Bulletin No. 1998–10

Internal Revenue

bulletin

Bulletin No. 1998–10

March 9, 1998

HIGHLIGHTS

OF THIS ISSUE

These synopses are intended only as aids to the reader in

identifying the subject matter covered. They may not be

relied upon as authoritative interpretations.

INCOME TAX

Rev. Rul. 98–10, page 11.

qualified zone academy bonds. A public hearing on the proposed regulations will be held on May 27, 1998.

Reorganizations; exchange of securities. An acquisition

of stock for solely voting stock, accompanied under the reorganization plan by an exchange of securities for securities

that are of equal fair market value and equal principal

amount, qualifies as a corporate reorganization under section 368(a)(1)(B) of the Code. Section 354(a)(1) nonrecognition applies to the securities-for-securities exchange.

EXEMPT ORGANIZATIONS

Rev. Rul. 98–11, page 13.

ADMINISTRATIVE

Federal rates; adjusted federal rates; adjusted federal

long-term rate, and the long-term exempt rate. For

purposes of sections 1274, 1288, 382, and other sections

of the Code, tables set forth the rates for March 1998.

Rev. Rul. 98–12, page 5.

Election in respect of losses attributable to a disaster.

This ruling lists the areas declared by the President to qualify

as major disaster areas under the Disaster Relief and Emergency Assistance Act since the publication of Rev. Rul.

97–11.

T.D. 8751, page 23.

REG–104062–97, page 34.

Temporary and proposed regulations under section 1502 of

the Code relate to the use of tax credits of a consolidated

group and its members. A public hearing on the proposed

regulations will be held on May 7, 1998.

T.D. 8754, page 15.

Final regulations under section 1275 of the Code relate to

the federal income tax treatment of certain annuity contracts.

T.D. 8755, page 21.

REG–119449–97, page 35.

Temporary and proposed regulations under section 1397E

of the Code relate to the federal income tax treatment of

Announcement 98–19, page 44.

A list is provided of organizations that no longer qualify as

organizations to which contributions are deductible under

section 170 of the Code.

Rev. Proc. 98–23, page 30.

Conversion of a Qualified Subchapter S Trust (QSST)

to an Electing Small Business Trust (ESBT) and of an

ESBT to a QSST. This procedure provides automatic consent of the Commissioner for the conversion of a Qualified

Subchapter S Trust (QSST) to an Electing Small Business

Trust (ESBT) and of an ESBT to a QSST.

Rev. Proc. 98–24, page 31.

Automobile owners and lessees. This procedure provides

owners and lessees of passenger automobiles designed to

be propelled primarily by electricity and built by an original

equipment manufacturer (electric automobiles) with tables

detailing the limitations on depreciation deductions for owners of electric automobiles first placed in service after August 5, 1997, and before January 1, 1998, and the amounts

to be included in income by lessees of electric automobiles

first leased after August 5, 1997, and before January 1,

1998.

Announcement 98–15, page 36.

The Service is requesting comments from the public on proposed new Forms W–8, Certificate of Foreign Status of Beneficial Owner for United States Tax Withholding; W–8A, For-

Finding Lists begin on page 49.

Announcement of Disbarments and Suspensions begins on page 46.

Announcement of Declaratory Judgment Proceedings Under Section 7428 begins on page 44.

Department of the Treasury

Internal Revenue Service

(Continued on page 4)

Mission of the Service

ucts and services; and perform in a manner warranting

the highest degree of public confidence in our integrity, efficiency, and fairness.

The purpose of the Internal Revenue Service is to collect

the proper amount of tax revenue at the least cost; serve

the public by continually improving the quality of our prod-

Statement of Principles

of Internal Revenue

Tax Administration

The Service also has the responsibility of applying and

administering the law in a reasonable, practical manner.

Issues should only be raised by examining officers when

they have merit, never arbitrarily or for trading purposes.

At the same time, the examining officer should never hesitate to raise a meritorious issue. It is also important that

care be exercised not to raise an issue or to ask a court to

adopt a position inconsistent with an established Service

position.

The function of the Internal Revenue Service is to administer the Internal Revenue Code. Tax policy for raising revenue

is determined by Congress.

With this in mind, it is the duty of the Service to carry out that

policy by correctly applying the laws enacted by Congress;

to determine the reasonable meaning of various Code provisions in light of the Congressional purpose in enacting them;

and to perform this work in a fair and impartial manner, with

neither a government nor a taxpayer point of view.

Administration should be both reasonable and vigorous. It

should be conducted with as little delay as possible and

with great courtesy and considerateness. It should never

try to overreach, and should be reasonable within the

bounds of law and sound administration. It should, however, be vigorous in requiring compliance with law and it

should be relentless in its attack on unreal tax devices and

fraud.

At the heart of administration is interpretation of the Code. It

is the responsibility of each person in the Service, charged

with the duty of interpreting the law, to try to find the true

meaning of the statutory provision and not to adopt a

strained construction in the belief that he or she is “protecting the revenue.” The revenue is properly protected only

when we ascertain and apply the true meaning of the statute.

2

Introduction

The Internal Revenue Bulletin is the authoritative instrument

of the Commissioner of Internal Revenue for announcing official rulings and procedures of the Internal Revenue Service

and for publishing Treasury Decisions, Executive Orders, Tax

Conventions, legislation, court decisions, and other items of

general interest. It is published weekly and may be obtained

from the Superintendent of Documents on a subscription

basis. Bulletin contents of a permanent nature are consolidated semiannually into Cumulative Bulletins, which are sold

on a single-copy basis.

dures must be considered, and Service personnel and others concerned are cautioned against reaching the same conclusions in other cases unless the facts and circumstances

are substantially the same.

The Bulletin is divided into four parts as follows:

Part I.—1986 Code.

This part includes rulings and decisions based on provisions

of the Internal Revenue Code of 1986.

It is the policy of the Service to publish in the Bulletin all substantive rulings necessary to promote a uniform application

of the tax laws, including all rulings that supersede, revoke,

modify, or amend any of those previously published in the

Bulletin. All published rulings apply retroactively unless otherwise indicated. Procedures relating solely to matters of internal management are not published; however, statements

of internal practices and procedures that affect the rights

and duties of taxpayers are published.

Part II.—Treaties and Tax Legislation.

This part is divided into two subparts as follows: Subpart A,

Tax Conventions, and Subpart B, Legislation and Related

Committee Reports.

Part III.—Administrative, Procedural, and Miscellaneous.

To the extent practicable, pertinent cross references to

these subjects are contained in the other Parts and Subparts. Also included in this part are Bank Secrecy Act Administrative Rulings. Bank Secrecy Act Administrative Rulings

are issued by the Department of the Treasury’s Office of the

Assistant Secretary (Enforcement).

Revenue rulings represent the conclusions of the Service on

the application of the law to the pivotal facts stated in the

revenue ruling. In those based on positions taken in rulings

to taxpayers or technical advice to Service field offices,

identifying details and information of a confidential nature

are deleted to prevent unwarranted invasions of privacy and

to comply with statutory requirements.

Part IV.—Items of General Interest.

With the exception of the Notice of Proposed Rulemaking

and the disbarment and suspension list included in this part,

none of these announcements are consolidated in the Cumulative Bulletins.

Rulings and procedures reported in the Bulletin do not have

the force and effect of Treasury Department Regulations,

but they may be used as precedents. Unpublished rulings

will not be relied on, used, or cited as precedents by Service

personnel in the disposition of other cases. In applying published rulings and procedures, the effect of subsequent legislation, regulations, court decisions, rulings, and proce-

The first Bulletin for each month includes a cumulative index

for the matters published during the preceding months.

These monthly indexes are cumulated on a semiannual basis

and are published in the first Bulletin of the succeeding semiannual 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, DC 20402.

3

HIGHLIGHTS

OF THIS ISSUE—Continued

ADMINISTRATIVE—Continued

Announcement 98–18, page 44.

Treasury and the Service are soliciting comments regarding

the tax effects of changing to the EURO.

eign Person’s Claim of Income Effectively Connected With

the Conduct of a Trade or Business in the United States;

W–8B, Certification for United States Tax Withholding for

Foreign Governments and Other Foreign Organizations; and

W–8C, Certificate of Intermediary for United States Tax Withholding.

March 9, 1998

4

1998–10 I.R.B.

Part I. Rulings and Decisions Under the Internal Revenue Code of 1986

Section 42.—Low-Income

Housing Credit

The provisions of § 165(i) apply only

to losses that are otherwise deductible

under § 165(a). An individual taxpayer

may deduct losses if they are incurred in a

trade or business, if they are incurred in a

transaction entered into for profit, or if

they are casualty losses under § 165(c)(3).

The President has determined that during 1997 the areas listed below have been

adversely affected by disasters of sufficient severity and magnitude to warrant

assistance by the Federal Government

under the Act.

Under § 165(i) of the Internal Revenue

Code, if a taxpayer suffers a loss attributable to a disaster occurring in an area subsequently determined by the President of

the United States to warrant assistance by

the Federal Government under the Disaster

Relief and Emergency Assistance Act, 42

U.S.C. §§ 5121–5204c (1988 & Supp. V

1993) (Act), the taxpayer may elect to

claim a deduction for that loss on the taxpayer’s federal income tax return for the

taxable year immediately preceding the

taxable year in which the disaster occurred.

Section 1.165–11(e) of the Income Tax

Regulations provides that the election to

deduct a disaster loss for the preceding year

must be made by filing a return, an

amended return, or a claim for refund on or

before the later of (1) the due date of the

taxpayer’s income tax return (determined

without regard to any extension of time to

file the return) for the taxable year in which

the disaster actually occurred, or (2) the due

date of the taxpayer’s income tax return

(determined with regard to any extension of

time to file the return) for the taxable year

immediately preceding the taxable year in

which the disaster actually occurred.

Disaster Areas in 1997

Type of Disaster

Date of Disaster

Alabama

Counties of Baldwin, Choctaw, and

Mobile

Severe storms, flooding, and high winds

associated with Hurricane Danny

July 17-22, 1997

Severe storms and tornadoes

March 1-4, 1997

Severe storms and flooding

April 4-21, 1997

Severe storms, flooding, and mud and

land slides

December 28, 1996-April 1, 1997

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

Section 165.—Losses

26 CFR 1.165–11: Election in respect of losses

attributable to a disaster.

Election in respect of losses attributable to a disaster. This ruling lists the

areas declared by the President to qualify

as major disaster areas under the Disaster

Relief and Emergency Assistance Act

since the publication of Rev. Rul. 97–11.

Rev. Rul. 98–12

Arkansas

Counties of Baxter, Clark, Clay, Conway, Craighead, Cross, Greene, Hempstead, Hot Spring, Independence, Jackson, Jefferson, Lawrence, Lee, Lincoln,

Lonoke, Mississipi, Nevada, Newton,

Poinsett, Pope, Pulaski, Saline, White,

and Woodruff

Counties of Bradley, Clay, Cleburne,

Cleveland, Columbia, Craighead, Dallas, Drew, Faulkner, Grant, Greene,

Izard, Jackson, Jefferson, Lafayette,

Lincoln, Lonoke, Monroe, Montgomery, Ouachita, Poinsett, Searcy,

Sharp, St. Francis, Stone, Union, Van

Buren, and White

California

Counties of Alameda, Alpine, Amador,

Butte, Calaveras, Colusa, Contra Costa,

Del Norte, El Dorado, Fresno, Glenn,

Humboldt, Kings, Lake, Lassen,

Madera, Marin, Mariposa, Mendocino,

1998–10 I.R.B.

5

DRAFTING INFORMATION

The principal author of this revenue

ruling is Jonathan Strum of the Office of

Assistant Chief Counsel (Income Tax and

Accounting). For further information regarding this revenue ruling, contact Mr.

Strum on (202) 622-4960 (not a toll-free

call).

March 9, 1998

Merced, Modoc, Mono, Monterey,

Napa, Nevada, Placer, Plumas, Sacramento, San Benito, San Francisco, San

Joaquin, San Luis Obispo, San Mateo,

Santa Clara, Santa Cruz, Shasta, Sierra,

Siskiyou, Solano, Sonoma, Stanislaus,

Sutter, Tehama, Trinity, Tulare,

Tuolumne, Yolo, and Yuba; and the

City of Morgan Hill

Colorado

Counties of Baca, Clear Creek, Crowley, Elbert, Kiowa, Larimer, Lincoln,

Logan, Morgan, Otero, Phillips, Prowers, and Weld

Severe storms, heavy rains, flash floods,

other flooding, mud and land slides, and

severe ground saturation

July 28-August 12, 1997

Florida

Counties of Citrus, Hernando, Hillsborough, Lake, Orange, Osceola, Pasco,

Polk, and Sumter

Severe storms, high winds, tornadoes, and

flooding

December 25, 1997-January 14, 1998

Typhoon Paka and associated torrential

rains, high winds, high surf, and tidal

surges

December 16-17, 1997

Severe storms, flooding, and mud and

land slides

November 16, 1996-January 4, 1997

Severe storms, snowmelt, and mud and

land slides

March 14-June 30, 1997

Severe storms and flooding

March 1-April 1, 1997

Severe thunder storms and flash flooding

August 16-17, 1997

Severe storms and flooding

February 28-March 31, 1997

Severe winter storm

October 26-28, 1997

Severe storms, flooding, and tornadoes

March 1-24, 1997

Guam

Territory of Guam

Idaho

Counties of Adams, Benewah, Boise,

Bonner, Boundary, Camas, Clearwater,

Elmore, Gem, Idaho, Koontenai, Latah,

Nez Perce, Owyhee, Payette,

Shoshone, Valley and Washington

Counties of Benewah, Bingham, Bonner, Bonneville, Boundary, Butte,

Custer, Fremont, Jefferson, Kootenai,

Madison, and Shoshone

Illinois

Counties of Alexander, Gallatin,

Hardin, Massac, Pope, and Pulaski

County of Cook

Indiana

Counties of Clark, Crawford, Dearborn, Floyd, Harrison, Jefferson, Ohio,

Perry, Posey, Spencer, Switzerland,

Vanderburgh, and Warrick

Iowa

Counties of Cass, Clarke, Iowa, Jasper,

Madison, Mahaska, Marion, Mills,

Polk, Pottawattamie, Poweshiek,

Union, and Warren

Kentucky

Counties of Adair, Anderson, Ballard,

March 9, 1998

6

1998–10 I.R.B.

Barren, Bath, Boone, Bourbon, Boyd,

Boyle, Bracken, Breathitt, Breckinridge, Bullitt, Butler, Caldwell, Calloway, Campbell, Carlisle, Carroll,

Carter, Casey, Christian, Clark, Clay,

Crittenden, Daviess, Edmonson, Elliott, Estill, Fayette, Fleming, Floyd,

Franklin, Fulton, Gallatin, Grant,

Graves, Grayson, Green, Greenup,

Hancock, Hardin, Harrison, Hart, Henderson, Henry, Hickman, Hopkins, Jefferson, Jessamine, Johnson, Kenton,

Knott, Larue, Lawrence, Lee, Leslie,

Letcher, Lewis, Livingston, Logan,

Lyon, Magoffin, Marion, Marshall,

Mason, McCracken, McLean, Meade,

Menifee, Mercer, Metcalfe, Monroe,

Montgomery, Morgan, Muhlenberg,

Nelson, Nicholas, Ohio, Oldham,

Owen, Pendleton, Perry, Pike, Powell,

Robertson, Rowan, Russell, Scott,

Shelby, Simpson, Spencer, Taylor,

Todd, Trigg, Trimble, Union, Warren,

Washington, Webster, and Woodford

Louisiana

Counties of Calcasieu, Cameron, and

Jefferson Davis

Severe ice storm

January 12-17, 1997

Michigan

Counties of Genesee, Macomb, Oakland, Saginaw, and Wayne

Severe storms, tornadoes, and flooding

July 2, 1997

Micronesia

Yap Proper, Ulithi Atoll, and Ngula

Atoll of Yap State

Typhoon Fern

December 25-26, 1996

Severe winter storms

January 3-February 3, 1997

Severe flooding, severe winter storms,

snowmelt, high winds, rains, and ice

March 21-May 24, 1997

Minnesota

Counties of Becker, Beltrami, Benton,

Big Stone, Blue Earth, Brown,

Chippewa, Clay, Clearwater, Cottonwood, Douglas, Faribault, Grant, Hubbard, Jackson, Kandiyohi, Kittson, Lac

Qui Parle, Lake of the Woods, Le

Sueur, Lincoln, Lyon, Mahnomen,

Marshall, Martin, McLeod, Meeker,

Murray, Nicollet, Nobles, Norman,

Otter Tail, Pennington, Pipestone, Polk,

Pope, Red Lake, Redwood, Renville,

Rock, Roseau, Sherburne, Sibley,

Stearns, Steele, Stevens, Swift, Todd,

Traverse, Wadena, Waseca, Watonwan,

Wilkin, Wright, and Yellow Medicine

Counties of Aitkin, Anoka, Becker,

Beltrami, Benton, Big Stone, Blue

Earth, Brown, Carver, Cass, Chippewa,

Clay, Clearwater, Dakota, Douglas,

1998–10 I.R.B.

