and in connection with the pur-chase or sale of oil and gas).(8) Post-1986 foreign income taxes—

(i) In general. Except as provided inparagraphs (a)(10) and (13) of this sec-tion, the term post-1986 foreign incometaxes of a foreign corporation means thesum of the foreign income taxes paid,

accrued, or deemed paid in the taxableyear of the foreign corporation in whichit distributes a dividend plus the foreignincome taxes paid, accrued, or deemedpaid in the foreign corporation’s priortaxable years beginning after December31, 1986, to the extent the foreign taxeswere not paid or deemed paid by theforeign corporation on or with respect toearnings that in prior taxable years weredistributed to, or otherwise included(e.g., under sections 304, 367(b), 551,951(a), 1248 or 1293) in the income of,a foreign or domestic shareholder. Ex-cept as provided in paragraph (b)(4) ofthis section, foreign taxes paid ordeemed paid by the foreign corporationon or with respect to earnings that weredistributed or otherwise removed frompost-1986 undistributed earnings in priorpost-1986 taxable years shall be re-moved from post-1986 foreign incometaxes regardless of whether the share-holder is eligible to compute an amountof foreign taxes deemed paid undersection 902, and regardless of whetherthe shareholder in fact chose to creditforeign income taxes under section 901for the year of the distribution or inclu-sion. Thus, if an amount is distributedor deemed distributed by a foreign cor-poration to a United States person thatis not a domestic shareholder within themeaning of paragraph (a)(1) of thissection (e.g., an individual or a corpora-tion that owns less than 10% of theforeign corporation’s voting stock), or toa foreign person that does not meet thedefinition of a first- or second-tier cor-poration under paragraph (a)(2) or (3) ofthis section, then although no foreignincome taxes shall be deemed paidunder section 902, foreign income taxesattributable to the distribution or deemeddistribution that would have beendeemed paid had the shareholder metthe ownership requirements of para-graphs (a)(1) through (4) of this sectionshall be removed from post-1986 for-eign income taxes. Further, if a domesticshareholder chooses to deduct foreigntaxes paid or accrued for the taxableyear of the distribution or inclusion, itshall nonetheless be deemed to havepaid a proportionate share of the foreigncorporation’s post-1986 foreign incometaxes under section 902(a), and theforeign taxes deemed paid must beremoved from post-1986 foreign incometaxes. In the case of a foreign corpora-tion the foreign income taxes of whichare determined based on an accountingperiod of less than one year, the term

19

year means that accounting period. Seesections 441(b)(3) and 443.(ii) Distributions out of earnings and

profits accumulated by a lower-tier cor-poration in its taxable years beginningbefore January 1, 1987, and included inthe gross income of an upper-tier corpo-ration in its taxable year beginning afterDecember 31, 1986. Post-1986 foreignincome taxes shall include foreign in-come taxes that are deemed paid by anupper-tier corporation with respect todistributions from a lower-tier corpora-tion out of non-previously taxed pre-1987 accumulated profits, as defined inparagraph (a)(10) of this section, thatare received by an upper-tier corporationin any taxable year of the upper-tiercorporation beginning after December31, 1986, provided the upper-tier corpo-ration’s earnings and profits in that yearare included in its post-1986 undistrib-uted earnings under paragraph (a)(9) ofthis section. Foreign income taxesdeemed paid with respect to a distribu-tion of pre-1987 accumulated profitsshall be translated from the functionalcurrency of the lower-tier corporationinto dollars at the spot exchange rate ineffect on the date of the distribution. Todetermine the character of the earningsand profits and associated taxes forforeign tax credit limitation purposes,see section 904 and § 1.904–7(a).(iii) Foreign income taxes paid or

accrued with respect to high withholdingtax interest. Post-1986 foreign incometaxes shall not include foreign incometaxes paid or accrued by a noncontrolledsection 902 corporation (as defined insection 904(d)(2)(E)(i)) with respect tohigh withholding tax interest (as definedin section 904(d)(2)(B)) to the extent theforeign tax rate imposed on such interestexceeds 5 percent. See section904(d)(2)(E)(ii) and § 1.904–4(g)(2)(iii).The reduction in foreign income taxespaid or accrued by the amount of tax inexcess of 5 percent imposed on highwithholding tax interest income must becomputed in functional currency beforeforeign income taxes are translated intoU.S. dollars and included in post-1986foreign income taxes.(9) Post-1986 undistributed earn-

ings—(i) In general. Except as providedin paragraphs (a)(10) and (13) of thissection, the term post-1986 undistributedearnings means the amount of the earn-ings and profits of a foreign corporation(computed in accordance with sections964(a) and 986) accumulated in taxableyears of the foreign corporation begin-ning after December 31, 1986, deter-

mined as of the close of the taxable yearof the foreign corporation in which itdistributes a dividend. Post-1986 undis-tributed earnings shall not be reduced byreason of any earnings distributed orotherwise included in income, for ex-ample under section 304, 367(b), 551,951(a), 1248 or 1293, during the taxableyear. Post-1986 undistributed earningsshall be reduced to account for distribu-tions or deemed distributions that re-duced earnings and profits and inclu-sions that resulted in previously-taxedamounts described in section 959(c)(1)and (2) or section 1293(c) in priortaxable years beginning after December31, 1986. Thus, post-1986 undistributedearnings shall not be reduced to theextent of the ratable share of a con-trolled foreign corporation’s subpart Fincome, as defined in section 952, at-tributable to a shareholder that is not aUnited States shareholder within themeaning of section 951(b) or section953(c)(1)(A), because that amount hasnot been included in a shareholder’sgross income. Post-1986 undistributedearnings shall be reduced as providedherein regardless of whether any share-holder is deemed to have paid anyforeign taxes, and regardless of whetherany domestic shareholder chose to claima foreign tax credit under section 901(a)for the year of the distribution. For ruleson carrybacks and carryforwards of defi-cits and their effect on post-1986 undis-tributed earnings, see § 1.902–2. In thecase of a foreign corporation the foreignincome taxes of which are computedbased on an accounting period of lessthan one year, the term year means thataccounting period. See sections441(b)(3) and 443.(ii) Distributions out of earnings and

profits accumulated by a lower-tier cor-poration in its taxable years beginningbefore January 1, 1987, and included inthe gross income of an upper-tier corpo-ration in its taxable year beginning afterDecember 31, 1986. Distributions by alower-tier corporation out of non-previously taxed pre-1987 accumulatedprofits, as defined in paragraph (a)(10)of this section, that are received by anupper-tier corporation in any taxableyear of the upper-tier corporation begin-ning after December 31, 1986, shall betreated as post-1986 undistributed earn-ings of the upper-tier corporation, pro-vided the upper-tier corporation’s earn-ings and profits for that year areincluded in its post-1986 undistributedearnings under paragraph (a)(9)(i) ofthis section. To determine the character

of the earnings and profits and associ-ated taxes for foreign tax credit limita-tion purposes, see section 904 and§ 1.904–7(a).(iii) Reduction for foreign income

taxes paid or accrued. In computingpost-1986 undistributed earnings, earn-ings and profits shall be reduced byforeign income taxes paid or accruedregardless of whether the taxes are cred-itable. Thus, earnings and profits shallbe reduced by foreign income taxes paidwith respect to high withholding taxinterest even though a portion of thetaxes is not creditable pursuant to sec-tion 904(d)(2)(E)(ii) and is not includedin post-1986 foreign income taxes underparagraph (a)(8)(iii) of this section.Earnings and profits of an upper-tiercorporation, however, shall not be re-duced by foreign income taxes paid by alower-tier corporation and deemed tohave been paid by the upper-tier corpo-ration.(iv) Special allocations. The term

post-1986 undistributed earnings meansthe total amount of the earnings of thecorporation determined at the corporatelevel. Special allocations of earnings andtaxes to particular shareholders, whetherrequired or permitted by foreign law ora shareholder agreement, shall be disre-garded. If, however, the Commissionerestablishes that there is an agreement topay dividends only out of earnings inthe separate categories for passive orhigh withholding tax interest income,then only taxes imposed on passive orhigh withholding tax interest earningsshall be treated as related to the divi-dend. See § 1.904–6(a)(2).(10) Pre-1987 accumulated profits—

(i) Definition. The term pre-1987 accu-mulated profits means the amount of theearnings and profits of a foreign corpo-ration computed in accordance with sec-tion 902 and attributable to its taxableyears beginning before January 1, 1987.If the special effective date of paragraph(a)(13) of this section applies, pre-1987accumulated profits also includes anyearnings and profits (computed in accor-dance with sections 964(a) and 986)attributable to the foreign corporation’staxable years beginning after December31, 1986, but before the first day of thefirst taxable year of the foreign corpora-tion in which the ownership require-ments of section 902(c)(3)(B) and para-graphs (a)(1) through (4) of this sectionare met with respect to that corporation.(ii) Computation of pre-1987 accumu-

lated profits. Pre-1987 accumulatedprofits must be computed under United

20

States principles governing the computa-tion of earnings and profits. Pre-1987accumulated profits are determined atthe corporate level. Special allocationsof accumulated profits and taxes toparticular shareholders with respect todistributions of pre-1987 accumulatedprofits in taxable years beginning afterDecember 31, 1986, whether required orpermitted by foreign law or a share-holder agreement, shall be disregarded.Pre-1987 accumulated profits of a par-ticular year shall be reduced by amountsdistributed from those accumulated prof-its or otherwise included in income fromthose accumulated profits, for exampleunder sections 304, 367(b), 551, 951(a),1248 or 1293. If a deficit in post-1986undistributed earnings is carried back tooffset pre-1987 accumulated profits, pre-1987 accumulated profits of a particulartaxable year shall be reduced by theamount of the deficit carried back tothat year. See § 1.902–2. The amount ofa distribution out of pre-1987 accumu-lated profits, and the amount of foreignincome taxes deemed paid under section902, shall be determined and translatedinto United States dollars by applyingthe law as in effect prior to the effectivedate of the Tax Reform Act of 1986.See §§ 1.902–3, 1.902–4 and 1.964–1.(iii) Foreign income taxes attribut-

able to pre-1987 accumulated profits.The term pre-1987 foreign income taxesmeans any foreign income taxes paid,accrued, or deemed paid by a foreigncorporation on or with respect to itspre-1987 accumulated profits. Pre-1987foreign income taxes of a particular yearshall be reduced by the amount of taxespaid or deemed paid by the foreigncorporation on or with respect toamounts distributed or otherwise in-cluded in income from pre-1987 accu-mulated profits of that year. Thus, pre-1987 foreign income taxes shall bereduced by the amount of taxes deemedpaid by a domestic shareholder (regard-less of whether the shareholder chose tocredit foreign income taxes under sec-tion 901 for the year of the distributionor inclusion) or a first-tier or second-tiercorporation, and by the amount of taxesthat would have been deemed paid hadany other shareholder been eligible tocompute an amount of foreign taxesdeemed paid under section 902. Foreignincome taxes deemed paid with respectto a distribution of pre-1987 accumu-lated profits shall be translated from thefunctional currency of the distributingcorporation into United States dollars at

the spot exchange rate in effect on thedate of the distribution.(11) Dividend. For purposes of sec-

tion 902, the definition of the termdividend in section 316 and the regula-tions under that section applies. Thus,for example, distributions and deemeddistributions under sections 302, 304,305(b) and 367(b) that are treated asdividends within the meaning of section301(c)(1) also are dividends for pur-poses of section 902. In addition, theterm dividend includes deemed divi-dends under sections 551 and 1248, butnot deemed inclusions under sections951(a) and 1293. For rules concerningexcess distributions from section 1291funds that are treated as dividends solelyfor foreign tax credit purposes, (seeRegulation Project INTL–656–87 pub-lished in 1992–1 C.B. 1124; see§ 601.601(d)(2)(ii)(b) of this chapter).(12) Dividend received. A dividend

shall be considered received for pur-poses of section 902 when the cash orother property is unqualifiedly madesubject to the demands of thedistributee. See § 1.301–1(b). A divi-dend also is considered received forpurposes of section 902 when it isdeemed received under section 304,367(b), 551, or 1248.(13) Special effective date—(i) Rule.

If the first day on which the ownershiprequirements of section 902(c)(3)(B) andparagraphs (a)(1) through (4) of thissection are met with respect to a foreigncorporation, without regard to whether adividend is distributed, is in a taxableyear of the foreign corporation begin-ning after December 31, 1986, then—(A) The post-1986 undistributed earn-

ings and post-1986 foreign income taxesof the foreign corporation shall be deter-mined by taking into account only tax-able years beginning on and after thefirst day of the first taxable year of theforeign corporation in which the owner-ship requirements are met, includingsubsequent taxable years in which theownership requirements of section902(c)(3)(B) and paragraphs (a)(1)through (4) of this section are not met;and(B) Earnings and profits accumulated

prior to the first day of the first taxableyear of the foreign corporation in whichthe ownership requirements of section902(c)(3)(B) and paragraphs (a)(1)through (4) of this section are met shallbe considered pre-1987 accumulatedprofits.

(ii) Example. The following exampleillustrates the special effective date rulesof this paragraph (a)(13):Example. As of December 31, 1991, and since

its incorporation, foreign corporation A has owned100 percent of the stock of foreign corporation B.Corporation B is not a controlled foreign corpora-tion. Corporation B uses the calendar year as itstaxable year, and its functional currency is the u.Assume 1u equals $1 at all relevant times. OnApril 1, 1992, Corporation B pays a 200u divi-dend to Corporation A and the ownership require-ments of section 902(c)(3)(B) and paragraphs(a)(1) through (4) of this section are not met atthat time. On July 1, 1992, domestic corporationM purchases 10 percent of the Corporation Bstock from Corporation A and, for the first time,Corporation B meets the ownership requirementsof section 902(c)(3)(B) and paragraph (a)(2) ofthis section. Corporation M uses the calendar yearas its taxable year. Corporation B does notdistribute any dividends to Corporation M during1992. For its taxable year ending December 31,1992, Corporation B has 500u of earnings andprofits (after foreign taxes but before taking intoaccount the 200u distribution to Corporation A)and pays 100u of foreign income taxes that isequal to $100. Pursuant to paragraph (a)(13)(i) ofthis section, Corporation B’s post-1986 undistrib-uted earnings and post-1986 foreign income taxeswill include earnings and profits and foreignincome taxes attributable to Corporation B’s entire1992 taxable year and all taxable years thereafter.Thus, the April 1, 1992, dividend to Corporation Awill reduce post-1986 undistributed earnings to300u (500u – 200u) under paragraph (a)(9)(i) ofthis section. The foreign income taxes attributableto the amount distributed as a dividend to Corpo-ration A will not be creditable because CorporationA is not a domestic shareholder. Post-1986 foreignincome taxes, however, will be reduced by theamount of foreign taxes attributable to the divi-dend. Thus, as of the beginning of 1993, Corpora-tion B has $60 ($100 – [$100 x 40% (200u/500u)]) of post-1986 foreign income taxes. Seeparagraphs (a)(8)(i) and (b)(1) of this section.

(b) Computation of foreign incometaxes deemed paid by a domestic share-holder, first-tier corporation, andsecond-tier corporation—(1) Generalrule. If a foreign corporation pays adividend in any taxable year out of post-1986 undistributed earnings to a share-holder that is a domestic shareholder oran upper-tier corporation at the time itreceives the dividend, the recipient shallbe deemed to have paid the same pro-portion of any post-1986 foreign incometaxes paid, accrued or deemed paid bythe distributing corporation on or withrespect to post-1986 undistributed earn-ings which the amount of the dividendout of post-1986 undistributed earnings(determined without regard to thegross-up under section 78) bears to theamount of the distributing corporation’spost-1986 undistributed earnings. Anupper-tier corporation shall not be en-titled to compute an amount of foreigntaxes deemed paid on a dividend from alower-tier corporation, however, unless

21

the ownership requirements of para-graphs (a)(1) through (4) of this sectionare met at each tier at the time theupper-tier corporation receives the divi-dend. Foreign income taxes deemed paidby a domestic shareholder or an upper-tier corporation must be computed underthe following formula:

Foreign in-come taxesdeemed paidby domesticshareholder(or upper-tiercorporation)

=

Post-1986foreign in-come taxesof first-tiercorporation(or lower-tier corpora-tion)

x

Dividendpaid to do-mestic share-holder (orupper-tiercorporation)by first-tiercorporation(or lower-tier) corpora-tion)Post-1986undistributedearnings offirst-tier cor-poration (orlower-tiercorporation)

(2) Allocation rule for dividends at-tributable to post-1986 undistributedearnings and pre-1987 accumulatedprofits—(i) Portion of dividend out ofpost-1986 undistributed earnings. Divi-dends will be deemed to be paid firstout of post-1986 undistributed earningsto the extent thereof. If dividends ex-ceed post-1986 undistributed earningsand dividends are paid to more than oneshareholder, then the dividend to eachshareholder shall be deemed to be paidpro rata out of post-1986 undistributedearnings, computed as follows:Portion ofDividend toa Share-holder Attrib-utable toPost-1986UndistributedEarnings

=

Post-1986Undistrib-uted Earn-ings

x

Dividend toShareholderTotal Divi-dends PaidTo all Share-holders

(ii) Portion of dividend out of pre-1987 accumulated profits. After the por-tion of the dividend attributable to post-1986 undistributed earnings isdetermined under paragraph (b)(2)(i) ofthis section, the remainder of the divi-dend received by a shareholder is attrib-utable to pre-1987 accumulated profitsto the extent thereof. That part of thedividend attributable to pre-1987 accu-mulated profits will be treated as paidfirst from the most recently accumulatedearnings and profits. See § 1.902–3. Ifdividends paid out of pre-1987 accumu-lated profits are attributable to morethan one pre-1987 taxable year and arepaid to more than one shareholder, thenthe dividend to each shareholder attrib-utable to earnings and profits accumu-

lated in a particular pre-1987 taxableyear shall be deemed to be paid pro rataout of accumulated profits of that tax-able year, computed as follows:

Portion ofDividend toa Share-holder At-tributable toAccumu-lated Profitsof a Par-ticular Pre-1987 Tax-able Year

=

DividentPaid Outof Pre-1987 Ac-cumulatedProfitswith Re-spect tothe Par-ticular Pre-1987 Tax-able Year

x

Dividend toShareholderTotal Divi-dends Paidto all Share-holders

(3) Dividends paid out of pre-1987accumulated profits. If dividends arepaid by a first-tier corporation or alower-tier corporation out of pre-1987accumulated profits, the domestic share-holder or upper-tier corporation that re-ceives the dividends shall be deemed tohave paid foreign income taxes to theextent provided under section 902 andthe regulations thereunder as in effectprior to the effective date of the TaxReform Act of 1986. See paragraphs(a)(10) and (13) of this section and§§ 1.902–3 and 1.902–4.(4) Deficits in accumulated earnings

and profits. No foreign income taxesshall be deemed paid with respect to adistribution from a foreign corporationout of current earnings and profits thatis treated as a dividend under section316(a)(2), and post-1986 foreign incometaxes shall not be reduced, if as of theend of the taxable year in which thedividend is paid or accrued, the corpora-tion has zero or a deficit in post-1986undistributed earnings and the sum ofcurrent plus accumulated earnings andprofits is zero or less than zero. Thedividend shall reduce post-1986 undis-tributed earnings and accumulated earn-ings and profits.(5) Examples. The following ex-

amples illustrate the rules of this para-graph (b):Example 1. Domestic corporation M owns 100

percent of foreign corporation A. Both CorporationM and Corporation A use the calendar year as thetaxable year, and Corporation A uses the u as itsfunctional currency. Assume that 1u equals $1 atall relevant times. All of Corporation A’s pre-1987accumulated profits and post-1986 undistributedearnings are non-subpart F general limitation earn-ings and profits under section 904(d)(1)(I). As ofDecember 31, 1992, Corporation A has 100u ofpost-1986 undistributed earnings and $40 of post-1986 foreign income taxes. For its 1986 taxableyear, Corporation A has accumulated profits of200u (net of foreign taxes) and paid 60u offoreign income taxes on those earnings. In 1992,Corporation A distributes 150u to Corporation M.Corporation A has 100u of post-1986 undistributedearnings and the dividend, therefore, is treated aspaid out of post-1986 undistributed earnings to the

extent of 100u. The first 100u distribution is frompost-1986 undistributed earnings, and, because thedistribution exhausts those earnings, CorporationM is deemed to have paid the entire amount ofpost-1986 foreign income taxes of Corporation A($40). The remaining 50u dividend is treated as adividend out of 1986 accumulated profits underparagraph (b)(2) of this section. Corporation M isdeemed to have paid $15 (60u x 50u/200u,translated at the appropriate exchange rates) ofCorporation A’s foreign income taxes for 1986. Asof January 1, 1993, Corporation A’s post-1986undistributed earnings and post-1986 foreign in-come taxes are 0. Corporation A has 150u ofaccumulated profits and 45u of foreign incometaxes remaining in 1986.Example 2. Domestic corporation M (incorpo-

rated on January 1, 1987) owns 100 percent offoreign corporation A (incorporated on January 1,1987). Both Corporation M and Corporation A usethe calendar year as the taxable year, and Corpora-tion A uses the u as its functional currency.Assume that 1u equals $1 at all relevant times.Corporation A has no pre-1987 accumulated prof-its. All of Corporation A’s post-1986 undistributedearnings are non-subpart F general limitation earn-ings and profits under section 904(d)(1)(I). OnJanuary 1, 1992, Corporation A has a deficit inaccumulated earnings and profits and a deficit inpost-1986 undistributed earnings of (200u). Noforeign taxes have been paid with respect topost-1986 undistributed earnings. During 1992,Corporation A earns 100u (net of foreign taxes),pays $40 of foreign taxes on those earnings anddistributes 50u to Corporation M. As of the end of1992, Corporation A has a deficit of (100u)((200u) post-1986 undistributed earnings + 100ucurrent earnings and profits) in post-1986 undis-tributed earnings. Corporation A, however, hascurrent earnings and profits of 100u. Therefore,the 50u distribution is treated as a dividend in itsentirety under section 316(a)(2). Under paragraph(b)(4) of this section, Corporation M is notdeemed to have paid any of the foreign taxes paidby Corporation A because post-1986 undistributedearnings and the sum of current plus accumulatedearnings and profits are (100u). The dividendreduces both post-1986 undistributed earnings andaccumulated earnings and profits. Therefore, as ofJanuary 1, 1993, Corporation A’s post-1986 undis-tributed earnings are (150u) and its accumulatedearnings and profits are (150u). Corporation A’spost-1986 foreign income taxes at the start of1993 are $40.

(c) Special rules—(1) Separate com-putations required for dividends fromeach first-tier and lower-tier corpora-tion—(i) Rule. If in a taxable yeardividends are received by a domesticshareholder or an upper-tier corporationfrom two or more first-tier corporationsor two or more lower-tier corporations,the foreign income taxes deemed paidby the domestic shareholder or theupper-tier corporation under sections902(a) and (b) and paragraph (b) of thissection shall be computed separatelywith respect to the dividends receivedfrom each first-tier corporation or lower-tier corporation. If a domestic share-holder receives dividend distributionsfrom one or more first-tier corporationsand in the same taxable year the first-

22

tier corporation receives dividends fromone or more lower-tier corporations,then the amount of foreign income taxesdeemed paid shall be computed by start-ing with the lowest-tier corporation andworking upward.(ii) Example. The following example

illustrates the application of this para-graph (c)(1):Example. P, a domestic corporation, owns 40

percent of the voting stock of foreign corporationS. S owns 30 percent of the voting stock offoreign corporation T, and 30 percent of the votingstock of foreign corporation U. Neither S, T, norU is a controlled foreign corporation. P, S, T andU all use the calendar year as their taxable year.In 1993, T and U both pay dividends to S and Spays a dividend to P. To compute foreign taxesdeemed paid, paragraph (c)(1) of this sectionrequires P to start with the lowest tier corporationsand to compute foreign taxes deemed paid sepa-rately for dividends from each first-tier and lower-tier corporation. Thus, S first will compute foreigntaxes deemed paid separately on its dividendsfrom T and U. The deemed paid taxes will beadded to S’s post-1986 foreign income taxes, andthe dividends will be added to S’s post-1986undistributed earnings. Next, P will compute for-eign taxes deemed paid with respect to thedividend from S. This computation will take intoaccount the taxes paid by T and U and deemedpaid by S.

(2) Section 78 gross-up—(i) Foreignincome taxes deemed paid by a domesticshareholder. Except as provided in sec-tion 960(b) and the regulations underthat section (relating to amounts ex-cluded from gross income under section959(b)), any foreign income taxesdeemed paid by a domestic shareholderin any taxable year under section 902(a)and paragraph (b) of this section shallbe included in the gross income of thedomestic shareholder for the year as adividend under section 78. Amounts in-cluded in gross income under section 78shall, for purposes of section 904, bedeemed to be derived from sourceswithin the United States to the extentthe earnings and profits on which thetaxes were paid are treated under section904(g) as United States source earningsand profits. Section 1.904–5(m)(6).Amounts included in gross income un-der section 78 shall be treated forpurposes of section 904 as income in aseparate category to the extent that theforeign income taxes were allocated andapportioned to income in that separatecategory. See section 904(d)(3)(G) and§ 1.904–6(b)(3).(ii) Foreign income taxes deemed

paid by an upper-tier corporation. For-eign income taxes deemed paid by anupper-tier corporation on a distributionfrom a lower-tier corporation are notincluded in the earnings and profits of

the upper-tier corporation. For purposesof section 904, foreign income taxesshall be allocated and apportioned toincome in a separate category to theextent those taxes were allocated to theearnings and profits of the lower-tiercorporation in that separate category.See section 904(d)(3)(G) and § 1.904–6(b)(3). To the extent that section 904(g)treats the earnings of the lower-tiercorporation on which those foreign in-come taxes were paid as United Statessource earnings and profits, the foreignincome taxes deemed paid by the upper-tier corporation on the distribution fromthe lower-tier corporation shall betreated as attributable to United Statessource earnings and profits. See section904(g) and § 1.904–5(m)(6).(iii) Example. The following example

illustrates the rules of this paragraph(c)(2):Example. P, a domestic corporation, owns 100

percent of the voting stock of controlled foreigncorporation S. Corporations P and S use thecalendar year as their taxable year, and S uses theu as its functional currency. Assume that 1u equals$1 at all relevant times. As of January 1, 1992, Shas -0- post-1986 undistributed earnings and -0-post-1986 foreign income taxes. In 1992, S earns150u of non-subpart F general limitation incomenet of foreign taxes and pays 60u of foreignincome taxes. As of the end of 1992, but beforedividend payments, S has 150u of post-1986undistributed earnings and $60 of post-1986 for-eign income taxes. Assume that 50u of S’searnings for 1992 are from United States sources.S pays P a dividend of 75u which P receives in1992. Under § 1.904–5(m)(4), one-third of thedividend, or 25u (75u x 50u/150u), is UnitedStates source income to P. P computes foreigntaxes deemed paid on the dividend under para-graph (b)(1) of this section of $30 ($60 x50%[75u/150u]) and includes that amount in grossincome under section 78 as a dividend. Because25u of the 75u dividend is United States sourceincome to P, $10 ($30 x 33.33%[25u/75u]) of thesection 78 dividend will be treated as UnitedStates source income to P under this paragraph(c)(2).

(3) Creditable foreign income taxes.The amount of creditable foreign in-come taxes under section 901 shallinclude, subject to the limitations andconditions of sections 902 and 904,foreign income taxes actually paid anddeemed paid by a domestic shareholderthat receives a dividend from a first-tiercorporation. Foreign income taxesdeemed paid by a domestic shareholderunder paragraph (b) of this section shallbe deemed paid by the domestic share-holder only for purposes of computingthe foreign tax credit allowed undersection 901.(4) Foreign mineral income. Certain

foreign income, war profits and excessprofits taxes paid or accrued with re-

spect to foreign mineral income will notbe considered foreign income taxes forpurposes of section 902. See section901(e) and § 1.901–3.(5) Foreign taxes paid or accrued in

connection with the purchase or sale ofcertain oil and gas. Certain income, warprofits, or excess profits taxes paid oraccrued to a foreign country in connec-tion with the purchase and sale of oil orgas extracted in that country will not beconsidered foreign income taxes for pur-poses of section 902. See section 901(f).(6) Foreign oil and gas extraction

income. For rules relating to reductionof the amount of foreign income taxesdeemed paid with respect to foreign oiland gas extraction income, see section907(a) and the regulations under thatsection.(7) United States shareholders of

controlled foreign corporations. Seeparagraph (d) of this section and sec-tions 960 and 962 and the regulationsunder those sections for special rulesrelating to the application of section 902in computing foreign income taxesdeemed paid by United States share-holders of controlled foreign corpora-tions.(8) Credit for foreign taxes deemed

paid in a section 304 transaction. [Re-served].(9) Effect of section 482 adjustments

on post-1986 foreign income taxes andpost-1986 undistributed earnings.[Re-served].(d) Dividends from controlled foreign

corporations— (1) General rule. Exceptas provided in paragraph (d)(3) of thissection, if a dividend is received by adomestic shareholder that is a UnitedStates shareholder (as defined in section951(b) or section 953(c)(1)(A)) from afirst-tier corporation that is a controlledforeign corporation (as defined in sec-tion 957(a) or section 953(c)(1)(B)), orby an upper-tier corporation from alower-tier corporation if the corporationsare related look-through entities withinthe meaning of § 1.904–5(i), the follow-ing rule applies. If a dividend is paidout of post-1986 undistributed earningsor pre-1987 accumulated profits of theupper- or lower-tier controlled foreigncorporation attributable to more thanone separate category under section904(d), the amount of foreign incometaxes deemed paid by the domesticshareholder or the upper-tier corporationunder section 902 and paragraph (b) ofthis section shall be computed separatelywith respect to the post-1986 undistrib-uted earnings or pre-1987 accumulated

23

profits in each separate category out ofwhich the dividend is paid. See§ 1.904–5(c)(4) and paragraph (d)(2) ofthis section. The separately computeddeemed paid taxes shall be added toother taxes paid by the U.S. shareholderor upper-tier corporation with respect toincome in the appropriate separate cat-egory.(2) Look-through—(i) Dividends. Ex-

cept as otherwise provided in paragraph(d)(3) of this section, any dividend dis-tribution out of post-1986 undistributedearnings of a look-through entity to arelated look-through entity shall bedeemed to be paid pro rata out of eachseparate category of income. See§§ 1.904–5(c)(4) and 1.904–7. The por-tion of the foreign income taxes attribut-able to a particular separate categorythat shall be deemed paid by the domes-tic shareholder or upper-tier corporationmust be computed under the followingformula:

Foreign taxesdeemed paidby domesticshareholderor upper-tiercorporationwith respectto a separatecategory un-der section904(d)

=

Post-1986foreign in-come taxesof first-tieror lower-tiercorporationallocatedand appor-tioned to aseparatecategoryunder§ 1.904–6

x

Dividendamount at-tributable toa separatecategoryPost-1986undistributedearnings offirst-tier orlower-tiercorporationattributableto the sepa-rate category

(ii) Coordination with section 960.For rules coordinating the computationof foreign taxes deemed paid with re-spect to amounts included in gross in-come under section 951(a) and divi-dends distributed by a controlled foreigncorporation, see section 960 and theregulations under that section.(3) Dividends distributed out of earn-

ings accumulated before a controlledforeign corporation became a controlledforeign corporation—(i) General rule.Any dividend distributed by a controlledforeign corporation out of earnings ac-cumulated before the controlled foreigncorporation became a controlled foreigncorporation shall be treated as a divi-dend from a noncontrolled section 902corporation regardless of whether theearnings were accumulated in a taxableyear beginning before January 1, 1987,or after December 31, 1986.(ii) Dividend distributions out of

earnings and profits for a year duringwhich a shareholder that is currently amore-than-90-percent United Statesshareholder of a controlled foreign cor-

poration was not a United States share-holder of the controlled foreign corpora-tion. [Reserved].(e) Information to be furnished. If the

credit for foreign income taxes claimedunder section 901 includes foreign in-come taxes deemed paid under section902 and paragraph (b) of this section,the domestic shareholder must furnishthe same information with respect to theforeign income taxes deemed paid as itis required to furnish with respect to theforeign income taxes it directly paid oraccrued and for which the credit isclaimed. See § 1.905–2. For other infor-mation required to be furnished by thedomestic shareholder for the annual ac-counting period of certain foreign corpo-rations ending with or within the share-holder’s taxable year, and for reductionin the amount of foreign income taxespaid, accrued, or deemed paid for failureto furnish the required information, seesection 6038 and the regulations underthat section.(f) Examples. The following ex-

amples illustrate the application of thissection:Example 1. Since 1987, domestic corporation M

has owned 10 percent of the one class of stock offoreign corporation A. The remaining 90 percentof Corporation A’s stock is owned by Z, a foreigncorporation. Corporation A is not a controlledforeign corporation. Corporation A uses the u asits functional currency, and 1u equals $1 at allrelevant times. Both Corporation A and Corpora-tion M use the calendar year as the taxable year.In 1992, Corporation A pays a 30u dividend out ofpost-1986 undistributed earnings, 3u to Corpora-tion M and 27u to Corporation Z. Corporation Mis deemed, under paragraph (b) of this section, tohave paid a portion of the post-1986 foreignincome taxes paid by Corporation A and includesthe amount of foreign taxes deemed paid in grossincome under section 78 as a dividend. Both theforeign taxes deemed paid and the dividend wouldbe subject to a separate limitation for dividendsfrom Corporation A, a noncontrolled section 902corporation. Under paragraph (a)(9)(i) of thissection, Corporation A must reduce its post-1986undistributed earnings as of January 1, 1993, bythe total amount of dividends paid to CorporationM and Corporation Z in 1992. Under paragraph(a)(8)(i) of this section, Corporation A must reduceits post-1986 foreign income taxes as of January1, 1993, by the amount of foreign income taxesthat were deemed paid by Corporation M and bythe amount of foreign income taxes that wouldhave been deemed paid by Corporation Z hadCorporation Z been eligible to compute an amountof foreign income taxes deemed paid with respectto the dividend received from Corporation A.Foreign income taxes deemed paid by CorporationM and Corporation A’s opening balances in post-1986 undistributed earnings and post-1986 foreignincome taxes for 1993 are computed as follows:

1. Assumed post-1986 undistributedearnings of Corporation A atstart of 1992 . . . . . . . . . . . . . . . 25u

2. Assumed post-1986 foreign in-come taxes of Corporation Aat start of 1992 . . . . . . . . . . . . .

$25

3. Assumed pre-tax earnings andprofits of Corporation A for1992. . . . . . . . . . . . . . . . . . . . . .

50u

4. Assumed foreign income taxespaid or accrued by Corpora-tion A in 1992 . . . . . . . . . . . . .

15u

5. Post-1986 undistributed earningsin Corporation A for 1992(pre-dividend) (Line 1 plusLine 3 minus Line 4). . . . . . . .

60u

6. Post-1986 foreign income taxesin Corporation A for 1992(pre-dividend) (Line 2 plusLine 4 translated at the appro-priate exchange rates) . . . . . . .

$40

7. Dividends paid out of post-1986undistributed earnings of Cor-poration A to Corporation Min 1992 . . . . . . . . . . . . . . . . . . .

3u

8. Percentage of Corporation A’spost-1986 undistributed earn-ings paid to Corporation M(Line 7 divided by Line 5) . . .

5%

9. Foreign income taxes of Corpo-ration A deemed paid by Cor-poration M under section 902(a) (Line 6 multiplied by Line8) . . . . . . . . . . . . . . . . . . . . . . . .

$2

10. Total dividends paid out of post-1986 undistributed earnings ofCorporation A to all share-holders in 1992. . . . . . . . . . . . .

30u

11. Percentage of Corporation A’spost-1986 undistributed earn-ings paid to all shareholders in1992 (Line 10 divided by Line5) . . . . . . . . . . . . . . . . . . . . . . . .

50%

12. Post-1986 foreign income taxespaid with respect to post-1986undistributed earnings distrib-uted to all shareholders in1992 (Line 6 multiplied byLine 11). . . . . . . . . . . . . . . . . . .

$20

13. Corporation A’s post-1986 undis-tributed earnings at the start of1993 (Line 5 minus Line 10) .

30u

14. Corporation A’s post-1986 for-eign income taxes at the startof 1993 (Line 6 minus Line12) . . . . . . . . . . . . . . . . . . . . . . .

