[Federal Register Volume 63, Number 249 (Tuesday, December 29, 1998)]
[Proposed Rules]
[Pages 71609-71615]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-33703]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[REG-106902-98]
RIN 1545-AW08
Consolidated Returns--Consolidated Overall Foreign Losses and
Separate Limitation Losses
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking; notice of proposed rulemaking by
cross-reference to temporary regulations; and notice of public hearing.
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SUMMARY: This document contains proposed consolidated return
regulations relating to the treatment of overall foreign losses and
separate limitation losses in the computation of the foreign tax credit
limitation. The proposed rules are necessary to modify existing
guidance with respect to overall foreign losses and to provide guidance
with respect to separate limitation losses. These proposed regulations
affect consolidated groups that compute the foreign tax credit
limitation or that dispose of property used in a foreign trade or
business. This document also provides notice of a public hearing on
these proposed regulations.
DATES: Written comments must be received by February 10, 1999. Outlines
of oral comments to be discussed at the public hearing scheduled for 10
a.m. on February 17, 1999, must be received by January 27, 1999.
ADDRESSES: Send submissions to CC:DOM:CORP:R (REG-106902-98), room
5226, Internal Revenue Service, POB 7604, Ben Franklin Station,
Washington, DC 20044. Submissions may be hand delivered Monday through
Friday between the hours of 8 a.m. and 5 p.m. to: CC:DOM:CORP:R (REG-
106902-98), Courier s Desk, Internal Revenue Service, 1111 Constitution
Avenue, NW., Washington, DC. Alternatively, taxpayers may submit
comments electronically via the Internet by selecting the ``Tax Regs''
option on the IRS Home Page, or by submitting comments directly to the
IRS Internet site at http://www.irs.ustreas.gov/prod/tax____regs/
comments. html. The public hearing will be held in room 2615, Internal
Revenue Building, 1111
[[Page 71610]]
Constitution Avenue, NW., Washington, DC.
FOR FURTHER INFORMATION CONTACT: Concerning the regulations in general,
Trina Dang of the Office of Associate Chief Counsel (International),
(202) 622-3850; concerning submissions of comments, the hearing, and/or
to be placed on the building access list to attend the hearing, LaNita
Van Dyke, (202) 622-7180 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information contained in this notice of proposed
rulemaking has been submitted to the Office of Management and Budget
for review in accordance with the Paperwork Reduction Act of 1995 (44
U.S.C. 3507(d)). Comments on the collection of information should be
sent to the Office of Management and Budget, Attn: Desk Officer for the
Department of the Treasury, Office of Information and Regulatory
Affairs, Washington, DC 20503, with copies to the Internal Revenue
Service, Attn: IRS Reports Clearance Officer, OP:FS:FP, Washington, DC
20224. Comments on the collection of information should be received by
March 1, 1999. Comments are specifically requested concerning:
Whether the proposed collection of information is necessary for the
proper performance of the Internal Revenue Service, including whether
the information will have practical utility;
The accuracy of the estimated burden associated with the proposed
collection of information (see below);
How the quality, utility, and clarity of the information to be
collected may be enhanced;
How the burden of complying with the proposed collection of
information may be minimized, including through the application of
automated collection techniques or other forms of information
technology; and
Estimates of capital or start-up costs and costs of operation,
maintenance, and purchase of service to provide information.
The collection of information in this proposed regulation is in
Sec. 1.1502-9(c)(2)(iv). This information is required to help the
Internal Revenue Service monitor compliance with the provisions of the
proposed regulations and to ensure that taxpayers use consistent asset
valuations in applying the proposed regulations. This information will
be used for tax administration purposes. The collection of information
is mandatory. The likely respondents are business or other for-profit
institutions.
Estimated total annual reporting burden: 3,000 hours.
Estimated average annual burden per respondent: 1.5 hours.
Estimated number of respondents: 2,000.
Estimated annual frequency of responses: on occasion.
An agency may not conduct or sponsor, and a person is not required
to respond to, a collection of information unless it displays a valid
control number assigned by the Office of Management and Budget.
Books or records relating to a collection of information must be
retained so long as their contents may become material in the
administration of any internal revenue law. Generally, tax returns and
tax return information are confidential, as required by 26 U.S.C. 6103.
Background
This document contains proposed consolidated return regulations
under section 1502 of the Internal Revenue Code. The regulations
provide guidance concerning the application of the overall foreign loss
(OFL) and separate limitation loss (SLL) rules of section 904(f) in the
context of a consolidated group.
