[Federal Register Volume 61, Number 106 (Friday, May 31, 1996)]
[Rules and Regulations]
[Pages 27258-27263]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-13718]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[TD 8673]
RIN 1545-AM01
Enterprise Zone Facility Bonds
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Final regulations.
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SUMMARY: This document contains final regulations relating to
enterprise zone facility bonds issued by State and local governments.
These regulations reflect changes to the law made by the Omnibus Budget
Reconciliation Act of 1993. These regulations affect issuers of
enterprise zone facility bonds.
EFFECTIVE DATE: These regulations are effective May 31, 1996.
For dates of applicability of these regulations to enterprise zone
facility bond issues, see Sec. 1.1394-1(q) of these regulations.
FOR FURTHER INFORMATION CONTACT: Loretta J. Finger, (202) 622-3980 (not
a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
On December 30, 1994, proposed regulations (FI-72-88) were
published in the Federal Register (59 FR 67658) to provide guidance
under sections 141 (relating to private activity bonds and to qualified
bonds), 145 (relating to qualified 501(c)(3) bonds), 148 (relating to
arbitrage), 150 (relating to change of use), and 1394 (relating to
enterprise zone facility bonds). On June 8, 1995, the IRS held a public
hearing on the proposed regulations. Written comments responding to the
proposed regulations were received.
This Treasury decision addresses the issues relating to enterprise
zone facility bonds. Later guidance will be published relating to
sections 141, 145, 148, and 150. After consideration of all the
comments, the proposed regulations under section 1394 (relating to
enterprise zone facility bonds) are adopted as revised by this Treasury
decision. The principal revisions to the proposed regulations under
section 1394 are discussed below.
Explanation of Provisions
Section 1394 applies to bonds issued to provide enterprise zone
facilities in both empowerment zones and enterprise communities
(zones).
A. Period of Compliance
The proposed regulations in general require compliance with the
requirements applicable to enterprise zone facility bonds throughout
the term of the enterprise zone facility bonds. The proposed
regulations provide two exceptions to this general rule: (i) A business
that is first established in connection with the issuance of enterprise
zone facility bonds does not need to meet the requirements of an
enterprise zone business and enterprise zone property until the
``testing date,'' which is the later of one year after the issue date
or one year after the date on which the financed property is placed in
service, and (ii) the issuer and principal user of the facility are
permitted a one-year period to cure noncompliance.
The final regulations modify the general rule to require compliance
with the requirements applicable to enterprise zone facility bonds
throughout the greater of (i) the remainder of the period during which
the zone designation is in effect under section 1391 (zone designation
period), and (ii) the period that ends on the weighted average maturity
date of the enterprise zone facility bonds. The final regulations also
provide that, in general, compliance with the requirements applicable
to enterprise zone facility bonds is not required after the date on
which the last of the enterprise zone facility bonds of the issue cease
to be outstanding.
1. Start of Compliance Period
Commentators requested that the testing date provisions be extended
to all businesses, not just start-up businesses. Commentators also
suggested lengthening the start-up period. The final regulations follow
the recommendation to expand the testing date provisions to all issuers
and principal users of property financed with enterprise zone facility
bonds if the issuer and the principal user reasonably expect that the
requirements will be met by the testing date and proceed with due
diligence to comply with the requirements. The start-up period is
increased to the later of 18 months after the issue date or 18 months
after the date on which the financed property is placed in service.
2. Compliance Period for Certain Requirements
Commentators suggested that compliance with the requirements for an
enterprise zone business should be based only on reasonable
expectations on the issue date. Commentators suggested that,
alternatively, the required compliance period should be reduced to
either (i) three years (similar to the test period for qualified small
issue manufacturing bonds), or (ii) the remainder of the zone
designation period.
Issuers and principal users should be required to meet the
requirements applicable to enterprise zone facility bonds for a
meaningful period of time in order to further the goals of economic
development in the zones. Therefore, for purposes of meeting the
requirements applicable to enterprise zone facility bonds, the final
regulations in general require issuers and principal users of financed
property to meet the requirements throughout the greater of (i) the
remainder of the zone designation period, and (ii) the period that ends
on the weighted average maturity date of the enterprise zone facility
bonds.