$20

Example 2. (i) The facts are the same as inExample 1, except that Corporation M has alsoowned 10 percent of the one class of stock offoreign corporation B since 1987. Corporation Buses the calendar year as the taxable year. Theremaining 90 percent of Corporation B’s stock isowned by Corporation Z. Corporation B is not acontrolled foreign corporation. Corporation B usesthe u as its functional currency, and 1u equals $1at all relevant times. In 1992, Corporation B hasearnings and profits and pays foreign incometaxes, a portion of which are attributable to highwithholding tax interest, as defined in section904(d)(2)(B)(i). Corporation B must reduce itspool of post-1986 foreign income taxes by theamount of tax imposed on high withholding taxinterest in excess of 5 percent because that amountis not treated as a tax for purposes of section 902.See section 904(d)(2)(E)(ii) and paragraph(a)(8)(iii) of this section. Corporation B pays 50uin dividends in 1992, 5u to Corporation M and45u to Corporation Z. Corporation M must com-pute its section 902(a) deemed paid taxes sepa-rately for the dividends it receives in 1992 from

24

Corporation A (as computed inExample 1) andfrom Corporation B. Foreign income taxes ofCorporation B deemed paid by Corporation M,and Corporation B’s opening balances in post-1986 undistributed earnings and post-1986 foreignincome taxes for 1993 are computed as follows:

1. Assumed post-1986 undistributedearnings of Corporation B atstart of 1992 . . . . . . . . . . . . . . . (100u)

2. Assumed post-1986 foreign in-come taxes of Corporation Bat start of 1992 . . . . . . . . . . . . . $0

3. Assumed pre-tax earnings andprofits of Corporation B for1992 (including 50u of highwithholding tax interest onwhich 5u of tax is withheld) . . 302.50u

4. Assumed foreign income taxespaid or accrued by Corpora-tion B in 1992 . . . . . . . . . . . . . 102.50u

5. Post-1986 undistributed earningsin Corporation B for 1992(pre-dividend) (Line 1 plusLine 3 minus Line 4). . . . . . . . 100u

6. Amount of foreign income tax ofCorporation B imposed onhigh withholding tax interestin excess of 5% (5u withhold-ing tax - [5% x 50u highwithholding tax interest]) . . . . . 2.50u

7. Post-1986 foreign income taxesin Corporation B for 1992(pre-dividend) (Line 2 plus[Line 4 minus Line 6 trans-lated at the appropriate ex-change rate]) . . . . . . . . . . . . . . . $100

8. Dividends paid out of post-1986undistributed earnings to Cor-poration M in 1992 . . . . . . . . . 5u

9. Percentage of Corporation B’spost-1986 undistributed earn-ings paid to Corporation M(Line 8 divided by Line 5) . . . 5%

10. Foreign income taxes of Corpo-ration B deemed paid by Cor-poration M under section902(a) (Line 7 multiplied byLine 9) . . . . . . . . . . . . . . . . . . . $5

11. Total dividends paid out of post-1986 undistributed earnings ofCorporation B to all share-holders in 1992. . . . . . . . . . . . . 50u

12. Percentage of Corporation B’spost-1986 undistributed earn-ings paid to all shareholders in1992 (Line 11 divided by Line5) . . . . . . . . . . . . . . . . . . . . . . . . 50%

13. Post-1986 foreign income taxesof Corporation B paid on orwith respect to post-1986 un-distributed earnings distributedto all shareholders in 1992(Line 7 multiplied by Line 12). . . . . . . . . . . . . . . . . . . . . . . . . . $50

14. Corporation B’s post-1986 undis-tributed earnings at start of1993 (Line 5 minus Line 11) . 50u

15. Corporation B’s post-1986 for-eign income taxes at start of1993 (Line 7 minus Line 13) . $50

(ii) For 1992, as computed in Example 1,Corporation M is deemed to have paid $2 of thepost-1986 foreign income taxes paid by Corpora-tion A and includes $2 in gross income as adividend under section 78. Both the income inclu-sion and the credit are subject to a separate

limitation for dividends from Corporation A, anoncontrolled section 902 corporation. CorporationM also is deemed to have paid $5 of thepost-1986 foreign income taxes paid by Corpora-tion B and includes $5 in gross income as adeemed dividend under section 78. Both theincome inclusion and the foreign taxes deemedpaid are subject to a separate limitation fordividends from Corporation B, a noncontrolledsection 902 corporation.Example 3. (i) Since 1987, domestic corporation

M has owned 50 percent of the one class of stockof foreign corporation A. The remaining 50 per-cent of Corporation A is owned by foreign corpo-ration Z. For the same time period, Corporation Ahas owned 40 percent of the one class of stock offoreign corporation B, and Corporation B hasowned 30 percent of the one class of stock offoreign corporation C. The remaining 60 percentof Corporation B is owned by foreign corporationY, and the remaining 70 percent of Corporation Cis owned by foreign corporation X. CorporationsA, B, and C are not controlled foreign corpora-tions. Corporations A, B, and C use the u as theirfunctional currency, and 1u equals $1 at allrelevant times. Corporation B uses a fiscal yearending June 30 as its taxable year; all othercorporations use the calendar year as the taxableyear. On February 1, 1992, Corporation C pays a500u dividend out of post-1986 undistributedearnings, 150u to Corporation B and 350u toCorporation X. On February 15, 1992, CorporationB pays a 300u dividend out of post-1986 undis-tributed earnings computed as of the close ofCorporation B’s fiscal year ended June 30, 1992,120u to Corporation A and 180u to Corporation Y.On August 15, 1992, Corporation A pays a 200udividend out of post-1986 undistributed earnings,100u to Corporation M and 100u to CorporationZ. In computing foreign taxes deemed paid byCorporations B and A, section 78 does not applyand Corporations B and A thus do not have toinclude the foreign taxes deemed paid in earningsand profits. See paragraph (c)(2)(ii) of this section.Foreign income taxes deemed paid by Corpora-tions B, A and M, and the foreign corporations’opening balances in post-1986 undistributed earn-ings and post-1986 foreign income taxes forCorporation B’s fiscal year beginning July 1,1992, and Corporation C’s and Corporation A’s1993 calendar years are computed as follows:A. Corporation C (third-tier corporation):

1. Assumed post-1986 undistributedearnings in Corporation C atstart of 1992 . . . . . . . . . . . . . . . 1300u

2. Assumed post-1986 foreign in-come taxes in Corporation Cat start of 1992 . . . . . . . . . . . . . $500

3. Assumed pre-tax earnings andprofits of Corporation C for1992. . . . . . . . . . . . . . . . . . . . . . 500u

4. Assumed foreign income taxespaid or accrued in 1992. . . . . . 300u

5. Post-1986 undistributed earningsin Corporation C for 1992(pre-dividend) (Line 1 plusLine 3 minus Line 4). . . . . . . . 1500u

6. Post-1986 foreign income taxesin Corporation C for 1992(pre-dividend) (Line 2 plusLine 4 translated at the appro-priate exchange rates) . . . . . . . $800

7. Dividends paid out of post-1986undistributed earnings of Cor-poration C to Corporation Bin 1992 . . . . . . . . . . . . . . . . . . . 150u

8. Percentage of Corporation C’spost-1986 undistributed earn-ings paid to Corporation B(Line 7 divided by Line 5) . . . 10%

9. Foreign income taxes of Corpo-ration C deemed paid by Cor-poration B under section902(b)(2) (Line 6 multipliedby Line 8). . . . . . . . . . . . . . . . . $80

10. Total dividends paid out of post-1986 undistributed earnings ofCorporation C to all share-holders in 1992. . . . . . . . . . . . . 500u

11. Percentage of Corporation C’spost-1986 undistributed earn-ings paid to all shareholders in1992 (Line 10 divided by Line5) . . . . . . . . . . . . . . . . . . . . . . . 33.33%

12. Post-1986 foreign income taxespaid with respect to post-1986undistributed earnings distrib-uted to all shareholders in1992 (Line 6 multiplied byLine 11). . . . . . . . . . . . . . . . . . . $266.66

13. Post-1986 undistributed earningsin Corporation C at start of1993 (Line 5 minus Line 10) 1000u

14. Post-1986 foreign income taxesin Corporation C at start of1993 (Line 6 minus Line 12) . $533.34

B. Corporation B (second-tier corporation):

1. Assumed post-1986 undistributedearnings in Corporation B asof July 1, 1991 . . . . . . . . . . . . . 0

2. Assumed post-1986 foreign in-come taxes in Corporation Bas of July 1, 1991 . . . . . . . . . . 0

3. Assumed pre-tax earnings andprofits of Corporation B forfiscal year ended June 30,1992, (including 150u divi-dend from Corporation B) . . . . 1000u

4. Assumed foreign income taxespaid or accrued by Corpora-tion B in fiscal year endedJune 30, 1992 . . . . . . . . . . . . . . 200u

5. Foreign income taxes of Corpo-ration C deemed paid by Cor-poration B in its fiscal yearended June 30, 1992 (Part A,Line 9 of paragraph (i) of thisExample 3) . . . . . . . . . . . . . . . . $80

6. Post-1986 undistributed earningsin Corporation B for fiscalyear ended June 30, 1992(pre-dividend) (Line 1 plusLine 3 minus Line 4). . . . . . . . 800u

7. Post-1986 foreign income taxesin Corporation B for fiscalyear ended June 30, 1992(pre-dividend) (Line 2 plusLine 4 translated at the appro-priate exchange rates plusLine 5) . . . . . . . . . . . . . . . . . . . $280

8. Dividends paid out of post-1986undistributed earnings of Cor-poration B to Corporation Aon February 15, 1992. . . . . . . . 120u

9. Percentage of Corporation B’spost-1986 undistributed earn-ings for fiscal year ended June30, 1992, paid to CorporationA (Line 8 divided by Line 6) . 15%

25

10. Foreign income taxes paid anddeemed paid by Corporation Bas of June 30, 1992, deemedpaid by Corporation A undersection 902(b)(1) (Line 7 mul-tiplied by Line 9) . . . . . . . . . . . $42

11. Total dividends paid out of post-1986 undistributed earnings ofCorporation B for fiscal yearended June 30, 1992 . . . . . . . . 300u

12. Percentage of Corporation B’spost-1986 undistributed earn-ings for fiscal year ended June30, 1992, paid to all share-holders (Line 11 divided byLine 6) . . . . . . . . . . . . . . . . . . . 37.5%

13. Post-1986 foreign income taxespaid and deemed paid withrespect to post-1986 undistrib-uted earnings distributed to allshareholders during Corpora-tion B’s fiscal year ended June30, 1992 (Line 7 multiplied byLine 12) . . . . . . . . . . . . . . . . . . $105

14. Post-1986 undistributed earningsin Corporation B as of July 1,1992 (Line 6 minus Line 11) . 500u

15. Post-1986 foreign income taxesin Corporation B as of July 1,1992 (Line 7 minus Line 13) . $175

C. Corporation A (first-tier corporation):

1. Assumed post-1986 undistributedearnings in Corporation A atstart of 1992 . . . . . . . . . . . . . . . 250u

2. Assumed post-1986 foreign in-come taxes in Corporation Aat start of 1992 . . . . . . . . . . . . $100

3. Assumed pre-tax earnings andprofits of Corporation A for1992 (including 120u dividendfrom Corporation B) . . . . . . . . 250u

4. Assumed foreign income taxespaid or accrued by Corpora-tion A in 1992 . . . . . . . . . . . . . 100u

5. Foreign income taxes paid ordeemed paid by Corporation Bas of June 30, 1992, that aredeemed paid by Corporation Ain 1992 (Part B, Line 10 ofparagraph (i) of this Example3) . . . . . . . . . . . . . . . . . . . . . . . . $42

6. Post-1986 undistributed earningsin Corporation A for 1992(pre-dividend) (Line 1 plusLine 3 minus Line 4) . . . . . . . 400u

7. Post-1986 foreign income taxesin Corporation A for 1992(pre-dividend) (Line 2 plusLine 4 translated at the appro-priate exchange rates plusLine 5) . . . . . . . . . . . . . . . . . . . $242

8. Dividends paid out of post-1986undistributed earnings of Cor-poration A to Corporation Mon August 15, 1992 . . . . . . . . 100u

9. Percentage of Corporation A’spost-1986 undistributed earn-ings paid to Corporation M in1992 (Line 8 divided by Line6) . . . . . . . . . . . . . . . . . . . . . . . . 25%

10. Foreign income taxes paid anddeemed paid by Corporation Ain 1992 that are deemed paidby Corporation M under sec-tion 902(a) (Line 7 multipliedby Line 9). . . . . . . . . . . . . . . . . $60.50

11. Total dividends paid out of post-1986 undistributed earnings ofCorporation A to all share-holders in 1992. . . . . . . . . . . . . 200u

12. Percentage of Corporation A’spost-1986 undistributed earn-ings paid to all shareholders in1992 (Line 11 divided by Line6) . . . . . . . . . . . . . . . . . . . . . . . . 50%

13. Post-1986 foreign income taxespaid and deemed paid by Cor-poration A with respect topost-1986 undistributed earn-ings distributed to all share-holders in 1992 (Line 7 multi-plied by Line 12) . . . . . . . . . . $121

14. Post-1986 undistributed earningsin Corporation A at start of1993 (Line 6 minus Line 11) . 200u

15. Post-1986 foreign income taxesin Corporation A at start of1993 (Line 7 minus Line 13) . $121

(ii) Corporation M is deemed, under section902(a) and paragraph (b) of this section, to havepaid $60.50 of post-1986 foreign income taxespaid, or deemed paid, by Corporation A on or withrespect to its post-1986 undistributed earnings(Part C, Line 10) and Corporation M includes thatamount in gross income as a dividend undersection 78. Both the income inclusion and thecredit are subject to a separate limitation fordividends from Corporation A, a noncontrolledsection 902 corporation.Example 4.(i) Since 1987, domestic corpora-

tion M has owned 100 percent of the voting stockof controlled foreign corporation A, and Corpora-tion A has owned 100 percent of the voting stockof controlled foreign corporation B. CorporationsM, A and B use the calendar year as the taxableyear. Corporations A and B are organized in thesame foreign country and use the u as theirfunctional currency. 1u equals $1 at all relevanttimes. Assume that all of the earnings of Corpora-tions A and B are general limitation earnings andprofits within the meaning of section 904(d)(2)(I),and that neither Corporation A nor Corporation Bhas any previously taxed income accounts. In1992, Corporation B pays a dividend of 150u toCorporation A out of post-1986 undistributed earn-ings, and Corporation A computes an amount offoreign taxes deemed paid under section 902(b)(1).The dividend is not subpart F income to Corpora-tion A because section 954(c)(3)(B)(i) (the samecountry dividend exception) applies. Pursuant toparagraph (c)(2)(ii) of this section, Corporation Ais not required to include the deemed paid taxes inearnings and profits. Corporation A has no pre-1987 accumulated profits and a deficit in post-1986 undistributed earnings for 1992. In 1992,Corporation A pays a dividend of 100u to Corpo-ration M out of its earnings and profits for 1992(current earnings and profits). Under paragraph(b)(4) of this section, Corporation M is notdeemed to have paid any of the foreign incometaxes paid or deemed paid by Corporation Abecause Corporation A has a deficit in post-1986undistributed earnings as of December 31, 1992,and the sum of its current plus accumulated profitsis less than zero. Note that if instead of paying adividend to Corporation A in 1992, Corporation Bhad made an additional investment of $150 inUnited States property under section 956, thatamount would have been included in gross incomeby Corporation M under section 951(a)(1)(B) andCorporation M would have been deemed to havepaid $50 of foreign income taxes paid by Corpora-tion B. See sections 951(a)(1)(B) and 960. Foreign

income taxes of Corporation B deemed paid byCorporation A and the opening balances in post-1986 undistributed earnings and post-1986 foreignincome taxes for Corporation A and Corporation Bfor 1993 are computed as follows:

A. Corporation B (second-tier corporation):

1. Assumed post-1986 undistributedearnings in Corporation B atstart of 1992 200u

2. Assumed post-1986 foreign in-come taxes in Corporation Bat start of 1992 . . . . . . . . . . . . . $50

3. Assumed pre-tax earnings andprofits of Corporation B for1992 . . . . . . . . . . . . . . . . . . . . . 150u

4. Assumed foreign income taxespaid or accrued in 1992. . . . . . 50u

5. Post-1986 undistributed earningsin Corporation B for 1992(pre-dividend) (Line 1 plusLine 3 minus Line 4) . . . . . . . 300u

6. Post-1986 foreign income taxesin Corporation B for 1992(pre-dividend) (Line 2 plusLine 4 translated at the appro-priate exchange rates) . . . . . . . $100

7. Dividends paid out of post-1986undistributed earnings of Cor-poration B to Corporation A in1992 . . . . . . . . . . . . . . . . . . . . . 150u

8. Percentage of Corporation B’spost-1986 undistributed earn-ings paid to Corporation A(Line 7 divided by Line 5) . . 50%

9. Foreign income taxes of Corpo-ration B deemed paid by Cor-poration A under section902(b)(1) (Line 6 multipliedby Line 8) . . . . . . . . . . . . . . . . $50

10. Post-1986 undistributed earningsin Corporation B at start of1993 (Line 5 minus Line 7) . . 150u

11. Post-1986 foreign income taxesin Corporation B at start of1993 (Line 6 minus Line 9) . . $50

B. Corporation A (first-tier corporation):

1. Assumed post-1986 undistributedearnings in Corporation A atstart of 1992 . . . . . . . . . . . . . . . (200u)

2. Assumed post-1986 foreign in-come taxes in Corporation Aat start of 1992 . . . . . . . . . . . . 0

3. Assumed pre-tax earnings andprofits of Corporation A for1992 (including 150u dividendfrom Corporation B) . . . . . . . . 200u

4. Assumed foreign income taxespaid or accrued by Corpora-tion A in 1992 . . . . . . . . . . . . . 40u

5. Foreign income taxes paid byCorporation B in 1992 that aredeemed paid by Corporation A(Part A, Line 9 of paragraph(i) of this Example 4) . . . . . . . $50

6. Post-1986 undistributed earningsin Corporation A for 1992(pre-dividend) (Line 1 plusLine 3 minus Line 4) . . . . . . . (40u)

7. Post-1986 foreign income taxesin Corporation A for 1992(pre-dividend) (Line 2 plusLine 4 translated at the appro-priate exchange rates plusLine 5) . . . . . . . . . . . . . . . . . . . $90

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8. Dividends paid out of currentearnings and profits of Corpo-ration A for 1992 . . . . . . . . . . 100u

9. Percentage of post-1986 undis-tributed earnings of Corpora-tion A paid to Corporation Min 1992 (Line 8 divided by thegreater of Line 6 or zero) . . . 0

10. Foreign income taxes paid anddeemed paid by Corporation Ain 1992 that are deemed paidby Corporation M under sec-tion 902(a) (Line 7 multipliedby Line 9). . . . . . . . . . . . . . . . . 0

11. Post-1986 undistributed earningsin Corporation A at start of1993 (line 6 minus line 8) . . . (140u)

12. Post-1986 foreign income taxesin Corporation A at start of1993 (Line 7 minus Line 10) . $90

(ii) For 1993, Corporation A has 500u of earn-ings and profits on which it pays 160u of foreignincome taxes. Corporation A receives no dividendsfrom Corporation B, and pays a 100u dividend toCorporation M. The 100u dividend to CorporationM carries with it some of the foreign income taxespaid and deemed paid by Corporation A in 1992,which were not deemed paid by Corporation M in1992 because Corporation A had no post-1986undistributed earnings. Thus, for 1993, Corpora-tion M is deemed to have paid $125 of post-1986foreign income taxes paid and deemed paid byCorporation A and includes that amount in grossincome as a dividend under section 78, determinedas follows:

1. Post-1986 undistributed earningsin Corporation A at start of1993. . . . . . . . . . . . . . . . . . . . . . (140u)

2. Post-1986 foreign income taxesin Corporation A at start of1993 . . . . . . . . . . . . . . . . . . . . . $90

3. Pre-tax earnings and profits ofCorporation A for 1993 . . . . . . 500u

4. Foreign income taxes paid oraccrued by Corporation A in1993. . . . . . . . . . . . . . . . . . . . . . 160u

5. Post-1986 undistributed earningsin Corporation A for 1993(pre-dividend) (Line 1 plusLine 3 minus Line 4) . . . . . . . 200u

6. Post-1986 foreign income taxesin Corporation A for 1993(pre-dividend) (Line 2 plusLine 4 translated at the appro-priate exchange rates) . . . . . . . $250

7. Dividends paid out of post-1986undistributed earnings of Cor-poration A to Corporation Min 1993 . . . . . . . . . . . . . . . . . . 100u

8. Percentage of post-1986 undis-tributed earnings of Corpora-tion A paid to Corporation Min 1993 (Line 7 divided byLine 5) . . . . . . . . . . . . . . . . . . . 50%

9. Foreign income taxes paid anddeemed paid by Corporation Athat are deemed paid by Cor-poration M in 1993 (Line 6multiplied by Line 8) . . . . . . . $125

10. Post-1986 undistributed earningsin Corporation A at start of1994 (Line 5 minus Line 7) . . 100u

11. Post-1986 foreign income taxesin Corporation A at start of1994 (Line 6 minus Line 9) . . $125

Example 5. (i) Since 1987, domestic corpora-tion M has owned 100 percent of the voting stockof controlled foreign corporation A. CorporationM also conducts operations through a foreignbranch. Both Corporation A and Corporation Muse the calendar year as the taxable year. Corpora-tion A uses the u as its functional currency and 1uequals $1 at all relevant times. Corporation A hasno subpart F income, as defined in section 952,and no increase in earnings invested in UnitedStates property under section 956 for 1992. Corpo-ration A also has no previously taxed incomeaccounts. Corporation A has general limitationincome and high withholding tax interest incomethat, by operation of section 954(b)(4), does notconstitute foreign base company income undersection 954(a). Because Corporation A is a con-trolled foreign corporation, it is not required toreduce post-1986 foreign income taxes by foreigntaxes paid or accrued with respect to high with-holding tax interest in excess of 5 percent. See§ 1.902–1(a)(8)(iii). Corporation A pays a 60udividend to Corporation M in 1992. For 1992,Corporation M is deemed, under paragraph (b) ofthis section, to have paid $24 of the post-1986foreign income taxes paid by Corporation A andincludes that amount in gross income under sec-tion 78 as a dividend, determined as follows:

1. Assumed post-1986 undistributedearnings in Corporation A atstart of 1992 attributable to:(a) Section 904(d)(1)(B) high

withholding tax interest . . . . 20u(b) Section 904(d)(1)(I) general

limitation income . . . . . . . . . . 55u2. Assumed post-1986 foreign in-

come taxes in Corporation A atstart of 1992 attributable to:(a) Section 904(d)(1)(B) high

withholding tax interest . . . . . $5(b) Section 904(d)(1)(I) general

limitation income . . . . . . . . . . $203. Assumed pre-tax earnings and

profits of Corporation A for1992 attributable to:(a) Section 904(d)(1)(B) high

withholding tax interest . . . . . 20u(b) Section 904(d)(1)(I) general

limitation income . . . . . . . . . 20u4. Assumed foreign income taxes

paid or accrued in 1992 on orwith respect to:(a) Section 904(d)(1)(B) high

withholding tax interest . . . . . 10u(b) Section 904(d)(1)(I) general

limitation income . . . . . . . . . 5u5. Post-1986 undistributed earnings

in Corporation A for 1992 (pre-dividend) attributable to:(a) Section 904(d)(1)(B) high

withholding tax interest (Line1(a) + Line 3(a) minus Line4(a)) . . . . . . . . . . . . . . . . . . . . 30u

(b) Section 904(d)(1)(I) generallimitation income (Line 1(b)+ Line 3(b) minus Line 4(b)). . . . . . . . . . . . . . . . . . . . . . . . 70u

(c) Total . . . . . . . . . . . . . . . . . . . 100u6. Post-1986 foreign income taxes

in Corporation A for 1992 (pre-dividend) attributable to:(a) Section 904(d)(1)(B) high

withholding tax interest (Line2(a) + Line 4(a) translated atthe appropriate exchangerates) . . . . . . . . . . . . . . . . . . . . $15

(b) Section 904(d)(1)(I) generallimitation income (Line 2(b)+ Line 4(b) translated at theappropriate exchange rates) . $25

7. Dividends paid to Corporation Min 1992 . . . . . . . . . . . . . . . . . . . . 60u

8. Dividends paid to Corporation Min 1992 attributable to section904(d) separate categories pursu-ant to § 1.904–5(d):(a) Dividends paid to Corpora-

tion M in 1992 attributableto section 904(d)(1)(B) highwithholding tax interest (Line7 multiplied by Line 5(a)divided by Line 5(c)). . . . . . . 18u

(b) Dividends paid to Corpora-tion M in 1992 attributableto section 904(d)(1)(I) gen-eral limitation income (Line7 multiplied by Line 5(b)divided by Line 5(c)) . . . . . . 42u

9. Percentage of Corporation A’spost-1986 undistributed earningsfor 1992 paid to Corporation Mattributable to:(a) Section 904(d)(1)(B) high

withholding tax interest (Line8(a) divided by Line 5(a)) . . 60%

(b) Section 904(d)(1)(I) generallimitation income (Line 8(b)divided by Line 5(b)) . . . . . . 60%

10. Foreign income taxes of Corpo-ration A deemed paid by Corpo-ration M under section 902(a)attributable to:(a) Foreign income taxes of Cor-

poration A deemed paid byCorporation M under section902(a) with respect to sec-tion 904(d)(1)(B) high with-holding tax interest (Line6(a) multiplied by Line 9(a)) $9

(b) Foreign income taxes ofCorporation A deemed paidby Corporation M under sec-tion 902(a) with respect tosection 904(d)(1)(I) generallimitation income (Line 6(b)multiplied by Line 9(b)) . . . $15

11. Post-1986 undistributed earningsin Corporation A at start of 1993attributable to:(a) Section 904(d)(1)(B) high

withholding tax interest (Line5(a) minus Line 8(a)) . . . . . . 12u

(b) Section 904(d)(1)(I) generallimitation income (Line 5(b)minus Line 8(b)) . . . . . . . . . . 28u

12. Post-1986 foreign income taxesin Corporation A at start of 1989allocable to:(a) Section 904(d)(1)(B) high

withholding tax interest (Line6(a) minus Line 10(a)) . . . . . $6

(b) Section 904(d)(1)(I) generallimitation income (Line 6(b)minus Line 10(b)) . . . . . . . . . $10

(ii) For purposes of computing Corporation M’sforeign tax credit limitation, the post-1986 foreignincome taxes of Corporation A deemed paid byCorporation M with respect to income in separatecategories will be added to the foreign incometaxes paid or accrued by Corporation M associatedwith income derived from Corporation M’s branchoperation in the same separate categories. Thedividend (and the section 78 inclusion with respect

27

to the dividend) will be treated as income inseparate categories and added to Corporation M’sother income, if any, attributable to the sameseparate categories. See section 904(d) and§ 1.904–6.

(g) Effective date. This section ap-plies to any distribution made in andafter a foreign corporation’s first taxableyear beginning on or after January 1,1987.

§ 1.902–2 Treatment of deficits in post-1986 undistributed earnings and pre-1987 accumulated profits of a first-,second-, or third-tier corporation forpurposes of computing an amount offoreign taxes deemed paid under§ 1.902–1.

(a) Carryback of deficits in post-1986undistributed earnings of a first-,second-, or third-tier corporation to pre-effective date taxable years—(1) Rule.For purposes of computing foreign in-come taxes deemed paid under § 1.902–1(b) with respect to dividends paid by afirst-, second-, or third-tier corporation,

when there is a deficit in the post-1986undistributed earnings of that corpora-tion and the corporation makes a distri-bution to shareholders that is a dividendor would be a dividend if there werecurrent or accumulated earnings andprofits, then the post-1986 deficit shallbe carried back to the most recentpre-effective date taxable year of thefirst-, second-, or third-tier corporationwith positive accumulated profits com-puted under section 902. See § 1.902–3(e). For purposes of this § 1.902–2, apre-effective date taxable year is a tax-able year beginning before January 1,1987, or a taxable year beginning afterDecember 31, 1986, if the special effec-tive date of § 1.902–1(a)(13) applies.The deficit shall reduce the section 902accumulated profits in the most recentpre-effective date year to the extentthereof, and any remaining deficit shallbe carried back to the next precedingyear or years until the deficit is com-pletely allocated. The amount carriedback shall reduce the deficit in post-

1986 undistributed earnings. Any foreignincome taxes paid in a post-effectivedate year will not be carried back topre-effective date taxable years or re-moved from post-1986 foreign incometaxes. See section 960 and the regula-tions under that section for rules govern-ing the carryback of deficits and thecomputation of foreign income taxesdeemed paid with respect to deemedincome inclusions from controlled for-eign corporations.(2) Examples. The following ex-

amples illustrate the rules of this para-graph (a):Example 1. (i) From 1985 through 1990, do-

mestic corporation M owns 10 percent of the oneclass of stock of foreign corporation A. Theremaining 90 percent of Corporation A’s stock isowned by Z, a foreign corporation. Corporation Ais not a controlled foreign corporation and uses theu as its functional currency. 1u equals $1 at allrelevant times. Both Corporation A and Corpora-tion M use the calendar year as the taxable year.Corporation A has pre-1987 accumulated profitsand post-1986 undistributed earnings or deficits inpost-1986 undistributed earnings, pays pre-1987and post-1986 foreign income taxes, and paysdividends as summarized below:

Taxable Year 1985 1986 1987 1988 1989 1990

Current E & P (Deficits) of Corp. A 150u 150u (100u) 100u -0- -0-

Current Plus Accumulated E & P of Corp. A 150u 300u 200u 250u 250u 200u

Post-’86 Undistributed Earnings of Corp. A (100u) 100u 100u 50u

Post-’86 Undistributed Earnings of Corp. A Re-duced By Current Year Dividend Distributions (in-creased by deficit carryback) -0- 100u 50u 50u

Foreign Income Taxes of Corp. A (Annual) 120u 120u $10 $50 -0- -0-

Post-’86 Foreign Income Taxes of Corp. A $10 $60 $60 $30

12/31 Distributions to Corp. M -0- -0- 5u -0- 5u -0-

12/31 Distributions to Corp. Z -0- -0- 45u -0- 45u -0-

(ii) On December 31, 1987, Corporation Adistributes a 5u dividend to Corporation M and a45u dividend to Corporation Z. At that timeCorporation A has a deficit of (100u) in post-1986undistributed earnings and $10 of post-1986 for-eign income taxes. The (100u) deficit (but not thepost-1986 foreign income taxes) is carried back tooffset the accumulated profits of 1986 and re-moved from post-1986 undistributed earnings. Theaccumulated profits for 1986 are reduced to 50u(150u - 100u). The dividend is paid out of thereduced 1986 accumulated profits. Foreign taxesdeemed paid by Corporation M with respect to the5u dividend are 12u (120u x (5u/50u)). See§ 1.902–1(b)(3). Corporation M must include 12uin gross income (translated under the rule appli-cable to foreign income taxes paid on earningsaccumulated in pre-effective date years) undersection 78 as a dividend. Both the income inclu-sion and the foreign taxes deemed paid are subjectto a separate limitation for dividends from Corpo-ration A, a noncontrolled section 902 corporation.No accumulated profits remain in Corporation Awith respect to 1986 after the carryback of the1987 deficit and the December 31, 1987, dividenddistributions to Corporations M and Z.

(iii) On December 31, 1989, Corporation Adistributes a 5u dividend to Corporation M and a45u dividend to Corporation Z. At that timeCorporation A has 100u of post-1986 undistributedearnings and $60 of post-1986 foreign incometaxes. Therefore, the dividend is considered paidout of Corporation A’s post-1986 undistributedearnings. Foreign taxes deemed paid by Corpora-tion M with respect to the 5u dividend are $3 ($60x 5%[5u/100u]). Corporation M must include $3in gross income under section 78 as a dividend.Both the income inclusion and the foreign taxesdeemed paid are subject to a separate limitationfor dividends from noncontrolled section 902corporation A. Corporation A’s post-1986 undis-tributed earnings as of January 1, 1990, are 50u(100u - 50u). Corporation A’s post-1986 foreignincome taxes must be reduced by the amount offoreign taxes that would have been deemed paid ifboth Corporations M and Z were eligible tocompute an amount of deemed paid taxes. Section1.902–1(a)(8)(i). The amount of foreign incometaxes that would have been deemed paid if bothCorporations M and Z were eligible to compute anamount of deemed paid taxes on the 50u dividenddistributed by Corporation A is $30 ($60 x

50%[50u/100u]). Thus, post-1986 foreign incometaxes as of January 1, 1990, are $30 ($60 - $30).Example 2. The facts are the same as in

Example 1, except that Corporation A has a deficitin its post-1986 undistributed earnings of (150u)on December 31, 1987. The deficit is carried backto 1986 and reduces accumulated profits for thatyear to -0-. Thus, the foreign income taxes paidwith respect to the 1986 accumulated profits willnever be deemed paid. The 1987 dividend isdeemed to be out of Corporation A’s 1985 accu-mulated profits. Foreign taxes deemed paid byCorporation M under section 902 with respect tothe 5u dividend paid on December 31, 1987, are4u (120u x 5u/150u). See § 1.902–1(b)(3). As aresult of the December 31, 1987, dividend distri-butions, 100u (150u - 50u) of accumulated profitsand 80u (120u reduced by 40u[120u x 50u/150u]of foreign taxes that would have been deemedpaid had all of Corporation A’s shareholders beeneligible to compute an amount of foreign taxesdeemed paid with respect to the dividend paid outof 1985 accumulated profits) remain in Corpora-tion A with respect to 1985.Example 3. (i) From 1986 through 1991, domes-

tic corporation M owns 10 percent of the one classof stock of foreign corporation A. The remaining

28

90 percent of Corporation A’s stock is owned byCorporation Z, a foreign corporation. CorporationA is not a controlled foreign corporation and usesthe u as its functional currency. 1u equals $1 at all

relevant times. Both Corporation A and Corpora-tion M use the calendar year as the taxable year.Corporation A has pre-1987 accumulated profitsand post-1986 undistributed earnings or deficits in

post-1986 undistributed earnings, pays pre-1987and post-1986 foreign income taxes, and paydividends as summarized below:

Taxable Year 1986 1987 1988 1989 1990 1991

Current E & P (Deficits) of Corp. A 100u (50u) 150u 75u 25u -0-

Current Plus Accumulated E & P of Corp. A 100u 50u 200u 175u 200u 80u

Post-’86 Undistributed Earnings of Corp. A (50u) 100u 75u 100u -0-

Post-’86 Undistributed Earnings of Corp. A Re-duced By Current Year Dividend Distributions (in-creased by deficit carryback) (50u) -0- 75u -0- -0-

Foreign Income Taxes (Annual) of Corp. A 80u -0- $120 $20 $20 -0-

Post-’86 Foreign Income Taxes of Corp. A -0- $120 $20 $40 -0-

12/31 Distributions to Corp. M -0- -0- 10u -0- 12u -0-

12/31 Distributions to Corp. Z -0- -0- 90u -0- 108u -0-

(ii) On December 31, 1988, Corporation Adistributes a 10u dividend to Corporation M and a90u dividend to Corporation Z. At that timeCorporation A has 100u in its post-1986 undistrib-uted earnings and $120 in its post-1986 foreignincome taxes. Corporation M is deemed, under§ 1.902–1(b)(1), to have paid $12 ($120 x10%[10u/100u]) of the post-1986 foreign incometaxes paid by Corporation A and includes thatamount in gross income under section 78 as adividend. Both the income inclusion and theforeign taxes deemed paid are subject to a separatelimitation for dividends from noncontrolled section902 corporation A. Corporation A’s post-1986undistributed earnings as of January 1, 1989, are-0- (100u - 100u). Its post-1986 foreign taxes asof January 1, 1989, also are -0-, $120 reduced by$120 of foreign income taxes paid that would havebeen deemed paid if both Corporations M and Zwere eligible to compute an amount of foreigntaxes deemed paid on the dividend from Corpora-tion A ($120 x 100%[100u/100u]).(iii) On December 31, 1990, Corporation A

distributes a 12u dividend to Corporation M and a108u dividend to Corporation Z. At that timeCorporation A has 100u in its post-1986 undistrib-uted earnings and $40 in its post-1986 foreignincome taxes. The dividend is paid out of post-1986 undistributed earnings to the extent thereof(100u), and the remainder of 20u is paid out of1986 accumulated profits. Under § 1.902–1(b)(2),the 12u dividend to Corporation M is deemed tobe paid out of post-1986 undistributed earnings tothe extent of 10u (100u x 12u/120u) and theremaining 2u is deemed to be paid out ofCorporation A’s 1986 accumulated profits. Simi-larly, the 108u dividend to Corporation Z isdeemed to be paid out of post-1986 undistributedearnings to the extent of 90u (100u x 108u/120u)and the remaining 18u is deemed to be paid out ofCorporation A’s 1986 accumulated profits. Foreignincome taxes deemed paid by Corporation Munder section 902 with respect to the portion ofthe dividend paid out of post-1986 undistributedearnings are $4 ($40 x 10%[10u/100u]), andforeign taxes deemed paid by Corporation M withrespect to the portion of the dividend deemed paidout of 1986 accumulated profits are 1.6u (80u x2u/100u). Corporation M must include $4 plus1.6u translated under the rule applicable to foreignincome taxes paid on earnings accumulated intaxable years prior to the effective date of the TaxReform Act of 1986 in gross income as a dividendunder section 78. The income inclusion and theforeign income taxes deemed paid are subject to a

separate limitation for dividends fromnoncontrolled section 902 Corporation A. As ofJanuary 1, 1991, Corporation A’s post-1986 undis-tributed earnings are -0- (100u - 100u). 80u (100u- 20u) of accumulated profits remain with respectto 1986. Post-1986 foreign income taxes as ofJanuary 1, 1991, are -0-, $40 reduced by $40 offoreign income taxes paid that would have beendeemed paid if both Corporations M and Z wereeligible to compute an amount of deemed paidtaxes on the 100u dividend distributed by Corpora-tion A out of post- 1986 undistributed earnings($40 x 100%[100u/100u]). Corporation A has 64uof foreign income taxes remaining with respect to1986, 80u reduced by 16u [80u x 20u/100u] offoreign income taxes that would have beendeemed paid if Corporations M and Z both wereeligible to compute an amount of deemed paidtaxes on the 20u dividend distributed by Corpora-tion A out of 1986 accumulated profits.

