[Federal Register Volume 61, Number 158 (Wednesday, August 14, 1996)]
[Rules and Regulations]
[Pages 42165-42178]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-20663]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[TD 8682]
RIN 1545-AU23
Treatment of Section 355 Distributions by U.S. Corporations to
Foreign Persons
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Temporary regulations.
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SUMMARY: These temporary regulations amend the Income Tax Regulations
relating to the distribution of stock and securities under section 355
of the Internal Revenue Code of 1986 by a domestic corporation to a
person that is not a United States person. These regulations are
necessary to implement section 367(e)(1) as added by the Tax Reform Act
of 1986. The text of these regulations also serves as the text of the
proposed regulations set forth in the notice of proposed rulemaking on
this subject in the Proposed Rules section of this issue of the Federal
Register.
EFFECTIVE DATE: These regulations are effective September 13, 1996.
FOR FURTHER INFORMATION CONTACT: Philip L. Tretiak at (202) 622-3860
(not a toll-free number).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
These regulations are being issued without prior notice and public
procedure pursuant to the Administrative Procedure Act (5 U.S.C. 553).
For this reason, the collection of information contained in these
regulations has been reviewed and, pending receipt and evaluation of
public comments, approved by the Office of Management and Budget under
control number 1545-1487. Responses to this collection of information
are required in order for a U.S. corporation that distributes domestic
stock or securities to a foreign person to qualify for an exception to
the general rule of taxation provided by the regulations under section
367(e)(1).
An agency may not conduct or sponsor, and a person is not required
to respond to, a collection of information unless the collection of
information displays a valid control number.
For further information concerning this collection of information,
and where to submit comments on the collection of information and the
accuracy of the estimated burden, and suggestions for reducing this
burden, please refer to the preamble to the cross-referencing notice of
proposed rulemaking published in the Proposed Rules section of this
issue of the Federal Register.
Books or records relating to a collection of information must be
retained as long as their contents may become material in the
administration of any internal revenue law. Generally, tax returns and
tax return information are confidential, as required by 26 U.S.C. 6103.
Background
On January 16, 1990, temporary regulations under section 367(e)(1)
and 367(e)(2) were published in the Federal
[[Page 42166]]
Register (55 FR 1406). A cross-referenced Notice of Proposed Rulemaking
was published on that same date (55 FR 1472). These regulations were
proposed to implement section 367(e) of the Internal Revenue Code of
1986 (Code), as revised by sections 631(d)(1) and 1810(g) of the Tax
Reform Act of 1986 (100 Stat. 2085, 2272, Public Law 99-514 [1986-3
C.B. (Vol. 1) 1, 189, 745]). On January 15, 1993, final regulations
under section 367(e)(1) were published in the Federal Register.
Need for Temporary Regulations
Under the current regulations, in certain circumstances the gain
recognition exception may be dependent on the form rather than the
substance of a taxpayer's transaction. As a result, certain taxpayers
may be subject to strict restrictions under this exception, while other
taxpayers arguably may avoid the restrictions by structuring their
transactions in a different fashion (even though the substance of the
transactions is similar). Based on these considerations, it is
determined that immediate regulatory guidance will ensure the efficient
administration of the tax laws and that it would be impracticable and
contrary to the public interest to issue this Treasury decision with
prior notice under section 553(b).
Explanation of Provisions
Section 355 provides that, if certain requirements are met, a
distributing corporation (Distributing) does not recognize gain or loss
on the distribution of the stock or securities of a controlled
corporation (Controlled) to Distributing's shareholder or shareholders
(Distributee(s)). However, section 367(e)(1) provides that, in the case
of any distribution described in section 355 (or so much of section 356
as relates to section 355) by a domestic corporation to a Distributee
who is not a United States person (an outbound section 355
distribution), to the extent provided in regulations, gain shall be
recognized under principles similar to the principles of section 367.
The existing regulations under section 367(e)(1) provide different
tax treatment to Distributing in an outbound section 355 distribution
depending upon whether Controlled is a foreign corporation or a
domestic corporation. If Controlled is a foreign corporation, an
outbound section 355 distribution by Distributing is taxable, with no
exceptions. If Controlled is a domestic corporation, however, the
existing regulations provide that the distribution is taxable, but
permit three exceptions: (i) a FIRPTA exception in cases where both
Distributing and Controlled are U.S. real property holding corporations
(as defined in section 897(c)(2)) at the time of the distribution, (ii)
a publicly traded exception in certain cases where Distributing is
publicly traded in the United States at the time of the distribution,
and (iii) a gain recognition agreement (GRA) exception described in
detail below.
The new temporary regulations retain the general framework of the
existing regulations by permitting no exceptions in the case of an
outbound section 355 distribution of foreign stock and the same three
exceptions in the case of an outbound section 355 distribution of
domestic stock. However, the new temporary regulations substantially
modify the GRA exception.
The temporary regulations retain many of the provisions from the
existing regulations. However, the IRS and Treasury have decided to
reissue all of the regulations under section 367(e)(1) as temporary
regulations to obtain a uniform set of regulations.
GRA Exception Under the Existing Regulations
The GRA exception in the existing regulations contains a number of
specific requirements, all of which must be satisfied for the
distributing corporation to defer taxation under the exception.
In general, if Distributee is a resident of a country that has an
income tax treaty with the United States and meets certain other
requirements, Distributing can defer its gain by entering into a GRA.
Under the GRA, if a (foreign) Distributee sells all or a portion of the
stock of either Distributing or Controlled within 60 months after the
close of the taxable year in which the distribution occurs,
Distributing agrees to amend its return and include the deferred gain
in income based upon the proportion of the stock that is sold by
Distributee. Thus, for example, if Distributee sells 10 percent of its
stock of Distributing or Controlled, Distributing is required to amend
its return to include 10 percent of the deferred gain. There is no
special rule (i.e., no full trigger of the deferred gain) if
Distributee sells a substantial amount of its stock of either company.
In addition, there is no special rule that triggers gain in the case of
a nonrecognition transaction (such as the issuance of additional stock
by either Distributing or Controlled to third parties through a public
offering) that results in a substantial reduction of the percentage of
stock owned by Distributee(s).
The existing regulations generally provide that the GRA will not be
triggered if Distributee transfers the stock of either Distributing or
Controlled in certain nonrecognition transactions (permitted
transactions). The transfer of the stock of either company in a
(second) section 355 distribution, however, is not permitted.
In the case of a permitted transaction, the existing regulations
provide special successor-in-interest rules under which the deferred
gain generally will be taxable unless Distributee maintains a direct or
indirect 80 percent interest in the stock of Distributing and
Controlled that it owned immediately after the distribution. For
example, if Distributing distributed the stock of Controlled in an
outbound section 355 distribution that qualified for the GRA exception
and, within the term of the GRA, Distributee then contributed the stock
of Distributing to a new company (Newco) in a section 351 exchange and
received 100 percent of Newco, the successor-in-interest rules apply.
Thus, Distributee generally would be required to maintain an 80 percent
indirect interest in Distributing. Under these rules, (i) Distributee's
sale of up to 20 percent of the stock of Newco, or (ii) Newco's sale of
up to 20 percent of the stock of Distributing would result in a
corresponding trigger of the deferred gain. The issuance of new stock
by Newco or Distributing of up to 20 percent to unrelated persons,
however, would not result in any trigger of the GRA. If, however, Newco
(or Distributing) issued more than 20 percent of its stock to unrelated
persons (or any other nonrecognition transaction reduced Distributee's
indirect interest in Distributing to below 80 percent as a result of a
nonrecognition transaction), the entire gain would be triggered.
Reasons for Change/Overview of Temporary Regulations
The treatment of non pro rata outbound section 355 distributions is
not adequately addressed in the existing regulations. For example,
assume that a foreign parent (FP) owns all of the stock of
Distributing, a domestic corporation, which, in turn, owns all of the
stock of Controlled, also a domestic corporation. Assume that the
distribution of Controlled by Distributing to FP qualifies for the GRA
exception. If FP then contributes all of the stock of Distributing to a
newly formed foreign corporation (Newco), the successor rules would
apply, and FP would be required to maintain a direct or indirect 80
percent interest in Distributing.
The outcome under the existing regulations arguably is
substantially different, however, if the corporations structured the
distribution as a non pro
[[Page 42167]]
rata distribution. For example, assume that FP first forms Newco and
transfers to Newco a percentage of the Distributing stock (the
percentage equal to the value of Distributing (without the Controlled
stock) divided by the combined value of Distributing and Controlled) in
an exchange under section 351. Distributing then distributes the stock
of Controlled to FP in exchange for FP's stock of Distributing (a non
pro rata section 355 distribution). After the distribution, FP owns all
of the stock of Controlled and all of the stock of Newco; Newco owns
all of the stock of Distributing. Under the existing regulations, FP is
a Distributee. However, because FP has no direct interest in
Distributing after the distribution, the regulations effectively treat
FP as a Distributee only with respect to Controlled. Moreover, because
Newco does not actually receive stock of Controlled in the distribution
(even though its percentage ownership interest in Distributing
increases as a result of the distribution), it is arguably not a
Distributee with respect to the Distributing stock. As a result,
because the taxpayer structures the transaction in this manner (rather
than a section 355 distribution followed by a section 351 exchange as
in the first hypothetical), if the steps of the transaction are
respected and in the absence of the application of other sections of
the Code, Distributing could take the position that there are no
restrictions in the existing regulations with respect to (i) the sale
by FP of Newco stock, or (ii) the sale by Newco of Distributing stock.
To remedy this potential disparity in treatment between pro rata
and non pro rata distributions, the temporary regulations expand the
definition of Distributee in the GRA exception (referred to as Foreign
Distributee under such exception) to include all persons that were
shareholders of Distributing immediately prior to the distribution.
Thus, for example, in the second hypothetical above, Newco and FP would
both be Foreign Distributees. Provided that nonrecognition treatment is
claimed under the GRA exception with respect to Newco and FP (referred
to as Qualified Foreign Distributees in the case of Foreign
Distributees for which nonrecognition may be claimed), the GRA would be
triggered by either (i) the sale by FP of Newco stock, or (ii) the sale
by Newco of Distributing stock.