7

March 9, 1998

Goodhue, Grant, Hennepin, Houston,

Hubbard, Kandiyohi, Kittson, Lac Qui

Parle, Lake of the Woods, Le Sueur,

Lincoln, Lyon, Mahnomen, Marshall,

McLeod, Morrison, Murray, Nicollet,

Norman, Otter Tail, Pennington, Polk,

Pope, Ramsey, Red Lake, Redwood,

Renville, Roseau, Scott, Sherburne,

Sibley, St. Louis, Stearns, Stevens,

Swift, Todd, Traverse, Wabasha,

Wadena, Washington, Wilkin, Winona,

Wright, and Yellow Medicine

Counties of Anoka, Hennepin, Isanti,

Kandiyohi, Ramsey, Sherburne, and

Wright

Mississippi

Counties of Bolivar, Tunica, Warren,

and Washington

Montana

Counties of Broadwater, Carbon, Dawson, Deer Lodge, Flathead, Judith

Basin, Lincoln, Madison, Meagher,

Missoula, Musselshell, Park, Prairie,

Ravalli, Richland, Roosevelt, Sanders,

Stillwater, Sweet Grass, Treasure, Valley, Wheatland, Yellowstone and the

Flathead Indian Reservation of the

Confederated Salish and Kootenai

Tribes

Nebraska

Counties of Adams, Banner, Buffalo,

Butler, Cass, Cheyenne, Clay, Custer,

Dawson, Dodge, Douglas, Fillmore,

Franklin, Frontier, Furnas, Gosper,

Hall, Hamilton, Harlan, Hayes, Hitchcock, Kearney, Kimball, Lancaster,

Lincoln, Nuckolls, Otoe, Phelps, Polk,

Red Willow, Saline, Sarpy, Saunders,

Scotts Bluff, Seward, Thayer, Washington, Webster, and York

Nevada

Counties of Churchill, Douglas, Lyon,

Mineral, Storey, and Washoe; and the

City of Carson City; and the Walker

River Paiute tribal lands located in

Churchill, Lyon, and Mineral Counties

New Jersey

County of Atlantic

March 9, 1998

Severe storms, flooding, tornadoes, and

high winds

June 28-July 27, 1997

Flooding

February 28-April 21, 1997

Severe storms, ice jams, snowmelt, flooding, and extreme soil saturation

March 1-August 6, 1997

Severe snow storms, rains, and strong

winds

October 24-26, 1997

Severe storms, flooding, and mud and

land slides

December 20, 1996-January 17, 1997

Severe storms and flooding

August 20-21, 1997

8

1998–10 I.R.B.

North Dakota

All Counties

Major winter storm and blizzard

January 3-31, 1997

Severe flooding, severe winter storm,

heavy spring rains, rapid snowmelt, high

winds, ice jams, and ground saturation

February 28-May 24, 1997

Super Typhoon Keith

November 2-3, 1997

Typhoon Paka

December 16-17, 1997

Severe storms and flooding

February 28-March 17, 1997

Severe winter storms, flooding, and mud

and land slides

December 25, 1996-January 6, 1997

Severe winter storm

November 13-26 1996

All counties

Severe winter storms and blizzard

January 3-31, 1997

Counties of Aurora, Beadle, Bennett,

Bon Homme, Brookings, Brown,

Brule, Buffalo, Butte, Campbell,

Charles Mix, Clark, Clay, Codington,

Corson, Custer, Davison, Day, Deuel,

Dewey, Douglas, Edmunds, Fall River,

Faulk, Grant, Gregory, Haakon, Hamlin, Hand, Hanson, Harding, Hughes,

Hutchinson, Hyde, Jackson, Jerauld,

Jones, Kingsbury, Lake, Lawrence,

Lincoln, Lyman, Marshall, McCook,

McPherson, Meade, Mellette, Miner,

Minnehaha, Moody, Pennington,

Perkins, Potter, Roberts, Sanborn,

Severe flooding, severe winter storms,

heavy spring rains, rapid snowmelt, high

winds, and ice jams

February 3- May 24, 1997

Counties of Adams, Barnes, Benson,

Billings, Bottineau, Bowman, Burke,

Burleigh, Cass, Cavalier, Dickey, Divide, Dunn, Eddy, Emmons, Foster,

Golden Valley, Grand Forks, Grant,

Griggs, Hettinger, Kidder, Lamoure,

Logan, McHenry, McIntosh, McKenzie, McLean, Mercer, Morton, Mountrail, Nelson, Oliver, Pembina, Pierce,

Ramsey, Ransom, Renville, Richland,

Rolette, Sargent, Sheridan, Sioux,

Slope, Stark, Steele, Stutsman, Towner,

Traill, Walsh, Ward, Wells and

Williams

Northern Marianas

Islands of Rota, Saipan, and Tinian

Island of Rota

Ohio

Counties of Adams, Athens, Brown,

Clermont, Gallia, Hamilton, Highland,

Hocking, Jackson, Lawrence, Meigs,

Monroe, Morgan, Pike, Ross, Scioto,

Vinton and Washington

Oregon

Counties of Baker, Coos, Douglas,

Gilliam, Grant, Jackson, Josephine,

Klamath, Lake, Lane, Morrow,

Umatilla, Wallowa, and Wheeler

South Dakota

Counties of Butte, Harding, Hutchinson, Lake, Meade, Minnehaha, Moody,

Pennington, Perkins, and Turner

1998–10 I.R.B.

9

March 9, 1998

Shannon, Spink, Stanley, Sully, Todd,

Tripp, Turner, Union, Walworth, Yankton, and Ziebach

Tennessee

Counties of Benton, Carroll,

Cheatham, Chester, Clay, Davidson,

DeKalb, Decatur, Dickson, Dyer, Gibson, Grundy, Hardeman, Hardin, Henderson, Henry, Houston, Humphreys,

Jackson, Lake, Lauderdale, Madison,

McNairy, Montgomery, Obion, Shelby,

Stewart, Sumner, Tipton, and Weakley

Heavy rains, tornadoes, flooding, hail,

and high winds

February 28- March 24, 1997

Severe storms and tornadoes

March 28-29, 1997

Severe thunderstorms and flooding

June 21-July 15, 1997

Excessive rainfall, high winds, and flooding

July 15-17, 1997

Severe winter storms, flooding, and mud

and land slides

December 26, 1996-February 10, 1997

Counties of Clallam, Grays Harbor,

Jefferson, King, Kitsap, Lincoln,

Mason, Pacific, Pend Oreille, Snohomish, Spokane, Stevens, and

Thurston

Heavy rains, snow melt, flooding, and

mud and land slides

March 18-28, 1997

County of Pend Oreille

Flooding and snowmelt

April 10-June 30, 1997

Heavy rains, wind driven rains, high

winds, flooding, and slides

February 28-March 15, 1997

Counties of Bradley, Grundy, Hamilton, Polk, Sequatchie, and Smith

Texas

Counties of Bandera, Bexar, Blanco,

Burnet, Comal, Eastland, Edwards,

Gillespie, Goliad, Guadalupe, Hays,

Kendall, Kerr, Kimble, Llano, Mason,

Medina, Real, San Saba, Travis, and

Uvalde

Vermont

Counties of Caledonia, Franklin, Lamoille, Orleans, and Washington

Washington

Counties of Adams, Asotin, Benton,

Chelan, Clallam, Clark, Columbia,

Cowlitz, Douglas, Ferry, Franklin,

Garfield, Grant, Grays Harbor, Island,

Jefferson, King, Kitsap, Kittitas, Klickitat, Lewis, Lincoln, Mason,

Okanogan, Pacific, Pend Oreille,

Pierce, San Juan, Skagit, Skamania,

Snohomish, Spokane, Stevens,

Thurston, Walla Walla, Whatcom,

Whitman, and Yakima

West Virginia

Counties of Braxton, Cabell, Calhoun,

Clay, Gilmer, Jackson, Kanawha, Lincoln, Mason, Putnam, Roane, Tyler,

Wayne, Wetzel, Wirt, and Wood

March 9, 1998

10

1998–10 I.R.B.

Wisconsin

Counties of Milwaukee, Ozaukee,

Washington, and Waukesha

Section 280F.—Limitation on

Depreciation for Luxury

Automobiles; Limitation Where

Certain Property Used for

Personal Purposes

26 CFR 280F–7: Property leased after December

31, 1986.

This procedure provides owners and lessees of

passenger automobiles designed to be propelled primarily by electricity and built by an original equipment manufacturer (electric automobiles) with tables detailing the limitations on depreciation

deductions for owners of electric automobiles first

placed in service after August 5, 1997, and before

January 1, 1998, and the amounts to be included in

income by lessees of electric automobiles first

leased after August 5, 1997, and before January 1,

1998. See Rev. Proc. 98–24, page 31.

Severe storms and flooding

June 21-23, 1997

ing stock, accompanied under the reorganization plan by an exchange of securities

for securities that are of equal fair market

value and equal principal amount, qualifies as a corporate reorganization under

section 368(a)(1)(B) of the Code. Section

354(a)(1) nonrecognition applies to the

securities-for-securities exchange.

Section 1.368–2(c) of the Income Tax

Regulations provides:

In order to qualify as a “reorganization” under section 368(a)(1)(B),

the acquisition by the acquiring corporation of stock of another corporation must be in exchange solely for

all or a part of the voting stock of the

acquiring corporation . . . , and the

acquiring corporation must be in control of the other corporation immediately after the transaction. If, for example, Corporation X in one

transaction exchanges nonvoting preferred stock or bonds in addition to

all or a part of its voting stock in the

acquisition of stock of Corporation Y,

the transaction is not a reorganization

under section 368(a)(1)(B).

Section 354(a)(1) provides that no gain

or loss will be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of

reorganization, exchanged solely for

stock or securities in another corporation

a party to a reorganization.

In the circumstances set forth above,

the Y shareholders receive exclusively

voting stock of X as consideration for the

exchange of their Y stock. The fact that a

substantial proportion of the Y debentures

is held by bondholders who own no stock

in Y has the effect of ensuring that the

value of the debentures issued by X in exchange for the debentures of Y realistically reflects the value of the Y debentures

alone and does not constitute indirect

nonqualifying consideration for the Y

stock. Because the Y shareholders, in

their capacity as shareholders, receive

only X voting stock, the transaction constitutes a reorganization within the meaning of § 368(a)(1)(B).

Although the acquisition by X of the

debentures of Y in exchange for debentures of X occurs as part of the overall

transaction, it is not a part of the stockfor-stock exchange which qualifies as a

reorganization. It is, however, an exchange of securities in parties to a reorganization which occurs in pursuance of the

plan of reorganization, and, therefore,

meets all the conditions of § 354(a)(1).

Rev. Rul. 98–10

ISSUE

Where a stock for stock acquisition

otherwise qualifying under § 368(a)(1)(B)

of the Internal Revenue Code is accompanied by an exchange of securities, how

should the transaction be treated?

FACTS

Section 280G.—Golden

Parachute Payments

Federal short-term, mid-term, and long-term

rates are set forth for the month of March 1998. See

Rev. Rul. 98–11, page 13.

Section 354.—Exchanges of

Stock and Securities in Certain

Reorganizations

26 CFR 1.354–1: Exchanges of stock and securities

in certain reorganizations.

The revenue ruling provides that an acquisition

of stock for voting stock, accompanied under the reorganization plan by an exchange of securities for

securities that are of equal fair market value and

equal principal amout, qualifies as a corporate reorganization under § 368(a)(1)(B) of the Code. The

revenue ruling also provides that the securities-forsecurities exchange is governed by the nonrecognition provisions of § 354(a)(1). Rev. Ruls. 68–637,

69–142, 70–41, 70–269, and 78–408 modified, superseded, amplified, as applicable. See Rev. Rul.

98–10 on this page.

Section 368.—Definitions

Relating to Corporate

Reorganizations

26 CFR 1.368-2: Definition of terms.

(Also § 354; § 1.354–1.)

Reorganizations; exchange of securities. An acquisition of sock for solely vot-

1998–10 I.R.B.

The facts are substantially similar to

the facts in Rev. Rul. 69–142, 1969–1

C.B. 107.

Corporation X acquires all of the outstanding capital stock of Corporation Y in

exchange for voting stock of X. Corporation Y is a solvent corporation. Prior to

the exchange, Y has an issue of six percent fifteen-year debentures outstanding.

Pursuant to the plan of reorganization, X

acquires all the outstanding debentures of

Y in exchange for an equal principal

amount of new six percent fifteen-year

debentures of X. Some of the debentures

of Y are held by its shareholders, but a

substantial proportion of the Y debentures

are held by persons who own no stock.

X is in control of Y immediately after

the acquisition of the Y stock. The X and

Y debentures constitute “securities” within the meaning of § 354(a)(1) and, thus,

do not represent an equity interest. Disregarding the exchange of debentures, the

transaction meets the requirements of

368(a)(1)(B).

LAW AND ANALYSIS

Section 368(a)(1)(B) provides that a reorganization includes the acquisition by

one corporation, in exchange solely for all

or a part of its voting stock, of stock of

another corporation if, immediately after

the acquisition, the acquiring corporation

has control of such other corporation.

11

March 9, 1998

Accordingly, any gain or loss realized by

the debenture holders of Y as a result of

their exchange of their Y debentures for

an equal principal amount of debentures

of X will not be recognized. Section

354(a)(1). If, under different facts, the

principal amount of the debentures of X

was greater than the principal amount of

the debentures of Y, §§ 354(a)(2) and

356(d) would apply to require the debenture holders of Y to recognize some or all

of any gain realized.

HOLDING

The exchange of Y stock for X stock is

a reorganization described in § 368(a)(1)(B); and any gain or loss realized by

the shareholders of Y as a result of the exchange will not be recognized. Section

354(a)(1).

The separate exchange of Y debentures

for X debentures is an exchange in pursuance of the plan of reorganization described in § 368(a)(1)(B). Thus, any gain

or loss realized by the debenture holders

of Y as a result of their exchange of their Y

debentures for an equal principal amount

of debentures of X will not be recognized.

Section 354(a)(1).

In certain cases, rights to acquire stock

of a party to a reorganization are “securities” for purposes of § 354. See § 1.354–

1(e) (as amended by T.D. 8752, 1998–9

I.R.B. 4, effective for exchanges occurring on or after March 9, 1998). An exchange of such rights, although separate

from a § 368 exchange, may also be in

pursuance of the plan of reorganization.

In such cases, any gain or loss realized by

the holder of such rights as a result of the

exchange will not be recognized. Section

354(a)(1).

EFFECT ON OTHER REVENUE

RULINGS

Rev. Rul. 69–142, which dealt with

substantially identical facts, is modified

and superseded.

Rev. Rul. 70–41, 1970–1 C.B. 77, deals

with a stock-for-stock exchange accompanied by an exchange of Acquired

debentures for Acquiring stock. It is

modified such that § 354 applies to the

exchange of debentures for stock.

Rev. Rul. 78–408, 1978–2 C.B. 203,

deals with a stock-for-stock exchange accompanied by a warrant-for-warrant ex-

March 9, 1998

change. It is modified such that § 354 applies to the exchange of warrants provided that the warrants constitute securities. See § 1.354–1(e).

Rev. Ruls. 68–637, 1968–2 C.B. 158,

and 70–269, 1970–1 C.B. 82, similarly

deal with reorganization exchanges accompanied by exchanges of warrants or

options. Each is amplified such that

§ 354 applies to the exchange of warrants

or options, provided that, as in Rev. Rul.

78–408 above, the warrants or options

constitute securities.

PROSPECTIVE APPLICATION

Section 7805(b) provides that the Secretary may prescribe the extent, if any, to

which any ruling relating to the internal

revenue laws shall be applied without

retroactive effect. Pursuant to the authority contained in § 7805(b), this revenue

ruling will be applied only to corporate

reorganizations in which the exchange of

securities occurs on or after March 9,

1998, the date this revenue ruling is published in the Internal Revenue Bulletin.

Transactions in which the exchange of securities occurs prior to this date will continue to be governed by the rules as they

existed prior to publication of this revenue ruling.

DRAFTING INFORMATION

The principal author of this revenue

ruling is Michael J. Danbury of the Office

of Assistant Chief Counsel (Corporate).

For further information regarding this

revenue ruling, contact Mr. Danbury on

(202) 622-7750 (not a toll-free call).

Section 382.—Limitation on Net

Operating Loss Carryforwards

and Certain Built-In Losses

Following Ownership Change

The adjusted federal long-term rate is set forth

for the month of March 1998. See Rev. Rul. 98–11,

page 13.

Section 412.—Minimum Funding

Standards

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

12

Section 467.—Certain Payments

for the Use of Property or

Services

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

Section 468.—Special Rules for

Mining and Solid Waste

Reclamation and Closing Costs

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

Section 482.—Allocation of

Income and Deductions Among

Taxpayers

Federal short-term, mid-term, and long-term

rates are set forth for the month of March 1998. See

Rev. Rul. 98–11, page 13.

Section 483.—Interest on

Certain Deferred Payments

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

Section 642.—Special Rules for

Credits and Deductions

Federal short-term, mid-term, and long-term

rates are set forth for the month of March 1998. See

Rev. Rul. 98–11, page 13.

Section 807.—Rules for Certain

Reserves

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

Section 846.—Discounted

Unpaid Losses Defined

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

Section 985.—Functional

Currency

The Treasury Department and the IRS are soliciting comments on the tax issues raised by the conver-

1998–10 I.R.B.

sion of certain European countries’ currencies to a

single European currency (euro). See Announcement 98–18, page 44.

26 CFR 1.985–5: Adjustments Required Upon

Change in Functional Currency

Section 1274.—Determination

of Issue Price in the Case of

Certain Debt Instruments Issued

for Property

(Also Sections 42, 280G, 382, 412, 467, 468, 482,

483, 642, 807, 846, 1288, 7520, 7872.)

The Treasury Department and the IRS are soliciting comments on the tax issues raised by the conversion of certain European countries’ currencies to a

single European currency (euro). See Announcement 98–18, page 44.

Section 989.—Other Definitions

and Special Rules

Federal rates; adjusted federal rates;

adjusted federal long-term rate, and

the long-term exempt rate. For purposes

of sections 1274, 1288, 382, and other

sections of the Code, tables set forth the

rates for March 1998.

Rev. Rul. 98–11

The Treasury Department and the IRS are soliciting comments on the tax issues raised by the conversion of certain European countries’ currencies to a

single European currency (euro). See Announcement 98–18, page 44.

This revenue ruling provides various

prescribed rates for federal income tax

purposes for March 1998 (the current

month.) Table 1 contains the short-term,

mid-term, and long-term applicable fed-

eral rates (AFR) for the current month for

purposes of section 1274(d) of the Internal Revenue Code. Table 2 contains the

short-term, mid-term, and long-term adjusted applicable federal rates (adjusted

AFR) for the current month for purposes

of section 1288(b). Table 3 sets forth the

adjusted federal long-term rate and the

long-term tax-exempt rate described in

section 382(f). Table 4 contains the appropriate percentages for determining the

low-income housing credit described in

section 42(b)(2) for buildings placed in

service during the current month. Finally,

Table 5 contains the federal rate for determining the present value of an annuity, an

interest for life or for a term of years, or a

remainder or a reversionary interest for

purposes of section 7520.

