INCOME TAXRev. Rul. 2000–9, page 497.Federal rates; adjusted federal rates; adjusted federallong-term rate, and the long-term exempt rate. Forpurposes of section 1274, 1288, 382, and other sectionsof the Code, tables set forth the rates for February 2000.

T.D. 8862, page 466.Final regulations under section 367(b) of the Code relate tothe transactions involving certain foreign corporations andthe application of nonrecognition exchange provisions undersubchapter C of the Code.

T.D. 8863, page 488.REG–116048–99, page 584.Temporary and proposed regulations under section 367(b)of the Code relate to transactions involving certain foreigncorporations and the application of nonrecognition exchangeprovisions under subchapter C of the Code. A public hearingis scheduled for April 20, 2000.

T.D. 8866, page 495.Final regulations under section 1092 of the Code relate toequity options with flexible terms and qualified covered calls.

T.D. 8868, page 491.Final regulations under section 936 of the Code relate to thetermination of the Puerto Rico and possession tax credit.

T.D. 8869, page 498.Final regulations under section 1361 of the Code relate to thetreatment of corporate subsidiaries of S corporations and in-terpret the rules added to the Internal Revenue Code by sec-tion 1308 of the Small Business Job Protection Act of 1996.

EMPLOYEE PLANS

Rev. Proc. 2000–16, page 518.Administrative programs; closing agreements. Thisprocedure consolidates and expands upon the following cur-rent employee plans programs: the Administrative Policy Re-garding Self-Correction, the Walk-in Closing Agreement Pro-gram, the Closing Agreement Program, the VoluntaryCompliance Resolution Program, the Standardized VCR Pro-cedure, and the Tax-sheltered Voluntary Correction Program.Rev. Procs. 98–22, 99–13, and 99–31 modified and super-seded. Rev. Proc. 2000–8 modified.

Rev. Proc. 2000–20, page 553.Master and prototype plans. This procedure combinesprior revenue procedures pertaining to master and proto-type plans and regional prototype plans. It also provides thatmass submitters and sponsors may apply for opinion lettersthat reflect current law beginning April 7, 2000, and May 8,2000, respectively. Volume submitter practitioners mayapply for current law advisory letters begin-ning March 8, 2000. Rev. Procs. 89–9, 89–13, 90–21,91–66, 92–41, 93–9, 93–10, and 95–42 superseded. Rev.Procs. 2000–6 and 2000–8 modified. Announcement99–50 modified.

Notice 2000–11, page 572.Safe harbor explanation; certain qualified plan distrib-utions. This notice provides a “Safe Harbor Explanation”that plan administrators may provide to recipients of eligiblerollover distributions from qualified plans in order to satisfysection 402(f) of the Code. Notice 92–48 obsoleted.

Internal Revenue

bbuulllleettiinnBulletin No. 2000–6

February 7, 2000

HIGHLIGHTSOF THIS ISSUEThese synopses are intended only as aids to the reader inidentifying the subject matter covered. They may not berelied upon as authoritative interpretations.

Department of the TreasuryInternal Revenue Service

Finding Lists begin on page ii.Index for January begins on page iv.

(Continued on the next page )

February 7, 2000 2000–6 I.R.B.

EMPLOYEE PLANS—continued

Announcement 2000–7, page 586.Mortality table; retirement plans. This announcementseeks public comments with respect to the mortality tablein effect under section 412(1)(7)(C) of the Code.

EXEMPT ORGANIZATIONSAnnouncement 2000–8, page 586.A list is given of organizations now classified as privatefoundations.

EMPLOYMENT TAX

Rev. Rul. 2000–6, page 512.Information reporting requirements applicable toelection workers. The requirements for information re-porting applicable to election workers whose compensa-tion is not subject to FICA tax are found under section6041(a) of the Code. As a result, reporting is generally not

required for election workers earning less than $600 annu-ally. Rev. Rul. 88–36 modified.

ADMINISTRATIVE

REG–208254–90, page 577.Proposed regulations under section 861 of the Code relateto the source of compensation for labor or personal ser-vices. A public hearing is scheduled for April 19, 2000.

REG–105089–99, page 580.Proposed regulations under section 356 of the Code relateto the treatment of nonqualified preferred stock and otherpreferred stock in certain exchanges and distributions. Apublic hearing is scheduled for May 31, 2000.

Rev. Proc. 2000–13, page 515.This prodedure provides guidance on the application of Arti-cles 10(2) and 23 of the United States-United Kingdom in-come tax treaty after the repeal of the U.K. advance corpo-ration tax (ACT) and reduction of the U.K. Shareholder taxcredit. Rev. Proc. 80–18 modified.

2000–6 I.R.B. February 7, 2000

The Internal Revenue Bulletin is the authoritative instrumentof the Commissioner of Internal Revenue for announcing offi-cial rulings and procedures of the Internal Revenue Serviceand for publishing Treasury Decisions, Executive Orders, TaxConventions, legislation, court decisions, and other items ofgeneral interest. It is published weekly and may be obtainedfrom the Superintendent of Documents on a subscriptionbasis. Bulletin contents are consolidated semiannually intoCumulative Bulletins, which are sold on a single-copy basis.

It is the policy of the Service to publish in the Bulletin all sub-stantive rulings necessary to promote a uniform applicationof the tax laws, including all rulings that supersede, revoke,modify, or amend any of those previously published in theBulletin. All published rulings apply retroactively unless other-wise indicated. Procedures relating solely to matters of in-ternal management are not published; however, statementsof internal practices and procedures that affect the rightsand duties of taxpayers are published.

Revenue rulings represent the conclusions of the Service onthe application of the law to the pivotal facts stated in therevenue ruling. In those based on positions taken in rulingsto taxpayers or technical advice to Service field offices,identifying details and information of a confidential natureare deleted to prevent unwarranted invasions of privacy andto comply with statutory requirements.

Rulings and procedures reported in the Bulletin do not havethe force and effect of Treasury Department Regulations,but they may be used as precedents. Unpublished rulingswill not be relied on, used, or cited as precedents by Servicepersonnel in the disposition of other cases. In applying pub-lished rulings and procedures, the effect of subsequent leg-islation, regulations, court decisions, rulings, and proce-

dures must be considered, and Service personnel and oth-ers concerned are cautioned against reaching the same con-clusions in other cases unless the facts and circumstancesare substantially the same.

The Bulletin is divided into four parts as follows:

Part I.—1986 Code.This part includes rulings and decisions based on provisionsof the Internal Revenue Code of 1986.

Part II.—Treaties and Tax Legislation.This part is divided into two subparts as follows: Subpart A,Tax Conventions, and Subpart B, Legislation and RelatedCommittee Reports.

Part III.—Administrative, Procedural, and Miscellaneous.To the extent practicable, pertinent cross references tothese subjects are contained in the other Parts and Sub-parts. Also included in this part are Bank Secrecy Act Admin-istrative Rulings. Bank Secrecy Act Administrative Rulingsare issued by the Department of the Treasury’s Office of theAssistant Secretary (Enforcement).

Part IV.—Items of General Interest.This part includes notices of proposed rulemakings, disbar-ment and suspension lists, and announcements.

The first Bulletin for each month includes a cumulative indexfor the matters published during the preceding months.These monthly indexes are cumulated on a semiannual basis,and are published in the first Bulletin of the succeeding semi-annual period, respectively.

The IRS Mission

Provide America’s taxpayers top quality service by help-ing them understand and meet their tax responsibilities

and by applying the tax law with integrity and fairness toall.

Introduction

The contents of this publication are not copyrighted and may be reprinted freely. A citation of the Internal Revenue Bulletin as the source would be appropriate.

For sale by the Superintendent of Documents, U.S. Government Printing Office, Washington, DC 20402.

February 7, 2000 466 2000–6 I.R.B.

Section 42.—Low-IncomeHousing Credit

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

Section 280G.—GoldenParachute Payments

Federal short-term, mid-term, and long-termrates are set forth for the month of February 2000.See Rev. Rul, 2000–9, page 497.

Section 367.—ForeignCorporations

26 CFR 1.367(a)–3: Treatment of transfers of stockor securities to foreign corporations.

T.D. 8862

DEPARTMENT OF THE TREASURYInternal Revenue Service26 CFR Parts 1, 7, and 602

Stock Transfer Rules

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Final and temporary regula-tions.

SUMMARY: This document containsfinal regulations addressing the applica-tion of nonrecognition exchange provi-sions in Subchapter C of the Internal Rev-enue Code to transactions that involveone or more foreign corporations. Theseregulations provide guidance for taxpay-ers engaging in those transactions in orderto determine the extent to which incomeshall be included and appropriate corre-sponding adjustments shall be made.

DATES: Effective Date. These regula-tions are effective as of February 23,2000.

Applicability Dates. These regulationsapply to section 367(b) exchanges thatoccur on or after February 23, 2000.However, taxpayers may choose to applythese regulations to section 367(b) ex-changes that occur before February 23,2000, as specified in §1.367(b)–6(a)(2).

FOR FURTHER INFORMATION CON-TACT: Mark D. Harris, (202) 622-3860(not a toll-free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collections of information con-tained in these final regulations have beenreviewed and approved by the Office ofManagement and Budget in accordancewith the Paperwork Reduction Act (44U.S.C. 3507) under control number 1545-1271. Responses to these collections ofinformation are mandatory.

An agency may not conduct or sponsor,and a person is not required to respond to,a collection of information unless the col-lection of information displays a validcontrol number.

The estimated average annual reportingburden in these final regulations is 4hours.

Comments concerning the accuracy ofthis burden estimate and suggestions forreducing this burden should be sent to theInternal Revenue Service, Attn: IRSReports Clearance Officer, OP:FS:FP,Washington, DC 20224, and to the Officeof Management and Budget, Attn: DeskOfficer for the Department of the Trea-sury, Office of Information and Regula-tory Affairs, Washington, DC 20503.

Books or records relating to these col-lections of information must be retainedas long as their contents may become ma-terial in the administration of any internalrevenue law. Generally, tax returns andtax return information are confidential, asrequired by 26 U.S.C. 6103.

Background

On December 27, 1977, the IRS andTreasury issued proposed and temporaryregulations under section 367(b) of the In-ternal Revenue Code (Code). Subsequentguidance updated and amended the 1977temporary regulations (the 1977 regula-tions) several times over the next 14years. On August 26, 1991, the IRS andTreasury issued proposed regulations§§1.367(b)–1 through 1.367(b)–6 (the1991 proposed regulations). Commentsto the 1991 proposed regulations were re-ceived, and a public hearing was held onNovember 22, 1991. In June of 1998, the

IRS and Treasury issued final regulationsunder sections 367(a) and (b) (the 1998regulations). The 1998 regulations ad-dressed transactions under section 367(b)only to the extent the transactions are alsosubject to the stock transfer rules of sec-tion 367(a). Thus, the 1977 regulationshave remained in effect to the extent notsuperseded by the 1998 regulations. Thepreamble to the 1998 regulations statedthat the IRS and Treasury would issueguidance at a later date to address the por-tions of the 1991 proposed regulations re-lated to section 367(b) that were not ad-dressed in the 1998 regulations.

After consideration of the 1977 regula-tions and their updates and amendments,the 1991 proposed regulations and theirupdates and amendments, the 1998 regu-lations, and all comments received withrespect to such regulations, the IRS andTreasury adopt §§1.367(b)–1 through1.367(b)–6 as final regulations under sec-tion 367(b).

Overview

A. General Policies of Section 367(b)

Section 367(b) governs corporate re-structurings under sections 332, 351, 354,355, 356, and 361 (except to the extentdescribed in section 367(a)(1)) in whichthe status of a foreign corporation as a“corporation” is necessary for applicationof the relevant nonrecognition provisions.Section 367(b) provides that a foreigncorporation that is a party to one of theenumerated nonrecognition transactionsshall be respected as a corporation, andthereby the parties involved in the trans-action shall obtain the benefits of the ap-plicable nonrecognition exchange provi-sions and their related provisions (such assection 381) (together, the Subchapter Cprovisions), except to the extent providedin regulations.

The principal purpose of section 367(b)is to prevent the avoidance of U.S. taxthat can arise when the Subchapter C pro-visions apply to transactions involvingforeign corporations. The potential fortax avoidance arises because of differ-ences between the manner in which theUnited States taxes foreign corporationsand their shareholders and the manner inwhich the United States taxes domestic

Part I. Rulings and Decisions Under the Internal Revenue Code of 1986

corporations and their U.S. shareholders.The Subchapter C provisions generally

have been drafted to apply to domesticcorporations and U.S. shareholders, andthus do not fully take into account thecross-border aspects of U.S. taxation(such as deferral, foreign tax credits, andsection 1248). Section 367(b) was en-acted to help ensure that international taxconsiderations in the Code are adequatelyaddressed when the Subchapter C provi-sions apply to an exchange involving aforeign corporation. Because determin-ing the proper interaction of the Code’sinternational and Subchapter C provisionsis “necessarily highly technical,” Con-gress granted the Secretary broad regula-tory authority to provide the “necessary orappropriate” rules, rather than enacting acomplex statutory regime. H.R. Rep. No.658, 94th Cong., 1st Sess. 241 (1975).

Accordingly, as the preamble to the1991 proposed regulations stated, the sec-tion 367(b) regulations require adjust-ments or inclusions in order to prevent thematerial distortion of income that canoccur when the Subchapter C provisionsapply to an exchange involving a foreigncorporation. The 1991 proposed regula-tions simplified the 1977 regulations andwere generally favorably received by tax-payers. The final regulations adopt the1991 proposed regulations with modifica-tions. The modifications are based onfurther considerations of fairness, sim-plicity, and administrability.

The final regulations also incorporatethe section 367(b) rules contained in the1998 regulations. The 1998 regulationsfinalized portions of the 1991 proposedregulations to the extent necessary to ad-dress the overlap between section 367(b)and the section 367(a) stock transferrules. Because the scope of the final reg-ulations is broader than that overlap, thefinal regulations adopt the 1998 section367(b) provisions in a manner appropriateto their incorporation into the final regula-tions.

The IRS and Treasury are also issuingother guidance under section 367(b). Tem-porary and proposed regulations (T.D.8862, page 466 and REG–116048–99, page584) address the elimination of an electionavailable to certain taxpayers under the1977 regulations and the 1991 proposedregulations. In addition, the IRS and Trea-sury intend to issue other proposed regula-

tions that provide rules regarding the com-bination and separation of corporate-leveltax attributes in applicable section 367(b)exchanges.

B. Specific Policies in Context ofInbound Nonrecognition Transactions

Section 1.367(b)–3 addresses transac-tions in which a foreign corporation trans-fers assets to a domestic corporation pur-suant to a Subchapter C provision. Thesetransactions include a section 332 liquida-tion of a foreign corporation into a do-mestic parent corporation and an asset re-organization, such as a C, D or Freorganization, of a foreign corporationinto a domestic corporation (inbound non-recognition transactions). Section 381generally provides rules regarding the ex-tent to which corporate attributes carryover in such transactions.

The principal policy consideration ofsection 367(b) with respect to inboundnonrecognition transactions is the appro-priate carryover of attributes from foreignto domestic corporations. This considera-tion has interrelated shareholder-level andcorporate-level components. At theshareholder level, the section 367(b) reg-ulations are concerned with the propertaxation of previously deferred earningsand profits. At the corporate level, thesection 367(b) regulations are concernedwith both the extent and manner in whichtax attributes carry over in light of thevariations between the Code’s taxation offoreign and domestic corporations.

The section 367(b) regulations havehistorically focused on the carryover ofearnings and profits and bases of assets,simultaneously addressing the share-holder and corporate level concerns byaccounting for any necessary adjustmentsthrough an income inclusion by the U.S.shareholders of the foreign acquired cor-poration (and without limiting the extentto which the domestic acquiring corpora-tion succeeds to the attributes). The 1991proposed regulations required a U.S.shareholder of the foreign acquired corpo-ration (or, in certain cases, a foreign sub-sidiary of the U.S. shareholder) to cur-rently include in income the allocableportion of the foreign acquired corpora-tion’s earnings and profits accumulatedduring the U.S. shareholder’s holding pe-riod (all earnings and profits amount).The requirement to include in income the

all earnings and profits amount results inthe taxation of previously unrepatriatedearnings accumulated during a U.S.shareholder’s (direct or indirect) holdingperiod. This income inclusion preventsthe conversion of a deferral of tax into aforgiveness of tax and generally ensuresthat the section 381 carryover basis re-flects an after-tax amount. However, theall earnings and profits amount inclusiondoes not consider tax attributes that ac-crue during a non-U.S. person’s holdingperiod.

Commentators criticized the scope ofthe 1991 proposed regulations, arguingthat the all earnings and profits amountshould be limited to the amount that ashareholder would include in income as adeemed dividend under section 1248.The scope of the all earnings and profitsamount is broader than the section 1248amount because, for example, the allearnings and profits amount is calculatedwithout regard to whether the foreign cor-poration is a CFC and without regard to ashareholder’s gain in the stock. However,this view too narrowly construes the roleof section 367(b) by focusing on potentialshareholder-level consequences withoutadequately considering the section 367(b)policy of determining the appropriate car-ryover of corporate-level attributes in in-bound nonrecognition transactions. Thus,the final regulations retain the 1991 pro-posed regulations’ definition of all earn-ings and profits amount. The final regula-tions also generally retain (subject to anew de minimis exception) the taxation ofall exchanging U.S. shareholders in in-bound nonrecognition transactions.

In finalizing these regulations, the IRSand Treasury considered whether futuresection 367(b) regulations should limitthe extent to which tax attributes carryover from foreign to domestic corpora-tions. Such a limitation would more di-rectly implement the section 367(b) pol-icy related to the carryover of attributesand, as a result, reduce the class of U.S.persons required to have an income inclu-sion in connection with an inbound non-recognition transaction. Such a limitationwould also enable the section 367(b) reg-ulations to address the carryover of attrib-utes attributable to a non-U.S. person’sholding period. The IRS and Treasury re-quest comments as to the merits of an at-tribute carryover limitation, as well as

2000–6 I.R.B. 467 February 7, 2000

February 7, 2000 468 2000–6 I.R.B.

other approaches that could address thecarryover of tax attributes related to anon-U.S. person’s holding period undersection 367(b).

C. Specific Policies in Context ofForeign-to-Foreign NonrecognitionTransactions and Section 355Distributions

Section 1.367(b)–4 addresses transac-tions in which a foreign corporation ac-quires the stock or assets of another for-eign corporation in an exchange describedin section 351 or a section 368(a)(1)(B),(C), (D), (E), (F) or (G) reorganization(foreign-to-foreign nonrecognition trans-actions). Section 1.367(b)–5 providesrules regarding a distribution by a foreigncorporation of the stock or securities of adomestic or foreign corporation describedin section 355. The historic policy objec-tive of section 367(b) in both of thesecontexts has been to preserve the potentialapplication of section 1248. Thus, theamount that would have been recharacter-ized as a dividend under section 1248upon a disposition of the stock (section1248 amount) generally must be includedin income as a dividend at the time of thesection 367(b) exchange to the extentsuch section 1248 amount would not bepreserved immediately following the sec-tion 367(b) exchange.

The final regulations do not address allof the policy considerations raised by theapplication of the Subchapter C provi-sions to transactions described in§§1.367(b)–4 and 1.367(b)–5. For exam-ple, current rules regarding the carryoveror separation of foreign corporations’earnings and profits do not adequatelyconsider the international aspects of theCode, most notably the foreign tax credit.Forthcoming proposed regulations willconsider these issues. Until the IRS andTreasury promulgate such regulations,taxpayers should use a reasonable method(consistent with existing law and takingproper account of the purposes of the for-eign tax credit regime) to determine thecarryover and separation of earnings andprofits and related foreign taxes.

Explanation of Provisions

The IRS received numerous commentson the 1991 proposed regulations. Thefollowing discussion summarizes thecomments and changes to the 1991 pro-

posed regulations.

A. §1.367(b)–1(c): Notice Requirements

Section 1.367(b)–1(c) of the 1991 pro-posed regulations required any personthat realizes income in a section 367(b)exchange to file a notice with respect tothe exchange, regardless of such person’sstatus as a U.S. person and its percentageownership in the corporation that is aparty to the section 367(b) exchange.Commentators criticized this notice re-quirement as overly broad. The 1998 reg-ulations limited the notice requirement toshareholders that realize income and file atax return under section 6012. The finalregulations further revise the notice re-quirement and generally narrow its scopeby requiring notice only with respect topersons and transactions that may be sub-ject to an inclusion under the final regula-tions’ operative provisions.

B. §1.367(b)–2: Definitions and SpecialRules

1. §1.367(b)–2(d): All Earnings andProfits Amount

Section 1.367(b)–2(d) of the 1991 pro-posed regulations generally defined “allearnings and profits amount” as the allo-cable share of net positive earnings andprofits accrued by a foreign corporationduring a shareholder’s holding period.The 1991 proposed regulations providedthat the all earnings and profits amount isdetermined according to the attributionprinciples of section 1248. Because thesection 1248 attribution rules incorporatethe section 1223 holding period rules,commentators were concerned that thedefinition of all earnings and profitsamount inappropriately included earningsand profits attributable to the holding pe-riod of non-U.S. persons by virtue of therules of section 1223(2).

In response, the final regulationsamend the definition of all earnings andprofits amount to exclude amounts attrib-utable to the holding period of non-U.S.persons. This modification applies to theextent the non-U.S. person was not di-rectly or indirectly owned by U.S. personswith a 10 percent or greater interest whenthe earnings and profits accumulated. Anexample in the final regulations illustratesthis new rule.

When applying the attribution princi-

ples of section 1248 for purposes of deter-mining the all earnings and profitsamount, the requirements of section 1248unrelated to computing the amount ofearnings and profits attributable to ashareholder’s block of stock should notapply. The final regulations explicitlystate this principle. The 1991 proposedregulations applied this principle, for ex-ample, when they provided that the allearnings and profits amount is calculatedwithout regard to whether the foreign cor-poration is a controlled foreign corpora-tion (CFC). The final regulations furtherspecify that the all earnings and profitsamount includes earnings attributable toan exchanging shareholder’s stock, with-out regard to whether the exchangingshareholder owned 10 percent of the stockof the foreign acquired corporation. Anew example in the final regulations illus-trates these rules.

2. §1.367(b)–2(e): Treatment of DeemedDividends

Section 1.367(b)–2(e) of the 1991 pro-posed regulations provided that a deemeddividend shall be treated as an actual divi-dend. Thus, a deemed dividend was con-sidered as paid out of the earnings andprofits of a foreign corporation and wasconsidered as having been paid throughintermediate owners (when appropriate).One commentator noted that an inclusionunder the 1991 proposed regulationscould yield a different result from an in-clusion under section 1248 because sec-tion 1248 treats a corporation as havingpaid the section 1248 amount directly toan exchanging shareholder despite any in-termediate owners.

A deemed dividend under section367(b) is distinguishable from a section1248 inclusion because a section 1248 in-clusion is not treated as a dividend at thecorporate level. Thus, a corporation doesnot reduce its earnings and profits with re-gard to an inclusion under section 1248.Instead, the shareholder-level inclusion isconsidered eligible to be treated as previ-ously taxed earnings and profits (PTI)upon a subsequent distribution. In lightof this distinction between section 367(b)and section 1248, the final regulations re-tain the rule in §1.367(b)–2(e) of the 1991proposed regulations.

3. Final Regulation §1.367(b)–2(j): Sec-tions 985 through 989

2000–6 I.R.B. 469 February 7, 2000

Section 1.367(b)–2(k) of the 1991 pro-posed regulations provided rules regard-ing currency exchange inclusions or ad-justments that result from a section 367(b)exchange. The final regulations apply theprinciples of the 1991 proposed regula-tions, but provide the following modifica-tions.

The 1991 proposed regulations re-quired an acquired corporation that partic-ipates in a transaction described in section381(a) to change its functional currency ifthe acquiring corporation has a differentfunctional currency. The rule was in-tended to ensure that taxpayers use thecorrect functional currency after a section367(b) exchange. However, functionalcurrency is determined separately foreach qualified business unit (QBU). Inaddition, the functional currency of aQBU of either the acquired or acquiringcorporation may change as a result of asection 367(b) exchange. Accordingly,the final regulations provide that a QBUis deemed to have automatically changedits functional currency when its functionalcurrency, as determined after a section367(b) exchange, is different than beforethe exchange. Thus, the QBU is requiredto make appropriate adjustments under§1.985–5.

The 1991 proposed regulations pro-vided that, if an exchanging shareholderis required to include in income either theall earnings and profits amount or the sec-tion 1248 amount, then immediately be-fore the exchange and solely for purposesof computing exchange gain or loss undersection 986(c), the shareholder is treatedas receiving a distribution of PTI from theappropriate foreign corporation. The pur-pose of this provision was to ensure thatexchange gain or loss under section986(c) is subject to current inclusionwhen the earnings of the foreign corpora-tion are no longer deferred or to the extenta taxpayer does not retain its interest inPTI.

Section 1.367(b)–2(j)(2) of the finalregulations expands the rules regardingthe treatment of exchange gain or loss onPTI under section 986(c). An exchangingshareholder that is a U.S. person is re-quired to recognize its section 986(c) gainor loss to the extent that deferral hasended with respect to a foreign corpora-tion’s earnings (as can occur in the case ofan inbound or foreign-to-foreign non-

recognition transaction) or the U.S. per-son has a diminished interest in the PTIafter the exchange (as can occur in thecase of a section 355 distribution by a for-eign corporation). A different rule applieswhen a U.S. person indirectly holds(through a foreign exchanging share-holder) its interest in the foreign corpora-tion with regard to which the PTI inclu-sion is measured. In that case, the indirectU.S. shareholder does not recognize sec-tion 986(c) gain or loss at the time of thesection 367(b) exchange. In order to pre-serve such section 986(c) gain or loss forfuture inclusion by the indirect U.S.shareholder, the foreign exchangingshareholder is treated as having received adistribution of the PTI.

Other rules under sections 985 through989, such as the branch termination rules,may also apply to the transaction.

C. §1.367(b)–3: Repatriation of ForeignCorporate Assets in CertainNonrecognition Transactions

Section 1.367(b)–3 provides rules withrespect to inbound nonrecognition trans-actions.

1. §1.367(b)–3(b): Exchanges of Stock

Section 1.367(b)–3(b) of the 1991 pro-posed regulations generally provided thatif an exchanging shareholder is either (i) a10 percent U.S. shareholder of the foreignacquired corporation or (ii) a foreign cor-poration with respect to which a U.S. per-son is either a section 1248 shareholder ora domestic corporation that meets thestock ownership requirements of section902, the shareholder must include in in-come as a deemed dividend the all earn-ings and profits amount attributable to itsstock in the foreign acquired corporation.The final regulations generally retain thisrule. However, in order to provide greaterconsistency among its various ownershipthresholds, the final regulations revise§1.367(b)–3(b)(ii) so that §1.367(b)–3(b)applies to a foreign corporation with re-spect to which there is, in general, a 10percent U.S. shareholder.

The 1991 proposed regulations pro-vided that the same country dividend ex-ception in section 954(c)(3)(A)(i) doesnot apply to an exchanging shareholderthat is a CFC. Commentators criticizedthis rule, stating that a deemed dividend

under section 367(b) should not be treatedmore harshly than an actual dividend andthat taxpayers can circumvent this rule byhaving a lower-tier foreign corporationdistribute a dividend before an asset trans-fer. However, unlike a dividend distribu-tion that qualifies for the same countrydividend exception, an inbound assettransfer represents a current repatriationof earnings into the United States. Ac-cordingly, the final regulations retain therule in the 1991 proposed regulations thatthe same country dividend exception doesnot apply to an exchanging shareholderthat is a CFC.

The 1991 proposed regulations gener-ally required the recognition of exchangegain (or loss) to the extent that an ex-changing shareholder’s capital account ina foreign acquired corporation appreci-ated (or depreciated) as a result ofchanges in currency exchange rates. Suchgain (or loss) is reflected in the basis ofassets when translated at the spot rate.The preamble to the 1991 proposed regu-lations invited comments regarding thecalculation of such exchange gain (orloss), particularly in cases when a share-holder acquired the foreign corporatestock by purchase rather than in connec-tion with the corporation’s formation.None of the comments suggested amethod for determining and trackingshareholder capital accounts. Most com-ments focused on the potential complex-ity and compliance burdens created by therule. After considering the administrabil-ity issues associated with the exchangegain (or loss) calculation, the final regula-tions do not adopt the provision requiringthe recognition of exchange gain (or loss)on a shareholder’s capital account. How-ever, the final regulations reserve theissue for further consideration.

Sections 7.367(b)–5(b) and7.367(b)–7(c)(2)(ii) of the 1977 regula-tions, and §1.367(b)–3(b)(2)(iii) of the1991 proposed regulations provided anexchanging shareholder with an opportu-nity to recognize the gain (but not theloss) that it realizes in the exchange (tax-able exchange election), rather than in-cluding the all earnings and profitsamount in income as a deemed dividend.This taxable exchange election, however,is inconsistent with the policies of section367(b) that apply to inbound transactions.These policies, as previously discussed,

February 7, 2000 470 2000–6 I.R.B.

are unrelated to an exchanging share-holder’s outside gain on its stock.

Moreover, when the all earnings andprofits amount exceeds a shareholder’sgain on its stock, merely limiting theshareholder’s inclusion to its outsidestock gain creates the potential for the du-plication and importation of losses. SeeTAM 9003005 (September 28, 1989) (in-terpreting the 1977 regulations) (availableat IRS Freedom of Information Act Read-ing Room, 1111 Constitution Avenue,NW., Washington, DC 20224). The 1991proposed regulations attempted to addressthis aspect of the taxable exchange elec-tion by requiring various attributes of theforeign acquired corporation (such asbasis in its assets) to be reduced (attributereduction regime) to the extent the allearnings and profits amount exceeds anexchanging shareholder’s stock gain.

However, the taxable exchange elec-tion in the 1991 proposed regulations hadother shortcomings. The election addedsubstantial complexity to the regulationsby requiring timely coordination betweenelecting shareholders and the acquiringcorporation to carry out the required at-tribute reductions. In addition, the at-tribute reduction regime can be unfair insituations involving more than one ex-changing U.S. shareholder. For example,consider an inbound C, D, or F reorgani-zation involving two U.S. shareholders ofthe foreign acquired corporation, one thatmakes the taxable exchange election (be-cause its gain on the stock is less than itsall earnings and profits amount) and onethat does not. In connection with theelecting shareholder’s taxable exchangeelection, the 1991 proposed regulationsrequired a proportionate reduction in cer-tain tax attributes of the foreign acquiredcorporation. This reduction effectivelyallowed the electing shareholder to trans-fer to the acquiring corporation the bur-den created by its decision not to includein income its full all earnings and profitsamount and, thereby, to effectively shift aportion of this burden to the non-electingshareholder (that has already paid U.S.tax on its full share of the foreign corpora-tion’s earnings and profits).

Finally, a taxable exchange election isnot required by the statute. Section367(b) directs the Secretary to prescriberegulations that provide the necessary orappropriate tax consequences that should

accompany the application of the Sub-chapter C provisions to transactions in-volving foreign corporations. Section367(b)(2) specifically provides that thesection 367(b) regulations may includethe circumstances under which “gain shallbe recognized currently or amounts in-cluded in gross income currently as a div-idend, or both . . . .” Thus, the statute au-thorizes the IRS and Treasury to requirean inclusion of amounts, as distinct fromgain. As previously discussed, the allearnings and profits amount appropriatelymeasures an exchanging shareholder’s in-come inclusion in connection with an in-bound nonrecognition transaction.

After balancing the above considera-tions against the benefits of the taxableexchange election, the final regulationsdo not adopt the taxable exchange elec-tion. However, in order to provide tax-payers an opportunity to comment on thischange to the 1977 regulations and the1991 proposed regulations, the IRS andTreasury are concurrently issuing tempo-rary and proposed regulations that pro-vide the taxable exchange election inmodified form. This election permits anexchanging shareholder to elect to treat atransaction as a taxable exchange, butmodifies the attribute reduction regime bylimiting its application to a section 332liquidation or to an inbound asset reorga-nization in which the foreign acquiredcorporation is wholly owned (directly orindirectly) by one U.S. person. This lim-ited application of the attribute reductionregime eliminates the potentially unfairresults that can arise when attributes arereduced in a transaction involving multi-ple exchanging shareholders. This alsoreduces (although does not eliminate) thepotential for the duplication and importa-tion of losses that can arise in the absenceof attribute reduction. The temporary reg-ulation is effective for one year from theeffective date of the final regulations.

2. §1.367(b)–3(c): Exchanges of Stockby Other U.S. Persons

Section 1.367(b)–3(c) of the 1991 pro-posed regulations provided a special rulefor U.S. persons that are not subject to the§1.367(b)–3(b) requirement to include inincome the all earnings and profitsamount (generally, shareholders owningless than 10 percent of the foreign ac-quired corporation, hereinafter small

shareholders). The 1991 proposed regula-tions required these small shareholders torecognize the gain on their stock in theforeign acquired corporation. This rulewas included because of administrativeconcerns, since small shareholders maynot have sufficient information to calcu-late their all earnings and profits amounts.In addition, a foreign acquired corpora-tion may not have adequate informationabout its small shareholders’ inclusions toproperly adjust its earnings and profits forthe deemed dividends that would arise inthese situations.

Commentators requested that the finalregulations provide small shareholdersthe option of including in income the allearnings and profits amount, rather thanrecognizing the gain on their stock. In re-sponse, the final regulations include suchan election, provided that a small share-holder has sufficient information to sub-stantiate its all earnings and profitsamount and provided that the small share-holder furnishes proper certification to theforeign acquired corporation (or its suc-cessor in interest) so that the corporationcan properly reduce its earnings and prof-its. Electing small shareholders must alsocomply with the section 367(b) notice re-quirement. A less extensive section367(b) notice procedure is available if theforeign acquired corporation has neverhad earnings and profits that would resultin any shareholder having an all earningsand profits amount.

Commentators also requested an elec-tion that would permit a domestic acquir-ing corporation to include in income theall earnings and profits amounts on behalfof the foreign acquired corporation’ssmall shareholders. The final regulationsdo not adopt this suggestion because of itssubstantial administrative difficulties.For example, it is unlikely that a publiclytraded foreign corporation (or its domes-tic acquirer) could ascertain each smallshareholder’s correct holding period inthe stock of the foreign acquired corpora-tion, which would be necessary to prop-erly determine such a cumulative all earn-ings and profits amount inclusion.

The final regulations also include anew de minimis exception, which appliesto small shareholders whose stock in theforeign acquired corporation has a fairmarket value below $50,000 on the dateof the exchange. These shareholders are

2000–6 I.R.B. 471 February 7, 2000

not required to include gain or a deemeddividend under the section 367(b) regula-tions.3. §1.367(b)-3(d): Carryover of CertainAttributes

Section 1.367(b)–3(d) of the 1991 pro-posed regulations clarified that a domesticacquiring corporation may succeed to for-eign taxes paid or accrued by a foreign ac-quired corporation that are eligible forcredit under section 906. A domestic ac-quiring corporation may not succeed toany other foreign taxes paid or accrued bya foreign acquired corporation becausethe earnings that carry over to a domesticacquiring corporation (other than earningsrelated to the taxes eligible for creditunder section 906) are not subject to dou-ble taxation at the corporate level. Thisrule is consistent with the general policyof section 367(b) to permit the carryoverof corporate tax attributes only when ap-propriate. The final regulations retain therules of §1.367(b)–3(d), and add an exam-ple that illustrates their application.

D. §1.367(b)–4: Acquisition of ForeignCorporate Stock or Assets by a ForeignCorporation in Certain NonrecognitionTransactions

Section 1.367(b)–4 of the 1991 pro-posed regulations addressed foreign-to-foreign nonrecognition transactions. Ingeneral, if the exchange in such a transac-tion results in a section 1248 shareholderof the foreign acquired corporation losingits section 1248 shareholder status,§1.367(b)–4(b) required the exchangingshareholder to currently include its sec-tion 1248 amount in income as a deemeddividend. The 1991 proposed regulationsgenerally did not require an income inclu-sion in circumstances when a section1248 shareholder retains its status. In thecase of a lower-tier transaction (where theexchanging shareholder is a foreign cor-poration), the section 1248 amount wasnot included as foreign personal holdingcompany income (FPHCI) under section954(c). This provision permitted deferralof the section 1248 amount by preservingsuch earnings and profits as earnings ofthe foreign corporation that is the ex-changing shareholder. The final regula-tions retain these general rules.

1. §1.367(b)–4(b): Recognition of In-come

Section 1.367(b)–4(b) of the 1991 pro-posed regulations provided an exceptionto its general rule if an exchanging share-holder receives stock of a domestic corpo-ration. This provision, which the 1991proposed regulations included in responseto a criticism of the 1977 regulations, wasintended to provide relief in cases when adomestic acquiring corporation issues itsown stock in exchange for CFC stock andsucceeds to the section 1248 amount allo-cable to the transferor U.S. shareholder.Because §1.367(b)–4(a) of the 1991 pro-posed regulations already limited the ap-plication of §1.367(b)–4 to an acquisitionby a foreign corporation, such relief wasunnecessary.

Moreover, the provision inadvertentlydid not require an inclusion of a section1248 amount that may not be preservedimmediately after the exchange. Thiscould occur, for example, if a foreign ac-quiring corporation uses the stock of itsdomestic parent corporation to acquire thestock or assets of a foreign target corpora-tion from a section 1248 shareholder. Ac-cordingly, the final regulations do notadopt the 1991 proposed regulations’ pro-vision regarding receipt of stock of a do-mestic corporation in a transaction de-scribed in §1.367(b)–4.

2. §1.367(b)–4(d): Special Rule for Ap-plying Section 1248 to Subsequent Ex-changes

The 1998 regulations revised the rulesof the 1991 proposed regulations regard-ing the application of section 367(b) andsection 1248 to exchanges that follow a§1.367(b)–4 exchange in which an ex-changing shareholder is not required toinclude a section 1248 amount in income.Because of the limited scope of the 1998regulations, its rule only addressed the ap-plication of section 367(b) and section1248 following a stock transfer by a directU.S. shareholder. The final regulationsincorporate the principles of the 1998 reg-ulations and expand their application tothe class of transactions subject to§1.367(b)–4, including asset transfers andtransactions in which the exchangingshareholder is a foreign corporation. Thefinal regulations also address the interac-tion of these rules with section 964(e), byproviding the extent to which they applyto subsequent section 964(e) sales and ex-changes. Two new examples in the final

regulations, as well as an expanded re-statement of the example provided in the1998 regulations, illustrate the applicationof these rules.

Commentators also requested that theIRS and Treasury clarify the carryover ofearnings and profits and tax accounts intransactions where an exchanging share-holder is not required to include a section1248 amount, as well as the application ofsection 902 to distributions by a foreignacquiring corporation after such a section367(b) exchange. The IRS and Treasurywill address these issues in forthcomingproposed regulations.

E. §1.367(b)–5: Distributions of StockDescribed in Section 355

1. §1.367(b)–5(b): Distribution by a Do-mestic Corporation

Section 1.367(b)–5(b) of the 1991 pro-posed regulations generally provided thata domestic corporation must recognizegain on a section 355 distribution of for-eign stock to individuals. The final regu-lations retain this general rule, consistentwith the recently promulgated final regu-lations under section 367(e) (governing asection 355 distribution by a domesticcorporation of foreign stock to foreignpersons).

Commentators requested that the finalregulations clarify the proper method fordetermining whether a distributee is an in-dividual. The same issue arises undersection 367(e), and the final regulationsadopt the approach of the section 367(e)regulations. Thus, a distributee is pre-sumed to be an individual except to theextent that the distributing corporationcertifies that the distributee is not an indi-vidual. However, a publicly traded dis-tributing corporation may use a reason-able analysis with respect to distributeesthat are not five percent shareholders ofpublicly traded stock to demonstrate thenumber of distributees that are not indi-viduals. A reasonable analysis includes adetermination of the actual number of dis-tributees that are not individuals or a rea-sonable statistical analysis of shareholderrecords and other relevant information.Section 1.367(b)–2(k) (§1.367(b)–2(l) ofthe 1991 proposed regulations) has alsobeen amended to adopt the look-throughprovisions provided in §1.367(e)–1(b)(2)for purposes of determining the identity

February 7, 2000 472 2000–6 I.R.B.

of distributees when the domestic distrib-uting corporation stock is held by a part-nership, trust or estate.

2. §1.367(b)–5(c): Pro Rata Distributionby a CFC

Section 1.367(b)–5(c) of the 1991 pro-posed regulations provided that, when aCFC distributes stock of a controlled cor-poration on a pro rata basis in a section355 transaction, a distributee must reduceits post-distribution basis in either the dis-tributing or controlled corporation stockto the extent its section 1248 amount at-tributable to such corporation is reducedas a result of the distribution. To the ex-tent the reduction of the section 1248amount exceeds the stock basis, the dis-tributee must include the difference in in-come as a deemed dividend. The finalregulations retain this general rule, sub-ject to the following refinements.

The final regulations add new§1.367(b)–5(c)(3), which provides thatthe basis adjustment provided in§1.367(b)–2(e)(3)(ii) shall not apply if adeemed dividend is included in incomepursuant to §1.367(b)–5(c). Under§1.367(b)–2(e)(3)(ii), a shareholder’sbasis is increased by the amount of adeemed dividend inclusion. In the con-text of a §1.367(b)–5(c) inclusion, the§1.367(b)–2(e)(3)(ii) basis increasewould undermine the purpose of the sec-tion 367(b) regulations, because the basisincrease would correspondingly decreasethe shareholder’s built-in gain, thereby re-ducing the section 1248 amount that is in-tended to be preserved after the transac-tion.

Furthermore, some taxpayers com-mented that the §1.367(b)–5(c)(2) basisreduction can lead to the creation of phan-tom gain; that is, it can leave a share-holder with a cumulative amount of post-distribution built-in gain in the stock ofthe distributing and controlled corpora-tions that exceeds its predistribution built-in gain. As a result, commentators re-quested that a reduction in the basis in oneof the corporations give rise to a corre-sponding increase in the basis of the stockof the other corporation. In response,§1.367(b)–5(c)(4) of the final regulationsprovides a basis redistribution rule, underwhich the basis of the stock of the distrib-uting or controlled corporation (as applic-able) is increased by the amount of the re-quired decrease in basis in the other stock

under §1.367(b)–5(c)(2). However, basiscannot be increased above the fair marketvalue of the stock and also cannot be in-creased to the extent the increase dimin-ishes the postdistribution section 1248amount with respect to such stock. Thisbasis redistribution rule also applies withregard to deemed dividend inclusionsunder §1.367(b)–5(c)(2). An example inthe final regulations illustrates the appli-cation of these new rules.

3. §1.367(b)–5(d): Non-Pro Rata Distri-bution by Controlled Foreign Corporation

Section 1.367(b)–5(d) of the 1991 pro-posed regulations provided that, if a CFCdistributes controlled corporation stockon a non-pro rata basis, each distributeemust include in income the amount ofany reduction in its section 1248 amountwith regard to either the distributing orcontrolled corporation. For this purpose,the 1991 proposed regulations treated ashareholder of the distributing corpora-tion that does not exchange stock in thedistributing corporation for stock in thecontrolled corporation (non-participatingshareholder) as a distributee. The 1991proposed regulations provided that a non-participating shareholder may make anelection (taxable distribution election),under which the distributing and con-trolled corporations are not treated as cor-porations for purposes of gain (but notloss) recognition by all persons affectedby the taxable status of the transaction.The preamble to the 1991 proposed regu-lations invited comments as to whetherthe benefits of the taxable distributionelection to non-participating shareholdersare outweighed by the potential adverseeffects on the other shareholders.

In response, commentators uniformlycriticized the taxable distribution election.They argued that the election was in-equitable because it enabled a non-partici-pating shareholder (who may be a smallshareholder) to unilaterally and retroac-tively invalidate the section 355 transac-tion for all parties involved. Commenta-tors also pointed out that the taxabledistribution election could distort the eco-nomic incentives in cross-border restruc-turings by requiring participating share-holders to consider identifying andmaking contractual arrangements (whichcould include monetary arrangements)with each non-participating shareholderin order to prevent them from electing to

invalidate the section 355 transaction.Commentators thus argued in favor of notadopting the taxable distribution electionin the final regulations.

The taxable distribution election is alsonot required by the statute. Section367(b) directs the Secretary to prescriberegulations that provide the necessary orappropriate tax consequences that shouldaccompany the application of the Sub-chapter C provisions to transactions in-volving foreign corporations. Section367(b)(2) specifically provides that thesection 367(b) regulations “shall include(but shall not be limited to) regulationsdealing with the sale or exchange of stockor securities in a foreign corporation by aU.S. person. . . .” Accordingly, the sec-tion 367(b) regulations may address thetax consequences of a non-pro rata distri-bution to both participating and non-par-ticipating shareholders. In both cases, thediminution in a shareholder’s potentialsection 1248 amount following a section355 transaction appropriately measuresthe shareholder’s inclusion with regard toa section 355 transaction involving a dis-tributing corporation that is a controlledforeign corporation. Differing results de-pending on whether a shareholder is aparticipating shareholder or a non-partici-pating shareholder can also be viewed asartificial, given that the distinction isoften merely a function of alternativeplanning strategies.

In light of all of the above considera-tions, the final regulations do not adoptthe taxable distribution election. As a re-sult, all shareholders of a CFC that dis-tributes stock on a non-pro rata basis mustinclude in income the amount of any re-duction in their section 1248 amount withrespect to either the distributing or con-trolled corporation.

4. Final Regulation §1.367(b)–5(f):Exclusion of Deemed Dividend fromFPHCI

Commentators noted that the 1991 pro-posed regulations did not automaticallyexclude a §1.367(b)–5(c) or (d) deemeddividend inclusion by an exchanging for-eign corporate shareholder from FPHCI.Accordingly, the deemed dividend gener-ally would be subpart F income and cur-rently includible in income by a U.S.shareholder of the exchanging foreigncorporation. As in the case of a lower-tierforeign-to-foreign transaction described

2000–6 I.R.B. 473 February 7, 2000

in §1.367(b)–4, the potential applicationof section 1248 can be preserved by ex-cluding the deemed dividend fromFPHCI. Thus, the final regulations adoptthe suggestion and provide that a§1.367(b)–5(c) or (d) deemed dividendinclusion by a foreign corporation is notincluded in FPHCI under section 954(c).

5. 1991 Proposed Regulation §1.367(b)–5(f):Adjustments to Earnings and Profits

Section 1.367(b)–5(f) of the 1991 pro-posed regulations provided rules regard-ing the allocation of earnings and profitsof a foreign transferor corporation in con-nection with a section 355 distribution.After further consideration, the IRS andTreasury have not included§1.367(b)–5(f) of the 1991 proposed reg-ulations in the final regulations. Forth-coming proposed regulations will morefully consider the allocation of earningsand profits in section 355 distributionswhere either (or both) the distributing orcontrolled corporation is a foreign corpo-ration.

F. §1.367(b)–6: Effective Date

The final regulations apply to section367(b) exchanges that occur on or afterFebruary 23, 2000. The preamble to the1991 proposed regulations solicitedcomments on whether the final regula-tions should provide an election to applythe regulations retroactively to ex-changes that occur on or after August26, 1991 (the date the 1991 proposedregulations were published in theFed-eral Register). Given the length of timethat has elapsed since the issuance of the1991 proposed regulations, the IRS andTreasury do not believe that such anelection would be appropriate. This de-termination is consistent with the 1998revision to §1.367(b)–2(d) of the 1991proposed regulations, which deleted theproposed special retroactive effectivedate for the definition of the all earningsand profits amount. A taxpayer may,however, elect to apply the final regula-tions to section 367(b) exchanges thatoccur (or occurred) before February 23,2000, if the due date for the taxpayer’stimely filed Federal tax return (includ-ing extensions) for the taxable year inwhich the section 367(b) exchange oc-curs (or occurred) is after February 23,2000.

Removed Provisions

These regulations finalize substantiallyall of the 1991 proposed regulations. Inconnection with the finalization of theseregulations, the 1977 regulations (otherthan §7.367(b)–12) and the section 367(b)provisions contained in the 1998 regula-tions are removed. Section 7.367(b)–12is retained to address distributions withrespect to (or a disposition of) stock thatwas subject to certain provisions of the1977 regulations in effect prior to Febru-ary 23, 2000.

Special Analyses

It has been determined that this Trea-sury decision is not a significant regula-tory action as defined in Executive Order12866. Therefore, a regulatory assess-ment is not required. It also has been de-termined that section 553(b) of the Ad-ministrative Procedure Act (5 U.S.C.chapter 5) does not apply to these regula-tions, and because the notice of proposedrulemaking preceding the regulations wasissued prior to March 29, 1996, the Regu-latory Flexibility Act (5 U.S.C. chapter 6)does not apply.

Pursuant to section 7805(f) of theCode, the notice of proposed rulemakingpreceding these regulations was submit-ted to the Chief Counsel for Advocacy ofthe Small Business Administration forcomment on the impact of the proposedregulations on small business.

Drafting Information

The principal author of these regula-tions is Mark Harris of the Office of Asso-ciate Chief Counsel (International).However, other personnel from the IRSand Treasury Department participated intheir development.

* * * * *

Adoption of Amendments to theRegulations

Accordingly, 26 CFR parts 1, 7, and602 are amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation forpart 1 is amended by revising the entry for§1.367(b)–2 and by adding entries in nu-merical order to read in part as follows:

Authority: 26 U.S.C. 7805 * * *

Section 1.367(b)–2 also issued under26 U.S.C. 367(a) and (b).

Section 1.367(b)–3 also issued under26 U.S.C. 367(a) and (b). * * *

Section 1.367(b)–5 also issued under26 U.S.C. 367(a) and (b).

Section 1.367(b)–6 also issued under26 U.S.C. 367(a) and (b). * * *

Par. 2. Section 1.367(a)–3 is amendedas follows:

1. Paragraph (d)(3) Example 11,para-graph (ii), the third sentence, the refer-ence “§7.367(b)–7(c)(1)(i) of this chap-ter” is removed and “§1.367(b)–4(b)” isadded in its place.

2. Paragraph (d)(3) Example 11A,paragraph (ii), the second, third andfourth sentences are removed and a sen-tence is added in their place.

3. Paragraph (e)(2), in the third, fourth,and fifth sentences, the parenthetical “(asin effect before February 23, 2000, see 26CFR part 1 revised as of April 1, 1999)” isadded immediately after “§7.367(b)–7 ofthis chapter” each place it appears.

4. Paragraph (g)(2)(iv), the parentheti-cal “(as in effect before February 23,2000, see 26 CFR part 1 revised as ofApril 1, 1999)” is added immediatelyafter “7.367(b)–2(b) of this chapter.”

The revisions read as follows:

§1.367(a)–3 Treatment of transfers ofstock or securities to foreign corpora-tions.

* * * * *

(d) * * *

(3) * * *

Example 11A. * * *

(ii) Result. * * * Assuming§1.367(b)–4(b) does not apply, there is noincome inclusion under section 367(b),and the amount of the gain recognitionagreement is $50.

Par. 3. Section 1.367(b)–0 is added toread as follows:

§1.367(b)–0 Table of contents.

This section lists the paragraphs con-tained in §§1.367(b)–0 through1.367(b)–6.

February 7, 2000 474 2000–6 I.R.B.

§1.367(b)–1 Other transfers.(a) Scope.(b) General rules.(1) Rules.(2) Example.(c) Notice required.(1) In general.(2) Persons subject to section 367(b) no-tice.(3) Time and manner for filing notice.(i) United States persons described in§1.367(b)–1(c)(2).(ii) Foreign corporations described in§1.367(b)–1(c)(2).(4) Information required.(5) Abbreviated notice provision.(6) Supplemental published guidance.

§1.367(b)–2 Definitions and specialrules.

(a) Controlled foreign corporation.(b) Section 1248 shareholder.(c) Section 1248 amount.(1) Rule.(2) Examples.(d) All earnings and profits amount.(1) General rule.(2) Rules for determining earnings andprofits.(i) Domestic rules generally applicable.(ii) Certain adjustments to earnings andprofits.(iii)Effect of section 332 liquidating dis-tribution.(3) Amount attributable to a block ofstock.(i) Application of section 1248 principles.(A) In general.(1) Rule.(2) Example.(B) Foreign shareholders.(ii) Limitation on amounts attributable toholding periods determined under section1223.(A) Rule.(B) Example.(iii)Exclusion of lower-tier earnings.(e) Treatment of deemed dividends.(1) In general.(2) Consequences of dividend characteri-zation.(3) Ordering rules.(4) Examples.(f) Deemed asset transfer and closing oftaxable year in certain section368(a)(1)(F) reorganizations.(1) Scope.(2) Deemed asset transfer.

(3) Other applicable rules.(4) Closing of taxable year.(g) Stapled stock under section 269B.(h) Section 953(d) domestication elec-tions.(1) Effect of election.(2) Post-election exchanges.(i) Section 1504(d) elections.(j) Sections 985 through 989.(1) Change in functional currency of aqualified business unit.(i) Rule.(ii) Example.(2) Previously taxed earnings and profits.(i) Exchanging shareholder that is aUnited States person.(ii) Exchanging shareholder that is a for-eign corporation.(3) Other rules.(k) Partnerships, trusts and estates.

§1.367(b)–3 Repatriation of foreign cor-porate assets in certain nonrecognitiontransactions.

(a) Scope.(b) Exchange of stock owned directly by aUnited States shareholder or by certainforeign corporate shareholders.(1) Scope.(2) United States shareholder.(3) Income inclusion.(i) Inclusion of all earnings and profitsamount.(ii) Examples.(iii) Recognition of exchange gain or losswith respect to capital [reserved].(4) [Reserved].(c) Exchange of stock owned by a UnitedStates person that is not a United Statesshareholder.(1) Scope.(2) Requirement to recognize gain.(3) Election to include all earnings andprofits amount.(4) De minimis exception.(5) Examples.(d) Carryover of certain foreign taxes.(1) Rule.(2) Example.

§1.367(b)–4 Acquisition of foreign cor-porate stock or assets by a foreign corpo-ration in certain nonrecognition transac-tions.

(a) Scope.(b) Income inclusion.(1) Exchange that results in loss of statusas section 1248 shareholder.

(i) Rule.(ii) Examples.(2) Receipt by exchanging shareholder ofpreferred or other stock in certain in-stances.(i) Rule.(ii) Examples.(3) Certain recapitalizations.(c) Exclusion of deemed dividend fromforeign personal holding company in-come.(1) Rule.(2) Example.(d) Rules for subsequent exchanges.(1) In general.(2) Subsequent dispositions by a foreignacquiring corporation.(3) Examples.

§1.367(b)–5 Distributions of stock de-scribed in section 355.

(a) In general.(1) Scope.(2) Treatment of distributees as exchang-ing shareholders.(b) Distribution by a domestic corpora-tion.(1) General rule.(2) Section 367(e) transactions.(3) Determining whether distributees areindividuals.(4) Applicable cross-references.(c) Pro rata distribution by a controlledforeign corporation.(1) Scope.(2) Adjustment to basis in stock and in-come inclusion.(3) Interaction with §1.367(b)–2(e)(3)(ii).(4) Basis redistribution.(d) Non-pro rata distribution by a con-trolled foreign corporation.(1) Scope.(2) Treatment of certain shareholders asdistributees.(3) Inclusion of excess section 1248amount by exchanging shareholder.(4) Interaction with §1.367(b)–2(e)(3)(ii).(i) Limited application.(ii) Interaction with predistributionamount.(e) Definitions.(1) Predistribution amount.(2) Postdistribution amount.(f) Exclusion of deemed dividend fromforeign personal holding company in-come.(g) Examples.

§ 1.367(b)–6 Effective dates and coordi-nation rules.

(a) Effective date.(1) In general.(2) Exception.(b) Certain recapitalizations described in§1.367(b)–4(b)(3).(c) Use of reasonable method to complywith prior published guidance.(1) Prior exchanges.(2) Future exchanges.(d) Effect of removal of attribution rules.

Par. 4. Sections 1.367(b)–1 and1.367(b)–2 are revised to read as follows:§1.367(b)–1 Other transfers.

(a) Scope. The regulations promul-gated under section 367(b) (the section367(b) regulations) set forth rules regard-ing the proper inclusions and adjustmentsthat must be made as a result of an ex-change described in section 367(b) (a sec-tion 367(b) exchange). A section 367(b)exchange is any exchange described insection 332, 351, 354, 355, 356 or 361,with respect to which the status of a for-eign corporation as a corporation is rele-vant for determining the extent to whichincome shall be recognized or for deter-mining the effect of the transaction onearnings and profits, basis of stock or se-curities, basis of assets, or other relevanttax attributes. Notwithstanding the pre-ceding sentence, a section 367(b) ex-change does not include a transfer to theextent the foreign corporation fails to betreated as a corporation by reason of sec-tion 367(a)(1). See §1.367(a)–3(b)(2)(ii)for an illustration of the interaction of sec-tion 367(a) and (b).

(b) General rules—(1) Rules. Thefollowing general rules apply under thesection 367(b) regulations—

(i) A foreign corporation in a section367(b) exchange is considered to be a cor-poration and, as a result, all of the relatedprovisions (e.g., section 381) shall apply,except to the extent provided in the sec-tion 367(b) regulations; and

(ii) Nothing in the section 367(b) regu-lations shall permit—

(A) The nonrecognition of income thatwould otherwise be required to be recog-nized under another provision of the In-ternal Revenue Code or the regulationsthereunder; or

(B) The recognition of a loss or deduc-tion that would otherwise not be recog-nized under another provision of the In-

ternal Revenue Code or the regulationsthereunder.

(2) Example. The following exampleillustrates the rules of this paragraph (b):

Example—(i) Facts. DC, a domestic corpora-tion, owns 90 percent of P, a partnership. The re-maining 10 percent of P is owned by a person unre-lated to DC. P owns all of the outstanding stock ofFC, a controlled foreign corporation. FC liquidatesinto P.

(ii) Result. FC’s liquidation is not a transaction

described in section 332. Nothing in the section

367(b) regulations, including §1.367(b)–2(k), per-

mits FC’s liquidation to qualify as a liquidation de-

scribed in section 332.

(c) Notice Required—(1) In general.A notice under this paragraph (c) (section367(b) notice) must be filed with regardto any person described in paragraph(c)(2) of this section. A section 367(b)notice must be filed in the time and man-ner described in paragraph (c)(3) of thissection and must include the informationdescribed in paragraph (c)(4) of this sec-tion.

(2) Persons subject to section 367(b)notice. The following persons are de-scribed in this paragraph (c)(2)—

(i) A shareholder described in§1.367(b)–3(b)(1) that realizes income ina transaction described in §1.367(b)–3(a);

(ii) A shareholder that makes the elec-tion described in §1.367(b)–3(c)(3);

(ii i) A shareholder described in§1.367(b)–4(b)(1)(i)(A)(1) or (2) that re-alizes income in a transaction described in§1.367(b)–4(a); and

(iv) A shareholder that realizes incomein a transaction described in§1.367(b)–5(c) or 1.367(b)–5(d) and thatis either–

(A) A section 1248 shareholder of thedistributing or controlled corporation; or

(B) A foreign corporation with one ormore shareholders that are described inparagraph (c)(2)(iv)(A) of this section.

(3) Time and manner for filing notice—(i) United States persons described in§1.367(b)–1(c)(2). A United States per-son described in paragraph (c)(2) of thissection must file a section 367(b) noticeattached to a timely filed Federal tax re-turn (including extensions) for the per-son’s taxable year in which income is re-alized in the section 367(b) exchange. Inthe case of a shareholder that makes theelection described in §1.367(b)–3(c)(3),notification of such election must be sentto the foreign acquired corporation (or its

successor in interest) on or before the datethe section 367(b) notice is filed, so thatappropriate corresponding adjustmentscan be made in accordance with the rulesof §1.367(b)–2(e).

(ii) Foreign corporations described in§1.367(b)–1(c)(2). Each United Statesperson listed in this paragraph (c)(3)(ii)must file a section 367(b) notice with re-gard to a foreign corporation described inparagraph (c)(2) of this section. Such no-tice must be attached to a timely filedFederal tax return (including extensions)for the United States person’s taxable yearin which income is realized in the section367(b) exchange and, if the United Statesperson is required to file a Form 5471 (In-formation Return of U.S. Persons WithRespect To Certain Foreign Corpora-tions), the section 367(b) notice must beattached to the Form 5471. The followingpersons are listed in this paragraph(c)(3)(ii)—

(A) United States shareholders (as de-fined in §1.367(b)–3(b)(2)) of foreigncorporations described in paragraph(c)(2)(i) of this section; and

(B) Section 1248 shareholders of for-eign corporations described in paragraph(c)(2)(iii) or (iv) of this section.

(4) Information required. Except asprovided in paragraph (c)(5) of this sec-tion, a section 367(b) notice shall includethe following information—

(i) A statement that the exchange is asection 367(b) exchange;

(ii) A complete description of the ex-change;

(iii) A description of any stock, securi-ties or other consideration transferred orreceived in the exchange;

(iv) A statement that describes anyamount required, under the section 367(b)regulations, to be taken into account as in-come or loss or as an adjustment to basis,earnings and profits, or other tax attrib-utes as a result of the exchange;

(v) Any information that is or would berequired to be furnished with a Federal in-come tax return pursuant to regulationsunder section 332, 351, 354, 355, 356,361 or 368 (whether or not a Federal in-come tax return is required to be filed), ifsuch information has not otherwise beenprovided by the person filing the section367(b) notice;

(vi) Any information required to befurnished with respect to the exchange

2000–6 I.R.B. 475 February 7, 2000

under sections 6038, 6038A, 6038B,6038C or 6046, or the regulations underthose sections, if such information has nototherwise been provided by the person fil-ing the section 367(b) notice; and

(vii) If applicable, a statement that theshareholder is making the election de-scribed in §1.367(b)–3(c)(3). This state-ment must include—

(A) A copy of the information theshareholder received from the foreign ac-quired corporation (or its successor in in-terest) establishing and substantiating theshareholder’s all earnings and profitsamount with respect to the shareholder’sstock in the foreign acquired corporation;and

(B) A representation that the share-holder has notified the foreign acquiredcorporation (or its successor in interest)that the shareholder is making the electiondescribed in §1.367(b)–3(c)(3).

(5) Abbreviated notice provision. Inthe case of a foreign acquired corporationthat has never had earnings and profitsthat would result in any shareholder hav-ing an all earnings and profits amount, ashareholder making the election describedin §1.367(b)–3(c)(3) may satisfy the in-formation requirements of paragraph(c)(4) of this section by filing a section367(b) notice that includes–

(i) A statement from the foreign ac-quired corporation (or its successor in in-terest) that the foreign acquired corpora-tion has never had any earnings andprofits that would result in any share-holder having an all earnings and profitsamount; and

(ii) The information described in para-graphs (c)(4)(i) through (iii) of this sec-tion.

(6) Supplemental published guidance.The section 367(b) notice requirementsmay be updated or amended by revenueprocedure or other published guidance.§1.367(b)–2 Definitions and specialrules.

(a) Controlled foreign corporation.The term controlled foreign corporationmeans a controlled foreign corporation asdefined in section 957 (taking into ac-count section 953(c)).

(b) Section 1248 shareholder. Theterm section 1248 shareholder means anyUnited States person that satisfies theownership requirements of section1248(a)(2) or (c)(2) with respect to a for-

eign corporation.(c) Section 1248 amount—(1) Rule.

The term section 1248 amountwith re-spect to stock in a foreign corporationmeans the net positive earnings and prof-its (if any) that would have been attribut-able to such stock and includible in in-come as a dividend under section 1248and the regulations thereunder if the stockwere sold by the shareholder. In the caseof a transaction in which the shareholderis a foreign corporation (foreign share-holder), the following additional rulesshall apply–

(i) The foreign shareholder shall bedeemed to be a United States person forpurposes of this paragraph (c), except thatthe foreign shareholder shall not be con-sidered a United States person for pur-poses of determining whether the stockowned by the foreign shareholder is stockof a controlled foreign corporation, and

(ii) The foreign shareholder’s holdingperiod in the stock of the foreign corpora-tion shall be determined by reference tothe period that the foreign shareholder’ssection 1248 shareholders held (directlyor indirectly) an interest in the foreigncorporation. This paragraph (c)(1)(ii) ap-plies in addition to the section 1248 regu-lations’ incorporation of section 1223holding periods, as modified by§1.367(b)–4(d) (as applicable).

(2) Examples. The following examplesillustrate the rules of this paragraph (c):

Example 1—(i) Facts. DC, a domestic corpora-tion, owns all of the outstanding stock of FC1, acontrolled foreign corporation (CFC). FC1 owns allof the outstanding stock of FC2, a CFC. DC has al-ways owned all of the stock of FC1, and FC1 has al-ways owned all of the stock of FC2.

(ii) Result. Under this paragraph (c), DC’s sec-tion 1248 amount with respect to its FC1 stock iscomputed by reference to all of FC1’s and FC2’searnings and profits. See section 1248(c)(2). Be-cause FC1’s section 1248 shareholder (DC) alwaysindirectly held all of the stock of FC2, FC1’s section1248 amount with respect to its FC2 stock is com-puted by reference to all of FC2’s earnings and prof-its.

Example 2—(i) Facts. DC, a domestic corpora-tion, owns 40 percent of the outstanding stock ofFC1, a foreign corporation. The other 60 percent ofFC1 stock is owned (directly and indirectly) by for-eign persons that are unrelated to DC. FC1 owns allof the outstanding stock of FC2, a foreign corpora-tion. On January 1, 2001, DC purchases the remain-ing 60 percent of FC1 stock.

(ii) Result. Under this paragraph (c), DC’s sec-tion 1248 amount with respect to its FC1 stock iscomputed by reference to FC1’s and FC2’s earningsand profits that accumulated on or after January 1,2001, the date FC1 and FC2 became controlled for-

eign corporations (CFCs). See section 1248(a). Be-cause FC1 is not considered a United States personfor purposes of determining whether FC2 is a CFC,FC1’s section 1248 amount with respect to its FC2stock is computed by reference to FC2’s earningsand profits that accumulated on or after January 1,2001, the date FC2 became an actual CFC.

Example 3—(i) Facts. FC1, a foreign corpora-tion, owns all of the outstanding stock of FC2, a for-eign corporation. DC is a domestic corporation thatis unrelated to FC1, FC2, and their direct and indi-rect owners. On January 1, 2001, DC purchases allof the outstanding stock of FC1.

(ii) Result. Under this paragraph (c), DC’s sec-tion 1248 amount with respect to its FC1 stock iscomputed by reference to FC1’s and FC2’s earningsand profits that accumulated on or after January 1,2001, the first day DC held the stock of FC1. Seesection 1248(a). FC1’s section 1248 amount withrespect to its FC2 stock is computed by reference toFC2’s earnings and profits that accumulated on orafter January 1, 2001, the first day FC1’s section1248 shareholder (DC) indirectly held the stock ofFC2.

Example 4—(i) Facts. DC, a domestic corpora-tion, directly owns all of the outstanding stock ofFC1 and FC2, controlled foreign corporations. DChas always owned all of the stock of FC1 and FC2.On January 1, 2001, DC contributes all of the stockof FC2 to FC1 in a nonrecognition exchange thatdoes not require an income inclusion under the sec-tion 367(a) or 367(b) regulations. See §§1.367(a)–8and 1.367(b)–4.

(ii) Result. Under this paragraph (c), DC’s sec-tion 1248 amount with respect to its FC1 stock iscomputed by reference to all of FC1’s and FC2’searnings and profits. See section 1248(c)(2). Be-cause FC1’s section 1248 shareholder (DC) alwaysheld (directly or indirectly) all of the stock of FC2,FC1’s section 1248 amount with respect to its FC2stock is computed by reference to all of FC2’s earn-ings and profits

(d) All earnings and profits amount—(1) General rule. The term all earningsand profits amountwith respect to stockin a foreign corporation means the netpositive earnings and profits (if any) de-termined as provided under paragraph(d)(2) of this section and attributable tosuch stock as provided under paragraph(d)(3) of this section. The all earningsand profits amount shall be determinedwithout regard to the amount of gain thatwould be realized on a sale or exchangeof the stock of the foreign corporation.

(2) Rules for determining earnings andprofits—(i) Domestic rules generally ap-plicable. For purposes of this paragraph(d), except as provided in sections312(k)(4) and (n)(8), 964 and 986, theearnings and profits of a foreign corpora-tion for any taxable year shall be deter-mined according to principles substan-tially similar to those applicable todomestic corporations.

February 7, 2000 476 2000–6 I.R.B.

2000–6 I.R.B. 477 February 7, 2000

(ii) Certain adjustments to earningsand profits. Notwithstanding paragraph(d)(2)(i) of this section, for purposes ofthis paragraph (d), the earnings and prof-its of a foreign corporation for any taxableyear shall not include the amounts speci-fied in section 1248(d). In the case ofamounts specified in section 1248(d)(4),the preceding sentence requires that theearnings and profits for any taxable yearbe decreased by the net positive amount(if any) of earnings and profits attribut-able to activities described in section1248(d)(4), and increased by the net re-duction (if any) in earnings and profits at-tributable to activities described in section1248(d)(4).

(iii) Effect of section 332 liquidatingdistribution. The all earnings and profitsamount with respect to stock of a corpora-tion that distributes all of its property in aliquidation described in section 332 shallbe determined without regard to the ad-justments prescribed by section 312(a)and (b) resulting from the distribution ofsuch property in liquidation, except thatgain or loss realized by the corporation onthe distribution shall be taken into ac-count to the extent provided in section312(f)(1). See §1.367(b)–3(b)(3)(ii) Ex-ample 3.

(3) Amount attributable to a block ofstock—(i) Application of section 1248principles—(A) In general—(1) Rule.The all earnings and profits amount withrespect to stock of a foreign corporation isdetermined according to the attributionprinciples of section 1248 and the regula-tions thereunder. The attribution princi-ples of section 1248 shall apply withoutregard to the requirements of section 1248that are not relevant to the determinationof a shareholder’s pro rata portion ofearnings and profits. Thus, for example,the all earnings and profits amount is de-termined without regard to whether theforeign corporation was a controlled for-eign corporation at any time during thefive years preceding the section 367(b)exchange in question, without regard towhether the shareholder owned a 10 per-cent or greater interest in the stock, andwithout regard to whether the earningsand profits of the foreign corporationwere accumulated in post-1962 taxableyears or while the corporation was a con-trolled foreign corporation.

(2) Example. The following example

illustrates the rules of this paragraph(d)(3)(i)(A):

Example—(i) Facts. On January 1, 2001, DC, adomestic corporation, purchases 9 percent of theoutstanding stock of FC, a foreign corporation. OnJanuary 1, 2002, DC purchases an additional 1 per-cent of FC stock. On January 1, 2003, DC ex-changes its stock in FC in a section 367(b) exchangein which DC is required to include the all earningsand profits amount in income. FC was not a con-trolled foreign corporation during the entire periodDC held its FC stock.

(ii) Result. The all earnings and profits amountwith respect to DC’s stock in FC is computed by ref-erence to 9 percent of FC’s earnings and profits fromJanuary 1, 2001, through December 31, 2001, andby reference to 10 percent of FC’s earnings andprofits from January 1, 2002, through January 1,2003.

(B) Foreign shareholders. In the caseof a transaction in which the exchangingshareholder is a foreign corporation (for-eign shareholder), the following addi-tional rules shall apply–

(1) The attribution principles of sec-tion 1248 shall apply without regard towhether the person directly owning thestock is a United States person; and

(2) The foreign shareholder’s holdingperiod in the stock of the foreign acquiredcorporation shall be determined by refer-ence to the period that the foreign share-holder’s United States shareholders (asdefined in §1.367(b)–3(b)(2)) held (di-rectly or indirectly) an interest in the for-eign acquired corporation. This para-graph (d)(3)(i)(B)(2) applies in additionto the section 1248 regulations’ incorpo-ration of section 1223 holding periods, asmodified by paragraph (d)(3)(ii) of thissection and §1.367(b)–4(d) (as applica-ble).

(ii) Limitation on amounts attributableto holding periods determined under sec-tion 1223—(A) Rule. In applying the at-tribution principles of section 1248 andthe regulations thereunder to determinethe all earnings and profits amount withrespect to the stock of a foreign corpora-tion, earnings and profits attributable to asection 1223(2) holding period that re-lates to a period of direct ownership of thestock of the foreign corporation by a non-United States person shall not be in-cluded, except to the extent of earningsand profits attributable to a period whenthe stock of the foreign corporation wasindirectly owned by United States share-holders (as defined in §1.367(b)–3(b)(2)).

(B) Example. The following exampleillustrates the rules of this paragraph

(d)(3)(ii):Example—(i) Facts. (A) FC1 is a foreign corpo-

ration. The outstanding stock of FC1 is directlyowned by the following unrelated persons: 20 per-cent by DP, a domestic partnership; 20 percent byDC, a domestic corporation; 20 percent by FC, a for-eign corporation that is directly and indirectlyowned by foreign persons; 20 percent by FP, a for-eign partnership that is equally owned by 2 partners,DI, a United States citizen, and FI, a nonresidentalien; and 20 percent by a variety of minority share-holders, none of whom owns, applying the owner-ship rules of section 958, 10 percent or more of theoutstanding stock of FC (the small shareholders).

(B) FC1 owns all of the outstanding stock ofFC2, a foreign corporation that is not a controlledforeign corporation subject to the rules of section953(c). FC2 has net positive earnings and profits.In a reorganization described in section368(a)(1)(B), DA, a domestic corporation, acquiresall of the stock of FC2 from FC1 in exchange forDA voting stock.

(ii) Result. (A) Under section 1223(2), DA holdsthe stock of FC2 with a holding period that includesthe period that FC2 was held by FC1. As a result,the rules of this paragraph (d)(3)(ii) apply for pur-poses of computing DA’s all earnings and profitsamount.

(B) In applying the attribution principles of sec-tion 1248, earnings and profits attributable to a sec-tion 1223(2) holding period that refers to a period ofdirect ownership of the stock of a foreign corpora-tion by a non-United States person are not included,except to the extent the stock of the foreign corpora-tion was indirectly owned by United States share-holders as defined in §1.367(b)–3(b)(2). Accord-ingly, DA’s all earnings and profits amount does notinclude the FC2 earnings and profits attributable toFC, FI, and the small shareholders. DA’s all earn-ings and profits amount does include the FC2 earn-ings and profits attributable to DP, DC, and DI. See§1.367(b)–2(k) for rules concerning the treatment ofpartnerships under the section 367(b) regulations.

(iii) Exclusion of lower-tier earnings.In applying the attribution principles ofsection 1248 and the regulations thereun-der to determine the all earnings and prof-its amount with respect to stock of a for-eign corporation, the earnings and profitsof subsidiaries of the foreign corporationshall not be taken into account notwith-standing section 1248(c)(2).

(e) Treatment of deemed dividends—(1) In general. In certain circumstancesthese regulations provide that an exchang-ing shareholder shall include an amountin income as a deemed dividend. Thisparagraph provides rules for the treatmentof the deemed dividend.

(2) Consequences of dividend charac-terization. A deemed dividend describedin paragraph (e)(1) of this section shall betreated as a dividend for purposes of theInternal Revenue Code. The deemed div-idend shall be considered as paid out of

February 7, 2000 478 2000–6 I.R.B.

the earnings and profits with respect towhich the amount of the deemed dividendwas determined. Thus, for example, adeemed dividend that is determined byreference to the all earnings and profitsamount or the section 1248 amount willnever be considered as paid out of (andtherefore will never reduce) earnings andprofits specified in section 1248(d), be-cause such earnings and profits are ex-cluded in computing the all earnings andprofits amount (under paragraph (d)(2)(ii)of this section) and the section 1248amount (under section 1248(d) and para-graph (c)(1) of this section). If thedeemed dividend is determined by refer-ence to the earnings and profits of a for-eign corporation that is owned indirectly(i.e., through one or more tiers of interme-diate owners) by the person that is re-quired to include the deemed dividend inincome, the deemed dividend shall beconsidered as having been paid by suchcorporation to such person through the in-termediate owners, rather than directly tosuch person.

