Bulletin No. 1998–36
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Bulletin No. 1998–36
September 8, 1998
Internal Revenue
bulletin
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
ADMINISTRATIVE
Ct.D. 2063, page 13.
REG–209446–82, page 24.
Lien for taxes; validity and priority against third parties; judgement creditor. The Supreme Court has affirmed
that under section 6323 of the Code a federal tax lien need
not be given preference over a judgement creditor’s perfected lien on real property in a decedent’s insolvent estate.
United States v. Estate of Francis J. Romani, et al.
Proposed regulations under section 1366 of the Code relate to the pass through of items of an S corporation to its
shareholders, the adjustments to the basis of stock of the
shareholders, and the treatment of distributions by an S
corporation. A public hearing will be held on December 15,
1998.
Rev. Rul. 98–43, page 9.
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 September 1998.
T.D. 8778, page 4.
REG–115446–97, page 23.
Temporary and proposed regulations under section 936 of
the Code provide guidance regarding the addition of a substantial new line of business by a possessions corporation
that is an existing credit claimant. A public hearing on the
proposed regulations will be held on December 1, 1998.
ESTATE TAX
T.D. 8779, page 11.
Final regulations under section 2044 of the Code amend the
estate tax marital deduction regulations.
EXCISE TAX
Announcement 98–83, page 36.
This announcement provides excise tax changes for the
fourth quarter of 1998 based on recent legislation.
Finding Lists begin on page 38.
Index for January-August begins on page 40.
Department of the Treasury
Internal Revenue Service
Rev. Proc. 98–46, page 21.
Last-in, first-out inventories; truck dealers. Rev. Proc.
97–44, 1997–41 I.R.B. 8, is modified to extend the relief
provided by that revenue procedure for certain LIFO conformity violations of section 472(c) or (e)(2) of the Code to
medium- and heavy-duty truck dealers.
Notice 98–46, page 21.
Information reporting; Hope Scholarship Credit; Lifetime Learning Credit. Taxpayers are informed that the
Service and Treasury are extending the application of Notice
97–73, 1997–51 I.R.B. 16, to information reporting required under section 6050S of the Code for 1999.
Announcement 98–81, page 35.
The disaster relief provided in section 5.02 of Rev. Proc.
95–28, 1995–1 C.B. 704 and 705, is extended to include
an area in Nevada County, California, bordering a declared
major disaster area.
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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.
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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.
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Part I. Rulings and Decisions Under the Internal Revenue Code of 1986
Section 42.—Low-Income
Housing Credit
Section 483.—Interest on
Certain Deferred Payments
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
Section 280G.—Golden
Parachute Payments
Section 642.—Special Rules for
Credits and Deductions
Federal short-term, mid-term, and long-term
rates are set forth for the month of September 1998.
See Rev. Rul. 98–43, page 9.
Federal short-term, mid-term, and long-term
rates are set forth for the month of September 1998.
See Rev. Rul. 98–43, page 9.
Section 382.—Limitation on Net
Operating Loss Carryforwards
and Certain Built-in Losses
Following Ownership Change
Section 807.—Rules for Certain
Reserves
FOR FURTHER INFORMATION CONTACT: Patricia A. Bray or Elizabeth
Beck, (202) 622-3880, or Jacob Feldman,
(202) 622-3830 (not toll-free numbers).
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
SUPPLEMENTARY INFORMATION:
The adjusted federal long-term rate is set forth
for the month of September 1998. See Rev. Rul.
98–43, page 9.
Section 412.—Minimum Funding
Standards
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
Section 467.—Certain Payments
for the Use of Property or
Services
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
Section 468.—Special Rules for
Mining and Solid Waste
Reclamation and Closing Costs
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
Section 482.—Allocation of
Income and Deductions Among
Taxpayers
Federal short-term, mid-term, and long-term
rates are set forth for the month of September 1998.
See Rev. Rul. 98–43, page 9.
September 8, 1998
reflect changes made by the Small Business Job Protection Act of 1996. The text
of these temporary regulations also serves
as the text of the proposed regulations set
forth in the notice of proposed rulemaking
on this subject in REG–115446–97, page
23.
DATES: These regulations are effective
September 18, 1998.
Applicability: These regulations apply
to taxable years of a possessions corporation beginning after August 19, 1998.
Background
Section 846.—Discounted
Unpaid Losses Defined
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
Section 936.—Puerto Rico and
Possession Tax Credit
26 CFR 1.936–11T: New lines of business
prohibited (temporary).
T.D. 8778
DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
Termination of Puerto Rico and
Possession Tax Credit; New
Lines of Business Prohibited
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Temporary regulations.
SUMMARY: This document contains
temporary regulations that provide guidance regarding the addition of a substantial new line of business by a possessions
corporation that is an existing credit
claimant. These temporary regulations
4
Section 1601(a) of the Small Business
Job Protection Act of 1996, Public Law
104–188, 110 Stat. 1755 (1996), amended
the Internal Revenue Code by adding section 936(j). Section 936(j) generally repeals the Puerto Rico and possession tax
credit for taxable years beginning after
December 31, 1995. However, the section provides grandfather rules under
which a corporation that is an existing
credit claimant would be eligible to claim
credits for a transition period. The Puerto
Rico and possession tax credit will phase
out for these existing credit claimants
ending with the last taxable year beginning before January 1, 2006.
For taxable years beginning after December 31, 1995 and before January 1,
2006, the Puerto Rico and possession tax
credit applies only to a corporation that
qualifies as an existing credit claimant (as
defined in section 936(j)(9)(A)). The determination of whether a corporation is an
existing credit claimant is made separately for each possession. A possessions
corporation that adds a substantial new
line of business (other than in a qualifying
acquisition of all the assets of a trade or
business of an existing credit claimant)
after October 13, 1995, ceases to be an
existing credit claimant as of the beginning of the taxable year during which
such new line of business is added.
Therefore, a possessions corporation that
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ceases to be an existing credit claimant either because it has added a substantial
new line of business, or because a new
line of business becomes substantial, during a taxable year may not claim the
Puerto Rico and possessions tax credit for
that taxable year or any subsequent taxable year.
Explanation of Provisions
This document provides temporary regulations that interpret section 936(j)(9)(B). In particular, temporary regulation §1.936–11T adopts principles similar
to those in §1.7704–2(c) and (d) (transition rules for existing publicly traded
partnerships) for determining whether a
corporation has added a substantial new
line of business.
Paragraph (a) of §1.936–11T states the
general rule that, if a possessions corporation that is an existing credit claimant, as
defined in section 936(j)(9)(A), adds a
substantial new line of business during a
taxable year, it will cease to be an existing
credit claimant as of the close of the taxable year ending before the date of such
addition. The paragraph also generally
describes the subjects discussed in the
other paragraphs in §1.936–11T.
Paragraph (b) addresses the meaning of
the term new line of business. The temporary regulation generally follows the approach of §1.7704–2(d)(1), providing the
general rule derived from §1.7704–
2(d)(2) that explains when a business activity is a pre-existing business, and from
§1.7704–2(d)(3) that defines when that
activity is closely related to a pre-existing
business. Paragraph (b)(1) provides that a
new line of business is any activity of the
possessions corporation that is not closely
related to a pre-existing business of the
possessions corporation.
Paragraph (b)(2) explains that, except
as provided in paragraph (b)(2)(ii), all the
facts and circumstances (including factors
A through H in paragraph (b)(2)(i)) must
be considered to determine whether a new
activity is closely related to a pre-existing
business of the possessions corporation.
Paragraph (b)(2)(i) applies the same eight
factors considered in §1.7704–2(d)(3),
except that the temporary regulation provides that in applying factor H, the possessions corporation may use either the
new North American Industry Classification System Code (NAICS code) or the
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Standard Industrial Classification Code
(SIC code).
Factor (H) is whether the United States
Bureau of the Census assigns the activity
the same six-digit NAICS code (or fourdigit SIC code) as the pre-existing business. In the case of a pre-existing business
or activity that is listed under a NAICS
code of 99999, Unclassified establishments, or under a miscellaneous category
(most NAICS codes ending in a “9” are
miscellaneous categories), the similarity
in NAICS codes is ignored as a factor in
determining whether the activity is closely
related to the pre-existing business. The
dissimilarity of the NAICS codes is considered in determining whether the activity is closely related to the pre-existing
business. For purposes of this section,
NAICS codes must be set forth in the
North American Industry Classification
System Manual, United States, that is in
effect for the taxable year during which a
new line of business is added.
Similarly, in the case of a pre-existing
business or activity that is listed under a
SIC code of 9999, Nonclassifiable Establishments, or under a miscellaneous category (most SIC codes ending in a “9” are
miscellaneous categories), the similarity
in SIC codes is ignored as a factor in determining whether the activity is closely
related to the pre-existing business. The
dissimilarity of the SIC codes is considered as a factor in determining whether
the activity is closely related to the preexisting business. The SIC codes are set
forth in the Executive Office of the President, Office of Management and Budget,
Standard Industrial Classification Manual, that is in effect for the taxable year
during which a new line of business is
added.
Paragraph (b)(2)(ii) provides safe harbors for determining whether an activity
is closely related to a pre-existing business in three cases. First, an activity will
be closely related to a pre-existing business if the activity is within the same sixdigit NAICS code or four-digit SIC code
as the pre-existing business. Second, an
activity will be closely related to a pre-existing business if the activity is within the
same five-digit NAICS code or three-digit
SIC code as the pre-existing business and
the facts related to the new activity satisfy
at least three of the factors in paragraphs
(b)(2)(i)(A) through (G) of this section.
5
Third, an activity will be closely related
to a pre- existing business if the pre-existing business is making a component product or end-product form, as defined in
§1.936–5(a)(1), Q & A1, and the new activity is making an integrated product (or
end-product form with fewer excluded
components), that is not within the same
six-digit NAICS code (or four-digit SIC
code) as the pre-existing business solely
because the component product and the
integrated product (or the two end-product forms) have different end-uses.
Paragraph (b)(3) provides that a business activity of a possessions corporation
is considered to be a pre-existing business
if the possessions corporation was actively engaged in the activity within the
possession on or before October 13, 1995,
and the possessions corporation elected
the benefits of the Puerto Rico and possession tax credit pursuant to an election
which was in effect for the taxable year
that included October 13, 1995.
Paragraph (b)(3)(ii) explains how the
acquisition of all of the assets or the stock
of an existing credit claimant can affect
the determination of whether an activity is
a pre-existing business. It is intended that
an activity that is a pre-existing business
of an existing credit claimant and that
continues to be carried on in the possession by any affiliated or non-affiliated existing credit claimant should continue to
be characterized as a pre-existing activity
since all the assets and activity remain in
the possession and no new activity is introduced there. A non-affiliated acquiring
corporation will not be bound by any section 936(h) election made by the predecessor existing credit claimant with respect to that business activity.
Where all of the assets related to a preexisting activity of an existing credit
claimant are acquired by a corporation
that is not an existing credit claimant, but
that continues the activity in the possession, the regulation provides that if the acquiring corporation makes an election
under section 936(e) for the taxable year
of the acquisition, the acquired activity
will be treated as a pre-existing activity of
the acquiring corporation, and the acquiring corporation will be treated as an existing credit claimant. The acquiring corporation will be deemed to satisfy the rules
of section 936(a)(2) for the year of acquisition.
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In the case of an acquisition of all the
assets of a non-affiliated existing credit
claimant, the acquiring corporation will
not be bound by its predecessor’s elections under sections 936(a)(4) and (h) regarding that business activity.
A mere change in the ownership of a
possessions corporation will not affect its
status as an existing credit claimant for
purposes of determining whether an activity is closely related to a pre-existing
business.
Paragraph (b)(4) provides that the test
for a new line of business is only applied
at the time the new activity is added (as
opposed to the test of whether a new line
of business is substantial, which is applied annually under paragraph (c) of this
section).
Paragraph (c)(1) provides the general
rule for determining when a new line of
business becomes substantial. The paragraph explains that, for purposes of section 936 and section 30A, a new line of
business of a possessions corporation is
treated as substantial in the first taxable
year in which it satisfies either of the following two tests: (1) the possessions corporation derives more than 15 percent of
its gross income for the taxable year from
that line of business (the gross income
test); or (2) the possessions corporation
directly uses in that line of business more
than 15 percent of its total assets (the assets test). This position generally reflects
the rules of §1.7704–2(c)(1).
For purposes of the gross income test,
paragraph (c)(2) provides that the denominator is the amount that is the gross income of the possessions corporation for
the current taxable year, while the numerator is the gross income of the new line of
business for the current taxable year. The
gross income test must be applied at the
end of each taxable year. The income is
not to be annualized when a new activity
begins late in the taxable year. Testing
should occur on a company-by-company
basis, if a consolidated group election was
made pursuant to section 936(i)(5). In the
case of a new line of business acquired
through the purchase of all of the assets of
an existing credit claimant, the gross income test for the acquiring corporation
for the year of the acquisition includes
only the income from the date of acquisition through the end of the taxable year
that includes the date of acquisition.
September 8, 1998
Paragraph (c)(3) provides rules for applying the annual assets test. For purposes of the assets test, paragraph (c)(3)
provides that the denominator is the adjusted tax bases of the total assets of the
possessions corporation for the current
taxable year, while the numerator is the
adjusted tax bases of the total assets utilized in the new line of business for the
current taxable year. Total assets include
intangibles, cash and receivables. In
order to provide for administrative convenience for both the taxpayer and the IRS
and for greater certainty in the result, the
test uses the adjusted tax bases of the applicable assets since these amounts are already reflected in the books and records
of the possessions corporation.
Paragraph (c)(3)(ii) permits an exception to the assets test. A new line of business of a possessions corporation will not
be treated as substantial as a result of the
assets test if an event that is not reasonably anticipated causes the adjusted tax
bases of the assets used in the new line of
business to exceed 15 percent of the adjusted tax basis of the possessions corporation’s total assets. An event that is not
reasonably anticipated would include the
destruction of plant and equipment of the
pre-existing business due to a hurricane or
other natural disaster or other similar circumstances beyond the control of the possessions corporation. The expiration of a
patent is not such an event and thus will
not trigger this exception.
Paragraph (d) contains five examples
that illustrate the rules of this temporary
regulation.
Paragraph (e) provides that a possessions corporation that adds a significant
new line of business during a taxable year
may not claim the Puerto Rico and possession tax credit on its return for the taxable year in which the substantial new
line of business is added or a new line of
business becomes substantial.
Paragraph (f) provides that the temporary regulation will apply to taxable years
of the possessions corporation beginning
after August 19, 1998. However, taxpayers may elect to apply all of the provisions
of the regulation for any open taxable
years beginning after December 31, 1995.
Once an election is made, the regulation
will apply for all subsequent taxable
years. The temporary regulations will not
apply to the activities of pre-existing busi-
6
nesses for taxable years beginning before
January 1, 1996.
Special Analyses
It has been determined that this temporary regulation is not a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory assessment is not required. It also has been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C.
chapter 5) does not apply to these regulations, and because the regulation does not
impose a collection of information on
small entities, the Regulatory Flexibility
Act (5 U.S.C. chapter 6) does not apply.
Moreover, the rules contained in this
Treasury decision provide taxpayers with
immediate guidance necessary to comply
with section 936(j)(9)(B), which was effective for taxable years beginning after
December 31, 1995. In the absence of
temporary regulations, the only guidance
regarding what is a new line of business is
a reference in the legislative history to the
principles of §1.7704–2(d) of the regulations. The only guidance regarding what
is substantial is a reference to §1.7704–
2(c) in the Joint Committee Explanation
(Blue Book) of Public Law 104–188. Although a possessions corporation might
be able to construct a tax return position
based on this information, the effect of
misinterpretation is severe—disqualification as an existing credit claimant, without benefits for either the substantial new
line of business or the pre-existing business. Taxpayers must have unambiguous
guidance on which they can immediately
rely in structuring their possession corporation business activities. For these reasons this temporary regulation is needed
to ensure the efficient administration of
the tax laws. Pursuant to section 7805(f)
of the Internal Revenue Code, this temporary regulation will be submitted to the
Chief Counsel for Advocacy of the Small
Business Administration for comment on
its effect on small business.