REV. RUL. 98–11 TABLE 1

Applicable Federal Rates (AFR) for March 1998

Period for Compounding

Annual

Semiannual

Quarterly

Monthly

Short-Term

AFR

110% AFR

120% AFR

130% AFR

5.39%

5.94%

6.48%

7.04%

5.32%

5.85%

6.38%

6.92%

5.29%

5.81%

6.33%

6.86%

5.26%

5.78%

6.30%

6.82%

Mid-Term

AFR

110% AFR

120% AFR

130% AFR

150% AFR

175% AFR

5.59%

6.15%

6.72%

7.29%

8.44%

9.87%

5.51%

6.06%

6.61%

7.16%

8.27%

9.64%

5.47%

6.01%

6.56%

7.10%

8.19%

9.53%

5.45%

5.98%

6.52%

7.06%

8.13%

9.45%

Long-Term

AFR

110% AFR

120% AFR

130% AFR

5.91%

6.51%

7.12%

7.72%

5.83%

6.41%

7.00%

7.58%

5.79%

6.36%

6.94%

7.51%

5.76%

6.33%

6.90%

7.46%

1998–10 I.R.B.

13

March 9, 1998

REV. RUL. 98–11 TABLE 2

Adjusted AFR for March 1998

Period for Compounding

Annual

Semiannual

Quarterly

Monthly

Short-term

adjusted AFR

3.77%

3.74%

3.72%

3.71%

Mid-term

adjusted AFR

4.14%

4.10%

4.08%

4.07%

Long-term

adjusted AFR

4.88%

4.82%

4.79%

4.77%

REV. RUL. 98–11 TABLE 3

Rates Under Section 382 for March 1998

Adjusted federal long-term rate for the current month

4.88%

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 and the prior two months.)

5.10%

REV. RUL. 98–11 TABLE 4

Appropriate Percentages Under Section 42(b)(2) for March 1998

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

8.35%

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

3.58%

REV. RUL. 98–11 TABLE 5

Rate Under Section 7520 for March 1998

Applicable federal rate for determining the present value of an annuity, an interest for life or a

term of years, or a remainder or reversionary interest

March 9, 1998

14

6.8%

1998–10 I.R.B.

Section 1275.—Other

Definitions and Special Rules

26 CFR 1.1275–1: Definitions.

T.D. 8754

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

Debt Instruments With Original

Issue Discount; Annuity

Contracts

AGENCY: Internal Revenue Service

(IRS), Treasury.

ACTION: Final regulations.

SUMMARY: This document contains

final regulations relating to the federal income tax treatment of certain annuity

contracts. The regulations determine

which of these contracts are taxed as debt

instruments for purposes of the original

issue discount provisions of the Internal

Revenue Code. The regulations provide

needed guidance to owners and issuers of

these contracts.

DATES: Effective date: The regulations

are effective February 9, 1998.

Applicability dates: For dates of applicability, see §1.1275–1(j)(8).

FOR FURTHER INFORMATION CONTACT: Jonathan R. Zelnik, (202)

622–3930 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

Sections 163(e) and 1271 through 1275

of the Internal Revenue Code (Code) provide rules for the treatment of debt instruments that have original issue discount

(OID).

On February 2, 1994, the IRS and Treasury published in the Federal Register

(59 F.R. 4799) final regulations under the

OID provisions. On April 7, 1995, the

IRS published in the Federal Register

(60 F.R. 17731) a notice of proposed rulemaking relating to the federal income tax

treatment of annuity contracts that are not

1998–10 I.R.B.

issued by insurance companies subject to

tax under subchapter L of the Code. The

proposed regulations treat certain of these

annuity contracts as debt instruments for

purposes of the OID provisions.

The IRS received a number of written

comments on the proposed regulations.

In addition, on August 8, 1995, the IRS

held a public hearing on the proposed regulations. The proposed regulations, with

certain changes in response to comments,

are adopted as final regulations. The

comments and changes are discussed

below.

Explanation of Provisions

Certain Annuity Contracts

The OID provisions generally apply to

issuers and holders of debt instruments.

The term debt instrument means any instrument or contractual arrangement that

constitutes indebtedness under general

principles of federal income tax law. See

section 1275(a)(1) and §1.1275–1(d).

Section 1275(a)(1)(B) excepts two

types of annuity contracts from the definition of debt instrument (and, therefore,

from the OID provisions). First, section

1275(a)(1)(B)(i) excepts an annuity contract to which section 72 applies if the

contract “depends (in whole or in substantial part) on the life expectancy of 1 or

more individuals.” Second, section

1275(a)(1)(B)(ii) excepts an annuity contract to which section 72 applies if the

contract is issued by “an insurance company subject to tax under subchapter L”

and the circumstances of the contract’s issuance meet certain criteria.

The proposed regulations address only

the first exception, which is contained in

section 1275(a)(1)(B)(i). Under the proposed regulations, an annuity contract

qualifies for the exception in section

1275(a)(1)(B)(i) only if all payments

under the contract are periodic payments

that: (1) are made at least annually for the

life (or lives) of one or more individuals;

(2) do not increase at any time during the

life of the contract; and (3) are part of a

series of payments that begins within one

year of the date of the initial investment in

the contract. An annuity contract that is

otherwise described in the preceding sentence, however, does not fail to qualify

for the exception in section 1275(a)-

15

(1)(B)(i) merely because it also provides

for a payment (or payments) made by reason of the death of one or more individuals. Thus, under the proposed regulations,

the exception in section 1275(a)(1)(B)(i)

applies only to an immediate annuity contract with level (or decreasing) payments

for the life (or lives) of one or more individuals. No deferred annuity contract

qualifies for the exception.

Several commentators questioned the

approach of the proposed regulations. In

particular, they contended that the exception in section 1275(a)(1)(B)(i) should not

be limited to those annuity contracts that

require periodic payments to begin within

one year of the date of the initial investment in the contract. That is, deferred annuities, if dependent in whole or substantial part on an individual’s (or several

individuals’) survival, should also qualify

for the exception in section 1275(a)(1)(B)(i). Other commentators took issue

with this point of view and contended that

the proposed regulations should be finalized without substantial change.

After a careful review of this issue, the

IRS and the Treasury have modified the

regulations to eliminate the requirement

that annuity distributions begin within

one year of the date of the initial investment in the contract. Instead, as suggested by the legislative history, the final

regulations interpret section 1275(a)(1)(B)(i) as excepting from the definition

of debt instrument only those annuity

contracts that contain terms ensuring that

the life contingency under the contract is

both “real and significant.” H.R. Conf.

Rep. No. 861, 98th Cong., 2d Sess. 887

(1984), 1984–3 (Vol. 2) C.B. 141. The

Treasury and the IRS have determined

that the life contingency under an annuity

contract is “real and significant” within

the meaning of the legislative history only

if, on the day the contract is purchased,

there is a high probability that total distributions under the contract will increase

commensurately with the longevity of the

individual (or individuals) over whose life

(or lives) the distributions are to be made.

(These individuals are hereinafter referred

to as annuitants.) The final regulations,

therefore, provide a two-pronged general

rule: An annuity contract qualifies for the

exception in section 1275(a)(1)(B)(i) only

if it both: (1) provides for periodic distrib-

March 9, 1998

utions made at least annually for the life

(or joint lives) of an individual (or a reasonable number of individuals); and (2)

contains no terms or provisions that can

significantly reduce the probability that

total distributions will increase commensurately with longevity.

The final regulations identify several

types of terms and provisions that can significantly reduce the probability that total

distributions under the contract will increase commensurately with longevity.

These terms and provisions include the

availability of a cash surrender option, the

availability of a loan secured by the contract, minimum payout provisions, maximum payout provisions, and provisions

that allow decreasing payouts. Subject to

limited exceptions, the presence of any of

these terms or provisions causes an annuity contract to fail to qualify for the exception in section 1275(a)(1)(B)(i). The

list of identified terms and provisions in

the final regulations is not exclusive. A

contract fails to qualify for the exception

in section 1275(a)(1)(B)(i) if the contract

contains any other term or provision that

can significantly reduce the probability

that total distributions under the contract

will increase commensurately with

longevity.

Cash Surrender Options and Loans

Secured by the Contract

If the holder of an annuity contract can

exchange or surrender all or part of the

contract for a distribution or for distributions that are not contingent on life, the

holder’s decision whether, and when, to

exchange or surrender the contract can

render the life contingency insignificant.

Similarly, if the holder of an annuity contract can borrow against the contract, the

holder’s decision whether, and when, to

borrow can have a comparable effect.

The final regulations, therefore, provide

that, if either the issuer or a person acting

in concert with the issuer explicitly or implicitly makes available either a cash surrender option or a loan secured by the

contract, then the contract contains a term

that can significantly reduce the probability that total distributions on the contract

will increase commensurately with

longevity. That availability, therefore,

causes the contract to fail to qualify for

the exception in section 1275(a)(1)(B)(i).

March 9, 1998

Minimum Payout Provisions

If an annuity contract guarantees that a

minimum amount will be distributed regardless of the death of the individual (or

individuals) over whose life (or lives)

payments are to be made, the minimum

amount is not subject to the life contingency. In addition, the larger the minimum amount relative to aggregate expected distributions over the remaining

(joint) life expectancy of the annuitant (or

annuitants), the less likely it is that total

distributions under the contract will increase commensurately with the longevity

of the annuitant (or annuitants). A sufficiently large minimum amount renders

the life contingency virtually meaningless. For example, consider a contract

that provides for monthly distributions to

begin on the annuity starting date and to

extend for the longer of the life of the annuitant or 20 years, regardless of the annuitant’s age. If the annuitant has a life

expectancy as of the annuity starting date

of 5 years, it is likely that distributions

will be made for exactly 20 years, regardless of when the annuitant dies. In this

case, although the form of the contract indicates that it depends on life, the existence of the minimum payout provision

significantly reduces the probability that

total distributions under the contract will

depend on longevity.

Because the existence of a minimum

payout provision can significantly reduce

the probability that total distributions

under the contract will increase commensurately with longevity, the existence of

any such provision generally causes the

contract to fail to qualify for the exception

in section 1275(a)(1)(B)(i). The final regulations provide only two exceptions to

this general rule. First, an annuity contract does not fail to be described in section 1275(a)(1)(B)(i) merely because it

contains a minimum payout provision that

guarantees a death benefit no greater than

the unrecovered consideration paid for the

contract. Second, an annuity contract

does not fail to be described in section

1275(a)(1)(B)(i) merely because the contract provides that, after annuitization,

distributions may be guaranteed to continue for a term certain that is no longer

than one-half of the period of time from

the annuity starting date to the expected

date of the “terminating death.”

16

The terminating death is the annuitant

death that, in general, causes annuity payments to cease under the contract. The

expected date of the terminating death is

determined as of the annuity starting date

with respect to all then-surviving annuitants by reference to the applicable mortality table prescribed under section

417(e)(3)(A)(ii)(I). See Rev. Rul. 95–6,

1995–1 C.B. 80, for the applicable mortality table that is prescribed for this purpose as of January 8, 1998.

Maximum Payout Provisions

If an annuity contract provides that distributions will cease if an annuitant lives

beyond a specified date, total distributions under the contract may fail to increase commensurately with longevity. If

the specified date is relatively early (when

compared to the annuitant’s life expectancy as of the annuity starting date),

its existence significantly reduces the

probability that total distributions under

the contract will increase commensurately

with longevity. Conversely, if the specified date is very late (when compared to

the annuitant’s life expectancy as of the

annuity starting date), its existence does

not significantly reduce the probability

that total distributions under the contract

will increase commensurately with

longevity. For example, consider an annuity contract that provides that distributions will be made for the life of the annuitant but in no event for more than 30

years. If the annuitant is a relatively

young person, this maximum payout provision significantly attenuates the life

contingency. On the other hand, if the annuitant has a life expectancy of 10 years

on the annuity starting date, this maximum payout provision is unlikely to determine the total distributions.

Because the existence of a maximum

payout provision can significantly reduce

the probability that total distributions

under the contract will increase commensurately with longevity, the final regulations provide that the existence of any

maximum payout provision generally

causes the contract to fail to qualify for the

exception in section 1275(a)(1)(B)(i).

There is a single exception to this general

rule in cases where the period of time between the annuity starting date and the

date after which (under the maximum pay-

1998–10 I.R.B.

out provision) no distributions will be

made is at least twice as long as the period

of time from the annuity starting date to

the expected date of the terminating death.

Decreasing Payout Provisions

The connection between longevity and

distributions under an annuity contract is

apparent in the case of a contract that provides for equal annual distributions for

life. For each year the annuitant lives, another equal distribution is made. If distributions decrease over time, this connection can become attenuated. Consider an

annuity contract that provides for a distribution upon annuitization of $100,000

followed by annual distributions of $10

per year for life. Although this contract

provides for periodic distributions for life,

the pattern of the distributions causes the

amount distributed to fail to adequately

reflect longevity.

If the amount of distributions under an

annuity contract during any contract year

may be less than the amount of distributions during the preceding year, the final

regulations provide that this possibility

can significantly reduce the probability

that total distributions under the contract

will increase commensurately with

longevity. Thus, the existence of this possibility generally causes the contract to

fail to qualify for the exception in section

1275(a)(1)(B)(i). There is a single exception to this general rule for certain variable distributions that are closely tied to

investment experience, inflation, or similar fluctuating criteria. In these cases,

because the provision can result in comparable increases in the amount of distributions, the possibility that the distributions may decline from year to year does

not significantly reduce the probability

that total distributions under the contract

will increase commensurately with

longevity.

Private and Charitable Gift Annuity

Contracts

Several commentators expressed concerns that the proposed regulations, if finalized, would alter the tax treatment traditionally afforded private and charitable

gift annuity contracts. Private annuity

contracts are typically issued as consideration in intra-family transfers of property.

Charitable gift annuity contracts are typi-

1998–10 I.R.B.

cally issued by charitable institutions in

exchange for a transfer of cash or property greater in value than the annuity. Because these contracts may call for periodic distributions to begin more than one

year after they are issued, there was concern that, under the proposed regulations,

they might fail to qualify for the exception in section 1275(a)(1)(B)(i).

In many cases, distributions under private and charitable gift annuity contracts

are entirely contingent on the survival of

one individual (or a small number of individuals). These contracts are not indebtedness under general principles of federal income tax law and, therefore, are not within

the definition of debt instrument in section

1275(a)(1)(A). For almost all other private

and charitable gift annuities, the final regulations address the concern by removing

the requirement that the distributions begin

within one year of the date of the initial investment in the contract.

Annuity Contracts Issued by Foreign

Insurance Companies

One commentator asked the IRS to clarify the treatment of annuity contracts issued by a foreign insurance company that

does not engage in a trade or business

within the United States. In particular, the

commentator asked for guidance on

whether such an annuity contract qualifies

under section 1275(a)(1)(B)(ii), which provides a broad exception from the definition

of debt instrument for certain annuity contracts issued by “an insurance company

subject to tax under subchapter L.” These

regulations do not address the exception in

section 1275(a)(1)(B)(ii). The Treasury

and the IRS, however, welcome comments

on the proper scope of that provision.

Certain Compensation Arrangements

Several commentators questioned

whether the proposed regulations apply to

certain compensation arrangements

whose distributions are taxed under section 72. The timing rules of the OID provisions do not apply to compensation

arrangements that are subject to other specific Code or regulations provisions. For

example, if an arrangement is described

in the first sentence of section 404(a) or in

section 404(b) or if amounts under the

arrangement are includible under sections

83, 403, or 457, or under §1.61–2, the

17

arrangement is not subject to the OID timing provisions. See also §§1.1273–2(d)

and 1.1274–1(a), under which a nonpublicly traded debt instrument issued for services has an issue price equal to its stated

redemption price at maturity and, therefore, has no OID.

Special Analyses

It has been determined that this Treasury decision is not a significant regulatory action as defined in EO 12866.

Therefore, a regulatory assessment is not

required. It has also been determined that

section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does not

apply to these regulations. Because the

notice of proposed rulemaking preceding

the regulations was issued prior to March

29, 1996, the Regulatory Flexibility Act

(5 U.S.C. chapter 6) does not apply. Pursuant to section 7805(f) of the Code, the

notice of proposed rulemaking was submitted to the Small Business Administration for comment on its impact on small

business.

Drafting Information

Several persons from the Office of

Chief Counsel and the Treasury department participated in developing these regulations.

*

*

*

*

*

Adoption of Amendments to the

Regulations

Accordingly, 26 CFR part 1 is amended

as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation for

part 1 is amended by removing the entries

for “Sections 1.1271–1 through 1.1274–

5” and “Sections 1.1275–1 through

1.1275–5” and adding the following entries in numerical order to read as follows:

Authority: 26 U.S.C. 7805 * * *

Section 1.1271–1 also issued under 26

U.S.C. 1275(d).

Section 1.1272–1 also issued under 26

U.S.C. 1275(d).

Section 1.1272–2 also issued under 26

U.S.C. 1275(d).

Section 1.1272–3 also issued under 26

U.S.C. 1275(d).

Section 1.1273–1 also issued under 26

March 9, 1998

U.S.C. 1275(d).

Section 1.1273–2 also issued under 26

U.S.C. 1275(d).

Section 1.1274–1 also issued under 26

U.S.C. 1275(d).

Section 1.1274–2 also issued under 26

U.S.C. 1275(d).

Section 1.1274–3 also issued under 26

U.S.C. 1275(d).

Section 1.1274–4 also issued under 26

U.S.C. 1275(d).

Section 1.1274–5 also issued under 26

U.S.C. 1275(d). * * *

Section 1.1275–1 also issued under 26

U.S.C. 1275(d).

Section 1.1275–2 also issued under 26

U.S.C. 1275(d).

Section 1.1275–3 also issued under 26

U.S.C. 1275(d).

Section 1.1275–4 also issued under 26

U.S.C. 1275(d).

Section 1.1275–5 also issued under 26

U.S.C. 1275(d). * * *

Par. 2. Section 1.1271–0 is amended

by adding entries for paragraphs (i)

through (j)(8) to §1.1275–1 to read as follows:

§1.1271–0 Original issue discount;

effective dates; table of contents.