(b) Carryforward of deficits in pre-1987 accumulated profits of a first-,second-, or third-tier corporation topost-1986 undistributed earnings forpurposes of section 902—(1) Generalrule. For purposes of computing foreignincome taxes deemed paid under§ 1.902–1(b) with respect to dividendspaid by a first-, second-, or third-tiercorporation out of post-1986 undistrib-uted earnings, the amount of a deficit inaccumulated profits of the foreign cor-poration determined under section 902as of the end of its last pre-effectivedate taxable year is carried forward andreduces post-1986 undistributed earningson the first day of the foreign corpora-tion’s first taxable year beginning afterDecember 31, 1986, or on the first dayof the first taxable year in which theownership requirements of section902(c)(3)(B) and § 1.902–1(a)(1)through (4) are met if the special effec-tive date of § 1.902–1(a)(13) applies.Any foreign income taxes paid withrespect to a pre-effective date year shallnot be carried forward and included inpost-1986 foreign income taxes. Post-

1986 undistributed earnings may not bereduced by the amount of a pre-1987deficit in earnings and profits computedunder section 964(a). See section 960and the regulations under that sectionfor rules governing the carryforward ofdeficits and the computation of foreignincome taxes deemed paid with respectto deemed income inclusions from con-trolled foreign corporations. For transla-tion rules governing carryforwards ofdeficits in pre-1987 accumulated profitsto post-1986 taxable years of a foreigncorporation with a dollar functional cur-rency, see § 1.985–6(d)(2).(2) Effect of pre-effective date deficit.

If a foreign corporation has a deficit inaccumulated profits as of the end of itslast pre-effective date taxable year, thenthe foreign corporation cannot pay adividend out of pre-effective date yearsunless there is an adjustment made (forexample, a refund of foreign taxes paid)that restores section 902 accumulatedprofits to a pre-effective date taxableyear or years. Moreover, if a foreigncorporation has a deficit in section 902accumulated profits as of the end of itslast pre-effective date taxable year, thenno deficit in post-1986 undistributedearnings will be carried back underparagraph (a) of this section. For rulesconcerning carrybacks of eligible defi-cits from post-1986 undistributed earn-ings to reduce pre-1987 earnings andprofits computed under section 964(a),see section 960 and the regulationsunder that section.(3) Examples. The following ex-

amples illustrate the rules of this para-graph (b):Example 1. (i) From 1984 through 1988, domes-

tic corporation M owns 10 percent of the one classof stock of foreign corporation A. The remaining90 percent of Corporation A’s stock is owned byCorporation Z, a foreign corporation. Corporation

29

A is not a controlled foreign corporation and usesthe u as its functional currency. 1u equals $1 at allrelevant times. Both Corporation A and Corpora-

tion M use the calendar year as the taxable year.Corporation A has pre-1987 accumulated profits ordeficits in accumulated profits and post-1986 un-

distributed earnings, pays pre-1987 and post-1986foreign income taxes, and pays dividends assummarized below:

Taxable Year 1984 1985 1986 1987 1988

Current E & P (Deficits) of Corp. A 25u (100u) (25u) 200u 100u

Current Plus Accumulated E & P (Deficits) of Corp. A 25u (75u) (100u) 100u 50u

Post-’86 Undistributed Earnings of Corp. A 100u 50u

Post-’86 Undistributed Earnings of Corp. A Reduced ByCurrent Year Dividend Distributions (reduced by deficitcarryforward)

(50u) 50u

Foreign Income Taxes (Annual) of Corp. A 20u 5u -0- $100 $50

Post-’86 Foreign Income Taxes of Corp. A $100 $50

12/31 Distributions to Corp. M -0- -0- -0- 15u -0-

12/31 Distributions to Corp. Z -0- -0- -0- 135u -0-

(ii) On December 31, 1987, Corporation Adistributes a 150u dividend, 15u to Corporation Mand 135u to Corporation Z. Corporation A has200u of current earnings and profits for 1987, butits post-1986 undistributed earnings are only 100uas a result of the reduction for pre-1987 accumu-lated deficits required under paragraph (b)(1) ofthis section. Corporation A has $100 of post-1986foreign income taxes. Only 100u of the 150udistribution is a dividend out of post-1986 undis-tributed earnings. Foreign income taxes deemedpaid by Corporation M in 1987 with respect to the10u dividend attributable to post-1986 undistrib-uted earnings, computed under § 1.902–1(b), are$10 ($100 x 10%[10u/100u]). Corporation Mincludes this amount in gross income under sec-tion 78 as a dividend. Both the income inclusionand the foreign taxes deemed paid are subject to aseparate limitation for dividends from

noncontrolled section 902 corporation A. After thedistribution, Corporation A has (50u) of post-1986undistributed earnings (100u - 150u) and -0-post-1986 foreign income taxes, $100 reduced by$100 of foreign income taxes paid that would havebeen deemed paid if both Corporations M and Zwere eligible to compute an amount of deemedpaid taxes on the 100u dividend distributed byCorporation A out of post-1986 undistributed earn-ings ($100 x 100%[100u/100u]).

(iii) The remaining 50u of the 150u distributioncannot be deemed paid out of accumulated profitsof a pre-1987 year because Corporation A has anaccumulated deficit as of the end of 1986 thateliminated all pre-1987 accumulated profits. Seeparagraph (b)(2) of this section. The 50u is adividend out of current earnings and profits undersection 316(a)(2), but Corporation M is not

deemed to have paid any additional foreign in-come taxes paid by Corporation A with respect tothat 50u dividend out of current earnings andprofits. See § 1.902–1(b)(4).Example 2. (i) From 1986 through 1991, domes-

tic corporation M owns 10 percent of the one classof stock of foreign corporation A. The remaining90 percent of Corporation A’s stock is owned byCorporation Z, a foreign corporation. CorporationA is not a controlled foreign corporation and usesthe u as its functional currency. 1u equals $1 at allrelevant times. Both Corporation A and Corpora-tion M use the calendar year as the taxable year.Corporation A has pre-1987 accumulated profits ordeficits in accumulated profits and post-1986 un-distributed earnings, pays post-1986 foreign in-come taxes, and pays dividends as summarizedbelow:

Taxable Year 1986 1987 1988 1989 1990

Current E & P (Deficits) of Corp. A (100u) 150u (150u) 100u 250u

Current Plus Accumulated E & P (Deficits) of Corp. A (100u) 50u (200u) (100u) 50u

Post-’86 Undistributed Earnings of Corp. A 50u (200u) (100u) 50u

Post-’86 Undistributed Earnings of Corp. A Reduced ByCurrent Year Dividend Distributions (reduced by deficitcarryforward)

(50u) (200u) (200u) -0-

Foreign Income Taxes (Annual) of Corp. A -0- $120 -0- $50 $100

Post-’86 Foreign Income Taxes of Corp. A $120 -0- $50 $150

12/31 Distributions to Corp. M -0- 10u -0- 10u 5u

12/31 Distributions to Corp. Z -0- 90u -0- 90u 45u

(ii) On December 31, 1987, Corporation Adistributes a 10u dividend to Corporation M and a90u dividend to Corporation Z. At the time of thedistribution, Corporation A has 50u of post-1986undistributed earnings and 150u of current earn-ings and profits. Thus, 50u of the dividenddistribution (5u to Corporation M and 45u toCorporation Z) is a dividend out of post-1986undistributed earnings. The remaining 50u is adividend out of current earnings and profits undersection 316(a)(2), but Corporation M is notdeemed to have paid any additional foreign in-come taxes paid by Corporation A with respect tothat 50u dividend out of current earnings andprofits. See § 1.902–1(b)(4). Note that even ifthere were no current earnings and profits inCorporation A, the remaining 50u of the 100udistribution cannot be deemed paid out of accumu-

lated profits of a pre-1987 year because Corpora-tion A has an accumulated deficit as of the end of1986 that eliminated all pre-1987 accumulatedprofits. See paragraph (b)(2) of this section. Cor-poration A has $120 of post-1986 foreign incometaxes. Foreign taxes deemed paid by CorporationM under section 902 with respect to the 5udividend out of post-1986 undistributed earningsare $12 ($120 x 10%[5u/50u]). Corporation Mincludes this amount in gross income as a divi-dend under section 78. Both the foreign taxesdeemed paid and the deemed dividend are subjectto a separate limitation for dividends fromnoncontrolled section 902 corporation A. As ofJanuary 1, 1988, Corporation A has (50u) in itspost-1986 undistributed earnings (50u - 100u) and-0- in its post-1986 foreign income taxes, $120reduced by $120 of foreign taxes that would have

been deemed paid if both Corporations M and Zwere eligible to compute an amount of deemedpaid taxes on the dividend distributed by Corpora-tion A out of post-1986 undistributed earnings($120 x 100%[50u/50u]).

(iii) On December 31, 1989, Corporation Adistributes a 10u dividend to Corporation M and a90u dividend to Corporation Z. Although thedistribution is considered a dividend in its entiretyout of 1989 earnings and profits pursuant tosection 316(a)(2), post-1986 undistributed earningsare (100u). Accordingly, for purposes of section902, Corporation M is deemed to have paid nopost-1986 foreign income taxes. See § 1.902–1(b)(4). Corporation A’s post-1986 undistributedearnings as of January 1, 1990, are (200u) ((100u)- 100u). Corporation A’s post-1986 foreign income

30

taxes are not reduced because no taxes weredeemed paid.(iv) On December 31, 1990, Corporation A

distributes a 5u dividend to Corporation M and a45u dividend to Corporation Z. At that timeCorporation A has 50u of post-1986 undistributedearnings, and $150 of post-1986 foreign incometaxes. Foreign taxes deemed paid by CorporationM under section 902 with respect to the 5udividend are $15 ($150 x 10%[5u/50u]). Post-1986undistributed earnings as of January 1, 1991, are-0- (50u - 50u). Post-1986 foreign income taxes asof January 1, 1991, also are -0-, $150 reduced by$150 ($150 x 100%[50u/50u]) of foreign incometaxes that would have been deemed paid if bothCorporations M and Z were eligible to compute anamount of deemed paid taxes on the 50u dividend.

Par. 4. Newly designated § 1.902–3is amended by revising the section head-ing and paragraph (a) introductory text,and by designating the last paragraph asparagraph (l) and revising it to read asfollows:

§ 1.902–3 Credit for domestic corpo-rate shareholder of a foreign corpora-tion for foreign income taxes paid withrespect to accumulated profits of taxableyears of the foreign corporation begin-ning before January 1, 1987.

(a) Definitions. For purposes of sec-tion 902 and §§ 1.902–3 and 1.902–4:

* * * * *

(l) Effective date. Except as providedin § 1.902–4, this section applies to anydistribution received from a first-tiercorporation by its domestic shareholderafter December 31, 1964, and before thebeginning of the foreign corporation’sfirst taxable year beginning after De-cember 31, 1986. If, however, the firstday on which the ownership require-ments of section 902(c)(3)(B) and§ 1.902–1(a)(1) through (4) are metwith respect to the foreign corporation isin a taxable year of the foreign corpora-

tion beginning after December 31, 1986,then this section shall apply to alltaxable years beginning after December31, 1964, and before the year in whichthe ownership requirements are firstmet. See § 1.902–1(a)(13)(iii). For cor-responding rules applicable to distribu-tions received by the domestic share-holder prior to January 1, 1965, see§ 1.902–5 as contained in the 26 CFRpart 1 edition revised April 1, 1976.Par. 5. Newly designated § 1.902–4,

paragraph (b), in the last sentence, thelanguage ‘‘§ 1.902–1’’ is removed and‘‘§ 1.902–3’’ is added in its place.

PART 602—OMB CONTROLNUMBERS UNDER

THE PAPERWORK REDUCTION ACT

Par. 6. The authority citation for part602 continues to read as follows:Authority: 26 U.S.C. 7805.Par. 7. In § 602.101, paragraph (c) is

amended by adding entries in numericalorder to the table to read as follows:

§ 602.101 OMB Control Numbers.* * * * *

(c) * * *

CFR part or section where Current OMB

identified and described control No.

* * * * *1.902–1 . . . . . . . . . . . . . . . . . . . 1545–1458

* * * * *

Margaret Milner Richardson,Commissioner of Internal Revenue.

Approved December 12, 1996.

Donald C. Lubick,Assistant Secretary of the Treasury.

(Filed by the Office of the Federal Register onJanuary 6, 1997, 8:45 a.m., and published in theissue of the Federal Register on January 6, 1997,62 F.R. 923)

Section 1274.—Determination ofIssue Price in the Case of CertainDebt Instruments Issued forProperty(Also Sections 42, 280G, 382, 412, 467, 468, 482,483, 807, 846, 1288, 7520, 7872.)

Federal rates; adjusted federalrates; adjusted federal long-term rate,and the long-term exempt rate. Forpurposes of sections 1274, 1288, 382,and other sections of the Code, tablesset forth the rates for March 1997.

Rev. Rul. 97–10This revenue ruling provides various

prescribed rates for federal income taxpurposes for March 1997 (the currentmonth.) Table 1 contains the short-term,mid-term, and long-term applicable fed-eral rates (AFR) for the current monthfor purposes of section 1274(d) of theInternal Revenue Code. Table 2 containsthe short-term, mid-term, and long-termadjusted applicable federal rates (ad-justed AFR) for the current month forpurposes of section 1288(b). Table 3sets forth the adjusted federal long-termrate and the long-term tax-exempt ratedescribed in section 382(f). Table 4contains the appropriate percentages fordetermining the low-income housingcredit described in section 42(b)(2) forbuildings placed in service during thecurrent month. Finally, Table 5 containsthe federal rate for determining thepresent value of an annuity, an interestfor life or for a term of years, or aremainder or a reversionary interest forpurposes of section 7520.

REV. RUL. 97–10 TABLE 1

Applicable Federal Rates (AFR) for March 1997

Period for Compounding

Annual Semiannual Quarterly MonthlyShort-Term

AFR 5.83% 5.75% 5.71% 5.68%110% AFR 6.43% 6.33% 6.28% 6.25%120% AFR 7.02% 6.90% 6.84% 6.80%130% AFR 7.62% 7.48% 7.41% 7.37%

31

REV. RUL. 97–10 TABLE 1—Continued

Applicable Federal Rates (AFR) for March 1997


Annual Semiannual Quarterly MonthlyMid-Term

AFR 6.42% 6.32% 6.27% 6.24%110% AFR 7.07% 6.95% 6.89% 6.85%120% AFR 7.72% 7.58% 7.51% 7.46%130% AFR 8.39% 8.22% 8.14% 8.08%150% AFR 9.70% 9.48% 9.37% 9.30%175% AFR 11.37% 11.06% 10.91% 10.81%

Long-Term

AFR 6.86% 6.75% 6.69% 6.66%110% AFR 7.57% 7.43% 7.36% 7.32%120% AFR 8.26% 8.10% 8.02% 7.97%130% AFR 8.97% 8.78% 8.69% 8.62%


Adjusted AFR for March 1997


Annual Semiannual Quarterly Monthly

Short-termadjusted AFR 3.77% 3.74% 3.72% 3.71%

Mid-termadjusted AFR 4.62% 4.57% 4.54% 4.53%

Long-termadjusted AFR 5.50% 5.43% 5.39% 5.37%


Rates Under Section 382 for March 1997

Adjusted federal long-term rate for the current month 5.50%

Long-term tax-exempt rate for ownership changes during the current month(the highest of the adjusted federal long-term rates for the current month andthe prior two months.) 5.50%


Appropriate Percentages Under Section 42(b)(2) for March 1997

Appropriate percentage for the 70% present value low-income housing credit 8.56%

Appropriate percentage for the 30% present value low-income housing credit 3.67%


Rate Under Section 7520 for March 1997

Applicable federal rate for determining the present value of an annuity, aninterest for life or a term of years, or a remainder or reversionary interest 7.8%

32

Section 1288.—Treatment ofOriginal Issue Discount onTax-Exempt ObligationsThe adjusted applicable federal short-term, mid-


Section 1362.—Election,Revocation, Termination26 CFR 1.1362–1: Election to be an S corpora-tion.

What are the procedures for a taxpayer torequest to change its annual accounting period andelect to be an S corporation effective for thetaxable year beginning January 1, 1997? SeeNotice 97–20, page 52.

26 CFR 1.1362–6: Elections and consents.


Section 1374.—Tax Imposed onCertain Built-In Gains26 CFR 1.1374–4(d): Section 481(a) adjustments.


Section 2107.—Expatriation ToAvoid TaxWhat are the tax consequences under sections


Section 2501.—Imposition of TaxWhat are the tax consequences under sections


Section 6039F.—Notice of LargeGifts Received From ForeignPersonsWhat are the tax consequences under sections


Section 7520.—Valuation TablesThe adjusted applicable federal short-term, mid-


Section 7872.—Treatment of LoansWith Below-Market Interest RatesThe adjusted applicable federal short-term, mid-


33

Part III. Administrative, Procedural, and MiscellaneousDifferential Earnings Rate forMutual Life Insurance Companies

Notice 97–17

This notice publishes a tentative de-termination under § 809 of the InternalRevenue Code of the ‘‘differential earn-ings rate’’ for 1996 and the rate that isused to calculate the ‘‘recomputed dif-ferential earnings amount’’ for 1995.(The latter rate is referred to in thisnotice as the ‘‘recomputed differentialearnings rate’’ for 1995.) These rates areused by mutual life insurance companiesto calculate their federal income taxliability for taxable years beginning in1996.

BACKGROUND

Section 809(a) provides that, in thecase of any mutual life insurance com-pany, the amount of the deduction al-lowable under § 808 for policyholderdividends is reduced (but not belowzero) by the ‘‘differential earningsamount.’’ Any excess of the differentialearnings amount over the amount of thededuction allowable under § 808 istaken into account as a reduction in theclosing balance of reserves under sub-sections (a) and (b) of § 807. The‘‘differential earnings amount’’ for anytaxable year is the amount equal to theproduct of (a) the life insurance compa-ny’s average equity base for the taxableyear multiplied by (b) the ‘‘differentialearnings rate’’ for that taxable year. The‘‘differential earnings rate’’ for the tax-able year is the excess of (a) the‘‘imputed earnings rate’’ for the taxableyear over (b) the ‘‘average mutual earn-ings rate’’ for the second calendar yearpreceding the calendar year in which thetaxable year begins. The ‘‘imputed earn-ings rate’’ for any taxable year is theamount that bears the same ratio to 16.5percent as the ‘‘current stock earningsrate’’ for the taxable year bears to the‘‘base period stock earnings rate.’’Section 809(f) provides that, in the

case of any mutual life insurance com-pany, if the ‘‘recomputed differentialearnings amount’’ for any taxable yearexceeds the differential earnings amountfor that taxable year, the excess isincluded in life insurance gross incomefor the succeeding taxable year. If thedifferential earnings amount for any tax-

able year exceeds the recomputed differ-ential earnings amount for that taxableyear, the excess is allowed as a lifeinsurance deduction for the succeedingtaxable year. The ‘‘recomputed differen-tial earnings amount’’ for any taxableyear is an amount calculated in the samemanner as the differential earningsamount for that taxable year, except thatthe average mutual earnings rate for thecalendar year in which the taxable yearbegins is substituted for the averagemutual earnings rate for the secondcalendar year preceding the calendaryear in which the taxable year begins.The stock earnings rates and mutual

earnings rates taken into account under§ 809 generally are determined by di-viding statement gain from operationsby the average equity base. For thispurpose, the term ‘‘statement gain fromoperations’’ means ‘‘the net gain or lossfrom operations required to be set forthin the annual statement, determinedwithout regard to Federal income taxes,and ... properly adjusted for realizedcapital gains and losses....’’See§ 809(g)(1). The term ‘‘equity base’’ isdefined as an amount determined in themanner prescribed by regulations equalto surplus and capital increased by theamount of nonadmitted financial assets,the excess of statutory reserves over theamount of tax reserves, the sum ofcertain other reserves, and 50 percent ofany policyholder dividends (or othersimilar liability) payable in the follow-ing taxable year.See § 809(b)(2), (3),(4), (5) and (6). Section 1.809–10 of theIncome Tax Regulations provides thatthe equity base includes both the assetvaluation reserve and the interest main-tenance reserve for taxable years endingafter December 31, 1991.Section 1.809–9(a) of the regulations

provides that neither the differentialearnings rate under § 809(c) nor therecomputed differential earnings ratethat is used in computing the recom-puted differential earnings amount under§ 809(f)(3) may be less than zero.As described above, the differential

earnings rate for 1996 and the recom-puted differential earnings rate for 1995affect the income and deductions re-ported by mutual life insurance compa-nies on their federal income tax returnsfor the 1996 taxable year.

Data necessary to determine the tenta-tive differential earnings rate for 1996and the tentative recomputed differentialearnings rate for 1995 have been com-piled from returns filed by mutual lifeinsurance companies and certain stocklife insurance companies. The InternalRevenue Service is currently examiningthese returns. This examination will notbe completed before the March 17,1997, due date for filing 1996 calendaryear returns.

NOTICE OF TENTATIVE RATES

This notice publishes a tentative de-termination of the differential earningsrate for 1996 and of the recomputeddifferential earnings rate for 1995. Thisnotice also publishes a tentative determi-nation of the rates on which the calcula-tion of the differential earnings rate for1996 and the recomputed differentialearnings rate for 1995 are based. Thefinal determination of these rates isexpected to be published before Septem-ber 1, 1997.The tentative determination of the

differential earnings rate for 1996 andthe tentative determination of the recom-puted differential earnings rate for 1995that are published in this notice shouldbe used by mutual life insurance compa-nies to calculate the amount of taxliability for taxable years beginning in1996 (in the case of companies that filereturns before publication of the finaldetermination of these rates) or to calcu-late the amount of estimated unpaid taxliability for taxable years beginning in1996 (in the case of companies that areallowed an extension of time to filereturns). Companies that file returns be-fore publication of the final determina-tion of these rates should file amendedreturns after the final determination ofthese rates is published. If there is afailure to pay tax for a taxable yearbeginning in 1996 and the failure isattributable to a difference between (a)the tentative determination of the differ-ential earnings rate for 1996 and recom-puted differential earnings rate for 1995and (b) the final determination of theserates, then any such failure throughSeptember 15, 1997, will be treated asdue to reasonable cause and will notgive rise to any addition to tax under§ 6651.

34

The tentative determination of the rates is set forth in Table 1.

Notice 97–17 Table 1

Tentative Determination of Rates To Be Used For Taxable Years Beginning in 1996

Differential earnings rate for 1996 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6.555Recomputed differential earnings rate for 1995 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 0Imputed earnings rate for 1995 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12.625Imputed earnings rate for 1996 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15.777Base period stock earnings rate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18.221Current stock earnings rate for 1996 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17.422Stock earnings rate for 1993 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23.385Stock earnings rate for 1994 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11.437Stock earnings rate for 1995 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17.445Average mutual earnings rate for 1994. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9.222Average mutual earnings rate for 1995. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16.477

Transfers to Foreign Entities UnderSections 1491 Through 1494

Notice 97–18

This notice provides guidance withrespect to certain transfers of property toforeign corporations, partnerships, trusts,or estates as described in section 1491of the Internal Revenue Code (the‘‘Code’’). This notice also providesguidance concerning the penalty im-posed by section 1494(c) (‘‘section1494(c) penalty’’) for failure to file areturn reporting a transfer described insection 1491 (‘‘section 1491 transfer’’).Sections 1491 and 1494 were amendedby the Small Business Job ProtectionAct of 1996 (the ‘‘Act’’).The Act provides that the section

1494(c) penalty applies to transfersmade after August 20, 1996. However,Notice 96–60, 1996–49 I.R.B. 7, an-nounced that no section 1494(c) penaltywould be imposed if a section 1491transfer is reported no later than 60 daysafter issuance of forthcoming guidance.This notice provides the guidance re-ferred to in Notice 96–60.This notice is divided into eight sec-

tions. Section I provides background onthe relationship of the new section1494(c) penalty with sections 1491through 1494, 6048, and 6677. SectionII sets forth the section 1491 transfersthat are reportable under section 1494.Section III explains various changes tothe time and manner for reporting sec-tion 1491 transfers, including certaintransfers by domestic trusts described inNotice 96–65, 1996–52 I.R.B. 28. Sec-tion IV contains examples illustratingthe section 1494 reporting requirements.Section V provides guidance with re-spect to the section 1494(c) penalty.

Section VI clarifies the application ofsection 1491 to organizations that havemade an election under section 761(a).Section VII announces that no reportingis required under section 1494 on cer-tain distributions from a corporation orpartnership while Treasury and the Ser-vice study the appropriate treatment ofsuch transfers under section 1491. Sec-tion VIII sets forth the effective date ofthis notice.

SECTION I. BACKGROUND

A. Sections 1491 through 1494

Section 1491 of the Code imposes a35 percent excise tax on the transfer ofproperty by a citizen or resident of theUnited States, or by a domestic corpora-tion or partnership, or by an estate ortrust that is not a foreign estate or atrust (‘‘U.S. transferor’’) to a foreigncorporation if the transfer is made aspaid-in surplus or as a contribution tocapital. The excise tax is also imposedon any transfer of property by a U.S.transferor to a foreign partnership, estateor trust. Tax-free exchanges, gifts, salesin which any portion of the gain real-ized is deferred, and private annuitytransactions are examples of transactionsthat are within the scope of section1491. S. Rep. No. 938, 94th Cong. 2dSess. 223 (1976), 1976–3 C.B. 49, 261.See alsoRev. Rul. 78–357, 1978–2 C.B.227. The excise tax is 35 percent of theexcess of the fair market value of theproperty transferred over the transferor’sadjusted basis in such property plus anygain recognized to the transferor at thetime of the transfer.Under section 1492, the excise tax

imposed by section 1491 does not applyto: transfers to certain exempt organiza-tions (section 1492(1)); transfers de-

scribed in section 367 (section1492(2)(A)); transfers with respect towhich an election has been made toapply principles similar to the principlesof section 367 (section 1492(2)(B)); ortransfers with respect to which an elec-tion has been made under section 1057(section 1492(3)).Section 1494(a) provides that the ex-

cise tax is due and payable by thetransferor at the time of the transfer, andshall be assessed, collected and paidunder regulations prescribed by the Sec-retary. Under Treas. Reg. § 1.1494–1(a),a U.S. transferor is required to report asection 1491 transfer on Form 926,Return by a U.S. Transferor of Propertyto a Foreign Corporation, Foreign Es-tate or Trust, or Foreign Partnership, onthe day the transfer is made. Any excisetax due must also be paid on the day ofthe transfer.

B. Sections 1494(c), 6048 and 6677

Section 6048(a), which requires aU.S. person to report certain transfers ofproperty (including money) to foreigntrusts, was amended by the Act tobroaden the scope of reportable transac-tions between U.S. persons and foreigntrusts. The Act also amended section6677, which provides for a penaltyequal to 35 percent of the gross value ofthe property transferred to a foreigntrust if a U.S. person fails to complywith the reporting requirements of sec-tion 6048(a). Additional penalties areimposed if the failure to file continuesafter the Service mails notice of suchfailure to the person required to pay thepenalty. The section 6677 penalty ap-plies even if the transfer is to a foreigntrust with respect to which the transferoris treated as the owner of the transferredproperty under sections 671 through

35

679. Congress imposed a significantpenalty for failure to report such atransfer, even though there are no taxconsequences resulting from the transfer,because of the need to trace transfers ofproperty to a foreign trust to ensure thatany subsequent income earned on thetransferred property is correctly reportedon the income tax return of a U.S.taxpayer. See H.R. Rep. No. 542, 104thCong., 2d Sess., pt. 2, at 25 (1996).The Act also adds new section

1494(c) to the Code, which imposes apenalty for failure to file a return re-quired by the Secretary with respect to asection 1491 transfer. Section 1494(c)provides that a U.S. transferor shall beliable for the penalties provided in sec-tion 6677 as if such failure were afailure to file a notice under section6048(a) (i.e., a penalty equal to 35percent of the gross value of the prop-erty transferred plus additional penaltiesfor continuing failure to comply).

SECTION II. TRANSFERS SUBJECTTO REPORTING UNDER SECTION1494

A. Reportable section 1491 transfers

Section 1491 applies to a broad rangeof transactions. Moreover, existing regu-lations require a U.S. transferor to reporton the day of the transfer any transac-tion described in section 1491.SeeTreas. Reg. § 1.1494–1(a).In order to administer section 1494(c)

in a manner that is not overly burden-some, Treasury and the Service intend toamend the existing regulations to narrowthe scope of transfers subject to report-ing under section 1494. Until the regula-tions are amended, a U.S. transferor isrequired to report a section 1491 trans-fer only if it would be reportable underthe guidance provided by this notice.Thus, no section 1494(c) penalty will beimposed on a transfer that is not report-able under this notice.Treasury and the Service believe that

a section 1491 transfer should be re-ported under section 1494 only if theUnited States has a significant tax inter-est in obtaining the required informa-tion. The United States has a significanttax interest in obtaining information ontransfers of appreciated property to aforeign entity if the entire amount ofgain is not immediately recognized bythe U.S. transferor. In addition, theUnited States has a significant tax inter-est in obtaining information on transfersof any property to a foreign entity if the

U.S. transferor may be required to payU.S. tax on the income or gain gener-ated by that property after the transfer.The new foreign trust reporting provi-sions identify these types of transfers toforeign trusts. This notice identifiesthese types of transfers to other foreignentities. Finally, Treasury and the Ser-vice believe that reporting should not berequired under section 1494 with respectto certain transfers that are adequatelyreported pursuant to another Code sec-tion.Thus, this notice announces that a

U.S. transferor is not required to reporta section 1491 transfer if:(i) The U.S. transferor immediately

recognizes gain (if any) on the transferequal to the difference between the fairmarket value of the property and theU.S. transferor’s adjusted basis in suchproperty; and(ii) The U.S. transferor does not have

a significant interest in the transfereeimmediately after the transfer.Thus, a U.S. transferor must report

any transfer if the entire gain is notimmediately recognized, even if the U.S.transferor does not have a significantinterest in the transferee after the trans-fer. In addition, a transfer of propertymust be reported if the U.S. transferorhas a significant interest in the trans-feree after the transfer, even if theproperty transferred consists of moneyor other unappreciated property. How-ever, even if the transfer would other-wise be reportable under this notice,such reporting will be deemed satisfiedif the transfer is adequately reported bythe U.S. transferor pursuant to a sectionof the Code specified in section II.B ofthis notice.

1. Taxable transfers for fair marketvalueIf the U.S. transferor immediately

recognizes gain (if any) on the transferequal to the difference between the fairmarket value of the property and theU.S. transferor’s adjusted basis in suchproperty, no excise tax is imposed andreporting is not required unless the U.S.transferor has a significant interest inthe transferee, as discussed in SectionII.A.2 of this notice. Therefore, unlessthe U.S. transferor has a significantinterest in the transferee, fair marketvalue sales of property by a U.S. personto a foreign partnership, trust or estateon which gain is immediately recog-nized are not required to be reported.However, if any portion of the gainrealized on a transfer is not recognized

or is deferred (e.g., installment sales orprivate annuity transactions), the transfermust be reported. Thus, for example, aU.S. person who contributes appreciatedproperty to a foreign partnership in atransaction in which gain is not recog-nized generally must report the transferunder section 1494.Certain transfers by U.S. transferors

(described below) would not result in anincome tax liability regardless of themethod of the transfers. Thus, solely forpurposes of section 1491, Treasury andthe Service believe it is appropriate totreat such transferors as having immedi-ately recognized the full amount of gainwith respect to these transfers. Hence,an excise tax will not be imposed on thefollowing transfers and such transferswill not be subject to reporting:(i) A transfer by a U.S. transferor

who is exempt from federal incometaxation under section 501(a) or section664(c), unless a sale of the transferredproperty would be subject to tax undersection 511 as unrelated business taxableincome;(ii) A transfer to a foreign partner-

ship, trust or estate by a domesticcorporation, of stock (including treasurystock) in exchange for money or otherproperty if the domestic corporation isnot required to recognize gain on thetransfer under section 1032; or(iii) A transfer to a foreign partner-

ship, trust or estate by a domesticpartnership, of an interest in the domes-tic partnership in exchange for propertyif the domestic partnership is not re-quired to recognize gain on the transferunder section 721.

2. Transfers where the U.S. transferorhas a significant interest in the trans-fereeTo obtain information on transfers of

property by U.S. persons who may berequired to pay U.S. tax on income orgain generated by that property, transfersof property (whether or not appreciated)to a foreign transferee must be reportedif the U.S. transferor has a significantinterest in the transferee after the trans-fer. Thus, this notice requires U.S.transferors to report section 1491 trans-fers of all types of property, includingthe taxpayer’s functional currency(‘‘money’’), whenever the U.S.transferor has a significant interest inthe transferee after the transfer, regard-less of whether the transfers are fairmarket value sales in which all of thegain is recognized immediately.

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For purposes of this notice, a U.S.transferor is treated as having a signifi-cant interest in a foreign transferee ifthe U.S. transferor and the foreign trans-feree are related persons within themeaning of section 643(i)(2)(B), withthe following modifications:

(i) For purposes of applying sec-tion 267 (other than section 267(f)) andsection 707(b)(1), ‘‘at least 10 percent’’shall be substituted for ‘‘more than 50percent’’ each place it appears;

(ii) The principles of section267(b)(10), substituting ‘‘at least 10 per-cent’’ for ‘‘more than 50 percent,’’ shallapply to determine whether two corpora-tions are related; and

(iii) The principles applicable totrusts shall apply to determine whetheran estate is related to another person.For example, a U.S. transferor whoowns a 10-percent interest in a foreignpartnership immediately after the trans-fer will have a significant interest in thepartnership.

B. Duplicative reporting

A U.S. transferor otherwise requiredto report a section 1491 transfer will bedeemed to have satisfied the section1494 reporting requirement without hav-ing to file Form 926 if the transferorcomplies with the reporting require-ments described in one of the foursections below.