Drafting Information
The principal author of these regulations is Patricia A. Bray of the Office of
the Associate Chief Counsel (International), within the office of Chief Counsel, IRS. However, other personnel from
the IRS and the Department of the Trea-
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sury participated in the development of
these regulations.
* * * * *
Adoption of Amendments to the
Regulations
Accordingly, 26 CFR part 1 is amended
as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by adding an entry in
numerical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.936–11T also issued under 26
U.S.C. 936(j). ***
Par. 2. Section 1.936–11T is added to
read as follows:
§1.936–11T New lines of business
prohibited (temporary).
(a) In general. A possessions corporation that is an existing credit claimant, as
defined in section 936(j)(9)(A), and that
adds a substantial new line of business
during a taxable year, or that has a new
line of business that becomes substantial
during the taxable year, will cease to be
an existing credit claimant as of the close
of the taxable year ending before either
such taxable year. The term new line of
business is defined in paragraph (b) of
this section. The term substantial is defined in paragraph (c) of this section.
Paragraph (d) of this section provides examples illustrating paragraphs (a) through
(c) of this section. Paragraph (e) of this
section instructs a possessions corporation not to claim the Puerto Rico and possession tax credit on its return if it has
added a substantial new line of business
during the taxable year. Paragraph (f) of
this section is the effective date provision.
(b) New line of business—(1) In general. A new line of business is any business activity of the possessions corporation that is not closely related to a
pre-existing business of the possessions
corporation. The term closely related is
defined in paragraph (b)(2) of this section. The term pre-existing business is defined in paragraph (b)(3) of this section.
(2) Closely related. All the facts and
circumstances must be considered, including paragraphs(b)(2)(i)(A) through
(H) of this section, to determine whether a
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new activity is closely related to a pre-existing business of the possessions corporation, and thus is not a new line of business.
(i) Factors. The following factors will
help to establish that a new activity is
closely related to a pre-existing business
activity of the possessions corporation—
(A) The activity provides products or
services very similar to the products or
services provided by the pre-existing
business;
(B) The activity markets products and
services to the same class of customers as
that of the pre-existing business;
(C) The activity is of a type that is normally conducted in the same business location as the pre-existing business;
(D) The activity requires the use of
similar operating assets as those used in
the pre-existing business;
(E) The activity’s economic success depends on the success of the pre-existing
business;
(F) The activity is of a type that would
normally be treated as a unit with the preexisting business in the business’ accounting records;
(G) If the activity and the pre-existing
business are regulated or licensed, they
are regulated or licensed by the same or
similar governmental authority; and
(H) The United States Bureau of the
Census assigns the activity the same sixdigit North American Industry Classification System (NAICS) code or four-digit
Industry Number Standard Identification
code (SIC code) as the pre-existing business. In the case of a pre-existing business or activity that is listed under a
NAICS code of 99999, Unclassified Establishments, or under a miscellaneous
category (most NAICS codes that end in a
“9” are miscellaneous categories), the
similarity in NAICS codes is ignored as a
factor in determining whether the activity
is closely related to the pre-existing business. The dissimilarity of the NAICS
code is considered in determining
whether the activity is closely related to
the pre-existing business. For purposes of
this section, NAICS codes must be set
forth in the North American Industry
Classification System (United States)
Manual that is in effect for the taxable
year during which a new line of business
is added. The official NAICS-United
States Manual is available in both printed
7
and electronic versions from the National
Technical Information Service (NTIS) at
1-800-553-6847 or at the NTIS NAICS
web site at <http://www.ntis.gov/naics>.
In the case of a pre-existing business or
activity that is listed under a SIC code of
9999, Nonclassifiable Establishments, or
under a miscellaneous category (most SIC
codes ending in “9” are miscellaneous
categories), the similarity in SIC codes is
ignored as a factor in determining
whether the activity is closely related to
the pre-existing business. The dissimilarity of the SIC codes is considered in determining whether the activity is closely
related to the pre-existing business. The
SIC codes are set forth in the Executive
Office of the President, Office of Management and Budget, Standard Industrial
Classification Manual, that is in effect for
the taxable year during which a new line
of business is added. A printed version of
the official SIC Manual is available from
the National Technical Information Service (NTIS) at 1-800-553-6847.
(ii) Safe harbors. An activity is closely
related to a pre-existing business and thus
is not a new line of business in the following three cases—
(A) If the activity is within the same
six-digit NAICS code (or four-digit SIC
code);
(B) If both the pre-existing business
activity and the new activity are within
the same five-digit NAICS code (or threedigit SIC code) and the facts relating to
the new activity satisfy at least three of
the factors listed in paragraph (b)(2)(i)(A)
through (G) of this section; or
(C) If the pre-existing business is making a component product or end-product
form, as defined in §1.936–5(a)(1),Q &
A1, and the new business activity is making an integrated product, or an end-product form with fewer excluded components, that is not within the same six-digit
NAICS code (or four-digit SIC code) as
the pre-existing business solely because
the component product and the integrated
product (or two end-product forms) have
different end-uses.
(3) Pre-existing business—(i) In general. Except as provided in paragraph
(b)(3)(ii) and (4) of this section, a business activity is a pre-existing business of
the existing credit claimant if—
(A) The existing credit claimant was
actively engaged in the activity within the
September 8, 1998
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Page 8
possession on or before October 13, 1995;
and
(B) The existing credit claimant has
elected the benefits of the Puerto Rico and
possession tax credit pursuant to an election which is in effect for the taxable year
that includes October 13, 1995.
(ii) Acquisition of all of the assets or
stock of an existing credit claimant. (A) If
all the assets of a pre-existing business of
an existing credit claimant are acquired
by an affiliated or non-affiliated existing
credit claimant which carries on the business activity of the predecessor existing
credit claimant, the acquired business activity will be treated as a pre-existing
business of the acquiring corporation. A
non-affiliated acquiring corporation will
not be bound by any section 936(h) election made by the predecessor existing
credit claimant with respect to that business activity.
(B) Where all of the assets of a pre-existing business of an existing credit
claimant are acquired by a corporation
that is not an existing credit claimant, if
the acquiring corporation makes a section
936(e) election for the taxable year in
which the assets are acquired—
(1) The acquiring corporation will be
treated as an existing credit claimant for
the year of acquisition;
(2) The activity will be considered a
pre-existing business of the acquiring corporation;
(3) The acquiring corporation will be
deemed to satisfy the rules of section
936(a)(2) for the year of acquisition; and
(4) After making an election under section 936(e), a non-affiliated acquiring corporation will not be bound by elections
under sections 936(a)(4) and (h) made by
the predecessor existing credit claimant.
(C) A mere change in the stock ownership of a possessions corporation will not
affect its status as an existing credit
claimant for purposes of this section.
(4) Timing rule. The tests for a new
line of business in this paragraph
(whether the new activity is closely related to a pre-existing business) are applied only at the end of the taxable year
during which the new activity is added.
(c) Substantial—(1) In general. For
purposes of section 936 and section 30A,
a new line of business is considered to be
substantial as of the earlier of—
(i) The taxable year in which the possessions corporation derives more that 15
September 8, 1998
percent of its gross income from that new
line of business (gross income test); or
(ii) The taxable year in which the possessions corporation directly uses in that
new line of business more that 15 percent
of its assets (assets test).
(2) Gross income test. The denominator in the gross income test is the amount
that is the gross income of the possessions
corporation for the current taxable year,
while the numerator is the amount that is
the gross income of the new line of business for the current taxable year. The
gross income test is applied at the end of
each taxable year. For purposes of this
test, if a new line of business is added late
in the taxable year, the income is not to be
annualized in that year. In the case of a
new line of business acquired through the
purchase of assets, the gross income of
such new line of business for the taxable
year of the acquiring corporation that includes the date of acquisition is determined from the date of acquisition
through the end of the taxable year. In the
case of a consolidated group election
made pursuant to section 936(i)(5), the
test applies on a company by company
basis and not on a consolidated basis.
(3) Assets test—(i) Computation. The
denominator is the adjusted tax basis of
the total assets of the possessions corporation for the current taxable year. The numerator is the adjusted tax basis of the
total assets utilized in the new line of
business for the current taxable year. The
assets test is computed annually using all
assets including cash and receivables.
(ii) Exception. A new line of business
of a possessions corporation will not be
treated as substantial as a result of meeting the assets test if an event that is not
reasonably anticipated causes assets used
in the new line of business of the possessions corporation to exceed 15 percent of
the adjusted tax basis of the possession
corporation’s total assets. For example,
an event that is not reasonably anticipated
would include the destruction of plant and
equipment of the pre-existing business
due to a hurricane or other natural disaster, or other similar circumstances beyond
the control of the possessions corporation.
The expiration of a patent is not such an
event and will not trigger this exception.
(d) Examples. The following examples
illustrate the rules described in paragraphs
(a), (b), and (c) of this section. In the following examples, X Corp. is an existing
8
credit claimant unless otherwise indicated:
Example 1. X Corp. is a pharmaceutical corporation which manufactured bulk chemicals (a component product). In March 1997, X Corp. began to
also manufacture pills (e.g., finished dosages or an
integrated product). The new activity provides
products very similar to the products provided by
the pre-existing business. The new activity is of a
type that is normally conducted in the same business
location as the pre-existing business. The activity’s
economic success depends on the success of the preexisting business. The manufacture of bulk chemicals is in NAICS code 325411, Medicinal and
Botanical Manufacturing, while the manufacture of
the pills is in NAICS code 325412, Pharmaceutical
Preparation Manufacturing. Although the products
have a different end-use, may be marketed to a different class of customers, and may not use similar
operating assets, they are within the same five-digit
NAICS code and the activity also satisfies paragraphs (b)(2)(i)(A), (C), and (E) of this section.
The manufacture of the pills by X Corp. will be considered closely related to the manufacture of the
bulk chemicals. Therefore, X Corp. did not add a
new line of business because it falls within the safe
harbor rule of paragraph (b)(2)(ii)(B) of this section.
Example 2. X Corp. currently manufactures
printed circuit boards in a possession. As a result of
a technological breakthrough, X Corp. could produce the printed circuit boards more efficiently if it
modified its existing production methods. Because
demand was high, X Corp. expanded its facilities to
support the production of its current products when
it modified its production methods. After these
modifications to the facilities and production methods, the products produced through the new technology were in the same six-digit NAICS code as products produced previously by X Corp. See paragraph
(b)(2)(ii)(A) of this section. Therefore, X Corp. will
not be considered to have added a new line of business for purposes of paragraph (b) of this section.
Example 3. X Corp. has manufactured Device A
in Puerto Rico for a number of years and began to
manufacture Device B in Puerto Rico in 1997. Device A and Device B are both used to conduct electrical current to the heart and are both sold to cardiologists. There is no significant change in the type
of activity conducted in Puerto Rico after the transfer of the manufacturing of Device B to Puerto Rico.
Similar manufacturing equipment, manufacturing
processes and skills are used in the manufacture of
both devices. Both are regulated and licensed by the
Food and Drug Administration. The economic success of Device B is dependent upon the success of
Device A only to the extent that the liability and
manufacturing prowess with respect to one reflects
favorably on the other. Depending upon the heart
abnormality, the cardiologist may choose to use Device A, Device B or both on a patient. Both devices
are within the same business sector of the taxpayer’s
business. The manufacture of Device A is in the sixdigit NAICS code 339112, Surgical and Medical Instrument Manufacturing. The manufacture of Device B is in the six-digit NAICS code 334510,
Electromedical and electro- therapeutic Apparatus
Manufacturing. (The manufacture of Device A is in
the four-digit SIC code 3845, Electromedical and
Electrotheraputic Apparatus. The manufacture of
Device B is in the four-digit SIC code 3841, Surgi-
1998–36 I.R.B.
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Page 9
cal and Medical Instruments and Apparatus.) The
safe harbor of paragraph (b)(2)(ii)(B) of this section
applies because the two activities are within the
same three-digit SIC code and Corp. X satisfies
paragraphs (b)(2)(i)(A), (B), (C), (D), (F), and (G)
of this section.
Example 4. X Corp. has been manufacturing
house slippers in Puerto Rico since 1990. Y Corp. is
a U.S. corporation that is not affiliated with X Corp.
and is not an existing credit claimant. Y Corp. has
been manufacturing snack food in the United States.
In 1997, X Corp. purchased the assets of Y Corp. and
began to manufacture snack food in Puerto Rico.
House slipper manufacturing is in the six-digit
NAICS code 316212
(Four-digit SIC code 3142,
House Slippers). The manufacture of snack foods
falls under the six-digit NAICS code 311919, Other
Snack Food Manufacturing (four-digit SIC code
2052, Cookies and Crackers (pretzels)). Because
these activities are not within the same five or six
digit NAICS code (or the same three or four-digit
SIC code), and because snack food is not an integrated product that contains house slippers, the safe
harbor of paragraph (b)(2)(ii) of this section cannot
apply. Considering all the facts and circumstances,
including the eight factors of paragraph (b)(2)(i) of
this section, the snack food manufacturing activity is
not closely related to the manufacture of house slippers, and is a new line of business, within the meaning of paragraph (b) of this section.
Example 5. X Corp. is an existing credit claimant
that has elected the profit-split method for computing taxable income. P Corp. was not an existing
credit claimant and manufactured a product in a different five-digit NAICS code than the product manufactured by X Corp. In 1997, X Corp. acquired the
stock of P Corp. and liquidated P Corp. in a tax-free
liquidation under section 332, but continued the
business activity of P Corp. as a new business segment. Assume that this new business segment is a
new line of business within the meaning of paragraph (c) of this section. In 1997, X Corp. has gross
income from the active conduct of a trade or business in a possession computed under section
936(a)(2) of $500 million and the adjusted tax basis
of its assets is $200 million. The new business segment had gross income of $60 million, or 12 percent
of the X Corp. gross income, and the adjusted basis
of the new segment’s assets was $20 million, or 10
percent of the X Corp. total assets. In 1997, X Corp.
does not derive more than 15 percent of its gross income, or directly use more that 15 percent of its total
assets, from the new business segment. Thus, the
new line of business acquired from P Corp. is not a
substantial new line of business within the meaning
1998–36 I.R.B.
of paragraph (c) of this section, and the new activity
will not cause X Corp. to lose its status as an existing credit claimant during 1997. In 1998, however,
the gross income of X Corp. grew to $750 million
while the gross income of the new line of business
grew to $150 million, or 20% of the X Corp. 1998
gross income. Thus, in 1998, the new line of business is substantial within the meaning of paragraph
(c) of this section, and X Corp. loses its status as an
existing credit claimant as of December 31, 1997.
(e) Loss of status as existing credit
claimant. An existing credit claimant that
adds a substantial new line of business in
a taxable year, or that has a new line of
business that becomes substantial in a taxable year, loses its status as an existing
credit claimant as of the close of the taxable year ending before either such taxable year. In such case, the possession
corporation must not claim the Puerto
Rico and possession tax credit on its return for the taxable year in which the substantial new line of business is added or a
new line of business becomes substantial.
(f) Effective date—(1) General rule.
This section applies to taxable years of a
possessions corporation beginning after
August 19, 1998.
(2) Election for retroactive application.
Taxpayers may elect to apply retroactively all the provisions of this section for
any open taxable year beginning after December 31, 1995. Such election will be
effective for the year of the election and
all subsequent taxable years. This section
will not apply to activities of pre-existing
businesses for taxable years beginning before January 1, 1996.
Michael P. Dolan,
Deputy Commissioner of
Internal Revenue.
Donald C. Lubick,
Assistant Secretary of
the Treasury.
9
(Filed by the Office of the Federal Register on
August 18, 1998, 8:45 a.m., and published in the
issue of the Federal Register for August 19, 1998, 63
F.R. 44387)
Section 1274.—Determination
of Issue Price in the Case of
Certain Debt Instruments Issued
for Property
(Also sections 42, 280G, 382, 412, 467, 468, 482,
483, 642, 807, 846, 1288, 7520, 7872.)