*

*

*

*

*

§1.1275–1 Definitions.

* * * * *

(i) [Reserved]

(j) Life annuity exception under section

1275(a)(1)(B)(i).

(1) Purpose.

(2) General rule.

(3) Availability of a cash surrender option.

(4) Availability of a loan secured by the

contract.

(5) Minimum payout provision.

(6) Maximum payout provision.

(7) Decreasing payout provision.

(8) Effective dates.

*

*

*

*

*

Par. 3. Section 1.1275–1 is amended

by:

1. Revising the first sentence of paragraph (d).

2. Adding and reserving paragraph (i).

3. Adding paragraph (j).

The revision and additions read as follows:

March 9, 1998

§1.1275–1 Definitions.

* * * * *

(d) Debt instrument. Except as provided in section 1275(a)(1)(B) (relating to

certain annuity contracts; see paragraph

(j) of this section), debt instrument means

any instrument or contractual arrangement that constitutes indebtedness under

general principles of Federal income tax

law (including, for example, a certificate

of deposit or a loan). * * *

*

*

*

*

*

(i) [Reserved]

(j) Life annuity exception under section

1275(a)(1)(B)(i)—(1) Purpose. Section

1275(a)(1)(B)(i) excepts an annuity contract from the definition of debt instrument if section 72 applies to the contract

and the contract depends (in whole or in

substantial part) on the life expectancy of

one or more individuals. This paragraph

(j) provides rules to ensure that an annuity

contract qualifies for the exception in section 1275(a)(1)(B)(i) only in cases where

the life contingency under the contract is

real and significant.

(2) General rule—(i) Rule. For purposes of section 1275(a)(1)(B)(i), an annuity contract depends (in whole or in

substantial part) on the life expectancy of

one or more individuals only if—

(A) The contract provides for periodic

distributions made not less frequently

than annually for the life (or joint lives) of

an individual (or a reasonable number of

individuals); and

(B) The contract does not contain any

terms or provisions that can significantly

reduce the probability that total distributions under the contract will increase

commensurately with the longevity of the

annuitant (or annuitants).

(ii) Terminology. For purposes of this

paragraph (j):

(A) Contract. The term contract includes all written or unwritten understandings among the parties as well as any

person or persons acting in concert with

one or more of the parties.

(B) Annuitant. The term annuitant

refers to the individual (or reasonable

number of individuals) referred to in paragraph (j)(2)(i)(A) of this section.

(C) Terminating death. The phrase terminating death refers to the annuitant

death that can terminate periodic distribu-

18

tions under the contract. (See paragraph

(j)(2)(i)(A) of this section.) For example,

if a contract provides for periodic distributions until the later of the death of the

last-surviving annuitant or the end of a

term certain, the terminating death is the

death of the last-surviving annuitant.

(iii) Coordination with specific rules.

Paragraphs (j)(3) through (7) of this section describe certain terms and conditions

that can significantly reduce the probability that total distributions under the contract will increase commensurately with

the longevity of the annuitant (or annuitants). If a term or provision is not specifically described in paragraphs (j)(3)

through (7) of this section, the annuity

contract must be tested under the general

rule of paragraph (j)(2)(i) of this section

to determine whether it depends (in whole

or in substantial part) on the life expectancy of one or more individuals.

(3) Availability of a cash surrender option—(i) Impact on life contingency. The

availability of a cash surrender option can

significantly reduce the probability that

total distributions under the contract will

increase commensurately with the

longevity of the annuitant (or annuitants).

Thus, the availability of any cash surrender option causes the contract to fail to be

described in section 1275(a)(1)(B)(i). A

cash surrender option is available if there

is reason to believe that the issuer (or a

person acting in concert with the issuer)

will be willing to terminate or purchase

all or a part of the annuity contract by

making one or more payments of cash or

property (other than an annuity contract

described in this paragraph (j)).

(ii) Examples. The following examples

illustrate the rules of this paragraph (j)(3):

Example 1. (i) Facts. On March 1, 1998, X issues a contract to A for cash. The contract provides

that, effective on any date chosen by A (the annuity

starting date), X will begin equal monthly distributions for A’s life. The amount of each monthly distribution will be no less than an amount based on the

contract’s account value as of the annuity starting

date, A’s age on that date, and permanent purchase

rate guarantees contained in the contract. The contract also provides that, at any time before the annuity starting date, A may surrender the contract to X

for the account value less a surrender charge equal to

a declining percentage of the account value. For this

purpose, the initial account value is equal to the cash

invested. Thereafter, the account value increases annually by at least a minimum guaranteed rate.

(ii) Analysis. The ability to obtain the account

value less the surrender charge, if any, is a cash surrender option. This ability can significantly reduce

1998–10 I.R.B.

the probability that total distributions under the contract will increase commensurately with A’s

longevity. Thus, the contract fails to be described in

section 1275(a)(1)(B)(i).

Example 2. (i) Facts. On March 1, 1998, X issues a contract to B for cash. The contract provides

that beginning on March 1, 1999, X will distribute to

B a fixed amount of cash each month for B’s life.

Based on X’s advertisements, marketing literature,

or illustrations or on oral representations by X’s

sales personnel, there is reason to believe that an affiliate of X stands ready to purchase B’s contract for

its commuted value.

(ii) Analysis. Because there is reason to believe

that an affiliate of X stands ready to purchase B’s

contract for its commuted value, a cash surrender

option is available within the meaning of paragraph

(j)(3)(i) of this section. This availability can significantly reduce the probability that total distributions

under the contract will increase commensurately

with B’s longevity. Thus, the contract fails to be described in section 1275(a)(1)(B)(i).

(4) Availability of a loan secured by

the contract—(i) Impact on life contingency. The availability of a loan secured

by the contract can significantly reduce

the probability that total distributions

under the contract will increase commensurately with the longevity of the annuitant (or annuitants). Thus, the availability

of any such loan causes the contract to fail

to be described in section 1275(a)(1)(B)(i). A loan secured by the contract is

available if there is reason to believe that

the issuer (or a person acting in concert

with the issuer) will be willing to make a

loan that is directly or indirectly secured

by the annuity contract.

(ii) Example. The following example

illustrates the rules of this paragraph

(j)(4):

Example. (i) Facts. On March 1, 1998, X issues

a contract to C for $100,000. The contract provides

that, effective on any date chosen by C (the annuity

starting date), X will begin equal monthly distributions for C’s life. The amount of each monthly distribution will be no less than an amount based on the

contract’s account value as of the annuity starting

date, C’s age on that date, and permanent purchase

rate guarantees contained in the contract. From marketing literature circulated by Y, there is reason to

believe that, at any time before the annuity starting

date, C may pledge the contract to borrow up to

$75,000 from Y. Y is acting in concert with X.

(ii) Analysis. Because there is reason to believe

that Y, a person acting in concert with X, is willing

to lend money against C’s contract, a loan secured

by the contract is available within the meaning of

paragraph (j)(4)(i) of this section. This availability

can significantly reduce the probability that total

distributions under the contract will increase commensurately with C’s longevity. Thus, the contract

fails to be described in section 1275(a)(1)(B)(i).

(5) Minimum payout provision—(i) Im-

1998–10 I.R.B.

pact on life contingency. The existence of

a minimum payout provision can significantly reduce the probability that total

distributions under the contract will increase commensurately with the longevity

of the annuitant (or annuitants). Thus, the

existence of any minimum payout provision causes the contract to fail to be described in section 1275(a)(1)(B)(i).

(ii) Definition of minimum payout provision. A minimum payout provision is a

contractual provision (for example, an

agreement to make distributions over a

term certain) that provides for one or

more distributions made—

(A) After the terminating death under

the contract; or

(B) By reason of the death of any individual (including distributions triggered

by or increased by terminal or chronic illness, as defined in section 101(g)(1)(A)

and (B)).

(iii) Exceptions for certain minimum

payouts—(A) Recovery of consideration

paid for the contract. Notwithstanding

paragraphs (j)(2)(i)(A) and (j)(5)(i) of this

section, a contract does not fail to be described in section 1275(a)(1)(B)(i) merely

because it provides that, after the terminating death, there will be one or more

distributions that, in the aggregate, do not

exceed the consideration paid for the contract less total distributions previously

made under the contract.

(B) Payout for one-half of life expectancy. Notwithstanding paragraphs

(j)(2)(i)(A) and (j)(5)(i) of this section, a

contract does not fail to be described in

section 1275(a)(1)(B)(i) merely because it

provides that, if the terminating death occurs after the annuity starting date, distributions under the contract will continue to

be made after the terminating death until a

date that is no later than the halfway date.

This exception does not apply unless the

amounts distributed in each contract year

will not exceed the amounts that would

have been distributed in that year if the

terminating death had not occurred until

the expected date of the terminating

death, determined under paragraph

(j)(5)(iii)(C) of this section.

(C) Definition of halfway date. For

purposes of this paragraph (j)(5)(iii), the

halfway date is the date halfway between

the annuity starting date and the expected

date of the terminating death, determined

as of the annuity starting date, with re-

19

spect to all then-surviving annuitants.

The expected date of the terminating

death must be determined by reference to

the applicable mortality table prescribed

under section 417(e)(3)(A)(ii)(I).

(iv) Examples. The following examples illustrate the rules of this paragraph

(j)(5):

Example 1. (i) Facts. On March 1, 1998, X issues a contract to D for cash. The contract provides

that, effective on any date D chooses (the annuity

starting date), X will begin equal monthly distributions for the greater of D’s life or 10 years, regardless of D’s age as of the annuity starting date. The

amount of each monthly distribution will be no less

than an amount based on the contract’s account

value as of the annuity starting date, D’s age on that

date, and permanent purchase rate guarantees contained in the contract.

(ii) Analysis. A minimum payout provision exists

because, if D dies within 10 years of the annuity

starting date, one or more distributions will be made

after D’s death. The minimum payout provision

does not qualify for the exception in paragraph

(j)(5)(iii)(B) of this section because D may defer the

annuity starting date until his remaining life expectancy is less than 20 years. If, on the annuity

starting date, D’s life expectancy is less than 20

years, the minimum payout period (10 years) will

last beyond the halfway date. The minimum payout

provision, therefore, can significantly reduce the

probability that total distributions under the contract

will increase commensurately with D’s longevity.

Thus, the contract fails to be described in section

1275(a)(1)(B)(i).

Example 2. (i) Facts. The facts are the same as

in Example 1 of this paragraph (j)(5)(iv) except that

the monthly distributions will last for the greater of

D’s life or a term certain. D may choose the length

of the term certain subject to the restriction that, on

the annuity starting date, the term certain must not

exceed one-half of D’s life expectancy as of the annuity starting date. The contract also does not provide for any adjustment in the amount of distributions by reason of the death of D or any other

individual, except for a refund of D’s aggregate premium payments less the sum of all prior distributions under the contract.

(ii) Analysis. The minimum payout provision

qualifies for the exception in paragraph (j)(5)(iii)(B)

of this section because distributions under the minimum payout provision will not continue past the

halfway date and the contract does not provide for

any adjustments in the amount of distributions by

reason of the death of D or any other individual,

other than a guaranteed death benefit described in

paragraph (j)(5)(iii)(A) of this section. Accordingly,

the existence of this minimum payout provision

does not prevent the contract from being described

in section 1275(a)(1)(B)(i).

(6) Maximum payout provision—(i)

Impact on life contingency. The existence of a maximum payout provision

can significantly reduce the probability

that total distributions under the contract

will increase commensurately with the

March 9, 1998

longevity of the annuitant (or annuitants).

Thus, the existence of any maximum

payout provision causes the contract to

fail to be described in section 1275(a)(1)(B)(i).

(ii) Definition of maximum payout provision. A maximum payout provision is a

contractual provision that provides that no

distributions under the contract may be

made after some date (the termination

date), even if the terminating death has

not yet occurred.

(iii) Exception. Notwithstanding paragraphs (j)(2)(i)(A) and (j)(6)(i) of this section, an annuity contract does not fail to be

described in section 1275(a)(1)(B)(i)

merely because the contract contains a

maximum payout provision, provided that

the period of time from the annuity starting date to the termination date is at least

twice as long as the period of time from

the annuity starting date to the expected

date of the terminating death, determined

as of the annuity starting date, with respect

to all then-surviving annuitants. The expected date of the terminating death must

be determined by reference to the applicable mortality table prescribed under section 417(e)(3)(A)(ii)(I).

(iv) Example. The following example

illustrates the rules of this paragraph (j)(6):

Example. (i) Facts. On March 1, 1998, X issues

a contract to E for cash. The contract provides that

beginning on April 1, 1998, X will distribute to E a

fixed amount of cash each month for E’s life but that

no distributions will be made after April 1, 2018.

On April 1, 1998, E’s life expectancy is 9 years.

(ii) Analysis. A maximum payout provision exists because if E survives beyond April 1, 2018, E

will receive no further distributions under the contract. The period of time from the annuity starting

date (April 1, 1998) to the termination date (April 1,

2018) is 20 years. Because this 20–year period is

more than twice as long as E’s life expectancy on

April 1, 1998, the maximum payout provision qualifies for the exception in paragraph (j)(6)(iii) of this

section. Accordingly, the existence of this maximum payout provision does not prevent the contract

from being described in section 1275(a)(1)(B)(i).

(7) Decreasing payout provision—(i)

General rule. If the amount of distributions during any contract year (other than

the last year during which distributions

are made) may be less than the amount of

distributions during the preceding year,

this possibility can significantly reduce

the probability that total distributions

under the contract will increase commensurately with the longevity of the annuitant (or annuitants). Thus, the existence

March 9, 1998

of this possibility causes the contract to

fail to be described in section 1275(a)(1)(B)(i).

(ii) Exception for certain variable distributions. Notwithstanding paragraph

(j)(7)(i) of this section, if an annuity contract provides that the amount of each distribution must increase and decrease in

accordance with investment experience,

cost of living indices, or similar fluctuating criteria, then the possibility that the

amount of a distribution may decrease for

this reason does not significantly reduce

the probability that the distributions under

the contract will increase commensurately

with the longevity of the annuitant (or annuitants).

(iii) Examples. The following examples illustrate the rules of this paragraph

(j)(7):

Example 1. (i) Facts. On March 1, 1998, X issues

a contract to F for $100,000. The contract provides

that beginning on March 1, 1999, X will make distributions to F each year until F’s death. Prior to March

1, 2009, distributions are to be made at a rate of

$12,000 per year. Beginning on March 1, 2009, distributions are to be made at a rate of $3,000 per year.

(ii) Analysis. If F is alive in 2009, the amount

distributed in 2009 ($3,000) will be less than the

amount distributed in 2008 ($12,000). The exception in paragraph (j)(7)(ii) of this section does not

apply. The decrease in the amount of any distributions made on or after March 1, 2009, can significantly reduce the probability that total distributions

under the contract will increase commensurately

with F’s longevity. Thus, the contract fails to be described in section 1275(a)(1)(B)(i).

Example 2. (i) Facts. On March 1, 1998, X issues a contract to G for cash. The contract provides

that, effective on any date G chooses (the annuity

starting date), X will begin monthly distributions to

G for G’s life. Prior to the annuity starting date, the

account value of the contract reflects the investment

return, including changes in the market value, of an

identifiable pool of assets. When G chooses the annuity starting date, G must also choose whether the

distributions are to be fixed or variable. If fixed, the

amount of each monthly distribution will remain

constant at an amount that is no less than an amount

based on the contract’s account value as of the annuity starting date, G’s age on that date, and permanent

purchase rate guarantees contained in the contract.

If variable, the monthly distributions will fluctuate

to reflect the investment return, including changes in

the market value, of the pool of assets. The monthly

distributions under the contract will not otherwise

decline from year to year.

(ii) Analysis. Because the only possible year-toyear declines in annuity distributions are described

in paragraph (j)(7)(ii) of this section, the possibility

that the amount of distributions may decline from

the previous year does not reduce the probability

that total distributions under the contract will increase commensurately with G’s longevity. Thus,

the potential fluctuation in the annuity distributions

20

does not cause the contract to fail to be described in

section 1275(a)(1)(B)(i).

(8) Effective dates—(i) In general. Except as provided in paragraph (j)(8)(ii)

and (iii) of this section, this paragraph (j)

is applicable for interest accruals on or

after February 9, 1998 on annuity contracts held on or after February 9, 1998.

(ii) Grandfathered contracts. This

paragraph (j) does not apply to an annuity

contract that was purchased before April

7, 1995. For purposes of this paragraph

(j)(8), if any additional investment in such

a contract is made on or after April 7,

1995, and the additional investment is not

required to be made under a binding contractual obligation that was entered into

before April 7, 1995, then the additional

investment is treated as the purchase of a

contract after April 7, 1995.

(iii) Contracts consistent with the provisions of FI–33–94, published at 1995–1

C.B. 920. See § 601.601(d)(2)(ii)(b) of

this chapter. This paragraph (j) does not

apply to a contract purchased on or after

April 7, 1995, and before February 9,

1998, if all payments under the contract

are periodic payments that are made at

least annually for the life (or lives) of one

or more individuals, do not increase at

any time during the term of the contract,

and are part of a series of distributions

that begins within one year of the date of

the initial investment in the contract. An

annuity contract that is otherwise described in the preceding sentence does not

fail to be described therein merely because it also provides for a payment (or

payments) made by reason of the death of

one or more individuals.

Michael P. Dolan,

Deputy Commissioner of

Internal Revenue.

Approved December 19, 1997.

Donald C. Lubick,

Acting Assistant Secretary of

the Treasury.

(Filed by the Office of the Federal Register on

January 7, 1998, 8:45 a.m., and published in the

issue of the Federal Register for January 8, 1998, 63

F.R. 1054)

Section 1288.—Treatment of

Original Issue Discount on TaxExempt Obligations

1998–10 I.R.B.

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

Section 1397E.—Credit to

Holders of Qualified Zone

Academy Bonds

26 CFR 1.1397E–1T: Qualified Zone Academy

Bonds (temporary).

T.D. 8755

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

Qualified Zone Academy Bonds

AGENCY: Internal Revenue Service

(IRS), Treasury.

ACTION: Temporary regulations.

