[Federal Register Volume 59, Number 198 (Friday, October 14, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-25403]
[[Page Unknown]]
[Federal Register: October 14, 1994]
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DEPARTMENT OF THE TREASURY
26 CFR Part 1
[INTL-0064-93]
RIN 1545-AS40
Conduit Arrangements Regulations
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking and notice of public hearing.
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SUMMARY: This document contains proposed regulations relating to
conduit financing arrangements issued under the authority granted by
section 7701(l). The proposed regulations apply to persons engaging in
multiple-party financing arrangements and are necessary in order to
determine which of those arrangements should be recharacterized under
section 7701(l). This document also provides notice of a public hearing
on these proposed regulations.
DATES: Written comments, requests to speak and outlines of topics to be
discussed at the public hearing scheduled for December 16, 1994, must
be received by December 13, 1994.
ADDRESSES: Send submissions to: CC:DOM:CORP:T:R (INTL-0064-93), room
5228, Internal Revenue Service, POB 7604, Ben Franklin Station,
Washington, DC 20044. In the alternative, submissions may be hand
delivered between the hours of 8 a.m. and 5 p.m. to: CC:DOM:CORP:T:R
(INTL-0064-93), Courier's Desk, Internal Revenue Service, 1111
Constitution Ave. NW, Washington, DC. The public hearing will be held
in the IRS Auditorium, Internal Revenue Building, 1111 Constitution
Avenue, NW, Washington, DC.
FOR FURTHER INFORMATION CONTACT: Concerning the regulations Richard L.
Chewning, Ramon Camacho, or Elissa Shendalman (202) 622-3870,
concerning submissions and the hearing, Christina Vasquez, (202) 622-
7782 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collections of information contained in this notice of proposed
rulemaking have been submitted to the Office of Management and Budget
for review in accordance with the Paperwork Reduction Act (44 U.S.C.
3504(h)). Comments on the collections of information should be sent to
the Office of Management and Budget, Attn: Desk Officer for the
Department of Treasury, Office of Information and Regulatory Affairs,
Washington, DC 20503, with copies to the Internal Revenue Service,
Attn: IRS Reports Clearance Officer, PC:FP, Washington, DC 20224.
The collections of information are in Secs. 1.881-4(c), 1.6038-2,
1.6038A-2, and 1.6038A-3. The information is required by the IRS so
that a district director can determine whether a financing arrangement
is subject to recharacterization under Sec. 1.881-3. The data will be
used by the IRS and taxpayers to verify that the proper amount of tax
is withheld. The likely respondents are withholding agents and foreign
investors.
Estimated total annual recordkeeping burden: 10,000 hours.
Estimated average annual burden per taxpayer: 10 hours.
Estimated number of recordkeepers: 1,000.
Estimated total annual reporting burden: 3,000 hours.
Estimated average burden per respondent: 3 hours.
Estimated number of respondents: 1,000.
Estimated frequency of responses: Annually.
Background
This document contains proposed amendments to the Income Tax
Regulations (26 CFR part 1) under Secs. 1.871-1, 1.881-0, 1.881-3,
1.881-4, 1.1441-3, 1.1441-7, 1.6038-2, 1.6038A-2, 1.6038A-3 and
1.7701(l)-1 that are issued under the authority granted by section
7701(l). Section 7701(l) was enacted as part of the Omnibus Budget
Reconciliation Act of 1993 (Pub.L. 103-66). These proposed regulations
provide guidance with regard to conduit financing arrangements.
Explanation of Provisions
Section 7701(l) authorizes the Secretary to ``prescribe regulations
recharacterizing any multiple-party financing transaction as a
transaction directly among any 2 or more of such parties where the
Secretary determines that such recharacterization is appropriate to
prevent avoidance of any tax imposed by this title.'' Pursuant to this
authority, these regulations provide rules that permit the district
director to disregard, for purposes of sections 871, 881, 1441 and
1442, the participation of one or more persons in a conduit financing
arrangement.
Section 1.881-3
1. Definitions
Section 1.881-3(a)(2) provides definitions of certain terms used
throughout the regulations. A ``financing arrangement'' generally means
two or more financing transactions pursuant to which one person (the
financing entity) advances money or other property to another person
(the intermediate entity) and the intermediate entity advances money or
other property to a third person (the financed entity). The term also
includes two or more financing transactions that achieve substantially
the same result through any other series of steps (e.g., a loan from a
foreign person to a U.S. person, followed by an assignment of the loan
by the foreign person to another person in exchange for a note issued
by the assignee).
A ``financing transaction'' generally means any advance of money or
other property in exchange for debt; any advance of money or other
property in exchange for certain types of stock or a similar interest
in a partnership or trust; any lease or license; any other advance of
money or other property pursuant to which the transferee is obligated
to repay or return a substantial portion of the money or other property
advanced (or the equivalent in value); and any transaction by which a
person becomes a party to an existing financing transaction. An advance
of money or other property in exchange for stock will be considered a
financing transaction only if the issuer or holder of the stock has
rights, or there are arrangements in place, that are intended to ensure
that payments on the instrument will be made as contemplated.
Therefore, an exchange for common stock or ordinary perpetual preferred
stock will not be included. However, an exchange for certain
instruments, such as dividend-linked notes or other perpetual
subordinated debt (which, though denominated as debt, are treated as
equity under U.S. tax principles), will be included if those
instruments provide for normal creditors' rights, such as the right,
arising upon a default on a payment, to enforce the payment through a
legal proceeding or to cause the liquidation of the issuer. The IRS
solicits comments on the definition of a financing transaction.
A ``conduit entity'' means an intermediate entity whose
participation in a financing arrangement is disregarded pursuant to
Sec. 1.881-3.
The regulations also define the terms ``guarantee'' and
``related,'' which are discussed elsewhere in this preamble.
The IRS and the Treasury recognize the potential overlap of these
regulations with the proposed regulations governing securities lending
issued under sections 861, 871, 881, 894 and 1441, published in the
issue of the Federal Register for January 9, 1992, 57 F.R. 860. In
connection with the finalization of the proposed regulations concerning
securities lending and these regulations, guidance will be provided
coordinating the two sets of regulations.
2. Authority of District Director
Section 1.881-3(a)(3) authorizes the district director to treat an
intermediate entity as a conduit entity if the financing arrangement
satisfies the standard for conduit treatment set forth in Sec. 1.881-
3(a)(4). The district director's exercise of this authority will be
subject to judicial review under an ``abuse of discretion'' standard.
In applying the standard for conduit treatment, the district
director has the authority to determine which financing transactions
comprise the financing arrangement and which persons are parties to the
financing arrangement. For example, if an intermediate entity borrows
$100 from a related person and $100 from an unrelated person, and in
turn lends $100 to a U.S. person, the district director may determine
based on the facts, whether the financing arrangement is among the U.S.
borrower, the intermediate entity and the related person or the U.S.
borrower, the intermediate entity and the unrelated person.
3. Standard for Conduit Treatment
Section 1.881-3(a)(4) provides the standard to be applied by the
district director in determining whether an intermediate entity is
disregarded for purposes of section 881. The standard depends upon the
relationship of the parties in the financing arrangement. If the
intermediate entity is related to the financing entity or the financed
entity, the financing arrangement will be subject to recharacterization
if two conditions are satisfied: (i) The participation of the
intermediate entity in the financing arrangement reduces the tax
imposed by section 881; and (ii) the participation of the intermediate
entity in the financing arrangement is pursuant to a tax avoidance
plan, which is defined in Sec. 1.881-3(c)(1) as a plan one of the
principal purposes of which is the avoidance of tax imposed by section
881. The definition of the term ``related'' contained in Sec. 1.881-
3(a)(2)(v), with certain exceptions, is consistent with the definition
of related party (and the related attribution rules) in Sec. 1.6038A-1
(d) and (e).
If the intermediate entity is unrelated to both the financing
entity and the financed entity, the financing arrangement will be
subject to recharacterization if the two conditions described above are
satisfied and, in addition, the intermediate entity would not have
participated in the financing arrangement on substantially the same
terms but for the fact that the financing entity engaged in the
financing transaction with the intermediate entity. Section 1.881-3(b)
provides that, if the financing entity guarantees the liability of the
financed entity to the intermediate entity, it will be presumed that
the intermediate entity would not have participated in the financing
arrangement on substantially the same terms but for the fact that the
financing entity engaged in the financing transaction with the
intermediate entity. A taxpayer may rebut this presumption by producing
clear and convincing evidence to the contrary.
Section 1.881-3(a)(2)(iv) defines a ``guarantee'' as any
arrangement under which a person, directly or indirectly, assures, on a
conditional or unconditional basis, the payment of another person's
obligation with respect to a financing transaction. The regulations
further provide that the term is to be interpreted in accordance with
the definition of guarantee in section 163(j)(6)(D)(iii).
Section 1.881-3(a)(4)(ii)(A) provides that the district director
may apply principles consistent with the general recharacterization
standard described above in cases involving multiple intermediate
entities. Section 1.881-3(a)(4)(ii)(B) contains a special rule that
applies if two (or more) financing transactions involving two (or more)
related persons would form part of a financing arrangement but for the
absence of a financing transaction between the related persons. In such
a case, the district director may treat the related persons as a single
intermediate entity if he or she determines based upon all the facts
and circumstances that the avoidance of the application of Sec. 1.881-3
is one of the principal purposes for the structuring of the financing
transactions. That paragraph also permits the district director to
apply similar principles if a financing transaction exists between
related persons, but one of the principal purposes for the existence of
the financing transaction is to prevent the district director from
treating the related persons as a single intermediate entity.
4. Determination of Existence of Tax Avoidance Plan
Section 1.881-3(c) contains rules for determining whether the
participation of the intermediate entity in the financing arrangement
is pursuant to a plan one of the principal purposes of which is the
avoidance of tax imposed by section 881 (tax avoidance plan). This
determination is to be based upon all of the facts and circumstances.
