IRS Publishes Final Regs on Distributions of Interests in Loss Corporations

 DEPARTMENT OF THE TREASURY

ACTION: Final regulations and removal of temporary regulations.

SUMMARY: This document contains final regulations under section 382 of the Internal Revenue Code of 1986. The final regulations affect loss corporations and provide guidance on whether a loss corporation has an owner shift where a qualified trust described in section 401(a) distributes an ownership interest in an entity.

DATES: Effective Date: These regulations are effective June 23, 2006.

Applicability Dates: For dates of applicability see § 1.382-10(a)(4).

FOR FURTHER INFORMATION CONTACT: Keith E. Stanley, (202) 622-7750, (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

This document contains amendments to 26 CFR Part 1. On June 27, 2003, temporary regulations (TD 9063; 68 FR 38177) regarding whether a loss corporation has an owner shift where a qualified trust described in section 401(a) distributes an ownership interest in an entity were published in the Federal Register. A notice of proposed rule making (REG-108676-03) cross-referencing the temporary regulations was published in the Federal Register for the same day (68 FR 38247). The temporary regulations provided that -- (1) if a qualified trust distributes an ownership interest in an entity, then for testing dates on or after the date of the distribution, the distributed ownership interest will be treated as having been acquired by the distributee on the date and in the manner acquired by the trust, and (2) the distribution itself does not give rise to a testing date. They further provided that, in determining which ownership interests have been distributed, the loss corporation must account for all dispositions of ownership interests by the qualified trust either by specifically identifying the ownership interest disposed of, or by using a first-in, first-out (FIFO) method.

The preamble of TD 9063 included background information and an explanation of provisions regarding the regulations. Also in the preamble, the IRS and Treasury Department requested comments regarding whether there are other events that, under current rules, are taken into account in determining whether an ownership change occurs, but do not cause the ultimate beneficial ownership of the loss corporation to change. In this regard, the IRS and Treasury Department indicated that they had been studying the constructive ownership rules as they apply to members of a family and the effect of those rules on the determination of whether a loss corporation has an ownership change. The IRS and Treasury Department expressed concern that, under the current rules, a change in the composition of a family might be interpreted in certain circumstances as shifting ownership even though there has been no change in the ultimate beneficial ownership of the loss corporation, as, for example, might occur when two individuals owning loss corporation stock get married.

The IRS and Treasury Department further indicated that they were considering the promulgation of regulations to address such changes in family composition in a manner similar to that employed in the proposed regulations concerning qualified trusts. The IRS and Treasury Department will continue to study whether to issue regulations under section 382 concerning shifts in ownership resulting from certain changes in family composition.

No comments were received responding to the notice of proposed rulemaking, and no public hearing was requested or held. The proposed regulations are adopted with no substantive change by this Treasury decision, and the corresponding temporary regulations are removed.

Special Analyses

It has been determined that this regulation is not a significant regulatory action as defined in Executive Order 12866. Therefore, a regulatory assessment is not required. Pursuant to 5 U.S.C. 553(d)(3), it has been determined that good cause exists to dispense with a delayed effective date on grounds that this regulation, which is substantively identical to currently effective temporary regulations and relieves a restriction on affected qualified trusts, merely continues to provide necessary guidance to taxpayers with respect to whether a loss corporation has an ownership change where a qualified trust described in section 401(a) distributes an ownership interest in an entity. It is hereby certified that these regulations will not have a significant economic impact on a substantial number of small entities. This certification is based on the fact that the regulations provide relief to qualifying loss corporations that might be affected by an unintended consequence of the operation of the statute. 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 Code, the notice of proposed rulemaking preceding these final regulations was submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on its impact on small business.

Drafting Information

The principal author of these regulations is Keith E. Stanley of the Office of Associate Chief Counsel (Corporate). Other personnel from the IRS and Treasury Department participated in their development.

List of Subjects in 26 CFR Part 1

Income taxes, Reporting and recordkeeping requirements

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 entries in numerical order to read, in part, as follows:

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

Section 1.382-10 also issued under 26 U.S.C. 382(m). * * *

Par. 2. Section 1.382-1 is amended by removing the entry for § 1.382-10T and revising the entry for § 1.382-10 to read as follows:

§ 1.382-1 Table of contents.

* * * * *

§ 1.382-10 Special rules for determining time and manner of acquisition of an interest in a loss corporation.

* * * * *

Par. 3. Section 1.382-10 is added to read as follows:

§ 1.382-10 Special rules for determining time and manner of acquisition of an interest in a loss corporation.

(a) Distributions from qualified trusts -- (1) In general. For purposes of § 1.382-2T, if a qualified trust described in section 401(a) (qualified trust) distributes an ownership interest in an entity (as defined in § 1.382-3(a)(1)), then for testing dates on or after the date of the distribution, the distributed ownership interest is treated as having been acquired by the distributee on the date and in the manner acquired by the trust and not as having been acquired or disposed of by the trust. The distribution does not cause the day of the distribution to be a testing date.