SUMMARY: This document contains

temporary regulations relating to the federal income tax treatment of qualified

zone academy bonds. The regulations in

this document provide needed guidance to

holders and issuers of qualified zone academy bonds. The text of the temporary regulations also serves as the text of

REG–119449–97, page 35 of this Bulletin.

DATES: These regulations are effective

January 1, 1998.

FOR FURTHER INFORMATION CONTACT: Timothy L. Jones, (202) 6223980 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

Section 226(a) of the Taxpayer Relief

Act of 1997, Pub. L. No. 105–34, 111

Stat. 788 (1997), amended the Internal

Revenue Code (Code) by redesignating

section 1397E as section 1397F and

adding a new section 1397E. Section

1397E authorizes a new type of debt instrument known as a qualified zone academy bond.

Explanation of provisions

In general

A qualified zone academy bond is a

1998–10 I.R.B.

taxable bond issued by a state or local

government the proceeds of which are

used to improve certain eligible public

schools. In lieu of receiving periodic interest payments from the issuer, an eligible holder of a qualified zone academy

bond is generally allowed annual federal

income tax credits while the bond is outstanding. These credits compensate the

holder for lending money to the issuer and

function as payments of interest on the

bond.

These temporary regulations provide

rules for the federal income tax treatment

of qualified zone academy bonds. These

regulations generally treat the allowance

of the credit as if it were a payment of interest on the bond. These regulations also

provide rules to determine (1) the credit

rate, (2) the discount rate used to present

value private business contributions, and

(3) the discount rate used to determine the

maximum term of a qualified zone academy bond.

These regulations generally do not provide guidance on the statutory requirements that must be met for a bond to qualify as a qualified zone academy bond.

Section 1397E(d) sets forth a number of

detailed requirements that must be met for

a bond to qualify as a qualified zone academy bond. In particular, section 1397E(d)(1)(C) requires the issuer to certify (1)

that it has written assurances that private

entities have agreed to contribute a certain

level of goods or services to the qualified

zone academy, and (2) that it has the written approval of the eligible local education agency for the bond issuance. The

Treasury and the IRS intend that these

certifications will be respected and may

be relied on by taxpayers if the certifications are reasonably made.

In addition, section 1397E(d)(1)(A) requires that 95 percent or more of the proceeds of an issue of qualified zone academy bonds are to be used for a qualified

purpose described in section 1397E(d)(5)

with respect to a qualified zone academy

as defined in section 1397E(d)(4). The

Treasury and the IRS intend that the qualified purposes set forth in section

1397E(d)(5) are to be broadly interpreted.

The Treasury and the IRS also intend that,

if an issuer is unable to actually spend 95

percent or more of the proceeds of a qualified zone academy bond for a qualified

purpose, the issuer may apply remedial

21

actions similar to the remedial actions set

forth in §1.142–2 to preserve the qualification of a bond. Further, the Treasury

and the IRS intend that taxpayers may

rely on an issuer’s determination that a

public school (or academic program

within a public school) is a qualified zone

academy for purposes of section

1397E(d)(4) if the determination has a

reasonable basis. The Treasury and IRS

request comments on whether additional

guidance is needed with respect to the

section 1397E(d) requirements.

Section 1397E(e) imposes a national

limitation on the amount of qualified zone

academy bonds that can be issued. For

1998 and 1999, the IRS will publish a

revenue procedure allocating the national

limitation among the States and the possessions.

The credit allowance

A qualified zone academy bond provides an annual federal income tax credit

to certain holders. Under the regulations,

the credit is deemed paid on the credit allowance date—the last day of each oneyear accrual period on the bond. A taxpayer that receives a credit on a credit

allowance date may use the credit to offset

its income tax liability for the taxable year

that includes the credit allowance date.

There are two limitations on the use of

the credit. First, only eligible taxpayers

holding the bond on the credit allowance

date may claim the credit. Section

1397E(d)(6) defines an eligible taxpayer

as a bank, an insurance company, or a corporation actively engaged in the business

of lending money. Second, an eligible

taxpayer may claim the credit only to the

extent the taxpayer has a tax liability for

the taxable year that includes the credit allowance date. See section 1397E(c). The

credit is nonrefundable.

Treatment of the credit as interest

The regulations treat the credit on a

qualified academy zone bond as if it were a

payment of qualified stated interest. This

treatment effectively conforms the treatment of the credit with the treatment of interest income on debt instruments. Thus,

for example, a holder that uses an accrual

method of accounting accrues the credit

amount over the one-year accrual period

that ends on the credit allowance date.

March 9, 1998

Adjustment when credit is limited or

disallowed

In two situations the holder of a qualified zone academy bond on a credit allowance date will not be able to use some

or all of the credit to offset its tax liability.

First, if the holder on a credit allowance

date is not an eligible taxpayer (a bank,

insurance company, or corporation actively engaged in the business of lending

money), no credit is allowed. Second, the

amount of the credit may exceed the income tax liability of a holder that is an eligible taxpayer. In this second case, because the credit is nonrefundable, some or

all of the credit will not be used.

In these situations, the regulations

allow the holder to adjust its income by

deducting the amount of the unused

credit. This deduction is allowed for the

taxable year that includes the credit allowance date. The Treasury and the IRS

request comments on whether this adjustment works appropriately when an eligible taxpayer holds a qualified zone academy bond on the credit allowance date but

has an income tax liability (determined

without regard to the credit) that is less

than the amount of the credit.

Credit rate

Section 1397E(b)(2) authorizes the

Treasury to establish a single, uniform

credit rate that will permit the issuance of

qualified zone academy bonds without

discount and without interest cost to the

issuer. This section also requires the

Treasury to adjust the credit allowance

rate on a monthly basis to reflect changes

in market interest rates.

It is not possible to determine a uniform credit rate that would permit all

qualified zone academy bonds to be issued at par. Some borrowers are less

creditworthy than others and, therefore,

borrow at less favorable rates. In addition, because section 1397E(b)(2) requires the Secretary to set the credit rate

in the month before the bond is issued,

changes in market interest rates between

the time the rate is set and the time a qualified zone academy bond is issued can result in a bond being issued at a price that

is different than par.

The regulations provide a single monthly

rate that will minimize the discount or premium on qualified zone academy bonds.

March 9, 1998

Specifically, the regulations provide that

the credit rate is 110 percent of the longterm applicable Federal rate (AFR), compounded annually, for the month of issuance. Tying the credit rate to the AFR

ensures that the rate will be adjusted on a

monthly basis to reflect changes in market

interest rates. In addition, the Treasury and

the IRS believe the 10 percent spread over

the long-term AFR is appropriate, in part,

because qualified zone academy bonds bear

more credit and liquidity risk than longterm Treasury bonds.

Maximum term

Section 1397E(d)(3) sets out a formula

for determining the maximum term of a

qualified zone academy bond. The formula requires the use of a discount rate

equal to the average annual interest rate of

tax-exempt obligations having a term of

ten years or more. Because there is no

readily available source for this discount

rate, the regulations provide that the discount rate is 110 percent of the long-term

adjusted AFR, compounded semi-annually. The long-term adjusted AFR is published on a monthly basis and is designed

to reflect the current yield of a risk-free

tax-exempt obligation having a term of 9

years or more.

and, if so, how they might be coordinated.

Special Analyses

It has been determined that this Treasury decision is not a significant regulatory

action as defined in EO 12866. Therefore,

a regulatory assessment is not required. It

also has been determined that section

553(b) of the Administrative Procedure

Act (5 U.S.C. chapter 5) does not apply to

these regulations and, because the regulations do not impose a collection of information on small entities, the Regulatory

Flexibility Act (5 U.S.C. chapter 6) does

not apply. Pursuant to section 7805(f) of

the Internal Revenue Code, these temporary regulations will be submitted to the

Chief Counsel for Advocacy of the Small

Business Administration for comment on

their impact on small business.

Drafting Information

Several persons from the Office of

Chief Counsel and the Treasury Department participated in developing these regulations.

*

*

*

*

*

Adoption of Amendments to the

Regulations

Accordingly, 26 CFR part 1 is amended

as follows:

Taxable obligation

It is possible that some qualified zone

academy bonds may either (1) provide for

payments of stated interest, or (2) be issued at a discount. The Treasury and the

IRS have determined that qualified zone

academy bonds are not obligations the interest on which is excluded from gross income under section 103(a). There are a

number of reasons for treating a qualified

zone academy bond as a taxable obligation. For example, the requirement in

section 1397E(g) that a holder include the

allowed amount of the credit in gross income evidences an intention to treat qualified zone academy bonds as taxable, not

tax-exempt, obligations.

Coordination with estimated tax rules

The regulations do not address the estimated tax consequences of holding a

qualified zone academy bond. The Treasury and the IRS request comments on

whether there is a need to coordinate the

regulations with the estimated tax rules

22

PART 1—INCOME TAXES

Paragraph 1. The authority citation for

part 1 is amended by adding an entry in

numerical order to read as follows:

Authority: 26 U.S.C. 7805 * * *

Section 1.1397E–1T also issued under

26 U.S.C. 1397E(b) and 1397E(d). * * *

Par. 2. Section 1.1397E–1T is added to

read as follows:

§1.1397E–1T Qualified zone academy

bonds (temporary).

(a) Overview. In general, a qualified

zone academy bond is a taxable bond issued by a state or local government the

proceeds of which are used to improve

certain eligible public schools. An eligible taxpayer that holds a qualified zone

academy bond generally is allowed annual federal income tax credits in lieu of

periodic interest payments. These credits

compensate the eligible taxpayer for lending money to the issuer and function as

1998–10 I.R.B.

payments of interest on the bond. Accordingly, this section generally treats the

allowance of a credit as if it were a payment of interest on the bond. In addition,

this section provides rules to determine

the credit rate, the present value of qualified contributions from private entities,

and the maximum term of a qualified

zone academy bond.

(b) Credit rate. The credit rate for a

qualified zone academy bond is equal to

110 percent of the long-term applicable

Federal rate (AFR), compounded annually, for the month in which the bond is issued. The Internal Revenue Service publishes this figure each month in a revenue

ruling that is published in the Internal

Revenue Bulletin. See §601.601(d)(2)(ii)(b) of this Chapter.

(c) Private business contribution requirement. To determine the present

value (as of the issue date) of qualified

contributions from private entities under

section 1397E(d)(2), the issuer must use a

reasonable discount rate. The credit rate

determined under paragraph (b) of this

section is a reasonable discount rate.

(d) Maximum term. The maximum

term for a qualified zone academy bond is

determined under section 1397E(d)(3) by

using a discount rate equal to 110 percent

of the long-term adjusted AFR, compounded semi-annually, for the month in

which the bond is issued. The Internal

Revenue Service publishes this figure

each month in a revenue ruling that is

published in the Internal Revenue Bulletin. See §601.601(d)(2)(ii)(b) of this

Chapter.

(e) Tax credit—(1) Eligible taxpayer.

An eligible taxpayer (within the meaning

of section 1397E(d)(6)) that holds a qualified zone academy bond on a credit allowance date is allowed a tax credit

against the federal income tax imposed on

the taxpayer for the taxable year that includes the credit allowance date. The

amount of the credit is equal to the product

of the credit rate and the outstanding principal amount of the bond on the credit allowance date. The credit is subject to a

limitation based on the eligible taxpayer’s

income tax liability. See section 1397E(c).

(2) Ineligible taxpayer. A taxpayer that

is not an eligible taxpayer is not allowed a

credit.

(f) Treatment of the allowance of the

1998–10 I.R.B.

credit as a payment of interest—(1) General rule. The holder of a qualified zone

academy bond must treat the bond as if it

pays qualified stated interest (within the

meaning of §1.1273–1(c)) on each credit

allowance date. The amount of the

deemed payment of interest on each credit

allowance date is equal to the product of

the credit rate and the outstanding principal amount of the bond on that date.

Thus, for example, if the holder uses an

accrual method of accounting, the holder

must accrue as interest income the

amount of the credit over the one-year accrual period that ends on the credit allowance date.

(2) Adjustment if the holder cannot use

the credit to offset a tax liability. If a

holder holds a qualified zone academy

bond on the credit allowance date but cannot use all or a portion of the credit to reduce its income tax liability (for example,

because the holder is not an eligible taxpayer or because the limitation in section

1397E(c) applies), the holder is allowed a

deduction for the taxable year that includes the credit allowance date. The

amount of the deduction is equal to the

amount of the unused credit deemed paid

on the credit allowance date.

(g) Not a tax-exempt obligation. A

qualified zone academy bond is not an

obligation the interest on which is excluded from gross income under section

103(a).

(h) Cross-references. See section 171

and the regulations thereunder for rules

relating to amortizable bond premium.

See §1.61–7(c) for the seller’s treatment

of a bond sold between interest payment

dates (credit allowance dates) and §1.61–

7(d) for the buyer’s treatment of a bond

purchased between interest payment dates

(credit allowance dates).

(i) [Reserved]

(j) Effective date. This section applies

to a qualified zone academy bond issued

on or after January 1, 1998.

Michael P. Dolan,

Deputy Commissioner of

Internal Revenue.

Approved December 19, 1997.

Donald C. Lubick,

Acting Assistant Secretary of

the Treasury.

23

(Filed by the Office of the Federal Register on

January 6, 1998, 8:45 a.m., and published in the

issue of the Federal Register for January 7, 1998, 63

F.R. 671)

Section 1502.—Regulations

26 CFR 1.1502–3: Consolidated investment credit.

T.D. 8751

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

Consolidated Returns—

Limitations on the Use of

Certain Losses and Credits;

Overall Foreign Loss Accounts

AGENCY: Internal Revenue Service

(IRS), Treasury.

ACTION: Final and temporary regulations.

SUMMARY: This document contains

temporary amendments to the consolidated return regulations. The temporary

amendments govern the use of tax credits

of a consolidated group and its members.

They also concern the recharacterization

of certain foreign source income because

of a prior overall foreign loss. The text of

the temporary regulations also serves as

the text of REG–104062–97, page 34 in

this Bulletin.

DATES: These amendments are effective

January 12, 1998. For dates of application, see the Effective Dates portion of

the preamble under SUPPLEMENTARY

INFORMATION. FOR FURTHER INFORMATION CONTACT: Concerning

the temporary regulations in general, Roy

A. Hirschhorn, (202) 622-7770; concerning amendments related to foreign tax

credits and foreign losses, Seth Goldstein

(202) 622-3850.

SUPPLEMENTARY INFORMATION:

Background and Explanation of

Provisions

A. In General

On June 27, 1996, the IRS and Trea-

March 9, 1998

sury published in the Federal Register a

Treasury decision containing temporary

regulations which, in part, provide rules

governing the absorption of certain tax attribute carryovers and carrybacks from

separate return limitation years (SRLYs),

terminate the consolidated return change

of ownership rules, and make minor

changes to the computation of net section

1231 gains and losses for a group. The

Treasury decision adopted without substantive change rules that were proposed

in 1991. The 1996 temporary regulations

are effective for consolidated return years

beginning on or after January 1, 1997.

The 1996 temporary regulations significantly modify SRLY loss rules which had

been in place since 1966. The 1966 SRLY

rules employed a member-by-member

and year-by-year approach to determine

the limitation on SRLY attributes. The

1996 temporary regulations adopted a

subgroup and cumulative approach. See

the preamble to NPRM for CO–078–90

(56 F.R. 4228), reprinted at 1991–1 C.B.

757. The 1996 temporary regulations,

however, only apply the new approach to

net operating loss and net capital loss carryovers and carrybacks. They do not

change regulations containing limitations

on the absorption of the following other

tax attribute carryovers and carrybacks

from SRLYs: general business credits

(§1.1502–3), foreign tax credits

(§1.1502–4), and overall foreign losses

(OFLs) (§1.1502–9).

On December 30, 1992, the IRS and

Treasury published in the Federal Register a notice of proposed rulemaking containing rules regarding a group’s computation of its alternative minimum tax and

minimum tax credits. See 57 F.R. 62251,

as corrected by 58 F.R. 8027, reprinted at

1993–1 C.B. 799. The proposed regulations (Prop. Reg. §1.1502–55) do not address the application of SRLY limitations

to the minimum tax credit.

B. Extension of 1996 Principles

The IRS and Treasury believe that it is

appropriate to apply a single set of SRLY

principles to all attributes that are subject

to SRLY limitations. Unnecessary complexity would result from applying different principles to different attributes. In addition, the IRS and Treasury believe that

the subgroup and cumulative principles

embodied in the 1996 temporary regula-

March 9, 1998

tions more appropriately reflect the use of

attributes brought into a consolidated

group by SRLY members than do the

member-by-member and year-by-year

rules of the 1966 regulations. Accordingly, this document extends the principles of the 1996 temporary regulations to

the general business credit and the minimum tax credit. In doing so, the IRS and

Treasury have not attempted to address

the issues which some commentators

have raised with respect to the application

of the SRLY limitations in general.

Rather, those issues will be addressed in

connection with a review of comments received in response to the 1991 proposed

regulations, the 1996 temporary regulations and to the temporary regulations

contained in this document, prior to the

expiration of the 1996 temporary regulations in 1999.

In general, a group may include a

member’s SRLY credits in the applicable

consolidated section 38 credit or minimum tax credit for a consolidated return

year based on the member’s contributions

to the consolidated section 38(c) or consolidated section 53(c) limitation for all

consolidated return years. The contribution is based on the aggregate of the member’s share of the group’s tax liability for

relevant years. Such share is measured

under the principles of section 1552 and

the percentage method under §1.1502–

33(d)(3), assuming a 100% allocation of

any decreased tax liability. The contribution may be a negative number, for example, for a year in which the overall loss of

the member offsets the income of other

members. In the case of the minimum tax

credit, the temporary regulations provide

an adjustment to avoid double counting

for years in which the SRLY member contributes to the group’s AMT liability.

This document also adds an example to

§1.1502–21T(c)(1) and §1.1502–23T(b).

The examples assist taxpayers in computing their cumulative registers by illustrating the concept of cumulative contribution to consolidated net capital gain and

consolidated taxable income and the character of section 1231 items for purposes

of the relevant registers.