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 September 1998.
Rev. Rul. 98–43
This revenue ruling provides various
prescribed rates for federal income tax
purposes for September 1998 (the current
month.) Table 1 contains the short-term,
mid-term, and long-term applicable federal rates (AFR) for the current month for
purposes of section 1274(d) of the Internal Revenue Code. Table 2 contains the
short-term, mid-term, and long-term adjusted applicable federal rates (adjusted
AFR) for the current month for purposes
of section 1288(b). Table 3 sets forth the
adjusted federal long-term rate and the
long-term tax-exempt rate described in
section 382(f). Table 4 contains the appropriate percentages for determining the
low-income housing credit described in
section 42(b)(2) for buildings placed in
service during the current month. Finally,
Table 5 contains the federal rate for determining the present value of an annuity, an
interest for life or for a term of years, or a
remainder or a reversionary interest for
purposes of section 7520.
September 8, 1998
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REV. RUL. 98–43 TABLE 1
Applicable Federal Rates (AFR) for September 1998
Period for Compounding
Annual
Semiannual
Quarterly
Monthly
Short-Term
AFR
110% AFR
120% AFR
130% AFR
5.42%
5.98%
6.52%
7.08%
5.35%
5.89%
6.42%
6.96%
5.31%
5.85%
6.37%
6.90%
5.29%
5.82%
6.34%
6.86%
Mid-Term
AFR
110% AFR
120% AFR
130% AFR
150% AFR
175% AFR
5.54%
6.11%
6.67%
7.24%
8.38%
9.80%
5.47%
6.02%
6.56%
7.11%
8.21%
9.57%
5.43%
5.98%
6.51%
7.05%
8.13%
9.46%
5.41%
5.95%
6.47%
7.01%
8.07%
9.38%
Long-Term
AFR
110% AFR
120% AFR
130% AFR
5.74%
6.33%
6.91%
7.50%
5.66%
6.23%
6.79%
7.36%
5.62%
6.18%
6.73%
7.29%
5.59%
6.15%
6.70%
7.25%
REV. RUL. 98–43 TABLE 2
Adjusted AFR for September 1998
Period for Compounding
Short-term
adjusted AFR
Mid-term
adjusted AFR
Long-term
adjusted AFR
Annual
Semiannual
Quarterly
Monthly
3.66%
3.63%
3.61%
3.60%
4.24%
4.20%
4.18%
4.16%
5.02%
4.96%
4.93%
4.91%
REV. RUL. 98–43 TABLE 3
Rates Under Section 382 for September 1998
Adjusted federal long-term rate for the current month
Long-term tax-exempt rate for ownership changes during the current month (the highest of the
adjusted federal long-term rates for the current month and the prior two months.)
5.02%
5.02%
REV. RUL. 98–43 TABLE 4
Appropriate Percentages Under Section 42(b)(2) for September 1998
Appropriate percentage for the 70% present value low-income housing credit
8.32%
Appropriate percentage for the 30% present value low-income housing credit
3.57%
September 8, 1998
10
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Page 11
REV. RUL. 98–43 TABLE 5
Rate Under Section 7520 for September 1998
Applicable federal rate for determining the present value of an annuity, an interest for life or a
term of years, or a remainder or reversionary interest
Section 1288.—Treatment of
Original Issue Discount on TaxExempt Obligations
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
Section 2044.—Certain
Property for Which Marital
Deduction Was Previously
Allowed
26 CFR 1.2044–1: Certain property for which
marital deduction was previously allowed.
T.D. 8779
DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Parts 20 and 602
Estate and Gift Tax Marital
Deduction
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Final regulations.
SUMMARY: This document contains
final regulations amending the estate tax
marital deduction regulations. The
amendments are made to conform the estate tax regulations to recent court decisions in Estate of Clayton v. Commissioner, 976 F.2d 1486 (5th Cir. 1992),
rev’g 97 T.C. 327 (1991); Estate of
Robertson v. Commissioner, 15 F.3d 779
(8th Cir. 1994), rev’g 98 T.C. 678 (1992);
Estate of Spencer v. Commissioner, 43
F.3d 226 (6th Cir. 1995), rev’g T.C.
Memo. 1992–579; and Estate of Clack v.
Commissioner, 106 T.C. 131 (1996). The
amendments affect estates of decedents
electing the marital deduction for qualified terminable interest property (QTIP)
1998–36 I.R.B.
and the estates of the surviving spouses of
such decedents.
DATES: These regulations are effective
August 19, 1998.
FOR FURTHER INFORMATION CONTACT: Susan B. Hurwitz, (202) 6223090 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information in these
final regulations has been reviewed and,
pending receipt and evaluation of public
comments, approved by the Office of
Management and Budget (OMB) under
44 U.S.C. 3507 and assigned control
number 1545–1612.
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 assigned by OMB.
The collection of information in this
regulation is in §20.2056(b)–7(d)(3)(ii).
This information is required to provide a
method for estates of decedents whose estate tax returns were due on or before
February 18, 1997, to obtain an extension
of time to make the qualified terminable
interest property election under section
2056(b)(7)(B)(v). This information will
be used to inform the IRS of the affected
estates that are electing to obtain the relief
granted in the regulation. The collection
of information is mandatory for those estates that seek relief. The likely respondents are individuals representing estates.
Comments concerning the collection of
information should be directed to OMB,
Attention: Desk Officer for the Department of the Treasury, Office of Information and Regulatory Affairs, Washington,
DC 20503, with copies to the Internal
Revenue Service, Attention: IRS Reports
11
6.6%
Clearance Officer, OP:FS:FP, Washington, DC 20224. Any such comments
should be submitted not later than October 19, 1998. Comments are specifically
requested concerning:
Whether the collection of information
is necessary for the proper performance of
the functions of the IRS, including
whether the information will have practical utility.
The accuracy of the estimated burden
associated with the collection of information (see below);
How to enhance the quality, utility, and
clarity of the information collected;
How to minimize the burden of complying with the collection of information,
including the application of automated
collection techniques or other forms of information technology; and
Estimates of capital or start-up costs
and costs of operation, maintenance, and
purchase of services to provide information.
Estimates of the reporting burden in
these final regulations will be reflected in
the burden of Form 843 (Claim for Refund and Request for Abatement) and
Form 706 (Estate Tax Return) or 706NA
(Estate Tax Return for Nonresident
Noncitizens).
Books or records relating to this 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 March 1, 1994, the IRS published
final estate and gift tax regulations (26
CFR part 20 and part 25) under sections
2044, 2056, 2207A, 2519, 2523, and 6019
of the Internal Revenue Code (Code) in
the Federal Register (59 F.R. 9642). At
September 8, 1998
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Page 12
that time, §20.2056(b)–7(d)(3) provided
that an income interest (or life estate) that
is contingent upon the executor’s election
under section 2056(b)(7)(B)(v) (the QTIP
election) is not a qualifying income interest for life.
On February 18, 1997, temporary regulations (T.D. 8714) amending the existing
final estate tax regulations relating to the
marital deduction for qualified terminable
interest property (QTIP) were published
in the Federal Register (62 F.R. 7156).
A notice of proposed rulemaking (REG–
209830–96) cross-referencing the temporary regulations was published in the Federal Register (62 F.R. 7188) for the same
day.
The temporary regulations provide that
an income interest for life (or life estate)
that is contingent upon the executor’s
QTIP election, will not, because of the
contingency, fail to be a qualifying income interest for life.
Written comments responding to the
notice of proposed rulemaking were received. A public hearing was held on
June 3, 1997. After consideration of all
the comments, the proposed regulations
under sections 2044 and 2056 are adopted
as revised by this Treasury decision, and
the corresponding temporary regulations
are removed.
Explanation of Revisions and Summary
of Comments
Under section 2056(b)(7)(B)(ii), the
surviving spouse has a qualifying income
interest for life in property which passes
from the decedent if (1) the surviving
spouse is entitled to all of the income from
the property, payable at least annually (or
has a usufruct interest for life in the property), and (2) no person has a power to appoint any part of the property to any person other than the surviving spouse.
Commentators suggested that the regulation, based on the case law, should
specifically provide that as a result of the
executor’s election over a portion of the
property, in cases where the unelected portion of the property passes to a beneficiary
other than the surviving spouse, the executor will not be considered to have a power
to appoint any part of the property to any
person other than the surviving spouse.
The final regulation is clarified to provide that an interest in property is eligible
for treatment as qualified terminable in-
September 8, 1998
terest property if the income interest is
contingent upon the executor’s election
and if that portion of the property for
which no election is made will pass to or
for the benefit of beneficiaries other than
the surviving spouse. Two examples provided in the temporary regulations have
been revised in the final regulations to
conform to this clarification.
Comments were also received regarding the effective date of the temporary
regulations. It was suggested that relief
should be made available for estates of
decedents that did not make the QTIP
election on their estate tax returns because
the surviving spouse’s income interest in
the property was contingent upon the
election or because the nonelected portion
of the property was to pass to a beneficiary other than the surviving spouse. Accordingly, the final regulations provide
that estates of decedents whose estate tax
returns were due on or before February
18, 1997, are granted an extension of time
to make the QTIP election if: (1) the period of limitations on filing a claim for
credit or refund under section 6511(a) has
not expired; and (2) the estate submits a
statement providing that, pursuant to section 2044, the surviving spouse’s gross
estate will include the value, at the date of
the surviving spouse’s death, of the property for which the QTIP election is being
made. The statement must be signed,
under penalties of perjury, by the surviving spouse, the surviving spouse’s legal
representative (if the surviving spouse is
legally incompetent), or the surviving
spouse’s executor (if the surviving spouse
is deceased).
Special Analyses
It has been determined that this Treasury decision is not a significant regulatory action as defined in EO 12866.
Therefore, a regulatory assessment is not
required. It has also been determined that
section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does not
apply to these regulations and, because
these regulations do not impose on small
entities a collection of information requirement, the Regulatory Flexibility Act
(5 U.S.C. chapter 6) does not apply.
Therefore, a Regulatory Flexibility
Analysis is not required. Pursuant to section 7805(f) of the Code, the notice of
proposed rulemaking preceding these reg-
12
ulations was submitted to the Chief Counsel for Advocacy of the Small Business
Administration for comment on their impact on small business.
Drafting Information
The principal author of these regulations
is Susan B. Hurwitz, Office of Assistant
Chief Counsel (Passthroughs and Special
Industries). However, other personnel
from the IRS and the Treasury Department
participated in their development.
* * * * *
Adoption of Amendments to the
Regulations
Accordingly, 26 CFR parts 20 and 602
are amended as follows:
PART 20—ESTATE TAX; ESTATES OF
DECEDENTS DYING AFTER
AUGUST 16, 1954
Paragraph 1. The authority citation for
part 20 continues to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
Par. 2. In §20.2044-1, paragraph (e) Example 8 is added to read as follows:
§20.2044–1 Certain property for which
marital deduction was previously
allowed.
* * * * *
(e) * * *
Example 8. Inclusion of trust property when surviving spouse dies before first decedent’s estate tax
return is filed. D dies on July 1, 1997. Under the
terms of D’s will, a trust is established for the benefit
of D’s spouse, S. The will provides that S is entitled
to receive the income from that portion of the trust
that the executor elects to treat as qualified terminable interest property. The remaining portion of
the trust passes as of D’s date of death to a trust for
the benefit of C, D’s child. The trust terms otherwise provide S with a qualifying income interest for
life under section 2056(b)(7)(B)(ii). S dies on February 10, 1998. On April 1, 1998, D’s executor files
D’s estate tax return on which an election is made to
treat a portion of the trust as qualified terminable interest property under section 2056(b)(7). S’s estate
tax return is filed on November 10, 1998. The value
on the date of S’s death of the portion of the trust for
which D’s executor made a QTIP election is includible in S’s gross estate under section 2044.
§20.2044–1T [Removed]
Par. 3. Section 20.2044–1T is removed.
1998–36 I.R.B.
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Page 13
Par. 4. In §20.2056(b)–(7), paragraphs
(d)(3) and (h) Example 6 are revised to
read as follows:
§20.2056(b)–(7) Election with respect to
life estate for surviving spouse.
* * * * *
(d) * * *
(3) Contingent income interests. (i) An
income interest for a term of years, or a
life estate subject to termination upon the
occurrence of a specified event (e.g., remarriage), is not a qualifying income interest for life. However, a qualifying income interest for life that is contingent
upon the executor’s election under section
2056(b)(7)(B)(v) will not fail to be a qualifying income interest for life because of
such contingency or because the portion
of the property for which the election is
not made passes to or for the benefit of
persons other than the surviving spouse.
This paragraph (d)(3)(i) applies with respect to estates of decedents whose estate
tax returns are due after February 18,
1997. This paragraph (d)(3)(i) also applies to estates of decedents whose estate
tax returns were due on or before February 18, 1997, that meet the requirements
of paragraph (d)(3)(ii) of this section.
(ii) Estates of decedents whose estate
tax returns were due on or before February 18, 1997, that did not make the election under section 2056(b)(7)(B)(v) because the surviving spouse’s income
interest in the property was contingent
upon the election or because the nonelected portion of the property was to pass
to a beneficiary other than the surviving
spouse are granted an extension of time to
make the QTIP election if the following
requirements are satisfied:
(A) The period of limitations on filing a
claim for credit or refund under section
6511(a) has not expired.
(B) A claim for credit or refund is filed
on Form 843 with a revised Recapitulation and Schedule M, Form 706 (or
706NA) that signifies the QTIP election.
Reference to this section should be made
on the Form 843.
(C) The following statement is included with the Form 843: “The undersigned certifies that the property with respect to which the QTIP election is being
made will be included in the gross estate
of the surviving spouse as provided in
1998–36 I.R.B.
section 2044 of the Internal Revenue
Code, in determining the federal estate
tax liability on the spouse’s death.” The
statement must be signed, under penalties
of perjury, by the surviving spouse, the
surviving spouse’s legal representative (if
the surviving spouse is legally incompetent), or the surviving spouse’s executor
(if the surviving spouse is deceased).
§602.101 OMB Control numbers.
* * * * *
(c) * * *
CFR part or section
where identified
and described
Current OMB
control No.
* * * * *
* * * * *
(h) * * *
Example 6. Spouse’s qualifying income interest
for life contingent on executor’s election. D’s will
established a trust providing that S is entitled to receive the income, payable at least annually, from
that portion of the trust that the executor elects to
treat as qualified terminable interest property. The
portion of the trust which the executor does not elect
to treat as qualified terminable interest property
passes as of D’s date of death to a trust for the benefit of C, D’s child. Under these facts, the executor is
not considered to have a power to appoint any part
of the trust property to any person other than S during S’s life.
* * * * *
§20.2056(b)–7T [Removed]
Par. 5. Section 20.2056(b)–7T is removed.
Par. 6. Section 20.2056(b)–10 is revised to read as follows:
§20.2056(b)–10 Effective dates.
Except as specifically provided in
§§20.2056(b)–5(c)(3)(ii) and (iii),
20.2056(b)–7(d)(3), 20.2056(b)–7(e)(5),
and 20.2056(b)–8(b), the provisions of
§§20.2056(b)–5(c), 20.2056(b)–7,
20.2056(b)–8, and 20.2056(b)–9 are applicable with respect to estates of decedents dying after March 1, 1994. With
respect to decedents dying on or before
such date, the executor of the decedent’s
estate may rely on any reasonable interpretation of the statutory provisions.
§20.2056(b)–10T [Removed]
Par. 7. Section 20.2056(b)–10T is removed.
PART 602—OMB CONTROL
NUMBERS UNDER THE
PAPERWORK REDUCTION ACT
Par. 8. In §602.101, paragraph (c), the
entry in the table for 20.2056(b)–7 is revised to read as follows:
13
20.2056(b)–7 . . . . . . . . . . . . 1545–0015
1545–1612
* * * * *
Michael P. Dolan,
Deputy Commissioner of
Internal Revenue.
Approved July 27, 1998.
Donald C. Lubick,
Assistant Secretary of
the Treasury.