1. Transactions with certain foreigncorporations (section 6038)

Section 6038 requires reporting ofcertain transactions between a U.S. per-son and foreign corporations controlledby the U.S. person. A U.S. persongenerally satisfies the reporting require-ments of section 6038 by filing Form5471, Information Return of U.S. Per-sons with Respect to Certain ForeignCorporations. Capital contributions toforeign corporations that are subject toreporting under section 6038 are alsosection 1491 transfers.To the extent section 6038 adequately

addresses the reporting requirementswith respect to transfers to these foreigncorporations, it is not necessary to re-quire additional reporting under section1494. Therefore, a U.S. transferor thattransfers money or other unappreciatedproperty (or appreciated property wherethe full amount of the gain is recognizedimmediately) to a foreign corporationdescribed in section 6038(a) is not re-quired to report such transfer on Form926 provided the U.S. transferor has

otherwise complied with the reportingrequirements of section 6038.The reporting requirements of section

6038 do not provide sufficient informa-tion to determine the amount of excisetax due upon the transfer of appreciatedproperty if the full amount of gain is notrecognized immediately on the transac-tion. Therefore, a U.S. transferor isrequired to file Form 926 to report asection 1491 transfer of appreciatedproperty in that case, even if the U.S.transferor has filed a Form 5471 withrespect to the foreign transferee. SeeSection II.B.3, below, if a transfer ofappreciated property is reported undersections 367 and 6038B.

2. Transactions with certain foreign-owned corporations (section 6038A)

Section 6038A requires reporting ofcertain transactions between U.S. corpo-rations and related foreign parties if theU.S. corporation is 25-percent foreignowned. U.S. persons generally satisfythe reporting requirements of section6038A by filing Form 5472,InformationReturn of 25% Foreign-Owned U.S.Corporation or Foreign CorporationEngaged in a U.S. Trade or Business.Atransaction with a foreign entity that issubject to reporting under section 6038Amay also be a section 1491 transfer.To the extent section 6038A ad-

equately addresses the reporting require-ments with respect to transfers betweena U.S. corporation and certain relatedforeign entities, it is not necessary torequire additional reporting under sec-tion 1494. Therefore, a U.S. transferorthat transfers money or other unappreci-ated property (or appreciated propertywhere the full amount of the gain isrecognized immediately) to a foreignentity described in section 6038A is notrequired to report such transfer on Form926 provided the U.S. transferor reportsthe transfer on Form 5472 in compli-ance with the reporting requirements ofsection 6038A.The reporting requirements of section

6038A do not provide sufficient infor-mation to determine the amount of ex-cise tax due upon the transfer of appre-ciated property if the full amount ofgain is not recognized immediately onthe transaction. Therefore, a U.S.transferor is required to file Form 926 toreport a section 1491 transfer of appre-ciated property in that case, even if theU.S. transferor has reported such trans-fer on Form 5472 with respect to theforeign transferee.

3. Certain transactions involving for-eign corporations (sections 367 and6038B)

Section 1492(2)(A) provides that tothe extent a section 1491 transfer isdescribed in section 367, such transfer isexempt from the section 1491 excisetax. For example, a transfer of propertyby a U.S. person to a wholly-ownedforeign corporation as paid-in surplus oras a contribution to capital is a transferdescribed in both section 367 and sec-tion 1491. Existing regulations requireU.S. persons to report transfers of prop-erty described in section 367(a) or (d)on Form 926 and to attach such infor-mation as is required under section6038B. Temp. Treas. Reg. § 1.6038B–1T(b).Because section 6038B addresses the

reporting requirements for transfers ofproperty described in section 367(a) and(d), it is not necessary to require addi-tional reporting under section 1494.Therefore, a U.S. transferor that makes atransfer of property (either appreciatedor unappreciated) described in both sec-tion 367 and section 1491 will satisfythe section 1494 reporting requirementsto the extent the U.S. transferor reportsthe property transferred under section6038B. If money or other unappreciatedproperty is not reported under section6038B such property must be reportedunder section 1494 unless the propertyis adequately reported under SectionII.B.1 of this notice.

4. Transactions with foreign trusts(section 6048)

The Act amended section 6048(a) torequire enhanced reporting of transfersof property, including money, betweenU.S. persons and foreign trusts. U.S.persons generally satisfy the reportingrequirements of section 6048(a) by fil-ing Form 3520. A transfer of property toa foreign trust for which reporting isrequired under section 6048(a) may alsobe a section 1491 transfer.Because section 6048 adequately ad-

dresses the reporting requirements fortransfers to foreign trusts, it is notnecessary to require additional reportingunder section 1494. Therefore, a U.S.transferor that makes a transfer of prop-erty (either appreciated or unappreci-ated) described in both sections 6048and 1491 is not required to report suchtransfer on Form 926 provided the U.S.transferor complies with the reportingrequirements of section 6048 and theU.S. transferor does not owe excise tax

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under section 1491. Form 3520 will berevised to accommodate elections undersection 1492(2)(B) or 1492(3) to avoidthe section 1491 excise tax.A U.S. transferor that makes a trans-

fer of property described in both sec-tions 6048 and 1491 is required toreport such transfer on Form 926 only ifthe U.S. transferor owes excise taxunder section 1491 on the transfer orfails to comply with the reporting re-quirements of section 6048.

SECTION III. CHANGES TO TIMEAND MANNER FOR REPORTINGTRANSFERS DESCRIBED INSECTION 1491

Existing regulations require that everyperson making a section 1491 transfermake a return on Form 926 on the dayof the transfer and pay any excise taxdue at that time. Treas. Reg. § 1.1494–1(a). Treasury and the Service willamend the regulations to change thetime and manner for reporting section1491 transfers and paying any excise taxdue. Until the regulations are amended,U.S. transferors who are required to fileForm 926 with respect to section 1491transfers made after August 20, 1996,must file Form 926 and pay any excisetax due in accordance with the proce-dures set forth in this notice.

A. Time for filing

Regulations under section 1494 willbe amended to allow a U.S. transferor tofile information regarding section 1491transfers on an annual basis instead of atthe time of the transfer. Until the regula-tions are amended, a U.S. transferormay either file Form 926 with the U.S.transferor’s annual tax return or infor-mation return for the taxable year thatincludes the date of the transfer or mayfile Form 926 on the day the transfer ismade.SeeSection III.D of this notice.See alsoSection VII of this notice forrelief from penalties under section1494(c) in certain cases.

B. Elections made pursuant to section1492

A U.S. transferor can avoid the sec-tion 1491 excise tax by making certainelections under section 1492. One elec-tion allows a U.S. transferor to avoidthe excise tax by electing, before thetransfer, to apply principles similar tothe principles of section 367. Section1492(2)(B). A U.S. transferor that makesan election to apply principles similar to

the principles of section 367 must com-ply with the reporting requirements ofsection 6038B.Regulations will be issued under sec-

tion 1494 to allow such election to bemade with the U.S. transferor’s annualtax return or information return for thetaxable year that includes the date of thetransfer. Until regulations are issued, anelection to apply principles similar tothe principles of section 367 must bemade on Form 926. Further, providedthe U.S. transferor indicates on Form926 that such an election is being made,the information required by the regula-tions under section 6038B is attached toForm 926, and Form 926 accompaniesthe U.S. transferor’s tax return for thetaxable year that includes the date of thetransfer, the U.S. transferor will bedeemed to have made the election be-fore the transfer.Alternatively, a U.S. transferor can

avoid the section 1491 excise tax byelecting to treat the transfer as a taxableexchange under section 1057. Section1492(3). This election must also bemade on Form 926. A Form 926 thataccompanies the U.S. transferor’s taxreturn for the taxable year that includesthe date of the transfer will satisfy therequirements in Treas. Reg.§ 301.9100–12T that specify the timeand manner for making an electionunder section 1057.As described in Notice 96–65,

1996–52 I.R.B. 28, the Act amendedsection 7701(a)(30) and (31) to set forthnew criteria that must be met to qualifyas a domestic trust. Certain domestictrusts will be treated as making section1491 transfers on January 1, 1997 as aresult of becoming foreign trusts underthe new law. If a domestic trust relies ingood faith on Notice 96–65 to continueto file tax returns as a domestic trust,but is unable to meet the new domestictrust criteria by the end of the two-yearperiod set forth in the notice, the trustmay avoid the section 1491 excise taxby making a section 1057 election onthe Form 3520 which must be attachedto the domestic trust’s 1997 amendedtax return. Such election will be consid-ered timely for purposes of section1494(c) and Treas. Reg. § 301.9100–12T if Form 3520 is attached to thedomestic trust’s 1997 amended tax re-turn that is filed by the due date of thetrust’s tax return for the taxable yearthat includes the date that is two yearsfrom the due date of the trust’s 1997 taxreturn (including extensions).

C. Manner of reporting transactions

A U.S. transferor who transfers appre-ciated property that is reportable onForm 926 under this notice must sepa-rately identify the property on Form 926if the full amount of gain is not recog-nized immediately on the transfer.SeeForm 926, Part III. In contrast, to theextent the transfer consists of money orother unappreciated property (or appre-ciated property in which the full amountof gain is recognized immediately) to atransferee in which the U.S. transferorhas a significant interest immediatelyafter the transfer, the value of trans-ferred property may be aggregated bycategory on a statement attached toForm 926. The categories referred to inthe preceding sentence, which are basedon the categories of transactions listedon Form 5471, Schedule M, are:

(i) Sales of stock in trade (inven-tory);

(ii) Sales of tangible property otherthan stock in trade;

(iii) Sales of property rights (pat-ents, trademarks, etc.);

(iv) Purchases of stock in trade(inventory);

(v) Purchases of tangible property,other than stock in trade;

(vi) Purchases of property rights(patents, trademarks, etc.);

(vii) Compensation paid for techni-cal, managerial, engineering, construc-tion, or like services;

(viii) Commissions paid;(ix) Rents, royalties, and license

fees paid;(x) Interest paid;(xi) Contributions to corporations,

partnerships, trusts or estates (attach abrief description of the property trans-ferred); and

(xii) All other transfers not re-quired to be separately identified (attacha brief description of the type of transferand property transferred).If the transferee is a foreign corporationthe U.S. transferor is only required toreport transfers described in paragraph(xi) (relating to contributions to capitalor paid-in surplus).

D. Payment of tax

Any excise tax due on a transfer ofassets to a foreign transferee may bepaid by attaching Form 926 (with thetax due) to the U.S. transferor’s incometax return for the taxable year in whichthe transfer occurs. Interest must be paidon the amount of excise tax due at theunderpayment rate determined under

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section 6621 with respect to the periodbetween the date on which the transferoccurred and the date on which theexcise tax is actually paid. To avoidpaying interest in the case of a transferfor which the excise tax is due, a U.S.transferor may instead file Form 926and pay any excise tax due on the dayof the transfer.

E. Revisions to forms

Form 926 and Form 3520 are beingrevised to reflect the guidance set forthin this notice. Until the revised formsare issued, U.S. transferors should con-tinue to use existing Form 926 to reportsection 1491 transfers, adjusted as nec-essary to conform with the new report-ing requirements set forth in this notice.

SECTION IV. EXAMPLES

The following examples illustrate therules of this notice. In these examplesUST is a U.S. transferor, FC is a foreigncorporation, FP is a foreign partnership,and FT is a foreign trust.Example 1. Transfer of appreciated property to

a foreign corporation.UST transfers appreciatedproperty to FC as a contribution to capital in atransfer described in section 351. The section 351transfer is described in both section 367(a) andsection 1491. UST is not required to report thetransfer under section 1494 if the transfer isreported under section 6038B.Example 2. Transfer of money to a foreign

corporation. UST transfers money to FC as acontribution to capital. Immediately after the trans-fer UST owns 60 percent of the stock of FC. FCis not required to report the transfer on Form 926provided UST files Form 5471 reflecting thetransfer to FC for the taxable year in which thetransfer took place.Example 3. Transfer of appreciated property to

a foreign partnership.UST transfers appreciatedproperty to FP in a transaction described in section721. UST must separately identify the propertytransferred on Form 926 and pay any excise taxdue. UST may file Form 926 with its tax returnfor the taxable year in which the transfer tookplace and can make an election under section 1492at that time to avoid the excise tax. (In contrast,under prior law UST would have been required tofile Form 926 on the day of the transfer.)Example 4. Transfer of money to a foreign

partnership. UST makes several transfers ofmoney to FP during a taxable year in transactionsdescribed in section 721. Immediately after eachtransfer UST has more than a 10 percent interestin the capital of FP. UST is required to report thetransfers on Form 926. However, UST may aggre-gate the transfers of money into a single amounton Form 926.Example 5. Transfer to a foreign trust.UST

transfers appreciated property to FT. UST reportsthe transfer on Form 3520 under section 6048(a).UST is not required to report the transfer on Form926 unless UST is liable for the section 1491excise tax. UST can avoid any excise tax bymaking a section 1057 election directly on Form3520.

SECTION V. SECTION 1494(c)PENALTY

Section 1494(c) imposes a penalty ona U.S. transferor who fails to report asection 1491 transfer for which report-ing is required to the extent the transferis not reported or is reported inaccu-rately. See sections 1494(c), 6677(a).Thus, if a U.S. person makes a section1491 transfer of property worth$1,000,000 to a foreign transferee, butreports only $400,000 of that amount,the section 1494(c) penalty is imposedonly on the $600,000 unreportedamount. Further, the section 1494(c)penalty does not apply if failure toreport a transfer is shown to be due toreasonable cause and not willful neglect.See sections 1494(c), 6677(d). For ex-ample, if an audit results in an alloca-tion of income under section 482, andsuch allocation results in an adjustmenttreated as a capital contribution by aU.S. transferor to a foreign corporation,reasonable cause exists for failure toreport such capital contribution undersection 1494(c) if reasonable cause pre-vents the imposition of accuracy-relatedpenalties under section 6662 in connec-tion with the section 482 allocation.

Under Section II.B of this notice, aU.S. transferor is not required to reporta section 1491 transfer on Form 926 ifsuch transfer is subject to the reportingrequirements of certain other Code sec-tions. However, if the U.S. transferorhas not complied with the reportingrequirements of that section, the U.S.transferor will not be treated as havingsatisfied its reporting obligation undersection 1494 and will be subject topenalties under section 1494(c). Theamount of the penalty imposed undersection 1494(c) will be reduced, how-ever, by the amount of the penaltyimposed for failing to comply with thereporting requirements of that other sec-tion.

SECTION VI. ORGANIZATIONSELECTING UNDER SECTION 761(a)

Section 761(a) allows certain organi-zations that would otherwise be treatedas partnerships to elect not to be treatedas partnerships for purposes ofsubchapter K of the Code. Treasury andthe Service believe that it is inappropri-ate to apply section 1491 to a foreignpartnership that has made a section761(a) election. Thus, a transfer to aforeign partnership with a valid section761(a) election in effect will not be

considered a transfer to that foreignpartnership for purposes of section 1491.

SECTION VII. DISTRIBUTIONS FROMCORPORATIONS ANDPARTNERSHIPS

Treasury and the Service are studyingthe appropriate scope of section 1491,including the treatment of corporate dis-tributions described in section 301, 302or 305, and partnership distributionsdescribed in section 731. Notwithstand-ing any other provision of this notice,until further guidance is issued taxpay-ers are not required to report suchdistributions, whether or not they consti-tute transfers described in section 1491.In addition, if further guidance requiresthat these transactions be reported, nopenalty will be imposed under section1494(c) on the failure to report any suchdistribution as long as a return reportingthese transfers is filed no later than sixtydays after the issuance of that guidance(or such later date as may be specifiedin that guidance). Moreover, any appli-cable election with respect to such dis-tribution will be considered timely forpurposes of Treas. Reg. § 301.9100–12T if such an election is filed in themanner required no later than sixty daysafter the issuance of that guidance (orsuch later date as may be specified inthat guidance).

SECTION VIII. EFFECTIVE DATE

This Notice is effective for transfersof property occurring after August 20,1996. No penalties will be imposedunder section 1494(c) if a Form 926reporting the section 1491 transfer (orother adequate reporting described inSection II.B of this notice) is filed bythe due date of the U.S. transferor’sincome tax return, including extensions,for the taxable year in which the trans-fer occurred, or the date that is 60 daysafter the date this notice is published inthe Internal Revenue Bulletin, whicheveris later. See Notice 96–60.

PUBLIC COMMENT INVITED

Treasury and the Service invite com-ments on the guidance provided by thisnotice. Written comments should be sub-mitted by June 10, 1997 to:Internal Revenue ServiceP.O. Box 7604Ben Franklin StationAttn: CC:CORP:T:R (Notice 97–18)Room 5228Washington, D.C. 20044;

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or, alternatively, via the internet at:http://www.irs.ustreas.gov/prod/tax_regs/comments.html.

The comments you submit will beavailable for public inspection and copy-ing.


The principal authors of this noticeare Wendy Stanley and Michael Kirschof the Office of Associate Chief Counsel(International). For further informationregarding this notice, contact Ms.Stanley or Mr. Kirsch on (202) 622–3860 (not a toll-free call).

Guidance for Expatriates UnderSections 877, 2501, 2107 and6039F

Notice 97–19

PURPOSE

The Health Insurance Portability andAccountability Act of 1996 (the ‘‘Act’’)recently amended sections 877, 2107and 2501 of the Internal Revenue Code(‘‘Code’’), and added new informationreporting requirements under section6039F.1 This notice provides guidanceregarding certain federal tax conse-quences under these sections and section7701(b)(10) for certain individuals wholose U.S. citizenship, cease to be taxedas U.S. lawful permanent residents, orare otherwise subject to tax in themanner provided by section 877.This notice has eleven sections. Sec-

tion I provides background regarding thegeneral application of sections 877,2107 and 2501. Section II explains howto compute tax under section 877. Sec-tion III explains how an individual mustdetermine his or her tax liability and networth for purposes of sections 877,2107 and 2501. Section IV explains theprocedures that an individual must useto request a private letter ruling that theindividual’s loss of U.S. citizenship didnot have for one of its principal pur-poses the avoidance of U.S. taxes. Sec-tion IV also provides that certain formerlong-term U.S. residents may use thisruling procedure to request a ruling thatcessation of long-term U.S. residencydid not have for one of its principal

purposes the avoidance of U.S. taxes.Section V provides that certain transac-tions are treated as exchanges of prop-erty under section 877 and explains howto enter into a gain recognition agree-ment to avoid the immediate recognitionof gain on exchanges of property. Sec-tion VI provides anti-abuse rules thatapply to contributions made to certainforeign corporations. Section VII setsforth annual filing requirements for cer-tain individuals subject to section 877.Section VIII explains how new section877 interacts with certain U.S. incometax treaties. Section IX explains how tofile information statements in accor-dance with section 6039F and describesthe information that must be included onsuch statements. Section X explains howthe transition provision of the Act af-fects certain individuals who performedan expatriating act prior to February 6,1995. Section XI explains the applica-tion of section 7701(b)(10) and how thatsection interacts with section 877, asamended by the Act.Treasury and the Service expect to

issue regulations under sections 877 and6039F, and amend regulations undersections 2107 and 2501, to incorporatethe guidance set forth in this notice.Until regulations are issued, taxpayersmust comply with the guidance set forthin this notice.

SECTION I. GENERAL APPLICATIONOF SECTIONS 877, 2107 and 2501

Section 877 generally provides that acitizen who loses U.S. citizenship or along-term resident who ceases to betaxed as a U.S. resident (collectively,individuals who ‘‘expatriate’’) within the10-year period immediately precedingthe close of the taxable year will betaxed on all of his or her U.S. sourceincome (as modified by section 877(d))for such taxable year, unless such lossor cessation did not have for one of itsprincipal purposes the avoidance of U.S.taxes.Section 877(a)(2) provides that a

former citizen is considered to have lostU.S. citizenship with a principal purposeto avoid U.S. taxes if the former citi-zen’s tax liability or net worth exceededcertain amounts on the date of expatria-tion. However, a former citizen will notbe considered to have expatriated with aprincipal purpose to avoid U.S. taxes asa result of the individual’s tax liabilityor net worth if he or she qualifies for anexception under section 877(c). Toqualify for an exception, a former citi-

zen must be described in certain statu-tory categories and submit a rulingrequest for a determination by the Sec-retary as to whether the individual’sexpatriation had for one of its principalpurposes the avoidance of U.S. taxes.Section 877(c).Section 2107(a)(1) generally provides

that U.S. estate tax will be imposed onthe transfer of the taxable estate ofevery nonresident decedent if, within the10-year period ending with the date ofdeath, the decedent lost U.S. citizenship,unless such loss did not have for one ofits principal purposes the avoidance ofU.S. taxes. Unless a former citizenqualifies for an exception as providedby section 877(c), such individual willbe considered to have expatriated with aprincipal purpose to avoid U.S. taxes forpurposes of section 2107 if the individu-al’s tax liability or net worth exceededcertain amounts on the date of expatria-tion. Sections 2107(a)(2)(A) and(a)(2)(B).Section 2501(a)(1) generally provides

that a tax will be imposed for eachcalendar year on the transfer of propertyby gift during such calendar year by anyindividual, resident or nonresident. Sec-tion 2501(a)(2) provides that section2501(a)(1) will not apply to the transferof intangible property made by a non-resident not a citizen of the UnitedStates. Section 2501(a)(3)(A) providesthat this exception does not apply in thecase of a donor who, within the 10-yearperiod ending with the date of a trans-fer, lost U.S. citizenship, unless suchloss did not have for one of its principalpurposes the avoidance of U.S. taxes.Unless a former citizen qualifies for anexception as provided by section 877(c),such individual shall be treated as hav-ing a principal purpose to avoid U.S.taxes for purposes of section 2501 if theindividual’s tax liability or net worthexceeded certain amounts on the date ofexpatriation. Sections 2501(a)(3)(B) and(a)(3)(C).Section 877(e) provides comparable

treatment for long-term residents. Along-term resident of the United Stateswill be treated as if such resident lostU.S. citizenship for purposes of sections877, 2107, 2501 and 6039F if theresident (i) ceases to be a lawful perma-nent resident of the United States, or (ii)commences to be treated as a foreignresident under the provisions of an in-come tax treaty between the UnitedStates and a foreign country and does

1 There are currently two provisions of the InternalRevenue Code designated as section 6039F. Trea-sury intends to seek a technical correction to theAct to redesignate section 6039F, as added by theAct, as section 6039G. All subsequent referencesto section 6039F in this notice relate to section6039F as contained in the Act.

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not waive the benefits of such treatyapplicable to residents of the foreigncountry.Section 877(e)(1) defines a long-term

resident as a non-U.S. citizen who was alawful permanent resident of the UnitedStates in at least 8 taxable years duringthe period of 15 taxable years, endingwith the taxable year in which suchindividual ceases to be a lawful perma-nent resident of the United States orcommences to be treated as a resident ofanother country under an income taxtreaty and does not waive the benefits ofsuch treaty applicable to residents of theforeign country. For purposes of section877, an individual is considered a lawfulpermanent resident in a taxable year ifhe or she is a lawful permanent residentduring any portion of that year.Section 877(e)(3)(B) provides that

property held by a long-term resident onthe date that such individual first be-came a resident of the United States(whether or not a lawful permanentresident) shall be treated for purposes ofsection 877 as having a basis of not lessthan the fair market value of the prop-erty on such date. A long-term residentmay elect not to have this treatmentapply. Such an election, once made, isirrevocable.Sections 877, 2107 and 2501, as

amended by the Act, apply to individu-als who expatriate after February 5,1995, and to individuals subject to sec-tion 511(g)(3)(A) of the Act (see sectionX of this notice).

SECTION II. COMPUTING TAXUNDER SECTION 877

Individuals who expatriate with aprincipal purpose to avoid U.S. taxeswill be subject to tax on U.S. sourceincome (as modified by section 877(d))under sections 1, 55 or 402(d)(1)2 of theCode (the ‘‘alternative tax’’), or undersection 871 of the Code, depending onwhich method results in the highest totaltax. Sections 877(a)(1) and (b).An expatriate is subject to the alterna-

tive tax under section 877 only if thetotal tax imposed thereunder on allitems of income for the taxable yearexceeds the total tax under section 871

for those same items of income. Thefollowing example illustrates how tocompute tax under section 877.Example 1.A, a former U.S. citizen, expatriated

with a principal purpose to avoid U.S. taxes onDecember 31, 1996. In 1997, A earns $100,000 ofU.S. source dividend income and $50,000 of U.S.source interest income that qualifies as portfoliointerest under section 871(h). After taking intoaccount the deductions and credits allowed undersection 877(b)(2), A’s net tax liability under sec-tion 1 on the dividend and portfolio interestincome is $40,000.The tax imposed under section 871 on A’s

dividend income is $30,000 (30 percent of$100,000). Section 871(a)(1)(A). No tax is im-posed on A’s portfolio interest under section 871because section 871(h)(1) exempts portfolio inter-est received by a nonresident alien from U.S. tax.Thus, A’s tax liability under section 871 is$30,000.Since A’s total tax liability computed under

section 1 exceeds A’s total tax liability computedunder section 871, A must pay the higher tax.Thus, A must report $40,000 of U.S. tax on his1997 U.S. income tax return (Form 1040NR) as aresult of section 877.

SECTION III. TAX LIABILITY ANDNET WORTH TESTSBackground. Section 877(a)(2) pro-

vides that a former citizen is consideredto have expatriated with a principalpurpose to avoid U.S. taxes if (i) theindividual’s average annual net U.S.income tax (as defined in section38(c)(1)) for the five taxable years priorto expatriation is greater than $100,000(the ‘‘tax liability test’’), or (ii) theindividual’s net worth on the date ofexpatriation is $500,000 or more (the‘‘net worth test’’). The $100,000 and$500,000 amounts are subject to cost-of-living adjustments determined undersection 1(f)(3) for calendar years after1996. An individual who does not sat-isfy the tax liability or net worth test,but expatriates with a principal purposeto avoid U.S. taxes, is also subject tosection 877.Section 2107(a)(2)(A) provides that

an individual shall be treated as havinga principal purpose to avoid U.S. taxesfor purposes of section 2107 if suchindividual satisfies either the tax liabilitytest or the net worth test under section877(a)(2). Likewise, section2501(a)(3)(B) provides that an indi-vidual shall be treated as having aprincipal purpose to avoid U.S. taxes forpurposes of section 2501 if such indi-vidual satisfies either the tax liabilitytest or the net worth test under section877(a)(2). The tax liability and networth tests also apply for purposes ofdetermining whether a former long-termresident is subject to sections 877, 2107,and 2501. Section 877(e)(1).

Determination of tax liability. Forpurposes of the tax liability test, anindividual’s net U.S. income tax is de-termined under section 38(c)(1). An in-dividual who files a joint income taxreturn must take into account the netincome tax that is reflected on the jointincome tax return for purposes of thetax liability test.Determination of net worth.For pur-

poses of the net worth test, an individualis considered to own any interest inproperty that would be taxable as a giftunder Chapter 12 of Subtitle B of theCode if the individual were a citizen orresident of the United States who trans-ferred the interest immediately prior toexpatriation. For this purpose, the deter-mination of whether a transfer by giftwould be taxable under Chapter 12 ofSubtitle B of the Code must be deter-mined without regard to sections2503(b) through (g), 2513, 2522, 2523,and 2524.An interest in property includes

money or other property, regardless ofwhether it produces any income or gain.In addition, an interest in the right touse property will be treated as an inter-est in such property. Thus, anonexclusive license to use property istreated as an interest in the underlyingproperty attributable to the value of theuse of such property.Valuation of interests in property.In

determining the values of interests inproperty for purposes of the net worthtest, individuals must use the valuationprinciples of section 2512 and the regu-lations thereunder without regard to anyprohibitions or restrictions on such inter-est. Although individuals must use goodfaith estimates of values, formal apprais-als are not required.Special rules for determining benefi-

cial interests in trusts.An individual’sbeneficial interest in a trust must beincluded in the calculation of that indi-vidual’s net worth. For this purpose, thevalue of an individual’s beneficial inter-est in a trust will be determined using atwo-step process. First, all interests inproperty held by the trust must beallocated to beneficiaries (or potentialbeneficiaries) of the trust based on allrelevant facts and circumstances, includ-ing the terms of the trust instrument,letter of wishes (and any similar docu-ment), historical patterns of trust distri-butions, and any functions performed bya trust protector or similar advisor. Inter-ests in property held by the trust thatcannot be allocated based on the factorsdescribed in the previous sentence shall

2 Section 402(d)(1) of the Code generally providesfor 5-year income averaging with respect to cer-tain lump-sum distributions from qualified retire-ment plans. Section 1401(b)(1) of the SmallBusiness Job Protection Act of 1996 amendedsection 877(b) by striking ‘‘section 1, 55, andsection 402(d)(1)’’ and inserting ‘‘section 1 or 55.’’This amendment applies to taxable years begin-ning after December 31, 1999.

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be allocated to the beneficiaries of thetrust under the principles of intestatesuccession (determined by reference tothe settlor’s intestacy) as contained inthe Uniform Probate Code, as amended.Second, interests in property held by atrust that are allocated to the expatriatemust be valued under the principles ofsection 2512 and the regulations there-under without regard to any prohibitionsor restrictions on such interest. Thefollowing example illustrates this specialrule.Example 2. B, a former long-term resident,

expatriated on December 31, 1996. B is a potentialbeneficiary of two trusts during his lifetime. Trust1’s sole asset is an apartment building. Under theterms of Trust 1, B is entitled to receive 100percent of the income generated by the apartmentbuilding during B’s life. B’s brother, C, is theremainderman. For purposes of computing B’s networth, Trust 1’s interest in the apartment buildingis allocated between B and C. B is treated asowning a life interest in the apartment building.The value of the life interest must be determinedunder the principles of section 2512 and theregulations thereunder.Trust 2 was established by B’s father for the

benefit of B and C. Under the terms of Trust 2,the trust income and corpus may be distributed atthe trustee’s discretion to either B or C. Forpurposes of determining B’s net worth, all of theinterests in property owned by Trust 2 must firstbe allocated to either B or C based on all relevantfacts and circumstances. If the facts and circum-stances do not indicate how the interest in thetrust’s property should be allocated between B andC, the trust property will be allocated under therules of intestate succession (determined by refer-ence to B’s father’s intestacy) as contained in theUniform Probate Code. If B’s father had diedintestate, the Uniform Probate Code would haveallocated his property equally between B and C.Thus, for purposes of determining B’s net worth,B will be treated as owning half of the interests inproperty owned by Trust 2. The value of theseinterests in property will be determined under theprinciples of section 2512.

SECTION IV. RULING REQUESTSBackground.Section 877(c) provides

that a former U.S. citizen who satisfieseither the tax liability test or the networth test will not be considered tohave a principal purpose of tax avoid-ance as a result of one of those tests ifthat former citizen submits a request fora ruling within one year of the date ofloss of U.S. citizenship for the Secre-tary’s determination as to whether suchloss had for one of its principal pur-poses the avoidance of U.S. taxes. To beeligible to request a ruling, an individualmust be within one of the followingcategories: (1) the individual became atbirth a citizen of the United States and acitizen of another country and continuesto be a citizen of such other country, (2)the individual becomes (not later thanthe close of a reasonable period after

loss of U.S. citizenship) a citizen of thecountry in which the individual, theindividual’s spouse or one of the indi-vidual’s parents was born, (3) the indi-vidual was present in the United Statesfor no more than 30 days during eachyear of the 10-year period ending on thedate of expatriation, (4) the individuallost U.S. citizenship before reaching age18 1/2, or (5) the individual is describedin a category prescribed by regulation.For purposes of sections 2107 and 2501,a former citizen who meets the require-ments of section 877(c)(1) will not beconsidered to have expatriated with aprincipal purpose to avoid U.S. taxes.Sections 2107(a)(2)(B) and2501(a)(3)(C).Section 877(e)(3)(A) provides that the

exception set forth in section 877(c)with respect to U.S. citizens shall notapply to former long-term residents.However, section 877(e)(4) gives theSecretary the authority to exempt cat-egories of former long-term residentsfrom section 877. In addition, section877(e)(5) authorizes the Secretary toprescribe appropriate regulations tocarry out the purposes of section 877(e).Additional categories of individuals

eligible to submit ruling requests.Trea-sury and the Service expect to issueregulations that will permit a formerlong-term resident who is within certaincategories to request a ruling undersections 877, 2107 and 2501 as towhether the individual’s expatriation hadfor one of its principal purposes theavoidance of U.S. taxes. Until suchregulations are issued, a former long-term resident may request a ruling if:(1) on the date of expatriation, the

individual is a citizen of:(a) the country in which the indi-

vidual was born,(b) the country where the individual’s

spouse was born, or(c) the country where either of the

individual’s parents was born, andthe individual becomes (not later thanthe close of a reasonable period after theindividual’s expatriation) fully liable totax in such country by reason of theindividual’s residence;(2) the individual was present in the

United States for no more than 30 daysduring each year of the 10-year periodprior to expatriation; or(3) the individual ceases to be taxed

as a lawful permanent resident, or com-mences to be treated as a resident ofanother country under an income taxtreaty and does not waive the benefits of

such treaty applicable to residents of theforeign country, before the individualreaches age 18 1/2.In addition, former long-term resi-

dents and former citizens who narrowlyfail to satisfy the criteria of an enumer-ated category may also submit rulingrequests. The Secretary, in his or hersole discretion, may decline to rule onany request if the Secretary determinesthat the individual does not narrowlyfail to satisfy the criteria of one of thosecategories. If the Secretary declines torule on an individual’s ruling request forthis reason, the individual will not beconsidered to have ‘‘submitted’’ a rulingrequest within the meaning of section877(c)(1)(B). Accordingly, if that indi-vidual satisfies either the tax liability ornet worth test, the individual will beconsidered to have expatriated with aprincipal purpose to avoid U.S. taxesunder section 877(a)(2).Examples. The following examples

illustrate circumstances in which an in-dividual narrowly fails to satisfy thecriteria of an enumerated category, andthus eligible to request a ruling.Example 3.D, a former citizen of the United

States by birth, expatriated on February 15, 1997.D satisfied the tax liability test on the date of herexpatriation and thus, will be considered to haveexpatriated with a principal purpose to avoid U.S.taxes unless she qualifies for an exception undersection 877(c). D has resided in the UnitedKingdom since 1985. D is not a citizen by birth ofanother country and does not plan to become acitizen of a country in which one of her parents orher spouse was born. D did not spend any time inthe United States during the 10-year period priorto her expatriation, except for one year when shevacationed in Hawaii for 35 days. D narrowly failsto satisfy the criteria of section 877(c)(2)(B)because she spent only 35 days in the UnitedStates during one year of the 10-year periodending on the date of her expatriation. Thus, D iseligible to submit a ruling request.Example 4.E is a citizen of France and a

long-term resident of the United States. E’s par-ents emigrated from Africa to France in 1950 andacquired French citizenship in 1960. E’s parentswere employed by the French government andoften travelled outside of France. In 1965, E wasborn while E’s parents were stationed outside ofFrance on a short-term assignment. By virtue ofhis parents’ French citizenship, E became a citizenof France at birth. E resided in France from age 1until age 21. E became a lawful permanentresident of the United States at age 21. E is now31 years old and wishes to relinquish his greencard and return to France. E will satisfy the networth test on the date of his expatriation.Although E is not a citizen of France by virtue

of being born in France, E narrowly fails to satisfythe criteria of an enumerated category because hewas born outside of France only because hisparents were temporarily absent from France dur-ing an overseas assignment for the French govern-ment. E is a citizen of France by birth, became aresident of France at age 1, and plans to become a

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resident of France after terminating his U.S.residency. Thus, E is eligible to submit a rulingrequest.

Effect of rulings and pending rulingrequests.An expatriate who satisfies thetax liability or net worth test will besubject to new sections 877, 2107 or2501, unless such individual obtains afavorable ruling, rather than merely sub-mits a request, that the individual didnot expatriate with a principal purposeto avoid U.S. taxes. If an individual’sruling request is pending before theService at the time prescribed for filingthe individual’s income tax return for aparticular year, the individual must re-port income on his or her U.S. incometax return for that year as if section 877applied to him or her. If the individualobtains a favorable ruling at a later date,the individual may then amend thatprevious year’s U.S. income tax returnaccordingly.Challenging an adverse ruling.An

individual who obtains an adverse rulingmay challenge the ruling by initiating arefund suit to recover any taxes paid byreason of section 877. See H.R. Conf.Rep. No. 736, 104th Cong., 2d Sess.325 (1996).Time for submitting ruling requests.