In this regard, the only relevant purposes are those pertaining to the
participation of the intermediate entity in the financing arrangement,
not those pertaining to the existence of the financing arrangement in
general. Moreover, the fact that an intermediate entity is a resident
of a country that has a treaty with the United States that
significantly reduces the tax that otherwise would have been imposed
under section 881 is not sufficient, by itself, to establish the
existence of a tax avoidance plan. The application of these regulations
only to an intermediate entity whose participation is pursuant to a
plan ensures that these regulations apply only to transactions that are
related to each other through the taxpayer's intention to secure, in an
artificial manner, exemptions or reductions of withholding tax that
would not otherwise be available given the economic substance of its
transactions.
Section 1.881-3(c)(2) lists several nonexclusive factors that are
relevant to the determination of whether the intermediate entity's
participation is pursuant to a tax avoidance plan. Avoidance of the tax
imposed by section 881 may be one of the principal purposes for such a
plan even though it is outweighed by other purposes (taken together or
separately).
Section 1.881-3(c)(3) provides that it shall be presumed that the
participation of an intermediate entity (or entities) in a financing
arrangement is not pursuant to a tax avoidance plan if the intermediate
entity is related to the financing entity or the financed entity and
the intermediate entity performs significant financing activities, as
defined, with respect to the financing transactions forming part of the
financing arrangement to which it is a party. The district director may
rebut the presumption by establishing that the participation of the
intermediate entity in the financing arrangement is pursuant to a tax
avoidance plan. The IRS solicits comments on the significant financing
activity presumption.
Section 1.881-3(c)(4) provides a set of special rules applicable in
cases where the financing entity is unrelated to the intermediate
entity (or entities) and the financed entity. Section 1.881-3(c)(4)(i)
provides that, in such cases, if the intermediate entity (or, in the
case of multiple intermediate entities, the intermediate entity that
has engaged in a financing transaction with the financed entity) is
actively engaged in a substantial trade or business (other than the
business of making or managing investments, except pursuant to a
banking, insurance, financing or similar trade or business, the income
from which is earned predominantly in transactions with unrelated
persons), it will be presumed that the participation of the
intermediate entity in the financing arrangement is not pursuant to a
tax avoidance plan. This presumption may be rebutted if the district
director establishes that the participation of the intermediate entity
in the financing arrangement is pursuant to such a plan.
Section 1.881-3(c)(4)(ii) provides that, in any case where a
financing entity is unrelated to the financed entity and the
intermediate entity (or entities), the financing entity will not be
liable for tax under section 881 pursuant to these regulations unless
the financing entity knows or has reason to know that the financing
arrangement is subject to recharacterization under Sec. 1.881-3(a)(3).
Section 1.881-3(c)(4)(ii) does not relieve the section 881 liability
for purposes of determining whether any person is liable for
withholding tax pursuant to Sec. 1.1441-3(j) or whether any party to a
financing arrangement is entitled to a refund of tax actually withheld
by a withholding agent pursuant to section 1441. Accordingly, if the
requirements of Sec. 1.881-3(a)(4) are satisfied, the financed entity
is required to pay withholding tax without regard to the knowledge of
the financing entity and no party to the financing arrangement is
entitled to a refund (except to the extent the amount withheld exceeds
the amount determined under section 881).
A person is not considered to have reason to know that the
financing arrangement is subject to recharacterization if the person
knows of the financing transactions that comprise the financing
arrangement but does not know or have reason to know of facts
sufficient to establish that the intermediate entity's participation
was pursuant to a tax avoidance plan. The IRS solicits comments on the
treatment of unrelated financing entities.
5. Determination of Amount of Tax Liability
Section 1.881-3(d) provides rules for determining the portion of
each payment made by a financed entity that is recharacterized under
Sec. 1.881-3(a)(3). The recharacterized portion is proportionate to a
ratio of the principal amounts of the financing transactions that
comprise the financing arrangement. This ratio measures the proportion
of money or other property advanced by the financing entity to the
intermediate entity that is considered to flow through to the financed
entity.
If a financing arrangement involves multiple conduit entities, the
ratio is based upon a comparison of the smallest financing transaction
between a conduit entity and a party other than the financed entity,
and the financing transaction involving the financed entity. Thus, if
pursuant to a financing arrangement, A lends $500 to B, B lends $300 to
C, and C lends $350 to D, and B and C are conduit entities, the ratio
equals $300/$350 (assuming at the time of the payment from the financed
entity to the conduit entity the principal amounts have not changed).
This rule does not apply, however, in a case where the district
director treats related persons as a single intermediate entity under
Sec. 1.881-3(a)(4)(ii)(B).
Section 1.881-3(d)(1)(iii) provides that the principal amount of a
financing transaction will be determined on the basis of all of the
facts and circumstances. The principal amount generally will equal the
amount of money, or the fair market value of other property (determined
as of the time that the financing transaction is entered into),
advanced in the financing transaction. In the case of a debt instrument
or stock, the fair market value of the property advanced will be
considered to equal the issue price unless the fair market value
differs materially from the issue price. The principal amount of a
financing transaction will be subject to adjustments, as appropriate.
The IRS solicits comments on the definition of principal amount.
Section 1.881-3(d)(2) provides that payments made by a financed
entity pursuant to a financing arrangement that is recharacterized
under Sec. 1.881-3(a)(3) are subject to tax at the rate applicable to
payments made directly to the financing entity. Thus, the rate of tax
will be affected by whether an income tax treaty is in existence
between the United States and the country in which the financing entity
is a resident. However, special withholding rules apply under
Sec. 1.1441-3(j).
6. Interaction With Treaties
These regulations are intended to provide anti-abuse rules that
supplement, but do not conflict with, the limitation on benefits
articles in U.S. income tax treaties. Treaty limitation on benefits
articles commonly limit the tax benefits of the treaty to those
residents of the other contracting state that have a substantial
business nexus with, or otherwise have a significant business purpose
for residing in, the other contracting state. These articles generally
provide objective, bright-line rules for determining whether an entity
has a sufficient nexus to the contracting state to be treated as a
resident for treaty purposes. It has been recognized that contracting
states may supplement these rules by transactionally-based domestic
anti-abuse rules, including rules under which a particular transaction
may be recast, in accordance with the substance of the transaction.
These regulations, which reflect common law substance over form
principles as applied to conduit financing arrangements, complement the
limitation on benefits provisions of income tax treaties and are not
precluded by the inclusion of such provisions, just as those provisions
have not overridden the applicability of existing anti-conduit rulings
such as Rev. Rul. 84-152, 1984-2 C.B. 381, Rev. Rul. 84-153, 1984-2
C.B. 383, and Rev. Rul. 87-89, 1987-1 C.B. 195.
Accordingly, Sec. 1.881-3(d)(3) provides that a financing
arrangement may be recharacterized under Sec. 1.881-3 regardless of
whether the conduit entity is a resident of a country that has an
income tax treaty with the United States. Thus, the treaty applicable
to determine the amount of tax due under section 881, if any, will be
based upon the substance of the financing arrangement.
7. Alternative Approach Not Adopted
In formulating these regulations, the IRS and the Treasury
considered several alternative standards for recharacterizing a
financing arrangement. For example, consideration was given to a test
that would measure the similarity of the cash flows of the financing
transactions that comprise the financing arrangement, with respect to
both the advance and repayment of funds. This test was rejected
principally for the following reasons. First, the delineation of cash
flows considered characteristic of a conduit arrangement would be
inherently arbitrary. In a substantial number of cases, the application
of the test would produce results that were either overinclusive or
underinclusive. Second, such a test could be circumvented, particularly
with respect to cash flows on repayment. Related parties have
particular flexibility to structure the terms of their financing
transactions to satisfy a bright-line test. Unrelated parties may have
less flexibility. However, in either case, parties could alter the
financial consequences of holding an asset or liability with particular
cash flows through the use of derivative financial instruments.
Although the regulations do not adopt a bright-line cash flow test,
Sec. 1.881-3(c)(2) (i)(C) and (ii)(B) provides that the timing of the
advances of money or other property to the intermediate entity and the
financed entity pursuant to the financing arrangement is a factor
relevant to whether the intermediate entity's participation is pursuant
to a tax avoidance plan. The regulations do not set forth as a factor
the similarity of the repayment terms of the financing transactions.
This is because of concerns about the extent to which the similarity of
repayment terms is a useful indication of a tax avoidance plan. The IRS
solicits comments on this point.
8. Equity Investments
The legislative history to section 7701(l) authorizes the issuance
of regulations that apply to financing arrangements involving equity
investments. These regulations, however, generally do not include
investments in common stock (or investments in ordinary perpetual
preferred stock) in the definition of financing transaction principally
for the following reasons. First, because a corporation has no legal
obligation to make distributions with respect to its common stock,
inclusion of ordinary common stock in the definition of financing
transaction could add significant uncertainty and complexity to the
application of the regulations. Second, there are substantial questions
about the extent to which common stock and ordinary perpetual preferred
stock can be used in a conduit financing arrangement to avoid U.S.
withholding tax. Nevertheless, the IRS and the Treasury remain
concerned about the potential for abuse with respect to such equity
investments and will monitor developments in this area. If the IRS and
the Treasury determine that taxpayers are structuring conduit financing
arrangements with such stock to avoid U.S. withholding tax, these
regulations may be extended to cover such stock.
9. Guarantees
The legislative history to section 7701(l) authorizes the issuance
of regulations that apply to financing arrangements involving debt
guarantees. These regulations, however, generally do not treat debt
guarantees as a financing transaction as defined in Sec. 1.881-
3(a)(2)(ii). Nevertheless, the IRS and the Treasury remain concerned
about the potential for abuse with respect to debt guarantees and will
monitor developments in this area. If the IRS and the Treasury
determine that taxpayers are structuring conduit financing arrangements
with debt guarantees to avoid U.S. withholding tax, these regulations
may be extended to cover debt guarantees.