While compliance is generally not required after the enterprise
zone facility bonds are retired, the final regulations do require
issuers and principal users to meet the requirements of an enterprise
zone business and enterprise zone property for a minimum compliance
period of at least three years after the initial testing date. The
final regulations permit the issuer to identify an alternative initial
testing date. This alternative initial testing date is a date after the
issue date of the enterprise zone facility bonds and prior to the
initial testing date that would have been otherwise determined under
the final regulations.
Principal users are subject to the change in use penalty of section
1394(e) throughout the greater of (i) the remainder of the zone
designation period, and (ii) the period that ends on the weighted
average maturity date of the enterprise zone facility bonds.
[[Page 27259]]
3. Measurement of Compliance
The proposed regulations provide guidance on meeting the enterprise
zone business definitions. Commentators pointed out several
difficulties in meeting the tests in the proposed regulations and in
curing noncompliance within a one-year period. Commentators also asked
for guidance on how part-time employees are to be treated for the 35
percent resident employee requirement.
In general, each of the enterprise zone business requirements
applies over taxable year periods. The beginning and end of the period
of required compliance, however, may not correspond to the beginning
and ending dates of the principal user's taxable year. The proposed
regulations do not address the treatment of a taxable year only a part
of which falls in a required compliance period. The final regulations
provide that a taxable year is disregarded if the part of the year that
falls in a required compliance period does not exceed 90 days.
Although the final regulations generally require annual compliance
for the requirements under sections 1397B and 1397C, the final
regulations allow a five-year averaging, taking into account only
immediately preceding years going back to the taxable year that
includes the initial testing date. The requirements under sections
1397B and 1397C include requirements relating to location of
performance of employee services, location of tangible and intangible
property, source of gross income from the active conduct of business,
and the residence of employees. The averaging approach permits
principal users who exceed the requirements to provide a cushion for
future unanticipated noncompliance (for example, a non-recurring
extraordinary payment for services performed outside the zone).
The final regulations allow the 35 percent resident employee
requirement to be met on any reasonable basis (for example, on a per-
employee basis or on the basis of employee actual work hours). For
purposes of the per-employee fraction, employees working less than 15
hours a week are not included in the numerator or the denominator. The
principal user must consistently apply the method to determine
compliance with the 35 percent resident employee requirement throughout
the required compliance period.
The final regulations also provide that a zone employee who moves
out of the zone may continue to be treated as a resident of the zone,
provided that employee was a bona fide resident of the zone, that
employee continues to perform services for the principal user in an
enterprise zone business in the zone and substantially all of those
services are performed in the zone, and the principal user hires a
resident of the zone for the next available comparable (or lesser)
position.
The final regulations reduce the ``substantially all'' requirement
for purposes of various tests under sections 1397B and 1397C from 90
percent to 85 percent.
B. Qualified Zone Property Definition
The proposed regulations provide that property that has been
abandoned for more than one year meets the original use requirement.
The final regulations provide that if real property is vacant for at
least a one-year period including the date of zone designation, use
prior to that period is disregarded for purposes of determining
original use.
C. Other Rules
Commentators requested guidance on the appropriate method for
treating activities within the zone as though they constituted a
separately incorporated business for purposes of the enterprise zone
business test.
The final regulations allow a business to treat its activities
within a zone as part of a separately incorporated business if it
allocates income and activities attributable to the business within the
zone using a reasonable allocation method and has evidence of its
allocations sufficient to establish compliance with the various
requirements.
D. Principal User
The proposed regulations do not address the requirement that ``the
principal user'' of the enterprise zone facility bond proceeds be an
enterprise zone business. Commentators suggested that principal user
generally be defined in the same manner as in the regulations
applicable to qualified small issue bonds and qualified 501(c)(3)
bonds, which relate to use of bond proceeds by ``any'' principal user,
but without applying the definition to customers. One commentator
(relying on the definition of a qualifying business) suggested that
financing for commercial real estate owned by a business that is not an
enterprise zone business should be permitted, so long as 50 percent of
the gross rental income comes from lessees that are enterprise zone
businesses.
The final regulations provide that an owner of financed property is
the principal user except that, in the case of commercial real estate,
the lessee may be treated as the principal user if the rental of the
property is a qualified business under section 1397B(d)(2).