On January 12, 1998, the IRS and Treasury published in the Federal
Register (TD 8751, 63 FR 1740) temporary regulations modifying the
rules governing the absorption of certain tax attributes, including OFL
accounts and foreign tax credit carryovers and carrybacks. The
temporary regulations eliminated the limitation on OFL recapture and
foreign tax credit utilization with respect to separate return
limitation years (SRLYs). As explained in the preamble to those
temporary regulations, one reason for the repeal of the SRLY limitation
for the foreign tax credit attributes was the conceptual and practical
difficulty of measuring a member's contribution to a group's ability to
absorb these attributes in light of foreign tax credit provisions that
allocate interest expense and certain other expenses (and intercompany
interest income) of a member based upon the entire group's assets or
activities. The preamble to those regulations noted that these expense
allocation provisions also create similar problems with respect to the
notional account method of apportioning OFL accounts to a member
ceasing to be a member of a group and stated that the IRS and Treasury
expected to modify these rules in the near future.
Overview
The proposed regulations modify the existing regulations under
Sec. 1.1502-9, which were promulgated in 1987 (the 1987 regulations).
The 1987 regulations are proposed to be amended in three major
respects: the notional account method for apportioning OFL accounts to
a departing member is replaced by an asset-based allocation method, the
interaction between the intercompany transaction rules and the
disposition rules of section 904(f)(3) and (5)(F) is simplified and
refined, and guidance is provided concerning the computation of a
group's SLLs (whereas the 1987 regulations addressed only OFLs).
The 1987 regulations allocated an OFL account to a departing member
based upon the member's ``notional'' OFL account. A separate notional
account was established for each member of a group that contributed to
a consolidated OFL account. The accounts were adjusted annually. A
member was considered to have contributed to a group's OFL account if
the member had an overall foreign loss (deductions allocated against
foreign-source income exceeded foreign-source gross income) in a year
in which the group added to its consolidated OFL account.
At the time the 1987 regulations were being drafted, however,
Congress substantially changed the rules for allocating interest
expense in the Tax Reform Act of 1986. Congress believed that
corporations were borrowing in ways designed to inappropriately
minimize the amount of interest expense allocated against foreign-
source income, thus inflating the amount of foreign-source income that
could be sheltered from U.S. tax by foreign tax credits. In the case of
an affiliated group, Congress was concerned that interest expense
allocation could be manipulated by placing the borrowing function in
group members with no foreign assets, while diverting available equity
in the group to members with substantial foreign assets. Congress
therefore enacted section 864(e), which requires an affiliated group to
allocate interest expense of each member as if all such members were a
single corporation. Under this rule, although the borrowing corporation
incurs the interest expense, that expense is allocated among U.S. and
foreign income based upon the assets of the group as a whole. (Group-
based expense allocation is also required for research and experimental
expenditures under section 864(f) and expenses not directly allocable
to specific income under section 864(e)(6).)
[[Page 71611]]
Due in large measure to these group-based expense allocation
provisions, the notional account method can result in a member taking
from a group an OFL or SLL account that is unrelated to either the
member's activities or future income. For example, assume that P holds
all the stock of S and S holds all the stock of R. P, S, and R file a
consolidated return. P has no assets other than the stock of S. S's
operations are foreign and R's operations are entirely domestic. S s
assets have a tax book value of $600 and R s assets have a tax book
value of $400. S is entirely equity financed, but R borrows funds from
an unrelated lender. S earns $100 foreign-source income and incurs $100
of foreign-allocated expense. R earns $200 U.S.-source income and
incurs $100 of interest expense. Under section 864(e)(1) and
Sec. 1.861-11T, the $100 of interest expense is allocated to R s U.S.
and foreign-source gross income based upon the assets of the group as a
whole. Thus R, with no foreign operations, is treated as having a $60
foreign loss (no foreign income and $60 foreign expense), but S, the
only member with foreign operations, does not have a foreign loss. R's
notional OFL account would thus be $60 (100 percent of the consolidated
OFL account) and, if R left the group, R would take the entire
consolidated OFL account with it. The group, however, would retain the
foreign assets and the OFL account might never be recaptured.
As described in more detail below, the proposed regulations do not
apply the notional account approach, but instead apportion accounts to
a departing member based upon the member's share of the group's foreign
assets that produce foreign-source income that would be subject to
recapture. The new approach does not attempt to measure a member's
``contribution'' to the group's consolidated account; rather, the asset
approach associates an OFL or SLL account with a member s foreign
assets that produce income subject to recapture and measures each
member's share of the group OFL or SLL account based upon the member's
share of these assets. This approach is more in keeping with the
interest allocation provisions for affiliated groups enacted in 1986.