10. Collateral Consequences of Recharacterization
These regulations do not provide that a financing arrangement
recharacterized for purposes of sections 871, 881, 1441 or 1442 is also
recharacterized for purposes of other Code sections. The IRS and the
Treasury are considering, however, the circumstances under which the
recharacterization should be extended to other Code sections. The IRS
solicits comments on this point.
11. Use of Regulations by Taxpayers
Section 1.881-3(a)(3) provides that a taxpayer may not apply
Sec. 1.881-3 to reduce its tax liability. However, a taxpayer may
comply with the provisions of Sec. 1.881-3 in order to avoid the
imposition of interest and penalties.
Section 1.881-4
Section 1.881-4 provides rules for the furnishing of information
and the maintenance of records concerning financing arrangements to
which Sec. 1.881-3 applies.
Section 1.881-4(b) provides that a financed entity that is a
reporting corporation within the meaning of section 6038A(a) and the
regulations under that section, or that is required to report pursuant
to section 6038(a) and the regulations under that section, must comply
with certain reporting requirements with respect to any financing
transaction to which the financed entity is a party that it knows or
has reason to know forms a part of a financing arrangement described in
Sec. 1.881-3(a)(4) (determined without regard to the tax avoidance
purpose rule of Sec. 1.881-3(a)(4)(i)(B)). This rule applies only if a
person with respect to which the financed entity is required to report
under sections 6038 or 6038A is a party to that financing arrangement.
Section 1.881-4(c) provides that a financed entity or any other
person subject to the general recordkeeping requirements of section
6001, or the recordkeeping requirements of Sec. 1.6038A-3, must keep
the permanent books of account or records, as required by section 6001
or Sec. 1.6038A-3, that may be relevant to the determination of whether
the financing arrangement is subject to recharacterization under
Sec. 1.881-3.
Section 1.1441-3(j)
Section 1.1441-3(j) provides that a financed entity or other person
required to withhold tax under section 1441 with respect to a financing
arrangement subject to recharacterization under Sec. 1.871-1(b)(7) or
1.881-3(a)(3), is required to withhold in accordance with the
recharacterization on the portion of each payment subject to
recharacterization, as determined by Sec. 1.881-3(d).
Section 1.1441-7
Section 1.1441-7(d) provides that a person is required to withhold
tax under section 1441 in accordance with the recharacterization of a
financing arrangement under Sec. 1.881-3(a)(3) if the person knows or
has reason to know that the financing arrangement is subject to
recharacterization under those sections and the person otherwise is a
withholding agent with respect to the financing arrangement. The
``knows or has reason to know'' standard is the standard that generally
applies to withholding agents presented with a claim for treaty
benefits. See, e.g., Rev. Rul. 85-4, 1985-1 C.B. 294, 295; Rev. Rul.
76-224, 1976-1 C.B. 268, 269. A person is not considered to have reason
to know that a financing arrangement is subject to recharacterization
under Sec. 1.881-3(a)(3) if the person knows of the financing
transactions that comprise the financing arrangement but does not know
or have reason to know of facts sufficient to establish that the
intermediate entity's participation was pursuant to a tax avoidance
plan. The IRS solicits comments on the standard applicable to
withholding agents.
Proposed Effective Date
Sections 1.881-3, 1.881-4, 1.1441-3(j) and 1.1441-7(d) are proposed
to be effective for payments made after the date which is 30 days after
publication of final regulations in the Federal Register. This
regulation shall not apply with respect to interest payments made by
United States corporations to Netherlands Antilles corporations in
connection with debt obligations issued prior to October 15, 1984 (see
Rev. Rul. 85-163, 1985-2 C.B. 349) and payments of interest covered by
section 127(g)(3) of the Tax Reform Act of 1984.
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in EO 12866. Therefore,
a regulatory assessment is not required. It also has been determined
that section 553(b) of the Administrative Procedure Act (5 U.S.C.
chapter 5) and the Regulatory Flexibility Act (5 U.S.C. chapter 6) do
not apply to these regulations, and, therefore, a Regulatory
Flexibility Analysis is not required. Pursuant to section 7805(f) of
the Internal Revenue Code, this notice of proposed rulemaking will be
submitted to the Chief Counsel for Advocacy of the Small Business
Administration for comment on its impact on small business.
Comments and Public Hearing
Before these proposed regulations are adopted as final regulations,
consideration will be given to any written comments (a signed original
and eight (8) copies) that are submitted timely to the IRS. All
comments will be available for public inspection and copying.
A public hearing has been scheduled for Friday, December 16, 1994,
at 10 a.m., in the Internal Revenue Service Auditorium, 7400 corridor.
Because of access restrictions, visitors will not be admitted beyond
the Internal Revenue Building lobby more than 15 minutes before the
hearing starts.
The rules of 26 CFR 601.601(a)(3) apply to the hearing.
Persons that wish to present oral comments at the hearing must
submit written comments and submit an outline of the topics to be
discussed and the time to be devoted to each topic (signed original and
eight (8) copies) by December 13, 1994.
A period of 10 minutes will be allotted to each person for making
comments.
An agenda showing the scheduling of the speakers will be prepared
after the deadline for receiving outlines has passed. Copies of the
agenda will be available free of charge at the hearing.
Drafting Information
Several persons from the Office of Chief Counsel and the Treasury
Department participated in developing these regulations.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Proposed Amendment to the Regulations
Accordingly, 26 CFR part 1 is proposed to be amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 is amended by
removing the entry for Secs. 1.6038A-1 through 1.6038A-7 and adding
entries in numerical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.871-1 also issued under 26 U.S.C. 7701(l). * * *
Section 1.881-3 also issued under 26 U.S.C. 7701(l). * * *
Section 1.881-4 also issued under 26 U.S.C. 7701(l). * * *
Section 1.1441-3 also issued under 26 U.S.C. 7701(l). * * *
Section 1.1441-7 also issued under 26 U.S.C. 7701(l). * * *
Section 1.6038-2 also issued under 26 U.S.C. 7701(l). * * *
Section 1.6038A-1 also issued under 26 U.S.C. 6038A.
Section 1.6038A-2 also issued under 26 U.S.C. 6038A and 7701(l).
Section 1.6038A-3 also issued under 26 U.S.C. 6038A and 7701(l).
Section 1.6038A-4 also issued under 26 U.S.C. 6038A.
Section 1.6038A-5 also issued under 26 U.S.C. 6038A.
Section 1.6038A-6 also issued under 26 U.S.C. 6038A.
Section 1.6038A-7 also issued under 26 U.S.C. 6038A. * * *
Section 1.7701(l)-1 also issued under 26 U.S.C. 7701(l). * * *
Par. 2. In Sec. 1.871-1, paragraph (b)(7) is added to read as
follows:
Sec. 1.871-1 Classification and manner of taxing alien individuals.
* * * * *
(b) * * *
(7) Conduit financing arrangements. For rules regarding conduit
financing arrangements, see Secs. 1.881-3 and 1.881-4.
* * * * *
Par. 3. Sections 1.881-0, 1.881-3 and 1.881-4 are added to read as
follows:
Sec. 1.881-0 Table of contents.
This section lists the major headings for Secs. 1.881-1 through
1.881-4.
Sec. 1.881-1 Manner of taxing foreign corporations.
(a) Classes of foreign corporations.
(b) Manner of taxing.
(1) Foreign corporations not engaged in U.S. business.
(2) Foreign corporations engaged in U.S. business.
(c) Meaning of terms.
(d) Rules applicable to foreign insurance companies.
(1) Corporations qualifying under subchapter L.
(2) Corporations not qualifying under subchapter L.
(e) Other provisions applicable to foreign corporations.
(1) Accumulated earnings tax.
(2) Personal holding company tax.
(3) Foreign personal holding companies.
(4) Controlled foreign corporations.
(i) Subpart F income and increase of earnings invested in U.S.
property.
(ii) Certain accumulations of earnings and profits.
(5) Changes in tax rate.
(6) Consolidated returns.
(7) Adjustment of tax of certain foreign corporations.
Sec. 1.881-2 Taxation of foreign corporations not engaged in U.S.
business.
(a) Imposition of tax.
(b) Fixed or determinable annual or periodical income.
(c) Other income and gains.
(1) Items subject to tax.
(2) Determination of amount of gain.
(d) Credits against tax.
(e) Effective date.
Sec. 1.881-3 Conduit financing arrangements.
(a) General rules and definitions.
(1) Purpose and scope.
(2) Definitions.
(i) Financing arrangement.
(ii) Financing transaction.
(iii) Conduit entity.
(iv) Guarantee.
(v) Related.
(vi) Tax avoidance plan.
(3) Treatment of intermediate entity as conduit entity.
(i) Authority of district director.
(ii) Taxpayer's use of this section.
(4) Standard for conduit treatment.
(i) In general.
(ii) Multiple intermediate entities.
(A) In general.
(B) Special rule for related persons.
(b) Determination of whether intermediate entity would not have
participated in financing arrangement on substantially same terms.
(c) Determination of whether participation of intermediate
entity is pursuant to a tax avoidance plan.
(1) In general.
(2) Factors taken into account in determining the presence or
absence of a tax avoidance plan.
(3) Presumption if significant financing activities performed by
a related intermediate entity.
(i) General rule.
(ii) Requirements.
(4) Special rules for cases where financing entity is unrelated
to both intermediate entity and financed entity.
(i) Presumption of no tax avoidance.
(ii) Liability of financing entity.
(d) Determination of amount of tax liability.
(1) Amount of payment subject to recharacterization.
(i) In general.
(ii) Multiple conduit entities.