Ruling requests must be submitted nolater than one year following the date ofexpatriation. If an individual does notsubmit a ruling request within this pre-scribed period and satisfies either thetax liability test or the net worth test,such individual will be treated as havinga principal purpose to avoid U.S. taxes.However, an individual subject to newsection 877 who expatriated after Febru-ary 5, 1994, but on or before July 8,1996, and who wishes to submit a rulingrequest as to whether such expatriationhad for one of its principal purposes theavoidance of U.S. taxes must do so byJuly 8, 1997.Ruling requests may be submitted

prior to the expected date of expatria-tion, provided that the individual sub-mitting the request has formed a definiteintention to expatriate. The Service willnot rule on requests involving alterna-tive plans of proposed transactions orhypothetical situations. See section 7.02of Rev. Proc. 97–1, 1997–1 I.R.B. 11,24.Procedures for submitting ruling re-

quests.Individuals should refer to sec-tion 8 of Rev. Proc. 97–1, 1997–1 I.R.B.11, 25, for general instructions on theproper procedures to follow when sub-mitting ruling requests. Individualsshould also consult section 15 of Rev.

Proc. 97–1, 1997–1 I.R.B. 11, 46, forinformation on user fees.Information that must be included in

ruling requests.The burden of proof ison the individual requesting the rulingto establish to the satisfaction of theSecretary that the individual’s expatria-tion did not (or will not) have for one ofits principal purposes the avoidance ofU.S. taxes under Subtitle A or Subtitle Bof the Code. Therefore, individualsshould submit any relevant informationthat will help the Secretary make adetermination as to whether the indi-vidual’s expatriation (or planned expa-triation) had (or will have) for one of itsprincipal purposes the avoidance of U.S.taxes. The ruling request must includethe following information:(1) the date (or expected date) of

expatriation;(2) a full explanation of the individu-

al’s reasons for expatriating;(3) the individual’s date of birth;(4) all foreign countries where the

individual is a resident for tax purposesand/or intends to obtain residence fortax purposes;(5) all foreign countries of which the

individual is a citizen and/or intends toacquire citizenship after expatriation;(6) the countries where the individu-

al’s spouse (if any) and parents wereborn;(7) a description of the individual’s

ties to the United States and the indi-vidual’s ties to the foreign countrywhere the individual resides (or intendsto reside) for the period that begins fiveyears prior to expatriation and ends onthe date that the ruling request is sub-mitted, including the location of theindividual’s permanent home, tax home(within the meaning of section911(d)(3)), family and social relations,occupation(s), political, cultural, or otheractivities, business activities, personalbelongings, the place from which theindividual administers property, the ju-risdiction in which the individual holdsa driver’s license, the location where theindividual conducts routine personalbanking activities, the location of theindividual’s cemetery plot (if any), andany other similar information;(8) a balance sheet, at fair market

value, that sets forth by category (e.g.,cash, marketable securities, closely-heldstock, business assets, qualified andnonqualified deferred compensation ar-rangements, individual retirement ac-counts, installment obligations, U.S. realproperty, foreign real property, etc.) theindividual’s assets and liabilities imme-

diately prior to expatriation. The balancesheet must also set forth the following:(i) the source of income and gain,

without applying the source provisionsof section 877, that such property wouldhave generated during the 5-year periodprior to expatriation and immediatelyafter expatriation,(ii) the source of income and gain,

assuming that the source provisions ofsection 877 applied (as modified bysection V of this notice), that suchproperty would have generated duringthe 5-year period prior to expatriationand immediately after expatriation, and(iii) the gain or loss that would be

realized if the assets were sold for theirfair market values on the date of expa-triation.The individual must separately list

(not by category) each partnership inwhich the individual holds an interest,each trust that the individual is consid-ered to own under sections 671 through679, each trust that the individual isconsidered to own under Chapter 12 ofSubtitle B of the Code, and each trust inwhich the individual holds a beneficialinterest (as determined under the proce-dures described in section III of thisnotice). The individual must also de-scribe the types of assets held by eachpartnership or trust, and indicate themethodology (as described in section IIIof this notice) used to determine theindividual’s beneficial interest in eachtrust. In addition, the individual shouldindicate whether there have been (or areexpected to be) significant changes inthe individual’s assets and liabilities forthe period that began five years prior toexpatriation and ends ten years follow-ing the date of expatriation. If so, theindividual should attach a statement ex-plaining the changes in the individual’sassets and liabilities during such period;(9) a description of all exchanges

described in section 877(d)(2)(B) and allremovals of appreciated tangible per-sonal property from the United States(as described in section V of this no-tice), that:(i) occurred at any time beginning 5

years prior to expatriation (but not in-cluding exchanges that took place priorto February 6, 1995) and ending on thedate that the ruling request is submitted,or(ii) occurred, or are expected to oc-

cur, during the 10-year period followingexpatriation.If the individual is subject to new

section 877 because of section511(g)(3)(A) of the Act (see section X

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of this notice), the individual must alsoinclude a description of all exchangesdescribed under section 877(d)(2)(B)that occurred on or after the date of theindividual’s expatriating act (see sectionX of this notice) and before February 6,1995;(10) a description of all occurrences

under section 877(d)(2)(E)(ii) that aretreated as exchanges under section877(d)(2) (as described in section V ofthis notice) that:(i) occurred at any time beginning 5

years prior to expatriation (but not in-cluding occurrences that took place priorto February 24, 1997) and ending on thedate that the ruling request is submitted,or(ii) occurred, or are expected to oc-

cur, during the 10-year period followingexpatriation;(11) a statement describing the nature

and status of any ongoing audits, dis-putes or other matters pending beforethe Internal Revenue Service;(12) a statement as to whether the

individual satisfied his or her U.S. taxliability during the period that he or shewas a U.S. citizen or lawful permanentresident of the United States;(13) copies of the individual’s U.S.

tax returns for each of the three yearsprior to expatriation;(14) a copy of the information state-

ment filed in accordance with section6039F, as described in section IX of thisnotice (if such statement has not yetbeen filed, provide a draft copy of suchstatement);(15) in the case of an individual with

gross assets that have an aggregate fairmarket value in excess of $10,000,000,a calculation of the individual’s pro-jected U.S. and foreign income taxliability for the taxable year of expatria-tion (or expected expatriation) and thetwo taxable years following expatriationunder each of the following circum-stances:(i) if it is determined that the indi-

vidual expatriated with a principal pur-pose to avoid U.S. taxes under section877,(ii) if it is determined that the indi-

vidual did not expatriate with a principalpurpose to avoid U.S. taxes under sec-tion 877, and(iii) if the individual had remained a

U.S. citizen or U.S. lawful permanentresident.The individual must also indicate

whether the individual expects a sub-stantial change in the individual’s pro-jected U.S. and foreign income tax

liability as a result of a change inincome for the remainder of the 10-yearperiod following expatriation;(16) in the case of an individual with

gross assets that have an aggregate fairmarket value in excess of $10,000,000,an actuarial estimate of U.S. and foreignestate and other death taxes that wouldbe owed on the individual’s property,calculated based on the assumption thatthe individual owns the same propertyon the date of death that the individualowned (or expects to own) on the dateof expatriation, under each of the fol-lowing circumstances:(i) if it is determined that the indi-

vidual expatriated with a principal pur-pose to avoid U.S. taxes under section2107,(ii) if it is determined that the indi-

vidual did not expatriate with a principalpurpose to avoid U.S. taxes under sec-tion 2107, and(iii) if the individual had remained a

U.S. citizen or U.S. lawful permanentresident domiciled in the United States;and(17) in the case of an individual with

gross assets that have an aggregate fairmarket value in excess of $10,000,000,a statement as to whether the individualexpects to make a gift during any yearof the 10-year period following expatria-tion that would be subject to tax undersection 2501 if the individual is deter-mined to have expatriated with a princi-pal purpose to avoid U.S. taxes. If so,the individual should describe the gift,provide an estimate of its fair marketvalue, and indicate when and to whomthe individual expects to make the gift.The foregoing list of information

must be provided with ruling requestssubmitted after March 10, 1997. Al-though individuals must provide goodfaith estimates of fair market values,formal appraisals are not required. Inprocessing ruling requests, the Servicemay ask individuals with gross assetsthat have an aggregate fair market valueof $10,000,000 or less to supply theinformation described in (15), (16) and(17) above. If an individual fails toprovide the aforementioned informationor any other information that may bereasonably required, the individual’s rul-ing request may be closed pursuant tosection 10.06(3) of Rev. Proc. 97–1,1997–1 I.R.B. 11, 39. If an individual’sruling request is closed, that individualwill not be considered to have ‘‘submit-ted’’ a ruling request within the meaningof section 877(c)(1)(B). Accordingly, ifthat individual satisfies either the tax

liability test or the net worth test, theindividual will be considered to haveexpatriated with a principal purpose toavoid U.S. taxes under section877(a)(2).Finally, an individual must attach his

or her ruling to the individual’s U.S.income tax return for the year in whichthe individual expatriates. See section8.05 of Rev. Proc. 97–1, 1997–1 I.R.B.11, 33. If the individual has alreadyfiled a U.S. income tax return for suchyear, the individual must attach theruling to the individual’s U.S. incometax return for the year in which he orshe obtains the ruling.

SECTION V. EXCHANGES AND GAINRECOGNITION AGREEMENTS

Background. Section 877(d)(1)(A)provides that gains on the sale or ex-change of property (other than stock ordebt obligations) located in the UnitedStates shall be treated as from sourceswithin the United States. Section877(d)(1)(B) provides that gains on thesale or exchange of stock issued by adomestic corporation or debt obligationsof United States persons, or of theUnited States, a State, a political subdi-vision thereof, or the District of Colum-bia, shall be treated as from sourceswithin the United States. Section877(d)(1)(C) provides that income orgain derived from a foreign corporationwill be from sources within the UnitedStates if an expatriate owned or isconsidered to own (under the principlesof sections 958(a) and (b)), at any timeduring the 2-year period ending on thedate of expatriation, more than 50 per-cent of (i) the total combined votingpower of all classes of stock entitled tovote of such corporation, or (ii) the totalvalue of the stock of such corporation.The amount of income or gain that isconsidered U.S. source is limited, how-ever, to the amount that does not exceedthe earnings and profits attributable tosuch stock earned before the date of theindividual’s expatriation and during peri-ods that the ownership requirements aremet.Section 877(d)(2) generally provides

that certain property transferred in non-recognition exchanges by an individualsubject to section 877 during the 10-year period referred to in section 877(a)will be treated as sold for its fair marketvalue on the date of the exchange. Thus,any gain must be recognized by theindividual in the taxable year of theexchange. Section 877(d)(2) applies to

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exchanges that, without regard to section877, are nontaxable under subtitle A ofthe Code and involve the exchange ofproperty that would produce U.S. sourceincome or gain for property that wouldproduce foreign source income or gain.Under section 877(d)(2)(C), however,

an individual is not required to immedi-ately recognize gain if the individualenters into an agreement with the Secre-tary specifying that any income or gainderived from the property acquired inthe exchange (or any other property thathas a basis determined in whole or inpart by reference to such property) dur-ing the 10-year period referred to insection 877(a) shall be treated as U.S.source income. In addition, if the trans-ferred property is disposed of by theacquiror, the gain recognition agreementwill terminate and any gain not recog-nized by reason of the agreement mustbe recognized by the individual as ofthe date of such disposition.Section 877(d)(2)(D) provides the

Secretary with regulatory authority tosubstitute the 15-year period beginningfive years prior to expatriation for the10-year period referred to in section877(a), and to apply section 877(d)(2) toall exchanges that occur during such15-year period. Section 877(d)(2)(E)also authorizes the Secretary to issueregulations to treat as a taxable ex-change the removal of appreciated tan-gible personal property from the UnitedStates, and any other occurrence thatresults in a change in the source ofincome or gain from property from U.S.source to foreign source without recog-nition of gain.Fifteen-year period and expanded

definition of ‘‘exchanges’’.Treasury andthe Service expect to issue regulationsunder sections 877(d)(2)(D) and (E) thatextend the 10-year period referred tosection 877(a) and provide an expandeddefinition of exchanges. The regulationswill apply to individuals who expatriateafter February 5, 1995, and to individu-als subject to section 511(g)(3)(A) of theAct (see section X of this notice). Untilregulations are issued, taxpayers mustcomply with the rules set forth below.Section 877(d)(2) must be applied by

substituting the 15-year period begin-ning five years prior to expatriation forthe 10-year period referred to in section877(a). In addition, removal of appreci-ated tangible personal property from theUnited States with an aggregate fairmarket value in excess of $250,000within this 15-year period must betreated as an exchange to which section

877(d)(2) applies. Accordingly, any gainderived from removal of property withan aggregate fair market value of$250,000 or less during this 15-yearperiod will not be taxable under section877. If an individual removes propertywith an aggregate fair market value inexcess of $250,000 during this 15-yearperiod, the individual must recognize apro rata portion of the gain attributableto the value in excess of $250,000,unless he or she enters into a gainrecognition agreement. A pro rata por-tion of the gain must be calculated bymultiplying the total gain on the re-moved property by a fraction, the nu-merator of which is the excess of theaggregate fair market values of all re-moved property over $250,000 and thedenominator of which is the aggregatefair market values of all removed prop-erty. Removal of appreciated tangiblepersonal property during the 5-year pe-riod prior to expatriation (whether or notthe fair market values exceed $250,000)will not be treated as an exchange if theremoval occurred prior to February 6,1995.Any other occurrence (within the

meaning of section 877(d)(2)(E)(ii))within the 15-year period that results ina change of the source of income orgain from U.S. source to foreign sourcemust also be treated as an exchange towhich section 877(d)(2) applies. How-ever, an occurrence during the 5-yearperiod prior to expatriation will not betreated as an exchange if the occurrencetook place prior to February 24, 1997.Determination of source of certain

gains. The principles of section877(d)(1) generally apply for purposesof determining whether any exchange ofproperty changes the source of incomeor gain from U.S. source to foreignsource during the 15-year period begin-ning five years prior to expatriation.Thus, solely for purposes of determiningthe source of the expatriate’s income orgain with respect to any exchangewithin this 15-year period, (i) the sourceof any gain on the sale or exchange oftangible personal property will be basedon the physical location of the property,(ii) the source of gain from the sale orexchange of stock will be based on thecorporation’s place of incorporation (ex-cept as otherwise provided in section877(d)(1)(C)), and (iii) the source ofgain from the sale or exchange of debtobligations will be based on the resi-dence of the issuer of such obligations.The source of gain on the sale orexchange of an interest in a partnership

during the 15-year period will be deter-mined as if the partner directly disposedof his or her share of the partnership’sassets. In determining the partner’s shareof gain recognized from each partner-ship asset, the gain on the sale orexchange of the partnership interestshall be allocated among the assets ofthe partnership in proportion to the gainthat the partner would have recognizedhad the partnership sold each asset forits fair market value. In all other cases,the source of an expatriate’s income orgain with respect to any other transac-tion will be determined under the gen-eral source provisions of the Code (e.g.,sections 861 through 865).Recognition of gain.Except as other-

wise indicated below, an individual mustrecognize any realized or unrealizedgains, but not losses, as a result of any‘‘exchange’’ described in section877(d)(2)(B), (d)(2)(E)(i), or (d)(2)(E)-(ii), in the year of the exchange unlessthat individual enters into a gain recog-nition agreement. If an exchange occursduring the 5-year period prior to expa-triation, the individual must recognizeany gain from the exchange in thetaxable year of the individual’s expatria-tion unless the individual enters into again recognition agreement.Examples. The following examples

illustrate transactions that are treated asexchanges under section 877(d)(2) andwhen gain from such transactions mustbe recognized.Example 5.F, a U.S. citizen by birth, enters into

a notional principal contract in March 1997. Underthe terms of that contract, F is obligated to makespecified annual payments to an unrelated party inexchange for specified annual payments from theunrelated party for a period of five years. F is acalendar year taxpayer who uses the cash methodof accounting. F moves her tax home to a foreigncountry in May 1997. F renounces her U.S.citizenship in 1998 with a principal purpose toavoid U.S. taxes.The source of income from a notional principal

contract is generally determined by reference tothe residence of the taxpayer. For this purpose, theresidence of an individual is the country in whichthe individual’s tax home is located. See Treas.Reg. § 1.863–7(a)(1).Before F changed her tax home in May 1997,

F’s income earned under the contract was treatedas U.S. source income. After F changed her taxhome, the source of this income became foreignsource. Because F’s change in tax home changedthe source of her income from U.S. source toforeign source, it is an occurrence that is treatedas an exchange to which section 877(d)(2) applies.Since this occurrence occurred in the 5-year periodprior to her expatriation, F must recognize anygain from the contract in 1998 (the taxable year ofher expatriation), unless she enters into a gainrecognition agreement.However, if F also owned stock in a foreign

corporation, her change in tax home coupled withher expatriation would not be an occurrence that is

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treated as an exchange to which section 877(d)(2)applies with respect to such stock. Pursuant to thespecial source rules described in this notice, thesource of gain on the sale or exchange of stock isbased on the corporation’s place of incorporation.Thus, the gain on the sale or exchange of foreignstock would be foreign source for the entire15-year period beginning five years prior to expa-triation. Accordingly, there would not be an occur-rence during this period that would change thesource of such gain from U.S. source to foreignsource.Example 6.G is a U.S. citizen by birth. G owns

a home in the United States that he uses as hisprincipal residence. In April 1997, G sells hisprincipal residence in the United States at a gainof $1,000,000. In June 1997, G purchases a newprincipal residence located abroad. G’s purchase ofthe new residence satisfies the requirements ofsection 1034, and thus G does not recognize the$1,000,000 gain on the sale of his old residence.G expatriates in 1999 with a principal purpose toavoid U.S. taxes.Under section 861(a)(5), gain from the disposi-

tion of a United States real property interest istreated as U.S. source income. A United Statesreal property interest includes real property that islocated in the United States. Section 897(c). Gainfrom the sale or exchange of real property locatedoutside the United States is considered foreignsource income. Section 862(a)(5).Since G is not required to recognize the gain on

the sale of his old residence by reason of section1034, and the source of this gain would changefrom U.S. to foreign if G sold his new residence,it is an occurrence that is treated as an exchangeto which section 877(d)(2) applies. Accordingly, Gmust recognize the gain from the sale of his oldresidence in 1999 (the taxable year of his expatria-tion), unless he enters into a gain recognitionagreement.Example 7.H is a former long-term resident of

the United States. H owns a valuable painting thatshe purchased in 1965 for $500,000. H became aresident of the United States and brought thepainting to the United States in 1975. The fairmarket value of the painting in 1975 was$2,000,000. H became a lawful permanent residentof the United States in 1980. On January 1, 1996,H expatriates with a principal purpose to avoidU.S. taxes. On January 1, 1997, H removes thepainting from the United States. On that date, thefair market value of the painting is $5,000,000.Under section 877(d)(1)(A), H’s unrealized gain

in the painting is U.S. source so long as thepainting is located in the United States. Since theremoval of H’s appreciated painting from theUnited States changed the source of the unrealizedgain thereon from U.S. source to foreign source, itis considered an exchange to which section877(d)(2) applies. For purposes of section 877, H’sbasis in the painting is the painting’s fair marketvalue on the date that H first became a U.S.resident (i.e., $2,000,000). Section 877(e)(3)(B).Thus, H’s unrealized gain on the painting on thedate of removal is $3,000,000 ($5,000,000–$2,000,000).Because the value of H’s painting on the date of

removal exceeds $250,000, H must recognize apro rata portion of the gain attributable to thevalue in excess of $250,000, unless she enters intoa gain recognition agreement. The pro rata portionof such gain is $2,850,000, determined by multi-plying the total gain ($3,000,000) by a fraction,the numerator of which is the excess of the fairmarket value of the painting over $250,000($4,750,000) and the denominator of which is thefair market value of the painting ($5,000,000).

Thus, H must recognize $2,850,000 in 1997 (thetaxable year of the removal) unless she enters intoa gain recognition agreement.Example 8.J, a U.S. citizen by birth, expatriates

on January 1, 1999, with a principal purpose toavoid U.S. taxes. On the date of J’s expatriation, Jowns appreciated stock in a domestic corporation.On January 1, 2000, J creates a foreign trust, FT,and contributes the stock to FT. Under the termsof the trust instrument, the income and corpusfrom FT may be distributed at the discretion of thetrustee to J, J’s spouse, or J’s children.If J had directly disposed of the domestic stock

instead of contributing it to FT, the gain realizedthereon would be treated as U.S. source income.Section 877(d)(1)(B). However, if FT disposed ofthe stock, the gain realized would be foreignsource because FT is not a resident of the UnitedStates. See sections 865(a)(2) and (g)(1)(B). If FTthen distributed the proceeds to J, his gain wouldalso be foreign source.Since J’s contribution of the domestic stock to

FT is nontaxable under subtitle A of the Code andchanged the source of gain on the stock from U.S.to foreign, it is an occurrence that is treated as anexchange to which section 877(d)(2) applies. Forthis purpose, J’s beneficial interest in FT is treatedas property acquired in the exchange, and thestock contributed to FT is treated as propertytransferred in the exchange. Therefore, J mustrecognize the pre-contribution gain on the appreci-ated stock in 2000 (the taxable year of theexchange), unless he enters into a gain recognitionagreement.

Guidance on gain recognition agree-ments. An individual who wishes toenter into a gain recognition agreementwith the Secretary with respect to anyexchange described in section 877(d)(2)must submit the agreement with theindividual’s U.S. income tax return (nor-mally Form 1040NR) for the taxableyear of the exchange. If an exchangeoccurred during the 5-year period priorto expatriation, the individual must sub-mit a gain recognition agreement withhis or her U.S. income tax return for thetaxable year of the individual’s expatria-tion. If an exchange occurred before theindividual’s 1996 taxable year, the indi-vidual must submit a gain recognitionagreement with his or her 1996 Form1040NR to avoid the recognition ofgain.The gain recognition agreement will

be triggered if the individual disposes ofthe property to which the gain recogni-tion agreement applies. In addition, anydisposition of the transferred propertyby the acquiror of such property willalso trigger gain, even if the dispositionis otherwise part of a nonrecognitiontransaction. For purposes of the gainrecognition agreement, property re-moved from the United States and prop-erty the source of income or gain fromwhich changed from U.S. to foreign willbe treated as property acquired in anexchange.

All gain recognition agreements mustbe signed under penalties of perjury andset forth the following information:(1) a description of all property sub-

ject to the agreement, (i.e., a descriptionof property both transferred and ac-quired in an exchange, a description ofany appreciated tangible personal prop-erty that was removed from the UnitedStates, and/or a description of all prop-erty affected by an occurrence thatchanged the source of income or gainfrom the property from U.S. source toforeign source);(2) a good faith estimate of the rel-

evant fair market values of the propertytransferred and acquired in the exchange(formal appraisals are not required),their adjusted basis for U.S. tax pur-poses, and a calculation of the gain notrecognized by reason of the gain recog-nition agreement (the ‘‘deferred gain’’)on a property-by-property basis;(3) a statement that the individual

agrees to recognize, under section 877,any income or gain during the 15-yearperiod that begins five years prior toexpatriation as U.S. source income if itis derived from property that was ac-quired in an exchange (as described inthis notice);(4) a statement that the individual

agrees to recognize, under section 877, aproportionate amount of the deferredgain as U.S. source income as of thedate of disposition if the acquiror of thetransferred property disposes of all or aportion of the property in any mannerduring the 15-year period beginning fiveyears prior to expatriation;(5) a statement that the individual

agrees to file a U.S. income tax return(normally Form 1040NR) for each yearof the 10-year period following expatria-tion (whether or not such individual isotherwise required to file a return) thatincludes an annual certification eachyear describing any income or gain thatis taxable pursuant to the gain recogni-tion agreement. If the individual did notderive any income or gain that is tax-able pursuant to the gain recognitionagreement, the certification must providea statement to that effect;(6) if an exchange to which the gain

recognition agreement applies occurredduring the 5-year period prior to expa-triation, a certification describing anyincome or gain during this 5-year periodthat is taxable pursuant to the gainrecognition agreement. If the individualdid not derive any income or gain thatis taxable pursuant to the gain recogni-

46

tion agreement during this period, thecertification must provide a statement tothat effect;(7) a representation that all records

relating to the property to which thegain recognition agreement applies, in-cluding those of the acquiror (if any),will be made available for inspection bythe Service during the period that ends 3years from the date on which a U.S.income tax return is filed for the year(s)in which any income or gain that istaxable pursuant to the gain recognitionagreement is recognized;(8) a statement that the individual

agrees to furnish a bond or other secu-rity that satisfies the requirements ofTreas. Reg. § 301.7701–1 if the DistrictDirector determines that such security isnecessary to ensure the payment of taxupon the deferred gain and any otherincome or gain that is taxable pursuantto the gain recognition agreement; and(9) if applicable, the name, address,

and U.S. taxpayer identification number(if any) of the acquiror of any propertysubject to the agreement.If, during the period that the agree-

ment is in force, the individual disposesof the property acquired in the exchangein a transaction in which gain or loss isnot recognized under U.S. income taxprinciples, then the individual shall notbe required to recognize gain, providedthat the individual notifies the Secretaryof the transfer with his or her nextannual certification and modifies thegain recognition agreement accordingly.Example.The following example il-

lustrates how to enter into a gain recog-nition agreement.Example 9. Assume the same facts as in

example 8 above. To avoid the immediate recogni-tion of gain on the contribution of stock to FT, Jmust attach a gain recognition agreement to hisU.S. tax return for the year 2000 (the taxable yearof the exchange). As part of such agreement, Jmust agree to recognize any income or gain that Jderives from his beneficial interest in FT as U.S.source income during the remainder of the 10-yearperiod following expatriation. J must also agree torecognize the pre-contribution gain on the trans-ferred stock as U.S. source income if FT directlyor indirectly disposes of the stock. In addition, Jmust agree to file an annual certification for eachyear of the remaining 10-year period followingexpatriation that indicates whether J derived anyincome or gain from his beneficial interest in FTand whether FT disposed of the stock. J mustrepresent that all records relating to the transferredstock, including the trust’s records, will be madeavailable for inspection by the Service for theperiod ending 3 years from the date on which Jfiles a U.S. income tax return for the year inwhich he recognizes the deferred gain as a resultof a direct or indirect disposition of the stock byFT. J must also represent that all records relatingto his beneficial interest in FT will be madeavailable for inspection by the Service for the

period ending 3 years from the date(s) on which Jfiles a U.S. income tax return for the year(s) inwhich he recognizes any income or gain from hisbeneficial interest in FT.

SECTION VI. CONTRIBUTIONS TOCONTROLLED FOREIGNCORPORATIONS

Background.Section 877(d)(4) gener-ally provides that when an expatriatecontributes U.S. source property (‘‘con-tributed property’’) to a corporation thatwould be a controlled foreign corpora-tion (as defined in section 957) and theindividual would be a United Statesshareholder (as defined in section951(b)) but for the individual’s expatria-tion, then any income or gain on suchproperty (or any other property that hasa basis determined in whole or in partby reference to such property) receivedor accrued by the corporation during the10-year period following expatriationshall be treated as received or accrueddirectly by the individual and not by thecorporation. If the individual disposes ofany stock in the corporation (or otherstock that has a basis determined inwhole or part by reference to suchstock) during the 10-year period referredto in section 877(a) and while thecontributed property is held by the cor-poration, the individual is taxable on thegain that would have been recognizedby the corporation had it sold a pro ratashare of the property (determined bycomparing the value of the stock dis-posed of to the value of the stock heldby the individual immediately prior tothe disposition) immediately before thedisposition. Section 877(d)(4)(D) pro-vides that the Secretary may prescribesuch regulations as may be necessary toprevent the avoidance of the purposes ofsection 877(d)(4), including where theproperty is sold to the corporation andwhere the contributed property is soldby the corporation. Section 877(d)(4)(E)provides that the Secretary shall requiresuch information reporting as is neces-sary to carry out the purposes of section877(d)(4).Anti-abuse rules and reporting re-

quirement.Treasury and the Service in-tend to issue regulations under sections877(d)(4)(D) and (E) that extend the10-year period referred to in section877(d)(4), set forth reporting require-ments, and provide anti-abuse rules in-tended to prevent individuals from uti-lizing controlled foreign corporations tohold or dispose of property that wouldotherwise produce income or gain fromsources within the United States. The

regulations will provide that if an indi-vidual acts with a principal purpose toavoid section 877(d)(4), then the Com-missioner may redetermine the U.S. taxconsequences of that action as appropri-ate to achieve the purposes of section877(d)(4). The regulations will apply toindividuals who expatriate after Febru-ary 5, 1995, and to individuals subjectto section 511(g)(3)(A) of the Act (seesection X of this notice).Until regulations are issued, individu-

als must comply with the rules set forthbelow. Individuals must apply section877(d)(4) by substituting the 15-yearperiod beginning five years prior toexpatriation for the 10-year period re-ferred to in section 877(d)(4). However,section 877(d)(4) will not apply to anycontribution during the 5-year periodprior to expatriation if the contributionoccurred prior to February 24, 1997.Moreover, an individual who makes a

contribution described in section877(d)(4)(A)(i) must attach the follow-ing information to the individual’s U.S.tax return for the year in which suchcontribution occurs (whether or not theindividual is otherwise required to file aU.S. tax return):(1) the date of the contribution;(2) a description of the property con-

tributed, including a good faith estimateof its fair market value (formal apprais-als are not required) and a statement ofits adjusted basis for U.S. tax purposeson the date of the contribution;(3) a description of the foreign corpo-

ration to which the property is contrib-uted, including its name, address, placeof incorporation, and its U.S. employeridentification number, if any; and(4) a description of the percentage

interest, by vote and by value, owned ortreated as owned by the individual undersection 958 (determined as if such indi-vidual were a U.S. person).If a contribution occurs prior to expa-

triation, this statement must be attachedto the individual’s U.S. income taxreturn for the taxable year of the indi-vidual’s expatriation. If a contributionoccurred prior to 1996, the individualmust attach this statement to the indi-vidual’s 1996 U.S. tax return (whetheror not the individual is otherwise re-quired to file a U.S. tax return).

SECTION VII. ANNUALINFORMATION REPORTING

Background.Section 6001 generallyprovides that the Secretary may requireany person, by notice upon such person

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or by regulations, to make such returns,render such statements, or keep suchrecords as the Secretary deems sufficientto show whether or not the person isliable for tax under the Code. Section6011(a) generally provides that any per-son who is liable for tax imposed by theCode, or with respect to the collectionthereof, shall make a return or statementaccording to forms and regulations pre-scribed by the Secretary. Section6012(a)(1) generally provides that everyindividual whose gross income for thetaxable year equals or exceeds the ex-emption amount must file a U.S. incometax return for such year. Section6012(a)(1) further provides, in part, thatnonresident individuals subject to taximposed by section 871 may be ex-empted from making returns under sec-tion 6012 subject to conditions, limita-tions, and exceptions and under suchregulations as may be prescribed by theSecretary. Treas. Reg. § 1.6012–1(b)(2)(i) generally provides, in part,that a nonresident alien individual whowas not engaged in a trade or businessin the United States during a taxableyear is not required to file a return forsuch year if the nonresident’s tax liabil-ity for the year is fully satisfied by thewithholding of tax at the source underChapter 3 of the Code.Section 874(a) generally provides that

a nonresident alien individual will re-ceive the benefit of deductions andcredits allowed to him by Subtitle A ofthe Code only if such individual files atrue and accurate return, including allthe information that the Secretary maydeem necessary for the calculation ofsuch deductions and credits.Annual reporting of income.Because

an individual who is liable for U.S.taxes is generally required to file areturn and other such statements as theSecretary may prescribe, Treasury andthe Service intend to issue regulationsunder section 877 that will require expa-triates who are liable for tax to annuallyreport certain information for the 10-year period following expatriation. Untilthe issuance of such regulations, taxpay-ers must report information in compli-ance with the rules set forth below andany other information that the Secretarymay require at a later date. At such timethat Form 1040NR is modified to reflectthe rules described below, taxpayersmust report information in accordancewith the instructions to Form 1040NRinstead of the procedures described be-low. The rules below apply to expatri-ates who are subject to section 877 as in

effect before the Act, as well as thosesubject to section 877 as revised by theAct.Beginning with the 1996 taxable year,

an individual who expatriated with aprincipal purpose to avoid U.S. taxesunder section 877 as in effect before theAct must annually file a U.S. incometax return (Form 1040NR), with theinformation described below, for eachyear of the remaining 10-year periodfollowing expatriation if such individualis liable for U.S. tax under any provi-sion of the Code (e.g., section 871(a))for such year. An individual who expa-triated with a principal purpose to avoidU.S. taxes under section 877 asamended by the Act must also annuallyfile a U.S. income tax return (Form1040NR), with the information de-scribed below, for each year of the10-year period following expatriation ifsuch individual is liable for U.S. taxunder any provision of the Code (e.g.,section 871(a)) for such year.3

The return must bear the statement‘‘Expatriation Return’’ across the top ofpage 1 of Form 1040NR. In addition, astatement must be attached to the returnthat sets forth by category (e.g., divi-dends, interest, etc.) all items of U.S.and foreign source gross income(whether or not taxable in the UnitedStates). The statement must identify thesource of such income (determined un-der section 877 as modified by sectionV of this notice) and those items ofincome subject to tax under section 877.In addition, any expatriate who has notpreviously filed an information state-ment under section 6039F should alsoattach to his or her first nonresidentreturn a statement containing the infor-mation described in section IX of thisnotice.Treasury and the Service intend to

amend Treas. Reg. § 1.6012–1(b)(2)(i)in accordance with the rules of thisnotice. Until the regulation is modified,an expatriate who is otherwise requiredto report information in accordance withthis section of the notice must attach astatement to Form 1040NR, even if theindividual has fully satisfied his or hertax liability through withholding of taxat source.An expatriate who fails to furnish a

complete statement in any year forwhich he or she is liable for any U.S.taxes will not be considered to have

filed a true and accurate return. There-fore, such an individual will not beentitled to the benefit of any deductionsor credits if the individual’s tax liabilityfor that year is later adjusted. Seesection 874(a).An individual who is required to file

the above statement for the taxable yearthat begins in 1995 will be consideredto have timely filed his or her statementfor that year if the individual files suchstatement by the due date (includingextensions) for filing the individual’sU.S. income tax return for the taxableyear that begins in 1996.

SECTION VIII. INTERACTION WITHTAX TREATIES

Background.The legislative history ofthe Act indicates that Congress believedthat section 877, as amended, is gener-ally consistent with the underlying prin-ciples of U.S. income tax treaties to theextent that section 877 provides for aforeign tax credit for items taxed byanother country. To the extent that thereis a conflict with U.S. income taxtreaties in force on August 21, 1996 (thedate of enactment of section 877), Con-gress intended that ‘‘the purpose ofsection 877, as amended...[is] not to bedefeated by any treaty provision.’’ H.R.Rep. No. 496, 104th Cong., 2d Sess.155 (1996). See also, H.R. Conf. Rep.No. 736, 104th Cong., 2d Sess. 329(1996). However, any conflicting treatyprovisions that remain in force 10 yearsafter August 21, 1996, will take prece-dence over section 877, as revised. Id.Coordination with tax treaties.In ac-

cordance with Congressional intent,Treasury and the Service will interpretsection 877 as consistent with U.S.income tax treaties. To the extent thatthere is a conflict, however, all provi-sions of section 877, as amended, pre-vail over treaty provisions in effect onAugust 21, 1996. This coordination ruleis effective until August 21, 2006, andapplies to those provisions of section877 that were amended by the Act aswell as those that were not amended bythe Act. In addition, Treasury and theService will interpret all treaties,whether or not in force on August 21,1996, that preserve U.S. taxing jurisdic-tion with respect to former U.S. citizensor former U.S. long-term residents whoexpatriate with a principal purpose toavoid U.S. taxes as consistent with theprovisions of section 877, as amended.

3 Individuals should refer to Treas. Reg. § 1.6012–1(b)(2)(ii) for guidance on how to file a U.S.income tax return for the taxable year of theindividual’s expatriation.