The proposed regulations also modify the interaction between
section 904(f) and the intercompany transaction rules of Sec. 1.1502-
13. Under the 1987 regulations, a consolidated OFL account could
trigger gain recognition with respect to an otherwise tax-free
intercompany transaction (such as a member's contribution under section
351 to another member of the group) that is a disposition subject to
section 904(f)(3) or (5)(F). This gain recognition could occur even
though the gain would not be taken into account currently under
Sec. 1.1502-13. Because the gain is not taken into account, however,
the consolidated OFL account is not reduced. Since the consolidated OFL
account is not reduced, it can continue to recharacterize foreign-
source income or trigger gain recognition with respect to subsequent
dispositions subject to section 904(f)(3) or (5)(F). This regime thus
has the potential to multiply the effects of a consolidated OFL
account. This rule was necessary under the notional account system of
apportioning OFL accounts to a departing member because otherwise a
member with a notional OFL account could contribute appreciated foreign
assets to a new subsidiary, and the new subsidiary could then leave the
group unencumbered by the OFL account, contrary to the purpose of
section 904(f)(3). As described in more detail below, the proposed
regulations ease the section 904(f)(3) and (5)(F) disposition rules in
the case of intercompany transactions.
Finally, the proposed regulations provide computational rules and
nomenclature for SLLs as well as OFLs. Because the regulations issued
in 1987 were actually drafted prior to the enactment of the SLL rules
in 1986, the 1987 regulations provide rules only for OFLs, although
rules for SLLs could be derived by analogy.
Explanation of Provisions
The proposed regulations do not provide comprehensive guidance
under section 904(f) and address only particular section 904(f) issues
that arise in the context of a consolidated group. The proposed
regulations must be read in conjunction with general guidance under
section 904(f), such as Notice 89-3 (1989-1 C.B. 623).
Proposed Sec. 1.1502-9(b)(1) through (4) provides computational
rules for consolidated OFL and SLL accounts. Generally, a group applies
section 904(f) on a group-wide basis. Thus, it nets together all
members' income and losses from the same separate limitation income
category (or basket) to determine its consolidated separate limitation
income or loss for the basket. Pursuant to section 904(f)(5), the group
then nets any consolidated separate limitation loss for a basket (a
loss basket) against consolidated separate limitation income for all
other baskets (the income baskets) on a proportionate basis. Such
netting creates a consolidated SLL account (a CSLL account) for the
loss basket with respect to one or more income baskets. The group then
nets any remaining consolidated separate limitation loss for a loss
basket against its U.S.-source income. Such netting creates a
consolidated OFL account (a COFL account) for the loss basket. The
group recaptures a COFL or CSLL account as required by section 904(f).
Proposed Sec. 1.1502-9(b)(5) addresses the interaction between
section 904(f) and the intercompany transaction rules. In the case of
an intercompany transaction in which gain is recognized but not
currently taken into account, the gain is treated as subject to section
904(f)(3) or (5)(F) only when taken into account under Sec. 1.1502-13,
to the extent of the COFL or CSLL account existing at that time. In the
case of an intercompany transaction in which gain is not recognized
(such as a section 351 contribution), section 904(f) will not trigger
gain recognition.
Proposed Sec. 1.1502-9(c) provides rules for members becoming or
ceasing to be members of a group. Consistent with the temporary
regulations issued in January 1998, and modified in March 1998 and in
temporary regulations published elsewhere in this issue of the Federal
Register, a member that enters a group with an OFL or SLL account adds
this account to the consolidated account, without any SRLY limitation.
A departing member takes a portion of the group's COFL and CSLL
accounts based upon the member's share of the group's assets that
generate income subject to recapture (i.e., assets that generate income
in the same basket as the loss basket). The proposed regulations rely
on the characterization principles of Secs. 1.861-9T(g)(3) and 1.861-
12T to identify the member s share of assets that generate foreign-
source income subject to recapture in each basket. The value of the
foreign assets is determined under the asset valuation rules of
Sec. 1.861-9T(g)(1) and (2) using either tax book value or fair market
value under the method chosen by the group for purposes of interest
apportionment as provided in Sec. 1.861-9T(g)(1)(ii). Although actual
market values generally provide a better means of apportioning accounts
than tax book values (since market values more accurately represent the
projected future earnings of an asset), apportionment based upon tax
book value is permitted in the interest of administrative convenience.
