[Federal Register Volume 63, Number 249 (Tuesday, December 29, 1998)]
[Rules and Regulations]
[Pages 71591-71596]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-34210]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Parts 1 and 602
[TD 8802]
RIN 1545-AN21
Certain Asset Transfers to a Tax-Exempt Entity
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Final regulations.
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SUMMARY: This document contains final regulations that implement
provisions of the Tax Reform Act of 1986 and the Technical and
Miscellaneous Revenue Act of 1988. The final regulations generally
affect a taxable corporation that transfers all or substantially all of
its assets to a tax-exempt entity or converts from a taxable
corporation to a tax-exempt entity in a transaction other than a
liquidation, and generally require the taxable corporation to recognize
gain or loss as if it had sold the assets transferred at fair market
value.
DATES: Effective Date: These regulations are effective January 28,
1999.
Applicability Date: For dates of applicability of these
regulations, see Sec. 1.337(d)-4(e).
FOR FURTHER INFORMATION CONTACT: Stephen R. Cleary, (202) 622-7530 (not
a toll-free number).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information in these final regulations has been
reviewed and, pending receipt and evaluation of public comments,
approved by the Office of Management and Budget (OMB) under 44 U.S.C.
3507 and assigned control number 1545-1633.
The collection of information in this regulation is described in
Sec. 1.337(d)-4(b)(1)(i). The information is a written representation
made by a tax-exempt entity estimating the percentage it will use
assets formerly held by a taxable corporation in an activity the income
from which is subject to tax under section 511(a), as opposed to other
activities. The information may be used by the taxable corporation in
computing the amount of gain or loss that is recognized under the
regulations. The information may also be used by the IRS in determining
whether the proper amount of tax is due on the transaction. The
collection of information is not mandatory but will enable the taxable
corporation to support its reporting of the tax consequences of the
transaction. The likely respondents are tax-exempt entities subject to
the unrelated business income tax under section 511(a) (including most
organizations that are exempt from tax under section 501, state
colleges and universities, and certain charitable trusts).
Comments concerning 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, Attention: IRS Reports Clearance Officer, OP:FS:FP,
Washington, DC 20224. Any such comments should be submitted not later
than March 1, 1999.
Comments are specifically requested concerning:
(a) Whether the collection of information is necessary for the
proper performance of the functions of the Internal Revenue Service,
including whether the information will have practical utility;
(b) The accuracy of the estimated burden associated with the
collection of information (see below);
(c) How the quality, utility, and clarity of the information
requested may be enhanced;
(d) How the burden of complying with the collection of information
may be minimized, including through the application of automated
collection techniques or other forms of information technology; and
(e) Estimates of capital or start-up costs and costs of operation,
maintenance, and purchase of services to provide information.
Estimated total annual reporting burden: 125 hours. The annual
burden per respondent varies from 1 hour to 10 hours, depending on
individual circumstances, with an estimated average of 5 hours.
Estimated number of respondents: 25.
Estimated frequency of responses: Once.
An agency may not conduct or sponsor, and a person is not required
to respond to, a collection of information unless the collection of
information displays a valid control number assigned by OMB.
Books or records relating to a collection of information must be
retained as long as their contents may become material in the
administration of any internal revenue law. Generally, tax returns and
return information are confidential, as required by 26 U.S.C. 6103.
Background
On January 15, 1997, proposed regulations Sec. 1.337(d)-4 were
published in the Federal Register (62 FR 2064, [REG-209121-89, 1997-1
C.B. 719]). The regulations were proposed to amend 26 CFR part 1 and
were intended to carry out the purposes of the repeal of the General
Utilities doctrine (``General Utilities repeal'') as enacted in the Tax
Reform Act of 1986 (the ``1986 Act'').
The 1986 Act amended sections 336 and 337, generally requiring
corporations to recognize gain or loss when appreciated or depreciated
property is distributed in complete liquidation or is sold in
connection with a complete liquidation. Section 337(d) directs the
Secretary to prescribe regulations as may be necessary to carry out the
purposes of General Utilities repeal, including rules to ``ensure that
these purposes shall not be circumvented * * * through the use of a * *
* tax-exempt entity.''