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SECTION IX. INITIAL INFORMATIONREPORTING

Background. Section 6039F(a) re-quires each individual who loses U.S.citizenship to provide an informationstatement to the U.S. Department ofState or a federal court, as applicable.The information reporting requirementsof section 6039F apply to individualswho expatriate after February 5, 1995,and to individuals subject to section511(g)(3)(A) of the Act (see section Xof this notice).Section 6039F(a)(1) requires that this

information must be provided not laterthan the earliest date on which suchindividual (1) renounces the individual’sU.S. nationality before a diplomatic orconsular officer of the United States, (2)furnishes to the U.S. Department ofState a statement of voluntary relin-quishment of U.S. nationality confirm-ing an act of expatriation, (3) is issued acertificate of loss of U.S. nationality bythe U.S. Department of State, or (4)loses U.S. nationality because the indi-vidual’s certificate of naturalization iscancelled by a U.S. court (collectively,the ‘‘reporting date’’).Section 6039F(b) requires a former

citizen to report his taxpayer identifica-tion number, mailing address of princi-pal foreign residence, foreign country inwhich the individual is residing, foreigncountry of citizenship, information onthe individual’s assets and liabilities ifsuch individual’s net worth exceeds$500,000 (as adjusted by section 1(f)(3)for taxable years after 1996), and suchother information as the Secretary mayprescribe. Section 6039F(f) requireslong-term residents who expatriate afterFebruary 5, 1995, to provide a similarstatement with their U.S. tax returns forthe taxable year of expatriation.If a former citizen fails to provide the

required information statement, section6039F(d) generally provides that theindividual will be subject to a penaltyequal to the greater of (1) five percentof the tax required to be paid undersection 877 for the taxable year endingduring such year, or (2) $1,000. Thepenalty will be assessed for each yearduring which such failure continues forthe 10-year period beginning on the dateof loss of citizenship. The penalty willnot be imposed if it is shown that suchfailure is due to reasonable cause andnot willful neglect. Section 6039F(f)also applies this penalty to former long-term residents.

Information Statements.Until suchtime that a form is issued for providingthe statement required by section 6039F,individuals must file an informationstatement that includes the informationset forth below.(1) A former U.S. citizen whose re-

porting date is on or before March 10,1997, must provide the informationstatement to the Internal Revenue Ser-vice, 950 L’Enfant Plaza SW, Washing-ton, D.C. 20224, ATTN: ComplianceSupport & Services, by June 8, 1997.Former U.S. citizens who furnished theinformation enumerated in section6039F(b) to the appropriate entity priorto February 24, 1997, are not requiredto provide an additional statement.(2) A former U.S. citizen whose re-

porting date is after March 10, 1997,and on or before June 8, 1997, mustprovide the information statement to (i)the American Citizens Services Unit,Consular Section, of the nearest Ameri-can Embassy or consulate, (ii) Office ofPolicy Review and Interagency Liaison(CA/OCS/PRI), Room 4817, Departmentof State, Washington D.C., 20520–4818, or (iii) a federal court (if theexpatriate’s certificate of nationality wascancelled by such court), on or beforeJune 8, 1997.(3) A former U.S. citizen whose re-

porting date is after June 8, 1997 mustprovide the information statement to the(i) American Citizens Services Unit,Consular Section, of the nearest Ameri-can Embassy or consul, or (ii) a federalcourt (if the expatriate’s certificate ofnationality was cancelled by such court)on or before such reporting date.(4) A former long-term resident who

expatriated after February 5, 1995, andbefore January 1, 1996, must attach theinformation statement to either a 1996Form 1040NR (whether or not the indi-vidual is otherwise required to file aU.S. tax return) or an amended 1995U.S. income tax return. To comply withnew section 877, an individual whose1995 tax liability changed as a result ofnew section 877 must amend the indi-vidual’s 1995 return accordingly andinclude the information statement withthat amended return. A former long-termresident who expatriated in the 1995taxable year will be deemed to havetimely furnished the information state-ment if a statement is filed by the duedate (including extensions) for filing theindividual’s 1996 return. A former long-term resident who expatriated after 1995must attach an information statement tothe former resident’s U.S. income tax

return for the year of expatriation.Former long-term residents who havealready furnished the information enu-merated in section 6039F(b) to the Inter-nal Revenue Service prior to February24, 1997, are not required to provide anadditional statement.Former citizens and former long-term

residents must include the followinginformation in their information state-ments:(1) name;(2) date of birth;(3) taxpayer identification number;(4) mailing address prior to expatria-

tion;(5) address where the individual re-

sided prior to expatriation, if differentfrom (4) above;(6) mailing address of principal for-

eign residence, if any;(7) address where the individual ex-

pects to reside after expatriation, ifdifferent from (6) above;(8) all foreign countries of which the

individual is a citizen and the dates andmethods by which such citizenship wasacquired;(9) the number of days (including

vacation and nonwork days) that theindividual was physically present in theUnited States during the year of expa-triation (up to and including the date onwhich the information statement is filed)and each of the two preceding taxableyears;(10) in the case of an individual

whose average annual net U.S. incometax (as defined in section 38(c)(1)) forthe five taxable years prior to expatria-tion exceeded $100,000, the net U.S.income tax for each of these years(rounded to the nearest $50,000). If theindividual’s average annual net U.S.income tax liability for the precedingfive taxable years did not exceed$100,000, the individual must provide arepresentation to that effect;(11) in the case of an individual with

gross assets that have an aggregate fairmarket value in excess of $500,000, abalance sheet, using good faith estimatesof fair market values (formal appraisalsare not required), that sets forth bycategory (e.g., cash, marketable securi-ties, closely-held stock, business assets,qualified and nonqualified deferred com-pensation arrangements, individual re-tirement accounts, installment obliga-tions, U.S. real property, foreign realproperty, etc.) the individual’s assets andliabilities immediately prior to expatria-tion. The balance sheet must also setforth the following:

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(i) the source of income and gain,without applying the provisions of sec-tion 877, that such property would havegenerated during the 5-year period priorto expatriation and immediately afterexpatriation,(ii) the source of income and gain,

assuming that the provisions of section877 applied (as modified by section Vof this notice), that such property wouldhave generated during the 5-year periodprior to expatriation and immediatelyafter expatriation, and(iii) the gain or loss that would be

realized if the assets were sold for theirfair market values on the date of expa-triation.The individual must separately list

(not by category) each partnership inwhich the individual holds an interest,each trust that the individual is consid-ered to own under sections 671 through679, each trust that the individual isconsidered to own under Chapter 12 ofSubtitle B of the Code, and each trust inwhich the individual holds a beneficialinterest (as determined under the proce-dures described in section III of thisnotice). The individual must also de-scribe the types of assets held by eachpartnership or trust, and indicate themethodology (as described in section IIIof this notice) used to determine theindividual’s beneficial interest in eachtrust. In addition, the individual shouldindicate whether there have been signifi-cant changes in the individual’s assetsand liabilities for the period that beganfive years prior to expatriation and endson the date that the information state-ment is filed. If so, the individualshould attach a statement explaining thechanges in the individual’s assets andliabilities during such period;(12) in the case of a former long-

term U.S. resident, a representation as towhether the former resident was treatedas a resident of a foreign country undera U.S. income tax treaty for any year inthe preceding 15 years. If so, the indi-vidual must list the foreign countriesand years when this occurred. The indi-vidual must also list any year(s) that theformer resident waived the benefits ofthat treaty; and(13) a representation, signed under

penalties of perjury by the individual,that the facts contained in the informa-tion statement are true, correct and com-plete to the best of the individual’sknowledge and belief.An individual who timely files a

statement in accordance with the aboveguidelines will not be subject to the

penalties described in section 6039F(d).All individuals whose reporting datesoccur after such time that a form isissued for reporting information undersection 6039F must complete and sub-mit that form to comply with theirreporting requirements under section6039F.

SECTION X. TRANSITIONPROVISION

Background.Sections 877 and 6039Fgenerally apply to individuals who expa-triate after February 5, 1995. However,section 511(g)(3)(A) of the Act providesa special transition provision in the caseof a former citizen who performed anexpatriating act specified in paragraph(1), (2), (3), or (4) of section 349(a) ofthe Immigration and Nationality Act (8U.S.C. 1481(a)(1)–(4)) before February6, 1995, but who did not on or beforesuch date furnish to the U.S. Depart-ment of State a signed statement ofvoluntary relinquishment of U.S. nation-ality confirming the performance ofsuch act. Such an individual would notcome within the general effective dateof the amendments to sections 877 and6039F because, under the provisions fordetermining the date of loss of citizen-ship (which were not modified by theAct), the date of loss of citizenship isretroactive to the date of the expatriatingact (i.e., prior to February 6, 1995). SeeTreas. Reg. § 1.1–1(c).The transition provision states that

section 6039F and the amendmentsmade to section 877 by the Act shallapply to such an individual, except thatthe 10-year period referred to in section877(a) shall not expire before the end ofthe 10-year period beginning on the datethe signed statement of voluntary relin-quishment is furnished to the U.S. De-partment of State. Thus, such an indi-vidual is subject to new section 877 asof the date of loss of citizenship and the10-year period referred to in section877(a) shall not expire before the end ofthe 10-year period beginning on the datethe signed statement of voluntary relin-quishment is furnished to the U.S. De-partment of State.Section 511(g)(3)(B) of the Act states

that the transition provision of section511(g)(3)(A) will not apply if the indi-vidual establishes to the satisfaction ofthe Secretary of the Treasury that theindividual’s loss of U.S. citizenship oc-curred before February 6, 1994. Accord-ingly, section 6039F will not apply tosuch an individual and he will be sub-

ject to section 877 as in effect beforethe amendments made by the Act.Example.The following example il-

lustrates the application of section511(g)(3)(A) of the Act.Example 10. K joined a foreign army on

October 1, 1994, with the intent to relinquish hisU.S. citizenship, but did not furnish a statement ofvoluntary relinquishment of citizenship to the U.S.Department of State until October 1, 1995. K issubject to new section 877 beginning on October1, 1994, the date that K performed the expatriatingact. However, the 10-year period referred to insection 877(a) will not expire before the end ofthe 10-year period beginning on the date that Kfurnished a statement of voluntary relinquishmentof citizenship to the U.S. Department of State. Kfurnished this statement on October 1, 1995. Thus,K is subject to new section 877 for the period thatbegan on October 1, 1994, and ends on September30, 2005.

Special rule for individuals who claimto be within the exception under section511(g)(3)(B) of the Act.An individualwho (i) furnished a signed statement ofvoluntary relinquishment of U.S. nation-ality to the U.S. Department of Stateafter February 5, 1995, and (ii) claimsthat new section 877 does not applybecause of the exception to the transi-tion provision in section 511(g)(3)(B) ofthe Act, must (whether or not the indi-vidual is otherwise required to file aU.S. tax return) attach a statement toForm 1040NR for the year in which thesigned statement of voluntary relinquish-ment is furnished to the U.S. Depart-ment of State (or to the individual’s1996 Form 1040NR if the statement ofvoluntary relinquishment was furnishedduring 1995). The return must bear thestatement ‘‘Expatriation Return’’ acrossthe top of page 1 of such return. Thestatement attached to the return mustinclude the nature and date of theexpatriating act, the date the signedstatement of voluntary relinquishmentwas furnished to the U.S. Department ofState, and a copy of the individual’scertificate of loss of nationality. Anindividual who does not file a statementin the manner prescribed above will notbe considered to have established to thesatisfaction of the Secretary of the Trea-sury that the individual lost U.S. citizen-ship before February 6, 1994.

SECTION XI. INTERACTION WITHSECTION 7701(b)(10)Background.Section 7701(b)(10) ap-

plies to an alien individual who wastreated as a resident of the United Statesduring any period that includes at leastthree consecutive calendar years (the‘‘initial residency period’’) and ceased tobe treated as a U.S. resident, but subse-

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quently becomes a U.S. resident beforethe close of the third calendar yearbeginning after the initial residency pe-riod. Under section 7701(b)(10), such anindividual will be taxed in the mannerprovided by section 877(b) for the pe-riod after the close of the initial resi-dency period and before the date onwhich the individual subsequently be-comes a U.S. resident. This provisionapplies only if the tax imposed pursuantto section 877(b) exceeds the tax im-posed under section 871.Application of section 7701(b)(10).

An individual described in section7701(b)(10) will be subject to tax onU.S. source income in the manner pro-vided by section 877(b) (as modified bysection 877(d)) for the period after theclose of the initial residency period andbefore the date on which the individualsubsequently becomes a U.S. resident(the ‘‘intervening period’’). Because thetax imposed by reason of section7701(b)(10) applies regardless ofwhether the individual had a principalpurpose to avoid U.S. taxes, sections877(a), (c), and (f), as amended, do notapply to an individual who is subject totax in the manner provided by section877(b) solely by reason of section7701(b)(10).Section 877(e) also does not generally

apply to an individual who is subject totax in the manner provided by section877(b) solely by reason of section7701(b)(10). However, to treat formerresidents who are subject to tax byreason of section 7701(b)(10) in a simi-lar manner as former long-term residentswho are subject to section 877, allproperty held by an individual on thedate that such individual first became aresident of the United States shall betreated solely for purposes of section7701(b)(10) as having a basis of not lessthan the fair market value of the prop-erty on such date, unless the individualelects not to have this treatment apply.Reporting requirements for individu-

als subject to section 7701(b)(10).Anindividual who is liable for U.S. tax byreason of section 7701(b)(10) duringany year of the intervening period mustfile U.S. income tax returns (Form1040NR) reporting such tax liability foreach of those years by the due date(including extensions) for filing the indi-vidual’s U.S. income tax return for theyear that the individual subsequentlybecomes a U.S. resident. If tax returnsfor the years of the intervening periodhave already been filed, the individual

must amend those returns accordingly tocomply with section 7701(b)(10).An individual described in section

7701(b)(10) who is liable for U.S. taxesunder any provision of the Code duringthe intervening period (e.g., section871(a)) must attach a statement to his orher U.S. tax return that sets forth, bycategory (e.g., dividends, interest, etc.),all items of U.S. and foreign sourcegross income (whether or not taxable inthe United States) derived during eachyear of the intervening period. Suchstatement must identify the source ofsuch income (determined under section877 as modified by section V of thisnotice), the items of income subject totax in the manner provided by section877(b), and any other information thatthe Secretary may prescribe at a laterdate.The statement must be filed even if

the individual has fully satisfied his orher U.S. tax liability for a taxable yearthrough withholding at source. As dis-cussed in section VII of this notice,Treasury and the Service expect tomodify Treas. Reg. § 1.6012–1(b)(2)(i)in accordance with rules of this notice.Any individual who fails to furnish a

complete statement, as described above,for the years of the intervening periodwill not be considered to have filed atrue and accurate return. Therefore, suchan individual will not be entitled to thebenefit of any deductions or credits ifthe individual’s return is later adjusted.See section 874(a).An individual who is required to file

the above statement for the taxable yearthat begins in 1995 will be consideredto have timely filed his or her statementfor that year if the individual files suchstatement by the due date (includingextensions) for filing the individual’sU.S. income tax return for the taxableyear during which the individual subse-quently becomes a U.S. resident.Exchanges under section 877(d)(2)

and contributions under section877(d)(4).An individual subject to taxby reason of section 7701(b)(10) mustrecognize any gain realized during theintervening period on exchanges ofproperty described in section 877(d)(2),unless the individual enters into a gainrecognition agreement in accordancewith section V of this notice. The gainrecognition agreement must be submit-ted with the individual’s U.S. incometax return (Form 1040NR) for the yearof the exchange. The gain recognitionagreement and the return must be filedby the due date (including extensions)

for filing the individual’s U.S. incometax return for the year during which theindividual subsequently becomes a U.S.resident. If a tax return for the year ofthe exchange has already been filed, theindividual must amend that return andattach a gain recognition agreement tothe amended return to comply withsection 7701(b)(10).The period of such a gain recognition

agreement will be for the interveningperiod, and not the 15-year period be-ginning five years prior to expatriation.Moreover, annual certification is notrequired. Rather, the individual mustsubmit with the gain recognition agree-ment a certification that the acquiror (ifany) has not disposed of the transferredproperty, and that the individual did notdispose of the property acquired in theexchange (or any other property that hasa basis determined in whole or in partby reference to such property). In addi-tion, the certification must also statewhether the individual derived any in-come or gain from the property acquiredin the exchange during the interveningperiod.If any property to which the gain

recognition applies was disposed of dur-ing any year of the intervening period,the individual must recognize gain forthe year of disposition. Any income orgain derived during the intervening pe-riod from a contribution described undersection 877(d)(4) must also be recog-nized for the relevant year. However,section 7701(b)(10) will not cause anindividual to recognize any income orgain with respect to any exchange undersection 877(d)(2) or contribution ofproperty under section 877(d)(4) thatoccurred prior to the beginning of theindividual’s initial residency period orafter the date on which the individualsubsequently becomes a U.S. resident.Example.The following example il-

lustrates how section 7701(b)(10) inter-acts with section 877 and when incomethat arises by reason of section7701(b)(10) must be recognized.Example 11.L was a resident alien of the

United States in 1994, 1995 and 1996 because shesatisfied the substantial presence test of section7701(b)(3) for each of those years. In 1997 and1998, L was not a resident of the United States. In1999, L re-establishes residency in the UnitedStates. L is subject to tax in the manner providedby section 877(b) by reason of section7701(b)(10). On February 1, 1997, L contributedproperty to a ‘‘controlled foreign corporation’’ in atransaction described in section 877(d)(4).Any income or gain derived from the property

that L contributed to the foreign corporationduring the intervening period is subject to tax inthe manner provided by section 877(d)(4). Thus, L

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must report such income or gain by filing incometax returns for 1997 and 1998 by the due date(including extensions) for filing her 1999 U.S.income tax return. If income tax returns for 1997and 1998 have already been filed, L must amendthose returns to comply with section 7701(b)(10).Any income or gain derived after the interveningperiod is not taxable under section 877(d)(4).

Coordination with income tax treaties.The rules of section VIII (interactionwith tax treaties) of this notice do notapply to an individual who is subject totax in the manner provided by section877(b) solely by reason of section7701(b)(10). Accordingly, such an indi-vidual may claim benefits under a U.S.income tax treaty for transactions thatoccur during the intervening period ifsuch individual is otherwise eligible forbenefits as a foreign resident under theterms of such treaty.Effective date.New section 877 will

apply to an individual subject to taxthereunder by reason of section7701(b)(10) if the individual’s initialresidency period ended after August 20,1996.

REQUEST FOR COMMENTS

Treasury and the Service invite publiccomments on the guidance provided inthis notice. Comments should be submit-ted by June 8, 1997, to:Internal Revenue ServiceP.O. Box 7604Ben Franklin StationAttn: CC:CORP:T:R, (Notice 97–19)Room 5228Washington, D.C. 20044;

or, alternatively, via the internet at:http://www.irs.ustreas.gov/prod/tax_regs/comments.htmlThe comments you submit will be

available for public inspection and copy-ing.


The principal authors of this noticeare Trina L. Dang and Michael Kirschof the Office of Associate Chief Counsel(International). For further informationregarding this notice, contact Ms. Dangor Mr. Kirsch at (202) 622–3860 (not atoll-free call).

PAPERWORK REDUCTION ACT

The collections of information con-tained in this notice have been reviewedand approved by the Office of Manage-ment and Budget in accordance with thePaperwork Reduction Act (44 U.S.C.3507) under control number 1545–1531.

An agency may not conduct or spon-sor, and a person is not required torespond to, a collection of informationunless the collection of information dis-plays a valid control number.The collection of information related

to the submission of ruling requests isrequired to help the Secretary make adetermination as to whether an indi-vidual expatriated with a principal pur-pose to avoid U.S. taxes. The collectionsof information related to gain recogni-tion agreements, initial information re-porting and reporting of informationwith respect to contributions to certainforeign controlled foreign corporationsare prescribed by statute. The collectionof annual reporting information is neces-sary to monitor compliance with theprovisions of section 877, as amended.The collections of information for indi-viduals subject to section 7701(b)(10)are necessary to administer the provi-sions of section 7701(b)(10) that interactwith section 877. This information willbe used by the Service for tax adminis-tration purposes.The respondents will be individuals

who lose U.S. citizenship, cease to betaxed as lawful permanent residents ofthe United States, or cease to be taxedas residents of the United States. Theestimated total annual burden for allrespondents is 6,300 hours. The esti-mated annual burden per respondentvaries from 0.5 hour to 2.5 hours,depending on individual circumstances,with an estimated average of 31 min-utes. The estimated number of responsesis 12,300. The estimated annual fre-quency of responses is annually or onoccasion.Books or records relating to collec-

tions of information must be retained aslong as their contents may become ma-terial in the administration of any inter-nal revenue law. Generally, tax returnsand tax return information are confiden-tial, as required by section 6103 of theCode.

Waiver of Certain Limitations onObtaining Automatic Consent ToChange an Accounting Period andElect To Be an S CorporationEffective January 1, 1997

Notice 97–20

SUMMARY: The Internal Revenue Ser-vice waives certain limitations on acorporation’s ability to automaticallychange its annual accounting period inorder to elect to be an S corporation

under § 1362(a) of the Internal RevenueCode effective for the taxable year be-ginning January 1, 1997.

BACKGROUND: Pursuant to § 1378,an S corporation generally must have acalendar year as its tax year. However, acorporation may not automaticallychange its annual accounting period to acalendar year if it attempts to elect to bean S corporation effective for the tax-able year immediately following theshort period required to effect thechange.See § 1.442–1(c)(2)(v) of theIncome Tax Regulations; Rev. Proc. 92–13, 1992–1 C.B. 665, section 4.01(5). Inaddition, a corporation is precluded un-der § 1.442–1(c)(2)(i) from automati-cally changing its annual accountingperiod if the corporation has changed itwithin the last ten calendar years, andunder Rev. Proc. 92–13, section 4.01(2),if the corporation has changed it withinthe last six calendar years.

The Small Business Job ProtectionAct of 1996 (SBJPA), Pub. L. No.104–188, 110 Stat. 1755, significantlyamended Subchapter S of the Code,expanding eligibility to elect to be an Scorporation. These amendments gener-ally are effective for taxable years be-ginning after December 31, 1996, andare intended to allow more corporationsto elect to be S corporations as ofJanuary 1, 1997.

WAIVER OF LIMITATIONS: Consis-tent with this intent, the Service waivesthe limitations of §§ 1.442–1(c)(2)(i)and (c)(2)(v), and of sections 4.01(2)and 4.01(5) of Rev. Proc. 92–13, on acorporation’s ability to automaticallychange its annual accounting period to acalendar year effective for the shortperiod ending December 31, 1996, pro-vided that the corporation:(1) is otherwise eligible to change its

annual accounting period under either§ 1.442–1(c) or Rev. Proc. 92–13;(2) timely and otherwise validly

elects to be an S corporation effectivefor the taxable year beginning on Janu-ary 1, 1997; and(3) follows the special filing proce-

dures set forth below.

FILING PROCEDURES: A corporationthat relies upon this notice to change itsannual accounting period under either§ 1.442–1(c) or Rev. Proc. 92–13 must:(1) properly complete a Form 2553,

Election by a Small Business Corpora-tion;

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(2) properly complete a Form 1128,Application to Adopt, Change or Retaina Tax Year, and attach it to the Form2553;(3) write ‘‘FILED UNDER NOTICE

97–20’’ at the top of both the Form2553 and the Form 1128; and(4) timely file the Form 2553 (with

the attached Form 1128) with the appro-priate Internal Revenue Service Center(Attention: ENTITY CONTROL) in ac-cordance with the instructions for Form2553. A corporation that qualifies toautomatically change its annual account-ing period under § 1.442–1(c) as aresult of this notice should not file thestatement required by § 1.442–1(c)(1).

DRAFTING INFORMATION: The prin-cipal author of this notice is Susie K.Bird of the Office of Assistant ChiefCounsel (Income Tax and Accounting).For further information, contact Ms.Sandra Cheston at (202) 622–4840 (nota toll-free call).

PAPERWORK REDUCTION ACT: Thecollections of information contained inthis notice have been reviewed andapproved by the Office of Managementand Budget in accordance with the Pa-perwork Reduction Act (44 U.S.C.3507) under control number 1545–1532.An agency may not conduct or spon-

sor, and a person is not required torespond to, a collection of informationunless the collection of information dis-plays a valid OMB control number.The collections of information in this

notice are in the FILING PROCE-DURES section of this notice. Thisinformation is required by the Service toimplement the provisions of the SmallBusiness Job Protection Act of 1996expanding eligibility to elect to be an Scorporation. The collections of informa-tion are mandatory for a taxpayer thatchooses to change its annual accountingperiod to a calendar year effective forthe short period ending December 31,1996, and elect to be an S corporationeffective for the taxable year beginningJanuary 1, 1997. The likely respondentsare corporations.The estimated total annual reporting

burden is 500 hours.The estimated annual burden per re-

spondent will vary from 1 minute to 2minutes, depending on individual cir-cumstances, with an estimated averageof 1.5 minutes. The estimated number ofrespondents is 20,000. The estimatedfrequency of responses is once.Books or records relating to a collec-

tion of information must be retained as

long as their contents may become ma-terial in the administration of any inter-nal revenue law. Generally tax returnsand tax return information are confiden-tial, as required by 26 U.S.C. 6103.

26 CFR 601.204: Changes in accounting periodand in methods of accounting.(Also Part I, §§ 166, 446, 481, 585, 1362, 1374;1.446–1, 1.1374–4)

Rev. Proc. 97–18

SECTION 1. PURPOSE

This revenue procedure providesguidance for any bank as defined in§ 581 of the Internal Revenue Code(except any large bank as defined in§ 585(c)(2)) that seeks to change itsmethod of accounting for bad debtsfrom the § 585 reserve method to the§ 166 specific charge-off method so thatit may elect S corporation status for thetax year beginning in 1997.

SECTION 2. BACKGROUND

.01 Section 1315 of the Small Busi-ness Job Protection Act of 1996, Pub. L.No. 104–188, 110 Stat. 1755, amended§ 1361(b)(2) to allow banks (as definedin § 581) that do not use the reservemethod of accounting for bad debts toqualify as small business corporations(and therefore qualify to elect S corpo-ration status), effective for tax yearsbeginning after December 31, 1996..02 Notice 97–5, 1997–2 I.R.B. 25,

states that the Service will issue addi-tional guidance granting permission foran automatic change in method of ac-counting for banks that change from thereserve method of accounting..03 Except as otherwise expressly

provided, a bank must obtain the con-sent of the Commissioner of InternalRevenue to change a method of ac-counting for federal income tax pur-poses. To obtain this consent, a Form3115 (Application for Change in Ac-counting Method) generally must befiled within 180 days after the beginningof the tax year in which the proposedchange is to be made. Section 446(e)and § 1.446–1(e)(2)(i) and (3)(i) of theIncome Tax Regulations..04 The Commissioner is authorized

to prescribe administrative proceduressetting forth the limitations, terms, andconditions the Commissioner deemsnecessary to obtain consent for effectinga change in method of accounting andto prevent amounts from being dupli-cated or omitted, including the tax year

or years in which the § 481(a) adjust-ment is to be taken into account. Section1.446–1(e)(3)(ii)..05 In computing taxable income,

§ 481(a) requires a bank to take intoaccount those adjustments necessary toprevent amounts from being duplicatedor omitted when the bank’s taxableincome is computed under a method ofaccounting different from the methodused to compute taxable income for thepreceding tax year.

SECTION 3. SCOPE

This revenue procedure applies to anybank as defined in § 581 (except anylarge bank as defined in § 585(c)(2))that seeks to change its method ofaccounting for bad debts from the § 585reserve method to the § 166 specificcharge-off method, effective for its firsttax year beginning after December 31,1996 (1997 tax year), in order to elect Scorporation status for its 1997 tax year.

SECTION 4. AUTOMATICPROCEDURE

.01 A bank, to which this revenueprocedure applies, that elects under§ 1362 to become an S corporation byfiling a Form 2553 (Election by a SmallBusiness Corporation) effective for its1997 tax year will be deemed to haveelected to change its method of account-ing for bad debts from the § 585 re-serve method to the § 166 specificcharge-off method effective for its 1997tax year (year of change) and to haveagreed to all the terms and conditions ofthis revenue procedure..02 The bank must file a Form 2553

within the first 2 months and 15 days ofthe first day of its 1997 tax year for theS corporation election to be effective forits 1997 tax year..03 In accordance with § 1.446–

1(e)(3)(ii), the requirement to file anapplication on Form 3115 within the180-day period provided in § 1.446–1(e)(3)(i) is waived for any applicationfor change in method of accountingfiled pursuant to this revenue procedure.In addition, under § 1.446–1(e)(2)(i),the consent of the Commissioner ishereby granted to any bank within thescope of this revenue procedure tochange its method of accounting for baddebts, in accordance with this revenueprocedure, from the § 585 reservemethod to the § 166 specific charge-offmethod for the bank’s 1997 tax year..04 A bank that uses this revenue

procedure to change its method of ac-

53

counting for bad debts from the § 585reserve method to the § 166 specificcharge-off method may not later useRev. Proc. 85–8, 1985–1 C.B. 495, toreturn to the § 585 reserve method..05 A bank changing its method of

accounting under this revenue procedurealso must file a Form 3115 in duplicate.The original Form 3115 must be at-tached to the bank’s timely filed (includ-ing extensions) S corporation federalincome tax return for its 1997 tax year.In addition, a copy of the Form 3115must be filed with the national officeaddressed to the Commissioner of Inter-nal Revenue, Attention: Office of Assis-tant Chief Counsel (Financial Institu-tions and Products) CC:DOM:FI&P,P.O. Box 7604, Benjamin Franklin Sta-tion, Washington, D.C. 20044, no laterthan the date the original Form 3115 isfiled with the 1997 S corporation federalincome tax return. No user fee is re-quired for a Form 3115 filed under thisrevenue procedure. A Form 3115 filedpursuant to this revenue procedure willnot be acknowledged..06 In addition to the filing require-

ments in section 4.05 of this revenueprocedure, a bank that is under examina-tion at any time between February 19,1997, and the due date for filing itsoriginal federal income tax return (in-cluding extensions) for its 1997 tax yearmust provide a copy of the Form 3115to the examining agent no later than theearlier of (i) 180 days after February 19,1997, or for a bank that is not underexamination on February 19, 1997, 180days after the bank first comes underexamination, or (ii) the date the bankmust file its original federal income taxreturn (including extensions) for its1997 tax year.

SECTION 5. SECTION 481(a)ADJUSTMENT

.01 As a condition of the change inmethod of accounting under this revenueprocedure, a bank must include theamount of its § 481(a) adjustment in itsincome, beginning with its 1997 taxyear, ratably over the lesser of 6 yearsor the number of years that the bank hasused the § 585 reserve method. Seesection 5.04 and 5.05 for exceptions tothe § 481(a) adjustment period..02 Generally, the amount of a bank’s

§ 481(a) adjustment for a change inmethod of accounting under this revenueprocedure is the amount of the bank’sreserve for bad debts as of the close ofthe tax year immediately before the year

of change. However, the amount of the§ 481(a) adjustment does not includethe amount of a bank’s pre-1988 re-serves (as described in § 593(g)(2)(A)-(ii), without taking into account§ 593(g)(2)(B)) if the bank changed ina prior year from the § 593 reservemethod to the § 585 reserve methodand § 593(g) applied to that change.The § 481(a) adjustment is recognizedbuilt-in gain under § 1374. See§ 1.1374–4(d). In addition, banksshould be aware of the effects of theinteraction between provisions speciallyapplicable to banks and provisions ofsubchapter S, for example, (i) §§ 593(e)and 1368 with respect to earnings andprofits, and (ii) §§ 593(e) and (g)(3)and 1374..03 A change in method of accounting

under this revenue procedure shall betreated as a voluntary change in methodof accounting that is initiated by thebank; and therefore, the § 481(a) adjust-ment is not restricted to post-1953items..04 A bank may elect to use a one-

year § 481(a) adjustment period if itsentire § 481(a) adjustment is less than$25,000. A bank that desires to elect thisone-year adjustment period must so in-dicate by checking the ‘‘Yes’’ box inQuestion 26 on its Form 3115 and mustinclude the entire § 481(a) adjustmentin its income for the 1997 tax year..05 A bank taking a § 481(a) adjust-

ment into account under this revenueprocedure that ceases being a bank asdefined in § 581 must include in itsincome for the tax year of the cessationany remaining balance of the § 481(a)adjustment.

SECTION 6. AUDIT PROTECTIONFOR CHANGE IN METHOD OFACCOUNTING

.01 A bank within the scope of thisrevenue procedure that timely complieswith all of the terms and conditions ofthis revenue procedure will have auditprotection (that is, the district directormay not propose that the bank changethe same method of accounting as themethod that the bank is changing underthis revenue procedure) for tax yearsbefore 1997 unless (1) the bank hasreceived written notification from anexamining agent (for example, by ex-amination plan, information documentrequest, notification of proposed adjust-ments or income tax examinationchanges) before February 19, 1997, spe-cifically citing as an issue under consid-

eration the bank’s reserve method ofaccounting for bad debts, or (2) thebank’s reserve method of accounting forbad debts was an issue under consider-ation by an appeals office or a federalcourt before February 19, 1997..02 The district director, however, will

verify the amount of the § 481(a) ad-justment and the § 481 adjustment pe-riod, and otherwise determine that thebank has fully complied with this rev-enue procedure.

SECTION 7. EXCLUSIVEPROCEDURE

.01 This revenue procedure is theexclusive procedure available to a bankwithin the scope of this revenue proce-dure to obtain the Commissioner’s con-sent to change its method of accountingfor bad debts from the § 585 reservemethod to the § 166 specific charge-offmethod. Any Form 3115 filed with thenational office under Rev. Proc. 92–20,1992–1 C.B. 685, by a bank that iswithin the scope of this revenue proce-dure, along with any user fee submitted,will be returned to the bank..02 The national office or district

director may review a bank’s Form 3115filed under this revenue procedure. If itis determined that the bank does notqualify for the change in method ofaccounting under this revenue proce-dure, the national office or the districtdirector will so advise the bank.

SECTION 8. FAILURE TO COMPLY

A bank to which this revenue proce-dure applies that changes its method ofaccounting for bad debts without com-plying with all of the applicable provi-sions of this revenue procedure will bedeemed to have initiated the changewithout obtaining the consent of theCommissioner as required by § 446(e)and will not have audit protection forprior years as provided in section 6.Accordingly, the district director maypropose to change the bank’s reservemethod in a prior year, and if the firstyear in which the bank improperly usesthe requested method of accounting isno longer open for the assessment of adeficiency of tax, the Commissionermay use the Commissioner’s statutorydiscretion to change the bank’s methodof accounting in a later year and imposean adjustment under § 481(a).

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SECTION 9. DEFINITIONS

Except as otherwise provided in thisrevenue procedure, the following termshave the meaning given to them by Rev.Proc. 92–20:Under examination (See section 3.02

of Rev. Proc. 92–20);Year of change (See section 3.03 of

Rev. Proc. 92–20); andFiled (See section 3.04 of Rev. Proc.

92–20).

SECTION 10. EFFECT ON OTHERREVENUE PROCEDURES

Rev. Proc. 85–8, 1985–1 C.B. 495, ismodified.

SECTION 11. EFFECTIVE DATE

This revenue procedure is effectiveonly for accounting method changes bya bank for which the 1997 tax year isthe year of change.


The principal authors of this revenueprocedure are Laura Howell of the Of-fice of Assistant Chief Counsel(Passthroughs and Special Industries)and Nicholas Bogos of the Office ofAssistant Chief Counsel (Financial Insti-tutions and Products). For further infor-mation regarding this revenue procedure,contact Ms. Howell at (202) 622–3060or Mr. Bogos at (202) 622–3920 (nottoll-free calls).

26 CFR 301.7502–1: Timely mailing treated astimely filing.

Rev. Proc. 97–19

CONTENTS

SECTION 1—PURPOSE

SECTION 2—BACKGROUND

SECTION 3—SCOPE

SECTION 4—CRITERIA FORDESIGNATION

SECTION 5—CONTENT OFAPPLICATION

SECTION 6—APPLICATIONADDRESSES

SECTION 7—APPLICATIONPERIODS

SECTION 8—NOTIFICATION OFDESIGNATION

SECTION 9—ADMINISTRATIVEREVIEW AND APPEAL PROCESSFOR DENIAL OF DESIGNATION

SECTION 10—SPECIAL RULES

SECTION 11—ADVERTISINGSTANDARDS FOR DESIGNATEDDELIVERY SERVICES

SECTION 12—MONITORING OFDESIGNATED DELIVERY SERVICESAND REVOCATION PROCEDURES

SECTION 13—EFFECTIVE DATE

SECTION 14—PAPERWORKREDUCTION ACT

SECTION 15—DRAFTINGINFORMATION

SECTION 1. PURPOSE

This revenue procedure provides thecriteria that will be used during theinterim period (defined in section 3.01of this revenue procedure) to determinewhether a private delivery service(‘‘PDS’’) qualifies as a designated pri-vate delivery service (‘‘designatedPDS’’) under § 7502(f) of the InternalRevenue Code. This revenue procedurealso provides the procedures underwhich a PDS can apply to become adesignated PDS during the interim pe-riod.

