Bulletin No. 1998–27

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Bulletin No. 1998–27

July 6, 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. 98–33, page 26.

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 July 1998.

T.D. 8770, page 4.

Final and temporary regulations under sections 367 and

6038B of the Code relate to certain transfers of stock or securities by U.S. persons to foreign corporations and related

reporting requirements.

Notice 98–34, page 30.

This notice modifies the expatriation ruling practice under

sections 877, 2107, and 2501(a)(3) of the Code, and also

modifies the categories of long-term residents eligible to

submit a ruling request.

Notice 98–35, page 35.

This notice announces that Treasury and the Service will

withdraw the temporary regulations and proposed regulations issued on March 23, 1998 (T.D. 8767 and REG–

104537–97), and will issue proposed regulations regarding

the treatment of hybrid arrangements under subpart F, and

separate proposed regulations providing guidance on the

treatment of a controlled foreign corporation’s distributive

share of partnership income. This notice requests public

comment, and formally withdraws Notice 98–11.

Rev. Proc. 98–38, page 29.

Section 911(d)(4) waiver. Guidance is provided to individuals who fail to meet the eligibility requirements of section

911(d)(1) of the Code because adverse conditions in a foreign country preclude the individual from meeting those requirements. A current list of countries and the dates those

countries are subject to the section 911(d)(4) waiver is

provided.

EXEMPT ORGANIZATIONS

Announcement 98–60, page 39.

A list is given of organizations now classified as private foundations.

Announcement 98–61, page 38.

Veterans of Foreign Wars Post 5316 no longer qualifies as

an organization to which contributions are deductible under

section 170 of the Code.

Finding Lists begin on page 42.

Announcement of Declaratory Judgment Proceedings Under Section 7428 begins on page 38.

Index for January-June 1998 begins on page 45.

Department of the Treasury

Internal Revenue Service

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.

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.

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

Section 42.—Low-Income

Housing Credit

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

of July 1998. See Rev. Rul. 98–33, page 26.

Section 280G.—Golden

Parachute Payments

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

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

Rev. Rul. 98–33, page 26.

Section 367.—Foreign

Corporations

26 CFR 1.367(a)–3 Treatment of transfers of stock

or securities to foreign corporations

T.D. 8770

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Parts 1, 7 and 602

Certain Transfers of Stock or

Securities by U.S. Persons to

Foreign Corporations and

Related Reporting Requirements

AGENCY: Internal Revenue Service

(IRS), Treasury.

ACTION: Final and temporary regulations.

SUMMARY: This document contains

regulations relating to certain transfers of

stock or securities by U.S. persons to foreign corporations pursuant to the corporate organization and reorganization provisions of the Internal Revenue Code, and

the reporting requirements related to such

transfers. The regulations provide the

public with guidance necessary to comply

with the Tax Reform Act of 1984.

DATES: These regulations are effective

July 20, 1998.

FOR FURTHER INFORMATION CONTACT: Philip L. Tretiak at (202) 6223860 (not a toll-free number).

July 6, 1998

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collection of information contained in these final regulations 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

1545–1271. Responses to these collections of information are required in order

for certain U.S. shareholders that transfer

stock or securities in section 367(a) exchanges to qualify for an exception to the

general rule of taxation under section

367(a)(1).

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 estimated burden per respondent

varies from .5 to 8 hours, depending upon

individual circumstances, with an estimated average of 4 hours.

Comments concerning the accuracy of

this burden estimate and suggestions for

reducing this burden should be sent to the

Internal Revenue Service, Attn: IRS Reports Clearance Officer, T:FS:FP, Washington, DC 20224, and to the Office of

Management and Budget, Attn: Desk

Officer for the Department of the Treasury, Office of Information and Regulatory Affairs, Washington, DC 20503.

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.

Background

On May 16, 1986, temporary and proposed regulations under sections 367(a)

and (d), and 6038B were published in the

Federal Register (51 F.R. 17936 [T.D.

8087 (1986–1 C.B. 175)]). These regulations, which addressed transfers of stock

or securities and other assets, as well as

related reporting requirements, were published to provide the public with guidance

necessary to comply with changes made

to the Internal Revenue Code by the Tax

Reform Act of 1984. The IRS and the

Treasury Department later issued Notice

87–85 (1987–2 C.B. 395), which set forth

substantial changes to the 1986 regulations, effective with respect to transfers of

domestic or foreign stock or securities occurring after December 16, 1987. A further notice of proposed rulemaking containing rules under section 367(a) with

respect to transfers of domestic or foreign

stock or securities, as well as section

367(b), was published in the Federal

41993 [INTL–54–91; INTL–178–86

(1991–2 C.B. 1070)]). The section 367(a)

portion of the 1991 proposed regulations

was generally based upon the positions

announced in Notice 87–85, but the regulations proposed certain modifications to

Notice 87–85, particularly with respect to

transfers of stock or securities of foreign

corporations.

Subsequently, the IRS and the Treasury

Department have issued guidance focusing on the transfers of stock or securities

of domestic corporations. Notice 94–46

(1994–1 C.B. 356) announced modifications to the positions set forth in Notice

87–85 (and the 1991 proposed regulations) with respect to transfers of stock or

securities of domestic corporations occurring after April 17, 1994. Temporary and

proposed regulations (referred to as the inversion regulations) implementing Notice

94–46 (with certain modifications) were

published in the Federal Register on December 26, 1995 (60 F.R. 66739 and

66771 [T.D. 8638 (1996–1 C.B. 43)]).

Final inversion regulations, published in

the Federal Register on December 27,

1996 (61 F.R. 61849 [T.D. 8702 (1997–1

C.B. 92)]), generally followed the rules

contained in the temporary regulations,

with modifications.

The final regulations herein address

transfers of foreign stock or securities,

and other matters addressed in the 1991

proposed regulations under section 367(a)

that were not addressed in the 1996 final

inversion regulations.

In addition, these final regulations address those portions of the 1991 proposed

section 367(b) regulations that relate to

1998–27 I.R.B.

transactions that are subject to both sections 367(a) and (b). The remainder of

the 1991 proposed section 367(b) regulations will be finalized at a later date.

This document also contains final regulations under section 6038B with respect

to reporting requirements applicable to

transfers of stock or securities described

under section 367(a). Rules regarding

outbound transfers to corporations of assets other than stock (including intangibles), and outbound transfers to foreign

partnerships will be addressed in separate

guidance.

Finally, these final regulations contain

a clarification with respect to the scope of

certain outbound transfers of intangibles

that are subject to section 367(d).

Explanation of Provisions

Sections 367(a) and (b): introduction

Section 367(a)(1) generally treats a

transfer of property (including stock or

securities) by a U.S. person to a foreign

corporation (an outbound transfer) in an

exchange described in section 332, 351,

354, 356 or 361 as a taxable exchange unless the transfer qualifies for an exception

to this general rule.

Section 367(a)(2) provides that, except

as provided by regulations, section

367(a)(1) shall not apply to the transfer of

stock or securities of a foreign corporation which is a party to the exchange or a

party to the reorganization. Section

367(a)(3) contains an exception to section

367(a)(1) for certain outbound transfers

of tangible assets other than stock or securities. Section 367(a)(5) contains limitations on any exceptions to section

367(a)(1) in certain instances.

Section 367(b) provides that, with respect to certain nonrecognition transfers

in connection with which there is no

transfer of property described in section

367(a)(1), a foreign corporation will retain its status as a corporation unless regulations provide otherwise.

These final regulations address transactions described in both sections 367(a)

and (b), and are prescribed under the authority of both sections 367(a) and (b).

Stock transfers under sections 367(a)

and (b): scope

Outbound transfers of stock that are subject to section 367(a) may be either direct

(such as an outbound transfer of stock de-

1998–27 I.R.B.

scribed under section 351), indirect (as described below with respect to certain transfers) or constructive (such as an outbound

stock transfer that may occur pursuant to a

change in an entity’s classification). See

§1.367(a)–3(a) (as amended) for the general rules regarding the scope of stock

transfers that are subject to section 367(a).

Indirect stock transfers: in general

The current temporary regulations contain illustrative examples of certain transactions, including triangular reorganizations described under section

368(a)(1)(A) and either section

368(a)(2)(D) or (E), section 368(a)(1)(B)

or (C), that are treated as indirect stock

transfers subject to section 367(a) where

the acquired company and the acquiring

company are domestic corporations and

the shareholders of the acquired company

receive stock of the acquiring company’s

foreign parent in the exchange. (Under

the terminology used in the proposed and

final regulations, in the case of a reorganization described in sections 368(a)(1)(A)

and (a)(2)(E), U.S. shareholders exchange

their stock for stock of the acquired company’s foreign parent.)

The proposed regulations clarified the

treatment of indirect stock transfers, and

provided extensive examples of the rules.

The proposed regulations provided that

transactions that are treated as indirect

stock transfers include: (i) successive section 351 exchanges, and (ii) section

368(a)(1)(C) reorganizations followed by

section 368(a)(2)(C) exchanges. In addition, the reorganizations illustrated under

the existing temporary regulations are

also treated as indirect stock transfers

under the proposed regulations where the

acquired and/or acquiring corporations

are foreign corporations.

The proposed regulations requested

comments as to the scope of the indirect

stock transfer rules. The IRS and the

Treasury Department carefully considered

comments received with respect to the

scope of the indirect stock transfer rules

and have decided to retain the rules set

forth in the proposed regulations. These

rules are contained in §1.367(a)–3(d), and

additional examples are provided in the

final regulations.

Indirect stock transfer rules and

section 367(d)

In the case of a triangular section

368(a)(1)(C) reorganization in which a

U.S. target company (UST) transfers its assets to a foreign acquiring company (FA)

and UST’s U.S. parent company (USP) receives stock of FA’s foreign parent (the

transferee foreign corporation or TFC) in

exchange for the UST stock, the indirect

stock transfer rules and the asset transfer

rules will apply contemporaneously.

If UST is taxable under section 367(a)

with respect to its outbound (section 361)

transfer of all or a portion of its tangible

assets (because such assets do not qualify

for an exception to section 367(a)(1)),

USP will receive a step up in the basis of

its stock in UST, provided that USP and

UST file a consolidated Federal income

tax return. See §1.1502–32. USP will

also be deemed to make an indirect transfer of the stock of UST for TFC stock.

See §1.367(a)–3(d)(1)(iv). Thus, if USP

receives at least five percent of either the

total value or the total voting power of the

stock of TFC (i.e., USP is a 5-percent

shareholder (which is also referred to as a

5-percent transferee shareholder in

§1.367(a)–3(c)(5)(ii)) and the value of the

UST stock exceeds USP’s basis in UST

(taking into account basis adjustments relating to the asset transfer), USP may

qualify for nonrecognition treatment by

entering into a gain recognition agreement (GRA), described below, provided

that the requirements of §1.367(a)–

3(c)(1) are satisfied. See, e.g., §1.367(a)–

3(d)(3), Example 7 through Example 7C.

If the asset transfer involves tangible

assets and the transfer is fully taxable (so

that USP’s basis in its UST stock equals

the value of the UST stock), the indirect

stock transfer would not be taxable under

section 367(a), and, hence, no GRA

would be required. In contrast, if the assets transferred by UST include intangibles that are taxable under section 367(d),

the exact manner in which section 367(d)

operates is less certain.

The regulations under section 367(d) do

not address the tax consequences when the

U.S. transferor goes out of existence pursuant to the transaction. The IRS and the

Treasury Department are studying the

manner in which the rules under section

367(d) should operate when the U.S. transferor goes out of existence contemporaneously with (or subsequent to) its outbound

transfer of an intangible. Comments are

requested with respect to this issue.

July 6, 1998

Transactions subject to sections 367(a)

and (b)

An outbound transfer of foreign stock

or securities can be subject to both sections 367(a) and (b). Pursuant to section

367(a)(2), §1.367(a)–3T(b) of the current

temporary regulations provides that, if an

exchange is described in section 354 or

361, an outbound transfer of stock or securities of a foreign corporation that is a

party to the reorganization is not subject

to section 367(a). Thus, for example, an

outbound transfer in which a U.S. person

exchanges stock in one controlled foreign

corporation (CFC) for another CFC that

qualifies as a reorganization under section

368(a)(1)(B) (a B reorganization), including a transfer that qualifies as both a B reorganization and a section 351 exchange,

is subject only to section 367(b), not section 367(a). In such case, no GRA, described below, is required under the current temporary regulations to preserve

nonrecognition treatment. In contrast, an

outbound transfer of foreign stock that

qualifies as a section 351 exchange but

not a B reorganization is currently subject

to only section 367(a), not section 367(b),

and, thus, a GRA may be required to preserve nonrecognition treatment.

The IRS and the Treasury Department

believe that substantially similar transactions, such as these, should not be treated

in markedly different manners. Thus,

these final regulations adopt the approach

contained in the proposed regulations:

that all outbound transfers of foreign

stock will be subject to sections 367(a)

and (b) concurrently, except to the extent

that the exchange is fully taxable under

section 367(a)(1). See §1.367(a)–3(b)(2).

Sections 367(a) and (b): exceptions to

taxation

Once a determination is made that a

particular outbound transfer of stock or

securities is subject to section 367(a), the

next determination is the tax treatment of

such transfer. In general, the current rules

regarding the outbound transfer of stock

or securities under section 367(a) provide

for three different tax consequences depending upon the particular facts: (i) certain transfers retain nonrecognition treatment without condition, (ii) certain

transfers retain nonrecognition treatment

only if the U.S. transferor enters into a

GRA, and (iii) certain transfers of stock

are taxable to the U.S. transferor under

July 6, 1998

section 367(a)(1) with no option to file a

GRA to secure nonrecognition treatment.

These final regulations retain this general

framework.

The current rules governing whether a

taxpayer may qualify for an exception

under section 367(a) in the case of an outbound transfer of stock are described in

§1.367(a)–3(c) of the final inversion regulations (in the case of domestic stock or

securities) and Notice 87–85 (in the case

of foreign stock or securities).

Notice 87–85 provides that in the case

of an outbound transfer of foreign stock or

securities to which section 367(a) applies,

a U.S. transferor may generally qualify for

nonrecognition treatment if it either (i) is

not a 5-percent shareholder, or (ii) is a 5percent shareholder but enters into a GRA

for a term of 5 or 10 years, depending

upon the TFC stock owned by all U.S.

transferors. Under current law, a 5-percent shareholder that qualifies for nonrecognition treatment under section 367(a)

by filing a GRA agrees that if the TFC disposes of the stock of the transferred corporation in a taxable transaction during the

term of the GRA, the 5-percent shareholder must amend its return for the year

of the transfer and include in income the

amount that it realized but did not recognize with respect to the stock of the transferred corporation, and pay the tax due,

plus interest, on this amount. (Under Notice 87–85, the term of the GRA is 5 years

if all U.S. transferors, in the aggregate,

own less than 50 percent of both the total

voting power and the total value of the

TFC immediately after the transfer, or 10

years if all U.S. transferors, in the aggregate, own 50 percent or more of either the

total voting power or the total value of the

TFC immediately after the transfer.) Although GRAs are currently used solely

with respect to outbound transfers of stock

or securities, the IRS and the Treasury Department may, at a later date, permit taxpayers to secure nonrecognition treatment

under section 367(a) with respect to other

types of assets by entering into GRAs.

Notice 87–85, however, provides no

exception to section 367(a)(1) if a U.S.

transferor transfers stock in a CFC in

which it is a United States shareholder (as

defined in §7.367(b)–2(b) or section

953(c)) but does not receive back stock in

a CFC in which it is a United States shareholder.

The final regulations, following the

proposed regulations on this point, provide that a transfer described in the preceding paragraph, such as a section 351

exchange in which a U.S. transferor exchanges stock of a CFC in which it is a

United States shareholder for stock of a

non-CFC, is not automatically taxable.

Instead, both sections 367(a) and (b)

apply to the exchange. If the U.S. transferor is required under section 367(a) to

enter into a GRA to preserve nonrecognition treatment and fails to do so, the transaction is fully taxable under section

367(a) (and, as a consequence, the section

1248 amount that would be included as a

dividend under section 367(b) had a GRA

been filed is instead treated as a dividend

under section 1248). If the U.S. transferor is required to enter into a GRA and

properly does so, the U.S. transferor is required under section 367(b) to include in

income the section 1248 amount attributable to the stock exchanged. The amount

of the GRA equals the gain realized on the

transfer less the inclusion under section

367(b). See §1.367(a)–3(b)(2).