(Filed by the Office of the Federal Register on
August 18, 1998, 8:45 a.m., and published in the
issue of the Federal Register for 63 F.R. 44391)
Section 6323.—Validity and
Priority Against Certain Persons
Ct.D. 2063
SUPREME COURT
OF THE UNITED STATES
No. 96–1613
UNITED STATES v. ESTATE OF
FRANCIS J. ROMANI ET AL.
523 U.S.
(1998)
CERTIORARI TO THE SUPREME
COURT OF PENNSYLVANIA,
WESTERN DISTRICT
APRIL 19,1998
Syllabus
After a third party perfected a $400,000
judgment lien under Pennsylvania law on
Francis Romani’s Cambria County real
property, the Internal Revenue Service
filed notices of tax liens on the property,
totaling some $490,000. When Mr. Romani died, his entire estate consisted of
real estate worth only $53,001. Because
September 8, 1998
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the property was encumbered by both the
judgment lien and the federal tax liens,
the estate’s administrator sought the
county court’s permission to transfer the
property to the ‘judgment creditor in hen
of execution. The court authorized the
conveyance, overruling the Federal Government’s objection that the transfer violated the federal priority statute, 31 U. S.
C. §3713(a), which provides that a Government claim “shall be paid first” when a
decedent’s estate cannot pay all of its
debts. The Superior Court of Pennsylvania affirmed, as did the Pennsylvania
Supreme Court. The latter court determined that there was a “plain inconsistence” between §3713 and the Federal Tax Lien Act of 1966, which provides
that a federal tax hen “shall not be valid”
against judgment lien creditors until a
prescribed notice has been given, 26 U. S.
C. §6323(a). The court concluded that the
1966 Act effectively limited §3713’s operation as to tax debts, relying on United
States v. Kimbell Foods, Inc., 440 U. S.
715, 738, which noted that the 1966 Act
modified the Government’s preferred position in the tax area and recognized the
priority of many state claims over federal
tax liens.
Held: Section 3713(a) does not require
that a federal tax claim be given preference over a judgment creditor’s perfected
hen on real property. Pp. 4– 17.
(a) There is no dispute about the
meaning of either the Pennsylvania
hen statute or the Tax Lien Act. It is
undisputed that, under the state law,
the judgment creditor acquired a
valid lien on Romani’s real property
before his death and before the Government served notice of its tax hens.
That lien was therefore perfected in
the sense that there is nothing more
to be done to have a choate hen.
E.g., United States v. City of New
Britain, 347 U. S. 81, 84. And a review of the Tax Lien Act’s history
reveals that each time Congress has
revisited the federal tax lien, it has
ameliorated pre-existing harsh consequences for the delinquent taxpayer ’s other secured creditors.
Here, all agree that by §6323(a)’s
terms, the Government’s liens are
not valid as against the earlier
recorded judgment lien. Pp. 4–7.
September 8, 1998
(b) Because this Court has never
definitively resolved the basic question whether the federal priority
statute gives the United States a preference only over other unsecured
creditors, or whether it also applies
to the antecedent perfected liens of
secured creditors, see, e.g., United
States v. Vermont, 377 U. S. 351,
358, n. 8, it does not seem appropriate to view the issue here as whether
the Tax Lien Act has implicitly
amended or repealed §3713(a). Instead, the proper inquiry is how best
to harmonize the two statutes’ impact on the Government’s power to
collect delinquent taxes. Pp. 7–12.
(c) Nothing in the federal priority
statute’s text or its long history justifies the conclusion that it authorizes
the equivalent of a secret lien as a
substitute for the expressly authorized tax lien that the Tax Lien Act
declares “shall not be valid” in a case
of this kind. On several occasions,
this Court has concluded that a specific policy embodied in a later federal statute should control interpretation of the older federal priority
statute, despite that law’s literal, unconditional text and the fact that it
had not been expressly amended by
the later Act. See, e.g., Cook County
Nat. Bank v. United States, 107 U.
S. 445, 448451. United States v.
Emory, 314 U. S. 423, 429–433, and
United States v. Key, 397 U. S. 322,
324–333, distinguished. So too here,
there are sound reasons for treating
the Tax Lien Act as the governing
statute. That Act is the later statute,
the more specific statute, and its provisions are comprehensive, reflecting an obvious attempt to accommodate the strong policy objections to
the enforcement of secret liens. It
represents Congress’ detailed judgment as to when the Government’s
claims for unpaid taxes should yield
to many different sorts of interests
(including, e.g., judgment liens, mechanic’s liens, and attorneys’ liens)
in many different types of property
(including, e.g., real property, securities, and motor vehicles). See
§6323. Indeed, given this Court’s
unambiguous determination that the
14
federal interest in the collection of
taxes is paramount to its interest in
enforcing other claims, see Kimbell
Foods Inc., 440 U. S., at 733735, it
would be anomalous to conclude that
Congress intended the priority
statute to impose greater burdens on
the citizen than those specifically
crafted for tax collection purposes.
Pp. 12–17.
Pa. , 688 A. 2d 703, affirmed.
STEVENS, J., delivered the opinion of
the Court, in which REHNQUIST, C. J., and
O’CONNER, KENNEDY, SOUTHER, THOMAS,
G INSBURG , and B REYER , J.J., joined.
SCALIA J., filed an opinion concurring in
part and concurring in the judgment.
SUPREME COURT OF THE
UNITED STATES
No. 96–1613
UNITED STATES, PETITIONER v.
ESTATE OF FRANCIS J. ROMANI
ET AL.
ON WRIT OF CERTIORARI TO THE
SUPREME COURT OF
PENNSYLVANIA, WESTERN
DISTRICT
[April, 29, 1998]
JUSTICE STEVENS delivered the
opinion of the Court.
The federal priority statute, 31 U. S. C.
§3713(a), provides that a claim of the
United States Government “shall be paid
first” when a decedent’s estate cannot pay
all of its debts.1 The question presented is
whether that statute requires that a federal
1Ҥ3713. Priority of Government claims
“(a)(1) A claim of the United States Government
shall be paid first when—
“(A) a person indebted to the Government is insolvent and—
“(i) the debtor without enough property to pay all
debts makes a voluntary assignment of property;
“(ii) property of the debtor, if absent, is attached;
or
“(iii) an act of bankruptcy is committed; or
“(B) the estate of a deceased debtor, in the custody of the executor or administrator, is not enough
to pay all debts of the debtor.
“(2) This subsection does not apply to a case
under title ll.” 31 U.S. C. §3713.
The present statute is the direct descendent of
§3466 of the Revised Statutes, which had been codified in 31 U. S. C. § 191.
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tax claim be given preference over a judgment creditor’s perfected lien on real property even though such a preference is
not authorized by the Federal Tax Lien
Act of 1966, 26 U. S. C. §6321 et seq.
I
On January 25, 1985, the Court of
Common Pleas of Cambria County, Pennsylvania, entered a judgment for $400,000
in favor of Romani Industries, Inc., and
against Francis J. Romani. The judgment
was recorded in the clerk’s office and
therefore, as a matter of Pennsylvania
law, it became a lien on all of the defendant’s real property in Cambria County.
Thereafter, the Internal Revenue Service
filed a series of notices of tax liens on Mr.
Romani’s property. The claims for unpaid
taxes, interest and penalties described in
those notices amounted to approximately
$490,000.
When Mr. Romani died on January 13,
1992, his entire estate consisted of real estate worth only $53,001. Because the
property was encumbered by both the
judgment lien and the federal tax liens,
the estate’s administrator sought permission from the Court of Common Pleas to
transfer the property to the judgment
creditor, Romani Industries, in lieu of execution. The Federal Government acknowledged that its tax liens were not
valid as against the earlier judgment hen;
but, giving new meaning to Franklin’s
aphorism that “in this world nothing can
be said to be certain, except death and
taxes,” 2 it opposed the transfer on the
ground that the priority statute (§3713)
gave it the right to “be paid first.”
The Court of Common Pleas overruled
the Government’s objection and authorized the conveyance. The Superior Court
of Pennsylvania affirmed, and the
Supreme Court of the State also affirmed.
547 Pa. 41, 688 A. 2d 703 (1997). That
court first determined that there was a
“plain inconsistency” between §3713,
which appears to give the United States
“absolute priority” over all competing
2Letter of November 13, 1789 to Jean Baptiste
Le Roy, in 10 The Writings of Benjamin Franklin 69
(A. Smyth ed. 1907). As is often the case, the original meaning of the aphorism is clarified somewhat
by its context: “Our new Constitution is now established, and has an appearance that promises permanency; but in this world nothing can be said to be
certain, except death and taxes.” Ibid.
1998–36 I.R.B.
claims, and the Tax Lien Act of 1966,
which provides that the federal tax lien
“shall not be valid” against judgment hen
creditors until a prescribed notice has
been given. Id., at 45, 688 A. 2d, at 705.3
Then, relying on the reasoning in United
States v. Kimbell Foods, Inc., 440 U. S.
715 (1979), which had noted that the Tax
Lien Act of 1966 modified the Federal
Government’s preferred position in the
tax area and recognized the priority of
many state claims over federal tax liens,
id., at 738, the court concluded that the
1966 Act had the effect of limiting the operation of §3713 as to tax debts.
The decision of the Pennsylvania
Supreme Court conflicts with two federal
court of appeals decisions, Kentucky ex
rel. Luckett v. United States, 383 F. 2d 13
(CA6 1967), and Nesbitt v. United States,
622 F. 2d 433 (CA9 1980). Moreover, in
its petition for certiorari, the Government
submitted that the decision is inconsistent
with our holding in Thelusson v. Smith, 2
Wheat. 396 (1817), and with the admonition that “‘[o]nly the plainest inconsistency would warrant our finding an implied exception to the operation of so
clear a command as that of [31 U. S. C.
§3713],”’ United States v. Key, 397 U.S.
322, 324-325 (1970) (quoting United
3The Federal Tax Lien Act of 1966, 26 U. S. C.
§6321 et seq., provides in pertinent part:
Ҥ6321. Lien for taxes
“If any person liable to pay any tax neglects or refuuses to pay the same after demand, the amount (including any interest, additional amount, addition to
tax, or assessable penalty, together with any costs
that may accrue in addition thereto) shall be a lien in
favor of the United States upon all property and
rights to property, whether real or personal, belonging to such person.”
Ҥ6323. Validity and priority against certain persons
“(a) Purchasers, holders of security interests, mechanic’s henors, and judgment lien creditors
“The lien imposed by section 6321 shall not be
valid as against any purchaser, holder of a security
interest, mechanic’s henor, or judgment lien creditor
until notice thereof which meets the requirements of
subsection (f) has been filed by the Secretary.”
Section 6323(f)(1)(A)(i) provides that the required notice ‘shall be filed ... [i]n the case of real
property, in one office within the State (or the
county, or other governmental subdivision), as designated by the laws of such State, in which the property subject to the hen is situated.” If the State has
not designated such an office, notice is to be filed
with the clerk of the federal district court “for the judicial district in which situated.” §6323(f)(1)(B). the
property subject to the lien is situated.”
§6232(f)(1)(B).
15
States v. Emory, 314 U.S. 423, 433
(1941)). We granted certiorari, 521 U. S.
(1997), to resolve the conflict and to consider whether Thelusson, Key, or any of
our other cases construing the priority
statute requires a different result.
II
There is no dispute about the meaning
of two of the three statutes that control the
disposition of this case. It is therefore appropriate to comment on the Pennsylvania
lien statute and the Federal Tax Lien Act
before considering the applicability of the
priority statute to property encumbered by
an antecedent judgment creditor’s lien.
The Pennsylvania statute expressly provides that a judgment shall create a lien
against real property when it is recorded in
the county where the property is located.
42 Pa. Cons. Stat. §4303(a) (1995). After
the judgment has been recorded, the judgment creditor has the same right to notice
of a tax sale as a mortgagee.4 The recording in one county does not, of course, create a lien on property located elsewhere.
In this case, however, it is undisputed that
the judgment creditor acquired a valid lien
on the real property in Cambria County
before the judgment debtor’s death and
before the Government served notice of its
tax liens. Romani Industries’ lien was
“perfected in the sense that there is nothing more to be done to have a choate
lien—when the identity of the lienor, the
property subject to the lien, and the
amount of the hen are established.” United
States v. City of New Britain, 347 U. S.
81, 84 (1954); see also Illinois ex rel.
Gordon v. Campbell, 329 U.S. 362, 375
(1946).
4 The Pennsylvania Supreme Court has elabo-
rated:
“We must now decide whether judgment creditors are also entitled to personal or general notice by
the [County Tax Claim] Bureau as a matter of due
process of law.
“Judgment liens are a product of centuries of
statutes which authorize a judgment creditor to seize
and sell the land of debtors at a judicial sale to satisfy their debts out of the proceeds of the sale. The
judgment represents a binding judicial determination
of the rights and duties between the parties, and establishes their debtor-creditor relationship for all the
world to notice when the judgment is recorded in a
Prothonotary’s Office. When entered of record, the
judgment also operates as a lien upon all real property of the debtor in that county.” In re Upset Sale,
Tax Claiin Bureau of Berks County, 505 Pa. 327,
334, 479 A. 2d 940,943(1984).
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The Federal Government’s right to a
hen on a delinquent taxpayer’s property
has been a part of our law at least since
1865.5 Originally the lien applied, without exception, to all property of the taxpayer immediately upon the neglect or
failure to pay the tax upon demand.6 An
unrecorded tax lien against a delinquent
taxpayer ’s property was valid even
against a bona fide purchaser who had no
notice of the lien. United States v. Snyder,
149 U. S. 210, 213– 215 (1893). In 1913,
Congress amended the statute to provide
that the federal tax hen “shall not be valid
as against any mortgagee, purchaser, or
judgment creditor” until notice has been
filed with the clerk of the federal district
court or with the appropriate local authorities in the district or county in which the
property subject to the hen is located. Act
of Mar. 4, 1913, 37 Stat. 1016. In 1939,
Congress broadened the protection
against unfiled tax hens to include
pledgees and the holders of certain securities. Act of June 29, 1939, §401, 53 Stat.
882–883. The Federal Tax Lien Act of
1966 again broadened that protection to
encompass a variety of additional secured
transactions, and also included detailed
provisions protecting certain secured interests even when a notice of the federal
hen previously has been filed. 80 Stat.
1125-1132, as amended, 26 U. S. C.
§6323.
5 The post-Civil War Reconstruction Congress
imposed a tax of three cents per pound on “the producer, owner, or holder” of cotton and a hen on the
cotton until the tax was paid. Act of July 13, 1866,
§1, 14 Stat. 98. The same statute also imposed a
general lien on all of a delinquent taxpayer’s property, see §9, 14 Stat. 107, which was nearly identical
to a provision in the revenue act of Mar. 3, 1865, 13
Stat. 470–471, quoted in n. 6, infra.
6The 1865 revenue act contained the following
sentence: ‘And if any person, bank, association,
company, or corporation, liable to pay any duty, shall
neglect or refuse to pay the same after demand, the
amount shall be a hen in favor of the United States
from the time it was due until paid, with the interests,
penalties, and costs that may accrue m addition
thereto, upon all property and rights to property; and
the collector, after demand, may levy or by warrant
may authorize a deputy collector to levy upon all
property and rights to property belonging to such
person, bank, association, company, or corporation,
or on which the said hen exists, for the payment of
the sum due as aforesaid, with interest and penalty
for non-payment, and also of such further sum as
shall be sufficient for the fees, costs, and expenses of
such levy.” 13 Stat. 470–471. This provision, as
amended, became §3186 of the Revised Statutes.
September 8, 1998
In sum, each time Congress revisited
the federal tax lien, it ameliorated its original harsh impact on other secured creditors of the delinquent taxpayer.7 In this
case, it is agreed that by the terms of
§6323(a), the Federal Government’s liens
are not valid as against the hen created by
the earlier recording of Romani Industries' judgment.