Second, even in the case of pro rata distributions, the IRS and
Treasury believe that the results obtained under the existing
regulations are too dependent upon the form of the transaction. This is
principally because taxpayers could be subject to the stricter
successor-in-interest rules if their transactions were structured in a
particular way, but might be subject to the more liberal distributee
rules if the order of the steps of the particular transaction are
reversed.
In the preamble to the existing regulations, the IRS and Treasury
stated that the successor-in-interest rules were ``designed to provide
taxpayers with flexibility to restructure their operations, without
imposing undue administrative burdens on the Service.'' The IRS
solicited taxpayer comments on the scope of these rules. A number of
commentators have stated that the rules are overly restrictive.
The temporary regulations harmonize the treatment of the
distributee and successor-in-interest rules in order to minimize the
importance of the form of a particular transaction. In addition, as
discussed below, the temporary regulations liberalize the strict
successor rules by replacing the 80-percent threshold (computed on an
individual Distributee basis) with a 50-percent threshold (computed
with reference to all Qualified Foreign Distributees as a group).
The temporary regulations follow the existing regulations by
providing that a sale by a Qualified Foreign Distributee of the stock
of either Controlled or Distributing triggers gain in the same
proportion as the percentage of stock that is sold. However, the
temporary regulations provide that a sale by Qualified Foreign
Distributee(s) of either Distributing or Controlled that results in a
substantial transformation results in a trigger of the full amount of
the deferred gain. A substantial transformation is defined as a greater
than 50-percent (direct or indirect) reduction, on an aggregate basis,
in either the total voting power or the total value of the stock of
Controlled or Distributing held by Qualified Foreign Distributee(s)
immediately after the distribution. The new temporary regulations also
provide that a nonrecognition transaction that results in a substantial
transformation (such as the issuance of stock by Distributing or
Controlled in a public offering) generally causes a trigger of the full
amount of the deferred gain. No gain will be triggered if a
nonrecognition transaction does not result in a substantial
transformation.
The temporary regulations also expand the types of post-
distribution nonrecognition transactions that are permitted
transactions to include section 355 distributions. A post-distribution
section 355 transaction may qualify for nonrecognition treatment if the
foreign distributee (referred to as a Substitute Distributee) that
receives stock of Distributing and/or Controlled qualifies as a
Qualified Foreign Distributee. In such case, the Substitute Distributee
will replace the initial Qualified Foreign Distributee as the person
whose ownership interest is considered for purposes of determining
whether a disposition or substantial transformation has occurred (on a
cumulative, aggregate basis) with respect to such stock.
In addition, the temporary regulations provide that foreign persons
that owned stock or securities of Distributing within two years prior
to the distribution and that own (directly, indirectly, or
constructively) 50 percent or more of the stock of Distributing or
Controlled immediately after the distribution will also be considered
Foreign Distributees. Thus, for example, if F1, a foreign corporation,
transfers the stock of US1 to F2 in exchange for all of the stock of F2
in a section 351 exchange and, within two years after the transfer, US1
distributes all of the stock of US2, its wholly owned subsidiary, to F2
in a section 355 exchange, F1 is also treated as a Foreign Distributee
under this rule. (F1 would have been treated as a Foreign Distributee
without the operation of this rule if the section 355 distribution
occurred prior to the section 351 exchange.)
The IRS and the Treasury also believe that certain procedural
aspects of the GRA exception need modification. The temporary
regulations enhance reporting and security requirements, extend the
term of the GRA from 5 to 10 years, and delete other requirements that
are believed to be unnecessary in light of the modifications herein.
To address the security concerns of the IRS resulting from the
liberalization of the successor-in-interest rules and the expansion of
permissible post-distribution nonrecognition transactions to include
section 355 distributions, the assets of Distributing are more closely
monitored to insure that such corporation has sufficient funds to pay a
potential tax on the deferred gain. In addition, Controlled must agree
to be secondarily liable (after Distributing) for the tax on the
deferred gain.
Moreover, the new temporary regulations extend the term of the GRA
from 5 to 10 years in order to conform the GRA term under section
367(e)(1) to the GRA term under section 367(a). Under section 367(a),
the GRA term in the case of outbound stock transfers is 10 years when
U.S. transferors own at least 50 percent of the stock of a foreign
transferee company. See Sec. 1.367(a)-3T(c)(3) and Notice 87-85 (1987-2
C.B. 395). The IRS and Treasury believe that
[[Page 42168]]
the GRA term under section 367(e)(1) should be no less than the term
under section 367(a) when U.S. transferors control the transferee
because, once the GRA under section 367(e)(1) expires, the sale of
Distributing or Controlled stock by a Qualified Foreign Distributee
likely will not be subject to Federal income taxation. In contrast,
under section 367(a), even if the GRA lapses, an amount approximating
the deferred gain likely will be subject to Federal income taxation if
the U.S. transferor later sells the stock of the transferee foreign
corporation.
Finally, the IRS and Treasury believe that section 367(e)(1)
distributions should be subject to some form of section 6038B
reporting, as are transfers described under sections 367(a) and 367(d).
Thus, the temporary regulations extend limited section 6038B reporting
to section 367(e)(1) transactions. The reporting requirements under
section 6038B will be deemed satisfied in the case of a taxpayer that
qualifies for one of the three exceptions to taxation under the
regulations if the taxpayer complies with the applicable reporting
requirements relating to the relevant exception. This change is also
intended to extend the statute of limitations under section 6501(c)(8)
in cases where distributing corporations do not properly report their
outbound section 355 distributions. Separately, the temporary
regulations provide new notice and reporting rules in cases where
Distributing qualifies for either the FIRPTA or publicly traded
exception.
Specific changes to GRA Exception in Temporary Regulations
The specific requirements of the GRA exception, as amended, are as
follows:
(A) Ten or Fewer Qualified Foreign Distributees
The existing regulations provide that Distributing is permitted to
claim nonrecognition with respect to 10 or fewer individual or
corporate foreign distributees. A ruling is required in the case of a
foreign distributee that holds its interest in Distributing through a
partnership, trust, or estate (whether foreign or domestic). This
requirement is unchanged in the temporary regulations.
(B) Active Trade or Business
The existing regulations provide that, if Distributee is a foreign
corporation, it must be engaged in an active trade or business. This
requirement is removed in the temporary regulations.
(C) Value of Distributing
The existing regulations provide that, immediately after the
distribution, the value of Distributing must be at least equal to the
value of the distributed stock and securities. This requirement is
waived by the existing regulations if Distributing and Controlled are
members of the same consolidated group at the time of the distribution.
This requirement is revised in the temporary regulations to provide
that the value of Distributing (the value of its assets less all of its
liabilities) must be at least equal to the amount of the deferred gain
on all testing dates during the GRA period. (Alternatively,
Distributing may satisfy this test using the adjusted basis of its
assets instead of fair market value.) A testing date is the last day of
each taxable year of Distributing and any day in which Distributing
distributes money or property to its shareholders (regardless of
whether such distribution is treated as a dividend). The waiver in the
existing regulations if Distributing and Controlled are members of the
same consolidated group is eliminated in the temporary regulations.
(D) Treaty Residence
The existing regulations provide that all Distributees are required
to be residents of a country that maintains a comprehensive income tax
treaty with the United States that contains an exchange of information
provision. This requirement is not changed in the temporary
regulations.
(E) Continuity of Interest Rule
The existing regulations provide that the Distributee is required
to continue to own, for a 60-month period, all of the stock of
Distributing and Controlled that it owns at the time of the
distribution. This requirement is maintained, but the period is
increased to 120 months.
(F) Distributing Must Remain in Existence
The existing regulations provide that Distributing cannot go out of
existence pursuant to the distribution. This requirement is maintained
in the temporary regulations.
(G) GRA
The existing regulations provide that Distributing is required to
enter into a 5-year GRA and receive annual certifications from
Distributees, stating that they continue to own the stock that they
held immediately after the distribution. The temporary regulations
increase the GRA term to 10 years.
(H) Annual Certifications
The existing regulations provide that Distributees must provide
their certifications directly to Distributing. Under the temporary
regulations, Controlled also must provide an annual statement to
Distributing, containing information regarding whether any of its
Qualified Foreign Distributees have disposed of their stock in
Controlled during the relevant taxable year.
Special Analyses
It has been determined that this temporary regulation is not a
significant regulatory action as defined in EO 12866. Therefore, a
regulatory assessment is not required. It is hereby certified that this
regulation does not have a significant impact on a substantial number
of small entities. This certification is based on the fact that the
number of corporations that distribute stock or securities to foreign
persons in transactions that qualify under section 355, and thus become
subject to the collection of information contained in these
regulations, is estimated to be only 260 per year. Moreover, because
these regulations will primarily affect large multinational
corporations with foreign shareholders, it is estimated that out of the
260 annual transactions subject to reporting, very few, if any, will
involve small entities. Therefore, the regulations do not significantly
alter the reporting or recordkeeping duties of small entities. Thus, 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, a copy of these temporary regulations will be
submitted to the Chief Counsel for Advocacy of the Small Business
Administration for comment on their impact on small business.
Drafting Information
The principal author of these regulations is Philip L. Tretiak of
the Office of Associate Chief Counsel (International), within the
Office of Chief Counsel, IRS. However, other personnel from the IRS and
Treasury Department participated in their development.
List of Subjects
26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
26 CFR Part 602
Reporting and recordkeeping requirements.
[[Page 42169]]
Adoption of Amendments to the Regulations
Accordingly, 26 CFR parts 1 and 602 are amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 is amended by
removing the entry for Sec. 1.367(e)-1 and adding an entry in numerical
order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.367(e)-1T also issued under 26 U.S.C. 367(e)(1) * * *
Sec. 1.367 [Amended]
Par. 2. Sections 1.367(e)-0 and 1.367(e)-1 are removed.
Par. 3. Sections 1.367(e)-0T and 1.367(e)-1T are added to read as
follows:
Sec. 1.367(e)-0T Treatment of section 355 distributions by U.S.
corporations to foreign persons; table of contents.
This section lists captioned paragraphs contained in Sec. 1.367(e)-
1T.
Sec. 1.367(e)-1T Treatment of section 355 distributions by U.S.
corporations to foreign persons.
(a) Purpose and scope.
(b) Recognition of gain required.
(1) In general.
(2) Computation of gain of the distributing corporation.
(3) Treatment of foreign distributee.