(3) Ordering rules. In the case of anexchange of stock in which the exchang-ing shareholder is treated as receiving adeemed dividend from a foreign corpora-tion, the following ordering rules con-cerning the timing, treatment, and effectof such a deemed dividend shall apply.See also paragraph (j)(2) of this section.

(i) For purposes of the section 367(b)regulations, the gain realized by an ex-changing shareholder shall be determinedbefore increasing (as provided in para-graph (e)(3)(ii) of this section) the basis inthe stock of the foreign corporation by theamount of the deemed dividend.

(ii) Except as provided in paragraph(e)(3)(i) of this section, the deemed divi-dend shall be considered to be receivedimmediately before the exchanging share-holder’s receipt of consideration for itsstock in the foreign corporation, and theshareholder ’s basis in the stock ex-changed shall be increased by the amountof the deemed dividend. Such basis in-crease shall be taken into account beforedetermining the gain otherwise recog-nized on the exchange (for example,under section 356), the basis that the ex-changing shareholder takes in the prop-erty that it receives in the exchange(under section 358(a)(1)), and the basisthat the transferee otherwise takes in the

transferred stock (under section 362).(iii) Except as provided in paragraph

(e)(3)(i) of this section, the earnings andprofits of the appropriate foreign corpora-tion shall be reduced by the deemed divi-dend amount before determining the con-sequences of the recognition of gain inexcess of the deemed dividend amount(for example, under section 356(a)(2) orsections 356(a)(1) and 1248).

(4) Examples. The following exam-ples illustrate the rules of this paragraph(e):

Example 1. DC, a domestic corporation, ex-changes stock in FC, a foreign corporation, in a sec-tion 367(b) exchange in which DC includes the allearnings and profits amount in income as a deemeddividend. Under paragraph (e)(2) of this section, adeemed dividend is treated as a dividend for pur-poses of the Internal Revenue Code. As a result, ifthe requirements of section 902 are met, DC mayqualify for a deemed paid foreign tax credit with re-spect to the deemed dividend that it receives fromFC.

Example 2. DC, a domestic corporation, ex-changes stock in FC1, a foreign corporation that is acontrolled foreign corporation, in a transaction inwhich DC is required to include the section 1248amount in income as a deemed dividend. A portionof the section 1248 amount is determined by refer-ence to the earnings and profits of FC1 (the upper-tier portion of the section 1248 amount), and the re-mainder of the section 1248 amount is determinedby reference to the earnings and profits of FC2,which is a wholly owned foreign subsidiary of FC1(the lower-tier portion of the section 1248 amount).Under paragraph (e)(2) of this section, DC computesits deemed paid foreign tax credit as if the lower-tierportion of the section 1248 amount were distributedas a dividend by FC2 to FC1, and as if such portionand the upper-tier portion of the section 1248amount were then distributed as a dividend by FC1to DC.

Example 3. DC, a domestic corporation, ex-changes stock in FC, a foreign corporation that is acontrolled foreign corporation, in a transaction inwhich DC realizes gain of $100 (prior to the applica-tion of the section 367(b) regulations). In connec-tion with the transaction, DC is required to include$40 in income as a deemed dividend under the sec-tion 367(b) regulations. In addition to receivingproperty permitted to be received under section 354without the recognition of gain, DC also receivescash in the amount of $70. Under paragraph (e)(3)of this section, the $40 deemed dividend increasesDC’s basis in its FC stock before determining thegain to be recognized under section 356. Thus, inapplying section 356, DC is considered to realize$60 of gain on the exchange, all of which is recog-nized under section 356(a)(1).

(f) Deemed asset transfer and closingof taxable year in certain section368(a)(1)(F) reorganizations—(1)Scope. This paragraph applies to a reor-ganization described in section368(a)(1)(F) in which the transferor cor-

poration is a foreign corporation.(2) Deemed asset transfer. In a reor-

ganization described in paragraph (f)(1)of this section, there is considered toexist—

(i) A transfer of assets by the foreigntransferor corporation to the acquiringcorporation in exchange for stock (orstock and securities) of the acquiring cor-poration and the assumption by the ac-quiring corporation of the foreign trans-feror corporation’s liabilities;

(ii) A distribution of such stock (orstock and securities) by the foreign trans-feror corporation to its shareholders (orshareholders and security holders); and

(iii) An exchange by the foreign trans-feror corporation’s shareholders (or share-holders and security holders) of theirstock (or stock and securities) for stock(or stock and securities) of the acquiringcorporation.

(3) Other applicable rules. For pur-poses of this paragraph (f), it is immater-ial that the applicable foreign or domesticlaw treats the acquiring corporation as acontinuation of the foreign transferor cor-poration.

(4) Closing of taxable year.In a reor-ganization described in paragraph (f)(1)of this section, the taxable year of the for-eign transferor corporation shall end withthe close of the date of the transfer and thetaxable year of the acquiring corporationshall end with the close of the date onwhich the transferor’s taxable year wouldhave ended but for the occurrence of thereorganization if–

(i) The acquiring corporation is a do-mestic corporation; or

(ii) The foreign transferor corporationhas effectively connected earnings andprofits (as defined in section 884(d)) oraccumulated effectively connected earn-ings and profits (as defined in section884(b)(2)(B)(ii)).

(g) Stapled stock under section 269B.For rules treating a foreign corporation asa domestic corporation if it and a domes-tic corporation are stapled entities, seesection 269B. The deemed conversion ofa foreign corporation to a domestic corpo-ration under section 269B is treated as areorganization under section 368(a)(1)(F).

(h) Section 953(d) domestication elec-tions—(1) Effect of election. A foreigncorporation that elects under section953(d) to be treated as a domestic corpo-

ration shall be treated for purposes of sec-tion 367(b) as transferring, as of the firstday of the first taxable year for which theelection is effective, all of its assets to adomestic corporation in a reorganizationdescribed in section 368(a)(1)(F).Notwithstanding paragraph (d) of thissection, for purposes of determining theconsequences of the reorganization under§1.367(b)–3, the all earnings and profitsamount shall not be considered to includeearnings and profits accumulated in tax-able years beginning before January 1,1988.

(2) Post-election exchanges. For pur-poses of applying section 367(b) to post-election exchanges with respect to a cor-poration that has made a valid electionunder section 953(d) to be treated as a do-mestic corporation, such corporation shallbe treated as a domestic corporation as toearnings and profits that were taken intoaccount at the time of the section 953(d)election or which accrue after such elec-tion, and shall be treated as a foreign cor-poration as to earnings and profits accu-mulated in taxable years beginning beforeJanuary 1, 1988. Thus, for example, if thesection 953(d) corporation subsequentlytransfers its assets to a domestic corpora-tion (other than another section 953(d)corporation) in a transaction described insection 381(a), the rules of §1.367(b)–3shall apply to such transaction to the ex-tent of the section 953(d) corporation’searnings and profits accumulated in tax-able years beginning before January 1,1988.

(i) Section 1504(d) elections. An elec-tion under section 1504(d), which permitscertain foreign corporations to be treatedas domestic corporations, is treated as atransfer of property to a domestic corpo-ration and will generally constitute a reor-ganization described in section368(a)(1)(F). However, if an electionunder section 1504(d) is made with re-spect to a foreign corporation from thefirst day of the foreign corporation’s exis-tence, then the foreign corporation shallbe treated as a domestic corporation, andthe section 367(b) regulations will notapply.

(j) Sections 985 through 989—(1)Change in functional currency of a quali-fied business unit—(i) Rule. If, as a resultof a transaction described in section381(a), a qualified business unit (as de-

fined in section 989(a)) (QBU) has a dif-ferent functional currency determinedunder the rules of section 985(b) than itused prior to the transaction, then theQBU shall be deemed to have automati-cally changed its functional currency im-mediately prior to the transaction. AQBU that is deemed to change its func-tional currency pursuant to this paragraph(j) must make the adjustments describedin §1.985–5.

(ii) Example. The following example illustratesthe rule of this paragraph (j)(1):

Example—(i) Facts. DC, a domestic corpora-tion, owns 100 percent of FC1, a foreign corpora-tion. FC1 owns and operates a qualified businessunit (QBU) (B1) in France, whose functional cur-rency is the euro. FC2, an unrelated foreign corpo-ration, owns and operates a QBU (B2) in France,whose functional currency is the dollar. FC2 ac-quires FC1’s assets (including B1) in a reorganiza-tion described in section 368(a)(1)(C). As a part ofthe reorganization, B1 and B2 combine their opera-tions into one QBU. Applying the rules of section985(b), the functional currency of the combined op-erations of B1 and B2 is the euro.

(ii) Result. FC2’s acquisition of FC1’s assets is asection 367(b) exchange that is described in section381(a). Because the functional currency of the com-bined operations of B1 and B2 after the exchange isthe euro, B2 is deemed to have automaticallychanged its functional currency to the euro immedi-ately prior to the section 367(b) exchange. B2 mustmake the adjustments described in §1.985–5.

(2) Previously taxed earnings andprofits—(i) Exchanging shareholder thatis a United States person.If an exchang-ing shareholder that is a United Statesperson is required to include in income ei-ther the all earnings and profits amount orthe section 1248 amount under the provi-sions of §1.367(b)–3 or 1.367(b)–4, thenimmediately prior to the exchange, andsolely for the purpose of computing ex-change gain or loss under section 986(c),the exchanging shareholder shall betreated as receiving a distribution of pre-viously taxed earnings and profits fromthe appropriate foreign corporation that isattributable (under the principles of sec-tion 1248) to the exchanged stock. If anexchanging shareholder that is a UnitedStates person is a distributee in an ex-change described in §1.367(b)–5(c) or(d), then immediately prior to the ex-change, and solely for the purpose ofcomputing exchange gain or loss undersection 986(c), the exchanging share-holder shall be treated as receiving a dis-tribution of previously taxed earnings andprofits from the appropriate foreign cor-poration to the extent such shareholder

has a diminished interest in such previ-ously taxed earnings and profits after theexchange. The exchange gain or loss rec-ognized under this paragraph (j)(2)(i) willincrease or decrease the exchangingshareholder’s adjusted basis in the stockof the foreign corporation for purposes ofcomputing gain or loss realized with re-spect to the stock on the transaction. Theexchanging shareholder’s dollar basiswith respect to each account of previouslytaxed income shall be increased or de-creased by the exchange gain or loss rec-ognized.

(ii) Exchanging shareholder that is aforeign corporation. If an exchangingshareholder that is a foreign corporation isrequired to include in income either theall earnings and profits amount or the sec-tion 1248 amount under the provisions of§1.367(b)–3 or 1.367(b)–4, then, immedi-ately prior to the exchange, the exchang-ing shareholder shall be treated as receiv-ing a distribution of previously taxedearnings and profits from the appropriateforeign corporation that is attributable(under the principles of section 1248) tothe exchanged stock. If an exchangingshareholder that is a foreign corporation isa distributee in an exchange described in§1.367(b)–5(c) or (d), then the exchang-ing shareholder shall be treated as receiv-ing (immediately prior to the exchange) adistribution of previously taxed earningsand profits from the appropriate foreigncorporation. Such distribution shall bemeasured by the extent to which the ex-changing shareholder’s direct or indirectUnited States shareholders (as defined insection 951(b)) have a diminished interestin such previously taxed earnings andprofits after the exchange.

(3) Other rules. See sections 985through 989 for other currency rules thatmay apply in connection with a section367(b) exchange.

(k) Partnerships, trusts and estates. Inapplying the section 367(b) regulations,stock of a corporation that is owned by aforeign partnership, trust or estate shall beconsidered as owned proportionately byits partners, owners, or beneficiariesunder the principles of §1.367(e)–1(b)(2).Stock owned by an entity that is disre-garded as an entity separate from itsowner under §301.7701–3 is owned di-rectly by the owner of such entity. In ap-plying §1.367(b)–5(b), the principles of

2000–6 I.R.B. 479 February 7, 2000

§1.367(e)–1(b)(2) shall also apply to adomestic partnership, trust or estate.

Par. 5. Section 1.367(b)–3 is added toread as follows:§1.367(b)–3 Repatriation of foreign cor-porate assets in certain nonrecognitiontransactions.

(a) Scope. This section applies to anacquisition by a domestic corporation (thedomestic acquiring corporation) of the as-sets of a foreign corporation (the foreignacquired corporation) in a liquidation de-scribed in section 332 or an asset acquisi-tion described in section 368(a)(1).

(b) Exchange of stock owned directlyby a United States shareholder or by cer-tain foreign corporate shareholders—(1)Scope. This paragraph (b) applies in thecase of an exchanging shareholder that iseither—

(i) A United States shareholder of theforeign acquired corporation; or

(ii) A foreign corporation with respectto which there are one or more UnitedStates shareholders.

(2) United States shareholder. For pur-poses of this section (and for purposes ofthe other section 367(b) regulation provi-sions that specifically refer to this para-graph (b)(2)), the term United Statesshareholdermeans any shareholder de-scribed in section 951(b) (without regardto whether the foreign corporation is acontrolled foreign corporation), and alsoany shareholder described in section953(c)(1)(A) (but only if the foreign cor-poration is a controlled foreign corpora-tion subject to the rules of section 953(c)).

(3) Income inclusion—(i) Inclusion ofall earnings and profits amount. An ex-changing shareholder shall include in in-come as a deemed dividend the all earn-ings and profits amount with respect to itsstock in the foreign acquired corporation.For the consequences of the deemed divi-dend, see §1.367(b)–2(e). Notwithstand-ing §1.367(b)–2(e), however, a deemeddividend from the foreign acquired corpo-ration to an exchanging foreign corporateshareholder shall not qualify for the ex-ception from foreign personal holdingcompany income provided by section954(c)(3)(A)(i), although it may qualifyfor the look-through treatment providedby section 904(d)(3) if the requirementsof that section are met with respect to thedeemed dividend.

(ii) Examples. The following exam-

ples illustrate the rules of paragraph(b)(3)(i) of this section:

Example 1—(i) Facts. DC, a domestic corpora-tion, owns all of the outstanding stock of FC, a for-eign corporation. The stock of FC has a value of$100, and DC has a basis of $30 in such stock. Theall earnings and profits amount attributable to theFC stock owned by DC is $20, of which $15 is de-scribed in section 1248(a) and the remaining $5 isnot (for example, because it accumulated prior to1963). FC has a basis of $50 in its assets. In a liqui-dation described in section 332, FC distributes all ofits property to DC, and the FC stock held by DC iscanceled.

(ii) Result. Under paragraph (b)(3)(i) of this sec-tion, DC must include $20 in income as a deemeddividend from FC. Under section 337(a) FC doesnot recognize gain or loss in the assets that it distrib-utes to DC, and under section 334(b), DC takes abasis of $50 in such assets. Because the require-ments of section 902 are met, DC qualifies for adeemed paid foreign tax credit with respect to thedeemed dividend that it receives from FC.

Example 2—(i) Facts. DC, a domestic corpora-tion, owns all of the outstanding stock of FC, a for-eign corporation. The stock of FC has a value of$100, and DC has a basis of $30 in such stock. Theall earnings and profits amount attributable to theFC stock owned by DC is $75. FC has a basis of$50 in its assets. In a liquidation described in sec-tion 332, FC distributes all of its property to DC, andthe FC stock held by DC is canceled.

(ii) Result. Under paragraph (b)(3)(i) of this sec-tion, DC must include $75 in income as a deemeddividend from FC. Under section 337(a) FC doesnot recognize gain or loss in the assets that it distrib-utes to DC, and under section 334(b), DC takes abasis of $50 in such assets. Because the require-ments of section 902 are met, DC qualifies for adeemed paid foreign tax credit with respect to thedeemed dividend that it receives from FC.

Example 3—(i) Facts. DC, a domestic corpora-tion, owns 80 percent of the outstanding stock ofFC, a foreign corporation. DC has owned its 80 per-cent interest in FC since FC was incorporated. Theremaining 20 percent of the outstanding stock of FCis owned by a person unrelated to DC (the minorityshareholder). The stock of FC owned by DC has avalue of $80, and DC has a basis of $24 in suchstock. The stock of FC owned by the minorityshareholder has a value of $20, and the minorityshareholder has a basis of $18 in such stock. FC’sonly asset is land having a value of $100, and FC hasa basis of $50 in the land. Gain on the land wouldnot generate earnings and profits qualifying undersection 1248(d) for an exclusion from earnings andprofits for purposes of section 1248. FC has earn-ings and profits of $20 (determined under the rulesof §1.367(b)–2(d)(2)(i) and (ii)), $16 of which is at-tributable to the stock owned by DC under the rulesof §1.367(b)–2(d)(3). FC subdivides the land anddistributes to the minority shareholder land with avalue of $20 and a basis of $10. As part of the sametransaction, in a liquidation described in section 332,FC distributes the remainder of its land to DC, andthe FC stock held by DC and the minority share-holder is canceled.

(ii) Result. Under section 336, FC must recog-nize the $10 of gain it realizes in the land it distrib-utes to the minority shareholder, and under section

331 the minority shareholder recognizes its gain of$2 in the stock of FC. Such gain is included in in-come by the minority shareholder as a dividend tothe extent provided in section 1248 if the minorityshareholder is a United States person that is de-scribed in section 1248(a)(2). Under§1.367(b)–2(d)(2)(iii), the $10 of gain recognizedby FC increases its earnings and profits for purposesof computing the all earnings and profits amountand, as a result, $8 of such increase (80 percent of$10) is considered to be attributable to the FC stockowned by DC under §1.367(b)–2(d)(3)(i)(A)(1).DC’s all earnings and profits amount with respect toits stock in FC is $24 (the $16 of initial all earningsand profits amount with respect to the FC stock heldby DC, plus the $8 addition to such amount that re-sults from FC’s recognition of gain on the distribu-tion to the minority shareholder). Under paragraph(b)(3)(i) of this section, DC must include the $24 allearnings and profits amount in income as a deemeddividend from FC.

Example 4—(i) Facts. DC1, a domestic corpo-ration, owns all of the outstanding stock of DC2, adomestic corporation. DC1 also owns all of the out-standing stock of FC, a foreign corporation. Thestock of FC has a value of $100, and DC1 has abasis of $30 in such stock. The assets of FC have avalue of $100. The all earnings and profits amountwith respect to the FC stock owned by DC1 is $20.In a reorganization described in section368(a)(1)(D), DC2 acquires all of the assets of FCsolely in exchange for DC2 stock. FC distributes theDC2 stock to DC1, and the FC stock held by DC1 iscanceled.

(ii) Result. DC1 must include $20 in income as adeemed dividend from FC under paragraph (b)(3)(i)of this section. Under section 361, FC does not rec-ognize gain or loss in the assets that it transfers toDC2 or in the DC2 stock that it distributes to DC1,and under section 362(b) DC2 takes a basis in theassets that it acquires from FC equal to the basis thatFC had therein. Under §1.367(b)–2(e)(3)(ii) andsection 358(a)(1), DC1 takes a basis of $50 (its $30basis in the stock of FC, plus the $20 that wastreated as a deemed dividend to DC1) in the stock ofDC2 that it receives in exchange for the stock of FC.Under §1.367(b)–2(e)(3)(iii) and section 312(a), theearnings and profits of FC are reduced by the $20deemed dividend.

Example 5—(i) Facts. DC1, a domestic corpo-ration, owns all of the outstanding stock of DC2, adomestic corporation. DC1 also owns all of the out-standing stock of FC1, a foreign corporation. FC1owns all of the outstanding stock of FC2, a foreigncorporation. The all earnings and profits amountwith respect to the FC2 stock owned by FC1 is $20.In a reorganization described in section368(a)(1)(D), DC2 acquires all of the assets and lia-bilities of FC2 in exchange for DC2 stock. FC2 dis-tributes the DC2 stock to FC1, and the FC2 stockheld by FC1 is canceled.

(ii) Result. FC1 must include $20 in income as adeemed dividend from FC2 under paragraph(b)(3)(i) of this section. The deemed dividend istreated as a dividend for purposes of the InternalRevenue Code as provided in §1.367(b)–2(e)(2);however, under paragraph (b)(3)(i) of this sectionthe deemed dividend cannot qualify for the excep-tion from foreign personal holding company incomeprovided by section 954(c)(3)(A)(i), even if the pro-

February 7, 2000 480 2000–6 I.R.B.

visions of that section would otherwise have beenmet in the case of an actual dividend.

Example 6—(i) Facts. DC1, a domestic corpo-ration, owns 99 percent of USP, a domestic partner-ship. The remaining 1 percent of USP is owned by aperson unrelated to DC1. DC1 and USP each di-rectly own 9 percent of the outstanding stock of FC,a foreign corporation that is not a controlled foreigncorporation subject to the rule of section 953(c). Ina reorganization described in section 368(a)(1)(C),DC2, a domestic corporation, acquires all of the as-sets and liabilities of FC in exchange for DC2 stock.FC distributes to its shareholders DC2 stock, and theFC stock held by its shareholders is canceled.

(ii) Result. (A) DC1 and USP are UnitedStates persons that are exchanging shareholders ina transaction described in paragraph (a) of thissection. As a result, DC1 and USP are subject tothe rules of paragraph (b) of this section if theyqualify as United States shareholders as defined inparagraph (b)(2) of this section. Alternatively, ifthey do not qualify as United States shareholdersas defined in paragraph (b)(2) of this section, DC1and USP are subject to the rules of paragraph (c)of this section. Paragraph (b)(2) of this section de-fines the term United States shareholder to includeany shareholder described in section 951(b) (with-out regard to whether the foreign corporation is acontrolled foreign corporation). A shareholder de-scribed in section 951(b) is a United States personthat is considered to own, applying the rules ofsection 958(a) and 958(b), 10 percent or more ofthe total combined voting power of all classes ofstock entitled to vote of a foreign corporation.Under section 958(b), the rules of section 318(a),as modified by section 958(b) and the regulationsthereunder, apply so that, in general, stock owneddirectly or indirectly by a partnership is consid-ered as owned proportionately by its partners, andstock owned directly or indirectly by a partner isconsidered as owned by the partnership. Thus,under section 958(b), DC1 is treated as owning itsproportionate share of FC stock held by USP, andUSP is treated as owning all of the FC stock heldby DC1.

(B) Accordingly, for purposes of determiningwhether DC1 is a United States shareholder underparagraph (b)(2) of this section, DC1 is consideredas owning 99 percent of the 9 percent of FC stockheld by USP. Because DC1 also owns 9 percent ofFC stock directly, DC1 is considered as owningmore than 10 percent of FC stock. DC1 is thus aUnited States shareholder of FC under paragraph(b)(2) of this section and, as a result, is subject tothe rules of paragraph (b) of this section. How-ever, for purposes of determining DC1’s all earn-ings and profits amount, DC1 is not treated asowning the FC stock held by USP. Under§1.367(b)–2(d)(3), DC1’s all earnings and profitsamount is determined by reference to the 9 percentof FC stock that it directly owns.

(C) For purposes of determining whether USPis a United States shareholder under paragraph(b)(2) of this section, USP is considered as owningthe 9 percent of FC stock held by DC1. BecauseUSP also owns 9 percent of FC stock directly, USPis considered as owning more than 10 percent ofFC stock. USP is thus a United States shareholderof FC under paragraph (b)(2) of this section and,as a result, is subject to the rules of paragraph (b)

of this section. However, for purposes of deter-mining USP’s all earnings and profits amount,USP is not treated as owning the FC shares held byDC1. Under §1.367(b)–2(d)(3), USP’s all earn-ings and profits amount is determined by referenceto the 9 percent of FC stock that it directly owns.

(iii) Recognition of exchange gain orloss with respect to capital. [Reserved]

(4) Reserved. For further guidanceconcerning section 367(b) exchanges oc-curring before February 24, 2001, see§1.367(b)–3T(b)(4).

(c) Exchange of stock owned by aUnited States person that is not a UnitedStates shareholder—(1) Scope. Thisparagraph (c) applies in the case of an ex-changing shareholder that is a UnitedStates person not described in paragraph(b)(1)(i) of this section (i.e., a UnitedStates person that is not a United Statesshareholder of the foreign acquired corpo-ration).

(2) Requirement to recognize gain. Anexchanging shareholder described inparagraph (c)(1) of this section shall rec-ognize realized gain (but not loss) with re-spect to the stock of the foreign acquiredcorporation.

(3) Election to include all earnings andprofits amount. In lieu of the treatmentprescribed by paragraph (c)(2) of this sec-tion, an exchanging shareholder describedin paragraph (c)(1) of this section may in-stead elect to include in income as adeemed dividend the all earnings andprofits amount with respect to its stock inthe foreign acquired corporation. For theconsequences of a deemed dividend, see§1.367(b)–2(e). Such election may bemade only if–

(i) The foreign acquired corporation (orits successor in interest) has provided theexchanging shareholder information tosubstantiate the exchanging shareholder’sall earnings and profits amount with re-spect to its stock in the foreign acquiredcorporation; and

(ii) The exchanging shareholder com-plies with the section 367(b) notice re-quirement described in §1.367(b)–1(c),including the specific rules containedtherein concerning the time and mannerfor electing to apply the rules of this para-graph (c)(3).

(4) De minimis exception. This para-graph (c) shall not apply in the case of anexchanging shareholder whose stock inthe foreign acquired corporation has a fairmarket value of less than $50,000 on the

date of the section 367(b) exchange.(5) Examples. The following examples

illustrate the rules of this paragraph (c):Example 1—(i) Facts. DC1, a domestic corpora-

tion, owns 5 percent of the outstanding stock of FC,a foreign corporation that is not a controlled foreigncorporation subject to the rule of section 953(c).Persons unrelated to DC1 own the remaining 95 per-cent of the outstanding stock of FC. DC1 has ownedits 5 percent interest in FC since FC was incorpo-rated. DC1’s stock in FC has a basis of $40,000 anda value of $100,000. The all earnings and profitsamount with respect to DC1’s stock in FC is$50,000. In a reorganization described in section368(a)(1)(C), DC2, a domestic corporation, acquiresall of the assets and liabilities of FC in exchange forDC2 stock. FC distributes DC2 stock to its share-holders, and the FC stock held by its shareholders iscanceled.

(ii) Alternate result 1. If DC1 does not make theelection described in paragraph (c)(3) of this section,then the general rule of paragraph (c)(2) of this sec-tion applies and DC1 must recognize its $60,000gain in the FC stock. Under section 358(a)(1), DC1has a $100,000 basis (its $40,000 basis in the FCstock, plus the $60,000 recognized gain) in the DC2stock that it receives in exchange for its FC stock.Because DC1 is not a shareholder described in sec-tion 1248(a)(2), section 1248 does not apply torecharacterize any of DC1’s gain as a dividend.

(iii) Alternate result 2. If DC1 makes a validelection under paragraph (c)(3) of this section, thenDC1 must include in income as a deemed dividendthe $50,000 all earnings and profits amount with re-spect to its FC stock. Under §1.367(b)–2(e)(3) andsection 358(a)(1), DC1 has a $90,000 basis (its$40,000 basis in the FC stock, plus the $50,000 thatwas treated as a deemed dividend to DC1) in theDC2 stock that it receives in exchange for its FCstock. Because DC1 owns less than 10 percent ofthe voting stock of FC, DC1 does not qualify for adeemed paid foreign tax credit under section 902.

Example 2—(i) Facts. The facts are the same asin Example 1, except that DC1’s stock in FC has afair market value of $48,000 on the date DC1 re-ceives the DC2 stock.

(ii) Result. Because DC1’s stock in FC has a fairmarket value of less than $50,000 on the date of thesection 367(b) exchange, the de minimis exceptionof paragraph (c)(4) of this section applies. As a re-sult, DC1 is not subject to the gain or income inclu-sion requirements of this paragraph (c).

(d) Carryover of certain foreigntaxes—(1) Rule. Unused foreign taxcredits allowable to the foreign acquiredcorporation under section 906 shall carryover to the domestic acquiring corpora-tion and become allowable under section901, subject to the limitations prescribedby the Internal Revenue Code (for exam-ple, sections 383, 904 and 907). The do-mestic acquiring corporation shall notsucceed to any other foreign taxes paid orincurred by the foreign acquired corpora-tion.

(2) Example. The following example

2000–6 I.R.B. 481 February 7, 2000

illustrates the rules of this paragraph (d):Example—(i) Facts. DC, a domestic corporation

owns 100 percent of the outstanding stock of FC, aforeign corporation. FC has net positive earningsand profits, none of which are attributable to DC’sFC stock under §1.367(b)–2(d)(3). FC has paid for-eign taxes that are not eligible for credit under sec-tion 906. In a liquidation described in section 332,FC distributes all of its property to DC, and the FCstock held by DC is canceled.

(ii) Result. The liquidation of FC into DC is asection 367(b) exchange. Thus, DC is subject to thesection 367(b) regulations, and must file a section367(b) notice pursuant to §1.367(b)–1(c). Pursuantto the provisions of paragraph (d)(1) of this section,the foreign taxes paid by FC do not carryover to DCbecause FC’s foreign taxes are not eligible for creditunder section 906.

Par. 6. Section 1.367(b)–4 is revised toread as follows:§1.367(b)–4 Acquisition of foreign cor-porate stock or assets by a foreign corpo-ration in certain nonrecognition transac-tions.

(a) Scope. This section applies to anacquisition by a foreign corporation (theforeign acquiring corporation) of thestock or assets of another foreign corpora-tion (the foreign acquired corporation) inan exchange described in section 351 or areorganization described in section368(a)(1)(B), (C), (D), (E), (F) or (G).See §1.367(a)–3(b)(2) for additional rulesthat may apply.

(b) Income inclusion. If an exchange isdescribed in paragraph (b)(1)(i), (2)(i) or(3) of this section, the exchanging share-holder shall include in income as adeemed dividend the section 1248 amountattributable to the stock that it exchanges.

(1) Exchange that results in loss of sta-tus as section 1248 shareholder—(i)Rule. An exchange is described in thisparagraph (b)(1)(i) if–

(A) Immediately before the exchange,the exchanging shareholder is—

(1) A United States person that is a sec-tion 1248 shareholder with respect to theforeign acquired corporation; or

(2) A foreign corporation, and a UnitedStates person is a section 1248 share-holder with respect to such foreign corpo-ration and with respect to the foreign ac-quired corporation; and

(B) Either of the following conditionsis satisfied—

(1) Immediately after the exchange,the stock received in the exchange is notstock in a corporation that is a controlledforeign corporation as to which theUnited States person described in para-

graph (b)(1)(i)(A) of this section is a sec-tion 1248 shareholder; or

(2) Immediately after the exchange,the foreign acquiring corporation (or, inthe case of a reorganization described insection 368(a)(1)(B), the foreign acquiredcorporation) is not a controlled foreigncorporation as to which the United Statesperson described in paragraph(b)(1)(i)(A) of this section is a section1248 shareholder.

(ii) Examples. The following examplesillustrate the rules of this paragraph(b)(1):

Example 1—(i) Facts. FC1 is a foreign corpora-tion that is owned, directly and indirectly (applyingthe ownership rules of section 958), solely by for-eign persons. DC is a domestic corporation that isunrelated to FC1. DC owns all of the outstandingstock of FC2, a foreign corporation. Thus, under§1.367(b)–2(a) and (b), DC is a section 1248 share-holder with respect to FC2, and FC2 is a controlledforeign corporation. Under §1.367(b)–2(c)(1), thesection 1248 amount attributable to the stock of FC2held by DC is $20. In a reorganization described insection 368(a)(1)(C), FC1 acquires all of the assetsand assumes all of the liabilities of FC2 in exchangefor FC1 voting stock. The FC1 voting stock re-ceived does not represent more than 50 percent ofthe voting power or value of FC1’s stock. FC2 dis-tributes the FC1 stock to DC, and the FC2 stock heldby DC is canceled.

(ii) Result. FC1 is not a controlled foreign cor-poration immediately after the exchange. As a re-sult, the exchange is described in paragraph (b)(1)(i)of this section. Under paragraph (b) of this section,DC must include in income, as a deemed dividendfrom FC2, the section 1248 amount ($20) attribut-able to the FC2 stock that DC exchanged.

Example 2—(i) Facts. The facts are the same asin Example 1, except that the voting stock of FC1,which is received by FC2 in exchange for its assetsand distributed by FC2 to DC, represents more than50 percent of the voting power of FC1’s stock underthe rules of section 957(a).

(ii) Result. Paragraph (b)(1)(i) of this sectiondoes not apply to require inclusion in income of thesection 1248 amount, because FC1 is a controlledforeign corporation as to which DC is a section 1248shareholder immediately after the exchange.

Example 3—(i) Facts. The facts are the same asin Example 1, except that FC2 receives and distrib-utes voting stock of FP, a foreign corporation that isin control (within the meaning of section 368(c)) ofFC1, instead of receiving and distributing votingstock of FC1.

(ii) Result. For purposes of section 367(a), thetransfer is an indirect stock transfer subject to sec-tion 367(a). See §1.367(a)–3(d)(1)(iv). Accord-ingly, DC’s exchange of FC2 stock for FP stockunder section 354 will be taxable under section367(a) (and section 1248 will be applicable) if DCfails to enter into a gain recognition agreement in ac-cordance with §1.367(a)–8. Under§1.367(a)–3(b)(2), if DC enters into a gain recogni-tion agreement, the exchange will be subject to theprovisions of section 367(b) and the regulations

thereunder, as well as section 367(a). If FP and FC1are controlled foreign corporations as to which DCis a (direct or indirect) section 1248 shareholder im-mediately after the reorganization, then the section367(b) result is the same as in Example 2— that is,paragraph (b)(1)(i) of this section does not apply torequire inclusion in income of the section 1248amount. Under these circumstances, the amount ofthe gain recognition agreement would equal theamount of the gain realized on the indirect stocktransfer. If FP or FC1 is not a controlled foreign cor-poration as to which DC is a (direct or indirect) sec-tion 1248 shareholder immediately after the ex-change, then the section 367(b) result is the same asin Example 1— that is, DC must include in income,as a deemed dividend from FC2, the section 1248amount ($20) attributable to the FC2 stock that DCexchanged. Under these circumstances, the amountof the gain recognition agreement would equal theamount of the gain realized on the indirect stocktransfer, less the $20 section 1248 amount inclusion.

Example 4—(i) Facts. DC1, a domestic corpo-ration, owns all of the outstanding stock of DC2, adomestic corporation. DC2 owns various assets in-cluding all of the outstanding stock of FC2, a foreigncorporation. The stock of FC2 has a value of $100,and DC2 has a basis of $30 in such stock. The sec-tion 1248 amount attributable to the FC2 stock heldby DC2 is $20. DC2 does not own any other stockin a foreign corporation. FC1 is a foreign corpora-tion that is unrelated to DC1, DC2 and FC2. In a re-organization described in section 368(a)(1)(C), FC1acquires all of the assets and liabilities of DC2 in ex-change for FC1 voting stock that represents 20 per-cent of the outstanding voting stock of FC1. DC2distributes the FC1 stock to DC1, and the DC2 stockheld by DC1 is canceled. DC1 properly files a gainrecognition agreement under §1.367(a)–8 to qualifyfor nonrecognition treatment under section 367(a)with respect to DC2’s transfer of the FC2 stock toFC1. See §1.367(a)–8(f)(2).

(ii) Result. Pursuant to paragraph (b)(1)(i)(A) ofthis section, DC2 is the exchanging shareholder thatis a section 1248 shareholder with respect to FC2,the foreign acquired corporation. Immediately afterthe exchange, DC2 is not a section 1248 shareholderwith respect to FC1, the corporation whose stock isreceived in the exchange (because the DC2 stock iscanceled). Thus, paragraph (b)(1)(i)(B) of this sec-tion is satisfied and, as a result, paragraph (b)(1)(i)of this section applies to DC2’s section 361 ex-change of FC2 stock. Accordingly, under paragraph(b) of this section, DC2 must include in income, as adeemed dividend from FC2, the section 1248amount ($20) attributable to the FC2 stock that DC2exchanges. This result arises without regard towhether FC1 and FC2 are controlled foreign corpo-rations immediately after the exchange. For the taxtreatment of DC2’s transfer of assets (other thanstock) to FC1, see sections 367(a)(1) and (a)(3), andthe regulations thereunder. Because the exchange isalso described in section 361(a) or (b), see section367(a)(5) and any regulations thereunder. If any ofthe assets transferred are intangible assets, see sec-tion 367(d) and the regulations thereunder.

(2) Receipt by exchanging shareholderof preferred or other stock in certain in-stances—(i) Rule. An exchange is de-scribed in this paragraph (b)(2)(i) if–

February 7, 2000 482 2000–6 I.R.B.

(A) Immediately before the exchange,the foreign acquired corporation and theforeign acquiring corporations are notmembers of the same affiliated group(within the meaning of section 1504(a),but without regard to the exceptions setforth in section 1504(b), and substitutingthe words “more than 50” in place of thewords “at least 80” in sections1504(a)(2)(A) and (B));

(B) Immediately after the exchange, adomestic corporation meets the owner-ship threshold specified by section 902(a)or (b) such that it may qualify for adeemed paid foreign tax credit if it re-ceives a distribution from the foreign ac-quiring corporation (directly or throughtiers); and

(C) The exchanging shareholder re-ceives preferred stock (other than pre-ferred stock that is fully participating withrespect to dividends, redemptions andcorporate growth) in consideration forcommon stock or preferred stock that isfully participating with respect to divi-dends, redemptions and corporate growth,or, in the discretion of the Commissioneror the Commissioner’s delegate (andwithout regard to whether the stock ex-changed is common stock or preferredstock), receives stock that entitles it toparticipate (through dividends, redemp-tion payments or otherwise) dispropor-tionately in the earnings generated by par-ticular assets of the foreign acquiredcorporation or foreign acquiring corpora-tion.

(ii) Examples. The following exam-ples illustrate the rules of this paragraph(b)(2):

Example 1—(i) Facts. FC1 is a foreign corpora-tion. DC is a domestic corporation that is unrelatedto FC1. DC owns all of the outstanding stock ofFC2, a foreign corporation, and FC2 has no out-standing preferred stock. The value of FC2 is $100and DC has a basis of $50 in the stock of FC2.Under §1.367(b)–2(c)(1), the section 1248 amountattributable to the stock of FC2 held by DC is $20.In a reorganization described in section368(a)(1)(B), FC1 acquires all of the stock of FC2and, in exchange, DC receives FC1 voting preferredstock that constitutes 10 percent of the voting stockof FC1 for purposes of section 902(a). Immediatelyafter the exchange, FC1 and FC2 are controlled for-eign corporations and DC is a section 1248 share-holder of FC1 and FC2, so paragraph (b)(1)(i) of thissection does not require inclusion in income of thesection 1248 amount.

(ii) Result. Pursuant to §1.367(a)–3(b)(2), thetransfer is subject to both section 367(a) and section367(b). Under §1.367(a)–3(b)(1), DC will not besubject to tax under section 367(a)(1) if it enters into

a gain recognition agreement in accordance with§1.367(a)–8. Even though paragraph (b)(1)(i) ofthis section does not apply to require inclusion in in-come by DC of the section 1248 amount, DC mustnevertheless include the $20 section 1248 amount inincome as a deemed dividend from FC2 under para-graph (b)(2)(i) of this section. Thus, if DC entersinto a gain recognition agreement, the amount is $30(the $50 gain realized less the $20 recognized undersection 367(b)). If DC fails to enter into a gainrecognition agreement, it must include in incomeunder section 367(a)(1) the $50 of gain realized ($20of which is treated as a dividend under section1248). Section 367(b) does not apply in such case.

Example 2—(i) Facts. The facts are the same asin Example 1, except that DC owns all of the out-standing stock of FC1 immediately before the trans-action.

(ii) Result. Both section 367(a) and section367(b) apply to the transfer. Paragraph (b)(2)(i) ofthis section does not apply to require inclusion of thesection 1248 amount. Under paragraph (b)(2)(i)(A)of this section, the transaction is outside the scope ofparagraph (b)(2)(i) of this section because FC1 andFC2 are, immediately before the transaction, mem-bers of the same affiliated group (within the mean-ing of such paragraph). Thus, if DC enters into again recognition agreement in accordance with§1.367(a)–8, the amount of such agreement is $50.As in Example 1, if DC fails to enter into a gainrecognition agreement, it must include in income$50, $20 of which will be treated as a dividendunder section 1248.

Example 3—(i) Facts. FC1 is a foreign corpora-tion. DC is a domestic corporation that is unrelatedto FC1. DC owns all of the outstanding stock ofFC2, a foreign corporation. The section 1248amount attributable to the stock of FC2 held by DCis $20. In a reorganization described in section368(a)(1)(B), FC1 acquires all of the stock of FC2 inexchange for FC1 voting stock that constitutes 10percent of the voting stock of FC1 for purposes ofsection 902(a). The FC1 voting stock received byDC in the exchange carries voting rights in FC1, butby agreement of the parties the shares entitle theholder to dividends, amounts to be paid on redemp-tion, and amounts to be paid on liquidation, that areto be determined by reference to the earnings orvalue of FC2 as of the date of such event, and thatare affected by the earnings or value of FC1 only ifFC1 becomes insolvent or has insufficient capitalsurplus to pay dividends.

(ii) Result. Under §1.367(a)–3(b)(1), DC willnot be subject to tax under section 367(a)(1) if it en-ters into a gain recognition agreement with respectto the transfer of FC2 stock to FC1. Under§1.367(a)–3(b)(2), the exchange will be subject tothe provisions of section 367(b) and the regulationsthereunder to the extent that it is not subject to taxunder section 367(a)(1). Furthermore, even if DCwould not otherwise be required to recognize in-come under this section, the Commissioner or theCommissioner’s delegate may nevertheless requirethat DC include the $20 section 1248 amount in in-come as a deemed dividend from FC2 under para-graph (b)(2)(i) of this section.

(3) Certain recapitalizations. An ex-change pursuant to a recapitalizationunder section 368(a)(1)(E) shall be

deemed to be an exchange described inthis paragraph (b)(3) if the following con-ditions are satisfied—

(i) During the 24-month period imme-diately preceding or following the date ofthe recapitalization, the corporation thatundergoes the recapitalization (or a prede-cessor of, or successor to, such corpora-tion) also engages in a transaction thatwould be described in paragraph (b)(2)(i)of this section but for paragraph(b)(2)(i)(C) of this section, either as theforeign acquired corporation or the for-eign acquiring corporation; and

(ii) The exchange in the recapitaliza-tion is described in paragraph (b)(2)(i)(C)of this section.

(c) Exclusion of deemed dividend fromforeign personal holding company in-come—(1) Rule. In the event the section1248 amount is included in income as adeemed dividend by a foreign corporationunder paragraph (b) of this section, suchdeemed dividend shall not be included asforeign personal holding company in-come under section 954(c).

(2) Example. The following exampleillustrates the rule of this paragraph (c):

Example—(i) Facts. FC1 is a foreign corpora-tion that is owned, directly and indirectly (applyingthe ownership rules of section 958), solely by for-eign persons. DC is a domestic corporation that isunrelated to FC1. DC owns all of the outstandingstock of FC2, a foreign corporation. FC2 owns allof the outstanding stock of FC3, a foreign corpora-tion. Under §1.367(b)–2(c)(1), the section 1248amount attributable to the stock of FC3 held by FC2is $20. In a reorganization described in section368(a)(1)(B), FC1 acquires from FC2 all of thestock of FC3 in exchange for FC1 voting stock. TheFC1 voting stock received by FC2 does not repre-sent more than 50 percent of the voting power orvalue of FC1’s stock.

(ii) Result. FC1 is not a controlled foreign cor-poration immediately after the exchange. Underparagraph (b)(1) of this section, FC2 must include inincome, as a deemed dividend from FC3, the section1248 amount ($20) attributable to the FC3 stock thatFC2 exchanged. The deemed dividend is treated asa dividend for purposes of the Internal RevenueCode as provided in §1.367(b)–2(e)(2); however,under this paragraph (c) the deemed dividend is notforeign personal holding company income to FC2.

(d) Rules for subsequent exchanges—(1) In general. If income is not requiredto be included under paragraph (b) ofthis section in a section 367(b) exchangedescribed in paragraph (a) of this section(non-inclusion exchange) then, for pur-poses of applying section 367(b) or1248 to subsequent exchanges, the de-termination of the earnings and profits

2000–6 I.R.B. 483 February 7, 2000

attributable to an exchanging share-holder’s stock received in the non-inclu-sion exchange shall include a computa-t ion that refers to the exchangingshareholder’s pro rata interest in theearnings and profits of the foreign ac-quiring corporation (and, in the case of astock transfer, the foreign acquired cor-poration) that accumulate after the non-inclusion exchange, as well as its prorata interest in the earnings and profitsof the foreign acquired corporation thataccumulated before the non-inclusionexchange. See also section1248(c)(2)(D)(ii). The earnings andprofits attributable to the stock receivedby an exchanging shareholder in thenon-inclusion exchange shall not in-clude any earnings and profits of the for-eign acquiring corporation that accumu-lated before the non-inclusion exchange.In the case of a non-inclusion exchangein which the exchanging shareholder is aforeign corporation, this paragraph(d)(1) shall also apply for purposes ofdetermining the earnings and profits at-tributable to the exchanging foreign cor-poration’s shareholders, as well as forpurposes of determining the earningsand profits attributable to the exchang-ing foreign corporation when applyingsection 964(e) to subsequent sales or ex-changes of the stock of the foreign ac-quiring corporation.

(2) Subsequent dispositions by a for-eign acquiring corporation. In the caseof an exchange by a foreign acquiringcorporation that is subject to section367(b) or 964(e) and that follows a non-inclusion exchange (as defined in para-graph (d)(1) of this section), the rules ofparagraph (d)(1) of this section shall notapply. However, as a result of such a sub-sequent exchange, proportionate reduc-tions shall be made to the earnings andprofits that accumulated before the non-inclusion exchange and that were attrib-uted under paragraph (d)(1) of this sec-tion. Such reductions shall be madewithout regard to whether gain is recog-nized on the subsequent sale or exchange.

(3) Examples. The following exam-ples illustrate the rules of this section:

Example 1—(i) Facts. DC1, a domestic corpo-ration, owns all of the outstanding stock of FC1, aforeign corporation. DC1 has owned all of thestock of FC1 since FC1’s formation. FC1 has $20of earnings and profits, all of which is eligible forinclusion in the section 1248 amount attributable

to DC1’s stock in FC1. DC2, a domestic corpora-tion, owns all of the outstanding stock of FC2, aforeign corporation. DC2 has owned all of thestock of FC2 since FC2’s formation. FC2 has $40of earnings and profits, all of which is eligible forinclusion in the section 1248 amount attributableto DC2’s stock in FC2. DC1 and DC2 are unre-lated. In a reorganization described in section368(a)(1)(B), DC1 transfers all of the stock of FC1to FC2 in exchange for 40 percent of FC2 stock.DC1 enters into a five-year gain recognition agree-ment under the provisions of §§1.367(a)–3(b) and1.367(a)–8 with respect to its transfer of FC1 stockto FC2.

(ii) Result. (A) DC1’s transfer of FC1 to FC2 isnot described in paragraph (b)(1)(i), (2)(i), or (3)of this section. As a result, DC1 is not required toinclude in income the section 1248 amount attrib-utable to its FC1 stock and the rules of paragraph(d)(1) of this section apply. Thus, for purposes ofapplying section 367(b) or 1248 to subsequent ex-changes of FC2 stock, the determination of theearnings and profits attributable to DC1’s stock inFC2 will include a computation that refers to 40percent of the post-reorganization earnings andprofits of FC1 and FC2, and that refers to 100 per-cent of the $20 of pre-reorganization earnings andprofits of FC1. The earnings and profits attribut-able to DC1’s stock in FC2 will not include any ofthe $40 of earnings and profits accumulated byFC2 prior to the transaction. Those earnings andprofits are attributable to DC2 under section 1248.However, paragraph (d)(1) of this section does notapply for purposes of applying section 367(b) or964(e) to subsequent exchanges of FC1 stock byFC2. For these purposes, the determination of theearnings and profits attributable to FC2’s stock inFC1 is made under the principles of section 1248and, as a result, includes a computation that refersto the $20 of earnings and profits attributable toFC2’s section 1223(2) holding period in the FC1stock.

(B) In the event FC2 exchanges FC1 stock in atransaction that is subject to section 367(b) or964(e), a proportionate reduction must be made tothe $20 of earnings and profits that was previouslyattributed under paragraph (d)(1) of this section toDC1’s stock in FC2. Thus, for example, if FC2sells 50 percent of its FC1 stock (at a time whenthere have been no other reductions that affect the$20 of FC1 earnings and profits), paragraph (d)(2)of this section requires DC1 to proportionately re-duce the $20 of earnings and profits that was pre-viously attributed to its FC2 stock (to $10). Thisreduction occurs without regard to whether FC2recognizes gain on its sale of FC1 stock.

Example 2—(i) Facts. The facts are the sameas in Example 1, except that in a reorganizationdescribed in section 368(a)(1)(C), FC1 transfersall of its assets to FC2 in exchange for 40 percentof FC2 stock. FC1 then distributes the stock ofFC2 to DC1, and the FC1 stock held by DC1 iscanceled. None of FC1’s assets include stock.

(ii) Result. FC2’s acquisition of FC1 is not de-scribed in paragraph (b)(1)(i), (2)(i), or (3) of thissection. As a result, DC1 is not required to includein income the section 1248 amount attributable toits FC1 stock and the rules of paragraph (d)(1) ofthis section apply. Thus, for purposes of applyingsection 367(b) or 1248 to subsequent exchanges,

the determination of the earnings and profits at-tributable to DC1’s stock in FC2 will include acomputation that refers to 40 percent of the post-reorganization earnings and profits of FC2, andthat refers to 100 percent of the pre-reorganizationearnings and profits of FC1. The earnings andprofits attributable to DC1’s stock in FC2 will notinclude any of the $40 of earnings and profits ac-cumulated by FC2 prior to the transaction. Thoseearnings and profits are attributable to DC2 undersection 1248.

Example 3—(i) Facts. DC1, a domestic corpo-ration, owns all of the outstanding stock of FC1, aforeign corporation. FC1 owns all of the outstand-ing stock of FC3, a foreign corporation. DC1 hasowned all of the stock of FC1 since FC1’s forma-tion, and FC1 has owned all of the stock of FC3since FC3’s formation. FC3 has $20 of earningsand profits, all of which is eligible for inclusion inthe section 1248 amount attributable to DC1’sstock in FC1 and in the section 1248 amount at-tributable to FC1’s stock in FC3. Such earningsand profits are similarly eligible for inclusion as adividend attributable to FC1’s stock in FC3 undersection 964(e). DC2, a domestic corporation,owns all of the outstanding stock of FC2, a foreigncorporation. DC2 has owned all of the stock ofFC2 since FC2’s formation. FC2 has $40 of earn-ings and profits, all of which is eligible for inclu-sion in the section 1248 amount attributable toDC2’s stock in FC2. DC1 and DC2 are unrelated.In a reorganization described in section368(a)(1)(B), FC1 transfers all of the stock of FC3to FC2 in exchange for 40 percent of FC2 stock.

(ii) Result. (A) FC1’s transfer of FC3 to FC2 isnot described in paragraph (b)(1)(i), (2)(i), or (3)of this section. As a result, FC1 is not required toinclude in income the section 1248 amount attrib-utable to its FC3 stock and the rules of paragraph(d)(1) of this section apply. Thus, for purposes ofapplying section 367(b) or 1248 to subsequent ex-changes of FC1 stock, the determination of theearnings and profits attributable to DC1’s stock inFC1 will include a computation that refers to 40percent of the post-reorganization earnings andprofits of FC2 and FC3, and that refers to 100 per-cent of the $20 of pre-reorganization earnings andprofits of FC3. The earnings and profits attribut-able to FC1’s stock in FC2 will not include any ofthe $40 of earnings and profits accumulated byFC2 prior to the transaction. Those earnings andprofits are attributable to DC2 under section 1248.For purposes of applying section 367(b) or 964(e)to subsequent exchanges of FC2 stock, the deter-mination of the earnings and profits attributable toFC1’s stock in FC2 will include a computation thatrefers to 40 percent of the post-reorganizationearnings and profits of FC2 and FC3, and thatrefers to 100 percent of the $20 of pre-reorganiza-tion earnings and profits of FC3. The earnings andprofits attributable to FC1’s interest in FC2 do notinclude any of the $40 of earnings and profits ac-cumulated by FC2 prior to the transaction. How-ever, paragraph (d)(1) of this section does notapply for purposes of applying section 367(b) or964(e) to subsequent exchanges of FC3 stock byFC2. For these purposes, the determination of theearnings and profits attributable to FC2’s stock inFC3 is made under the principles of section 1248and, as a result, includes a computation that refers

February 7, 2000 484 2000–6 I.R.B.

to the $20 of earnings and profits attributable toFC2’s section 1223(2) holding period in the FC3stock.

(B) In the event FC2 exchanges FC3 stock in atransaction that is subject to section 367(b) or964(e), a proportionate reduction must be made tothe $20 of earnings and profits that was previouslyattributed under paragraph (d)(1) of this section toDC1’s stock in FC1 (for purposes of subsequentapplication of section 367(b) or 1248) as well as toFC1’s stock in FC2 (for purposes of subsequentapplication of section 367(b) or 964(e)). Thus, forexample, if FC2 sells 50 percent of its FC3 stock(at a time when there have been no other reduc-tions that affect the $20 of FC3 earnings and prof-its), paragraph (d)(2) of this section requires DC1and FC1 to proportionately reduce the $20 of earn-ings and profits that was previously attributed totheir FC1 and FC2 stock, respectively (to $10).These reductions occur without regard to whetherFC2 recognizes gain on its sale of FC3 stock.

Par. 7. Sections 1.367(b)–5 and1.367(b)–6 are added to read as follows:§1.367(b)–5 Distributions of stock de-scribed in section 355.

(a) In general—(1) Scope. This sectionprovides rules relating to a distributiondescribed in section 355 and to which sec-tion 367(b) applies. For purposes of thissection, the terms distributing corpora-tion, controlled corporation, and distribu-teehave the same meaning as used in sec-tion 355 and the regulations thereunder.

(2) Treatment of distributees as ex-changing shareholders. For purposes ofthe section 367(b) regulations, all distrib-utees in a transaction described in para-graph (b), (c), or (d) of this section shallbe treated as exchanging shareholders thatrealize income in a section 367(b) ex-change.

(b) Distribution by a domestic corpo-ration—(1) General rule. In a distribu-tion described in section 355, if the dis-tributing corporation is a domesticcorporation and the controlled corpora-tion is a foreign corporation, the follow-ing general rules shall apply–

(i) If the distributee is a corporation,then the controlled corporation shall beconsidered to be a corporation; and

(ii) If the distributee is an individual,then, solely for purposes of determiningthe gain recognized by the distributingcorporation, the controlled corporationshall not be considered to be a corpora-tion, and the distributing corporation shallrecognize any gain (but not loss) realizedon the distribution.

(2) Section 367(e) transactions. Therules of paragraph (b)(1) of this sectionshall not apply to a foreign distributee to

the extent gain is recognized under sec-tion 367(e)(1) and the regulations there-under.

(3) Determining whether distributeesare individuals. All distributees in a dis-tribution described in paragraph (b)(1) ofthis section are presumed to be individu-als. However, the shareholder identifica-tion principles of §1.367(e)–1(d) (includ-ing the reporting procedures in§1.367(e)–1(d)(2) and (3)) shall apply forpurposes of rebutting this presumption.

(4) Applicable cross-references. Forrules with respect to a distributee that is apartnership, trust or estate, see§1.367(b)–2(k). For additional rules re-lating to a distribution of stock of a for-eign corporation by a domestic corpora-tion, see section 1248(f) and theregulations thereunder. For additionalrules relating to a distribution described insection 355 by a domestic corporation to aforeign distributee, see section 367(e)(1)and the regulations thereunder.

(c) Pro rata distribution by a con-trolled foreign corporation—(1) Scope.This paragraph (c) applies to a distribu-tion described in section 355 in which thedistributing corporation is a controlledforeign corporation and in which thestock of the controlled corporation is dis-tributed pro rata to each of the distributingcorporation’s shareholders.

(2) Adjustment to basis in stock and in-come inclusion. If the distributee’s post-distribution amount (as defined in para-graph (e)(2) of this section) with respectto the distributing or controlled corpora-tion is less than the distributee’s predistri-bution amount (as defined in paragraph(e)(1) of this section) with respect to suchcorporation, then the distributee’s basis insuch stock immediately after the distribu-tion (determined under the normal princi-ples of section 358) shall be reduced bythe amount of the difference. However,the distributee’s basis in such stock shallnot be reduced below zero, and to the ex-tent the foregoing reduction would havereduced basis below zero, the distributeeshall instead include such amount in in-come as a deemed dividend from suchcorporation.

(3) Interaction with §1.367(b)–2(e)(3)(ii).The basis increase provided in§1.367(b)–2(e)(3)(ii) shall not apply to adeemed dividend that is included in incomepursuant to paragraph (c)(2) of this section.

(4) Basis redistribution. If a distributeereduces the basis in the stock of the dis-tributing or controlled corporation (or hasan inclusion with respect to such stock)under paragraph (c)(2) of this section, thedistributee shall increase its basis in thestock of the other corporation by theamount of the basis decrease (or deemeddividend inclusion) required by paragraph(c)(2) of this section. However, the dis-tributee’s basis in such stock shall not beincreased above the fair market value ofsuch stock and shall not be increased tothe extent the increase diminishes the dis-tributee’s postdistribution amount with re-spect to such corporation.

(d) Non-pro rata distribution by a con-trolled foreign corporation—(1) Scope.This paragraph (d) applies to a distribu-tion described in section 355 in which thedistributing corporation is a controlledforeign corporation and in which thestock of the controlled corporation is notdistributed pro rata to each of the distrib-uting corporation’s shareholders.

(2) Treatment of certain shareholdersas distributees. For purposes of the sec-tion 367(b) regulations, all persons own-ing stock of the distributing corporationimmediately after a transaction describedin paragraph (d)(1) of this section shall betreated as distributees of such stock. Forother applicable rules, see paragraph(a)(2) of this section.

(3) Inclusion of excess section 1248amount by exchanging shareholder. Ifthe distributee’s postdistribution amount(as defined in paragraph (e)(2) of this sec-tion) with respect to the distributing orcontrolled corporation is less than the dis-tributee’s predistribution amount (as de-fined in paragraph (e)(1) of this section)with respect to such corporation, then thedistributee shall include in income as adeemed dividend the amount of the differ-ence. For purposes of this paragraph(d)(3), if a distributee owns no stock inthe distributing or controlled corporationimmediately after the distribution, the dis-tributee’s postdistribution amount with re-spect to such corporation shall be zero.

(4) Interaction with §1.367(b)–2(e)(3)(ii)—(i) Limited application. The basis increaseprovided in §1.367(b)–2(e)(3)(ii) shall applyto a deemed dividend that is included in in-come pursuant to paragraph (d)(3) of this sec-tion only to the extent that such basis increasedoes not increase the distributee’s basis above

2000–6 I.R.B. 485 February 7, 2000

the fair market value of such stock and doesnot diminish the distributee’s postdistributionamount with respect to such corporation.

(ii) Interaction with predistributionamount. For purposes of this paragraph(d), the distributee’s predistributionamount (as defined in paragraph (e)(1) ofthis section) shall be determined withoutregard to any basis increase permittedunder paragraph (d)(4)(i) of this section.

(e) Definitions—(1) Predistributionamount. For purposes of this section, thepredistribution amount with respect to adistributing or controlled corporation is thedistributee’s section 1248 amount (as de-fined in §1.367(b)–2(c)(1)) computed im-mediately before the distribution (and afterany section 368(a)(1)(D) transfer con-nected with the section 355 distribution),but only to the extent that such amount isattributable to the distributing corporationand any corporations controlled by it im-mediately before the distribution (the dis-tributing group) or the controlled corpora-tion and any corporations controlled by itimmediately before the distribution (thecontrolled group), as the case may be,under the principles of §§1.1248–1(d)(3),1.1248–2 and 1.1248–3. However, thepredistribution amount with regard to thedistributing group shall be computed with-out taking into account the distributee’spredistribution amount with respect to thecontrolled group.

(2) Postdistribution amount. For pur-poses of this section, the postdistributionamount with respect to a distributing orcontrolled corporation is the distributee’ssection 1248 amount (as defined in§1.367(b)–2(c)(1)) with respect to suchstock, computed immediately after thedistribution (but without regard to para-graph (c) or (d) of this section (whicheveris applicable)). The postdistributionamount under this paragraph (e)(2) shallbe computed before taking into accountthe effect (if any) of any inclusion undersection 356(a) or (b).

(f) Exclusion of deemed dividend fromforeign personal holding company income.In the event an amount is included in in-come as a deemed dividend by a foreigncorporation under paragraph (c) or (d) ofthis section, such deemed dividend shallnot be included as foreign personal holdingcompany income under section 954(c).

(g) Examples. The following exam-ples illustrate the rules of this section:

Example 1—(i) Facts. USS, a domestic corpo-ration, owns 40 percent of the outstanding stock ofFD, a controlled foreign corporation (CFC). USShas owned the stock since FD was incorporated,and FD has always been a CFC. USS has a basisof $80 in its FD stock, which has a fair marketvalue of $200. FD owns 100 percent of the out-standing stock of FC, a foreign corporation. FDhas owned the stock since FC was incorporated.Neither FD nor FC own stock in any other corpo-ration. FD has earnings and profits of $0 and a fairmarket value of $250 (not considering its owner-ship of FC). FC has earnings and profits of $300,none of which is described in section 1248(d), anda fair market value of $250. In a pro rata distribu-tion described in section 355, FD distributes toUSS stock in FC worth $100; thereafter, USS’s FDstock is worth $100 as well.

(ii) Result—(A) FD’s distribution is a transac-tion described in paragraph (c)(1) of this section.Under paragraph (c)(2) of this section, USS mustcompare its predistribution amounts with respectto FD and FC to its respective postdistributionamounts. Under paragraph (e)(1) of this section,USS’s predistribution amount with respect to FDor FC is its section 1248 amount computed imme-diately before the distribution, but only to the ex-tent such amount is attributable to FD or FC.Under §1.367(b)–2(c)(1), USS’s section 1248amount computed immediately before the distribu-tion is $120, all of which is attributable to FC.Thus, USS’s predistribution amount with respectto FD is $0, and its predistribution amount with re-spect to FC is $120. These amounts are computedas follows: If USS had sold its FD stock immedi-ately before the transaction, it would have recog-nized $120 of gain ($200 fair market value å $80basis). All of the gain would have been treated asa dividend under section 1248, and all of the sec-tion 1248 amount would have been attributable toFC (based on USS’s pro rata share of FC’s earn-ings and profits (40 percent x $300)).

(B) Under paragraph (e)(2) of this section,USS’s postdistribution amount with respect to FDor FC is its section 1248 amount with respect tosuch corporation, computed immediately after thedistribution (but without regard to paragraph (c) ofthis section). Under §1.367(b)–2(c)(1), USS’ssection 1248 amounts computed immediately afterthe distribution with respect to FD and FC are $60and $0, respectively. These amounts, which areUSS’s postdistribution amounts, are computed asfollows: Under the normal principles of section358, USS allocates its $80 predistribution basis inFD between FD and FC according to the stockblocks’ relative values, yielding a $40 basis ineach block. If USS sold its FD stock immediatelyafter the distribution, none of the resulting gainwould be treated as a dividend under section 1248.If USS sold its FC stock immediately after the dis-tribution, it would have a $60 gain ($100 fair mar-ket value å $40 basis), all of which would betreated as a dividend under section 1248.

(C) The basis adjustment and income inclusionrules of paragraph (c)(2) of this section apply tothe extent of any difference between USS’s post-distribution and predistribution amounts. In thecase of FD, there is no difference between the twoamounts and, as a result, no adjustment or incomeinclusion is required. In the case of FC, USS’s

postdistribution amount is $60 less than its predis-tribution amount. Accordingly, under paragraph(c)(2) of this section, USS is required to reduce itsbasis in its FC stock from $40 to $0 and include$20 in income as a deemed dividend from FC.Under paragraph (c)(3) of this section, the basisincrease provided in §1.367(b)–2(e)(3)(ii) doesnot apply with regard to the $20 deemed dividend.Under the rules of paragraph (c)(4) of this section,USS increases its basis in FD by the amount bywhich it decreased its basis in FC, as well as by theamount of its deemed dividend inclusion ($40 +$40 + $20 = $100).

Example 2—(i) Facts. USS1 and USS2, do-mestic corporations, each own 50 percent of theoutstanding stock of FD, a controlled foreign cor-poration (CFC). USS1 and USS2 have ownedtheir FD stock since it was incorporated, and FDhas always been a CFC. USS1 and USS2 eachhave a basis of $500 in their FD stock, and the fairmarket value of each block of FD stock is $750.FD owns 100 percent of the outstanding stock ofFC, a foreign corporation. FD owned the stocksince FC was incorporated. Neither FD nor FCown stock in any other corporation. FD has earn-ings and profits of $0 and a fair market value of$750 (not considering its ownership of FC). FChas earnings and profits of $500, none of which isdescribed in section 1248(d), and a fair marketvalue of $750. In a non-pro rata distribution de-scribed in section 355, FD distributes all of thestock of FC to USS2 in exchange for USS2’s FDstock.

(ii) Result—(A) FD’s distribution is a transac-tion described in paragraph (d)(1) of this section.Under paragraph (d)(2) of this section, USS1 isconsidered a distributee of FD stock. Under para-graph (d)(3) of this section, USS1 and USS2 mustcompare their predistribution amounts with re-spect to FD and FC stock to their respective post-distribution amounts. Under paragraph (e)(1) ofthis section, USS1’s predistribution amount withrespect to FD or FC is USS1’s section 1248amount computed immediately before the distribu-tion, but only to the extent such amount is attribut-able to FD or FC. USS2’s predistribution amountis determined in the same manner. Under§1.367(b)–2(c)(1), USS1 and USS2 each have asection 1248 amount computed immediately be-fore the distribution of $250, all of which is attrib-utable to FC. Thus, USS1 and USS2 each have apredistribution amount with respect to FD of $0,and each have a predistribution amount with re-spect to FC of $250. These amounts are computedas follows: If either USS1 or USS2 had sold itsFD stock immediately before the transaction, itwould have recognized $250 of gain ($750 fairmarket value å $500 basis). All of the gain wouldhave been treated as a dividend under section1248, and all of the section 1248 amount wouldhave been attributable to FC (based on USS1’s andUSS2’s pro rata shares of FC’s earnings and prof-its (50 percent x $500)).

(B) Under paragraph (d)(3) of this section, adistributee that owns no stock in the distributing orcontrolled corporation immediately after the distri-bution has a postdistribution amount with regardto that stock of zero. Accordingly, USS2 has apostdistribution amount of $0 with respect to FDand USS1 has a postdistribution amount of $0 with

February 7, 2000 486 2000–6 I.R.B.

respect to FC. Under paragraph (e)(2) of this sec-tion, USS1’s postdistribution amount with respectto FD is its section 1248 amount with respect tosuch corporation, computed immediately after thedistribution (but without regard to paragraph (d) ofthis section). USS2’s postdistribution amountwith respect to FC is determined in the same man-ner. Under §1.367(b)–2(c)(1), USS1’s section1248 amount computed immediately after the dis-tribution with respect to FD is $0 and USS2’s sec-tion 1248 amount computed immediately after thedistribution with respect to FC is $250. Theseamounts, which are USS1’s and USS2’s postdistri-bution amounts, are computed as follows: Afterthe non-pro rata distribution, USS1 owns all thestock of FD and USS2 owns all the stock of FC. IfUSS1 sold its FD stock immediately after the dis-tribution, none of the resulting $250 gain ($750fair market value å $500 basis) would be treated asa dividend under section 1248. If USS2 sold itsFC stock immediately after the distribution, itwould have a $250 gain ($750 fair market value å$500 basis), all of which would be treated as a div-idend under section 1248.

(C) The income inclusion rule of paragraph(d)(3) of this section applies to the extent of anydifference between USS1’s and USS2’s postdistri-bution and predistribution amounts. In the case ofUSS2, there is no difference between the twoamounts with respect to either FD or FC and, as aresult, no income inclusion is required. In the caseof USS1, there is no difference between the twoamounts with respect to its FD stock. However,USS1’s postdistribution amount with respect to FCis $250 less than its predistribution amount. Ac-cordingly, under paragraph (d)(3) of this section,USS1 is required to include $250 in income as adeemed dividend. Under §1.367(b)–2(e)(2), the$250 deemed dividend is considered as havingbeen paid by FC to FD, and by FD to USS1, imme-diately prior to the distribution. This deemed divi-dend increases USS1’s basis in FD ($500 + $250 =$750).

§1.367(b)–6 Effective dates and coordi-nation rules.

(a) Effective date—(1) In general.Sections 1.367(b)–1 through 1.367(b)–5,and this section, apply to section 367(b)exchanges that occur on or after February23, 2000.

(2) Exception. A taxpayer may, how-ever, elect to have §§1.367(b)–1 through1.367(b)–5, and this section, apply to sec-tion 367(b) exchanges that occur (or oc-curred) before February 23, 2000, if thedue date for the taxpayer’s timely filedFederal tax return (including extensions)for the taxable year in which the section367(b) exchange occurs (or occurred) isafter February 23, 2000. The electionunder this paragraph (a)(2) will be validonly if–

(i) The electing taxpayer makes theelection on a timely filed section 367(b)notice;

(ii) In the case of an exchanging share-holder that is a foreign corporation, theelection is made on the section 367(b) no-tice that is filed by each of its sharehold-ers listed in §1.367(b)–1(c)(3)(ii); and

(iii) The electing taxpayer provides no-tice of the election to all corporations (ortheir successors in interest) whose earn-ings and profits are affected by the elec-tion on or before the date the section367(b) notice is filed.

(b) Certain recapitalizations describedin §1.367(b)–4(b)(3). In the case of a re-capitalization described in§1.367(b)–4(b)(3) that occurred prior toJuly 20, 1998, the exchanging shareholdershall include the section 1248 amount onits tax return for the taxable year that in-cludes the exchange described in§1.367(b)–4(b)(3)(i) (and not in the tax-able year of the recapitalization), exceptthat no inclusion is required if both the re-capitalization and the exchange describedin §1.367(b)–4(b)(3)(i) occurred prior toJuly 20, 1998.

(c) Use of reasonable method to com-ply with prior published guidance—(1)Prior exchanges. The taxpayer may usea reasonable method to comply with thefollowing prior published guidance tothe extent such guidance relates to sec-tion 367(b): Notice 88–71 (1988–2 C.B.374); Notice 89–30 (1989–1 C.B. 670);and Notice 89–79 (1989–2 C.B. 392)(see §601.601(d)(2) of this chapter).This rule applies to section 367(b) ex-changes that occur (or occurred) beforeFebruary 23, 2000, or, if a taxpayermakes the election described in para-graph (a)(2) of this section, for section367(b) exchanges that occur (or oc-curred) before the date described inparagraph (a)(2) of this section. Thisrule also applies to section 367(b) ex-changes and distributions described inparagraph (d) of this section.

(2) Future exchanges. Section 367(b)exchanges that occur on or after Febru-ary 23, 2000, (or, if a taxpayer makesthe election described in paragraph(a)(2) of this section, for section 367(b)exchanges that occur on or after the datedescribed in paragraph (a)(2) of this sec-tion) are governed by the section 367(b)regulations and, as a result, paragraph(c)(1) of this section shall not apply.

(d) Effect of removal of attributionrules. To the extent that the rules under

§§7.367(b)–9 and 7.367(b)–10(h) of thischapter, as in effect prior to February23, 2000 (see 26 CFR part 1 revised asof April 1, 1999), attributed earningsand profits to the stock of a foreign cor-poration in connection with an exchangedescribed in section 351, 354, 355, or356 before February 23, 2000, the for-eign corporation shall continue to besubject to the rules of §7.367(b)–12 ofthis chapter in the event of any subse-quent exchanges and distributions withrespect to such stock, notwithstandingthe fact that such subsequent exchangeor distribution occurs on or after the ef-fective date described in paragraph (a)of this section.

§§1.367(b)–7 through 1.367(b)–9[Removed]

Par. 8. Sections 1.367(b)–7 through1.367(b)–9 are removed.

Par. 9. Section 1.381(b)–1, paragraph(a)(1), the second sentence is amended byremoving the reference “7.367(b)–1(e)”and adding “1.367(b)–2(f)” in its place.

PART 7—TEMPORARY INCOME TAXREGULATIONS UNDER THE TAXREFORM ACT OF 1976

Par. 10. The authority citation for part7 is amended by removing the entries for§§7.367(b)–1, 7.367(b)–2, 7.367(b)–3,7.367(b)–4, 7.367(b)–5, 7.367(b)–6,7.367(b)–7, 7.367(b)–8, 7.367(b)–9,7.367(b)–10, 7.367(b)–11, and7.367(b)–13; and continues to read in partas follows:

Authority: 26 U.S.C. 7805 * * *Par. 11. Sections 7.367(b)–1 through

7.367(b)–11 and 7.367(b)–13 are re-moved as of February 23, 2000.

Par. 12. Section 7.367(b)–12 isamended by revising paragraph (a) to readas follows:§7.367(b)–12 Subsequent treatment ofamounts attributed or included in income(temporary).

(a) Application. This section appliesto distributions with respect to, or a dispo-sition of, stock–

(1) To which, in connection with anexchange occurring before February 23,2000, an amount has been attributed pur-suant to §7.367(b)–9 or 7.367(b)–10 (asin effect prior to February 23, 2000, see26 CFR part 1 revised as of April 1,1999); or

2000–6 I.R.B. 487 February 7, 2000

(2) In respect of which, before Febru-ary 23, 2000, an amount has been in-cluded in income or added to earnings andprofits pursuant to §7.367(b)–7 or7.367(b)–10 (as in effect prior to February23, 2000, see 26 CFR part 1 revised as ofApril 1, 1999).* * * * *

PART 602—OMB CONTROLNUMBERS UNDER THEPAPERWORK REDUCTION ACT

Par. 13. The authority citation for part

602 continues to read as follows:Authority: 26 U.S.C. 7805.Par. 14. In §602.101, paragraph (b) is

amended in the table by adding an entryin numerical order to read as follows:§602.101 OMB Control numbers.* * * * *

(b) * * * John M. Dalrymple,

Acting Deputy Commissioner of Internal Revenue.

Approved December 22, 1999.

Jonathan Talisman,Acting Assistant Secretary

of the Treasury.

(Filed by the Office of the Federal Register on Janu-ary 21, 2000, 8:45 a.m., and published in the issue ofthe Federal Register for January 24, 2000, 65 F.R.3589)

February 7, 2000 488 2000–6 I.R.B.

CFR part or section where Current OMBidentified and described control No.

* * * * *

1.367(b)–1 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-1271

* * * * *

Section 367.—ForeignCorporations

26 CFR 1.367(b)–3T: Repatriation of foreigncorporate assets in certain nonrecognitiontransactions (temporary).

T.D. 8863

DEPARTMENT OF THE TREASURYInternal Revenue Service26 CFR Parts 1 and 602

Stock Transfer Rules:Supplemental Rules

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Temporary regulations.

SUMMARY: This document containstemporary regulations that provide anelection for certain taxpayers engaged incertain exchanges described in section367(b). These regulations provide guid-ance for taxpayers that make the specifiedelection in order to determine the extentto which income must be included andcertain corresponding adjustments mustbe made. The text of the temporary regu-lations also serves as the text of the pro-posed regulations set forth in the notice ofproposed rulemaking on this subject in

REG–116048–99 on page 584.

DATES: Effective Date. These regula-tions are effective as of February 23,2000.

Applicability Date. These regulationsapply to section 367(b) exchanges thatoccur on or after February 23, 2000.

FOR FURTHER INFORMATION CON-TACT: Mark D. Harris, (202) 622-3860(not a toll-free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

These regulations are being issuedwithout prior notice and public proce-dure pursuant to the Administrative Pro-cedure Act (5 U.S.C. 553). For this rea-son, the col lect ion of informationcontained in these regulations has beenreviewed and, pending receipt and eval-uation of public comments, approved bythe Office of Management and Budgetunder control number 1545-1666. Re-sponses to this collection of informationis mandatory.