SECTION 2. BACKGROUND

.01 Generally, a document is consid-ered filed when it is received.See, e.g.,Emmons v. Commissioner, 92 T.C. 342,345–47 (1989),aff ’d, 898 F.2d 50 (5thCir. 1990) (tax returns were filed on thedate received because § 7502 did notapply). Section 7502 provides specialrules that apply when a document isrequired to be filed (or a payment isrequired to be made) within a prescribedperiod or on or before a prescribed dateunder the authority of any provision ofthe internal revenue laws. These rulescan apply to documents filed at officesof the Internal Revenue Service (‘‘Ser-vice’’) as well as the United States TaxCourt..02 Section 7502(a) provides the gen-

eral rule that if a document (or pay-ment) is delivered by the United Statesmail after the due date in a postageprepaid, properly addressed envelope,then the date of the United States post-mark is deemed to be the date ofdelivery (or the date of payment) if thedate of the postmark is on or before the

due date. (See § 7502(e) for specialrules regarding the mailing of deposits.).03 Section 7502(c) and

§§ 301.7502–1(c)(2) and (d)(1) of theProcedure and Administration Regula-tions provide the rules applicable toregistered and certified mail. If a docu-ment or payment is sent by registeredmail, the date of the registration istreated as the postmark date. If a docu-ment or payment is sent by certifiedmail, the date of the postmark on thesender’s receipt is treated as the post-mark date. Proof of proper registrationof a document, or that a postmarkcertified mail sender’s receipt was prop-erly issued for a document, is primafacie evidence of delivery of that docu-ment. For payments sent by registeredor certified mail, however, proof ofproper registration of an item, or that apostmark certified mail sender’s receiptwas properly issued for an item, is notprima facie evidence of delivery..04 Section 7502(d) provides excep-

tions to the general rule of § 7502. Thespecial filing and payment rules of§ 7502 do not apply to the following:(1) documents filed in, or payments

made to, any court other than the UnitedStates Tax Court;(2) currency or other medium of pay-

ment unless actually received and ac-counted for; and(3) documents or payments that are

required to be delivered by any methodother than by mailing..05 Section 1210 of the Taxpayer Bill

of Rights 2, Pub. L. No. 104–168, 110Stat. 1452, 1474–1475 (1996), amended§ 7502 by adding subsection (f). Priorto the amendment, the ‘‘timely mailingas timely filing/paying’’ rule of§ 7502(a) could not apply to documentsand payments delivered other than byUnited States mail. Section 7502(f) au-thorizes the Service to expand the‘‘timely mailing as timely filing/paying’’rule to documents and payments deliv-ered by certain PDSs. A PDS must bedesignated by the Service before it willqualify for the ‘‘timely mailing astimely filing/paying’’ rule. Section7502(f) also grants the Service authorityto accept the equivalent of registered orcertified mail services from designatedPDSs..06 In Announcement 96–108,

1996–44 I.R.B. 15, the Service invitedcomments, and provided notice of apublic hearing, with respect to develop-ing interim criteria for designating PDSsfor purposes of the ‘‘timely mailing astimely filing/paying’’ rule of § 7502. A

55

public hearing was held on December 6,1996. All comments were consideredduring the drafting of this revenue pro-cedure. The comments will also beconsidered during the drafting of perma-nent guidance.

SECTION 3. SCOPE

.01 This revenue procedure providesthe rules for designating a PDS duringthe interim period. The interim periodbegins on February 25, 1997, and endson the date on which the Service issuesguidance superseding this revenue pro-cedure..02 This revenue procedure provides

rules applicable for designation solelyfor purposes of § 7502(f)(2). During theinterim period, there will be no designa-tion for purposes of § 7502(f)(3) (ser-vices that are equivalent to UnitedStates registered or certified mail)..03 Designation will be determined

with respect to each type of deliveryservice offered by a PDS (e.g., nextbusiness morning delivery, next businessday delivery, etc.)..04 PDSs will not be designated until

the time specified in section 8.01 of thisrevenue procedure. Until such designa-tion is announced, the ‘‘timely mailingas timely filing/paying’’ rule of § 7502is available only with respect to itemssent by United States mail.

SECTION 4. CRITERIA FORDESIGNATION

The following criteria must be satis-fied for each type of delivery service forwhich designation is sought..01 The delivery service offered must

be available to the general public..02 The delivery service offered must

be at least as timely and reliable on aregular basis as United States First-ClassMail..03 The delivery service offered must

provide for the recording or marking ofthe date on which an item was given tothe PDS for delivery (the ‘‘receiveddate’’) under one of the following meth-ods.(1) The PDS must record electroni-

cally to its data base (kept in the regularcourse of its business) the received dateand enter into, and comply with, awritten agreement with the Service thataddresses the period for which such datamust be maintained and the terms andconditions under which the Service willbe provided with such data.(2) The PDS must indelibly mark the

received date on the cover of the item

so that it is readable by the human eyewithout mechanical assistance. A methoddoes not qualify if only the sender orthe sender’s agent (instead of the PDS)marks the received date..04 The delivery service offered must

provide for delivery to all street ad-dresses within the United States towhich documents and payments subjectto § 7502 must be sent (e.g., all Serviceoffices and the United States TaxCourt)..05 The delivery service offered must

have established security procedures thatprevent unauthorized access to the con-tents of an item by any person (e.g.,employees, contractors/agents, and thirdparties)..06 The name of the PDS and the

type of delivery service being used mustalways be clearly identified on eachitem delivered by the PDS to an officedescribed in § 7502..07 The PDS must comply with all

requirements of the Private ExpressStatutes (18 U.S.C. §§ 1693–1699 and39 U.S.C. §§ 601– 606). (See generally39 C.F.R. Parts 310 and 320.)

SECTION 5. CONTENT OFAPPLICATION

.01 To receive designation, a PDSmust submit a written application. If aPDS uses a single application to requestdesignation with respect to more thanone type of delivery service it offers, thePDS must include all of the requiredinformation for each type of deliveryservice..02 The application must include the

name and address of the principal placeof business of the PDS and the nameand telephone number of a contact per-son..03 The application must describe

how the PDS satisfies each of therequirements of section 4 of this rev-enue procedure. In particular, an appli-cation should address the following top-ics.(1) In addressing the requirement un-

der section 4.02 of this revenue proce-dure, the PDS should discuss whether itguarantees delivery within the timespecified for the type of delivery serviceand, if so, it should provide informationon that program.(2) In addressing the requirement un-

der section 4.03 of this revenue proce-dure, the PDS must discuss its recordingor marking procedures, including thesecurity procedures that prevent falsifi-cation of the recording or marking of

the received date. The PDS must alsosubmit an example of a cover of anitem. If the PDS is applying for qualifi-cation under section 4.03(1), it mustdescribe its current data storage periodsand all of the methods it currentlyprovides for senders or recipients toobtain information concerning the re-ceived date (e.g., toll-free telephonenumber, Internet access, software/modem connection).(3) In addressing the requirement un-

der section 4.04 of this revenue proce-dure, the PDS must discuss how oftenand under what circumstances it usescontractors/agents in providing nation-wide delivery.(4) In addressing the requirement un-

der section 4.07 of this revenue proce-dure, the PDS must include a statementthat it certifies it is in compliance andwill remain in compliance..04 A PDS should identify any infor-

mation within its application that itconsiders to be confidential trade se-crets..05 The application must include the

following statement:Under the penalties of perjury, I de-

clare that I have examined this applica-tion and any accompanying information,and to the best of my knowledge andbelief it is true, correct, and complete.This applicant will provide prompt writ-ten notification to the Service if anyapplication information changes duringthe time it is under consideration fordesignation. This applicant will complywith all of the provisions of Rev. Proc.97–19 during the time it is a designatedprivate delivery service if it is desig-nated during the interim period. I under-stand that noncompliance will result inthe revocation of designation. I amauthorized to make and sign this state-ment on behalf of this applicant..06 The application must be signed

and dated by an authorized official ofthe private delivery service (not theapplicant’s representative) who has per-sonal knowledge of the application in-formation and whose duties are notlimited to making the application. Astamped signature is not permitted..07 A PDS must submit an original

and two copies of its application.

SECTION 6. APPLICATIONADDRESSES

A PDS may submit its written appli-cation by either mailing it to:

56

Internal Revenue ServiceAttn: Chief, Taxpayer Service T

Room 34081111 Constitution Avenue, N.W.Washington, D.C. 20044,

or hand delivering it between the hoursof 8:00 a.m. and 5:00 p.m. to:

Courier’s DeskInternal Revenue ServiceAttn: Chief, Taxpayer Service T

Room 34081111 Constitution Avenue, N.W.Washington, D.C.

SECTION 7. APPLICATION PERIODS

.01 During the interim period, therewill be an initial application period andsubsequent application periods.(1) The initial application period ends

on March 14, 1997.(2) Subsequent application periods

will end on each June 30th and Decem-ber 31st thereafter..02 Once a PDS is designated, it does

not need to reapply during the interimperiod unless it desires to receive desig-nation with respect to a new type ofdelivery service it offers.

SECTION 8. NOTIFICATION OFDESIGNATION

.01 After reviewing those applicationsfiled during the initial application pe-riod, the Service anticipates that byMarch 31, 1997, it will issue the firstnotice that lists the PDSs that are desig-nated under these interim procedures.That notice will specify the period dur-ing which the designated PDSs will bedesignated. This period will not beginearlier than the date the notice is issued,and the period may begin either on thedate the notice is issued or shortlythereafter. Except as provided in section12 of this revenue procedure, this periodwill not end earlier than March 1, 1998,regardless of the time permanent guid-ance is issued..02 The Service will issue additional

notices providing a revised list of thedesignated PDSs on or before Septem-ber 1st and March 1st of each year ofthe interim period..03 In unusual circumstances, the

Service may issue additional notices atother times. (See, for example, section12.06 of this revenue procedure.)

SECTION 9. ADMINISTRATIVEREVIEW AND APPEAL PROCESSFOR DENIAL OF DESIGNATION

.01 A PDS that has been denied des-ignation has the right to an administra-

tive review and appeal. During the ad-ministrative review and appeal process,the denial of designation remains ineffect..02 If the Service has denied designa-

tion with respect to any type of deliveryservice offered by a PDS, the Servicewill issue a letter of denial that explainsto the applicant why the Service rejectedthe request for designation..03 An applicant that receives a letter

of denial may obtain administrative re-view by mailing or delivering, within 30calendar days of the date of the letter ofdenial, a written response to the Serviceat one of the application addresses listedin section 6 of this revenue procedure.The applicant’s response must addressthe Service’s explanation for the denialof designation..04 Upon receipt of an applicant’s

written response, the Service will recon-sider its denial of designation. The Ser-vice may (1) designate the applicant byissuing a notice that provides a revisedlist of the designated PDSs, or (2)confirm its denial of designation byissuing a letter to the applicant..05 If an applicant receives a letter

confirming the denial of designation, theapplicant is entitled to an appeal, inwriting, to the National Director ofAppeals..06 The appeal must be mailed or

delivered to the Service at one of theapplication addresses listed in section 6of this revenue procedure within 30calendar days of the date of the letterconfirming the denial of designation. Anapplicant’s written appeal must contain adetailed explanation, with supportingdocumentation, of why the denial shouldbe reversed. In addition, the applicantmust include a copy of the applicant’soriginal application, a copy of the letterof denial, a copy of the applicant’srequest for administrative review, and acopy of the letter confirming the denial..07 Failure to respond within the 30-

day periods described in sections 9.03and 9.06 of this revenue procedure irre-vocably terminates an applicant’s rightto an administrative review or appeal..08 A PDS that has been denied des-

ignation during any application periodmay reapply during the next applicationperiod.

SECTION 10. SPECIAL RULES

.01 A PDS is required to provideprompt written notification to the Ser-vice at one of the application addresseslisted in section 6 of this revenue proce-

dure if any application informationchanges during the time the PDS isunder consideration for designation orduring the time it is a designated PDS..02 If a designated PDS delivers an

item that is sent by itself, a relatedperson within the meaning of § 267, ora member of an affiliated group ofwhich the designated PDS is also amember within the meaning of § 1504,such item will not qualify under the‘‘timely mailing as timely filing/paying’’rule unless the item is received by theaddressee no later than two businessdays after the due date..03 For purposes of the postage pre-

paid requirement of § 7502(a)(2)(B), asender is permitted to use a billingmethod other than advance payment if adesignated PDS offers such billingmethod in accordance with establishedindustry practices and the recipient isnot charged without its permission. Anitem will not qualify under the ‘‘timelymailing as timely filing/paying’’ rule ifthe recipient is charged without its per-mission. Moreover, the Service will notaccept delivery of an item if the Serviceis billed for the delivery charge withoutits permission. Similarly, the UnitedStates Tax Court may not accept deliv-ery of an item if it is billed for thedelivery charge without its permission.

SECTION 11. ADVERTISINGSTANDARDS FOR DESIGNATEDDELIVERY SERVICES

.01 No designated PDS may, in anyway, use or participate in the use of anyform of public communication contain-ing a false, fraudulent, misleading, de-ceptive, unduly influencing, coercive, orunfair statement or claim..02 A designated PDS must adhere to

all relevant federal, state, and localconsumer protection laws that relate toadvertising and soliciting..03 A designated PDS must not use

the name of the Treasury Department,the Service (e.g., ‘‘Internal Revenue Ser-vice’’ or ‘‘IRS’’), or the United StatesTax Court within its name..04 Advertising materials shall not

carry the seal of any office within theTreasury Department or of the UnitedStates Tax Court..05 If a designated PDS uses any

audio or video media (including radio,television, and the Internet) to advertiseits status as a designated PDS, thebroadcast must be pre-recorded. Thedesignated PDS must keep a copy ofsuch pre-recorded advertisement for a

57

period of at least 36 months from thedate of the last transmission or use..06 If a designated PDS uses any

written media (including newspapers, di-rect mail, billboards, and fax communi-cations) to advertise its status as adesignated PDS, the designated PDSmust retain a copy (or example) of suchadvertisement, along with a list or otherdescription of the persons to whom thecommunication was directed, for a pe-riod of at least 36 months from the dateof the last communication.

SECTION 12. MONITORING OFDESIGNATED DELIVERY SERVICESAND REVOCATION PROCEDURES

.01 The Service may monitor desig-nated PDSs to ensure compliance withthe requirements of this revenue proce-dure. If the Service finds that a desig-nated PDS failed to comply with therequirements of this revenue procedure,the Service will issue a warning letterthat describes specific corrective actionthat must be taken in order to retaindesignation..02 If the designated PDS fails to

take the appropriate corrective actionwithin the time specified in the warningletter, a proposed revocation letter willbe issued. If a designated PDS receivesa proposed revocation letter, the desig-nated PDS is entitled to an appeal, inwriting, to the National Director ofAppeals..03 The appeal must be mailed or

delivered to the Service at one of theapplication addresses listed in section 6of this revenue procedure within 30calendar days of the date of the pro-posed revocation letter. A designatedPDS’s written appeal must contain adetailed explanation, with supportingdocumentation, of why the revocationshould not be made. In addition, thedesignated PDS must include a copy ofthe warning letter and a copy of theproposed revocation letter. Failure toappeal within the 30-day period irrevo-cably terminates a designated PDS’sright to an appeal.

.04 If a designated PDS fails to file atimely appeal or if an appeal is denied,the Service will revoke the designation.The revocation may be either with re-spect to a single type of delivery serviceoffered by the designated PDS or withrespect to all types of delivery servicesoffered, depending on the nature of theviolation. The revocation will be effec-tive after issuance of a notice thatprovides a revised list of the designatedPDSs..05 A PDS is not permitted to reapply

for designation under the provisions ofthis revenue procedure if, after consider-ation of an appeal if timely requested,there has been a complete or partialrevocation of its status as a designatedPDS. The permanent guidance may alsopreclude such a PDS from reapplyingfor an additional specified period oftime..06 In exceptional circumstances, the

Service may revoke the status of adesignated PDS before the appeals pro-cess is completed. Such revocation willbe effective after issuance of a noticethat provides a revised list of the desig-nated PDSs. If, after consideration of anappeal, it is determined that a PDS isqualified for designation, the PDS willbe redesignated. Such redesignation willbe effective after issuance of a noticethat provides a revised list of the desig-nated PDSs.

SECTION 13. EFFECTIVE DATE

This revenue procedure is effectiveFebruary 25, 1997.

SECTION 14. PAPERWORKREDUCTION ACT

The collections of information con-tained in this revenue procedure havebeen reviewed and approved by theOffice of Management and Budget inaccordance with the Paperwork Reduc-

tion Act (44 U.S.C. § 3507) under con-trol number 1545–1535.An agency may not conduct or spon-

sor, and a person is not required torespond to, a collection of informationunless the collection of information dis-plays a valid control number.The collections of information in this

revenue procedure are in sections 4.03,5, 9.03, 9.06, 10.01, 11.05, 11.06, and12.03. This information is required forthe Internal Revenue Service to deter-mine whether a private delivery serviceshould be a ‘‘designated’’ private deliv-ery service. This information will beused to ensure that a private deliveryservice conforms to the requirements setforth in this revenue procedure. Thecollections of information are requiredto obtain a benefit. The likely respon-dents are businesses or other for-profitinstitutions.The estimated total annual reporting

and/or recordkeeping burden is 3,069hours.The estimated average annual burden

per respondent/recordkeeper is 614hours. The estimated number of respon-dents and/or recordkeepers is five.The estimated frequency of responses

is on occasion.Books or records relating to a collec-

tion of information must be retained aslong as their contents may become ma-terial in the administration of any inter-nal revenue law. Generally, tax returnsand tax return information are confiden-tial, as required by 26 U.S.C. § 6103.

SECTION 15. DRAFTINGINFORMATION

The principal authors of this revenueprocedure are Robert J. Basso andRenay France of the Office of AssistantChief Counsel (Income Tax and Ac-counting). For further information re-garding this revenue procedure, contactMs. France at (202) 622–6232 (not atoll-free call).

58

Part IV. Items of General InterestNotice of Proposed Rulemakingand Notice of Public Hearing

Basis Reduction Due to Dischargeof Indebtedness

REG–208172–91

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Notice of proposed rulemak-ing and notice of public hearing.

SUMMARY: This document containsproposed regulations that provide order-ing rules for the reduction of bases ofproperty under sections 108 and 1017 ofthe Internal Revenue Code of 1986. Theregulations will affect taxpayers thatexclude discharge of indebtedness fromgross income under section 108.

DATES: Written comments must be re-ceived by April 7, 1997. Outlines of oralcomments to be presented at the publichearing scheduled for April 24, 1997, at10 a.m. must be received by April 3,1997.

ADDRESSES: Send submissions to:CC:DOM:CORP:R (REG–208172–91),room 5228, Internal Revenue Service,POB 7604, Ben Franklin Station, Wash-ington, DC 20044. In the alternative,submissions may be hand delivered be-tween the hours of 8 a.m. and 5 p.m. to:CC:DOM:CORP:R (REG–208172–91),Courier’s Desk, Internal Revenue Ser-vice, 1111 Constitution Avenue, NW,Washington, DC. Alternatively, taxpay-ers may submit comments electronicallyvia the internet by selecting the ‘‘TaxRegs’’ option on the IRS Home Page,or by submitting comments directly tothe IRS internet site at http://www.irs.ustreas.gov/prod/tax_regs/comments.html.

FOR FURTHER INFORMATIONCONTACT: Concerning the regulationsgenerally, Sharon L. Hall or ChristopherF. Kane of the Office of Assistant ChiefCounsel (Income Tax & Accounting) at(202) 622–4930; concerning partnershipadjustments under section 1017, BrianM. Blum of the Office of AssistantChief Counsel (Passthroughs & SpecialIndustries) at (202) 622–3050; concern-ing submissions and the hearing,Evangelista C. Lee of the RegulationsUnit at (202) 622–7190 (not toll-freenumbers).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collections of information con-tained in this notice of proposedrulemaking have been submitted to theOffice of Management and Budget forreview in accordance with the Paper-work Reduction Act of 1995 (44 U.S.C.3507(d)).Comments on the collections of infor-

mation should be sent to theOffice ofManagement and Budget, Attn: DeskOfficer for the Department of the Trea-sury, Office of Information and Regula-tory Affairs, Washington, DC 20503,with copies to the Internal RevenueService, Attn: IRS Reports ClearanceOfficer, T:FP, Washington, DC 20224.Comments on the collections of infor-mation should be received by March 8,1997. Comments are specifically re-quested concerning:Whether the proposed collections of

information are necessary for the properperformance of the functions of theInternal Revenue Service, includingwhether the information will have prac-tical utility;The accuracy of the estimated burden

associated with the proposed collectionsof information (see below);How the quality, utility, and clarity of

the information to be collected may beenhanced;How the burden of complying with

the proposed collections of informationmay be minimized, including throughthe application of automated collectiontechniques or other forms of informationtechnology; andEstimates of capital or start-up costs

and costs of operation, maintenance, andpurchase of service to provide informa-tion.The collections of information in this

proposed regulation are in §§ 1.108–4(b), 1.1017–1(e)(2), and 1.1017–1(f)(2)(ii) and (iii). This information isrequired for a taxpayer to elect toreduce the adjusted bases of depreciableproperty under section 108(b)(5), toelect to treat section 1221(1) real prop-erty as either depreciable property ordepreciable real property, and to accountfor a partnership interest as either depre-ciable property or depreciable real prop-erty. This information will be used todetermine whether taxpayers have prop-erly reduced the bases of their proper-ties. The collections of information are

required to obtain a benefit. The likelyrespondents are individuals, farms, busi-nesses or other for-profit institutions,and small businesses or organizations.Estimated total annual reporting bur-

den:100,000hours.Estimated average annual burden per

respondent:1 hours.Estimated number of respondents:

100,000.Estimated annual frequency of re-

sponses:On occasion.An agency may not conduct or spon-

sor, and a person is not required torespond to, a collection of informationunless the collection of information dis-plays a valid control number.Books or records relating to a collec-

tion of information must be retained aslong as their contents may become ma-terial in the administration of any inter-nal revenue law. Generally, tax returnsand tax return information are confiden-tial, as required by 26 U.S.C. 6103.

Background

This notice contains proposed amend-ments to the income tax regulations (26CFR Parts 1 and 301) under sections108 and 1017 of the Internal RevenueCode of 1986 (Code). The amendmentsare proposed to conform the regulationsto amendments to sections 108 and 1017made by the Bankruptcy Tax Act of1980, Pub. L. 96–589, § 2, 94 Stat.3389 (1980), 1980–2 C.B. 607 (Bank-ruptcy Tax Act); the Technical Correc-tions Act of 1982, Pub. L. 97–448,§ 102(h)(1), 96 Stat. 2365, 2372 (1983),1983–1 C.B. 451; the Deficit ReductionAct of 1984, Pub. L. 98–369,§§ 474(r)(5) and 721(b)(2), 98 Stat.494, 839, 966 (1984), 1984–3 C.B. (Vol.1) 1; the Tax Reform Act of 1986, Pub.L. 99–514, §§ 104(b)(2), 231(d)(3)(D),822, and 1171(b)(4), 100 Stat. 2085,2105, 2179, 2373, 2513 (1986), 1986–3C.B. (Vol. 1) 2; and the Omnibus Bud-get Reconciliation Act of 1993, Pub. L.103–66, § 13150, 107 Stat. 312, 446(1993), 1993–3 C.B. 1.

In general, section 108 excludes fromgross income discharges of indebtednessif the discharge occurs in a title 11 caseor when the taxpayer is insolvent, or ifthe indebtedness is ‘‘qualified farm in-debtedness’’ or ‘‘qualified real propertybusiness indebtedness.’’ Taxpayers gen-erally must reduce specified tax at-tributes, including adjusted bases ofproperties, to the extent income from

59 1997–10 I.R.B.

discharge of indebtedness is excludedfrom gross income under section 108.Section 1017 provides rules regardingany basis reductions required by, orelected under, section 108.

Explanation of Provisions

Overview

The legislative history of the Bank-ruptcy Tax Act states that the exclusionof discharge of indebtedness (COD in-come) from gross income under section108 is intended to promote a debtor’sfresh start. S. Rep. No. 1035, 96thCong., 2d Sess. 10 (1980), 1980–2 C.B.620, 624; H.R. Rep. No. 833, 96thCong., 2d Sess. 11 (1980). The exclu-sion provided by the statute generallyoperates, however, to defer, rather thaneliminate, income from discharge ofindebtedness.The deferral of income provided by

statute is generally achieved by requir-ing a taxpayer to reduce specified taxattributes (including adjusted bases ofproperty) under section 108(b) by anamount equal to the COD income ex-cluded from gross income under section108(a). Section 108(b)(2) requires a tax-payer to reduce tax attributes in thefollowing order: (A) net operating loss;(B) general business credit; (C) mini-mum tax credit; (D) capital loss car-ryovers; (E) adjusted bases of property;(F) passive activity loss and credit car-ryovers; and (G) foreign tax credit car-ryovers. If the excluded COD incomeexceeds the sum of the taxpayer’s taxattributes, the excess is permanently ex-cluded from the taxpayer’s gross in-come.When basis reductions are necessary,

section 1017(a) requires the taxpayer toreduce the adjusted bases of propertyheld on the first day of the followingtax year. Section 1017(b)(1) providesthat the amount of the basis reductionrequired under section 1017(a), and theparticular properties the bases of whichare to be reduced, shall be determinedunder regulations.

General Rules for Basis Reduction

Consistent with the legislative historyof the Bankruptcy Tax Act, the proposedregulations generally retain the ‘‘trac-ing’’ approach of the existing regulationsissued under prior law. Thus, the pro-posed regulations require a taxpayer toreduce the adjusted basis of the propertythat secured the discharged indebtednessbefore reducing the adjusted bases ofother property.

In addition, the proposed regulationsmodify the categories in the existingregulations to simplify the process ofbasis reduction. First, the distinctionbetween purchase-money indebtednessand other secured indebtedness is elimi-nated. Second, the order of basis reduc-tion for property that secured dischargedindebtedness is changed. Thus, the firstcategory of the general ordering rule isreal property used in the taxpayer’strade or business or held for the produc-tion of income (other than section1221(1) real property) that secured thedischarged indebtedness, and the secondcategory is personal property used in thetaxpayer’s trade or business or held forthe production of income (other thaninventory, accounts receivable, and notesreceivable) that secured the dischargedindebtedness. Therefore, if an indebted-ness secured by a building, a parcel ofland used in the taxpayer’s trade orbusiness, office equipment, and officefurniture is discharged, the taxpayer pro-portionately reduces the adjusted basesof the building and the parcel of land,based upon their relative adjusted bases,to the full extent of the excluded CODincome before reducing the adjustedbases of the office equipment and theoffice furniture. The IRS and TreasuryDepartment believe that this modifica-tion of the current regulations will sim-plify the process of basis reduction formany taxpayers.

Special Rules for Depreciable Properties

Instead of reducing tax attributes inthe order specified by section 108(b)(2),a taxpayer may elect under section108(b)(5) first to reduce the adjustedbases of depreciable property (real andpersonal) to the extent of the excludedCOD income. If the adjusted bases ofdepreciable property are insufficient tooffset the entire amount of excludedCOD income, the taxpayer must reduceany remaining tax attributes in the orderspecified in section 108(b)(2). Section108(c) requires that excluded COD in-come from the cancellation of qualifiedreal property business indebtedness mustbe applied against depreciable real prop-erty.Section 1017(b)(3)(C) provides that a

taxpayer must treat a partnership interestas depreciable property when reducingadjusted bases under section 108(b)(5),and as depreciable real property whenreducing adjusted bases under section108(c), to the extent the partnershipcorrespondingly reduces the partner’s

proportionate interest in the adjustedbases of depreciable property (or depre-ciable real property) held by the partner-ship (inside basis).The proposed regulations generally

provide that a taxpayer may freelychoose whether or not to request that apartnership reduce the partner’s share ofdepreciable basis in partnership propertyand thereby permit the taxpayer to treatthe partnership interest as depreciableproperty (or depreciable real property).In addition, the proposed regulationsgenerally provide that the partnership isfree to grant or deny its consent. Inorder to prevent avoidance of the gen-eral ordering rules of the proposed regu-lations through the use of partnerships,however, a partner is required to requestconsent if the partner owns (directly orindirectly) more than 50 percent of thecapital and profits interests of the part-nership, or if the partner receives adistributive share of COD income fromthe partnership. In addition, the partner-ship is required to grant consent ifrequests are made by partners owning(directly or indirectly) an aggregate ofmore than 50 percent of the capital andprofits interests of the partnership.The proposed regulations provide that

a partner requesting a reduction in in-side basis must make the request beforethe due date (including extensions) forfiling the partner’s Federal income taxreturn for the taxable year in which thepartner has COD income. A partnershipthat consents to a basis reduction mustinclude a consent statement with itsForm 1065, U.S. Partnership Return ofIncome, and must also provide a copyof that statement to the affected partneron or before the date the Form 1065 isfiled. The IRS and Treasury Departmentrecognize that under current law a part-ner may not always have sufficientinformation with which to decide torequest a basis reduction until on, orshortly before, the due date (includingextensions) for filing the partner’s taxreturn. For example, for calendar yeartaxpayers, a partner’s tax return and apartnership’s Form 1065 are generallydue on the same day.Seesections 6031and 6072. Comments are requested as towhether additional rules (such as requir-ing a partnership to inform partners ofCOD income prior to the date the Form1065 is filed) are necessary to ensurethat information is exchanged betweenthe partnership and its partners in atimely fashion.The proposed regulations remove

§ 301.9100–13T, which governs elec-

601997–10 I.R.B.

tions under section 108(b)(5), and addnew proposed § 1.108–4. Under thetemporary regulations, a taxpayer is re-quired to make the election with thetaxpayer’s Federal income tax return forthe taxable year in which the dischargeoccurs, but is permitted to file an elec-tion with an amended return, or claimfor credit or refund, if the taxpayerestablishes reasonable cause for failingto file the election with the originalreturn. New proposed § 1.108–4 re-quires the taxpayer to make the electionon the timely filed (including exten-sions) Federal income tax return for thetaxable year the taxpayer has CODincome that is excluded under section108(a). Therefore, a taxpayer that failsto make the election on that return mustrequest the Commissioner’s consent tofile a late election under § 301.9100–3Tor any regulations that supersede§ 301.9100–3T.

Special Analyses

It has been determined that this noticeof proposed rulemaking is not a signifi-cant regulatory action as defined in EO12866. Therefore, a regulatory assess-ment is not required.Pursuant to section 7805(f) of the

Internal Revenue Code, this notice ofproposed rulemaking will be submittedto the Chief Counsel for Advocacy ofthe Small Business Administration forcomment on its impact on small busi-ness.

Initial Regulatory Flexibility Act Analy-sis

This initial analysis is required underthe Regulatory Flexibility Act (5 U.S.C.chapter 6). In certain circumstances, theproposed regulations will require a part-nership to include a statement with itsForm 1065, U.S. Partnership Return ofIncome, and provide a copy of thatstatement with the taxpayer’s ScheduleK–1 (Form 1065), Partner’s Share ofIncome, Credits, Deductions, etc., forthe taxable year in which the CODincome is excluded under section108(a), stating the amount of the part-ner’s share of the reduction in thepartnership’s adjusted bases of depre-ciable real or personal property (insidebasis). This requirement will ensure thatthe partner knows it is entitled to reducethe adjusted basis of the partnershipinterest and that the affected partnershipknows it must reduce the partner’s inter-est in inside basis. The legal basis for

this requirement is contained in sections1017(b), 6001, and 7805(a).Though the proposed regulations

might affect any partnership owningdepreciable property, the IRS and Trea-sury Department believe that partner-ships owning depreciable real propertyare the most likely to be affected.Approximately 1,560,000 partnership re-turns were filed for 1993. Approxi-mately 620,000 of these were for part-nerships owning real property. It isunlikely, however, that many of thesepartnerships will be affected by theproposed regulations in any given year.After a partner conveys information

concerning the amount of COD incomeexcluded from gross income under sec-tion 108(a) to the affected partnership,the partnership must reduce the partner’sinterest in inside basis. Accordingly, thepartnership must prepare and maintainspecial entries on its books because thisbasis reduction will reduce the partner’sshare of the partnership’s depreciationdeductions, and ultimate gain or loss onthe sale of the property, in subsequentyears. In many cases, partnership returnsare prepared using computer softwarethat can prepare and maintain thesespecial entries after the initial year.The IRS and Treasury Department are

not aware of any federal rules that mayduplicate, overlap, or conflict with theproposed rule.As an alternative to the disclosure

described above, the IRS and TreasuryDepartment considered, but rejected astoo burdensome, a rule that would haverequired an affected partnership to dis-close the reductions of adjusted basis ona property-by-property basis. There areno known alternative rules that are lessburdensome to small entities but thataccomplish the purpose of the statute.The IRS and Treasury Department re-quest comments from small entities con-cerning possible alternatives.

Comments and Public Hearing

Before these proposed regulations areadopted as final regulations, consider-ation will be given to any written com-ments (a signed original and eight (8)copies) that are submitted timely to theIRS. All comments will be available forpublic inspection and copying.A public hearing has been scheduled

for April 29, 1997, at 10 a.m. in IRSAuditorium, 7th Floor, Internal RevenueBuilding, 1111 Constitution Avenue,NW, Washington, DC. Because of ac-cess restrictions, visitors will not be

admitted beyond the Internal RevenueBuilding lobby more than 15 minutesbefore the hearing starts.The rules of 26 CFR 601.601(a)(3)

apply to the hearing.Persons that wish to present oral

comments at the hearing must submitwritten comments by April 7, 1997 andsubmit an outline of the topics to bediscussed and the time to be devoted toeach topic (signed original and eight (8)copies) by April 3, 1997.A period of 10 minutes will be allot-

ted to each person for making com-ments.An agenda showing the scheduling of

the speakers will be prepared after thedeadline for receiving outlines haspassed. Copies of the agenda will beavailable free of charge at the hearing.

Drafting Information

The principal author of these regula-tions is Leo F. Nolan II, Office ofAssistant Chief Counsel (Income Taxand Accounting). However, other per-sonnel from the IRS and Treasury De-partment participated in their develop-ment.

* * * * *

Proposed Amendments to the Regula-tions

Accordingly, 26 CFR parts 1 and 301are proposed to be amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citationfor 26 CFR part 1 is amended by addingentries in numerical order to read asfollows:Authority: 26 U.S.C. 7805 * * *Section 1.108–4 also issued under 26

U.S.C. 108.Section 1.108–5 also issued under 26

U.S.C. 108.Section 1.1017–1 also issued under 26

U.S.C. 1017.

§ 1.108(a)–1 [Removed]

Par. 2. Section 1.108(a)–1 is re-moved.

§ 1.108(a)–2 [Removed]

Par. 3. Section 1.108(a)–2 is re-moved.

§ 1.108(b)–1 [Removed]

Par. 4. Section 1.108(b)–1 is re-moved.

61 1997–10 I.R.B.

§ 1.1016–7 [Removed]

Par. 5. Section 1.1016–7 is removed.

§ 1.1016–8 [Removed]

Par. 6–7. Section 1.1016–8 is re-moved.

§ 1.1017–2 [Removed]

Par. 8. Section 1.1017–2 is removed.

Par. 9. Section 1.108–4 is added toread as follows:

§ 1.108–4 Election to reduce basisof depreciable property undersection 108(b)(5).