The legislative history concerning a 1988 amendment to section
337(d) explains:
The bill also clarifies in connection with the built-in gain
provisions of the Act that the Treasury Department shall prescribe
such regulations as may be necessary or appropriate to carry out
those provisions * * * . For example, this includes rules to
[[Page 71592]]
require the recognition of gain if appreciated property of a C
corporation is transferred to a * * * tax-exempt entity [footnote
32] in a carryover basis transaction that would otherwise eliminate
corporate level tax on the built-in appreciation.
[footnote 32] The Act generally requires recognition of gain if
a C corporation transfers appreciated assets to a tax exempt entity
in a section 332 liquidation. See Code section 337(b)(2).
S. Rep. No. 445, 100th Cong., 2d Sess. 66 (1988).
Explanation of Provision
A. The Proposed Rule
(1) A taxable corporation that transfers all or substantially all
of its assets to one or more tax-exempt entities is required to
recognize gain or loss as if the assets transferred were sold at their
fair market values (Sec. 1.337(d)-4(a)(1), Asset Sale Rule);
(2) A taxable corporation that changes its status to a tax-exempt
entity generally is treated as having transferred all of its assets to
a tax-exempt entity immediately before the change in status becomes
effective in a transaction governed by the Asset Sale Rule
(Sec. 1.337(d)-4(a)(2), Change in Status Rule);
(3) The Change in Status Rule does not apply (subject to
application of the anti-abuse rule) if the corporation formerly was
tax-exempt and the change in status is within three years of the later
of (a) the corporation first filing a return as a taxable corporation,
or (b) a final determination that the corporation had become a taxable
corporation (Sec. 1.337(d)-4(a)(3), 3-Year Rule);
(4) The Asset Sale Rule does not apply if the transferred assets
are used by the tax-exempt entity in an activity the income from which
is subject to the unrelated business tax under section 511(a);
notwithstanding any other provision of law, gain on such assets will
later be included in unrelated business taxable income when the tax-
exempt entity disposes of the assets or ceases to use the assets in an
activity the income from which is subject to tax under section 511(a)
(Sec. 1.337(d)-4(b)(1), UBTI Rule);
(5) The regulations apply to transfers of assets occurring after
January 28, 1999, unless the transfer is pursuant to a written
agreement which is (subject to customary conditions) binding on or
before that date (Sec. 1.337(d)-4(e), Effective Date Rule).
The IRS and Treasury Department received approximately 32 written
comments on the proposed regulations. In addition, the IRS held a
public hearing on the proposed regulations on May 6, 1997. After
consideration of all the written and oral comments, the IRS and
Treasury Department are adopting the proposed regulations as revised by
this Treasury Decision. The comments and changes to the regulations
made in response to the comments are summarized below.
B. Comments and Changes in Response to Comments
1. Asset Sale Rule
Some commentators questioned whether section 337(d) authorizes
taxation of asset transfers other than liquidations. Section 337(d)
authorizes regulations to prevent circumvention of General Utilities
repeal through the ``use of'' any provision of law or regulations
(specifically including the corporate reorganization rules in Part III
of Subchapter C). The statutory rules in sections 336 and 337(b)(2),
enacted as part of General Utilities repeal, provide for corporate-
level gain or loss recognition when a taxable corporation liquidates
into a controlling tax-exempt entity. The regulations published in this
Treasury Decision are intended to reach transactions that are
economically similar to those liquidations but take different forms,
such as a taxable corporation's transfer of substantially all of its
assets to a tax-exempt entity or a taxable corporation's change in
status resulting in its becoming a tax-exempt entity. The IRS and
Treasury Department believe that section 337(d) provides clear
authority for these regulations.