Special Analyses
It has been determined that this Treasury decision is not a
significant regulatory action as defined in EO 12866. Therefore, a
regulatory assessment is not required. It also has been determined that
section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5)
and the Regulatory Flexibility Act (5 U.S.C. chapter 6) do not apply to
these regulations, and, therefore, a Regulatory Flexibility Analysis is
not required. Pursuant to section 7805(f) of the Internal Revenue Code,
the notice of proposed rulemaking preceding these regulations was
submitted to the Small Business Administration for comment on its
impact on small business.
Drafting Information. The principal author of these regulations
is Loretta J. Finger, Office of Assistant Chief Counsel (Financial
Institutions and Products). However, 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
an entry in numerical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.1394-1 also issued under 26 U.S.C. 1397D.
Par. 2. Sections 1.1394-0 and 1.1394-1 are added under the
undesignated centerheading ``DEFINITIONS; SPECIAL RULES'' to read as
follows:
Sec. 1.1394-0 Table of contents.
This section lists the major paragraph headings contained in
Sec. 1.1394-1.
Sec. 1.1394-1 Enterprise zone facility bonds.
(a) Scope.
(b) Period of compliance.
(1) In general.
(2) Compliance after an issue is retired.
(3) Deemed compliance.
(c) Special rules for requirements of sections 1397B and 1397C.
(1) Start of compliance period.
(2) Compliance period for certain prohibited activities.
(3) Minimum compliance period.
(4) Initial testing date.
[[Page 27260]]
(d) Testing on an average basis.
(e) Resident employee requirements.
(1) Determination of employee status.
(2) Employee treated as zone resident.
(3) Resident employee percentage.
(f) Application to pooled financing bond and loan recycling
programs.
(g) Limitation on amount of bonds.
(1) Determination of outstanding amount.
(2) Pooled financing bond programs.
(h) Original use requirement for purposes of qualified zone
property.
(i) Land.
(j) Principal user.
(1) In general.
(2) Rental of real property.
(3) Pooled financing bond program.
(k) Treatment as separately incorporated business.
(l) Substantially all.
(m) Application of sections 142 and 146 through 150.
(1) In general.
(2) Maturity limitation.
(3) Volume cap.
(4) Remedial actions.
(n) Continuing compliance and change of use penalties.
(1) In general.
(2) Coordination with deemed compliance provisions.
(3) Application to pooled financing bond and loan recycling
programs.
(4) Section 150(b)(4) inapplicable.
(o) Refunding bonds.
(1) In general.
(2) Maturity limitation.
(p) Examples.
(q) Effective dates.
(1) In general.
(2) Elective retroactive application in whole.
Sec. 1.1394-1 Enterprise zone facility bonds.
(a) Scope. This section contains rules relating to tax-exempt bonds
under section 1394 (enterprise zone facility bonds) to provide
enterprise zone facilities in both empowerment zones and enterprise
communities (zones). See sections 1394, 1397B, and 1397C for other
rules and definitions.
(b) Period of compliance--(1) In general. Except as provided in
paragraphs (b)(2) and (c) of this section, the requirements under
sections 1394(a) and (b) applicable to enterprise zone facility bonds
must be complied with throughout the greater of the following--
(i) The remainder of the period during which the zone designation
is in effect under section 1391 (zone designation period); and
(ii) The period that ends on the weighted average maturity date of
the enterprise zone facility bonds.
(2) Compliance after an issue is retired. Except as provided in
paragraph (c)(3) of this section, the requirements applicable to
enterprise zone facility bonds do not apply to an issue after the date
on which no enterprise zone facility bonds of the issue are
outstanding.
(3) Deemed compliance--(i) General rule. An issue is deemed to
comply with the requirements of sections 1394(a) and (b) if--
(A) The issuer and the principal user in good faith attempt to meet
the requirements of sections 1394(a) and (b) throughout the period of
compliance required under this section; and
(B) Any failure to meet these requirements is corrected within a
one-year period after the failure is first discovered.
(ii) Exception. The provisions of paragraph (b)(3)(i) of this
section do not apply to the requirements of section 1397B(d)(5)(A)
(relating to certain prohibited business activities).