An agency may not conduct or sponsor,and a person is not required to respond to,a collection of information unless the col-lection of information displays a validOMB control number.

For further information concerning thiscollection of information, and where to

submit comments on the collection of in-formation and the accuracy of the esti-mated burden, and suggestions for reduc-ing this burden, please refer toREG–116048–99, page 584, the preambleto the cross-referencing notice of pro-posed rulemaking published in the Pro-posed Rules section of this issue of theFederal Register.

Books or records relating to a collec-tion of information must be retained aslong as their contents may become mater-ial in the administration of any internalrevenue law. Generally, tax returns andtax return information are confidential, asrequired by 26 U.S.C. 6103.

Background

On December 27, 1977, the IRS andTreasury issued proposed and temporaryregulations under section 367(b) of the In-ternal Revenue Code (Code). Subsequentguidance updated and amended the 1977temporary regulations (the 1977 regula-tions) several times over the next 14years. On August 26, 1991, the IRS andTreasury issued proposed regulations§§1.367(b)–1 through 1.367(b)–6 (the1991 proposed regulations). Commentsto the 1991 proposed regulations were re-ceived, and a public hearing was held onNovember 22, 1991. In June of 1998, theIRS and Treasury issued final regulations

under sections 367(a) and (b) (the 1998regulations). The 1998 regulations ad-dressed transactions under section 367(b)only to the extent the transactions are alsosubject to the stock transfer rules of sec-tion 367(a). Thus, the 1977 regulationshave remained in effect to the extent notsuperseded by the 1998 regulations. Thepreamble to the 1998 regulations statedthat the IRS and Treasury would issueguidance at a later date to address the por-tions of the 1991 proposed regulations re-lated to section 367(b) that were not ad-dressed in the 1998 regulations.

The IRS and Treasury adopted§§1.367(b)–1 through 1.367(b)–6 as finalregulations under section 367(b) (see T.D.8862, page 466). These temporary regu-lations relate to certain provisions of the1991 proposed regulations not adopted inthe final section 367(b) regulations T.D.8862.

General Purpose

These temporary regulations addressthe elimination of an election available tocertain taxpayers under the 1991 pro-posed regulations that was not adopted inthe final section 367(b) regulations T.D.8862.

Specific Provisions

A. §1.367(b)–3T(b)(4): Election oftaxable exchange treatment

Section 1.367(b)–3 of the 1991 pro-posed regulations addressed transactionsin which a foreign corporation transfersassets to a domestic corporation pursuantto a Subchapter C nonrecognition provi-sion. These transactions include a section332 liquidation of a foreign corporationinto a domestic parent corporation and anasset reorganization, such as a C, D or Freorganization, of a foreign corporationinto a domestic corporation. The 1991proposed regulations required a U.S.shareholder of a foreign acquired corpora-tion (or, in certain cases, a foreign sub-sidiary of the U.S. shareholder) to cur-rently include in income the allocableportion of the foreign acquired corpora-tion’s earnings and profits accumulatedduring the U.S. shareholder’s holding pe-riod (all earnings and profits amount).The final section 367(b) regulations T.D.8862 adopted this general rule.

Sections 7.367(b)–5(b) and7.367(b)–7(c)(2)(ii) of the 1977 regulationsand §1.367(b)–3(b)(2)(iii) of the 1991 pro-posed regulations provided an exception tothis rule, which permitted an exchangingshareholder to elect to recognize the gain(but not the loss) that it realizes in the ex-change (taxable exchange election), ratherthan include the all earnings and profitsamount in income. To the extent the allearnings and profits amount exceeds ashareholder’s stock gain, the 1991 pro-posed regulations further required the for-eign acquired corporation to reduce varioustax attributes that would otherwise carry-over to the domestic acquiring corporation(attribute reduction regime). The final reg-ulations T.D. 8862 did not adopt the taxableexchange election.

In order to provide taxpayers an oppor-tunity to comment on this change, thesetemporary regulations provide the taxableexchange election in modified form. Themodified election permits an exchangingshareholder to elect to treat a transactionas a taxable exchange, but limits applica-tion of the attribute reduction regime to asection 332 liquidation or to an inboundasset reorganization in which the foreignacquired corporation is wholly owned (di-rectly or indirectly) by one U.S. person.These temporary regulations apply to sec-tion 367(b) exchanges that occur betweenFebruary 23, 2000, and February 24,2001.

Further Explanation

For a more detailed discussion regard-ing section 367(b), see T.D. 8862.

Special Analyses

It has been determined that these Tem-porary regulations are not a significantregulatory action as defined in ExecutiveOrder 12866. Therefore, a regulatory as-sessment is not required. It also has beendetermined that section 553(b) of the Ad-ministrative Procedure Act (5 U.S.C.chapter 5) does not apply to these regula-tions. Further it is hereby certified pur-suant to sections 603(a) and 605(b) of theRegulatory Flexibility Act that the collec-tion of information in these regulationswill not have a significant economic im-pact on a substantial number of small en-tities. This certification is based upon thefact that the number of section 367(b) ex-changes that require reporting under these

regulations is estimated to be only 20 peryear. Therefore, a Regulatory FlexibilityAnalysis under the Regulatory FlexibilityAct (5 U.S.C. chapter 6) is not required.

Pursuant to section 7805(f) of theCode, these temporary regulations will besubmitted to the Chief Counsel for Advo-cacy of the Small Business Administra-tion for comment on their impact.

Drafting Information

The principal author of these regula-tions is Mark Harris of the Office of Asso-ciate Chief Counsel (International).However, other personnel from the IRSand Treasury Department participated intheir development.

* * * * *

Adoption of Amendments to theRegulations

Accordingly, 26 CFR parts 1 and 602are amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation forpart 1 is amended by adding entries in nu-merical order to read in part as follows:

Authority: 26 U.S.C. 7805 * * * Section 1.367(b)–3T also issued under

26 U.S.C. 367(a) and (b). * * *Par. 2. Section 1.367(b)–3T is added to

read as follows:§1.367(b)–3T Repatriation of foreign cor-porate assets in certain nonrecognitiontransactions (temporary).

(a) through (b)(3). [Reserved]. For fur-ther guidance, see §1.367(b)–3(a) through(b)(3).

(4) Election of taxable exchange treat-ment—(i) Rules—(A) In general. In lieuof the treatment prescribed by§1.367(b)–3(b)(3)(i), an exchangingshareholder described in§1.367(b)–3(b)(1) may instead elect torecognize the gain (but not loss) that it re-alizes in the exchange (taxable exchangeelection). To make a taxable exchangeelection, the following requirements mustbe satisfied–

(1) The exchanging shareholder (andits direct or indirect owners that would beaffected by the election, in the case of anexchanging shareholder that is a foreigncorporation) reports the exchange in amanner consistent therewith (see, e.g.,sections 954(c)(1)(B)(i), 1001 and 1248);

2000–6 I.R.B. 489 February 7, 2000

(2) The notification requirements ofparagraph (b)(4)(i)(C) of this section aresatisfied; and

(3) The adjustments described in para-graph (b)(4)(i)(B) of this section are madewhen the following circumstances arepresent–

(i) The transaction is described in sec-tion 332 or is an asset acquisition de-scribed in section 368(a)(1), with regardto which one U.S. person owns (directlyor indirectly) 100 percent of the foreignacquired corporation; and

(ii ) The all earnings and profits amountdescribed in §1.367(b)–3(b)(3)(i) with re-spect to the exchange exceeds the gainrecognized by the exchanging share-holder.

(B) Attribute reduction—(1) Reduc-tion of NOL carryovers. The amount bywhich the all earnings and profits amountexceeds the gain recognized by the ex-changing shareholder (the excess earningsand profits amount) shall be applied to re-duce the net operating loss carryovers (ifany) of the foreign acquired corporationto which the domestic acquiring corpora-tion would otherwise succeed under sec-tion 381(a) and (c)(1). See also Rev. Rul.72–421 (1972–2 C.B. 166) (see§601.601(d)(2) of this chapter).

(2) Reduction of capital loss carry-overs. After the application of paragraph(b)(4)(i)(B)(1) of this section, any re-maining excess earnings and profitsamount shall be applied to reduce the cap-ital loss carryovers (if any) of the foreignacquired corporation to which the domes-tic acquiring corporation would otherwisesucceed under section 381(a) and (c)(3).

(3) Reduction of basis. After the appli-cation of paragraph (b)(4)(i)(B)(2) of thissection, any remaining excess earningsand profits amount shall be applied to re-

duce (but not below zero) the basis of theassets (other than dollar-denominatedmoney) of the foreign acquired corpora-tion that are acquired by the domestic ac-quiring corporation. Such remaining ex-cess earnings and profits amount shall beapplied to reduce the basis of such assetsin the following order: first, tangible de-preciable or depletable assets, accordingto their class lives (beginning with thoseassets with the shortest class life); second,other non-inventory tangible assets; third,intangible assets that are amortizable; andfinally, the remaining assets of the foreignacquired corporation that are acquired bythe domestic acquiring corporation.Within each of these categories, if thetotal basis of all assets in the category isgreater than the excess earnings and prof-its amount to be applied against suchbasis, the taxpayer may choose to whichspecific assets in the category the basis re-duction first applies.

(C) Notification. The exchangingshareholder shall elect to apply the rulesof this paragraph (b)(4)(i) by attaching astatement of its election to its section367(b) notice. See §1.367(b)–1(c) for therules concerning filing a section 367(b)notice.

(D) Example. The following exampleillustrates the rules of this paragraph(b)(4)(i):

Example—(i) Facts. DC, a domestic corpora-tion, owns all of the outstanding stock of FC, a for-eign corporation. The stock of FC has a value of$100, and DC has a basis of $80 in such stock. Theassets of FC are one parcel of land with a value of$60 and a basis of $30, and tangible depreciable as-sets with a value of $40 and a basis of $80. FC hasno net operating loss carryovers or capital loss car-ryovers. The all earnings and profits amount withrespect to the FC stock owned by DC is $30, ofwhich $19 is described in section 1248(a) and the re-maining $11 is not (for example, because it wasearned prior to 1963). In a liquidation described in

section 332, FC distributes all of its property to DC,and the FC stock held by DC is canceled. Ratherthan including in income as a deemed dividend theall earnings and profits amount of $30 as provided in§1.367(b)–3(b)(3)(i), DC instead elects taxable ex-change treatment under paragraph (b)(4)(i)(A) ofthis section.

(ii) Result. DC recognizes the $20 of gain it real-izes on its stock in FC. Of this $20 amount, $19 isincluded in income by DC as a dividend pursuant tosection 1248(a). (For the source of the remaining $1of gain recognized by DC, see section 865. For thetreatment of the $1 for purposes of the foreign taxcredit limitation, see generally section904(d)(2)(A)(i).) Because the transaction is de-scribed in section 332 and because the all earningsand profits amount with respect to the FC stock heldby DC ($30) exceeds by $10 the income recognizedby DC ($20), the attribute reduction rules of para-graph (b)(4)(i)(B) of this section apply. Accordingly,the $10 excess earnings and profits amount is appliedto reduce the basis of the tangible depreciable assetsof FC, beginning with those assets with the shortestclass lives. Under section 337(a) FC does not recog-nize gain or loss in the assets that it distributes to DC,and under section 334(b) (which is applied takinginto account the basis reduction prescribed by para-graph (b)(4)(i)(A)(3) of this section) DC takes a basisof $30 in the land and $70 in the tangible depreciableassets that it receives from FC.

(ii) Effective date. This paragraph(b)(4) applies for section 367(b) ex-changes that occur between February 23,2000, and February 24, 2001.

(c) and (d) [Reserved]. For furtherguidance, see §1.367(b)–3(c) through (d).

Par. 3. The authority citation for part602 continues to read as follows:

Authority: 26 U.S.C. 7805.Par. 4. In §602.101, paragraph (b) is

amended as follows:1. Removing the following entries

from the table:§602.101 OMB Control numbers.* * * * *

(b) * * * 2. Adding the following entry in nu-

merical order to the table to read as fol-lows:

February 7, 2000 490 2000–6 I.R.B.

CFR part or section where Current OMBidentified and described control No.

* * * * *

7.367(b)–1 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-00267.367(b)–3 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-00267.367(b)–7 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-00267.367(b)–9 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-00267.367(b)–10 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-0026

* * * * *

§602.101 OMB Control numbers.* * * * *

(b) * * *

John M. Dalrymple,Acting Deputy Commissioner

of Internal Revenue.

Approved December 22, 1999.

Jonathan Talisman,Acting Assistant Secretary

of the Treasury.

(Filed by the Office of the Federal Register on Janu-ary 21, 2000, 8:45 a.m., and published in the issue ofthe Federal Register for January 24, 2000, 65 F.R.3586)

2000–6 I.R.B. 491 February 7, 2000

CFR part or section where Current OMBidentified and described control No.

* * * * *

1.367(b)–3T . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-1666

* * * * *

Section 382.—Limitation on NetOperating Loss Carryforwardsand Certain Built-In LossesFollowing Ownership Change

The adjusted applicable federal long-term rate isset forth for the month of February 2000. See Rev.Rul. 2000–9, page 497.

Section 412.—Minimum FundingStandards

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

Section 467.—Certain Paymentsfor the Use of Property orServices

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

Section 468.—Special Rules forMining and Solid WasteReclamation and Closing Costs

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

Section 482.—Allocation ofIncome and Deductions AmongTaxpayers

Federal short-term, mid-term, and long-termrates are set forth for the month of February 2000.See Rev. Rul. 2000–9, page 497.

Section 483.—Interest onCertain Deferred Payments

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

Section 642.—Special Rules forCredits and Deductions

Federal short-term, mid-term, and long-termrates are set forth for the month of February 2000.See Rev. Rul. 2000–9, page 497.

Section 807.—Rules for CertainReserves

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

Section 846.—DiscountedUnpaid Lossed Defined

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

Section 936.—Puerto Rico andPossessions Tax Credit

26 CFR 1.936–11: New lines of business prohibited.

T.D. 8868

DEPARTMENT OF THE TREASURYInternal Revenue Service26 CFR Part 1

Termination of Puerto Rico andPossession Tax Credit; NewLines of Business Prohibited

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Final regulations.

SUMMARY: This document amends theIncome Tax Regulations by removingtemporary regulations that provide guid-ance regarding the addition of a substan-tial new line of business by a possessionscorporation that is an existing creditclaimant and adding final regulations.These regulations are necessary to imple-ment changes made by the Small Busi-ness Job Protection Act of 1996.

DATES: Effective Date. These regula-tions are effective January 25, 2000.

FOR FURTHER INFORMATION CON-TACT: Daniel S. Karen, (202) 874-1490,or Jacob Feldman, (202) 622-3830 (nottoll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

Section 1601(a) of the Small BusinessJob Protection Act of 1996, Public Law104-188, 110 Stat. 1755 (1996), amendedthe Internal Revenue Code by adding sec-tion 936(j). Section 936(j) generally re-peals the Puerto Rico and possession taxcredit for taxable years beginning afterDecember 31, 1995. However, the sec-tion provides grandfather rules underwhich a corporation that is an existingcredit claimant would be eligible to claimcredits for a transition period. The Puerto

Rico and possession tax credit and thePuerto Rico economic activity creditphase out for these existing creditclaimants ending with the last taxableyear beginning before January 1, 2006.

For taxable years beginning after De-cember 31, 1995 and before January 1,2006, the Puerto Rico and possession taxcredit and the Puerto Rico economic ac-tivity credit apply only to a corporationthat qualifies as an existing creditclaimant (as defined in section936(j)(9)(A)). The determination ofwhether a corporation is an existing creditclaimant is made separately for each pos-session. A possessions corporation thatadds a substantial new line of business(other than in a qualifying acquisition ofall the assets of a trade or business of anexisting credit claimant) after October 13,1995, ceases to be an existing creditclaimant as of the beginning of the tax-able year during which such new line ofbusiness is added. Therefore, a posses-sions corporation that ceases to be an ex-isting credit claimant either because it hasadded a substantial new line of business,or because a new line of business be-comes substantial, during a taxable yearmay not claim the Puerto Rico and pos-session tax credit or the Puerto Rico eco-nomic activity credit for that taxable yearor any subsequent taxable year.

On August 19, 1998, T.D. 8778,1998–36 I.R.B. 4 were published in theFederal Register(63 FR 44387). A crossreferenced Notice of Proposed Rulemak-ing was also published in the Federal Reg-ister, REG–115446–97 (1998–36 I.R.B. 23[63 FR 44416]) on the same date. Threecomments were received with respect tothe Notice. No hearing was requested andnone was held. The temporary regulationsare, therefore, adopted as proposed withthe following changes, as explained,below.

Explanation of Revisions andSummary of Comments

Minor and conforming changes weremade in these final regulations. Severalchanges were also made in the final regu-lations with regard to the three commentsthat were received on the Notice of Pro-posed Rulemaking.

The first comment received addressedthe issue as to whether the leasing ofsome of the assets of an existing credit

claimant would result in a new line ofbusiness under section 936(j)(9)(B) withrespect to the leasing activity. In responseto the comment, the final regulations pro-vide that the leasing out of assets by anexisting credit claimant (and the employ-ees necessary to operate the leased assets)will not be treated as a new line of busi-ness provided that (1) the existing creditclaimant used the leased assets in an ac-tive trade or business for at least fiveyears, (2) the existing credit claimantdoes not through its own officers or staffof employees perform management or op-erational functions (but not including op-erational functions performed throughleased employees) with respect to theleased assets, and (3) the existing creditclaimant does not perform marketingfunctions with respect to the leasing of theassets. The income from the leasing ofassets will not be income from the activeconduct of a trade or business, and there-fore, the existing credit claimant may notreceive a possession tax credit with re-spect to such income.

A second comment asked for clarifica-tion as to whether a taxpayer seeking tobe treated as an existing credit claimantthrough the acquisition of the assets of anexisting credit claimant pursuant to sec-tion 936(j)(9)(A)(ii) must acquire all theassets of the acquired corporation even incases in which the existing credit claimanthas more than one trade or business. Thefinal regulations have been clarified toconform to the language of section936(j)(9)(A)(ii) and provide that an ac-quiring corporation need only acquire allthe assets of a single trade or business tobe treated as an existing credit claimant.

The third comment asked for clarifica-tion as to when the assets of a trade orbusiness are measured for purposes of sat-isfying the requirement that all the assetsof a trade or business must be acquiredfrom an existing credit claimant in orderto satisfy section 936(j)(9)(A)(ii). Specif-ically, the comment expressed concernthat assets of an existing credit claimantmay be sold or otherwise disposed of be-tween October 13, 1995, the date onwhich existing credit claimant status is es-tablished, and the date of acquisition. Inresponse to the comment, the final regula-tions provide that the assets of a trade orbusiness of an existing credit claimant aredetermined on the date of acquisition pro-

vided that the transferee actively conductsa trade or business in the possession withthe acquired assets.

Special Analyses

It has been determined that this finalregulation is not a significant regulatoryaction as defined in Executive Order12866. Therefore, a regulatory assess-ment is not required. It also has been de-termined that section 553(b) of the Ad-ministrative Procedure Act (5 U.S.C.chapter 5) does not apply to this regula-tion, and because the regulation does notimpose a collection of information onsmall entities, the Regulatory FlexibilityAct (5 U.S.C. chapter 6) does not apply.Pursuant to section 7805(f) of the InternalRevenue Code, the preceding notice ofproposed rulemaking was submitted tothe Chief Counsel for Advocacy of theSmall Business Administration for com-ment on its effect on small business.

Drafting Information

The principal author of this regulationis Daniel S. Karen of the Office of the As-sociate Chief Counsel (International),within the office of Chief Counsel, IRS.However, other personnel from the IRSand the Department of the Treasury par-ticipated in the development of this regu-lation.

* * * * *

Adoption of Amendments to theRegulations

Accordingly, 26 CFR part 1 is amendedas follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation forpart 1 is amended by removing the entryfor 1.936–11T and by adding an entry innumerical order to read as follows:

Authority: 26 U.S.C. 7805 * * * Section 1.936–11 also issued under 26U.S.C. 936(j). * * *§1.936–11T [Removed]

Par. 2. Section 1.936–11T is removed.Par. 3. Section 1.936–11 is added to

read as follows: §1.936–11 New lines of business prohib-ited.

(a) In general. A possessions corpora-tion that is an existing credit claimant, asdefined in section 936(j)(9)(A) and this

February 7, 2000 492 2000–6 I.R.B.

section, that adds a substantial new line ofbusiness during a taxable year, or that hasa new line of business that becomes sub-stantial during the taxable year, loses itsstatus as an existing credit claimant forthat year and all years subsequent.

(b) New line of business—(1) In gen-eral. A new line of business is any busi-ness activity of the possessions corpora-tion that is not closely related to apre-existing business of the possessionscorporation. The term closely relatedisdefined in paragraph (b)(2) of this sec-tion. The term pre-existing businessisdefined in paragraph (b)(3) of this sec-tion.

(2) Closely related. To determinewhether a new activity is closely relatedto a pre-existing business of the posses-sions corporation all the facts and circum-stances must be considered, includingthose set forth in paragraphs(b)(2)(i)(A)through (G) of this section.

(i) Factors. The following factors willhelp to establish that a new activity isclosely related to a pre-existing businessactivity of the possessions corporation—

(A) The new activity provides productsor services very similar to the products orservices provided by the pre-existingbusiness;

(B) The new activity markets productsand services to the same class of cus-tomers;

(C) The new activity is of a type that isnormally conducted in the same businesslocation;

(D) The new activity requires the use ofsimilar operating assets;

(E) The new activity’s economic suc-cess depends on the success of the pre-ex-isting business;

(F) The new activity is of a type thatwould normally be treated as a unit withthe pre-existing business in the business’accounting records; and

(G) The new activity and the pre-exist-ing business are regulated or licensed bythe same or similar governmental author-ity.

(ii) Safe harbors. An activity is not anew line of business if—

(A) If the activity is within the samesix-digit North American Industry Classi-fication System (NAICS) code (or four-digit Standard Industrial Classification(SIC) code). The similarity of the NAICSor SIC codes may not be relied upon to

determine whether the activity is closelyrelated to a pre-existing business wherethe code indicates a miscellaneous cate-gory;

(B) If the new activity is within thesame five-digit NAICS code (or three-digit SIC code) and the facts relating tothe new activity also satisfy at least threeof the factors listed in paragraphs(b)(2)(i)(A) through (G) of this section; or

(C) If the pre-existing business is mak-ing a component product or end-productform, as defined in §1.936–5(a)(1),Q&A1,and the new business activity is making anintegrated product, or an end-product formwith fewer excluded components, that isnot within the same six-digit NAICS code(or four-digit SIC code) as the pre-existingbusiness solely because the componentproduct and the integrated product (or twoend-product forms) have different end-uses.

(3) Pre-existing business—(i) In gen-eral. Except as provided in paragraph(b)(3)(ii) of this section, a business activ-ity is a pre-existing business of the exist-ing credit claimant if—

(A) The existing credit claimant wasactively engaged in the activity within thepossession on or before October 13, 1995;and

(B) The existing credit claimant hadelected the benefits of the Puerto Rico andpossession tax credit pursuant to an elec-tion which was in effect for the taxableyear that included October 13, 1995.

(ii) Acquisition of an existing creditclaimant. (A) If all the assets of one ormore trades or businesses of a corporationof an existing credit claimant are acquiredby an affiliated or non-affiliated existingcredit claimant which carries on the busi-ness activity of the predecessor existingcredit claimant, the acquired business ac-tivity will be treated as a pre-existingbusiness of the acquiring corporation. Anon-affiliated acquiring corporation willnot be bound by any section 936(h) elec-tion made by the predecessor existingcredit claimant with respect to that busi-ness activity.

(B) Where all of the assets of one ormore trades or businesses of a corporationof an existing credit claimant are acquiredby a corporation that is not an existingcredit claimant, the acquiring corporationmay make a section 936(e) election forthe taxable year in which the assets are

acquired with the following effects—(1) The acquiring corporation will be

treated as an existing credit claimant forthe year of acquisition;

(2) The activity will be considered apre-existing business of the acquiring cor-poration;

(3) The acquiring corporation will bedeemed to satisfy the rules of section936(a)(2) for the year of acquisition; and

(4) After making an election under sec-tion 936(e), a non- affiliated acquiringcorporation will not be bound by electionsunder sections 936(a)(4) and (h) made bythe predecessor existing credit claimant.

(C) For purposes of this section the as-sets of a trade or business are determinedat the time of acquisition provided thatthe transferee actively conducts the tradeor business acquired.

(D) A mere change in the stock owner-ship of a possessions corporation will notaffect its status as an existing creditclaimant for purposes of this section.

(4) Leasing of Assets.—(i) The leasingof assets (and employees to operate leasedassets) will not, for purposes of this sec-tion, be considered a new line of businessof the existing credit claimant if—

(A) the existing credit claimant usedthe leased assets in an active trade or busi-ness for at least five years;

(B) the existing credit claimant doesnot through its own officers or staff ofemployees perform management or oper-ational functions (but not including opera-tional functions performed through leasedemployees) with respect to the leased as-sets; and

(C) the existing credit claimant doesnot perform marketing functions with re-spect to the leasing of the assets.

(ii) Any income from the leasing of as-sets not considered a new line of businesspursuant to paragraph (b)(4)(i) of this sec-tion will not be income from the activeconduct of a trade or business (and, there-fore, the existing credit claimant may notreceive a possession tax credit with re-spect to such income).

(5) Timing rule. The tests for a newline of business in this paragraph(whether the new activity is closely re-lated to a pre-existing business) are ap-plied only at the end of the taxable yearduring which the new activity is added.

(c) Substantial—(1) In general. A newline of businessis considered to be sub-

2000–6 I.R.B. 493 February 7, 2000

stantial as of the earlier of—(i) The taxable year in which the pos-

sessions corporation derives more than 15percent of its gross income from that newline of business (gross income test); or

(ii) The taxable year in which the pos-sessions corporation directly uses in thatnew line of business more than 15 percentof its assets (assets test).

(2) Gross income test. The denomina-tor in the gross income test is the amountthat is the gross income of the possessionscorporation for the current taxable year,while the numerator is the amount that isthe gross income of the new line of busi-ness for the current taxable year. Thegross income test is applied at the end ofeach taxable year. For purposes of thistest, if a new line of business is added latein the taxable year, the income is not to beannualized in that year. In the case of anew line of business acquired through thepurchase of assets, the gross income ofsuch new line of business for the taxableyear of the acquiring corporation that in-cludes the date of acquisition is deter-mined from the date of acquisitionthrough the end of the taxable year. In thecase of a consolidated group electionmade pursuant to section 936(i)(5), thetest applies on a company by companybasis and not on a consolidated basis.

(3) Assets test—(i) Computation. Thedenominator is the adjusted tax basis ofthe total assets of the possessions corpora-tion for the current taxable year. The nu-merator is the adjusted tax basis of thetotal assets utilized in the new line ofbusiness for the current taxable year. Theassets test is computed annually using allassets including cash and receivables.

(ii) Exception. A new line of businessof a possessions corporation will not betreated as substantial as a result of meet-ing the assets test if an event that is notreasonably anticipated causes assets usedin the new line of business of the posses-sions corporation to exceed 15 percent ofthe adjusted tax basis of the possessionscorporation’s total assets. For example,an event that is not reasonably anticipatedwould include the destruction of plant andequipment of the pre-existing businessdue to a hurricane or other natural disas-ter, or other similar circumstances beyondthe control of the possessions corporation.The expiration of a patent is not such anevent and will not permit use of this ex-

ception. (d) Examples. The following examples

illustrate the rules described in paragraphs(a), (b), and (c) of this section. In the fol-lowing examples, X Corp. is an existingcredit claimant unless otherwise indi-cated:

Example 1. X Corp. is a pharmaceutical corpora-tion which manufactured bulk chemicals (a compo-nent product). In March 1997, X Corp. began toalso manufacture pills (e.g., finished dosages or anintegrated product). The new activity providesproducts very similar to the products provided bythe pre-existing business. The new activity is of atype that is normally conducted in the same businesslocation as the pre-existing business. The activity’seconomic success depends on the success of the pre-existing business. The manufacture of bulk chemi-cals is in NAICS code 325411, Medicinal andBotanical Manufacturing, while the manufacture ofthe pills is in NAICS code 325412, PharmaceuticalPreparation Manufacturing. Although the productshave a different end-use, may be marketed to a dif-ferent class of customers, and may not use similaroperating assets, they are within the same five-digitNAICS code and the activity also satisfies para-graphs (b)(2)(i)(A), (C), and (E) of this section.The manufacture of the pills by X Corp. will be con-sidered closely related to the manufacture of thebulk chemicals. Therefore, X Corp. will not be con-sidered to have added a new line of business for pur-poses of paragraph (b) of this section because it fallswithin the safe harbor rule of (b)(2)(ii)(B).

Example 2. X Corp. currently manufacturesprinted circuit boards in a possession. As a result ofa technological breakthrough, X Corp. could pro-duce the printed circuit boards more efficiently if itmodified its existing production methods. Becausedemand for its products was high, X Corp. expandedwhen it modified its production methods. Afterthese modifications to the facilities and productionmethods, the products produced through the newtechnology were in the same six-digit NAICS codeas products produced previously by X Corp. Seeparagraph (b)(2)(ii)(A) of this section. Therefore, XCorp. will not be considered to have added a newline of business for purposes of paragraph (b) of thissection because it falls within the safe harbor rule of(b)(2)(ii)(A).

Example 3. X Corp. has manufactured Device Ain Puerto Rico for a number of years and began tomanufacture Device B in Puerto Rico in 1997. De-vice A and Device B are both used to conduct elec-trical current to the heart and are both sold to cardi-ologists. There is no significant change in the typeof activity conducted in Puerto Rico after the trans-fer of the manufacturing of Device B to Puerto Rico.Similar manufacturing equipment, manufacturingprocesses and skills are used in the manufacture ofboth devices. Both are regulated and licensed by theFood and Drug Administration. The economic suc-cess of Device B is dependent upon the success ofDevice A only to the extent that the liability andmanufacturing prowess with respect to one reflectsfavorably on the other. Depending upon the heartabnormality, the cardiologist may choose to use De-vice A, Device B or both on a patient. The manufac-ture of Device B is treated as a unit with the manu-facture of Device A in X Corp.’s accounting records.

The manufacture of Device A is in the six-digitNAICS code 339112, Surgical and Medical Instru-ment Manufacturing. The manufacture of Device Bis in the six-digit NAICS code 334510, Electromed-ical and electrotherapeutic Apparatus Manufactur-ing. (The manufacture of Device A is in the four-digit SIC code 3845, Electromedical andElectrotherapeutic Apparatus. The manufacture ofDevice B is in the four-digit SIC code 3841, Surgi-cal and Medical Instruments and Apparatus.) Thesafe harbor of paragraph (b)(2)(ii)(B) of this sectionapplies because the two activities are within thesame three-digit SIC code and Corp. X satisfiesparagraphs (b)(2)(i)(A), (B), (C), (D), (F), and (G)of this section.

Example 4. X Corp. has been manufacturinghouse slippers in Puerto Rico since 1990. Y Corp.is a U.S. corporation that is not affiliated with XCorp. and is not an existing credit claimant. Y Corp.has been manufacturing snack food in the UnitedStates. In 1997, X Corp. purchased the assets of YCorp. and began to manufacture snack food inPuerto Rico. House slipper manufacturing is in thesix-digit NAICS code 316212 (Four-digit SICcode 3142, House Slippers). The manufacture ofsnack foods falls under the six-digit NAICS code311919, Other Snack Food Manufacturing (four-digit SIC code 2052, Cookies and Crackers (pret-zels)). Because these activities are not within thesame five or six digit NAICS code (or the samethree or four-digit SIC code), and because snackfood is not an integrated product that contains houseslippers, the safe harbor of paragraph (b)(2)(ii) ofthis section cannot apply. Considering all the factsand circumstances, including the seven factors ofparagraph (b)(2)(i) of this section, the snack foodmanufacturing activity is not closely related to themanufacture of house slippers, and is a new line ofbusiness, within the meaning of paragraph (b) of thissection.

Example 5. X Corp., a calendar year taxpayer, isan existing credit claimant that has elected theprofit-split method for computing taxable income. PCorp. was not an existing credit claimant and manu-factured a product in a different five-digit NAICScode than the product manufactured by X Corp. In1997, X Corp. acquired the stock of P Corp. and liq-uidated P Corp. in a tax-free liquidation under sec-tion 332, but continued the business activity of PCorp. as a new business segment. Assume that thisnew business segment is a new line of businesswithin the meaning of paragraph (c) of this section.In 1997, X Corp. has gross income from the activeconduct of a trade or business in a possession com-puted under section 936(a)(2) of $500 million andthe adjusted tax basis of its assets is $200 million.The new business segment had gross income of $60million, or 12 percent of the X Corp. gross income,and the adjusted basis of the new segment’s assetswas $20 million, or 10 percent of the X Corp. totalassets. In 1997, X Corp. does not derive more than15 percent of its gross income, or directly use morethat 15 percent of its total assets, from the new busi-ness segment. Thus, the new line of business ac-quired from P Corp. is not a substantialnew line ofbusiness within the meaning of paragraph (c) of thissection, and the new activity will not cause X Corp.to lose its status as an existing credit claimant during1997. In 1998, however, the gross income of XCorp. grew to $750 million while the gross income

February 7, 2000 494 2000–6 I.R.B.

of the new line of business grew to $150 million, or20% of the X Corp. 1998 gross income. Thus, in1998, the new line of business is substantial withinthe meaning of paragraph (c) of this section, and XCorp. loses its status as an existing credit claimantfor 1998 and all years subsequent.

(e) Loss of status as existing creditclaimant. An existing credit claimant thatadds a substantial new line of business ina taxable year, or that has a new line ofbusiness that becomes substantial in a tax-able year, loses its status as an existingcredit claimant for that year and all yearssubsequent.

(f) Effective date—(1) General rule.This section applies to taxable years of apossessions corporation beginning on orafter January 25, 2000.

(2) Election for retroactive application.Taxpayers may elect to apply retroac-tively all the provisions of this section forany open taxable year beginning after De-cember 31, 1995. Such election will beeffective for the year of the election andall subsequent taxable years. This sectionwill not apply to activities of pre-existingbusinesses for taxable years beginning be-fore January 1, 1996.

David Mader,Acting Deputy Commissioner

of Internal Revenue.

Approved January 12, 2000.

Jonathan Talisman,Acting Assistant Secretary

of the Treasury.

(Filed by the Office of the Federal Register on Janu-ary 21, 2000, 8:45 a.m., and published in the issue ofthe Federal Register for January 25, 2000, 65 F.R.3814)

Section 1092.—Straddles

26 CFR 1.1092(c)–1: Equity options with flexibleterms.

T.D. 8866

DEPARTMENT OF THE TREASURYInternal Revenue Service26 CFR Part 1

Equity Options With FlexibleTerms; Special Rules andDefinitions

AGENCY: Internal Revenue Service(IRS), Treasury

ACTION: Final regulations.

SUMMARY: This document containsfinal regulations providing guidance onthe application of the rules governingqualified covered calls. The new rules ad-dress concerns that were created by theintroduction of new financial instrumentsafter the enactment of the qualified cov-ered call rules. The final regulations willprovide guidance to taxpayers writingqualified covered calls.

EFFECTIVE DATE: These regulationsare effective January 25, 2000.

FOR FURTHER INFORMATION CON-TACT: Pamela Lew of the Office of As-sistant Chief Counsel (Financial Institu-tions and Products), (202) 622-3950 (nota toll-free number).

SUPPLEMENTARY INFORMATION:

Background

On June 25, 1998, the IRS published inthe Federal Registerproposed regulationsREG–104641–97 (1998–29 I.R.B. 9 [63F.R. 34616]) addressing whether strikeprices available for equity options withflexible terms affect the definition of aqualified covered call (QCC) under section1092(c)(4) for equity options with stan-dardized terms. No requests to speak at apublic hearing were received, and no publichearing was held.

Two written comments were received.These comments focused on whether eq-uity options with flexible terms should beeligible for QCC treatment. After consid-ering these comments, the IRS and Trea-sury have decided to address the eligibil-ity of equity options with flexible termsand certain other equity options for QCCtreatment in other forthcoming guidance.

One of the comments also suggested aclarifying change to the text of the pro-posed regulations. After revising the reg-ulation to take into account this comment,the proposed regulations are adopted bythis Treasury decision.

Explanation of Provisions

Section 1092(c) defines a straddle asoffsetting positions with respect to per-sonal property. Under section 1092(d)(3),stock is personal property if the stock is

part of a straddle that involves an optionon that stock or substantially identicalstock or securities. Under section1092(c)(4), however, writing a QCC op-tion and owning the optioned stock is nottreated as a straddle for purposes of sec-tion 1092.

In order to be a QCC, a call option must,among other things, be exchange-tradedand not be deep in the money. An option isdeep in the money if the strike price of theoption is lower than the lowest qualifiedbench mark for the stock. This bench markis generally the highest available strikeprice for an option on the stock that is lessthan the applicable stock price.

At the time the QCC provisions were en-acted, exchange-traded options were avail-able only at standardized maturity datesand strike price intervals. This fixed-inter-val system was a basic assumption of theCongressional plan for QCCs and, morespecifically, was the foundation for the def-inition of a deep-in-the-money option.

Certain options exchanges have begunto trade equity options with flexibleterms. Unlike standardized exchange-traded options, these options could havestrike prices at other than fixed intervals.For this reason, there is concern that thestrike prices established for equity optionswith flexible terms could impact thebench-mark system for standardized ex-change-traded options.

The proposed regulations provide thatstrike prices established by equity optionswith flexible terms are not taken into ac-count in determining whether options thatare not equity options with flexible termsare deep in the money. Thus, the existenceof strike prices established by equity op-tions with flexible terms does not affect thelowest qualified bench mark, as determinedunder section 1092(c)(4)(D), for an equityoption with standardized terms.

One commentator was concerned thatusage of the phrase “existence of strikeprices established by equity options with-out standardized terms” might be inter-preted as requiring actual trading at a par-ticular strike price. The commentatorsuggested that the regulation be modifiedto discuss the availability of a strike pricefor equity options with flexible termsrather than the existence of a strike priceestablished by equity options with flexi-ble terms. This suggestion has been in-corporated into the final regulation.

2000–6 I.R.B. 495 February 7, 2000

Special Analyses

It has been determined that this Trea-sury decision is not a significant regula-tory action as defined in Executive Order12866. Therefore, a regulatory assess-ment is not required. It also has been de-termined that section 553(b) of the Ad-ministrative Procedure Act (5 U.S.C.chapter 5) does not apply to these regula-tions and, because the regulations do notimpose a collection of information onsmall entities, the Regulatory FlexibilityAct (5 U.S.C. chapter 6) does not apply.Pursuant to section 7805(f) of the InternalRevenue Code, the notice of proposedrulemaking was submitted to the ChiefCounsel for Advocacy of the Small Busi-ness Administration for comment on itsimpact on small business.

Drafting Information

The principal author of these regula-tions is Pamela Lew, Office of AssistantChief Counsel (Financial Institutions andProducts). However, other personnelfrom the IRS and Treasury Departmentparticipated in their development.

* * * * *

Adoption of Amendments to theRegulations

Accordingly, 26 CFR part 1 is amendedas follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation forpart 1 is amended by adding an entry innumerical order to read as follows:

Authority: 26 U.S.C. 7805 * * * Section 1.1092(c)–1 also issued under

26 U.S.C. 1092(c)(4)(H). * * *

Par. 2. Section 1.1092(c)–1 is added toread as follows:§1.1092(c)–1 Equity options withflexible terms.

(a) In general. Section 1092(c)(4) pro-vides an exception to the general rule thata straddle exists if a taxpayer holds stockand writes a call option on that stock.Under section 1092(c)(4), the ownershipof stock and the issuance of a call optionmeeting certain requirements result in aqualified covered call, which is exemptedfrom the general straddle rules of section1092. This section addresses the conse-quences of the availability of equity op-

tions with flexible terms under the quali-fied covered call rules.

(b) No effect on lowest qualified benchmark for standardized options. The avail-ability of strike prices for equity optionswith flexible terms does not affect the de-termination of the lowest qualified benchmark, as defined in section 1092(c)(4)(D),for an option that is not an equity optionwith flexible terms.

(c) [Reserved].(d) Definitions. For purposes of this

section– (1) Equity option with flexible terms

means an equity option— (i) That is described in any of the fol-

lowing Securities Exchange Act Re-leases—

(A) Self-Regulatory Organizations;Order Approving Proposed Rule Changesand Notice of Filing and Order GrantingAccelerated Approval of Amendments bythe Chicago Board Options Exchange,Inc. and the Pacific Stock Exchange, Inc.,Relating to the Listing of Flexible EquityOptions on Specified Equity Securities,Securities Exchange Act Release No.34–36841 (Feb. 21, 1996); or

(B) Self-Regulatory Organizations;Order Approving Proposed Rule Changesand Notice of Filing and Order GrantingAccelerated Approval of AmendmentNos. 2 and 3 to the Proposed Rule Changeby the American Stock Exchange, Inc.,Relating to the Listing of Flexible EquityOptions on Specified Equity Securities,Securities Exchange Act Release No.34–37336 (June 27, 1996); or

(C) Self-Regulatory Organizations;Order Approving Proposed Rule Changeand Notice of Filing and Order GrantingAccelerated Approval of AmendmentNos. 2, 4 and 5 to the Proposed RuleChange by the Philadelphia Stock Ex-change, Inc., Relating to the Listing ofFlexible Exchange Traded Equity andIndex Options, Securities Exchange ActRelease No. 34–39549 (Jan. 23, 1998); or

(D) Any changes to the SEC releasesdescribed in paragraphs (d)(1)(i)(A)through (C) of this section that are ap-proved by the Securities and ExchangeCommission; or

(ii) That is traded on any national secu-rities exchange which is registered withthe Securities and Exchange Commission(other than those described in the SECReleases set forth in paragraph (d)(1)(i) of

this section) or other market which theSecretary determines has rules adequateto carry out the purposes of section 1092and is—

(A) Substantially identical to the equityoptions described in paragraph (d)(1)(i) ofthis section; and

(B) Approved by the Securities and Ex-change Commission in a Securities Ex-change Act Release.

(2) Securities Exchange Act Releasemeans a release issued by the Securitiesand Exchange Commission. To deter-mine identifying information for releasesreferenced in paragraph (d)(1) of this sec-tion, including release titles, identificationnumbers, and issue dates, contact the Of-fice of the Secretary, Securities and Ex-change Commission, 450 5th Street, NW.,Washington, DC 20549. To obtain a copyof a Securities Exchange Act Release,submit a written request, including thespecific release identification number,title, and issue date, to Securities and Ex-change Commission, Attention PublicReference, 450 5th Street, NW., Washing-ton, DC 20549.

(e) Effective date. These regulationsapply to equity options with flexibleterms entered into on or after January 25,2000.

Robert E. Wenzel,Deputy Commissioner

of Internal Revenue.

Approved January 17, 2000.

Jonathan Talisman,Acting Assistant Secretary

of the Treasury.

(Filed by the Office of the Federal Register on Janu-ary 21, 2000, 8:45 a.m., and published in the issue ofthe Federal Register for January 25, 2000, 65 F.R.3812)

Section 1274.—Determinationof Issue Price in the Case ofCertain Debt Instruments Issuedfor Property

(Also Sections 42, 280G, 382, 412, 467, 468, 482,483, 642, 807, 846, 1288, 7520, 7872.)

Federal rates; adjusted federal rates;adjusted federal long-term rate, andthe long-term exempt rate.For purposesof sections 1274, 1288, 382, and othersections of the Code, tables set forth the

February 7, 2000 496 2000–6 I.R.B.

rates for February 2000.

Rev. Rul. 2000–9

This revenue ruling provides variousprescribed rates for federal income taxpurposes for February 2000 (the currentmonth.) Table 1 contains the short-term,mid-term, and long-term applicable fed-eral rates (AFR) for the current month for

purposes of section 1274(d) of the Inter-nal Revenue Code. Table 2 contains theshort-term, mid-term, and long-term ad-justed applicable federal rates (adjustedAFR) for the current month for purposesof section 1288(b). Table 3 sets forth theadjusted federal long-term rate and thelong-term tax-exempt rate described insection 382(f). Table 4 contains the ap-

propriate percentages for determining thelow-income housing credit described insection 42(b)(2) for buildings placed inservice during the current month. Finally,Table 5 contains the federal rate for deter-mining the present value of an annuity, aninterest for life or for a term of years, or aremainder or a reversionary interest forpurposes of section 7520.

2000–6 I.R.B. 497 February 7, 2000

REV. RUL. 2000–9 TABLE 1

Applicable Federal Rates (AFR) for February 2000

Period for Compounding

Annual Semiannual Quarterly Monthly

Short-Term

AFR 6.20% 6.11% 6.06% 6.03%110% AFR 6.83% 6.72% 6.66% 6.63%120% AFR 7.46% 7.33% 7.26% 7.22%130% AFR 8.10% 7.94% 7.86% 7.81%

Mid-Term

AFR 6.56% 6.46% 6.41% 6.37%110% AFR 7.24% 7.11% 7.05% 7.01%120% AFR 7.90% 7.75% 7.68% 7.63%130% AFR 8.58% 8.40% 8.31% 8.26%150% AFR 9.92% 9.69% 9.58% 9.50%175% AFR 11.63% 11.31% 11.15% 11.05%

Long-Term

AFR 6.77% 6.66% 6.61% 6.57%110% AFR 7.46% 7.33% 7.26% 7.22%120% AFR 8.15% 7.99% 7.91% 7.86%130% AFR 8.85% 8.66% 8.57% 8.51%

REV. RUL. 2000–9 TABLE 2

Adjusted AFR for February 2000

Period for Compounding

Annual Semiannual Quarterly Monthly

Short-termadjusted AFR 4.19% 4.15% 4.13% 4.11%

Mid-termadjusted AFR 4.87% 4.81% 4.78% 4.76%

Long-term adjusted AFR 5.73% 5.65% 5.61% 5.58%

REV. RUL. 2000–9 TABLE 3

Rates Under Section 382 for February 2000

Adjusted federal long-term rate for the current month 5.73%

Long-term tax-exempt rate for ownership changes during the current month (the highest of the adjustedfederal long-term rates for the current month and the prior two months.)

5.73%

February 7, 2000 498 2000–6 I.R.B.

REV. RUL. 2000–9 TABLE 4

Appropriate Percentages Under Section 42(b)(2)

for February 2000

Appropriate percentage for the 70% presentvalue low-income housing credit 8.57%

Appropriate percentage for the 30% presentvalue low-income housing credit 3.67%

REV. RUL. 2000–9 TABLE 5

Rate Under Section 7520 for February 2000

Applicable federal rate for determining the present value of an annuity, an interest for life or a termof years, or a remainder or reversionary interest 8.0%

Section 1288.—Treatment ofOriginal Issue Discounts on TaxExempt Obligations

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

Section 1361.—S CorporationDefined

26 CFR 1.351–2: Definitions relating to Scorporation subsidiaries.

T.D. 8869

DEPARTMENT OF THE TREASURYInternal Revenue Service26 CFR Parts 1, 301, and 602

Subchapter S Subsidiaries

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Final regulations.

SUMMARY: This document containsfinal regulations that relate to the treat-ment of corporate subsidiaries of S corpo-rations and interpret the rules added to theInternal Revenue Code by section 1308 ofthe Small Business Job Protection Act of1996. These regulations provide the pub-lic with guidance needed to comply withapplicable law and will affect S corpora-tions and their shareholders.

DATES: Effective Date: These regula-tions are effective January 20, 2000.

Applicability Date: For dates of applic-ability, see §§1.1361–4(a)(3)(ii i),1.1361–4(a)(5)(i), 1.1361–5(c)(2),1.1361–6, 1.1362–8(e), and301.6109–1(i)(4).

FOR FURTHER INFORMATION CON-TACT: Jeanne M. Sullivan (202)622-3050 (not a toll-free number) or David J.Sotos (202)622-3050 (Subchapter S);Michael N. Kaibni (202)622-7550 (Sub-chapter C) (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collections of information con-tained in these final regulations have beenreviewed and approved by the Office ofManagement and Budget in accordancewith the Paperwork Reduction Act (44U.S.C. 3507) under control number 1545-1590. Responses to these collections ofinformation are required to determine themanner in which a corporate subsidiary ofan S corporation will be treated under theInternal Revenue Code.

An agency may not conduct or sponsor,and a person is not required to respond to,a collection of information unless the col-lection of information displays a validcontrol number assigned by the Office ofManagement and Budget.

The estimated annual burden per re-spondent/recordkeeper varies from 45minutes to 1 hour, depending on individ-ual circumstances, with an estimated av-erage of 57 minutes.

Comments concerning the accuracy ofthis burden estimate and suggestions forreducing this burden should be sent to theInternal Revenue Service, Attn: IRS Re-ports Clearance Officer, OP:FS:FP, Wash-ington, DC 20224, and to the Office of

Management and Budget, Attn: DeskOfficer for the Department of the Trea-sury, Office of Information and Regula-tory Affairs, Washington, DC 20503.

Books or records relating to this collec-tion of information must be retained aslong as their contents may become mater-ial in the administration of any internalrevenue law. Generally, tax returns andtax return information are confidential, asrequired by 26 U.S.C. 6103.

Background

On April 22, 1998, the IRS publishedREG–251698–96, 1998–20 I.R.B. 14 (63FR 19864) concerning the treatment ofcorporate subsidiaries of S corporations.The regulations interpreted rules added tothe Internal Revenue Code (Code) by sec-tion 1308 of the Small Business Job Pro-tection Act of 1996, Public Law 104–188,110 Stat. 1755 (the Act), as amended bysection 1601 of the Taxpayer Relief Actof 1997, Public Law 105–34, 111 Stat.788 (the 1997 Act). The Act modifiedsection 1361 of the Code to permit an Scorporation (1) to own 80 percent or moreof the stock of a C corporation, and (2) toelect to treat a wholly owned subsidiaryas a qualified subchapter S subsidiary(QSub). The 1997 Act made a technicalcorrection to section 1361 to provide reg-ulatory authority to make exceptions tothe general tax treatment of an election tobe a QSub.

Written comments were received in re-sponse to the notice of proposed rulemak-ing, and a public hearing was held on Oc-tober 14, 1998. After consideration of allthe comments, the proposed regulationsunder sections 1361, 1362, and 1374 areadopted, as revised by this Treasury deci-sion. The comments received and the re-visions are discussed below. In addition,regulations under section 6109 areadopted to provide additional guidanceconsistent with the QSub provisions.

On January 13, 1997, the IRS pub-lished Notice 97–4, 1997–1 C.B. 351, toprovide a temporary procedure for mak-ing a QSub (formerly QSSS) election.Taxpayers should continue to follow No-tice 97–4 when making a QSub electionuntil the QSub election form is published.

Explanation of Provisions

1. Step Transaction Doctrine

a. QSub Election

The proposed regulations provide that,when an S corporation makes a valid QSubelection with respect to a subsidiary, thesubsidiary is deemed to have liquidatedinto the parent S corporation immediatelybefore the QSub election is effective. Thetax treatment of this liquidation, alone or inthe context of any larger transaction (forexample, a transaction that also includesthe acquisition of the subsidiary’s stock),generally is determined under all relevantprovisions of the Code and general princi-ples of tax law, including the step transac-tion doctrine. However, the proposed regu-lations include a special transition rule thatapplies to certain elections effective prior tothe date that is 60 days after publication offinal regulations in the Federal Register.The transition rule suspends the applicationof the step transaction doctrine with respectto the acquisition of stock followed by aQSub election in cases where the S corpo-ration and the subsidiary are related (as de-scribed in section 267(b)) prior to the ac-quisition of the subsidiary’s stock.

Commentators expressed concern overthe application of the step transaction doc-trine to transactions that include thedeemed liquidation that occurs as the resultof a QSub election. These commentatorsargued that applying step transaction to theacquisition of stock that precedes a QSubelection can cause the transaction to be re-cast as an asset acquisition under section368 with results that may be inconsistentwith the expectations of some taxpayers.Under step transaction principles, for ex-ample, if, pursuant to a plan, a shareholdercontributes the stock of one wholly ownedS corporation (S2) to another whollyowned S corporation (S1), and makes aQSub election for S2, the transaction gener-ally would be a reorganization under sec-tion 368(a)(1)(D), with the possibility ofgain recognition under section 357(c). Seegenerally, Rev. Rul. 67–274 (1967–2 C.B.141). In the opinion of these commenta-tors, the legislative history of the QSub pro-visions indicates that the deemed liquida-tion that is incident to a QSub electionshould be respected as an independent, tax-free liquidation under section 332, ratherthan recast under the principles of the steptransaction doctrine.

After consideration of all of the com-ments, Treasury and the IRS believe thatthe proposed regulations are consistent

with the legislative history of the QSub pro-visions, conform the results of the deemedliquidation to the results that would obtainif an actual liquidation occurred, and followthe approach taken in other provisions ofthe tax law. In T.D. 8844, (1999–50 I.R.B.661) published on November 29, 1999 (64FR 66580), rules for elective changes in theclassification of an entity for Federal taxpurposes also provide that the tax treatmentof a change in the classification of an entityby election is determined under all relevantprovisions of the Internal Revenue Codeand general principles of tax law, includingthe step transaction doctrine.) Accordingly,the final regulations provide that generalprinciples of tax law, including step trans-action, apply to determine the tax conse-quences of the transactions that include aQSub election. The final regulations pro-vide examples illustrating the results of ap-plying step transaction in the context of aQSub election.

The final regulations also provide for anextended transition period during whichstep transaction will be suspended. Duringthe extended transition period, it is antici-pated that proposed regulations publishedin the Federal Register on June 14, 1999,relating to the tax treatment of partiallycontrolled subsidiaries under section368(a)(1)(C) (64 FR 31770), will be final-ized. These regulations generally reversethe IRS’s position that the acquisition of as-sets of a partially controlled subsidiary doesnot qualify as a tax-free reorganizationunder section 368(a)(1)(C). See Bausch &Lomb Optical Co. v. Commissioner, 30 T.C.602 (1958), aff’d 267 F.2d 75 (2d Cir.),cert. denied, 361 U.S. 835 (1959); Rev.Rul. 54–396, 1954–2 C.B. 147. The regu-lations provide that preexisting ownershipof a portion of a target corporation’s stockby an acquiring corporation generally willnot prevent the solely for voting stock re-quirement in a “C” reorganization frombeing satisfied. See also Notice 2000–1,2000–2 I.R.B. 288, which provides that theproposed regulations, when finalized, willprovide that the regulations generally willapply to transactions occurring after De-cember 31, 1999, with an exception fortransactions pursuant to binding agree-ments. The finalization of these regulationswill provide additional certainty as to thetax consequences of making a QSUB elec-tion in situations where an S corporationacquires the remainder of a partially con-

2000–6 I.R.B. 499 February 7, 2000

trolled subsidiary in exchange for stock ofthe S corporation and immediately there-after elects QSUB status with respect to thesubsidiary.

b. QSUB TerminationSection 1361(b)(3)(C) provides that, if

a QSUB election terminates, the corpora-tion is treated as a new corporation ac-quiring all of its assets (and assuming allof its liabilities) from the S corporation inexchange for stock of the new corporationimmediately before the termination. Theproposed regulations provide that the taxtreatment of this transaction or of a largertransaction that includes this transactionwill be determined under the Code andgeneral principles of tax law, includingthe step transaction doctrine. The pro-posed regulations include examples illus-trating the application of the step transac-tion doctrine in the context of thetermination of a QSUB election.

Commentators recommended that steptransaction not apply to the termination ofa QSUB election. Those commentatorsargue that the application of the steptransaction doctrine causes inappropriatetax results in some situations. One exam-ple cited is the sale of 21 percent of thestock of a QSUB, thereby terminating theQSUB election. Under step transactionprinciples, the deemed formation of a newcorporation that occurs as a result of theQSub termination fails to qualify undersection 351 because the S corporationparent is not in control of the new corpo-ration as defined in section 368(c) afterthe disposition. As a result of the failureto qualify under section 351, gain wouldbe recognized on all of the QSub’s assets.

Treasury and the IRS believe that it isappropriate to apply the step transactiondoctrine to the termination of a QSubelection. Applying the step transactionprinciples to the control requirement ofsection 351 after the disposition of QSubstock is completed is consistent with thelegislative history of the QSub termina-tion provisions. S. Rep. No. 104–281,104th Cong., 2d Sess. 52 n.59 (1996).Moreover, in many cases, application ofthe step transaction doctrine will providea more taxpayer favorable result than giv-ing separate effect to each step. This mayoccur, for example, if 100 percent of thestock of a QSub is sold. In that case, ap-plying step transaction principles wouldresult in a fair market value basis for the

former QSub’s assets, rather than a lowercarryover basis that would result (absent asection 338 election) from treating thedeemed formation of the new corporationas an independent step qualifying undersection 351. In order to assist taxpayersto understand the effect of QSub termina-tions, the final regulations include two ex-amples that illustrate the contrasting taxconsequences of purchasing 21 percent ofthe stock of a QSub as opposed to the taxconsequences of contributing property tothe QSub in exchange for 21 percent ofthe former QSub’s stock. The final regu-lations include additional examples illus-trating the consequences of revoking theQSub election prior to sale of the QSub’sstock and of merging a QSub into a disre-garded entity prior to such sale.2. “F” Reorganizations During the Tran-sition Period.

As noted above, commentators gener-ally oppose applying the step transactiondoctrine to the acquisition of the stock ofa corporation followed immediately by aQSub election. Some commentators,however, suggested that, for policy andother reasons, during the transition pe-riod, the formation of a new shell S cor-poration (Newco) by the shareholders ofan existing S corporation, followed by thecontribution of the stock of the existing Scorporation to Newco, coupled with animmediate QSub election for the existingcorporation, should be characterized as areorganization under section 368(a)(1)(F)if all of the other requisites of that sectionare met. Treating the transaction as an“F” reorganization (as opposed to a stockacquisition followed by a section 332 liq-uidation) can be beneficial to taxpayers.For example, the existing S corporation’staxable year does not close if it undergoesan “F” reorganization.

In light of the underlying purpose of thetransition rule as a relief provision for thebenefit of taxpayers, during the extendedtransition period provided in the final regu-lations, the IRS will not challenge taxpay-ers who, through application of the steptransaction doctrine to an acquisition ofstock followed by a QSub election, obtaintax treatment similar to that applied in avalid reorganization under section368(a)(1)(F) if, without regard to the transi-tion rule, the transaction would properlyqualify as such a reorganization.3. Timing of Adoption of Plan of Liquida-

tionUnder section 332(a), no gain or loss

shall be recognized on the receipt by acorporation of property distributed incomplete liquidation of another corpora-tion if the requirements of section 332(b)are satisfied. Those requirements includethe adoption of a plan of liquidation at atime when the corporation receiving thedistribution owns 80 percent or more ofthe stock of the liquidating corporation.A QSub election results in a constructiveliquidation for Federal tax purposes. For-mally adopting a plan of liquidation forthe QSub, however, is potentially incom-patible with the QSub provisions of theCode, which allow the state-law entity tocontinue to exist while liquidating onlyfor Federal tax purposes. In order to pro-vide tax treatment for the constructive liq-uidation incident to a QSub election thatis compatible with the requirements ofsection 332, the proposed regulations in-clude a provision that the making of aQSub election satisfies the requirement ofadopting a plan of liquidation.

One commentator asked that the regu-lations provide a safe harbor with respectto the timing of the adoption of the plan ofliquidation for purposes of section 332.The commentator argued that, where theacquisition of stock followed by thedeemed liquidation does not constitute areorganization (after appropriate applica-tion of step-transaction principles), theregulations should provide that, for pur-poses of applying section 332 to the liqui-dation incident to a QSub election, the Scorporation will be deemed to adopt aplan of liquidation for its subsidiary as ofthe effective date of the election, whichshould not precede the acquisition by theS corporation of 100 percent of the stockof the subsidiary.

The timing of the adoption of the planof liquidation is important in the contextof section 332 because only liquidatingdistributions to a corporation that owns 80percent or more of the stock of the sub-sidiary when the plan is adopted qualifyfor tax-free treatment. A QSub electioncannot be effective until the parent S cor-poration owns 100 percent of the sub-sidiary. Thus, the constructive liquidationincident to a QSub election cannot com-mence before that level of ownership isattained. Furthermore, providing cer-tainty with respect to the deemed timing

February 7, 2000 500 2000–6 I.R.B.

of the adoption of the plan of liquidationfacilitates the efficient administration anduse of the QSub provisions. Accordingly,to provide tax treatment of a QSub elec-tion that is compatible with the require-ments of section 332, the final regulationsprovide that, for purposes of satisfyingthe requirement of section 332(b) that theparent corporation own stock in the sub-sidiary meeting the requirements of sec-tion 1504(a)(2) on the date of adoption ofthe plan of liquidation of the subsidiary,the plan of liquidation is deemed adoptedimmediately before the deemed liquida-tion incident to a QSub election unless aformal plan of liquidation that contem-plates the filing of the QSub election isadopted on an earlier date. (Although nosimilar rule is contained in the rules forelective changes in the classification of anentity for Federal tax purposes, Treasuryand the IRS intend to amend those regula-tions to include such a rule.) However, ifas a result of the application of general taxprinciples the transactions that include theQSub election are treated as an asset ac-quisition, section 332 is not applicableand this rule has no relevance.4. Insolvent Subsidiaries

In general, section 332 does not applyto the liquidation of an insolvent corpora-tion, because the parent corporation doesnot receive at least partial payment for thestock of its subsidiary. See, e.g.,§1.332–2(b) and Rev. Rul. 68–602(1968–2 C.B. 135). One commentatorrecommended that a QSub election madefor an insolvent subsidiary be eligible fortax-free treatment under section 332. Thecommentator argued that the legislativehistory of the QSub provisions makes itclear that a QSub election should qualifyas a liquidation under section 332 unlessregulations provide otherwise and thattaxpayers may be unaware of the harsh re-sults of making a QSub election for an in-solvent corporation.

Treasury and the IRS do not agree thatthe legislative history indicates that sec-tion 332 applies to the liquidation of aninsolvent corporation. In order to assisttaxpayers, an example illustrates the ef-fect of a QSub election for an insolventcorporation. 5. Definition of Stock of the QSub

Commentators recommended that, forpurposes of determining whether a sub-sidiary is wholly owned by the parent S

corporation, arrangements that are notconsidered to be stock under the one-class-of-stock rules of §1.1361–1(l)should be disregarded. The commenta-tors noted that applying the principles ofthese regulations would provide certaintywith respect to the subsidiary’s eligibilityto be a QSub and avoid difficult debt/eq-uity determinations.

The final regulations adopt the positionrecommended by the commentators. Thefinal regulations provide that, for purposesof determining whether the deemed liqui-dation of the subsidiary qualifies undersection 332, the deemed exercise of an op-tion under §1.1504–4 and any instrument,obligation, or arrangement that would notbe considered stock under the one-class-of-stock rules of §1.1361–1(l) are disre-garded in determining if the stock owner-ship requirements of section 332(b) aremet. For example, an option that wouldnot be treated as stock under §1.1361–1,but that would be treated as exercisedunder §1.1504–4, is disregarded. Simi-larly, if a QSub election terminates, in de-termining the applicability of section 351,the determination of whether stock owner-ship of the newly formed corporation satis-fies the control requirement of section368(c) is made without regard to instru-ments, obligations, or other arrangementsthat are not treated as stock for purposes ofthe 100 percent stock ownership require-ment for the election.

The rule regarding options under§1.1504–4 is included for purposes of ap-plying section 332 because section 332explicitly incorporates the affiliation rulesof section 1504. See §1.1504–4(a)(1) (theoption rules apply to all provisions underthe Code and the regulations to which af-filiation within the meaning of section1504(a) is relevant). The affiliation rulesare not relevant for purposes of applyingthe rules regarding the 100 percent stockownership requirement in section1361(b)(3)(B)(i). Accordingly, the ruleconcerning the treatment of stock in ap-plying the 100 percent stock ownershiprequirement does not refer to the optionrules under §1.1504–4.6. Section 1374 and Excess Loss Ac-counts

Commentary on the proposed regula-tions identified certain discrepancies inthe treatment of tiered groups of corpora-tions when QSub elections are made for

some or all of the members of the groupand certain unintended implications of thesentence added to §1.1374–8(b) in theproposed regulations.a. Section 1374

Section 1374(d)(8) and §1.1374–8(a)generally provide that, if an S corporationacquires assets in a transaction in whichthe S corporation’s basis in the assets isdetermined (in whole or in part) by refer-ence to a C corporation’s basis in the as-sets (or any other property) (a section1374(d)(8) transaction), section 1374 ap-plies to the net recognized built-in gain at-tributable to the assets acquired in such atransaction. Section 1.1374–8(b) pro-vides that, for purposes of the tax im-posed under section 1374(d)(8), a sepa-rate determination of tax is made withrespect to the assets the S corporation ac-quires in one section 1374(d)(8) transac-tion from the assets the S corporation ac-quires in another section 1374(d)(8)transaction and from the assets the corpo-ration held when it became an S corpora-tion.

A corporation’s section 1374 attributes(loss carryforwards, credits, and creditcarryforwards as provided in§1.1374–1(c)) may be used only to reducethe section 1374 tax imposed on the dis-position of assets held by the S corpora-tion at the time it converted from C status.Likewise, section 1374 attributes ac-quired in one section 1374(d)(8) transac-tion may be used only to reduce tax on thedisposition of assets acquired in thattransaction. This results in separate sec-tion 1374 pools for purposes of calculat-ing the tax imposed by section 1374.

One commentator noted that§1.1374–8(b) of the proposed regulationsimplies that a QSub election for two ormore corporations results in a section1374(d)(8) transaction for each subsidiaryand that this implication is contrary to thegeneral timing rules of §1.1361–4(b)(1).Those general timing rules provide thatthe deemed liquidation of a tiered groupof C corporations that elect S and QSubstatus effective on the same day occurs atthe close of the day before the effectivedate of the elections, while the parent is aC corporation. As a result of the opera-tion of the general timing rules, there is asingle section 1374 pool when the parentcorporation’s S election is effective.Moreover, the commentator noted that a

2000–6 I.R.B. 501 February 7, 2000

literal reading of §1.1374–8(b) of the pro-posed regulations may cause the assets ofan S corporation that is acquired by a Ccorporation to become subject to section1374 when the acquiring C corporationimmediately makes an S election for itselfand a QSub election for the acquired Scorporation. Finally, the commentator re-quested that the final regulations providethat when an S corporation acquires atiered group of corporations and makesQSub elections effective on the same datefor some or all of the corporations, the as-sets deemed acquired by the S corporationwill be treated as acquired in a single sec-tion 1374(d)(8) transaction, consistentwith the apparent intent of the generaltiming rules of §1.1361–4(b)(1) of theproposed regulations.b. Excess loss accounts

Section 1.1502–19 of the Income TaxRegulations provides rules requiring, incertain instances, a member (X) of a con-solidated group of corporations to includein income its excess loss account (ELA) inthe stock of another member (Y) of thegroup. An ELA reflects X’s negative ad-justments with respect to Y’s stock to theextent the negative adjustments exceed X’sbasis in the stock. An ELA must be in-cluded in X’s income if X is treated as dis-posing of Y’s stock. See §1.1502–19(b)(1).A merger or liquidation of X into an S cor-poration or an S election by X is treated as adisposition that triggers income recognitionwith respect to an ELA in Y stock. In con-trast, X’s income or gain in certain cases issubject to any nonrecognition or deferralrules applicable, including section 332. Asa result, if Y liquidates into X in a transac-tion subject to section 332, there is no in-come recognition with respect to an ELA inY’s stock. See §1.1502–19(b)(2)(i).

Under the general timing rules of§1.1361–4(b)(1), if the common parentelects S status, the deemed liquidations ofthe subsidiary members of the consoli-dated group for which QSub elections aremade (effective on the same date as the Selection) occur as of the close of the daybefore the QSub elections are effective,while the S electing parent corporation isstill a C corporation. As a result, there isno triggering of income with respect toELAs in the stock of the subsidiary corpo-rations if the liquidations qualify undersection 332. In contrast, if a consolidatedgroup of corporations is acquired by an S

corporation and the acquiring S corpora-tion makes QSub elections for the parentand members of the consolidated group, adeemed liquidation of the parent prior tothe deemed liquidation of other membersof the consolidated group may be a dispo-sition that triggers income recognition withrespect to ELAs in the subsidiaries’ stock. c. Modifications adopted in the final reg-ulations

The final regulations remove the pro-posed amendment to §1.1374–8(b). Fur-thermore, an amendment to the generaltiming rules under §1.1361–4(b)(1) foracquired S corporations clarifies that anacquired S corporation liquidates into anacquiring corporation as of the beginningof the day of acquisition, after the parent’sS election, if any, is effective. There is nosection 1374(d)(8) transaction when an Scorporation acquires assets from anotherS corporation, if the acquired S corpora-tion has no C corporation history. Themodification to the timing rule also clari-fies that there is no period during whichan acquired S corporation is a C corpora-tion if the QSub election is made effectiveas of the time of the acquisition.

As noted in the commentary, the orderof the deemed liquidations for a tieredgroup of corporations for which QSubelections are made (effective on the samedate) is significant for purposes of section1374 and under §1.1502–19. In many situ-ations, it is preferable to have the deemedliquidations occur in order from the lowesttier subsidiary to the highest tier sub-sidiary, a bottom-up liquidation order. As aresult of that ordering, the final liquidationof the highest tier subsidiary results in asingle section 1374 pool for the group. Inaddition, in the case of a consolidatedgroup of corporations, because the deemedliquidation of the common parent followsthe deemed liquidation of its subsidiaries,there is no deconsolidation for purposes of§1.1502–19 and no triggering of ELAs. Inother circumstances, however, a top to bot-tom liquidation of a tiered group of sub-sidiaries may be preferable. Therefore, thefinal regulations allow the S corporation tospecify the order of the deemed liquida-tions when QSub elections are made (ef-fective on the same day) for a tiered groupof subsidiaries. In default of an election,the deemed liquidations occur in succes-sion on the effective date of the election,beginning with the lowest tier subsidiary.

7. TimingOne commentator noted a potential

lack of coordination in the regulationsthat determine the timing of the termina-tion of the S election of an acquired S cor-poration and the deemed liquidation inci-dent to a QSub election for that Scorporation. The commentator acknowl-edged that the intent of the proposed regu-lations is to provide that an acquired Scorporation for which a QSub election ismade effective immediately on acquisi-tion should have no intervening C period.

Other timing issues can arise with re-spect to the termination of a QSub elec-tion. The regulations provide rules thatgovern the timing of the deemed liquida-tion incident to a QSub election and of thetermination of a QSub election. The reg-ulations also provide examples illustrat-ing those rules. The regulations generallyare intended to provide that a corporationmay move between S and QSub statuswithout an intervening C period, if the ap-propriate election is made effective as ofthe termination of the previous S or QSubelection. The regulations are coordinatedwith provisions under section 338 and§§1.1362–2 and 1.1502–76 that have dif-fering timing provisions. 8. Inadvertent QSub Election and Inad-vertent Termination Relief

One commentator requested that theregulations provide inadvertent invalidQSub election relief similar to the reliefthat is available under section 1362(f) forinadvertent invalid S elections and inad-vertent S terminations. The proposed reg-ulations include a provision indicatingthat inadvertent QSub termination reliefmay be available under standards estab-lished by the Commissioner for inadver-tent termination of an S election under§1.1362–4.

The QSub provisions include no sec-tion analogous to section 1362(f) that al-lows the IRS to determine that a corpora-tion is a QSub during a period when thecorporation does not satisfy the require-ment of section 1361(b)(3)(B)(i). For ex-ample, if the parent corporation inadver-tently transfers one share of QSub stockto another person, the QSub election ter-minates. The subsidiary is not eligible tohave a QSub election in effect for the pe-riod during which the parent does not own100 percent of its stock. If the QSub elec-tion terminates because of the inadvertent

February 7, 2000 502 2000–6 I.R.B.

termination of the parent’s S election,however, relief may be available undersection 1362(f). A favorable determina-tion under that section causes the sub-sidiary to continue to satisfy the require-ments of section 1361(b)(3)(B)(ii) duringthe period when the parent is accorded re-lief for inadvertent termination of its Selection. Moreover, if the parent fails tomake a timely QSub election, relief maybe available under the procedures applica-ble under §301.9100–1 and §301.9100–3.

The final regulations do not include theprovision relating to the inadvertent ter-mination of a QSub election. The re-moval of that provision is not intended tosuggest that relief under section 1362(f) isnot available in appropriate circumstances(such as those discussed above), but is in-tended to avoid confusion with respect tothe scope of the IRS’s statutory authorityunder section 1362(f).9. Ordering Rule for Termination ofQSub Elections

Commentators requested that the finalregulations provide an ordering rule forthe simultaneous termination of QSubelections as the result of the terminationof an upper-tier subsidiary’s QSub elec-tion. The final regulations provide thatthe terminations occur in succession, be-ginning with the upper-tier subsidiary,and include examples to illustrate the ef-fect of simultaneous QSub terminations. 10. Banking Provisions

Consistent with the proposed regula-tions, the final regulations provide thatany special rules applicable to banksunder the Code continue to apply sepa-rately to banks as if the deemed liquida-tion incident to a QSub election had notoccurred (the banking provisions). Com-mentators requested that the banking pro-visions be retroactive to the effective dateof the Act, by election. As authorized bysection 1601 of the 1997 Act, and as firstannounced in Notice 97–5 (1997–1 C.B.352), the final regulations provide that thebanking provisions apply to taxable yearsbeginning after December 31, 1996. Thisrule applies to all taxpayers and is notsubject to an election. The banking provi-sions also include a reference to otherpublished guidance for section 265(b);see Rev. Rul. 90–44 (1990–1 C.B. 54,57).11. Taxpayer Identifying Numbers

The regulations provide clarification

regarding employer identification num-bers (EINs) for QSubs. The regulationsrestate the general rules that (1) when anentity’s classification changes as a resultof an election, it retains its EIN; and (2)unless regulations or published guidanceprovide otherwise, a disregarded entity(including a QSub) must use its owner’sEIN for Federal tax purposes.

Notice 99–6 (1999–3 I.R.B. 12) pro-vides guidance that, under limited cir-cumstances, a disregarded entity may useits own EIN. If a QSub wishes to use itsown EIN in accordance with Notice 99–6but did not have an EIN prior to becominga QSub, it must apply for a new EIN.

If a subsidiary’s QSub election termi-nates, the new corporation formed as a re-sult of that termination must use its ownEIN for Federal tax purposes. If the newcorporation had an EIN before the effec-tive date of its QSub election or during itsQSub status, it should use that EIN. Oth-erwise, the new corporation must applyfor a new EIN.12. Effective Date and Transition rules

The regulations generally apply to tax-able years that begin on or after January20, 2000; however, taxpayers may elect toapply the regulations in whole, but not inpart (aside from those sections with specialdates of applicability), for taxable yearsbeginning on or after January 1, 2000, pro-vided the corporation and all affected tax-payers apply the regulations in a consistentmanner. To make the election, the corpora-tion and all affected taxpayers must file areturn or an amended return that is consis-tent with these rules for the taxable year forwhich the election is made. For purposesof this section, affected taxpayers meansall taxpayers whose returns are affected bythe election to apply the regulations. Therules relating to the treatment of banksapply to all taxable years beginning afterDecember 31, 1996; see§1.1361–4(a)(3)(iii). The provision relat-ing to transitional relief from the steptransaction applies to certain QSub elec-tions effective on or before the end of cal-endar year 2000; see §1.1361–4(a)(5)(i).Section 1.1361– 5(c)(2), relating to auto-matic consent for an S or QSub electionmade for a corporation whose QSub elec-tion has terminated within the five-year pe-riod described in section 1361(b)(3)(D),applies to certain QSub elections effectiveafter December 31, 1996. Section

301.6109–1(i), relating to EINs, applies onor after January 20, 2000.