Some commentators questioned whether section 337(d) authorizes
regulations that would tax transfers of assets without consideration,
noting that making a gift generally does not cause the recognition of
gain to the donor. Other commentators claimed that the proposed
regulations, to the extent they apply to transfers of assets to
charitable organizations, conflict with the policy of the charitable
contribution deduction under section 170. The regulations do not affect
the tax treatment of a corporation's gift of a portion of its assets to
charity, nor do they affect the shareholders' tax treatment when
transferring all or any part of the corporation's assets to charity by
transferring all or any part of the corporation's stock to charity. The
regulations apply only to transfers of all or substantially all of the
assets of a taxable corporation to a tax-exempt entity or a taxable
corporation's conversion to a tax-exempt entity. If shareholders donate
all of a corporation's stock to a charity and the charity then
liquidates the corporation, section 337(b)(2) taxes the liquidating
corporation's gain. The final regulations, which remain unchanged from
the proposed regulations in this respect, tax a taxable corporation's
gain in other transactions that have the same economic effect.
One commentator proposed that the final regulations allow deferral
of gain recognition on any asset transferred to a tax-exempt entity
until the entity disposes of the asset. The commentator suggests a rule
similar to that of section 1374, which provides generally that a C
corporation that converts to being an S corporation is subject to tax
if it disposes of assets held at the time of conversion during the ten-
year period after the conversion. Under this rule, the tax-exempt
entity would not be taxed on the built-in gain in assets that it
retains. For the reasons stated above, the IRS and Treasury Department
have concluded that the regulations generally should follow the rule in
section 337(b)(2) rather than the rule contained in section 1374 to
best accomplish the goal set forth in the statute and legislative
history.
One commentator suggested that the Asset Sale Rule should not apply
to a taxable corporation transferring assets to a tax-exempt entity in
a like-kind exchange described in section 1031 or an involuntary
conversion described in section 1033. In transactions described in
these sections, the taxable corporation acquires replacement property
that has a basis determined by reference to the basis of the property
replaced. Because the built-in appreciation in the transferred asset is
preserved in the replacement asset and remains in the hands of a
taxable corporation, General Utilities repeal is not circumvented in
these transactions. Accordingly, the final regulations exclude
transactions from the Asset Sale Rule to the extent the transactions
qualify for nonrecognition of gain or loss under section 1031 or 1033.
Some commentators proposed removing section 528 homeowners
associations from the list of tax-exempt entities subject to the
regulations because dispositions of assets by a homeowners association
are subject to tax. Under section 528, homeowners associations are
subject to tax on all of their income except for exempt function
income, which is defined as fees, dues, or assessments from homeowners.
Gains from the sale of a homeowners association's property are taxable;
therefore, General Utilities repeal is not circumvented by transfers to
homeowners associations. In addition, the properties that become the
subject of section 528 homeowners associations generally are developed
as business
[[Page 71593]]
ventures, and the developer has substantial incentive to realize the
increase in value of its assets in connection with their transfer to
the association, thus providing additional protection with respect to
General Utilities repeal. Also, a homeowners association may alternate
between taxable and tax-exempt status because its exemption is based on
a year-by-year election under section 528(c)(1)(E). In a given year, a
homeowners association may prefer taxable status to tax-exempt status
under section 528 because a section 528 organization is taxed at a 30
percent flat rate on income other than membership fees, dues, or
assessments, while a taxable homeowners association is subject to tax
on all income but at the progressive rates of section 11 (15 to 35
percent). The tax on non-exempt income under section 528 may exceed the
tax the association would pay as a taxable corporation. Congress
anticipated that these entities may alternate between taxable and tax-
exempt status and that the assets of these entities will remain subject
to tax on transfer. Imposing a tax on appreciated property each time
such an entity converts its status could inhibit this flexibility. For
this reason, and because General Utilities repeal will not be
compromised, the IRS and Treasury Department believe that an
organization's election to be treated under section 528 for a tax year
should not trigger gain recognition. Accordingly, the final regulations
do not treat section 528 homeowners associations as tax-exempt entities
for purposes of section 337(d). For similar reasons, the final
regulations do not define political organizations described in section
527 as tax-exempt entities for purposes of section 337(d).
Some commentators suggested that social clubs that are tax-exempt
as organizations described in section 501(c)(7) should be removed from
the list of tax-exempt entities for purposes of section 337(d).