C. Treatment of Foreiqn Tax Credits.

OFLs and SLLs

In considering the application of the

new SRLY principles in the temporary

24

regulations to credits in general, the IRS

and Treasury considered extending these

principles to foreign tax credits (FTCs),

and to those losses associated with the

FTC regime, namely, overall foreign

losses (OFLs) and separate limitation

losses (SLLs). The IRS and Treasury were

concerned that continued application of

the principles of the 1966 regulations

(member-by-member and year-by-year)

to these foreign attributes, and especially

to OFL and SLL accounts, could lead to

inappropriate results. Taxpayers might

adopt structures in an attempt to achieve

indefinite postponement of the recapture

of SRLY OFLs and SLLs. Such postponement would frustrate the neutrality principle that the SRLY rules are intended to

serve (i.e., that the decision to join a new

affiliated group should generally be unaffected by considerations relating to the

absorption of pre-affiliation attributes).

While it was clear that application of

the 1966 principles to OFLs and SLLs

should not continue, it was less clear that

application of the subgroup and cumulative principles of the temporary regulations would address all concerns. The

subgroup and cumulative principles are

meant to more closely parallel the absorption that would have taken place had the

member (or subgroup) continued filing

separate returns. The interaction of the

FTC regime (with its multiple baskets)

and other provisions of the Internal Revenue Code affecting international transactions, such as, for example, section

864(e)(1) which allocates the interest expense of a member to income in various

baskets based on the group’s asset allocation, can make it difficult to determine

what the member has contributed to the

group. Furthermore, even with the adoption of the subgroup and cumulative principles, taxpayers would likely have the

ability to transfer controlled foreign corporations to new members or to cause operations to be assumed by new members,

thereby delaying indefinitely the recapture of OFLs and SLLs subject to SRLY.

The IRS and Treasury have decided,

therefore, that the principles of SRLY are

not served by applying SRLY limitations

to OFL and SLL accounts of corporations

joining a group. Thus, this document

amends portions of §1.1502–9 to eliminate SRLY restrictions on OFL recapture.

A new member’s SRLY OFL account will

1998–10 I.R.B.

be added to the similar consolidated OFL

account of the group. For similar reasons,

and to avoid an imbalance in the application of the FTC regime, the IRS and Treasury have decided that SRLY limitations

should not apply to FTCs of corporations

joining a group. This document also

amends §1.1502–4(f) such that, in the future, there will be no SRLY limitation on

the use of a member’s separate year FTCs

by the group. Other limitations on the use

of separate year FTCs continue to apply.

See, for example, section 383.

These amendments apply to corporations becoming members of a group. They

do not address the apportionment of attributes to corporations that cease to

members of a group. Therefore, they only

partially address the issues presented in

applying the OFL and SLL rules to

groups. In particular, the IRS and Treasury recognize that the retention of the

notional account system of §1.1502–9 for

members that cease to be members is inconsistent with the rationale for removing

the SRLY limitation for FTCs and OFL

accounts. The notional account system

may result in a member’s taking from the

group an OFL or SLL account that is unrelated to the member’s activities and future income. Accordingly, the IRS and

Treasury expect in the near future to issue

additional amendments to §1.1502–9.

One approach under consideration would

replace the notional account system with

a new system that apportions accounts to

a departing member based on the member’s share of group assets that would

produce income subject to recapture.

Effective Date

The temporary amendments are applicable to consolidated return years beginning on or after January 1, 1997.

Special Analyses

It has been determined that this Treasury decision is not a significant regulatory action as defined in EO 12866.

Therefore, a regulatory assessment is not

required. It is hereby certified that these

regulations do not have a significant economic impact on a substantial number of

small entities. This certification is based

on the fact that these regulations principally affect persons filing consolidated

federal income tax returns that have carryover or carryback of credits from sepa-

1998–10 I.R.B.

rate return limitation years. Available data

indicates that many consolidated return

filers are large companies (not small businesses). In addition, the data indicates that

an insubstantial number of consolidated

return filers that are smaller companies

have credit carryovers or carrybacks, and

thus even fewer of these filers have credit

carryovers or carrybacks that are subject

to the separate return limitation year

rules. Therefore, a Regulatory Flexibility

Analysis under the Regulatory Flexibility

Act (5 U.S.C. chapter 6) is not required.

Pursuant to section 7805(f) of the Internal

Revenue Code, the notice of proposed

rulemaking accompanying these regulations is being sent to the Small Business

Administration for comment on their impact on small businesses.

Drafting Information

The principal author of these regulations is Roy A. Hirschhorn of the Office

of Assistant Chief Counsel (Corporate).

Other personnel from the IRS and Treasury participated in their development.

*

*

*

*

*

graph (c) applies to consolidated return

years beginning before January 1, 1997.

See §1.1502–3T(c) for the rule that limits

the group’s use of a section 38 credit carryover or carryback from a SRLY for a

consolidated return year beginning on or

after January 1, 1997. For taxable years

not subject to §1.1502–3T(c), prior law

applies. See §1.1502–3 (c) in effect prior

to January 12, 1998, (§1.1502–3(c) as

contained in the 26 CFR part 1 edition revised April 1, 1997) for prior law.

(d) Examples. (1) * * *

(2) Examples (2) and (3) of this paragraph (d) do not apply to consolidated return years beginning on or after January

1, 1997. For consolidated return years beginning on or after January 1, 1997, see

§1.1502–3T(d) .

(e) * * *

(3) Special effective date. This paragraph (e) applies to a consolidated return

change of ownership that occurred before

January 1, 1997.

*

*

*

*

*

Par. 3. Section 1.1502–3T is added to

read as follows:

Adoption of Amendments to the

Regulations

§1.1502–3T Consolidated investment

credit (temporary).

Accordingly, 26 CFR part 1 is amended

as follows:

(a) and (b) [Reserved]. For further

guidance, see §1.15023(a) and (b).

(c) Limitation on tax credit carryovers

and carrybacks from separate return limitation years—(1) General rule. The aggregate of a member’s unused section 38

credits arising in SRLYs that are included

in the consolidated section 38 credits for

all consolidated return years of the group

may not exceed—

(i) The aggregate for all consolidated

return years of the member’s contributions to the consolidated section 38(c)

limitation for each consolidated return

year; reduced by

(ii) The aggregate of the member’s section 38 credits arising and absorbed in all

consolidated return years (whether or not

absorbed by the member).

(2) Computational rules—(i) Member’s contribution to the consolidated

section 38(c) limitation. If the consolidated section 38(c) limitation for a consolidated return year is determined by

reference to the consolidated tentative

minimum tax (see section 38(c)(1)(A)),

then a member’s contribution to the con-

PART 1—INCOME TAXES

Paragraph 1. The authority citation for

part 1 is amended by adding entries in numerical order to read in part as follows:

Authority: 26 U.S.C. 7805 * * *

Section 1.1502–3T also issued under

26 U.S.C. 1502.

Section 1.1502–9T also issued under

26 U.S.C. 1502. * * *

Section 1. 1502–55T also issued under

26 U.S.C. 1502. * * *

Par. 2. Section 1.1502–3 is amended by

adding paragraphs (c)(3) and (e)(3) and

by designating the text following the

heading of paragraph (d) as paragraph

(d)(l) and adding paragraph (d)(2) to read

as follows:

§1.1502–3 Consolidated investment

credit.

*

*

*

*

*

(c) * * *

(3) Special effective date. This para-

25

March 9, 1998

solidated section 38(c) limitation for such

year equals the member’s share of the

consolidated net income tax minus the

member’s share of the consolidated tentative minimum tax. If the consolidated

section 38(c) limitation for a consolidated return year is determined by reference to the consolidated net regular tax

liability (see section 38(c)(1)(B)), then a

member’s contribution to the consolidated section 38(c) limitation for such

year equals the member’s share of the

consolidated net income tax minus 25

percent of the quantity which is equal to

so much of the member’s share of the

consolidated net regular tax liability less

its portion of the $25,000 amount specified in section 38(c)(1)(B). The group

computes the member~s shares by applying to the respective consolidated

amounts the principles of section 1552

and the percentage method under

§1.1502–33(d)(3), assuming a 100% allocation of any decreased tax liability.

The group must make proper adjustments

so that taxes and credits not taken into ac-

count in computing the limitation under

section 38(c) are not taken into account

in computing the member’s share of the

consolidated net income tax, etc. (See,

for example, the taxes described in section 26(b) that are disregarded in computing regular tax liability.) Also, the group

may apportion all or a part of the $25,000

amount (or lesser amount if reduced by

section 38(c)(3)) for any year to one or

more members.

(ii) Years included in computation. For

purposes of computing the limitation

under this paragraph (c), the consolidated

return years of the group include only

those years, including the year to which a

credit is carried, that the member has been

continuously included in the group’s consolidated return, but exclude—

(A) For carryovers, any years ending

after the year to which the credit is carried; and

(B) For carrybacks, any years ending

after the year in which the credit arose.

(iii) Subgroups and successors. The

SRLY subgroup principles under

§1.1502–21T(c)(2) apply for purposes of

this paragraph (c). The predecessor and

successor principles under §1.1502–

21T(f) also apply for purposes of this

paragraph (c).

(3) Effective date. This paragraph (c)

applies to consolidated return years beginning on or after January 1, 1997. However, a group does not take into account a

consolidated taxable year beginning before January 1, 1997, in determining a

member’s (or subgroup’s) contributions

to the consolidated section 38(c) limitation under this paragraph (c). See also

§1.1502–3 (c) .

(d) Example. (1) The following example illustrates the provisions of paragraph

(c) of this section:

Example. (i) P, the common parent of the P

group, acquires all the stock of T at the beginning of

Year 2. T carries over an unused section 38 general

business credit from Year 1 of $100,000. The table

below shows the group’s net consolidated income

tax, consolidated tentative minimum tax, and consolidated net regular tax liabilities, and T’s share of

such taxes computed under the principles of sectyon

Year 2

Group

P’s share of

col. 1

T’s share of

col. 1

1. consolidated taxable income

$2,000

$1,200

$800

2. consolidated net regular tax

$700

$420

$280

$4,000

$3,200

$800

4. consolidated tentative minimum tax

$800

$640

$160

5. consolidated net income tax

$800

$520

$280

6. greater of line 4 or 25% of (line 2 minus $25,000) for the group

$800

3. consolidated alternative minimum taxable income

7. consolidated §38(c) limitation (line 5 minus line 6)

1552 and the percentage method under §1.1502–33

(d) (3), assuming a 100% allocation of any decreased tax liability, for Year 2. (The effects of the

lower section 11 brackets are ignored, there are no

other tax credits affecting a group amount or member’s share, and $1, 000s are omitted.)

$0

(ii) The amount of T’s unused section 38 credits

from Year 1 that are included in the consolidted section 38 credits for Year 2 may not exceed T’s contributifn to the consolidated section 38(c) limitation.

For Year 2, the group determines the consolidated

section 38(c) km: tation by reference to consolidated

tentative minimum tax for Year 2. Therefore, T’s

contribution to the consolidated section 38(c) limitation for Year 2 equals its share of consolidated net

income tax minus its share of consolidated tentativi

minimum tax. T’s contribution is $280,000 minus

$160,000, or $120,000. However, because the group

Year 3

Group

P’s share of

col. 1

T’s share of

col. 1

1. consolidated taxable income

$1,200

$1,500

$(300)

2. consolidated net regular tax

$420

$525

$(105)

$1,500

$1,700

$(200)

4. consolidated tentative minimum tax

$300

$340

$(40)

5. consolidated net income tax

$420

$525

$(105)

6. greater of line 4 or 25% of (line 2 minus $25,000) for the group

$300

7. consolidated §38(c) limitation (line 5 minus line 6)

$120

3. consolidated alternative minimum taxable income

March 9, 1998

26

1998–10 I.R.B.

has a consolidated section 38 limitation of zero, it

may not include any of T’s unused section 38 credits

in the consolidated section 38 credits for Year 2.

(iii) The following table shows similar information for the group for Year 3:

(iv) The amount of T’s unused section 38 credits

from Year 1 that are included in the consolidated

section 38 credits for Year 3 may not exceed T’s aggregate contribution to the consolidated section

38(c) limitation for Years 2 and 3. For Year 3, the

group determines the consolidated section 38(c) limitation by reference to the consolidated tentative

minimum tax for Year 3. Therefore, T’s contribution

to the consolidated section 38(c) limitation for Year

3 equals its share of consolidated net income tax

minus its share of consolidated tentative minimum

tax. Applying the principles of section 1552 and

§l.1502–33(d) (taking into account, for example,

that T’s positive earnings and profits adjustment

under §1.1502–33(d) reflects its losses actually absorbed by the group), T’s contribution is $(105,000)

minus $(40,000), or $(65,000). T’s /acgregate contributions to the consolidated section 38(c) l~hitation

for Years 2 and 3 is $120,000 + $(65,000), or

$55,000. The group may include $55,000 of T’s Year

1 unused sectio 38 credits in its consolidated section

38 tax credit in Year 3.

(2) This paragraph (d) applies to consolidated return years beginning on or

after January 1, 1997. See also §1.1502–

3(d) for years prior to January 1, 1997.

(e) and (f) [Reserved]. For further guidance, see §1.1502–3(e) and (f).

Par. 4. Section 1.1502–4 is amended by

adding new paragraphs (f) (3) and (g) (3)

to read as follows:

§1.1502–4 Consolidated foreign tax

credit.

*

*

*

*

*

(f) * * *

(3) Special effective date ending SRLY

limitation. See §1.1502–4T(f) for the rule

that ends the SRLY limitation with respect to foreign tax credits for consolidated return years beginning on or after

January 1, 1997.

(g) * * *

(3) Special effective date for CRCO

limitation. See §1.1502–4T(g)(3) for the

rule that ends the CRCO limitation with

respect to a consolidated return change of

ownership that occurred on or after January 1, 1997.

*

*

*

*

*

Par. 5. Section 1.1502–4T is added to

read as follows:

§1.1502–4T Consolidated foreiqn tax

credit (temporary).

1998–10 I.R.B.

(a) through (e) [Reserved]. For further

guidance, see §1.1502–4 (a) through (e).

(f) Limitation on unused foreian tax

carryover or carryback from separate return limitation years. Section 1.1502–4(f)

does not apply to consolidated return

years beginning on or after January 1,

1997. For consolidated return years beginning on or after January 1, 1997, a

group shall include an unused foreign tax

of a member arising in a SRLY without

regard to the contribution of the member

to consolidated tax liability for the consolidated return year.

(g)(1) and (2) [Reserved]. For further

guidance, see §1.1502–4 (g) (1) and (2).

(g)(3) Special effective date for CRCO

limitation. Section 1.1502–4(g) applies to

a consolidated return change of ownership that occurred before January 1, 1997.

Par. 6. In §1.1502–9, paragraph (a) is

amended by adding a sentence at the end

of the paragraph to read as follows:

consolidated return year beginning on or

after January 1, 1997, as a corporation

joining the group on such first day. An

overall foreign loss that is part of a net operating loss or net capital loss carryover

from a separate return limitation year of a

member that is absorbed in a consolidated

return year beginning on or after January

1, 1997, shall be added to the appropriate

consolidated overall foreign loss account

in the year that it is absorbed. For consolidated return years beginning on or after

January 1, 1997, similar principles apply

to overall foreign losses when there has

been a consolidated return change of ownership (regardless of when the change of

ownership occurred).

(b)(2) through (f) [Reserved]. For further guidance, see §1.1502–9(b)(2)

through (f).

Par. 8. In §1.1502–21T, paragraph (c)

(1) (iii) is amended by adding Example 5

to read as follows:

§1.1502–9 Application of overall foreiqn

loss recapture rules to corporations filing

consolidated returns.

§1.1502–21T Net operating losses

(temporary).

*

(a) In general. *** See §1.1502–

9T(b)(1)(v) for the rule that ends the separate return limitation year limitation for

consolidated return years beginning on or

after January 1, 1997.

*

*

*

*

*

Par. 7. Section 1.1502–9T is added to

read as follows:

§1.1502–9T Application of overall foreign

loss recapture rules to corporations filing

consolidated returns (temporary).

(a) and (b) introductory text through

(b)(1)(iv) [Reserved]. For further guidance, see §1.1502–9 (a) and (b) introductory text through (b) (1) (iv).

(b)(1)(v) Special effective date for SRLY

limitation. Sections 1.1502–9(b)(1)(iii)

and (iv) apply only to consolidated return

years beginning before January 1, 1997.

For consolidated return years beginning

on or after January 1, 1997, the rules of

§1.1502–9(b)(1)(ii) shall apply to overall

foreign losses from separate return years

that are separate return limitation years.

For purposes of applying §1.1502–9(b)(1)(ii) in such years, the group treats a

member with a balance in an overall foreign loss account from a separate return

limitation year on the first day of the first

27

*

*

*

*

(c) * * *

(1) * * *

(iii) * * *

Example 5. Dual SRLY registers and accounting

for SRLY losses actually absorbed. (i) In Year 1, T

sustains a $100 net operating loss and a $50 net capital loss. At the beginning of Year 2, T becomes a

member of the P group. Both of T’s carryovers from

Year 1 are subject to SRLY limits under this paragraph (c) and §1.1502–22T(c). The members of the

P group contribute the following to the consolidated

taxable income for Years 2 and 3 (computed without

regard to T’s CNOL deduction under §1.1502–21T

or net capital loss carryover under §1.1502–22T):

P

T

Year 1

ordinary

(100)

(SRLY)

capital

(50)

Year 2

Year 3

ordinary

30

60

capital

0

(20)

ordinary

10

40

capital

0

30

(ii) For Year 2, the group computes separate

SRLY limits for each of T’s SRLY carryovers from

Year 1. Under normal Internal Revenue Code rules, it

determines its ability to use its capital loss carryover

before it determines its ability to use its ordinary loss

carryover. Under section 1211, because the group has

no Year 2 capital gain, it cannot absorb any capital

losses in Year 2. T’s Year 1 net capital loss and the

March 9, 1998

group’s Year 2 consolidated net capital loss fall of

which is attributable to T) are carried over to Year 3.

(iii) Under this section, the aggregate amount of

T’s $100 NOL carryover from Year 1 that may be included in the CNOL deduction of the group for Year 2

may not exceed $60—the amount of the consolidated

taxable income computed by reference only to T’s

items, including losses and deductions to the extent

actually absorbed (i.e., $60 of ordinary income for

Year 2). Thus, the group may include $60 of T’s ordinary loss carryover from Year 1 in its Year 2 CNOL

deduction. T carries over its remaining $40 of its Year

1 loss to Year 3.