(4) Nonapplication of section 367(a) principles that provide for
exceptions to gain recognition.
(5) Partnerships, trusts, and estates.
(i) In general.
(ii) Written statement.
(6) Anti-abuse rule.
(c) Nonrecognition of gain.
(1) Distribution by a U.S. real property holding corporation of
stock in a second U.S. real property holding corporation.
(2) Distribution by a publicly traded corporation.
(i) Conditions for nonrecognition.
(ii) Recognition of gain if foreign distributee owns 5 percent of
distributing corporation.
(iii) Reporting requirements.
(iv) Timely filed return.
(v) Relation to other nonrecognition provisions.
(3) Distribution of certain domestic stock to 10 or fewer qualified
foreign distributees.
(i) In general.
(ii) Conditions for nonrecognition.
(iii) Agreement to recognize gain.
(iv) Waiver of period of limitation.
(v) Annual certifications and other reporting requirements.
(vi) Special rule for nonrecognition transactions.
(vii) Recognition of gain.
(viii) Failure to comply.
(d) Other consequences.
(1) Exchange under section 897(e)(1).
(2) Dividend treatment under section 1248.
(3) Distribution of stock of a passive foreign investment company.
[Reserved]
(4) Reporting under section 6038B.
(e) Examples.
(f) Effective date.
Sec. 1.367(e)-1T Treatment of section 355 distributions by U.S.
corporations to foreign persons (temporary).
(a) Purpose and scope. This section provides rules concerning the
recognition of gain by a domestic corporation on a distribution that
qualifies for nonrecognition under section 355 of stock or securities
of a domestic or foreign corporation to a person who is not a U.S.
person. Paragraph (b) of this section states as a general rule that
gain recognition is required on the distribution. Paragraph (c) of this
section provides exceptions to the gain recognition rule for certain
distributions of stock or securities of a domestic corporation.
Paragraph (d) of this section refers to other consequences of
distributions described in this section. Paragraph (e) of this section
provides examples of these rules. Finally, paragraph (f) of this
section specifies the effective date of this section.
(b) Recognition of gain required--(1) In general. (i) If a domestic
corporation (distributing corporation) makes a distribution that
qualifies for nonrecognition under section 355 of stock or securities
of a domestic or foreign corporation (controlled corporation) to a
person who is not a qualified U.S. person, then, except as provided in
paragraph (c) of this section, the distributing corporation shall
recognize gain (but not loss) on the distribution under section
367(e)(1). No gain is required to be recognized under this section with
respect to a distribution to a qualified U.S. person of stock or
securities that qualifies for nonrecognition under section 355. For
purposes of this section, a qualified U.S. person is--
(A) A citizen or resident of the United States; and
(B) A domestic corporation.
(ii) In the case of stock or securities owned through a
partnership, trust, or estate, see paragraph (b)(5) of this section.
(2) Computation of gain of the distributing corporation. The gain
recognized by the distributing corporation under paragraph (b)(1) of
this section shall be equal to the excess of the fair market value of
the stock or securities distributed to persons who are not qualified
U.S. persons (determined as of the time of the distribution) over the
distributing corporation's adjusted basis in the stock or securities
distributed to such distributees. For purposes of the preceding
sentence, the distributing corporation's adjusted basis in each unit of
each class of stock or securities distributed to a distributee shall be
equal to the distributing corporation's total adjusted basis in all of
the units of the respective class of stock or securities owned
immediately before the distribution, divided by the total number of
units of the class of stock or securities owned immediately before the
distribution.
(3) Treatment of distributee. If the distribution otherwise
qualifies for nonrecognition under section 355, each distributee shall
be considered to have received stock or securities in a distribution
qualifying for nonrecognition under section 355, even though the
distributing corporation may recognize gain on the distribution under
this section. Thus, the distributee shall not be considered to have
received a distribution described in section 301 or a distribution in
an exchange described in section 302(b) upon the receipt of the stock
or securities of the controlled corporation. Except where section
897(e)(1) and the regulations thereunder cause gain to be recognized by
the distributee, the basis of the distributed domestic or foreign
corporation stock in the hands of the foreign distributee shall be the
basis of the distributed stock determined under section 358 without any
increase for any gain recognized by the domestic corporation on the
distribution.
(4) Nonapplication of section 367(a) principles that provide for
exceptions to gain recognition. Paragraph (b)(1) of this section
requires recognition of gain notwithstanding the application of any
principles contained in section 367(a) or the regulations thereunder.
The only exceptions to paragraph (b)(1) of this section are contained
in paragraph (c) of this section. None of these exceptions applies to
distributions of stock or securities of a foreign corporation.
(5) Partnerships, trusts, and estates--(i) In general.
For purposes of this section, stock or securities owned by or for a
partnership (whether foreign or domestic) shall be considered to be
owned proportionately by its partners. In applying this principle, the
proportionate share of the stock or securities of the distributing
corporation considered to be owned by a partner of the partnership at
the time of the distribution shall equal the partner's distributive
share of gain that would be realized by the partnership from a sale of
stock of the distributing corporation immediately before the
distribution (without regard to whether, under the particular facts,
any gain would actually be realized on the sale
[[Page 42170]]
for U.S. tax purposes), determined under the rules and principles of
sections 701 through 761 and the regulations thereunder. For purposes
of this section, stock or securities owned by or for a trust or estate
(whether foreign or domestic) shall be considered to be owned
proportionately by the persons who would be treated as owning such
stock or securities under sections 318(a)(2)(A) and (B). In applying
section 318(a)(2)(B), if a trust includes interests that are not
actuarially ascertainable and a principal purpose of the inclusion of
the interests is the avoidance of section 367(e)(1), all such interests
shall be considered to be owned by foreign persons. In a case where an
interest holder in a partnership, trust, or estate that owns stock of
the distributing corporation is itself a partnership, trust, or estate,
the rules of this paragraph (b)(5) apply to individuals or corporations
that own (direct or indirect) interests in the upper-tier partnership,
trust or estate.
(ii) Written statement. If, prior to the date on which the
distributing corporation must file its income tax return for the year
of the distribution, the corporation obtains a written statement,
signed under penalties of perjury by an interest holder in a
partnership, trust, or estate that receives a distribution described in
paragraph (b)(1) of this section from the corporation, which statement
certifies that the interest holder is a qualified U.S. person (as
defined in paragraph (b)(1)(i) of this section), no liability shall be
imposed under paragraph (b)(1) of this section with respect to the
distribution to the partnership, trust, or estate to the extent of the
interest holder's interest in the partnership, trust, or estate, unless
the distributing corporation knows or has reason to know that the
statement is false, or it is subsequently determined that the interest
holder, in fact, was not a qualified U.S. person at the time of the
distribution. The written statement must set forth the amount of the
interest holder's proportionate interest in the partnership, trust, or
estate as determined under paragraph (b)(5)(i) of this section and must
set forth the amount of such entity's proportionate interest in the
distributing and controlled corporation, as well as the interest
holder's name, taxpayer identification number, home address (in the
case of an individual) or office address and place of incorporation (in
the case of a corporation). The written statement must be retained by
the distributing corporation with its books and records for a period of
three calendar years following the close of the last calendar year in
which the corporation relied upon the statement.
(6) Anti-abuse rule. If a domestic corporation is directly or
indirectly formed or availed of by one or more foreign persons to hold
the stock of a second domestic corporation for a principal purpose of
avoiding the application of section 367(e)(1) and the requirements of
this section, any distribution of stock or securities to which section
355 applies by such second domestic corporation shall be treated for
Federal income tax purposes as a distribution to such foreign person or
persons, followed by a transfer of the stock or securities to the first
domestic corporation. The qualification of the distribution to the
foreign person for an exception to the general gain recognition rule of
paragraph (b)(1) of this section, and the consequences of the transfer
to the first domestic corporation under this section, shall be
determined in accordance with all of the facts and circumstances.
(c) Nonrecognition of gain--(1) Distribution by a U.S. real
property holding corporation of stock in a second U.S. real property
holding corporation. Gain shall not be recognized under paragraph (b)
of this section by a domestic corporation making a distribution that
qualifies for nonrecognition under section 355 of stock or securities
of a domestic controlled corporation to a person who is not a qualified
U.S. person (as defined in paragraph (b)(1)(i) of this section) if the
conditions specified in paragraphs (c)(1) (i) and (ii) of this section
are both satisfied:
(i) Immediately after the distribution, both the distributing and
controlled corporations are U.S. real property holding corporations (as
defined in section 897(c)(2)). For the treatment of the distribution
under section 897, see section 897(e)(1) and the regulations
thereunder.
(ii) The distributing corporation attaches to its timely filed
Federal income tax return for the taxable year in which the
distribution occurs a statement titled ``Section 367(e)(1)--Reporting
of Section 355 Distribution by U.S. Real Property Holding
Corporation'', signed under penalties of perjury by an officer of the
corporation, disclosing the following information--
(A) A statement that the distribution is one to which paragraph
(c)(1) of this section applies; and
(B) A description of the transaction in which one U.S. real
property holding corporation distributes the stock of another U.S. real
property holding corporation in a transaction that is described under
section 355.
(iii) For purposes of this paragraph (c)(1), an income tax return
(including an amended return) will be considered a timely filed Federal
income tax return if it is filed prior to the time that the Internal
Revenue Service discovers that the reporting requirements of this
paragraph have not been satisfied.
(2) Distribution by a publicly traded corporation--(i) Conditions
for nonrecognition. Except as provided by paragraph (c)(2)(ii) of this
section, gain shall not be recognized under paragraph (b) of this
section by a domestic corporation making a distribution that qualifies
for nonrecognition under section 355 of stock or securities of a
domestic controlled corporation to a person who is not a qualified U.S.
person (as defined in paragraph (b)(1)(i) of this section) if both of
the following conditions are satisfied:
(A) Stock of the domestic controlled corporation with a value of
more than 80 percent of the outstanding stock of the corporation is
distributed with respect to one or more classes of the outstanding
stock of the distributing corporation that are regularly traded on an
established securities market, as defined in Sec. 1.897-1(m) (1) and
(3), located in the United States. Stock is considered to be regularly
traded if it is regularly quoted by brokers or dealers making a market
in such interests. A broker or dealer is considered to make a market
only if the broker or dealer holds himself out to buy or sell interests
in the stock at the quoted price.