Special Analyses

It has been determined that this Trea-sury decision is not a significant regula-tory action as defined in Executive Order12866. Therefore, a regulatory assess-ment is not required. It has also been de-termined that section 553(b) of the Ad-ministrative Procedure Act (5 U.S.C.chapter 5) does not apply to these regula-tions. It is hereby certified that the collec-tion of information in these regulationswill not have a significant impact on asubstantial number of small businesses.This certification is based upon the factthat the economic burden imposed on tax-payers by the collection of informationand recordkeeping requirements of theseregulations is insignificant. For example,the estimated average annual burden perrespondent is less than one hour. Further-more, most taxpayers will only have to re-spond to the requests for information con-tained in §§1.1361–3 and 1.1361–5 onetime in the life of the corporation. There-fore, a Regulatory Flexibility Analysis isnot required under the Regulatory Flexi-bility Act (5 U.S.C. chapter 6). Pursuantto section 7805(f) of the Internal RevenueCode, the notice of proposed rulemakingpreceding these regulations was submit-ted to the Chief Counsel for Advocacy ofthe Small Business Administration forcomment on its impact on small business.

Drafting Information

The principal authors of these regula-tions are Jeanne M. Sullivan and David J.Sotos of the Office of the Assistant ChiefCounsel (Passthroughs & Special Indus-tries); and Michael N. Kaibni of the Of-fice of the Assistant Chief Counsel (Cor-porate). However, other personnel fromthe IRS and Treasury Department partici-pated in their development.

* * * * *

Adoption of Amendments to theRegulations

Accordingly, 26 CFR parts 1, 301, and602 are amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation forpart 1 continues to read in part as follows:

2000–6 I.R.B. 503 February 7, 2000

Authority: 26 U.S.C. 7805 * * *Par. 2. Amend §1.1361–0 as follows:1.Revise the introductory text.2.Remove the entry for

§1.1361–1(d)(3).3.Add entries for §§1.1361–2,

1.1361–3, 1.1361–4, 1.1361–5, and1.1361–6.

The revisions and additions read as fol-lows:§1.1361–0 Table of contents.

This section lists captions contained in§§1.1361–1, 1.1361–2, 1.1361–3,1.1361–4, 1.1361–5, and 1.1361–6.* * * * *

§1.1361–2 Definitions relating to Scorporation subsidiaries.

(a) In general.(b) Stock treated as held by S corpora-tion.(c) Straight debt safe harbor.(d) Examples.§1.1361–3 QSub election.(a) Time and manner of making election.(1) In general.(2) Manner of making election.(3) Time of making election.(4) Effective date of election.(5) Example.(6) Extension of time for making a QSubelection.(b) Revocation of QSub election.(1) Manner of revoking QSub election.(2) Effective date of revocation.(3) Revocation after termination.(4) Revocation before QSub election ef-fective.

§1.1361–4 Effect of QSub election.

(a) Separate existence ignored.(1) In general.(2) Liquidation of subsidiary.(i) In general.(ii) Examples(iii)Adoption of plan of liquidation.(iv) Example.(v) Stock ownership requirements of sec-tion 332.(3) Treatment of banks.(i) In general.(ii) Examples.(iii)Effective date.(4) Treatment of stock of QSub.(5) Transitional relief.(i) General rule.(ii) Examples.(b) Timing of the liquidation.

(1) In general.(2) Application to elections in tiered situ-ations.(3) Acquisitions.(i) In general.(ii) Special rules for acquired S corpora-tions.(4) Coordination with section 338 elec-tion.(c) Carryover of disallowed losses anddeductions.(d) Examples.

§1.1361–5 Termination of QSub election.

(a) In general.(1) Effective date.(2) Information to be provided upon ter-mination of QSub election by failure toqualify as a QSub.(3) QSub joins a consolidated group.(4) Examples.(b) Effect of termination of QSub elec-tion.(1) Formation of new corporation.(i) In general.(ii) Termination for tiered QSubs.(2) Carryover of disallowed losses anddeductions.(3) Examples.(c) Election after QSub termination.(1) In general.(2) Exception.(3) Examples.

§1.1361–6 Effective date.

Par. 3. Amend §1.1361–1 as follows:1. Revise paragraph (b)(1)(i).2. Remove paragraph (d)(1)(i).3. Redesignate paragraphs (d)(1)(ii),

(d)(1)(iii), (d)(1)(iv), and (d)(1)(v) asparagraphs (d)(1)(i), (d)(1)(ii), (d)(1)(iii),and (d)(1)(iv), respectively.

4. Revise newly designated paragraph(d)(1)(i).

5. Remove paragraph (d)(3).6. Revise the first sentence of para-

graph (e)(1).The revisions read as follows:

§1.1361–1 S corporation defined.

* * * * *(b) * * *(1) * * *(i) More than 75 shareholders (35 for

taxable years beginning before January 1,1997);* * * * *

(d) * * *(1) * * *(i) For taxable years beginning on or

after January 1, 1997, a financial institu-tion that uses the reserve method of ac-counting for bad debts described in sec-tion 585 (for taxable years beginningprior to January 1, 1997, a financial insti-tution to which section 585 applies (orwould apply but for section 585(c)) or towhich section 593 applies);* * * * *

(e) * * *(1) General rule. A corporation does

not qualify as a small business corpora-tion if it has more than 75 shareholders(35 for taxable years beginning prior toJanuary 1, 1997). * * ** * * * *

Par. 4. Add §§1.1361–2, 1.1361–3,1.1361–4, 1.1361–5, and 1.1361–6 toread as follows:

§1.1361–2 Definitions relating to Scorporation subsidiaries.

(a) In general. The term qualified sub-chapter S subsidiary (QSub) means anydomestic corporation that is not an ineli-gible corporation (as defined in section1361(b)(2) and the regulations thereun-der), if—

(1) 100 percent of the stock of suchcorporation is held by an S corporation;and

(2) The S corporation properly electsto treat the subsidiary as a QSub under§1.1361–3.

(b) Stock treated as held by S corpora-tion. For purposes of satisfying the 100percent stock ownership requirement insection 1361(b)(3)(B)(i) and paragraph(a)(1) of this section—

(1) Stock of a corporation is treated asheld by an S corporation if the S corpora-tion is the owner of that stock for Federalincome tax purposes; and

(2) Any outstanding instruments, oblig-ations, or arrangements of the corporationwhich would not be considered stock forpurposes of section 1361(b)(1)(D) if thecorporation were an S corporation are nottreated as outstanding stock of the QSub.

(c) Straight debt safe harbor. Section1.1361–1(l)(5)(iv) and (v) apply to anobligation of a corporation for which aQSub election is made if that obligationwould satisfy the definition of straightdebt in §1.1361–1(l)(5) if issued by the S

February 7, 2000 504 2000–6 I.R.B.

corporation.(d) Examples. The following exam-

ples illustrate the application of this sec-tion:

Example 1. X, an S corporation, owns 100 per-cent of Y, a corporation for which a valid QSub elec-tion is in effect for the taxable year. Y owns 100percent of Z, a corporation otherwise eligible forQSub status. X may elect to treat Z as a QSub undersection 1361(b)(3)(B)(ii).

Example 2. Assume the same facts as in Example1, except that Y is a business entity that is disre-garded as an entity separate from its owner under§301.7701–2(c)(2) of this chapter. X may elect totreat Z as a QSub.

Example 3. Assume the same facts as in Example1, except that Y owns 50 percent of Z, and X ownsthe other 50 percent. X may elect to treat Z as aQSub.

Example 4. Assume the same facts as in Example1, except that Y is a C corporation. Although Y is adomestic corporation that is otherwise eligible to bea QSub, no QSub election has been made for Y.Thus, X is not treated as holding the stock of Z.Consequently, X may not elect to treat Z as a QSub.

Example 5. Individuals A and B own 100 percentof the stock of corporation X, an S corporation, and,except for C’s interest (described below), X owns 100percent of corporation Y, a C corporation. IndividualC holds an instrument issued by Y that is consideredto be equity under general principles of tax law butwould satisfy the definition of straight debt under§1.1361–1(l)(5) if Y were an S corporation. In deter-mining whether X owns 100 percent of Y for pur-poses of making the QSub election, the instrumentheld by C is not considered outstanding stock. In ad-dition, under §1.1361–1(l)(5)(v), the QSub election isnot treated as an exchange of debt for stock with re-spect to such instrument, and §1.1361–1(l)(5)(iv) ap-plies to determine the tax treatment of payments onthe instrument while Y’s QSub election is in effect.

§1.1361–3 QSub election.

(a) Time and manner of making elec-tion—(1) In general. The corporation forwhich the QSub election is made mustmeet all the requirements of section1361(b)(3)(B) at the time the election ismade and for all periods for which theelection is to be effective.

(2) Manner of making election. Exceptas provided in section 1361(b)(3)(D) and§1.1361–5(c) (five-year prohibition on re-election), an S corporation may elect totreat an eligible subsidiary as a QSub byfiling a completed form to be prescribedby the IRS. The election form must besigned by a person authorized to sign theS corporation’s return required to be filedunder section 6037. Unless the electionform provides otherwise, the electionmust be submitted to the service centerwhere the subsidiary filed its most recenttax return (if applicable), and, if an S cor-

poration forms a subsidiary and makes avalid QSub election (effective upon thedate of the subsidiary’s formation) for thesubsidiary, the election should be submit-ted to the service center where the S cor-poration filed its most recent return.

(3) Time of making election. A QSubelection may be made by the S corpora-tion parent at any time during the taxableyear.

(4) Effective date of election. A QSubelection will be effective on the date spec-ified on the election form or on the datethe election form is filed if no date isspecified. The effective date specified onthe form cannot be more than two monthsand 15 days prior to the date of filing andcannot be more than 12 months after thedate of filing. For this purpose, the defin-ition of the term month found in§1.1362–6(a)(2)(ii)(C) applies. If anelection form specifies an effective datemore than two months and 15 days priorto the date on which the election form isfiled, it will be effective two months and15 days prior to the date it is filed. If anelection form specifies an effective datemore than 12 months after the date onwhich the election is filed, it will be effec-tive 12 months after the date it is filed.

(5) Example. The following exampleillustrates the application of paragraph(a)(4) of this section:

Example. X has been a calendar year S corpora-tion engaged in a trade or business for several years.X acquires the stock of Y, a calendar year C corpora-tion, on April 1, 2002. On August 10, 2002, Xmakes an election to treat Y as a QSub. Unless oth-erwise specified on the election form, the electionwill be effective as of August 10, 2002. If specifiedon the election form, the election may be effectiveon some other date that is not more than two monthsand 15 days prior to August 10, 2002, and not morethan 12 months after August 10, 2002.

(6) Extension of time for making aQSub election. An extension of time tomake a QSub election may be availableunder the procedures applicable under§§301.9100–1 and 301.9100–3 of thischapter.

(b) Revocation of QSub election—(1)Manner of revoking QSub election. An Scorporation may revoke a QSub electionunder section 1361 by filing a statementwith the service center where the S corpo-ration’s most recent tax return was properlyfiled. The revocation statement must in-clude the names, addresses, and taxpayeridentification numbers of both the parent Scorporation and the QSub, if any. The

statement must be signed by a person au-thorized to sign the S corporation’s returnrequired to be filed under section 6037.

(2) Effective date of revocation. Therevocation of a QSub election is effectiveon the date specified on the revocationstatement or on the date the revocationstatement is filed if no date is specified.The effective date specified on the revo-cation statement cannot be more than twomonths and 15 days prior to the date onwhich the revocation statement is filedand cannot be more than 12 months afterthe date on which the revocation state-ment is filed. If a revocation statementspecifies an effective date more than twomonths and 15 days prior to the date onwhich the statement is filed, it will be ef-fective two months and 15 days prior tothe date it is filed. If a revocation state-ment specifies an effective date more than12 months after the date on which thestatement is filed, it will be effective 12months after the date it is filed.

(3) Revocation after termination. A re-vocation may not be made after the occur-rence of an event that renders the sub-sidiary ineligible for QSub status undersection 1361(b)(3)(B).

(4) Revocation before QSub election ef-fective. For purposes of Section1361(b)(3)(D) and §1.1361–5(c) (five-yearprohibition on re-election), a revocation ef-fective on the first day the QSub electionwas to be effective will not be treated as atermination of a QSub election.

§1.1361–4 Effect of QSub election.

(a) Separate existence ignored—(1) Ingeneral. Except as otherwise provided inparagraph (a)(3) of this section, for Fed-eral tax purposes—

(i) A corporation which is a QSub shallnot be treated as a separate corporation;and

(ii) All assets, liabilities, and items ofincome, deduction, and credit of a QSubshall be treated as assets, liabilities, anditems of income, deduction, and credit ofthe S corporation.

(2) Liquidation of subsidiary—(i) Ingeneral. If an S corporation makes avalid QSub election with respect to a sub-sidiary, the subsidiary is deemed to haveliquidated into the S corporation. Exceptas provided in paragraph (a)(5) of thissection, the tax treatment of the liquida-tion or of a larger transaction that includes

2000–6 I.R.B. 505 February 7, 2000

the liquidation will be determined underthe Internal Revenue Code and generalprinciples of tax law, including the steptransaction doctrine. Thus, for example,if an S corporation forms a subsidiary andmakes a valid QSub election (effectiveupon the date of the subsidiary’s forma-tion) for the subsidiary, the transfer of as-sets to the subsidiary and the deemed liq-uidation are disregarded, and thecorporation will be deemed to be a QSubfrom its inception.

(ii) Examples. The following exam-ples illustrate the application of this para-graph (a)(2)(i) of this section:

Example 1. Corporation X acquires all of theoutstanding stock of solvent corporation Y from anunrelated individual for cash and short-term notes.Thereafter, as part of the same plan, X immediatelymakes an S election and a QSub election for Y. Be-cause X acquired all of the stock of Y in a qualifiedstock purchase within the meaning of section338(d)(3), the liquidation described in paragraph(a)(2) of this section is respected as an independentstep separate from the stock acquisition, and the taxconsequences of the liquidation are determinedunder sections 332 and 337.

Example 2. Corporation X, pursuant to a plan,acquires all of the outstanding stock of corporationY from the shareholders of Y solely in exchange for10 percent of the voting stock of X. Prior to thetransaction, Y and its shareholders are unrelated toX. Thereafter, as part of the same plan, X immedi-ately makes an S election and a QSub election for Y.The transaction is a reorganization described in sec-tion 368(a)(1)(C), assuming the other conditions forreorganization treatment (e.g., continuity of businessenterprise) are satisfied.

Example 3. After the expiration of the transitionperiod provided in paragraph (a)(5)(i) of this sec-tion, individual A, pursuant to a plan, contributes allof the outstanding stock of Y to his wholly owned Scorporation, X, and immediately causes X to make aQSub election for Y. The transaction is a reorgani-zation under section 368(a)(1)(D), assuming theother conditions for reorganization treatment (e.g.,continuity of business enterprise) are satisfied. Ifthe sum of the amount of liabilities of Y treated asassumed by X exceeds the total of the adjusted basisof the property of Y, then section 357(c) applies andsuch excess is considered as gain from the sale orexchange of a capital asset or of property which isnot a capital asset, as the case may be.

(iii) Adoption of plan of liquidation.For purposes of satisfying the require-ment of adoption of a plan of liquidationunder section 332, unless a formal plan ofliquidation that contemplates the QSubelection is adopted on an earlier date, themaking of the QSub election is consid-ered to be the adoption of a plan of liqui-dation immediately before the deemedliquidation described in paragraph(a)(2)(i) of this section.

(iv) Example. The following example

illustrates the application of paragraph(a)(2)(iii) of this section:

Example. Corporation X owns 75 percent of asolvent corporation Y, and individual A owns the re-maining 25 percent of Y. As part of a plan to make aQSub election for Y, X causes Y to redeem A’s 25percent interest on June 1 for cash and makes aQSub election for Y effective on June 3. The mak-ing of the QSub election is considered to be theadoption of a plan of liquidation immediately beforethe deemed liquidation. The deemed liquidation sat-isfies the requirements of section 332.

(v) Stock ownership requirements ofsection 332. The deemed exercise of anoption under §1.1504–4 and any instru-ments, obligations, or arrangements thatare not considered stock under§1.1361–2(b)(2) are disregarded in deter-mining if the stock ownership require-ments of section 332(b) are met with re-spect to the deemed liquidation providedin paragraph (a)(2)(i) of this section.

(3) Treatment of banks—(i) In gen-eral. If an S corporation is a bank, or ifan S corporation makes a valid QSubelection for a subsidiary that is a bank,any special rules applicable to banksunder the Internal Revenue Code continueto apply separately to the bank parent orbank subsidiary as if the deemed liquida-tion of any QSub under paragraph (a)(2)of this section had not occurred (except asother published guidance may apply sec-tion 265(b) and section 291(a)(3) and(e)(1)(B) not only to the bank parent orbank subsidiary but also to any QSubdeemed to have liquidated under para-graph (a)(2) of this section). For anyQSub that is a bank, however, all assets,liabilities, and items of income, deduc-tion, and credit of the QSub, as deter-mined in accordance with the specialbank rules, are treated as assets, liabili-ties, and items of income, deduction, andcredit of the S corporation. For purposesof this paragraph (a)(3)(i), the term bankhas the same meaning as in section 581.

(ii) Examples. The following exam-ples illustrate the application of this para-graph (a)(3):

Example 1. X, an S corporation, is a bank as de-fined in section 581. X owns 100 percent of Y andZ, corporations for which valid QSub elections arein effect. Y is a bank as defined in section 581, andZ is not a financial institution. Pursuant to para-graph (a)(3)(i) of this section, any special rules ap-plicable to banks under the Internal Revenue Codecontinue to apply separately to X and Y and do notapply to Z. Thus, for example, section 265(b),which provides special rules for interest expense de-ductions of banks, applies separately to X and Y.That is, X and Y each must make a separate determi-

nation under section 265(b) of interest expense allo-cable to tax-exempt interest, and no deduction is al-lowed for that interest expense. Section 265(b) doesnot apply to Z except as published guidance mayprovide otherwise.

Example 2. X, an S corporation, is a bank hold-ing company and thus is not a bank as defined insection 581. X owns 100 percent of Y, a corporationfor which a valid QSub election is in effect. Y is abank as defined in section 581. Pursuant to para-graph (a)(3)(i) of this section, any special rules ap-plicable to banks under the Internal Revenue Codecontinue to apply to Y and do not apply to X. How-ever, all of Y’s assets, liabilities, and items of in-come, deduction, and credit, as determined in accor-dance with the special bank rules, are treated asthose of X. Thus, for example, section 582(c),which provides special rules for sales and exchangesof debt by banks, applies only to sales and ex-changes by Y. However, any gain or loss on such atransaction by Y that is considered ordinary incomeor ordinary loss pursuant to section 582(c) is treatedas ordinary income or ordinary loss of X.

(iii) Effective date. This paragraph(a)(3) applies to taxable years beginningafter December 31, 1996.

(4) Treatment of stock of QSub. Ex-cept for purposes of section1361(b)(3)(B)(i) and §1.1361–2(a)(1), thestock of a QSub shall be disregarded forall Federal tax purposes.

(5) Transitional relief—(i) Generalrule. If an S corporation and another cor-poration (the related corporation) are per-sons specified in section 267(b) prior to anacquisition by the S corporation of some orall of the stock of the related corporationfollowed by a QSub election for the relatedcorporation, the step transaction doctrinewill not apply to determine the tax conse-quences of the acquisition. This paragraph(a)(5) shall apply to QSub elections effec-tive before January 1, 2001.

(ii) Examples. The following exam-ples illustrate the application of this para-graph (a)(5):

Example 1. Individual A owns 100 percent of thestock of X, an S corporation. X owns 79 percent ofthe stock of Y, a solvent corporation, and A owns theremaining 21 percent. On May 4, 1998, A con-tributes its Y stock to X in exchange for X stock. Xmakes a QSub election with respect to Y effectiveimmediately following the transfer. The liquidationdescribed in paragraph (a)(2) of this section is re-spected as an independent step separate from thestock acquisition, and the tax consequences of theliquidation are determined under sections 332 and337. The contribution by A of the Y stock qualifiesunder section 351, and no gain or loss is recognizedby A, X, or Y.

Example 2. Individual A owns 100 percent of thestock of two solvent S corporations, X and Y. OnMay 4, 1998, A contributes the stock of Y to X. Xmakes a QSub election with respect to Y immedi-ately following the transfer. The liquidation de-

February 7, 2000 506 2000–6 I.R.B.

scribed in paragraph (a)(2) of this section is re-spected as an independent step separate from thestock acquisition, and the tax consequences of theliquidation are determined under sections 332 and337. The contribution by A of the Y stock to X qual-ifies under section 351, and no gain or loss is recog-nized by A, X, or Y. Y is not treated as a C corpora-tion for any period solely because of the transfer ofits stock to X, an ineligible shareholder. CompareExample 3of §1.1361–4(a)(2)(ii).

(b) Timing of the liquidation—(1) Ingeneral. Except as otherwise provided inparagraph (b)(3) or (4) of this section, theliquidation described in paragraph (a)(2)of this section occurs at the close of theday before the QSub election is effective.Thus, for example, if a C corporationelects to be treated as an S corporationand makes a QSub election (effective thesame date as the S election) with respectto a subsidiary, the liquidation occurs im-mediately before the S election becomeseffective, while the S electing parent isstill a C corporation.

(2) Application to elections in tieredsituations. When QSub elections for atiered group of subsidiaries are effectiveon the same date, the S corporation mayspecify the order of the liquidations. If noorder is specified, the liquidations that aredeemed to occur as a result of the QSubelections will be treated as occurring firstfor the lowest tier entity and proceed suc-cessively upward until all of the liquida-tions under paragraph (a)(2) of this sec-tion have occurred. For example, S, an Scorporation, owns 100 percent of C, thecommon parent of an affiliated group ofcorporations that includes X and Y. Cowns all of the stock of X and X owns allof the stock of Y. S elects under§1.1361–3 to treat C, X and Y as QSubseffective on the same date. If no order isspecified for the elections, the followingliquidations are deemed to occur as a re-sult of the elections, with each successiveliquidation occuring on the same day im-mediately after the preceding liquidation:Y is treated as liquidating into X, then Xis treated as liquidating into C, and finallyC is treated as liquidating into S.

(3) Acquisitions. (i) In general. If an Scorporation does not own 100 percent ofthe stock of the subsidiary on the day be-fore the QSub election is effective, theliquidation described in paragraph (a)(2)of this section occurs immediately afterthe time at which the S corporation firstowns 100 percent of the stock.

(ii) Special rules for acquired S corpo-

rations. Except as provided in paragraph(b)(4) of this section, if a corporation (Y)for which an election under section1362(a) was in effect is acquired, and aQSub election is made effective on theday Y is acquired, Y is deemed to liqui-date into the S corporation at the begin-ning of the day the termination of its Selection is effective. As a result, if corpo-ration X acquires Y, an S corporation, andmakes an S election for itself and a QSubelection for Y effective on the day of ac-quisition, Y liquidates into X at the begin-ning of the day when X’s S election is ef-fective, and there is no period between thetermination of Y’s S election and thedeemed liquidation of Y during which Yis a C corporation. Y’s taxable year endsfor all Federal income tax purposes at theclose of the preceding day. Furthermore,if Y owns Z, a corporation for which aQSub election was in effect prior to theacquisition of Y by X, and X makes QSubelections for Y and Z, effective on the dayof acquisition, the transfer of assets to Zand the deemed liquidation of Z are disre-garded. See §§1.1361–4(a)(2) and1.1361–5(b)(1)(i).

(4) Coordination with section 338election. An S corporation that makes aqualified stock purchase of a target maymake an election under section 338 withrespect to the acquisition if it meets therequirements for the election, and maymake a QSub election with respect to thetarget. If an S corporation makes an elec-tion under section 338 with respect to asubsidiary acquired in a qualified stockpurchase, a QSub election made with re-spect to that subsidiary is not effective be-fore the day after the acquisition date(within the meaning of section 338(h)(2)).If the QSub election is effective on theday after the acquisition date, the liquida-tion under paragraph (a)(2) of this sectionoccurs immediately after the deemedasset purchase by the new target corpora-tion under section 338. If an S corpora-tion makes an election under section 338(without a section 338(h)(10) election)with respect to a target, the target mustfile a final or deemed sale return as a Ccorporation reflecting the deemed sale.See §1.338–10T(a).

(c) Carryover of disallowed losses anddeductions. If an S corporation (S1) ac-quires the stock of another S corporation(S2), and S1 makes a QSub election with

respect to S2 effective on the day of theacquisition, see §1.1366–2(c)(1) for pro-visions relating to the carryover of lossesand deductions with respect to a formershareholder of S2 that may be available tothat shareholder as a shareholder of S1.

(d) Examples. The following exam-ples illustrate the application of this sec-tion:

Example 1. X, an S corporation, owns 100 per-cent of the stock of Y, a C corporation. On June 2,2002, X makes a valid QSub election for Y, effectiveJune 2, 2002. Assume that, under general principlesof tax law, including the step transaction doctrine,X’s acquisition of the Y stock and the subsequentQSub election would not be treated as related. Theliquidation described in paragraph (a)(2) of this sec-tion occurs at the close of the day on June 1, 2002,the day before the QSub election is effective, and theplan of liquidation is considered adopted on thatdate. Y’s taxable year and separate existence forFederal tax purposes end at the close of June 1,2002.

Example 2. X, a C corporation, owns 100 per-cent of the stock of Y, another C corporation. OnDecember 31, 2002, X makes an election under sec-tion 1362 to be treated as an S corporation and avalid QSub election for Y, both effective January 1,2003. Assume that, under general principles of taxlaw, including the step transaction doctrine, X’s ac-quisition of the Y stock and the subsequent QSubelection would not be treated as related. The liqui-dation described in paragraph (a)(2) of this sectionoccurs at the close of December 31, 2002, the daybefore the QSub election is effective. The QSubelection for Y is effective on the same day that X’s Selection is effective, and the deemed liquidation istreated as occurring before the S election is effec-tive, when X is still a C corporation. Y’s taxableyear ends at the close of December 31, 2002. See§1.381(b)–1.

Example 3. On June 1, 2002, X, an S corpora-tion, acquires 100 percent of the stock of Y, an exist-ing S corporation, for cash in a transaction meetingthe requirements of a qualified stock purchase(QSP) under section 338. X immediately makes aQSub election for Y effective June 2, 2002, and alsomakes a joint election under section 338(h)(10) withthe shareholder of Y. Under section 338(a) and§1.338(h)(10)–1T(d)(3), Y is treated as having soldall of its assets at the close of the acquisition date,June 1, 2002. Y is treated as a new corporationwhich purchased all of those assets as of the begin-ning of June 2, 2000, the day after the acquisitiondate. Section 338(a)(2). The QSub election is effec-tive on June 2, 2002, and the liquidation under para-graph (a)(2) of this section occurs immediately afterthe deemed asset purchase by the new corporation.

Example 4. X, an S corporation, owns 100 per-cent of Y, a corporation for which a QSub election isin effect. On May 12, 2002, a date on which theQSub election is in effect, X issues Y a $10,000 noteunder state law that matures in ten years with a mar-ket rate of interest. Y is not treated as a separate cor-poration, and X’s issuance of the note to Y on May12, 2002, is disregarded for Federal tax purposes.

Example 5. X, an S corporation, owns 100 per-cent of the stock of Y, a C corporation. At a time

2000–6 I.R.B. 507 February 7, 2000

when Y is indebted to X in an amount that exceedsthe fair market value of Y’s assets, X makes a QSubelection effective on the date it is filed with respectto Y. The liquidation described in paragraph (a)(2)of this section does not qualify under sections 332and 337 and, thus, Y recognizes gain or loss on theassets distributed, subject to the limitations of sec-tion 267.

§1.1361–5 Termination of QSub election.

(a) In general—(1) Effective date.The termination of a QSub election is ef-fective—

(i) On the effective date contained inthe revocation statement if a QSub elec-tion is revoked under §1.1361–3(b);

(ii) At the close of the last day of theparent’s last taxable year as an S corpora-tion if the parent’s S election terminatesunder §1.1362–2; or

(iii) At the close of the day on whichan event (other than an event described inparagraph (a)(1)(ii) of this section) occursthat renders the subsidiary ineligible forQSub status under section 1361(b)(3)(B).

(2) Information to be provided upontermination of QSub election by failure toqualify as a QSub. If a QSub election ter-minates because an event renders the sub-sidiary ineligible for QSub status, the Scorporation must attach to its return forthe taxable year in which the terminationoccurs a notification that a QSub electionhas terminated, the date of the termina-tion, and the names, addresses, and em-ployer identification numbers of both theparent corporation and the QSub.

(3) QSub joins a consolidated group.If a QSub election terminates because theS corporation becomes a member of aconsolidated group (and no election undersection 338(g) is made) the principles of§1.1502–76(b)(1)(ii)(A)(2) (relating to aspecial rule for S corporations that join aconsolidated group) apply to any QSub ofthe S corporation that also becomes amember of the consolidated group at thesame time as the S corporation. See Ex-ample 4of paragraph (a)(4) of this sec-tion.

(4) Examples. The following exam-ples illustrate the application of this para-graph (a):

Example 1. Termination because parent’s Selection terminates. X, an S corporation, owns100 percent of Y. A QSub election is in effect withrespect to Y for 2001. Effective on January 1,2002, X revokes its S election. Because X is nolonger an S corporation, Y no longer qualifies as aQSub at the close of December 31, 2001.

Example 2. Termination due to transfer of

QSub stock. X, an S corporation, owns 100 per-cent of Y. A QSub election is in effect with respectto Y. On December 10, 2002, X sells one share ofY stock to A, an individual. Because X no longerowns 100 percent of the stock of Y, Y no longerqualifies as a QSub. Accordingly, the QSub elec-tion made with respect to Y terminates at the closeof December 10, 2002.

Example 3. No termination on stock transferbetween QSub and parent. X, an S corporation,owns 100 percent of the stock of Y, and Y owns100 percent of the stock of Z. QSub elections arein effect with respect to both Y and Z. Y transfersall of its Z stock to X. Because X is treated asowning the stock of Z both before and after thetransfer of stock solely for purposes of determin-ing whether the requirements of section1361(b)(3)(B)(i) and §1.1361–2(a)(1) have beensatisfied, the transfer of Z stock does not terminateZ’s QSub election. Because the stock of Z is dis-regarded for all other Federal tax purposes, nogain is recognized under section 311.

Example 4. Termination due to acquisition of Sparent by a consolidated group. X, an S corpora-tion, owns 100 percent of Y, a corporation forwhich a QSub election is in effect. Z, the commonparent of a consolidated group of corporations, ac-quires 80 percent of the stock of X on June 1,2002. Z does not make an election under section338(g) with respect to the purchase of X stock.X’s S election terminates as of the close of the pre-ceding day, May 31, 2002. Y’s QSub election alsoterminates at the close of May 31, 2002. Under§1.1502–76(b)(1)(ii)(A)(2) and paragraph (a)(3)of this section, X and Y become members of Z’sconsolidated group of corporations as of the begin-ning of the day June 1, 2002.

Example 5. Termination due to acquisition ofQSub by a consolidated group. The facts are thesame as in Example 4, except that Z acquires 80percent of the stock of Y (instead of X) on June 1,2002. In this case, Y’s QSub election terminatesas of the close of June 1, 2002, and, under§1.1502–76(b)(1)(ii)(A)(1), Y becomes a memberof the consolidated group at that time.

(b) Effect of termination of QSub elec-tion—(1) Formation of new corporation—(i) In general. If a QSub election termi-nates under paragraph (a) of this section,the former QSub is treated as a new corpo-ration acquiring all of its assets (and assum-ing all of its liabilities) immediately beforethe termination from the S corporation par-ent in exchange for stock of the new corpo-ration. The tax treatment of this transactionor of a larger transaction that includes thistransaction will be determined under the In-ternal Revenue Code and general principlesof tax law, including the step transactiondoctrine. For purposes of determining theapplication of section 351 with respect tothis transaction, instruments, obligations, orother arrangements that are not treated asstock of the QSub under §1.1361–2(b) aredisregarded in determining control for pur-poses of section 368(c) even if they are eq-

uity under general principles of tax law. (ii) Termination for tiered QSubs. If

QSub elections terminate for tieredQSubs on the same day, the formation ofany higher tier subsidiary precedes theformation of its lower tier subsidiary. SeeExample 6in paragraph (b)(3) of this sec-tion.

(2) Carryover of disallowed losses anddeductions. If a QSub terminates becausethe S corporation distributes the QSubstock to some or all of the S corporation’sshareholders in a transaction to whichsection 368(a)(1)(D) applies by reason ofsection 355 (or so much of section 356 asrelates to section 355), see§1.1366–2(c)(2) for provisions relating tothe carryover of disallowed losses and de-ductions that may be available.

(3) Examples. The following exam-ples illustrate the application of this para-graph (b):

Example 1. X, an S corporation, owns 100 per-cent of the stock of Y, a corporation for which aQSub election is in effect. X sells 21 percent ofthe Y stock to Z, an unrelated corporation, forcash, thereby terminating the QSub election. Y istreated as a new corporation acquiring all of its as-sets (and assuming all of its liabilities) in ex-change for Y stock immediately before the termi-nation from the S corporation. The deemedexchange by X of assets for Y stock does not qual-ify under section 351 because X is not in controlof Y within the meaning of section 368(c) immedi-ately after the transfer as a result of the sale ofstock to Z. Therefore, X must recognize gain, ifany, on the assets transferred to Y in exchange forits stock. X’s losses, if any, on the assets trans-ferred are subject to the limitations of section 267.

Example 2. (i) X, an S corporation, owns 100percent of the stock of Y, a corporation for which aQSub election is in effect. As part of a plan to sella portion of Y, X causes Y to merge into T, a lim-ited liability company wholly owned by X that isdisregarded an as entity separate from its ownerfor Federal tax purposes. X then sells 21 percentof T to Z, an unrelated corporation, for cash. Fol-lowing the sale, no entity classification election ismade under §301.7701–3(c) of this chapter to treatthe limited liability company as an association forFederal tax purposes.

(ii) The merger of Y into T causes a termina-tion of Y’s QSub election. The new corporation(Newco) that is formed as a result of the termina-tion is immediately merged into T, an entity that isdisregarded for Federal tax purposes. Because, atthe end of the series of transactions, the assetscontinue to be held by X for Federal tax purposes,under step transaction principles, the formation ofNewco and the transfer of assets pursuant to themerger of Newco into T are disregarded. The saleof 21 percent of T is treated as a sale of a 21 per-cent undivided interest in each of T’s assets. Im-mediately thereafter, X and Z are treated as con-tributing their respective interests in those assetsto a partnership in exchange for ownership inter-

February 7, 2000 508 2000–6 I.R.B.

ests in the partnership.(iii) Under section 1001, X recognizes gain or

loss from the deemed sale of the 21 percent interestin each asset of the limited liability company to Z.Under section 721(a), no gain or loss is recognizedby X and Z as a result of the deemed contribution oftheir respective interests in the assets to the partner-ship in exchange for ownership interests in the part-nership.

Example 3. Assume the same facts as in Example1, except that, instead of purchasing Y stock, Z con-tributes to Y an operating asset in exchange for 21percent of the Y stock. Y is treated as a new corpo-ration acquiring all of its assets (and assuming all ofits liabilities) in exchange for Y stock immediatelybefore the termination. Because X and Z are co-transferors that control the transferee immediatelyafter the transfer, the transaction qualifies under sec-tion 351.

Example 4. X, an S corporation, owns 100 per-cent of the stock of Y, a corporation for which aQSub election is in effect. X distributes all of the Ystock pro rata to its shareholders, and the distribu-tion terminates the QSub election. The transactioncan qualify as a distribution to which sections368(a)(1)(D) and 355 apply if the transaction other-wise satisfies the requirements of those sections.

Example 5. X, an S corporation, owns 100 per-cent of the stock of Y, a corporation for which aQSub election is in effect. X subsequently revokesthe QSub election. Y is treated as a new corporationacquiring all of its assets (and assuming all of its lia-bilities) immediately before the revocation from itsS corporation parent in a deemed exchange for Ystock. On a subsequent date, X sells 21 percent ofthe stock of Y to Z, an unrelated corporation, forcash. Assume that under general principles of taxlaw including the step transaction doctrine, the saleis not taken into account in determining whether Xis in control of Y immediately after the deemed ex-change of assets for stock. The deemed exchange byX of assets for Y stock and the deemed assumptionby Y of its liabilities qualify under section 351 be-cause, for purposes of that section, X is in control ofY within the meaning of section 368(c) immediatelyafter the transfer.

Example 6. (i) X, an S corporation, owns 100percent of the stock of Y, and Y owns 100 percent ofthe stock of Z. Y and Z are corporations for whichQSub elections are in effect. X subsequently re-vokes the QSub elections and the effective datespecified on each revocation statement is June 26,2002, a date that is less than 12 months after the dateon which the revocation statements are filed.

(ii) Immediately before the QSub elections termi-nate, Y is treated as a new corporation acquiring allof its assets (and assuming all of its liabilities) di-rectly from X in exchange for the stock of Y. Z istreated as a new corporation acquiring all of its as-sets (and assuming all of its liabilities) directly fromY in exchange for the stock of Z.

Example 7. (i) The facts are the same as in Ex-ample 6, except that, prior to June 26, 2002 (the ef-fective date of the revocations), Y distributes the Zstock to X under state law.

(ii) Immediately before the QSub elections termi-nate, Y is treated as a new corporation acquiring allof its assets (and assuming all of its liabilities) di-rectly from X in exchange for the stock of Y. Z isalso treated as a new corporation acquiring all of its

assets (and assuming all of its liabilities) directlyfrom X in exchange for the stock of Z.

Example 8. Merger of parent into QSub.X, an Scorporation, owns 100 percent of the stock of Y, a cor-poration for which a QSub election is in effect. Xmerges into Y under state law, causing the QSub elec-tion for Y to terminate, and Y survives the merger.The formation of the new corporation, Y, and themerger of X into Y can qualify as a reorganization de-scribed in section 368(a)(1)(F) if the transaction oth-erwise satisfies the requirements of that section.

Example 9. Transfer of 100 percent of QSub. X,an S corporation, owns 100 percent of the stock of Y,a corporation for which a QSub election is in effect.Z, an unrelated C corporation, acquires 100 percentof the stock of Y. The deemed formation of Y by X(as a consequence of the termination of Y’s QSubelection) is disregarded for Federal income tax pur-poses. The transaction is treated as a transfer of theassets of Y to Z, followed by Z’s transfer of these as-sets to the capital of Y in exchange for Y stock. Fur-thermore, if Z is an S corporation and makes a QSubelection for Y effective as of the acquisition, Z’stransfer of the assets of Y in exchange for Y stock,followed by the immediate liquidation of Y as a con-sequence of the QSub election are disregarded forFederal income tax purposes.

(c) Election after QSub termination—(1) In general. Absent the Commissioner’sconsent, and except as provided in para-graph (c)(2) of this section, a corporationwhose QSub election has terminated underparagraph (a) of this section (or a successorcorporation as defined in paragraph (b) ofthis section) may not make an S electionunder section 1362 or have a QSub electionunder section 1361(b)(3)(B)(ii) made withrespect to it for five taxable years (as de-scribed in section 1361(b)(3)(D)). TheCommissioner may permit an S election bythe corporation or a new QSub electionwith respect to the corporation before thefive-year period expires. The corporationrequesting consent to make the election hasthe burden of establishing that, under therelevant facts and circumstances, the Com-missioner should consent to a new election.

(2) Exception. In the case of S andQSub elections effective after December31, 1996, if a corporation’s QSub electionterminates, the corporation may, withoutrequesting the Commissioner’s consent,make an S election or have a QSub elec-tion made with respect to it before the ex-piration of the five-year period describedin section 1361(b)(3)(D) and paragraph(c)(1) of this section, provided that—

(i) Immediately following the termina-tion, the corporation (or its successor cor-poration) is otherwise eligible to make anS election or have a QSub election madefor it; and

(ii) The relevant election is made ef-

fective immediately following the termi-nation of the QSub election.

(3) Examples. The following exam-ples illustrate the application of this para-graph (c):

Example 1. Termination upon distribution ofQSub stock to shareholders of parent. X, an S cor-poration, owns Y, a QSub. X distributes all of its Ystock to X’s shareholders. The distribution termi-nates the QSub election because Y no longer satis-fies the requirements of a QSub. Assuming Y is oth-erwise eligible to be treated as an S corporation, Y’sshareholders may elect to treat Y as an S corporationeffective on the date of the stock distribution withoutrequesting the Commissioner’s consent.

Example 2. Sale of 100 percent of QSub stock.X, an S corporation, owns Y, a QSub. X sells 100percent of the stock of Y to Z, an unrelated S corpo-ration. Z may elect to treat Y as a QSub effective onthe date of purchase without requesting the Com-missioner’s consent.

§1.1361–6 Effective date.

Except as provided in§§1.1361–4(a)(3)(iii), 1.1361–4(a)(5)(i),and 1.1361–5(c)(2), the provisions of§§1.1361–2 through 1.1361–5 apply to tax-able years beginning on or after January 20,2000; however, taxpayers may elect toapply the regulations in whole, but not inpart (aside from those sections with specialdates of applicability), for taxable years be-ginning on or after January 1, 2000, pro-vided all affected taxpayers apply the regu-lations in a consistent manner. To makethis election, the corporation and all af-fected taxpayers must file a return or anamended return that is consistent with theserules for the taxable year for which theelection is made. For purposes of this sec-tion, affected taxpayers means all taxpayerswhose returns are affected by the electionto apply the regulations.

Par. 5. Amend §1.1362–0 by adding anentry for §1.1362–8 to read as follows:

§1.1362–0 Table of contents.

* * * * *

§1.1362–8 Dividends received fromaffiliated subsidiaries.

(a) In general.(b) Determination of active or passiveearnings and profits.(1) In general.(2) Lower tier subsidiaries.(3) De minimis exception.(4) Special rules for earnings and profitsaccumulated by a C corporation prior to80 percent acquisition.

2000–6 I.R.B. 509 February 7, 2000

(5) Gross receipts safe harbor.(c) Allocating distributions to active orpassive earnings and profits.(1) Distributions from current earningsand profits.(2) Distributions from accumulated earn-ings and profits.(3) Adjustments to active earnings andprofits.(4) Special rules for consolidated groups.(d) Examples.(e) Effective date.

Par. 6. Section 1.1362–2 is amendedby adding a sentence to the end of theparagraph (c)(5)(ii)(C) to read as follows:

§1.1362–2 Termination of election.

* * * * *(c) * * *(5) * * *(ii) * * *(C) * * * See §1.1362–8 for special

rules regarding the treatment of dividendsreceived by an S corporation from a Ccorporation in which the S corporationholds stock meeting the requirements ofsection 1504(a)(2).* * * * *

Par. 7. Section 1.1362–8 is added toread as follows:

§1.1362–8 Dividends received fromaffiliated subsidiaries.

(a) In general. For purposes of section1362(d)(3), if an S corporation holds stockin a C corporation meeting the require-ments of section 1504(a)(2), the term pas-sive investment income does not includedividends from the C corporation to the ex-tent those dividends are attributable to theearnings and profits of the C corporationderived from the active conduct of a tradeor business (active earnings and profits).For purposes of applying section1362(d)(3), earnings and profits of a C cor-poration are active earnings and profits tothe extent that the earnings and profits arederived from activities that would not pro-duce passive investment income (as de-fined in section 1362(d)(3)) if the C corpo-ration were an S corporation.

(b) Determination of active or passiveearnings and profits—(1) In general. An Scorporation may use any reasonablemethod to determine the amount of divi-dends that are not treated as passive invest-ment income under section 1362(d)(3)(E).Paragraph (b)(5) of this section describes a

method of determining the amount of divi-dends that are not treated as passive invest-ment income under section 1362(d)(3)(E)that is deemed to be reasonable under allcircumstances.

(2) Lower tier subsidiaries. If a C cor-poration subsidiary (upper tier corporation)holds stock in another C corporation (lowertier subsidiary) meeting the requirements ofsection 1504(a)(2), the upper tier corpora-tion’s gross receipts attributable to a divi-dend from the lower tier subsidiary are con-sidered to be derived from the activeconduct of a trade or business to the extentthe lower tier subsidiary’s earnings andprofits are attributable to the active conductof a trade or business by the subsidiaryunder paragraph (b)(1), (3), (4), or (5) ofthis section. For purposes of this section,distributions by the lower tier subsidiarywill be considered attributable to activeearnings and profits according to the rule inparagraph (c) of this section. This para-graph (b)(2) does not apply to any memberof a consolidated group (as defined in§1.1502–1(h)).

(3) De minimis exception. If less than10 percent of a C corporation’s earningsand profits for a taxable year are derivedfrom activities that would produce pas-sive investment income if the C corpora-tion were an S corporation, all earningsand profits produced by the corporationduring that taxable year are consideredactive earnings and profits.

(4) Special rules for earnings andprofits accumulated by a C corporationprior to 80 percent acquisition. A C cor-poration may treat all earnings and profitsaccumulated by the corporation in all tax-able years ending before the S corporationheld stock meeting the requirements ofsection 1504(a)(2) as active earnings andprofits in the same proportion as the Ccorporation’s active earnings and profitsfor the three taxable years ending prior tothe time when the S corporation acquired80 percent of the C corporation bears tothe C corporation’s total earnings andprofits for those three taxable years.

(5) Gross receipts safe harbor. A cor-poration may treat its earnings and profitsfor a year as active earnings and profits inthe same proportion as the corporation’sgross receipts (as defined in §1.1362-2(c)(4)) derived from activities that wouldnot produce passive investment income(if the C corporation were an S corpora-

tion), including those that do not producepassive investment income under para-graphs (b)(2) through (b)(4) of this sec-tion, bear to the corporation’s total grossreceipts for the year in which the earningsand profits are produced.

(c) Allocating distributions to active orpassive earnings and profits—(1) Distri-butions from current earnings and profits.Dividends distributed by a C corporationfrom current earnings and profits are at-tributable to active earnings and profits inthe same proportion as current activeearnings and profits bear to total currentearnings and profits of the C corporation.

(2) Distributions from accumulatedearnings and profits. Dividends distrib-uted by a C corporation out of accumu-lated earnings and profits for a taxableyear are attributable to active earningsand profits in the same proportion as ac-cumulated active earnings and profits forthat taxable year bear to total accumulatedearnings and profits for that taxable yearimmediately prior to the distribution.

(3) Adjustments to active earnings andprofits. For purposes of applying para-graph (c)(1) or (2) of this section to a dis-tribution, the active earnings and profitsof a corporation shall be reduced by theamount of any prior distribution properlytreated as attributable to active earningsand profits from the same taxable year.

(4) Special rules for consolidatedgroups. For purposes of applying section1362(d)(3) and this section to dividendsreceived by an S corporation from thecommon parent of a consolidated group(as defined in §1.1502–1(h)), the follow-ing rules apply —

(i) The current earnings and profits, ac-cumulated earnings and profits, and ac-tive earnings and profits of the commonparent shall be determined under the prin-ciples of §1.1502–33 (relating to earningsand profits of any member of a consoli-dated group owning stock of anothermember); and

(ii) The gross receipts of the commonparent shall be the sum of the gross re-ceipts of each member of the consolidatedgroup (including the common parent), ad-justed to eliminate gross receipts from in-tercompany transactions (as defined in§1.1502–13(b)(1)(i)).

(d) Examples. The following exam-ples illustrate the principles of this sec-tion:

February 7, 2000 510 2000–6 I.R.B.

Example 1. (i) X, an S corporation, owns 85 per-cent of the one class of stock of Y. On December 31,2002, Y declares a dividend of $100 ($85 to X),which is equal to Y’s current earnings and profits.In 2002, Y has total gross receipts of $1,000, $200 ofwhich would be passive investment income if Ywere an S corporation.

(ii) One-fifth ($200/$1,000) of Y’s gross receiptsfor 2002 is attributable to activities that would pro-duce passive investment income. Accordingly, one-fifth of the $100 of earnings and profits is passive,and $17 (1/5 of $85) of the dividend from Y to X ispassive investment income.

Example 2. (i) The facts are the same as in Exam-ple 1, except that Y owns 90 percent of the stock of Z.Y and Z do not join in the filing of a consolidated re-turn. In 2002, Z has gross receipts of $15,000,$12,000 of which are derived from activities thatwould produce passive investment income. On De-cember 31, 2002, Z declares a dividend of $1,000($900 to Y) from current earnings and profits.

(ii) Four-fifths ($12,000/15,000) of the dividendfrom Z to Y are attributable to passive earnings andprofits. Accordingly, $720 (4/5 of $900) of the divi-dend from Z to Y is considered gross receipts froman activity that would produce passive investmentincome. The $900 dividend to Y gives Y a total of$1,900 ($1,000 + $900) in gross receipts, $920($200 + $720) of which is attributable to passive in-vestment income-producing activities. Under thesefacts, $41 ($920/1,900 of $85) of Y’s distribution toX is passive investment income to X.

(e) Effective date. This section appliesto dividends received in taxable years be-ginning on or after January 20, 2000; how-ever, taxpayers may elect to apply the regu-lations in whole, but not in part, for taxableyears beginning on or after January 1,2000, provided all affected taxpayers applythe regulations in a consistent manner. Tomake this election, the corporation and allaffected taxpayers must file a return or anamended return that is consistent with theserules for the taxable year for which theelection is made. For purposes of this sec-tion, affected taxpayers means all taxpayerswhose returns are affected by the electionto apply the regulations.

§1.1368–0 [Amended]

Par. 8. Amend §1.1368–0 in the entryfor §1.1368–2(d)(2) by revising “Reorga-nizations” to read “Liquidations and reor-

ganizations”.

§1.1368–2 [Amended]

Par. 9. Amend §1.1368–2 in paragraph(d)(2) by revising “Reorganizations” toread “Liquidations and reorganizations”in the heading and by revising “section381(a)(2)” to read “section 381(a)” in thefirst sentence.

Par. 10. Amend §1.1374–8 by addingone sentence to the end of paragraph (b)to read as follows:

§1.1374–8 Section 1374(d)(8)transactions.

* * * * *(b) Separate determination of tax. * *

* If an S corporation makes QSub elec-tions under section 1361(b)(3) for a tieredgroup of subsidiaries effective on thesame day, see §1.1361–4(b)(2).

PART 301—PROCEDURE ANDADMINISTRATION

Par. 11. The authority citation for part301 continues to read in part as follows:

Authority: 26 U.S.C. 7805 * * *Par. 12. Section 301.6109–1 is

amended as follows:1. Paragraph (i) is redesignated as

paragraph (j) and the first sentence ofnewly designated paragraph (j)(1) isamended by removing the language“paragraph (i)” and adding “paragraph(j)” in its place.

2. A new paragraph (i) is added.The addition reads as follows:

§301.6109–1 Identifying numbers.

* * * * *(i) Special rule for qualified subchapter

S subsidiaries (QSubs)—(1) Generalrule. Any entity that has an employeridentification number (EIN) will retainthat EIN if a QSub election is made forthe entity under §1.1361–3 or if a QSub

election that was in effect for the entityterminates under §1.1361–5.

(2) EIN while QSub election in effect.Except as otherwise provided in regula-tions or other published guidance, a QSubmust use the parent S corporation’s EINfor Federal tax purposes.

(3) EIN when QSub electionterminates. If an entity’s QSub electionterminates, it may not use the EIN of theparent S corporation after the termination.If the entity had an EIN prior to becominga QSub or obtained an EIN while it was aQSub in accordance with regulations orother published guidance, the entity mustuse that EIN. If the entity had no EIN, itmust obtain an EIN upon termination ofthe QSub election.

(4) Effective date. The rules of thisparagraph (i) apply on January 20, 2000.

Part 602—OMB CONTROL NUMBERSUNDER THE PAPERWORKREDUCTION ACT

Par. 13. The authority citation for part602 continues to read as follows:

Authority: 26 U.S.C. 7805.Par. 14. In §602.101, paragraph (b) is

amended by adding entries for §§1.1361–3,1.1361–5, and 1.1362–8 to the table in nu-merical order to read as follows:§602.101 OMB Control numbers.* * * * *

(b) * * *

Robert E. Wenzel,Deputy Commissioner

of Internal Revenue Service.

Approved January 14, 2000.

Jonathan Talisman,Acting Assistant Secretary of the

Treasury.

(Filed by the Office of the Federal Register on Janu-ary 20, 2000, 1:19 p.m., and published in the issue ofthe Federal Register for January 25, 2000, 65 F.R.3843)

2000–6 I.R.B. 511 February 7, 2000

CFR part or section where Current OMBidentified and described control No.

* * * * *

1.1361–3 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-15901.1361–5 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-1590 * * *1.1361–8 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1545-1590

* * * * *

Section 3121.—Definitions

At what level of compensations does FICA taxapply to election workers? See Rev. Rul. 2000–6 onthis page.

Section 3401.—Receipts forEmployees

26 CFR 31.3401

Does federal income tax withholding apply tocompensation paid to election workers? See Rev.Rul. 2000–6 on this page.

Section 6041.—Information atSource

(Also §§ 3121, 3401, 6051)

26 CFR 1.6041–2: Return of information as topayments to employees.(Also § 1.6041–1)

Information reporting requirementsapplicable to election workers.The re-quirements for information reporting ap-plicable to election workers whose com-pensation is not subject to FICA tax arefound in Code section 6041(a). As a re-sult, reporting is generally not requiredfor election workers earning less than$600 annually. Rev. Rul. 88–36, 1988–1C.B. 343, modified.

Rev. Rul. 2000–6

ISSUE

How do the information reporting re-quirements of §§ 6041(a) and 6051(a) ofthe Internal Revenue Code apply to elec-tion workers?

FACTS

Election workers are individuals whoare generally employed to perform ser-vices for state and local governments(governments) at election booths in con-nection with national, state, or local elec-tions. Governments typically pay elec-tion workers a set fee for each day ofwork. Election workers’ wages are in-cludible in gross income as compensationfor services. Section 61(a)(1). An indi-vidual employed as an election workermay also perform services for the govern-ment in another capacity.

A state and the Social Security Admin-

istration may agree to extend social secu-rity coverage to services of employees ofthe state or its political subdivisions under§ 218 of the Social Security Act (§ 218agreement). A § 218 agreement maycover the services of election workers. Ifso, the § 218 agreement may specify thelevel of fees the election workers must re-ceive to be entitled to coverage. Informa-tion about a state’s § 218 agreement canbe obtained from the State Social SecurityAdministrator.

Situation 1: Government A pays V $200in a calendar year for services as an elec-tion worker. A does not employ V in anyother capacity. The services of A’s elec-tion workers are not covered by a § 218agreement. V is not covered by a retire-ment plan maintained by A.

Situation 2: Government B pays W$200 in a calendar year for services as anelection worker. B does not employ W inany other capacity. The services of B’selection workers are covered by a § 218agreement if their remuneration is $100 ormore in a calendar year. W is not coveredby a retirement plan maintained by B.

Situation 3: Government C pays X$1,100 in calendar year 2000 for servicesas an election worker. Cdoes not employX in any other capacity. The services ofC’s election workers are not covered by a§ 218 agreement. X is not covered by aretirement plan maintained by C.

Situation 4: Government D pays Y$200 in a calendar year for services as anelection worker. D also employed Y inanother capacity, in which Y earnedwages of $300 that are subject to incometax withholding. The services of D’selection workers are not covered by a §218 agreement. Y is not covered by a re-tirement plan maintained by D.

Situation 5: Government E pays Z $200in a calendar year for services as an elec-tion worker. E also employed Z in an-other capacity, in which Z earned wagesof $500 that are subject to income taxwithholding. The services ofE’s electionworkers are not covered by a § 218 agree-ment. Z is not covered by a retirementplan maintained by E.

LAW

Taxes under the Federal InsuranceContribution Act (FICA) apply to“wages” as defined in § 3121(a). Thatsection provides that the term wages in-

cludes only remuneration for “employ-ment.” Section 3121(b)(7)(F)(iv) pro-vides that the services of an electionworker are not employment for FICA pur-poses if the worker’s remuneration is lessthan $1,000. For calendar years begin-ning on or after January 1, 2000, theamount is indexed for inflation. The ap-plicable amount for the year 2000 is$1,100. Because service performed by anelection worker for calendar year 2000 foran amount less than $1,100 is excludedfrom employment for FICA purposes, thatamount is not wages for FICA purposesunless covered under a § 218 agreement.

Similarly, section 3121(u)(2)(B)(ii)(V)provides that the services of an electionworker are not employment for purposes ofthe Medicare tax portion of the FICA if theworker’s remuneration is less than $1,000in a calendar year. For calendar years be-ginning on or after January 1, 2000, theamount is indexed for inflation. The ap-plicable amount for the year 2000 is$1,100. For services performed before Jan-uary 1, 1995, the § 3121(u)(2)(B)(ii)(V) ex-clusion was for remuneration of less than$100. Rev. Rul. 88–36, 1988–1 C.B. 343,A2, provides that an election worker is sub-ject to Medicare tax unless the remunera-tion paid to the worker in a calendar year isless than $100.

Section 3401(a) provides that, for pur-poses of income tax withholding, the term“wages” means all remuneration (otherthan fees paid to a public official) for ser-vices performed by an employee for an em-ployer. Section 31.3401(a)–2(b)(2) of theEmployment Tax Regulations states thatamounts paid to precinct workers for ser-vices performed at election booths are “inthe nature of fees paid to public officials”and not subject to income tax withholding.

Sections 6041(a) and 6051(a) both im-pose a duty to file information reports ofcompensation paid to workers.

Section 6041(a) provides:All persons engaged in a trade or busi-ness and making payment in the courseof such trade or business to anotherperson, of rent, salaries, wages, premi-ums, annuities, compensations, remu-nerations, emoluments, or other fixedor determinable gains, profits, and in-come ... of $600 or more in any taxableyear ... shall render a true and accuratereturn to the Secretary, under such reg-ulations and in such form and manner

February 7, 2000 512 2000–6 I.R.B.

and to such extent as may be prescribedby the Secretary, setting forth theamount of such gains, profits, and in-come, and the name and address of therecipient of such payment.Under § 1.6041–1(b)(1) of the Income

Tax Regulations, the term “all persons en-gaged in a trade or business,” as used in §6041(a), includes organizations the activi-ties of which are not for the purpose ofgain or profit.

The general rule stated in §1.6041–1(a)(2) is that the required returnis made on Forms 1096 and 1099, exceptthat § 1.6041–1(a)(2)(ii) provides thatcompensation paid to an employee by anemployer shall be reported on Forms W-3and W-2 under the provisions of §1.6041–2 (relating to return of informa-tion as to payments to employees).

Under § 1.6041–2(a)(1), payments ofwages not subject to income tax withhold-ing must be reported on Form W-2 if thetotal of those payments and the amount ofthe employee’s wages subject to income taxwithholding, if any, is $600 or more in acalendar year. For example, if a paymentof $700 was made to an employee and$400 thereof represents wages subject towithholding under section 3402 and the re-maining $300 represents compensation notsubject to withholding, such wages andcompensation must both be reported onForm W-2. If the employee has no wagessubject to income tax withholding, the em-ployer is required to file Form W-2 for thatemployee if payments to that employeeequal $600 or more in a calendar year.

Section 1.6041–2(a)(1) provides that,at the election of the employer, compo-nents of amounts required to be reportedon Form W-2 pursuant to this subpara-graph may be reported on more than oneForm W-2. Thus the amounts paid to anindividual for services as an electionworker may be reported on a separate W-2 from amounts paid to the individual forservice in another capacity, even thoughthe amounts are aggregated to determinewhether reporting applies.

Section 6051(a) imposes a reporting re-quirement on the following two cate-gories of payors of remuneration:

Every person required to deduct andwithhold from an employee a tax undersection 3101 [employee FICA tax] or3402 [income tax withholding], ... orevery employer engaged in a trade or

business who pays remuneration forservices performed by an employee ... .Section 6051(a) does not require re-

porting of compensation that is not sub-ject to withholding of FICA tax or incometax.

Section 6051(c) provides that the Sec-retary may prescribe by regulations thereporting of additional items. No regula-tions requiring employers to furnish addi-tional information have been published.

ANALYSIS

Compensation of an election worker isnot subject to income tax withholding.Sections 3401(a) and 31.3401(a)–2(b)(2).If an election worker’s compensation isless than $1,100 for calendar year 2000, itis generally not subject to FICA tax. Sec-tions 3121(b)(7)(F)(iv) and3121(u)(2)(B)(ii)(V). However, under astate’s § 218 agreement, an electionworker’s compensation may be subject toboth the old-age, survivors and disabilityinsurance (OASDI) and the Medicare por-tions of the FICA tax at a level below$1,100 for calendar year 2000.

Section 6041(a) applies to payments ofcompensation that are not subject to with-holding of FICA or income tax. If anelection worker’s compensation is notsubject to withholding of FICA tax, the §6041(a) reporting requirement applies topayments that aggregate $600 or more inany taxable year. Under §1.6041–2(a)(1), compensation subject toincome tax withholding is taken into ac-count in determining whether the $600 re-porting requirement applies.

Section 6051(a) requires reporting ofcompensation subject to either FICA tax orincome tax withholding. No reporting isrequired by §§ 6051(a) and 31.6051–1(a)and (b) for items of income that are notsubject to withholding of FICA tax or in-come tax. If an election worker’s compen-sation is subject to withholding of FICAtax, reporting is required by § 6051(a), re-gardless of the amount of compensation.

HOLDINGS

The reporting requirements applicableto governments that employ electionworkers are as follows:

Situation 1: Neither FICA tax nor in-come tax withholding applies to the $200paid to V. The reporting requirements of§ 6041(a) apply. Because V earns fees

that are less than $600, Government A isnot required to issue Form W-2 to V.

Situation 2: FICA tax, but not incometax withholding, applies to the $200 paidto W because the fees exceed the $100threshold in the § 218 agreement. Gov-ernment B must follow the reporting re-quirements of § 6051(a), reporting onForm W-2 the fees of $200 and the FICAtax withheld.

Situation 3: FICA tax, but not incometax withholding, applies to the $1,100paid to X for calendar year 2000. Govern-ment C must follow the reporting require-ments of §6051(a), reporting on Form W-2 the fees of $1,100 and the FICA taxwithheld.

Situation 4: Neither FICA tax nor in-come tax withholding applies to the $200paid to Y for services as an electionworker, but the $300 payment is subjectto income tax withholding. GovernmentD must follow the reporting requirementsof § 6051(a), reporting on Form W-2 the$300 payment and the income tax with-held. Section 6041(a) does not require re-porting of the $200 payment because thetotal of the two payments is less than$600 for the calendar year.

Situation 5: Neither FICA tax nor in-come tax withholding applies to the $200paid to Z for services as an electionworker, but the $500 payment is subjectto income tax withholding. GovernmentE must follow the reporting requirementsof §§ 6041(a) and 6051(a), reporting onForm W-2 both the $200 and the $500payments and the amount of income taxwithheld.

EFFECT ON OTHER REVENUERULING(S)

This ruling modifies Rev. Rul. 88–36,A2, to reflect the increase in the amountof remuneration applicable for purposesof the Medicare tax exclusion under §3121(u)(2)(B)(ii)(V), currently $1,100 forcalendar year 2000.

DRAFTING INFORMATION

The principal author of this revenueruling is Elizabeth Edwards of the Officeof Chief Counsel (Employee Benefits &Exempt Organizations). For further infor-mation regarding this revenue ruling, con-tact Elizabeth Edwards at (202) 622-6040(not a toll-free call).

2000–6 I.R.B. 513 February 7, 2000

Section 6051.—Receipts forEmployees

26 CFR 31.6051–1

How do the information reporting requirementsof § 6051(a) apply to election workers? See Rev.Rul. 2000–6, page 512.

Section 7520.—Valuation Tables

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

Section 7872.—Treatment ofLoans with Below-MarketInterest Rates

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof February 2000. See Rev. Rul. 2000–9, page 497.

February 7, 2000 514 2000–6 I.R.B.

2000–6 I.R.B. 515 February 7, 2000

26 CFR 601.701: Publicity of information.(Also Part I, Sections 901, 902, 905, 960, 986;1.901–2, 1.905–3T; Part II, United States-UnitedKingdom Income Tax Convention.)

Rev. Proc. 2000–13

SECTION 1. PURPOSE

This revenue procedure modifies Rev.Proc. 80–18, 1980–1 C.B. 623, by settingforth new rules and procedures for apply-ing Articles 10(2)(a) and 23(1)(b) and (c)of the United States-United Kingdom In-come Tax Convention, signed on Decem-ber 31, 1975, as amended by an Ex-change of Notes, signed on April 13,1976, and Protocols, signed on August26, 1976, March 31, 1977, and March 15,1979 (the “Convention”), 1980–1 C.B.394, with respect to dividends paid bycorporations resident in the United King-dom after April 5, 1999 to U.S. share-holders. Revised rules and proceduresare necessary because the United King-dom repealed its advance corporation tax(“ACT”) and reduced the shareholder taxcredit with respect to dividends effectiveApril 6, 1999.

SECTION 2. BACKGROUND

.01 Prior U.K. Law. Under prior U.K.law, ACT was levied on a corporation res-ident in the United Kingdom (U.K. corpo-ration) in respect of a dividend paid, orother qualifying distribution made, by thecorporation to its shareholders. The rateof ACT varied over time, but equaledone-fourth of the amount of the dividendimmediately prior to the repeal of ACT.At the corporate level, ACT was cred-itable against the general corporation taxliability of either the distributing corpora-tion or a corporation related to the distrib-uting corporation. At the shareholderlevel, a shareholder resident in the UnitedKingdom was generally entitled to a taxcredit against the shareholder’s incometax liability in respect of the distribution.The tax credit was calculated by referenceto the ACT rate and could be paid in cashto the extent that the credit exceeded theshareholder’s tax liability. Because theamount of the tax credit was calculated byreference to the ACT rate, the shareholdertax credit was commonly referred to inthe United States as an “ACT refund.”

The tax credit was an integral part of asystem of taxation under U.K. law thatpartially integrated the United Kingdom’scorporate and shareholder level incometaxes. The shareholder tax credit was de-signed to eliminate or reduce a secondlevel of tax on corporate profits at theshareholder level. In the absence of aspecific tax treaty provision, tax creditswere not generally available to sharehold-ers not resident in the United Kingdom.Under its domestic law, the United King-dom does not impose a withholding taxon dividends paid to nonresidents.

.02 Relevant Provisions of the Conven-tion. Paragraph (2) of Article 10 (Divi-dends) of the Convention provides that, aslong as an individual resident in theUnited Kingdom is entitled under U.K.law to a tax credit in respect of dividendspaid by a U.K. corporation, U.S. residentswho are the beneficial owners of divi-dends paid by a U.K. corporation will beentitled to receive a payment from theUnited Kingdom of a tax credit, subject toa deduction withheld from the payment.In the case of U.S. corporations owning,directly or indirectly, 10 percent or moreof the voting stock of a distributing U.K.corporation (“direct investors”), para-graph (2)(a)(i) of Article 10 provides thatthe amount payable by the United King-dom is equal to one-half of the tax creditto which an individual shareholder resi-dent in the United Kingdom would havebeen entitled, reduced by 5 percent of thesum of the dividend and the amount of thetax credit. In the case of all other U.S. in-vestors (“portfolio investors”), paragraph(2)(a)(ii) of Article 10 provides that theamount payable by the United Kingdomis equal to the full amount of the tax creditto which an individual shareholder resi-dent in the United Kingdom would havebeen entitled, reduced by 15 percent ofthe sum of the dividend and the amount ofthe tax credit. Under paragraph(2)(a)(iii) of Article 10, the gross amountof the tax credit (unreduced by the 5 or 15percent withheld) is treated as an addi-tional dividend paid by the U.K. corpora-tion for U.S. tax credit purposes.

Paragraph (1) of Article 23 (Elimina-tion of Double Taxation) of the Conven-tion generally provides that the UnitedStates shall allow to its citizens and resi-

dents a foreign tax credit for an appropri-ate amount of income tax paid to theUnited Kingdom, subject to the limita-tions of, and in accordance with, the lawsof the United States. Paragraph (1) of Ar-ticle 23 provides that, in the case of a U.S.corporation owning at least 10 per cent ofthe voting stock of a U.K. corporationfrom which it receives dividends in anytaxable year, the United States shall allowcredit for the appropriate amount of taxpaid to the United Kingdom by that cor-poration with respect to the profits out ofwhich such dividends are paid. Paragraph(1)(b) of Article 23 provides that theUnited States shall treat the amount with-held under paragraphs (2)(a)(i) and (ii) ofArticle 10 as an income tax imposed onthe recipient of the dividend. Paragraph(1)(c) of Article 23 provides that theUnited States shall treat the one-half ofthe tax credit to which an individualshareholder resident in the United King-dom would have been entitled, but whichis not paid to a U.S. direct investor, as anincome tax imposed on the U.K. corpora-tion.

.03 Repeal of ACT and Reduction ofShareholder Tax Credit. Effective April6, 1999, the United Kingdom repealed theACT. Thus, a U.K. corporation is nolonger required to pay ACT in respect of adividend or other qualifying distributionto its shareholders. Notwithstanding therepeal of ACT, the integrated system oftaxation under U.K. law remains in force.A U.K. shareholder is generally still enti-tled to a tax credit upon the receipt of aqualifying distribution to the extent of theshareholder’s tax liability, but any excessis no longer payable in cash. The amountof the shareholder tax credit is no longerdetermined by reference to the ACT rate,but by reference to the “tax credit frac-tion” in force on the date of the distribu-tion. The current tax credit fraction isone-ninth. Thus, the U.K. shareholder taxcredit has been reduced from one-fourthto one-ninth of the amount of the divi-dend.

Under the literal language of the Con-vention, paragraph (2) of Article 10 of theConvention continues to apply after therepeal of ACT because individuals resi-dent in the United Kingdom continue tobe entitled under U.K. law to a tax credit

Part III. Administrative, Procedural, and Miscellaneous

February 7, 2000 516 2000–6 I.R.B.

in respect of dividends paid by a U.K.corporation. Because of the reduction inthe amount of the U.K. shareholder taxcredit, however, the amount of the pay-ment due to U.S. investors will be re-duced. For portfolio investors, theamount permitted to be withheld on thesum of the dividend and the tax creditpursuant to paragraph (2)(a)(ii) of Article10 will completely eliminate the amountpayable. As a result, no additional cashwill be payable to the investor under theConvention. For direct investors, only anominal amount of additional cash will bepayable, because the 5-percent amountwithheld on the sum of the dividend andthe tax credit pursuant to paragraph(2)(a)(i) of Article 10 will almost entirelyeliminate the payment.

SECTION 3. APPLICATION OF THECONVENTION AFTER THE REPEALOF ACT

.01 Section 901 Credit for Tax With-held. A U.S. shareholder, whether a port-folio or direct investor, who invokes theprovisions of paragraph (2)(a) of Article10 of the Convention upon the receipt of adividend or other qualifying distributionafter April 5, 1999 from a U.K. corpora-tion will continue to be entitled to receivea foreign tax credit under section 901, inaccordance with Article 23, for theamount withheld pursuant to paragraph(2)(a) of Article 10. This amount istreated as a creditable withholding tax forU.S. tax purposes pursuant to paragraph(1)(b) of Article 23.

.02 Portfolio investors. A U.S. portfo-lio investor entitled to payment of a taxcredit under Article 10 of the Conventionupon receipt of a dividend or other quali-fying distribution from a U.K. corporationmay elect to be treated as receiving theamount due under the Convention withoutaffirmatively making a claim to theUnited Kingdom. A portfolio investormay make this election by so indicatingon Line 5 of Form 8833 (Treaty-BasedReturn Position Disclosure Under Section6114 or 7701(b)) and filing the completedForm 8833 with the taxpayer’s incometax return for the relevant year.

A portfolio investor making this elec-tion will be treated as having received anadditional dividend equal to the grossamount of the tax credit (unreduced byamounts withheld), and as having paid the

withholding tax due under Article 10, onthe date of the distribution. Thus, the in-vestor must include in income the grosspayment deemed received, and may claima foreign tax credit under Article 23 forthe withholding tax treated as paid to theUnited Kingdom.

The withholding tax creditable underArticle 23 cannot exceed the amount ofthe tax credit payable under the Conven-tion. Since the tax permitted to be with-held under paragraph (2)(a)(ii) of Article10 can only be withheld from the amountof the tax credit due to the U.S. portfolioinvestor, the United Kingdom is not per-mitted under the Convention to withholdan amount in excess of the tax credit. Ac-cordingly, the tax is considered due andpaid only to the extent of the tax credit.

For purposes of section 905(b) of theCode (relating to proof of credits), a U.S.portfolio investor who elects to be treatedas receiving a payment and paying a taxunder the Convention is not required toobtain a receipt or other evidence fromthe United Kingdom verifying the pay-ment of the withholding tax, but may usesecondary evidence to substantiate theamount of tax treated as paid. See Treas.Reg. § 1.905–2(b)(3).

.03 Direct Investors. A U.S. direct in-vestor that claims a tax credit from theUnited Kingdom is entitled to a smallpayment net of withholding tax underparagraph (2)(a)(i) of Article 10. Theamount of the withholding tax creditableunder Article 23 will be equal to 5 percentof the sum of the dividend and the grossamount of the tax credit. The investormust include the gross amount of the taxcredit in income as a dividend and satisfyall requirements under section 905(b) andthe regulations thereunder relating to theverification and computation of the for-eign tax credit. The investor must alsofile a Form 8833 (Treaty-Based ReturnPosition Disclosure Under Section 6114or 7701(b)) with the taxpayer’s incometax return for the relevant year disclosingthe benefits claimed under Articles 10 and23 of the Convention.

.04 Section 902 or 960 Credit for Cor-porate-Level Tax. Under paragraph (1)(c)of Article 23 of the Convention, the por-tion of the tax credit to which a U.K.shareholder would be entitled upon a qual-ifying distribution, but which is not paid toa U.S. direct investor, is treated as an in-

come tax imposed on the U.K. corporationpaying the dividend. This paragraph madeclear that the one-half of the ACT paid bythe U.K. corporation that was not paid outto the U.S. investor was to be treated as anincome tax imposed on the U.K. corpora-tion for which the U.S. investor couldclaim an indirect credit under paragraph 1of Article 23 (and pursuant to sections 902and 960 of the Code). See S. Exec. Rep.No. 18, 95th Cong., 2d Sess. (1980),reprinted in1980–1 C.B. 411, 428. How-ever, because paragraph (1) of Article 23and section 901 of the Code specificallylimit the allowable indirect credit to theappropriate amount of creditable U.K. in-come taxes actually paid by the U.K. cor-poration, the one-half of the ACT not paidout to the U.S. investor was creditableonly to the extent it was actually paid bythe U.K. corporation.

Under current U.K. law, a U.K. corpo-ration is liable for corporation tax on thecorporation’s profits, but is not liable forACT or any other creditable income tax inrespect of its profits. Under Article 23,and in accordance with section 902 or 960of the Code, a direct investor is eligible toclaim an indirect foreign tax credit for theU.K. corporation tax paid by the corpora-tion. Because no additional U.K. incometax is paid by the U.K. corporation undercurrent law, no portion of the shareholdertax credit is treated as additional tax paidby the U.K. corporation for which the in-vestor may claim an indirect foreign taxcredit under Article 23 and in accordancewith section 902 or 960 of the Code.