As noted above, Notice 87–85 addressed outbound transfers of both domestic and foreign stock. The (1996)

final inversion regulations superseded

Notice 87–85 with respect to outbound

transfers of domestic stock. The rules in

Notice 87–85 with respect to outbound

transfers of foreign stock have been incorporated into these final regulations with

respect to transfers that occur prior to July

20, 1998. See §1.367(a)–3(g). Notice

87–85 will be obsolete when these final

regulations are effective.

Section 367(a): post-GRA transactions

Section 1.367(a)–8 provides general

rules regarding terms and conditions relating to GRAs, and the manner in which

post-GRA transactions impact the GRA.

The general terms and conditions for

GRAs have not changed significantly

from the terms and conditions set forth in

§1.367(a)–3T(g) of the current temporary

regulations, except that the final regulations contain an election (the GRA election), described below, to permit the taxpayer to include the GRA amount in

income in the year of the triggering event

(with interest on the tax due from the year

of the transfer) rather than on an amended

return for the year of the initial transfer.

In addition, the final regulations generally

1998–27 I.R.B.

follow the proposed regulations by providing a more comprehensive explanation

of the manner in which the GRA is affected by both taxable and nontaxable dispositions by the U.S. transferor, the TFC,

and the transferred corporation.

The current temporary regulations provide that the GRA is triggered if (i) the

TFC disposes of all or a portion of the

stock of the transferred corporation, or (ii)

the transferred corporation disposes of a

substantial portion of its assets. The term

substantial portion was not defined in the

regulations.

Both the final and the proposed regulations use the rule from the current temporary regulations that a GRA is triggered to

the extent that the TFC disposes of all or a

portion of the stock of the transferred corporation. The final regulations also adopt

the rule contained in the proposed regulations that a GRA is triggered if the transferred corporation disposes of substantially all of its assets (within the meaning

of section 368(a)(1)(C)). In addition, the

final regulations provide that a GRA will

be triggered if the U.S. transferor is either

a U.S. citizen or long-term resident (as

defined in section 877(e)(2)) at the time

of the initial transfer and such person

ceases to be a U.S. citizen or long-term

resident during the GRA term.

Under the current temporary regulations, if a GRA is triggered, the U.S.

transferor must amend its tax return for

the year of the initial transfer, include in

income the gain that was realized but not

recognized, and pay the tax due thereon

with interest. The proposed regulations

would have maintained the amended return/interest charge requirement, but requested comments as to (i) the amount of

gain to be recognized by the U.S. transferor upon a triggering event, (ii) the year

in which the gain should be included in

the income of the U.S. transferor, and (iii)

whether an interest charge is appropriate.

A number of commentators have suggested that the 10-year GRA term under

Notice 87–85 in certain instances is too

restrictive because a disposition of the

stock of the transferred corporation in

year 8, for example, would likely not be a

tax avoidance transfer but the interest

charges would be burdensome in such

case. Other commentators suggested a

deferred income approach similar to that

applicable in the consolidated return deferred intercompany context.

1998–27 I.R.B.

In response to these comments, these

final regulations contain two significant

modifications to the current temporary

regulations. First, in conformity with the

final inversion regulations, these regulations provide that the GRA term will be 5

years in all cases involving outbound

transfers of foreign stock. (Moreover,

taxpayers may elect to apply these final

regulations to past transactions so that any

10-year GRA that is in existence (i.e., has

not been triggered) on July 20, 1998 will

be a 5-year GRA. Thus, the 10-year GRA

will be considered to be a 5-year GRA by

the IRS, and, such GRA will terminate on

the fifth full taxable year following the

close of the taxable year of the initial

transfer.) Second, because the IRS and

the Treasury Department are concerned

that the amended return requirement can

be burdensome to taxpayers in the event

that a GRA is triggered, the final regulations contain an election (the GRA election), which must be filed with the U.S.

transferor’s tax return that includes the

date of the initial transfer, that permits

taxpayers to report a triggering event in

the year of the triggering event rather than

on an amended return for the year of the

initial transfer. (No such election is available with respect to GRAs that are in existence when these final regulations become effective.)

Even if a transferor makes a GRA election, such person is still required to extend

the statute of limitations, comply with all

of the applicable GRA reporting requirements (such as filing annual certifications)

and, in the case of a triggering event, include in income the GRA amount plus interest in the same manner as under the current temporary regulations, except that (i)

the GRA amount and interest would be included on the U.S. transferor’s tax return

for the year that includes the triggering

event, and (ii) other computations, such as

the section 1248 amount (if any) attributable to the transferred stock, will be determined on the triggering date rather than

the date of the initial transfer.

Consistent with the proposed regulations, the final regulations clarify that

post-GRA nonrecognition transactions

(e.g., nonrecognition transactions in

which the U.S. transferor transfers the

stock of the TFC, the TFC transfers the

stock of the transferred corporation, or the

transferred corporation transfers substan-

tially all of its assets) generally do not

trigger the GRA, provided that the U.S.

transferor reports the transaction and

amends the GRA to reflect the post-GRA

transaction.

The current temporary regulations do

not provide instances that would cause the

GRA to be terminated (i.e., extinguished).

The proposed regulations would have

provided that the GRA would be terminated if either (i) the U.S. transferor disposed of all of its TFC stock in a taxable

transaction, or (ii) the transferred company is a U.S. company that sold substantially all of its assets in a taxable transaction (but only if the transferred company

was affiliated with the U.S. transferor

under section 1504(a)(2) prior to the initial transfer).

The final regulations retain these two

rules. In addition, the final regulations

also provide that a GRA will be terminated if (i) the TFC distributes the stock

of the transferred corporation back to the

U.S. transferor in a section 355 exchange,

or (ii) the TFC liquidates into the U.S.

transferor under section 332, provided

that, immediately after the section 355

distribution or section 332 liquidation, the

U.S. transferor’s basis in the transferred

stock is less than or equal to the basis that

it had in the transferred stock immediately

prior to the initial transfer of such stock.

Finally, the current temporary regulations provide (and the 1991 proposed regulations would have provided) certain restrictions on taxpayers’ ability to use net

operating losses and credits to offset the

amount of gain recognized upon the trigger of a GRA. In response to suggestions

from commentators, the final regulations

remove these restrictions.

Section 367(a) and “check-the-box”

rules

The IRS and the Treasury Department

are aware that taxpayers may attempt to

use the entity classification (i.e., checkthe-box) regulations to avoid entering into

GRAs. For example, assume that a U.S.

transferor (USP) owns all of the stock of

two CFCs, CFC1 and CFC2. USP transfers the stock of CFC2 to CFC1 in an exchange otherwise described as both a section 351 exchange and a B reorganization.

USP elects under §301.7701–3(c) to treat

CFC2 as a disregarded entity, and such

election is effective immediately prior to

the transfer.

July 6, 1998

Provided that the election is respected,

USP would, for Federal income tax purposes, transfer the assets (and not the

stock) of CFC2 to CFC1 in a section 351

exchange. If the assets will be used by

CFC1 in the active conduct of a trade or

business outside the United States, the

transfer of the assets by USP will qualify

for the exception contained in section

367(a)(3) and §1.367(a)–2T (as limited by

certain provisions, including §§1.367(a)–

4T through 1.367(a)–6T). If the assets are

disposed of (either directly by CFC2 or

because the stock of CFC2 is disposed of

by CFC1) in connection with the transfer

to CFC1, the step transaction doctrine

may apply to deny nonrecognition treatment to the outbound transfer to the extent it is treated as an asset transfer. In addition, the active trade or business

exception under §1.367(a)–2T is inapplicable if, as part of the same transaction in

which the TFC received the assets, it disposes of such assets. See §1.367(a)–

2T(c). Thus, if USP intended to sell

CFC2 or its business at the time of the

election or the asset transfer, the transfer

would be treated as a taxable exchange

under section 367(a)(1). If the step transaction doctrine and the active trade or

business anti-avoidance rule do not apply,

however, the use of the “check-the-box”

regulations in this context will not be

viewed as inconsistent with the purposes

of section 367(a), and, therefore, the

transaction will be respected as an asset

transfer.

Section 367(a) and tax-motivated

transactions

The IRS and the Treasury Department

are aware that certain taxpayers have entered into (or are contemplating) transactions that are designed to avoid the inversion regulations under §1.367(a)–3(c). In

these transactions (where a foreign corporation acquires the stock of a domestic

corporation), one or more U.S. transferors

attempt to avoid taxation under the inversion regulations by retaining an equity interest (or receiving a modified equity interest) in the domestic target corporation.

Such interest, however, is typically coupled with an interest in the foreign acquirer, or a right to convert the interest in

the domestic target into stock of the foreign acquirer.

The IRS and the Treasury Department

are currently scrutinizing these transac-

July 6, 1998

tions on a case-by-case basis using substance over form (or other) principles, and

are studying whether it is appropriate to

issue specific guidance with respect to

these transactions. Comments are requested as to the instances in which a U.S.

transferor that receives (or maintains) a

stock interest in the domestic target in circumstances similar to those described

above should not be treated as having received stock in the foreign acquirer for

purposes of section 367(a).

Section 367(b)

This document finalizes the 1991 proposed section 367(b) regulations to the

extent necessary to address those transfers

of foreign stock subject to both sections

367(a) and (b) under the 1991 proposed

regulations.

In addition, this document contains a

number of other miscellaneous provisions, at the request of commentators.

First, under current law, if a United

States shareholder (defined under

§7.367(b)–2(b) as a 10 percent shareholder of a CFC within the past 5 years)

exchanges, under section 351, stock of a

foreign corporation for stock of a domestic corporation, the U.S. transferor is not

taxable under section 367(b). However,

if the transaction constitutes a section

354 exchange, under §7.367(b)–7(c)(1)

the United States shareholder must include in income the section 1248 amount

attributable to the stock exchanged. Consistent with the 1991 proposed regulations as well as the purpose of these final

regulations to harmonize the Federal income tax consequences of substantially

similar transactions, the final section

367(b) regulations provide that a section

1248 inclusion generally is not required

in the case of the section 354 exchange

described above. (This result is accomplished by excluding domestic stock from

the categories of nonqualifying consideration described in §1.367(b)–4(b)(1).

Thus, these transfers will generally be respected as nonrecognition exchanges

under 367(b).)

Second, consistent with the principles

of section 367(b), in cases where the final

regulations do not require that the section

1248 amount be included in income, the

regulations clarify the appropriate treatment of post-reorganization exchanges

under section 1248 or 367(b). See

§1.367(b)–4(b)(5).

Third, in an effort to reduce the reporting burdens of U.S. persons that make

outbound transfers of foreign stock or securities, the section 367(b) regulations are

amended to provide that, to the extent that

a transaction is described in both sections

367(a) and (b), and the exchanging shareholder is not a United States shareholder

of the corporation whose stock is exchanged, reporting under section 367(b)

is not required. See §1.367(b)–1(c).

Finally, the proposed section 367(b)

regulations provided that final regulations generally would be effective for exchanges that occur on or after 30 days

after the final regulations were published

in the Federal Register. However,

§1.367(b)–2(d) (relating to the definition

of the all earnings and profits amount)

was proposed to be effective for transfers

occurring on or after August 26, 1991. In

response to comments regarding this provision and its effective date, a separate

notice of proposed rulemaking is issued

with these final regulations to delete the

August 26, 1991, effective date with respect to the all earnings and profits

amount. Thus, the definition of the all

earnings and profits amount that will be

included in forthcoming section 367(b)

final regulations will apply to exchanges

that occur on or after 30 days after the issuance of those final regulations.

The IRS and the Treasury Department

will issue guidance at a later date to address section 367(b) provisions described

in the 1991 proposed regulations that are

not addressed herein.

Section 6038B: in general

Section 6038B, as enacted under the

Deficit Reduction Act of 1984 (Public

Law 98–369), provided that U.S. persons

that made certain outbound transfers of

property to foreign corporations were required to report those transfers in the

manner prescribed by regulations. The

penalty for failure to comply with the regulations was 25 percent of the gain realized on the exchange, unless the failure

was due to reasonable cause and not to

willful neglect. (The penalty was modified by the Taxpayer Relief Act of 1997

(TRA ’97).)

Section 1.6038B–1T, promulgated on

May 15, 1986, by TD 8087 (together with

regulations under sections 367(a) and

(d)), provided rules concerning the information that was required to be reported

1998–27 I.R.B.

under section 6038B with respect to transfers of property to foreign corporations.

Section 6038B: transfers of stock or

securities

Section 1.6038B–1T(b)(2)(i) of the

current temporary regulations provides,

inter alia, that no notice is required under

section 6038B with respect to a transfer of

stock or securities described in §1.367(a)–

3T(f)(1) of the current temporary regulations. Section 1.367(a)–3T(f)(1) had provided that an outbound transfer of stock

or securities of a domestic or foreign corporation was not taxable under section

367(a)(1) if immediately after the transfer

(i) all U.S. transferors owned in the aggregate less than 20 percent of both the total

voting power and the total value of the

stock of the TFC, or (ii) all U.S. transferors owned in the aggregate 20 percent or

more of either the total voting power or

the total value of the stock of the TFC, but

less than 50 percent of that total voting

power and total value and the subject U.S.

transferor was not a 5-percent shareholder.

Notice 87–85 superseded the 1986 temporary regulations under section 367(a)

(including §1.367(a)–3T(f)(1)) with respect to the exceptions available for outbound stock transfers. Notice 87–85 provided that final regulations would

incorporate the rules contained in the Notice, for transfers occurring after December 16, 1987. The exceptions in the 1986

temporary regulations, including

§1.367(a)–3T(f)(1) of the current temporary regulations, were removed as deadwood (for transfers occurring after December 16, 1987) by the 1995 temporary

inversion regulations (T.D. 8638).

Prior to the issuance of these final regulations, however, section 6038B had not

been amended with respect to outbound

transfers of stock or securities. Thus,

there was uncertainty whether a U.S.

transferor that qualified under the inversion regulations or Notice 87–85 for nonrecognition treatment without filing a

GRA (i.e., such U.S. transferor was not a

5-percent shareholder) was required to

comply with section 6038B.

To reduce the reporting burdens on

U.S. taxpayers that make outbound transfers of stock subject to section 6038B,

the final section 6038B regulations provide that, with respect to transfers occurring after December 16, 1987, and before

1998–27 I.R.B.

these final regulations are generally effective, a U.S. transferor that makes an outbound transfer subject to section 367(a)

will not be subject to section 6038B with

respect to such transfer if (i) such person

was not a 5-percent shareholder and the

transfer qualified for nonrecognition

treatment under section 367(a), or (ii)

such person was not a 5-percent shareholder in the case of a taxable transaction

but such person included the gain on its

Federal income tax return for the taxable

year that included the date of the transfer.

With respect to transfers occurring after

these final regulations are effective, these

regulations contain the two exceptions described above. In addition, a 5-percent

shareholder that is required to file a GRA

is not subject to section 6038B provided

that a GRA is properly filed. Moreover,

U.S. transferors that are taxable on their

outbound transfers of stock or securities

(such as under the inversion regulations

or because a 5-percent shareholder that

was eligible to qualify for nonrecognition

treatment chose not to file a GRA) are not

subject to section 6038B if they properly

report the gain recognized on the transfer

on their tax returns that include the date of

the transfer.

Thus, a U.S. transferor that does not

properly report the gain recognized on its

outbound stock transfer has not met its

section 6038B filing obligation with respect to such transfer, and will be subject

to the penalty under section 6038B, unless the transferor’s failure to report the

gain from the outbound transfer was due

to reasonable cause and not willful neglect. Such person will also be subject to

the extended statute of limitations under

section 6501(c)(8).

Section 6038B: transfers of cash and

unappreciated property

As noted above, prior to the enactment

of TRA ’97, the penalty for failure to

comply with section 6038B was 25 percent of the gain realized on the outbound

transfer. Thus, in the case of an outbound

transfer of cash or unappreciated property

required to be reported under section

6038B, no penalty was imposed upon the

failure to report the transfer.