(B) The distributing corporation satisfies the reporting
requirements contained in paragraph (c)(2)(iii) of this section.
(ii) Recognition of gain if distributee owns 5 percent of
distributing corporation. If, at the time of the distribution, the
distributing corporation knows or has reason to know that any
distributee who is not a qualified U.S. person (as defined in paragraph
(b)(1)(i) of this section) owns, directly, indirectly, or
constructively (using the rules of sections 897(c)(3) and (c)(6)(C),
but subject to the rules of paragraph (b)(5) of this section), more
than 5 percent (by value) of a class of stock or securities of the
distributing corporation with respect to which the stock or securities
of the controlled corporation is distributed (a 5-percent shareholder),
the distributing corporation will qualify for nonrecognition under
paragraph (c)(2)(i) of this section if, with respect to such 5-percent
shareholder, either--
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(A) The distribution qualifies for nonrecognition under paragraph
(c)(3) of this section; or
(B) The distributing corporation recognizes gain (but not loss) on
the distribution under paragraph (b) of this section.
(iii) Reporting Requirements. To qualify for nonrecognition
treatment under paragraph (c)(2)(i) of this section, the distributing
corporation must attach to its timely filed Federal income tax return,
for the taxable year in which the distribution occurs a statement
titled ``Section 367(e)(1)--Reporting of Section 355 Distribution by
U.S. Publicly Traded Corporation to Foreign Persons,'' signed under
penalties of perjury by an officer of the corporation, disclosing the
following information:
(A) A statement that the distribution is one to which paragraph
(c)(2) of this section applies.
(B) A description of the transaction in which the distributing
corporation that is publicly traded on a U.S. securities market
distributed stock or securities of a domestic controlled corporation.
(C) The U.S. securities market on which the stock of the
distributing corporation is publicly traded.
(D) A statement that, at the time of the distribution, either--
(1) The distributing corporation does not know or have reason to
know that any distributee who is not a qualified U.S. shareholder (as
defined in paragraph (b)(1)(i) of this section) is a 5-percent
shareholder; or
(2) The distributing corporation knows or has reason to know that
one or more distributees who are not qualified U.S. persons are 5-
percent shareholders, and, that with respect to each such 5-percent
shareholder, either--
(i) Gain will not be recognized because the requirements of
paragraph (c)(3) of this section are satisfied; or
(ii) Gain (but not loss) will be recognized in accordance with
paragraph (b) of this section.
(iv) Timely filed return. For purposes of this paragraph (c)(2), an
income tax return (including an amended return) will be considered a
timely filed Federal income tax return if it was received prior to the
time that the Internal Revenue Service discovers that the reporting
requirements of this paragraph (c)(2) have not been satisfied.
(v) Relation to other nonrecognition provisions. If the
distribution of the stock and securities of the controlled corporation
also qualifies for nonrecognition under paragraph (c)(1) of this
section, the distributing corporation shall be entitled to
nonrecognition under paragraph (c)(1) of this section and not this
paragraph (c)(2).
(3) Distribution of certain domestic stock to 10 or fewer qualified
foreign distributees--(i) In general. (A) Gain shall not be recognized
under paragraph (b) of this section by a domestic corporation making a
distribution that qualifies for nonrecognition under section 355 of
stock or securities of a domestic controlled corporation with respect
to a foreign distributee (defined in paragraph (c)(3)(i)(B) of this
section) that is a qualified foreign distributee (defined in paragraph
(c)(3)(i)(C) of this section), provided that each of the conditions
contained in paragraph (c)(3)(ii) of this section is satisfied. If one
or more foreign distributees are not treated as qualified foreign
distributees, the distributing corporation shall recognize a percentage
of the gain realized on the distribution, equal to the percentage of
its stock owned immediately before the distribution, directly or
indirectly, by foreign distributees who are not qualified foreign
distributees. See paragraph (b)(5) of this section for rules regarding
the ownership of stock held by a partnership, trust, or estate.
(B) For purposes of this paragraph (c)(3), the term foreign
distributee is any person who is not a qualified U.S. person (as
defined in paragraph (b)(1)(i) of this section) if such person--
(1) Owned stock or securities of the distributing corporation
immediately prior to the distribution;
(2) Owned stock or securities of the distributing corporation
within two years prior to the distribution and directly, indirectly, or
constructively (using the rules of section 318) owns 50 percent or more
of either the total voting power or the total value of the stock of the
distributing or controlled corporation immediately after the
distribution; or
(3) Is a transferee or substitute distributee, as defined in
paragraph (c)(3)(vi) (C) or (D) of this section.
(C) For purposes of this section, except as provided by paragraph
(c)(3)(i)(D) of this section, the term qualified foreign distributee is
a foreign distributee that, during the entire period for which the
agreement to recognize gain (described in paragraph (c)(3)(iii) of this
section) is in effect with respect to the distributee, is either an
individual or a corporation (as defined in section 7701(a)(3)),
resident of a foreign country that maintains a comprehensive income tax
treaty with the United States which contains an information exchange
provision. However, no more than ten foreign distributees in total may
be current or former qualified foreign distributees (including any
transferee or substitute distributees as defined in paragraph
(c)(3)(vi) (C) or (D) of this section) during the entire term of the
gain recognition agreement. See, however, paragraph (c)(3)(vi)(G) of
this section for special rules applicable to substitute distributees.
(D) Unless the distributing corporation obtains a ruling from the
Internal Revenue Service to the contrary, no foreign distributee shall
be treated as a qualified foreign distributee if it holds its interest
in the distributing corporation through a partnership, trust or estate,
characterized as such under the taxation laws of the United States or
any entity that is treated as fiscally transparent under the taxation
laws of the foreign country in which it is a resident if such country
maintains a comprehensive income tax treaty with the United States
which contains an information exchange provision.
(ii) Conditions for nonrecognition. A distribution of stock or
securities described in paragraph (c)(3)(i) of this section to a
qualified foreign distributee shall not result in the recognition of
gain if each of the following conditions is satisfied:
(A) If more than ten foreign distributees, at any time during the
entire term of the gain recognition agreement, are eligible to be
qualified foreign distributees, the distributing corporation shall
designate the foreign distributees to be considered qualified foreign
distributees for which nonrecognition is claimed under this paragraph
(c)(3).
(B) Immediately after the distribution and on each testing date
beginning after the distribution and during the period that the
agreement to recognize gain (described in paragraph (c)(3)(iii) of this
section) is in effect, the value of the distributing corporation (that
is, the fair market value of the assets of the distributing
corporation, less all liabilities of the distributing corporation) must
exceed the amount of gain that the distributing corporation realized,
but did not recognize (on or after the distribution) under this
paragraph (c)(3), as a consequence of the distribution with respect to
qualified foreign distributees. This requirement will be deemed
satisfied for any testing date upon which the adjusted basis of the
distributing corporation's assets, less all liabilities of the
distributing corporation, exceeds the amount of the deferred gain. A
testing date is--
(1) The last day of any taxable year of the distributing
corporation during which the agreement to recognize gain is in effect;
and
[[Page 42172]]
(2) Any date upon which the distributing corporation distributes
property to its shareholders under section 301(a).
(C) At all times until the close of the 120-month period following
the end of the taxable year of the distributing corporation in which
the distribution was made, except under the circumstances and subject
to the consequences prescribed in paragraphs (c)(3) (vi) and (vii) of
this section, all qualified foreign distributees must continue to own,
directly or indirectly, all of the stock and securities of the
distributing and controlled corporations that the qualified foreign
distributee owned, directly or indirectly, immediately after the
distribution (including any stock and securities of the distributing or
controlled corporation later acquired from the distributing or
controlled corporation for which the distributee has a holding period
determined under section 1223 by reference to the stock or securities).
(D) The distribution of stock or securities described in paragraph
(c)(3)(i) of this section must not be a distribution pursuant to which
the distributing corporation goes out of existence.
(E) The distributing corporation must file an agreement to
recognize gain, and the controlled corporation must agree to be
secondarily liable in the event that the distributing corporation does
not pay the tax due upon a recognition event described in paragraph
(c)(3)(vii) of this section. The agreement is described in paragraph
(c)(3)(iii) of this section and filed by the distributing corporation
with its Federal income tax return for its taxable year in which the
distribution is made.
(F) For each of the taxable years of the distributing corporation,
beginning with the taxable year of the distribution and ending with the
taxable year that includes the close of the 120-month period following
the end of the taxable year of the distributing corporation in which
the distribution was made, all qualified foreign distributees and the
controlled corporation must provide to the distributing corporation the
annual certifications described in paragraph (c)(3)(v) of this section,
and the distributing corporation must file the certifications with its
tax return.
(iii) Agreement to recognize gain. The agreement to recognize gain
required by this paragraph (c)(3)(iii) shall be prepared by or on
behalf of the distributing corporation and signed under penalties of
perjury by an authorized officer of the distributing corporation. An
authorized officer of the controlled corporation must also sign the
agreement under penalties of perjury, agreeing to extend the statute of
limitations and accept liability for the tax in the event that the
distributing corporation fails to pay the tax upon a recognition event.
The agreement provided by the distributing corporation shall set forth
the following items, under the heading ``GAIN RECOGNITION AGREEMENT
UNDER Sec. 1.367(e)-1T(c)(3)(iii)'', with paragraphs labeled to
correspond with such items:
(A) A declaration that the distribution is one to which paragraph
(c)(3) of this section applies.
(B) A description of each qualified foreign distributee, which
shall include the qualified foreign distributee's--
(1) Name;
(2) Address;
(3) Taxpayer identification number (if any); and
(4) Residence and citizenship (in the case of an individual) or
place of incorporation and country of residence (in the case of a
qualified foreign distributee that is a corporation for Federal income
tax purposes under section 7701(a)(3)).