III
The text of the priority statute on which
the Government places its entire reliance
is virtually unchanged since its enactment
in 1797.8 As we pointed out in United
States v. Moore, 423 U. S. 77 (1975), not
only were there earlier versions of the
statute,9 but “its roots reach back even
further into the English common law,” id.,
7For a more thorough description of the early history and of Congress’ reactions to this Court’s tax
lien decisions, see Kennedy, The Relative Priority of
the Federal Government: The Pernicious Career of
the Inchoate and General Lien, 63 Yale L. J. 905,
919–922 (1954) (hereinafter Kennedy)
8The Act of Mar. 3, 1797, §5, 1 Stat. 515, provided:
“And be it further enacted, That where any revenue officer, or other person hereafter becoming indebted to the United States, by bond or otherwise,
shall become insolvent, or where the estate of any
deceased debtor, in the hands of executors or administrators, shall be insufficient to pay all the debts due
from the deceased, the debt due to the United States
shall be first satisfied; and the priority hereby established shall be deemed to extend, as well to cases in
which a debtor, not having sufficient property to pay
all his debts, shall make a voluntary assignment
thereof, or in which the estate and effects of an absconding, concealed, or absent debtor, shall be attached by process of law, as to cases in which an act
of legal bankruptcy shall be committed.” Compare
§3466 of the Revised Statutes, and the present
statutequoted in n. 1, supra.
It has long been settled that the federal priority
covers the Government’s claims for unpaid taxes.
Price v. United States, 269 U. S. 492, 499–502
(1926); Massachusetts v. United States, 333 U. S.
611, 625626, and n. 24 (1948).
9“The earliest priority statute was enacted in the
Act of July 31, 1789, 1 Stat. 29, which dealt with
bonds posted by importers in lieu of payment of duties for release of imported goods. It provided that
the ‘debt due to the United States’ for such duties
shall be discharged first ‘in all cases of insolvency,
or where any estate in the hands of executors or administrators, shall be insufficient to pay all the debts
due from the deceased . . . .’ §21, 1 Stat. 42. A 1792
enactment broadened the Act’s coverage by providing that the language ‘cases of insolvency’ should be
taken to include cases in which a debtor makes a
voluntary assignment for the benefit of creditors,
and the other situations that §3466, 31 U.S.C. §191,
now covers. l Stat.263.” United States v.Moore, 423
U.S., at 81.
16
at 80. The sovereign prerogative that was
exercised by the English Crown and by
many of the States as “an inherent incident of sovereignty,” ibid., applied only to
unsecured claims. As Justice Brandeis
noted in Marshall v. New York, 254 U. S.
380, 384 (1920), the common law priority
“[did] not obtain over a specific lien created by the debtor before the sovereign
undertakes to enforce its right.” Moreover, the statute itself does not create a
lien in favor of the United States.10 Given
this background, respondent argues that
the statute should be read as giving the
United States a preference over other unsecured creditors but not over secured
creditors.11
There are dicta in our earlier cases that
support this contention as well as dicta
that tend to refute it. Perhaps the
strongest support is found in Justice
Story’s statement:
“What then is the nature of the priority, thus limited and established in
favour of the United States? Is it a
right, which supersedes and overrules
the assignment of the debtor, as to
any property which the United States
may afterwards elect to take in execution, so as to prevent such property
from passing by virtue of such assignment to the assignees? Or, is it a
mere right of prior payment, out of
the general funds of the debtor, in the
hands of the assignees? We are of
opinion that it clearly falls, within the
latter description. The language employed is that which naturally would
be employed to express such an intent; and it must be strained from its
ordinary import, to speak any other.”
Conard v. Atlantic Ins. Co. of N.Y, 1
Pet. 386, 439 (1828).
Justice Story’s opinion that the language
employed in the statute “must be
10“In construing the statutes on this subject, it has
been stated by the court, on great deliberation, that
the priority to which the United States are entitled,
does not partake of the character of a lien on the
property of public debtors. This distinction is always to be recollected.” United States v. Hooe, 3
Cranch 73, 90 (1805).
11Although this argument was not presented to
the state courts, respondent may defend the judgment on a ground not previously raised. Heckler v.
Cainpbell, 461 U. S. 458, 468–469, n. 12 (1983).
We will rarely consider such an argument, however.
Ibid.; see also Matsushita Elec. Industrial Co. v. Epstien, 516 U. S. 367, 379, n. 5 (1996).
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strained” to give it any other meaning is
entitled to special respect because he was
more familiar with 18th-century usage
than judges who view the statute from a
20th-century perspective.
We cannot, however, ignore the Court’s
earlier judgment in Thelusson v. Smith, 2
Wheat. 396, 426 (1817), or the more recent dicta in United States v. Key, 397 U.
S. 322, 324–325 (1970). In Thelusson,
the Court held that the priority statute
gave the United States a preference over
the claim of a judgment creditor who had
a general hen on the debtor’s real property. The Court’s brief opinion12 is subject to the interpretation that the statutory
priority always accords the Government a
preference over judgment creditors. For
two reasons, we do not accept that reading of the opinion.
First, as a factual matter, in 1817 when
the case was decided, there was no procedure for recording a judgment and thereby
creating a choate lien on a specific parcel
of real estate. See generally 2 L. Dembitz, A Treatise on Land Titles in the
United States §127, pp. 948–952 (1895).
Notwithstanding the judgment, a bona
fide purchaser could have acquired the
debtor’s property free from any claims of
the judgment creditor. See Semple v.
Burd, 7 Serg. & Rawle 286, 291 (Pa.
1821) (“The prevailing object of the Leg12The relevant portion of the opinion reads, in
full, as follows:
“These [statutory] expressions are as general as any
which could have been used, and exclude all debts
due to individuals, whatever may be their dignity....
The law makes no exception in favour of prior judgment creditors; and no reason has been, or we think
can be, shown to warrant this court in making one....
“The United States are to be first satisfied; but
then it must be out of the debtor’s estate. If, therefore, before the right of preference has accrued to the
United States, the debtor has made a bona fide conveyance of his estate to a third person, or has mortgaged the same to secure a debt; or if his property
has been seized under a fi. fa., the property is devested out of the debtor, and cannot be made liable
to the United States. A judgment gives to the judgment creditor a lien on the debtor’s lands, and a preference over all subsequent judgment creditors. But
the act of congress defeats this preference in favour
of the United States, in the cases specified in the
65th section of the act of 1799.” Thelusson v. Smith,
2 Wheat. 396, 425–426 (1817).
In the later Conard case, Justice Story apologized
for Thelusson: “The reasons for that opinion are not,
owing to accidental circumstances, as fully given as
they are usually given in this Court.” Conard v. Atlantic Ins. Co. of N. Y., 1 Pet. 386, 442 (1828).
1998–36 I.R.B.
islature, has uniformly been, to support
the security of a judgment creditor, by
confirming his lien, except when it interferes with the circulation of property by
embarrassing a fair purchaser”). That is
not the case with respect to Romani Industries’ choate hen on the property in
Cambria County.
Second, and of greater importance, in
his opinion for the Court in the Conard
case, which was joined by Justice Washington, the author of Thelusson,13 Justice
Story explained why that holding was
fully consistent with his interpretation of
the text of the priority statute:
“The real ground of the decision,
was, that the judgment creditor had
never perfected his title, by any execution and levy on the Sedgely estate; that he had acquired no title to
the proceeds as his property, and that
if the proceeds were to be deemed
general funds of the debtor, the priority of the United States to payment
had attached against all other creditors; and that a mere potential lien on
land, did not carry a legal title to the
proceeds of a sale, made under an
adverse execution. This is the manner in which this case has been understood, by the Judges who concurred in the decision; and it is
obvious, that it established no such
proposition, as that a specific and
perfected hen, can be displaced by
the mere priority of the United
States; since that priority is not of itself equivalent to a lien.” Conard, I
Pet., at 444.14
The Government also relies upon dicta
from our opinion in United States v. Key,
397 U. S., at 324–325, which quoted from
our earlier opinion in United States v.
Emory, 314 U.S., at 433: “Only the
plainest inconsistency would warrant our
finding an implied exception to the opera13Justice Washington’s opinion for this Court in
Thelusson affirmed, and was essentially the same as,
his own opinion delivered in the Circuit Court as a
Circuit Justice. 2 Wheat., at 426, n. h.
14Relying on this and several other cases, in 1857
the Attorney General of the United States issued an
opinion concluding that Thelusson “has been distinctly overruled” and that the priority of the United
States under this statute “will not reach back over
any hen, whether it be general or specific.” 9 Op.
Att. Gen. 28, 29. See also Kennedy 908–911 (advancing this same interpretation of the early priority
act decisions).
17
tion of so clear a command as that of
[§3713].” Because both Key and Emory
were cases in which the competing claims
were unsecured, the statutory command
was perfectly clear even under Justice
Story’s construction of the statute. The
statements made in that context, of
course, shed no light on the clarity of the
command when the United States relies
on the statute as a basis for claiming a
preference over a secured creditor. Indeed, the Key opinion itself made this
specific point: “This case does not raise
the question, never decided by this Court,
whether §3466 grants the Government
priority over the prior specific liens of secured creditors. See United States v.
Gilbert Associates, Inc., 345 U. S. 361,
365-366 (1953).” 397 U. S., at 332, n. 11.
The Key opinion is only one of many in
which the Court has noted that despite the
age of the statute, and despite the fact that
it has been the subject of a great deal of
litigation, the question whether it has any
application to antecedent perfected liens
has never been answered definitively.
See United States v. Vermont, 377 U.S.
351, 358, n. 8 (1964) (citing cases). In his
dissent in the Gilbert Associates case,
Justice Frankfurter referred to the Court’s
reluctance to decide the issue “not only
today but for almost a century and a half.”
345 U. S., at 367.
The Government’s priority as against
specific, perfected security interests is, if
possible, even less settled with regard to
real property. The Court has sometimes
concluded that a competing creditor who
has not “divested” the debtor of “either
title or possession” has only a “general,
unperfected lien” that is defeated by the
Government’s priority. Eg., id., at 366.
Assuming the validity of this “title or possession” test for deciding whether a lien
on personal property is sufficiently choate
for purposes of the priority statute (a
question of federal law, see Illinois ex rel.
Gordon v. Campbell, 329 U. S., at 371),
we are not aware of any decisions since
Thelusson applying that theory to claims
for real property, or of any reason to require a lienor or mortgagee to acquire
possession in order to perfect an interest
in real estate.
Given the fact that this basic question
of interpretation remains unresolved, it
does not seem appropriate to view the
issue in this case as whether the Tax Lien
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Page 18
Act of 1966 has implicitly amended or repealed the priority statute. Instead, we
think the proper inquiry is how best to
harmonize the impact of the two statutes
on the Government’s power to collect
delinquent taxes.
IV
In his dissent from a particularly harsh
application of the priority statute, Justice
Jackson emphasized the importance of
considering other relevant federal policies. Joined by three other Justices, he
wrote:
“This decision announces an unnecessarily ruthless interpretation of
a statute that at its best is an arbitrary
one. The statute by which the Federal Government gives its own
claims against an insolvent priority
over claims in favor of a state government must be applied by courts,
not because federal claims are more
meritorious or equitable, but only
because that Government has more
power. But the priority statute is an
assertion of federal supremacy as
against any contrary state policy. It
is not a limitation on the Federal
Government itself, not an assertion
that the priority policy shall prevail
over all other federal policies. Its
generalities should not lightly be
construed to frustrate a specific policy embodied in a later federal
statute.” Massachusetts v. United
States, 333 U. S. 611, 635 (1948)
(Jackson, J., dissenting).
On several prior occasions the Court
had followed this approach and concluded
that a specific policy embodied in a later
federal statute should control our construction of the priority statute, even
though it had not been expressly amended.
Thus, in Cook County Nat. Bank v. United
States, 107 U. S. 445, 448–451 (1883), the
Court concluded that the priority statute
did not apply to federal claims against national banks because the National Bank
Act comprehensively regulated banks’
obligations and the distribution of insolvent banks’ assets. And in United States v.
Guaranty Trust Co. of N.Y, 280 U. S. 478,
485 (1930), we determined that the Transportation Act of 1920 had effectively superseded the priority statute with respect
to federal claims against the railroads arising under that Act.
September 8, 1998
The bankruptcy law provides an additional context in which another federal
statute was given effect despite the priority statute’s literal, unconditional text.
The early federal bankruptcy statutes had
accorded to “‘all debts due to the United
States, and all taxes and assessments
under the laws thereof “ a preference that
was “coextensive” with that established
by the priority statute. Guarantee Title &
Trust Co. v. Title Guaranty & Surety Co.,
224 U.S. 152, 158 (1972) (quoting the
Bankruptcy Act of 1867, Rev. Stat.
§5101). As such, the priority act and the
bankruptcy laws “were to be regarded as
in pari materia, and both were unqualified; . . . as neither contained any qualification, none could be interpolated.” Ibid.
The Bankruptcy Act of 1898, however,
subordinated the priority of the Federal
Government’s claims (except for taxes
due) to certain other kinds of debts. This
Court resolved the tension between the
new bankruptcy provisions and the priority statute by applying the former and thus
treating the Government like any other
general creditor. Id., at 158–160; Davis v.
Pringle, 268 U. S. 315, 317–319 (1925).15
There are sound reasons for treating the
Tax Lien Act of 1966 as the governing
statute when the Government is claiming
a preference in the insolvent estate of a
delinquent taxpayer. As was the case with
the National Bank Act, the Transportation
Act of 1920, and the Bankruptcy Act of
1898, the Tax Lien Act is the later statute,
the more specific statute, and its provisions are comprehensive, reflecting an
obvious attempt to accommodate the
strong policy objections to the enforcement of secret hens. It represents Congress’ detailed judgment as to when the
Government’s claims for unpaid taxes
should yield to many different sorts of in15Congress amended the priority statute in 1978
to make it expressly inapplicable to Title 11 bankruptcy cases. Pub. L. 95–598, §322(b), 92 Stat.
2679, codified in 31 U. S. C. §3713(a)(2). The differences between the bankruptcy laws and the priority statute have been the subject of criticism: “as a
result of the continuing discrepancies between the
bankruptcy and insolvency rules, some creditors
have had a distinct incentive to throw into bankruptcy a debtor whose case might have been handled, with less expense and less burden on the federal courts, in another form of proceeding.” Plumb,
The Federal Priority in Insolvency: Proposals for
Reform, 70 Mich. L. Rev. 3, 8–9 (1971) (hereinafter Plumb).
18
terests (including, for instance, judgment
liens, mechanic’s liens, and attorneys’
hens) in many different types of property
(including, for example, real property, securities, and motor vehicles). See 26
U.S.C. §6323. Indeed, given our unambiguous determination that the federal interest in the collection of taxes is paramount to its interest in enforcing other
claims, see United States v. Kimbell
Foods, Inc., 440 U. S., at 733–735, it
would be anomalous to conclude that
Congress intended the priority statute to
impose greater burdens on the citizen than
those specifically crafted for tax collection purposes.
Even before the 1966 amendments to
the Tax Lien Act, this Court assumed that
the more recent and specific provisions of
that Act would apply were they to conflict
with the older priority statute. In the
Gilbert Associates case, which concerned
the relative priority of the Federal Government and a New Hampshire town to
funds of an insolvent taxpayer, the Court
first considered whether the town could
qualify as a “judgment creditor” entitled
to preference under the Tax Lien Act. 345
U.S., at 363–364. Only after deciding
that question in the negative did the Court
conclude that the United States obtained
preference by operation of the priority
statute. Id., at 365–366. The Government
would now portray Gilbert Associates as
a deviation from two other relatively recent opinions in which the Court held that
the priority statute was not trumped by
provisions of other statutes: United States
v. Emory, 314 U. S., at 429–433 (the National Housing Act), and United States v.
Key, 397 U. S., at 324–333 (Chapter X of
the Bankruptcy Act). In each of those
cases, however, there was no “plain inconsistency” between the commands of
the priority statute and the other federal
act, nor was there reason to believe that
application of the priority statute would
frustrate Congress’ intent. Id., at 329.
The same cannot be said in the present
suit.