Pursuant to the TRA ’97, the penalty

for failure to report under section 6038B

is revised from 25 percent of the gain realized in the property transferred to 10

percent of the fair market value of the

property transferred, but limited to

$100,000 unless the failure to report the

exchange was due to intentional disregard. (The final regulations reflect the

modification to the penalty provision

under section 6038B.)

In response to the TRA ’97 change to

the penalty structure under section

6038B, these final regulations clarify that

transfers of unappreciated property are required to be reported, or the 10 percent

penalty will apply. These final regulations, however, do not require outbound

transfers of cash to be reported. Rules regarding outbound transfers of cash will be

provided in future regulations.

Section 6038B: other transfers

Pursuant to TRA ’97, certain outbound

transfers to foreign partnerships are required to be reported under section

6038B. Rules regarding outbound transfers to foreign corporations of assets not

covered in these final regulations (such as

intangibles), and outbound transfers to

foreign partnerships, will be addressed in

separate guidance.

Section 367(d) and other TRA ’97

matters

A clarification provides that certain

rules under section 367(a) will also apply

under section 367(d) for purposes of determining the identity of the transferor

that makes an outbound transfer of an intangible subject to section 367(d). Section 367(a)(4) and §1.367(a)–1T(c)(5)

provide that, for purposes of section

367(a), a partnership is treated as an aggregate in cases where a U.S. person

transfers a partnership interest or a partnership makes an outbound transfer of

stock (or other assets).

The IRS and the Treasury Department

believe that the identity of the transferor

has been and must be consistent under

both sections 367(a) and (d). Consequently, a U.S. person may not attempt

the use of a foreign partnership as an intermediary (in light of the repeal of section 1491) for an outbound transfer of an

intangible by a U.S. person to a foreign

corporation to avoid section 367(d). In

the case of a transfer of an intangible by a

partnership to a foreign corporation that

qualifies as a section 351 exchange, each

partner that is a U.S. person is treated as

transferring its share of the intangible in a

transfer that is subject to section 367(d).

July 6, 1998

Guidance under TRA ’97 relating to the

repeal of section 1491 may address situations in which inappropriate results can be

achieved through transactions facilitated

by such repeal. For example, guidance

may address the appropriate tax consequences when a U.S. person who is a

United States shareholder of a CFC transfers stock in the CFC to a foreign partnership, and immediately after the transfer

the foreign corporation loses its status as a

CFC. Guidance is generally not, however,

expected to require gain recognition under

section 721(c) in cases where gain is not

inappropriately shifted to foreign persons.

to 5 years, thus eliminating the need for

annual certifications in years 5 through 9.

Moreover, the requirements under section

6038B have been substantially revised for

outbound transfers of stock described in

section 367(a) so that the amount of filing

required under that section will be significantly reduced. In addition, as a general

matter, these regulations will primarily affect large shareholders and U.S. multinational corporations with foreign operations. Thus, a Regulatory Flexibility

Analysis under the Regulatory Flexibility

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

Drafting Information

Effective Dates

The final regulations contained herein

are generally effective for transfers occurring on or after July 20, 1998. However,

taxpayers generally may elect to apply the

final regulations under §1.367(a)–3(b)

and (d) to transfers of foreign stock or securities occurring after December 17,

1987. A taxpayer that makes the election

must apply section 367(b) and the regulations thereunder to such transfers. In the

case of a transfer described in section

351, an electing transferor must apply

section 367(b) and the regulations thereunder as if the exchange was described in

§7.367(b)–7. Thus, for example, in a case

of a section 351 exchange in which a U.S.

person exchanges stock of a CFC in

which it is a United States shareholder but

does receive back stock of a CFC in

which it is a United States shareholder,

the electing transferor must include in income the section 1248 amount with respect to the transferred stock.

Special Analyses

It has been determined that this regulation is not a significant regulatory action

as defined in EO 12866. Therefore, a regulatory assessment is not required. It is

hereby certified that the collection of information contained in this regulation will

not have a significant economic impact on

a substantial number of small entities.

This certification is based upon the fact

that these final regulations generally reduce the reporting requirements in comparison with the requirements contained

under current law and the proposed sections 367(a) and (b) regulations. For example, the maximum term of the GRA

under section 367(a) is reduced from 10

July 6, 1998

The principal author of these regulations is Philip L. Tretiak of the Office of

Associate Chief Counsel (International),

within the Office of Chief Counsel, IRS.

However, other personnel from the IRS

and Treasury Department participated in

their development.

Adoption of Amendments to the

Regulations

Accordingly, 26 CFR parts 1, 7 and 602

are amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation for

part 1 is amended by revising the entry for

section 1.367(b)–7 and adding new entries to read in part as follows:

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

Section 1.367(a)–3 also issued under

26 U.S.C. 367(a) and (b).

Section 1.367(a)–8 also issued under

26 U.S.C. 367(a) and (b).

Section 1.367(b)–1 also issued under

26 U.S.C. 367(a) and (b). * * *

Section 1.367(b)–4 also issued under

26 U.S.C. 367(a) and (b).

Section 1.367(b)–7 also issued under

26 U.S.C. 367(a) and (b). * * *

Par. 2. Section 1.367(a)–1T is

amended as follows:

1. Paragraph (a), fourth sentence is

amended by removing the reference

“§1.367(a)–3T” and adding “§1.367(a)–

3” in its place.

2. Paragraph (a), last sentence is

amended by removing the reference

“§1.6038B–1T” and adding “§§1.6038B–

1 and 1.6038B–1T” in its place.

3. Paragraph (b)(2)(i) is removed and

reserved.

4. Paragraph (b), the concluding text

immediately following paragraph (b)(2)(iii) is removed.

5. Paragraph (c)(1), the last sentence is

removed.

6. Paragraph (c)(2) is revised to read as

set forth below.

7. Paragraph (c)(3)(ii)(C), the second

sentence of the concluding text immediately following paragraph (c)(3)(ii)(C)(2)

is amended by removing the language

“§1.367(a)–3T” and adding “§1.367(a)–

3” in its place.

§1.367(a)–1T Transfers to foreign

corporations subject to section 367(a):

in general (temporary).

(2) Indirect transfers in certain reorganizations. [Reserved] For further guidance, see §1.367(a)–3(d).

Par. 3. Section 1.367(a)-3 is amended

as follows:

1. Paragraphs (a) and (b) are revised.

2. Paragraph (c)(1)(iii)(B) is amended

by removing the reference “§1.367(a)–

3T(g)” and adding “§1.367(a)–8” in its

place.

3. Revising paragraph (d).

4. Removing paragraphs (e) through

(h) and adding paragraphs (e), (f) and (g).

The revisions and additions read as follows:

§1.367(a)–3 Treatment of transfers of

stock or securities to foreign

corporations.

(a) In general. This section provides

rules concerning the transfer of stock or

securities by a U.S. person to a foreign

corporation in an exchange described in

section 367(a). In general, a transfer of

stock or securities by a U.S. person to a

foreign corporation that is described in

section 351, 354 (including a reorganization described in section 368(a)(1)(B) and

including an indirect stock transfer described in paragraph (d) of this section),

356 or section 361(a) or (b) is subject to

section 367(a)(1) and, therefore, is treated

as a taxable exchange, unless one of the

1998–27 I.R.B.

exceptions set forth in paragraph (b) of

this section (regarding transfers of foreign

stock or securities) or paragraph (c) of

this section (regarding transfers of domestic stock or securities) applies. However,

if in an exchange described in section

354, a U.S. person exchanges stock of one

foreign corporation for stock of another

foreign corporation in a reorganization

described in section 368(a)(1)(E), or a

U.S. person exchanges stock of a domestic corporation for stock of a foreign corporation pursuant to an asset reorganization described in section 368(a)(1)(C),

(D) or (F) that is not treated as an indirect

stock transfer under paragraph (d) of this

section, such section 354 exchange is not

a transfer to a foreign corporation subject

to section 367(a). See, e.g., paragraph

(d)(3) Example 12. For rules regarding

other indirect or constructive transfers of

stock or securities subject to section

367(a), see §1.367(a)–1T(c). For additional rules relating to an exchange involving a foreign corporation in connection with which there is a transfer of

stock, see section 367(b) and the regulations under that section. For additional

rules regarding a transfer of stock or securities in an exchange described in section

361(a) or (b), see section 367(a)(5) and

any regulations under that section. For

rules regarding reporting requirements

with respect to transfers described under

section 367(a), see section 6038B and the

regulations thereunder.

(b) Transfers by U.S. persons of stock

or securities of foreign corporations to

foreign corporations—(1) General rule.

Except as provided in section 367(a)(5), a

transfer of stock or securities of a foreign

corporation by a U.S. person to a foreign

corporation that would otherwise be subject to section 367(a)(1) under paragraph

(a) of this section shall not be subject to

section 367(a)(1) if either—

(i) Less than 5-percent shareholder.

The U.S. person owns less than five percent (applying the attribution rules of section 318, as modified by section 958(b))

of both the total voting power and the

total value of the stock of the transferee

foreign corporation immediately after the

transfer; or

(ii) 5-percent shareholder. The U.S.

person enters into a five-year gain recognition agreement with respect to the transferred stock or securities as provided in

§1.367(a)–8.

1998–27 I.R.B.

(2) Certain transfers subject to sections 367(a) and (b)—(i) In general. A

transfer of foreign stock or securities described in section 367(a) or any regulations thereunder as well as in section

367(b) or any regulations thereunder shall

be concurrently subject to sections 367(a)

and (b) and the regulations thereunder,

except to the extent that the transferee foreign corporation is not treated as a corporation under section 367(a)(1). The example in paragraph (b)(2)(ii) of this

section illustrates the rules of this paragraph (b)(2). For an illustration of the interaction of the indirect stock transfer

rules under section 367(a) (described

under paragraph (d) of this section) and

the rules of section 367(b), see paragraph

(d)(3) Example 11 of this section.

(ii) Example. The following example

illustrates the provisions of this paragraph

(b)(2):

Example. (i) Facts. DC, a domestic corporation,

owns all of the stock of FC1, a controlled foreign

corporation within the meaning of section 957(a).

DC’s basis in the stock of FC1 is $50, and the value

of such stock is $100. The section 1248 amount

with respect to such stock is $30. FC2, also a foreign corporation, is owned entirely by foreign individuals who are not related to DC or FC1. In a reorganization described in section 368(a)(1)(B), FC2

acquires all of the stock of FC1 from DC in exchange for 20 percent of the voting stock of FC2.

FC2 is not a controlled foreign corporation after the

reorganization.

(ii) Result without gain recognition agreement.

Under the provisions of this paragraph (b), if DC

fails to enter into a gain recognition agreement, DC

is required to recognize in the year of the transfer the

$50 of gain that it realized upon the transfer, $30 of

which will be treated as a dividend under section

1248.

(iii) Result with gain recognition agreement. If

DC enters into a gain recognition agreement under

§1.367(a)-8 with respect to the transfer of FC1

stock, the exchange will also be subject to the provisions of section 367(b) and the regulations thereunder to the extent that it is not subject to tax under

section 367(a)(1). In such case, DC will be required

to recognize the section 1248 amount of $30 on the

exchange of FC1 for FC2 stock. See §1.367(b)-4(b).

The deemed dividend of $30 recognized by DC will

increase its basis in the FC1 stock exchanged in the

transaction and, therefore, the basis of the FC2 stock

received in the transaction. The remaining gain of

$20 realized by DC (otherwise recognizable under

section 367(a)) in the exchange of FC1 stock will

not be recognized if DC enters into a gain recognition agreement with respect to the transfer. (The result would be unchanged if, for example, the exchange of FC1 stock for FC2 stock qualified as a

section 351 exchange, or as an exchange described

in both sections 351 and 368(a)(1)(B).)

(d) Indirect stock transfers in certain

nonrecognition transfers—(1) In general. For purposes of this section, a U.S.

person who exchanges, under section 354

(or section 356) stock or securities in a

domestic or foreign corporation for stock

or securities in a foreign corporation in

connection with one of the following

transactions described in paragraphs

(d)(1)(i) through (v) of this section (or

who is deemed to make such an exchange

under paragraph (d)(1)(vi) of this section)

shall be treated as having made an indirect

transfer of such stock or securities to a foreign corporation that is subject to the rules

of this section, including, for example, the

requirement, where applicable, that the

U.S. transferor enter into a gain recognition agreement to preserve nonrecognition

treatment under section 367(a). If the U.S.

person exchanges stock or securities of a

foreign corporation, see also section

367(b) and the regulations thereunder. For

an example of the concurrent application

of the indirect stock transfer rules under

section 367(a) and the rules of section

367(b), see, e.g., paragraph (d)(3) Example 11 of this section.

(i) Mergers described in sections

368(a)(1)(A) and (a)(2)(D). A U.S. person exchanges stock or securities of a corporation (the acquired corporation) for

stock or securities of a foreign corporation that controls the acquiring corporation in a reorganization described in sections 368(a)(1)(A) and (a)(2)(D). See,

e.g., paragraph (d)(3) Example 1 of this

section.

(ii) Mergers described in sections

368(a)(1)(A) and (a)(2)(E). A U.S. person exchanges stock or securities of a corporation (the acquiring corporation) for

stock or securities in a foreign corporation

that controls the acquired corporation in a

reorganization described in sections

368(a)(1)(A) and (a)(2)(E).

(iii) Triangular reorganizations described in section 368(a)(1)(B). A U.S.

person exchanges stock of the acquired

corporation for voting stock of a foreign

corporation that is in control (as defined

in section 368(c)) of the acquiring corporation in connection with a reorganization

described in section 368(a)(1)(B). See,

e.g., paragraph (d)(3) Example 4 of this

section.

(iv) Triangular reorganizations described in section 368(a)(1)(C). A U.S.

July 6, 1998

person exchanges stock or securities of a

corporation (the acquired corporation) for

voting stock or securities of a foreign corporation that controls the acquiring corporation in a reorganization described in

section 368(a)(1)(C). See, e.g., paragraph

(d)(3) Example 5 of this section (for an

example of a triangular section

368(a)(1)(C) reorganization involving domestic acquired and acquiring corporations), and paragraph (d)(3) Example 7 of

this section (for an example involving a

domestic acquired corporation and a foreign acquiring corporation). If the acquired corporation is a foreign corporation, see paragraph (d)(3) Example 11 of

this section, and section 367(b) and the

regulations thereunder.

(v) Reorganizations described in sections 368(a)(1)(C) and (a)(2)(C). A U.S.

person exchanges stock or securities of a

corporation (the acquired corporation) for

voting stock or securities of a foreign acquiring corporation in a reorganization

described in sections 368(a)(1)(C) and

(a)(2)(C) (other than a triangular section

368(a)(1)(C) reorganization described in

paragraph (d)(1)(iv) of this section). In

the case of a reorganization in which

some but not all of the assets of the acquired corporation are transferred pursuant to section 368(a)(2)(C), the transaction shall be considered to be an indirect

transfer of stock or securities subject to

this paragraph (d) only to the extent of the

assets so transferred. (Other assets shall

be treated as having been transferred in an

asset transfer rather than an indirect stock

transfer, and such asset transfer would be

subject to the other provisions of section

367, including sections 367(a)(1), (3), (5)

and (d) if the acquired corporation is a domestic corporation.) See, e.g., paragraph

(d)(3) Example 5B of this section.

(vi) Successive transfers of property to

which section 351 applies. A U.S. person

transfers property (other than stock or securities) to a foreign corporation in an exchange described in section 351, and all

or a portion of such assets transferred to

the foreign corporation by such person

are, in connection with the same transaction, transferred to a second corporation

that is controlled by the foreign corporation in one or more exchanges described

in section 351. For purposes of this paragraph (d)(1) and §1.367(a)–8, the initial

transfer by the U.S. person shall be

July 6, 1998

deemed to be a transfer of stock described

in section 354. (Any assets transferred to

the foreign corporation that are not transferred by the foreign corporation to a second corporation shall be treated as a

transfer of assets subject to the general

rules of section 367, including sections

367(a)(1), (3), (5) and (d), and not as an

indirect stock transfer under the rules of

this paragraph (d).) See, e.g., paragraph

(d)(3) Example 10 and Example 10A of

this section.

(2) Special rules for indirect transfers.

If a U.S. person is considered to make an

indirect transfer of stock or securities described in paragraph (d)(1) of this section,

the rules of this section and §1.367(a)–8

shall apply to the transfer. For purposes

of applying the rules of this section and

§1.367(a)–8:

(i) Transferee foreign corporation.