Commentators also suggested that tax-exempt social clubs be allowed to
defer gain on transactions subject to the regulations, because social
clubs may be subject to tax on gains from asset sales. Section
512(a)(3)(A) generally taxes the income of a section 501(c)(7) social
club except for the social club's ``exempt function income,'' as
defined in section 512(a)(3)(B). Section 512(a)(3)(A) also applies to
tax-exempt organizations described in section 501(c)(9), (17), or (20).
The final regulations, however, do not provide relief from the general
rules of the regulations for section 501(c)(7) organizations. Unlike
section 528 homeowners associations, section 501(c)(7) social clubs are
permitted to avoid gain recognition on certain asset sales. For
example, if the club replaces the property sold with other property
used directly in the performance of its tax-exempt function, no tax is
owed on any gain recognized. Because of these exceptions, the IRS and
Treasury Department believe that deferring tax on transfers of assets
to section 501(c)(7) organizations would not be consistent with General
Utilities repeal. Accordingly, the final regulations follow the
proposed regulations and apply to transfers of assets to section
501(c)(7) organizations.
2. Change in Status Rule
A significant number of commentators contended that the Change in
Status Rule could have a major adverse effect on mutual or cooperative
electric companies that are tax-exempt as organizations described in
section 501(c)(12). That section provides tax exemption for benevolent
life insurance associations of a purely local character, mutual ditch
or irrigation companies, mutual or cooperative telephone companies, or
like organizations (including mutual or cooperative electric
companies), but only if more than 85 percent of their income is
collected from members for the sole purpose of meeting losses and
expenses. The 85 percent test is applied annually, so that an electric
cooperative could be taxable one year and tax-exempt the next year. The
commentators requested that electric cooperatives be given relief from
the Change in Status Rule because business exigencies may cause these
cooperatives to fail the 85 percent test. They also noted that the
relief provided in the proposed regulations for organizations
temporarily losing their exempt status was insufficient because more
than 3 years may elapse before the organization once again meets the 85
percent test.
In addition to meeting the 85 percent test, section 501(c)(12)
organizations must operate according to cooperative principles to be
eligible for exemption. See Rev. Rul. 72-36, 1972-1 C.B. 151; Buckeye
Countrymark, Inc. v. Commissioner, 103 T.C. 547, 554-555 (1994), acq.
on other issues, 1997-1 C.B. 1; Puget Sound Plywood, Inc. v.
Commissioner, 44 T.C. 305, 308 (1965), acq. on other issues, 1966-2
C.B. 6. An organization may operate according to cooperative principles
yet fail the 85 percent test. Congress anticipated that section
501(c)(12) mutual or cooperative organizations could alternate between
taxable and tax-exempt status due to the operation of the 85 percent
income requirement. The IRS and Treasury Department do not believe it
is appropriate to treat these entities as having disposed of all their
assets when they regain tax-exempt status where the sole reason for
their becoming taxable was the failure to meet the 85 percent test.
Therefore, the final regulations provide that the Change in Status Rule
does not apply when an organization previously tax-exempt as an
organization described in section 501(c)(12) loses exemption solely
because it fails the 85 percent test and later regains tax-exempt
status, provided that in each intervening taxable year it meets all the
requirements for exemption under section 501(c)(12) except for the 85
percent test.
One commentator suggested that because social clubs alternate
between taxable and tax-exempt status they should be given relief
similar to that requested by section 501(c)(12) organizations. Social
clubs can lose their tax exemption if they generate excessive nonmember
income in a particular year. See S. Rep. No. 1318, 94th Cong., 2d Sess.
4 (1976), 1976-2 C.B. 599. After considering this comment and the
Service's experience with these organizations, we have concluded that
the 3-Year Rule will provide adequate relief for social clubs from
inappropriate application of the Change in Status Rule.
A number of commentators urged exempting newly formed social clubs
from the application of the regulations if they become tax-exempt
within seven years of their formation, rather than within the three-
year period provided for other tax-exempt entities. Those commentators
explained that some social clubs are organized when a real estate
developer acquires land to be used for a housing development and a
social club for the homeowners. The assets of the future social club
are held by a corporation, but it cannot qualify as a tax-exempt
section 501(c)(7) organization until several years later, after the
stock or membership interests in the corporation have been transferred
to the homeowners. Commentators familiar with development practices
advised that it often takes up to seven years to transfer the club to
the members' control. Furthermore, because the developer is forming the
club as a business venture, the developer will work to realize the
increase in the value of the club's assets as part of the transfer. For
these reasons, providing additional time for newly-formed clubs to
become tax-exempt does not conflict with General Utilities repeal.