The Government emphasizes that when
Congress amended the Tax Lien Act in
1966, it declined to enact the American
Bar Association’s proposal to modify the
federal priority statute, and Congress
again failed to enact a similar proposal in
1970. Both proposals would have expressly provided that the Government’s
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priority in insolvency does not displace
valid liens and security interests, and
therefore would have harmonized the priority statute with the Tax Lien Act. See
Hearings on H. R. 11256 and 11290 before the House Committee on Ways and
Means, 89th Cong., 2d Sess., 197 (1966)
(hereinafter Hearings); S. 2197, 92d
Cong., lst Sess. (1971). But both proposals also would have significantly changed
the priority statute in many other respects
to follow the priority scheme created by
the bankruptcy laws. See Hearings, at 85,
198; Plumb 10, n. 53, 33–37. The earlier
proposal may have failed because its
wide-ranging subject matter was beyond
the House Ways and Means Committee’s
jurisdiction. Plumb 8. The failure of the
1970 proposal in the Senate Judiciary
Committee—explained by no reports or
hearings—might merely reflect disagreement with the broad changes to the priority statute, or an assumption that the proposal was not needed because, as Justice
Story had believed, the priority statute
does not apply to prior perfected security
interests, or any number of other views.
Thus, the Committees’ failures to report
the proposals to the entire Congress do
not necessarily indicate that any legislator
thought that the priority statute should supersede the Tax Lien Act in the adjudication of federal tax claims. They provide
no support for the hypothesis that both
Houses of Congress silently endorsed that
position.
The actual measures taken by Congress
provide a superior insight regarding its intent. As we have noted, the 1966 amendments to the Tax Lien Act bespeak a
strong condemnation of secret liens,
which unfairly defeat the expectations of
innocent creditors and frustrate “the needs
of our citizens for certainty and convenience in the legal rules governing their
commercial dealings.” 112 Cong. Rec.
22227 (1966) (remarks of Rep. Byrnes);
cf. United States v. Speers, 382 U.S. 266,
275 (1965) (referring to the “general policy against secret liens”). These policy
concerns shed light on how Congress
would want the conflicting statutory provisions to be harmonized:
“Liens may be a dry-as-dust part of
the law, but they are not without significance in an industrial and commercial community where construction and credit are thought to have
1998–36 I.R.B.
importance. One does not readily
impute to Congress the intention that
many common commercial liens
should be congenitally unstable.” E.
Brown, The Supreme Court, 1957
Term—Foreword: Process of Law,
72 Harv. L. Rev. 77, 87 (1958)
(footnote omitted).
In sum, nothing in the text or the long
history of interpreting the federal priority
statute justifies the conclusion that it authorizes the equivalent of a secret hen as a
substitute for the expressly authorized tax
lien that Congress has said “shall not be
valid” in a case of this kind.
The judgment of the Pennsylvania
Supreme Court is affirmed.
It is so ordered.
JUSTICE SCALIA concurring in part and
concurring in the judgment.
I join the opinion of the Court except
that portion which takes seriously, and
thus encourages in the future, an argument that should be laughed out of court.
The Government contended that 31 U. S.
C. §3713(a) must have priority over the
Federal Tax Lien Act of 1966, because in
1966 and again in 1970 Congress “failed
to enact” a proposal put forward by the
American Bar Association that would
have subordinated §3713(a) to the Tax
lien Act, citing hearings before the House
Committee on Ways and Means, and a bill
proposed in, but not passed by, the Senate. See Brief for United States 25–27,
and n. 10 (citing American Bar Association, Final Report of the Committee on
Federal Liens 7, 122–124 (1959), contained in Hearings on H. R. 11256 and
11290 before the House Committee on
Ways and Means, 89th Cong., 2d Sess.,
85, 199 (1966); S. 2197, 92d Cong., lst
Sess. (1971)). The Court responds that
these rejected proposals “provide no support for the hypothesis that both Houses
of Congress silently endorsed” the supremacy of §3713, ante, at 16, because
those proposals contained other provisions as well, and might have been rejected because of those other provisions,
or because Congress thought the existing
law already made §3713 supreme. This
implies that, if the proposals had not contained those additional features, or if
Members of Congress (or some part of
them) had somehow made clear in the
19
course of rejecting them that they wanted
the existing supremacy of the Tax Lien
Act to subsist, the rejection would “provide support” for the Government’s case.
That is not so, for several reasons. First
and most obviously, Congress can notexpress its will by a failure to legislate.
The act of refusing to enact a law (if that
can be called an act) has utterly no legal
effect, and thus has utterly no place in a
serious discussion of the law. The Constitution sets forth the only manner in which
the Members of Congress have the power
to impose their will upon the country: by
a bill that passes both Houses and is either
signed by the President or repassed by a
supermajority after his veto. Art. 1, §7.
Everything else the Members of Congress
do is either prelude or internal organization. Congress can no more express its
will by not legislating than an individual
Member can express his will by not voting.
Second, even if Congress could express
its will by not legislating, the will of a
later Congress that a law enacted by an
earlier Congress should bear a particular
meaning is of no effect whatever. The
Constitution puts Congress in the business of writing new laws, not interpreting
old ones. “[L]ater-enacted lows . . . do
not declare the meaning of earlier law.”
Almendarez-Torres v. United States, 523
(1998) (slip op., at 12); id.,
U. S.
(SCALIA, J., dissenting) (“This later
at
amendment can of course not cause [the
statute] to have meant, at the time of petitioner’s conviction, something different
from what it then said”) (slip op., at 23).
If the enacted intent of a later Congress
cannot change the meaning of an earlier
statute, then it should go without saying
that the later unenacted intent cannot possibly do so. It should go without saying,
and it should go without arguing as well.
I have in the past been critical of the
Court’s using the so-called legislative history of an enactment (hearings, committee reports, and floor debates) to determine its meaning. See, e.g., Conroy v.
Aniskoff, 507 U. S. 511, 518–529 (1993)
(SCAUA, J., concurring in judgment);
United States v. Thompson/Center Arms
Co., 504 U. S. 505, 521 (1992) (SCALIA,
J., concurring in judgment); Blanchard v.
Bergeron, 489 U. S. 87, 98–100 (1989)
(SCALIA, J., concurring in part and concurring in judgment). Today, however,
September 8, 1998
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the Court’s fascination with the files of
Congress (we must consult them, because
they are there) is carried to a new silly extreme. Today’s opinion ever-so-carefully
analyzes, not legislative history, but the
history of legislation-that never-was. If
we take this sort of material seriously, we
require conscientious counsel to investigate (at clients’ expense) not only the
hearings, committee reports, and floor debates pertaining to the history of the law
September 8, 1998
at issue (which is bad enough), but to
find, and then investigate the hearings,
committee reports, and floor debates pertaining to, later bills on the same subject
that were never enacted. This is beyond
all reason, and we should say so.
term, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
Section 7520.—Valuation Tables
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of September 1998. See Rev. Rul. 98–43, page 9.
The adjusted applicable federal short-term, mid-
20
Section 7872.—Treatment of
Loans with Below-Market
Interest Rates
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Part III. Administrative, Procedural, and Miscellaneous
Returns Relating to Higher
Education Tuition and Related
Expenses
Notice 98–46
PURPOSE
This notice provides that the Internal
Revenue Service and the Treasury Department are extending the application of Notice 97–73, 1997–51 I.R.B. 16, to information reporting required under § 6050S of
the Internal Revenue Code for 1999.
BACKGROUND
Section 6050S, enacted by the Taxpayer Relief Act of 1997, Pub. L. No.
105–34, § 201(c), 111 Stat. 804, requires
the filing of information returns to assist
taxpayers and the Service in determining
the Hope Scholarship credit and the Lifetime Learning credit that taxpayers may
claim pursuant to § 25A of the Code.
Section 6050S requires that institutions
file the specified information returns with
the Service and provide a corresponding
statement to the individuals named on the
information return showing the information that has been reported.
The requirements of § 6050S are generally described in Notice 97–73, along
with specific information reporting requirements for 1998. However, as a result of amendments to § 6050S made by
the Internal Revenue Service Restructuring and Reform Act of 1998, Pub. L. No.
105–206, 112 Stat. 685, certain information reporting requirements under
§ 6050S have been clarified or changed.
First, the amendments clarify that
§ 6050S requires institutions to report the
aggregate amount of payments made with
respect to each student for qualified tuition and related expenses without any
amounts being subtracted for qualified
scholarships or other tax-free educational
assistance received with respect to the
student. Further, § 6050S(b)(2)(C), as
amended, specifically requires that the
amount of any grant received by the student for payment of costs of attendance
and processed by the institution making
the information return be reported as a
separate item. Section 6050S(b)(2)(C)
was also amended to clarify that an insti-
1998–36 I.R.B.
tution must report only the aggregate
amount of reimbursements and refunds of
qualified tuition and related expenses paid
to a student by the institution (and not by
any other party). Finally, § 6050S(a) was
amended to clarify that only eligible educational institutions and persons engaged
in a trade or business of making payments
to individuals under insurance arrangements are required to report information
under § 6050S. In all other respects, the
requirements of § 6050S remain the same
as described in Notice 97–73.
The Treasury Department intends to
issue regulations soon on the information
reporting requirements of § 6050S. In
light of the recent statutory changes and
legislative history prepared in connection
with those changes indicating Congress’s
intent that Notice 97–73 remain in effect
until the regulations are issued, the Service is extending the application of Notice
97-73 for an additional year, i.e., to information reporting required under § 6050S
for 1999.
DISCUSSION
For 1999, eligible educational institutions must follow the rules provided in
Notice 97–73 for reporting information
required under § 6050S. For example, an
eligible educational institution that receives payments of qualified tuition and
related expenses in 1999 must file a Form
1098-T, Tuition Payments, that includes
the same information that was required by
Notice 97–73 for 1998. The Forms 1098–
T must be filed with the Service by February 28, 2000, if filed on paper or by magnetic media, or by March 31, 2000, if
filed electronically. A statement containing the same information as the Form
1098-T filed with the Service must be furnished to the student by January 31, 2000.
Similarly, Notice 97–73 applies for 1999
with respect to how penalties will be administered under §§ 6721 and 6722 for information returns required under § 6050S.
EFFECT ON OTHER DOCUMENTS
Notice 97–73 is modified.
DRAFTING INFORMATION
The principal author of this notice is
John J. McGreevy of the Office of the As-
21
sistant Chief Counsel (Income Tax and
Accounting). For further information regarding this notice contact him on (202)
622-4910 (not a toll-free call).
26 CFR 1.472–2: Requirements incident to
adoption and use of LIFO inventory method.
(Also Part I, § 472; § 1.472–1.)
Rev. Proc. 98–46
SECTION 1. PURPOSE
.01 This revenue procedure modifies
Rev. Proc. 97–44, 1997–41 I.R.B. 8,
which provides relief for automobile and
light-duty truck dealers that elected the
last-in, first-out (LIFO) inventory method
and violated the LIFO conformity requirement of § 472(c) or (e)(2) of the Internal Revenue Code by providing, for
credit purposes, an income statement prepared in a format required by the franchisor or on a pre-printed form supplied
by the franchisor (an automobile manufacturer), covering any taxable year ended
on or before October 14, 1997, that fails
to reflect the LIFO inventory method.
.02 Rev. Proc. 97–44 is modified to extend the relief provided in that revenue
procedure to medium- and heavy-duty
truck dealers that comply with Rev. Proc.
97–44 as modified herein. In addition,
Rev. Proc. 97–44 is modified to extend the
due dates for medium- and heavy-duty
truck dealers to make installment payments of the settlement amount computed
in accordance with that revenue procedure.
SECTION 2. MODIFICATIONS
.01 Section 1 of Rev. Proc. 97–44 is
modified by adding the words “and truck”
after the word “automobile” in the first
and third sentences, and by adding the
words “or truck” after the word “automobile” in the parenthetical phrase in the
first sentence.
.02 Section 3 of Rev. Proc. 97–44 is
modified by replacing the words “lightduty” with the words “light-, medium-, or
heavy-duty” in the first sentence and by
adding the words “or truck” after the
word “automobile” in the parenthetical
phrase in the first sentence.
.03 Section 5.02(2) of Rev. Proc. 97–44
is modified by replacing the words “light-
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Page 22
duty” with the words “light-, medium-,
and heavy-duty” in the second sentence.
.04 Section 5.03(1) of Rev. Proc. 97–44
is modified by replacing the second sentence with the following two sentences:
Except as provided in section
5.03(2) or (3) of this revenue procedure, the first installment and the
memorandum described in section
5.04 of this revenue procedure are
due on or before May 31, 1998, in
the case of inventory related to the
purchase, sale, and service of automobiles or light-duty trucks. Except
as provided in section 5.03(2) or (3)
of this revenue procedure, the first
installment and the memorandum
described in section 5.04 of this revenue procedure are due on or before
January 31, 1999, in the of case inventory related to the purchase, sale,
and service of medium- or heavyduty trucks.
.05 Section 5.03(2) of Rev. Proc. 97–44
is modified by replacing section 5.03(2)
with the following paragraph:
(2) Taxpayers under examination,
before appeals, or before a federal
court. If any federal income tax return of a taxpayer is under examination, before an appeals office, or before a federal court on October 14,
1997, the first installment of the settlement amount and the memorandum described in section 5.04 of this
revenue procedure with respect to inventory related to the purchase, sale,
and service of automobiles and lightduty trucks are due on or before December 1, 1997. Such a taxpayer
must notify the examining agent(s),
September 8, 1998
appeals officer, or the counsel for the
government, whichever is applicable, in writing on or before December 15, 1997, that it has applied for
relief under this revenue procedure.
If any federal income tax return of a
taxpayer is under examination, before an appeals office, or before a
federal court on September 8, 1998,
the first installment of the settlement
amount and the memorandum described in section 5.04 of this revenue procedure with respect to inventory related to the purchase, sale,
and service of medium- and heavyduty trucks are due on or before December 1, 1998. Such a taxpayer
must notify the examining agent(s),
appeals officer, or the counsel for the
government, whichever is applicable, in writing on or before December 15, 1998, that it has applied for
relief under this revenue procedure.
For these purposes, the terms “under
examination,” “before an appeals office,” and “before a federal court”
have the same meaning as provided
in Rev. Proc. 97–27, 1997–21
I.R.B. 10. Evidence that the first installment has been paid and a copy
of the memorandum described in
section 5.04 of this revenue procedure must be provided as part of this
written notification.
.06 Section 5.03(3) of Rev. Proc. 97–44
is modified by replacing section 5.03(3)
with the following paragraph:
(3) Option to pay settlement
amount in one installment. A taxpayer may elect to pay the entire settlement amount in one installment.
22
If a taxpayer makes this election, the
entire settlement amount and the
original memorandum described in
section 5.04 of this revenue procedure with respect to inventory related to the purchase, sale, and service of automobiles and light-duty
trucks are due on or before May 31,
1998, or, if any federal income tax
return of such taxpayer is under examination, before an appeals office,
or before a federal court, on or before December 1, 1997. The entire
settlement amount and the original
memorandum described in section
5.04 of this revenue procedure with
respect to inventory related to the
purchase, sale, and service of
medium- and heavy-duty trucks are
due on or before January 31, 1999,
or, if any federal income tax return
of such taxpayer is under examination, before an appeals office, or before a federal court, on or before December 1, 1998.
.07 Section 7.02 of Rev. Proc. 97–44 is
modified by deleting the words “lightduty” in the first sentence.
.08 Section 9 of Rev. Proc. 97–44 is
modified by adding the words “or trucks”
after the word “automobiles” in the third
sentence of the third paragraph.
DRAFTING INFORMATION
The principal author of this revenue
procedure is Jeffery G. Mitchell of the Office of Assistant Chief Counsel (Income
Tax & Accounting). For further information regarding this revenue procedure,
contact Mr. Mitchell on (202) 622-4970
(not a toll-free call).
1998–36 I.R.B.
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Page 23
Part IV. Items of General Interest
Notice of Proposed Rulemaking
and Notice of Public Hearing
Termination of Puerto Rico and
Possession Tax Credit; New
Lines of Business Prohibited
REG–115446–97
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemaking by cross-reference to temporary regulations and notice of public hearing.