The transferee foreign corporation shall

be the foreign corporation that issues

stock or securities to the U.S. person in

the exchange.

(ii) Transferred corporation. The

transferred corporation shall be the acquiring corporation, except that in the

case of a triangular section 368(a)(1)(B)

reorganization described in paragraph

(d)(1)(iii) of this section, the transferred

corporation shall be the acquired corporation; in the case of a triangular section

368(a)(1)(C) reorganization described in

paragraph (d)(1)(iv) of this section followed by a section 368(a)(2)(C) transfer

or a section 368(a)(1)(C) reorganization

followed by a section 368(a)(2)(C) transfer described in paragraph (d)(1)(v) of

this section, the transferred corporation

shall be the transferee corporation; and in

the case of successive section 351 transfers described in paragraph (d)(1)(vi) of

this section, the transferred corporation

shall be the transferee corporation in the

final section 351 transfer. The transferred

property shall be the stock or securities of

the transferred corporation, as appropriate

in the circumstances.

(iii) Amount of gain. The amount of

gain that a U.S. person is required to include in income in the event of a disposition (or a deemed disposition) of some or

all of the stock or securities of the transferred corporation shall be the proportionate share (as determined under §1.367(a)–

8(e)) of the U.S. person’s gain realized

but not recognized in the initial exchange

(or deemed exchange) of stock or securities under section 354.

(iv) Gain recognition agreements involving multiple parties. The U.S. transferor’s agreement to recognize gain, as

provided in §1.367(a)–8, shall include appropriate provisions, consistent with the

principles of these rules, requiring the

transferor to recognize gain in the event

of a direct or indirect disposition of the

stock or assets of the transferred corporation. For example, in the case of a triangular section 368(a)(1)(B) reorganization

described in paragraph (d)(1)(iii) of this

section, a disposition of the transferred

stock shall include an indirect disposition

of such stock by the transferee foreign

corporation, such as a disposition of such

stock by the acquiring corporation or a

disposition of the stock of the acquiring

corporation by the transferee foreign corporation. See, e.g., paragraph (d)(3) Example 4 of this section.

(v) Determination of whether the

transferred corporation disposed of substantially all of its assets. For purposes of

applying §1.367(a)–8(e)(3)(i) to determine whether the transferred corporation

has disposed of substantially all of its assets, the following assets shall be taken

into account (but only if such assets are

not fully taxable under section 367 in the

taxable year that includes the indirect

transfer)—

(A) In the case of a sections 368(a)(1)(A) and (a)(2)(D) reorganization, and a

triangular section 368(a)(1)(C) reorganization described in paragraph (d)(1)(i) or

(iv) of this section, respectively, the assets

of the acquired corporation;

(B) In the case of a sections 368(a)(1)(A) and (a)(2)(E) reorganization described in paragraph (d)(1)(ii) of this section, the assets of the acquiring

corporation immediately prior to the

transaction;

(C) In the case of a sections 368(a)(1)(C) and (a)(2)(C) reorganization described in paragraph (d)(1)(v) of this section, the assets of the acquired

corporation that are subject to a transfer

described in section 368(a)(2)(C); and

(D) In the case of successive section

351 exchanges described in paragraph

(d)(1)(vi) of this section, the assets that

are both transferred initially to the foreign

corporation, and transferred by the foreign corporation to a second corporation.

1998–27 I.R.B.

(vi) Coordination between asset transfer rules and indirect stock transfer rules.

If, pursuant to any of the transactions described in paragraph (d)(1) of this section,

a domestic corporation transfers (or is

deemed to transfer) assets to a foreign

corporation (other than in an exchange

described in section 354), the rules of section 367, including sections 367(a)(1),

(a)(3) and (a)(5), as well as section

367(d), and the regulations thereunder

shall apply prior to the application of the

rules of this section. However, if a transaction is described in this paragraph (d),

section 367(a) shall not apply in the case

of a domestic acquired corporation that

transfers its assets to a foreign acquiring

corporation, to the extent that such assets

are re-transferred to a domestic corporation in a transfer described in section

368(a)(2)(C) or paragraph (d)(1)(vi) of

this section, but only if the domestic

transferee’s basis in the assets is no

greater than the basis that the domestic

acquired company had in such assets.

See, e.g., paragraph (d)(3) Example 8 and

Example 10A of this section.

(3) Examples. The rules of this paragraph (d) and §1.367(a)–8 are illustrated

by the following examples:

Example 1. Section 368(a)(1)(A)/(a)(2)(D) reorganization—(i) Facts. F, a foreign corporation,

owns all the stock of Newco, a domestic corporation. A, a domestic corporation, owns all of the

stock of W, also a domestic corporation. A and W

file a consolidated Federal income tax return. A

does not own any stock in F (applying the attribution

rules of section 318, as modified by section 958(b)).

In a reorganization described in sections

368(a)(1)(A) and (a)(2)(D), Newco acquires all of

the assets of W, and A receives 40% of the stock of F

in an exchange described in section 354.

(ii) Result. Pursuant to paragraph (d)(1)(i) of

this section, the reorganization is subject to the indirect stock transfer rules. F is treated as the transferee foreign corporation, and Newco is treated as

the transferred corporation. Provided that the requirements of paragraph (c)(1) of this section are

satisfied, including the requirement that A enter into

a five-year gain recognition agreement as described

in §1.367(a)–8, A’s exchange of W stock for F stock

under section 354 will not be subject to section

367(a)(1). If F disposes (within the meaning of

§1.367(a)–8(e)) of all (or a portion) of Newco’s

stock within the five-year term of the agreement

(and A has not made a valid election under

§1.367(a)–8(b)(1)(vii)), A is required to file an

amended return for the year of the transfer and include in income, with interest, the gain realized but

not recognized on the initial section 354 exchange.

If A has made a valid election under §1.367(a)–

8(b)(1)(vii) to include the amount subject to the gain

recognition agreement in the year of the triggering

1998–27 I.R.B.

event, A would instead include the gain on its tax return for the taxable year that includes the triggering

event, together with interest.

Example 1A. Transferor is a subsidiary in consolidated group—(i) Facts. The facts are the same as

in Example 1, except that A is owned by P, a domestic corporation, and for the taxable year in which the

transaction occurred, P, A and W filed a consolidated

Federal income tax return.

(ii) Result. Even though A is the U.S. transferor,

P is required under §1.367(a)–8(a)(3) to enter into

the gain recognition agreement and comply with the

requirements under §1.367(a)–8. In the event that A

leaves the P group, A would make the annual certifications required under §1.367(a)–8(b)(5)(ii). P

would remain liable with A under the gain recognition agreement.

Example 2. Taxable inversion pursuant to indirect stock transfer rules—(i) Facts. The facts are

the same as in Example 1, except that A receives

more than fifty percent of either the total voting

power or the total value of the stock of F in the

transaction.

(ii) Result. A is required to include in income in

the year of the exchange the amount of gain realized

on such exchange. See paragraph (c)(1)(i) of this

section. If A fails to include the income on its

timely-filed return, A will also be liable for the

penalty under section 6038B (together with interest

and other applicable penalties) unless A’s failure to

include the income is due to reasonable cause and

not willful neglect. See §1.6038B–1(f).

Example 3. Disposition by U.S. transferred corporation of substantially all of its assets—(i) Facts.

The facts are the same as in Example 1, except that,

during the third year of the gain recognition agreement, Newco disposes of substantially all (as described in §1.367(a)–8(e)(3)(i)) of the assets described in paragraph (d)(2)(v)(A) of this section for

cash and recognizes currently all of the gain realized

on the disposition.

(ii) Result. Under §1.367(a)–8(e)(3)(i), the gain

recognition agreement is generally triggered when

the transferred corporation disposes of substantially

all of its assets. However, under the special rule contained in §1.367(a)–8(h)(2), because A and W filed a

consolidated Federal income tax return prior to the

transaction, and Newco, the transferred corporation,

is a domestic corporation, the gain recognition agreement is terminated and has no further effect.

Example 4. Triangular section 368(a)(1)(B) reorganization—(i) Facts. F, a foreign corporation,

owns all the stock of S, a domestic corporation. U, a

domestic corporation, owns all of the stock of Y,

also a domestic corporation. U does not own any of

the stock of F (applying the attribution rules of section 318, as modified by section 958(b)). In a triangular reorganization described in section 368(a)(1)(B) and paragraph (d)(1)(iii) of this section, S

acquires all the stock of Y, and U receives 10% of

the voting stock of F.

(ii) Result. U’s exchange of Y stock for F stock

will not be subject to section 367(a)(1), provided

that all of the requirements of paragraph (c)(1) are

satisfied, including the requirement that U enter into

a five-year gain recognition agreement. For purposes of this section, F is treated as the transferee

foreign corporation and Y is treated as the transferred corporation. See paragraphs (d)(2)(i) and (ii)

of this section. Under paragraph (d)(2)(iv) of this

section, the gain recognition agreement would be

triggered if F sold all or a portion of the stock of S,

or if S sold all or a portion of the stock of Y.

Example 5. Triangular section 368(a)(1)(C) reorganization—(i) Facts. F, a foreign corporation,

owns all of the stock of R, a domestic corporation

that operates an historical business. V, a domestic

corporation, owns all of the stock of Z, also a domestic corporation. V does not own any of the stock of F

(applying the attribution rules of section 318 as modified by section 958(b)). In a triangular reorganization described in section 368(a)(1)(C) (and paragraph

(d)(1)(iv) of this section), R acquires all of the assets

of Z, and V receives 30% of the voting stock of F.

(ii) Result. The consequences of the transfer are

similar to those described in Example 1; V is required to enter into a 5-year gain recognition agreement under §1.367(a)–8 to secure nonrecognition

treatment under section 367(a). Under paragraphs

(d)(2)(i) and (ii) of this section, F is treated as the

transferee foreign corporation and R is treated as the

transferred corporation. In determining whether, in

a later transaction, R has disposed of substantially

all of its assets under §1.367(a)–8(e)(3)(i), see paragraph (d)(2)(v)(A) of this section.

Example 5A. Section 368(a)(1)(C) reorganization

followed by section 368(a)(2)(C) exchange—(i)

Facts. The facts are the same as in Example 5, except that the transaction is structured as a section

368(a)(1)(C) reorganization, followed by a section

368(a)(2)(C) exchange, and R is a foreign corporation. The following additional facts are present. Z

has 3 businesses: Business A with a basis of $10 and

a value of $50, Business B with a basis of $10 and a

value of $40, and Business C with a basis of $10 and

a value of $30. V and Z file a consolidated Federal

income tax return and V has a basis of $30 in the Z

stock, which has a value of $120. Assume that Businesses A and B consist solely of assets that will satisfy the section 367(a)(3) active trade or business

exception; none of Business C’s assets will satisfy

the exception. Z transfers all 3 businesses to F in exchange for 30 percent of the F stock, which Z distributes to V pursuant to a section 368(a)(1)(C) reorganization. F then contributes Businesses B and C

to R pursuant to section 368(a)(2)(C).

(ii) Result. The transfer of the Business A assets

by Z to F is subject to the general rules under section

367, as such transfer does not constitute an indirect

stock transfer. The transfer by Z of the Business B

and C assets to F must first be tested under sections

367(a)(1), (3) and (5). Z recognizes $20 of gain on

the outbound transfer of the Business C assets, as

such assets do not qualify for an exception to section

367(a)(1). The Business B assets, which will be

used by R in an active trade or business outside the

United States, qualify for the exception under section 367(a)(3) and §1.367(a)–2T(c)(2). V is deemed

to transfer the stock of Z to F in a section 354 exchange subject to the rules of paragraph (d). V must

enter into the gain recognition agreement in the

amount of $30 to preserve Z’s nonrecognition treatment with respect to its transfer of Business B assets. Under paragraphs (d)(2)(i) and (ii) of this section, F is the transferee foreign corporation and R is

the transferred corporation.

Example 5B. Section 368(a)(1)(C) reorganization followed by section 368(a)(2)(C) exchange with

July 6, 1998

U.S. transferee—(i) Facts. The facts are the same as

in Example 5A, except that R is a U.S. corporation.

(ii) Result. As in Example 5A, the outbound

transfer of Business A assets to F is subject to section 367(a) and is not affected by the rules of this

paragraph (d). The Business B assets qualified for

nonrecognition treatment; the Business C assets did

not. However, pursuant to paragraph (d)(2)(vi) of

this section, the Business C assets are not subject to

section 367(a)(1), provided that the basis of the assets in the hands of R is no greater than the basis of

the assets in the hands of Z. V is deemed to make an

indirect transfer under the rules of this paragraph

(d). To preserve nonrecognition treatment under

section 367(a), V must enter into a 5-year gain

recognition agreement in the amount of $50, the

amount of the appreciation in the Business B and C

assets, as the transfer of such assets by Z were not

taxable under section 367(a)(1) but were treated as

an indirect stock transfer.

Example 6. Triangular section 368(a)(1)(C) reorganization followed by 351 exchange—(i) Facts.

The facts are the same as in Example 5, except that,

during the fourth year of the gain recognition agreement, R transfers substantially all of the assets received from Z to K, a wholly-owned domestic subsidiary of R, in an exchange described in section

351.

(ii) Result. The disposition by R, the transferred

corporation, of substantially all of its assets would

trigger the gain recognition agreement if the assets

were disposed of in a taxable transaction. However,

because the assets were transferred in a nonrecognition transaction, such transfer does not trigger the

gain recognition agreement if V satisfies the reporting requirements contained in §1.367(a)–8(g)(3)(i)

(which includes the requirement that V amend its

gain recognition agreement to reflect the transaction). See also paragraph (d)(2)(iv) of this section.

To determine whether substantially all of the assets

are disposed of, any assets of Z that were transferred

by Z to R and then contributed by R to K are taken

into account.

Example 6A. Triangular section 368(a)(1)(C) reorganization followed by section 351 exchange with

foreign transferee—(i) Facts. The facts are the

same as in Example 6 except that K is a foreign corporation.

(ii) Result. This transfer of assets by R to K

must be analyzed to determine its effect upon the

gain recognition agreement, and such transfer is also

an outbound transfer of assets that is taxable under

section 367(a)(1) unless the active trade or business

exception under section 367(a)(3) applies. If the

transfer is fully taxable under section 367(a)(1), the

transfer is treated as if the transferred company, R,

sold substantially all of its assets. Thus, the gain

recognition agreement would be triggered (but see

§1.367(a)–8(b)(3)(ii) for potential offsets to the gain

to be recognized). If each asset transferred qualifies

for nonrecognition treatment under section

367(a)(3) and the regulations thereunder (which require, under §1.367(a)–2T(a)(2), the transferor to

comply with the reporting requirements under section 6038B), the result is the same as in Example 6.

If a portion of the assets transferred qualify for nonrecognition treatment under section 367(a)(3) and a

portion are taxable under section 367(a)(1) (but such

portion does not result in the disposition of substantially all of the assets), the gain recognition agree-

July 6, 1998

ment will not be triggered if such information is reported as required under §1.367(a)–8(b)(5) and

(e)(3)(i).

Example 7. Concurrent application of asset

transfer and indirect stock transfer rules in consolidated return setting—(i) Facts. Assume the same

facts as in Example 5, except that R is a foreign corporation and V and Z file a consolidated return for

Federal income tax purposes. The properties of Z

consist of Business A assets, with an adjusted basis

of $50 and fair market value of $90, and Business B

assets, with an adjusted basis of $50 and a fair market

value of $110. Assume that the Business A assets do

not qualify for the active trade or business exception

under section 367(a)(3), but that the Business B assets do qualify for the exception. V’s basis in the Z

stock is $100, and the value of such stock is $200.

(ii) Result. Under paragraph (d)(2)(vi), the assets of Businesses A and B that are transferred to R

must be tested under sections 367(a)(3) and (a)(5)

prior to consideration of the indirect stock transfer

rules of this paragraph (d). Thus, Z must recognize

$40 of income under section 367(a)(1) on the outbound transfer of Business A assets. Under

§1.1502-32, because V and Z file a consolidated return, V’s basis in its Z stock increases from $100 to

$140 as a result of Z’s $40 gain. Provided that all of

the other requirements under paragraph (c)(1) of this

section are satisfied, to qualify for nonrecognition

treatment with respect to V’s indirect transfer of Z

stock, V must enter into a gain recognition agreement in the amount of $60 (the gain realized but not

recognized by V in the stock of Z after the $40 basis

adjustment). If F sells a portion of its stock in R

during the term of the agreement, V will be required

to recognize a portion of the $60 gain subject to the

agreement. To determine whether R disposes of

substantially all of its assets (under §1.367(a)–

8(e)(3)(i)), only the Business B assets will be considered (because the transfer of the Business A assets was taxable to Z under section 367). See paragraph (d)(2)(v)(A) of this section.