(C) A description of the stock and securities of the distributing
and controlled corporations owned (directly or indirectly) by each
qualified foreign distributee, including--
(1) The number or amount of shares;
(2) The type of stock or securities;
(3) The fair market values of the stock and securities of the
controlled corporation owned (directly or indirectly) by the qualified
foreign distributee(s), determined immediately before and immediately
after the distribution;
(4) The distributing corporation's adjusted basis (immediately
before the distribution) in the stock and securities of the controlled
corporation distributed to the qualified foreign distributees;
(5) The fair market value of the distributing corporation (fair
market value of its assets, less all liabilities of the distributing
corporation) immediately after the distribution. Such amount must
exceed the amount of gain that the distributing corporation realized,
but did not recognize under this paragraph (c)(3), on the distribution
to qualified foreign distributees. Alternatively, the fair market value
standard will be deemed satisfied if the adjusted basis of the assets
of the distributing corporation, less all liabilities of the
distributing corporation, exceeds the amount of the deferred gain.
(6) For each applicable valuation, a summary of the method
(including appraisals, if any) used for determining the fair market
values required by this paragraph (c)(3)(iii).
(D) The distributing corporation's agreement to recognize gain in
accordance with paragraph (c)(3)(vii) of this section.
(E) The controlled corporation's agreement to be secondarily liable
for the distributing corporation's tax liability, pursuant to the gain
recognition agreement described in this paragraph (c)(3)(iii).
(F) A waiver of the period of limitations by both the distributing
and controlled corporation as described in paragraph (c)(3)(iv) of this
section.
(G) An attached statement from each qualified foreign distributee
declaring that the qualified foreign distributee will provide to the
distributing corporation the annual certifications described in
paragraph (c)(3)(v)(A) of this section for each of the taxable years of
the distributing corporation, beginning with the taxable year of the
distribution and ending with the taxable year that includes the close
of the 120-month period following the taxable year of the distributing
corporation in which the distribution was made. The attached statements
shall be signed under penalties of perjury by an authorized officer in
the case of any qualified foreign distributee that is a corporation for
Federal income tax purposes or by the individual in the case of a
qualified foreign distributee that is an individual.
(H) An attached statement from the controlled corporation declaring
that it will provide to the distributing corporation the annual
certifications described in paragraph (c)(3)(v)(B) of this section.
(I) An agreement by the distributing corporation to attach to its
tax returns the annual certifications of the qualified foreign
distributees and the controlled corporation described in paragraphs
(c)(3)(v)(A) and (B) of this section, respectively, and to meet any
other reporting requirement in accordance with paragraph (c)(3)(v) of
this section.
(iv) Waiver of period of limitation. The distributing corporation
and the controlled corporation must file, with the gain recognition
agreement described in paragraph (c)(3)(iii) of this section, a waiver
of the period of limitation on the assessment of tax upon the gain
realized on the distribution to the qualified foreign distributee(s).
The waiver shall be executed on Form 8838, substitute form, or such
other form as may be prescribed by the Commissioner for this purpose
and shall extend the period for assessment of such tax to a date not
earlier than the close of the thirteenth full year following the
taxable year that includes the distribution. A
[[Page 42173]]
properly executed Form 8838, substitute form, or such other form
authorized by this paragraph (c)(3)(iv) shall be deemed to be consented
to and signed by a Service Center Director or the Assistant
Commissioner (International) for purposes of Sec. 301.6501(c)-1(d) of
this chapter.
(v) Annual certifications and other reporting requirements. For
each of the taxable years of the distributing corporation, beginning
with the taxable year of the distribution and ending with the taxable
year that includes the close of the 120-month period following the end
of the taxable year of the distributing corporation in which the
distribution was made, the distributing corporation must file with its
Federal income tax return the annual certifications for that year
described in this paragraph (c)(3)(v).
(A) Each current qualified foreign distributee must provide to the
distributing corporation an annual certification, signed under
penalties of perjury by an authorized officer of the qualified foreign
distributee that is a corporation or by the qualified foreign
distributee that is an individual (as the case may be). Each annual
certification must identify the distribution with respect to which it
is given by setting forth the date and a summary description of the
distribution. In the annual certification, the qualified foreign
distributee must declare that--
(1) The qualified foreign distributee continues to satisfy
paragraph (c)(3)(i)(C) of this section; and
(2) The qualified foreign distributee continues to own, directly or
indirectly, without interruption, the stock and securities of the
distributing and controlled corporations (except to the extent the
stock or securities have been disposed of in a transfer described in
paragraph (c)(3)(vi) of this section).
(B) The controlled corporation must provide a certification to the
distributing corporation, signed under penalties of perjury by an
authorized officer of the corporation, that lists each current
qualified foreign distributee holding (directly or indirectly) stock of
the controlled corporation and its direct or indirect ownership
interest in the controlled corporation at both the first day and the
last day of the taxable year for which the distributing corporation
files its Federal income tax return, and certifies the accuracy of that
list.
(C) The distributing corporation must attach to the annual
certifications described in paragraphs (c)(3)(v)(A) and (B) of this
section, a statement signed under penalties of perjury by an authorized
officer of the corporation, in which the corporation declares that, to
the best of its knowledge, the annual certifications are true.
(D) The distributing corporation must also attach to the annual
certifications a separate statement indicating--
(1) The names and addresses of each current and each former
qualified foreign distributee;
(2) The percentage of direct or indirect ownership that the
qualified foreign distributees retain in the distributing corporation
at year-end; and
(3) A certification that the value of the distributing corporation
(or the adjusted basis of its assets), less all of the liabilities of
the distributing corporation on all testing dates, exceeded the amount
of the gain deferred as of the testing date.
(vi) Special rule for nonrecognition transactions. (A) Gain shall
not be recognized under paragraph (c)(3)(vii) of this section if the
distributing or controlled corporation is acquired by a successor-in-
interest (described in paragraph (c)(3)(vi)(B) of this section), or
upon a direct or indirect disposition by a qualified foreign
distributee of stock or securities of a distributing or controlled
corporation (or a successor-in-interest) that is subject to a gain
recognition agreement described in paragraph (c)(3)(iii) of this
section, if the requirements of this paragraph (c)(3)(vi) are satisfied
and the disposition consists of a transfer described in section 332,
337, 351, 354, 355, 356, or 361 that does not result in a substantial
transformation (as defined in paragraph (c)(3)(vii)(B) of this
section). For special rules regarding transfers described in section
355, see paragraph (c)(3)(vi)(G) of this section.
(B) For purposes of this section, the term successor-in-interest
refers to any domestic corporation that acquires the assets of the
distributing or controlled corporation in a transaction described in
section 381(a) to which this paragraph (c)(3)(vi) applies.
(C) For purposes of this section, the term transferee distributee
refers to:
(1) Any corporation whose stock or securities are exchanged for the
stock or securities of the distributing or controlled corporation (or a
successor-in-interest), or of another transferee distributee, in a
transaction described in section 351, 354, or sections 361 and
381(a)(2), to which this paragraph (c)(3)(vi) applies.
(2) Any corporation that acquires the assets of any qualified
foreign distributee, transferee distributee or substitute distributee
in a transaction described in section 381(a).
(D) For purposes of this section, the term substitute distributee
refers to any person that acquires the stock or securities of the
distributing or controlled corporation (or a successor-in-interest), or
of a qualified foreign distributee, in a section 355 distribution.
(E) Gain shall not be recognized under paragraph (c)(3)(vii) of
this section in a transaction involving a transfer of the assets of the
distributing or controlled corporation to a successor-in-interest, only
if the following information and agreements are included with the first
annual certification thereafter filed under paragraph (c)(3)(v) of this
section:
(1) A description of the transaction (including a statement of
applicable Internal Revenue Code provisions, and a description of stock
or securities transferred, exchanged, or received in the transaction).
(2) A description of the successor-in-interest (including the name,
address, taxpayer identification number, and place of incorporation of
the successor in interest).
(3) An agreement of the successor-in-interest, signed under
penalties of perjury by an authorized officer of the successor-in-
interest corporation, to succeed to all of the responsibilities and
duties of the distributing corporation or the controlled corporation
(as the case may be) under this paragraph (c)(3) as if the successor-
in-interest were the distributing or controlled corporation.
(F) Gain shall not be recognized under paragraph (c)(3)(vii) of
this section in a transaction described in paragraph (c)(3)(vi)(A) of
this section in which a qualified foreign distributee, directly or
indirectly, disposes of, and a transferee distributee acquires, stock
or securities of the distributing or controlled corporation (or a
successor-in-interest), or another transferee distributee, only if the
transferee distributee is either a qualified U.S. person or qualifies
as a qualified foreign distributee under this paragraph (c)(3) and the
following information and agreements are included with the first annual
certification thereafter filed under paragraph (c)(3)(v) of this
section:
(1) A description of the transaction (including a statement of
applicable Internal Revenue Code provisions, and a description of the
stock or securities of the distributing or controlled corporation (or a
successor-in-interest) owned, directly or indirectly, by qualified
foreign distributees immediately after the transaction).
(2) An agreement of the distributing corporation and the controlled
corporation (amending the agreement described in paragraph (c)(3)(iii)
of this section), signed under penalties of perjury by an authorized
officer of the corporation, to recognize gain (in the
[[Page 42174]]
case of the distributing corporation) and to be secondarily liable (in
the case of the controlled corporation) in accordance with the
provisions of this paragraph (c)(3) upon the occurrence of a
disposition, directly or indirectly, by the foreign transferee
distributee of any stock or securities of the distributing or
controlled corporation (or a successor-in-interest) (other than a
disposition that itself satisfies the requirements of this paragraph
(c)(3)(vi)).
(3) An agreement of each foreign transferee distributee, signed
under penalties of perjury by the individual or an authorized officer
of the corporation, to comply with all of the responsibilities,
qualifications and duties of a qualified foreign distributee under this
paragraph (c)(3), with respect to the stock or securities of the
distributing or controlled corporation (or a successor-in-interest)
owned, directly or indirectly, by the transferee distributee.
(G) Gain shall not be recognized under paragraph (c)(3)(vii) of
this section in the case of a section 355 distribution by a qualified
foreign distributee of stock or securities of the distributing or
controlled corporation (or a successor-in-interest), or of another
qualified foreign distributee. The qualified foreign distributee that
distributed the stock or securities is no longer required to comply
with the rules of this section applicable to qualified foreign
distributees, provided such person no longer has any interest, directly
or indirectly, in the distributing and controlled corporation. Thus,
for example, such person is not counted as a qualified foreign
distributee for purposes of limiting gain recognition to 10 or fewer
foreign distributees. In order for this provision to apply, the
substitute distributee must either be a qualified U.S. person or
satisfy the requirements applicable to qualified foreign distributees
contained in this paragraph (c)(3) and must include with the first
annual certification thereafter filed under paragraph (c)(3)(v) of this
section the following information and agreements:
(1) A description of the transaction (including a statement of
applicable Internal Revenue Code sections, and a description of the
stock or securities distributed in the transaction).