(iii) Determination of principal amount.
(2) Rate of tax.
(3) Effect of income tax treaties.
(4) Withholding tax due.
(e) Coordination with sections 871, 884, 1441 and 1442.
(f) Examples.
(g) Effective date.
Sec. 1.881-4 Reporting and recordkeeping requirements concerning
conduit financing arrangements.
(a) Scope.
(b) Reporting requirements.
(1) Persons required to report.
(2) Reporting requirement.
(3) Additional disclosure.
(c) Recordkeeping requirements.
(d) Application of sections 6038 and 6038A.
(1) In general.
(2) Duplication of reporting requirements.
(e) Effective date.
Sec. 1.881-3 Conduit financing arrangements.
(a) General rules and definitions--(1) Purpose and scope. Pursuant
to the authority of section 7701(l), this section provides rules that
permit the district director to disregard, for purposes of section 881,
the participation of one or more persons in a conduit financing
arrangement. These rules also apply for purposes of sections 871, 1441,
and 1442. See Sec. 1.881-4 for reporting and recordkeeping requirements
concerning conduit financing arrangements. See Secs. 1.1441-3(j) and
1.1441-7(d) for withholding rules applicable to conduit financing
arrangements.
(2) Definitions. The following definitions apply to this section
and to Secs. 1.881-4, 1.1441-3(j) and 1.1441-7(d).
(i) Financing arrangement means two or more financing transactions
pursuant to which one person (the financing entity) advances money or
other property to another person (the intermediate entity) and the
intermediate entity advances money or other property to a third person
(the financed entity), and, if there is more than one intermediate
entity, there is a chain of financing transactions linking each
intermediate entity. For this purpose, a transfer of money or other
property in satisfaction of a repayment obligation is not an advance of
money or other property. The term financing arrangement also includes
two or more financing transactions that achieve substantially the same
result through any other series of steps. A financing arrangement
exists only for the period during which all of the financing
transactions are coexistent. See Example 1 of paragraph (f) of this
section for an illustration of the term financing arrangement.
(ii) Financing transaction means--
(A) Any advance of money or other property in exchange for debt;
(B) Any advance of money or other property in exchange for stock
(or a similar interest in a partnership or trust) if--
(1) As of the issue date, the holder has the right (or, as of the
issue date, it is more likely than not that the holder will receive the
right) to cause the issuer to redeem the stock, or will receive such a
right upon the occurrence of a specified event and such event is more
likely than not to occur, or, as of the issue date, it is more likely
than not that the stock will be redeemed as a result of an issuer's
right to redeem the stock (assuming for all purposes of this paragraph
(a)(2)(ii)(B)(1) that the issuer will have the legally available funds
to redeem the stock);
(2) The holder possesses the right (or, as of the issue date, it is
more likely than not that the holder will obtain the right) to cause,
directly or indirectly, the issuer to make any payment (other than a
payment described in paragraph (a)(2)(ii)(B)(1) of this section) with
respect to the stock (assuming for this purpose that the issuer will
have the legally available funds to make such a payment), including the
right, arising upon a default on a payment (other than rights arising,
in the ordinary course, between the date that a payment is declared and
the date that a payment is made), to enforce the payment through a
legal proceeding, cause the issuer to be liquidated, or elect a
majority of the issuer's board of directors, but not including a right
derived from ownership of a controlling interest in the issuer in cases
where the control does not arise from a default or similar contingency
under the instrument; or
(3) Under circumstances similar to those described in paragraph
(a)(2)(ii)(B)(1) or (2) of this section, the holder has the right to
require a person related to the issuer (or any other person who is
acting pursuant to a plan or arrangement with the issuer) to acquire
the stock or make a payment with respect to the stock;
(C) Any lease or license;
(D) Any advance of money or other property not described in
paragraph (a)(2)(ii)(A), (B) or (C) of this section (including an
advance by any person to a trust described in sections 671 through 679)
pursuant to which the transferee is obligated to repay or return a
substantial portion of the money or other property advanced, or the
equivalent in value. This paragraph (a)(2)(ii)(D) shall not apply to
the posting of collateral unless the intermediate entity is permitted
to reduce such collateral to cash (through a transfer, grant of a
security interest or similar transaction) prior to default on the
financing transaction secured by the collateral; and
(E) Any transaction by which a person becomes a party to an
existing financing transaction.
(iii) Conduit entity means an intermediate entity whose
participation in a financing arrangement is disregarded in whole or in
part pursuant to this section.
(iv) Guarantee means any arrangement under which a person, directly
or indirectly, assures, on a conditional or unconditional basis, the
payment of another person's obligation with respect to a financing
transaction. The term shall be interpreted in accordance with the
definition of the term in section 163(j)(6)(D)(iii). However, a
guarantee that was neither in existence nor contemplated at the time
the financing transaction between the intermediate entity and the
financed entity was entered into is not a guarantee for these purposes.
(v) Related means related within the meaning of sections 267(b) or
707(b)(1), or controlled within the meaning of section 482, and the
regulations under those sections. For purposes of determining whether a
person is related to another person, the constructive ownership rules
of section 318 shall apply, and the attribution rules of section 267(c)
also shall apply to the extent they attribute ownership to persons to
whom section 318 does not attribute ownership.
(vi) Tax avoidance plan is defined in paragraph (c)(1) of this
section.
(3) Treatment of intermediate entity as conduit entity--(i)
Authority of district director. For purposes of section 881, the
district director may determine that an intermediate entity is a
conduit entity under the standard set forth in paragraph (a)(4) of this
section. In applying that paragraph, the district director may
determine the composition of the financing arrangement and the number
of parties to the financing arrangement.
(ii) Taxpayer's use of this section. A taxpayer may not apply this
section to reduce the amount of its Federal income tax liability by
disregarding the form of its financing transactions for Federal income
tax purposes or by compelling the district director to do so.
(4) Standard for conduit treatment--(i) In general. The district
director, in his or her discretion, may treat an intermediate entity in
a financing arrangement as a conduit entity if--
(A) The participation of the intermediate entity in the financing
arrangement reduces the tax imposed by section 881;
(B) The participation of the intermediate entity in the financing
arrangement is pursuant to a tax avoidance plan; and
(C) Either--
(1) The intermediate entity is related to the financing entity or
the financed entity; or
(2) The intermediate entity would not have participated in the
financing arrangement on substantially the same terms but for the fact
that the financing entity engaged in the financing transaction with the
intermediate entity.
(ii) Multiple intermediate entities--(A) In general. If a financing
arrangement involves multiple intermediate entities, the district
director may apply principles consistent with those of paragraph
(a)(4)(i) of this section to the entire financing arrangement so as to
treat two or more intermediate entities as conduit entities. For an
illustration of this rule see Example 2 of paragraph (f) of this
section.
(B) Special rule for related persons. If two (or more) financing
transactions involving two (or more) related persons would form part of
a financing arrangement but for the absence of a financing transaction
between the related persons, the district director may treat the
related persons as a single intermediate entity if he or she determines
that the avoidance of the application of this section is one of the
principal purposes for the structuring of the financing transactions.
This determination shall be based upon all of the facts and
circumstances, including, without limitation, the factors set forth in
paragraph (c)(2) of this section. The district director may apply
similar principles if a financing transaction exists between related
persons, but one of the principal purposes for the existence of the
financing transaction is to prevent the district director from treating
the related persons as a single intermediate entity. For examples
illustrating the special rule of this paragraph, see Examples 3, 4 and
5 of paragraph (f) of this section.
(b) Determination of whether intermediate entity would not have
participated in financing arrangement on substantially same terms. The
determination of whether an intermediate entity would not have
participated in a financing arrangement on substantially the same terms
but for the financing transaction between the financing entity and the
intermediate entity shall be based upon all of the facts and
circumstances. It shall be presumed that the intermediate entity would
not have participated in the financing arrangement on substantially the
same terms if the financing entity guarantees the liability of the
financed entity to the intermediate entity under that financing
transaction. A taxpayer may rebut this presumption by producing clear
and convincing evidence to the contrary.
(c) Determination of whether participation of intermediate entity
is pursuant to a tax avoidance plan--(1) In general. A tax avoidance
plan is a plan one of the principal purposes of which is the avoidance
of tax imposed by section 881. The plan may be formal or informal,
written or oral, and may involve any one or more of the parties to the
financing arrangement. It may be inferred from the facts and
circumstances, but must be in existence no later than the last date
that any of the financing transactions comprising the financing
arrangement are entered into. The determination of whether the
participation of the intermediate entity in the financing arrangement
is pursuant to a tax avoidance plan shall be based upon all of the
facts and circumstances relevant to the existence of a plan and to the
purposes for the participation of the intermediate entity in the
financing arrangement.
(2) Factors taken into account in determining the presence or
absence of a tax avoidance plan. Among the facts and circumstances
taken into account in determining whether the participation of an
intermediate entity in a financing arrangement is pursuant to a tax
avoidance plan are--
(i) Whether the participation of the intermediate entity in the
financing arrangement significantly reduces the tax that otherwise
would have been imposed under section 881 (determined by comparing the
rate of tax imposed on payments made by the financed entity to the
intermediate entity with the rate that would have been imposed had the
payments been made by the financed entity to the financing entity).
However, the fact that an intermediate entity is a resident of a
country that has a treaty with the United States that significantly
reduces the tax that otherwise would have been imposed under section
881 is not sufficient, by itself, to establish the existence of a tax
avoidance plan;
(ii) Whether the intermediate entity would have been able to make
the advance of the money or other property to the financed entity
without the advance of money or other property to it by the financing
entity;
(iii) The length of the period of time that separates the advances
of money or other property by the financing entity to the intermediate
entity and by the intermediate entity to the financed entity. A short
period of time is indicative of a tax avoidance plan while a long
period of time is not; and
(iv) If the intermediate entity is related to the financed entity,
whether the two entities enter into a financing transaction to finance
a trade or business actively engaged in by the financed entity that
forms a part of, or is complementary to, a substantial trade or
business actively engaged in by the intermediate entity (other than the
business of making or managing investments, except pursuant to a
banking, insurance, financing or similar trade or business the income
from which is earned predominantly in transactions with unrelated
persons). A financing transaction described in the preceding sentence
is indicative that no tax avoidance plan exists.