Example 7A. Concurrent application without

consolidated returns—(i) Facts. The facts are the

same as in Example 7, except that V and Z do not

file consolidated income tax returns.

(ii) Result. Z would still recognize $40 of gain

on the transfer of its Business A assets, and the Business B assets would still qualify for the active trade

or business exception under section 367(a)(3).

However, V’s basis in its stock of Z would not be increased by the amount of Z’s gain. V’s indirect

transfer of stock will be taxable unless V enters into

a gain recognition agreement (as described in

§1.367(a)–8) for the $100 of gain realized but not

recognized with respect to the stock of Z.

Example 7B. Concurrent application with individual U.S. shareholder—(i) Facts. The facts are

the same as in Example 7, except that V is an individual U.S. citizen.

(ii) Result. Section 367(a)(5) would prevent the

application of the active trade or business exception

under section 367(a)(3). Thus, Z’s transfer of assets

to R would be fully taxable under section 367(a)(1).

Z would recognize $100 of income. V’s basis in its

stock of Z is not increased by this amount. V is taxable with respect to its indirect transfer of its Z stock

unless V enters into a gain recognition agreement in

the amount of the $100, the gain realized but not recognized with respect to its Z stock.

Example 7C. Concurrent application with nonresident alien shareholder—(i) Facts. The facts are

the same as in Example 7, except that V is a nonresident alien.

(ii) Result. Pursuant to section 367(a)(5), the active trade or business exception under section

367(a)(3) is not available with respect to Z’s transfer

of assets to R. Thus, Z has $100 of gain with respect

to the Business A and B assets. Because V is a nonresident alien, however, V is not subject to section

367(a) with respect to its indirect transfer of Z stock.

Example 8. Concurrent application with section

368(a)(2)(C) Exchange—(i) Facts. The facts are

the same as in Example 7, except that R transfers the

Business A assets to M, a wholly-owned domestic

subsidiary of R, in an exchange described in section

368(a)(2)(C).

(ii) Result. Pursuant to paragraph (d)(2)(vi) of

this section, section 367(a)(1) does not apply to Z’s

transfer of Business A assets to R, because such assets are transferred to M, a domestic corporation.

Sections 367(a)(1), (3) and (5), as well as section

367(d), apply to Z’s transfer of assets to R to the extent that such assets are not transferred to M. However, the Business B assets qualify for an exception

to taxation under section 367(a)(3). Thus, if the requirements of paragraph (c)(1) of this section are

satisfied, including the requirement that V enter into

a 5-year gain recognition agreement and comply

with the requirements of §1.367(a)–8 with respect to

the gain realized on the Z stock, $100, the entire

transaction qualifies for nonrecognition treatment

under section 367(a)(1). See also section 367(a)(5)

and any regulations issued thereunder. Under paragraphs (d)(2)(i) and (ii) of this section, the transferee

foreign corporation is F and the transferred corporation is M. Pursuant to paragraph (d)(2)(iv) of this

section, a disposition by F of the stock of R, or a disposition by R of the stock of M, will trigger the gain

recognition agreement. To determine whether substantially all of the assets have been disposed of (as

described under §1.367(a)–8(e)(3)(i)), the Business

A assets in M and the Business B assets in R must

both be considered.

Example 9. Concurrent application of direct and

indirect stock transfer rules—(i) Facts. F, a foreign

corporation, owns all of the stock of O, also a foreign corporation. D, a domestic corporation, owns

all of the stock of E, also a domestic corporation,

which owns all of the stock of N, also a domestic

corporation. Prior to the transactions described in

this Example 9, D, E and N filed a consolidated income tax return. D has a basis of $100 in the stock

of E, which has a fair market value of $160. The N

stock has a fair market value of $100, and E has a

basis of $60 in such stock. In addition to the stock

of N, E owns the assets of Business X. The assets of

Business X have a fair market value of $60, and E

has a basis of $50 in such assets. Assume that the

Business X assets qualify for nonrecognition treatment under section 367(a)(3). D does not own any

stock in F (applying the attribution rules of section

318 as modified by section 958(b)). In a triangular

reorganization described in section 368(a)(1)(C) and

paragraph (d)(1)(iv) of this section, O acquires all of

the assets of E, and D exchanges its stock in E for

40% of the voting stock of F.

(ii) Result. E’s transfer of its assets, including

the N stock, must be tested under the general rules of

section 367(a) before consideration of D’s indirect

1998–27 I.R.B.

transfer of the stock of E. E’s transfer of the assets

of Business X qualify for nonrecognition under section 367(a)(3). E could qualify for nonrecognition

treatment with respect to its transfer of N stock if it

enters into a gain recognition agreement (and all of

the requirements of paragraph (c)(1)(i) of this section are satisfied); however under §1.367(a)8(f)(2)(i), D, the parent of the consolidated group,

must enter into the agreement. O is the transferee

foreign corporation; N is the transferred corporation.

D may also qualify for nonrecognition with respect

to its indirect transfer of the stock of E if it enters

into a separate gain recognition agreement with respect to the E stock (and all of the requirements of

paragraph (c)(1)(i) of this section are satisfied). As

to this transfer, F is the transferee foreign corporation; O is the transferred corporation. The amount

of the gain recognition agreement is $60. See also

section 367(a)(5) and any regulations issued thereunder.

Example 10. Successive section 351 exchanges—(i) Facts. D, a domestic corporation,

owns all the stock of X, a controlled foreign corporation that operates an historical business, which

owns all the stock of Y, a controlled foreign corporation that also operates an historical business. The

properties of D consist of Business A assets, with an

adjusted basis of $50 and a fair market value of $90,

and Business B assets, with an adjusted basis of $50

and a fair market value of $110. Assume that the

Business B assets qualify for the exception under

section 367(a)(3) and §1.367(a)–2T(c)(2), but that

the Business A assets do not qualify for the exception. In an exchange described in section 351, D

transfers the assets of Businesses A and B to X, and,

in connection with the same transaction, X transfers

the assets of Business B to Y in another exchange

described in section 351.

(ii) Result. Under paragraph (d)(1)(vi) of this

section, this transaction is treated as an indirect

stock transfer for purposes of section 367(a), but the

transaction is not recharacterized for purposes of

section 367(b). Moreover, under paragraph (d)(2)(vi) of this section, the assets of Businesses A and B

that are transferred to X must be tested under section

367(a)(3). The Business A assets, which were not

transferred to Y, are subject to the general rules of

section 367(a), and not the indirect stock transfer

rules described in this paragraph (d). D must recognize $40 of income on the outbound transfer of

Business A assets. The transfer of the Business B

assets is subject to both the asset transfer rules

(under section 367(a)(3)) and the indirect stock

transfer rules of this paragraph (d) and §1.367(a)-8.

Thus, D’s transfer of the Business B assets will not

be subject to section 367(a)(1) if D enters into a

five-year gain recognition agreement with respect to

the stock of Y. Under paragraphs (d)(2)(i) and (ii) of

this section, X will be treated as the transferee foreign corporation and Y will be treated as the transferred corporation for purposes of applying the

terms of the agreement. If X sells all or a portion of

the stock of Y during the term of the agreement, D

will be required to recognize a proportionate amount

of the $60 gain that was realized by D on the initial

transfer of the Business B assets.

Example 10A. Successive section 351 exchanges

with ultimate domestic transferee—(i) Facts. The

facts are the same as in Example 10, except that Y is

a domestic corporation.

1998–27 I.R.B.

(ii) Result. As Example 10, D must recognize

$40 of income on the outbound transfer of the Business A assets. Although the Business B assets qualify for the exception under section 367(a)(3) (and

end up in U.S. corporate solution, in Y), the $60 of

gain realized on the Business B assets is nevertheless taxable under paragraphs (c)(1) and (d)(1)(vi) of

this section because the transaction is considered to

be a transfer by D of stock of a domestic corporation, Y, in which D receives more than 50 percent of

the stock of the transferee foreign corporation, X. A

gain recognition agreement is not permitted.

Example 11. Concurrent application of indirect

stock transfer rules and section 367(b)—(i) Facts.

F, a foreign corporation, owns all of the stock of

Newco, which is also a foreign corporation. P, a domestic corporation, owns all of the stock of S, a foreign corporation that is a controlled foreign corporation within the meaning of section 957(a). P’s basis

in the stock of S is $50 and the value of S is $100.

The section 1248 amount with respect to S stock is

$30. In a reorganization described in section

368(a)(1)(C) (and paragraph (d)(1)(iv) of this section), Newco acquires all of the properties of S, and

P exchanges its stock in S for 49 percent of the stock

of F.

(ii) Result. P’s exchange of S stock for F stock

under section 354 will be taxable under section

367(a) (and section 1248 will be applicable) if P

fails to enter into a 5-year gain recognition agreement in accordance with §1.367(a)–8. Under paragraph (b)(2) of this section, if P enters into a gain

recognition agreement, the exchange will be subject

to the provisions of section 367(b) and the regulations thereunder as well as section 367(a). Under

§7.367(b)–7(c)(1)(i) of this chapter, P must recognize the section 1248 amount of $30 because P exchanged stock of a controlled foreign corporation, S,

for stock of a foreign corporation that is not a controlled foreign corporation, F. The indirect stock

transfer rules do not apply with respect to section

367(b). The deemed dividend of $30 recognized by

P will increase P’s basis in the F stock received in

the transaction, and F’s basis in the Newco stock.

Thus, the amount of the gain recognition agreement

is $20 ($50 gain realized on the transfer less the $30

inclusion under section 367(b)). Under paragraphs

(d)(2)(i) and (ii) of this section, F is treated as the

transferee foreign corporation and Newco is the

transferred corporation.

Example 11A. Triangular section 368(a)(1)(C)

reorganization involving foreign acquired corporation—(i) Facts. Assume the same facts as in Example 11, except that P receives 51 percent of the stock

of F.

(ii) Result. P may still enter into a gain recognition agreement to avoid taxation under section

367(a). There is, however, no inclusion under section 367(b) because P would be exchanging stock in

one controlled foreign corporation for another. The

amount of the gain recognition agreement is $50.

See, also, §1.367(b)–4(b)(4).

Example 12. Direct asset reorganization not subject to stock transfer rules—(i) Facts. D is a publicly traded domestic corporation. D’s assets consist

of tangible assets, including stock or securities. In a

reorganization described in section 368(a)(1)(F), D

becomes a foreign corporation, F.

(ii) Result. The reorganization is characterized

under §1.367(a)–1T(f). D’s outbound transfer of as-

sets is taxable under section 367(a)(1). Even if any

of D’s assets would have otherwise qualified for an

exception to section 367(a)(1), section 367(a)(5)

provides that no exception can apply. The section

368(a)(1)(F) reorganization is not an indirect stock

transfer described in paragraph (d) of this section.

Moreover, the exchange by D’s shareholders of D

stock for F stock in an exchange described under

section 354 is not an exchange described under section 367(a). See paragraph (a) of this section.

(e) Effective dates—(1) In general.

The rules in paragraphs (a), (b) and (d) of

this section apply to transfers occurring

on or after July 20, 1998. The rules in

paragraph (c) of this section with respect

to transfers of domestic stock or securities

are generally applicable for transfers occurring after January 29, 1997. See

§1.367(a)–3(c)(11). For rules regarding

transfers of domestic stock or securities

after December 16, 1987, and before January 30, 1997, and transfers of foreign

stock or securities after December 16,

1987, and before July 20, 1998, see paragraph (g) of this section.

(2) Election. Notwithstanding paragraphs (e)(1) and (g) of this section, taxpayers may, by timely filing an original or

amended return, elect to apply paragraphs

(b) and (d) of this section to all transfers

of foreign stock or securities occurring

after December 16, 1987, and before July

20, 1998, except to the extent that a gain

recognition agreement has been triggered

prior to July 20, 1998. If an election is

made under this paragraph (e)(2), the provisions of §1.367(a)–3T(g) (see 26 CFR

part 1, revised April 1, 1998) shall apply,

and, for this purpose, the term substantial

portion under §1.367(a)–3T(g)(3)(iii)

(see 26 CFR part 1, revised April 1, 1998)

shall be interpreted to mean substantially

all as defined in section 368(a)(1)(C). In

addition, if such an election is made, the

taxpayer must apply the rules under section 367(b) and the regulations thereunder

to any transfers occurring within that period as if the election to apply §1.367(a)–

3(b) and (d) to transfers occurring within

that period had not been made, except that

in the case of an exchange described in

section 351 the taxpayer must apply section 367(b) and the regulations thereunder

as if the exchange was described in

§7.367(b)–7 of this chapter. For example,

if a U.S. person, pursuant to a section 351

exchange, transfers stock of a controlled

foreign corporation in which it is a United

States shareholder but does not receive

July 6, 1998

back stock of a controlled foreign corporation in which it is a United States shareholder, the U.S. person must include in income under §7.367(b)–7 of this chapter

the section 1248 amount attributable to

the stock exchanged (to the extent that the

fair market value of the stock exchanged

exceeds its adjusted basis). Such inclusion is required even though §7.367(b)–7

of this chapter, by its terms, did not apply

to section 351 exchanges.

(f) Former 10-year gain recognition

agreements. If a taxpayer elects to apply

the rules of this section to all prior transfers occurring after December 16, 1987,

any 10-year gain recognition agreement

that remains in effect (has not been triggered in full) on July 20, 1998, will be

considered by the Internal Revenue Service to be a 5-year gain recognition agreement with a duration of five full taxable

years following the close of the taxable

year of the initial transfer.

(g) Transition rules regarding certain

transfers of domestic or foreign stock or

securities after December 16, 1987, and

prior to July 20, 1998—(1) Scope. Transfers of domestic stock or securities described under section 367(a) that occurred

after December 16, 1987, and prior to

April 17, 1994, and transfers of foreign

stock or securities described under section

367(a) that occur after December 16, 1987,

and prior to July 20, 1998, are subject to

the rules contained in section 367(a) and

the regulations thereunder, as modified by

the rules contained in paragraph (g)(2) of

this section. For transfers of domestic

stock or securities described under section

367(a) that occurred after April 17, 1994

and before January 30, 1997, see Temporary Income Regulations under section

367(a) in effect at the time of the transfer

(§1.367(a)–3T(a) and (c), 26 CFR part 1,

revised April 1, 1996) and paragraph

(c)(11) of this section. For transfers of domestic stock or securities described under

section 367(a) that occur after January 29,

1997, see §1.367(a)–3(c).

(2) Transfers of domestic or foreign

stock or securities: additional substantive

rules—(i) Rule for less than 5-percent

shareholders. Unless paragraph (g)(2)(iii) of this section applies (in the case of

domestic stock or securities) or paragraph

(g)(2)(iv) of this section applies (in the

case of foreign stock or securities), a U.S.

transferor that transfers stock or securities

July 6, 1998

of a domestic or foreign corporation in an

exchange described in section 367(a) and

owns less than 5 percent of both the total

voting power and the total value of the

stock of the transferee foreign corporation

immediately after the transfer (taking into

account the attribution rules of section

958) is not subject to section 367(a)(1)

and is not required to enter into a gain

recognition agreement.

(ii) Rule for 5-percent shareholders.

Unless paragraph (g)(2)(iii) or (iv) of this

section applies, a U.S. transferor that

transfers domestic or foreign stock or securities in an exchange described in section 367(a) and owns at least 5 percent of

either the total voting power or the total

value of the stock of the transferee foreign

corporation immediately after the transfer

(taking into account the attribution rules

under section 958) may qualify for nonrecognition treatment by filing a gain

recognition agreement in accordance with

§1.367(a)–3T(g) in effect prior to July 20,

1998, (see 26 CFR part 1, revised April 1,

1998) for a duration of 5 or 10 years. The

duration is 5 years if the U.S. transferor

(5-percent shareholder) determines that

all U.S. transferors, in the aggregate, own

less than 50 percent of both the total voting power and the total value of the transferee foreign corporation immediately

after the transfer. The duration is 10 years

in all other cases. See, however,

§1.367(a)–3(f). If a 5-percent shareholder

fails to properly enter into a gain recognition agreement, the exchange is taxable to

such shareholder under section 367(a)(1).