.05 Effect of Tax Credit Paid Under theConvention on U.K. Corporation’s Earn-ings and Profits and Foreign IncomeTaxes. Under paragraph (2)(a)(iii) of Ar-ticle 10, the gross amount of the tax credit(unreduced by amounts withheld) duefrom the United Kingdom under para-graphs (2)(a)(i) and (ii) of Article 10 ischaracterized as a dividend from the dis-tributing U.K. corporation for U.S. taxcredit purposes. The characterization ofthis amount as a dividend means that theU.K. corporation must be treated as re-ceiving from the United Kingdom anequivalent amount out of which it paysthe dividend. Prior to the repeal of ACT,the distributing U.K. corporation wastreated as receiving from the UnitedKingdom a refund of the ACT paid (orone-half of the ACT paid in the case of a

2000–6 I.R.B. 517 February 7, 2000

distribution to a U.S. direct investor), outof which it paid the tax credit due underthe Convention to its U.S. shareholder.See Treasury Explanation, reprinted in1980–1 C.B. 455, 474 (prescribing thistreatment under pre-1987 law).

While ACT is no longer payable by U.K.corporations, the shareholder tax credit dueunder the Convention is still funded out ofU.K. corporate tax revenues and is deter-mined by reference to the amount of thedividend, which is a portion of the baseused to compute the U.K. corporation’s tax.Thus, the payment of the shareholder taxcredit gives rise to a refund or indirect sub-sidy for U.S. tax purposes. See section901(i) and Treas. Reg. § 1.901–2(e)(3).These purposes include the computation ofthe corporation’s earnings and profits(E&P) and foreign income taxes and corre-sponding effects on the corporation’s U.S.shareholders, which may include the com-putation of the indirect credit under para-graph 1 of Article 23 (and pursuant to sec-tions 902 and 960 of the Code) and thesubpart F provisions under sections 951through 964 of the Code. Accordingly, fordistributions after April 5, 1999 with re-spect to which a U.S. direct investor appliesfor benefits under Article 10 of the Conven-tion, the U.K. corporation will be treated asreceiving a tax refund in an amount equiva-lent to the gross amount of the tax credit(unreduced by amounts withheld) payableto the U.S. shareholder under the Conven-tion. This treatment ensures that the U.S.shareholder does not receive combined di-rect and indirect foreign tax credits in anamount exceeding the income taxes actu-ally paid by the U.K. corporation.

The deemed refund of tax to the U.K.corporation is considered allocable to aseparate limitation category in proportionto the ratio of post-1986 foreign incometaxes in such category to the total amountof post-1986 foreign income taxes of theU.K. corporation, determined as of theclose of the year in which the shareholdertax credit is paid or accrued and prior toaccounting for the effect of distributionsand deemed distributions during the year.To the extent the refund exceeds the U.K.corporation’s total post-1986 foreign in-come taxes, the refund is treated as attrib-utable to foreign income taxes previouslydeemed paid on a last-in, first-out basis(i.e., the refund reduces the foreign in-come taxes most recently deemed paid by

the U.S. shareholder). Thus, the U.K.corporation must, in the year the share-holder tax credit is paid or accrued, re-duce its post-1986 foreign income taxesin the separate limitation category (or cat-egories) to which the refund relates andcorrespondingly increase its post-1986undistributed earnings in the same cate-gory (or categories) by the gross amountof the tax credit payable under the Con-vention. See Treas. Reg. sections1.905–3T(a)(3) and (4).

As explained in the Treasury TechnicalExplanation accompanying the Conven-tion, where a U.S. direct investor ownsless than all the stock of the distributingU.K. corporation, the indirect credit dueunder Article 23 and in accordance withsections 902 and 960 will be calculatedwith reference solely to the proportionateamount of E&P and foreign taxes attribut-able to that investor. Thus, the amount ofthe indirect credit will not vary accordingto the status of any other shareholder orthe amount of distributions made, or pay-ments of tax credits under the Conven-tion, to any other shareholder. See Trea-sury Explanation, reprinted in 1980-1C.B. 455, 473.

06. Procedures for Direct Investors ToClaim a Tax Credit Payment Under theConvention. Prior to the repeal of ACT,the United Kingdom Inland Revenuecould enter into arrangements with a U.K.corporation that paid a dividend or otherqualifying distribution, authorizing it topay the tax credit due under the Conven-tion directly to its U.S. shareholders. TheU.K. corporation could offset the amountof the tax credit paid against its ACT lia-bility. Because U.K. corporations nolonger pay ACT, this procedure is nolonger available.

Because of the changes in U.K. law, allclaims for payments of tax credits must bemade on the appropriate United Kingdomform and filed directly with the UnitedKingdom Inland Revenue. The appropri-ate United Kingdom form is U.S./Corpo-ration/Credit. In the United States, theforms may be obtained from the InternalRevenue Service, Office of AssistantCommissioner (International), Attn: Cus-tomer Service OP:IN:D:CS, 950 L’EnfantPlaza South, S.W., Washington, D.C.20024. In the United Kingdom, the formsmay be obtained from the Financial Inter-mediaries and Claims Office (“FICO”),

P.O. Box 46, Fitz Roy House, NottinghamNG2 1BD. The forms may be orderedfrom the United Kingdom by telephoneon (011 44) 115 974 2000 or by fax on(011 44) 115 974 1863.

If a U.S. direct investor has never madea claim for a tax credit under the Conven-tion, the investor should file a completedUnited Kingdom form (in duplicate) withthe Philadelphia Service Center, ForeignCertification Unit, P.O. Box 16347,DP535B, Philadelphia, PA 19114. TheService Center will provide the requiredcertification and transmit the form to theUnited Kingdom Inland Revenue. If aU.S. investor has previously filed a claimfor a tax credit under the Convention,subsequent claims do not require certifi-cation by the Philadelphia Service Center.In such cases, the United Kingdom formshould be filed directly with the UnitedKingdom Inland Revenue at the addressshown above.

SECTION 4. EXCHANGE RATES

Under section 986(a)(1), as amendedby the Taxpayer Relief Act of 1997 (TRA97), P.L. 105–34, section 1102(a)(1)(1997), taxpayers claiming foreign taxcredits on an accrual basis generally musttranslate foreign taxes, including with-holding taxes, into U.S. dollars at the av-erage exchange rate for the taxable year towhich the taxes relate. Previously, tax-payers claiming foreign tax credits on anaccrual basis translated foreign taxes intoU.S. dollars at the so-called “spot” rate onthe date the taxes were paid. The spotrate reflects a fair market value rate of ex-change available to the public for cur-rency under a spot contract in a free mar-ket and involving representative amounts.See Treas. Reg. § 1.988–1(d)(1). TRA 97did not change this translation rule fortaxpayers claiming foreign tax credits onthe cash basis. Thus, these taxpayers stilltranslate foreign taxes into U.S. dollars atthe spot rate on the payment date. Seesection 986(a)(2).

Nonfunctional currency dividends, in-cluding the tax credit treated as a dividendunder paragraph (2)(a)(iii) of Article 10,are treated as property distributions andare included in income on the date of pay-ment. In accordance with section989(b)(1), such dividends are translatedinto dollars at the spot rate on the pay-ment date, regardless of whether the tax-

26 CFR 601.202: Closing agreements.

Rev. Proc. 2000–16

TABLE OF CONTENTS

PART I. INTRODUCTION TO EMPLOYEE PLANS COMPLIANCE RESOLUTION SYSTEM

SECTION 1. PURPOSE AND OVERVIEW.01 Purpose . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 520.02 Revisions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 520.03 General principles underlying EPCRS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 520.04 Overview . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 521.05 Future enhancements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 521

SECTION 2. EFFECT ON PROGRAMS.01 Effect on programs. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 521.02 Effect on specific programs. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 521

PART II. PROGRAM EFFECT AND ELIGIBILITY

SECTION 3. EFFECT OF EPCRS; RELIANCE.01 Effect of EPCRS on Qualified Plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 521.02 Effect of EPCRS on 403(b) Plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 521.03 Other taxes and penalties . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522.04 Reliance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522

SECTION 4. PROGRAM ELIGIBILITY.01 Program eligibility for Qualified Plans. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522.02 Program eligibility for 403(b) Plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522.03 Effect of examination . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522.04 Favorable Letter requirement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522.05 Established practices and procedures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522.06 Qualified Plan amendments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522.07 Egregious failures. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522.08 Diversion or misuse of plan assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 522

PART III. DEFINITIONS, CORRECTION PRINCIPLES, AND RULES OF GENERAL APPLICABILITY

SECTION 5. DEFINITIONS.01 Definitions for Qualified Plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 523.02 Definitions for 403(b) Plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 523.03 Under Examination . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 524

SECTION 6. CORRECTION PRINCIPLES AND RULES OF GENERAL APPLICABILITY.01 Correction principles; rules of general applicability . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 525.02 Correction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 525.03 Correction under statute or regulations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 527.04 Matters subject to excise taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 527.05 Confidentiality and disclosure. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 527.06 No effect on other law . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 527

February 7, 2000 518 2000–6 I.R.B.

payer claims foreign tax credits on an ac-crual or cash basis.

Thus, for taxpayers claiming foreign taxcredits on an accrual basis, the gross divi-dend is translated into U.S. dollars and in-cluded in income at the spot rate on thepayment date, but taxes withheld from thedividend are translated into U.S. dollars atthe average rate for the taxable year for for-eign tax credit purposes. A taxpayer claim-ing foreign tax credits on the cash basistranslates both the dividend and withhold-ing tax into U.S. dollars at the spot rate on

the date the dividend is paid.

SECTION 5. EFFECT ON OTHERDOCUMENTS

This revenue procedure modifies the rel-evant portions of sections 3.01 through3.07 of Rev. Proc. 80–18, 1980–1 C.B. 623(as modified by Rev. Proc. 81–58, 1981–2C.B. 678 and Rev. Proc. 84–60, 1984–2C.B. 504, and as clarified and amplified byRev. Proc. 90–61, 1990–2 C.B. 657).SECTION 6. EFFECTIVE DATE

This revenue procedure is effective on

the date of publication and applies to dis-tributions to U.S. shareholders made on orafter April 6, 1999 by corporations resi-dent in the United Kingdom.

DRAFTING INFORMATION

The principal author of this revenueprocedure is Trina Dang of the Office ofAssociate Chief Counsel (International).For further information regarding thisrevenue procedure, contact Ms. Dang at(202) 622-3850 (not a toll-free call).

2000–6 I.R.B. 519 February 7, 2000

PART IV. SELF-CORRECTION (APRSC)

SECTION 7. IN GENERAL

SECTION 8. SELF-CORRECTION OF INSIGNIFICANT OPERATIONAL FAILURES.01 Requirements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 527.02 Factors. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 527.03 Multiple failures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 527.04 Examples . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 527

SECTION 9. SELF-CORRECTION OF SIGNIFICANT OPERATIONAL FAILURES.01 Requirements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 528.02 Correction period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 528.03 Substantial completion of correction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 528.04 Example . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 528

PART V. VOLUNTARY CORRECTION WITH SERVICE APPROVAL (VCR, WALK-IN CAP AND TVC)

SECTION 10. VCR PROGRAM .01 VCR requirements. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 528.02 Identification of failures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 528.03 No concurrent examination activity. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 529.04 Insufficient information. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 529.05 Initial processing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 529.06 Processing of acceptable submission . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 529.07 Failures discovered after initial submission . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 529.08 Conference right. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 529.09 Failure to reach resolution . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 529.10 Concurrent processing of determination letter applications . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 530.11 Special rules relating to SVP . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 530.12 General description of compliance statement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 530.13 Compliance statement conditioned upon timely correction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 530.14 Compliance statement for new plans conditioned upon timely amendment. . . . . . . . . . . . . . . . . . . . . p. 530.15 Acknowledgement letter. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 530.16 Verification. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 530

SECTION 11. WALK-IN CAP AND TVC .01 Walk-in CAP requirements. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 530.02 Failures discovered after initial submission. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 531.03 Failure to reach resolution. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 531.04 Effect of closing agreement. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 531.05 TVC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 531

SECTION 12. APPLICATION PROCEDURES FOR VCR, WALK-IN CAP AND TVC.01 General rules. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 531.02 Multiemployer and multiple employer plans. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 531.03 Submission requirements. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 531.04 Required documents. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 532.05 Fee. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 532.06 Signed submission. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 532.07 Power of attorney requirements. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 532.08 Penalty of perjury statement. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 532.09 Checklist. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 532.10 Designation. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 532.11 VCR/SVP mailing address. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 532.12 Walk-in CAP and TVC mailing address. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 532.13 Maintenance of copies of submissions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 533

SECTION 13. FEES.01 Rev. Proc. 2000–8 modified. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 533.02 VCR fee. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 533.03 Establishing number of plan participants. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 533.04 SVP fee. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 533

.05 Walk-in CAP compliance correction fee. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 533

.06 TVC fee . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 534

PART VI. CORRECTION ON AUDIT (AUDIT CAP)

SECTION 14. DESCRIPTION OF AUDIT CAP.01 Audit CAP requirements. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535.02 Payment of sanction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535.03 Additional requirements. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535.04 Failure to reach resolution. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535.05 Effect of closing agreement. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535.06 Other procedural rules. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535

SECTION 15. AUDIT CAP SANCTION .01 Determination of sanction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535.02 Factors considered. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535

PART VII. EFFECT ON OTHER DOCUMENTS AND EFFECTIVE DATE

SECTION 16. EFFECT ON OTHER DOCUMENTS.01 Revenue procedures modified and superseded. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535.02 Rev. Proc. 2000–8 modified . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535

SECTION 17. EFFECTIVE DATE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535

SECTION 18. PAPERWORK REDUCTION ACT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 535

DRAFTING INFORMATION

APPENDIX A: OPERATIONAL FAILURES AND CORRECTIONS UNDER SVP . . . . . . . . . . . . . . . . . . . . . . . . . p. 536

APPENDIX B: CORRECTION METHODS AND EXAMPLES AND EARNINGS ADJUSTMENT METHODS AND EXAMPLES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 537

APPENDIX C: VCR/SVP/WALK-IN CAP/TVC CHECKLIST . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . p. 551

PART I. INTRODUCTION TO EMPLOYEE PLANS COMPLIANCE RESOLUTION SYSTEM

February 7, 2000 520 2000–6 I.R.B.

SECTION 1. PURPOSE ANDOVERVIEW

.01 Purpose. This revenue procedureupdates and consolidates the comprehen-sive system of correction programs forsponsors of retirement plans that are in-tended to satisfy the requirements of §401(a), § 403(a) or § 403(b) of the InternalRevenue Code (the “Code”), but that havenot met these requirements for a period oftime. This system, the Employee PlansCompliance Resolution System(“EPCRS”), permits plan sponsors to cor-rect these Qualification or § 403(b) Fail-ures and thereby continue to provide theiremployees with retirement benefits on atax-favored basis. The components ofEPCRS are the Administrative Policy Re-garding Self-Correction (“APRSC”), theVoluntary Compliance Resolution(“VCR”) program, the Walk-in ClosingAgreement Program (“Walk-in CAP”), theAudit Closing Agreement Program (“AuditCAP”) and the Tax Sheltered Annuity Vol-untary Correction (“TVC”) program..02 Revisions. This revenue proceduremodifies Rev. Proc. 98– 22, 1998–12

I.R.B. 11, which consolidated the correc-tion programs into EPCRS. The modifi-cations to Rev. Proc. 98–22 include:

(1) incorporating Rev. Proc. 99–13,1999–5 I.R.B. 52, which applies EPCRSto 403(b) Plans;

(2) adding a new Appendix B whichincorporates the correction methods de-scribed and illustrated in Rev. Proc.99–31 1999–34 I.R.B. 280;

(3) redesignating Appendix B ofRev. Proc. 98–22 as Appendix C; and

(4) reflecting the new Tax Exemptand Government Entities Division(TE/GE) of the IRS.

.03 General principles underlyingEPCRS. EPCRS is based on the follow-ing general principles:• Sponsors of tax-qualified retirement

plans or 403(b) Plans should be en-couraged to establish administrativepractices and procedures that ensurethat plans are operated properly inaccordance with the tax qualificationor 403(b) requirements.

• Sponsors of tax-qualified retirementplans should maintain plan docu-

ments satisfying the tax qualificationrequirements.

• Plan sponsors should make volun-tary and timely correction of anyQualification or 403(b) Failures,whether involving discrimination infavor of highly compensated em-ployees, plan operations, or theterms of the plan document. Timelyand efficient correction protects par-ticipating employees by providingthem with their expected retirementbenefits, including favorable taxtreatment.

• Voluntary compliance is promotedby providing for limited fees for vol-untary corrections approved by theService, thereby reducing employ-ers’ uncertainty regarding their po-tential tax liability and participants’potential income tax liability.

• Sanctions for Qualification or 403(b)Failures identified on audit shouldbe reasonable in light of the nature,extent, and severity of the violation.

• Administration of EPCRS should beconsistent and uniform.

• Taxpayers should be able to rely onthe availability of EPCRS in takingcorrective actions to maintain thequalified or 403(b) status of theirplans.

.04 Overview. EPCRS includes thefollowing basic elements:• Self-correction. A plan sponsor that

has established compliance practicesand procedures may, at any time,correct insignificant OperationalFailures without paying any fee orsanction. In addition, in the case of aQualified Plan that is the subject of afavorable determination letter fromthe Service or of a 403(b) Plan, theplan sponsor generally may correcteven significant Operational Failureswithin a two-year period withoutpayment of any fee or sanction.(APRSC)

• Voluntary correction with Serviceapproval. In the case of any otherQualification or 403(b) Failure, aplan sponsor, at any time beforeaudit, may pay a limited fee and re-ceive the Service’s approval for thecorrection. (VCR, Walk-in CAP,and TVC)

• Correction on audit. If a Qualifica-tion or 403(b) Failure (other than afailure corrected as described above)is identified on audit and corrected,the sanction imposed will bear a rea-sonable relationship to the nature,extent and severity of the failure,taking into account the extent towhich correction occurred beforeaudit. (Audit CAP)

.05 Future enhancements. The pri-mary purpose of this revenue procedure isto consolidate in a single document, forease of use and reference, the guidancepreviously published with respect toEPCRS. Certain clarifications and revi-sions, discussed below, that do not in-volve significant substantive modificationof EPCRS and that generally reflect thecurrent practice under EPCRS, are in-cluded in this revenue procedure.

The Service and Treasury are activelyreviewing the comments that have beenreceived on EPCRS that are not reflectedin this revenue procedure. These addi-tional enhancements will be incorporatedinto upcoming guidance on EPCRS. Inaddition to that guidance, it is anticipatedthat the consolidated EPCRS revenue pro-

cedure will be updated on an annual basisto reflect changes published during thepreceding calendar year.

SECTION 2. EFFECT ON PROGRAMS

.01 Effect on programs. This revenueprocedure affects the programs as fol-lows:• consolidates and coordinates guid-

ance issued in 1998 and 1999 into aunified EPCRS procedure;

• clarifies the application of FICA andFUTA taxes (and correspondingwithholding obligations) to cor-rected Qualified Plans and 403(b)Plans; and

• clarifies that the statute of limita-tions for purposes of redeterminingtaxes for a closed taxable year willnot be reopened solely because ofcorrection of a failure that occurredin such year.

.02 Effect on specific programs. Thisrevenue procedure affects the specificprograms as follows:

(1) APRSC. APRSC enables a spon-sor of a Qualified Plan or a 403(b) Plan toself-correct Operational Failures it dis-covers in its plans. The provisions ofAPRSC are modified and restated to:• clarify and confirm, under the eligi-

bility requirements for APRSC, thatthe program is available to correctinsignificant defects in plans of allsizes.(2) VCR. The VCR program en-

ables a sponsor of a Qualified Plan to vol-untarily disclose to the Service Opera-tional Failures it has discovered in its planand to pay a fixed fee to the Service. Theprovisions of VCR are modified to:• grant, in appropriate cases, a waiver

of the excise tax under §4974 forminimum required distribution fail-ures that are corrected by the PlanSponsor under VCR;

• amplify the permissible correctionmethods under the StandardizedVCR Program (SVP) (see AppendixA and Appendix B of this revenueprocedure); and

• clarify that sponsors may use Walk-in CAP for interrelated VCR andWalk-in CAP failures.

(3) Walk-in CAP. Walk-in CAPenables a sponsor of a Qualified Plan tovoluntarily disclose to the Service Quali-fication Failures it has discovered in its

plan and to pay a compliance correctionfee. The provisions of Walk-in CAP aremodified to:• grant, in appropriate cases, a waiver

of the excise tax under § 4974 forminimum distribution failures thatare corrected by the Plan Sponsorunder Walk-in CAP.

(4) TVC. Similar to Walk-in CAP,TVC enables an employer that offers a403(b) Plan to voluntarily disclose to theService 403(b) Failures it has discoveredin its plan and to pay a compliance correc-tion fee. The provisions of TVC are mod-ified to:• grant, in appropriate cases, a waiver

of the excise tax under § 4974 forminimum distribution failures thatare corrected by the Plan Sponsorunder TVC.

• clarify the types of failures that maybe corrected under TVC.

PART II. PROGRAM EFFECT ANDELIGIBILITY

SECTION 3. EFFECT OF EPCRS;RELIANCE

.01 Effect of EPCRS on QualifiedPlans. If the eligibility requirements ofsection 4 are satisfied and the Plan Spon-sor corrects a Qualification Failure in ac-cordance with the requirements ofAPRSC in section 7, the VCR program insection 10, Walk-in CAP in section 11, orAudit CAP in section 14, the Service willnot treat the Qualified Plan as disqualifiedon account of the Qualification Failure. Ifthe Plan Sponsor corrects the failures inaccordance with the requirements of thisrevenue procedure the plan will be treatedas a qualified plan for purposes of apply-ing § 3121(a)(5) (FICA taxes) and forpurposes of applying § 3306(a)(5) (FUTAtaxes).

.02 Effect of EPCRS on 403(b) Plans.If the applicable eligibility requirementsare satisfied and the employer corrects afailure in accordance with the require-ments of APRSC, TVC, or Audit CAP for403(b) Plans, the Service will not pursueincome inclusion for affected participants,or liability for income tax withholding, onaccount of the failure. However, the cor-rection of a failure may result in incometax consequences to participants (for ex-ample, participants may be required to in-clude in gross income distributions of Ex-

2000–6 I.R.B. 521 February 7, 2000

cess Amounts in the year of distribution).In addition, if these requirements are metand correction is made under this revenueprocedure, the annuity contracts or custo-dial accounts under a 403(b) Plan will betreated as annuity contracts described in §403(b) for purposes of applying §3121(a)(5) (FICA taxes) and for purposesof applying § 3306(a)(5) (FUTA taxes).However, contributions or allocations ofExcess Amounts are generally treated aswages for purposes of FICA and FUTAtaxes.

.03 Other taxes and penalties. Seesection 6.04 for rules relating to othertaxes and penalties.

.04 Reliance. Taxpayers may rely onthis revenue procedure, including the re-lief described in sections 3.01 and 3.02.

SECTION 4. PROGRAMELIGIBILITY

.01 Program eligibility for QualifiedPlans. EPCRS includes three specificvoluntary correction programs and anaudit correction program for QualifiedPlans. The voluntary correction programsare APRSC and VCR, both of which areavailable for Operational Failures, andWalk-in CAP, which applies to Plan Doc-ument and Demographic Failures and toOperational Failures that are not eligiblefor APRSC and VCR. APRSC is a volun-tary employer-initiated procedure thatgenerally does not involve Service ap-proval, whereas VCR and Walk-in CAPare voluntary employer-initiated proce-dures that involve Service approval. Theaudit correction program is Audit CAP,which is available for all types of Qualifi-cation Failures found on examination thatcannot be corrected under APRSC.

.02 Program eligibility for 403(b)Plans. EPCRS includes two specific vol-untary correction programs and an auditcorrection program for 403(b) Plans. Thevoluntary correction programs areAPRSC and TVC. APRSC is availableonly for Operational Failures, and is notavailable to correct Eligibility or Demo-graphic Failures. APRSC is available tocorrect Excess Amounts using the methoddescribed in section 6.02(4)(b)(i) below,but not the method described in section6.02(4)(b)(ii) below. There is no require-ment that an employer obtain a privateletter ruling from the Service covering its403(b) Plan in order to be eligible for

APRSC. TVC is a voluntary programthat involves Service approval. TVC ap-plies to Eligibility, Demographic, and Op-erational Failures that are within the juris-diction of Employee Plans, includingPlans of Ineligible Employers. The auditcorrection program is Audit CAP, whichis also available for Eligibility, Demo-graphic, and Operational Failures foundon examination that cannot be correctedunder APRSC.

.03 Effect of examination. If the planor Plan Sponsor is Under Examination,the VCR, Walk-in CAP, and TVC pro-grams are not available; insignificant Op-erational Failures can be corrected underAPRSC; and significant Operational Fail-ures can be corrected under APRSC inlimited circumstances. See section 9.

.04 Favorable Letter requirement. TheVCR program and the provisions ofAPRSC relating to significant Opera-tional Failures (see section 9) of a Quali-fied Plan are available only for a plan thatis the subject of a Favorable Letter.

.05 Established practices and proce-dures. In order to be eligible for APRSC,the Plan Sponsor or administrator of aplan must have established practices andprocedures (formal or informal) reason-ably designed to promote and facilitateoverall compliance with the requirementsof § 401(a) or § 403(b). For example, theplan administrator of a Qualified Planmight use a check sheet for tracking allo-cations and indicate on that check sheetwhether a particular employee was a keyemployee for top-heavy purposes. A plandocument alone will not constitute evi-dence of established procedures. Theseestablished procedures must have been inplace and routinely followed, but throughan oversight or mistake in applying them,or because of an inadequacy in the proce-dures, an Operational Failure occurred. A403(b) plan document is neither necessarynor sufficient to demonstrate that the em-ployer, plan administrator, insurer or ac-count custodian has in place establishedpractices and procedures reasonably de-signed to facilitate overall compliance.

.06 Qualified Plan amendments. (1)Correction by plan amendment not per-mitted in APRSC or VCR. NeitherAPRSC nor the VCR program is availablefor a Plan Sponsor to correct an Opera-tional Failure by a plan amendment thatconforms the terms of the plan to the

plan’s prior operations. Thus, if loanswere made to participants, but the plandocument did not permit loans to be madeto participants, the failure cannot be cor-rected under VCR by retroactivelyamending the plan to provide for theloans. Nevertheless, if a Plan Sponsorcorrects under APRSC or VCR, it mayamend the plan to the extent necessary toreflect operational correction. For exam-ple, if the plan failed to satisfy the ADPtest required under § 401(k)(3) and theemployer must make qualified nonelec-tive contributions not already providedfor under the plan, the plan may beamended to provide for qualified nonelec-tive contributions. The issuance of acompliance statement does not constitutea determination as to the effect of anyplan amendment on the qualification ofthe plan.

(2) Availability of correction by planamendment in Walk-in CAP. A PlanSponsor may use Walk-in CAP for aQualified Plan to correct an OperationalFailure by a plan amendment to conformthe terms of the plan to the plan’s prioroperations, provided that the amendmentcomplies with the requirements of §401(a), including the requirements of §§401(a)(4), 410(b), and 411(d)(6).

.07 Egregious failures. NeitherAPRSC nor the VCR program is availableto correct Operational Failures that areegregious. For example, if an employerhas consistently and improperly coveredonly highly compensated employees or ifa contribution to a defined contributionplan for a highly compensated individualis several times greater than the dollarlimit set forth in § 415, the failure wouldbe considered egregious. Walk-In CAPand TVC are available to correct egre-gious failures; however, these failures aresubject to the fees described in sections13.05(3) and 13.06(6).

.08 Diversion or misuse of plan assets.The APRSC, VCR, Walk-in CAP, TVCand Audit CAP programs are not avail-able for correcting Qualification or 403(b)Failures relating to the diversion or mis-use of plan assets.

PART III. DEFINITIONS,CORRECTION PRINCIPLES, ANDRULES OF GENERALAPPLICABILITY

February 7, 2000 522 2000–6 I.R.B.

SECTION 5. DEFINITIONS

The following definitions apply forpurposes of this revenue procedure:.01 Definitions for Qualified Plans. Thedefinitions in this section 5.01 apply toQualified Plans.

(1) Qualified Plan. The term “Qual-ified Plan” means a plan intended to sat-isfy the requirements of § 401(a) or §403(a).

(2) Qualification Failure. A Quali-fication Failure is any failure that ad-versely affects the qualification of a plan.There are three types of QualificationFailures: (a) Plan Document Failures, (b)Operational Failures, and (c) Demo-graphic Failures.

(a) Plan Document Failure. Theterm “Plan Document Failure” means aplan provision (or the absence of a planprovision) that, on its face, violates the re-quirements of § 401(a) or § 403(a).Thus, for example, the failure of a plan tobe amended to reflect a new qualificationrequirement within the plan’s applicableremedial amendment period under §401(b) is a Plan Document Failure. Forpurposes of this revenue procedure, aPlan Document Failure includes anyQualification Failure that is a violation ofthe requirements of § 401(a) or § 403(a)and that is neither an Operational Failurenor a Demographic Failure.

(b) Operational Failure. Theterm “Operational Failure” means a Qual-ification Failure that arises solely fromthe failure to follow plan provisions.

A failure to follow the terms of the planproviding for the satisfaction of the re-quirements of § 401(k) and § 401(m) isconsidered to be an Operational Failure.A plan does not have an Operational Fail-ure to the extent the plan is permitted tobe amended retroactively pursuant to §401(b) or another statutory provision toreflect the plan’s operations. However, ifwithin an applicable remedial amendmentperiod under § 401(b), a plan has beenproperly amended for statutory or regula-tory changes, and, on or after the later ofthe date the amendment is effective or isadopted, the amended provisions are notfollowed, then the plan is considered tohave an Operational Failure.

(c) Demographic Failure. Theterm “Demographic Failure” means a fail-ure to satisfy the requirements of §401(a)(4), § 401(a)(26), or § 410(b) that is

not an Operational Failure.The correction of a Demographic Fail-

ure generally requires a substantive cor-rective amendment to the plan addingmore benefits or increasing existing bene-fits (cf., § 1.401(a)(4)–11(g) of the In-come Tax Regulations).

(3) Excess Amount. The term “Ex-cess Amount” means (a) an Overpayment,(b) an elective deferral or employee after-tax contribution returned to satisfy § 415,(c) an elective deferral in excess of thelimitation of § 402(g) that is distributed,(d) an excess contribution or excess ag-gregate contribution that is distributed tosatisfy § 401(k) or § 401(m), or (e) anysimilar amount required to be distributedin order to maintain plan qualification.

(4) Favorable Letter. The term “Fa-vorable Letter” means a current favorabledetermination letter for an individuallydesigned plan (including a volume sub-mitter plan), a current favorable opinionletter for a Plan Sponsor that has adopteda master or prototype plan, or a current fa-vorable notification letter for a Plan Spon-sor that has adopted a regional prototypeplan. A plan has a current favorable de-termination letter, opinion letter, or notifi-cation letter if either (a), (b), or (c) belowis satisfied:

(a) The plan has a favorable deter-mination, opinion, or notification letterthat considers the Tax Reform Act of1986 (“TRA ‘86”).

(b) The plan is a governmentalplan or non-electing church plan de-scribed in Rev. Proc. 99–23, 1999–16I.R.B. 5, and has a favorable determina-tion, opinion, or notification letter thatconsiders the Tax Equity and Fiscal Re-sponsibility Act of 1982 (“TEFRA”), theDeficit Reduction Act of 1984(“DEFRA”), and the Retirement EquityAct of 1984 (“REA”), and the § 401(b)remedial amendment period for TRA ‘86has not yet expired.

(c) The plan is initially adopted oreffective after December 7, 1994, and thePlan Sponsor timely submits an applica-tion for a determination, opinion, or noti-fication letter within the plan’s remedialamendment period under § 401(b).

(5) Maximum Payment Amount.The term “Maximum Payment Amount”means a monetary amount that is approxi-mately equal to the tax the Service couldcollect upon plan disqualification and is

the sum for the open taxable years of the:(a) tax on the trust (Form 1041),(b) additional income tax result-

ing from the loss of employer deductionsfor plan contributions (and any interest orpenalties applicable to the Plan Sponsor’sreturn), and

(c) additional income tax result-ing from income inclusion for participantsin the plan (Form 1040).

For purposes of determining the maxi-mum compliance correction fee applica-ble under section 13.05(3), relating toegregious failures under Walk-in CAP,paragraph (b) above is modified to ex-clude interest or penalties applicable tothe Plan Sponsor’s return, and paragraph(c) above is modified to include only theadditional income tax resulting from in-come inclusion for highly compensatedemployees, as defined in § 414(q).

(6) Overpayment. The term “Over-payment” means a distribution to an em-ployee or beneficiary that exceeds the em-ployee’s or beneficiary’s benefit under theterms of the plan because of a failure tocomply with plan terms that implement §401(a)(17), 401(m) (but only with respectto the forfeiture of nonvested matchingcontributions that are excess aggregatecontributions), 411(a)(3)(G), or 415. AnOverpayment does not include a distribu-tion of an Excess Amount described insection 5.01(3) (b), (c), (d), or (e).

(7) Plan Sponsor. The term “PlanSponsor” means the employer that estab-lishes or maintains a qualified retirementplan for its employees.

.02 Definitions for 403(b) Plans.The definitions in this section 5.02 applyto 403(b) Plans.

(1) 403(b) Plan. The term “403(b)Plan” means a plan or program intendedto satisfy the requirements of § 403(b), in-cluding a Plan of an Ineligible Employer.

(2) 403(b) Failure. A 403(b) Failureis any Operational, Eligibility or Demo-graphic Failure as defined below.

(a) Demographic Failure. Theterm “Demographic Failure” means a fail-ure to satisfy the requirements of §401(a)(4), § 401(a)(26), or § 410(b) (asapplied to 403(b) Plans pursuant to §403(b)(12)(A)(i)).

(b) Eligibility Failure. The term“Eligibility Failure” means any of the fol-lowing :

(i) A Plan of an Ineligible Em-

2000–6 I.R.B. 523 February 7, 2000

ployer;(ii) A failure to satisfy the non-

transferability requirement of § 401(g);(iii) A failure to initially establish

or maintain a custodial account as re-quired by § 403(b)(7); or

(iv) A failure to purchase (initiallyor subsequently) either an annuity con-tract from an insurance company (unlessgrandfathered under Rev. Rul. 82–102,1982–1 C.B. 62) or a custodial accountfrom a regulated investment company uti-lizing a bank or an approved non-banktrustee/custodian.

(c) Operational Failure. The term“Operational Failure” means, with respectto a 403(b) Plan, any of the following:

(i) A failure to satisfy the require-ments of § 403(b)(12)(A)(ii) (relating tothe availability of salary reduction contri-butions);

(ii) A failure to satisfy the require-ments of § 401(m) (as applied to 403(b)Plans pursuant to § 403(b)(12)(A)(i));

(iii) A failure to satisfy the re-quirements of § 401(a)(17) (as applied to403(b) Plans pursuant to §403(b)(12)(A)(i));

(iv) A failure to satisfy the distrib-ution restrictions of § 403(b)(7) or §403(b)(11);

(v) A failure to satisfy the inciden-tal death benefit rules of § 403(b)(10);

(vi) A failure to pay minimum re-quired distributions under § 403(b)(10);

(vii) A failure to give employeesthe right to elect a direct rollover under §403(b)(10), including the failure to givemeaningful notice of such right;

(viii) A failure of the annuity con-tract or custodial agreement to provideparticipants with a right to elect a directrollover under §§ 403(b)(10) and401(a)(31);

(ix) A failure to satisfy the limit onelective deferrals under § 403(b)(1)(E);

(x) A failure of the annuity con-tract or custodial agreement to provide thelimit on elective deferrals under §§403(b)(1)(E) and 401(a)(30);

(xi) A failure involving contribu-tions or allocations of Excess Amounts; or

(xii) Any other failure to satisfyapplicable requirements under § 403(b)that (i) results in the loss of § 403(b) sta-tus for the plan or the loss of § 403(b)status for one or more custodialaccount(s) or annuity contract(s) under

the plan and (ii) is not a DemographicFailure, an Eligibility Failure, or a failurerelated to the purchase of annuity con-tracts, or contributions to custodial ac-counts, on behalf of individuals who arenot employees of the employer.

(3) Excess Amount. The term “Ex-cess Amount” means, in the case of a403(b) Plan, any contributions or alloca-tions that are in excess of the limits under§ 415 or § 403(b)(2) (the exclusion al-lowance limit) for the year.

(4) Plan of an Ineligible Employer.The term “Plan of an Ineligible Em-ployer” means a plan intended to satisfythe requirements of § 403(b) but which isnot eligible for favorable tax treatmentunder § 403(b) because the employer isnot a tax-exempt organization describedin § 501(c)(3) or a public educational or-ganization described in §170(b)(1)(A)(ii).

(5) Plan Sponsor. The term “PlanSponsor” means the employer that offersa 403(b) Plan to its employees.

(6) Total Sanction Amount. The term“Total Sanction Amount” means a mone-tary amount that is approximately equal tothe income tax the Service could collectas a result of the failure.

.03 Under Examination. This defini-t ion applies to Qualif ied Plans and403(b) Plans. The term “Under Exami-nation” means: (1) a plan that is under anEmployee Plans examination (that is, anexamination of a Form 5500 series orother Employee Plans examination), or(2) a Plan Sponsor that is under an Ex-empt Organizations examination (that is,an examination of a Form 990 series orother Exempt Organizations examina-tion).

A plan that is under an EmployeePlans examination includes any plan forwhich the Plan Sponsor, or a representa-tive, has received verbal or written noti-fication from Employee Plans of an im-pending Employee Plans examination, orof an impending referral for an Em-ployee Plans examination, and also in-cludes any plan that has been under anEmployee Plans examination and is nowin Appeals or in litigation for issuesraised in an Employee Plans examina-tion. A plan is considered to be UnderExamination if it is aggregated for pur-poses of satisfying the nondiscriminationrequirements of § 401(a)(4), the mini-

mum participation requirements of §401(a)(26), the minimum coverage re-quirements of § 410(b), or the require-ments of § 403(b)(12), with a plan(s) thatis Under Examination. In addition, aplan is considered to be Under Examina-tion with respect to a failure of a qualifi-cation requirement (other than those de-scribed in the preceding sentence) if theplan is aggregated with another plan forpurposes of satisfying that qualificationrequirement (for example, § 402(g), §415, or § 416) and that other plan isUnder Examination. For example, as-sume Plan A has a § 415 failure, Plan Ais aggregated with Plan B only for pur-poses of § 415, and Plan B is Under Ex-amination. In this case, Plan A is consid-ered to be Under Examination withrespect to the § 415 failure. However, ifPlan A has a failure relating to thespousal consent rules under § 417 or thevesting rules of § 411, Plan A is not con-sidered to be Under Examination withrespect to the § 417 or § 411 failure. Forpurposes of this revenue procedure, theterm aggregation does not include con-sideration of benefits provided by vari-ous plans for purposes of the averagebenefits test set forth in § 410(b)(2).

An Employee Plans examination alsoincludes a case in which a Plan Sponsorhas submitted a Form 5310, Applicationfor Determination of Qualification UponTermination, and the Employee Plansagent notifies the Plan Sponsor, or a rep-resentative, of possible Qualification Fail-ures, whether or not the Plan Sponsor isofficially notified of an “examination.”This would include a case where, for ex-ample, a Plan Sponsor has applied for adetermination letter on plan termination,and an Employee Plans agent notifies thePlan Sponsor that there are partial termi-nation concerns.

A Plan Sponsor that is under an ExemptOrganizations examination includes anyPlan Sponsor that has received (or whoserepresentative has received) verbal orwritten notification from Exempt Organi-zations of an impending Exempt Organi-zations examination or of an impendingreferral for an Exempt Organizations ex-amination and also includes any PlanSponsor that has been under an ExemptOrganizations examination and is now inAppeals or in litigation for issues raised inan Exempt Organizations examination.

February 7, 2000 524 2000–6 I.R.B.

SECTION 6. CORRECTIONPRINCIPLES AND RULES OFGENERAL APPLICABILITY

.01 Correction principles; rules ofgeneral applicability. The following gen-eral correction principles and rules ofgeneral applicability apply for purposesof this revenue procedure.

.02 Correction. Generally, a Qualifi-cation or 403(b) Failure is not correctedunless full correction is made with respectto all participants and beneficiaries, andfor all taxable years (whether or not thetaxable year is closed). Even if correc-tion is made for a closed taxable year, thetax liability associated with that year willnot be redetermined because of the cor-rection. In the case of a Qualified Planwith an Operational Failure, correction isdetermined taking into account the termsof the plan at the time of the failure. Cor-rection should be accomplished takinginto account the following principles:

(1) Restoration of benefits. The cor-rection method should restore the plan tothe position it would have been in had theQualification or 403(b) Failure not oc-curred, including restoration of currentand former participants and beneficiariesto the benefits and rights they would havehad if the Qualification or 403(b) Failurehad not occurred.

(2) Reasonable and appropriate cor-rection. The correction should be reason-able and appropriate for the Qualificationor 403(b) Failure. Depending on the na-ture of the Qualification or 403(b) Fail-ure, there may be more than one reason-able and appropriate correction for thefailure. Any correction method permittedunder Appendix A or Appendix B isdeemed to be a reasonable and appropri-ate method of correcting the related Qual-ification Failure. Any correction methodpermitted under Appendix A applicable toa 403(b) Plan is deemed to be a reason-able and appropriate method of correctingthe related 403(b) Failure. Whether anyother particular correction method is rea-sonable and appropriate is determinedtaking into account the applicable factsand circumstances and the following prin-ciples:

(a) The correction methodshould, to the extent possible, resembleone already provided for in the Code,Income Tax Regulations, or other guid-ance of general applicability. For exam-

ple, for Qualified Plans, the defined con-tribution plan correction methods setforth in § 1.415–6(b)(6) would be thetypical means of correcting a failureunder § 415. Likewise, the correctionmethod set forth in § 1.402(g)–1(e)(2)would be the typical means of correctinga failure under § 402(g).

(b) The correction method forQualification or 403(b) Failures relatingto nondiscrimination should provide ben-efits for nonhighly compensated employ-ees. For example, for Qualified Plans,the correction method set forth in §1.401(a)(4)–11(g) (rather than methodsmaking use of the special testing provi-sions set forth in § 1.401(a)(4)–8 or §1.401(a)(4)–9) would be the typicalmeans of correcting a failure to satisfynondiscrimination requirements. Simi-larly, the correction of a failure to satisfythe requirements of § 401(k)(3),401(m)(2), or 401(m)(9) (relating tonondiscrimination) solely by distributingexcess amounts to highly compensatedemployees would not be the typicalmeans of correcting such a failure.

(c) The correction method shouldkeep plan assets in the plan, except to theextent the Code, regulations, or otherguidance of general applicability providefor correction by distribution to partici-pants or beneficiaries or return of assets tothe employer or Plan Sponsor. For exam-ple, if an excess allocation (not in excessof the § 415 limits) made under a Quali-fied Plan was made for a participant undera plan (other than a cash or deferredarrangement), the excess should be reallo-cated to other participants or, dependingon the facts and circumstances, used to re-duce future employer contributions.

(d) The correction method shouldnot violate another applicable specific re-quirement of § 401(a) or § 403(b) (for ex-ample, § 401(a)(4), 411(d)(6) or403(b)(12), as applicable). If an addi-tional failure is created as a result of theuse of a correction method in this revenueprocedure, then that failure also must becorrected in conjunction with the use ofthat correction method and in accordancewith the requirements of this revenue pro-cedure.

(3) Consistency Requirement. Gen-erally, where more than one correctionmethod is available to correct a type ofOperational Failure for a plan year (or

where there are alternative ways to applya correction method), the correctionmethod (or one of the alternative ways toapply the correction method) should beapplied consistently in correcting all Op-erational Failures of that type for that planyear. Similarly, earnings adjustmentmethods generally should be applied con-sistently with respect to corrective contri-butions or allocations for a particular typeof Operational Failure for a plan year.

(4) Treatment of Excess Amounts.The following provisions apply for pur-poses of treating Excess Amounts underQualified Plans and 403(b) Plans.

(a) Treatment of Excess Amountsunder Qualified Plans. A distribution ofan Excess Amount is not eligible for thefavorable tax treatment accorded to distri-butions from Qualified Plans (such as eli-gibility for rollover under § 402(c)). Tothe extent that a current or prior distribu-tion was a distribution of an ExcessAmount, distribution of that ExcessAmount is not an eligible rollover distrib-ution. Thus, for example, if such a distri-bution was contributed to an individualretirement arrangement (“IRA”), the con-tribution is not a valid rollover contribu-tion for purposes of determining theamount of excess contributions (withinthe meaning of § 4973) to the individual’sIRAs. Where an Excess Amount has beendistributed the employer must notify therecipient that (i) the Excess Amount wasdistributed and (ii) the Excess Amountwas not eligible for favorable tax treat-ment accorded to distributions from Qual-ified Plans (and, specifically, was not eli-gible for tax-free rollover).

(b) Treatment of Excess Amountsunder 403(b) Plans. (i) Distribution ofExcess Amounts. Excess Amounts for ayear, adjusted for earnings through thedate of distribution, must be distributed toaffected participants and beneficiaries andare includible in their gross income in theyear of distribution. The distribution ofExcess Amounts is not an eligible rolloverdistribution within the meaning of §403(b)(8). A distribution of ExcessAmounts is generally treated in the man-ner described in section 3 of Rev. Proc.92–93, 1992–2 C.B. 505, relating to thecorrective disbursement of elective defer-rals. The distribution must be reported onForms 1099–R for the year of distributionwith respect to each participant or benefi-

2000–6 I.R.B. 525 February 7, 2000

ciary receiving such a distribution. In ad-dition, the employer must inform affectedparticipants and beneficiaries that the dis-tribution of Excess Amounts is not eligi-ble for rollover. Excess Amounts distrib-uted pursuant to this subparagraph(4)(b)(i) are not treated as amounts previ-ously excludable under § 403(b)(2)(A)(ii)for purposes of calculating the maximumexclusion allowance for the taxable yearof the distribution and for subsequent tax-able years.

(ii) Retention of Excess Amounts.Under TVC and Audit CAP, ExcessAmounts will be treated as corrected(even though the Excess Amounts are re-tained in the 403(b) Plan) if the followingrequirements are satisfied. ExcessAmounts arising from a § 415 failure, ad-justed for earnings through the date ofcorrection, must reduce affected partici-pants’ applicable § 415 limit for the yearfollowing the year of correction (or forthe year of correction if the employer sochooses), and subsequent years, until theexcess is eliminated. Excess Amounts(whether arising from a § 415 failure or a§ 403(b)(2) failure), adjusted for earningsthrough the date of correction, must alsoreduce participants’ exclusion allowancesby being treated as amounts previouslyexcludable under § 403(b)(2)(A)(ii) be-ginning with the year following the yearof correction (or the year of correction ifthe employer so chooses). This correctionmust generally be used for all participantswho have Excess Amounts.

(5) Principles regarding correctiveallocations and corrective distributions.The following principles apply where anappropriate correction method includesthe use of corrective allocations or correc-tive distributions. Corrective allocationsare generally not made with respect to a403(b) Plan.

(a) Corrective allocations under adefined contribution plan should be basedupon the terms of the plan and other ap-plicable information at the time of theQualification Failure (including the com-pensation that would have been usedunder the plan for the period with respectto which a corrective allocation is beingmade) and should be adjusted for earningsand forfeitures that would have been allo-cated to the participant’s account if thefailure had not occurred. The correctiveallocation need not be adjusted for losses.

For administrative convenience, in thecase of corrective allocations, if the planpermitted directed investments for theyears at issue, and thus had more than onefund, the plan would be permitted to usethe highest rate earned in the plan for theperiod of the failure as the rate used for allcorrective allocations, provided that mostof the employees receiving the correctiveallocations are nonhighly compensatedemployees.

(b) A corrective allocation to aparticipant’s account because of a failureto make a required allocation in a priorlimitation year will not be considered anannual addition with respect to the partici-pant for the limitation year in which thecorrection is made, but will be consideredan annual addition for the limitation yearto which the corrective allocation relates.However, the normal rules of § 404, re-garding deductions, apply.

(c) Corrective allocations shouldcome only from employer contributions(including forfeitures if the plan permitstheir use to reduce employer contribu-tions).

(d) In the case of a defined benefitplan, a corrective distribution for an indi-vidual should be increased to take into ac-count the delayed payment, consistentwith the plan’s actuarial adjustments.

(6) Special exceptions to full correc-tion. In general, a Qualification or 403(b)Failure must be fully corrected. Althoughthe mere fact that correction is inconve-nient or burdensome is not enough to re-lieve a Plan Sponsor of the need to makefull correction, full correction may not berequired in certain situations because it isunreasonable or not feasible. Even inthese situations, the correction methodadopted must be one that does not havesignificant adverse effects on participantsand beneficiaries or the plan, and thatdoes not discriminate significantly infavor of highly compensated employees.The exceptions described below specifythose situations in which full correction isnot required.

(a) Reasonable estimates. If it isnot possible to make a precise calculation,or the probable difference between the ap-proximate and the precise restoration of aparticipant’s benefits is insignificant andthe administrative cost of determiningprecise restoration would significantly ex-ceed the probable difference, reasonable

estimates may be used in calculating ap-propriate correction.

(b) Delivery of very small benefits.If the total corrective distribution due aparticipant or beneficiary is $20 or less,the Plan Sponsor is not required to makethe corrective distribution if the reason-able direct costs of processing and deliv-ering the distribution to the participant orbeneficiary would exceed the amount ofthe distribution.

(c) Locating lost participants.Reasonable actions must be taken to findall current and former participants andbeneficiaries to whom additional benefitsare due, but who have not been locatedafter a mailing to the last known address.In general, such actions include use of theInternal Revenue Service Letter Forward-ing Program (see Rev. Proc. 94–22,1994–1 C.B. 608) or the Social SecurityAdministration Reporting Service. A planwill not be considered to have failed tocorrect a failure due to the inability to lo-cate an individual if either of these pro-grams is used; provided that, if the indi-vidual is later located, the additionalbenefits must be provided to the individ-ual at that time.

(7) Correction of a Plan of an Ineli-gible Employer. The permitted correctionof a Plan of an Ineligible Employer underTVC is the cessation of all contributions(including salary reduction and after-taxcontributions) beginning no later than thedate the application under TVC is filed.Pursuant to TVC correction, the assets insuch a plan are to remain in the annuitycontract or custodial account and are to bedistributed no earlier than the occurrenceof one of the distribution events describedin § 403(b)(7)(to the extent the assets areheld in custodial accounts) or §403(b)(11) (for those assets invested inannuity contracts that would be subject to§ 403(b)(11) restrictions if the employerwere eligible). A Plan of an IneligibleEmployer that is corrected through TVCwill be treated as subject to all of the re-quirements and provisions of § 403(b),including the provisions of § 403(b)(8)(relating to rollovers). Because a Plan ofan Ineligible Employer will be treated assubject to all of the requirements of § 403(b), the plan must, as part of TVCcorrection, also correct all other Opera-tional, Demographic, and Eligibility Fail-ures in accordance with this revenue pro-

February 7, 2000 526 2000–6 I.R.B.

cedure. The correction of a Plan of an In-eligible Employer is subject to the fee de-scribed in section 13.06(4) below (or,with respect to the correction of multiplefailures, section 13.06(5)).

(8) Reporting. Any distributionsfrom the plan should be properly re-ported.

.03 Correction under statute or regula-tions. Generally, none of the correctionprograms are available to correct failuresthat can be corrected under the Code andrelated regulations. For example, as ageneral rule, a Plan Document Failurethat is a disqualifying provision for whichthe remedial amendment period under §401(b) has not expired can be correctedby operation of the Code through retroac-tive remedial amendment.

.04 Matters subject to excise taxes. (1)Except as provided in paragraph (3)below, excise taxes and additional taxes,to the extent applicable, are not waivedmerely because the underlying failure hasbeen corrected or because the taxes resultfrom the correction. Thus, for example,the excise tax on certain excess contribu-tions under § 4979 is not waived underthese correction programs.

(2) Except as provided in paragraph(3) below, for Qualified Plans, the correc-tion programs are not available for eventsfor which the Code provides tax conse-quences other than plan disqualification(such as the imposition of an excise tax oradditional income tax). For example,funding deficiencies (failures to make therequired contributions to a plan subject to§ 412), prohibited transactions, and fail-ures to file the Form 5500 cannot be cor-rected under the correction programs.However, if the event is also an Opera-tional Failure (for example, if the terms ofthe plan document relating to plan loansto participants were not followed andloans made under the plan did not satisfy§ 72(p)(2)), the correction programs willbe available to correct the OperationalFailure, even though the excise or incometaxes generally still will apply.

(3) For Qualified Plans and 403(b)Plans, as part of the VCR, Walk-in CAP,or TVC programs, if the failure involvesthe failure to satisfy the minimum re-quired distribution requirements of §401(a)(9), in appropriate cases, the Ser-vice will waive the excise tax under §4974 applicable to plan participants.

.05 Confidentiality and disclosure.Because each correction program relatesdirectly to the enforcement of the qualifi-cation or § 403(b) requirements, the infor-mation received or generated by the Ser-vice under the program is subject to theconfidentiality requirements of § 6103,and is not a written determination withinthe meaning of § 6110.

.06 No effect on other law. Correctionunder these programs has no effect on therights of any party under any other law,including Title I of the Employee Retire-ment Income Security Act of 1974.

PART IV. SELF-CORRECTION(APRSC)

SECTION 7. IN GENERAL

The requirements of this section aresatisfied with respect to an OperationalFailure if the Plan Sponsor satisfies therequirements of section 8 (relating to in-significant Operational Failures), or sec-tion 9 (relating to significant OperationalFailures).

SECTION 8. SELF-CORRECTION OFINSIGNIFICANT OPERATIONALFAILURES

.01 Requirements. The requirementsof this section are satisfied with respect toan Operational Failure if the OperationalFailure is corrected and, given all thefacts and circumstances, the OperationalFailure is insignificant. This section isavailable for correcting an insignificantOperational Failure even if the plan orPlan Sponsor is Under Examination.

.02 Factors. The factors to be consid-ered in determining whether or not an Op-erational Failure under a plan is insignifi-cant include, but are not limited to: (1)whether other failures occurred during theperiod being examined (for this purpose,a failure is not considered to have oc-curred more than once merely becausemore than one participant is affected bythe failure); (2) the percentage of plan as-sets and contributions involved in the fail-ure; (3) the number of years the failureoccurred; (4) the number of participantsaffected relative to the total number ofparticipants in the plan; (5) the number ofparticipants affected as a result of the fail-ure relative to the number of participantswho could have been affected by the fail-

ure; (6) whether correction was madewithin a reasonable time after discoveryof the failure; and (7) the reason for thefailure (for example, data errors such aserrors in the transcription of data, thetransposition of numbers, or minor arith-metic errors). No single factor is determi-native. Additionally, factors (4) and (5)should not be interpreted to exclude smallbusinesses.

.03 Multiple failures. In the case of aplan with more than one Operational Fail-ure in a single year, or Operational Fail-ures that occur in more than one year, theOperational Failures are eligible for cor-rection under this section only if all of theOperational Failures are insignificant inthe aggregate. Operational Failures thathave been corrected under APRSC in sec-tion 9, the VCR program in section 10,Walk-in CAP in section 11 or TVC in sec-tion 11 are not taken into account for pur-poses of determining if Operational Fail-ures are insignificant in the aggregate.

.04 Examples. The following exam-ples illustrate the application of this sec-tion. It is assumed, in each example, thatthe eligibility requirements of section 4relating to APRSC have been satisfiedand that no Operational Failures occurredother than the Operational Failures identi-fied below.

Example 1: In 1984, Employer X establishedPlan A, a profit-sharing plan that satisfies the re-quirements of § 401(a) in form. In 1999, the bene-fits of 50 of the 250 participants in Plan A were lim-ited by § 415(c). However, when the Serviceexamined Plan A in 2002, it discovered that, duringthe 1999 limitation year, the annual additions allo-cated to the accounts of 3 of these employees ex-ceeded the maximum limitations under § 415(c).Employer X contributed $3,500,000 to the plan forthe plan year. The amount of the excesses totaled$4,550. Under these facts, because the number ofparticipants affected by the failure relative to thetotal number of participants who could have been af-fected by the failure, and the monetary amount ofthe failure relative to the total employer contributionto the plan for the 1999 plan year, are insignificant,the § 415(c) failure in Plan A that occurred in 1999would be eligible for correction under this section.

Example 2: The facts are the same as in Example1, except that the failure to satisfy § 415 occurredduring each of the 1998, 1999, and 2000 limitationyears. In addition, the three participants affected bythe § 415 failure were not identical each year. Thefact that the § 415 failures occurred during morethan one limitation year did not cause the failures tobe significant; accordingly, the failures are still eligi-ble for correction under this section.

Example 3: The facts are the same as in Example1, except that the annual additions of 18 of the 50employees whose benefits were limited by § 415(c)nevertheless exceeded the maximum limitations

2000–6 I.R.B. 527 February 7, 2000

under § 415(c) during the 1999 limitation year, andthe amount of the excesses ranged from $1,000 to$9,000, and totaled $150,000. Under these facts,taking into account the number of participants af-fected by the failure relative to the total number ofparticipants who could have been affected by thefailure for the 1999 limitation year (and the mone-tary amount of the failure relative to the total em-ployer contribution), the failure is significant. Ac-cordingly, the § 415(c) failure in Plan A thatoccurred in 1999 is ineligible for correction underthis section as an insignificant failure.

Example 4: Employer J maintains Plan C, amoney purchase pension plan established in 1992.The plan document satisfies the requirements of §401(a) of the Code. The formula under the plan pro-vides for an employer contribution equal to 10% ofcompensation, as defined in the plan. During its ex-amination of the plan for the 1999 plan year, the Ser-vice discovered that the employee responsible forentering data into the employer’s computer mademinor arithmetic errors in transcribing the compen-sation data with respect to 6 of the plan’s 40 partici-pants, resulting in excess allocations to those 6 par-ticipants’ accounts. Under these facts, the number ofparticipants affected by the failure relative to thenumber of participants that could have been affectedis insignificant, and the failure is due to minor dataerrors. Thus, the failure occurring in 1999 would beinsignificant and therefore eligible for correctionunder this section.

Example 5: Public School maintains for its 200employees a salary reduction 403(b) plan (the“Plan”) which satisfies the requirements of § 403(b).The business manager has primary responsibility foradministering the Plan, in addition to other adminis-trative functions within Public School. During the1998 plan year, a former employee should have re-ceived an additional minimum required distributionof $278 under § 403(b)(10). Another participant re-ceived an impermissible hardship withdrawal of$2,500. Another participant made elective deferralsof $11,000, $1,000 of which was in excess of the §402(g) limit. Under these facts, even though multi-ple failures occurred in a single plan year, the fail-ures will be eligible for correction under this sectionbecause in the aggregate the failures are insignifi-cant.

SECTION 9. SELF-CORRECTION OFSIGNIFICANT OPERATIONALFAILURES

.01 Requirements. The requirementsof this section are satisfied with respect toan Operational Failure (even if signifi-cant) if the Operational Failure is cor-rected and the correction is either com-pleted or substantially completed (inaccordance with section 9.03) by the lastday of the correction period described insection 9.02.

.02 Correction period. The last day ofthe correction period for an OperationalFailure is the last day of the second planyear following the plan year for which thefailure occurred. However, in the case of

a failure to satisfy the requirements of §401(k)(3), 401(m)(2), or 401(m)(9), theplan year that includes the last day of theadditional period for correction permittedunder § 401(k)(8) or 401(m)(6) is treated,for this purpose, as the plan year forwhich the Operational Failure occurs.The correction period for an OperationalFailure that occurs for any plan year ends,in any event, on the first date the plan orPlan Sponsor is Under Examination forthat plan year (determined without regardto the exception in the preceding sen-tence). (But see section 9.03 for specialrules permitting completion of correctionafter the end of the correction period.) Ifa 403(b) Plan does not have a plan year,the calendar year is considered to be theplan year for purposes of this section..03 Substantial completion of correction.Correction of an Operational Failure issubstantially completed by the last day ofthe correction period only if the require-ments of either paragraph (1) or (2) aresatisfied.

(1) The requirements of this para-graph (1) are satisfied if:

(a) during the correction period,the Plan Sponsor is reasonably prompt inidentifying the Operational Failure, for-mulating a correction method, and initiat-ing correction in a manner that demon-strates a commitment to completingcorrection of the Operational Failure asexpeditiously as practicable, and

(b) within 90 days after the lastday of the correction period, the PlanSponsor completes correction of the Op-erational Failure.

(2) The requirements of this para-graph (2) are satisfied if:

(a) during the correction period,correction is completed with respect to85% of all participants affected by theOperational Failure, and

(b) thereafter, the Plan Sponsorcompletes correction of the OperationalFailure with respect to the remaining af-fected participants in a diligent manner.

.04 Example. The following exampleillustrates the application of this section.Assume that the eligibility requirementsof section 4 relating to APRSC have beenmet.

Employer Z established a qualified de-fined contribution plan in 1986 and re-ceived a favorable determination letter forTRA ‘86. During 1999, while doing a

self-audit of the operation of the plan forthe 1998 plan year, the plan administratordiscovered that, despite the practices andprocedures established by Employer Zwith respect to the plan, several employ-ees eligible to participate in the plan wereexcluded from participation. The admin-istrator also found that for 1998 the elec-tive deferrals of additional employees ex-ceeded the § 402(g) limit and discoveredOperational Failures in 1998 with respectto the top-heavy provisions of the plan.During the 1999 plan year, the Plan Spon-sor made corrective contributions on be-half of the excluded employees, distrib-uted the excess deferrals to the affectedparticipants, and made a top-heavy mini-mum contribution to all participants enti-tled to that contribution for the 1999 planyear. Each corrective contribution anddistribution was credited with earnings ata rate appropriate for the plan from thedate the corrective contribution or distrib-ution should have been made to the dateof correction. Under these facts, the PlanSponsor has corrected the OperationalFailures for the 1998 plan year within thecorrection period and thus satisfied the re-quirements of this section.

PART V. VOLUNTARYCORRECTION WITH SERVICEAPPROVAL (VCR, WALK-IN CAPAND TVC)

SECTION 10. VCR PROGRAM

.01 VCR requirements. The require-ments of this section are satisfied with re-spect to an Operational Failure if the sub-mission requirements of section 12 beloware satisfied and the Plan Sponsor correctsthe failures identified in accordance withthe compliance statement described insection 10.13.

.02 Identification of failures. TheVCR program is not based upon an exam-ination of the plan by the Service. TheService will not make any investigation orfinding under the VCR program concern-ing whether there are Operational Fail-ures. Only the Operational Failuresraised by the Plan Sponsor or OperationalFailures identified by the Service in pro-cessing the application will be addressedunder the program, and only those fail-ures will be covered by the program.However, because the VCR program doesnot arise out of an examination, consider-

February 7, 2000 528 2000–6 I.R.B.

ation under the VCR program does notpreclude or impede (under § 7605(b) orany administrative provisions adopted bythe Service) a subsequent examination ofthe Plan Sponsor or the plan by the Ser-vice with respect to the taxable year (oryears) involved with respect to mattersthat are outside the compliance statement.A Plan Sponsor’s statements describingOperational Failures are made only forpurposes of the VCR program and willnot be regarded by the Service as an ad-mission of a failure for purposes of anysubsequent examination. If the plan fail-ures include failures correctable underVCR and failures correctable under Walk-in CAP, (e.g., interrelated Operational andDocument Failures), the Plan Sponsormay include all such failures in a submis-sion under Walk-in CAP.

.03 No concurrent examination activ-ity. Except in unusual circumstances, aplan that has been properly submittedunder the VCR program will not be exam-ined while the submission is pending.This practice regarding concurrent exami-nations does not extend to other plans ofthe Plan Sponsor. Thus, any plan of thePlan Sponsor that is not pending under theVCR program could be subject to exami-nation.

.04 Insufficient information. Where itis not possible to obtain sufficient infor-mation to properly determine the natureor extent of a failure or there is insuffi-cient information to effect proper correc-tion, or in other special circumstanceswhere the application of the VCR pro-gram would be inappropriate or impracti-cal, the failure cannot be corrected underthe VCR program.

.05 Initial processing. (1) The Servicewill review whether the eligibility re-quirements of section 4 and the submis-sion requirements of section 12 are satis-fied.

(2) If the plan is not the subject of aFavorable Letter or the failure is not anOperational Failure, the compliance feewill be returned to the Plan Sponsor, andthe Plan Sponsor will be informed of theoption to voluntarily request considera-tion under Walk-in CAP.

(3) If a Plan Sponsor requests acompliance statement under the VCR pro-gram for a plan with egregious failuresdescribed in section 4.07, the compliancefee will be returned and the Plan Sponsor

will be given 60 days to voluntarily re-quest consideration under Walk-in CAP.If by the end of the 60-day period, a re-quest for consideration under Walk-inCAP has not been received, the VCR re-quest will be forwarded to EmployeePlans Examinations (see section 12.12 ofthis revenue procedure)for examinationconsideration.

(4) If the Service determines that asubmission is seriously deficient, the Ser-vice reserves the right to return the sub-mission and the compliance fee withoutcontacting the Plan Sponsor.

(5) If a request for considerationunder the VCR program is not describedin paragraph (2), (3), or (4) above, butnevertheless fails to comply with the pro-visions of this revenue procedure or if ad-ditional information is required, a Servicerepresentative will generally contact thePlan Sponsor or the Plan Sponsor’s repre-sentative and explain what is needed tocomplete the submission. The Plan Spon-sor will have 21 calendar days from thedate of this contact to provide the re-quested information. If the information isnot received within 21 days, the matterwill be closed, the compliance fee will notbe returned, and the case may be referredto Employee Plans Examinations in ac-cordance with section 10.05(3). Any re-quest for an extension of the 21-day timeperiod must be made in writing within the21-day time period and must be approvedby the Service.

.06 Processing of acceptable submis-sion. Once the Service determines that arequest for consideration under the VCRprogram is acceptable, the Service willconsult with the Plan Sponsor or the PlanSponsor’s representative to discuss theproposed corrections and the plan’s ad-ministrative procedures. If agreement isreached, the Service will issue a compli-ance statement with an enclosed acknowl-edgment letter for signature by the PlanSponsor. The case will not be closed fa-vorably until the Service has received thesigned acknowledgement letter from thePlan Sponsor. The Service will discussthe appropriateness of the plan’s existingadministrative procedures with the PlanSponsor. Where current procedures areinadequate for operating the plan in con-formance with the qualification require-ments of the Code, the compliance state-ment will be conditioned upon the

implementation of stated procedureswithin the stated time period. The Ser-vice may prescribe appropriate adminis-trative procedures in the compliancestatement.

.07 Failures discovered after initialsubmission.

(1) A Plan Sponsor that discoversadditional, unrelated Operational Failuresafter its initial submission may requestthat such failures be added to its submis-sion. The Service retains the discretion toreject the inclusion of such failures if therequest is not timely, for example, if thePlan Sponsor makes its request when pro-cessing of the VCR submission is sub-stantially complete.

(2) If the Service discovers an unre-lated Operational Failure while the re-quest is pending under the VCR program,the failure generally will be added to thefailures under consideration in the sub-mission. The Service retains the discre-tion to determine that a failure is outsidethe scope of the voluntary request for con-sideration because it was not voluntarilybrought forward by the Plan Sponsor. Inthis case, the plan may be forwarded toEmployee Plans Examinations for consid-eration on examination, but forwarding toEmployee Plans Examinations will occuronly in rare or unusual circumstances.

.08 Conference right. If the Serviceinitially determines that it cannot issue acompliance statement because the partiescannot agree upon correction or a changein administrative procedures, the PlanSponsor or the Plan Sponsor’s representa-tive will be contacted by the Service rep-resentative and offered a conference withthe Service. The conference can be heldeither in person or by telephone, and mustbe held within 21 calendar days of thedate of contact. The Plan Sponsor willhave 21 calendar days after the date of theconference to submit additional informa-tion in support of the submission. Any re-quest for an extension of the 21-day timeperiod must be made in writing within the21-day time period and must be approvedby the Service. Additional conferencesmay be held at the discretion of the Ser-vice.

.09 Failure to reach resolution. If res-olution cannot be reached (for example,where information is not timely providedto the Service or because agreement can-not be reached on correction or a change

2000–6 I.R.B. 529 February 7, 2000

in administrative procedures), the compli-ance fee will not be returned, and the casemay be referred to Employee Plans Ex-aminations for examination considera-tion.

.10 Concurrent processing of determi-nation letter applications. The Servicemay process a determination letter appli-cation (including an application requestedon Form 5310, Application for Determi-nation of Qualification Upon Termina-tion) concurrently with a VCR submis-sion for the same plan. However,issuance of the determination letter in re-sponse to an application made on a Form5310 will be suspended pending the clo-sure of the VCR submission.

.11 Special rules relating to SVP. (1)Under the VCR program, certain Opera-tional Failures may be corrected under theStandardized VCR Procedure (“SVP”)rules in this section. SVP is available ifthe plan’s only identified OperationalFailure or Failures are listed in AppendixA or Appendix B of this revenue proce-dure and the failures are corrected in ac-cordance with an applicable correctionmethod set forth in Appendix A or Appen-dix B. Appropriate correction must bemade for any Qualification Failure thatresults from the application of an SVPcorrection. The Plan Sponsor must re-quest an SVP compliance statement andpay the reduced compliance fee set forthin section 13.04.

(2) The correction methods set forthin Appendix A and Appendix B arestrictly construed and are the only accept-able correction methods for failures cor-rected under SVP. If the Plan Sponsorwishes to modify a correction methodprovided in Appendix A or Appendix B orto propose another method, the PlanSponsor may not use SVP, but may re-quest a compliance statement under theregular VCR procedures.

(3) SVP is not available if the PlanSponsor has identified more than twoSVP failures in a single SVP request. Ifthere are one or two failures that can becorrected under SVP and other failuresthat cannot be corrected under SVP, SVPis not available. The Service reserves theright to shift requests for considerationunder SVP into the regular VCR programif the Plan Sponsor submits a second SVPrequest with respect to the same planwhile the first SVP request is being con-

sidered or during the 12 months after thefirst SVP compliance statement is issued.Both SVP requests may be shifted into theregular VCR program if the first SVP re-quest is still being considered.

(4) The Service will review an SVPrequest within 120 days of the date thesubmission is received and determined tobe complete. If the Service determinesthat the request is acceptable, the Servicewill issue a compliance statement on thePlan Sponsor’s proposed correction.

.12 General description of compliancestatement. Under the VCR program, aPlan Sponsor receives a compliance state-ment from the Service. The compliancestatement addresses the failures identi-fied, the terms of correction, and any revi-sion of administrative procedures, andprovides that the Service will not treat theplan as disqualified on account of the Op-erational Failures described in the compli-ance statement. In addition, the time pe-riod within which proposed correctionsand changes in administrative proceduresmust be implemented are set forth in thecompliance statement. The compliancestatement is conditioned on the accuracyand acceptability of any calculations orother material submitted in connectionwith the request.

.13 Compliance statement conditionedupon timely correction. The compliancestatement is conditioned upon the imple-mentation of the specific corrections andadministrative changes set forth in thecompliance statement within 150 days ofthe date of the compliance statement.Any request for an extension of this timeperiod must be made in advance and inwriting and must be approved by the Ser-vice.

.14 Compliance statement for newplans conditioned upon timely amend-ment. Reliance on any compliance state-ment issued for a plan initially adopted oreffective after December 7, 1994, otherthan an adoption of a master or prototypeor regional prototype plan, is conditionedupon the plan being timely submitted fora determination letter within the plan’s re-medial amendment period under § 401(b).

.15 Acknowledgement letter. Within30 calendar days after the compliancestatement is issued, a Plan Sponsor thatwishes to agree to the terms of the com-pliance statement must send a signed ac-knowledgement letter to the Service,

agreeing to the terms of the compliancestatement. If the Plan Sponsor does notsend the Service a signed acknowledge-ment letter within 30 calendar days, theplan may be referred to Employee PlansExaminations for examination considera-tion. Once the compliance statement hasbeen issued (based on the informationprovided), the Plan Sponsor cannot re-quest a modification of the complianceterms except by a new request for a com-pliance statement. However, if the re-quested modification is minor and is post-marked no later than 30 days after thecompliance statement is issued, the VCRcompliance fee for the modification willbe the lesser of the original compliancefee or $1,250.

.16 Verification. Once the compliancestatement has been issued, the Servicemay require verification that the correc-tions have been made and that any planadministrative procedures required by thestatement have been implemented. Thisverification does not constitute an exami-nation of the books and records of the em-ployer or the plan (within the meaning of§ 7605(b)). If the Service determines thatthe Plan Sponsor did not implement thecorrections and procedures within thestated time period, the Service may con-sider the issues in an examination.

SECTION 11. WALK-IN CAP ANDTVC

.01 Walk-in CAP requirements. (1)The requirements of this section are satis-fied with respect to a Plan Document, Op-erational, or a Demographic Failure if thesubmission requirements of section 12 aresatisfied, the Plan Sponsor pays the com-pliance correction fee, and the Plan Spon-sor corrects the failures identified in ac-cordance with a closing agreemententered into by the Service and the PlanSponsor. Payment of the compliance cor-rection fee is generally required at thetime the closing agreement is signed.

(2) A determination letter applica-tion does not satisfy the submission re-quirements under Walk-in CAP.

(3) Depending on the nature of thefailure, the Service will discuss the appro-priateness of the plan’s existing adminis-trative procedures with the Plan Sponsor.Where current administrative proceduresare inadequate for operating the plan inconformance with the qualification re-

February 7, 2000 530 2000–6 I.R.B.

quirements of the Code, the closingagreement may be conditioned upon theimplementation of stated administrativeprocedures.

(4) In addition, the Plan Sponsor isrequired to obtain a Favorable Letter be-fore the closing agreement is signed un-less the Service determines that it is un-necessary based on the facts andcircumstances (for example, because theplan already has a Favorable Letter andno significant amendments are adopted).If a Favorable Letter is required, the PlanSponsor would be required to pay the ap-plicable user fee for obtaining the letter.

.02 Failures discovered after initialsubmission. (1) A Plan Sponsor that dis-covers additional, unrelated failures afterits initial submission may request thatsuch failures be added to its submission.However, the Service retains the discre-tion to reject the inclusion of such failuresif the request is not timely, for example, ifthe Plan Sponsor makes its request whenprocessing of the submission is substan-tially complete.

(2) If the Service discovers an unre-lated plan failure while the request ispending, the failure generally will beadded to the failures under consideration.However, the Service retains the discre-tion to determine that a failure is outsidethe scope of the voluntary request for con-sideration because it was not voluntarilybrought forward by the Plan Sponsor. Inthis case, if the additional failure is signif-icant, all aspects of the plan will be exam-ined, and the rules pertaining to AuditCAP will apply.

.03 Failure to reach resolution. If theService and the Plan Sponsor cannotreach agreement with respect to the sub-mission, all aspects of the plan may be ex-amined, and the rules pertaining to AuditCAP will apply.

.04 Effect of closing agreement. Theclosing agreement is binding upon boththe Service and the Plan Sponsor with re-spect to the specific tax matters identifiedtherein for the periods specified, but doesnot preclude or impede an examination ofthe plan by the Service relating to mattersoutside the closing agreement, even withrespect to the same taxable year or yearsto which the closing agreement relates.

.05 TVC. The provisions in section11.01 through .04 above apply to TVC ex-cept that TVC applies to Operational, De-

mographic, and Eligibility Failures withrespect to a 403(b) Plan. In addition, thereis no requirement that the employer ob-tain a private letter ruling from the Ser-vice covering its 403(b) Plan.

SECTION 12. APPLICATIONPROCEDURES FOR VCR, WALK-INCAP AND TVC

.01 General rules. This section setsforth the procedures for requesting a com-pliance statement from the Service underthe VCR program (including SVP) andfor requesting a closing agreement underWalk-in CAP and TVC. In general, a re-quest under the VCR program, Walk-inCAP or TVC consists of a letter from thePlan Sponsor or the Plan Sponsor’s repre-sentative to the Service that contains a de-scription of the failures, a description ofthe proposed methods of correction, andother procedural items, and includes sup-porting information and documentation asdescribed below.