(iii) Good faith. In order to satisfy the good faith requirement of
paragraph (b)(3)(i)(A) of this section, the principal user must at
least annually demonstrate to the issuer the principal user's
monitoring of compliance with the requirements of sections 1394(a) and
(b).
(c) Special rules for requirements of sections 1397B and 1397C--(1)
Start of compliance period. Except as provided in paragraph (c)(2) of
this section, the requirements of sections 1397B (relating to
qualification as an enterprise zone business) and 1397C (relating to
satisfaction of the rules for qualified zone property) do not apply
prior to the initial testing date (as defined in paragraph (c)(4) of
this section) if--
(i) The issuer and the principal user reasonably expect on the
issue date of the enterprise zone facility bonds that those
requirements will be met by the principal user on or before the initial
testing date; and
(ii) The issuer and the principal user exercise due diligence to
meet those requirements prior to the initial testing date.
(2) Compliance period for certain prohibited activities. The
requirements of section 1397B(d)(5)(A) (relating to certain prohibited
business activities) must be complied with throughout the term of the
enterprise zone facility bonds.
(3) Minimum compliance period. The requirements of sections
1397B(b) or (c) and 1397C must be satisfied for a continuous period of
at least three years after the initial testing date, notwithstanding
that--
(i) The period of compliance required under paragraph (b)(1) of
this section expires before the end of the three-year period; or
(ii) The enterprise zone facility bonds are retired before the end
of the three-year period.
(4) Initial testing date--(i) In general. Except as otherwise
provided in paragraph (c)(4)(ii) of this section, the initial testing
date is the date that is 18 months after the later of the issue date of
the enterprise zone facility bonds or the date on which the financed
property is placed in service; provided, however, it is not later
than--
(A) Three years after the issue date; or
(B) Five years after the issue date, if the issue finances a
construction project for which both the issuer and a licensed architect
or engineer certify on or before the issue date of the enterprise zone
facility bonds that more than three years after the issue date is
necessary to complete construction of the project.
(ii) Alternative initial testing date. If the issuer identifies as
the initial testing date a date after the issue date of the enterprise
zone facility bonds and prior to the initial testing date that would
have been determined under paragraph (c)(4)(i) of this section, that
earlier date is treated as the initial testing date.
(d) Testing on an average basis. Compliance with each of the
requirements of section 1397B(b) or (c) is tested each taxable year.
Compliance with any of the requirements may be tested on an average
basis, taking into account up to four immediately preceding taxable
years plus the current taxable year. The earliest taxable year that may
be taken into account for purposes of the preceding sentence is the
taxable year that includes the initial testing date. A taxable year is
disregarded if the part of the taxable year that falls in a required
compliance period does not exceed 90 days.
(e) Resident employee requirements--(1) Determination of employee
status. For purposes of the requirement of section 1397B(b)(6) or
(c)(5) that at least 35 percent of the employees are residents of the
zone, the issuer and the principal user may rely on a certification,
signed under penalties of perjury by the employee, provided--
(i) The certification provides to the principal user the address of
the employee's principal residence;
(ii) The employee is required by the certification to notify the
principal user of a change of the employee's principal residence; and
(iii) Neither the issuer nor the principal user has actual
knowledge that the principal residence set forth in the certification
is not the employee's principal residence.
(2) Employee treated as zone resident. If an issue fails to comply
with the requirement of section 1397B(b)(6) or (c)(5) because an
employee who initially resided in the zone moves out of the
[[Page 27261]]
zone, that employee is treated as still residing in the zone if--
(i) That employee was a bona fide resident of the zone at the time
of the certification described in paragraph (e)(1) of this section;
(ii) That employee continues to perform services for the principal
user in an enterprise zone business and substantially all of those
services are performed in the zone; and
(iii) A resident of the zone meeting the requirements of section
1397B(b)(5) or (c)(4) is hired by the principal user for the next
available comparable (or lesser) position.
(3) Resident employee percentage. For purposes of meeting the
requirement of section 1397B(b)(6) or (c)(5) that at least 35 percent
of the employees of an enterprise zone business are residents of a
zone, paragraphs (e)(3)(i) and (ii) of this section apply.
(i) The term employee includes a self-employed individual within
the meaning of section 401(c)(1).