(iii) Gain recognition agreement option

not available to controlling U.S. transferor if U.S. stock or securities are transferred. Notwithstanding the provisions of

paragraph (g)(2)(ii) of this section, in no

event will any exception to section

367(a)(1) apply to the transfer of stock or

securities of a domestic corporation

where the U.S. transferor owns (applying

the attribution rules of section 958) more

than 50 percent of either the total voting

power or the total value of the stock of the

transferee foreign corporation immediately after the transfer (i.e., the use of a

gain recognition agreement to qualify for

nonrecognition treatment is unavailable in

this case).

(iv) Loss of United States shareholder

status in the case of a transfer of foreign

stock. Notwithstanding the provisions of

paragraphs (g)(2)(i) and (ii) of this section, in no event will any exception to

section 367(a)(1) apply to the transfer of

stock of a foreign corporation in which

the U.S. transferor is a United States

shareholder (as defined in §7.367(b)–2(b)

of this chapter or section 953(c)) unless

the U.S. transferor receives back stock in

a controlled foreign corporation (as defined in section 953(c), section 957(a) or

section 957(b)) as to which the U.S. transferor is a United States shareholder immediately after the transfer.

§1.367(a)–3T [Removed]

Par. 4. Section 1.367(a)–3T is removed.

Par. 5. Section 1.367(a)–8 is added to

read as follows:

§1.367(a)–8 Gain recognition agreement

requirements.

(a) In general. This section specifies

the general terms and conditions for an

agreement to recognize gain entered into

pursuant to §1.367(a)–3(b) or (c) to qualify for nonrecognition treatment under

section 367(a).

(1) Filing requirements. A transferor’s

agreement to recognize gain (described in

paragraph (b) of this section) must be attached to, and filed by the due date (including extensions) of, the transferor’s income tax return for the taxable year that

includes the date of the transfer.

(2) Gain recognition agreement forms.

Any agreement, certification, or other

document required to be filed pursuant to

the provisions of this section shall be submitted on such forms as may be prescribed therefor by the Commissioner (or

similar statements providing the same information that is required on such forms).

Until such time as forms are prescribed,

all necessary filings may be accomplished

by providing the required information to

the Internal Revenue Service in accordance with the rules of this section.

(3) Who must sign. The agreement to

recognize gain must be signed under

penalties of perjury by a responsible officer in the case of a corporate transferor,

except that if the transferor is a member

but not the parent of an affiliated group

(within the meaning of section 1504(a)(1)), that files a consolidated Federal income tax return for the taxable year in

which the transfer was made, the agree-

1998–27 I.R.B.

ment must be entered into by the parent

corporation and signed by a responsible

officer of such parent corporation; by the

individual, in the case of an individual

transferor (including a partner who is

treated as a transferor by virtue of

§1.367(a)-–1T(c)(3)); by a trustee, executor, or equivalent fiduciary in the case of a

transferor that is a trust or estate; and by a

debtor in possession or trustee in a bankruptcy case under Title 11, United States

Code. An agreement may also be signed

by an agent authorized to do so under a

general or specific power of attorney.

(b) Agreement to recognize gain—(1)

Contents. The agreement must set forth

the following information, with the heading “GAIN RECOGNITION AGREEMENT UNDER §1.367(a)–8”, and with

paragraphs labeled to correspond with the

numbers set forth as follows—

(i) A statement that the document submitted constitutes the transferor’s agreement to recognize gain in accordance with

the requirements of this section;

(ii) A description of the property transferred as described in paragraph (b)(2) of

this section;

(iii) The transferor’s agreement to recognize gain, as described in paragraph

(b)(3) of this section;

(iv) A waiver of the period of limitations as described in paragraph (b)(4) of

this section;

(v) An agreement to file with the transferor’s tax returns for the 5 full taxable

years following the year of the transfer a

certification as described in paragraph

(b)(5) of this section;

(vi) A statement that arrangements

have been made in connection with the

transferred property to ensure that the

transferor will be informed of any subsequent disposition of any property that

would require the recognition of gain

under the agreement; and

(vii) A statement as to whether, in the

event all or a portion of the gain recognition agreement is triggered under paragraph (e) of this section, the taxpayer

elects to include the required amount in

the year of the triggering event rather than

in the year of the initial transfer. If the

taxpayer elects to include the required

amount in the year of the triggering event,

such statement must be included with all

of the other information required under

this paragraph (b), and filed by the due

1998–27 I.R.B.

date (including extensions) of the transferor’s income tax return for the taxable

year that includes the date of the transfer.

(2) Description of property transferred—(i) The agreement shall include a

description of each property transferred

by the transferor, an estimate of the fair

market value of the property as of the date

of the transfer, a statement of the cost or

other basis of the property and any adjustments thereto, and the date on which the

property was acquired by the transferor.

(ii) If the transferred property is stock

or securities, the transferor must provide

the information contained in paragraphs

(b)(2)(ii)(A) through (F) of this section as

follows—

(A) The type or class, amount, and

characteristics of the stock or securities

transferred, as well as the name, address,

and place of incorporation of the issuer of

the stock or securities, and the percentage

(by voting power and value) that the stock

(if any) represents of the total stock outstanding of the issuing corporation;

(B) The name, address and place of incorporation of the transferee foreign corporation, and the percentage of stock (by

voting power and value) that the U.S.

transferor received or will receive in the

transaction;

361(a) or (b), a statement that the conditions set forth in the second sentence of

section 367(a)(5) and any regulations

under that section have been satisfied, and

an explanation of any basis or other adjustments made pursuant to section

367(a)(5) and any regulations thereunder;

(D) If the property transferred is stock

or securities of a domestic corporation,

the taxpayer identification number of the

domestic corporation whose stock or securities were transferred, together with a

statement that all of the requirements of

§1.367(a)–3(c)(1) are satisfied;

(E) If the property transferred is stock

or securities of a foreign corporation, a

statement as to whether the U.S. transferor was a United States shareholder (a

U.S. transferor that satisfies the ownership requirements of section 1248(a)(2) or

(c)(2)) of the corporation whose stock

was exchanged, and, if so, a statement as

to whether the U.S. transferor is a United

States shareholder with respect to the

stock received, and whether any reporting

requirements contained in regulations

under section 367(b) are applicable, and,

if so, whether they have been satisfied;

and

(F) If the transaction involved the

transfer of assets other than stock or securities and the transaction was subject to

the indirect stock transfer rules of

§1.367(a)–3(d), a statement as to whether

the reporting requirements under section

6038B have been satisfied with respect to

the transfer of property other than stock or

securities, and an explanation of whether

gain was recognized under section

367(a)(1) and whether section 367(d) was

applicable to the transfer of such assets,

or whether any tangible assets qualified

for nonrecognition treatment under section 367(a)(3) (as limited by section

367(a)(5) and §§1.367(a)–4T, 1.367(a)–

5T and 1.367(a)–6T).

(3) Terms of agreement—(i) General

rule. If prior to the close of the fifth full

taxable year (i.e., not less than 60 months)

following the close of the taxable year of

the initial transfer, the transferee foreign

corporation disposes of the transferred

property in whole or in part (as described

in paragraphs (e)(1) and (2) of this section), or is deemed to have disposed of the

transferred property (under paragraph

(e)(3) of this section), then, unless an election is made in paragraph (b)(1)(vii) of

this section, by the 90th day thereafter the

U.S. transferor must file an amended return for the year of the transfer and recognize thereon the gain realized but not recognized upon the initial transfer, with

interest. If an election under paragraph

(b)(1)(vii) of this section was made, then,

if a disposition occurs, the U.S. transferor

must include the gain realized but not recognized on the initial transfer in income

on its Federal income tax return for the period that includes the date of the triggering

event. In accordance with paragraph

(b)(3)(iii) of this section, interest must be

paid on any additional tax due. (If a taxpayer properly makes the election under

paragraph (b)(1)(vii) of this section but

later fails to include the gain realized in income, the Commissioner may, in his discretion, include the gain in the taxpayer’s

income in the year of the initial transfer.)

(ii) Offsets. No special limitations

apply with respect to net operating losses,

capital losses, credits against tax, or similar items.

July 6, 1998

(iii) Interest. If additional tax is required to be paid, then interest must be

paid on that amount at the rates determined under section 6621 with respect to

the period between the date that was prescribed for filing the transferor’s income

tax return for the year of the initial transfer and the date on which the additional

tax for that year is paid. If the election in

paragraph (b)(1)(vii) of this section is

made, taxpayers should enter the amount

of interest due, labelled as “sec. 367 interest” at the bottom right margin of page

1 of the Federal income tax return for the

period that includes the date of the triggering event (page 2 if the taxpayer files a

Form 1040), and include the amount of

interest in their payment (or reduce the

amount of any refund due by the amount

of the interest). If the election in paragraph (b)(1)(vii) of this section is made,

taxpayers should, as a matter of course,

include the amount of gain as taxable income on their Federal income tax returns

(together with other income or loss

items). The amount of tax relating to the

gain should be separately stated at the

bottom right margin of page 1 of the Federal income tax return (page 2 if the taxpayer files a Form 1040), labelled as “sec.

367 tax.”

(iv) Basis adjustments—(A) Transferee. If a U.S. transferor is required to

recognize gain under this section on the

disposition by the transferee foreign corporation of the transferred property, then

in determining for U.S. income tax purposes any gain or loss recognized by the

transferee foreign corporation upon its

disposition of such property, the transferee foreign corporation’s basis in such

property shall be increased (as of the date

of the initial transfer) by the amount of

gain required to be recognized (but not by

any tax or interest required to be paid on

such amount) by the U.S. transferor. In

the case of a deemed disposition of the

stock of the transferred corporation described in paragraph (e)(3)(i) of this section, the transferee foreign corporation’s

basis in the transferred stock deemed disposed of shall be increased by the amount

of gain required to be recognized by the

U.S. transferor.

(B) Transferor. If a U.S. transferor is

required to recognize gain under this section, then the U.S. transferor’s basis in the

stock of the transferee foreign corporation

July 6, 1998

shall be increased by the amount of gain

required to be recognized (but not by any

tax or interest required to be paid on such

amount).

(b)(3)(iv) may be made if the U.S. transferor is required to recognize gain under

this section.

(D) Example. The principles of this

paragraph (b)(3) are illustrated by the following example:

Example—(i) Facts. D, a domestic corporation

owning 100 percent of the stock of S, a foreign corporation, transfers all of the S stock to F, a foreign

corporation, in an exchange described in section

368(a)(1)(B). The section 1248 amount with respect

to the S stock is $0. In the exchange, D receives 20

percent of the voting stock of F. All of the requirements of §1.367(a)–3(c)(1) are satisfied, and D enters into a five-year gain recognition agreement to

qualify for nonrecognition treatment and does not

make the election contained in paragraph (b)(1)(vii)

of this section. One year after the initial transfer, F

transfers all of the S stock to F1 in an exchange described in section 351, and D complies with the requirements of paragraph (g)(2) of this section. Two

years after the initial transfer, D transfers its entire

20 percent interest in F’s voting stock to a domestic

partnership in exchange for an interest in the partnership. Three years after the initial exchange, S

disposes of substantially all (as described in paragraph (e)(3)(i) of this section) of its assets in a transaction that would be taxable under U.S. income tax

principles, and D is required by the terms of the gain

recognition agreement to recognize all the gain that

it realized on the initial transfer of the stock of S.

(ii) Result. As a result of this gain recognition

and paragraph (b)(3)(iv) of this section, D is permitted to increase its basis in the partnership interest by

the amount of gain required to be recognized (but

not by any tax or interest required to be paid on such

amount), the partnership is permitted to increase its

basis in the 20 percent voting stock of F, F is permitted to increase its basis in the stock of F1, and F1 is

permitted to increase its basis in the stock of S. S,

however, is not permitted to increase its basis in its

assets for purposes of determining the direct or indirect U.S. tax results, if any, on the sale of its assets.

(4) Waiver of period of limitation. The

U.S. transferor must file, with the agreement to recognize gain, a waiver of the

period of limitation on assessment of tax

upon the gain realized on the transfer.

The waiver shall be executed on Form

8838 (Consent to Extend the Time to Assess Tax Under Section 367—Gain

Recognition Agreement) and shall extend

the period for assessment of such tax to a

date not earlier than the eighth full taxable

year following the taxable year of the

transfer. Such waiver shall also contain

such other terms with respect to assessment as may be considered necessary by

the Commissioner to ensure the assessment and collection of the correct tax liability for each year for which the waiver

is required. The waiver must be signed

by a person who would be authorized to

sign the agreement pursuant to the provisions of paragraph (a)(3) of this section.

(5) Annual certification—(i) In general. The U.S. transferor must file with

its income tax return for each of the five

full taxable years following the taxable

year of the transfer a certification that the

property transferred has not been disposed of by the transferee in a transaction

that is considered to be a disposition for

purposes of this section, including a disposition described in paragraph (e)(3) of

this section. The U.S. transferor must include with its annual certification a statement describing any taxable dispositions

of assets by the transferred corporation

that are not in the ordinary course of business. The annual certification pursuant to

this paragraph (b)(5) must be signed

under penalties of perjury by a person

who would be authorized to sign the

agreement pursuant to the provisions of

paragraph (a)(3) of this section.

(ii) Special rule when U.S. transferor

leaves its affiliated group. If, at the time

of the initial transfer, the U.S. transferor

was a member of an affiliated group

(within the meaning of section 1504(a)(1)) filing a consolidated Federal income

tax return but not the parent of such

group, the U.S. transferor will file the annual certification (and provide a copy to

the parent corporation) if it leaves the

group during the term of the gain recognition agreement, notwithstanding the fact

that the parent entered into the gain recognition agreement, extended the statute of

limitations pursuant to this section, and

remains liable (with other corporations

that were members of the group at the

time of the initial transfer) under the gain

recognition agreement in the case of a

triggering event.

rule. If a person that is required to file an

agreement under paragraph (b) of this section fails to file the agreement in a timely

manner, or if a person that has entered into

an agreement under paragraph (b) of this

section fails at any time to comply in any

material respect with the requirements of

1998–27 I.R.B.

this section or with the terms of an agreement submitted pursuant hereto, then the

initial transfer of property is described in

section 367(a)(1) (unless otherwise excepted under the rules of this section) and

will be treated as a taxable exchange in the

year of the initial transfer (or in the year of

the failure to comply if the agreement was

filed with a timely-filed (including extensions) original (not amended) return and

an election under paragraph (b)(1)(vii) of

this section was made). Such a material

failure to comply shall extend the period

for assessment of tax until three years after

the date on which the Internal Revenue

Service receives actual notice of the failure to comply.

(2) Reasonable cause exception. If a

person that is permitted under §1.367(a)–

3(b) or (c) to enter into an agreement (described in paragraph (b) of this section)

fails to file the agreement in a timely

manner, as provided in paragraph (a)(1)

of this section, or fails to comply in any

material respect with the requirements of

this section or with the terms of an agreement submitted pursuant hereto, the provisions of paragraph (c)(1) of this section

shall not apply if the person is able to

show that such failure was due to reasonable cause and not willful neglect and if

the person files the agreement or reaches

compliance as soon as he becomes aware

of the failure. Whether a failure to file in

a timely manner, or materially comply,

was due to reasonable cause shall be determined by the district director under all

the facts and circumstances.

(d) Use of security. The U.S. transferor may be required to furnish a bond or

other security that satisfies the requirements of §301.7101-1 of this chapter if

the district director determines that such

security is necessary to ensure the payment of any tax on the gain realized but

not recognized upon the initial transfer.

Such bond or security will generally be

required only if the stock or securities

transferred are a principal asset of the

transferor and the director has reason to

believe that a disposition of the stock or

securities may be contemplated.

(e) Disposition (in whole or in part) of

stock of transferred corporation—(1) In

general—(i) Definition of disposition.