(iv) For Year 3, the group again computes separate

SRLY limits for each of T’s SRLY carryovers from

Year 1. The group has consolidated net capital gain

(without taking into account a net capital loss carryover deduction) of $30. Under 1.150222T(c), the aggregate amount of T’s $50 capital loss carryover from

Year 1 that may be included in computing the group’s

consolidated net capital gain for all years of the group

(here Years 2 and 3) may not exceed $30 (the aggregate consolidated net capital gain computed by reference only to T’s items, including losses and deductions actually absorbed (i.e., $30 of capital gain in

Year 3)). Thus, the group may include $30 of T’s Year

1 capital loss carryover in its computation of consolidated net capital gain for Year 3, which offsets the

group’s capital gains for Year 3. T carries over its remaining $20 of its Year 1 loss to Year 4. The group

carries over the Year 2 consolidated net capital loss to

Year 4.

(v) Under this section, the aggregate amount of T’s

NOL carryover from Year 1 that may be included in

the CNOL deduction of the group for Years 2 and 3

may not exceed $100, which is the amount of the aggregate consolidated taxable income for Years 2 and 3

determined by reference only to T’s items, including

losses and deductions actually absorbed (i.e., $60 of

ordinary income in Year 2 plus $40 of ordinary income, $30 of capital gain, and $30 of SRLY capital

losses actually absorbed in Year 3). The group included $60 of T’s ordinary loss carryover in its Year 2

CNOL deduction. It may include the remaining $40

of the carryover in its Year 3 CNOL deduction.

*

*

*

*

*

Par. 9. In §1.1502–23T, paragraphs (b)

and (c) are redesignated as paragraphs (c)

and (d), and a new paragraph (b) is added

to read as follows:

§1.1502–23T Consolidated net section

1231 qain or loss (temporary).

*

*

*

*

*

(b) Example. The following example illustrates the provisions of this section:

Example. Use of SRLY registers with net gains and

net losses under section 1231. (i) In Year 1, T sustains

a $20 net capital loss. At the beginning of Year 2, T

becomes a member of the P group. T’s capital loss

carryover from Year 1 is subject to SRLY limits under

§1.1502–22T(c). The members of the P group contribute the following to the consolidated taxable income for Year 2 (computed without regard to T’s net

capital loss carryover under §1.1502– 22T):

March 9, 1998

P

Year 1

ordinary

(SRLY)

capital

Year 2

T

(20)

ordinary

10

20

capital

70

0

§1231

(60)

30

(ii) Under section 1231, if the section 1231 losses

for any taxable year exceed the section 1231 gains

for such taxable year, such gains and losses are

treated as ordinary gains or losses. Because the P

group’s section 1231 losses, $(60), exceed the section 1231 gains, $30, the P group’s net loss is treated

as ordinary loss. T’s net section 1231 gain has the

same character as the P group’s consolidated net section 1231 loss, so T’s $30 of section 1231 income is

treated as ordinary income for purposes applying

§1.1502–22T(c). under §1.1502–22T(c), the group’s

consolidated net capital gain determined by reference

only to T’s items is $0. None of T’s capital loss carryover from Year 1 may be taken into account in Year

2.

Par. 10. Section 1.1502–55T is added

under the undesignated center heading

“Special Taxes and Taxpayers” to read as

follows:

§1.1502–55T Computation of alternative

minimum tax of consolidated groups

(temporary).

(a) through (h)(3) [Reserved].

(h)(4) Separate return year minimum

tax credit.

(i) and (ii) [Reserved].

(iii)(A) Limitation on portion of separate return year minimum tax credit arisinq in separate return limitation years.

The aggregate of a member’s minimum

tax credits arising in SRLYs that are included in the consolidated minimum tax

credits for all consolidated return years of

the group may not exceed—

(1) The aggregate for all consolidated

return years of the member’s contributions to the consolidated section 53(c)

limitation for each consolidated return

year; reduced by

(2) The aggregate of the member’s

minimum tax credits arising and absorbed

in all consolidated return years (whether

or not absorbed by the member).

(B) Computational rules—(1) Member’s contribution to the consolidated section 53(c) limitation. Except as provided

in the special rule of paragraph (h)(4)(iii)(B)(2) of this section, a member’s contribution to the consolidated section 53(c)

28

limitation for a consolidated return year

equals the member’s share of the consolidated net regular tax liability minus its

share of consolidated tentative minimum

tax. The group computes the member’s

shares by applying to the respective consolidated amounts the principles of section 1552 and the percentage method

under §1.1502–33(d)(3), assuming a

100% allocation of any decreased tax liability. The group makes proper adjustments so that taxes and credits not taken

into account in computing the limitation

under section 53(c) are not taken into account in computing the member’s share of

the consolidated net regular tax, etc. (See,

for example, the taxes described in section 26(b) that are disregarded in computing regular tax liability.)

(2) Adjustment for Year in which alternative minimum tax is paid. For a consolidated return year for which consolidated

tentative minimum tax is greater than consolidated regular tax liability, the group reduces the member’s share of the consolidated tentative minimum tax by the

member’s share of the consolidated alternative minimum tax for the year. The

group determines the member’s share of

consolidated alternative minimum tax for

a year using the same method it uses to determine the member’s share of the consolidated minimum tax credits for the year.

(3) Years included in computation. For

purposes of computing the limitation

under this paragraph (h)(4)(iii), the consolidated return years of the group include

only those years, including the year to

which a credit is carried, that the member

has been continuously included in the

group’s consolidated return, but exclude

any years after the year to which the

credit is carried.

(4) Subgroup principles. The SRLY

subgroup principles under §1.1502–

21T(c)(2) apply for purposes of this paragraph (h)(4)(iii). The predecessor and

successor principles under §1.1502–

21T(f) also apply for purposes of this

paragraph (h) (4) (iii).

(C) Effective date. This paragraph

(h)(4)(iii) applies to consolidated return

years beginning on or after January 1,

1997. However, a group does not take

into account a consolidated taxable year

beginning before January 1, 1997, in determining a member’s (or subgroup’s)

contributions to the consolidated section

1998–10 I.R.B.

53(c) limitation under paragraph

(h)(4)(iii) of this section.

Michael P. Dolan,

Deputy Commissioner of

Internal Revenue.

Approved December 11, 1997.

Donald C. Lubick,

Acting Assistant Secretary of

the Treasury.

1998–10 I.R.B.

(Filed by the Office of the Federal Register on

January 9, 1998, 8:45 a.m., and published in the

issue of the Federal Register for January 12, 1998,

63 F.R. 1740)

Section 7520.—Valuation

Tables

Section 7872.—Treatment of

Loans With Below-Market

Interest Rates

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month

of March 1998. See Rev. Rul. 98–11, page 13.

29

March 9, 1998

Part III. Administrative, Procedural, and Miscellaneous

26 CFR 601.105: Examination of returns and

claims for refund, credit or abatement;

determination of correct tax liability.

(Also Part I, § 1361; 1.1361–1.)

Rev. Proc. 98–23

the trust unless revoked with the consent

of the Secretary.

Section 1377(a) provides rules for determining a shareholder’s pro rata share

of any item for any taxable year.

SECTION 3. SCOPE

SECTION 1. PURPOSE

This revenue procedure provides guidance on (1) the conversion of a qualified

subchapter S trust (QSST) to an electing

small business trust (ESBT), and (2) the

conversion of an ESBT to a QSST.

SECTION 2. BACKGROUND

Section 1361(a)(1) of the Internal Revenue Code defines an “S corporation,”

with respect to any taxable year, as a

small business corporation for which an S

election is in effect for that year.

Section 1361(b) defines “small business corporation” as a domestic corporation that is not an ineligible corporation

and that does not have (A) more than 75

shareholders, (B) as a shareholder a person (other than an estate, a trust described

in § 1361(c)(2), or an organization described in § 1361(c)(6)) who is not an individual, (C) a nonresident alien as a

shareholder, and (D) more than one class

of stock.

Section 1361(d)(1)(A) provides that in

the case of a QSST with respect to which

a beneficiary makes an election under

§ 1361(d)(2), the trust will be treated as a

trust described in § 1361(c)(2)(A)(i) (relating to trusts that may be shareholders

of a small business corporation under

§ 1361(b)(1)).

Section 1361(d)(2)(C) provides that a

QSST election under § 1361(d), once

made, may be revoked only with the consent of the Secretary.

Section 1361(c)(2)(A)(v) provides that

an ESBT (as defined in § 1361(e)) is a

permitted S corporation shareholder.

Section 1361(e)(1)(B) provides that the

term ESBT does not include any QSST if

an election under § 1361(d)(2) applies to

any corporation the stock of which is held

by the trust.

Section 1361(e)(3) provides that an

ESBT election under § 1361(e) applies to

the taxable year of the trust for which

made and all subsequent taxable years of

March 9, 1998

Section 4 of this revenue procedure

provides guidance on how to convert a

QSST to an ESBT. Section 5 of this revenue procedure provides guidance on how

to convert an ESBT to a QSST. A trust

that wishes to convert within 36 months

of a previous conversion must submit an

application for consent to revoke the

QSST or ESBT election to the Internal

Revenue Service in the form of a letter

ruling request under Rev. Proc. 98–1,

1998–1 I.R.B. 7 (or its successor). The

application must be signed by the current

income beneficiary and the trustee.

This revenue procedure does not provide guidance on whether a trust qualifies

as a QSST or an ESBT. In particular, the

Internal Revenue Service is currently

studying whether a trust qualifies as an

ESBT if any portion of the trust is treated

as owned by the grantor or another person

under the provisions of subpart E (section

671 and following), part I, subchapter J,

chapter 1 of the Internal Revenue Code.

SECTION 4. CONVERSION OF A

QSST TO AN ESBT

.01 Prerequisites for Conversion from

QSST to ESBT. A trust is eligible to convert from a QSST to an ESBT if it meets

the following requirements:

(1) The trust meets all of the requirements to be an ESBT under § 1361(e), except for the requirement under § 1361(e)(1)(B) that the trust not have a QSST

election in place under § 1361(d)(2).

(2) The trustee and the current income beneficiary of the trust make the

ESBT election pursuant to section 4.02 of

this revenue procedure with respect to the

stock of each S corporation held by the

trust.

(3) The trust has not converted from

an ESBT to a QSST within the 36 month

period preceding the effective date of the

new ESBT election.

(4) Except as provided in section 6

of this revenue procedure, the date on

30

which the ESBT election is to be effective

can not be more than 15 days and 2

months prior to the date on which the

election is filed and can not be more than

12 months after the date on which the

election is filed. If an election specifies

an effective date more than 15 days and 2

months prior to the date on which the

election is filed, it will be effective 15

days and 2 months prior to the date on

which it is filed. If an election specifies

an effective date more than 12 months

after the date on which the election is

filed, it will be effective 12 months after

the date it is filed.

.02 Procedural Requirements for Conversion from QSST to ESBT.

The current income beneficiary and the

trustee of the trust must sign an ESBT

election and file it with the service center

where the S corporation files its income

tax return. This ESBT election must state

at the top of the document “ATTENTION

ENTITY CONTROL—CONVERSION

OF A QSST TO AN ESBT PURSUANT

TO REV. PROC. 98–23” and include all

information otherwise required for an

ESBT election (see Notice 97–12, 1997–3

I.R.B. 11). A separate election must be

made with respect to the stock of each S

corporation held by the trust.

.03 Conversion from QSST to ESBT.

Pursuant to § 1361(d)(2)(C), the consent of the Commissioner to revoke a

QSST election as of the effective date of

the ESBT election is hereby granted to

any QSST that satisfies the requirements

of sections 4.01 and 4.02 of this revenue

procedure. For purposes of § 1377(a), the

QSST will be treated as terminating its interest in the S corporation and the new

ESBT will be treated as a new shareholder of the S corporation. The last day

the QSST will be a shareholder is the day

before the effective date of the ESBT

election, and the new ESBT will be a

shareholder beginning on the effective

date of the ESBT election.

SECTION 5. CONVERSION OF AN

ESBT TO A QSST

.01 Prerequisites for Conversion from

ESBT to QSST. A trust is eligible to convert from an ESBT to a QSST if it meets

the following requirements:

1998–10 I.R.B.

(1) The trust meets all of the requirements to be a QSST under § 1361(d).

(2) The trustee and current income

beneficiary of the trust make the QSST

election pursuant to section 5.02 of this

revenue procedure with respect to the

stock of each S corporation held by the

trust.

(3) The trust has not converted from

a QSST to an ESBT within the 36 month

period preceding the effective date of the

new QSST election.

(4) Except as provided in section 6

of this revenue procedure, the date on

which the QSST election is to be effective

can not be more than 15 days and 2

months prior to the date on which the

election is filed and can not be more than

12 months after the date on which the

election is filed. If an election specifies

an effective date more than 15 days and 2

months prior to the date on which the

election is filed, it will be effective 15

days and 2 months prior to the date on

which it is filed. If an election specifies

an effective date more than 12 months

after the date on which the election is

filed, it will be effective 12 months after

the date it is filed.

.02 Procedural Requirements for Conversion from ESBT to QSST.

The current income beneficiary and the

trustee of the trust must sign a QSST election and file it with the service center

where the S corporation files its income

tax return. This QSST election must state

at the top of the document “ATTENTION

ENTITY CONTROL—CONVERSION

OF AN ESBT TO A QSST PURSUANT

TO REV. PROC. 98–23” and include all

information otherwise required for a QSST

election (see § 1.1361–1(j)(6) of the Income Tax Regulations). A separate election must be made with respect to the stock

of each S corporation held by the trust.

.03 Conversion from ESBT to QSST.

Pursuant to § 1361(e)(3), the consent of

the Commissioner to revoke an ESBT

election as of the effective date of the

QSST election is hereby granted to any

ESBT that satisfies the requirements of

sections 5.01 and 5.02 of this revenue

procedure. For purposes of § 1377(a), the

ESBT will be treated as terminating its interest in the S corporation and the new

QSST will be treated as a new shareholder of the S corporation. The last day

the ESBT will be a shareholder is the day

1998–10 I.R.B.

before the effective date of the QSST

election, and the new QSST will be a

shareholder beginning on the effective

date of the QSST election.

SECTION 6. EFFECTIVE DATE

This revenue procedure is effective for

taxable years beginning after December

31, 1996. An election can be made effective as of any date on or after January 1,

1997, and before March 9, 1998, if it is

filed not more than 15 days and 2 months

after March 9, 1998.

PAPERWORK REDUCTION ACT

The collection of information contained in this revenue procedure has been

reviewed and approved by the Office of

Management and Budget in accordance

with the Paperwork Reduction Act (44

U.S.C. 3507) under control number

1545–1591.

An agency may not conduct or sponsor,

and a person is not required to respond to,

a collection of information unless the collection of information displays a valid

control number.

The collections of information in this

revenue procedure are in sections 4.02

and 5.02. This information is required by

the Internal Revenue Service to assure

compliance with the new provisions of

the Small Business Job Protection Act of

1996. The likely respondents are business

or other for-profit institutions.

The estimated total annual reporting

burden is 2500 hours.

The estimated average annual burden

per respondent is one hour. The estimated

number of respondents is 2500.

The estimated frequency of responses

is once.

Books or records relating to a collection of information must be retained as

long as their contents may become material in the administration of any internal

revenue law. Generally tax returns and

tax return information are confidential, as

required by 26 U.S.C. 6103.

DRAFTING INFORMATION

The principal author of this revenue

procedure is Steven R. Schneider of the

Office of Assistant Chief Counsel

(Passthroughs and Special Industries).

For further information regarding this

revenue procedure contact Steven R.

31

Schneider at (202) 622-3060 (not a tollfree call).

26 CFR 601.105: Examination of returns and

claims for refund, credit, or abatement;

determination of correct tax liability.

(Also Part I, § 280F; 1.280F–7)

Rev. Proc. 98–24

SECTION 1. PURPOSE

This revenue procedure provides limitations on depreciation deductions for

owners of passenger automobiles designed to be propelled primarily by electricity and built by an original equipment

manufacturer (electric automobiles) first

placed in service after August 5, 1997,

and before January 1, 1998, and the

amounts to be included in income by

lessees of electric automobiles first leased

after August 5, 1997, and before January

1, 1998. The tables detailing these depreciation limitations and lessee inclusion

amounts reflect the tripling of the base depreciation limits provided in § 280F(a)(1)(A) required by § 280F(a)(1)(C) of the

Internal Revenue Code, and the automobile price inflation adjustments required

by § 280F(d)(7).

SECTION 2. BACKGROUND

For owners of automobiles, § 280F(a)(1)(A) imposes dollar limitations on the

depreciation deduction for both the year

that the automobile is placed in service

and each succeeding year. Section

280F(a)(1)(C)(ii) provides that in the case

of a “purpose built passenger vehicle” (as

defined in § 4001(a)(2)(C)(ii)), each of

the annual limitations specified in

§ 280F(a)(1)(A) shall be tripled. Section

4001(a)(2)(C)(ii) provides that a purpose

built passenger vehicle means a passenger

vehicle produced by an original equipment manufacturer and designed so that

the vehicle may be propelled primarily by

electricity.

Section 280F(d)(7) requires the

amounts allowable as depreciation deductions under § 280F(a)(1)(A) to be increased by a price inflation adjustment

amount for passenger automobiles placed

in service after calendar year 1988.

For leased automobiles, § 280F(c) requires a reduction in the deduction al-

March 9, 1998

lowed to the lessee of the automobile.

The reduction must be substantially

equivalent to the limitations on the depreciation deductions imposed on owners of

automobiles. Under § 1.280F–7(a), this

reduction requires the lessees to include

in gross income an inclusion amount determined by applying a formula to the

amount obtained from a table. The table

shows inclusion amounts for a range of

fair market values for each tax year after

the automobile is first leased.

SECTION 3. SCOPE AND OBJECTIVE

01. The limitations on depreciation deductions in section 4.02 of this revenue

procedure apply to electric automobiles

(other than leased electric automobiles)

that are placed in service after August 5,

1997, and before January 1, 1998, and

continue to apply for each tax year that

the automobile remains in service.