(ii) The resident employee percentage is determined on any
reasonable basis consistently applied throughout the period of
compliance required under this section. The per-employee fraction (as
defined in paragraph (e)(3)(ii)(A) of this section) or the employee
actual work hour fraction (as defined in paragraph (e)(3)(ii)(B) of
this section) are both reasonable methods.
(A) The term per-employee fraction means the fraction, the
numerator of which is, during the taxable year, the number of employees
who work at least 15 hours a week for the principal user, who reside in
the zone, and who are employed for at least 90 days, and the
denominator of which is, during the same taxable year, the aggregate
number of all employees who work at least 15 hours a week for the
principal user and who are employed for at least 90 days.
(B) The term employee actual work hour fraction means the fraction,
the numerator of which is the aggregate total actual hours of work for
the principal user of employees who reside in the zone during a taxable
year, and the denominator of which is the aggregate total actual hours
of work for the principal user of all employees during the same taxable
year.
(f) Application to pooled financing bond and loan recycling
programs. In the case of a pooled financing bond program described in
paragraph (g)(2) of this section or a loan recycling program described
in paragraph (m)(2)(ii) of this section, the requirements of paragraphs
(b) through (e) of this section apply on a loan-by-loan basis. See also
paragraphs (g)(2) (relating to limitation on amount of bonds), (m)(2)
(relating to maturity limitations), (m)(3) (relating to volume cap),
and (m)(4) (relating to remedial actions) of this section.
(g) Limitation on amount of bonds--(1) Determination of outstanding
amount. Whether an issue satisfies the requirements of section 1394(c)
(relating to the $3 million and $20 million aggregate limitations on
the amount of outstanding enterprise zone facility bonds) is determined
as of the issue date of that issue, based on the issue price of that
issue and the adjusted issue price of outstanding enterprise zone
facility bonds. Amounts of outstanding enterprise zone facility bonds
allocable to any entity are determined under rules contained in section
144(a)(10)(C) and the underlying regulations. Thus, the definition of
principal user for purposes of section 1394(c) is different from the
definition of principal user for purposes of paragraph (j) of this
section.
(2) Pooled financing bond programs--(i) In general. The limitations
of section 1394(c) for an issue for a pooled financing bond program are
determined with regard to the amount of the actual loans to enterprise
zone businesses rather than the amount lent to intermediary lenders as
defined in paragraph (g)(2)(ii) of this section. This paragraph (g)(2)
applies only to the extent the proceeds of those enterprise zone
facility bonds are loaned to one or more enterprise zone businesses
within 42 months of the issue date of the enterprise zone facility
bonds or are used to redeem enterprise zone facility bonds of the issue
within that 42-month period.
(ii) Pooled financing bond program defined. For purposes of this
section, a pooled financing bond program is a program in which the
issuer of enterprise zone facility bonds, in order to provide loans to
enterprise zone businesses, lends the proceeds of the enterprise zone
facility bonds to a bank or similar intermediary (intermediary lender)
which must then relend the proceeds to two or more enterprise zone
businesses.
(h) Original use requirement for purposes of qualified zone
property. In general, for purposes of section 1397C(a)(1)(B), the term
original use means the first use to which the property is put within
the zone. For purposes of section 1394, if property is vacant for at
least a one-year period including the date of zone designation, use
prior to that period is disregarded for purposes of determining
original use. For this purpose, de minimis incidental uses of property,
such as renting the side of a building for a billboard, are
disregarded.
(i) Land. The determination of whether land is functionally related
and subordinate to qualified zone property is made in a manner
consistent with the rules for exempt facilities under section 142.
(j) Principal user--(1) In general. Except as provided in paragraph
(j)(2) of this section, the term principal user means the owner of
financed property.
(2) Rental of real property--(i) A lessee as the principal user. If
an owner of real property financed with enterprise zone facility bonds
is not an enterprise zone business within the meaning of section 1397B,
but the rental of the property is a qualified business within the
meaning of section 1397B(d)(2), the term principal user for purposes of
sections 1394(b) and (e) means the lessee or lessees.
(ii) Allocation of enterprise zone facility bonds. If a lessee is
the principal user of real property under paragraph (j)(2)(i) of this
section, then proceeds of enterprise zone facility bonds may be
allocated to expenditures for real property only to the extent of the
property allocable to the lessee's leased space, including expenditures
for common areas.