For purposes of this section, a disposition

of the stock of the transferred corporation

that triggers gain under the gain recogni-

1998–27 I.R.B.

tion agreement includes any taxable sale

or any disposition treated as an exchange

under this subtitle, (e.g., under sections

301(c)(3)(A), 302(a), 311, 336, 351(b) or

section 356(a)(1)), as well as any deemed

disposition described under paragraph

(e)(3) of this section. It does not include a

disposition that is not treated as an exchange, (e.g., under section 302(d) or

356(a)(2)). A disposition of all or a portion of the stock of the transferred corporation by installment sale is treated as a

disposition of such stock in the year of the

installment sale. A disposition of the

stock of the transferred corporation does

not include certain transfers treated as

nonrecognition transfers (under paragraph

(g) of this section) in which the gain

recognition agreement is retained but

modified, or certain transfers (under paragraph (h) of this section) in which the

gain recognition agreement is terminated

and has no further effect.

(ii) Example. The provisions of this

paragraph (e) are illustrated by the following example:

Example. Interaction between trigger of gain

recognition agreement and subpart F rules—(i)

Facts. A U.S. corporation (USP) owns all of the

stock of two foreign corporations, CFC1 and CFC2.

USP’s section 1248 amount with respect to CFC2 is

$30. USP has a basis of $50 in its stock of CFC2;

CFC2 has a value of $100. In a transaction described in section 351 and 368(a)(1)(B), USP transfers the stock of CFC2 in exchange for additional

stock of CFC1. The transaction is subject to both

sections 367(a) and (b). See §§1.367(a)–3(b) and

1.367(b)–1(a). To qualify for nonrecognition treatment under section 367(a), USP enters into a 5-year

gain recognition agreement for $50 under this section. No election under paragraph 8(b)(1)(vii) of

this section is made. USP also complies with the notice requirement under §1.367(b)–1(c).

(ii) Trigger of gain recognition agreement with

no election. Assume that in year 2, CFC1 sells the

stock of CFC2 for $120, and that there were no distributions by CFC2 prior to the sale. USP must

amend its return for the year of the initial transfer

and include $50 in income (with interest), $30 of

which will be recharacterized as a dividend pursuant

to section 1248. As a result, CFC1 has a basis of

$100 in CFC2. As a result of the sale of CFC2 stock

by CFC1, USP will have $20 of subpart F foreign

personal holding company income. See section 951,

et. seq., and the regulations thereunder.

(iii) Trigger of gain recognition agreement with

election. Assume the same facts as in paragraphs (i)

and (ii) of this Example, except that when USP attached the gain recognition agreement to its timely

filed Federal income tax return for the year of the

initial transfer, it elected under paragraph (b)(1)(vii)

of this section to include the amount of gain realized

but not recognized on the initial transfer, $50, in the

year of the triggering event rather than in the year of

the initial transfer. In such case, the result is the

same as in paragraph (e)(1)(ii)(B) of this section, except that USP will include the $50 of gain on its year

2 return, together with interest. For purposes of determining the dividend component, if any, of the $50

inclusion, USP will take into account the section

1248 amount of CFC2 at the time of the disposition

in Year 2.

(2) Partial disposition. If the transferee foreign corporation disposes of (or

is deemed to dispose of) only a portion of

the transferred stock or securities, then

the U.S. transferor is required to recognize only a proportionate amount of the

gain realized but not recognized upon the

initial transfer of the transferred property.

The proportion required to be recognized

shall be determined by reference to the

relative fair market values of the transferred stock or securities disposed of and

retained. Solely for purposes of determining whether the U.S. transferor must

recognize income under the agreement

described in paragraph (b) of this section,

in the case of transferred property (including stock or securities) that is fungible

with other property owned by the transferee foreign corporation, a disposition by

such corporation of any such property

shall be deemed to be a disposition of no

less than a ratable portion of the transferred property.

(3) Deemed dispositions of stock of

transferred corporation—(i) Disposition

by transferred corporation of substantially all of its assets—(A) In general.

Unless an exception applies (as described

in paragraph (e)(3)(i)(B) of this section),

a transferee foreign corporation will be

treated as having disposed of the stock or

securities of the transferred corporation if,

within the term of the gain recognition

agreement, the transferred corporation

makes a disposition of substantially all

(within the meaning of section 368(a)(1)(C)) of its assets (including stock in a

subsidiary corporation or an interest in a

partnership). If the initial transfer that necessitated the gain recognition agreement

was an indirect stock transfer, see

§1.367(a)–3(d)(2)(v). If the transferred

corporation is a U.S. corporation, see

paragraph (h)(2) of this section.

(B) The transferee foreign corporation

will not be deemed to have disposed of

the stock of the transferred corporation if

the transferred corporation is liquidated

into the transferee foreign corporation

under sections 337 and 332, provided that

July 6, 1998

the transferee foreign corporation does

not dispose of substantially all of the assets formerly held by the transferred corporation (and considered for purposes of

the substantially all determination) within

the remaining period during which the

gain recognition agreement is in effect. A

nonrecognition transfer is not counted for

purposes of the substantially all determination as a disposition if the transfer satisfies the requirements of paragraph (g)(3)

of this section. A disposition does not include a compulsory transfer as described

in §1.367(a)–4T(f) that was not reasonably forseeable by the U.S. transferor at

the time of the initial transfer.

(ii) U.S. transferor becomes a non-citizen nonresident. If a U.S. transferor loses

U.S. citizenship or a long-term resident

ceases to be taxed as a lawful permanent

resident (as defined in section 877(e)(2)),

then immediately prior to the date that the

U.S. transferor loses U.S. citizenship or

ceases to be taxed as a long-term resident,

the gain recognition agreement will be

triggered as if the transferee foreign corporation disposed of all of the stock of the

transferred corporation in a taxable transaction on such date. No additional inclusion is required under section 877, and a

gain recognition agreement under section

877 may not be used to avoid taxation

under section 367(a) resulting from the

trigger of the section 367(a) gain recognition agreement.

(f) Effect on gain recognition agreement if U.S. transferor goes out of existence—(1) In general. If an individual

transferor that has entered into an agreement under paragraph (b) of this section

dies, or if a U.S. trust or estate that has entered into an agreement under paragraph

(b) of this section goes out of existence

and is not required to recognize gain as a

consequence thereof with respect to all of

the stock of the transferee foreign corporation received in the initial transfer and

not previously disposed of, then the gain

recognition agreement will be triggered

unless one of the following requirements

is met—

(i) The person winding up the affairs

of the transferor retains, for the duration

of the waiver of the statute of limitations

relating to the gain recognition agreement, assets to meet any possible liability

of the transferor under the duration of the

agreement;

July 6, 1998

(ii) The person winding up the affairs

of the transferor provides security as provided under paragraph (d) of this section

for any possible liability of the transferor

under the agreement; or

(iii) The transferor obtains a ruling

from the Internal Revenue Service providing for successors to the transferor

under the gain recognition agreement.

(2) Special rule when U.S. transferor

is a corporation—(i) U.S. transferor

goes out of existence pursuant to the

transaction. If the transferor is a U.S.

corporation that goes out of existence in a

transaction in which the transferor’s gain

would have qualified for nonrecognition

treatment under §1.367(a)–3(b) or (c) had

the U.S. transferor remained in existence

and entered into a gain recognition agreement, then the gain may generally qualify

for nonrecognition treatment only if the

U.S. transferor is owned by a single U.S.

parent corporation and the U.S. transferor

and its parent corporation file a consolidated Federal income tax return for the

taxable year that includes the transfer, and

the parent of the consolidated group enters into the gain recognition agreement.

However, notwithstanding the preceding

sentence, a U.S. transferor that was controlled (within the meaning of section

368(c)) by five or fewer domestic corporations may request a ruling that, if certain conditions prescribed by the Internal

Revenue Service are satisfied, the transaction may qualify for nonrecognition

treatment.

(ii) U.S. corporate transferor is liquidated after gain recognition agreement is

filed. If a U.S. transferor files a gain

recognition agreement but is liquidated

during the term of the gain recognition

agreement, such agreement will be terminated if the liquidation does not qualify as

a tax-free liquidation under sections 337

and 332 and the U.S. transferor includes

in income any gain from the liquidation.

If the liquidation qualifies for nonrecognition treatment under sections 337 and

332, the gain recognition agreement will

be triggered unless the U.S. parent corporation and the U.S. transferor file a consolidated Federal income tax return for

the taxable year that includes the dates of

the initial transfer and the liquidation of

the U.S. transferor, and the U.S. parent

enters into a new gain recognition agreement and complies with reporting require-

ments similar to those contained in paragraph (g)(2) of this section.

(g) Effect on gain recognition agreement of certain nonrecognition transactions—(1) Certain nonrecognition transfers of stock or securities of the transferee

foreign corporation by the U.S. transferor.

If the U.S. transferor disposes of any

stock of the transferee foreign corporation

in a nonrecognition transfer and the U.S.

transferor complies with reporting requirements similar to those contained in

paragraph (g)(2) of this section, the U.S.

transferor shall continue to be subject to

the terms of the gain recognition agreement in its entirety.

(2) Certain nonrecognition transfers of

stock or securities of the transferred corporation by the transferee foreign corporation. (i) If, during the period the gain

recognition agreement is in effect, the

transferee foreign corporation disposes of

all or a portion of the stock of the transferred corporation in a transaction in

which gain or loss would not be required

to be recognized by the transferee foreign

corporation under U.S. income tax principles, such disposition will not be treated

as a disposition within the meaning of

paragraph (e) of this section if the transferee foreign corporation receives (or is

deemed to receive), in exchange for the

property disposed of, stock in a corporation, or an interest in a partnership, that

acquired the transferred property (or receives stock in a corporation that controls

the corporation acquiring the transferred

property); and the U.S. transferor complies with the requirements of paragraphs

(g)(2)(ii) through (iv) of this section.

(ii) The U.S. transferor must provide a

notice of the transfer with its next annual

certification under paragraph (b)(5) of

this section, setting forth—

(A) A description of the transfer;

(B) The applicable nonrecognition

provision; and

identification number (if any) of the new

transferee of the transferred property.

(iii) The U.S. transferor must provide

with its next annual certification a new

agreement to recognize gain (in accordance with the rules of paragraph (b) of

this section) if, prior to the close of the

fifth full taxable year following the taxable year of the initial transfer, either—

1998–27 I.R.B.

(A) The initial transferee foreign corporation disposes of the interest (if any)

which it received in exchange for the

transferred property (other than in a disposition which itself qualifies under the

rules of this paragraph (g)(2)); or

(B) The corporation or partnership that

acquired the property disposes of such

property (other than in a disposition

which itself qualifies under the rules of

this paragraph (g)(2)); or

has the effect of an indirect disposition of

the transferred property.

(iv) If the U.S. transferor is required to

enter into a new gain recognition agreement, as provided in paragraph (g)(2)(iii)

of this section, the U.S. transferor must

provide with its next annual certification

(described in paragraph (b)(5) of this section) a statement that arrangements have

been made, in connection with the nonrecognition transfer, ensuring that the

U.S. transferor will be informed of any

subsequent disposition of property with

respect to which recognition of gain

would be required under the agreement.

(3) Certain nonrecognition transfers of

assets by the transferred corporation. A

disposition by the transferred corporation

of all or a portion of its assets in a transaction in which gain or loss would not be required to be recognized by the transferred

corporation under U.S. income tax principles, will not be treated as a disposition

within the meaning of paragraph (e)(3) of

this section if the transferred corporation

receives in exchange stock or securities in

a corporation or an interest in a partnership that acquired the assets of the transferred corporation (or receives stock in a

corporation that controls the corporation

acquiring the assets). If the transaction

would be treated as a disposition of substantially all of the transferred corporation’s assets, the preceding sentence shall

only apply if the U.S. transferor complies

with reporting requirements comparable

to those of paragraphs (g)(2)(ii) through

(iv) of this section, providing for notice,

an agreement to recognize gain in the case

of a direct or indirect disposition of the

assets previously held by the transferred

corporation, and an assurance that necessary information will be provided to appropriate parties.

(h) Transactions that terminate the

gain recognition agreement—(1) Taxable

1998–27 I.R.B.

disposition of stock or securities of transferee foreign corporation by U.S. transferor. (i) If the U.S. transferor disposes of

all of the stock of the transferee foreign

corporation that it received in the initial

transfer in a transaction in which all realized gain (if any) is recognized currently,

then the gain recognition agreement shall

terminate and have no further effect. If

the transferor disposes of a portion of the

stock of the transferee foreign corporation

that it received in the initial transfer in a

taxable transaction, then in the event that

the gain recognition agreement is later

triggered, the transferor shall be required

to recognize only a proportionate amount

of the gain subject to the gain recognition

agreement that would otherwise be required to be recognized on a subsequent

disposition of the transferred property

under the rules of paragraph (b)(2) of this

section. The proportion required to be

recognized shall be determined by reference to the percentage of stock (by value)

of the transferee foreign corporation received in the initial transfer that is retained by the United States transferor.

(ii) The rule of this paragraph (h) is illustrated by the following example:

Example. A, a United States citizen, owns 100

percent of the outstanding stock of foreign corporation X. In a transaction described in section 351, A

exchanges his stock in X (and other assets) for 100

percent of the outstanding voting and nonvoting

stock of foreign corporation Y. A submits an agreement under the rules of this section to recognize gain

upon a later disposition. In the following year, A

disposes of 60 percent of the fair market value of the

stock of Y, thus terminating 60 percent of the gain

recognition agreement. One year thereafter, Y disposes of 50 percent of the fair market value of the

stock of X. A is required to include in his income in

the year of the later disposition 20 percent (40 percent interest in Y multiplied by a 50 percent disposition of X) of the gain that A realized but did not recognize on his initial transfer of X stock to Y.

(2) Certain dispositions by a domestic

transferred corporation of substantially

all of its assets. If the transferred corporation is a domestic corporation and the

U.S. transferor and the transferred corporation filed a consolidated Federal income

tax return at the time of the transfer, the

gain recognition agreement shall terminate and cease to have effect if, during the

term of such agreement, the transferred

corporation disposes of substantially all

of its assets in a transaction in which all

realized gain is recognized currently. If

an indirect stock transfer necessitated the

filing of the gain recognition agreement,

such agreement shall terminate if, immediately prior to the indirect transfer, the

U.S. transferor and the acquired corporation filed a consolidated return (or, in the

case of a section 368(a)(1)(A) and

(a)(2)(E) reorganization described in

§1.367(a)–3(d)(1)(ii), the U.S. transferor

and the acquiring corporation filed a consolidated return) and the transferred corporation disposes of substantially all of its

assets (taking into account §1.367(a)–

3(d)(2)(v)) in a transaction in which all

realized gain is recognized currently.

(3) Distribution by transferee foreign

corporation of stock of transferred corporation that qualifies under section 355 or

section 337. If, during the term of the

gain recognition agreement, the transferee

foreign corporation distributes to the U.S.

transferor, in a transaction that qualifies

under section 355, or in a liquidating distribution that qualifies under sections 332

and 337, the stock that initially necessitated the filing of the gain recognition

agreement (and any additional stock received after the initial transfer), the gain

recognition agreement shall terminate and

have no further effect, provided that immediately after the section 355 distribution or section 332 liquidation, the U.S.

transferor’s basis in the transferred stock

is less than or equal to the basis that it had

in the transferred stock immediately prior

to the initial transfer that necessitated the

GRA.

(i) Effective date. The rules of this

section shall apply to transfers that occur

on or after July 20, 1998. For matters

covered in this section for periods before

July 20, 1998, the corresponding rules of

§1.367(a)–3T(g) (see 26 CFR part 1, revised April 1, 1998) and Notice 87–85

((1987–2 C.B. 395); see §601.601(d)–

(2)(ii) of this chapter) apply. In addition,

if a U.S. transferor entered into a gain

recognition agreement for transfers prior

to July 20, 1998, then the rules of

§1.367(a)–3T(g) (see 26 CFR part 1, revised April 1, 1998) shall continue to

apply in lieu of this section in the event of

any direct or indirect nonrecognition

transfer of the same property. See, also,

§1.367(a)–3(f).

Par. 6. Section 1.367(b)–1 is added to

read as follows:

July 6, 1998

§1.367(b)–1 Other transfers.

(a) Scope. Section 367(b) and the regulations thereunder set forth certain rules

regarding the extent to which a foreign

corporation shall be considered to be a

corporation in connection with an exchange to which section 367(b) applies.