SUMMARY: In T.D. 8778 on page 4, the
IRS is issuing temporary regulations that
provide guidance regarding the addition
of a substantial new line of business by a
possessions corporation that is an existing
credit claimant. These regulations reflect
changes made by the Small Business Job
Protection Act of 1996. The text of those
temporary regulations also serves as the
text of these proposed regulations. This
document also provides notice of a public
hearing on these proposed regulations.
DATES: Written comments must be received by November 17, 1998. Requests
to speak and outlines of topics to be discussed at the public hearing scheduled for
Tuesday, December 1, 1998, at 10 a.m.
must be received by Tuesday, November
10, 1998.
ADDRESSES: Send submissions to:
CC:DOM:CORP:R (REG–115446–97),
room 5226, Internal Revenue Service,
POB 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be
hand delivered between the hours of 8 a.m.
and 5 p.m. to: CC:DOM:CORP:R (REG–
115446–97), Courier’s Desk, Internal Revenue Service, 1111 Constitution Avenue,
NW, Washington, DC. Alternatively, taxpayers may submit comments electronically via the Internet by selecting the “Tax
Regs” option on the IRS Home Page, or by
submitting comments directly to the IRS
Internet site at http://www.irs.ustreas.
gov/prod/tax_regs/comments.html. The
public hearing will be held in room 2615,
Internal Revenue Building, 1111 Constitution Avenue, NW, Washington, DC.
FOR FURTHER INFORMATION CONTACT: Concerning the regulations, Patri-
1998–36 I.R.B.
cia A. Bray or Elizabeth Beck, (202) 6223880 or Jacob Feldman, (202) 622-3830;
concerning submissions and the hearing,
Michael Slaughter, (202) 622-7180 (not
toll-free numbers).
SUPPLEMENTARY INFORMATION:
Background
Temporary Regulations in T.D. 8778
amend Income Tax Regulations (26 CFR
Part 1) relating to section 936. Section
1.936–11T, published in T.D. 8778, provides guidance to possessions corporations that could lose their status as an existing credit claimant, and, as a result,
their right to claim the possession tax
credit, due to the addition of a substantial
new line of business.
The text of those temporary regulations
also serves as the text of these proposed
regulations. The preamble to the temporary regulations explains the temporary
regulations.
Special Analysis
It has been determined that this notice
of proposed rulemaking is not a significant regulatory action as defined in Executive Order 12866. Therefore, a regulatory assessment is not required. It also
has been determined that section 553(b)
of the Administrative Procedure Act (5
U.S.C. chapter 5) does not apply to these
regulations, and because the regulations
do not impose a collection of information
on small entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not
apply. Pursuant to section 7805(f) of the
Internal Revenue Code, this notice of proposed rulemaking will be submitted to the
Chief Counsel for Advocacy of the Small
Business Administration for comment on
its impact on small business.
Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, consideration will be given to any written comments (a signed original and eight (8)
copies) that are submitted timely to the
IRS. All comments will be made available for public inspection and copying.
A public hearing has been scheduled
for December 1, 1998, at 10 a.m., in room
23
2615, Internal Revenue Building, 1111
Constitution Ave., NW, Washington, DC.
Because of access restrictions, visitors
will not be admitted beyond the Internal
Revenue Building lobby more than 15
minutes before the hearing starts.
The rules of 26 CFR 601.601(a)(3)
apply to this hearing.
Persons who wish to present oral comments at the hearing must submit written
comments and an outline of the topic
(preferably a signed original and eight (8)
copies) to be discussed by November 10,
1998.
A period of 10 minutes will be allotted
to each person for making comments.
An agenda showing the scheduling of
the speakers will be prepared after the
deadline for receiving outlines has
passed. Copies of the agenda will be
available free of charge at the hearing.
Drafting Information
The principal author of these regulations
is Patricia A. Bray of the Office of the Associate Chief Counsel (International).
Other personnel from the IRS and the Department of the Treasury participated in the
development of these regulations.
* * * * *
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is proposed to be amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by adding an entry in
numerical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.936–11 also issued under 26
U.S.C. 936. * * *
Par. 2. Section 1.936–11 is added to
read as follows:
§1.936–11 New lines of business
prohibited.
[The text of this proposed section is the
same as the text of §1.936–11T published
in T.D. 8778.]
Michael P. Dolan,
Deputy Commissioner of
Internal Revenue.
September 8, 1998
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Page 24
(Filed by the Office of the Federal Register on
August 18, 1998, 8:45 a.m., and published in the
issue of the Federal Register for August 19, 1998, 63
F.R. 44416)
The public hearing will be held in room
2615, Internal Revenue Building, 1111
Constitution Avenue, NW, Washington,
DC.
Notice of Proposed Rulemaking
and Notice of Public Hearing
FOR FURTHER INFORMATION CONTACT: Concerning the regulations under
section 1366, Deane M. Burke or Terri A.
Belanger, (202) 622-3070; concerning the
regulations under sections 1367 and 1368,
Brenda Stewart, (202) 622-3120; concerning submissions and the hearing,
Michael Slaughter, (202) 622-7180 (not
toll-free numbers).
Pass Through of Items of an S
Corporation to its Shareholders
REG–209446–82
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemaking and notice of public hearing.
SUMMARY: This document contains proposed regulations relating to the pass
through of items of an S corporation to its
shareholders, the adjustments to the basis
of stock of the shareholders, and the treatment of distributions by an S corporation.
Changes to the applicable law were made
by the Subchapter S Revision Act of 1982,
the Tax Reform Act of 1984, the Tax Reform Act of 1986, the Technical and Miscellaneous Revenue Act of 1988, and the
Small Business Job Protection Act of 1996.
These proposed regulations provide the
public with guidance needed to comply
with the applicable law and will affect S
corporations and their shareholders. This
document also contains a notice of public
hearing on these proposed regulations.
DATES: Written comments must be received by November 16, 1998. Outlines
of topics to be discussed at the public
hearing scheduled for Tuesday, December
15, 1998, at 10 a.m. must be received by
Tuesday, November 24, 1998.
ADDRESSES: Send submissions to:
CC:DOM:CORP:R (REG–209446–82),
room 5226, Internal Revenue Service,
POB 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be
hand delivered between the hours of 8
a.m. and 5 p.m. to: CC:DOM:CORP:R
(REG–209446–82), Courier’s Desk, Internal Revenue Service, 1111 Constitution
Avenue, NW, Washington, DC. Alternatively, taxpayers may submit comments
electronically via the Internet by selecting
the “Tax Regs” option on the IRS Home
Page, or by submitting comments directly
to the IRS Internet site at http://www.irs.
ustreas.gov/prod/tax_regs/comments.html.
September 8, 1998
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information contained
in this notice of proposed rulemaking has
been submitted to the Office of Management and Budget for review in accordance with the Paperwork Reduction Act
of 1995 (44 U.S.C. 3507(d)). Comments
on the collection of information should be
sent 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, with copies to the
Internal Revenue Service, Attn: IRS Reports Clearance Officer, OP:FS:FP, Washington, DC 20224. Comments on the collection of information should be received
by October 19, 1998. Comments are
specifically requested concerning:
Whether the proposed collection of information is necessary for the proper performance of the functions of the Internal
Revenue Service, including whether the
information will have practical utility;
The accuracy of the estimated burden
associated with the proposed collection of
information (see below);
How the quality, utility, and clarity of
the information to be collected may be enhanced;
How the burden of complying with the
proposed collection of information may
be minimized, including through the application of automated collection techniques or other forms of information technology; and
Estimates of capital or start-up cost and
costs of operation, maintenance, and purchase of service to provide information.
The collection of information in this
proposed regulation is in §1.1366–1. This
24
information is required in order for a
shareholder in an S corporation to properly compute its tax liability. This information will be used to determine whether
the amount of tax has been computed correctly. Responses to this collection of information are mandatory for shareholders
in S corporations. The likely respondents
are individuals and businesses or other
for-profit institutions.
The reporting burden contained in
§1.1366–1 is reflected in the burden of
Form 1040, U.S. Individual Income Tax
Return, and Form 1120S, U.S. Income
Tax Return for an S Corporation.
Newly designated §1.1367–1(g) does
not impose a new collection of information. The election in newly designated
§1.1367–1(g), previously contained in
§1.1367–1(f), was approved by OMB
under OMB Control Number 1545–1139.
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.
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
This document contains proposed
amendments to the Income Tax Regulations (26 CFR part 1) under sections
1366, 1367, and 1368 of the Internal Revenue Code of 1986 (Code). Sections
1366, 1367, and 1368 were added by the
Subchapter S Revision Act of 1982 (1982
Act) (Public Law 97–354, 96 Stat. 1669,
1697). Section 1366 was amended by the
Tax Reform Act of 1984 (Public Law 98–
369, 98 Stat. 844, 985), the Tax Reform
Act of 1986 (Public Law 99-514, 100
Stat. 2085, 2277, 2343), the Technical and
Miscellaneous Revenue Act of 1988
(Public Law 100–647, 102 Stat. 3406),
and the Small Business Job Protection Act
of 1996 (1996 Act) (Public Law 104–188,
110 Stat. 1755).
Sections 1367 and 1368 were amended
by the Technical Corrections Act of 1982
(Public Law 97–448, 96 Stat. 2365,
2399–2400), the Tax Reform Act of 1984
(Public Law 98–369), and the Tax Reform
1998–36 I.R.B.
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Page 25
Act of 1986 (Public Law 99–514). Final
regulations conforming the regulations to
these amendments were published in the
Federal Register on January 3, 1994. The
proposed amendments would conform the
regulations to amendments made to sections 1367 and 1368 by the 1996 Act.
Explanation of Provisions
Determination of Shareholder’s Tax
Liability
Under section 1363, an S corporation
generally computes its taxable income in
the same manner as an individual, subject
to certain modifications. Thus, for example, an S corporation is not entitled to a
dividends received deduction under section 243.
Section 1366(a)(1) and the proposed
regulations provide rules under which a
shareholder of an S corporation takes into
account the shareholder’s pro rata share,
as defined under section 1377, of the corporation’s items of income, loss, deduction, or credit. A shareholder’s share of
these items is determined for the shareholder’s taxable year in which the taxable
year of the S corporation ends. If a shareholder dies before the end of the corporation’s taxable year, the shareholder’s pro
rata share of these items is taken into account in the shareholder’s final tax return.
If a shareholder is an estate or trust, and
the estate or trust terminates before the
end of the corporation’s taxable year, the
shareholder’s pro rata share of these items
is taken into account in the shareholder’s
final tax return.
In the case of most items that must be
separately stated by an S corporation, the
provisions by which an S corporation accounts to its shareholders for tax purposes
under section 1366 closely parallel the
provisions for a partnership accounting to
its partners under section 702. The proposed regulations provide rules outlining
this general pass-through scheme for S
corporations to their shareholders.
Under section 1366(a)(1)(A), an S corporation’s items of income, loss, deduction, and credit must be separately stated
if their separate treatment on any shareholder’s income tax return could affect
the shareholder’s tax liability. These separately stated items include, but are not
limited to, short-term and long-term capital gain or loss, other items that may be
1998–36 I.R.B.
relevant to the shareholder in the computation of the shareholder’s tax liability resulting from the sale or exchange of capital assets or assets described in section
1231(b), tax-exempt income, section
170(c) charitable contributions, certain
foreign taxes, items used in determining
certain credits, certain itemized deductions, items of portfolio income or loss
and related expenses under section 469,
and the corporation’s adjustments in computing alternative minimum tax under
sections 56 and 58 and any items of tax
preference under section 57. All items of
income, loss, and deduction that are not
separately stated must be combined to
compute the nonseparately computed income or loss of the S corporation under
section 1366(a)(1)(B).
Identification of Tax-exempt Income
The proposed regulations define taxexempt income as income that is permanently excludible from the gross income
of an S corporation and its shareholders in
all circumstances in which the relevant
Code section applies. For example, taxexempt income includes proceeds of life
insurance contracts that are payable by
reason of an individual’s death and that
are excludible from gross income under
section 101, and interest on state and local
bonds that is excludible from gross income under section 103.
However, income that is excludible
from gross income pursuant to a provision of the Code that might have the effect of deferring income to the S corporation or its shareholders is not tax-exempt
income. For example, income from improvements by a lessee on a lessor’s
property that is excludible from gross income under section 109 is not tax-exempt
income because, for example, the lessor
would recognize the value of the improvements as income when the property
is sold by the lessor. Similarly, income
from the discharge of indebtedness that is
excludible from gross income under section 108 does not constitute tax-exempt
income because the attribute reduction
provisions of section 108(b) have the effect of deferring the recognition of such
income in some circumstances while permanently excluding it, in whole or in part,
in other circumstances.
Treasury and the IRS believe that Congress intended that section 108 would
25
allow taxpayers to avoid the immediate
adverse tax consequences that could otherwise result from the inclusion of income
from discharge of indebtedness. The deferral of income excluded under section
108(a)(1) by reducing the basis of property or other tax attributes is one method
of achieving this purpose. For example,
the legislative history of section
108(a)(1)(D) provides that the exclusion
from gross income for discharge of qualified real property business indebtedness
income simply defers income to the
shareholders of an S corporation and does
not result in an adjustment to the basis of
the stock of the corporation. See H.R.
Rep. No. 111, 103d Cong., 1st Sess. 625
(1993); H.R. Conf. Rep. No. 213, 103d
Cong., 1st Sess. 555 (1993).
Other specific rules apply to the discharge of indebtedness of an S corporation. See section 108(d)(7). The legislative history of section 108(d)(7)(A)
provides that in order to treat all shareholders in the same manner, the exclusion
of income arising from discharge of indebtedness and the corresponding reductions in tax attributes (including losses
that are not allowed by reason of any
shareholder’s basis limitation) are made
at the corporate level. See H.R. Rep. No.
432, 98th Cong., 2d Sess., pt. 2, 1640–41
(1984). Furthermore, the legislative history of section 108 indicates that any cancellation of indebtedness income remaining after the reduction of the S
corporation’s tax attributes does not result
in income or have other tax consequences. See S. Rep. No. 1035, 96th
Cong., 2d Sess. 2 (1980). Thus, the absence of a stock basis increase for income
of an S corporation excluded under section 108(a) is consistent with the legislative history of section 108 (and its purpose to avoid the immediate adverse tax
consequences that could otherwise result
from the inclusion of income from discharge of indebtedness) and the specific
rules that apply to the discharge of indebtedness income of S corporations.
Finally, even though a partner is entitled to an increase in the basis of the partner’s interest for income from discharge
of indebtedness of a partnership that is excluded under section 108(a), a shareholder of an S corporation is not entitled
to an increase in stock basis under similar
circumstances. This difference is appro-
September 8, 1998
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Page 26
priate because the principal provisions of
section 108 are applied at the corporate
level in the case of an S corporation but at
the partner level in the case of a partnership. See section 108(d)(6). A basis increase in the partner’s interest in the partnership is necessary in order to apply
these provisions at the partner level because, for example, the income may properly be excluded by some partners and included by others, and in order to offset the
basis reduction that will occur under section 752(b) as the result of the deemed
distribution arising out of the decrease in
the partner’s share of partnership liabilities. These considerations are not present
in the case of an S corporation.
Accordingly, Treasury and the IRS believe that income excluded by an S corporation pursuant to section 108 is not taxexempt income for purposes of section
1366 whether or not the application of
section 108 in a particular circumstance
results in the permanent exclusion, in
whole or in part, of income. See also Nelson v. Commissioner, 110 T.C. 114
(1998).