(3) Pooled financing bond program. An intermediary lender in a
pooled financing bond program described in paragraph (g)(2) of this
section is not treated as the principal user.
(k) Treatment as separately incorporated business. For purposes of
section 1394(b)(3)(B), a trade or business may be treated as separately
incorporated if allocations of income and activities attributable to
the business conducted within the zone are made using a reasonable
allocation method and if that trade or business has evidence of those
allocations sufficient to establish compliance with the requirements of
paragraphs (b) through (f) of this section. Whether an allocation
method is reasonable will depend upon the facts and circumstances. An
allocation method will not be considered to be reasonable unless the
allocation method is applied consistently by the trade or business and
is consistent with the purposes of section 1394.
(l) Substantially all. For purposes of sections 1397B and 1397C(a),
the term substantially all means 85 percent.
(m) Application of sections 142 and 146 through 150--(1) In
general. Except as provided in this paragraph (m), enterprise zone
facility bonds are treated as exempt facility bonds that are described
in section 142(a), and all regulations generally applicable to exempt
facility bonds apply to enterprise zone facility bonds. For this
[[Page 27262]]
purpose, enterprise zone businesses are treated as meeting the public
use requirement. Sections 147(c)(1)(A) (relating to limitations on
financing the acquisition of land), 147(d) (relating to financing the
acquisition of existing property), and 142(b)(2) (relating to
limitations on financing office space) do not apply to enterprise zone
facility bonds. See also paragraph (n)(4) of this section.
(2) Maturity limitation--(i) Requirements. An issue of enterprise
zone facility bonds, the proceeds of which are to be used as part of a
loan recycling program, satisfies the requirements of section 147(b)
if--
(A) Each loan satisfies the requirements of section 147(b)
(determined by treating each separate loan as a separate issue); and
(B) The term of the issue does not exceed 30 years.
(ii) Loan recycling program defined. A loan recycling program is a
program in which--
(A) The issuer reasonably expects as of the issue date of the
enterprise zone facility bonds that loan repayments from principal
users will be used to make additional loans during the zone designation
period;
(B) Repayments of principal on loans (including prepayments)
received during the zone designation period are used within six months
of the date of receipt either to make new loans to enterprise zone
businesses or to redeem enterprise zone facility bonds that are part of
the issue; and
(C) Repayments of principal on loans (including prepayments)
received after the zone designation period are used to redeem
enterprise zone facility bonds that are part of the issue within six
months of the date of receipt.
(3) Volume cap. For purposes of applying section 146(f)(5)(A)
(relating to elective carryforward of unused volume limitation),
issuing enterprise zone facility bonds is a carryforward purpose.
(4) Remedial actions. In the case of a pooled financing bond
program described in paragraph (g)(2) of this section or a loan
recycling program described in paragraph (m)(2)(ii) of this section, if
a loan fails to meet the requirements of paragraphs (b) through (f) of
this section, within six months of noncompliance (after taking into
account the deemed compliance provisions of paragraph (b)(3) of this
section, if applicable), an amount equal to the outstanding loan
principal must be prepaid and the issuer must--
(i) Reloan the amount of the prepayment; or
(ii) Use the prepayment to redeem an amount of outstanding
enterprise zone facility bonds equal to the outstanding principal
amount of the loan that no longer meets those requirements.
(n) Continuing compliance and change of use penalties--(1) In
general. The penalty provisions of section 1394(e) apply throughout the
period of compliance required under paragraph (b)(1) of this section.
(2) Coordination with deemed compliance provisions. Section
1394(e)(2) does not apply during any period during which the issue is
deemed to comply with the requirements of section 1394 under the deemed
compliance provisions of paragraph (b)(3) of this section.
(3) Application to pooled financing bond and loan recycling
programs. In the case of a pooled financing bond program described in
paragraph (g)(2) of this section or a loan recycling program described
in paragraph (m)(2)(ii) of this section, section 1394(e) applies on a
loan-by-loan basis.
(4) Section 150(b)(4) inapplicable. Section 150(b)(4) does not
apply to enterprise zone facility bonds.