For groups using tax book value, however, an upper limitation is placed
upon a member's share of the consolidated accounts to prevent extreme
situations in which disparities between tax book value and fair market
value could result in the removal of excessive OFL or SLL accounts from
the group. The proposed
[[Page 71612]]
regulations provide an anti-abuse rule that is designed to prevent
taxpayers from manipulating the COFL and CSLL account apportionment
rules to achieve results inconsistent with the purpose of the OFL and
SLL rules.
Proposed Sec. 1.1502-9(c)(2)(i) provides that a group apportions
COFL and CSLL accounts to a departing member only after the group makes
the annual additions or reductions to the accounts to reflect current-
year foreign-source income or loss. To the extent this rule conflicts
with the ordering rules of Sec. 1.904(f)-1(e)(1), the proposed rule,
when finalized, is intended to supersede the existing regulations.
Proposed Effective Dates
These regulations are proposed to apply to consolidated return
years for which a return is due after the date final regulations are
published in the Federal Register. However, Sec. 1.1502-9(b)(5)
(intercompany transactions) is not applicable for intercompany
transactions that occur before January 28, 1999. Also, Sec. 1.1502-
9(c)(2) (apportionment of consolidated account to departing member) is
not applicable for members ceasing to be members of a group before
January 28, 1999.
Election To Defer Repeal of SRLY Limitation
Temporary regulations published elsewhere in this issue of the
Federal Register permit consolidated groups to elect to continue to
apply the SRLY limitation for overall foreign loss accounts for
consolidated years beginning before January 1, 1998, as announced in
Notice 98-40 (1998-35 I.R.B. 7). The text of those temporary
regulations also serves as the text of these proposed regulations. The
preamble to the temporary regulations explains the temporary
regulations.
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory impact analysis is not required. It is
hereby certified that these regulations will not have a significant
economic impact on a substantial number of small entities. This
certification is based on the fact that these regulations principally
affect corporations filing consolidated federal income tax returns that
have overall foreign losses or separate limitation losses. Available
data indicates that many consolidated return filers are large companies
(not small businesses). In addition, the data indicates that an
insubstantial number of consolidated return filers that are smaller
companies have overall foreign losses or separate limitation losses.
Therefore, a Regulatory Flexibility Analysis under the Regulatory
Flexibility Act (5 U.S.C. chapter 6) is not required. Pursuant to
section 7805(f) of the Internal Revenue Code, this notice of proposed
rulemaking will be submitted to the Chief Counsel for Advocacy of the
Small Business Administration for comment on its impact on small
businesses.
Comments and Public Hearing
Before these proposed regulations are adopted as final regulations,
consideration will be given to any written comments that are submitted
timely to the IRS (a signed original and eight (8) copies). In
particular, the IRS and Treasury request comments on the clarity of the
proposed rules and how they may be made easier to understand. All
comments will be available for public inspection and copying.
A public hearing has been scheduled for February 17, 1999,
beginning at 10 a.m. in room 2615 of the Internal Revenue Building,
1111 Constitution Avenue, NW., Washington, DC. Due to building security
procedures, visitors must enter at the 10th Street entrance, located
between Constitution and Pennsylvania Avenues, NW. In addition, all
visitors must present photo identification to enter the building.
Because of access restrictions, visitors will not be admitted beyond
the immediate entrance area more than 15 minutes before the hearing
starts. For information about having your name placed on the building
access list to attend the hearing, see the FOR FURTHER INFORMATION
CONTACT section of this preamble.
The rules of 26 CFR 601.601(a)(3) apply to the hearing. Persons who
wish to present oral comments at the hearing must submit written
comments and an outline of the topics to be discussed and the time to
be devoted to each topic (signed original and eight (8) copies) by
January 27, 1999. A period of 10 minutes will be allotted to each
person for making comments. An agenda showing the scheduling of the
speakers will be prepared after the deadline for receiving outlines has
passed. Copies of the agenda will be available free of charge at the
hearing.
Drafting Information
The principal authors of these regulations are Seth B. Goldstein
and Trina Dang, of the Office of the Associate Chief Counsel
(International), IRS. However, other personnel from the IRS and
Treasury Department participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Proposed Amendments to the Regulations
Accordingly, 26 CFR Part 1 is proposed to be amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 is amended by adding
entries in numerical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.1502-9 also issued under 26 U.S.C. 1502. * * *
Section 1.1502-9A also issued under 26 U.S.C. 1502. * * *
Par. 2. Section 1.1502-3, as proposed to be amended at 63 FR 12717,
March 16, 1998, is further amended by removing the last sentence of
paragraph (c)(4) and adding two sentences in its place to read as
follows:
Sec. 1.1502-3 Consolidated investment credit.