(2) An agreement of the distributing corporation and the controlled
corporation (amending the agreement described in paragraph (c)(3)(iii)
of this section), signed under penalties of perjury by an authorized
officer of the corporation, to recognize gain (in the case of the
distributing corporation) and to be secondarily liable (in the case of
the controlled corporation) in accordance with the provisions of this
paragraph (c)(3) upon the occurrence of a disposition, directly or
indirectly, by a foreign substitute distributee of any stock or
securities received by the substitute distributee in the transaction.
(3) An agreement of each foreign substitute distributee, signed
under penalties of perjury by the individual or authorized officer of
the corporation, to succeed to all of the responsibilities,
qualifications and duties of a qualified foreign distributee under this
paragraph (c)(3), with respect to the stock or securities of the
distributing or controlled corporation (or a successor-in-interest)
received by such substitute distributee.
(vii) Recognition of gain. (A) (1) The distributing corporation
must file, within 90 days of a transaction described in this paragraph
(c)(3)(vii)(A), an amended return for the year of the distribution and
recognize gain realized but not recognized upon such distribution, if,
prior to the close of the 120-month period following the end of the
taxable year of the distributing corporation in which the distribution
was made, either--
(i) A qualified foreign distributee sells (or otherwise disposes
of) the stock or securities of the distributing or controlled
corporation that the qualified foreign distributee owned (directly or
indirectly) (other than pursuant to a transfer described in paragraph
(c)(3)(vi) of this section); or
(ii) Any other transaction (e.g., a public offering or
reorganization) results in a substantial transformation (as defined in
paragraph (c)(3)(vii)(B) of this section) in either the distributing or
controlled corporation (or both).
(2) For purposes of this paragraph (c)(3)(vii)(A), a disposition
includes, but is not limited to, any disposition treated as a sale or
exchange under this subtitle (e.g., section 301(c)(3)(A), 302(a),
351(b) or 356(a)(1)). For the computation of gain in the case of a sale
(or similar disposition), see paragraph (c)(3)(vii)(C) of this section.
For the computation of gain in the case of other transactions, see
paragraphs (c)(3)(vii) (D) and (F) of this section. For special rules
regarding substitute distributees, see paragraph (c)(3)(vii)(E) of this
section.
(B) A transaction is treated as a substantial transformation if, as
a result of such transaction, the qualified foreign distributees,
transferee distributees and substitute distributees own, in the
aggregate, less than 50 percent of either the total voting power or the
total value of the stock of the distributing or the controlled
corporation, directly or indirectly, that the qualified foreign
distributees owned immediately after the distribution.
(C) In the case of a sale (or similar disposition), directly or
indirectly, by a qualified foreign distributee of the stock or
securities of the distributing or controlled corporation (or a
successor-in-interest) that does not result in a substantial
transformation, the distributing corporation shall be required to
recognize a proportionate amount of the gain realized but not
recognized under this paragraph (c)(3), equal to the percentage of
stock of the distributing or controlled corporation, as the case may
be, sold (or otherwise disposed of), directly or indirectly, by the
qualified foreign distributee. However, if the sale (or other
disposition) of stock or securities by a qualified foreign distributee
results in a substantial transformation, the distributing corporation
(or its successor-in-interest) must recognize the entire deferred gain
that has not already been recognized under paragraph (c)(3)(vii) of
this section.
(D) In the case of a nonrecognition transaction that results in a
substantial transformation, the distributing corporation must recognize
the entire deferred gain that has not already been recognized under
paragraph (c)(3)(vii) of this section. If a nonrecognition transaction
does not result in a substantial transformation, the distributing
corporation does not recognize any gain provided that the requirements
of paragraph (c)(3)(vi) of this section are satisfied.
(E) A sale (or other disposition), directly or indirectly, by a
substitute distributee, of all or a portion of the stock or securities
of the distributing or controlled corporation (or a successor-in-
interest) that the substitute distributee received in the section 355
distribution shall be treated as a disposition of such stock or
securities by a qualified foreign distributee (in accordance with
paragraph (c)(3)(vii)(C) of this section) for purposes of computing
gain under this paragraph (c)(3)(vii).
(F) Other transactions or events shall trigger gain under this
paragraph (c)(3)(vii) as follows:
(1) If a qualified foreign distributee ceases to satisfy the
requirements for a qualified foreign distributee contained in paragraph
(c)(3)(i)(C) of this section (or any other specified requirements in
paragraph (c)(3) of this section), the qualified foreign distributee
shall be treated as if it sold all of the stock and securities that it
owned, directly or indirectly, in the distributing and controlled
corporation (or a successor-
[[Page 42175]]
in-interest), on the date that such person ceased to meet the
requirements.
(2) If a substitute distributee ceases to satisfy the requirements
for a qualified foreign distributee contained in paragraph (c)(3)(i)(C)
of this section (or any other specified requirements in paragraph
(c)(3) of this section), the substitute distributee shall be treated as
if it sold all of the stock and securities of the distributing or
controlled corporation (or a successor-in-interest) that it received in
the distribution, on the date that it ceased to meet the requirements.
(3) If the distributing corporation (or a successor-in-interest)
fails to satisfy the requirement contained in paragraph (c)(3)(ii)(B)
of this section on any testing date during which the agreement to
recognize gain is in effect, such failure will be treated as if a
substantial transformation has occurred on such date.
(4) If either the distributing or controlled corporation (or a
successor-in-interest) is acquired in a section 381(a) exchange and the
acquirer is not a successor-in-interest that satisfies the requirements
of paragraph (c)(3)(vi)(E), such acquisition will be treated as if a
substantial transformation has occurred on the date of the acquisition.
(G) A qualified foreign distributee that sells (or otherwise
disposes of) all of its interest, directly or indirectly, in the
distributing and controlled corporation ceases thereafter to be a
qualified foreign distributee. In addition, where one qualified foreign
distributee owns all of the stock of another qualified foreign
distributee, and both persons have identical direct or indirect
interests in the distributing or controlled corporation, the direct or
indirect sale (or other disposition) by one qualified foreign
distributee of all of its interest in the distributing or controlled
corporation (under paragraph (c)(3)(vii) of this section) will
terminate the qualified foreign distributee status for the second
qualified foreign distributee. The principles of this paragraph
(c)(3)(vii) shall generally be applied so that any gain relating to the
same stock of the distributing or controlled corporation by more than
one person is not taxed more than once under this paragraph
(c)(3)(vii). In any event, gain recognized pursuant to this paragraph
(c)(3)(vii), on a cumulative basis, shall not exceed the amount of gain
that the distributing corporation would have recognized under section
367(e)(1) if its initial distribution of the stock or securities of the
controlled corporation was fully taxable under paragraph (b) of this
section.
(H) If additional tax is required to be paid by the distributing
corporation (or a successor-in-interest) for the year of the
distribution, interest must be paid by the distributing corporation (or
the controlled corporation if the distributing corporation fails to pay
the tax due) on that amount at the rates determined under section
6621(a)(2) with respect to the period between the date that was
prescribed for filing the distributing corporation's original income
tax return for the year of the distribution and the date on which the
additional tax for that year is paid.
(I) Net operating losses, capital losses, or credits against tax
that were available in the year of the distribution and that are unused
(whether or not they have expired since the distribution) at the time
of gain recognition described in this paragraph (c)(3)(vii) may be
applied (respectively) by the distributing corporation against any gain
recognized or tax owed by reason of this provision, but no other
adjustments shall be made with respect to any other items of income or
deduction in the year of distribution or other years.
(viii) Failure to comply. (A) Except as otherwise provided in
paragraph (c)(3)(viii)(B) of this section, if the distributing
corporation or the controlled corporation fails to comply in any
material respect with the requirements of this paragraph (c)(3) or with
the terms of an agreement submitted pursuant hereto, or if the
distributing corporation knows or has reason to know of any failure of
another person to so comply, the distributing corporation shall treat
the initial distribution of the stock or securities of the controlled
corporation as a taxable exchange in the year of the distribution. In
such event, the period for assessment of tax shall be extended until
three years after the date on which the Internal Revenue Service
receives actual notice of such failure to comply.
(B) If a person fails to comply in any material respect with the
requirements of this paragraph or with the terms of an agreement
submitted pursuant thereto, the provisions of paragraph (c)(3)(viii)(A)
of this section shall not apply if the person is able to show that such
failure was due to reasonable cause and not willful neglect, provided
that the person achieves compliance as soon as the person becomes aware
of the failure. Whether a failure to materially comply was due to
reasonable cause shall be determined by the district director under all
the facts and circumstances.
(d) Other consequences--(1) Exchange under section 897(e)(1). With
respect to the treatment under section 897(e)(1) of a foreign
distributee on the receipt of stock or securities of a domestic or
foreign corporation where the foreign distributee's interest in the
distributing domestic corporation is a United States real property
interest, see section 897(e)(1) and the regulations thereunder.
(2) Dividend treatment under section 1248. With respect to the
treatment as a dividend of a portion of the gain recognized by the
domestic corporation on the distribution of the stock of certain
foreign corporations, see sections 1248(a) and (f) and the regulations
thereunder.
(3) Distribution of stock of a passive foreign investment company.
[Reserved]
(4) Reporting under section 6038B. Notice shall be required under
section 6038B with respect to a distribution described in this section.
See Sec. 1.6038B-1T(e).
(e) Examples. The rules of paragraphs (b), (c), and (d) of this
section are illustrated by the examples below. In all examples, assume
that all foreign companies are treated as corporations for Federal
income tax purposes and are not treated as fiscally transparent under
the taxation laws of the relevant foreign country.
Example 1. (i) FC, a Country Z company, owns all of the
outstanding stock of DC1, a domestic corporation. DC1 owns all of
the outstanding stock of DC2, another domestic corporation. The fair
market value of the DC1 stock is 300x, and FC has a 100x basis in
the DC1 stock. The fair market value of the DC2 stock is 180x, and
DC1 has a 80x basis in the DC2 stock. Neither DC1 nor DC2 is a U.S.
real property holding corporation. Country Z does not maintain an
income tax treaty with the United States.