(o) Refunding bonds--(1) In general. An issue of bonds issued after
the zone designation period to refund enterprise zone facility bonds
(other than in an advance refunding) are treated as enterprise zone
facility bonds if the refunding issue and the prior issue, if treated
as a single combined issue, would meet all of the requirements for
enterprise zone facility bonds, except the requirements in section
1394(c). For example, the compliance period described in paragraph
(b)(1) of this section is calculated taking into account any extension
of the weighted average maturity of the refunding issue compared to the
remaining weighted average maturity of the prior issue. The proceeds of
the refunding issue are allocated to the same expenditures and purpose
investments as the prior issue.
(2) Maturity limitation. The maturity limitation of section 147(b)
is applied to a refunding issue by taking into account the issuer's
reasonable expectations about the economic life of the financed
property as of the issue date of the prior issue and the actual
weighted average maturity of the combined refunding issue and prior
issue.
(p) Examples. The following examples illustrate paragraphs (a)
through (o) of this section:
Example 1. Averaging of enterprise zone business requirements.
City C issues enterprise zone facility bonds, the proceeds of which
are loaned by C to Corporation B to finance the acquisition of
equipment for its existing business located in a zone. On the issue
date of the enterprise zone facility bonds, B meets all of the
requirements of section 1397B(b), except that only 25% of B's
employees reside in the zone. C and B reasonably expect on the issue
date to meet all requirements of section 1397B(b) by the date that
is 18 months after the equipment is placed in service (the initial
testing date). In each of the first, second, and third taxable years
after the initial testing date, 35%, 40% and 45%, respectively, of
B's employees are zone residents. In the fourth year after the
testing date, only 25% of B's employees are zone residents. B
continues to meet the 35% resident employee requirement, because the
average of zone resident employees for those four taxable years is
approximately 36%. The percentage of zone residents employed by B
before the initial testing date is not included in determining
whether B continues to comply with the 35% resident employee
requirement.
Example 2. Measurement of resident employee percentage.
Authority D issues enterprise zone facility bonds, the proceeds of
which are loaned to Sole Proprietor F to establish an accounting
business in a zone. In the first year after the initial testing
date, the staff working for F includes F, who works 40 hours per
week and does not live in the zone, one employee who resides in the
zone and works 40 hours per week, one employee who does not reside
in the zone and works 20 hours per week, and one employee who does
not reside in the zone and works 10 hours per week. F meets the 35%
resident employee test by calculating the percentage on the basis of
employee actual work hours as described in paragraph (e)(3)(ii)(B)
of this section. If F uses the per-employee basis as described in
paragraph (e)(3)(ii)(A) of this section to determine if the resident
employee test is met, the percentage of employees who are zone
residents on a per-employee basis is only 33% because F must exclude
from the numerator and the denominator the employee who works only
10 hours per week. If F calculates the resident employee test as a
percentage of employee actual work hours as described in paragraph
(e)(3)(ii)(B) of this section in the first year, F must calculate
the resident employee test as a percentage of employee actual work
hours each year.
Example 3. Active conduct of business within the zone. State G
issues enterprise zone facility bonds and loans the proceeds to
Corporation H to finance the acquisition of equipment for H's mail
order clothing business, which is located in a zone. H purchases the
supplies for its clothing business from suppliers located both
within and outside of the zone and expects that orders will be
received both from customers who will reside or work within the zone
and from others outside the zone. All orders are received and filled
at, and are shipped from, H's clothing business located in the zone.
H meets the requirement that at least 80% of its gross income is
derived from the active conduct of business within the zone.
Example 4. Enterprise zone business definition. City J issues
enterprise zone facility bonds, the proceeds of which are loaned to
Partnership K to finance the acquisition of equipment for its
printing operation located in the zone. All orders are taken and
completed, and all billing and
[[Page 27263]]
accounting activities are performed, at the print shop located in
the zone. K, on occasion, uses its equipment (including its trucks)
and employees to deliver large print jobs to customers who reside
outside of the zone. So long as K is able to establish that its
trucks are used in the zone at least 85% of the time and its
employees perform at least 85% of services for K in the zone, K
meets the requirements of sections 1397B(b)(3) and (5).