(2) Accounting for dispositions -- (i) General rule. For purposes of this paragraph (a), in order to determine which ownership interest in an entity is distributed from a qualified trust, a loss corporation must either specifically identify the ownership interests that are the subject of all dispositions by the qualified trust of ownership interests in an entity, or apply the first-in, first-out (FIFO) method to all such dispositions.

(ii) Special rules. For purposes of this paragraph (a)(2):

(A) The FIFO method must be applied on a class-by-class basis; and

(B) The term dispositions includes distributions, sales, and other transfers.

(3) Examples. The following examples illustrate the principles of this paragraph (a). For purposes of these examples, unless otherwise stated, the nomenclature and assumptions of the examples in § 1.382-2T(b) apply, all corporations file separate income tax returns on a calendar year basis, the only 5-percent shareholder of a loss corporation is a public group, and the facts set forth the only acquisitions of stock by any participants in a qualified plan and the only owner shifts with respect to the loss corporation during the testing period. The examples are as follows:

Example 1 -- (i) Facts. In 1994, E, a qualified trust established under Plan F, acquires 10 percent of L stock. A is a participant in Plan F. On January 1, 2002, A acquires 4 percent of L stock, and B, who is not a participant or a beneficiary of a participant in Plan F, acquires 5 percent of L stock. On January 1, 2004, E distributes 2 percent of L stock to A. On July 1, 2004, A acquires 1 percent of L stock.

(ii) Analysis. January 1, 2002, is a testing date because B's acquisition of 5 percent of L stock causes an increase in the percentage ownership of B, a 5-percent shareholder. As of the close of that testing date, A is treated as owning only 4 percent of L stock. Therefore, A is treated as a member of the public group of L. In addition, E is treated as owning 10 percent of L stock that it acquired in 1994.

(iii) As a result of the application of paragraph (a)(1) of this section to E's distribution of 2 percent of L stock to A on January 1, 2004, for testing dates on and after January 1, 2004, A is treated as having acquired that 2 percent interest in L in 1994, and E is treated as having acquired only 8 percent of L stock in 1994. Because there are no owner shifts on January 1, 2004, that date is not a testing date.

(iv) July 1, 2004, is a testing date because on that date A, a 5-percent shareholder, acquires 1 percent of L stock. As of the close of that testing date, A's percentage of ownership of L stock is 7 percent, and A's lowest percentage of ownership of L stock at any time within the testing period is 2 percent (deemed acquired in 1994), representing an increase of 5 percentage points. In addition, as of the close of July 1, 2004, B's percentage of ownership of L stock is 5 percent, and B's lowest percentage of ownership of L stock at any time within the testing period is 0 percent, representing an increase of 5 percentage points. Thus, on July 1, 2004, L must take into account an increase of 10 (5 + 5) percentage points in determining whether it has an ownership change.

Example 2 -- (i) Facts. E is a qualified trust established under Plan F. L, a publicly traded corporation, has 100x shares of stock outstanding. As of January 1, 2006, C owns 5x shares of L stock and is not a participant or beneficiary of a participant in Plan F. At all times prior to January 1, 2006, E owns no L stock. On January 1, 2006, E acquires 10x shares of L stock from members of the public group of L. On December 1, 2007, E distributes 5x shares of L stock to some of the participants in Plan F. No one participant acquires all 5x shares as a result of the distribution. On February 1, 2008, C purchases 1x shares of L stock from the public group of L.

(ii) Analysis. Because E's acquisition of 10x shares of L stock on January 1, 2006, is an owner shift, that date is a testing date. As of the close of that date, E's percentage of stock ownership in L has increased by 10 percentage points.

(iii) As a result of the application of paragraph (a)(1) of this section to E's distribution of 5x shares of L stock to some Plan F participants on December 1, 2007, for testing dates on and after December 1, 2007, those distributees are treated as having acquired those shares of stock on January 1, 2006, from members of the public group of L, and E is not treated as having acquired those shares on that date. E's distribution of the 5x shares is not an owner shift. Therefore, December 1, 2007, is not a testing date.

(iv) February 1, 2008, is a testing date because on that date an owner shift results from C's purchase of 1x shares of L stock. As of the close of that testing date, the distributees of 5x shares of L stock are treated as members of the public group of L having acquired 5x shares of L stock from other members of the public group of L on January 1, 2006. Because those acquisitions are not by 5-percent shareholders, L does not take them into account. In addition, as of the close of February 1, 2008, E's percentage of stock ownership in L is 5 percent, and E's lowest percentage of stock ownership in L at any time within the testing period is 0 percent, representing an increase of 5 percentage points. In addition, as of the close of February 1, 2008, C's percentage of stock ownership in L is 6 percent, and C's lowest percentage of stock ownership in L at any time within the testing period is 5 percent, representing an increase of 1 percentage point. Therefore, on February 1, 2008, L must take into account an increase of 6 (5 + 1) percentage points in determining whether it has an ownership change.

(4) Effective dates. This section applies to all distributions after June 23, 2006. For distributions on or before June 23, 2006, see § 1.382-10T as contained in 26 CFR part 1, revised April 1, 2006.

(b) [Reserved]

§ 1.382-10T [Removed]

Par. 4. Section Mark E. Matthews, Deputy Commissioner for Services and Enforcement.