Therefore, the final regulations incorporate the recommendation made in
the comments and provide that a social club will not
[[Page 71594]]
be subject to the Change in Status Rule if it converts to tax-exempt
status within seven taxable years after the year in which it was
formed.
Two commentators suggested that the Change in Status Rule could
adversely affect a taxable property and casualty insurance company that
becomes tax-exempt as an organization described in section 501(c)(15)
when it encounters financial difficulties leading to conservation or
liquidation proceedings pursuant to authority granted by a state
regulatory agency. A taxable property or casualty insurance company
whose net written premiums or direct written premiums are $350,000 or
less for the taxable year is eligible to be exempt from tax under
section 501(c)(15). The final regulations provide an exception from the
Change in Status Rule if in a taxable year an insurance company becomes
an organization described in section 501(c)(15), and during that year
and all subsequent years in which it is exempt under that section, the
insurance company is the subject of a court supervised rehabilitation,
conservatorship, liquidation, or similar state proceeding. In such
cases, the reduction in premium income to $350,000 or less is likely to
be involuntary and a direct result of the state proceeding. However,
the final regulations continue to apply the Change in Status Rule to
all other insurance companies qualifying for tax exemption under
section 501(c)(15).
3. UBTI Rule
Some commentators asked how the UBTI Rule would apply when assets
that are transferred to a tax-exempt entity are used partly in an
activity of the organization the income from which is subject to tax
under section 511(a) (``section 511(a) activity'') and partly in other
activities. The UBTI Rule in the proposed regulations defers gain
recognition with respect to those assets that will be used in a section
511(a) activity of the tax-exempt entity after the asset is transferred
to the tax-exempt entity or after the taxable corporation converts to
tax-exempt status. The final regulations provide that, if an asset will
be used partly or wholly in a section 511(a) activity of a tax-exempt
entity, the taxable corporation will recognize an amount of gain or
loss that bears the same ratio to the asset's built-in gain or loss as
100 percent reduced by the percentage of use in the section 511(a)
activity bears to 100 percent. The taxable corporation generally may
rely on a written representation from the tax-exempt entity as to the
anticipated percentage of use of the asset in a section 511(a) activity
during the first taxable year after the transfer or change in status.
If the percentage of an asset's use in the section 511(a) activity
later decreases from the estimate used in computing gain or loss when
the asset was transferred, the tax-exempt entity will recognize part of
the deferred gain or loss in an amount that is proportionate to the
decrease in use in the section 511(a) activity, and the gain or loss
recognized will be subject to tax under section 511(a). The tax-exempt
entity must use the same reasonable method of allocation for
determining the percentage it uses assets in the section 511(a)
activity for purposes of the UBTI Rule as it uses for other tax
purposes (e.g., depreciation deductions). The tax-exempt entity also
must use this same reasonable method of allocation for each taxable
year that it holds the assets.
One commentator asked that gain not be recognized when a tax-exempt
entity disposes of an asset used in a section 511(a) activity in a
transaction eligible for nonrecognition treatment under the Code. The
proposed regulations provide that gain is recognized on such
dispositions ``notwithstanding any other provision of law,''
corresponding with the rule in section 337(b)(2)(B)(ii), and overruling
the application of nonrecognition provisions such as section 512(b)(5).
In response to these comments, the final regulations allow continuing
deferral to the extent that the tax-exempt entity disposes of assets in
a transaction that qualifies for nonrecognition of gain or loss under
section 1031 or section 1033, but only to the extent that the
replacement asset is used in a section 511(a) activity. No exception is
made with respect to other nonrecognition provisions.
Special Analyses
It has been determined that this Treasury Decision is not a
significant regulatory action as defined in EO 12866. Therefore, a
regulatory assessment is not required. It also has been determined that
section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5)
does not apply to these regulations. It is hereby certified that the
collection of information in these regulations will not have a
significant economic impact on a substantial number of small entities.