.02 Multiemployer and multiple em-ployer plans. In the case of a multiem-ployer or multiple employer plan, the planadministrator (rather than any contribut-ing or adopting employer) must requestconsideration of the plan under the pro-grams. The request must be with respectto the plan, rather than a portion of theplan affecting any particular employer.

.03 Submission requirements. The let-ter from the Plan Sponsor or the PlanSponsor’s representative must contain thefollowing:

(1) A complete description of thefailures and the years in which the failuresoccurred, including closed years (that is,years for which the statutory period hasexpired).

(2) A description of the administra-tive procedures in effect at the time thefailures occurred.

(3) An explanation of how and whythe failures arose.

(4) A detailed description of themethod for correcting the failures that thePlan Sponsor has implemented or pro-poses to implement. Each step of the cor-rection method must be described in nar-rative form. The description must includethe specific information needed to supportthe suggested correction method. This in-formation includes, for example, the num-ber of employees affected and the ex-pected cost of correction (both of which

may be approximated if the exact numbercannot be determined at the time of the re-quest), the years involved, and calcula-tions or assumptions the Plan Sponsorused to determine the amounts needed forcorrection. See section 10.11 for specialprocedures regarding SVP.

(5) A description of the methodol-ogy that will be used to calculate earningsor actuarial adjustments on any correctivecontributions or distributions (indicatingthe computation periods and the basis fordetermining earnings or actuarial adjust-ments, in accordance with section6.02(5)).

(6) Specific calculations for each af-fected employee or a representative sam-ple of affected employees. The samplecalculations must be sufficient to demon-strate each aspect of the correctionmethod proposed. For example, if a PlanSponsor requests a compliance statementwith respect to a failure to satisfy the con-tribution limits of § 415(c) and proposes acorrection method that involves electivecontributions (both matched and un-matched) and matching contributions, thePlan Sponsor must submit calculations il-lustrating the correction method proposedwith respect to each type of contribution.As another example, with respect to afailure to satisfy the actual deferral per-centage (“ADP”) test in § 401(k)(3), thePlan Sponsor must submit the ADP testresults both before the correction andafter the correction.

(7) The method that will be used tolocate and notify former employees andbeneficiaries, or an affirmative statementthat no former employees or beneficiarieswere affected by the failures.

(8) A description of the measuresthat have been or will be implemented toensure that the same failures will notrecur.

(9) A statement that, to the best ofthe Plan Sponsor’s knowledge, neither theplan nor the Plan Sponsor is Under Exam-ination.

(10) In the case of a VCR submis-sion, a statement (if applicable) that theplan is currently being considered in a de-termination letter application. If the re-quest for a determination letter is madewhile a request for consideration underVCR is pending, the Plan Sponsor mustupdate the VCR request to add this infor-mation.

2000–6 I.R.B. 531 February 7, 2000

(11) In the case of an SVP submis-sion, a statement that it is an SVP request,a description of the applicable correctionin accordance with Appendix A or Appen-dix B, and a statement that the Plan Spon-sor proposes to implement (or has imple-mented) the correction(s).

(12) In the case of a TVC submis-sion, an application under TVC must con-tain a statement that the employer hascontacted all other entities involved withthe plan and has been assured of coopera-tion in implementing the applicable cor-rection, to the extent necessary. For ex-ample, if the plan’s failure is the failure tosatisfy the requirements of § 403(b)(1)(E)on elective deferrals, the employer must,prior to making the TVC application, con-tact the insurance company or custodianwith control over the plans’s assets to as-sure cooperation in effecting a distribu-tion of the excess deferrals and the earn-ings thereon.

.04 Required documents. The submis-sion must be accompanied by the follow-ing documents:

(1) In the case of a VCR submis-sion, a copy of the first page and a copy ofthe page containing employee census in-formation (currently, line 7f of the 1998Form 5500) and a copy of the page con-taining the total amount of plan assets(currently, line 31f of the 1998 Form5500) of the most recently filed Form5500 series return, or in the case of aWalk-in CAP submission, a copy of themost recently filed Form 5500 series re-turn.

(2) Under TVC, the first two pagesof the most recently filed Form 5500, or ifinapplicable, the information generallyincluded on the first two pages, includingthe name and number of the plan, and theemployer ’s Employer IdentificationNumber.

(3) A copy of the relevant portionsof the plan document. For example, in acase involving improper exclusion of eli-gible employees from a profit-sharingplan with a cash or deferred arrangement,

relevant portions of the plan document in-clude the eligibility, allocation, and cashor deferred arrangement provisions of thebasic plan document (and the adoptionagreement, if applicable), along with ap-plicable definitions in the plan. If theplan is a 403(b) Plan and a plan documentis not available, written descriptions ofthe plan, and sample salary reductionagreements if relevant.

(4) In the case of a VCR submis-sion, a copy of the determination letter,opinion letter, or notification letter thatconsidered TRA ‘86, except:

(a) a governmental plan, or a non-electing church plan described in Rev. Proc.99–23 for which the TRA ‘86 remedialamendment period has not yet expiredshould submit a copy of the determination,opinion, or notification letter that consid-ered TEFRA, DEFRA, and REA and astatement that explains the reason why theperiod has not yet expired, and

(b) plans initially adopted or ef-fective after December 7, 1994, shouldsubmit a statement that the plan will besubmitted timely for a determination,opinion, or notification letter within theplan’s remedial amendment period under§ 401(b).

(5) In the case of a TVC submission,a statement as to the type of employer(e.g., a tax-exempt organization describedin § 501(c)(3)) submitting the TVC appli-cation.

.05 Fee. The VCR submission mustinclude the appropriate fee described insection 13.02 or 13.04 below. The Walk-in CAP or TVC compliance correction feedescribed in section 13.05 or 13.06 belowis due at the time the closing agreement issigned.

.06 Signed submission. The submis-sion must be signed by the Plan Sponsoror the sponsor’s representative.

.07 Power of attorney requirements.To sign the submission or to appear be-fore the Service in connection with thesubmission, the Plan Sponsor’s represen-tative must comply with the requirements

of section 9.02(11) and (12) of Rev. Proc.2000–4, 2000–1 I.R.B. 115.

.08 Penalty of perjury statement. Thefollowing declaration must accompany arequest and any factual information orchange in the submission at a later time:“Under penalties of perjury, I declarethat I have examined this submission,including accompanying documents,and, to the best of my knowledge andbelief, the facts presented in support ofthis submission are true, correct, andcomplete.” The declaration must besigned by the Plan Sponsor, not the PlanSponsor’s representative.

.09 Checklist.The Service will be ableto respond more quickly to a VCR, Walk-in CAP or TVC request if the request iscarefully prepared and complete. Thechecklist in Appendix C is designed to as-sist Plan Sponsors and their representa-tives in preparing a submission that con-tains the information and documentsrequired under this revenue procedure.The checklist in Appendix C must becompleted, signed, and dated by the PlanSponsor or the Plan Sponsor’s representa-tive, and should be placed on top of thesubmission. A photocopy of this checklistmay be used.

.10 Designation. The letter to the Ser-vice should be designated “VCR PRO-GRAM,” “SVP/VCR PROGRAM,”“WALK-IN CAP PROGRAM,” or “TVCPROGRAM” as appropriate, in the upperright hand corner of the letter.

.11 VCR/SVP mailing address.VCR/SVP submissions should be mailedto:

Internal Revenue ServiceAttention: T:EP:RA:VCP.O. Box 14073Ben Franklin Station Washington, D.C. 20044

.12 Walk-in CAP and TVC mailing ad-dress. Walk-in CAP and TVC submis-sions should be mailed to the appropriateClosing Agreement Coordinator at the ad-dress provided below:

February 7, 2000 532 2000–6 I.R.B.

If the entity is in: Walk-in CAP and TVC applications should be sent to:

Connecticut, Maine, Employee Plans Walk-in CAPMassachusetts, Michigan, Internal Revenue ServiceNew Hampshire, New Jersey, 10 Metro Tech CenterNew York, Ohio, Pennsylvania, 625 Fulton StreetRhode Island, Vermont Brooklyn, NY 11201

Phone (718) 488-2372FAX (718) 488-2405

Alabama, Delaware, District of Employee Plans Walk-in CAPColumbia, Florida, Georgia, Internal Revenue ServiceIndiana, Kentucky, Louisiana, Room 1550Maryland, Mississippi, North P.O. Box 13163Carolina, South Carolina, Baltimore, MD 21203Tennessee, Virginia, West Phone (410) 962-3499Virginia, any U.S. possession FAX (410) 962-0882or foreign country

Arkansas, Illinois, Iowa, Employee Plans Walk-in CAPKansas, Minnesota, Missouri, Internal Revenue ServiceNebraska, North Dakota, 230 S. DearbornOklahoma, South Dakota, Texas, MC 4913 ChiWisconsin Chicago, IL 60604

Phone (312) 886-1277FAX (312) 886-2386

Alaska, Arizona, California, Employee Plans Walk-in CAPColorado, Hawaii, Idaho, Internal Revenue Service Montana, Nevada, New Mexico, 2 Cupania CircleOregon, Utah, Washington, Monterey Park, CA 91755-7431Wyoming Phone (323) 869-3905

FAX (323) 869-3949

2000–6 I.R.B. 533 February 7, 2000

.13 Maintenance of copies of submis-sions. Plan Sponsors and their represen-tatives should maintain copies of all cor-respondence submitted to the Servicewith respect to their VCR, Walk-in CAPand TVC requests.

SECTION 13. FEES

.01 Rev. Proc. 2000–8 modified. TheVCR compliance fee is processed underthe user fee program described in Rev.Proc. 2000–8, 2000–1 I.R.B. 230.

.02 VCR fee. Unless SVP is applica-ble, the VCR compliance fee depends onthe assets of the plan and the number ofplan participants.

(1) The fee for a plan with assets ofless than $500,000, and no more than1,000 plan participants, is $500.

(2) The fee for a plan with assets of

at least $500,000, and no more than 1,000plan participants, is $1,250.

(3) The fee for a plan with morethan 1,000 plan participants but less than10,000 plan participants is $5,000.

(4) The fee for a plan with 10,000 ormore plan participants is $10,000.

.03 Establishing number of plan par-ticipants. The compliance fee is calcu-lated by the Plan Sponsor using the num-bers from the most recently filed Form5500 series to establish the fee. Thus,with respect to the 1998 Form 5500, thePlan Sponsor would use the numbershown on line 7(f) (or the equivalent lineon the Form 5500 C/R or EZ) to establishthe number of plan participants and woulduse line 31(f) (or the equivalent line onthe Form 5500 C/R or EZ) to establish theamount of plan assets.

.04 SVP fee. The SVP compliance fee

is $350..05 Walk-in CAP compliance correc-

tion fee. (1) Compliance correction feechart. The compliance correction fee fora Walk-in CAP application is determinedin accordance with the chart below. Thechart contains a graduated range of feesbased on the size of the plan (with thenumber of participants determined as pro-vided in section 13.03). Each range in-cludes a minimum amount, a maximumamount, and a presumptive amount. Ineach case, the minimum amount is the ap-plicable VCR fee in section 13.02. It isexpected that in most instances the com-pliance correction fee imposed will be ator near the presumptive amount in eachrange; however, the fee may be a higheror lower amount within the range, de-pending on the factors in paragraph (2)below.

WALK-IN CAP COMPLIANCE CORRECTION FEES

# of participants Fee range Presumptive Amount

10 or fewer VCR fee* to $4,000 $2,000

11 to 50 VCR fee* to $8,000 $4,000

51 to 100 VCR fee* to $12,000 $6,000

101 to 300 VCR fee* to $16,000 $8,000

301 to 1,000 VCR fee* to $30,000 $15,000

over 1,000 VCR fee* to $70,000 $35,000

February 7, 2000 534 2000–6 I.R.B.

* Items marked by asterisk refer to the VCR compliance fee that would apply under section 13.02 if the plan had been submittedunder the VCR program.

(2) Factors considered. Considera-tion of whether the compliance correctionfee should be equal to, greater than, orless than the presumptive amount will de-pend on factors relating to the nature, ex-tent, and severity of the failure. Thesefactors include: (a) whether the failure is afailure to satisfy the requirements of §401(a)(4), § 401(a)(26), or § 410(b), (b)whether the plan has both Operational andPlan Document Failures, (c) the periodover which the violation occurred (for ex-ample, the time that has elapsed since theend of the applicable remedial amend-ment period under § 401(b) for a PlanDocument Failure), and (d) whether theplan has a Favorable Letter.

(3) Egregious failures. In cases in-volving failures that are egregious (as de-scribed in section 4.07), (a) the maximumcompliance correction fee applicable tothe plan under the chart in 13.05(1) is in-creased to 40 percent of the MaximumPayment Amount, and (b) no presumptiveamount applies.

.06 TVC fee. (1) TVC Compliance cor-rection fee. The applicable TVC compli-ance correction fee depends on the type offailure and, generally, the number of em-ployees of the employer.

(2) Fee for Operational Failures.

Subject to section 13.06(5) below, thecompliance correction fees for Opera-tional Failures are as follows:

(a) The fee for an employer withfewer than 25 employees is $500.

(b) The fee for an employer withat least 25 and no more than 1,000 em-ployees is $1,250.

(c) The fee for an employer withmore than 1,000 employees but less than10,000 is $5,000.

(d) The fee for an employer with10,000 or more employees is $10,000.

(3) Fee for certain Excess Amounts.Subject to section 13.06(5) below, the com-pliance correction fee for Excess Amountsthat are corrected pursuant to section6.02(4)(b)(i) above is equal to the sum of(1) the applicable fee described in section13.06(2) above and (2) two percent of theExcess Amounts, adjusted for earningsthrough the date of the TVC application,contributed or allocated in the calendar yearof the TVC application and in the three cal-endar years prior thereto. For purposes ofdetermining the fee described in this sec-tion 13.06(3), where there is a failure to sat-isfy both the § 403(b)(2) and § 415 limitswith respect to a single employee for a year,the fee will take into account only thegreater Excess Amount.

(4) Fee for Demographic and Eligi-bility Failures. (a) Subject to section13.06(5) below, the compliance correctionfee for a 403(b) Plan with failures that in-clude Demographic or Eligibility Failuresis determined in accordance with the tableset forth above in section 13.05 with re-spect to Walk-In CAP, except that (i) thereference to the “VCR fee” is changed torefer to the TVC compliance correction feefor Operational Failures set forth in section13.06(2) above, and (ii) the fee is deter-mined with reference to the number of em-ployees rather than participants.

(b) Factors considered in deter-mining the compliance correction fee forfailures that include Demographic and El-igibility Failures under TVC include: (i)whether the failure is a DemographicFailure; (ii) whether the plan is a Plan ofan Ineligible Employer; (iii) whether the403(b) Plan has a combination of Opera-tional, Demographic, and Eligibility fail-ures; and (iv) the period of time overwhich the failure occurred.

(5) Fee for multiple failures.If cor-rection is requested for multiple failures,the compliance correction fee will be de-termined in accordance with the table setforth below.

Multiple Operational Failures Fee described in section 13.06(2)

Multiple Demographic/Eligibility Fee described in section 13.06(4)Failures

Combination of Operational and Fee described in section 13.06(4)Demographic/Eligibility Failures

Operational Failure(s) with section Fee described in section 13.06(3)6.02(4)(b)(i) correction of Excess Amounts

Demographic/Eligibility Failures and Operational Fee described in section 13.06(3),Failures including section 6.02(4)(b)(i) correction of substituting section 13.06(4) fee for Excess Amounts section 13.06(2) fee

(6) Fee for egregious failures.In casesinvolving failures that are egregious, themaximum compliance correction fee ap-plicable to the plan is increased to 40 per-cent of the Total Sanction Amount and nopresumptive amount applies.

PART VI. CORRECTION ON AUDIT(AUDIT CAP)

SECTION 14. DESCRIPTION OFAUDIT CAP

.01 Audit CAP requirements. In theevent the Service identifies a Qualifica-tion or 403(b)Failure (other than a failurethat is not treated as resulting in disquali-fication of the plan under APRSC, VCR,Walk-in CAP, or TVC) upon an EmployeePlans or Exempt Organizations examina-tion of a Qualified Plan or a 403(b) Plan,the requirements of this section are satis-fied with respect to the failure if the PlanSponsor corrects the failure, pays a sanc-tion in accordance with section 14.02, sat-isfies any additional requirements of sec-tion 14.03, and enters into a closingagreement with the Service.

.02 Payment of sanction. Under AuditCAP, the Plan Sponsor is subject to asanction determined in accordance withsection 15. Payment of the sanction gen-erally will be required at the time the clos-ing agreement is signed.

.03 Additional requirements. Depend-ing on the nature of the failure, the Ser-vice will discuss the appropriateness ofthe plan’s existing administrative proce-dures with the Plan Sponsor. Where ex-isting administrative procedures are inad-equate for operating the plan inconformance with the qualification re-quirements of the Code, the closingagreement may be conditioned upon theimplementation of stated procedures. Inaddition, for Qualified Plans, the PlanSponsor may be required to obtain a Fa-vorable Letter before the closing agree-ment is signed unless the Service deter-mines that it is unnecessary based on thefacts and circumstances (for example, be-cause the plan already has a FavorableLetter and no significant amendments areadopted). If a Favorable Letter is re-quired, the Plan Sponsor would be re-quired to pay the applicable user fee forobtaining the letter.

.04 Failure to reach resolution. If theService and the Plan Sponsor cannot

reach an agreement with respect to thecorrection of the failure(s) or the amountof the sanction, the plan will be disquali-fied or, in the case of a 403(b) Plan,would not have reliance on this revenueprocedure.

.05 Effect of closing agreement. Aclosing agreement constitutes an agree-ment between the Service and the PlanSponsor that is binding with respect tothe tax matters identified therein for theperiods specified.

.06 Other procedural rules.The pro-cedural rules for Audit CAP are set forthin Internal Revenue Manual (“IRM”)7.9.2, EPCRS.

SECTION 15. AUDIT CAPSANCTION

.01 Determination of sanction. Thesanction under Audit CAP is a negotiatedpercentage of the Maximum PaymentAmount. For 403(b) Plans, the sanction isa negotiated percentage of the TotalSanction Amount. Sanctions will not beexcessive and will bear a reasonable rela-tionship to the nature, extent, and sever-ity of the failures.

.02 Factors considered. The amountof the sanction will depend on factors re-lating to the nature, extent, and severityof the failures, including the extent towhich correction had progressed beforethe examination was initiated. For bothQualified Plans and 403(b) Plans, otherfactors relating to the nature, extent, andseverity of the failures include: (1) thenumber and type of employees affectedby the failure, (2) the number of non-highly compensated employees whowould be adversely affected if the planwas not treated as qualified or as satisfy-ing the requirements of § 403(b), (3)whether the failure is a failure to satisfythe requirements of § 401(a)(4), §401(a)(26), or § 410(b), either directly orthrough § 403(b)(12), (4) the period overwhich the failure occurred (for example,the time that has elapsed since the end ofthe applicable remedial amendment pe-riod under § 410(b) for a Plan DocumentFailure), and (5) the reason for the failure(for example, data errors such as errors intranscription of data, the transposition ofnumbers, or minor arithmetic errors).Factors relating to Qualified Plans alsoinclude: (1) whether the plan is the sub-ject of a Favorable Letter, and (2)

whether the plan has both Operationaland Plan Document Failures. Additionalfactors relating to 403(b) Plans include:(1) whether the plan has a combination ofOperational, Demographic, or EligibilityFailures, (2) the extent to which the fail-ure relates to Excess Amounts, and (3)whether the plan is a Plan of an IneligibleEmployer.

PART VII. EFFECT ON OTHERDOCUMENTS AND EFFECTIVEDATE

SECTION 16. EFFECT ON OTHERDOCUMENTS

.01 Revenue procedures modified andsuperseded.Rev. Procs. 98– 22, 99–13,and 99–31 are modified and supersededby this revenue procedure.

.02 Rev. Proc. 2000–8 modified. Rev.Proc. 2000–8 is modified as provided insection 12.

SECTION 17. EFFECTIVE DATE

This revenue procedure is generally ef-fective May 1, 2000. In addition, em-ployers are permitted, at their option, toapply the provisions of this revenue pro-cedure on or after March 9, 1998 (the re-lease date of Rev. Proc. 98–22). Unlessan employer applies this revenue proce-dure earlier, this revenue procedure is ef-fective:

(1) with respect to VCR, Walk-inCAP and TVC, for applications submit-ted on or after May 1, 2000;

(2) with respect to Audit CAP, forexaminations begun on or after May 1,2000; and

(3) with respect to APRSC, for fail-ures for which correction is not completebefore May 1, 2000.

SECTION 18. PAPERWORKREDUCTION ACT

The collection of information con-tained in this revenue procedure has beenreviewed and approved by the Office ofManagement and Budget in accordancewith the Paperwork Reduction Act (44U.S.C. 3507) under control number1545-1673.

An agency may not conduct or spon-sor, and a person is not required to re-spond to, a collection of information un-less the collection of information

2000–6 I.R.B. 535 February 7, 2000

displays a valid control number. The collection of information in this

revenue procedure is in sections 4.06,6.02(4), 6.02(6)(c), 10.01, 10.02,10.05–10.08, 10.11, 10.15, 11.01–11.03,11.05, 12.01–12.04, 12.06–12.12, 14.01,section 2.01–2.07 of Appendix B, andAppendix C. This information is re-quired to enable the Commissioner, TaxExempt and Government Entities Divi-sion of the Internal Revenue Service tomake determinations regarding the is-suance of various types of closing agree-ments and compliance statements. Thisinformation will be used to issue closingagreements and compliance statements toallow individual plans to continue tomaintain their tax qualified and tax-de-ferred status. As a result, favorable taxtreatment of the benefits of the eligibleemployees is retained. The likely respon-dents are individuals, state or local gov-ernments, business or other for-profit in-stitutions, nonprofit institutions, andsmall businesses or organizations.

The estimated total annual reportingand/or recordkeeping burden is 61,697hours.

The estimated annual burden per re-spondent/recordkeeper varies from .5 to42.5 hours, depending on individual cir-cumstances, with an estimated average of14.54 hours. The estimated number of re-spondents and/or recordkeepers is 4,242.

The estimated frequency of responsesis occasionally.

Books or records relating to a collec-tion of information must be retained aslong as their contents may become mater-ial in the administration of any internalrevenue law. Generally tax returns andtax return information are confidential, asrequired by 26 U.S.C. § 6103.

DRAFTING INFORMATION

The principal authors of this revenueprocedure are Maxine Terry and CarltonWatkins of the Tax Exempt and Govern-ment Entities Division. For further infor-mation concerning this revenue proce-dure, please contact Employee Plans’taxpayer assistance telephone service be-tween 1:30 and 3:30 p.m., Eastern Time,Monday through Thursday at (202) 622-6074/6075. (These telephone numbersare not toll-free numbers.) Ms. Terry andMr. Watkins may be reached at (202)622-6214 (also not a toll-free number).

APPENDIX A

OPERATIONAL FAILURES ANDCORRECTIONS UNDER SVP

.01 General rule. This appendix setsforth Operational Failures relating toQualified Plans and corrections underSVP in accordance with section 10.11. Ineach case, the method described correctsthe Operational Failure identified in theheadings below. Corrective allocationsand distributions should reflect earningsand actuarial adjustments in accordancewith section 6.02(5)(a). The correctionmethods in this appendix are acceptableunder APRSC. Additionally, the correc-tion methods (other than correction byplan amendment under Walk-in CAP) andthe earnings adjustment methods in Ap-pendix B are acceptable under SVP.

.02 Failure to properly provide theminimum top-heavy benefit under § 416of the Code to non-key employees. In adefined contribution plan, the permittedcorrection method is to properly con-tribute and allocate the required top-heavy minimums to the plan in the man-ner provided for in the plan on behalf ofthe non-key employees (and any otheremployees required to receive top-heavyallocations under the plan). In a definedbenefit plan, the minimum required bene-fit must be accrued in the manner pro-vided in the plan.

.03 Failure to satisfy the ADP test setforth in § 401(k)(3), the ACP test set forthin § 401(m)(2), or the multiple use test of§ 401(m)(9). The permitted correctionmethod is to make qualified nonelectivecontributions (QNCs) (as defined in §1.401(k)–1(g)(13)(ii)) on behalf of thenonhighly compensated employees to theextent necessary to raise the actual defer-ral percentage or actual contribution per-centage of the nonhighly compensatedemployees to the percentage needed topass the test or tests. The contributionsmust be made on behalf of all eligiblenonhighly compensated employees (to theextent permitted under § 415) and musteither be the same flat dollar amount orthe same percentage of compensation.QNCs contributed to satisfy the ADP testneed not be matched. Employees whowould have been eligible for a matchingcontribution had they made elective con-tributions must be counted as eligible em-

ployees for the ACP test, and the planmust satisfy the ACP test. Under thisSVP correction method, a plan may not betreated as two separate plans, one cover-ing otherwise excludable employees andthe other covering all other employees (aspermitted in § 1.410(b)–6(b)(3)) in orderto reduce the number of employees eligi-ble to receive QNCs. Likewise, underthis SVP correction method, the plan maynot be restructured into component plans(as permitted in § 1.401(k)–1(h)(3)(iii)for plan years before January 1, 1992) inorder to reduce the number of employeeseligible to receive QNCs.

.04 Failure to distribute elective defer-rals in excess of the § 402(g) limit (incontravention of § 401(a)(30)). The per-mitted correction method is to distributethe excess deferral to the employee and toreport the amount as taxable in the year ofdeferral and in the year distributed. In ac-cordance with § 1.402(g)–1(e)(1)(ii), adistribution to a highly compensated em-ployee is included in the ADP test; a dis-tribution to a nonhighly compensated em-ployee is not included in the ADP test.

.05 Exclusion of an eligible employeefrom all contributions or accruals underthe plan for one or more plan years. Thepermitted correction method is to make acontribution to the plan on behalf of theemployees excluded from a defined contri-bution plan or to provide benefit accrualsfor the employees excluded from a definedbenefit plan. If the employee should havebeen eligible to make an elective contribu-tion under a cash or deferred arrangement,the employer must make a QNC to the planon behalf of the employee that is equal tothe actual deferral percentage for the em-ployee’s group (either highly compensatedor nonhighly compensated). If the em-ployee should have been eligible to makeemployee contributions or for matchingcontributions (on either elective contribu-tions or employee contributions), the em-ployer must make a QNC to the plan onbehalf of the employee that is equal to theactual contribution percentage for the em-ployee’s group (either highly compensatedor nonhighly compensated). Contributingthe actual deferral or contribution percent-age for such employees eliminates theneed to rerun the ADP or ACP test to ac-count for the previously excluded employ-ees. Under this SVP correction method, aplan may not be treated as two separate

February 7, 2000 536 2000–6 I.R.B.

plans, one covering otherwise excludableemployees and the other covering all otheremployees (as permitted in §1.410(b)–6(b)(3)) in order to reduce theamount of QNCs. Likewise, restructuringthe plan into component plans under §1.401(k)–1(h)(3)(iii) is not permitted inorder to reduce the amount of QNCs.

.06 Failure to timely pay the minimumdistribution required under § 401(a)(9). Ina defined contribution plan, the permittedcorrection method is to distribute the re-quired minimum distributions. Theamount to be distributed for each year inwhich the failure occurred should be deter-mined by dividing the adjusted accountbalance on the applicable valuation date bythe applicable divisor. For this purpose,adjusted account balance means the actualaccount balance, determined in accordancewith § 1.401(a)(9)–1 Q&A F–5 of the pro-posed regulations, reduced by the amountof the total missed minimum distributionsfor prior years. In a defined benefit plan,the permitted correction method is to dis-tribute the required minimum distributions,plus an interest payment representing theloss of use of such amounts.

.07 Failure to obtain participantand/or spousal consent for a distributionsubject to the participant and spousalconsent rules under §§ 401(a)(11),411(a)(11) and 417. The permitted cor-rection method is to give each affectedparticipant a choice between providing in-formed consent for the distribution actu-ally made or receiving a qualified jointand survivor annuity. In order to use thisSVP correction method, the Plan Sponsormust have contacted each affected partici-pant and spouse (to whom the participantwas married at the annuity starting date)and received responses from each such in-dividual before requesting considerationunder SVP. In the event that participantand/or spousal consent is required butcannot be obtained, the participant mustreceive a qualified joint and survivor an-nuity based on the monthly amount thatwould have been provided under the planat his or her retirement date. This annuitymay be actuarially reduced to take intoaccount distributions already received bythe participant. However, the portion ofthe qualified joint and survivor annuitypayable to the spouse upon the death ofthe participant may not be actuarially re-duced to take into account prior distribu-

tions to the participant. Thus, for exam-ple, if in accordance with the automaticqualified joint and survivor annuity op-tion under a plan, a married participantwho retired would have received a quali-fied joint and survivor annuity of $600per month payable for life with $300 permonth payable to the spouse upon the par-ticipant’s death but instead received a sin-gle-sum distribution equal to the actuarialpresent value of the participant’s accruedbenefit under the plan, then the $600monthly annuity payable during the par-ticipant’s lifetime may be actuarially re-duced to take the single-sum distributioninto account. However, the spouse mustbe entitled to receive an annuity of $300per month payable for life beginning atthe participant’s death.

.08 Failure to satisfy the § 415 limits ina defined contribution plan. The permit-ted correction for failure to limit annualadditions (other than elective deferralsand employee contributions) allocated toparticipants in a defined contribution planas required in § 415 (even if the excessdid not result from the allocation of for-feitures or from a reasonable error in esti-mating compensation) is to place the ex-cess annual additions into an unallocatedaccount, similar to the suspense accountdescribed in § 1.415–6(b)(6)(iii), to beused as an employer contribution in thesucceeding year(s). While such amountsremain in the unallocated account, theemployer is not permitted to make addi-tional contributions to the plan. The per-mitted SVP correction for failure to limitannual additions that are elective deferralsor employee contributions (even if the ex-cess did not result from a reasonable errorin determining the amount of elective de-ferrals or employee contributions thatcould be made with respect to an individ-ual under the § 415 limits) is to distributethe elective deferrals or employee contri-butions using a method similar to that de-scribed under § 1.415–6(b)(6)(iv). Elec-tive deferrals and employee contributionsthat are matched may be returned, pro-vided that the matching contributions re-lating to such contributions are forfeited(which will also reduce excess annual ad-ditions for the affected individuals). Theforfeited matching contributions are to beplaced into an unallocated account to beused as an employer contribution in suc-ceeding periods.

APPENDIX B

CORRECTION METHODS ANDEXAMPLES

ANDEARNINGS ADJUSTMENT

METHODS AND EXAMPLES

SECTION 1. PURPOSE,ASSUMPTIONS FOR EXAMPLESAND SECTION REFERENCES

.01 Purpose. (1) This appendix setsforth correction methods relating to Oper-ational Failures under Qualified Plans.This appendix also sets forth earnings ad-justment methods. The correction meth-ods and earnings adjustment methods de-scribed in this appendix are acceptableunder SVP and APRSC.

(2) This appendix does not apply to403(b) Plans. Accordingly, sponsors of403(b) Plans cannot rely on the correctionmethods and the earnings adjustmentmethods.

.02 Assumptions for Examples. Unlessotherwise specified, for ease of presenta-tion, the examples assume that:

(1) the plan year and the § 415 limi-tation year are the calendar year;

(2) the employer maintains a singleplan intended to satisfy § 401(a) and hasnever maintained any other plan;

(3) in a defined contribution plan,the plan provides that forfeitures are usedto reduce future employer contributions;

(4) the Qualification Failures areOperational Failures and the eligibilityand other requirements for APRSC, VCR,Walk-in CAP, or Audit CAP, whicheverapplies, are satisfied; and

(5) there are no Qualification Fail-ures other than the described OperationalFailures, and if a corrective action wouldresult in any additional Qualification Fail-ure, appropriate corrective action is takenfor that additional Qualification Failure inaccordance with EPCRS.

.03 Section References. References tosection 2 and section 3 are references tothe section 2 and 3 of this appendix.

SECTION 2. CORRECTIONMETHODS AND EXAMPLES

.01 ADP/ACP Failures.(1) Correction Methods. (a) SVP Cor-

rection Method. Appendix A, section .03sets forth the SVP correction method for a

2000–6 I.R.B. 537 February 7, 2000

failure to satisfy the actual deferral per-centage (“ADP”), actual contribution per-centage (“ACP”), or multiple use test setforth in §§ 401(k)(3), 401(m)(2), and401(m)(9), respectively.

(b) One-to-One Correction Method.(i) General. In addition to the SVP cor-rection method, a failure to satisfy theADP, ACP, or multiple use test may becorrected using the one-to-one correctionmethod set forth in this section 2.01(1)(b).Under the one-to-one correction method,an excess contribution amount is deter-mined and assigned to highly compen-sated employees as provided in paragraph(1)(b)(ii) below. That excess contributionamount (adjusted for earnings) is eitherdistributed to the highly compensated em-ployees or forfeited from the highly com-pensated employees’ accounts as pro-vided in paragraph (1)(b)(iii) below. Thatsame dollar amount (i.e., the excess con-tribution amount, adjusted for earnings) iscontributed to the plan and allocated tononhighly compensated employees asprovided in paragraph (1)(b)(iv) below.

(ii) Determination of the Excess Con-tribution Amount. The excess contribu-tion amount for the year is equal to the ex-cess of (A) the sum of the excesscontributions (as defined in §401(k)(8)(B)), the excess aggregate con-tributions (as defined in § 401(m)(6)(B)),and the amount treated as excess contri-butions or excess aggregate contributionsunder the multiple use test pursuant to §401(m)(9) and § 1.401(m)–2(c) of the In-come Tax Regulations for the year, as as-signed to each highly compensated em-ployee in accordance with § 401(k)(8)(C)and (m)(6)(C), over (B) previous correc-tions that complied with § 401(k)(8),(m)(6), and (m)(9). See Notice 97–2,1997–1 C.B. 348.

(iii) Distributions and Forfeitures ofthe Excess Contribution Amount. (A) Theportion of the excess contribution amountassigned to a particular highly compen-sated employee under paragraph (1)(b)(ii)is adjusted for earnings through the dateof correction. The amount assigned to aparticular highly compensated employee,as adjusted, is distributed or, to the extentthe amount was forfeitable as of the closeof the plan year of the failure, is forfeited.If the amount is forfeited, it is used in ac-cordance with the plan provisions relatingto forfeitures that were in effect for the

year of the failure. If the amount so as-signed to a particular highly compensatedemployee has been previously distributed,the amount is an Excess Amount withinthe meaning of section 5.01(3). Thus,pursuant to section 6.02(4)(a), the em-ployer must notify the employee that theExcess Amount was not eligible for favor-able tax treatment accorded to distribu-tions from qualified plans (and, specifi-cally, was not eligible for tax-freerollover).

(B) If any matching contributions (ad-justed for earnings) are forfeited in accor-dance with § 411(a)(3)(G), the forfeitedamount is used in accordance with theplan provisions relating to forfeitures thatwere in effect for the year of the failure.

(C) If a payment was made to an em-ployee and that payment is a forfeitablematch described in either paragraph(1)(b)(iii)(A) or (B), then it is an Over-payment defined in section 2.05(2) thatmust be corrected (see section 2.05(1)).

(iv) Contribution and Allocation ofEquivalent Amount. (A) The employermakes a contribution to the plan that isequal to the aggregate amounts distrib-uted and forfeited under paragraph(1)(b)(iii)(A) (i.e., the excess contributionamount adjusted for earnings, as providedin paragraph (1)(b)(iii)(A), which doesnot include any matching contributionsforfeited in accordance with §411(a)(3)(G) as provided in paragraph(1)(b)(iii)(B)). The contribution must sat-isfy the vesting requirements and distribu-tion limitations of § 401(k)(2)(B) and (C).

(B)(1) This paragraph (1)(b)(iv)(B)(1)applies to a plan that uses the current yeartesting method described in Notice 98–1,1998–3 I.R.B. 42. The contribution madeunder paragraph (1)(b)(iv)(A) is allocatedto the account balances of those individu-als who were either (I) the eligible em-ployees for the year of the failure whowere not highly compensated employeesfor that year or (II) the eligible employeesfor the year of the failure who were nothighly compensated employees for thatyear and who also are not highly compen-sated employees for the year of correc-tion. Alternatively, the contribution is al-located to account balances of eligibleemployees described in (I) or (II) of thepreceding sentence, except that the allo-cation is made only to the account bal-ances of those employees who are em-

ployees on a date during the year of thecorrection that is no later than the date ofcorrection. Regardless of which of thesefour options (described in the two preced-ing sentences) the employer selects, thecontribution is allocated to each such em-ployee either as the same percentage ofthe employee’s compensation for the yearof the failure or as the same dollar amountfor each employee. (See Examples 1, 2and 3.) Under the one-to-one correctionmethod, the amount allocated to the ac-count balance of an employee (i.e, theemployee’s share of the total amount con-tributed under paragraph (1)(b)(iv)(A)) isnot further adjusted for earnings and istreated as an annual addition under § 415for the year of the failure for the em-ployee for whom it is allocated.

(2) This paragraph (1)(b)(iv)(B)(2) ap-plies to a plan that uses the prior year test-ing method described in Notice 98–1.Paragraph (1)(b)(iv)(B)(1) is applied bysubstituting “the year prior to the year ofthe failure” for “the year of the failure.”

(2) Examples.Example 1: Employer A maintains a profit-sharingplan with a cash or deferred arrangement that is in-tended to satisfy § 401(k) (“401(k) plan”) using thecurrent year testing method described in Notice98–1. The plan does not provide for matching con-tributions or employee after-tax contributions. In1999, it was discovered that the ADP test for 1997was not performed correctly. When the ADP testwas performed correctly, the test was not satisfiedfor 1997. For 1997, the ADP for highly compen-sated employees was 9% and the ADP for nonhighlycompensated employees was 4%. Accordingly, theADP for highly compensated employees exceededthe ADP for nonhighly compensated employees bymore than two percentage points (in violation of §401(k)(3)). (The ADP for nonhighly compensatedemployees for 1996 also was 4%, so the ADP testfor 1997 would not have been satisfied even if theplan had used the prior year testing method de-scribed in Notice 98–1.) There were two highlycompensated employees eligible under the 401(k)plan during 1997, Employee P and Employee Q.Employee P made elective deferrals of $8,000,which is equal to 10% of Employee P’s compensa-tion of $80,000 for 1997. Employee Q made elec-tive deferrals of $9,500, which is equal to 8% ofEmployee Q’s compensation of $118,750 for 1997.

Correction: On June 30, 1999, Employer A uses theone-to-one correction method to correct the failureto satisfy the ADP test for 1997. Accordingly, Em-ployer A calculates the dollar amount of the excesscontributions for the two highly compensated em-ployees in the manner described in § 401(k)(8)(B).The amount of the excess contribution for EmployeeP is $3,200 (4% of $80,000) and the amount of theexcess contribution for Employee Q is $2,375 (2%of $118,750), or a total of $5,575. In accordancewith § 401(k)(8)(C), $5,575, the excess contributionamount, is assigned $2,037.50 to Employee P and

February 7, 2000 538 2000–6 I.R.B.

$3,537.50 to Employee Q. It is determined that theearnings on the assigned amounts through June 30,1999 are $407 and $707 for Employees P and Q, re-spectively. The assigned amounts and the earningsare distributed to Employees P and Q. Therefore,Employee P receives $2,444.50 ($2,037.50 + $407)and Employee Q receives $4,244.50 ($3,537.50 +$707). In addition, on the same date, a correctivecontribution is made to the 401(k) plan equal to$6,689 (the sum of the $2,444.50 distributed to Em-ployee P and the $4,244.50 distributed to EmployeeQ). The corrective contribution is allocated to theaccount balances of eligible nonhighly compensatedemployees for 1997, pro rata based on their compen-sation for 1997 (subject to § 415 for 1997).

Example 2: The facts are the same as in Example 1.

Correction: The correction is the same as in Exam-ple 1, except that the corrective contribution of$6,689 is allocated in an equal dollar amount to theaccount balances of eligible nonhighly compensatedemployees for 1997 who are employees on June 30,1999 and who are nonhighly compensated employ-ees for 1999 (subject to § 415 for 1997).

Example 3: The facts are the same as in Example 1,except that for 1997 the plan also provides (1) for em-ployee after-tax contributions and (2) for matchingcontributions equal to 50% of the sum of an em-ployee’s elective deferrals and employee after-tax con-tributions that do not exceed 10% of the employee’scompensation. The plan provides that matching con-tributions are subject to the plan’s 5-year graded vest-ing schedule and that matching contributions are for-feited and used to reduce employer contributions ifassociated elective deferrals or employee after-taxcontributions are distributed to correct an ADP, ACPor multiple use test failure. For 1997, nonhighly com-pensated employees made employee after-tax contri-butions and no highly compensated employee madeany employee after-tax contributions. Employee P re-ceived a matching contribution of $4,000 (50% of$8,000) and Employee Q received a matching contri-bution of $4,750 (50% of $9,500). Employees P andQ were 100% vested in 1997. It is determined that,for 1997, the ACP for highly compensated employeeswas not more than 125% of the ACP for nonhighlycompensated employees, so that the ACP and multipleuse tests would have been satisfied for 1997 withoutany corrective action.

Correction: The same corrective actions aretaken as in Example 1. In addition, in accordancewith the plan’s terms, corrective action is taken toforfeit Employee P’s and Employee Q’s matchingcontributions associated with their distributed ex-cess contributions. Employee P’s distributed excesscontributions and associated matching contributionsare $2,037.50 and $1,018.75, respectively. Em-ployee Q’s distributed excess contributions and as-sociated matching contributions are $3,537.50 and$1,768.75, respectively. Thus, $1,018.75 is forfeitedfrom Employee P’s account and $1,768.75 is for-feited from Employee Q’s account. In addition, theearnings on the forfeited amounts are also forfeited.It is determined that the respective earnings on theforfeited amount for Employee P is $150 and forEmployee Q is $204. The total amount of the forfei-tures of $3,141.50 (Employee P’s $1,018.75 + $150and Employee Q’s $1,768.75 + $204) is used to re-duce contributions for 1999 and subsequent years.

.02 Exclusion of Eligible Employees.

(1) Exclusion of Eligible Employeesin a 401(k) or (m) Plan. (a) CorrectionMethod. (i) SVP Correction Method forFull Year Exclusion. Appendix A, section.05 sets forth the SVP correction methodfor the exclusion of an eligible employeefrom all contributions under a 401(k) or(m) plan for one or more full plan years.(See Example 4.) In section 2.02(1)(a)(ii)below, the SVP correction method for theexclusion of an eligible employee from allcontributions under a 401(k) or (m) planfor a full year is expanded to include cor-rection for the exclusion of an eligibleemployee from all contributions under a401(k) or (m) plan for a partial plan year.This correction for a partial year exclu-sion may be used in conjunction with thecorrection for a full year exclusion.

(ii) Expansion of SVP CorrectionMethod to Partial Year Exclusion. (A) InGeneral. The correction method in Ap-pendix A, section .05 is expanded to coveran employee who was improperly ex-cluded from making elective deferrals oremployee after-tax contributions for aportion of a plan year or from receivingmatching contributions (on either electivedeferrals or employee after-tax contribu-tions) for a portion of a plan year. In suchcase, a permitted correction method forthe failure is for the employer to satisfythis section 2.02(1)(a)(ii). The employermakes a corrective contribution on behalfof the excluded employee that satisfiesthe vesting requirements and distributionlimitations of § 401(k)(2)(B) and (C).

(B) Elective Deferral Failures. The ap-propriate corrective contribution for thefailure to allow employees to make elec-tive deferrals for a portion of the plan yearis equal to the ADP of the employee’sgroup (either highly or nonhighly com-pensated), determined prior to correctionunder this section 2.02(1)(a)(ii), multi-plied by the employee’s plan compensa-tion for the portion of the year duringwhich the employee was improperly ex-cluded. The corrective contribution forthe portion of the plan year during whichthe employee was improperly excludedfrom being eligible to make elective de-ferrals is reduced to the extent that (1) thesum of that contribution and any electivedeferrals actually made by the employeefor that year would exceed (2) the maxi-mum elective deferrals permitted under

the plan for the employee for that planyear (including the § 402(g) limit). Thecorrective contribution is adjusted forearnings. (See Examples 5 and 6.)

(C) Employee After-tax and MatchingContribution Failures.

The appropriate corrective contributionfor the failure to allow employees to makeemployee after-tax contributions or to re-ceive matching contributions because theemployee was precluded from makingemployee after-tax contributions or elec-tive deferrals for a portion of the plan yearis equal to the ACP of the employee’sgroup (either highly or nonhighly com-pensated), determined prior to correctionunder this section 2.02(1)(a)(ii), multi-plied by the employee’s plan compensa-tion for the portion of the year duringwhich the employee was improperly ex-cluded. The corrective contribution is re-duced to the extent that (1) the sum of thatcontribution and the actual total employeeafter-tax and matching contributionsmade by and for the employee for the planyear would exceed (2) the sum of themaximum employee after-tax contribu-tions permitted under the plan for the em-ployee for the plan year and the matchingcontributions that would have been madeif the employee had made the maximummatchable contributions permitted underthe plan for the employee for that planyear. The corrective contribution is ad-justed for earnings.

(D) Use of Prorated Compensation.For purposes of this paragraph (1)(a)(ii),for administrative convenience, in lieu ofusing the employee’s actual plan compen-sation for the portion of the year duringwhich the employee was improperly ex-cluded, a pro rata portion of the em-ployee’s plan compensation that wouldhave been taken into account for the planyear, if the employee had not been im-properly excluded, may be used.

(E) Special Rule for Brief Exclusionfrom Elective Deferrals. An employer isnot required to make a corrective contri-bution with respect to elective deferrals,as provided in section 2.02(1)(a)(ii)(B),(but is required to make a corrective con-tribution with respect to any employeeafter-tax and matching contributions, asprovided in section 2.02(1)(a)(ii)(C)) foran employee for a plan year if the em-ployee has been provided the opportunityto make elective deferrals under the plan

2000–6 I.R.B. 539 February 7, 2000

for a period of at least the last 9 months inthat plan year and during that period theemployee had the opportunity to makeelective deferrals in an amount not lessthan the maximum amount that wouldhave been permitted if no failure had oc-curred. (See Example 7.)

(b) Examples.Example 4: Employer B maintains a 401(k) plan.The plan provides for matching contributions for eli-gible employees equal to 100% of elective deferralsthat do not exceed 3% of an employee’s compensa-tion. The plan provides that employees who com-plete one year of service are eligible to participate inthe plan on the next January 1 or July 1 entry date.Twelve employees (8 nonhighly compensated em-ployees and 4 highly compensated employees) whohad met the one year eligibility requirement afterJuly 1, 1995 and before January 1, 1996 were inad-vertently excluded from participating in the plan be-ginning on January 1, 1996. These employees wereoffered the opportunity to begin participating in theplan on January 1, 1997. For 1996, the ADP for thehighly compensated employees was 8% and theADP for the nonhighly compensated employees was6%. In addition, for 1996, the ACP for the highlycompensated employees was 2.5% and the ACP forthe nonhighly compensated employees was 2%.The failure to include the 12 employees was discov-ered during 1998.

Correction: Employer B uses the SVP correctionmethod for full year exclusions to correct the failureto include the 12 eligible employees in the plan forthe full plan year beginning January 1, 1996. Thus,Employer B makes a corrective contribution (thatsatisfies the vesting requirements and distributionlimitations of § 401(k)(2)(B) and (C)) for each of theexcluded employees. The contribution for each ofthe improperly excluded highly compensated em-ployees is 10.5% (the highly compensated employ-ees’ ADP of 8% plus ACP of 2.5%) of the em-ployee’s plan compensation for the 1996 plan year(adjusted for earnings). The contribution for each ofthe improperly excluded nonhighly compensatedemployees is 8% (the nonhighly compensated em-ployee’s ADP of 6% plus ACP of 2%) of the em-ployee’s plan compensation for the 1996 plan year(adjusted for earnings).Example 5: Employer C maintains a 401(k) plan.The plan provides for matching contributions foreach payroll period that are equal to 100% of an em-ployee’s elective deferrals that do not exceed 2% ofthe eligible employee’s plan compensation duringthe payroll period. The plan does not provide foremployee after-tax contributions. The plan providesthat employees who complete one year of serviceare eligible to participate in the plan on the next Jan-uary 1 or July 1 entry date. A nonhighly compen-sated employee who met the eligibility requirementsand should have entered the plan on January 1, 1996was not offered the opportunity to participate in theplan. In August of 1996, the error was discoveredand Employer C offered the employee an electionopportunity as of September 1, 1996. The employeemade elective deferrals equal to 4% of the em-ployee’s plan compensation for each payroll periodfrom September 1, 1996 through December 31,1996 (resulting in elective deferrals of $500). The

employee’s plan compensation for 1996 was$36,000 ($23,500 for the first eight months and$12,500 for the last four months). Employer Cmade matching contributions equal to $250 for theexcluded employee, which is 2% of the employee’splan compensation for each payroll period fromSeptember 1, 1996 through December 31, 1996($12,500). The ADP for nonhighly compensatedemployees for 1996 was 3% and the ACP for non-highly compensated employees for 1996 was 1.8%.

Correction: Employer C uses the SVP correctionmethod for partial year exclusions to correct the fail-ure to include the eligible employee in the plan.Thus, Employer C makes a corrective contribution(that satisfies the vesting requirements and distribu-tion limitations of § 401(k)(2)(B) and (C)) for theexcluded employee. In determining the amount ofcorrective contributions (both for the elective defer-ral and for the matching contribution), for adminis-trative convenience, in lieu of using actual plancompensation of $23,500 for the period the em-ployee was excluded, the employee’s annual plancompensation is pro rated for the eight-month periodthat the employee was excluded from participatingin the plan. The failure to provide the excluded em-ployee the right to make elective deferrals is cor-rected by the employer making a corrective contri-bution on behalf of the employee that is equal to$720 (the 3% ADP percentage for nonhighly com-pensated employees multiplied by $24,000, which is8/12ths of the employee’s 1996 plan compensationof $36,000), adjusted for earnings. In addition, tocorrect for the failure to receive the plan’s matchingcontribution, a corrective contribution is made onbehalf of the employee that is equal to $432 (the1.8% ACP for the nonhighly compensated groupmultiplied by $24,000, which is 8/12ths of the em-ployee’s 1996 plan compensation of $36,000), ad-justed for earnings. Employer C determines that$682, the sum of the actual matching contributionreceived by the employee for the plan year ($250)and the corrective contribution to correct the match-ing contribution failure ($432), does not exceed$720, the maximum matching contribution availableto the employee under the plan (2% of $36,000) de-termined as if the employee had made the maximummatchable contributions. In addition to correctingthe failure to include the eligible employee in theplan, Employer C reruns the ADP and ACP tests for1996 (taking into account the corrective contributionand plan compensation for 1996 for the excludedemployee) and determines that the tests were satis-fied.Example 6: The facts are the same as in Example 5,except that the plan provides for matching contribu-tions that are equal to 100% of an eligible em-ployee’s elective deferrals that do not exceed 2% ofthe employee’s plan compensation for the plan year.Accordingly, the actual matching contribution madeby Employer C for the excluded employee for thelast four months of 1996 is $500 (which is equal to100% of the $500 of elective deferrals made by theemployee for the last four months of 1996).

Correction: The correction is the same as in Ex-ample 5, except that the corrective contributionmade for the first 8 months of 1996 to correct thefailure to make matching contributions is equal to$220 (adjusted for earnings), instead of the $432(adjusted for earnings) in Example 5, because thecorrective contribution is limited to the maximum

matching contributions available under the plan forthe employee for the plan year, $720 (2% of$36,000), reduced by the actual matching contribu-tions made for the employee for the plan year, $500.Example 7: The facts are the same as in Example 5,except that the error is discovered in March of 1996and the employee was given the opportunity to makeelective deferrals beginning on April 1, 1996. Theamount of elective deferrals that the employee wasgiven the opportunity to make during 1996 was notless than the maximum elective deferrals that theemployee could have made if the employee hadbeen given the opportunity to make elective defer-rals beginning on January 1, 1996. The employeemade elective deferrals equal to 4% of the em-ployee’s plan compensation for each payroll periodfrom April 1, 1996 through December 31, 1996 of$28,000 (resulting in elective deferrals of $1,120).Employer C made a matching contribution equal to$560, which is 2% of the employee’s plan compen-sation for each payroll period from April 1, 1996through December 31, 1996 ($28,000). The em-ployee’s plan compensation for 1996 was $36,000($8,000 for the first three months and $28,000 forthe last nine months).

Correction: Employer C uses the SVP correctionmethod for partial year exclusions to correct the fail-ure to include an eligible employee in the plan. Be-cause the employee was given an opportunity tomake elective deferrals to the plan for at least thelast 9 months of the plan year (and the amount of theelective deferrals that the employee had the opportu-nity to make was not less than the maximum electivedeferrals that the employee could have made if theemployee had been given the opportunity to makeelective deferrals beginning on January 1, 1996),under the special rule set forth in section2.02(1)(a)(ii)(E), Employer C is not required tomake a corrective contribution for the failure toallow the employee to make elective deferrals. Indetermining the amount of corrective contributionwith respect to the failure to allow the employee toreceive matching contributions, in lieu of using ac-tual plan compensation of $8,000 for the period theemployee was excluded, the employee’s annual plancompensation is pro rated for the three-month periodthat the employee was excluded from participatingin the plan. Accordingly, a corrective contribution ismade on behalf of the employee that is equal to$160, which is the lesser of (i) $162 (a matchingcontribution of 1.8% of $9,000, which is 3/12ths ofthe employee’s 1996 plan compensation of$36,000), and (ii) $160 (the excess of the maximummatching contribution for the entire plan year, whichis equal to 2% of $36,000, or $720, over the match-ing contributions made after March 31, 1996, $560).The contribution is adjusted for earnings.

(2) Exclusion of Eligible Employees Ina Profit-Sharing Plan.

(a) Correction Methods. (i) SVP Cor-rection Method. Appendix A, section .05sets forth the SVP correction method forcorrecting the exclusion of an eligible em-ployee. In the case of a defined contribu-tion plan, the SVP correction method is tomake a contribution on behalf of the ex-cluded employee. Section 2.02(2)(a)(ii)below clarifies the SVP correction

February 7, 2000 540 2000–6 I.R.B.

method in the case of a profit-sharing orstock bonus plan that provides for non-elective contributions (within the mean-ing of § 1.401(k)–1(g)(10)).

(ii) Clarification of SVP CorrectionMethod for Profit-Sharing Plans. To cor-rect for the exclusion of an eligible em-ployee from nonelective contributions ina profit-sharing or stock bonus plan underthe SVP correction method, an allocationamount is determined for each excludedemployee on the same basis as the alloca-tion amounts were determined for theother employees under the plan’s alloca-tion formula (e.g., the same ratio of allo-cation to compensation), taking into ac-count all of the employee’s relevantfactors (e.g., compensation) under thatformula for that year. The employermakes a corrective contribution on behalfof the excluded employee that is equal tothe allocation amount for the excludedemployee. The corrective contribution isadjusted for earnings. If, as a result of ex-cluding an employee, an amount was im-properly allocated to the account balanceof an eligible employee who shared in theoriginal allocation of the nonelective con-tribution, no reduction is made to the ac-count balance of the employee whoshared in the original allocation on ac-count of the improper allocation. (SeeExample 8.)

(iii) Reallocation Correction Method.(A) In General. Subject to the limitationsset forth in section 2.02(2)(a)(iii)(F)below, in addition to the SVP correctionmethod, the exclusion of an eligible em-ployee for a plan year from a profit-shar-ing or stock bonus plan that provides fornonelective contributions may be cor-rected using the reallocation correctionmethod set forth in this section2.02(2)(a)(iii). Under the reallocationcorrection method, the account balance ofthe excluded employee is increased asprovided in paragraph (2)(a)(iii)(B)below, the account balances of other em-ployees are reduced as provided in para-graph (2)(a)(iii)(C) below, and the in-creases and reductions are reconciled, asnecessary, as provided in paragraph(2)(a)(iii)(D) below. (See Examples 9and 10.)

(B) Increase in Account Balance ofExcluded Employee. The account bal-ance of the excluded employee is in-creased by an amount that is equal to the

allocation the employee would have re-ceived had the employee shared in the al-location of the nonelective contribution.The amount is adjusted for earnings.

(C) Reduction in Account Balances ofOther Employees. (1) The account bal-ance of each employee who was an eligi-ble employee who shared in the originalallocation of the nonelective contributionis reduced by the excess, if any, of (I) theemployee’s allocation of that contributionover (II) the amount that would have beenallocated to that employee had the failurenot occurred. This amount is adjusted forearnings taking into account the rules setforth in section 2.02(2)(a)(iii)(C)(2) and(3) below. The amount after adjustmentfor earnings is limited in accordance withsection 2.02(2)(a)(iii)(C)(4) below.

(2) This paragraph (2)(a)(iii)(C)(2) ap-plies if most of the employees with ac-count balances that are being reduced arenonhighly compensated employees. Ifthere has been an overall gain for the pe-riod from the date of the original alloca-tion of the contribution through the dateof correction, no adjustment for earningsis required to the amount determinedunder section 2.02(2)(a)(iii)(C)(1) for theemployee. If the amount for the em-ployee is being adjusted for earnings andthe plan permits investment of accountbalances in more than one investmentfund, for administrative convenience, thereduction to the employee’s account bal-ance may be adjusted by the lowest earn-ings rate of any fund for the period fromthe date of the original allocation of thecontribution through the date of correc-tion.

(3) If an employee’s account balanceis reduced and the original allocation wasmade to more than one investment fund orthere was a subsequent distribution ortransfer from the fund receiving the origi-nal allocation, then reasonable, consistentassumptions are used to determine theearnings adjustment.(4) The amount determined in section2.02(2)(a)(iii)(C)(1) for an employeeafter the application of section2.02(2)(a)(iii)(C)(2) and (3) may notexceed the account balance of theemployee on the date of correction, andthe employee is permitted to retain anydistribution made prior to the date of cor-rection.

(D) Reconciliation of Increases and

Reductions. If the aggregate amount ofthe increases under section2.02(2)(a)(iii)(B) exceeds the aggregateamount of the reductions under section2.02(2)(a)(iii)(C), the employer makes acorrective contribution to the plan for theamount of the excess. If the aggregateamount of the reductions under section2.02(2)(a)(iii)(C) exceeds the aggregateamount of the increases under section2.02(2)(a)(iii)(B), then the amount bywhich each employee’s account balance isreduced under section 2.02(2)(a)(iii)(C) isdecreased on a pro rata basis.

(E) Reductions Among Multiple In-vestment Funds. If an employee’s ac-count balance is reduced and the em-ployee’s account balance is invested inmore than one investment fund, then thereduction may be made from the invest-ment funds selected in any reasonablemanner.

(F) Limitations on Use of ReallocationCorrection Method. If any employeewould be permitted to retain any distribu-tion pursuant to section2.02(2)(a)(iii)(C)(4), then the reallocationcorrection method may not be used unlessmost of the employees who would be per-mitted to retain a distribution are non-highly compensated employees.(b) Examples.

Example 8: Employer D maintains a profit-shar-ing plan that provides for discretionary nonelectiveemployer contributions. The plan provides that theemployer’s contributions are allocated to accountbalances in the ratio that each eligible employee’scompensation for the plan year bears to the compen-sation of all eligible employees for the plan yearand, therefore, the only relevant factor for determin-ing an allocation is the employee’s compensation.The plan provides for self-directed investmentsamong four investment funds and daily valuations ofaccount balances. For the 1997 plan year, EmployerD made a contribution to the plan of a fixed dollaramount. However, five employees who met the eli-gibility requirements were inadvertently excludedfrom participating in the plan. The contribution re-sulted in an allocation on behalf of each of the eligi-ble employees, other than the excluded employees,equal to 10% of compensation. Most of the employ-ees who received allocations under the plan for theyear of the failure were nonhighly compensated em-ployees. No distributions have been made from theplan since 1997. If the five excluded employees hadshared in the original allocation, the allocation madeon behalf of each employee would have equaled 9%of compensation. The excluded employees beganparticipating in the plan in the 1998 plan year.

Correction: Employer D uses the SVP correctionmethod to correct the failure to include the five eli-gible employees. Thus, Employer D makes a cor-rective contribution to the plan. The amount of thecorrective contribution on behalf of the five ex-

2000–6 I.R.B. 541 February 7, 2000

cluded employees for the 1997 plan year is equal to10% of compensation of each excluded employee,the same allocation that was made for other eligibleemployees, adjusted for earnings. The excluded em-ployees receive an allocation equal to 10% of com-pensation (adjusted for earnings) even though, hadthe excluded employees originally shared in the al-location for the 1997 contribution, their account bal-ances, as well as those of the other eligible employ-ees, would have received an allocation equal to only9% of compensation.Example 9: The facts are the same as in Example 8.

Correction: Employer D uses the reallocationcorrection method to correct the failure to includethe five eligible employees. Thus, the account bal-ances are adjusted to reflect what would have re-sulted from the correct allocation of the employercontribution for the 1997 plan year among all eligi-ble employees, including the five excluded employ-ees. The inclusion of the excluded employees in theallocation of that contribution would have resultedin each eligible employee, including each excludedemployee, receiving an allocation equal to 9% ofcompensation. Accordingly, the account balance ofeach excluded employee is increased by 9% of theemployee’s 1997 compensation, adjusted for earn-ings. The account balance of each of the eligibleemployees other than the excluded employees is re-duced by 1% of the employee’s 1997 compensation,adjusted for earnings. Employer D determines theadjustment for earnings using the earnings rate ofeach eligible employee’s excess allocation (usingreasonable, consistent assumptions). Accordingly,for an employee who shared in the original alloca-tion and directed the investment of the allocationinto more than one investment fund or who subse-quently transferred a portion of a fund that had beencredited with a portion of the 1997 allocation to an-other fund, reasonable, consistent assumptions arefollowed to determine the adjustment for earnings.It is determined that the total of the initially deter-mined reductions in account balances exceeds thetotal of the required increases in account balances.Accordingly, these initially determined reductionsare decreased pro rata so that the total of the actualreductions in account balances equals the total of theincreases in the account balances, and Employer Ddoes not make any corrective contribution. The re-duction from the account balances are made on a prorata basis among all of the funds in which each em-ployee’s account balance is invested.Example 10: The facts are the same as in Example 8.

Correction: The correction is the same as in Ex-ample 9, except that, because most of the employeeswhose account balances are being reduced are non-highly compensated employees, for administrativeconvenience, Employer D uses the earnings rate ofthe fund with the lowest earnings rate for the periodof the failure to adjust the reduction to each accountbalance. It is determined that the aggregate amount(adjusted for earnings) by which the account bal-ances of the excluded employees is increased ex-ceeds the aggregate amount (adjusted for earnings)by which the other employees’ account balances arereduced. Accordingly, Employer D makes a contri-bution to the plan in an amount equal to the excess.The reduction from account balances is made on apro rata basis among all of the funds in which eachemployee’s account balance is invested.

.03 Vesting Failures.

(1) Correction Methods. (a) Contri-bution Correction Method. A failure ina defined contribution plan to apply theproper vesting percentage to an em-ployee’s account balance that results inforfeiture of too large a portion of theemployee’s account balance may be cor-rected using the contribution correctionmethod set forth in this paragraph. Theemployer makes a corrective contribu-tion on behalf of the employee whoseaccount balance was improperly for-feited in an amount equal to the im-proper forfeiture. The corrective contri-bution is adjusted for earnings. If, as aresult of the improper forfeiture, anamount was improperly allocated to theaccount balance of another employee,no reduction is made to the account bal-ance of that employee. (See Example11.)

(b) Reallocation Correction Method. Inaddition to the contribution correctionmethod, in a defined contribution planunder which forfeitures of account balancesare reallocated among the account balancesof the other eligible employees in the plan,a failure to apply the proper vesting per-centage to an employee’s account balancewhich results in forfeiture of too large aportion of the employee’s account balancemay be corrected under the reallocationcorrection method set forth in this para-graph. A corrective reallocation is made inaccordance with the reallocation correctionmethod set forth in section 2.02(2)(a)(iii),subject to the limitations set forth in section2.02(2)(a)(iii)(F). In applying section2.02(2)(a)(iii)(B), the account balance ofthe employee who incurred the improperforfeiture is increased by an amount equalto the amount of the improper forfeitureand the amount is adjusted for earnings. Inapplying section 2.02(2)(a)(iii)(C)(1), theaccount balance of each employee whoshared in the allocation of the improper for-feiture is reduced by the amount of the im-proper forfeiture that was allocated to thatemployee’s account. The earnings adjust-ments for the account balances that arebeing reduced are determined in accor-dance with sections 2.02(2)(a)(iii)(C)(2)and (3) and the reductions after adjustmentsfor earnings are limited in accordance withsection 2.02(2)(a)(iii)(C)(4). In accordancewith section 2.02(2)(a)(iii)(D), if the aggre-gate amount of the increases exceeds theaggregate amount of the reductions, the

employer makes a corrective contributionto the plan for the amount of the excess. Inaccordance with section 2.02(2)(a)(iii)(D),if the aggregate amount of the reductionsexceeds the aggregate amount of the in-creases, then the amount by which eachemployee’s account balance is reduced isdecreased on a pro rata basis. (See Exam-ple 12.)

(2) Examples.Example 11: Employer E maintains a profit-sharingplan that provides for nonelective contributions.The plan provides for self-directed investmentsamong four investment funds and daily valuation ofaccount balances. The plan provides that forfeituresof account balances are reallocated among the ac-count balances of other eligible employees on thebasis of compensation. During the 1997 plan year,Employee R terminated employment with EmployerE and elected and received a single-sum distributionof the vested portion of his account balance. Noother distributions have been made since 1997.However, an incorrect determination of EmployeeR’s vested percentage was made resulting in Em-ployee R receiving a distribution of less than theamount to which he was entitled under the plan. Theremaining portion of Employee R’s account balancewas forfeited and reallocated (and these realloca-tions were not affected by the limitations of § 415).Most of the employees who received allocations ofthe improper forfeiture were nonhighly compen-sated employees.

Correction: Employer E uses the contributioncorrection method to correct the improper forfeiture.Thus, Employer E makes a contribution on behalf ofEmployee R equal to the incorrectly forfeitedamount (adjusted for earnings) and Employee R’saccount balance is increased accordingly. No reduc-tion is made from the account balances of the em-ployees who received an allocation of the improperforfeiture.Example 12: The facts are the same as in Example11.

Correction: Employer E uses the reallocationcorrection method to correct the improper forfeiture.Thus, Employee R’s account balance is increased bythe amount that was improperly forfeited (adjustedfor earnings). The account of each employee whoshared in the allocation of the improper forfeiture isreduced by the amount of the improper forfeiturethat was allocated to that employee’s account (ad-justed for earnings). Because most of the employeeswhose account balances are being reduced are non-highly compensated employees, for administrativeconvenience, Employer E uses the earnings rate ofthe fund with the lowest earnings rate for the periodof the failure to adjust the reduction to each accountbalance. It is determined that the amount (adjustedfor earnings) by which the account balance of Em-ployee R is increased exceeds the aggregate amount(adjusted for earnings) by which the other employ-ees’ account balances are reduced. Accordingly,Employer E makes a contribution to the plan in anamount equal to the excess. The reduction from theaccount balances is made on a pro rata basis amongall of the funds in which each employee’s accountbalance is invested.

.04 § 415 Failures.

February 7, 2000 542 2000–6 I.R.B.

(1) Failures Relating to a § 415(b) Ex-cess.

(a) Correction Methods. (i) Return ofOverpayment Correction Method. Over-payments as a result of amounts being paidin excess of the limits of § 415(b) may becorrected using the return of overpaymentcorrection method set forth in this para-graph (1)(a)(i). The employer takes rea-sonable steps to have the Overpayment(with appropriate interest) returned by therecipient to the plan and reduces futurebenefit payments (if any) due to the em-ployee to reflect § 415(b). To the extentthe amount returned by the recipient is lessthan the Overpayment, adjusted for earn-ings at the plan’s earnings rate, then theemployer or another person contributes thedifference to the plan. In addition, in ac-cordance with section 6.02(4)(a), the em-ployer must notify the recipient that theOverpayment was not eligible for favor-able tax treatment accorded to distributionsfrom qualified plans (and, specifically, wasnot eligible for tax-free rollover). (See Ex-amples 15 and 16.)

(ii) Adjustment of Future PaymentsCorrection Method. (A) In General. Inaddition to the return of overpayment cor-rection method, in the case of plan bene-fits that are being distributed in the formof periodic payments, Overpayments as aresult of amounts being paid in excess ofthe limits in § 415(b) may be corrected byusing the adjustment of future paymentscorrection method set forth in this para-graph (1)(a)(ii). Future payments to therecipient are reduced so that they do notexceed the § 415(b) maximum limit andan additional reduction is made to recoupthe Overpayment (over a period notlonger than the remaining payment pe-riod) so that the actuarial present value ofthe additional reduction is equal to theOverpayment plus interest at the interestrate used by the plan to determine actuar-ial equivalence. (See Examples 13 and14.)

(B) Joint and Survivor Annuity Pay-ments. If the employee is receiving pay-ments in the form of a joint and survivorannuity, with the employee’s spouse to re-ceive a life annuity upon the employee’sdeath equal to a percentage (e.g., 75%) ofthe amount being paid to the employee,the reduction of future annuity paymentsto reflect § 415(b) reduces the amount ofbenefits payable during the lives of both

the employee and spouse, but any reduc-tion to recoup Overpayments made to theemployee does not reduce the amount ofthe spouse’s survivor benefit. Thus, thespouse’s benefit will be based on the pre-vious specified percentage (e.g., 75%) ofthe maximum permitted under § 415(b),instead of the reduced annual periodicamount payable to the employee.

(C) Overpayment Not Treated as anExcess Amount. An Overpayment cor-rected under this adjustment of futurepayment correction method, is not treatedas an Excess Amount as defined in section5.01(3).

(b) Examples.Example 13: Employer F maintains a defined benefitplan funded solely through employer contributions.The plan provides that the benefits of employees arelimited to the maximum amount permitted under §415(b), disregarding cost-of-living adjustmentsunder § 415(d) after benefit payments have com-menced. At the beginning of the 1998 plan year,Employee S retired and started receiving an annualstraight life annuity of $140,000 from the plan. Dueto an administrative error, the annual amount re-ceived by Employee S for 1998 included an Over-payment of $10,000 (because the § 415(b)(1)(A)limit for 1998 was $130,000). This error was dis-covered at the beginning of 1999.

Correction: Employer F uses the adjustment offuture payments correction method to correct thefailure to satisfy the limit in § 415(b). Future annu-ity benefit payments to Employee S are reduced sothat they do not exceed the § 415(b) maximum limit,and, in addition, Employee S’s future benefit pay-ments from the plan are actuarially reduced to re-coup the Overpayment. Accordingly, Employee S’sfuture benefit payments from the plan are reduced to$130,000 and further reduced by $1,000 annuallyfor life, beginning in 1999. The annual benefitamount is reduced by $1,000 annually for life be-cause, for Employee S, the actuarial present value ofa benefit of $1,000 annually for life commencing in1999 is equal to the sum of $10,000 and interest atthe rate used by the plan to determine actuarialequivalence beginning with the date of the firstOverpayment and ending with the date the reducedannuity payment begins. Thus, Employee S’s re-maining benefit payments are reduced so that Em-ployee S receives $129,000 for 1999, and for eachyear thereafter.Example 14: The facts are the same as in Example13.

Correction: Employer F uses the adjustments offuture payments correction method to correct the §415(b) failure, by recouping the entire excess pay-ment made in 1998 from Employee S’s remainingbenefit payments for 1999. Thus, Employee S’s an-nual annuity benefit for 1999 is reduced to $119,400to reflect the excess benefit amounts (increased byinterest) that were paid from the plan to Employee Sduring the 1998 plan year. Beginning in 2000, Em-ployee S begins to receive annual benefit paymentsof $130,000.Example 15: The facts are the same as in Example13, except that the benefit was paid to Employee S

in the form of a single-sum distribution in 1998,which exceeded the maximum § 415(b) limits by$110,000.

Correction: Employer F uses the return of over-payment correction method to correct the § 415 (b)failure. Thus, Employer F notifies Employee S ofthe $110,000 Overpayment and that the Overpay-ment was not eligible for favorable tax treatment ac-corded to distributions from qualified plans (and,specifically, was not eligible for tax-free rollover).The notice also informs Employee S that the Over-payment (with interest at the rate used by the plan tocalculate the single-sum payment) is owed to theplan. Employer F takes reasonable steps to have theOverpayment (with interest at the rate used by theplan to calculate the single-sum payment) paid to theplan. Employee S pays the $110,000 (plus the re-quested interest) to the plan. It is determined thatthe plan’s earnings rate for the relevant period was 2percentage points more than the rate used by theplan to calculate the single-sum payment. Accord-ingly, Employer F contributes the difference to theplan.Example 16: The facts are the same as in Example15.

Correction: Employer F uses the return of over-payment correction method to correct the § 415(b)failure. Thus, Employer F notifies Employee S ofthe $110,000 Overpayment and that the Overpay-ment was not eligible for favorable tax treatment ac-corded to distributions from qualified plans (and,specifically, was not eligible for tax-free rollover).The notice also informs Employee S that the Over-payment (with interest at the rate used by the plan tocalculate the single-sum payment) is owed to theplan. Employer F takes reasonable steps to have theOverpayment (with interest at the rate used by theplan to calculate the single-sum payment) paid to theplan. As a result of Employer F’s recovery efforts,some, but not all, of the Overpayment (with interest)is recovered from Employee S. It is determined thatthe amount returned by Employee S to the plan isless than the Overpayment adjusted for earnings atthe plan’s earnings rate. Accordingly, Employer Fcontributes the difference to the plan.

(2) Failures Relating to a § 415(c)Excess.

(a) Correction Methods. (i) SVPCorrection Method. Appendix A, sec-tion .08 sets forth the SVP correctionmethod for correcting the failure to sat-isfy the § 415(c) limits on annual addi-tions.

(ii) Forfeiture Correction Method. Inaddition to the SVP correction method, thefailure to satisfy § 415(c) with respect to anonhighly compensated employee (A)who in the limitation year of the failure hadannual additions consisting of both (I) ei-ther elective deferrals or employee after-tax contributions or both and (II) eithermatching or nonelective contributions orboth, (B) for whom the matching and non-elective contributions equal or exceed theportion of the employee’s annual additionthat exceeds the limits under § 415(c) (“§

2000–6 I.R.B. 543 February 7, 2000

415(c) excess”) for the limitation year, and(C) who has terminated with no vested in-terest in the matching and nonelective con-tributions (and has not been reemployed atthe time of the correction), may be cor-rected by using the forfeiture correctionmethod set forth in this paragraph. The §415(c) excess is deemed to consist solelyof the matching and nonelective contribu-tions. If the employee’s § 415(c) excess(adjusted for earnings) has previously beenforfeited, the § 415(c) failure is deemed tobe corrected. If the § 415(c) excess (ad-justed for earnings) has not been forfeited,that amount is placed in an unallocated ac-count, similar to the suspense account de-scribed in § 1.415–6(b)(6)(iii), to be usedto reduce employer contributions in suc-ceeding year(s) (or if the amount wouldhave been allocated to other employeeswho were in the plan for the year of thefailure if the failure had not occurred, thenthat amount is reallocated to the other em-ployees in accordance with the plan’s allo-cation formula). Note that while this cor-rection method will permit more favorabletax treatment of elective deferrals for theemployee than the SVP correction method,this correction method could be less favor-able to the employee in certain cases, forexample, if the employee is subsequentlyreemployed and becomes vested. (See Ex-amples 17 and 18.)