(ii) In a transaction qualifying for nonrecognition under
section 355, DC1 distributes all of the stock of DC2 to FC. After
the distribution, the DC1 stock has a fair market value of 120x.
(iii) Under paragraphs (b) (1) and (2) of this section, DC1
recognizes gain of 100x, which is the difference between the fair
market value (180x) and the adjusted basis (80x) of the stock
distributed. Under paragraph (d)(1) of this section and section 358,
FC takes a basis of 40x in the DC1 stock, and a basis of 60x in the
DC2 stock.
Example 2. (i) C, a citizen and resident of Country F, owns all
of the stock of DC1, a domestic corporation. DC1, in turn, owns all
of the stock of DC2, also a domestic corporation. The fair market
value of the DC1 stock is 500x, and C has a 100x basis in the DC1
stock. The DC2 stock has a fair market value of 200x, and DC1 has a
180x basis in the DC2 stock.
(ii) In a transaction qualifying for nonrecognition under
section 355, DC1 distributes to C all of the stock of DC2. DC1 and
DC2 are U.S. real property holding corporations immediately after
the distribution. After the distribution, the DC1 stock has a fair
market value of 300x.
[[Page 42176]]
(iii) Under paragraph (c)(1) of this section, provided that DC1
complies with the reporting requirements contained in paragraph
(c)(1)(ii) of this section, DC1 does not recognize gain on the
distribution of the DC2 stock because DC1 and DC2 are U.S. real
property holding corporations immediately after the distribution.
(iv) Under section 897(e) and the regulations thereunder, C is
considered to have exchanged DC1 stock with a fair market value of
200x and an adjusted basis of 40x for DC2 stock with a fair market
value of 200x. Because DC2 is a U.S. real property holding
corporation, and its stock is a U.S. real property interest, C does
not recognize any gain under section 897(e) on the distribution. C
takes a basis of 40x in the DC2 stock, and its basis in the DC1
stock is reduced to 60x pursuant to section 358.
Example 3. (i) All of the outstanding common stock of DC, a
domestic corporation that is not a U.S. real property holding
corporation, is regularly traded on an established securities market
located in the United States. None of the foreign shareholders of DC
(directly, indirectly, or constructively) owns more than five
percent of the common stock of DC. DC owns all of the stock of DS, a
domestic corporation. The stock of DS has appreciated in the hands
of DC.
(ii) In a transaction qualifying for nonrecognition under
section 355, DC distributes all of the stock of DS to the common
shareholders of DC.
(iii) Under paragraph (c)(2) of this section, DC does not
recognize gain on the distribution of the DS stock to any foreign
distributee, provided that DC complies with the reporting
requirements contained in paragraph (c)(2)(iii) of this section.
Each shareholder's basis in the DC and DS stock is determined
pursuant to section 358.
Example 4. (i) FC, a company resident in Country X, owns all of
the stock of DC1, a domestic corporation. DC1, in turn, owns all of
the stock of DC2, a domestic corporation. The fair market value of
the DC1 stock is 1,000x, and FC has a basis in the DC1 stock of
800x. The DC2 stock has a fair market value of 500x at the time of
the distribution, and DC1 has a 100x basis in the DC2 stock. Neither
DC1 nor DC2 is a U.S. real property holding corporation. Country X
maintains an income tax treaty with the United States that includes
an information exchange provision.
(ii) In a transaction qualifying for nonrecognition under
section 355, DC1 distributes to FC all of the stock of DC2.
Immediately after the distribution, the DC1 stock has a fair market
value of 500x. Thus, the value of DC1 exceeds 400x, the amount of
the deferred gain on the distribution.
(iii) Under paragraph (c)(3) of this section, DC1 will not
recognize gain on the distribution of the DC2 stock to (foreign
distributee) FC if FC is a qualified foreign distributee (as
described in paragraph (c)(3)(i)(C) of this section) and DC1 enters
into a gain recognition agreement (in which DC2 agrees to be
secondarily liable), as described in paragraph (c)(3)(iii) of this
section, and DC1, DC2 and FC otherwise comply with all of the
provisions of paragraph (c)(3) of this section. Pursuant to section
358, FC will take a 400x basis in the DC2 stock and FC's basis in
the DC1 stock will be reduced to 400x.
Example 5. (i) Assume the same facts as in Example 4. In
addition, two years after DC1's distribution of DC2 stock to FC, FC
sells 25 percent of the DC2 stock to Y, an unrelated corporation.
One year later, FC sells an additional 30 percent of its DC2 stock
to Z, another unrelated corporation.
(ii) Under paragraph (c)(3)(vii) of this section, upon FC's sale
of 25 percent of its DC2 stock, DC1 is required to file an amended
return for the year in which the DC2 stock was distributed to FC,
and recognize 100x of gain, which represents 25 percent of the gain
realized but not recognized on the distribution.
(iii) Upon FC's second sale of 30 percent of its DC1 stock, DC1
is required to file another amended return for the year of the
distribution and recognize the balance of the deferred gain, or
300x, because such sale results in a substantial transformation
(within the meaning of paragraph (c)(3)(vii)(B) of this section).
Example 6. (i) Assume the same facts as in Example 5, except
that FC did not sell an additional 30 percent of its DC2 stock.
Instead, DC2 issued additional stock in a public offering that
reduced FC's interest in DC2 to less than 50 percent.
(ii) The public offering caused a substantial transformation
because, as a result of the public offering, the interest of FC in
DC2 was reduced to less than 50 percent of the amount of stock that
FC owned in DC2 immediately after the distribution. Thus, the result
is the same as in Example 5.
Example 7. (i) Assume the same facts as in Example 4 In
addition, one year after DC1's distribution of DC2 stock to FC, FC
transfers all of the DC2 stock to FS, a company resident in Country
X, in exchange for all of the FS stock, in a transaction described
in section 351.
(ii) FS is described as a transferee distributee under paragraph
(c)(3)(vi)(C) of this section. The transfer by FC of DC2 stock to FS
is a nonrecognition transaction under paragraph (c)(3)(vi) of this
section provided all of the requirements in paragraph (c)(3)(vi)(F)
of this section are satisfied. (FS is counted, together with FC, for
purposes of limiting nonrecognition treatment to up to ten qualified
foreign distributees during the time that the gain recognition
agreement is in effect.) DC1 will not recognize gain under the gain
recognition agreement upon FC's transfer of the stock of DC2 to FS
if DC1 enters into a new agreement, agreeing to recognize gain if FS
sells DC2 stock, and the provisions of paragraph (c)(3)(vi) of this
section are satisfied. A sale by FC of FS stock would be treated as
a recognition event under paragraph (c)(3)(vii) because such sale
would constitute an indirect disposition by FC of the DC2 stock.
Example 8. (i) P1, an entity treated as a partnership for
Federal income tax purposes, owns all of the outstanding stock of
DC1, a domestic corporation. DC1 owns all of the outstanding stock
of DC2, another domestic corporation. The fair market value of the
DC1 stock is 900x and P1 has an 900x basis in the DC1 stock. The
fair market value of the DC2 stock is 600x and DC1 has a 400x basis
in the DC2 stock. Neither DC1 nor DC2 is a U.S. real property
holding corporation.
(ii) FC, a company resident in country X, and USP, a U.S.
corporation, are the sole partners of P1. Under the rules and
principles of sections 701 through 761, FC is entitled to a 60
percent, and USP is entitled to a 40 percent, distributive share of
each item of P1 income and loss. Country X maintains an income tax
treaty with the United States that includes an information exchange
provision.
(iii) In a distribution qualifying for nonrecognition under
section 355, DC1 distributes all of the stock of DC2 to P1.
Paragraph (b)(5)(i) of this section provides that stock owned by a
partnership is considered to be owned proportionately by its
partners. Under paragraph (b)(5)(ii) of this section, if USP
certifies to DC1 that it is a qualified U.S. person (and DC1 does
not know or have reason to know that the certification is false), no
Federal income tax shall be imposed with respect to the distribution
by DC1 of DC2 to P1, to the extent of USP's 40 percent interest in
P1.
(iv) Paragraph (c)(3)(i)(D) of this section provides that no
foreign distributee may be treated as a qualified foreign
distributee with respect to stock of the distributing corporation
owned through a partnership, unless the distributing corporation
receives a ruling from the Internal Revenue Service to the contrary.
Thus, DC1 may not avoid recognition of the remaining 60 percent of
the realized gain (relating to the interest of P1 owned by FC) by
entering into a gain recognition agreement pursuant to paragraph
(c)(3) of this section, unless DC1 obtains a ruling to the contrary.
Example 9. (i) DC1, a domestic corporation, owns all of the
stock of DC2, also a domestic corporation. The stock of DC1 is owned
equally by three shareholders: A, a domestic corporation, B, a U.S.
citizen, and FB, a Country Y company.
(ii) A short time before DC1 adopted a plan to distribute the
stock of DC2 to its shareholders, but after the board of directors
of DC1 began contemplating the distribution, FB formed Newco, a
domestic corporation, and contributed its DC1 stock to Newco in a
transaction qualifying for nonrecognition under section 351. A valid
business purpose existed for FB's transfer of the DC1 stock to
Newco, but this purpose would have been fulfilled irrespective of
whether FB transferred the DC1 stock to Newco before the
distribution of DC2, or after the distribution of DC2 (in which case
FB would have transferred the stock of DC1 and DC2 to Newco).
(iii) Pursuant to paragraph (b)(6) of this section, the District
Director may determine that FB formed Newco for a principal purpose
of avoiding section 367(e)(1). In such case, for Federal income tax
purposes, FB will be treated as having received the stock of DC2 in
a section 355 distribution, and then as having transferred the stock
to Newco in a section 351 transaction.
(iv) If B was not a shareholder of DC1 so that A and FB were
equal (50 percent) shareholders, FB would be treated as a foreign
distributee within the meaning of
[[Page 42177]]
paragraph (c)(3)(i)(B) of this section without the application of
paragraph (b)(6) of this section. In such case, DC1 would recognize
50 percent of the gain realized on the distribution of the DC2
stock, unless FB was a qualified foreign distributee within the
meaning of paragraph (c)(3)(i) of this section and the conditions
under paragraph (c)(3)(ii) of this section were satisfied.