* * * * *
(c) * * *
(4) * * * [The last two sentences of proposed paragraph (c)(4) is
the same as the last two sentences of Sec. 1.1502-3T(c)(4) published
elsewhere in this issue of the Federal Register.]
* * * * *
Par. 3. Immediately following Sec. 1.1504-4 an undesignated center
heading is added to read as follows:
Regulations Applicable for Tax Years for Which a Return Is Due on
or Before the Date Final Regulations Are Published in The Federal
Register
Sec. 1.1502-9 [Redesignated as Sec. 1.1502-9A]
Par. 4. Section 1.1502-9 is redesignated as Sec. 1.1502-9A and
added under the new undesignated center heading.
Par. 5. Newly designated Sec. 1.1502-9A is amended by:
1. Revising the section heading.
2. Redesignating the heading and text of paragraph (a) as the
heading and text of paragraph (a)(2).
3. Adding a new heading to paragraph (a), and new paragraphs
(a)(1), (b)(1)(v) and (b)(1)(vi).
The revisions and additions read as follows:
Sec. 1.1502-9A Application of overall foreign loss recapture rules to
corporations filing consolidated returns due on or before the date
final regulations are published in the Federal Register.
(a) Scope--(1) Effective date. This section applies only to
consolidated return years for which the due date of
[[Page 71613]]
the income tax return (without extensions) is on or before the date
final regulations are published in the Federal Register.
(2) In general. * * *
(b) * * *
(1) * * *
(v) [The text of this proposed paragraph (b)(1)(v) is the same as
the text of Sec. 1.1502-9T(b)(1)(v) published elsewhere in this issue
of the Federal Register.]
(vi) [The text of this proposed paragraph (b)(1)(vi) is the same as
the text of Sec. 1.1502-9T(b)(1)(vi) published elsewhere in this issue
of the Federal Register.]
* * * * *
Par. 6. New Sec. 1.1502-9 is added to read as follows:
Sec. 1.1502-9 Consolidated overall foreign losses and separate
limitation losses.
(a) In general. This section provides rules for applying section
904(f) (including its definitions and nomenclature) to a group and its
members. Generally, section 904(f) concerns rules relating to overall
foreign losses (OFLs) and separate limitation losses (SLLs) and the
consequences of such losses. As provided in section 904(f)(5), losses
are computed separately in each category of income described in section
904(d)(1) (basket). Paragraph (b) of this section defines terms and
provides computational and accounting rules, including rules regarding
recapture. Paragraph (c) of this section provides rules that apply to
OFLs and SLLs when a member becomes or ceases to be a member of a
group. Paragraph (d) of this section provides a predecessor and
successor rule. Paragraph (e) of this section provides effective dates.
(b) Consolidated application of section 904(f). A group applies
section 904(f) for a consolidated return year in accordance with that
section, subject to the following rules:
(1) Computation of CSLI or CSLL and consolidated U.S. source income
or loss. The group computes its consolidated separate limitation income
(CSLI) or consolidated separate limitation loss (CSLL) for each basket
under the principles of Sec. 1.1502-11 by aggregating each member's
foreign-source taxable income or loss in such basket computed under the
principles of Sec. 1.1502-12, and taking into account the foreign
portion of the consolidated items described in Sec. 1.1502-11(a)(2)
through (8) for such basket. The group computes its consolidated U.S.-
source taxable income or loss under similar principles.
(2) Netting CSLLs, CSLIs, and consolidated U.S. source taxable
income or loss. The group applies section 904(f)(5) to determine the
extent to which a CSLL for a basket reduces CSLI for another basket or
consolidated U.S.-source taxable income.
(3) CSLL and COFL accounts. To the extent provided in section
904(f), the amount by which a CSLL for a basket (the loss basket)
reduces CSLI for another basket (the income basket) shall result in the
creation of (or addition to) a CSLL account for the loss basket with
respect to the income basket. Likewise, the amount by which a CSLL for
a loss basket reduces consolidated U.S.-source income will create (or
add to) a consolidated overall foreign loss account (a COFL account).