(iii) Return of Overpayment Correc-tion Method. A failure to satisfy §415(c) that includes a distribution of the§ 415(c) excess attributable to nonelec-tive contributions and matching contri-butions may be corrected using the re-turn of overpayment correction methodset forth in this paragraph. The em-ployer takes reasonable steps to have theOverpayment (i.e., the distribution ofthe § 415(c) excess adjusted for earningsto the date of the distribution), plus ap-propriate interest from the date of thedistribution to the date of the repayment,returned by the employee to the plan.To the extent the amount returned by theemployee is less than the Overpaymentadjusted for earnings at the plan’s earn-ings rate, then the employer or anotherperson contributes the difference to theplan. The Overpayment, adjusted forearnings at the plan’s earnings rate tothe date of the repayment, is to beplaced in an unallocated account, simi-lar to the suspense account described in§ 1.415–6(b)(6)(iii), to be used to reduceemployer contributions in succeedingyear(s) (or if the amount would havebeen allocated to other eligible employ-ees who were in the plan for the year ofthe failure if the failure had not oc-curred, then that amount is reallocatedto the other eligible employees in accor-

dance with the plan’s allocation for-mula). In addition, the employer mustnotify the employee that the Overpay-ment was not eligible for favorable taxtreatment accorded to distributions fromqualified plans (and, specifically, wasnot eligible for tax-free rollover).

(b) Examples.

Example 17: Employer G maintains a 401(k) plan.The plan provides for nonelective employer contri-butions, elective deferrals, and employee after-taxcontributions. The plan provides that the nonelec-tive contributions vest under a 5-year cliff vestingschedule. The plan provides that when an employeeterminates employment, the employee’s nonvestedaccount balance is forfeited five years after a distrib-ution of the employee’s vested account balance andthat forfeitures are used to reduce employer contri-butions. For the 1998 limitation year, the annual ad-ditions made on behalf of two nonhighly compen-sated employees in the plan, Employees T and U,exceeded the limit in § 415(c). For the 1998 limita-tion year, Employee T had § 415 compensation of$60,000, and, accordingly, a § 415(c)(1)(B) limit of$15,000. Employee T made elective deferrals andemployee after-tax contributions. For the 1998 limi-tation year, Employee U had § 415 compensation of$40,000, and, accordingly, a § 415(c)(1)(B) limit of$10,000. Employee U made elective deferrals.Also, on January 1, 1999, Employee U, who hadthree years of service with Employer G, terminatedhis employment and received his entire vested ac-count balance (which consisted of his elective defer-rals). The annual additions for Employees T and Uconsisted of:

February 7, 2000 544 2000–6 I.R.B.

T U

Nonelective $7,500 $4,500Contributions

Elective 10,000 5,800Deferrals

After-tax 500 0 Contributions ________ _________

Total Contributions $18,000 $10,300§ 415(c) Limit $15,000 $10,000§ 415(c) Excess $3,000 $300

Correction: Employer G uses the SVP correctionmethod to correct the § 415(c) excess with respect toEmployee T (i.e., $3,000). Thus, a distribution ofplan assets (and corresponding reduction of the ac-count balance) consisting of $500 (adjusted for earn-ings) of employee after-tax contributions and $2,500(adjusted for earnings) of elective deferrals is madeto Employee T. Employer G uses the forfeiture cor-rection method to correct the § 415(c) excess withrespect to Employee U. Thus, the § 415(c) excess isdeemed to consist solely of the nonelective contri-butions. Accordingly, Employee U’s nonvested ac-count balance is reduced by $300 (adjusted for earn-ings) which is placed in an unallocated account,

similar to the suspense account described in §1.415–6(b)(6)(iii), to be used to reduce employercontributions in succeeding year(s). After correc-tion, it is determined that the ADP and ACP tests for1998 were satisfied. Example 18: Employer H maintains a 401(k) plan.The plan provides for nonelective employer contri-butions, matching contributions and elective defer-rals. The plan provides for matching contributionsthat are equal to 100% of an employee’s elective de-ferrals that do not exceed 8% of the employee’s plancompensation for the plan year. For the 1998 limita-tion year, Employee V had § 415 compensation of$50,000, and, accordingly, a § 415(c)(1)(B) limit of

$12,500. During that limitation year, the annual ad-ditions for Employee V totaled $15,000, consistingof $5,000 in elective deferrals, a $4,000 matchingcontribution (8% of $50,000), and a $6,000 nonelec-tive employer contribution. Thus, the annual addi-tions for Employee V exceeded the § 415(c) limit by$2,500.

Correction: Employer H uses the SVP correctionmethod to correct the § 415(c) excess with respect toEmployee V (i.e., $2,500). Accordingly, $1,000 ofthe unmatched elective deferrals (adjusted for earn-ings) are distributed to Employee V. The remaining$1,500 excess is apportioned equally between theelective deferrals and the associated matching em-

ployer contributions, so Employee V’s account bal-ance is further reduced by distributing to EmployeeV $750 (adjusted for earnings) of the elective defer-rals and forfeiting $750 (adjusted for earnings) ofthe associated employer matching contributions.The forfeited matching contributions are placed inan unallocated account, similar to the suspense ac-count described in § 1.415–6(b)(6)(iii), to be used toreduce employer contributions in succeedingyear(s). After correction, it is determined that theADP and ACP tests for 1998 were satisfied.

.05 Correction of Other OverpaymentFailures.An Overpayment, other than onedescribed in section 2.04(1) (relating to a§ 415(b) excess) or section 2.04(2) (relat-ing to a § 415(c) excess), may be correct-ed in accordance with this section 2.05.An Overpayment from a defined benefitplan is corrected in accordance with therules in section 2.04(1). AnOverpayment from a defined contribu-tion plan is corrected in accordance withthe rules in section 2.04(2)(a)(iii).

.06 § 401(a)(17) Failures.(1) Reduction of Account Balance Cor-

rection Method. The allocation of contri-butions or forfeitures under a defined con-tribution plan for a plan year on the basisof compensation in excess of the limitunder § 401(a)(17) for the plan year maybe corrected using the reduction of ac-count balance correction method set forthin this paragraph. The account balance ofan employee who received an allocationon the basis of compensation in excess ofthe § 401(a)(17) limit is reduced by thisimproperly allocated amount (adjusted forearnings). If the improperly allocatedamount would have been allocated toother employees in the year of the failureif the failure had not occurred, then thatamount (adjusted for earnings) is reallo-cated to those employees in accordancewith the plan’s allocation formula. If theimproperly allocated amount would nothave been allocated to other employeesabsent the failure, that amount (adjustedfor earnings) is placed in an unallocatedaccount, similar to the suspense accountdescribed in § 1.415–6(b)(6)(iii), to beused to reduce employer contributions insucceeding year(s). For example, if aplan provides for a fixed level of em-ployer contributions for each eligible em-ployee, and the plan provides that forfei-tures are used to reduce future employercontributions, the improperly allocatedamount (adjusted for earnings) would beused to reduce future employer contribu-

tions. (See Example 19.) If a paymentwas made to an employee and that pay-ment was attributable to an improperly al-located amount, then it is an Overpay-ment defined in section 2.05(2) that mustbe corrected (see section 2.05(1)).

(2) Example.Example 19: Employer J maintains a money pur-chase pension plan. Under the plan, an eligibleemployee is entitled to an employer contributionof 8% of the employee’s compensation up to the §401(a)(17) limit ($160,000 for 1998). During the1998 plan year, an eligible employee, EmployeeW, inadvertently was credited with a contributionbased on compensation above the § 401(a)(17)limit. Employee W’s compensation for 1998 was$220,000. Employee W received a contribution of$17,600 for 1998 (8% of $220,000), rather thanthe contribution of $12,800 (8% of $160,000) pro-vided by the plan for that year, resulting in an im-proper allocation of $4,800.

Correction: The § 401(a)(17) failure is cor-rected using the reduction of account balancemethod by reducing Employee W’s account bal-ance by $4,800 (adjusted for earnings) and credit-ing that amount to an unallocated account, similarto the suspense account described in §1.415–6(b)(6)(iii), to be used to reduce employercontributions in succeeding year(s).

.07 Correction by Amendment UnderWalk-in CAP.

(1) § 401(a)(17) Failures. (a) Contri-bution Correction Method. In additionto the reduction of account balance cor-rection method under section 2.06 ofthis Appendix B, an employer may cor-rect a § 401(a)(17) failure for a planyear under a defined contribution planunder the Walk-in Closing AgreementProgram (“Walk-in CAP”) (in accor-dance with the requirements of section11) by using the contribution correctionmethod set forth in this paragraph. Theemployer contributes an additionalamount on behalf of each of the otheremployees (excluding each employeefor whom there was a § 401(a)(17) fail-ure) who received an allocation for theyear of the failure, amending the plan(as necessary) to provide for the addi-tional allocation. The amount con-tributed for an employee is equal to theemployee’s plan compensation for theyear of the failure multiplied by a frac-tion, the numerator of which is the im-properly allocated amount made on be-half of the employee with the largestimproperly allocated amount, and thedenominator of which is the limit under§ 401(a)(17) applicable to the year ofthe failure. The resulting additionalamount for each of the other employees

is adjusted for earnings. (See Example20.)

(b) Examples.Example 20: The facts are the same as in Example19.

Correction: Employer J corrects the failureunder Walk-in CAP using the contribution correc-tion method by (1) amending the plan to increasethe contribution percentage for all eligible em-ployees (other than Employee W) for the 1998plan year and (2) contributing an additionalamount (adjusted for earnings) for those employ-ees for that plan year. To determine the increase inthe plan’s contribution percentage (and the addi-tional amount contributed on behalf of each eligi-ble employee), the improperly allocated amount($4,800) is divided by the § 401(a)(17) limit for1998 ($160,000). Accordingly, the plan isamended to increase the contribution percentageby 3 percentage points ($4,800/$160,000) from8% to 11%. In addition, each eligible employee forthe 1998 plan year (other than Employee W) re-ceives an additional contribution of 3% multipliedby that employee’s plan compensation for 1998.This additional contribution is adjusted for earn-ings.

(2) Hardship Distribution Failures.(a) Plan Amendment CorrectionMethod. The Operational Failure ofmaking hardship distributions to em-ployees under a plan that does not pro-vide for hardship distributions may becorrected under Walk-in CAP (in accor-dance with the requirements of section11) using the plan amendment correc-tion method set forth in this paragraph.The plan is amended retroactively toprovide for the hardship distributionsthat were made available. This para-graph does not apply unless (i) theamendment satisfies § 401(a), and (ii)the plan as amended would have satis-fied the qualification requirements of §401(a)(including the requirements ap-plicable to hardship distributions under§ 401(k), if applicable) had the amend-ment been adopted when hardship distri-butions were first made available. (SeeExample 21.)

(b) Example.Example 21: Employer K, a for-profit corporation,maintains a 401(k) plan. Although plan provisionsin 1998 did not provide for hardship distributions,beginning in 1998 hardship distributions of amountsallowed to be distributed under § 401(k) were madecurrently and effectively available to all employees(within the meaning of § l.401(a)(4)–4). The stan-dard used to determine hardship satisfied thedeemed hardship distribution standards in §1.401(k)–1(d)(2). Hardship distributions were madeto a number of employees during the 1998 and 1999plan years, creating an Operational Failure. Thefailure was discovered in 2000.

Correction: Employer K corrects the failurethrough Walk-in CAP by adopting a plan amend-

2000–6 I.R.B. 545 February 7, 2000

ment, effective January 1, 1998, to provide a hard-ship distribution option that satisfies the rules ap-plicable to hardship distributions in §1.401(k)–1(d)(2). The amendment provides that thehardship distribution option is available to all em-ployees. Thus, the amendment satisfies § 401(a),and the plan as amended in 2000 would have satis-fied § 401(a) (including § 1.401(a)(4)–4 and the re-quirements applicable to hardship distributionsunder § 401(k)) if the amendment had been adoptedin 1998.

SECTION 3. EARNINGSADJUSTMENT METHODS ANDEXAMPLES

.01 Earnings Adjustment Methods. (1)In general. (a) Under section 6.02(5)(a),whenever the appropriate correctionmethod for an Operational Failure in a de-fined contribution plan includes a correc-tive contribution or allocation that in-creases one or more employees’ accountbalances (now or in the future), the contri-bution or allocation is adjusted for earn-ings and forfeitures. This section 3 pro-vides earnings adjustment methods (butnot forfeiture adjustment methods) thatmay be used by an employer to adjust acorrective contribution or allocation forearnings in a defined contribution plan.Consequently, these earnings adjustmentmethods may be used to determine theearnings adjustments for corrective con-tributions or allocations made under thecorrection methods in section 2 and underthe SVP correction methods in AppendixA. If an earnings adjustment method inthis section 3 is used to adjust a correctivecontribution or allocation, that adjustmentis treated as satisfying the earnings adjust-ment requirement of section 6.02(5)(a).Other earnings adjustment methods, dif-ferent from those illustrated in this section3, may also be appropriate for adjustingcorrective contributions or allocations toreflect earnings.

(b) Under the earnings adjustmentmethods of this section 3, a correctivecontribution or allocation that increasesan employee’s account balance is adjustedto reflect an “earnings amount” that isbased on the earnings rate(s) (determinedunder section 3.01(3)) for the period ofthe failure (determined under section3.01(2)). The earnings amount is allo-cated in accordance with section 3.01(4).

(c) The rule in section 6.02(6)(a) permit-ting reasonable estimates in certain circum-stances applies for purposes of this section3. For this purpose, a determination of

earnings made in accordance with the rulesof administrative convenience set forth inthis section 3 is treated as a precise determi-nation of earnings. Thus, if the probabledifference between an approximate deter-mination of earnings and a determination ofearnings under this section 3 is insignificantand the administrative cost of a precise de-termination would significantly exceed theprobable difference, reasonable estimatesmay be used in calculating the appropriateearnings.

(d) This section 3 does not apply to cor-rective distributions or corrective reduc-tions in account balances. Thus, for exam-ple, while this section 3 applies inincreasing the account balance of an im-properly excluded employee to correct theexclusion of the employee under the reallo-cation correction method described in sec-tion 2.02(2)(a)(iii)(B), this section 3 doesnot apply in reducing the account balancesof other employees under the reallocationcorrection method. (See section2.02(2)(a)(iii)(C) for rules that apply to theearnings adjustments for such reductions.)In addition, this section 3 does not apply indetermining earnings adjustments under theone-to-one correction method described insection 2.01(1)(b)(iii).

(2) Period of the Failure. (a) GeneralRule. For purposes of this section 3, the“period of the failure” is the period fromthe date that the failure began through thedate of correction. For example, in thecase of an improper forfeiture of an em-ployee’s account balance, the beginningof the period of the failure is the date as ofwhich the account balance was improp-erly reduced.

(b) Rules for Beginning Date for Exclu-sion of Eligible Employees from Plan. (i)General Rule. In the case of an exclusionof an eligible employee from a plan contri-bution, the beginning of the period of thefailure is the date on which contributions ofthe same type (e.g., elective deferrals,matching contributions, or discretionarynonelective employer contributions) weremade for other employees for the year ofthe failure. In the case of an exclusion ofan eligible employee from an allocation ofa forfeiture, the beginning of the period ofthe failure is the date on which forfeitureswere allocated to other employees for theyear of the failure.

(ii) Exclusion from a 401(k) or (m)Plan. For administrative convenience, for

purposes of calculating the earnings ratefor corrective contributions for a planyear (or the portion of the plan year) dur-ing which an employee was improperlyexcluded from making periodic electivedeferrals or employee after-tax contribu-tions, or from receiving periodic match-ing contributions, the employer may treatthe date on which the contributions wouldhave been made as the midpoint of theplan year (or the midpoint of the portionof the plan year) for which the failure oc-curred. Alternatively, in this case, the em-ployer may treat the date on which thecontributions would have been made asthe first date of the plan year (or the por-tion of the plan year) during which an em-ployee was excluded, provided that theearnings rate used is one half of the earn-ings rate applicable under section 3.01(3)for the plan year (or the portion of theplan year) for which the failure occurred.

(3) Earnings Rate. (a) General Rule.For purposes of this section 3, the earn-ings rate generally is based on the invest-ment results that would have applied tothe corrective contribution or allocation ifthe failure had not occurred.

(b) Multiple Investment Funds. If aplan permits employees to direct the in-vestment of account balances into morethan one investment fund, the earningsrate is based on the rate applicable to theemployee’s investment choices for the pe-riod of the failure. In accordance withsection 6.02(5)(a), for administrative con-venience, if most of the employees forwhom the corrective contribution or allo-cation is made are nonhighly compen-sated employees, the rate of return of thefund with the highest earnings rate underthe plan for the period of the failure maybe used to determine the earnings rate forall corrective contributions or allocations.If the employee had not made any applic-able investment choices, the earnings ratemay be based on the earnings rate underthe plan as a whole (i.e., the average ofthe rates earned by all of the funds in thevaluation periods during the period of thefailure weighted by the portion of the planassets invested in the various funds duringthe period of the failure).

(c) Other Simplifying Assumptions. Foradministrative convenience, the earningsrate applicable to the corrective contribu-tion or allocation for a valuation periodwith respect to any investment fund may

February 7, 2000 546 2000–6 I.R.B.

be assumed to be the actual earnings ratefor the plan’s investments in that fund dur-ing that valuation period. For example, theearnings rate may be determined withoutregard to any special investment provi-sions that vary according to the size of thefund. Further, the earnings rate applicableto the corrective contribution or allocationfor a portion of a valuation period may be apro rata portion of the earnings rate for theentire valuation period, unless the applica-tion of this rule would result in either a sig-nificant understatement or overstatementof the actual earnings during that portion ofthe valuation period.

(4) Allocation Methods. (a) In General.For purposes of this section 3, the earn-ings amount generally may be allocated inaccordance with any of the methods setforth in this paragraph (4). The methodsunder paragraph (4)(c), (d), and (e) are in-tended to be particularly helpful wherecorrective contributions are made at datesbetween the plan’s valuation dates.

(b) Plan Allocation Method. Under theplan allocation method, the earningsamount is allocated to account balancesunder the plan in accordance with theplan’s method for allocating earnings as ifthe failure had not occurred. (See Exam-ple 22.)

(c) Specific Employee AllocationMethod. Under the specific employee al-location method, the entire earningsamount is allocated solely to the accountbalance of the employee on whose behalfthe corrective contribution or allocation ismade (regardless of whether the plan’s al-location method would have allocated theearnings solely to that employee). In de-termining the allocation of plan earningsfor the valuation period during which thecorrective contribution or allocation ismade, the corrective contribution or alloca-tion (including the earnings amount) istreated in the same manner as any othercontribution under the plan on behalf ofthe employee during that valuation period.Alternatively, where the plan’s allocation

method does not allocate plan earnings fora valuation period to a contribution madeduring that valuation period, plan earningsfor the valuation period during which thecorrective contribution or allocation ismade may be allocated as if that em-ployee’s account balance had been in-creased as of the last day of the prior valua-tion period by the corrective contributionor allocation, including only that portion ofthe earnings amount attributable to earn-ings through the last day of the prior valua-tion period. The employee’s account bal-ance is then further increased as of the lastday of the valuation period during whichthe corrective contribution or allocation ismade by that portion of the earningsamount attributable to earnings after thelast day of the prior valuation period. (SeeExample 23.)

(d) Bifurcated Allocation Method.Under the bifurcated allocation method,the entire earnings amount for the valua-tion periods ending before the date thecorrective contribution or allocation ismade is allocated solely to the accountbalance of the employee on whose behalfthe corrective contribution or allocation ismade. The earnings amount for the valua-tion period during which the correctivecontribution or allocation is made is allo-cated in accordance with the plan’smethod for allocating other earnings forthat valuation period in accordance withsection 3.01(4)(b). (See Example 24.)

(e) Current Period Allocation Method.Under the current period allocationmethod, the portion of the earnings amountattributable to the valuation period duringwhich the period of the failure begins(“first partial valuation period”) is allo-cated in the same manner as earnings forthe valuation period during which the cor-rective contribution or allocation is madein accordance section 3.01(4)(b). Theearnings for the subsequent full valuationperiods ending before the beginning of thevaluation period during which the correc-tive contribution or allocation is made are

allocated solely to the employee for whomthe required contribution should have beenmade. The earnings amount for the valua-tion period during which the correctivecontribution or allocation is made (“secondpartial valuation period”) is allocated in ac-cordance with the plan’s method for allo-cating other earnings for that valuation pe-riod in accordance with section 3.01(4)(b).(See Example 25.)

.02 Examples.Example 22: Employer L maintains a profit-sharingplan that provides only for nonelective contribu-tions. The plan has a single investment fund. Underthe plan, assets are valued annually (the last day ofthe plan year) and earnings for the year are allocatedin proportion to account balances as of the last dayof the prior year, after reduction for distributionsduring the current year but without regard to contri-butions received during the current year (the “prioryear account balance”). Plan contributions for 1997were made on March 31, 1998. On April 20, 2000Employer L determines that an operational failureoccurred for 1997 because Employee X was improp-erly excluded from the plan. Employer L decides tocorrect the failure by using the SVP correctionmethod for the exclusion of an eligible employeefrom nonelective contributions in a profit-sharingplan. Under this method, Employer L determinesthat this failure is corrected by making a contribu-tion on behalf of Employee X of $5,000 (adjustedfor earnings). The earnings rate under the plan for1998 was +20%. The earnings rate under the planfor 1999 was +10%. On May 15, 2000, when Em-ployer L determines that a contribution to correct forthe failure will be made on June 1, 2000, a reason-able estimate of the earnings rate under the planfrom January 1, 2000 to June 1, 2000 is +12%. Earnings Adjustment on the Corrective Contribu-tion:The $5,000 corrective contribution on behalf of Em-ployee X is adjusted to reflect an earnings amountbased on the earnings rates for the period of the fail-ure (March 31, 1998 through June 1, 2000) and theearnings amount is allocated using the plan alloca-tion method. Employer L determines that a pro ratasimplifying assumption may be used to determinethe earnings rate for the period from March 31, 1998to December 31, 1998, because that rate does notsignificantly understate or overstate the actual earn-ings for that period. Accordingly, Employer L deter-mines that the earnings rate for that period is 15%(9/12 of the plan’s 20% earnings rate for the year).Thus, applicable earnings rates under the plan dur-ing the period of the failure are:

2000–6 I.R.B. 547 February 7, 2000

Time Periods Earnings Rate

3/31/98 - 12/31/98 (First Partial Valuation Period) +15%

1/1/99 - 12/31/99 +10%

1/1/00 - 6/1/00 (Second Partial Valuation Period) +12%

If the $5,000 corrective contribution had beencontributed for Employee X on March 31, 1998, (1)earnings for 1998 would have been increased by theamount of the earnings on the additional $5,000 con-tribution from March 31, 1998 through December31, 1998 and would have been allocated as 1998earnings in proportion to the prior year (December31, 1997) account balances, (2) Employee X’s ac-count balance as of December 31, 1998 would havebeen increased by the additional $5,000 contribu-tion, (3) earnings for 1999 would have been in-creased by the 1999 earnings on the additional$5,000 contribution (including 1998 earningsthereon) allocated in proportion to the prior year(December 31, 1998) account balances along withother 1999 earnings, and (4) earnings for 2000would have been increased by the earnings on theadditional $5,000 (including 1998 and 1999 earn-ings thereon) from January 1 to June 1, 2000 and

would be allocated in proportion to the prior year(December 31, 1999) account balances along withother 2000 earnings. Accordingly, the $5,000 cor-rective contribution is adjusted to reflect an earningsamount of $2,084 ($5,000[(1.15)(1.10)(1.12)–1])and the earnings amount is allocated to the accountbalances under the plan allocation method as fol-lows:(a) Each account balance that shared in the alloca-tion of earnings for 1998 is increased, as of Decem-ber 31, 1998, by its appropriate share of the earningsamount for 1998, $750 ($5,000(.15)).(b) Employee X’s account balance is increased, as ofDecember 31, 1998, by $5,000.(c) The resulting December 31, 1998 account balanceswill share in the 1999 earnings, including the $575 for1999 earnings included in the corrective contribution($5,750(.10)), to determine the account balances as ofDecember 31, 1999. However, each account balance

other than Employee X’s account balance has alreadyshared in the 1999 earnings, excluding the $575. Ac-cordingly, Employee X’s account balance as of De-cember 31, 1999 will include $500 of the 1999 por-tion of the earnings amount based on the $5,000corrective contribution allocated to Employee X’s ac-count balance as of December 31, 1998 ($5,000(.10)).Then each account balance that originally shared inthe allocation of earnings for 1999 (i.e., excluding the$5,500 additions to Employee X’s account balance) isincreased by its appropriate share of the remaining1999 portion of the earnings amount, $75.(d) The resulting December 31, 1999 account bal-

ances (including the $5,500 additions to EmployeeX’s account balance) will share in the 2000 portionof the earnings amount based on the estimated Janu-ary 1, 2000 to June 1, 2000 earnings included in thecorrective contribution equal to $759 ($6,325(.12)).(See Table 1.)

February 7, 2000 548 2000–6 I.R.B.

TABLE 1

CALCULATION AND ALLOCATION OF THE

CORRECTIVE AMOUNT ADJUSTED FOR EARNINGS

Earnings Rate Amount Allocated to:

Corrective Contribution $5,000 Employee X

First Partial Valuation 15% 7501 All 12/31/1997

Period Earnings Account Balances4

1999 Earnings 10% 5752 Employee X ($500)/ All

12/31/1998 Account

Balances ($75)4

Second Partial 12% 7593 All 12/31/1999 Account Valuation

Period Earnings Balances(including Employee

X’s $5,500)4

Total Amount Contributed $7,084

1$5,000 x 15%2$5,750($5,000 +750) x 10% 3$6,325($5,000 +750 +575) x 12%4 After reduction for distributions during the year for which earning are being determined but without regard to contributions received during the year for which

earnings are being determined.

Example 23: The facts are the same as in Example22.Earnings Adjustment on the Corrective Contribution:The earnings amount on the corrective contribution isthe same as in Example 22, but the earnings amount isallocated using the specific employee allocationmethod. Thus, the entire earnings amount for all peri-

ods through June 1, 2000 (i.e., $750 for March 31,1998 to December 31, 1998, $575 for 1999, and $759for January 1, 2000 to June 1, 2000) is allocated toEmployee X. Accordingly, Employer L makes a con-tribution on June 1, 2000 to the plan of $7,084($5,000(1.15)(1.10)(1.12)). Employee X’s accountbalance as of December 31, 2000 is increased by

$7,084. Alternatively, Employee X’s account balanceas of December 31, 1999 is increased by $6,325($5,000(1.15)(1.10)), which shares in the allocation ofearnings for 2000, and Employee X’s account balanceas of December 31, 2000 is increased by the remaining$759. (See Table 2.)

2000–6 I.R.B. 549 February 7, 2000

TABLE 2

CALCULATION AND ALLOCATION OF THE

ADJUSTED CORRECTIVE AMOUNT FOR EARNINGS

Earnings Rate Amount Allocated to:

Corrective Contribution $5,000 Employee X

First Partial Valuation 15% 7501 Employee XPeriod Earnings

1999 Earnings 10% 5752 Employee X

Second Partial Valuation 12% 7593 Employee XPeriod Earnings

Total Amount Contributed $7,084

1$5,000 x 15%2$5,750($5,000 +750) x 10% 3$6,325($5,000 +750 +575) x 12%

Example 24: The facts are the same as in Example22.Earnings Adjustment on the Corrective Contribu-tion:The earnings amount on the corrective contributionis the same as in Example 22, but the earningsamount is allocated using the bifurcated allocation

method. Thus, the earnings for the first partial valu-ation period (March 31, 1998 to December 31,1998) and the earnings for 1999 are allocated to Em-ployee X. Accordingly, Employer L makes a contri-bution on June 1, 2000 to the plan of $7,084($5,000(1.15)(1.10)(1.12)). Employee X’s accountbalance as of December 31, 1999 is increased by

$6,325 ($5,000(1.15)(1.10)); and the December 31,1999 account balances of employees (including Em-ployee X’s increased account balance) will share inestimated January 1, 2000 to June 1, 2000 earningson the corrective contribution equal to $759($6,325(.12)). (See Table 3.)

TABLE 3

CALCULATION AND ALLOCATION OF THE

CORRECTIVE AMOUNT ADJUSTED FOR EARNINGS

Earnings Rate Amount Allocated to:

Corrective Contribution $5,000 Employee X

First Partial Valuation 15% 7501 Employee XPeriod Earnings

1999 Earnings 10% 5752 Employee X

Second Partial Valuation 12% 7593 12/31/99 Account BalancesPeriod Earnings (including Employee X’s

$6,325)4

Total Amount Contributed $7,084

1$5,000 x 15%2$5,750($5,000 +750) x 10% 3$6,325($5,000 +750 +575) x 12%4 After reduction for distributions during the 2000 year but without regard to contributions received during the 2000 year

Example 25: The facts are the same as in Example22.Earnings Adjustment on the Corrective Contribu-tion:The earnings amount on the corrective contributionis the same as in Example 22, but the earningsamount is allocated using the current period alloca-tion method. Thus, the earnings for the first partialvaluation period (March 31, 1998 to December 31,1998) are allocated as 2000 earnings. Accordingly,

Employer L makes a contribution on June 1, 2000 tothe plan of $7,084 ($5,000 (1.15)(1.10)(1.12)). Em-ployee X’s account balance as of December 31,1999 is increased by the sum of $5,500($5,000(1.10)) and the remaining 1999 earnings onthe corrective contribution equal to $75($5,000(.15)(.10)). Further, both (1) the estimatedMarch 31, 1998 to December 31, 1998 earnings onthe corrective contribution equal to $750($5,000(.15)) and (2) the estimated January 1, 2000

to June 1, 2000 earnings on the corrective contribu-tion equal to $759 ($6,325(.12)) are treated in thesame manner as 2000 earnings by allocating theseamounts to the December 31, 2000 account balancesof employees in proportion to account balances as ofDecember 31, 1999 (including Employee X’s in-creased account balance). (See Table 4.) Thus, Em-ployee X is allocated the earnings for the full valua-tion period during the period of the failure.

February 7, 2000 550 2000–6 I.R.B.

TABLE 4

CALCULATION AND ALLOCATION OF THE

CORRECTIVE AMOUNT ADJUSTED FOR EARNINGS

Earnings Rate Amount Allocated to:

Corrective Contribution $5,000 Employee X

First Partial Valuation 15% 7501 12/31/99 Account BalancesPeriod Earnings (including Employee X’s

$5,575)4

1999 Earnings 10% 5752 Employee X

Second Partial Valuation 12% 7593 12/31/99 Account Balances Period Earnings (including Employee X’s

$5,575)4

Total Amount Contributed $7,084

1$5,000 x 15%2$5,750($5,000 +750) x 10% 3$6,325($5,000 +750 +575) x 12%4 After reduction for distributions during the year for which earnings are being determined but without regard to contributions received during the year forwhich earnings are being determined.

APPENDIX C

VCR/SVP/WALK-IN CAP/TVC CHECKLISTIS YOUR SUBMISSION COMPLETE?

INSTRUCTIONS

The Service will be able to respond more quickly to your VCR, SVP, Walk-in CAP or TVC request if it is carefully prepared andcomplete. To ensure that your request is in order, use this checklist. Answer each question in the checklist by inserting yes, no, orN/A, as appropriate, in the blank next to the item. Sign and date the checklist (as taxpayer or authorized representative) andplace it on top of your request.

You must submit a completed copy of this checklist with your request. If a completed checklist is not submitted with your request,substantive consideration of your submission will be deferred until a completed checklist is received.

TAXPAYER’S NAME

TAXPAYER’S I.D. NO.

PLAN NAME & NO.

ATTORNEY/P.O.A.

The following items relate to all submissions:

______ 1. Have you included a complete description of the failure(s) and the years in which the failure(s) occurred(including the years for which the statutory period has expired)? (See section 12.03(1) of Rev. Proc. 2000–16.)(Hereafter, all section references are to Rev. Proc. 2000–16.)

______ 2. Have you included an explanation of how and why the failure(s) arose, including a description of the admin-istrative procedures for the plan in effect at the time the failure(s) occurred? (See section 12.03(2) and (3).)

______ 3. Have you included a detailed description of the method for correcting the failure(s) identified in your submis-sion? This description must include, for example, the number of employees affected and the expected cost ofcorrection (both of which may be approximated if the exact number cannot be determined at the time of therequest), the years involved, and calculations or assumptions the Plan Sponsor used to determine the amountsneeded for correction. In lieu of providing correction calculations with respect to each employee affected by afailure, you may submit calculations with respect to a representative sample of affected employees. However,the representative sample calculations must be sufficient to demonstrate each aspect of the correction methodproposed. Note that each step of the correction method must be described in narrative form. (See section12.03(4).)

______ 4. Have you described the earnings or interest methodology (indicating computation period and basis for deter-mining earnings or interest rates) that will be used to calculate earnings or interest on any corrective contribu-tions or distributions? (As a general rule, the interest rate (or rates) earned by the plan during the applicableperiod(s) should be used in determining the earnings for corrective contributions or distributions.) (See section12.03(5).)

If you inserted “N/A” for item 4, enter explanation:

______ 5. Have you submitted specific calculations for each affected employee or a representative sample of affectedemployees? (See section 12.03(6).)

______ 6. Have you described the method that will be used to locate and notify former employees or, if there are noformer employees affected by the failure(s), provided an affirmative statement to that effect? (See section12.03(7).)

______ 7. Have you provided a description of the administrative measures that have been or will be implemented to

2000–6 I.R.B. 551 February 7, 2000

ensure that the same failure(s) do not recur? (See section 12.03(8).)

______ 8. Have you included a statement that, to the best of the Plan Sponsor’s knowledge, the plan is not currentlyunder an Employee Plans examination? (See section 12.03(9).)

______ 9. Have you included a statement that, to the best of the Plan Sponsor’s knowledge, the Plan Sponsor is notunder an Exempt Organizations examination? (See section 12.03(9).)

______ 10. If the plan is currently being considered in a determination letter application on a Form 5310, have youincluded a statement to that effect? (See section 12.03(10).)

______ 11. Have you included a copy of the portions of the plan document (and adoption agreement, if applicable) rele-vant to the failure(s) and method(s) of correction? (See section 12.04(3).)

______ 12. Have you included a copy of the plan’s most recent Favorable Letter and/or the required applicable docu-ment(s)? (See section 12.04(4).)

______ 13. Have you included the appropriate voluntary compliance or correction fee? (See section 12.05.) ______ 14. Have you included the original signature of the sponsor or the sponsor’s representative? (See section

12.06.)______ 15. Have you included a Power of Attorney (Form 2848)? Note: (representation under the VCR/SVP, Walk-in

CAP and TVC is limited to attorneys, certified public accountants, enrolled agents, and enrolled actuaries; unen-rolled return preparers are not eligible to act as representatives under the VCR or TVC program). (See section12.07.)

______ 16. Have you included a Penalty of Perjury Statement signed (original signature only) and dated by the PlanSponsor? (See section 12.08.)

______ 17. Have you designated your submission as a VCR, SVP, Walk-in CAP, or TVC submission, as appropriate?(See section 12.10.)

The following items relate only to submissions under VCR (including SVP):______ 18. Have you included a copy of the first page, the page containing employee census information (currently line

7f of the 1998 Form 5500), and the information relating to plan assets (currently line 31f of the 1998 Form5500) of the most recently filed Form 5500 series return? Note: If a Form 5500 is not applicable, insert N/Aand furnish the name of the plan, and the census information required of Form 5500 series filers. (See section12.04(1).)

______ 19. Have you proposed a time period of correction that is limited to 150 days from the date the compliancestatement is issued? (See section 10.13.)

The following items relate only to submissions under SVP:______ 20. Have you included a statement identifying your request as an SVP request? (See section 12.03(11).)______ 21. Are each of the failures you have identified eligible for correction under SVP? (See Appendix A and

Appendix B.)______ 22. Have you identified no more than two SVP failures? (If more than two failures were identified, SVP is not

available, but you may make a submission under VCR.) (See section 10.11(3).) ______ 23. Have you proposed to correct the failure(s) identified in your request using the permitted correction

method(s) set forth in Appendix A or Appendix B? (See Appendix A and Appendix B.)

The following item relates only to submissions under Walk-in CAP:______ 24. Have you included a copy of the most recently filed Form 5500? (See section 12.04(1).)______ 25. Have you submitted an application for a determination letter? (See section 11.01(4).)

Signature Date

Title or Authority

Typed or printed name of person signing checklist

February 7, 2000 552 2000–6 I.R.B.

26 CFR 601.201: Rulings and determination letters.(Also Part I, Sections 401, 403 and 501; 1.401–1,1.403(a)–1, 1.501(a)–1.)

Rev. Proc. 2000–20

Table of Contents

SECTION 1. PURPOSE

SECTION 2. BACKGROUND ANDGENERAL INFORMATION

SECTION 3. OVERVIEW OF THEREVENUE PROCEDURE

SECTION 4. DEFINITIONS

SECTION 5. PROVISIONSREQUIRED IN EVERY M&P PLAN

SECTION 6. STANDARDIZED PLANS- EMPLOYER RELIANCE

SECTION 7. ADDITIONALREQUIREMENTS FOR PAIREDPLANS

SECTION 8. OPINION LETTERS -SCOPE

SECTION 9. OPINION LETTERS -INSTRUCTIONS TO SPONSORS

SECTION 10. AMENDMENTS

SECTION 11. DETERMINATIONLETTERS AND INSTRUCTIONS TOADOPTING EMPLOYERS

SECTION 12. APPROVED PLANS -MAINTENANCE OF APPROVEDSTATUS

SECTION 13. WITHDRAWAL OFREQUESTS

SECTION 14. ABANDONED PLANS

SECTION 15. RECORD KEEPINGREQUIREMENTS

SECTION 16. MASS SUBMITTERS

SECTION 17. USER FEES

SECTION 18. OPENING OFCOMPLETE GUST PROGRAM FORM&P PLANS AND VOLUMESUBMITTER SPECIMEN PLANS;OTHER PROCEDURES RELATED TOGUST

SECTION 19. REMEDIAL

AMENDMENT PERIOD

SECTION 20. EFFECT ON OTHERDOCUMENTS

SECTION 21. EFFECTIVE DATE

SECTION 22. PAPERWORKREDUCTION ACT

SECTION 1. PURPOSE

.01 This revenue procedure revises andcombines the Service’s master and proto-type (M&P) and regional prototype planprograms into a unified program for thepre-approval of pension, profit-sharing,and annuity plans. This revenue proce-dure opens this unified program, on April7, 2000, for mass submitter plans andMay 8, 2000, for non-mass submitterplans, to allow sponsors to obtain opinionletters relating to the qualification of theirplans which take into account all of thechanges in the qualification requirementsmade by the following:

1 The Uruguay Round Agreements Act,Pub. L. 103–465 (GATT);

2 The Small Business Job ProtectionAct of 1996, Pub. L. 104–188 (SBJPA)(including § 414(u) of the Internal Rev-enue Code (Code) and the UniformedServices Employment and ReemploymentRights Act of 1994, Pub. L. 103–353(USERRA));

3 The Taxpayer Relief Act of 1997,Pub. L. 105–34 (TRA ‘97); and

4 The Internal Revenue Service Re-structuring and Reform Act of 1998, Pub.L. 105–206 (RRA). These acts are hereinafter referred to col-lectively as GUST.

.02 This revenue procedure also opensthe Service’s volume submitter programon March 8, 2000, to allow practitionersto obtain GUST advisory letters for theirvolume submitter specimen plans.

.03 At the present time, employers maynot obtain determination letters that con-sider all of the requirements of GUST.However, the Service expects to allowemployers to obtain complete GUST let-ters in the near future.

SECTION 2. BACKGROUND ANDGENERAL INFORMATION

.01 Rev. Proc. 89–9, 1989–1 C.B. 780,as modified by Rev. Proc. 90–21, 1990–1C.B. 499, Rev. Proc. 91–66, 1991–2 C.B.870, Rev. Proc. 92–41, 1992–21 I.R.B.

23, Rev. Proc. 93–9, 1993–1 C.B. 474,Rev. Proc. 93–10, 1993–1 C.B. 476, Rev.Proc. 93–12, 1993–1 C.B. 479, Rev. Proc.94–13, 1994–1 C.B. 566, and Rev. Proc.95–12, 1995–1 C.B. 508, sets forth theprocedures of the Service on the issuanceof opinion letters regarding the accept-ability of the form of M&P plans.

.02 Rev. Proc. 89–13, 1989–1 C.B.801, as modified by Rev. Proc. 90–21,Rev. Proc. 91–66, Rev. Proc. 92–41, Rev.Proc. 93–9, Rev. Proc. 93–10, Rev. Proc.93–12, Rev. Proc. 94–13, Rev. Proc.95–12, and Rev. Proc. 95–42, 1995–2C.B. 411, sets forth the procedures of theService on the issuance of notification let-ters regarding the acceptability of theform of regional prototype plans.

.03 Rev. Proc. 93–10 modified bothRev. Proc. 89–9 and Rev. Proc. 89–13 toprovide for nonstandardized safe harborplans.

.04 Rev. Proc. 97–41, 1997–2 C.B.489, as modified by Rev. Proc. 98–14,1998–4 I.R.B. 22, and Rev. Proc. 99–23,1999–16 I.R.B. 5, provided a remedialamendment period under § 401(b) foramending plans for certain changes in theplan qualification requirements made byGUST. The GUST remedial amendmentperiod ends on the last day of the firstplan year beginning on or after January 1,2000.

.05 Rev. Proc. 98–14, as modified byRev. Proc. 98–53, 1998–53 I.R.B. 9, al-lowed employers, sponsors of M&P andregional prototype plans, and volume sub-mitter practitioners to apply for determi-nation, opinion, notification, and advisoryletters that take into account most of therecent changes in law affecting plan qual-ification, but excluding changes underSBJPA that are effective after 1998 (thatis, the safe harbors in § 401(k)(12) and §401(m)(11) for satisfying the nondiscrim-ination requirements of §§ 401(k) and401(m), and the repeal of the combinedplan limitations under § 415(e)).

.06 Announcement 99–50, 1999–19I.R.B. 1, announced that the Service wastemporarily discontinuing acceptance ofapplications for opinion and notificationletters for M&P and regional prototypeplans until further notice.

.07 Rev. Proc. 2000–6, 2000–1 I.R.B.187, contains the Service’s general proce-dures for employee plan determination let-ter requests and requests for advisory letters

2000–6 I.R.B. 553 February 7, 2000

for volume submitter specimen plans. .08 Rev. Proc. 2000–8, 2000–1 I.R.B.

230, contains the Service’s procedures re-garding the payment of user fees for de-termination letter and similar requests.

SECTION 3. OVERVIEW OF THEREVENUE PROCEDURE

.01 In General - The Service believesthat it is no longer necessary or practicalfor it to maintain separate prototype planapproval programs for the institutionalsponsoring organizations, such as banksand insurance companies, that were eligi-ble to sponsor M&P plans under Rev.Proc. 89–9, and the practitioner sponsorsthat were eligible to sponsor regional pro-totype plans under Rev. Proc. 89–13.Therefore, this revenue procedure revisesand combines Rev. Proc. 89–9, Rev. Proc.89–13, and Rev. Proc. 93–10 to establisha unified program that will be available toboth institutional and practitioner spon-sors that seek approval of master or proto-type plans. Under this unified procedure,sponsors may request opinion letters thattake into account all the requirements ofGUST, including the requirements ofSBJPA that are effective in plan years be-ginning on or after January 1, 1999.

.02 Organization of Revenue Proce-dure - This revenue procedure generally ispatterned after and follows the organiza-tion of Rev. Proc. 89–9.

.03 Modifications to Rev. Proc. 89–9and Rev. Proc. 89–13 Incorporated –Since Rev. Proc. 89–9 and Rev. Proc.89–13 were published, they have beenmodified several times. Among the sig-nificant modifications were changes tothe requirements for standardized plansthat were needed to reflect the regulationsunder §§ 401(a)(4) and 410(b). In gen-eral, this revenue procedure incorporatesthese modifications.

.04 Unified Program - Under Rev.Proc. 89–9 and Rev. Proc. 89–13, differ-ent requirements applied to M&P plansand regional prototype plans. Under theunified program in this revenue proce-dure, one set of requirements and proce-dures will apply to all sponsors. In gen-eral, this revenue procedure provides thatany options that were available to spon-sors or employers under either Rev. Proc.89–9 or Rev. Proc. 89–13 will now beavailable to all sponsors or employersunder the new program. For example,

under Rev. Proc. 89–9, M&P plan spon-sors were allowed to sponsor paired de-fined benefit and defined contributionplans, while under Rev. Proc. 89–13, re-gional prototype plan sponsors couldsponsor paired defined contribution plansbut not defined benefit plans that werepaired with a defined contribution plan.Under this revenue procedure, all spon-sors may sponsor paired defined benefitand defined contribution plans.

.05 Retention of M&P Terminology -Because sponsors will continue to be eli-gible to sponsor both master plans andprototype plans, plans that may be spon-sored under this revenue procedure are re-ferred to as M&P plans. Where appropri-ate, references in this revenue procedureto M&P plans include plans that were re-gional prototype plans under Rev. Proc.89–13. Likewise, where appropriate, ref-erences in this revenue procedure to opin-ion letters include notification letters thatwere issued under Rev. Proc. 89–13.

.06 New Sponsor Definition - UnderRev. Proc. 89–9, sponsoring organizationwas defined to include banks, insurancecompanies, and certain other institutionsor associations. Rev. Proc. 89–9, as mod-ified by Rev. Proc. 90–21, also includedrestrictions and additional requirementsregarding the types of M&P plans thatcould be sponsored by trade or profes-sional associations. Under Rev. Proc.89–13, sponsor was defined as any personwith an established place of business inthe United States which could establishthat at least 30 employers would adopt itsapproved regional prototype plan. In gen-eral, this revenue procedure defines spon-sor using the definition in Rev. Proc.89–13. Any person that would be eligibleto sponsor a plan under Rev. Proc. 89–9or Rev. Proc. 89–13 will be eligible tosponsor plans under this revenue proce-dure, provided at least 30 employers arereasonably expected to adopt a basic plandocument of the sponsor within the 12-month period following its approval. Inaddition, any person with an establishedplace of business in the United States maysponsor an M&P plan as a word-for-wordidentical adopter or minor modifieradopter of an M&P plan of a mass sub-mitter, regardless of the number of em-ployers that are expected to adopt theplan. As a result of this new sponsor defi-nition, the restrictions and additional re-

quirements that formerly applied to M&Pplans sponsored by trade or professionalassociations have been eliminated.

.07 Sponsor Responsibilities - Thisrevenue procedure provides that by filingan application for an opinion letter, or byhaving an application filed on its behalfby a mass submitter, a sponsor agrees tocomply with the requirements that applyto sponsors under the procedure. For ex-ample, under this procedure, sponsorsmust make reasonable and diligent effortsto ensure that adopting employers amendtheir plans when necessary. Failure tocomply with these requirements may re-sult in the loss of eligibility to sponsorM&P plans and the revocation of opinionletters that have been issued to the spon-sor. This revenue procedure simplifiesthe record keeping requirements that ap-plied to regional prototype plan sponsorsunder Rev. Proc. 89–13 and applies thesesimplified requirements to all sponsors.Under this revenue procedure, everysponsor will be required to maintain orhave maintained on its behalf, and to pro-vide to the Service when requested, a listof the employers that have adopted itsplan, but sponsors will not have to pro-vide the annual notices that were requiredby Rev. Proc. 89–13. Finally, this rev-enue procedure provides that in caseswhere a sponsor reasonably concludesthat an employer’s M&P plan may nolonger be a qualified plan and the sponsordoes not or cannot submit a request tocorrect the qualification failure under theService’s Employee Plans ComplianceResolution System (EPCRS), it is incum-bent on the sponsor to notify the employerthat the plan may no longer be qualified,advise the employer that adverse tax con-sequences may result from loss of theplan’s qualified status, and inform the em-ployer about the availability of EPCRS.

.08 New Mass Submitter Definition -Both Rev. Proc. 89–9 and Rev. Proc.89–13 provided procedures for simplifiedprocessing and expedited approval ofmass submitter plans. Under Rev. Proc.89–9, a mass submitter was defined asany person that submitted applications onbehalf of at least 10 sponsoring organiza-tions that were adopting the identicalplan. Under Rev. Proc. 89–13, a masssubmitter was defined as any person thatcould establish that at least 50 unaffiliatedsponsors would adopt the identical plan.

February 7, 2000 554 2000–6 I.R.B.

In general, this revenue procedure re-quires that at least 30 unaffiliated adopt-ing sponsors adopt a basic plan documentof the mass submitter, but it also providesa grandfather rule so that any person thatreceived an opinion letter as a mass sub-mitter under Rev. Proc. 89–9 will gener-ally qualify as a mass submitter under thisrevenue procedure.

.09 Changes to General M&P Plan Re-quirements - This revenue proceduremakes several changes and clarificationsto the requirements that apply to all M&Pplans. Significant among these are thefollowing:

1 Rev. Proc. 89–9 and Rev. Proc. 89–13prohibited the issuance of opinion and no-tification letters for plans that contain ormay contain multi-tiered benefit struc-tures. This prohibition has been reformu-lated as a general requirement that the al-location or benefit formula in anonstandardized M&P plan must satisfythe following uniformity requirements ofthe regulations under § 401(a)(4) pertain-ing to safe harbor plans. In the case of anonstandardized defined contributionplan, the allocation formula must be auniform allocation formula, within themeaning of § 1.401(a)(4)–2(b)(2) of theregulations, or a uniform points allocationformula, within the meaning of §1.401(a)(4)–2(b)(3)(i)(A). In the case ofa nonstandardized defined benefit plan,the benefit formula must satisfy each ofthe uniformity requirements of §1.401(a)(4)–3(b)(2). In addition, eachnonstandardized plan must give the em-ployer the option to select total compen-sation as the compensation to be used indetermining allocations or benefits andeach nonstandardized defined benefit planmust automatically or by option allow theadopting employer to satisfy one of thedesign-based safe harbors described in §1.401(a)(4)–3(b)(3), (4), and (5). (Ofcourse, standardized plans and nonstan-dardized safe harbor plans continue to berequired to satisfy design-based safe har-bors described in the regulations under §401(a)(4).) Thus, for example, an M&Pplan, other than a uniform points definedcontribution plan, may provide for dispar-ity in the rates of employer contributionsallocated to participants’ accounts pro-vided the plan satisfies § 401(l) in form.Exceptions to the uniformity require-ments are provided for Davis-Bacon

plans, plans that would fail to satisfy therequirement only because of the plans’top-heavy provisions, and plans that havecontinued to apply certain limitationsunder the Code that were repealed byGUST.

2 The procedure allows plans that in-clude provisions designed to satisfy thesafe harbor requirements of § 401(k)(12)to provide that the safe harbor matchingor nonelective contribution requirementwill be satisfied in another plan. How-ever, this option is not available in stan-dardized plans, other than paired definedcontribution plans whose terms satisfy therequirements of Notice 98–52, 1998–46I.R.B. 16, as modified by Notice 2000–3,2000–4 I.R.B. 413.

3 The procedure clarifies the circum-stances under which an adopting em-ployer of an M&P plan must sign a newadoption agreement and provides that thisrequirement may be satisfied by an elec-tronic signature.

.10 Changes to Standardized Plan Re-quirements and Employer Reliance - Thisrevenue procedure makes several changesand clarifications with respect to em-ployer reliance and to the requirementsthat apply to standardized plans. Signifi-cant among these are the following:

1 The procedure provides an exceptionfrom the requirement that a standardizedplan benefit all nonexcludable employeesof the employer. This exception willallow the employer to avail itself of therule in § 410(b)(6)(C), relating to the min-imum coverage requirements for a plan inthe transition period following a merger,acquisition, or similar transaction;

2 The procedure provides that an em-ployer may rely on an opinion letter for astandardized defined contribution planeven though the employer has maintainedanother defined contribution plan(s) cov-ering some of the same participants, pro-vided certain conditions are met; and

3 The procedure provides that an em-ployer may rely on an opinion letter for astandardized defined contribution planthat is first effective on or after the effec-tive date of the repeal of § 415(e) eventhough the employer has maintained a de-fined benefit plan(s) covering some of thesame participants, provided the definedbenefit plan(s) has been terminated priorto the effective date of the standardizeddefined contribution plan.

.11 Provisions Related to GUST - Sev-eral provisions in this revenue procedurerelate specifically to the restatement ofplans for GUST. They provide that:

1 Sponsors may submit requests foropinion letters that take into account all ofthe requirements of GUST beginningMay 8, 2000. Prior to that time, the Ser-vice will not accept requests for opinionletters. However, mass submitters andnational sponsors may request opinionletters that take into account all of the re-quirements of GUST beginning April 7,2000. The Service will begin issuing ad-visory letters for volume submitter speci-men plans which take into account all ofthe requirements of GUST beginningMarch 8, 2000;

2 In general, all M&P adoption agree-ments must contain elective provisions(with or without default provisions) thatwill allow adopting employers to conformthe terms of their M&P plans to the man-ner in which the employers’ plans wereoperated during the transition period be-tween the earliest effective date underGUST and when the employers adopttheir GUST-restated plans. These electiveprovisions may be contained in a separate“snap-off” section of the adoption agree-ment. The M&P plan sponsor may re-move this snap-off section from the adop-tion agreements it provides to adoptingemployers that are not using the M&Pplan to retroactively restate a plan forGUST;

3 In general, M&P plans must be re-stated for GUST and employers must signnew adoption agreements, in part so thatthey may conform their adoption agree-ment choices to the operation of theirplans during the GUST transition period;

4 An M&P plan, including a standard-ized plan, may give an employer the op-tion to elect to continue to apply the fam-ily aggregation rules of § 401(a)(17)(A)and § 414(q)(6) (both as in effect for planyears beginning before January 1, 1997)in plan years beginning after December31, 1996, to the extent such election con-forms to the plan’s operation. Likewise,an M&P plan, including a standardizedplan, may give an employer the option toelect to continue to apply the combinedplan limit of § 415(e) (as in effect for lim-itation years beginning before January 1,2000) in limitation years beginning afterDecember 31, 1999, to the extent such

2000–6 I.R.B. 555 February 7, 2000

election conforms to the plan’s operation.An M&P plan may not allow an employerto elect to continue to apply the pre-GUST family aggregation rules or thecombined plan limit of § 415(e) in yearsbeginning on or after the date the em-ployer adopts its GUST-restated plan. Anemployer that makes either of these elec-tions in a standardized plan will not beable to rely on the opinion letter without adetermination letter with respect to thequalification of its plan for the years towhich the election applies; and

5 An opinion letter will not be issuedfor an M&P plan that permits, in any planyear beginning on or after the date theemployer adopts its GUST-restated plan,the use of a testing method (that is, prioryear or current year) with respect to theACP test under the plan that is differentthan the testing method with respect to theADP test under the plan. This restrictiondoes not apply with respect to plan yearsbeginning before the date the employeradopts its GUST-restated plan.

.12 Remedial Amendment Period -This revenue procedure includes a proce-dure for extending the remedial amend-ment period for a plan so that employerswill have sufficient time after the Serviceissues an opinion letter to adopt the ap-proved M&P plan, provided the M&Pplan is submitted for an opinion letterunder this procedure by December 31,2000. This procedure also applies to vol-ume submitter specimen plans that aresubmitted by December 31, 2000, for ad-visory letters that take into account all ofthe requirements of GUST.

.13 Other Changes - This revenue pro-cedure provides for reduced user fees forapplications for advisory letters for vol-ume submitter specimen plans in caseswhere at least 30 word-for-word identicalspecimen plans will be submitted.

SECTION 4. DEFINITIONS

.01 Master Plan - A “master plan” is aplan (including a plan covering self-em-ployed individuals) that is made availableby a sponsor (see section 4.09) for adop-tion by employers and for which a singlefunding medium (for example, a trust orcustodial account) is established, as partof the plan, for the joint use of all adopt-ing employers. A master plan consists ofa basic plan document, an adoption agree-ment (see sections 4.03 and 4.04), and,

unless included in the basic plan docu-ment, a trust or custodial account docu-ment (see section 4.05).

.02 Prototype Plan - A “prototypeplan” is a plan (including a plan coveringself-employed individuals) that is madeavailable by a sponsor for adoption byemployers and under which a separatefunding medium is established for eachadopting employer. A prototype plan con-sists of a basic plan document, an adop-tion agreement, and, unless the basic plandocument incorporates a trust or custodialaccount agreement the provisions ofwhich are applicable to all adopting em-ployers, a trust or custodial account docu-ment.

.03 Basic Plan Document - A “basicplan document” is the portion of the plancontaining all the non-elective provisionsapplicable to all adopting employers. Nooptions (including blanks to be com-pleted) may be provided in the basic plandocument, except as provided in section16.031 of this revenue procedure regard-ing flexible plans.

.04 Adoption Agreement - An “adop-tion agreement” is the portion of the plancontaining all the options that may be se-lected by an adopting employer. (But seesection 4.05.)

.05 Trust or Custodial Account Docu-ment (Note: This definition does notapply if the basic plan document includesa trust or custodial account agreementthe provisions of which apply to all adopt-ing employers.) - A “trust or custodial ac-count document” is the portion of anM&P plan that contains the trust agree-ment or custodial account agreement andincludes provisions covering such mattersas the powers and duties of trustees, in-vestment authority, and the kinds of in-vestments that may be made. Except asprovided in section 5.10 and below, allprovisions of the trust or custodial ac-count document must be applicable to alladopting employers and no options (in-cluding blanks to be completed) may beprovided in the trust or custodial accountdocument. With respect to prototypeplans, a sponsor or mass submitter mayprovide up to five separate trust or custo-dial account documents that are intendedfor use with any single basic plan docu-ment. Thus, for example, several employ-ers that adopt a sponsor’s standardizedM&P plan may have plans with different

trust or custodial account documents. Inaddition, a sponsor or mass submitter mayprovide a trust or custodial account docu-ment, designated for use only by adoptersof nonstandardized plans or nonstandard-ized safe harbor plans, which provides forblanks to be completed with respect to ad-ministrative provisions of the trust or cus-todial account agreement. Finally, anM&P plan may provide for the use of anyother trust or custodial account documentthat has been approved by the Service foruse with the plan as a qualified trust or asa custodial account treated as a qualifiedtrust. Any trust or custodial account doc-ument (including one to be used byadopters of standardized plans) may pro-vide for blanks to be completed thatmerely enable the adopting employer tospecify the names of the plan, employer,trustee or custodian, plan administratorand other fiduciaries, the trust year, andthe name of any pooled trust in which theplan’s trust will participate.

.06 Opinion Letter - An “opinion let-ter” is a written statement issued by theService to a sponsor or mass submitterunder this revenue procedure (or, whereappropriate in the context, to a sponsoringorganization under Rev. Proc. 89–9) as tothe acceptability of the form of an M&Pplan and any related trust or custodial ac-count under §§ 401(a), 403(a), and501(a).

.07 Notification Letter - A “notifica-tion letter” is a written statement issuedby the Service to a regional prototypeplan sponsor or mass submitter underRev. Proc. 89–13 as to the acceptability ofthe form of an M&P plan and any relatedtrust or custodial account under §§401(a), 403(a), and 501(a).

.08 TRA ‘86 Opinion or NotificationLetter - A “TRA ‘86 opinion or notifica-tion letter” is a favorable opinion or noti-fication letter issued by the Service on orafter January 4, 1990, under Rev. Proc.89–9 or Rev. Proc. 89–13, which consid-ers the effect of the Tax Reform Act of1986, Pub. L. 99–514 (TRA ‘86).

.09 Sponsor - A “sponsor” is any per-son that (1) has an established place ofbusiness in the United States where it isaccessible during every business day and(2) represents to the Service that it has atleast 30 employer-clients each of which isreasonably expected to adopt the spon-sor’s basic plan document and one or

February 7, 2000 556 2000–6 I.R.B.

more of the adoption agreements associ-ated with that basic plan document withinthe 12-month period following the is-suance of opinion letters under this rev-enue procedure.

A sponsor may submit any number ofadoption agreements with the basic plandocument provided at least 30 employersare reasonably expected to adopt the samebasic plan document within the 12-monthperiod following the issuance of opinionletters. After representing to the Servicethat at least 30 employers are reasonablyexpected to adopt a basic plan document,the sponsor may submit other basic plandocuments and adoption agreements, re-gardless of the number of employers thatare expected to adopt such other plans. TheService reserves the right at any time to re-quest from the sponsor a list of the spon-sor’s clients that have adopted or are ex-pected to adopt the sponsor’s M&P plans,including the clients’ business addressesand employer identification numbers.

Notwithstanding the above, any personthat has an established place of businessin the United States where it is accessibleduring every business day may sponsor aplan as a word-for-word identical adopteror minor modifier adopter of an M&Pplan of a mass submitter, regardless of thenumber of employers that are expected toadopt such plan.

By submitting an application for anopinion letter for an M&P plan under thisrevenue procedure (or by having an appli-cation filed on its behalf by a mass sub-mitter), a person represents to the Servicethat it is a sponsor, as defined above, andagrees to comply with the requirementsimposed on sponsors by this revenue pro-cedure. Failure to comply with these re-quirements may result in the loss of eligi-bility to sponsor M&P plans and therevocation of opinion letters that havebeen issued to the sponsor.

.10 Mass Submitter - A “mass submit-ter” is any person that (1) has an estab-lished place of business in the UnitedStates where it is accessible during everybusiness day and (2) submits applicationson behalf of at least 30 unaffiliated spon-sors each of which is sponsoring, on aword-for-word identical basis, the samebasic plan document and one or more ofthe adoption agreements associated withthat basic plan document. A flexible plan(as defined in section 16.031) which is

adopted by a sponsor will be considered aword-for-word identical plan. A masssubmitter may submit an application onits own behalf as one of the 30 unaffili-ated sponsors. For purposes of this defi-nition, affiliation is determined under §414(b) and (c). Additionally, the follow-ing will be considered to be affiliated: anylaw, accounting, consulting firm, etc.,with its partners, members, associates,etc. Once the mass submitter has submit-ted applications on behalf of 30 unaffili-ated sponsors with respect to any basicplan document, it will be treated as a masssubmitter with respect to all the otherbasic plan documents and associatedadoption agreements for which it requestsopinion letters as a mass submitter undersection 16.01, regardless of the number ofidentical adopters of such other plans.

Notwithstanding the above, any personthat received a favorable TRA ‘86 opinionletter for a plan as a mass submitter underRev. Proc. 89–9 will continue to betreated as a mass submitter if it submitsapplications on behalf of at least 10 spon-sors (regardless of affiliation) each ofwhich is sponsoring, on a word-for-wordidentical basis, the same basic plan docu-ment and one or more of the adoptionagreements associated with that basicplan document. Once the mass submitterhas submitted applications on behalf of 10sponsors with respect to any basic plandocument, it will be treated as a mass sub-mitter with respect to all the other basicplan documents and associated adoptionagreements for which it requests opinionletters as a mass submitter under section16.01, regardless of the number of identi-cal adopters of such other plans.

.11 National Sponsor - A “nationalsponsor” is a sponsor that has either (a) 30or more adopting employers in each of 30or more states (treating, for this purpose,the District of Columbia as a state) or (b)3000 or more adopting employers. Thedetermination as to whether there are3000 or more adopting employers or 30 ormore adopting employers in each of 30 ormore states may be made on any one dateduring the 12 month period ending on thedate that is 60 days after the effective dateof this revenue procedure. For this pur-pose, an adopting employer is any em-ployer that has adopted any plan of thesponsor that has a TRA ‘86 opinion or no-tification letter.

.12 Standardized Plan - A “standard-ized plan” is an M&P plan that meets thefollowing requirements:

1 The provisions governing eligibilityand participation are such that the plan byits terms must benefit all employees de-scribed in section 5.16 (regardless ofwhether any employer is treated as oper-ating separate lines of business under §414(r)) except those that may be excludedunder § 410(a)(1) or (b)(3). The adoptionagreement may provide options as towhether some or all of the employees de-scribed in § 410(a)(1) or (b)(3) are to beexcluded, provided that the criteria for ex-cluding employees described in §410(a)(1) applies uniformly to all em-ployees. A standardized plan generallymay not deny an accrual or allocation toan employee eligible to participate merelybecause the employee is not an active em-ployee on the last day of the plan year orhas failed to complete a specified numberof hours of service during the year. How-ever, the plan may deny an allocation oraccrual to an employee who is eligible toparticipate if the employee terminates ser-vice during the plan year with not morethan 500 hours of service and is not an ac-tive employee on the last day of the planyear.

2 The eligibility requirements under theplan are not more favorable for highlycompensated employees (as defined in §414(q)) than for other employees.

3 Under the plan, allocations, in thecase of a defined contribution plan (otherthan any cash or deferred arrangementpart of the plan), or benefits, in the case ofa defined benefit plan, are determined onthe basis of total compensation. For thispurpose, total compensation means a defi-nition of compensation that includes allcompensation within the meaning of §415(c)(3) and excludes all other compen-sation or that otherwise satisfies § 414(s)under § 1.414(s)–1(c).

4 Unless the plan is a target benefitplan or a § 401(k) and\or § 401(m) plan,the plan must, by its terms, satisfy oneof the design based safe harbors de-scribed in § 1.401(a)(4)–2(b)(2) (takinginto account § 1.401(a)(4)–2(b)(4)) or § 1.401(a)(4)–3(b)(3), (4), or (5) (takinginto account § 1.401(a)(4)–3(b)(6)).(See sections 5.18 and 8.03 for rules re-garding § 401(k) and § 401(m) plansand target benefit plans.)

2000–6 I.R.B. 557 February 7, 2000

Notwithstanding this requirement, astandardized plan may give an employerthe option to elect to continue to apply thefamily aggregation rules of §401(a)(17)(A) and § 414(q)(6) (both as ineffect for plan years beginning beforeJanuary 1, 1997) in plan years beginningafter December 31, 1996, to the extentsuch election conforms to the plan’s oper-ation. Likewise, a standardized plan maygive an employer the option to elect tocontinue to apply the combined plan limitof § 415(e) (as in effect for limitationyears beginning before January 1, 2000)in limitation years beginning after De-cember 31, 1999, to the extent such elec-tion conforms to the plan’s operation.However, a standardized plan may notgive an employer the option to elect tocontinue to apply the pre-GUST familyaggregation rules or the combined planlimit of § 415(e) in years beginning on orafter the date the employer adopts itsGUST-restated plan. In addition, a planmay not continue to apply the combinedplan limit of § 415(e) to the extent suchapplication would cause the plan to fail tosatisfy § 401(a) (see Q&A 8 of Notice99–44, 1999–35 I.R.B. 326). An em-ployer that makes either of these electionswill not be able to rely on the opinion let-ter without a determination letter with re-spect to the qualification of its plan for theyears to which the election applies.

5 All benefits, rights, and featuresunder the plan (other than those, if any,that have been prospectively eliminated)are currently available to all employeesbenefiting under the plan.

6 Any past service credit under the planmust meet the safe harbor in §1.401(a)(4)–5(a)(3).

A plan will not fail to satisfy the cover-age requirement of subsection .121 merelybecause the plan provides, either as the re-sult of an elective provision or by default inthe absence of an election to the contrary,that individuals who become employees,within the meaning of section 5.16, as theresult of a “§ 410(b)(6)(C) transaction” willbe excluded from eligibility to participatein the plan during the period beginning onthe date of the transaction and ending onthe last day of the first plan year beginningafter the date of the transaction. A “§410(b)(6)(C) transaction” is an asset orstock acquisition, merger, or other similartransaction involving a change in the em-

ployer of the employees of a trade or busi-ness.

.13 Paired Plans - “Paired plans” are ei-ther a combination of two or more definedcontribution standardized plans or a combi-nation of one or more defined contributionstandardized plans and one defined benefitstandardized plan (for example, a moneypurchase pension plan, a profit-sharing planand a unit benefit or flat benefit pensionplan), so designed that if any single plan, orcombination of plans, is adopted by an em-ployer, each plan by itself, or the plans to-gether, will meet the nondiscriminationrules set forth in § 401(a)(4), the contribu-tion and benefit limitations set forth in §415, and the top-heavy provisions set forthin § 416. Paired plans must have the samesponsor. In addition, only one of the pairedplans that an employer adopts may providefor disparity in contributions or benefitsthat is permitted under § 401(l). If one ofthe paired plans is a defined benefit planthat includes a final pay limitation as de-scribed in § 401(a)(5)(D), then the paireddefined contribution plan(s) may not pro-vide for disparity in contributions.

.14 Nonstandardized Safe Harbor Plan- A “nonstandardized safe harbor plan” isan M&P plan that would be a standard-ized plan except that the plan:

1 is not required, by its terms, to benefitall nonexcludable employees and may, inthe case of a defined contribution plan,condition allocations on employment onthe last day of the plan year and/or thecompletion of up to 1000 hours of serviceduring the plan year;

2 may use a § 414(s) definition of com-pensation for determining contributionsor benefits that must be tested for nondis-crimination under § 1.414(s)–1(d); and

3 may provide past service credit thatfails to meet the safe harbor in §1.401(a)(4)–5(a)(3).

The opinion letter issued for the planwill state that the plan is a nonstandard-ized safe harbor plan.

.15 Nonstandardized Plan - A “nonstan-dardized plan” is an M&P plan that is nei-ther a standardized plan nor a nonstan-dardized safe harbor plan.

.16 Volume Submitter Plan, SpecimenPlan, and Advisory Letter - See section 9of Rev. Proc. 2000–6.

SECTION 5. PROVISIONSREQUIRED IN EVERY M&P PLAN

.01 Sponsor Amendments - M&P plansmust provide a procedure for sponsoramendment, so that changes in the Code,regulations, revenue rulings, other state-ments published by the Internal RevenueService, or corrections of prior approvedplans may be applied to all employerswho have adopted the plan. Sponsorsmust make reasonable and dilligent ef-forts to ensure that adopting employers ofthe sponsor’s M&P plan have actually re-ceived and are aware of all plan amend-ments and that such employers completeand sign new adoption agreements whennecessary. See section 5.14. Failure tocomply with this requirement may resultin the loss of eligibility to sponsor M&Pplans and the revocation of opinion lettersthat have been issued to the sponsor.

.02 Employer Amendments - An em-ployer that amends any provision of anapproved M&P plan including its adop-tion agreement (other than to change thechoice of options, if the plan permits orcontemplates such a change) or an em-ployer that chooses to discontinue partici-pation in a plan as amended by its sponsorand does not substitute another approvedM&P plan is considered to have adoptedan individually designed plan. However,this rule does not apply in the case ofamendments permitted under section 5.07and 5.11 and model amendments pub-lished by the Service which specificallyprovide that their adoption by an adopterof an M&P plan will not cause such planto be treated as individually designed. Anemployer that amends an M&P plan be-cause of a waiver of the minimum fund-ing requirement under § 412(d) will alsobe considered to have an individually de-signed plan. The procedures stated inRev. Proc. 2000–6 relating to the issuanceof determination letters for individuallydesigned plans will then apply to the planas adopted by the employer.

.03 Uniform Allocation or Benefit For-mula in Nonstandardized Plan - In general,the allocation or benefit formula in a non-standardized M&P plan must satisfy the fol-lowing uniformity requirements of the regu-lations under § 401(a)(4) pertaining to safeharbor plans. In the case of a nonstandard-ized defined contribution plan, the alloca-tion formula must be a uniform allocationformula, within the meaning of §1.401(a)(4)–2(b)(2), or a uniform points al-location formula, within the meaning of §

February 7, 2000 558 2000–6 I.R.B.

1.401(a)(4)–2(b)(3)(i)(A) (in each case tak-ing into account § 1.401((a)(4)–2(b)(4)). Inthe case of a nonstandardized defined bene-fit plan, the benefit formula must satisfyeach of the uniformity requirements of §1.401(a)(4)–3(b)(2) (taking into account §1.401(a)(4)–3(b)(6), except the requirementto satisfy §1.401(a)(4)–13(c)). (See sec-tions 4.12, 4.14, and 8.03 for requirementsthat apply to standardized plans, nonstan-dardized safe harbor plans, and target bene-fit plans, respectively. See subsections .04and .05 for additional requirements thatapply to nonstandardized plans.) Thus, anM&P plan generally may not provide differ-ent allocation rates or different benefit for-mulas for different employees, such as twopercent of compensation for salaried em-ployees and one percent for hourly employ-ees. However, an M&P plan, other than auniform points defined contribution plan,may provide for disparity in the rates of em-ployer contributions allocated to partici-pants’ accounts or in the rates of employer-provided benefits provided the plan satisfies§ 401(l) in form. The uniformity require-ments described in this paragraph do notapply to plans under which the amount ofcontributions or benefits is determined pur-suant to requirements of the Davis-BaconAct, 40 U.S.C. 276(a). In addition, the uni-formity requirements do not apply to the ex-tent that failure to satisfy the requirementsresults from the plan’s top-heavy provisionsor from the continued application under theplan of the pre-GUST family aggregationrules or the combined plan limit of § 415(e).However, an M&P plan may not continue toapply the pre-GUST family aggregationrules or the combined plan limit of § 415(e)in years beginning on or after the date theemployer adopts its GUST-restated plan. Inaddition, a plan may not continue to applythe combined plan limit of § 415(e) to theextent such application would cause theplan to fail to satisfy § 401(a) (see Q&A8 ofNotice 99–44, 1999–35 I.R.B. 326).

.04 Compensation Requirements inNonstandardized Plans - Each nonstan-dardized M&P plan must give the adopt-ing employer the option to select totalcompensation as the compensation to beused in determining allocations or bene-fits. For this purpose, total compensationmeans a definition of compensation thatincludes all compensation within themeaning of § 415(c)(3) and excludes allother compensation or that otherwise sat-

isfies § 414(s) under § 1.414(s)–1(c). .05 Automatic or Optional Safe Harbor

Provisions in Nonstandardized DefinedBenefit Plans - Each nonstandardizedM&P defined benefit plan must automati-cally or by option allow the adopting em-ployer to satisfy one of the design-basedsafe harbors described in §1.401(a)(4)–3(b)(3), (4), and (5) (takinginto account § 1.401(a)(4)–3(b)(6)).

.06 Anti-Cutback Provisions - M&Pplans must specifically provide for theprotection provided under § 411(a)(10)and (d)(6), to the extent required, in theevent that the employer amends the planin any manner such as by revising the op-tions selected in the adoption agreementor by adopting a new M&P plan. AnM&P sponsor may not amend its plan in amanner that could result in the elimina-tion of a benefit to the extent the benefit isrequired to be protected under § 411(d)(6)with respect to the plan of any adoptingemployer, unless permitted to do so under§§ 1.401(a)–4 and 1.411(d)–4. In addi-tion, an M&P plan that does not containvesting for all years which is at least as fa-vorable to participants as that provided in§ 416(b), must specifically provide thatany vesting which occurs while the plan istop-heavy will not be cut back if the planceases to be top-heavy.

.07 Adopting Employer Modificationto Satisfy §§ 415 and 416 - M&P plansmust provide that the plan provisions maybe amended by overriding plan languagecompleted by the employer in the adop-tion agreement where such language isnecessary to satisfy § 415 or 416 becauseof the required aggregation of multipleplans under these sections. In the event ofsuch an amendment the adopting em-ployer must obtain a determination letterin order to continue reliance on the plan’squalified status. Generally, a spaceshould be provided in the adoption agree-ment with instructions for the employer toadd such language as necessary to satisfy§§ 415 and 416. In addition, a space mustbe provided in the adoption agreement forthe employer to specify the interest rateand mortality tables used for purposes ofestablishing the present value of accruedbenefits in order to compute the top heavyratio under § 416. Such a space must beincluded in both defined contributionplans and defined benefit plans.

.08 Defined Contribution § 415 Aggre-

gation - Plan language must be incorpo-rated that aggregates all defined contribu-tion M&P plans to satisfy § 415(c) and(f). Sample language provided in theListing of Required Modifications may beobtained by writing to the Internal Rev-enue Service, Employee Plans Rulingsand Agreements, Washington, D.C.20224, Attention T:EP:RA:T:ICU. Re-quests for sample language may also befaxed to (202) 622-6199 (not a toll-freecall). As soon as possible after February7, 2000, the sample language will also beavailable on the Internet at the followingaddress: http://www.irs.gov. The Listingof Required Modifications can be foundunder “Tax Info for Business.”