Example 10. (i) DC1, a domestic corporation, owns all of the
stock of DC2, also a domestic corporation. The stock of DC1 is owned
by FP, a company resident in Country X. Country X maintains in
income tax treaty with the United States that includes an
information exchange provision. The DC2 stock has a fair market
value of 500x at the time of the distribution, and DC1 has a basis
of 100x in the DC2 stock. The stock of DC1 has a value of 500x
(excluding DC1's investment in DC2). Neither DC1 nor DC2 is a U.S.
real property holding corporation.
(ii) FP forms a holding company resident in Country X, Newco,
and transfers 50 percent of its DC1 stock to Newco in an exchange
described in section 351. Immediately after those transactions, DC1
distributes all of its DC2 stock to FP in exchange for FP's stock of
DC1 in a transaction described in section 355. Thus, after the non
pro rata distribution, FP owns all of the stock of DC2, and FP also
owns all of the stock of Newco, which, in turn, owns all of the
stock of DC1.
(iii) Newco and FP are foreign distributees (under paragraph
(c)(3)(i)(B)(1) of this section) because they owned stock of DC1
immediately prior to the distribution. Assuming that all of the
requirements of the gain recognition agreement exception under
paragraph (c)(3) of this section are satisfied (so that both FP and
Newco are qualified foreign distributees under paragraph
(c)(3)(i)(C) of this section), DC1 will not be immediately taxable
on the 400x gain realized on the distribution of the stock of DC2.
Gain will be triggered under the gain recognition agreement under
paragraph (c)(3)(vii) of this section if FP sells stock of Newco
(because such sale would be an indirect disposition by FP of the
stock of DC1), if Newco sells stock of DC1, or if FP sells stock of
DC2.
Example 11. (i) Assume the same facts as in Example 10, except
that Newco is a company resident of Country Z, and Country Z does
not maintain an income tax treaty with the United States that
includes an information exchange provision.
(ii) DC1 may still enter into a gain recognition agreement under
paragraph (c)(3) of this section. Both FP and Newco are foreign
distributees, but Newco is not a qualified foreign distributee.
Thus, DC1 must recognize 50 percent, or 200x, of the 400x deferred
gain on the distribution of DC2 stock. Such (50 percent) portion
equals the percentage of the DC1 stock owned by foreign distributees
that are not qualified foreign distributees (the 50 percent of the
stock owned by Newco). DC1 may defer 50 percent of the gain, with
respect to the portion of its stock owned by FP, a qualified foreign
distributee, provided that it meets the requirements of paragraph
(c)(3) of this section.
Example 12. (i) FC, a company resident in Country X, owns all of
the stock of DC1, a domestic corporation (and has owned DC1 for many
years). Country X maintains an income tax treaty with the United
States that includes an information exchange provision. DC1, in
turn, owns all of the stock of DC2, a domestic corporation. DC1 has
a basis of 200x in the DC2 stock, and the DC2 stock has a value of
500x. Immediately after the distribution of DC2 described below, DC1
has a value of more than 300x.
(ii) DC1 distributes all of the stock of DC2 to FC (a qualified
foreign distributee) in a transaction described under section 355,
and satisfies all of the requirements of paragraph (c)(3) of this
section to qualify for an exception to the general rule of taxation
under section 367(e)(1). Two years after the initial distribution,
FC distributes all of the stock of DC2 to its sole shareholder, FP,
a resident of Country X, in a transaction described under section
355.
(iii) Under paragraph (c)(3)(vi)(D) of this section, FP is a
substitute distributee with respect to the DC2 stock. Provided that
the requirements of paragraph (c)(3)(vi)(G) of this section are
satisfied, FP replaces FC as a qualified foreign distributee with
respect to the DC2 stock (although FC is still a qualified foreign
distributee with respect to the DC1 stock). FC is no longer required
to maintain an interest in DC2 for purposes of determining whether a
substantial transformation occurs. Thus, a sale by FP of the stock
of FC would not trigger gain under paragraph (c)(3)(vii) of this
section.
Example 13. (i) DC1, a domestic corporation, owns all of the
stock of DC2, also a domestic corporation. The stock of DC1 is owned
by two shareholders: FP and FX. FP, a company resident in Country Z,
owns 25 percent of the stock of DC1. FX, a company resident in
Country X, owns 75 percent of the stock of DC1. Country X maintains
an income tax treaty with the United States that includes an
information exchange provision; Country Z does not. The fair market
value of DC2 is 500x and DC1 has a basis of 100x in the DC2 stock.
Immediately after the distribution described below, DC1 has a value
in excess of 400x.
(ii) FP formed FS, a company resident in Country X, and
transferred its 25 percent interest in DC1 to FS in exchange for all
of the stock of FS in an exchange described in section 351. Within
two years of the exchange, DC1 distributed all of the stock of DC2
to its shareholders.
(iii) Under paragraph (c)(3) of this section, DC1 may defer a
portion of its gain realized on the distribution of DC2. DC1 must
immediately recognize 25 percent of the realized gain, or 100x,
because FP, a 25 percent (indirect) shareholder is a foreign
distributee (within the meaning of paragraph (c)(3)(i)(B) of this
section), but may not be treated as a qualified foreign distributee
(within the meaning of paragraph (c)(3)(i)(C) of this section). DC1
may defer 75 percent of its realized gain if FX is a qualified
foreign distributee and DC1 enters into a gain recognition agreement
(in which DC2 agrees to be secondarily liable), and the provisions
of paragraph (c)(3) of this section are otherwise met. DC1 need not
include FS as a qualified foreign distributee because FP and FS had
identical 25 percent ownership interests in DC1, and DC1 is taxable
with respect to such 25 percent interest. Thus, under paragraph
(c)(3)(vii)(G) of this section, a sale by FS of its DC1 or DC2 stock
will not result in an additional trigger of the gain recognition
agreement under paragraph (c)(3)(vii) of this section.
(iv) If FP was instead a resident of Country X, DC1 could defer
its entire realized gain if both FP and FS were qualified foreign
distributees. In such case, DC1 would have three qualified foreign
distributees. (DC1 is limited to ten qualified foreign distributees,
including transferee and substitute distributees during the term of
the gain recognition agreement.) If FS sold its entire interest in
either DC1 or DC2, DC1 would be required to amend its Federal income
tax return for the year of the transfer and include 100x in income.
In such case, neither FP nor FS would be considered a qualified
foreign distributee immediately after the sale (and, as a result,
FP's sale of its FS stock would not trigger additional gain under
paragraph (c)(3)(vii)(G) of this section). The result would be the
same if FP sold all of the stock of FS (as such sale is an indirect
disposition by FP of all its stock of DC1 and DC2). (In such case,
the sale by FS of its stock of DC1 or DC2 would not trigger
additional gain under paragraph (c)(3)(vii)(G) of this section.)
(f) Effective date. This section shall be effective with respect to
distributions occurring on or after September 13, 1996. However,
taxpayers may elect to apply the rules of this section with respect to
distributions occurring on or after December 31, 1995.
Par. 4. Section 1.6038B-1T is amended by revising the second
sentence of paragraph (b)(2)(i) and adding the text of paragraph (e) to
read as follows:
Sec. 1.6038B-1T Reporting of transfers described in section 367
(temporary).
* * * * *
(b) * * *
(2) * * * (i) * * * For special reporting rules applicable to
transfers described under section 367(e)(1), see paragraph (e) of this
section; no reporting is required for transfers described in section
367(e)(2). * * *
* * * * *
(e) * * * (1) In general. If a domestic corporation (distributing
corporation) makes a distribution described in section 367(e)(1), the
distributing corporation must comply with the reporting requirements
under this paragraph (e)(1). Form 926 and other requirements described
in this section need not be met by the distributing corporation in the
case of a distribution described in section 367(e)(1).
(2) Reporting requirements if transaction is taxable under section
367(e)(1). If the distribution is taxable to the distributing
corporation under
[[Page 42178]]
section 367(e)(1) and the regulations thereunder, the distributing
corporation must attach to its Federal income tax return for the
taxable year that includes the date of the transfer a statement titled
``Section 367(e)(1) Reporting--Compliance With Section 6038B'', signed
under penalties of perjury by an officer of the corporation, disclosing
the following information:
(i) A description of the transaction in which the U.S. distributing
corporation distributed stock or securities of a controlled corporation
(whether domestic or foreign) to one or more foreign distributees.
(ii) The basis and fair market value of the stock and securities
that were distributed by the distributing corporation in the
transaction.
(3) Reporting requirements if transaction qualifies for an
exception to section 367(e)(1). If the distributing corporation
qualifies for an exception under Sec. 1.367(e)-1T(c)(1), the
requirements of section 6038B are satisfied if the distributing
corporation complies with the reporting requirements contained in
Sec. 1.367(e)-1T(c)(1)(ii). If the distributing corporation qualifies
for an exception under Sec. 1.367(e)-1T(c)(2), the requirements of
section 6038B are satisfied if the distributing corporation complies
with the reporting requirements contained in Sec. 1.367(e)-
1T(c)(2)(iii). If the distributing corporation qualifies for an
exception under Sec. 1.367(e)-1T(c)(3), the requirements of section
6038B are satisfied if the distributing corporation complies with the
reporting requirements contained in Sec. 1.367(e)-1T(c)(3).
* * * * *
PART 602--OMB CONTROL NUMBERS UNDER THE PAPERWORK REDUCTION ACT
Par. 5. The authority for citation for part 602 continues to read
as follows:
Authority: 26 U.S.C. 7805.
Par. 6. In Sec. 602.101, paragraph (c) is amended by removing the
entry for ``1.367(e)-1'' and adding an entry in numerical order to read
as follows:
Sec. 602.101 OMB Control numbers.
* * * * *
(c) * * *
------------------------------------------------------------------------
Current OMB
CFR part or section where identified and described control
No.
------------------------------------------------------------------------
* * * * *
1.367(e)-1T................................................ 1545-1487
* * * * *
------------------------------------------------------------------------
Margaret Milner Richardson,
Commissioner of Internal Revenue.
Approved:
Donald C. Lubick,
Acting Assistant Secretary of the Treasury.
[FR Doc. 96-20663 Filed 8-09-96; 12:19 pm]
BILLING CODE 4830-01-U