This certification is based upon the Internal Revenue Service's
estimate that only 25 entities per year will be responding to the
collection of information, and that the total annual reporting burden
of this information collection for all responding entities will be only
125 hours. Therefore, a Regulatory Flexibility Analysis under the
Regulatory Flexibility Act (5 U.S.C. chapter 6) is not required.
Pursuant to section 7805(f), the notice of proposed rulemaking
preceding these regulations was submitted to the Chief Counsel for
Advocacy of the Small Business Administration for comment on its impact
on small business.
Drafting Information
The principal author of these regulations is Stephen R. Cleary of
the Office of Assistant Chief Counsel (Corporate), 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.
26 CFR Part 602
Reporting and recordkeeping requirements.
Adoption of Amendments to the Regulations
Accordingly, 26 CFR parts 1 and 602 are amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for 26 CFR Part 1 is amended by
adding an entry in numerical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.337(d)-4 also issued under 26 U.S.C. 337. * * *
Par. 2. Section 1.337(d)-4 is added to read as follows:
Sec. 1.337(d)-4 Taxable to tax-exempt.
(a) Gain or loss recognition--(1) General rule. Except as provided
in paragraph (b) of this section, if a taxable corporation transfers
all or substantially all of its assets to one or more tax-exempt
entities, the taxable corporation must recognize gain or loss
immediately before the transfer as if the assets transferred were sold
at their fair market values. But see section 267 and paragraph (d) of
this section concerning limitations on the recognition of loss.
(2) Change in corporation's tax status treated as asset transfer.
Except as provided in paragraphs (a)(3) and (b) of this section, a
taxable corporation's change in status to a tax-exempt entity will be
treated as if it transferred all of its assets to a tax-exempt entity
immediately before the change in status becomes effective in a
transaction to which paragraph (a)(1) of this section applies. For
example, if a state, a political subdivision thereof, or an entity any
portion of whose income is excluded from gross income under
[[Page 71595]]
section 115, acquires the stock of a taxable corporation and thereafter
any of the taxable corporation's income is excluded from gross income
under section 115, the taxable corporation will be treated as if it
transferred all of its assets to a tax-exempt entity immediately before
the stock acquisition.
(3) Exceptions for certain changes in status--(i) To whom
available. Paragraph (a)(2) of this section does not apply to the
following corporations--
(A) A corporation previously tax-exempt under section 501(a) which
regains its tax-exempt status under section 501(a) within three years
from the later of a final adverse adjudication on the corporation's tax
exempt status, or the filing by the corporation, or by the Secretary or
his delegate under section 6020(b), of a federal income tax return of
the type filed by a taxable corporation;
(B) A corporation previously tax-exempt under section 501(a) or
that applied for but did not receive recognition of exemption under
section 501(a) before January 15, 1997, if such corporation is tax-
exempt under section 501(a) within three years from January 28, 1999;
(C) A newly formed corporation that is tax-exempt under section
501(a) (other than an organization described in section 501(c)(7))
within three taxable years from the end of the taxable year in which it
was formed;
(D) A newly formed corporation that is tax-exempt under section
501(a) as an organization described in section 501(c)(7) within seven
taxable years from the end of the taxable year in which it was formed;
(E) A corporation previously tax-exempt under section 501(a) as an
organization described in section 501(c)(12), which, in a given taxable
year or years prior to again becoming tax-exempt, is a taxable
corporation solely because less than 85 percent of its income consists
of amounts collected from members for the sole purpose of meeting
losses and expenses; if, in a taxable year, such a corporation would be
a taxable corporation even if 85 percent or more of its income consists
of amounts collected from members for the sole purpose of meeting
losses and expenses (a non-85 percent violation), paragraph
(a)(3)(i)(A) of this section shall apply as if the corporation became a
taxable corporation in its first taxable year that a non-85 percent
violation occurred; or
(F) A corporation previously taxable that becomes tax-exempt under
section 501(a) as an organization described in section 501(c)(15) if
during each taxable year in which it is described in section 501(c)(15)
the organization is the subject of a court supervised rehabilitation,
conservatorship, liquidation, or similar state proceeding; if such a
corporation continues to be described in section 501(c)(15) in a
taxable year when it is no longer the subject of a court supervised
rehabilitation, conservatorship, liquidation, or similar state
proceeding, paragraph (a)(2) of this section shall apply as if the
corporation first became tax-exempt for such taxable year.