Pass Through of Character and Gross
Income
Consistent with the adoption of parallel
operational rules between sections 702
and 1366, the items of an S corporation
are generally characterized in the same
manner that partnership items are characterized. The partnership rules provide
that the character of a partnership item reported by a partner is generally determined at the entity level under a conduit
rule. The proposed regulations provide a
similar conduit rule under which the character of a corporate item that is passed
through to and reported by a shareholder
is generally determined at the corporate
level. However, exceptions to the general
rule apply for contributions of either noncapital gain property or capital loss property if an S corporation is formed or
availed of by any shareholder or shareholders for a principal purpose of selling
or exchanging the property to alter the
character of the gain or loss. The character of the gain or loss will be the same as
it would have been if the property were in
the hands of the shareholder or shareholders at the time of the sale or exchange.
Section 1366(c), like section 702(c),
provides for the pass through of gross in-
September 8, 1998
come to a shareholder for federal income
tax purposes. Thus, where it is necessary
to determine the amount or character of
the gross income of a shareholder, the
shareholder’s gross income includes the
shareholder’s pro rata share of the gross
income of the S corporation. This amount
is the amount of gross income of the corporation used to derive the shareholder’s
pro rata share of S corporation taxable income or loss. See Rev. Rul. 87–121
(1987–2 C.B. 217).
Limitation on Losses and Deductions
In general, section 1366(d)(1) and the
proposed regulations provide that the
amount of losses and deductions taken
into account by a shareholder for any taxable year may not exceed the sum of the
shareholder’s adjusted bases in the stock
of the S corporation and in any indebtedness of the S corporation to the shareholder. Moreover, any loss or deduction
for the taxable year not taken into account
by a shareholder by reason of the basis
limitation rule is treated under section
1366(d)(2) and the proposed regulations
as incurred by the corporation with respect to that shareholder in the corporation’s first succeeding taxable year, and
subsequent taxable years. For purposes
of the basis limitation rule in section
1366(d), the basis of stock acquired by
gift is the basis of the stock for determining loss under section 1015. The basis
rules under section 1015 operate to minimize the loss recognized by a donee upon
the sale or exchange of the loss stock acquired by gift. Therefore, the basis limitation rule limits a donee shareholder’s
pass-through items of loss or deduction to
the basis used for determining loss upon
the sale or exchange of the stock acquired
by gift.
The proposed regulations provide that
if a shareholder’s aggregate pro rata share
of the items of loss and deduction exceeds
the sum of the shareholder’s adjusted
bases in stock and debt, the limitation on
losses and deductions must be allocated
among the shareholder’s pro rata share of
each loss or deduction. This allocation is
determined by taking the proportion that
each loss or deduction bears to the total of
all losses and deductions, including those
previously disallowed.
Also under the proposed regulations, a
shareholder’s disallowed losses and de-
26
ductions are personal to that shareholder
and cannot be transferred. Moreover, if a
shareholder transfers all of the shareholder’s stock in an S corporation, any
disallowed loss or deduction is permanently disallowed.
The proposed regulations provide special rules for a shareholder to carry over
disallowed losses and deductions to any
post-termination transition period. Those
special rules generally follow the limitation rules provided in the proposed regulations for years in which the S corporation election is in effect, except that the
amount of losses and deductions that may
be taken into account is limited to the adjusted basis of the shareholder’s stock
(rather than stock and debt) in the corporation determined at the close of the posttermination transition period. See section
1366(d)(3)(B).
Finally, the proposed regulations provide rules regarding the carryover of disallowed losses and deductions in the
event of certain corporate reorganizations.
If a corporation acquires, in a transaction
to which section 381(a) applies, the assets
of another S corporation for which disallowed losses and deductions would carry
over with respect to a shareholder under
section 1366(d)(2), except for the reorganization, the losses and deductions will be
available to that shareholder. Where the
acquiring corporation is an S corporation,
the losses and deductions will be treated
as incurred by the acquiring S corporation
with respect to that shareholder. Where
the acquiring corporation is a C corporation, the proposed regulations provide
special rules for a shareholder to carry
over disallowed losses and deductions to
any post-termination transition period
under section 1377 if the shareholder is a
shareholder of the C corporation after the
transaction.
In the case of an S corporation that
transfers a part of its assets constituting an
active trade or business to another corporation in a transaction to which section
368(a)(1)(D) applies, and immediately
thereafter the stock and securities of the
controlled corporation are distributed in a
distribution or exchange to which section
355 (or so much of section 356 as relates
to section 355) applies, any disallowed
loss or deduction with respect to a shareholder of the distributing corporation immediately before the transaction is allo-
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Page 27
cated between the distributing corporation
and the controlled corporation with respect to the shareholder. This allocation
is made in proportion to the fair market
value of the shareholder’s stock of the
distributing corporation and the shareholder’s stock of the controlled corporation, determined immediately after the
transaction.
Treatment of Family Group
In general, the proposed regulations
provide for the reallocation of items of the
corporation among family members under
certain conditions. Section 1366(e) requires a determination of whether an individual family member who renders services for or provides capital to the S
corporation has received reasonable compensation. The proposed regulations provide that in determining a reasonable allowance for services rendered for, or
capital furnished to, the S corporation, all
the facts and circumstances are considered, including the amount that ordinarily
would be paid in order to obtain comparable services or capital from a person who
is neither a member of that family nor a
shareholder in the corporation.
For purposes of section 1366(e), similar rules apply to services rendered, or
capital furnished, to an S corporation by a
pass-through entity in which a member of
a shareholder’s family holds an interest.
The proposed regulations provide that if
the pass-through entity does not receive
reasonable compensation for the services
rendered or capital furnished, the Commissioner may prescribe adjustments to
the pass-through entity and the corporation as necessary to reflect the value of
the services rendered or capital furnished.
Special Rules
Section 1366(f) and the proposed regulations provide special rules limiting the
pass through of certain items of an S corporation to its shareholders. Section
1366(f)(1) and the proposed regulations
provide that the pass-through rules under
section 1366(a) are inapplicable with respect to any credit allowable under section 34 (relating to certain uses of gasoline and special fuels). In addition,
section 1366(f)(2) and (3) and the proposed regulations provide for a reduction
in the pass through of items for tax im-
1998–36 I.R.B.
posed on an S corporation under section
1374 or section 1375.
Adjustments to Basis of Stock
Section 1367(a) and §1.1367–1 prescribe adjustments required by subchapter
S to the basis of a shareholder’s stock in
an S corporation and the manner in which
those adjustments are made. Section
1.1367–1 requires a shareholder in an S
corporation to adjust the basis of the
shareholder’s stock for items of income
and loss for any taxable year before adjusting the basis for distributions.
Section 1309 of the 1996 Act amended
section 1368 to require that in the case of
any distribution made during any taxable
year, the adjusted basis of the stock is determined with regard to the adjustments provided in section 1367(a)(1) for the taxable
year. Thus, the adjustments for distributions made by the S corporation during the
taxable year are taken into account before
applying the loss limitation for the year.
The proposed regulations amend
§1.1367–1 to provide that for taxable
years of the corporation beginning on or
after August 18, 1998, adjustments to the
basis of a share of stock are made in the
following order: (1) increases for income
items and the excess of deductions for depletion over the basis of the property subject to depletion; (2) decreases for distributions; (3) decreases for noncapital,
nondeductible expenses, and certain oil
and gas depletion deductions; and (4) decreases for items of loss or deduction.
Adjustments Required Before
Determining Tax Effect of Distribution
Section 1368 provides rules for determining the source of a distribution made
by an S corporation with respect to its
stock and the tax effect of the distribution
on the shareholders. Under §1.1368–1,
the determination whether a distribution
is made out of the accumulated adjustments account (AAA) or earnings and
profits is made only after the AAA has
been adjusted to reflect: (1) increases for
income items (other than income that is
exempt from tax) and the excess of the
deductions for depletion over the basis of
the property subject to depletion; (2) decreases for noncapital, nondeductible expenses (other than federal taxes attributable to any taxable year in which the
27
corporation was a C corporation and expenses related to income that is exempt
from tax); (3) decreases for certain oil and
gas depletion deductions; (4) decreases
for items of loss or deduction; and (5) the
effect of certain redemptions.
Consistent with the proposed amendments to §1.1367–1, the proposed regulations amend §1.1368–2 to provide that for
taxable years of the corporation beginning
on or after August 18, 1998, the adjustments to the AAA are made in the same
order as the adjustments to the basis of a
share of stock under §1.1367–1 of the
proposed regulations. For purposes of determining the amount of any distribution
made from the AAA, decreases to the
AAA to reflect distributions are made
without taking into account any net negative adjustments as defined in section
1368(e)(1)(C)(ii).
Section 1311(a) of the 1996 Act generally eliminated the S corporation earnings
and profits of a corporation accumulated
in those taxable years beginning before
January 1, 1983, for which the corporation was an electing small business corporation under the provisions of subchapter
S of the Code as then in effect, if the corporation was also an S corporation for its
first taxable year beginning after December 31, 1996. Several provisions of the
existing final regulations under subchapter S, which were adopted before the 1996
Act amendments, refer separately to S
corporation earnings and profits and C
corporation earnings and profits. See,
e.g., §1.1368–1(f)(2)(iii). Treasury and
the IRS specifically request comments on
the extent, if any, to which these regulations should be amended in view of the
general elimination of S corporation earnings and profits. Treasury and the IRS
also request comments on whether section
1311(a) of the 1996 Act applies to qualified casualty insurance electing small
business corporations and qualified oil
corporations, within the meaning of section 6(c) of the 1982 Act.
Proposed Effective Date
The regulations under section 1366 and
the amendments to the regulations under
sections 1367 and 1368 are proposed to
be effective for taxable years of the corporation beginning on or after August 18,
1998.
September 8, 1998
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Special Analyses
It has been determined that this notice
of proposed rulemaking is not a significant
regulatory action as defined in EO 12866.
Therefore, a regulatory assessment is not
required. It has also been determined that
section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does not
apply to these regulations. It is hereby certified that the collection of information in
these regulations will not have a significant economic impact on a substantial
number of small entities. This certification is based upon the fact that these regulations do not impose a collection of information that is not already required by the
underlying statute or the current regulations and reflected in the appropriate
forms. Therefore, a Regulatory Flexibility
Analysis under the Regulatory Flexibility
Act (5 U.S.C. chapter 6) is not required.
Pursuant to section 7805(f) of the Internal
Revenue Code, this notice of proposed
rulemaking will be submitted to the Chief
Counsel for Advocacy of the Small Business Administration for comment on its
impact on small business.
Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, consideration will be given to any written comments that are submitted timely (a signed
original and eight (8) copies) to the IRS.
All comments will be made available for
public inspection and copying.
A public hearing has been scheduled for
Tuesday, December 15, 1998, at 10 a.m. in
room 2615, Internal Revenue Building,
1111 Constitution Avenue NW, Washington, DC. Because of access restrictions,
visitors will not be admitted beyond the
Internal Revenue Building lobby more
than 15 minutes before the hearing starts.
The rules of 26 CFR 601.601(a)(3)
apply to the hearing.
Persons that wish to present oral comments at the hearing must submit written
comments (a signed original and eight (8)
copies) by November 16, 1998. The outline of topics to be discussed at the hearing must be received by Tuesday, November 24, 1998.
A period of 10 minutes will be allotted
for each person for making comments.
An agenda showing the scheduling of
the speakers will be prepared after the
September 8, 1998
deadline for receiving outlines has
passed. Copies of the agenda will be
available free of charge at the hearing.
Drafting Information
The principal authors of these proposed
regulations are Deane M. Burke, Terri A.
Belanger, and Brenda Stewart of the Office of Chief Counsel (Passthroughs and
Special Industries), Internal Revenue Service. However, other personnel from the
IRS and Treasury Department participated in their development.
* * * * *
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is proposed to be amended as follows:
(2) Gross income for substantial omission of items.
(d) Shareholders holding stock subject
to community property laws.
(e) Net operating loss deduction of
shareholder of S corporation.
(f) Cross-reference.
§1.1366–2 Limitations on deduction of
pass-through items of an S corporation to
its shareholders.
(a)
(1)
(2)
(3)
(i)
(ii)
(4)
PART 1—INCOME TAX
(5)
Paragraph 1. The authority citation for
part 1 continues to read in part:
Authority: 26 U.S.C. 7805 * * *
(6)
(b)
§§1.1366–1 and 1.1366–2 [Removed]
Par. 2. Sections 1.1366–1 and
1.1366–2 are removed.
Par. 3. Sections 1.1366–0 through
1.1366–5 are added to read as follows:
(1)
(2)
(3)
In general.
Limitation on losses and deductions.
Carryover of disallowance.
Basis limitation amount.
Stock portion.
Indebtedness portion.
Limitation on losses and deductions
allocated to each item.
Nontransferability of losses and deductions.
Basis of stock acquired by gift.
Special rules for carryover of disallowed losses and deductions to posttermination transition period described in section 1377(b).
In general.
Limitation on losses and deductions.
Limitation on losses and deductions
allocated to each item.
Adjustment to the basis of stock.
Carryover of disallowed losses and
deductions in the case of liquidations, reorganizations, and divisions.
Liquidations and reorganizations.
Corporate separations to which section 368(a)(1)(D) applies.
§1.1366–0 Table of contents.
(4)
(c)
The following table of contents is provided to facilitate the use of §§1.1366–1
through 1.1366–5:
(1)
(2)
§1.1366–1 Shareholder’s share of items
of an S corporation.
§1.1366–3 Treatment of family groups.
(a) Determination of shareholder’s tax
liability.
(1) In general.
(2) Separately stated items of income,
loss, deduction, or credit.
(3) Nonseparately computed income or
loss.
(4) Separate activities requirement.
(5) Aggregation of deductions or exclusions for purposes of limitations.
(b) Character of items constituting pro
rata share.
(1) In general.
(2) Exception for contribution of noncapital gain property.
(3) Exception for contribution of capital
loss property.
(c) Gross income of a shareholder.
(1) In general.
28
(a) In general.
(b) Examples.
§1.1366–4 Special rules limiting the
pass through of certain items of an S
corporation to its shareholders.
(a) Pass through inapplicable to section
34 credit.
(b) Reduction in pass through for tax
imposed on built-in gains.
(c) Reduction in pass through for tax imposed on excess net passive income.
§1.1366-5 Effective date.
§1.1366-1 Shareholder’s share of items
of an S corporation.
(a) Determination of shareholder’s tax
1998–36 I.R.B.
IRB 1998-36
9/2/98 3:07 PM
Page 29
liability—(1) In general. An S corporation must report, and a shareholder is required to take into account in the shareholder’s return, the shareholder’s pro rata
share, whether or not distributed, of the S
corporation’s items of income, loss, deduction, or credit described in paragraphs
(a)(2), (3), and (4) of this section. A
shareholder’s pro rata share is determined
in accordance with the provisions of section 1377(a) and the regulations thereunder. The shareholder takes these items
into account in determining the shareholder’s taxable income and tax liability
for the shareholder’s taxable year with or
within which the taxable year of the corporation ends. If the shareholder dies (or
if the shareholder is an estate or trust and
the estate or trust terminates) before the
end of the taxable year of the corporation,
the shareholder’s pro rata share of these
items is taken into account on the shareholder’s final return. For the limitation
on allowance of a shareholder’s pro rata
share of S corporation losses or deductions, see section 1366(d) and §1.1366–2.
(2) Separately stated items of income,
loss, deduction, or credit. Each shareholder must take into account separately
the shareholder’s pro rata share of any
item of income (including tax-exempt income), loss, deduction, or credit of the S
corporation that if separately taken into
account by any shareholder could affect
the shareholder’s tax liability for that taxable year differently than if the shareholder did not take the item into account
separately. The separately stated items of
the S corporation include, but are not limited to, the following items—
(i) The corporation’s combined net
amount of gains and losses from sales or
exchanges of capital assets grouped by applicable holding periods, by applicable
rate of tax under section 1(h), and by any
other classification that may be relevant in
determining the shareholder’s tax liability;
(ii) The corporation’s combined net
amount of gains and losses from sales or
exchanges of property described in section 1231 (relating to property used in the
trade or business and involuntary conversions), grouped by applicable holding periods, by applicable rate of tax under section 1(h), and by any other classification
that may be relevant in determining the
shareholder’s tax liability;
(iii) Charitable contributions, grouped
1998–36 I.R.B.
by the percentage limitations of section
17
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