(a) Description. An election undersection 108(b)(5) is available whenevera taxpayer excludes discharge of indebt-edness (COD income) from gross in-come under sections 108(a)(1)(A), (B),or (C) (concerning title 11 cases, insol-vency, and qualified farm indebtedness,respectively). See sections 108(d)(2) and(3) for the definitions of title 11 caseand insolvent. See section 108(g)(2) forthe definition of qualified farm indebt-edness.(b) Time and manner. To make an

election under section 108(b)(5), a tax-payer must enter the appropriate infor-mation on Form 982,Reduction of TaxAttributes Due to Discharge of Indebted-ness (and Section 1082 Basis Adjust-ment), and attach the form to the timelyfiled (including extensions) Federal in-come tax return for the taxable year inwhich the taxpayer has COD incomethat is excluded from gross incomeunder section 108(a). An election underthis section may be revoked only withthe consent of the Commissioner.(c) Effective date. This section is ef-

fective for elections concerning dis-charges of indebtedness occurring on orafter the date these regulations are pub-lished as final regulations in theFederalRegister.Par. 10. Section 1.108–5 is added to

read as follows:

§ 1.108–5 Limitations on the exclusionof income from the discharge ofqualified real property businessindebtedness

(a) Indebtedness in excess of value.The amount excluded from gross in-come under section 108(a)(1)(D) (con-cerning discharges of qualified realproperty business indebtedness) shall notexceed the excess, if any, of the out-

standing principal amount of that indebt-edness immediately before the dischargeover the net fair market value of thequalifying real property, as defined in§ 1.1017–1(c)(1), immediately beforethe discharge. For purposes of this sec-tion, net fair market valuemeans thefair market value of the qualifying realproperty (notwithstanding section7701(g)) reduced by the outstandingprincipal amount of any other qualifiedreal property business indebtedness se-cured by that property immediately be-fore and after the discharge.(b) Overall limitation. The amount

excluded from gross income under sec-tion 108(a)(1)(D) shall not exceed theaggregate adjusted bases of all depre-ciable real property held by the taxpayerimmediately before the discharge (otherthan depreciable real property acquiredin contemplation of the discharge) re-duced by the sum of any—(1) Depreciation claimed for the tax-

able year the taxpayer excluded dis-charge of indebtedness from gross in-come under section 108(a)(1)(D); and(2) Reductions to the adjusted bases

of depreciable real property requiredunder section 108(b) or section 108(g)for the same taxable year.(c) Effective date. This section is ef-

fective for discharges of qualified realproperty business indebtedness occurringon or after the date these regulations arepublished as final regulations in theFederal Register.Par. 11. Section 1.1017–1 is revised

to read as follows:

§ 1.1017–1 Basis reductions following adischarge of indebtedness

(a) General rule for section108(b)(2)(E). This paragraph (a) appliesto basis reductions under section108(b)(2)(E) that are required by section108(a)(1)(A) or (B) because the tax-payer excluded discharge of indebted-ness (COD income) from gross income.A taxpayer must reduce in the followingorder, to the extent of the excludedCOD income but not below zero, theadjusted bases of property held on thefirst day of the taxable year followingthe taxable year that the taxpayer ex-cluded COD income from gross income(in proportion to adjusted basis):(1) Real property used in a trade or

business or held for investment, otherthan real property described in section1221(1), that secured the dischargedindebtedness immediately before the dis-charge (see paragraph (f)(1) of this

section for the treatment of partnershipindebtedness as indebtedness secured bythe taxpayer’s interest in the partner-ship);(2) Personal property used in a trade

or business or held for investment, otherthan inventory, accounts receivable, andnotes receivable, that secured the indebt-edness immediately before the discharge(see paragraph (f)(1) of this section forthe treatment of partnership indebted-ness as indebtedness secured by thetaxpayer’s interest in the partnership);(3) Remaining property used in a

trade or business or held for investment,other than inventory, accounts receiv-able, notes receivable, and real propertydescribed in section 1221(1);(4) Inventory, accounts receivable,

notes receivable, and real property de-scribed in section 1221(1); and(5) Property not used in a trade or

business nor held for investment.(b) Operating rules—(1) Prior tax-

attribute reduction. The amount of ex-cluded COD income applied to reducebasis does not include any COD incomeapplied to reduce tax attributes undersections 108(b)(2)(A) through (D) and,if applicable, section 108(b)(5). For ex-ample, if a taxpayer excludes $100 ofCOD income from gross income undersection 108(a) and reduces tax attributesby $40 under sections 108(b)(2)(A)through (D), the taxpayer is required toreduce the adjusted bases of property by$60 ($100 – $40) under section108(b)(2)(E).(2) Multiple discharged indebted-

nesses. If a taxpayer has COD incomeattributable to more than one dischargedindebtedness resulting in the reductionof tax attributes under sections108(b)(2)(A) through (D) and, if appli-cable, section 108(b)(5), paragraph(b)(1) of this section must be applied byallocating the tax-attribute reductionsamong the indebtednesses in proportionto the amount of COD income attribut-able to each discharged indebtedness.For example, if a taxpayer excludes $20of COD income attributable to securedindebtedness A and excludes $80 ofCOD income attributable to unsecuredindebtedness B (a total exclusion of$100), and if the taxpayer reduces taxattributes by $40 under sections108(b)(2)(A) through (D), the taxpayermust reduce the amount of COD incomeattributable to secured indebtedness A to$12 ($20 – ($204 $100 x $40)) andmust reduce the amount of COD incomeattributable to unsecured indebtedness Bto $48 ($80 – ($804 $100 x $40)).

621997–10 I.R.B.

(3) Limitation on basis reductions un-der section 108(b)(2)(E) in bankruptcyor insolvency. If COD income arisesfrom a discharge of indebtedness in atitle 11 case or while the taxpayer isinsolvent, the amount of any basis re-duction under section 108(b)(2)(E) shallnot exceed the excess of—(i) The aggregate of the adjusted

bases of property and the amount ofmoney held by the taxpayer immediatelyafter the discharge; over(ii) The aggregate of the liabilities of

the taxpayer immediately after the dis-charge.(c) Modification of ordering rules for

basis reductions under sections108(b)(5) and 108(c)—(1) In general.The ordering rules prescribed in para-graph (a) of this section apply, withappropriate modifications, to basis re-ductions under sections 108(b)(5) and(c). Thus, a taxpayer may reduce onlythe adjusted bases of depreciable prop-erty under section 108(b)(5) and mayreduce only the adjusted bases of depre-ciable real property under section108(c). Furthermore, for basis reductionsunder section 108(c), a taxpayer mustreduce the adjusted basis of the qualify-ing real property to the extent of thedischarged qualified real property busi-ness indebtedness before reducing theadjusted bases of other depreciable realproperty. The termqualifying real prop-erty means real property with respect towhich the indebtedness is qualified realproperty business indebtedness withinthe meaning of section 108(c)(3). Seeparagraphs (e) and (f) of this section forelections relating to section 1221(1)property and partnership interests.(2) Partial basis reductions under

section 108(b)(5). If the amount of basisreductions under section 108(b)(5) isless than the amount of the COD in-come excluded from gross income undersection 108(a), the taxpayer must reducethe balance of its tax attributes, includ-ing any remaining adjusted bases ofdepreciable property, under section108(b)(2). For example, if a taxpayerexcludes $100 of COD income fromgross income under section 108(a) andelects to reduce the adjusted bases ofdepreciable property by $10 under sec-tion 108(b)(5), the taxpayer must reduceits remaining tax attributes by $90 undersection 108(b)(2).(3) Modification of fresh start rule

for prior basis reductions under section108(b)(5). After reducing the adjustedbases of depreciable property under sec-tion 108(b)(5), a taxpayer must compute

the limitation on basis reductions undersection 1017(b)(2) using the aggregateof the remaining adjusted bases of prop-erty. For example, if, immediately afterthe discharge of indebtedness in a title11 case, a taxpayer’s adjusted bases ofproperty is $100 and its undischargedindebtedness is $70, and if the taxpayerelects to reduce the adjusted bases ofdepreciable property by $10 under sec-tion 108(b)(5), section 1017(b)(2) limitsany further basis reductions under sec-tion 108(b)(2)(E) to $20 (($100 – $10) –$70).(d) Changes in security. Any change

in the property securing an indebtednessduring the one-year period preceding thedischarge of that indebtedness shall bedisregarded if a principal purpose of thatchange is to affect the taxpayer’s basisreductions under section 1017.(e) Election to treat section 1221(1)

real property as depreciable—(1) Ingeneral. For basis reductions under sec-tions 108(b)(5) and (g), a taxpayer mayelect under sections 1017(b)(3)(E) and(4)(C), respectively, to treat real prop-erty described in section 1221(1) asdepreciable property. This election is notavailable, however, for basis reductionsunder section 108(c).(2) Time and manner. To make an

election under section 1017(b)(3)(E) or(4)(C), a taxpayer must enter the appro-priate information on Form 982,Reduc-tion of Tax Attributes Due to Dischargeof Indebtedness (and Section 1082 BasisAdjustment), and attach the form to atimely filed (including extensions) Fed-eral income tax return for the taxableyear in which the taxpayer has CODincome that is excluded from grossincome under section 108(a). An elec-tion under this paragraph (e) may berevoked only with the consent of theCommissioner.(f) Partnerships—(1) Partnership

COD income. For purposes of paragraph(a) of this section, a taxpayer must treata distributive share of a partnership’sCOD income as attributable to a dis-charged indebtedness secured by thetaxpayer’s interest in that partnership.(2) Partnership interest treated as de-

preciable property— (i) In general. Forpurposes of making basis reductions, ifa taxpayer makes an election undersection 108(b)(5) or (c) the taxpayermust treat a partnership interest as de-preciable property (or depreciable realproperty) to the extent of the partner’sproportionate share of the partnership’sbasis in depreciable property (or depre-ciable real property), provided the part-

nership consents to a corresponding re-duction in the partnership’s basis (insidebasis) in depreciable property (or depre-ciable real property) with respect tosuch partner.(ii) Request by partner and consent

of partnership—(A) In general. Exceptas otherwise provided in this paragraph(f)(2)(ii), a taxpayer may choosewhether or not to request that a partner-ship reduce the inside basis of its depre-ciable property (or depreciable realproperty) with respect to the taxpayer,and the partnership may grant or with-hold such consent, in its sole discretion.A request by the taxpayer must be madebefore the due date (including exten-sions) for filing the taxpayer’s Federalincome tax return for the taxable year inwhich the taxpayer has COD incomethat is excluded from gross incomeunder section 108(a).(B) Request for consent required. A

taxpayer must request a partnership’sconsent to reduce inside basis if thetaxpayer owns (directly or indirectly) agreater than 50 percent interest in thecapital and profits of the partnership, orif reductions to the basis of the taxpay-er’s depreciable property (or depreciablereal property) are being made with re-spect to the taxpayer’s distributive shareof COD income of the partnership.(C) Granting of request required. A

partnership must consent to reduce itspartners’ shares of inside basis if con-sent is requested by partners owning(directly or indirectly) an aggregate ofmore than 50 percent of the capital andprofits interests of the partnership. Forexample, if there is a cancellation ofpartnership indebtedness securing realproperty used in a partnership’s trade orbusiness, and if partners owning (in theaggregate) 60 percent of the capital andprofits interests of the partnership electto exclude the COD income under sec-tion 108(c), the partnership must makethe appropriate reductions in those part-ners’ shares of inside basis.(iii) Partnership consent statement—

(A) Partnership requirement. A consent-ing partnership must include with theForm 1065, U.S. Partnership Return ofIncome, for the taxable year of thepartnership that ends with or within thetaxable year the taxpayer excludes CODincome from gross income under section108(a), and must provide to the taxpayeron or before the date the Form 1065 isfiled, a statement that—

63 1997–10 I.R.B.

(1) Contains the name, address, andtaxpayer identification number of thepartnership; and(2) States the amount of the reduction

of the partner’s proportionate interest inthe adjusted bases of the partnership’sdepreciable property or depreciable realproperty, whichever is applicable.(B) Taxpayer’s requirement. State-

ments described in paragraph(f)(2)(iii)(A) of this section must beattached to a taxpayer’s timely filed(including extensions) Federal incometax return for the taxable year in whichthe taxpayer has COD income that isexcluded from gross income under sec-tion 108(a).

(iv) Partner’s share of partnership’sadjusted basis. [Reserved.]

(3) Partnership basis reduction. Therules of this section (including this para-graph (f)), apply in determining theproperties to which the partnership’sbasis reductions must be made.

(g) Special allocation rule for casesto which section 1398 applies. If abankruptcy estate and a taxpayer towhom section 1398 applies (concerningonly individuals under Chapter 7 or 11of title 11 of the United States Code)hold property subject to basis reductionunder section 108(b)(2)(E) or (5) on thefirst day of the taxable year following

the taxable year of discharge, the bank-ruptcy estate must reduce all of theadjusted bases of its property before thetaxpayer is required to reduce any ad-justed bases of property.(h) Effective date. This section is ef-

fective for discharges of indebtednessoccurring on or after the date theseregulations are published as final regula-tions in theFederal Register.

PART 301—PROCEDURE ANDADMINISTRATION

Par. 12. The authority citation forpart 301 continues to read as follows:Authority: 26 U.S.C. 7805 * * *

§ 301.9100–13T [Removed]

Par. 13. Section 301.9100–13T is re-moved.

Margaret Milner Richardson,Commissioner of Internal Revenue.

(Filed by the Office of the Federal Register onJanuary 6, 1997, 8:45 a.m., and published in theissue of the Federal Register for January 7, 1997,62 F.R. 955)

New Reporting for Medical SavingsAccounts, Long-Term CareAccounts, and SIMPLE RetirementAccounts

Announcement 97–10The Health Insurance Portability and

Accountability Act of 1996 added sec-tion 220 to the Internal Revenue Codeto permit eligible individuals to establishmedical savings accounts (MSAs). TheAct also added Code section 6050Q,which requires any person paying long-term care or accelerated death benefitsto report the aggregate benefits paid andcertain other information. In addition,the Small Business Job Protection Actof 1996 added section 408(p), whichallows individuals to establish SavingsIncentive Match Plans for Employees ofSmall Employers (SIMPLE) retirementaccounts.To carry out the MSA provisions, the

IRS developed three new forms:Form1099–MSA,Distributions From MedicalSavings Accounts, for trustees to reportdistributions from an MSA; Form 5498–MSA, Medical Savings Account Infor-mation, for trustees to report contribu-tions to an MSA; andForm 8851,Summary of Medical Savings Accounts,for trustees to report the number ofMSAs established.For insurance companies and other

payers to report the aggregate benefitspaid and other information required un-der section 6050Q, the IRS developedForm 1099–LTC, Long-Term Care andAccelerated Death Benefits.

The filing requirements for trustees and other payers are as follows:

If the Form Is Then File With or Furnish to By This Date

1099–MSA (Copy A) IRS March 2, 19981099–MSA (Copy B) Recipient February 2, 1998Form 5498–MSA (Copy A) IRS June 1, 1998Form 5498–MSA (Copy B) Participant June 1, 1998Form 8851 IRS June 2, 1997 (For MSAs established from Jan. 1—Apr.

30, 1997)Form 8851 IRS August 1, 1997 (For MSAs established from May

1—June 30, 1997)Form 1099–LTC (Copy A) IRS March 2, 1998Form 1099–LTC (Copy B) Policyholder February 2, 1998Form 1099–LTC (Copy C) Insured February 2, 1998

Copy A of Forms 1099–MSA, 5498–MSA, and 1099–LTC are provided foryour information. Form 8851 is alsoincluded. Printed forms are expected tobe available in late February.No new forms are required for trust-

ees to report distributions from and

contributions to a SIMPLE. Trusteesmust report distributions from aSIMPLE on Form 1099–R and reportcontributions to a SIMPLE on Form5498. The filing dates for Form 1099–Rand Form 5498 will remain the same asin prior years. The 1997 versions of

these forms have been revised for re-porting SIMPLEs. Printed copies ofForms 1099–R and 5498 can be ob-tained by calling 1–800–829–3676.All the forms discussed above can be

downloaded from the IRS’s InternetWeb Site at http://www.irs.ustreas.gov.

641997–10 I.R.B.

65 1997–10 I.R.B.

661997–10 I.R.B.

Foundations Status of CertainOrganizations

Announcement 97–18

The following organizations havefailed to establish or have been unableto maintain their status as public chari-ties or as operating foundations. Accord-ingly, grantors and contributors may not,after this date, rely on previous rulingsor designations in the Cumulative Listof Organizations (Publication 78), or onthe presumption arising from the filingof notices under section 508(b) of theCode. This listing doesnot indicate thatthe organizations have lost their statusas organizations described in section501(c)(3), eligible to receive deductiblecontributions.Former Public Charities. The follow-

ing organizations (which have beentreated as organizations that are notprivate foundations described in section509(a) of the Code) are now classifiedas private foundations:Agape Community Outreach Inc.,Beaver Springs, PA

Aim for Success, Inc., Mamaroneck, NYAlaska National Guard HistoricalHolding-Museum Fund Inc., Ft.Richardson, AK

Allentown Liberty Bell Rotary ClubFoundation, Quakertown, PA

American Dental Group Incorporated,Washington, DC

American Institute of Med. & PublicHealth of Central & Eastern Europe,Inc., New York, NY

Anacostia Growth Fund Inc.,Washington, DC

Asanteman-Kuo of Washington DCMetropolitan Area, Silver Spring, MD

Assembly of Sons Ministry, Laurel, MDBanquete Del Million Y Del Amor,Arlington, VA

Barnabas Family Ministries Society,Canada

Birdsboro Library Inc., Birdsboro, PACatch Foundation A WashingtonNon-profit Corporation, Seattle, WA

Catholic Leadership Institute, BalaCynwyd, PA

Center for Middle East Research Inc.,Washington, DC

Community Services Housing Inc.,Charlottesville, VA

Consumers Loan Advocates Inc., LakeBluff, MN

Cop Care, Inc., Seaford, NYCouncil for Safe Families, Inc., NewYork, NY

DDD, Inc., Brooklyn, NYElection Aid Incorporated, Camden, NJEssex Horse Trials Inc., Gladstone, NJFirst Stage Theatre, Lititz, PAGrantsburg Hockey Association,Grantsburg, WI

Greater Baltimore Community HousingResource Board Inc., Baltimore, MD

Hobbit Hollow Inc., Centreville, VAHumane Society of Calvert County,Prince Frederick, MD

IFF Wildlife Habitat Club, Union Beach,NJ

Institute for Catholic Liberal EducationInc., Falls Church, VA

Institute of International Trade andDevelopment, Washington, DC

Kentucky School Reform Corporation,Philadelphia, PA

Kids of the Kingdom, Inc., Scranton, PAKinder Castle Learning Center Inc.,Dodgeville, WI

Land Council Inc., Washington, DCLearning Curve Foundation,Sergeantsville, NJ

Margaret Brent Special Center PSSOAssociation Inc., New Carrollton, MD

Memorial to the Ancestors Project MapInc., Newark, NJ

Mercer County Tenant Action Inc.,Mercer, PA

Mid State Health Advisory Corp.,Lawrenceville, NJ

Miracle Man Ranch, Virginia Beach, VAMission of Hope and Center forLearning Inc., Philadelphia, PA

Missions in Action Inc., Lynchburg, VAMonmouth County Association ofSchool Administrators, Oceanport, NJ

National Association of PurchasingManagement, Salisbury, MD

Native American EconomicDevelopment Advocacy, Baltimore,MD

New Jersey Association for MiddleLevel, Lebanon Hill, NJ

New Visions Inc., Laurel, MDNortheast Chamber Orchestra,Philadelphia, PA

North Philadelphia Community Help,Philadelphia, PA

67 1997–10 I.R.B.

North Philadelphia East LocalDevelopment Corporation,Philadelphia, PA

Offender Aid and Restoration of PrinceWilliam Manassas, Manassas, VA

Older But Wiser, Inc., Portland, OROptions in Supported Living Inc.,Rockville, MD

Paige Anne Foundation, Glenn Dale,MD

Palmer Revival Ministries Inc.,Lewistown, PA

Panther Junior Olympic Volleyball Club,Baltimore, MD

Pennsylvania Human PerformanceFoundation, Bethlehem, PA

Performing Arts League of Philadelphia,Philadelphia, PA

Perry School Community ServicesCenter Inc., Washington, DC

Piscataway Township EducationFoundation, Piscataway, NJ

Power of No Association, Merrifield, VAPrince Georges County HousingDevelopment Corp., Upper Marlboro,MD

Princeton Downtown Teen Center NJNon-Profit Corp., Princeton, NJ

Professional Bicultural DevelopmentAssociates Inc., South Orange, NJ

Profound Paralysis Foundation,Lovettsville, VA

Project Teach, Penndel, PAQueen Annes Advocates for Youth Inc.,Crumpton, MD

Radford Band Boosters Inc., Radford,VA

Rainbows Way Inn, Inc., Mesa, AZReads, Inc., Philadelphia, PARecycling Association of CentralVirginia, Richmond, VA

Renegade Productions Inc., Newtown,PA

R Group Inc., Wilmington, DERocking, Inc., Media, PASelf Improvement Life Style Center,Philadelphia, PA

September Place, Chesapeake, VASeventh Councilmatic DistrictConstituent Fund, Upper Marlboro,MD

Ships at Sea Inc., Virginia Beach, VASNAP Special Needs Alliance of ParentsInc., Pennsburgh, PA

South Lakes High School Band BoostersAssociation, Reston, VA

Sports Medicine Foundation Inc., York,PA

STARS Inc., Hagerstown, MDSteel Recycling Foundation, Pittsburgh,PA

St. James Preparatory School Inc.,Newark, NJ

Stonebridge Educational Foundation,Chesapeake, VA

Storks Nest Fund, Washington, DCSupport Forum Inc., Middletown, NJThreshold Housing Development Inc.,Uniontown, PA

Tidewater Ministers CommunityDevelopment Inc., Norfolk, VA

Union County Regional EducationFoundation Inc., Clark, NJ

United Way of Carbon County,Weatherly, PA

Upper Darby Rotary Foundation, DrexelHill, PA

Virginia Beach Chapter NationalAudubon Society Inc., VirginiaBeach, VA

Washington Community GymnasticsCenter, Washington, DC

Wildcats Wrestling Association Inc.,Carlstadt, NJ

Womens Way USA, Philadelphia, PAWoodbridge Academy of Music Inc.,Metuchen, NJ

World Affairs Council of Greater ValleyForge Inc., Southwestern, PA

WRC North Fork Heights, Brookville,PA

York Rotary Charitable EndowmentFund, York, PA

You Owe Yourself the Chance,Forestville, MD

Youth and Family Services of SouthernMaryland Inc., Charlotte Hall, MDIf an organization listed above sub-

mits information that warrants the re-newal of its classification as a publiccharity or as a private operating founda-tion, the Internal Revenue Service willissue a ruling or determination letterwith the revised classification as tofoundation status. Grantors and contribu-tors may thereafter rely upon such rul-ing or determination letter as providedin section 1.509(a)–7 of the Income TaxRegulations. It is not the practice of theService to announce such revised classi-fication of foundation status in the Inter-nal Revenue Bulletin.

Fact-of-Filing

Announcement Number 97–19

The Internal Revenue Service (IRS)will continue, through December 31,1997, its program to respond to requestsfor fact-of-filing information from firmsin the tax professional community withrespect to their employees and associ-ates. The tax professional communityconsists of all firms who prepare taxreturns, offer tax advice, or provide tax

service. This includes practitioners gov-erned by Treasury Department Circular230.It is limited to individual income tax

returns (Form 1040 series) for tax years1994 through 1996. A YES or NOanswer will be provided for each re-quest. The Service will answer requestsfor tax years 1994 and 1995 within 45days of receipt of the request. Process-ing of requests for tax year 1996 willnot be accomplished before November14, 1997.The fact-of-filing confirmation may

be requested by the individual taxpayeror by the employer. No consent form isneeded for confirmations mailed to thetaxpayer’s address listed on the IRSmaster file. However, if the requestdirects the information to a third party(someone other than the IRS or theindividual taxpayer), the IRS must re-ceive a consent form for each taxpayeron which fact-of-filing information isrequested.All requests for fact-of-filing informa-

tion or revocation of consent for partici-pants in this program will be processedat the Kansas City Service Center. Therequests should be mailed to:DISCLOSURE OFFICESTOP 7000, ANNEX 5POST OFFICE BOX 24551KANSAS CITY, MISSOURI 64131Unless the request is made by the

individual taxpayer, with instructions tomail the confirmation to the addresslisted on the IRS master file, the re-quests for fact-of-filing information onindividual taxpayers must include com-pleted consent forms. The Service rec-ommends the use of the FORM 8821,TAX INFORMATION AUTHORIZA-TION and that the statement ‘‘Fact ofFiling for Individual Income Tax Re-turns (Form 1040 Series)’’ be includedin the column for Type of Tax. How-ever, if this form is not used, thesubstitute form must contain the follow-ing at a minimum:

Taxpayer(s) Name and SocialSecurity Number

Taxpayer Address(es)(Street, City,State, and ZIP)

Appointee: (TO WHOMDISCLOSURE IS TO BE MADE)Name(s)Address(es)

Return Information to be disclosed:(FACT-OF-FILING FORINDIVIDUAL INCOME TAXRETURN(S) (FORM 1040SERIES)

681997–10 I.R.B.

Tax Years1994, 1995, and1996Signature of Taxpayer(s)Date of Taxpayer(s)’ Signature

The consent forms must be receivedby the IRS Dislosure Office in theKansas City Service Center within 60days of the date of the signature(s) onthe consent form.The consent forms forthis program may only authorize releaseof fact-of-filing data for tax years 1994,1995, and 1996.The Service will process revocations

of consent filed by the individual tax-

payer. Revocation of consent must befiled at the Kansas City Service Center.The revocation will be effective uponreceipt by that office.The IRS will confirm fact-of-filing or

no record of filing with the individualtaxpayer or the appointee listed on thetaxpayer(s)’ consent form. Unless theindividual taxpayer asks for written con-firmation, individual written confirma-tions will be by a list to the employer(appointee listed on the consent form)for taxpayers with a record of filing.

The individual taxpayer will always re-ceive written notification when the Ser-vice is informing the appointee that theIRS has no record of filing for theyear(s) requested.

The name(s) of non-filers identifiedthrough a request for fact-of-filing infor-mation will be forwarded to the IRSCompliance function servicing the indi-vidual geographical area. This functionwill determine compliance actions to betaken by the Service.

69 1997–10 I.R.B.

Definition of TermsRevenue rulings and revenue procedures(hereinafter referred to as ‘‘rulings’’)that have an effect on previous rulingsuse the following defined terms to de-scribe the effect:Amplified describes a situation where

no change is being made in a priorpublished position, but the prior positionis being extended to apply to a variationof the fact situation set forth therein.Thus, if an earlier ruling held that aprinciple applied to A, and the newruling holds that the same principle alsoapplies to B, the earlier ruling is ampli-fied. (Compare withmodified, below).Clarified is used in those instances

where the language in a prior ruling isbeing made clear because the languagehas caused, or may cause, some confu-sion. It is not used where a position in aprior ruling is being changed.Distinguished describes a situation

where a ruling mentions a previouslypublished ruling and points out an es-sential difference between them.Modified is used where the substance

of a previously published position isbeing changed. Thus, if a prior rulingheld that a principle applied to A but notto B, and the new ruling holds that itapplies to both A and B, the prior ruling

is modified because it corrects a pub-lished position. (Compare withamplifiedandclarified, above).Obsoleteddescribes a previously pub-

lished ruling that is not considered de-terminative with respect to future trans-actions. This term is most commonlyused in a ruling that lists previouslypublished rulings that are obsoleted be-cause of changes in law or regulations.A ruling may also be obsoleted becausethe substance has been included in regu-lations subsequently adopted.Revoked describes situations where

the position in the previously publishedruling is not correct and the correctposition is being stated in the newruling.Supersededdescribes a situation

where the new ruling does nothing morethan restate the substance and situationof a previously published ruling (orrulings). Thus, the term is used torepublish under the 1986 Code andregulations the same position publishedunder the 1939 Code and regulations.The term is also used when it is desiredto republish in a single ruling a series ofsituations, names, etc., that were previ-ously published over a period of time inseparate rulings. If the new ruling does

more than restate the substance of aprior ruling, a combination of terms isused. For example,modifiedand super-seded describes a situation where thesubstance of a previously published rul-ing is being changed in part and iscontinued without change in part and itis desired to restate the valid portion ofthe previously published ruling in a newruling that is self contained. In this casethe previously published ruling is firstmodified and then, as modified, is su-perseded.Supplementedis used in situations in

which a list, such as a list of the namesof countries, is published in a ruling andthat list is expanded by adding furthernames in subsequent rulings. After theoriginal ruling has been supplementedseveral times, a new ruling may bepublished that includes the list in theoriginal ruling and the additions, andsupersedes all prior rulings in the series.Suspendedis used in rare situations to

show that the previous published rulingswill not be applied pending some futureaction such as the issuance of new oramended regulations, the outcome ofcases in litigation, or the outcome of aService study.

AbbreviationsThe following abbreviations in current use andformerly used will appear in material published inthe Bulletin.

A—Individual.

Acq.—Acquiescence.

B—Individual.

BE—Beneficiary.

BK—Bank.

B.T.A.—Board of Tax Appeals.

C.—Individual.

C.B.—Cumulative Bulletin.

CFR—Code of Federal Regulations.

CI—City.

COOP—Cooperative.

Ct.D.—Court Decision.

CY—County.

D—Decedent.

DC—Dummy Corporation.

DE—Donee.

Del. Order—Delegation Order.

DISC—Domestic International Sales Corporation.

DR—Donor.

E—Estate.

EE—Employee.

E.O.—Executive Order.

ER—Employer.

ERISA—Employee Retirement Income Security Act.

EX—Executor.

F—Fiduciary.

FC—Foreign Country.

FICA—Federal Insurance Contribution Act.

FISC—Foreign International Sales Company.

FPH—Foreign Personal Holding Company.

F.R.—Federal Register.

FUTA—Federal Unemployment Tax Act.

FX—Foreign Corporation.

G.C.M.—Chief Counsel’s Memorandum.

GE—Grantee.

GP—General Partner.

GR—Grantor.

IC—Insurance Company.

I.R.B.—Internal Revenue Bulletin.

LE—Lessee.

LP—Limited Partner.

LR—Lessor.

M—Minor.

Nonacq.—Nonacquiescence.

O—Organization.

P—Parent Corporation.

PHC—Personal Holding Company.

PO—Possession of the U.S.

PR—Partner.

PRS—Partnership.

PTE—Prohibited Transaction Exemption.

Pub. L.—Public Law.

REIT—Real Estate Investment Trust.

Rev. Proc.—Revenue Procedure.

Rev. Rul.—Revenue Ruling.

S—Subsidiary.

S.P.R.—Statements of Procedural Rules.

Stat.—Statutes at Large.

T—Target Corporation.

T.C.—Tax Court.

T.D.—Treasury Decision.

TFE—Transferee.

TFR—Transferor.

T.I.R.—Technical Information Release.

TP—Taxpayer.

TR—Trust.

TT—Trustee.

U.S.C.—United States Code.

X—Corporation.

Y—Corporation.

Z—Corporation.

70

Numerical Finding List1

Bulletin 1997–1 through 1997–9Announcements:

97–1, 1997–2 I.R.B.6397–2, 1997–2 I.R.B.6397–3, 1997–2 I.R.B.6397–4, 1997–3 I.R.B.1497–5, 1997–3 I.R.B.1597–6, 1997–4 I.R.B.1197–7, 1997–4 I.R.B.1297–8, 1997–4 I.R.B.1297–9, 1997–5 I.R.B.2797–11, 1997–6 I.R.B.1997–12, 1997–7 I.R.B.5597–13, 1997–8 I.R.B.3897–14, 1997–8 I.R.B.3897–15, 1997–9 I.R.B.2397–16, 1997–9 I.R.B.2397–17, 1997–9 I.R.B.23

Notices:

97–1, 1997–2 I.R.B.2297–2, 1997–2 I.R.B.2297–3, 1997–1 I.R.B.897–4, 1997–2 I.R.B.2497–5, 1997–2 I.R.B.2597–6, 1997–2 I.R.B.2697–7, 1997–1 I.R.B.897–8, 1997–4 I.R.B.797–9, 1997–2 I.R.B.3597–10, 1997–2 I.R.B.4197–11, 1997–2 I.R.B.5097–12, 1997–3 I.R.B.1197–13, 1997–6 I.R.B.1397–14, 1997–8 I.R.B.2397–15, 1997–8 I.R.B.2397–16, 1997–9 I.R.B.15

Proposed Regulations:

REG–209040–88, 1997–7 I.R.B.34REG–209494–90, 1997–8 I.R.B.24REG–209839–96, 1997–8 I.R.B.26REG–209672–93, 1997–6 I.R.B.15REG–209762–95, 1997–3 I.R.B.12REG–209817–96, 1997–7 I.R.B.41REG–209828–96, 1997–6 I.R.B.15REG–209834–96, 1997–4 I.R.B.9REG–242996–96, 1997–9 I.R.B.18REG–246018–96, 1997–8 I.R.B.30REG–247678–96, 1997–6 I.R.B.17REG–247862–96, 1997–8 I.R.B.32REG–248770–96, 1997–8 I.R.B.33REG–249819–96, 1997–7 I.R.B.50REG–252231–96, 1997–7 I.R.B.52REG–252233–96, 1997–9 I.R.B.19

Revenue Procedures:

97–1, 1997–1 I.R.B.1197–2, 1997–1 I.R.B.6497–3, 1997–1 I.R.B.8497–4, 1997–1 I.R.B.9697–5, 1997–1 I.R.B.13297–6, 1997–1 I.R.B.15397–7, 1997–1 I.R.B.18597–8, 1997–1 I.R.B.18797–9, 1997–2 I.R.B.5697–10, 1997–2 I.R.B.59

Revenue Procedures—Continued

97–11, 1997–6 I.R.B.1397–12, 1997–4 I.R.B.797–13, 1997–5 I.R.B.1897–14, 1997–5 I.R.B.2097–15, 1997–5 I.R.B.2197–16, 1997–5 I.R.B.2597–16, 1997–9 I.R.B.15

Revenue Rulings:

97–1, 1997–2 I.R.B.1097–2, 1997–2 I.R.B.797–3, 1997–2 I.R.B.597–4, 1997–3 I.R.B.697–5, 1997–4 I.R.B.597–6, 1997–4 I.R.B.497–7, 1997–5 I.R.B.1497–8, 1997–7 I.R.B.497–9, 1997–9 I.R.B.4

Social Security Domestic Coverage Threshold

1997–9, I.R.B.17

Treasury Decisions:

8688, 1997–3 I.R.B.78689, 1997–3 I.R.B.98690, 1997–5 I.R.B.58691, 1997–5 I.R.B.168692, 1997–3 I.R.B.48693, 1997–6 I.R.B.98694, 1997–6 I.R.B.118695, 1997–4 I.R.B.58696, 1997–6 I.R.B.48697, 1997–2 I.R.B.118698, 1997–7 I.R.B.298699, 1997–6 I.R.B.48700, 1997–7 I.R.B.58701, 1997–7 I.R.B.238702, 1997–8 I.R.B.48703, 1997–8 I.R.B.188704, 1997–8 I.R.B.128705, 1997–8 I.R.B.168706, 1997–9 I.R.B.118707, 1997–7 I.R.B.178709, 1997–9 I.R.B.5

1A cumulative list of all Revenue Rulings,Revenue Procedures, Treasury Decisions, etc.,published in Internal Revenue Bulletins 1996–27through 1996–53 will be found in InternalRevenue Bulletin 1997–1, dated January 6, 1997.

71

Finding List of Current Action onPreviously Published Items1

Bulletin 1997–1 through 1997–9

*Denotes entry since last publication

Revenue Procedures:

66–3Modified by97–11, 1997–6 I.R.B.13

87–21Modified by97–11, 1997–6 I.R.B.13

92–20Modified by97–1, 1997–1 I.R.B.11

92–20Modified by97–10, 1997–2 I.R.B.59

92–90Superseded by97–1, 1997–1 I.R.B.11

94–52Revoked by97–11, 1997–6 I.R.B.13









Revenue Rulings:

70–480Revoked by97–6, 1997–4 I.R.B.4

72–527Obsoleted by8704, 1997–8 I.R.B.12

74–59Revoked by8708, 1997–10 I.R.B.14

Revenue Rulings—Continued

92–19Supplemented in part by97–2, 1997–2 I.R.B.7


96–13Modified by97–1, 1997–1 I.R.B.11






1A cumulative finding list for previously publisheditems mentioned in Internal Revenue Bulletins1996–27 through 1996–53 will be found in Inter-nal Revenue Bulletin 1997–1, dated January 6,1997.

72