(ii) Application for recognition. An organization is deemed to have
or regain tax-exempt status within one of the periods described in
paragraph (a)(3)(i)(A), (B), (C), or (D) of this section if it files an
application for recognition of exemption with the Commissioner within
the applicable period and the application either results in a
determination by the Commissioner or a final adjudication that the
organization is tax-exempt under section 501(a) during any part of the
applicable period. The preceding sentence does not require the filing
of an application for recognition of exemption by any organization not
otherwise required, such as by Sec. 1.501(a)-1, Sec. 1.505(c)-1T, and
Sec. 1.508-1(a), to apply for recognition of exemption.
(iii) Anti-abuse rule. This paragraph (a)(3) does not apply to a
corporation that, with a principal purpose of avoiding the application
of paragraph (a)(1) or (a)(2) of this section, acquires all or
substantially all of the assets of another taxable corporation and then
changes its status to that of a tax-exempt entity.
(4) Related transactions. This section applies to any series of
related transactions having an effect similar to any of the
transactions to which this section applies.
(b) Exceptions. Paragraph (a) of this section does not apply to--
(1) Any assets transferred to a tax-exempt entity to the extent
that the assets are used in an activity the income from which is
subject to tax under section 511(a) (referred to hereinafter as a
``section 511(a) activity''). However, if assets used to any extent in
a section 511(a) activity are disposed of by the tax-exempt entity,
then, notwithstanding any other provision of law (except section 1031
or section 1033), any gain (not in excess of the amount not recognized
by reason of the preceding sentence) shall be included in the tax-
exempt entity's unrelated business taxable income. To the extent that
the tax-exempt entity ceases to use the assets in a section 511(a)
activity, the entity will be treated for purposes of this paragraph
(b)(1) as having disposed of the assets on the date of the cessation
for their fair market value. For purposes of paragraph (a)(1) of this
section and this paragraph (b)(1)--
(i) If during the first taxable year following the transfer of an
asset or the corporation's change to tax-exempt status the asset will
be used by the tax-exempt entity partly or wholly in a section 511(a)
activity, the taxable corporation will recognize an amount of gain or
loss that bears the same ratio to the asset's built-in gain or loss as
100 percent reduced by the percentage of use for such taxable year in
the section 511(a) activity bears to 100 percent. For purposes of
determining the gain or loss, if any, to be recognized, the taxable
corporation may rely on a written representation from the tax-exempt
entity estimating the percentage of the asset's anticipated use in a
section 511(a) activity for such taxable year, using a reasonable
method of allocation, unless the taxable corporation has reason to
believe that the tax-exempt entity's representation is not made in good
faith;
(ii) If for any taxable year the percentage of an asset's use in a
section 511(a) activity decreases from the estimate used in computing
gain or loss recognized under paragraph (b)(1)(i) of this section,
adjusted for any decreases taken into account under this paragraph
(b)(1)(ii) in prior taxable years, the tax-exempt entity shall
recognize an amount of gain or loss that bears the same ratio to the
asset's built-in gain or loss as the percentage point decrease in use
in the section 511(a) activity for the taxable year bears to 100
percent;
(iii) If property on which all or a portion of the gain or loss is
not recognized by reason of the first sentence of paragraph (b)(1) of
this section is disposed of in a transaction that qualifies for
nonrecognition treatment under section 1031 or section 1033, the tax-
exempt entity must treat the replacement property as remaining subject
to paragraph (b)(1) of this section to the extent that the exchanged or
involuntarily converted property was so subject;
(iv) The tax-exempt entity must use the same reasonable method of
allocation for determining the percentage that it uses the assets in a
section 511(a) activity as it uses for other tax purposes, such as
determining the amount of depreciation deductions. The tax-exempt
entity also must use this same reasonable method of allocation for each
taxable year that it holds the assets; and
(v) An asset's built-in gain or loss is the amount that would be
recognized
[[Page 71596]]
under paragraph (a)(1) of this section except for this paragraph
(b)(1);
(2) Any transfer of assets to the extent gain or loss otherwise is
recognized by the taxable corporation on the transfer. See, for
example, sections 336, 337(b)(2), 367, and 1001;
(3) Any transfer of assets to the extent the transaction qualifies
for nonrecognition treatment under section 1031 or section 1033; or
(4) Any forfeiture of a taxable corporation's assets in a criminal
or civil action to the United States, the government of a possession of
the United States, a state, the District of Columbia, the government of
a foreign country, or a political subdivision of any of the foregoing;
or any expropriation of a taxable corporation's assets by the
government of a foreign country.