(3) Presumption if significant financing activities performed by a
related intermediate entity--
(i) General rule. It shall be presumed that the participation of an
intermediate entity (or entities) in a financing arrangement is not
pursuant to a tax avoidance plan if the intermediate entity is related
to either or both the financing entity or the financed entity, and the
intermediate entity performs significant financing activities with
respect to the financing transactions forming part of the financing
arrangement to which it is a party. This presumption may be rebutted if
the district director establishes that the participation of the
intermediate entity in the financing arrangement is pursuant to a tax
avoidance plan. For illustrations of this presumption, see Examples 12,
13 and 14 of paragraph (f) of this section.
(ii) Requirements. For purposes of this paragraph (c)(3), an
intermediate entity performs significant financing activities with
respect to such financing transactions if--
(A) Rents or royalties earned with respect to leases or licenses
constituting such financing transactions are derived in the active
conduct of a trade or business within the meaning of Sec. 1.954-2T(c)
or (d), to be applied by substituting the term intermediate entity for
the term controlled foreign corporation; or
(B) Officers and employees of the intermediate entity, without the
material participation of any officer or employee of a related person,
other than participation in the approval of any guarantee of a
financing transaction--
(1) Participate actively and materially in arranging the
intermediate entity's participation in such financing transactions.
This requirement shall not apply to a financing transaction that is the
advance of property in exchange for a trade receivable that is ordinary
and necessary to carrying on a substantial trade or business of either
the financed entity or the financing entity if officers or employees of
that entity participated actively and materially in arranging the
financing transaction; and
(2) Within the country in which the intermediate entity is
organized (or, if different, within the country with respect to which
the intermediate entity is claiming the benefits of a tax treaty)--
(i) Exercise management and oversight of (and actually carry out)
the intermediate entity's strategic business decision-making process
and of its day-to-day operations, which must consist of a substantial
trade or business, or supervision, administration and financing of a
substantial group of related persons; and
(ii) Actively manage, on an ongoing basis, material business risks
arising from such financing transactions as an integral part of the
management of the intermediate entity's financial and capital
requirements (including management of risks of currency and interest
rate fluctuations) and management of the intermediate entity's short-
term investments of working capital.
(4) Special rules for cases where financing entity is unrelated to
both intermediate entity and financed entity--(i) Presumption of no tax
avoidance. It shall be presumed that the participation of an
intermediate entity (or entities) in a financing arrangement is not
pursuant to a tax avoidance plan if the financing entity is unrelated
to the intermediate entity (or entities) and the financed entity, and
the intermediate entity (or, in the case of multiple intermediate
entities, the intermediate entity that has engaged in a financing
transaction with the financing entity) is actively engaged in a
substantial trade or business (other than the business of making or
managing investments, except pursuant to a banking, insurance,
financing or similar trade or business the income from which is earned
predominantly in transactions with unrelated persons). This presumption
may be rebutted if the district director establishes that the
participation of the intermediate entity in the financing arrangement
is pursuant to a tax avoidance plan. For an illustration of this
special rule see Example 15 of paragraph (f) of this section.
(ii) Liability of financing entity--(A) In general. Notwithstanding
that the district director may treat an intermediate entity in a
financing arrangement as a conduit entity under paragraph (a)(4) of
this section, a financing entity that is unrelated to the financed
entity and the intermediate entity (or entities) shall not be liable
for tax under section 881 pursuant to this section unless the financing
entity knows or has reason to know that the financing arrangement is
subject to recharacterization under paragraph (a)(3) of this section.
This paragraph (c)(4)(ii) shall not apply, however, for purposes of
determining whether any person is liable for withholding tax pursuant
to Sec. 1.1441-3(j) or whether any party to a financing arrangement is
entitled under sections 1461 to 1464 to a refund of tax actually
withheld by a withholding agent pursuant to section 1441. Accordingly,
if the conditions of paragraph (a)(4) of this section are satisfied,
the financed entity shall be required to pay withholding tax without
regard to the knowledge of the financing entity and no party to the
financing arrangement shall be entitled to a refund except to the
extent the amount withheld exceeds the amount determined under section
881 by recharacterizing the transaction and disregarding the conduit
entity pursuant to paragraph (a)(4).
(B) Know or have reason to know standard. The standard described in
paragraph (c)(4)(ii)(A) shall be satisfied if the person knows or has
reason to know those facts relevant to whether the financing
arrangement satisfies the conditions set forth in paragraph (a)(4) of
this section, including whether the participation of the intermediate
entity in the financing arrangement is pursuant to a tax avoidance
plan. A person shall not be considered to have reason to know that the
financing arrangement is subject to recharacterization under paragraph
(a)(3) of this section if the person knows of the financing
transactions that comprise the financing arrangement but does not know
or have reason to know of facts sufficient to establish that the
participation of the intermediate entity in the financing arrangement
was pursuant to such a plan.
(d) Determination of amount of tax liability--(1) Amount of payment
subject to recharacterization--(i) In general. If the district director
treats an intermediate entity as a conduit entity pursuant to paragraph
(a)(3) of this section, a portion of each payment made by the financed
entity with respect to the financing transactions that comprise the
financing arrangement shall be subject to recharacterization as a
transaction directly between the financed entity and the financing
entity. The recharacterized portion shall be the portion of the payment
that is equal to the ratio (not to exceed 1:1) of the average principal
amount of such financing transaction(s) between the conduit entity and
the financing entity to the average principal amount of such financing
transaction(s) between the financed entity and the conduit entity, for
the period to which the payment made by the financed entity relates.
The average may be computed using any method applied consistently that
reflects with reasonable accuracy the amount outstanding for the
period. For an illustration of the calculation of the amount of tax
liability see Example 16 of paragraph (f) of this section.
(ii) Multiple conduit entities. Except in the case of a financing
arrangement described in paragraph (a)(4)(ii)(B) of this section, if a
financing arrangement involves multiple intermediate entities that are
treated as conduit entities, the ratio described in paragraph (d)(1)(i)
of this section shall be based upon a comparison of the financing
transaction between a conduit entity and a party other than the
financed entity that has the lowest average principal amount, and the
financing transaction involving the financed entity.
(iii) Determination of principal amount. The principal amount of a
financing transaction shall be determined on the basis of all of the
facts and circumstances. The principal amount generally will equal the
amount of money, or the fair market value of other property (determined
as of the time that the financing transaction is entered into),
advanced in the financing transaction. In the case of a debt instrument
or stock, the fair market value of the property advanced will be
considered to equal the issue price unless the fair market value
differs materially from the issue price. The principal amount of a
financing transaction shall be subject to adjustments, as appropriate.
For example, in the case of an OID debt instrument that is repaid in
installments and has an issue price equal to the fair market value of
the property advanced, appropriate adjustments will be made for
accruals of original issue discount and repayments of principal
(including accrued original issue discount).
(2) Rate of tax. If a financing arrangement is recharacterized
under paragraph (a)(3) of this section, the payments by the financed
entity described in section 881 shall be subject to tax at the rate
that would have been applicable had payments been made directly to the
financing entity. The applicable rate shall be determined by reference
to the character of the financing transaction (e.g., loan or lease)
between the intermediate entity and the financed entity.
(3) Effect of income tax treaties. A financing arrangement shall be
subject to recharacterization under this section regardless of whether
a conduit entity is a resident of a country that has an income tax
treaty with the United States. Accordingly, if the financing
arrangement is recharacterized as a transaction directly between the
financed entity and a person that is not entitled to claim the benefits
of the income tax treaty, the treaty shall not operate to reduce the
amount of tax due under section 881.
(4) Withholding tax due. For withholding rules applicable to
financing arrangements described in paragraph (a)(4) of this section,
see Secs. 1.1441-3(j) and 1.1441-7(d).
(e) Coordination with sections 871, 884, 1441 and 1442. For
purposes of this section, any reference to tax imposed under section
881 includes, as the context may require, a reference to tax imposed
under sections 871, 884(f)(1)(A), 1441, or 1442.
(f) Examples. The following examples illustrate this section. For
purposes of these examples, unless otherwise indicated, it is assumed
that FP, a corporation organized in country X, owns all of the stock of
FS, a corporation organized in country Y, and DS, a corporation
organized in the United States. Country Y, but not country X, has an
income tax treaty with the United States. The treaty exempts interest,
rents and royalties paid by a resident of one state (the source state)
to a resident of the other state from tax in the source state.
Example 1. Financing arrangement. (i) On January 1, 1995, FP
lends $1,000,000 to DS in exchange for a note issued by DS. On
January 1, 1996, FP assigns the DS note to FS in exchange for a note
issued by FS. After receiving notice of the assignment, DS remits
payments due under its note to FS.
(ii) FP's loan to DS and FP's assignment of the DS note to FS
are financing transactions within the meaning of paragraph
(a)(2)(ii) of this section, and the transactions together constitute
a financing arrangement within the meaning of paragraph (a)(2)(i) of
this section. Therefore, for purposes of section 881, the district
director may treat FS as a conduit entity if the conditions of
paragraph (a)(4)(i) of this section are satisfied.