(4) Recapture of COFL and CSLL accounts. In the case of a COFL
account for a loss basket, section 904(f)(1) and (3) recharacterizes
some or all of the foreign-source income in the loss basket as U.S.-
source income. In the case of a CSLL account for a loss basket with
respect to an income basket, section 904(f)(5)(C) and (F)
recharacterizes some or all of the foreign-source income in the loss
basket as foreign-source income in the income basket. The COFL account
or CSLL account is reduced to the extent amounts are recharacterized
with respect to such account.
(5) Intercompany transactions--(i) Nonapplication of section 904(f)
disposition rules. Neither section 904(f)(3) (in the case of a COFL
account) nor (5)(F) (in the case of a CSLL account) applies at the time
of a disposition that is an intercompany transaction to which
Sec. 1.1502-13 applies. Instead, section 904(f)(3) and (5)(F) applies
only at such time and only to the extent that the group is required
under Sec. 1.1502-13 (without regard to section 904(f)(3) and (5)(F))
to take into account any intercompany items resulting from the
disposition, based on the COFL or CSLL account existing at the end of
the consolidated return year during which the group takes the
intercompany items into account.
(ii) Example. Paragraph (b)(5)(i) of this section is illustrated by
the following examples. The identity of the parties and the basic
assumptions set forth in Sec. 1.1502-13(c)(7)(i) apply to the examples.
Except as otherwise stated, assume further that the consolidated group
recognizes no foreign-source income other than as a result of the
transactions described. The examples are as follows:
Example 1. (i) On June 10, Year 1, S transfers nondepreciable
property with a basis of $100 and a fair market value of $250 to B
in a transaction to which section 351 applies. The property was
predominantly used without the United States in a trade or business,
within the meaning of section 904(f)(3). B continues to use the
property without the United States. The group has a COFL account in
the relevant loss basket of $120 as of December 31, Year 1.
(ii) Because the contribution from S to B is an intercompany
transaction, section 904(f)(3) does not apply to result in any gain
recognition in Year 1. See paragraph (b)(5)(i) of this section.
(iii) On January 10, Year 4, B ceases to be a member of the
group. Because S did not recognize gain in Year 1 under section 351,
no gain is taken into account in Year 4 under Sec. 1.1502-13(d).
Thus, no portion of the group's COFL account is recaptured in Year
4. For rules requiring apportionment of a portion of the COFL
account to B, see paragraph (c)(2) of this section.
Example 2. (i) The facts are the same as in paragraph (i) of
Example 1. On January 10, Year 4, B sells the property to X for
$300. As of December 31, Year 4, the group's COFL account is $40.
(The COFL account was reduced between Year 1 and Year 4 due to
unrelated foreign-source income taken into account by the group.)
(ii) B takes into account gain of $200 in Year 4. The $40 COFL
account in Year 4 recharacterizes $40 of the gain as U.S. source.
See section 904(f)(3).
Example 3. (i) On June 10, Year 1, S sells nondepreciable
property with a basis of $100 and a fair market value of $250 to B
for $250 cash. The property was predominantly used without the
United States in a trade or business, within the meaning of section
904(f)(3). The group has a COFL account in the relevant loss basket
of $120 as of December 31, Year 1. B predominately uses the property
in a trade or business without the United States.
(ii) Because the sale is an intercompany transaction, section
904(f)(3) does not require the group to take into account any gain
in Year 1. Thus, under paragraph (b)(5)(i) of this section, the COFL
account is not reduced in Year 1.
(iii) On January 10, Year 4, B sells the property to X for $300.
As of December 31, Year 4, the group's COFL account is $60. (The
COFL account was reduced between Year 1 and Year 4 due to unrelated
foreign-source income taken into account by the group.)
(iv) In Year 4, S's $150 intercompany gain and B's $50
corresponding gain are taken into account to produce the same effect
on consolidated taxable income as if S and B were divisions of a
single corporation. See Sec. 1.1502-13(c). All of B's $50
corresponding gain is recharacterized under section 904(f)(3). If S
and B were divisions of a single corporation and the intercompany
sale were a transfer between the divisions, B would succeed to S's
$100 basis in the property and would have $200 of gain ($60 of which
would be recharacterized under section 904(f)(3)), instead of a $50
gain. Consequently, S's $150 intercompany gain and B's $50
corresponding gain are taken into account, and $10 of S's gain is
recharacterized under section 904(f)(3) as U.S. source to reflect
the $10 difference between B's $50 recharacterized gain and the $60
recomputed gain that would have been recharacterized.