(c) Definitions. For purposes of this section:
(1) Taxable corporation. A taxable corporation is any corporation
that is not a tax-exempt entity as defined in paragraph (c)(2) of this
section.
(2) Tax-exempt entity. A tax-exempt entity is--
(i) Any entity that is exempt from tax under section 501(a) or
section 529;
(ii) A charitable remainder annuity trust or charitable remainder
unitrust as defined in section 664(d);
(iii) The United States, the government of a possession of the
United States, a state, the District of Columbia, the government of a
foreign country, or a political subdivision of any of the foregoing;
(iv) An Indian Tribal Government as defined in section 7701(a)(40),
a subdivision of an Indian Tribal Government determined in accordance
with section 7871(d), or an agency or instrumentality of an Indian
Tribal Government or subdivision thereof;
(v) An Indian Tribal Corporation organized under section 17 of the
Indian Reorganization Act of 1934, 25 U.S.C. 477, or section 3 of the
Oklahoma Welfare Act, 25 U.S.C. 503;
(vi) An international organization as defined in section
7701(a)(18);
(vii) An entity any portion of whose income is excluded under
section 115; or
(viii) An entity that would not be taxable under the Internal
Revenue Code for reasons substantially similar to those applicable to
any entity listed in this paragraph (c)(2) unless otherwise explicitly
made exempt from the application of this section by statute or by
action of the Commissioner.
(3) Substantially all. The term substantially all has the same
meaning as under section 368(a)(1)(C).
(d) Loss limitation rule. For purposes of determining the amount of
gain or loss recognized by a taxable corporation on the transfer of its
assets to a tax-exempt entity under paragraph (a) of this section, if
assets are acquired by the taxable corporation in a transaction to
which section 351 applied or as a contribution to capital, or assets
are distributed from the taxable corporation to a shareholder or
another member of the taxable corporation's affiliated group, and in
either case such acquisition or distribution is made as part of a plan
a principal purpose of which is to recognize loss by the taxable
corporation on the transfer of such assets to the tax-exempt entity,
the losses recognized by the taxable corporation on such assets
transferred to the tax-exempt entity will be disallowed. For purposes
of the preceding sentence, the principles of section 336(d)(2) apply.
(e) Effective date. This section is applicable to transfers of
assets as described in paragraph (a) of this section occurring after
January 28, 1999, unless the transfer is pursuant to a written
agreement which is (subject to customary conditions) binding on or
before January 28, 1999.
PART 602--OMB CONTROL NUMBERS UNDER THE PAPERWORK REDUCTION ACT
Par. 3. The authority citation for part 602 continues to read as
follows:
Authority: 26 U.S.C. 7805.
Par. 4. In Sec. 602.101, paragraph (c) is amended by adding an
entry in numerical order to the table to read as follows:
Sec. 602.101 OMB Control numbers.
* * * * *
(c) * * *
------------------------------------------------------------------------
Current OMB
CFR part or section where identified and described control No.
------------------------------------------------------------------------
* * * * *
1.337(d)-4................................................. 1545-1633
* * * * *
------------------------------------------------------------------------
Robert E. Wenzel,
Deputy Commissioner of Internal Revenue.
Approved: December 17, 1998.
Dated: December 17, 1998.
Donald C. Lubick,
Assistant Secretary of the Treasury.
[FR Doc. 98-34210 Filed 12-28-98; 8:45 am]
BILLING CODE 4830-01-P