Example 2. Multiple conduits. (i) On January 1, 1995, FP
deposits $1,000,000 with BK, a bank that is organized in country Y
and is unrelated to FP and its subsidiaries. On January 1, 1996, at
a time when the FP-BK deposit is still outstanding, BK lends
$500,000 to BK2, a bank that is wholly- owned by BK and is organized
in country Y. On the same date, BK2 lends $500,000 to FS. On July 1,
1996, FS lends $500,000 to DS. FP pledges its deposit to BK2 in
support of FS' obligation to repay the BK2 loan. FS', BK's and BK2's
participation in the financing arrangement is pursuant to a tax
avoidance plan.
(ii) Since there are multiple intermediate entities, under
paragraph (a)(4)(ii)(A) of this section, principles consistent with
those of paragraph (a)(4)(i) of this section apply to the entire
financing arrangement for purposes of determining whether the
requirements of paragraph (a)(4) of this section are satisfied.
Since BK and BK2 are unrelated to FP, FS and DS, the conditions of
paragraph (a)(4)(i)(C)(2) of this section must be satisfied with
respect to the financing transactions between FP, BK, BK2 and FS.
The conditions of that paragraph are presumed under paragraph (b) of
this section to be satisfied because FP's pledge of an asset in
support of FS' obligation to repay the BK2 loan is a guarantee
within the meaning of paragraph (a)(2)(iv) of this section. Since BK
and BK2 are related, it is not necessary that the conditions of
paragraph (a)(4)(i)(C)(2) of this section be satisfied independently
with respect to the financing transactions between FP, BK and BK2.
In addition, the conditions of paragraphs (a)(4)(i)(A) and (B) of
this section are satisfied because the participation of BK, BK2 and
FS in the financing arrangement reduces the tax imposed by section
881, and FS', BK's and BK2's participation in the financing
arrangement is pursuant to a tax avoidance plan. Accordingly, for
purposes of section 881, the district director may treat FP as a
financing entity and BK, BK2 and FS as conduit entities, and
recharacterize the financing arrangement as a financing transaction
directly between DS and FP.
Example 3. Related persons treated as a single conduit entity.
(i) On January 1, 1995, FP deposits $1,000,000 with BK, a bank that
is organized in country X and is unrelated to FP and its
subsidiaries. M, a corporation also organized in country X, is
wholly-owned by the sole shareholder of BK but is not a bank within
the meaning of section 881(c)(3)(A). On July 1, 1995, M lends
$1,000,000 to DS in exchange for a note maturing on July 1, 2005.
The note is in registered form within the meaning of section
881(c)(2)(B)(i) and DS has received from M the statement required by
section 881(c)(2)(B)(ii). The conditions of paragraph (a)(4)(i) of
this section would be satisfied with respect to the financing
transactions between FP, BK, M and DS but for the absence of a
financing transaction between BK and M. One of the principal
purposes for the absence of a financing transaction between BK and M
is the avoidance of the application of this section.
(ii) Pursuant to paragraph (a)(4)(ii)(B) of this section, the
district director may treat the financing transactions between FP,
BK, M and DS as a financing arrangement for purposes of this section
even though BK and M do not engage in a financing transaction. In
such a case, BK and M would be considered a single intermediate
entity for purposes of this section.
Example 4. Related persons treated as a single conduit entity.
(i) On January 1, 1995, FP lends $10,000,000 to FS in exchange for a
10-year note that pays interest annually at a rate of 8 percent per
annum. On January 2, 1995, FS contributes $10,000,000 to FS2, a
wholly-owned subsidiary of FS organized in country Y, in exchange
for common stock of FS2. On January 1, 1996, FS2 lends $10,000,000
to DS in exchange for an 8-year note that pays interest annually at
a rate of 10 percent per annum.
(ii) FS is a holding company that has no significant assets
other than the stock of FS2. Throughout the period that the FP-FS
loan is outstanding, FS causes FS2 to make distributions to FS, most
of which are used to make interest and principal payments on the FP-
FS loan. Without the distributions from FS2, FS would not have had
the funds with which to make payments on the FP-FS loan.
(iii) The conditions of paragraph (a)(4)(i) of this section
would be satisfied with respect to the financing transactions
between FP, FS, FS2 and DS but for the absence of a financing
transaction between FS and FS2. One of the principal purposes for
the absence of a financing transaction between FS and FS2 is the
avoidance of the application of this section.
(iv) Pursuant to paragraph (a)(4)(ii)(B) of this section, the
district director may treat the financing transactions between FP,
FS, FS2 and DS as a financing arrangement for purposes of this
section even though FS and FS2 do not engage in a financing
transaction. In such a case, FS and FS2 would be considered a single
intermediate entity for purposes of this section.
Example 5. Related persons treated as a single conduit entity.
Assume the same facts as in Example 4 except that FS contributes
$9,900,000 and lends $100,000 to FS2. Pursuant to paragraph
(a)(4)(ii)(B) of this section, the district director may treat the
financing transactions between FP, FS, FS2 and DS as a financing
arrangement for purposes of this section even though FS and FS2
engage in a financing transaction since from the facts and
circumstances the district director may determine that one of the
principal purposes for the existence of the financing transaction is
to prevent the district director from treating the related persons
as a single intermediate entity. In such a case, FS and FS2 would be
considered a single intermediate entity for purposes of this
section.
Example 6. Reduction of tax. (i) On January 1, 1995, FP licenses
to FS the rights to use a patent in the U.S. to manufacture product
A. FS agrees to pay FP a fixed amount in royalties each year under
the license. On January 1, 1996, FS sublicenses to DS the rights to
use the patent in the U.S. Under the sublicense, DS agrees to pay FS
royalties based upon the units of product A manufactured by DS each
year. Although the formula for computing the amount of royalties
paid by DS to FS differs from the formula for computing the amount
of royalties paid by FS to FP, each represents an arm's length rate.
The fair market value of the patent rights do not increase between
January 1, 1995, and January 1, 1996.
(ii) Under the country Y-U.S. income tax treaty, the royalties
paid by DS to FS are exempt from U.S. withholding tax. However,
pursuant to Secs. 1.881-2(b) and 1.1441-2(a), the parties withhold
tax at a 30 percent rate on the royalties paid to FP because the
royalties are paid in consideration for the privilege of using the
patent in the United States, and therefore the royalties constitute
income from U.S. sources under section 861(a)(4).
(iii) Because the principal amount of the license between FS and
DS is equal to or less than the principal amount of the license
between FP and FS, the royalties paid by DS and FS represent an
arm's length rate, and the rate of tax imposed on royalties paid by
FS to FP is the same as the rate that would have been imposed on
royalties paid by DS to FP, the participation of FS in the FP-FS-DS
financing arrangement is not considered to reduce the tax imposed by
section 881 within the meaning of paragraph (a)(4)(i)(A) of this
section.
Example 7. A principal purpose of plan. (i) On January 1, 1995,
FS lends $10,000,000 to DS in exchange for a 10-year note that pays
interest annually at a rate of 8 percent per annum. As was intended
at the time of the loan from FS to DS, on July 1, 1995, FP makes an
interest-free demand loan of $10,000,000 to FS. A principal purpose
for FS' participation in the FP-FS-DS financing arrangement is that
FS generally coordinates the financing for all of FP's subsidiaries
(although FS does not engage in significant financing activities
with respect to such financing transactions). However, another
principal purpose for FS' participation is to allow the parties to
benefit from the lower withholding tax rate provided under the
treaty between country Y and the United States.
(ii) The financing arrangement satisfies the tax avoidance
purpose requirement of paragraph (a)(4)(i)(B) of this section since
FS participated in the financing arrangement pursuant to a plan one
of the principal purposes of which is to allow the parties to
benefit from the country Y-U.S. treaty.
Example 8. Reduction of tax. (i) FX is a wholly-owned subsidiary
of FP and is a resident of country Y. FX owns all of the stock of
FS1, which also is a resident of country Y. FS1 owns all of the
stock of DX, a corporation organized in the United States. On
January 1, 1995, FP contributes $10,000,000 to the capital of FX. On
July 1, 1995, FX lends $10,000,000 to FS1. On January 1, 1996, FS1
lends $10,000,000 to DX. Under the terms of the country Y-U.S.
income tax treaty, a country Y resident is not entitled to the
reduced withholding rate on interest income provided by the treaty
if the resident is entitled to, even if it does not claim, special
tax benefits under country Y law. In order to qualify for the
reduced withholding rate on the interest it receives from DX, FS1
does not claim the special tax benefits under country Y law. FX,
however, obtains the special tax benefits under country Y law, which
substantially reduces the rate of tax imposed on the interest it
receives from FS1. Accordingly, if FX had made a loan directly to
DX, payments of interest by DX to FX would have been subject to tax
under section 881 at a 30 percent rate.
(ii) Pursuant to paragraph (a)(3)(i) of this section, the
district director may determine that the FX-FS1 loan and the FS1-DX
loan comprise a financing arrangement. Pursuant to paragraph
(c)(2)(i)(A) of this section, the significant reduction in tax
resulting from the participation of FS1 in the financing arrangement
is evidence that the participation of FS1 in the financing
arrangement is pursuant to a tax avoidance plan. However, other
facts relevant to the presence of such a plan must also be taken
into account.
Example 9. Time period between financing transactions. (i) On
January 1, 1995, FP lends $10,000,000 to FS in exchange for a 10-
year note that pays no interest annually. When the note matures, FS
is obligated to pay $24,000,000 to FP. On January 1, 1996, FS lends
$10,000,000 to DS in exchange for a 10-year note that pays interest
annually at a rate of 10 percent per annum.
(ii) Pursuant to paragraph (c)(2)(i)(C) of this section, the
twelve-month period between the loan by FP to FS and the loan by FS
to DS is evidence that the participation of FS in the financing
arrangement is pursuant to a tax avoidance plan. However, other
facts relevant to the presence of such a plan must also be taken
into account.