[[Page 71614]]
(c) Becoming or ceasing to be a member of a group--(1) Adding
separate accounts on becoming a member. At the time that a corporation
becomes a member of a group (a new member), the group adds to the
balance of its COFL or CSLL account the balance of the new member's
corresponding OFL account or SLL account. A new member's OFL account
corresponds to a COFL account if the account is for the same loss
basket. A new member's SLL account corresponds to a CSLL account if the
account is for the same loss basket and with respect to the same income
basket. If the group does not have a COFL or CSLL account corresponding
to the new member's account, it creates a COFL or CSLL account with a
balance equal to the balance of the member's account.
(2) Apportionment of consolidated account to departing member--
(i) In general. A group apportions to a member that ceases to be a
member (a departing member) a portion of each COFL and CSLL account
as of the end of the year during which the member ceases to be a
member and after the group makes the additions or reductions to such
account required under paragraphs (b)(3), (b)(4) and (c)(1) of this
section (other than an addition under paragraph (c)(1) of this
section attributable to a member becoming a member after the
departing member ceases to be a member). The group computes such
portion under paragraph (c)(2)(ii) of this section, as limited by
paragraph (c)(2)(iii) of this section. The departing member carries
such portion to its first separate return year after it ceases to be
a member. Also, the group reduces each account by such portion and
carries such reduced amount to its first consolidated return year
beginning after the year in which the member ceases to be a member.
If two or more members cease to be members in the same year, the
group computes the portion allocable to each such member (and
reduces its accounts by such portion) in the order that the members
cease to be members.
(ii) Departing member's portion of group's account. A departing
member's portion of a group's COFL or CSLL account for a loss basket is
computed based upon the member's share of the group's assets that
generate income subject to recapture at the time that the member ceases
to be a member. Under the characterization principles of Secs. 1.861-
9T(g)(3) and 1.861-12T, the group identifies the assets of the
departing member and the remaining members that generate foreign-source
income (foreign assets) in each basket. The assets are characterized
based upon the income that the assets are reasonably expected to
generate after the member ceases to be a member. The member's portion
of a group's COFL or CSLL account for a loss basket is the group's COFL
or CSLL account, respectively, multiplied by a fraction, the numerator
of which is the value of the member's foreign assets for the loss
basket and the denominator of which is the value of the foreign assets
of the group (including the departing member) for the loss basket. The
value of the foreign assets is determined under the asset valuation
rules of Sec. 1.861-9T(g)(1) and (2) using either tax book value or
fair market value under the method chosen by the group for purposes of
interest apportionment as provided in Sec. 1.861-9T(g)(1)(ii). For
purposes of this paragraph (c)(2)(ii), Sec. 1.861-9T(g)(2)(iv) (assets
in intercompany transactions) shall apply, but Sec. 1.861-9T(g)(2)(iii)
(adjustments for directly allocated interest) shall not apply. If the
group uses the tax book value method, the member's portions of COFL and
CSLL accounts are limited by paragraph (c)(2)(iii) of this section. The
assets should be valued at the time the member ceases to be a member,
but values on other dates may be used unless this creates substantial
distortions. For example, if a member ceases to be a member in the
middle of the group's consolidated return year, an average of the
values of assets at the beginning and end of the year (as provided in
Sec. 1.861-9T(g)(2)) may be used or, if a member ceases to be a member
in the early part of the group's consolidated return year, values at
the beginning of the year may be used, unless this creates substantial
distortions.
(iii) Limitation on member's portion for groups using tax book
value method. If a group uses the tax book value method of valuing
assets for purposes of paragraph (c)(2)(ii) of this section and the
aggregate of a member's portions of COFL and CSLL accounts for a loss
basket (with respect to one or more income baskets) determined under
paragraph (c)(2)(ii) of this section exceeds 150 percent of the actual
fair market value of the member's foreign assets in the loss basket,
the member's portion of the COFL or CSLL accounts for the loss basket
shall be reduced (proportionately, in the case of multiple accounts) by
such excess. This rule does not apply if the departing member and all
other members that cease to be members as part of the same transaction
own all (or substantially all) the foreign assets in the loss basket.
(iv) Determination of values of foreign assets binding on departing
member. The group's determination of the value of the member's and the
group's foreign assets for a loss basket is binding on the member,
unless the District Director concludes that the determination is not
appropriate. The common parent of the group must attach a statement to
the return for the taxable year that the departing member ceases to be
a member of the group that sets forth the name and taxpayer
identification number of the departing member, the amount of each COFL
or CSLL for each loss basket that is apportioned to the departing
member under this paragraph (c)(2), the method used to determine the
value of the member's and the group's foreign assets in each such loss
basket, and the value of the member's and the group's foreign assets in
each such loss basket. The common parent must also furnish a copy of
the statement to the departing member.