02. The table in section 4.03 of this

revenue procedure applies to leased electric automobiles for which the lease term

begins after August 5, 1997, and before

January 1, 1998. Lessees of such automobiles must use this table to determine the

inclusion amount for each tax year during

which the automobile is leased.

03. See Rev. Proc. 96–25, 1996–1 C.B.

681, for depreciation limitations and income inclusion amounts for electric automobiles first purchased or leased before

January 1, 1997, and Rev. Proc. 97–20,

1997–11 I.R.B. 10, for depreciation limitations and income inclusion amounts for

electric automobiles first purchased or

leased on or after January 1, 1997, and before August 6, 1997.

SECTION 4. APPLICATION

01. A taxpayer placing an electric automobile in service for the first time after

August 5, 1997, and before January 1,

1998, is limited to the depreciation deduction shown in Table 1 of section 4.02(2)

of this revenue procedure. A taxpayer

first leasing an electric automobile after

August 5, 1997, and before January 1,

1998, must use Table 2 in section 4.03 of

this revenue procedure to determine the

inclusion amount that is added to gross income.

02. Limitations on Depreciation Deductions for Certain Automobiles.

(1) Amount of the Inflation Adjustment. Under § 280F(d)(7)(B)(i), the automobile price inflation adjustment for any

calendar year is the percentage (if any) by

which the CPI automobile component for

October of the preceding calendar year

exceeds the CPI automobile component

for October 1987. The term “CPI automobile component” is defined in

§ 280F(d)(7)(B)(ii) as the “automobile

component” of the Consumer Price Index

for all Urban Consumers published by the

Department of Labor (the CPI). The new

car component of the CPI was 115.2 for

October 1987 and 141.5 for October

1996. The October 1996 index exceeded

the October 1987 index by 26.3. The Internal Revenue Service has, therefore, determined that the automobile price inflation adjustment for 1997 is 22.83 percent

(26.3/115.2 ⫻ 100%). This adjustment is

applicable to all automobiles that are first

placed in service in calendar year 1997.

To determine the dollar limitations applicable to an electric automobile first placed

in service after August 5, 1997, and before January 1, 1998, the dollar limitations in § 280F(a)(1)(A) are tripled in accordance with § 280F(a)(1)(C) and are

then multiplied by a factor of 0.2283; the

resulting increases, after rounding to the

nearest $100, are added to the tripled

1988 limitations to give the depreciation

limitations for 1997.

(2) Amount of the Limitation. For

electric automobiles placed in service

after August 5, 1997, and before January

1, 1998, Table 1 contains the dollar

amount of the depreciation limitations for

each tax year.

REV. PROC. 98–24 TABLE 1

DEPRECIATION LIMITATIONS

FOR ELECTRIC AUTOMOBILE

FIRST PLACED IN SERVICE AFTER

AUGUST 5, 1997, AND BEFORE

JANUARY 1, 1998

Tax Year

1st Tax Year

2nd Tax Year

3rd Tax Year

Each Succeeding Year

Amount

$9,480

$15,100

$9,050

$5,425

03. Inclusions in Income of Lessees of

Electric Automobiles.

The inclusion amounts for electric

automobiles first leased after August 5,

1997, and before January 1, 1998, are calculated under the procedures described in

§ 1.280F–7(a) of the Income Tax regulations. Table 2 of this revenue procedure is

the applicable table to be used in applying

those procedures.

REV. PROC. 98–24 TABLE 2

DOLLAR AMOUNTS FOR ELECTRIC AUTOMOBILES

WITH A LEASE TERM BEGINNING AFTER AUGUST 5, 1997,

AND BEFORE JANUARY 1, 1998

Fair Market Value of Automobile

Tax Year During Lease

Over

Not Over

1st

2nd

3rd

4th

5th and Later

$ 47,000

48,000

49,000

50,000

51,000

52,000

53,000

54,000

48,000

49,000

50,000

51,000

52,000

53,000

54,000

55,000

1

9

17

25

34

42

50

58

4

22

40

58

75

93

111

129

7

33

60

87

114

140

167

194

9

41

73

104

136

169

200

232

11

48

84

122

159

195

232

269

March 9, 1998

32

1998–10 I.R.B.

REV. PROC. 98–24 TABLE 2—Continued

DOLLAR AMOUNTS FOR ELECTRIC AUTOMOBILES

WITH A LEASE TERM BEGINNING AFTER AUGUST 5, 1997,

AND BEFORE JANUARY 1, 1998

Fair Market Value of Automobile

Tax Year During Lease

Over

Not Over

1st

2nd

3rd

4th

5th and Later

55,000

56,000

57,000

58,000

59,000

60,000

62,000

64,000

66,000

68,000

70,000

72,000

74,000

76,000

78,000

80,000

85,000

90,000

95,000

100,000

110,000

120,000

130,000

140,000

150,000

160,000

170,000

180,000

190,000

200,000

210,000

220,000

230,000

240,000

56,000

57,000

58,000

59,000

60,000

62,000

64,000

66,000

68,000

70,000

72,000

74,000

76,000

78,000

80,000

85,000

90,000

95,000

100,000

110,000

120,000

130,000

140,000

150,000

160,000

170,000

180,000

190,000

200,000

210,000

220,000

230,000

240,000

250,000

66

74

83

91

99

111

128

144

160

177

193

209

226

242

259

287

328

369

410

471

553

635

717

798

880

962

1,044

1,126

1,208

1,289

1,371

1,453

1,535

1,617

147

165

183

201

219

246

282

318

354

389

425

461

497

533

568

632

721

811

900

1,035

1,214

1,393

1,573

1,752

1,932

2,111

2,290

2,469

2,649

2,828

3,008

3,187

3,366

3,545

220

247

273

300

326

366

419

472

525

579

632

686

738

792

845

938

1,071

1,204

1,337

1,537

1,803

2,069

2,334

2,601

2,866

3,133

3,399

3,665

3,930

4,197

4,462

4,729

4,995

5,261

264

296

328

359

392

440

503

567

631

695

759

822

887

950

1,014

1,125

1,285

1,444

1,604

1,843

2,162

2,481

2,801

3,119

3,439

3,757

4,076

4,395

4,715

5,033

5,353

5,671

5,990

6,309

306

342

379

417

453

508

582

656

730

803

876

950

1,023

1,097

1,171

1,300

1,484

1,669

1,853

2,128

2,497

2,866

3,233

3,602

3,970

4,338

4,707

5,075

5,443

5,812

6,179

6,548

6,916

7,285

SECTION 5. EFFECTIVE DATE

This revenue procedure is effective for

electric automobiles (other than leased

electric automobiles) that are first placed

in service after August 5, 1997, and before

January 1, 1998, and for leased electric au-

1998–10 I.R.B.

tomobiles that are first leased after August

5, 1997, and before January 1, 1998.

DRAFTING INFORMATION

The principal author of this revenue

procedure is Bernard P. Harvey of the Office of the Assistant Chief Counsel

33

(Passthroughs and Special Industries).

For further information regarding the depreciation limitations and lessee inclusion

amounts in this revenue procedure, contact Mr. Harvey at (202) 622-3110 (not a

toll-free call).

March 9, 1998

Part IV. Items of General Interest

Notice of Proposed Rulemaking

and Notice of Public Hearing

Consolidated Returns—

Limitations on the Use of

Certain Losses and Credits

REG–104062–97

AGENCY: Internal Revenue Service

(IRS), Treasury.

ACTION: Notice of proposed rulemaking by cross-reference to temporary regulations and notice of public hearing.

SUMMARY: In T.D. 8751, page 23 of this

Bulletin, the IRS is issuing temporary regulations that will govern the use of certain

tax credits and losses of a consolidated

group and its members. The text of those

temporary regulations also serves as the

text of these proposed regulations. This

document also provides notice of a public

hearing on these proposed regulations.

DATES: Written comments and outlines

of topics to be discussed at the public

hearing scheduled for May 7, 1998, must

be received by April 13, 1998.

ADDRESSES: Send submissions to:

CC:DOM:CORP:R [REG–104062–97],

room 5226, Internal Revenue Service,

POB 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be

hand delivered between the hours of 8

a.m. and 5 p.m. to: CC:DOM:CORP:R

[REG–104062–97], Courier’s Desk, Internal Revenue Service, 1111 Constitution

Avenue NW, Washington, DC. Alternatively, taxpayers may submit comments

electronically via the Internet by selecting

the “Tax Regs” option on the Home Page

or by submitting comments directly to the

IRS Internet site at: http://www.irs.

ustreas.gov/prod/tax_regs/comments.html.

The public hearing has been scheduled for

May 7, 1998, at 10 a.m., in room 2615,

Internal Revenue Building, 1111 Constitution Avenue NW, Washington DC.

FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations, in general, Roy Hirschhorn (202)

622-7770; concerning amendments re-

March 9, 1998

lated to foreign tax credits and foreign

losses, Seth Goldstein (202) 622-3850;

concerning submissions and the hearing,

Mike Slaughter (202) 622-7190 (not tollfree numbers).

SUPPLEMENTARY INFORMATION:

Background

Temporary regulations in T.D. 8751

amend the Income Tax Regulations (26

CFR part 1) relating to section 1502. The

temporary regulations provide rules that

will govern the use of certain tax credits

and losses of a consolidated group and its

members. The text of those temporary

regulations also serves as the text of these

proposed regulations. The preamble to

the temporary regulations explains the

temporary regulations.

Special Analyses

It has been determined that this notice

of proposed rulemaking is not a significant regulatory action as defined in EO

12866. Therefore, a regulatory assessment is not required. It is hereby certified

that these regulations do not have a significant economic impact on a substantial

number of small entities. This certification is based on the fact that these regulations principally affect persons filing consolidated federal income tax returns that

have carryover or carryback of credits

from separate return limitation years.

Available data indicates that many consolidated return filers are large companies

(not small businesses). In addition, the

data indicates that an insubstantial number of consolidated return filers that are

smaller companies have credit carryovers

or carrybacks, and thus even fewer of

these filers have credit carryovers or carrybacks that are subject to the separate return limitation year rules. Therefore, a

Regulatory Flexibility Analysis under the

Regulatory Flexibility Act (5 U.S.C.

chapter 6) is not required. Pursuant to

section 7805(f) of the Internal Revenue

Code, this notice of proposed rulemaking

will be submitted to the Chief Counsel for

Advocacy of the Small Business Administration for comment on its impact on

small business.

34

Comments and Public Hearing

Before these proposed regulations are

adopted as final regulations, consideration will be given to any written comments (a signed original and eight (8)

copies) that are submitted timely to the

IRS. All comments will be made available for public inspection and copying.

A public hearing has been scheduled

for May 7, 1998, at 10 a.m., in room

2615. Because of access restrictions, visitors will not be admitted beyond the Internal Revenue Building lobby more than 15

minutes before the hearing starts.

The rules of 26 CFR 601.601(a)(3)

apply to the hearing.

Persons who wish to present oral comments at the hearing must submit written

comments and an outline of the topics

(signed original and eight (8) copies) to

be discussed by April 13, 1998.

A period of 10 minutes will be allotted

to each person for making comments.

An agenda showing the scheduling of

the speakers will be prepared after the

deadline for receiving outlines has

passed. Copies of the agenda will be

available free of charge at the hearing.

Drafting Information

The principal author of these regulations is Roy A. Hirschhorn of the Office

of Assistant Chief Counsel (Corporate).

Other personnel from the IRS and Treasury participated in their development.

*

*

*

*

*

Proposed Amendments to the Regulations

Accordingly, 26 CFR part 1 is proposed to be amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation for

26 CFR part 1 is amended by adding entries in numerical order to read in part as

follows:

Authority: 26 U.S.C. 7805 * * *

Section 1.1502–3 also issued under 26

U.S.C. 1502.

Section 1.1502–4 also issued under 26

U.S.C. 1502.

Section 1.1502–9 also issued under 26

U.S.C. 1502. * * *

1998–10 I.R.B.

Section 1.1502–23 also issued under 26

U.S.C. 1502. * * *

Section 1.1502–55 also issued under 26

U.S.C. 1502. * * *

Par. 2. In §1.1502–3, paragraph (c) is

revised to read as follows:

§1.1502–3 Consolidated investment

credit.

*

*

*

*

*

(c) [The text of the proposed paragraph

(c) of this section is the same as the text of

§1.1502–3T(c) published in T.D. 8751.]

*

*

*

*

*

Par. 3. In §1.1502–4, paragraphs (f)(3)

and (g)(3) are added to read as follows:

§1.1502–4 Consolidated foreign tax

credit.

*

*

*

*

*

(f) * * *

(3) [The text of the proposed paragraph (f)(3) of this section is the same as

the text of §1.1502–4T(f)(3) published in

T.D. 8751.]

(g) * * *

(3) [The text of the proposed paragraph (g)(3) of this section is the same as

the text of §1.1502-4T(g)(3) published in

T.D. 8751.]

*

*

*

*

*

Par. 4. In §1.1502–9, paragraph

(b)(1)(v) is added to read as follows:

§1.1502–9 Application of overall foreign

losses recapture rules to corporations

filing consolidated returns.

*

*

*

*

*

(b) * * *

(1) * * *

(v) [The text of the proposed paragraph (b)(1)(v) of this section is the same

as the text of §1.1502–9T(b)(1)(v) published in T.D. 8751.]

*

*

*

*

(1) * * *

(iii) [The text of the proposed paragraph (c)(1)(iii) Example 5 of this section

is the same as the text of §1.1502–

21T(c)(1)(iii) Example 5 published in

T.D. 8751.]

*

*

*

*

*

Par. 6. Section 1.1502–23, as proposed

to be added at 61 F.R. 33395, June 27,

1996, is amended by redesignating paragraphs (b) and (c) as paragraphs (c) and

(d) and adding a new paragraph (b) to

read as follows:

§1.1502–23 Consolidated net section

1231 gain or loss.

*

*

*

*

*

(b) [The text of the proposed paragraph (b) of this section is the same as the

text of §1.1502–23T(b) published in T.D.

8751.]

*

*

*

*

*

Par. 7. Section 1.1502–55, as proposed

to be added at 57 F.R. 62257, December

30, 1992, is amended by adding paragraph (h)(4)(iii) to read as follows:

§1.1502–55 Computation of alternative

minimum tax of consolidated groups.

*

*

*

*

*

(h) * * *

(4) * * *

(iii) [The text of the proposed paragraph (h)(4)(iii) of this section is the same

as the text of §1.1502–55T(h)(4)(iii) published in T.D. 8751.]

*

*

*

*

*

Michael P. Dolan,

Deputy Commissioner of

Internal Revenue.

(Filed by the Office of the Federal Register on

January 9, 1998, 8:45 a.m., and published in the

issue of the Federal Register for January 12, 1998,

63 F.R. 1803)

*

ACTION: Notice of proposed rulemaking by cross-reference to temporary regulations and notice of public hearing.

SUMMARY: In T.D. 8755, page 21 of

this Bulletin, the IRS is issuing temporary

regulations that provide guidance to holders and issuers of qualified zone academy

bonds. These proposed regulations reflect

changes made by the Taxpayer Relief Act

of 1997, Pub. L. No. 105–34, 111 Stat.

788 (1997), and affect holders and issuers

of qualified zone academy bonds. The

text of those temporary regulations also

serves as the text of these proposed regulations. This document also provides a

notice of public hearing on these proposed regulations.

DATES: Written comments must be received by April 7, 1998. Outlines of topics to be discussed at the public hearing

scheduled for May 27, 1998, must be received by May 6, 1998.

ADDRESSES: Send submissions to

CC:DOM:CORP:R (REG–119449–97),

room 5226, Internal Revenue Service,

POB 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be

hand delivered between the hours of 8

a.m. and 5 p.m. to: CC:DOM:CORP:R

(REG–119449–97), Courier’s Desk, Internal Revenue Building, 1111 Constitution Avenue, NW, Washington, DC. Alternatively, taxpayers may submit comments

electronically via the Internet by selecting

the “Tax Regs” option on the IRS Home

Page, or by submitting directly to the IRS

Internet site at http:www.irs.ustreas.gov/

prod/taxregs/comments.html. The public

hearing will be held in Room 2615, Internal Revenue Building, 1111 Constitution

Ave., NW, Washington, DC.

FOR FURTHER INFORMATION CONTACT: Concerning the regulations, Timothy L. Jones, (202) 622-3980; concerning submissions and the hearing, LaNita

Van Dyke (202) 622-7180 (not toll-free

numbers).

Par. 5. Section 1.1502–21, as proposed

to be added at 61 F.R. 33394, June 27,

1996, is amended in paragraph (c)(1)(iii)

by adding Example 5. to read as follows:

Notice of Proposed Rulemaking

and Notice of Public Hearing

Qualified Zone Academy Bonds

Background

§1.1502–21 Net operating losses.

REG–119449–97

Section 1.1397E–1T, published in T.D.

8755, is issued to provide guidance to

holders and issuers of qualified zone

academy bonds.

*

*

(c) * * *

1998–10 I.R.B.

*

*

*

AGENCY: Internal Revenue Service

(IRS), Treasury.

35

SUPPLEMENTARY INFORMATION:

March 9, 1998

The text of those temporary regulations

also serves as the text of these proposed

regulations. The preamble to the temporary regulations explains the temporary

regulations.

Drafting Information

Several persons from the Office of

Chief Counsel and the Treasury Department participated in the development and

drafting of these regulations.

Special Analyses

It has been determined that this notice

of proposed rulemaking is not a significant regulatory action as defined in EO

12866. Therefore, a regulatory assessment is not required. It has also been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C.

chapter 5) does not apply to these regulations, and, because the regulations do not

impose a collection of information on

small entities, the Regulatory Flexibility

Act (5 U.S.C. chapter 6) does not apply.

Pursuant to section 7805(f) of the Internal

Revenue Code, this notice of proposed

rulemaking will be submitted to the Chief

Counsel for Advocacy of the Small Business Administration for comment on its

impact on small business.

Comments and Public Hearing

Before these proposed regulations are

adopted as final regulations, consideration will be gi

This text is long and has been trimmed here. Open the source document for the complete record.