Example 10. Active conduct of a trade or business. (i) FP is a
holding company. FS is actively engaged in country Y in the business
of manufacturing and selling product A. DS manufactures product B,
which is a principal component used by FS in the manufacture of
product A. FS' business activity is substantial. On January 1, 1995,
FP lends $100,000,000 to FS to finance FS' business operations. On
January 1, 1996, FS lends $30,000,000 to DS to finance its
manufacturing business.
(ii) Pursuant to paragraph (c)(2)(ii)(C) of this section, the
fact that FS makes a loan to DS in order to finance a business
actively engaged in by DS that forms a part of, or is complementary
to, a substantial business actively engaged in by FS is evidence
that the participation of FS in the financing arrangement is not
pursuant to a tax avoidance plan. However, other facts relevant to
the presence of such a plan must also be taken into account.
Example 11. Ordinary course deposits of working capital. (i)
Over a period of years, FP has maintained a deposit with BK, a bank
that is organized in country Y and is unrelated to FP and its
subsidiaries. FP has placed funds in the bank account in order to
maintain sufficient liquidity to meet its working capital needs. On
January 1, 1995, BK lends $5,000,000 to DS. FP guarantees to BK that
DS will satisfy its repayment obligation on the loan. Both prior to
and after the loan is made, the balance in FP's bank account remains
within a range appropriate to meet FP's working capital needs.
(ii) The fact that FP has historically maintained an account
with BK to meet its working capital needs and that, prior to and
after BK's loan to DS, the balance within the account remains within
a range appropriate to meet those business needs, is evidence that
the participation of BK in the FP-BK-DS financing arrangement is not
pursuant to a tax avoidance plan. However, other facts relevant to
the presence of such a plan must also be taken into account.
(iii) Assume the same facts, except that on January 1, 2000,
FP's deposit with BK substantially exceeds FP's expected working
capital needs. On January 2, 2000, BK lends additional funds to DS.
FP would have lent the funds to DS directly but for the imposition
of the withholding tax on payments made directly to FP by DS.
(iv) The presence of funds substantially in excess of FP's
working capital needs and FP's willingness to lend funds directly to
DS is evidence that the participation of BK in the FP-BK-FS
financing arrangement is pursuant to a tax avoidance plan. However,
other facts relevant to the presence of such a plan must also be
taken into account.
(v) In either case, the taxpayer may establish, pursuant to
paragraph (b) of this section, that BK would have made the loan to
DS on substantially the same terms in the absence of FP's deposit
with BK.
Example 12. Presumption with respect to significant financing
activities. (i) FS has 100 employees located in country Y who are
responsible for coordinating the financing of all of the
subsidiaries of FP, which are engaged in a substantial trade or
business and are located in both country Y and country X. FS
maintains a centralized cash management accounting system for FP and
its subsidiaries in which it records all intercompany payables and
receivables; these payables and receivables ultimately are reduced
to a single balance either due from or owing to FS and each of FP's
subsidiaries. FS is responsible for disbursing or receiving any cash
payments required by transactions between its affiliates and
unrelated parties. FS must borrow any cash necessary to meet those
external obligations and invests any excess cash for the benefit of
the FP group. FS enters into interest rate and foreign exchange
contracts as necessary to manage the risks arising from mismatches
in incoming and outgoing cash flows. At the request of DS, on
January 1, 1995, FS pays a supplier $1,000,000 for materials
delivered to DS and charges DS an open account receivable for this
amount. On February 3, 1995, FS reverses the account receivable from
DS to FS when DS delivers to FP goods with a value in excess of
$1,000,000.
(ii) The accounts payable from DS to FS and from FS to other
subsidiaries of FP constitute financing transactions within the
meaning of paragraph (a)(2)(ii) of this section, and the
transactions together constitute a financing arrangement within the
meaning of paragraph (a)(2)(i) of this section. FS performs
significant financing activities with respect to the financing
transactions even though FS did not actively and materially
participate in arranging the financing transactions because the
financing transactions consisted of advances of property in exchange
for trade receivables that were ordinary and necessary to carry on
the trades or businesses of DS and the other subsidiaries of FP.
Accordingly, pursuant to paragraph (c)(3)(i) of this section, FS's
participation in the financing arrangement is presumed not to be
pursuant to a tax avoidance plan.
Example 13. Active management of material business risks. (i)
The facts are the same as in Example 12, except that, in addition to
its short-term funding needs, DS needs long-term financing to fund
an acquisition of another U.S. company; the acquisition is scheduled
to close on January 15, 1995. FS has a revolving credit agreement
with a syndicate of banks located in Country X. On January 14, 1995,
FS borrows $10 billion for 10 years under the revolving credit
agreement, paying yen LIBOR plus 50 basis points on a quarterly
basis. FS enters into a currency swap with BK, an unrelated bank
that is not a member of the syndicate, under which FS will pay BK 10
billion and will receive $100 million on January 15, 1994; these
payments will be reversed on January 15, 2004. FS will pay BK U.S.
dollar LIBOR plus 50 basis points on a notional principal amount of
$100 million semiannually and will receive yen LIBOR plus 50 basis
points on a notional principal amount of $10 billion quarterly. Upon
the closing of the acquisition on January 15, 1995, DS borrows $100
million from FS for 10 years, paying U.S. dollar LIBOR plus 50 basis
points semiannually.
(ii) Although FS performs significant financing activities with
respect to certain financing transactions to which it is a party, FS
does not perform significant financing activities with respect to
the financing transactions between FS and the syndicate of banks and
between FS and DS because FS has eliminated all material business
risks arising from those financing transactions through its currency
swap with BK. Accordingly, the financing arrangement does not
benefit from the presumption of paragraph (c)(3)(i) and the district
director must determine whether the participation of FS in the
financing arrangement is pursuant to a tax avoidance plan on the
basis of all the facts and circumstances.
Example 14. A principal purpose of plan. (i) The facts are the
same as in Example 12, except that, on January 1, 1995, FP lends to
FS 20,000,000 deutsche marks (worth $10,000,000) in exchange for a
10-year note that pays interest annually at a rate of 5 percent per
annum. Also, on January 1, 1995, FS lends $10,000,000 to DS in
exchange for a 10-year note that pays interest annually at a rate of
8 percent per annum. FS would not have had sufficient funds to make
the loan to DS without the loan from FP. FS does not enter into any
long-term hedging transaction with respect to these financing
transactions, but manages its currency risk arising from the
transactions on a daily, weekly or quarterly basis by entering into
forward currency contracts.
(ii) Because FS performs significant financing activities with
respect to the financing transactions between FS, DS and FP, the
participation of FS in the financing arrangement is presumed not to
be pursuant to a tax avoidance plan. The district director may rebut
this presumption by establishing that the participation of FS is
pursuant to a tax avoidance plan, based on all the facts and
circumstances. The mere fact that FS is a resident of country Y is
not sufficient to establish the existence of a tax avoidance plan.
However, the existence of a plan can be inferred from other factors
in addition to the fact that FS is a resident of country Y. For
example, the loans are made on the same day and FS would not have
been able to make the loan to DS without the loan from FP.
Example 15. Presumption with respect to unrelated financing
entity. (i) FP is a corporation organized in country Y that is
actively engaged in a substantial manufacturing business. On January
1, 1995, FP obtains a 20-year $100,000,000 loan from BK, a bank that
is organized in country X and is unrelated to FP and its
subsidiaries. On January 1, 1996, FP lends $10,000,000 to DS.
(ii) Pursuant to paragraph (c)(4)(i) of this section, FP's
participation in the financing arrangement with BK and DS is
presumed not to be pursuant to a tax avoidance plan because BK is
unrelated to both FP and DS, and FP is actively engaged in a
substantial manufacturing business.
Example 16. Calculation of amount of tax liability. (i) On
January 1, 1996, FP makes two three-year installment loans of
$250,000 each to FS that pay interest at a rate of 9 percent per
annum. Payments on each loan are $7,950 per month. On the same date,
FS lends $1,000,000 to DS in exchange for a two-year note that pays
interest semi-annually at a rate of 10 percent per annum, beginning
on June 30, 1996. The district director determines that the
financing transactions between FP and FS, and FS and DS, are made
pursuant to a financing arrangement involving FP, FS and DS, that
satisfies the conditions of paragraph (a)(4) of this section.
(ii) Assume that for the period of January 1, 1996 through June
30, 1996, the average principal amount of the financing transactions
between FP and FS that comprise the financing arrangement is
$469,319. Further, assume that for the period of July 1, 1996
through December 31, 1996, the average principal amount of the
financing transactions between FP and FS is $393,632. The average
principal amount of the financing transaction between FS and DS for
the same periods is $1,000,000.
(iii) Pursuant to paragraph (d)(1)(i) of this section, the
portion of the $50,000 interest payment made by DS to FS on June 30,
1996, that is recharacterized as a payment to FP is $23,450 computed
as follows: ($50,000 x $469,319/$1,000,000) = $23,450. The portion
of the interest payment made on December 31, 1996 that is
recharacterized as a payment to FP is $19,650, computed as follows:
($50,000 x $393,632/$1,000,000)=$19,650.
(iv) Under Sec. 1.1441-3(j), DS is liable for withholding tax at
a 30 percent rate on the portion of the $50,000 payment to FS that
is recharacterized as a payment to FP, i.e., $7,035 with respect to
the June 30, 1996 payment and $5,895 with respect to the December
31, 1996 payment.
(g) Effective date. This section is effective for payments made
after the date which is 30 days after publication of final regulations
in the Federal Register. This section shall not apply with respect to
interest payments made by United States corporations to Netherlands
Antilles corporations in connection with debt obligations issued prior
to October 15, 1984 and payments of interest covered by section
127(g)(3) of the Tax Reform Act of 1984.
Sec. 1.881-4 Reporting and recordkeeping requirements concerning
conduit financing arrangements.
(a) Scope. This section provides rules for the furnishing of
information and the maintenance of records concerning certain financing
arrangements to which the provisions of Sec. 1.881-3 apply. This
section also provides rules for coordinating the application of
sections 6038 and 6038A with the application of this section.