(v) Anti-abuse rule. If a corporation becomes a member and ceases
to be a member, and a principal purpose of the corporation becoming and
ceasing to be a member is to transfer the corporation's OFL account or
SLL account to the group or to transfer the group's COFL or CSLL
account to the corporation, appropriate adjustments will be made to
eliminate the benefit of such a transfer of accounts. Similarly, if any
member acquires assets or disposes of assets (including a transfer of
assets between members of the group and the departing member) with a
principal purpose of affecting the apportionment of accounts under
paragraph (c)(2)(i) of this section, appropriate adjustments will be
made to eliminate the benefit of such acquisition or disposition.
(vi) Examples. The following examples illustrate this paragraph
(c):
Example 1. (i) On November 6, Year 1, S, a member of the P
group, a consolidated group with a calendar consolidated return
year, ceases to be a member of the group. On December 31, Year 1,
the P group has a $40 COFL account for the general limitation
basket, a $20 CSLL account for the general limitation basket (i.e.,
the loss basket) with respect to the passive basket (i.e., the
income basket), and a $10 CSLL account for the shipping income
basket (i.e., the loss basket) with respect to the passive basket,
(i.e., the income basket). No member of the group has foreign-source
income or loss in Year 1. The group apportions its interest expense
according to the tax book value method.
(ii) On November 6, Year 1, the group identifies S's assets and
its own assets (including S's assets) expected to produce foreign
general limitation income. Use of end-of-the-year values will not
create substantial distortions in determining the relative values of
S's and the group's relevant assets on November 6, Year 1. The group
determines that S's relevant assets have a tax book value of $2,000
and a fair market value of $2,200. Also, the group's relevant assets
(including S's assets) have a tax book value of $8,000. On November
6, Year 1, S has no assets expected to produce foreign shipping
income.
(iii) Under paragraph (c)(2)(ii) of this section, S takes a $10
COFL account for the general limitation basket ($40 x $2000/$8000)
[[Page 71615]]
and a $5 CSLL account for the general limitation basket with respect
to the passive basket ($20 x $2000/$8000). S does not take any
portion of the shipping income basket CSLL account. The limitation
described in paragraph (c)(2)(iii) of this section does not apply
because the aggregate of the COFL and CSLL accounts for the general
limitation basket that are apportioned to S ($15) is less than 150
percent of the actual fair market value of S's general limitation
foreign assets ($2,200 x 150%).
Example 2. (i) Assume the same facts as in Example 1, except
that the fair market value of S's general limitation foreign assets
is $4 as of November 6, Year 1.
(ii) Under paragraph (c)(2)(iii) of this section, S's COFL and
CSLL accounts for the general limitation basket must be reduced by
$9, which is the excess of $15 (the aggregate amount of the accounts
apportioned under paragraph (c)(2)(ii) of this section) over $6 (150
percent of the $4 actual fair market value of S's general limitation
foreign assets). S thus takes a $4 COFL account for the general
limitation basket ($10--($9 x $10/$15)) and a $2 CSLL account for
the general limitation basket with respect to the passive basket
($5--($9 x $5/$15)).
(d) Predecessor and successor. A reference to a member includes, as
the context may require, a reference to a predecessor or successor of
the member. See Sec. 1.1502-1(f).
(e) Effective dates. This section applies to consolidated return
years for which the due date of the income tax return (without
extensions) is after the date final regulations are published in the
Federal Register. However, paragraph (b)(5) of this section
(intercompany transactions) is not applicable for intercompany
transactions that occur before January 28, 1999. A group applies the
principles of Sec. 1.1502-9A(e) to a disposition which is an
intercompany transaction to which Sec. 1.1502-13 applies and that
occurs before January 28, 1999. Also, paragraph (c)(2) of this section
(apportionment of consolidated account to departing member) is not
applicable for members ceasing to be members of a group before January
28, 1999. A group applies the principles of Sec. 1.1502-9A (rather than
paragraph (c)(2) of this section) to determine the amount of a
consolidated account that is apportioned to a member that ceases to be
a member of the group before January 28, 1999 (and reduces its
consolidated account by such apportioned amount) before applying
paragraph (c)(2) of this section to members that cease to be members on
or after January 28, 1999.
Robert E. Wenzel,
Deputy Commissioner of Internal Revenue.
[FR Doc. 98-33703 Filed 12-28-98; 8:45 am]
BILLING CODE 4830-01-P