Example 5. Treatment as a separately incorporated business. The
facts are the same as in Example 4 except that six years after the
issue date of the enterprise zone facility bonds, K determines to
expand its operations to a second location outside of the boundaries
of the zone. Although the expansion would result in the failure of K
to meet the tests of 1397B(b), K, using a reasonable allocation
method, allocates income and activities to its operations within the
zone and has evidence of these allocations sufficient to establish
compliance with the requirements of paragraphs (b) through (f) of
this section. The bonds will not fail to be enterprise zone facility
bonds merely because of the expansion.
Example 6. Treatment of pooled financing bond programs.
Authority L issues bonds in the aggregate principal amount of
$5,000,000 and loans the proceeds to Bank M pursuant to a loans-to-
lenders program. M does not meet the definition of enterprise zone
business contained in section 1397B. Prior to the issue date of the
bonds, L held a public hearing regarding issuance of the bonds for
the loans-to-lenders program, describing the projects of identified
borrowers to be financed initially with $4,000,000 of the proceeds
of the bonds. The applicable elected representative of L approved
issuance of the bonds subsequent to the public hearing. The loan
agreement between L and M provides that the other proceeds of the
bonds will be held by M and loaned to borrowers that qualify as
enterprise zone businesses, following a public hearing and approval
by the applicable elected representative of L of each loan by M to
an enterprise zone business. None of the loans will be in principal
amounts in excess of $3,000,000. The loans by M will otherwise meet
the requirements of section 1394. The bonds will be enterprise zone
facility bonds.
Example 7. Original use requirement for purposes of qualified
zone property. City N issues enterprise zone facility bonds, the
proceeds of which are loaned to Corporation P to finance the
acquisition of equipment. P uses the proceeds after the zone
designation date to purchase used equipment located outside of the
zone and places the equipment in service at its location in the
zone. Substantially all of the use of the equipment is in the zone
and is in the active conduct of a qualified business by P. The
equipment is treated as qualified enterprise zone property under
section 1397C because P makes the first use of the property within
the zone after the zone designation date.
Example 8. Principal user. State R issues enterprise zone
facility bonds and loans the proceeds to Partnership S to finance
the construction of a small shopping center to be located in a zone.
S is in the business of commercial real estate. S is not an
enterprise zone business, but has secured one anchor lessee,
Corporation T, for the shopping center. T would qualify as an
enterprise zone business. S will derive 60% of its gross rental
income of the shopping center from T. S does not anticipate that the
remaining rental income will come from enterprise zone businesses. T
will occupy 60% of the total rentable space in the shopping center.
S can use enterprise zone facility bond proceeds to finance the
portion of the costs of the shopping center allocable to T (60%)
because T is treated as the principal user of the enterprise zone
facility bond proceeds.
Example 9. Remedial actions. State W issues pooled financing
enterprise zone facility bonds, the proceeds of which will be loaned
to several enterprise zone businesses in the two enterprise
communities and one empowerment zone in W. Proceeds of the pooled
financing bonds are loaned to Corporation X, an enterprise zone
business, for a term of 10 years. Six years after the date of the
loan, X expands its operations beyond the empowerment zone and is no
longer able to meet the requirements of section 1394. X does not
reasonably expect to be able to cure the noncompliance. The loan
documents provide that X must prepay its loan in the event of
noncompliance. W does not expect to be able to reloan the prepayment
by X within six months of noncompliance. X's noncompliance will not
affect the qualification of the pooled financing bonds as enterprise
zone facility bonds if W uses the proceeds from the loan prepayment
to redeem outstanding enterprise zone facility bonds within six
months of noncompliance in an amount comparable to the outstanding
amount of the loan immediately prior to prepayment. X will be denied
an interest expense deduction for the interest accruing from the
first day of the taxable year in which the noncompliance began.
(q) Effective dates--(1) In general. Except as otherwise provided
in this section, the provisions of this section apply to all issues
issued after July 30, 1996, and subject to section 1394.
(2) Elective retroactive application in whole. An issuer may apply
the provisions of this section in whole, but not in part, to any issue
that is outstanding on July 30, 1996, and is subject to section 1394.
Approved: May 22, 1996.
Margaret Milner Richardson,
Commissioner of Internal Revenue.
Leslie Samuels,
Assistant Secretary of the Treasury.
[FR Doc. 96-13718 Filed 5-30-96; 8:45 am]
BILLING CODE 4830-01-U