(b) Reporting requirements--(1) Persons required to report. A
financed entity that is a reporting corporation within the meaning of
section 6038A(a) and the regulations under that section, or that is
required to report pursuant to section 6038(a) and the regulations
under that section, shall be required to comply with the requirements
of this paragraph (b) with respect to any financing transaction to
which the financed entity is a party, that the financed entity knows or
has reason to know forms a part of a financing arrangement described in
Sec. 1.881-3(a)(4) (determined without regard to Sec. 1.881-
3(a)(4)(i)(B)). For purposes of this paragraph (b), a financed entity
will be considered to know or have reason to know that the conditions
of Sec. 1.881-3(a)(4)(i)(C)(2) are satisfied with respect to a
financing arrangement if the financed entity knows or has reason to
know that the financing entity has guaranteed the liability of the
financed entity under the financing transaction. This paragraph (b)
applies only if a person with respect to which the financed entity is
required to report under sections 6038 or 6038A is a party to the
financing arrangement.
(2) Reporting requirement. A financed entity described in paragraph
(b)(1) of this section shall be required to attach to the Form 5471 or
5472, whichever is applicable, for each year in which it is a party to
a financing transaction described in paragraph (b)(1) of this section,
a statement setting forth the following information (rendered in the
English language and expressed in United States currency, with
disclosure of applicable exchange rates) concerning each financing
transaction--
(i) The character (e.g., loan, stock, lease, license) of the
financing transaction;
(ii) The name of the person that advanced money or other property
to the financed entity in the financing transaction, and the name of
the person (if different) to which the financed entity has made
payments pursuant to the financing arrangement;
(iii) The date and amount of each advance of money or other
property to the financed entity;
(iv) The amount of money or other property paid by the financed
entity pursuant to the financing transaction, and the date on which
each payment was made;
(v) A description of any guarantee provided by the financing entity
in connection with the financing arrangement; and
(vi) With respect to each party to the financing arrangement that
is related to the financed entity within the meaning of Sec. 1.881-
3(a)(2)(v)--
(A) The name, address, taxpayer identification number, if any, and
country of residence of the related person; and
(B) A description of the manner in which the financed entity and
the person are related.
(3) Additional disclosure. A financed entity may be required to
disclose on its Federal income tax return, or on other forms (including
Form 5471 or Form 5472, if otherwise applicable), information
concerning its participation in a financing arrangement described in
paragraph (b)(1) of this section, regardless of whether the financed
entity is required to report pursuant to paragraph (b)(1) of this
section. Information disclosed on the return or other forms need not
also be reported pursuant to paragraph (b)(2) of this section.
(c) Recordkeeping requirements. A financed entity or any other
person subject to the general recordkeeping requirements of section
6001 must keep the permanent books of account or records, as required
by section 6001, that may be relevant to whether that person is a party
to a financing arrangement that is subject to recharacterization under
Sec. 1.881-3. In addition, a financed entity that is a reporting
corporation within the meaning of section 6038A(a) and the regulations
under that section, and any other person that is subject to the
recordkeeping requirements of Sec. 1.6038A-3, must comply with such
recordkeeping requirements with respect to records that may be relevant
to whether the financed entity is a party to a financing arrangement
that is subject to recharacterization under Sec. 1.881-3.
(d) Application of sections 6038 and 6038A--(1) In general. Any
information that a financed entity is required to report pursuant to
paragraph (b) of this section, or any records that any person is
required to maintain pursuant to paragraph (c) of this section, shall
be considered information that is required to be reported, or records
that are required to be maintained, pursuant to sections 6038 or 6038A
if such person is required to report information or maintain records
concerning transactions between the financed entity and any other party
to the financing arrangement under either section 6038 or section
6038A. Accordingly, the provisions of sections 6038 and 6038A
(including, without limitation, the penalty provisions thereof), and
the regulations under those sections, shall apply to any information
required to be reported or records required to be maintained pursuant
to this section.
(2) Duplication of reporting requirements. Information that is
required to be reported on Form 5471 by Sec. 1.6038-2(f) or on Form
5472 by Sec. 1.6038A-2(b) need not be duplicated on the statements
required by paragraph (b)(2) of this section. Information that is
required to be reported about a particular financing transaction on the
statement required by paragraph (b)(2) of this section shall not be
considered to duplicate information required to be reported in the
aggregate on Form 5471 or Form 5472 about more than one financing
transaction.
(e) Effective date. This section is effective for tax years in
which payments described in Sec. 1.881-3 are made. This section shall
not apply with respect to interest payments made by United States
corporations to Netherlands Antilles corporations in connection with
debt obligations issued prior to October 15, 1984 and payments of
interest covered by section 127(g)(3) of the Tax Reform Act of 1984.
Par. 4. In Sec. 1.1441-3, paragraph (j) is added to read as
follows:
Sec. 1.1441-3 Exceptions and rules of special application.
* * * * *
(j) Conduit financing arrangements. A financed entity or other
person required to withhold tax under section 1441 with respect to a
financing arrangement subject to recharacterization under Sec. 1.871-
1(b)(7) or 1.881-3(a)(3), shall be required to withhold in accordance
with the recharacterization on the portion of each payment subject to
recharacterization, as determined by Sec. 1.881-3(c). If the financing
entity is entitled to the benefit of a treaty that provides a reduced
rate of tax on a payment of the type recharacterized, the financed
entity may withhold tax at that reduced rate if the financing entity
complies with the procedures, if any, prescribed in the relevant
treaty, or in regulations under section 1441. See Sec. 1.1441-7(d)
relating to withholding tax liability of the withholding agent in
conduit financing arrangements subject to Sec. 1.881-3. This paragraph
(j) is effective for payments made after the date which is 30 days
after publication of final regulations in the Federal Register. This
section shall not apply with respect to interest payments made by
United States corporations to Netherlands Antilles corporations in
connection with debt obligations issued prior to October 15, 1984 and
payments of interest covered by section 127(g)(3) of the Tax Reform Act
of 1984.
Par. 5. In Sec. 1.1441-7, paragraph (d) is added to read as
follows:
Sec. 1.1441-7 General provisions relating to withholding agents.
* * * * *
(d) Conduit financing arrangements. A person shall be required to
withhold tax under section 1441 in accordance with the
recharacterization of a financing arrangement under Sec. 1.871-1(b)(7)
or 1.881-3(a)(3) if the person knows or has reason to know that the
financing arrangement is subject to recharacterization under those
sections and the person otherwise is a withholding agent with respect
to the financing arrangement. This standard shall be satisfied if the
person knows or has reason to know those facts relevant to whether the
financing arrangement satisfies the conditions set forth in Sec. 1.881-
3(a)(4), including whether the participation of the intermediate entity
is pursuant to a tax avoidance plan. A person shall not be considered
to have reason to know that the financing arrangement is subject to
recharacterization under Sec. 1.871-1(b)(7) or 1.881-3(a)(3) if the
person knows of the financing transactions that comprise the financing
arrangement but does not know or have reason to know facts sufficient
to establish that the participation of the intermediate entity in the
financing arrangement was pursuant to such a plan. This paragraph is
effective for payments made after the date which is 30 days after
publication of final regulations in the Federal Register. This section
shall not apply with respect to interest payments made by United States
corporations to Netherlands Antilles corporations in connection with
debt obligations issued prior to October 15, 1984 and payments of
interest covered by section 127(g)(3) of the Tax Reform Act of 1984.
Par. 6. In Sec. 1.6038-2, paragraph (f)(12) is added to read as
follows:
Sec. 1.6038-2 Reporting requirements for conduit financing
arrangements.
* * * * *
(f) * * *
(12) Conduit financing arrangements. See Sec. 1.881-4 for
additional information that must be reported on (or attached to) Form
5471 relating to conduit financing arrangements.
* * * * *
Par. 7. In Sec. 1.6038A-2, paragraph (b)(9) is added to read as
follows:
Sec. 1.6038A-2 Requirement of return.
* * * * *
(b) * * *
(9) See Sec. 1.881-4 for additional information that must be
reported on (or attached to) Form 5472 relating to conduit financing
arrangements.
* * * * *
Par. 8. In Sec. 1.6038A-3, paragraphs (b)(5) and (c)(2)(vii) are
added to read as follows:
Sec. 1.6038A-3 Record maintenance.
* * * * *
(b) * * *
(5) Records relating to conduit financing arrangements. See
Sec. 1.881-4 relating to conduit financing arrangements.
(c) * * *
(2) * * *
(vii) Records relating to conduit financing arrangements. See
Sec. 1.881-4 relating to conduit financing arrangements.
* * * * *
Par. 9. Section 1.7701(l)-1 is added to read as follows:
Sec. 1.7701(l)-1 Conduit financing arrangements.
(a) Scope. Section 7701(l) authorizes the issuance of regulations
that recharacterize any multiple-party financing transaction as a
transaction directly among any two or more of such parties where the
Secretary determines that such recharacterization is appropriate to
prevent avoidance of any tax imposed by title 26 of the United States
Code.
(b) Regulations issued under authority of section 7701(l). The
following regulations are issued under the authority of section
7701(l)--
(1) Sec. 1.871-1(b)(7);
(2) Sec. 1.881-3;
(3) Sec. 1.881-4;
(4) Sec. 1.1441-3(j);
(5) Sec. 1.1441-7(d);
(6) Sec. 1.6038A-2(f)(12);
(7) Sec. 1.6038A-2(b)(9);
(8) Sec. 1.6038A-3(b)(5); and
(9) Sec. 1.6038A-3(c)(2)(vii).
Margaret Milner Richardson,
Commissioner of Internal Revenue.
[FR Doc. 94-25403 Filed 10-11-94; 8:48 am]
BILLING CODE 4830-01-U