An exchange to which section 367(b) applies is any exchange described in section

332, 351, 354, 355, 356 or 361, with respect to which the status of a foreign corporation as a corporation is relevant for

determining the extent to which income

shall be recognized or for determining the

effect of the transaction on earnings and

profits, basis of stock or securities, or

basis of assets. Notwithstanding the preceding sentence, a section 367(b) exchange does not include a transfer to the

extent that the foreign corporation fails to

be treated as a corporation by reason of

section 367(a)(1). See §1.367(a)–3(b)(2)(ii) for an illustration of the interaction

of sections 367(a) and (b). This paragraph applies for transfers occurring on or

after July 20, 1998.

(b) [Reserved]. For further guidance,

see §7.367(b)–1(b) of this chapter.

If any person referred to in section 6012

(relating to the requirement to make returns of income) realized gain or other income (whether or not recognized) on account of any exchange to which section

367(b) applies, such person must file a

notice of such exchange on or before the

last date for filing a Federal income tax

return (taking into account any extensions

of time therefor) for the person’s taxable

year in which such gain or other income is

realized. This notice must be filed with

the district director with whom the person

would be required to file a Federal income tax return for the taxable year in

which the exchange occurs. Notwithstanding anything in this paragraph (c)(1)

to the contrary, no notice under this paragraph (c)(1) is required to the extent a

transaction is described in both section

367(a) and (b), and the exchanging person

is not a United States shareholder of the

corporation whose stock is exchanged.

This paragraph applies to transfers occurring on or after July 20, 1998.

(c)(2) through (f) [Reserved]. For further guidance, see §7.367(b)–1(c)(2)

through (f) of this chapter.

July 6, 1998

Par. 6a. Section 1.367(b)-4 is added to

read as follows:

§1.367(b)–4 Certain exchanges of stock

described in section 354, 351, or sections

354 and 351.

(a) In general. This section applies to

an exchange of stock in a foreign corporation by a United States shareholder if the

exchange is described in section 351, or is

described in section 354 and is made pursuant to a reorganization described in section 368(a)(1)(B) (including an exchange

that is also described in section 351),

without regard to whether the exchange

may also be described in section 361.

(b) Recognition of income. If an exchange is described in paragraph (b)(1),

(2) or (3) of this section, the exchanging

shareholder shall include in income as a

deemed dividend the section 1248 amount

attributable to the stock that it exchanges.

See, also, §1.367(a)–3(b)(2). However, in

the case of a recapitalization described in

paragraph (b)(3) of this section that occurred prior to July 20, 1998, the exchanging shareholder shall include the

section 1248 amount on its tax return for

the taxable year that includes the exchange described in paragraph (b)(2)(iii)

of this section (and not in the taxable year

of the recapitalization), except that no inclusion is required if both the recapitalization and the exchange described in paragraph (b)(2)(iii) of this section occurred

prior to July 20, 1998.

(1) Loss of United States shareholder

or controlled foreign corporation status.

An exchange is described in this paragraph (b)(1) if—

(i) An exchanging shareholder receives

stock of a foreign corporation that is not a

controlled foreign corporation;

(ii) An exchanging shareholder receives stock of a controlled foreign corporation as to which the exchanging United

States shareholder is not a United States

shareholder; or

(iii) The corporation whose stock is

exchanged is not a controlled foreign corporation immediately after the transfer.

(2) Receipt by domestic corporation of

preferred or other stock in certain instances. An exchange is described in this

paragraph (b)(2) if—

(i) Immediately before the exchange,

the foreign acquired corporation and the

foreign acquiring corporations are not

members of the same affiliated group

(within the meaning of section 1504(a),

but without regard to the exceptions set

forth in section 1504(b), and substituting

the words “more than 50” in place of the

words “at least 80” in sections 1504(a)(2)(A) and (B));

(ii) Immediately after the exchange, a

domestic corporation meets the ownership threshold specified by section 902(a)

or (b) such that it may qualify for a

deemed paid foreign tax credit if it receives from the foreign acquiring corporation a distribution (directly or through

tiers) of its earnings and profits; and

(iii) The exchanging shareholder receives preferred stock (other than preferred stock that is fully participating with

respect to dividends, redemptions and

corporate growth) in consideration for

common stock or preferred stock that is

fully participating with respect to dividends, redemptions and corporate growth,

or, in the discretion of the District Director (and without regard to whether the

stock exchanged is common stock or preferred stock), receives stock that entitles it

to participate (through dividends, redemption payments or otherwise) disproportionately in the earnings generated by

particular assets of the foreign acquired

corporation or foreign acquiring corporation. See, e.g., paragraph (b)(4) Example

1 through Example 3 of this section.

(3) Certain exchanges involving recapitalizations. An exchange pursuant to

a recapitalization under section 368(a)(1)(E) shall be deemed to be an exchange

described in this paragraph (b)(3) if the

following conditions are satisfied—

(i) During the 24-month period immediately preceding or following the date of

the recapitalization, the corporation that

undergoes the recapitalization (or a predecessor of, or successor to, such corporation) also engages in a transaction that

would be described in paragraph (b)(2) of

this section but for paragraph (b)(2)(iii) of

this section, either as the foreign acquired

corporation or the foreign acquiring corporation; and

(ii) The exchange in the recapitalization is described in paragraph (b)(2)(iii)

of this section.

(4) Examples. The rules of paragraph

(b)(2) of this section are illustrated by the

following examples:

1998–27 I.R.B.

Example 1—(i) Facts. FC1 is a foreign corporation. DC is a domestic corporation that is unrelated

to FC1. DC owns all of the outstanding stock of

FC2, a foreign corporation, and FC2 has no outstanding preferred stock. The value of FC2 is $100

and DC has a basis of $50 in the stock of FC2. The

section 1248 amount attributable to the stock of FC2

held by DC is $20. In a reorganization described in

section 368(a)(1)(B), FC1 acquires all of the stock

of FC2 and, in exchange, DC receives FC1 voting

preferred stock that constitutes 10 percent of the outstanding voting stock of FC1 for purposes of section

902(a). Immediately after the exchange, FC1 and

FC2 are controlled foreign corporations and DC is a

United States shareholder of FC1, so paragraph

(b)(1) of this section does not require inclusion in income of the section 1248 amount.

(ii) Result. Pursuant to §1.367(a)–3(b)(2), the

transfer is subject to both section 367(a) and section

367(b). Under §1.367(a)–3(b)(1), DC will not be

subject to tax under section 367(a)(1) if it enters into

a gain recognition agreement in accordance with

§1.367(a)–8. The amount of the gain recognition

agreement is $50 less any inclusion under section

367(b). Even though paragraph (b)(1) of this section

does not apply to require inclusion in income by DC

of the section 1248 amount, DC must nevertheless

include the $20 section 1248 amount in income as a

deemed dividend from FC2 under paragraph (b)(2)

of this section. Thus, if DC enters into a gain recognition agreement, the amount is $30 (the $50 gain

realized less the $20 recognized under section

367(b)). (If DC fails to enter into a gain recognition

agreement, it must include in income under section

367(a)(1) the $50 of gain realized; $20 of which is

treated as a dividend. Section 367(b) does not apply

in such case.)

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

in Example 1, except that DC owns all of the outstanding stock of FC1 immediately before the transaction.

(ii) Result. Both section 367(a) and section

367(b) apply to the transfer. Paragraph (b)(2) of this

section does not apply to require inclusion of the

section 1248 amount. Under paragraph (b)(2)(i) of

this section, the transaction is outside the scope of

paragraph (b)(2) of this section, because FC1 and

FC2 are, immediately before the transaction, members of the same affiliated group (within the meaning of such paragraph). Thus, if DC enters into a

gain recognition agreement in accordance with

§1.367(a)–8, the amount of such agreement is $50.

As in Example 1, if DC fails to enter into a gain

recognition agreement, it must include in income

$50, $20 of which will be treated as a dividend.

Example 3—(i) Facts. FC1 is a foreign corporation. DC is a domestic corporation that is unrelated

to FC1. DC owns all of the stock of FC2, a foreign

corporation. The section 1248 amount attributable

to the stock of FC2 held by DC is $20. In a reorganization described in section 368(a)(1)(B), FC1 acquires all of the stock of FC2 in exchange for FC1

voting stock that constitutes 10 percent of the outstanding voting stock of FC1 for purposes of section

902(a). The FC1 voting stock received by DC in the

exchange carries voting rights in FC1, but by agreement of the parties the shares entitle the holder to

dividends, amounts to be paid on redemption, and

amounts to be paid on liquidation, which are to be

determined by reference to the earnings or value of

1998–27 I.R.B.

FC2 as of the date of such event, and which are affected by the earnings or value of FC1 only if FC1

becomes insolvent or has insufficient capital surplus

to pay dividends.

(ii) Result. Under §1.367(a)–3(b)(1), DC will

not be subject to tax under section 367(a)(1) if it enters into a gain recognition agreement with respect

to the transfer of FC2 stock to FC1. Under

§1.367(a)–3(b)(2), the exchange will be subject to

the provisions of section 367(b) and the regulations

thereunder to the extent that it is not subject to tax

under section 367(a)(1). Furthermore, even if DC

would not otherwise be required to recognize income under this section, the District Director may

nevertheless require that DC include the $20 section

1248 amount in income as a deemed dividend from

FC2 under paragraph (b)(2) of this section.

(5) Special rules for applying section

1248 to subsequent exchanges. (i) If income is not required to be recognized

under paragraph (b) of this section in a

transaction described in paragraph (b)(1)

of this section involving a foreign acquiring corporation, then, for purposes of applying section 1248 or 367(b) to subsequent exchanges, the earnings and profits

attributable to an exchanging shareholder’s stock received in the transaction

shall be determined by reference to the

exchanging shareholder’s pro rata interest

in the earnings and profits of the foreign

acquiring corporation and foreign acquired corporation that accrue after the

transaction, as well as its pro rata interest

in the earnings and profits of the foreign

acquired corporation that accrued prior to

the transaction. See also section 1248(c)(2)(D)(ii). The earnings and profits attributable to an exchanging shareholder’s

stock received in the transaction shall not

include any earnings and profits of the

foreign acquiring corporation that accrued

prior to the transaction.

(ii) The following example illustrates

this paragraph (b)(5):

Example. (i) Facts. DC1, a domestic corporation, owns all of the stock of FC1, a foreign corporation. DC1 has owned all of the stock of FC1 since

FC1’s formation. DC2, a domestic corporation,

owns all of the stock of FC2, a foreign corporation.

DC2 has owned all of the stock of FC2 since FC2’s

formation. DC1 and DC2 are unrelated. In a reorganization described in section 368(a)(1)(B), DC1

transfers all of the stock of FC1 to FC2 in exchange

for 40 percent of FC2. DC1 enters into a five-year

gain recognition agreement under the provisions of

§§ 1.367(a)–3(b) and 1.367(a)–8 with respect to the

transfer of FC1 stock to FC2.

(ii) Result. DC1’s transfer of FC1 to FC2 is an

exchange described in paragraph (b) of this section.

Because the transfer is not described in paragraph

(b)(1), (2) or (3) of this section, DC1 is not required

to include in income the section 1248 amount attributable to the exchanged FC1 stock and the special

rule of this paragraph (b)(5) applies. Thus, for purposes of applying section 1248 or section 367(b) to

subsequent exchanges, the earnings and profits attributable to DC1’s interest in FC2 will be determined by reference to 40 percent of the post-reorganization earnings and profits of FC1 and FC2, and

by reference to 100 percent of the pre-reorganization

earnings and profits of FC1. The earnings and profits attributable to DC1’s interest in FC2 do not include any earnings and profits accrued by FC2 prior

to the transaction. Those earnings and profits are attributed to DC2 under section 1248.

(6) Effective date. This section applies

to transfers occurring on or after July 20,

1998.

guidance, see §7.367(b)–4(c) and (d) of

this chapter.

Par. 7. In §1.367(b)-7, paragraphs (a)

and (b) are added to read as follows:

§1.367(b)–7 Exchange of stock

described in section 354.

(a) Scope. (1) This section applies to

an exchange of stock in a foreign corporation (other than a foreign investment company as defined in section 1246(b)) occurring on or after July 20, 1998, if—

(i) The exchange is described in section 354 or 356 and is made pursuant to a

reorganization described in section

368(a)(1)(B) through (F); and

(ii) The exchanging person is either a

United States shareholder or a foreign

corporation having a United States shareholder who is also a United States shareholder of the corporation whose stock is

exchanged.

(2) However, this section shall not

apply if a United States shareholder exchanges stock of a foreign corporation in

an exchange described in section

368(a)(1)(B). For further guidance, see

§1.367(b)-4.

(b) [Reserved]. For further guidance,

see §7.367(b)–7(b) of this chapter.

Par. 8. Section 1.367(d)–1T is amended

by adding a sentence at the end of paragraph (a) to read as follows:

§1.367(d)–1T Transfers of intangible

property to foreign corporations

(temporary).

(a) * * * For purposes of determining

whether a U.S. person has made a transfer

July 6, 1998

of intangible property that is subject to the

rules of section 367(d), the rules of

§1.367(a)–1T(c) shall apply.

Par. 9. Section 1.6038B–1 is added to

read as follows:

§1.6038B–1 Reporting of certain

transactions.

(a) Purpose and scope. This section

sets forth information reporting requirements under section 6038B concerning

certain transfers of property to foreign

corporations. Paragraph (b) of this section provides general rules explaining

when and how to carry out the reporting

required under section 6038B with respect to the transfers to foreign corporations. Paragraph (c) of this section and

§1.6038B–1T(d) specify the information

that is required to be reported with respect

to certain transfers of property that are described in section 6038B(a)(1)(A) and

367(d), respectively. Section 1.6038B–

1T(e) specifies the limited reporting that

is required with respect to transfers of

property described in section 367(e)(1).

Paragraph (f) of this section sets forth the

consequences of a failure to comply with

the requirements of section 6038B and

this section. For effective dates, see paragraph (g) of this section. For rules regarding transfers to foreign partnerships,

see section 6038B(a)(1)(B) and any regulations thereunder.

(b) Time and manner of reporting—(1)

In general—(i) Reporting procedure.

Except for stock or securities qualifying

under the special reporting rule of paragraph (b)(2) of this section, or cash,

which is currently not required to be reported, any U.S. person that makes a

transfer described in section 6038B(a)(1)(A), 367(d) or (e)(1) is required to report

pursuant to section 6038B and the rules of

this section and must attach the required

information to Form 926 (Return by

Transferor of Property to a Foreign Corporation, Foreign Estate or Trust, or Foreign Partnership). For purposes of determining a U.S. transferor that is subject to

section 6038B, the rules of §1.367(a)–

1T(c) and §1.367(a)–3(d) shall apply with

respect to a transfer described in section

367(a), and the rules of §1.367(a)–1T(c)

shall apply with respect to a transfer described in section 367(d). Notwithstand-

July 6, 1998

ing any statement to the contrary on Form

926, the form and attachments must be attached to, and filed by the due date (including extensions) of, the transferor’s income tax return for the taxable year that

includes the date of the transfer (as defined in §1.6038B–1T(b)(4)). Any attachment to Form 926 required under the rules

of this section is filed subject to the transferor’s declaration under penalties of perjury on Form 926 that the information

submitted is true, correct, and complete to

the best of the transferor’s knowledge and

belief.

(ii) Reporting by corporate transferor.

If the transferor is a corporation, Form

926 must be signed by an authorized officer of the corporation. If, however, the

transferor is a member of an affiliated

group under section 1504(a)(1) that files a

consolidated Federal income tax return,

but the transferor is not the common parent corporation, an authorized officer of

the common parent corporation must sign

Form 926.

(iii) Transfers of jointly-owned property. If two or more persons transfer

jointly-owned property to a foreign corporation in a transfer with respect to

which a notice is required under this section, then each person must report with

respect to the particular interest transferred, specifying the nature and extent of

the interest. However, a husband and

wife who jointly file a single Federal income tax return may file a single Form

926 with their tax return.

(2) Exceptions and special rules for

transfers of stock or securities under section 367(a)—(i) Transfers on or after July

20, 1998. A U.S. person that transfers

stock or securities on or after July 20,

1998, in a transaction described in section

6038(a)(1)(A) will be considered to have

satisfied the reporting requirement under

sec

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