.09 Top-heavy Requirements - Exceptto the extent described in section 7.03, re-lating to paired plans, each plan must ei-ther provide that all the additional re-quirements applicable to top-heavy plans(described in § 416) apply at all times orprovide that such requirements apply au-tomatically if the plan is top-heavy re-gardless of how the adoption agreement iscompleted. In any case where the latteroption is chosen, all the requirements fordetermining whether the plan is top-heavymust be included in the plan. (See Ques-tions T-35 and T-36 of § 1.416-1.)

.10 Additional Top-Heavy Minimumsto Satisfy § 415(e) - Each plan must pro-vide automatically or by optional provi-sions, with respect to years beginning be-fore January 1, 2000, the additionalminimums described in § 416(h)(2)(A).

.11 Adopting Employer Modificationof Trust or Custodial Account Document -An employer that adopts an M&P planother than a standardized plan (or pairedplans) will not be considered to have anindividually designed plan merely be-cause the employer amends administra-tive provisions of the trust or custodial ac-count document (such as provisionsrelating to investments and the duties oftrustees), provided the amended provi-sions are not in conflict with any otherprovision of the plan and do not cause theplan to fail to qualify under § 401(a). Forthis purpose, an amendment includesmodification of the language of the trustor custodial account document and the ad-dition of overriding language. An em-ployer that adopts a standardized M&Pplan may amend the trust or custodial ac-count document provided such amend-

2000–6 I.R.B. 559 February 7, 2000

ment merely involves the specification ofthe names of the plan, employer, trusteeor custodian, plan administrator and otherfiduciaries, the trust year, or the name ofany pooled trust in which the plan’s trustwill participate.

.12 Effective Dates of M&P Plan Pro-visions Relating to GUST Changes - Dur-ing the transition period between the ef-fective dates of GUST and the date plansare amended for GUST, plans have insome cases been permitted, and in somecases required, to be operated in a mannerthat is inconsistent with the plans’ termsbut consistent with changes in the qualifi-cation requirements made by GUST.When the plans are amended for GUST,they must be amended retroactively andthe retroactive amendments must conformto how the plans have been operated dur-ing the transition period. In order for aGUST-approved M&P plan to be avail-able to be adopted by an employer toretroactively restate the employer’s planfor GUST, the M&P plan must be able toaccommodate whatever choices and elec-tions have been made in the operation ofthe employer’s plan during the transitionperiod. For example, an employer with a§ 401(k) plan may use either the current-year or the prior-year ADP testingmethod. During the transition period, anemployer may have used the current-yearmethod in 1997, the prior-year method in1998, and the current-year method againin 1999 and 2000. If the employer adoptsa GUST-approved M&P plan to retroac-tively restate the employer’s plan forGUST, the terms of the M&P plan, asadopted by the employer, must reflectthese specific year-by-year changes in theADP testing method. This requirementwill not be satisfied by provisions thatstate, for example, that they are effectiveas of the date that they have been madeeffective in operation where the actualdate(s) is not specified in the plan. Thisrequirement also will not be satisfiedthrough incorporation by reference ofdocuments outside the basic plan docu-ment and adoption agreement. In general,therefore, M&P adoption agreementsmust contain elective provisions (with orwithout default provisions) that will allowadopting employers to conform the termsof their M&P plans to the manner inwhich the employers’ plans were operatedduring the transition period. These elec-

tive provisions may be contained in a sep-arate “snap-off” section of the adoptionagreement. The M&P plan sponsor mayremove this snap-off section from theadoption agreements it provides to adopt-ing employers that are not using the M&Pplan to retroactively restate a plan forGUST.

.13 Provisions Required in AdoptionAgreements Regarding Reliance - Inorder to avoid unnecessary confusion asto the scope of an opinion letter, sponsorsmust include in the adoption agreement ofall M&P plans (other than standardizedplans and paired plans), in close proxim-ity to the signature blank, a statement thatadopting employers may not rely on anopinion letter issued by the Service withrespect to the qualification of that planand should apply to Employee Plans De-terminations for a determination letter inorder to obtain reliance. Standardizedplans and paired plans must also include asimilar statement in the adoption agree-ment that the adopting employer may notrely on the opinion letter issued by theService but must apply for a determina-tion letter to have reliance under the cir-cumstances described in section 6.

.14 Other Provisions Required in Adop-tion Agreements - Each M&P plan mustcontain a dated employer signature line.The employer must sign the adoptionagreement when it first adopts the plan andmust complete and sign a new adoptionagreement if the plan has been restated. Inaddition, the employer must complete anew signature page if it modifies any priorelections or makes new elections in itsadoption agreement. The signature re-quirement may be satisfied by an elec-tronic signature that reliably authenticatesand verifies the adoption of the adoptionagreement, or restatement, amendment ormodification thereof, by the employer.The adoption agreement must state that itis to be used with one and only one spe-cific basic plan document. In addition, theadoption agreement must contain a cau-tionary statement to the effect that the fail-ure to properly fill out the adoption agree-ment may result in failure of the plan toqualify. The adoption agreement must alsocontain a statement which provides that thesponsor will inform the adopting employerof any amendments made to the plan or ofthe discontinuance or abandonment of theplan.

.15 Sponsor Telephone Numbers -M&P plan adoption agreements must in-clude the sponsor’s address and telephonenumber (or a space for the address andtelephone number of the sponsor’s autho-rized representative) for inquiries byadopting employers regarding the adop-tion of the plan, the meaning of plan pro-visions, or the effect of the opinion letter.

.16 Definition of Employee / § 414(b),(c), (m), (n) and (o) - Each M&P planmust include a definition of employee asany employee of the employer maintain-ing the plan or any other employer aggre-gated under § 414(b), (c), (m) or (o) andthe regulations thereunder. The definitionof employee shall also include any indi-vidual deemed under § 414(n) (or underregulations under § 414(o)) to be an em-ployee of any employer described in theprevious sentence.

.17 Definition of Service / § 414(b),(c), (m), (n), and (o) - Each M&P planmust specifically credit all service withany employer aggregated under § 414(b),(c), (m) or (o) and the regulations there-under as service with the employer main-taining the plan. In addition, in the caseof an individual deemed under § 414(n)(or under regulations under § 414(o)) tobe the employee of any employer de-scribed in the previous sentence, servicewith such employer must be credited tosuch individual.

.18 Additional Requirements for PlansThat Include a CODA - An M&P planmay include a cash or deferred arrange-ment (CODA) only if the plan is a profit-sharing plan or a rural cooperative plan,as defined in § 401(k)(7), and the CODAis a qualified CODA, as defined in theregulations under § 401(k). In addition,the plan must satisfy the following re-quirements:

1 The plan may not incorporate theADP test under § 401(k)(3) or the ACPtest under § 401(m)(2) by reference;

2 The plan must use the same testingmethod (either current year or prior year)for both the ADP test under § 401(k)(3)and the ACP test under § 401(m)(2) inany plan year beginning on or after thedate the employer adopts its GUST-re-stated M&P plan;

3 If the CODA provides for hardshipdistributions, it must adopt the safe harborstandards in the regulations under § 401(k);

February 7, 2000 560 2000–6 I.R.B.

4 The CODA may not be integratedwith social security;

5 The plan must describe the method ormethods for correcting contributions inexcess of those allowed under the ADP orACP test and for correcting multiple useof the alternative limitation (within themeaning of § 401(m)(9)), including theplan to be corrected; and

6 A plan that uses the safe harbor meth-ods in §§ 401(k)(12) and 401(m)(11) (forplan years beginning after December 31,1998) must satisfy the nonelective ormatching contribution (“safe harbor con-tribution”) requirement using one of thefollowing options. First, the plan mayprovide that the safe harbor contributionswill be made under the plan. Second, theplan may allow the employer to elect inthe adoption agreement whether the safeharbor contributions will be made underthe plan or under another specified de-fined contribution plan that satisfies therequirements of sections IX. and XI. ofNotice 98–52, as modified by Notice2000–3. However, the latter option is notavailable in standardized plans, other thanpaired defined contribution plans whoseterms satisfy the requirements of sectionsIX. and XI. of Notice 98–52, as modifiedby Notice 2000–3. See section 7.04.

The requirements in 2 and 5 of this sub-section .18 do not apply to a plan thatdoes not use the ADP test under §401(k)(3) and the ACP test under §401(m)(2), but uses only the alternative(“SIMPLE”) method of satisfying thenondiscrimination tests in §§ 401(k)(11)and 401(m)(10) (for plan years beginningafter December 31, 1996) or the safe har-bor methods in §§ 401(k)(12) and401(m)(11) (for plan years beginningafter December 31, 1998).

.19 Other requirements - In addition toany other substantive requirements, M&Pplans must comply with the requirementsof all revenue rulings, notices, legislation,and regulations, including:

1 Notice 97–45, relating to the defini-tion of highly compensated employeeunder § 414(q);

2 Notice 97–75 and § 1.411(d)–4,Q&A 10, relating to the minimum distrib-ution requirements of § 401(a)(9);

3 Notices 97–2, 98–1, 98–52, and2000–3, Rev. Rul. 98–30, and Rev. Proc.97–9, relating to the requirements forqualified cash or deferred arrangements

under § 401(k), including SIMPLE §401(k) plans and § 401(k) plan safe har-bors;

4 Rev. Proc. 98–14 and Rev. Proc.98–42, relating to the repeal of the familyaggregation rules under former §414(q)(6);

5 Rev. Rul. 94–76 and Rev. Proc.96–55, relating to transfers and rolloversfrom money purchase pension plans toprofit-sharing plans;

6 Rev. Rul. 98–1 and Notice 99–44, re-lating to the limitations of § 415;

7 Rev. Proc. 96–49, relating to the re-quirements of USERRA and § 414(u);

8 Section 1.417(e)–1(d), relating to thedetermination of present value andamounts of certain benefits; and

9 Notice 99–5, relating to the definitionof eligible rollover distribution in §402(c)(4) as amended by RRA.

SECTION 6. STANDARDIZED PLANS- EMPLOYER RELIANCE

.01 Reliance - An employer adopting astandardized plan or paired plans mayrely on its opinion letter, except as pro-vided in subsections .02, .03, and .04below.

.02 Non-Reliance by Employer Main-taining More than One Plan - Except inthe case of a combination of paired plansor as otherwise provided in this subsec-tion, an employer may not rely on anopinion letter for a standardized plan,without obtaining a determination letter,if the employer maintains at any time, orhas maintained at any time, another plan,including a standardized plan, that wasqualified or determined to be qualifiedcovering some of the same participants.For this purpose, a plan that has beenproperly replaced by the adoption of astandardized plan is not considered an-other plan. The plan that has been re-placed and the standardized plan must beof the same type (e.g., both money pur-chase pension plans) in order for the em-ployer to be able to rely on the standard-ized plan without obtaining adetermination letter. In addition, an em-ployer that adopts a standardized definedcontribution plan will not be consideredto have maintained another plan merelybecause the employer has maintained an-other defined contribution plan(s), pro-vided such other plan(s) has been termi-nated prior to the effective date of the

standardized plan and no annual additionshave been credited to the account of anyparticipant under such other plan(s) as ofany date within a limitation year of thestandardized plan. Likewise, an employerthat adopts a standardized defined contri-bution plan that is first effective on orafter the effective date of the repeal of §415(e) will not be considered to havemaintained another plan merely becausethe employer has maintained a definedbenefit plan(s), provided the defined ben-efit plan(s) has been terminated prior tothe effective date of the standardized de-fined contribution plan.

.03 Reliance by Employer Adopting aStandardized Defined Benefit Plan - Anemployer that has adopted a standardizeddefined benefit plan may rely on an opin-ion letter with respect to the requirementsof § 401(a)(26) only if the plan satisfiesthe requirements of § 401(a)(26) with re-spect to its prior benefit structure or isdeemed to satisfy § 401(a)(26) under theregulations. However, an employer mayrequest a determination letter if the em-ployer wishes to have reliance as towhether the plan satisfies § 401(a)(26)with respect to its prior benefit structure.

.04 No Automatic Reliance on CertainIssues - An employer that adopts a stan-dardized plan may not rely on an opinionletter with respect to: (a) whether the tim-ing of any amendment to the plan (or se-ries of amendments) satisfies the nondis-crimination requirements of §1.401(a)(4)–5(a), except with respect toplan amendments granting past servicethat meet the safe harbor described in §1.401(a)(4)–5(a)(3) and are not part of apattern of amendments that significantlydiscriminates in favor of highly compen-sated employees; or (b) whether the plansatisfies the effective availability require-ment of § 1.401(a)(4)–4(c) with respect toany benefit, right, or feature. An em-ployer that adopts a standardized plan asan amendment to a plan other than a stan-dardized plan may not rely on an opinionletter with respect to whether a benefit,right, or feature that is prospectively elim-inated satisfies the current availability re-quirements of § 1.401(a)–4 of the regula-tions. Such an employer may request adetermination letter if the employerwishes to have reliance as to whether theprospectively eliminated benefit, right, orfeature satisfies the current availability re-

2000–6 I.R.B. 561 February 7, 2000

quirements. A standardized plan maygive an employer the option to elect tocontinue to apply the pre-GUST familyaggregation rules in years beginning afterDecember 31, 1996, or the combined planlimit of § 415(e) in years beginning afterDecember 31, 1999, to the extent suchelection(s) conforms to the plan’s opera-tion. However, an employer that elects tocontinue to apply the pre-GUST familyaggregation rules or the combined planlimit of § 415(e) will not be able to relyon the opinion letter without a determina-tion letter with respect to the qualificationof its plan for the years to which the elec-tion applies.

.05 Effect of Termination of PairedPlan - If an employer maintains pairedplans, the termination of one of the pairedplans will not adversely affect the em-ployer’s ability to rely on the opinion let-ter with respect to the other pairedplan(s).

.06 Sharing Basic Plan Document ByStandardized, Nonstandardized, and Non-standardized Safe Harbor Plans - A spon-sor may establish a basic plan documentthat applies to a standardized plan, a non-standardized plan, and a nonstandardizedsafe harbor plan. Such plans may differonly by the different adoption agree-ments. For example, the adoption agree-ment(s) for the nonstandardized planand/or the nonstandardized safe harborplan may have additional coverage op-tions.

SECTION 7. ADDITIONALREQUIREMENTS FOR PAIREDPLANS

.01 Limits of § 415(e) Must Be Pro-vided in Defined Benefit Plan Only - Forlimitation years beginning before January1, 2000, the benefits under a defined ben-efit plan in a combination of paired plansmust be limited by the requirements of §415(e), relating to the aggregation of de-fined benefit and defined contributionplans. Adjustments to satisfy the require-ments of § 415(e) may only be providedin the defined benefit plan with respect tobenefits thereunder.

.02 Section 416(h) Adjustment to §415(e) Limits - For limitation years be-ginning before January 1, 2000, pairedplans that include a defined benefit planmust compute the denominators of de-fined benefit and defined contribution

fractions in a manner satisfying §416(h)(1) unless the requirements of §416(h)(2) (each as in effect for limitationyears beginning before January 1, 2000)are satisfied. Paired plans providing theunreduced § 415(e) limits must provide,regardless of how the adoption agreementis completed, the additional top-heavyminimums described in § 416(h)(2)(A)and provide that the unreduced § 415(e)limits will not apply if the plan is supertop-heavy as described in Question T-33of § 1.416–1. In testing for super top-heavy, all the requirements of questionsT-35 and T-36 of § 1.416–1 must be in-cluded in the plan.

.03 Coordination of Minimum Bene-fits and Contributions Under Top-HeavyPlans / Uniformity Requirements - Be-cause paired plans are standardized plansthat must continue to satisfy the uniformbenefit or allocation formula require-ments of § 1.401(a)(4)–2 and –3 whenthe plans are top-heavy, the plans must in-clude provisions that comply with one ofthe following options:

1 each of the paired plans must providethe top-heavy minimum contribution orbenefit (as applicable) without regard towhether a participant is covered under theother paired plan(s); or

2 any participant who benefits underany one of the paired plans must automat-ically benefit under the other pairedplan(s).If the second option is used, either each ofthe paired plans must provide the top-heavy minimum contribution or benefit(as applicable) or the paired plans maydesignate one of the plans to provide thetop-heavy minimum contribution or bene-fit. That is, either the defined benefit planmust provide a 2% minimum benefit orthe defined contribution plan must pro-vide a 5% minimum contribution, or bothplans may provide the top-heavy mini-mum. Also, if the second option is usedand one of the paired plans has been des-ignated to provide the top-heavy mini-mums, the plans must further provide thatin the event the identical employees donot benefit under each paired plan, theplans will default to the first option (i.e.,each plan provides the top-heavy mini-mum). In years beginning before January1, 2000, if the unreduced § 415(e) limit isused, the 2% minimum benefit and the5% minimum contribution are increased

to 3% and 7 1/2%, respectively. If thepaired plans designate one of the plans toprovide the top-heavy minimum contribu-tion or benefit, then, in the event of thetermination of such plan, the remainingplan must provide the top-heavy mini-mum.

.04 Satisfaction of Safe Harbor Contri-bution Requirement in Paired DefinedContribution Plans that Include a § 401(k)Safe Harbor - In the case of paired de-fined contribution plans, if one of theplans uses the safe harbor method in §401(k)(12) (for plan years beginning afterDecember 31, 1998), the safe harbor con-tribution requirement must be satisfiedusing one of the following options. First,the paired plans may provide that the safeharbor contributions will be made underthe plan that includes the CODA. Sec-ond, the paired plans may provide that thesafe harbor contributions will be madeunder the other plan. However, the pairedplans may provide for the latter optiononly if the terms of the paired plans willautomatically satisfy the requirements ofsections IX. and XI. of Notice 98–52, asmodified by Notice 2000–3. If the pairedplans provide that the safe harbor contri-butions will be made under the plan thatdoes not include the CODA, then, in theevent of the termination of such plan, theplan that includes the CODA must pro-vide the safe harbor contributions.

.05 Pairing Provisions Must be in theBasic Plan Document - In the case ofpaired plans, all provisions necessary tocoordinate the plans (other than the re-liance statement required under section5.13) must be set forth in the basic plandocument and not in the adoption agree-ment. Paired plans may allow the em-ployer to elect in the adoption agreementwhich of the two options described insubsection .03 and which of the two op-tions described in subsection .04, if ap-plicable, will apply to the employer’splans.

.06 Paired Plans Limited to Two Dif-ferent Basic Plan Documents - While thesponsor is not limited in the number ofsets of paired plans it may adopt, each setmust be limited to two different basic plandocuments: one for defined benefit plansand one for defined contribution plans.The pairing of defined contribution plansrequires only one basic plan documentsuch as a profit-sharing plan and a money

February 7, 2000 562 2000–6 I.R.B.

purchase plan containing the identicalbasic plan document and two differentadoption agreements. A sponsor may pro-vide a pairing of defined benefit and de-fined contribution plans in such a mannerthat with two different basic plan docu-ments and three adoption agreements, anadopting employer may adopt a profit-sharing plan, a money purchase plan, anda defined benefit plan.

SECTION 8. OPINION LETTERS -SCOPE

.01 General Limits on Opinion Letters- Opinion letters will be issued only tosponsors or mass submitters and do notconstitute rulings or determinations as toeither the qualification of the plans asadopted by particular employers, or, inthe case of prototype plans, the exemptstatus of related trusts or custodial ac-counts.

.02 Nonapplicability of the Procedureto IRAs and SEPs - Opinion letters willnot be issued under this revenue proce-dure for prototype plans intended to meetthe requirements for individual savingsprograms or simplified employee pensionprograms under § 408 (see Rev. Proc.87–50, 1987–2 C.B. 647, Rev. Proc.97–29, 1997–1 C.B. 698, and Rev. Proc.98–59, 1998–50 I.R.B. 8).

.03 Areas Not Covered by OpinionLetters - Opinion letters will not be issuedfor:

1 Multiemployer plans or multiple em-ployer plans, within the meaning of §413(b) and § 413(c) respectively;

2 Plans that have been negotiated pur-suant to a collective bargaining agreementand submitted to the Service as a planmaintained pursuant to a collective bar-gaining agreement. This does not pre-clude an M&P plan from covering em-ployees of the employer who are includedin a unit covered by a collective bargain-ing agreement or the adoption of an M&Pplan pursuant to such agreement as a sin-gle employer plan which covers only em-ployees of the employer;

3 Stock bonus plans; 4 Employee stock ownership plans; 5 Pooled fund arrangements contem-

plated by Rev. Rul. 81–100, 1981–1 C.B.326;

6 Annuity contracts under § 403(b); 7 Defined contribution plans (other

than target benefit plans) under which the

test for nondiscrimination under §401(a)(4) is made by reference to benefitsrather than contributions;

8 Cash balance or similar plans or de-fined benefit plans under which the testfor nondiscrimination under § 401(a)(4) ismade by reference to contributions ratherthan benefits;

9 Plans described in § 414(k) (relatingto a defined benefit plan which provides abenefit derived from employer contribu-tions which is based partly on the balanceof the separate account of a participant);

10 Target benefit plans, other than planswhich, by their terms, satisfy each of thesafe harbor requirements described in §1.401(a)(4)–8(b)(3)(i), as well as the addi-tional rules in § 1.401(a)(4)–8(b)(3)(ii)through (vii);

11 Plans that provide for the disparitypermitted under § 401(l), other than planswhich use a definition of compensationthat includes all compensation within themeaning of § 415(c)(3) and excludes allother compensation, or that otherwise sat-isfies § 414(s) under § 1.414(s)–(c);

12 Defined benefit plans that providefor employee contributions not allocatedto separate accounts, other than plans thatprovide the minimum benefit described in § 1.401(a)(4)–6(b)(3)(ii);

13 Plans that would not satisfy thequalification requirements except as agovernmental plan as described in §414(d);

14 Church plans described in § 414(e)that have not made the election providedby § 410(d);

15 Plans under which the § 415 limita-tions are incorporated by reference;

16 Plans that do not contain a § 414(q)definition of highly compensated em-ployee or under which the definition is in-corporated by reference;

17 Fully-insured § 412(i) plans, otherthan plans that, by their terms, satisfy thesafe harbor for § 412(i) plans in §1.401(a)(4)–3(b)(5);

18 Plans that fail to contain a provisionreflecting the requirements of § 414(u)(see Rev. Proc. 96–49).

.04 DOL Participant Loan Regulationsnot Addressed by Opinion Letter - M&Pplans may adopt procedures to complywith the Department of Labor’s (DOL)participant loan regulations under §408(b)(1) of ERISA in the plan or in adocument that is separate from the basic

plan document, trust, and adoption agree-ment. The adoption of procedures outsideof the plan document that are intended tocomply with these regulations will notcause an M&P plan to be considered anindividually designed plan. The Servicewill not review loan program procedures(whether in the plan or in a separate writ-ten document) to determine whether theycomply with the requirements of the DOLregulations. Also, any opinion letter is-sued for an M&P plan will not considerwhether loan program procedures may, inthe operation of the plan, have an adverseeffect on the qualified status of the plan.However, the loan program proceduresunder the plan may not be inconsistentwith the qualification requirements of §401(a).

.05 Nontransferability of Opinion Let-ters - An opinion letter issued to a sponsoris not transferable to any other entity. Forthis purpose, a change of employer identi-fication number is deemed to be a changeof entity.

SECTION 9. OPINION LETTERS -INSTRUCTIONS TO SPONSORS

.01 Employee Plans Rulings andAgreements Issues Opinion Letters - Em-ployee Plans Rulings and Agreementswill, upon the request of a sponsor, issuean opinion letter as to the acceptability ofthe form of the sponsor’s M&P plan andany related trust or custodial accountunder §§ 401(a), 403(a), and 501(a). Re-view of the sponsor’s application may beassigned to a field office.

.02 Forms and Address for RequestingOpinion Letters - A request for an opinionletter relating to an M&P plan must besubmitted on the current version of Form4461, Application for Approval of Masteror Prototype Defined Contribution Plan,Form 4461-A, Application for Approval ofMaster or Prototype Defined Benefit Plan,or Form 4461-B, Application for Approvalof Master or Prototype Plan Mass Submit-ter Adopting Sponsor, as appropriate. Assoon as possible after February 7, 2000,these forms will be available for down-loading from the Internet at the followingaddress: http://www.irs.gov. All infor-mation on the first page of the applicationmust be typed. The request, including therequired user fee, is to be sent to the Inter-nal Revenue Service, Employee PlansRulings and Agreements, Attention:

2000–6 I.R.B. 563 February 7, 2000

T:EP:RA:T:ICU, P.O. Box 14073, BenFranklin Station, Washington, D.C. 20044.

.03 Effect of Failure to Disclose Mate-rial Fact or to Accurately Provide Infor-mation - The Service may determine,based on the application form, the extentof review of the M&P plan. A failure todisclose a material fact or misrepresenta-tion of a material fact on the applicationmay adversely affect the reliance whichwould otherwise be obtained through is-suance by the Service of a favorable opin-ion letter. Similarly, failure to accuratelyprovide any of the information called foron any form required by this revenue pro-cedure may result in no reliance.

.04 Expediting Review of Substan-tially Identical Plans - The Service re-serves the right to review applications inany order which will expedite the pro-cessing of opinion letter applications. Toexpedite the review of substantially iden-tical plans which are not described in sec-tion 16, relating to mass submitter plans,the Service encourages plan drafters andsponsors to include with each opinion let-ter application where it is appropriate acover letter setting forth the following in-formation:

1 The name and file folder number (ifavailable) of the plan which, for reviewpurposes, the plan drafter designates asthe “lead plan” (including the name andEIN of the sponsor);

2 A list of all plans written by the plandrafter which are substantially identical tothe lead plan (including the informationdescribed in 1);

3 A description of each place where theplan for which the application is beingsubmitted is not word-for-word identicalto the language of the lead plan, includingan explanation of the purpose and effectof each such difference; and

4 A certification, made under penaltyof perjury by the plan drafter, that the in-formation described in 3 is true and com-plete. If the sponsor or plan drafter is aware thata lead plan or any substantially identicalplan has been assigned for review to a taxlaw specialist, the cover letter should alsoindicate the name of the tax law special-ist, if possible. To the extent feasible,lead plans and substantially identicalplans should be submitted together. TheService will regard the information andcertification described in 3 and 4 above as

a material representation for purposes ofissuing an opinion letter.

.05 Separate Applications Required forDifferent Categories of M&P Plans / Useof Same Basic Plan Document by MultiplePlans - An M&P plan shall not contain anycombination of profit-sharing, money pur-chase (other than target benefit), targetbenefit, non-integrated defined benefit, orintegrated defined benefit plan features.However, separate defined contributionplans may have the same basic plan docu-ment and separate defined benefit plansmay have the same basic plan document,but the provisions of the basic plan docu-ment must be identical for all plans usingthat document (that is, no elective or op-tional features). For example, a sponsormay submit six plans with respect to agiven defined benefit basic plan document:integrated standardized, nonstandardized,and nonstandardized safe harbor plans; andnonintegrated standardized, nonstandard-ized, and nonstandardized safe harborplans. A sponsor may also use one definedcontribution basic plan document for amoney purchase plan, a target benefit plan,and a profit-sharing plan. One basic plandocument may not be used with respect toboth defined benefit and defined contribu-tion plans. A separate adoption agreementand completed application form must besubmitted with respect to each definedbenefit plan and each defined contributionplan. In the case of a simultaneous sub-mission of plans using the same basic plandocument, only one copy of the basic plandocument need be provided. If the re-quests are not simultaneous, the sponsormust submit a copy of the basic plan docu-ment with each submission and include acover letter identifying the original sub-mission. The number of such basic plandocument must remain the same as in theprior submission. Paired plans (as definedin section 4.13) must be submitted simulta-neously.

.06 Sample Language - A Listing of Re-quired Modifications (LRM) containingsample language to be used in draftingM&P plans is available from EmployeePlans Rulings and Agreements. Such lan-guage is not automatically required inM&P plans but should be used as a guide indrafting such plans. An LRM may be ob-tained by writing to the Internal RevenueService, Employee Plans Rulings andAgreements, Washington, D.C. 20224, At-

tention T:EP:RA:T:ICU. To expedite thereview of their plans, sponsors are encour-aged to use LRM language and to identifywhere such language is being used in theirplan documents. Requests for LRMs maybe faxed to (202) 622-6199 (not a toll-freecall). As soon as possible after February 7,2000, the LRMs will also be accessible onthe Internet at the following address:http://www.irs.gov. The LRMs can befound under “Tax Info for Business.”

.07 Additional Information May BeRequested - The Service may, at its dis-cretion, require any additional informa-tion that it deems necessary. If a letter, re-questing changes to plan documents, issent to the plan’s sponsor or authorizedrepresentative, the changes must be re-ceived no later than 30 days from the dateof the letter. If the changes are not re-ceived within 30 days, the applicationmay be considered withdrawn. An exten-sion of the 30 day time limit will only begranted for good cause.

.08 Inadequate Submissions - The Ser-vice will return, without further action,plans that are not in substantial compli-ance with the qualification requirementsor plans that are so deficient that they can-not be reviewed in a reasonable amount oftime. A plan may be considered not to bein substantial compliance if, for example,it omits or merely incorporates qualifica-tion requirements by reference to the ap-plicable Code section. The Service willnot consider these plans until after theyare revised, and they will be treated asnew requests as of the date they are resub-mitted. No additional user fee will becharged if an inadequate submission isamended to be in substantial complianceand is resubmitted to the Service within30 days following the date the sponsor isnotified of such inadequacy.

.09 Material Furnished to AdoptingEmployers - A sponsor must furnish eachadopting employer with a copy of the ap-proved plan, copies of any subsequentamendments, and the most recently issuedInternal Revenue Service opinion letter.

.10 Nonidentification of QuestionableIssues May Cause Delay - If the plan doc-ument submitted as part of an opinion let-ter request contains a provision that givesrise to an issue for which contrary pub-lished authorities exist, failure to discloseand address significant contrary authori-ties may result in requests for additional

February 7, 2000 564 2000–6 I.R.B.

information, which will delay action onthe request.

.11 Material Furnished to EmployeePlans Determinations - Each mass sub-mitter and each sponsor of a non-masssubmitter plan must furnish a copy of theapproved M&P plan and the Internal Rev-enue Service opinion letter to EmployeePlans Determinations at the following ad-dress:

Internal Revenue Service Employee Plans DeterminationsP.O. Box 2508Cincinnati, OH 45201Attn: EP DeterminationsVSC CoordinatorRoom 4106

In addition, each mass submitter mustsubmit a list to Employee Plans Determi-nations of all sponsors that have adopted aword-for-word identical plan of the masssubmitter and a copy of any plan whichcontains minor modifications. Each masssubmitter and sponsor of a non-mass sub-mitter plan must also furnish EmployeePlans Determinations with a copy of allamendments subsequently approved as toform by the Service. Copies of word-for-word identical plans of mass submitters,as described in section 4.10 of this rev-enue procedure, need not be submitted toEmployee Plans Determinations.

SECTION 10. AMENDMENTS

.01 Opinion Letters for SponsorAmendments - A sponsor may amend orrestate its previously approved plan (in-cluding any related trust or custodial ac-count) and EP Rulings and Agreementswill entertain a request for a written opin-ion as to the acceptability, for purposes of§§ 401(a), 403(a), and 501(a), of the formof the plan as amended. If the sponsor isamending its plan, it must, except as pro-vided in section 16.02 and 16.04, submit aForm 4461 or Form 4461-A, as applica-ble, to EP Rulings and Agreements, to-gether with a copy of the amendment(s), acover letter summarizing the changes tothe plan effected by such amendment(s),and a copy of the plan which is beingamended. As soon as possible after Feb-ruary 7, 2000, Form 4461 and Form 4461-A will be available for downloading fromthe Internet at the following address:http:/www.irs.gov. If the sponsor is re-stating its plan, it must, except as pro-vided in sections 16.02 and 16.04, submit

the restated plan, with the changes high-lighted, along with a Form 4461 or 4461-A, as applicable. (The plan and applica-tion may be returned to the sponsor if thechanges have not been highlighted.) Nomore than four consecutive amendmentsmay be submitted without restating theplan. In addition, the Service may, at itsdiscretion, require plan restatement at anytime that it deems necessary to adequatelyreview a plan. See section 18.05 regard-ing required restatement of M&P plansfor GUST.

.02 No Opinion Letters for CertainAmendments - An M&P plan will not loseits qualified status and, except as pro-vided in subsection .024 below, no opin-ion letter will be issued merely becauseamendments are made which solely coverthe following:

1 Amendments to conform a plan tothe requirements of § 402(a) of Title I ofthe Employee Retirement Income Secu-rity Act of 1974 (ERISA), Pub. L.93–406, 1974–3 C.B. 1, relating to namedfiduciaries.

2 Amendments to conform a plan to re-quirements of § 503 of ERISA, relating toclaims procedures.

3 Amendments that merely adjust thelimitations under §§ 415, 402(g),401(a)(17), and 414(q)(1)(B) to reflectannual cost-of-living increases, other thanamendments that add an automatic cost-of-living adjustment provision to the plan.

4 Amendments that merely reflect achange of a sponsor’s name. However,the sponsor must notify the Service, inwriting, of the change in name and certifythat it still meets the conditions for spon-sorship described in section 4.09. Noopinion letter will be issued and no userfee will be required for a mere change inname. However, if the sponsor wants anew opinion letter, it will have to submit anew Form 4461, 4461-A or 4461-B andpay the appropriate user fee. (Also seesection 8.05 regarding changes in em-ployer identification numbers.)

SECTION 11. DETERMINATIONLETTERS AND INSTRUCTIONS TOADOPTING EMPLOYERS

Except as provided in section 6, ap-proval by the Service of the form of anM&P plan does not constitute a determi-nation that an employer that adopts theplan will have a qualified plan. There-

fore, such an adopting employer shouldrequest a determination letter in accor-dance with the procedures set forth in sec-tion 8 of Rev. Proc. 2000–6.

SECTION 12. APPROVED PLANS -MAINTENANCE OF APPROVEDSTATUS

.01 Revocation of Opinion Letter bythe Service - An opinion letter found to bein error or not in accord with the currentviews of the Service may be revoked.However, except in rare or unusual cir-cumstances, such revocation will not beapplied retroactively if the conditions setforth in section 13.05 of Rev. Proc.2000–4 are met. For this purpose, suchopinion letters will be given the same ef-fect as rulings. Revocation may be ef-fected by a notice to the sponsor to whichthe letter was originally issued, or by aregulation, revenue ruling or other state-ment published in the Internal RevenueBulletin. The sponsor should then notifyeach adopting employer of the revocationas soon as possible.

.02 Subsequent Required Amendments- An approved M&P plan must beamended by the sponsor and, if necessary,the employer, to retain its approved statusif any provisions therein fail to meet therequirements of law, regulations, or otherissuances and guidelines affecting qualifi-cation that become effective subsequentto the issuance of an opinion letter. Fail-ure to so amend could result in the loss ofa plan’s qualified status. Sponsors are re-quired to make reasonable and diligent ef-forts to ensure that each employer which,to the best of the sponsor’s knowledge,continues to maintain the plan as an M&Pplan amends its plan when necessary.Failure to comply with this or any otherrequirement imposed on sponsors by thisrevenue procedure may result in the lossof eligibility to sponsor M&P plans andthe revocation of opinion letters that havebeen issued to the sponsor.

.03 Amendments Following RevenueRulings - If an approved M&P plan is re-quired to be amended to retain its ap-proved status as a result of publication bythe Service of a revenue ruling, notice orsimilar statement in the Internal RevenueBulletin (I.R.B.), then, unless specificallystated otherwise in the revenue ruling,etc., the time by which the sponsor mustamend its M&P plan to conform to the re-

2000–6 I.R.B. 565 February 7, 2000

quirements of the revenue ruling, etc. andrequest a new opinion letter shall be theend of the one-year period after its publi-cation in the I.R.B., and with respect toany adopting employer’s plan the effec-tive date of such amendment shall be thefirst day of the first plan year beginningwithin such one-year period.

.04 Loss of Qualified Status - If a spon-sor reasonably concludes that an em-ployer’s M&P plan may no longer be aqualified plan and the sponsor does not orcannot submit a request to correct thequalification failure under EPCRS, it isincumbent on the sponsor to notify theemployer that the plan may no longer bequalified, advise the employer that ad-verse tax consequences may result fromloss of the plan’s qualified status, and in-form the employer about the availabilityof EPCRS. See Rev. Proc. 98–22,1998–12 I.R.B. 11.

SECTION 13. WITHDRAWAL OFREQUESTS

.01 Notification and Effect - A sponsormay withdraw its request for an opinionletter at any time prior to the issuance ofsuch letter by notifying EP Rulings andAgreements in writing of such with-drawal. The sponsor must also notifyeach employer who adopted the plan thatthe request has been withdrawn. Such anemployer will be deemed to have an indi-vidually designed plan.

.02 Service Retains Information - Eventhough a request is withdrawn, EP Rul-ings and Agreements will retain all corre-spondence and documents associated withthat request and will not return them tothe sponsor. EP Rulings and Agreementsmay furnish its views concerning thequalified status of the plan to EP Exami-nations, which has audit jurisdiction overthe returns of any employers that haveadopted the plan.

SECTION 14. ABANDONED PLANS

.01 Notification to the Service - A spon-sor should notify EP Rulings and Agree-ments in writing of an approved M&P planthat is no longer used by any employer andwhich the sponsor no longer intends tooffer for adoption. Such written notifica-tion should be filed with EP Rulings andAgreements, Washington, D.C. 20224, At-tention: T:EP:RA:T:ICU and should referto the file folder number appearing on the

latest opinion letter issued. .02 Notification to Employers - A

sponsor that intends to abandon an ap-proved M&P plan that is in use by anyadopting employer must inform eachadopting employer that the form of theplan has been terminated, that the em-ployer’s plan will become an individuallydesigned plan (unless the employeradopts another approved M&P plan), andthat any employer with a determinationletter may continue to rely on such letter(or if the plan is standardized, may con-tinue to rely as if it had received a deter-mination letter) on the date the form ofthe plan is terminated but only until achange in law or other change in the qual-ification requirements. After so inform-ing all adopting employers, the sponsorshould notify EP Rulings and Agreementsin accordance with subsection .01 above.

SECTION 15. RECORD KEEPINGREQUIREMENTS

.01 Filing of Opinion Letter Applica-tion Constitutes Agreement to Complywith Record Keeping Requirements - Bysubmitting an application for an opinionletter under this revenue procedure (or byhaving an application filed on its behalfby a mass submitter), an M&P plan spon-sor agrees, as provided in section 4.09, tocomply with the requirements imposed onthe sponsor by this revenue procedure, in-cluding the record keeping requirementsof this section. Failure to comply with therequirements imposed on the sponsor bythis revenue procedure may result in theloss of eligibility to sponsor M&P plansand the revocation of opinion letters thathave been issued to the sponsor.

.02 Maintenance and Availability ofRecords of Adopting Employers - AnM&P plan sponsor must maintain, or havemaintained on its behalf, for each of itsplans, a record of the names, business ad-dresses, and taxpayer identification num-bers of all employers that have adoptedthe plan. However, a sponsor need notmaintain records with respect to employ-ers that, to the best of the sponsor ’sknowledge, ceased to maintain the plan asan M&P plan more than three years ear-lier. Upon written request, a sponsor mustprovide to the Service a list of such adopt-ing employers that indicates, to the best ofthe sponsor’s knowledge, which of suchemployers continue to maintain the plan

as an M&P plan and which of such em-ployers have ceased to maintain the planas an M&P plan within the precedingthree years.

SECTION 16. MASS SUBMITTERS

.01 Opinion Letters Issued to Mass Sub-mitters - EP Rulings and Agreements will,upon request by a mass submitter, as de-fined in section 4.10, issue an opinion letteras to the acceptability of the form of themass submitter’s M&P plan and any relatedtrust or custodial account under §§ 401(a),403(a), and 501(a). With respect to its plan,the mass submitter must submit a com-pleted Form 4461 or 4461-A, as applicable,to EP Rulings and Agreements. As soon aspossible after February 7, 2000, theseforms will be available for downloadingfrom the Internet at the following address:http://www.irs.gov. The first page of theForm 4461 or 4461- A must be typed. Theapplication must include a copy of the plan(adoption agreement and basic plan docu-ment) and any separate trust or custodialaccount document(s). In the case of an ini-tial submission of a basic plan documentunder this revenue procedure, the mass sub-mitter’s application must also be accompa-nied by applications for opinion letters filedon behalf of the requisite number of identi-cal adopters (as determined under section4.10), unless the mass submitter has al-ready satisfied this requirement in connec-tion with a previous application under thisrevenue procedure involving another basicplan document The application must alsoinclude the required user fee. A mass sub-mitter may submit an application on itsown behalf as one of the requisite numberof adopting sponsors. After satisfying therequisite number of adopting sponsors re-quirement, the mass submitter may submitadditional applications on behalf of othersponsors that wish to adopt a word-for-word identical plan or a plan that containsminor modifications from the mass submit-ter plan, as provided in section 16.032. Inaddition, the mass submitter may then sub-mit requests for opinion letters under thissection 16.01 for its other plans, regardlessof the number of identical adopters of suchother plans.

.02 Reduced Procedural Requirementsfor Sponsors That Use Mass SubmitterPlans - A sponsor of an M&P plan of amass submitter must obtain an opinion let-ter. For initial qualification, or where the

February 7, 2000 566 2000–6 I.R.B.

sponsor’s plan includes minor modifica-tions, the mass submitter on behalf of thesponsor must submit to EP Rulings andAgreements a completed Form 4461-Bwhich contains a declaration by the masssubmitter under penalty of perjury that thesponsor has adopted an M&P plan that isword-for-word identical, within the mean-ing of this section, to a plan of the masssubmitter, or an M&P plan that is a minormodification of the mass submitter’s plan.As soon as possible after February 7, 2000,Form 4461-B will be available for down-loading from the Internet at the followingaddress: http://www.irs.gov. Form 4461-B must be typed. If the mass submitter’splan has been approved by the Service, thesponsor’s request for an opinion letter mustidentify the letter serial number and date ofthe opinion letter issued to the mass sub-mitter with respect to that plan. If the spon-sor has previously received a letter with re-spect to a plan that is identical to the masssubmitter’s plan, the procedures describedin sections 16.04 and 18.03, as applicable,should be followed. If the sponsor is spon-soring a word-for-word identical plan (in-cluding a flexible plan), a copy of the planneed not be submitted. If the mass submit-ter submits a plan with minor modifica-tions, it must comply with the requirementsof section 16.032. The application submit-ted on behalf of the sponsor must includethe required user fee. Upon receipt of therequest for an opinion letter, describedabove, the Service will, as soon as cleri-cally feasible, issue an opinion letter to thesponsor.

.03 Definitions - 1 Flexible Plan - (a) In general - A “flexible plan” is a

plan submitted by a mass submitter whichcontains optional provisions (as definedin (b), below). Sponsors that adopt theflexible plan may include or delete anyoptional provision that is designated assuch in the mass submitter’s plan, pro-vided the inclusion or deletion of specificoptional provisions conforms to the masssubmitter’s written representation to theService concerning the choices availableto sponsors and the coordination of op-tional provisions. A mass submitter mustbracket and identify the optional provi-sions when submitting such plan to EPRulings and Agreements and must alsoprovide the Service a written representa-tion describing the choices available to

sponsors and the coordination of optionalprovisions. Thus, such a representationmust indicate whether a sponsor’s planmay contain only one of a certain groupof optional provisions, may contain only aspecific combination of provisions, ormay exclude the provisions entirely. Sim-ilarly, if the inclusion (or deletion) of aspecific optional provision in a sponsor’splan will automatically result in the inclu-sion (or deletion) of any other optionalprovision, this must be set forth in themass submitter’s representation. A flexi-ble plan may contain only optional provi-sions which meet the requirements of (b),below, and must be drafted so that thequalification of any sponsor’s plan willnot be affected by the inclusion or dele-tion of optional provisions. For example,if a sponsor’s defined contribution plancontains an optional provision which al-lows a portion of a participant’s accountto be invested in life insurance, thenunder the terms of the sponsor’s plan, theapplication of the proceeds must meet therequirements of §§ 401(a)(11) and 417.A flexible plan adopted by a sponsorwhich differs from the mass submitterplan only because the sponsor has deletedcertain optional provisions from its planin conformance with the mass submitter’srepresentation described above will betreated as a word-for-word identical planto the mass submitter plan. The Serviceencourages mass submitters to limit thenumber of optional provisions describedin (b)(i) and (ii), below, which they pro-vide under a flexible plan to six invest-ment provisions and six administrativeprovisions.

(b) Optional Provisions - A flexibleplan may contain only optional provisionsthat comply with the requirements setforth below. The optional provisions maybe arranged as separate optional articlesor as separate optional provisions within asingle article. A flexible plan may alsocontain optional provisions in the adop-tion agreement. For example, if a masssubmitter flexible plan basic plan docu-ment contains an optional provisionwhich would allow for loans under asponsor’s M&P plan, the adoption agree-ment could also include an optional provi-sion which would enable an adopting em-ployer to elect whether loans will beavailable under the plan it adopts. If thesponsor does not wish to enable adopting

employers to make loans available undertheir plans, both the basic plan documentoptional provision and the adoptionagreement optional provision would bedeleted from the sponsor’s M&P plan.Sponsors may include or delete optionalprovisions of mass submitter plans, butonce the sponsor has decided to includean optional provision, it must offer thatprovision to all adopting employers. Anyoptional provision which the Service de-termines does not meet the requirementsof this section will have to be changed toa non-optional provision or deleted fromthe mass submitter’s plan. The followingis an exclusive list of the allowable op-tional provisions which a flexible planmay contain:

(i) Investment Provisions - A masssubmitter may offer a variety of invest-ment provisions in its plan for sponsors toinclude or delete from their version of theplan. However, the plan as adopted bythe sponsor must provide some methodfor investing trust assets. Investment pro-visions are those provisions that describethe plan’s methods of investing the trustor custodial funds, including provisionssuch as the availability of loans and in-vestments in insurance contracts or otherfunding media, and self-directed invest-ments. (Also see sections 4.05 and 5.11regarding flexibility permitted in trust orcustodial account documents.)

(ii) Administrative Provisions - Amass submitter may offer a variety of ad-ministrative provisions in its plan forsponsors to include or delete from theirversion of the plan. However, the plan asadopted by the sponsor must describehow the plan will be administered. Ad-ministrative provisions are those provi-sions that describe the administration ofthe plan, including the powers, duties, andresponsibilities of a plan’s custodian,trustee, administrator, employer, andother fiduciaries. Administrative provi-sions include the allocation of responsi-bilities among fiduciaries, the resignationor replacement of fiduciaries, claims pro-cedures under the plan, and record keep-ing requirements. However, proceduralprovisions that are required for plan quali-fication are not administrative provisionsunder this section. For example, provi-sions that provide for the notice to partici-pants required by § 417 and record keep-ing required by regulations under §§

2000–6 I.R.B. 567 February 7, 2000

401(k) and (m) are not administrative pro-visions for purposes of this revenue pro-cedure, and may not be optional provi-sions.

(iii) Cash or Deferred Arrangement -A mass submitter may include a self-con-tained cash or deferred arrangement (asdefined in § 401(k)) for sponsors to in-clude or delete.

(c) Addition of Optional Provisionsby the Mass Submitter - A mass submittermay add additional optional provisions toits plan after a favorable opinion letter isissued. Generally, the addition of suchoptional provisions will not be treated as aplan amendment for purposes of this rev-enue procedure, Rev. Proc. 2000–6, andRev. Proc. 2000–8, and sponsors andadopting employers will not be requiredto obtain new opinion and determinationletters in order to preserve reliance.(However, the addition of a cash or de-ferred arrangement or any change to thelanguage of the adoption agreement sub-sequent to the issuance of an opinion let-ter will be treated as a plan amendment tothe mass submitter’s plan and the require-ments of subsection .04 will then apply.)The mass submitter must submit such ad-ditional optional provisions to the Ser-vice, along with a completed Form 4461or 4461-A, as applicable, and a check ormoney order in the amount specified insection 6.04(6) of Rev. Proc. 2000–8. Noopinion letter will be issued to the masssubmitter or any adopting sponsor withrespect to the addition of these optionalprovisions. Instead, an advisory letterwill be issued to the mass submitter noti-fying it that the addition of such optionalprovisions will not affect the status of fa-vorable opinion and determination lettersissued to sponsors and adopting employ-ers.

(d) Notification to Employer - If amass submitter adds optional provisions,as described in (c), above, all adoptingsponsors who wish to include the addi-tional optional provisions must furnisheach adopting employer with a copy ofthe plan which includes such additionalprovisions in accordance with section9.09. If a sponsor decides to include ordelete an optional provision after it ini-tially adopted the plan, it must also fur-nish each adopting employer with a copyof the new plan in accordance with sec-tion 9.09. However, if such inclusion or

deletion results in a change to the lan-guage of the adoption agreement, suchchange will be treated as a plan amend-ment and the sponsor and its adopting em-ployers may not continue to rely on previ-ously issued opinion or determinationletters.

2 Minor Modification - A “minormodification” is a minor change to an oth-erwise word-for-word identical plan ofthe mass submitter which does not requirean in-depth technical review. For exam-ple, a change from 5 year 100% vesting to3 year 100% vesting is a minor modifica-tion. On the other hand, a change in themethod of accrual of benefits in a definedbenefit plan would not be considered aminor modification. A minor modifica-tion must be submitted by the mass sub-mitter on behalf of the sponsor that willadopt the modified plan. Such submis-sions will be reviewed on an expeditedbasis and opinion letters will be issued tothe sponsor as soon as possible. How-ever, the Service reserves the right to de-termine if such changes are actuallyminor. If it is determined that the changesare extensive or require an in-depth tech-nical review, the plan will not be entitledto expedited review but will be treated asa non-mass submitter plan. (In suchevent, the Service will notify the masssubmitter in writing of its determination.Within 30 days following the date of suchcommunication, either the mass submittermay revise the plan so that the modifica-tions are minor and resubmit the revisedplan, or the sponsor may submit an addi-tional user fee in an amount equal to thedifference between a non-mass submitterplan application user fee and a minormodifier application user fee. If, aftersuch 30 day period neither action hasbeen taken, the application may be con-sidered withdrawn.) To qualify for theexpeditious review, the mass submittermust submit a completed Form 4461-B.Such form must be typed. In addition, themass submitter must submit a copy of themass submitter’s plan with the minormodifications highlighted, as well as astatement indicating the location and ef-fect of each change. The mass submittermust certify under penalty of perjury thatthe plan of the sponsor, except for the de-lineated changes, is word-for-word identi-cal, within the meaning of this section, tothe plan for which the mass submitter re-

ceived a favorable opinion letter. If amass submitter fails to identify each mod-ification, such failure will be considered amaterial misrepresentation and an em-ployer may not rely on any opinion or de-termination letter that may be issued withrespect to the plan. If a mass submitterrepeatedly fails to identify such modifica-tions, the Service may deny permission tothat mass submitter to submit additionalminor modifications.

.04 Amendments of Mass SubmitterPlans - Any plan submitted by a mass sub-mitter must include language designatingthe mass submitter as agent for the spon-sor for purposes of making plan amend-ments (see section 12.02). Any sponsorthat does not wish to make the amend-ments made by a mass submitter mayswitch to another mass submitter or maysubmit an application for an opinion letteron its own behalf. If the mass submittermakes any change to the plan, other thanthe addition of optional provisions pur-suant to section 16.031(c), an amendmentdescribed in section 10.02, or a modelamendment published by the Service, itmust comply with the requirements ofsection 10.01 of this revenue procedure.In addition, prior to submitting an amend-ment to EP Rulings and Agreements, themass submitter must notify the Service ofits intention to amend the plan. Such no-tification should be submitted, in writing,to EP Rulings and Agreements, Washing-ton, D.C. 20224, Attention:T:EP:RA:T:ICU. The Service will thenmail a list to the mass submitter showingall sponsors that have adopted plans thatare identical to the mass submitter ’splans, as well as the specific plansadopted by each sponsor. The mass sub-mitter must then submit the amended planto EP Rulings and Agreements for ap-proval, along with a list identifying alladopting sponsors’ plans that will beamended, a user fee form for each suchsponsor, and the appropriate user fee re-quired under section 6.04 of Rev. Proc.2000–8. All sponsors that have adoptedthe mass submitter’s plan, are identifiedon the list submitted to the Service, andfor which a user fee has been submitted,will be considered to have made suchamendments and will be issued opinionletters. In the case of minor modifierplans, separate Form 4461–B applicationsmust be filed along with copies of the

February 7, 2000 568 2000–6 I.R.B.

plans as amended, user fee forms, and theuser fee required by section 6.04 of Rev.Proc. 2000–8 for minor modifier applica-tions. Copies of the amended plan mustbe sent to adopting employers and EP De-terminations in accordance with section9.11. Any adopting sponsor that is not in-cluded on the list submitted to the Service(or in the case of a minor modifier, forwhich a Form 4461-B application has notbeen filed) or which notifies the Serviceof its desire not to adopt such amendmentwill no longer participate as a mass sub-mitter plan but must apply for an opinionletter on its own behalf to retain its statusas an M&P plan.

.05 Expeditious Processing AccordedMass Submitter Plans - All mass submit-ter plans, including the adoption of ap-proved mass submitter plans by sponsors,will be accorded more expeditious pro-cessing than M&P plans submitted bynon-mass submitters, to the extent admin-istratively feasible.

SECTION 17. USER FEES

.01 User Fees for Applications FiledUnder This Revenue Procedure - Section6.04 of Rev. Proc. 2000–8 sets forth theuser fees for applications for opinion andadvisory letters for M&P plans. The userfees in section 6.04 of Rev. Proc. 2000–8apply to all applications for opinion andadvisory letters for M&P plans that arefiled under this revenue procedure.

.02 Reduced User Fees for Submissionof Identical Volume Submitter SpecimenPlans - Section 6.07 of Rev. Proc. 2000–8sets forth the user fees for applications foradvisory letters for volume submitterplans. Rev. Proc. 2000–8 is modified toprovide reduced user fees for advisory let-ters in cases involving the submission ofat least 30 identical volume submitterspecimen plans under the following pro-cedures:

1 A practitioner must submit an appli-cation for an advisory letter for a speci-men plan (herafter referred to as the leadspecimen plan). The application must in-clude the plan and trust and all the otherinformation required by section 9.07 ofRev. Proc. 2000–6. However, the coverletter for the application need not includea certification that at least 30 employersare expected to adopt similar plans; in-stead, the cover letter must state that atleast 30 practitioners are submitting appli-

cations for advisory letters for identicalspecimen plans and must certify that eachsuch plan is word-for-word identical tothe lead specimen plan. The cover lettermust provide the name, address, and EINof each of the practitioners.

2 The application for the lead speci-men plan must include a user fee in theamount of $3,000.

3 The application for the lead speci-men plan must be accompanied by sepa-rate advisory letter applications filed byeach of the practitioners listed in thecover letter for the lead specimen plan.The separate application should consist ofa letter stating that the practitioner is re-questing an advisory letter for a specimenplan that is word-for-word identical to thelead specimen plan and that the practi-tioner will maintain, and furnish to theService on request, a list of adopting em-ployers. The practitioner does not need toindicate that at least 30 employers are ex-pected to adopt the plan. The practitionershould not submit a copy of the plan.

4 A user fee in the amount of $100 mustbe paid for each separate advisory letterapplication.

5 An application for an advisory letterfor a specimen plan that has been filedunder the general procedures in section9.07 of Rev. Proc. 2000–6 can beamended at any time, even after the is-suance of an advisory letter, to designatethe plan as a lead specimen plan by pay-ment of the required additional user feeand submission of the other informationand fees described above.

6 After the initial submission of advi-sory letter applications by at least 30 prac-titioners, applications may be filed byother practitioners who will sponsor theword-for-word identical plan. The appli-cation must include the practitioner’sagreement to maintain, and furnish to theService on request, a list of adopting em-ployers; a certification by the sponsor ofthe lead specimen plan that the practi-tioner’s plan is word-for-word identical tothe lead specimen plan; and a user fee inthe amount of $100. A copy of the planshould not be submitted.

7 All of the above applications are to besent to the address in section 9.07(1) ofRev. Proc. 2000–6.

SECTION 18. OPENING OFCOMPLETE GUST PROGRAM FORM&P PLANS AND VOLUME

SUBMITTER SPECIMEN PLANS;OTHER PROCEDURES RELATED TOGUST

.01 Opening of Complete GUST Pro-gram for M&P Plans / Delayed Submis-sions - Applications for opinion letters forM&P plans that are filed on or after May8, 2000, will be reviewed taking into ac-count all requirements of GUST, includ-ing those that are effective in plan yearsbeginning after December 31, 1998, aswell as the requirements of this revenueprocedure. In Announcement 99–50, theService announced that as of May 10,1999, it was temporarily discontinuingthe acceptance of applications for opinionand notification letters for M&P and re-gional prototype plans. Effective May 10,1999, therefore, and until May 8, 2000, noapplications for the approval of M&Pplans (other than those plans submittedpursuant to subsection .02) may be sub-mitted. Any application received on orafter May 10, 1999, and prior to May 8,2000 (other than those submitted pursuantto subsection .02) will be returned.

.02 Early Submission Period for MassSubmitters and National Sponsors - Masssubmitters (as defined in section 4.10)and national sponsors (as defined in sec-tion 4.11) may submit applications for ap-proval of M&P plans beginning April 7,2000, and will not be subject to the de-layed submission requirement of subsec-tion .01. In the case of a national sponsor,each application submitted during thisearly submission period must be accom-panied by the sponsor’s certification,made under penalty of perjury, that itmaintains a list of adopting employerswhich establishes that the sponsor is a na-tional sponsor as defined in section 4.11.The Service reserves the right to request acopy of such list in order to verify thatthese requirements have been met.

.03 Service to Mail Lists of IdenticalAdopters to Mass Submitters ApprovedUnder Rev. Proc. 89–9 and Rev. Proc.89–13 - Within 30 days after the effectivedate of this revenue procedure, the Ser-vice will mail to each person that was ap-proved as a mass submitter under Rev.Proc. 89–9 or Rev. Proc. 89–13 a list ofthose sponsors that have previouslyadopted plans that are word-for-wordidentical to the mass submitter’s plansalong with such plans’ file folder num-bers. Mass submitters should use these

2000–6 I.R.B. 569 February 7, 2000

lists, in accordance with the instructionsprovided with such lists, in applying foropinion letters under this procedure withrespect to these sponsors’ plans. Theseinstructions will allow mass submitters tosubmit applications for opinion letters onbehalf of the identical adopters withoutfiling Form 4461-B.

.04 Treatment of In-Process Applica-tions - As provided in Announcement99–50, the Service will continue toprocess all M&P and regional prototypeplan applications submitted before May10, 1999, in accordance with the provi-sions of Rev. Procs. 89–9, 89–13, 98–14,and 98–53. Any letter issued to such aplan will not consider this revenue proce-dure or certain provisions of GUST thatare effective after 1998. Alternatively,sponsors may withdraw any pending pre-May 10, 1999-application relating to anM&P or regional prototype plan. In thiscase, the user fee will not be refunded.However, if a new application pertainingto the same plan is subsequently filed onor before December 31, 2000, the user feefor the new application will be waived.The sponsor should indicate on the face ofthe application form that the user fee isbeing waived pursuant to Announcement99–50 and this revenue procedure.

.05 Required Restatement of M&PPlans - M&P plans must be restated thefirst time they are submitted for GUSTopinion letters under this revenue proce-dure. Amendments or working copies ofplans in a restated format, in lieu of actualplan restatement, will not be accepted.However, restatement will not be requiredif the M&P plan was restated in connec-tion with an application for an opinion let-ter under Rev. Proc. 98–14 and the planreceived a favorable letter. Except as pro-vided in section 16.04, the sponsor musthighlight in the restated plan all changesthat have been made to the last approvedversion of the plan.

.06 Completion of New AdoptionAgreements for M&P Plans - Employersmust complete new adoption agreementswhen M&P plans are restated for GUST.Part of the reason for this requirement isthat employers must conform their adop-tion agreement choices to the operation oftheir plans during the GUST transition pe-riod. Except as provided in section 6, em-ployers must also request new determina-tion letters in order to have reliance as to

the qualified status of their M&P plans..07 Opening of Complete GUST Pro-

gram for Volume Submitter SpecimenPlans - The Service will begin to issue ad-visory letters for volume submitter speci-men plans that take into account all of therequirements of GUST beginning March8, 2000.

SECTION 19. REMEDIALAMENDMENT PERIOD

.01 Purpose - The purpose of this sec-tion is to ensure that employers will have12 months after an M&P plan or volumesubmitter specimen plan is approved forGUST in which to adopt the approvedplan as a timely GUST restatement. Em-ployers will be eligible for this 12-monthperiod if they are prior adopters of anM&P, regional prototype, or volume sub-mitter specimen plan, or if they certifythat they intend to restate their plan forGUST using an M&P or volume submit-ter specimen plan, and the M&P plansponsor or volume submitter practitionersubmits its plan for GUST-approval byDecember 31, 2000.

.02 Extension of Remedial Amend-ment Period - If the requirements in sub-section .03 are satisfied, the remedialamendment period for an employer’s planwill not expire before the time describedin subsection .04. For purposes of thissection, the remedial amendment periodmeans the remedial amendment perioddetermined under § 1.401(b)–1 and Rev.Proc. 97–41 and Rev. Proc. 98–14, bothas modified by Rev. Proc. 99–23. As pro-vided in section 3.05, where it is appropri-ate in this section (for example, in subsec-tion .031), the term “M&P plan” includesregional prototype plans under Rev. Proc.89–13, and the term “opinion letter” in-cludes notification letters issued underRev. Proc. 89–13.

.03 Requirements for Extension - Therequirements of this subsection .03 aresatisfied if:

1 before the end of the remedialamendment period (determined withoutregard to the extension provided by thissection), the employer adopts an M&Pplan or volume submitter specimen plan(regardless of whether such plan has aTRA ‘86 opinion or advisory letter); or

2 before the end of the remedialamendment period (determined withoutregard to the extension provided by this

section), the employer and an M&P plansponsor or volume submitter practitionerexecute a written certification of the em-ployer’s intent to amend or restate its planby adopting the sponsor ’s or practi-tioner’s GUST-approved M&P or volumesubmitter specimen plan; and

3 by December 31, 2000, the sponsoror practitioner submits an application fora complete GUST opinion or advisory let-ter for the M&P plan or volume submitterspecimen plan referred to in 1 or 2 (evenif the M&P plan is an identical adoptionof a mass submitter plan).

.04 Period of Extension - If the preced-ing requirements are satisfied, the reme-dial amendment period for the employer’splan will not expire before the end of thetwelfth month beginning after the date onwhich a GUST opinion or advisory letteris issued for the M&P or volume submit-ter specimen plan referred to in subsec-tion .03 or the opinion or advisory letterapplication for the plan is withdrawn.Within this period, the employer mustamend or restate its plan by adopting theGUST-approved M&P or volume submit-ter specimen plan (or another GUST-ap-proved M&P or volume submitter speci-men plan, or individually designed GUSTamendments) and, if required for reliance,request a determination letter.

.05 Prior Adopters Deemed to HaveAdopted Other Plans of Sponsor or Practi-tioner for Purposes of This Section - Anemployer that adopts, before the end of theremedial amendment period (determinedwithout regard to the extension provided bythis section), any M&P plan or volume sub-mitter specimen plan of a sponsor or practi-tioner will, for purposes of this section, bedeemed to have adopted each other M&Pplan or volume submitter specimen plan ofthat sponsor or practitioner. Likewise, anemployer that certifies, before the end ofthe remedial amendment period (deter-mined without regard to the extension pro-vided by this section), its intent to adoptany M&P plan or volume submitter speci-men plan of a sponsor or practitioner will,for purposes of this section, be deemed tohave made such a certification with respectto each other M&P plan or volume submit-ter specimen plan of that sponsor or practi-tioner.

.06 Certain Employer AmendmentsDisregarded for Purposes of This Sec-tion - An employer that has adopted an

February 7, 2000 570 2000–6 I.R.B.

M&P plan or a volume submitter speci-men plan may have modified the plan ina such a way that the plan, as adopted bythe employer, would not be consideredan M&P plan or a volume submitterplan. Nevertheless, for purposes of thissection, such a plan will be treated as anM&P or volume submitter plan and willbe eligible for the remedial amendmentperiod extension provided by this sec-tion. For example, an employer mayhave adopted an individually designedGUST-related amendment to an M&Pplan that would have caused the plan tobe considered an individually designedplan under section 5.02 of Rev. Proc.89–9. Despite the individually designedamendment, the plan will be treated asan M&P plan for purposes of this sec-tion.

.07 No Extension Where M&P PlanSponsor or Volume Submitter Practi-tioner Fails to Make Timely Request forGUST Opinion or Advisory Letter - Ifan employer’s plan would otherwise beeligible for the extension described insubsection .04, but the M&P sponsor orvolume submitter practitioner fails tosubmit an application for a GUST opin-ion or advisory letter by December 31,2000, the remedial amendment periodfor the employer’s plan will not be ex-tended.

.08 Information To Be Submittedwith Determination Letter Application -An employer that avails itself of the ex-tension provided by this section must in-clude with its determination letter appli-cation either evidence of adoption,before the expiration of the remedialamendment period (determined withoutregard to this section), of an M&P orvolume submitter specimen plan or acopy of the certification described insubsection .032.

.09 Discretionary Extensions - If anM&P sponsor or volume submitter prac-titioner determines that the extension ofthe remedial amendment period pro-vided by this section does not allow suf-ficient time for employers to adopt thesponsor’s or practitioner’s GUST-ap-proved M&P or volume submitter speci-men plan and, if required for reliance,request determination letters, the spon-sor or practitioner may request a furtherextension. At its discretion, the Servicemay grant such a further extension.

Among the factors that the Service willconsider in determining whether a fur-ther extension wil l be granted arewhether the sponsor or practitioner hastaken reasonable steps to ensure that theprocess of restating employers’ plans forGUST is completed as promptly as pos-sible, whether substantial hardship toemployers or the sponsor or practitionerwould result if such an extension werenot granted, whether such an extensionis in the best interests of plan partici-pants, and whether the granting of theextension is adverse to the interests ofthe Government. Requests for a furtherextension should be addressed to theCommissioner, Tax Exempt and Gov-ernment Entities Division, P.O. Box14073, Ben Franklin Station, Washing-ton, D.C. 20224, Attention:T:EP:RA:T:ICU. However, the Servicewill not accept requests for a further ex-tension before the later of December 31,2000, or the date of issuance of a GUSTopinion or advisory letter with respect tothe sponsor’s or practitioner’s M&P orvolume submitter specimen plan.

.10 Required Amendments for Planswith Extended Reliance on TRA ‘86Letters - Under Rev. Proc. 89–9, Rev.Proc. 89–13 (both as modified by Rev.Proc. 93–9, 1993–1 C.B. 474), Rev.Proc. 93–39, 1993–2 C.B. 513, An-nouncement 94–85, 1994–26 I.R.B. 23,and Rev. Proc. 95–12, 1995–1 C.B. 508,plans that were submitted to the Servicewithin certain deadlines for determina-tion, opinion, or notification lettersunder TRA ‘86 and received favorableletters were entitled to extended re-liance. During the extended reliance pe-riod, a plan generally was not requiredto comply in operation with or beamended for regulations or administra-tive guidance of general applicability is-sued after the date of the plan’s letterwhich interpret the qualification require-ments in effect when the letter was is-sued. As modified by Rev. Proc. 99–23,the extended reliance period continueduntil the earlier of the last day of the lastplan year commencing prior to January1, 2000, or the date established for planamendment by any legislation effectiveafter the date of the plan’s letter. As fur-ther provided in Rev. Proc. 99–23, aplan with extended reliance must beamended by the last day of the first plan

year beginning on or after January 1,2000, to the extent necessary to complywith regulations or administrative guid-ance of general applicability which hasbeen issued since the date of the plan’sfavorable TRA ‘86 letter. For this pur-pose, plan amendments will be deemedto have been adopted on the last day ofthe first plan year beginning on or afterJanuary 1, 2000, if they are in factadopted after that date but within theplan’s remedial amendment period asextended by this section. The amend-ments must be made effective no laterthan the first day of the first plan yearbeginning on or after January 1, 2000.If the plan’s remedial amendment periodhas been extended by this section, theamendments may be made effective ear-lier than the first day of the plan year inwhich the amendments are adopted tothe extent necessary to comply with thisrequirement.

SECTION 20. EFFECT ON OTHERDOCUMENTS

.01 The following revenue proce-dures are superseded: Rev. Procs. 89–9,89–13, 90–21, 92–41, 93–10, and95–42.

.02 Section 8.03 through 8.08 of Rev.Proc. 91–66 is superseded. The balanceof Rev. Proc. 91–66 was previously su-perseded; therefore, Rev. Proc. 91–66 isnow superseded in full.

.03 Section 4 of Rev. Proc. 93–9 issuperseded. The balance of Rev. Proc.93–9 was previously superseded; there-fore, Rev. Proc. 93–9 is now supersededin full.

.04 Section 8.05 of Rev. Proc.2000–6 is modified as follows:

1 subsection (2) is modified to pro-vide that whether an employer may relyon an opinion letter for a standardizedplan without requesting a determinationletter will be determined under section 6of this revenue procedure; and

2 subsection (3) is deleted.

.05 Rev. Proc. 2000–8 is modified asprovided in section 17.

.06 Announcement 99–50 is modified.

SECTION 21. EFFECTIVE DATE

This revenue procedure is effectiveFebruary 7, 2000.

2000–6 I.R.B. 571 February 7, 2000

SECTION 22. PAPERWORK RE-DUCTION ACT

The collections of information con-tained in this revenue procedure havebeen reviewed and approved by the Of-fice of Management and Budget in accor-dance with the Paperwork Reduction Act(44 U.S.C. 3507) under control number1545–1674.

An agency may not conduct or sponsor,and a person is not required to respond to,a collection of information unless the col-lection of information displays a validcontrol number.

The collections of information in thisrevenue procedure are in sections 5.14,9.11, 12.02, 12.03, 15.02, 17.02, 18.06,19.02 and 19.09. This information is re-quired in connection with the determina-tion of plan qualification. This informa-tion will be used to determine whether aplan is entitled to favorable tax treatment.The collections of information are manda-tory. The likely respondents are banks,insurance companies, other financial in-stitutions, law, actuarial and consultingfirms, employee benefit practitioners andemployers.

The estimated total annual reportingand/or record keeping burden is 408,563hours.

The estimated annual burden per re-spondent/record-keeper varies from 10minutes to 2000 hours, depending on in-dividual circumstances, with an estimatedaverage of 1.53 hours. The estimatednumber of respondents and/or record-keepers is 266,530.

The estimated annual frequency of re-sponses (used for reporting requirementsonly) is once every three years.

Books or records relating to a collec-tion of information must be retained aslong as their contents may become mater-ial in the administration of any internalrevenue law. Generally tax returns andtax return information are confidential, asrequired by 26 U.S.C. 6103.

DRAFTING INFORMATION

The principal author of this revenueprocedure is James Flannery of the TaxExempt and Government Entities Divi-sion. For further information regardingthis revenue procedure, contact the Em-ployee Plans telephone assistance servicebetween the hours of 1:30 and 3:30 p.m.Eastern time, Monday through Thursday,

on (202) 622-6074/75 (These telephonenumbers are not toll-free.)

Safe Harbor Explanation—Certain Qualified PlanDistributions

Notice 2000–11

PURPOSE

This notice contains a “Safe HarborExplanation” that plan administratorsmay provide to recipients of eligiblerollover distributions from qualified plansin order to satisfy § 402(f) of the InternalRevenue Code. It is an updated versionof the Safe Harbor Explanation that waspublished in Notice 92–48, 1992–2 C.B.377.

BACKGROUND

Section 402(f) requires a plan adminis-trator to provide a written explanation toany recipient of a payment that could berolled over (an “eligible rollover distribu-tion”) to an individual retirement arrange-ment described in Code § 408(a) or (b)(“traditional IRA”) or to a qualified em-ployer plan described in Code § 401(a) oran annuity described in Code § 403(a)(“qualified employer plan”). The writtenexplanation must cover the direct rolloverrules, the mandatory income tax with-holding on distributions not directlyrolled over, and the tax treatment of distri-butions not rolled over (including the spe-cial tax treatment available for certainlump sum distributions). Section 402(f)provides that this explanation must begiven within a reasonable period of timebefore the plan makes an eligible rolloverdistribution.

Section 521(d) of the UnemploymentCompensation Amendments of 1992, P.L.102–318 (UCA) directed the Secretary ofthe Treasury to develop a model explana-tion that could be used to satisfy the re-quirements of § 402(f) of the Code, asamended. The model explanation wasoriginally published as Notice 92–48 andis referred to in that Notice as a Safe Har-bor Explanation.

This updated notice is being issued toreflect changes made to the Code and In-come Tax Regulations that affect the in-

formation provided in the Safe HarborExplanation. The Small Business JobProtection Act of 1996, P.L. 104–188,section 1401(a), amended Code §401(a)(9) to alter the rules relating to thecommencement of minimum required dis-tributions and also amended Code §402(d) to eliminate the special five-yearaveraging tax treatment for lump sum dis-tributions (although transition rules retainten-year special averaging for individualswho satisfy certain requirements). TheInternal Revenue Service Restructuringand Reform Act of 1998 (“RRA”), P.L.105-206, section 3436, amended Code §72(t) to provide an additional exception tothe early withdrawal tax for tax levies onqualified plans. RRA, section6005(c)(2)(A), also amended Code §402(c)(4) to provide that certain hardshipdistributions are not eligible for rollover.

Temporary and Proposed Income TaxRegulations under Code §§ 401(a)(31),402(f), 403(b) and 3405(c), which werepublished in conjunction with Notice92–48, have since been finalized. Finalregulations under Code §§ 402(c) and3405(c) now address withholding on em-ployer securities and the treatment of planloan offset amounts, and new regulationshave been published under Code §401(a)(31), and also under § 402(f) (relat-ing to paperless technologies).

SAFE HARBOR AND ALTERNATIVEEXPLANATION

This notice contains an updated modelwritten explanation (“Safe Harbor Expla-nation”) that meets the requirements ofCode § 402(f) if it is provided to the re-cipient of an eligible rollover distributionwithin a reasonable period of time beforethe distribution is made. In general, under§ 1.402(f)–1 of the regulations, a reason-able period of time for providing an ex-planation is no less than 30 days and nomore than 90 days before the date onwhich a distribution is made.

In using the Safe Harbor Explanation, aplan administrator may “customize” theSafe Harbor Explanation by omitting anyportion that could not apply to the plan.For example, if the plan does not holdafter-tax employee contributions, theparagraph headed “Non-taxable Pay-ments” could be eliminated. Similarly, ifthe plan does not provide for distributionsof employer stock or other employer se-

February 7, 2000 572 2000–6 I.R.B.

curities, the paragraph headed “EmployerStock or Securities” could be eliminated.Other paragraphs that may not be relevantto a particular plan include, for example,“Payments Spread Over Long Periods,”“Direct Rollover of a Series of Pay-ments,” “Special Tax Treatment,” “Hard-ship Distributions,” and “Repayment ofPlan Loans.” In addition, a plan adminis-trator may provide additional informationwith the Safe Harbor Explanation, if theinformation is not inconsistent with theSafe Harbor Explanation.

Alternatively, a plan administrator cansatisfy § 402(f) by providing distributeeswith an explanation that is different fromthe Safe Harbor Explanation. Any expla-nation must contain the information re-quired by § 402(f) and must be written ina manner designed to be easily under-stood.

If the law governing the tax treatmentof distributions or the other provisionscovered by the Safe Harbor Explanationis amended after publication of this no-tice, the Safe Harbor Explanation will notsatisfy § 402(f) to the extent that the SafeHarbor Explanation no longer accuratelydescribes the relevant law.

EFFECT ON OTHER DOCUMENT

Notice 92–48 is obsoleted.

REQUEST FOR COMMENTS

The preamble to the proposed regula-tions under § 402(f) that were issued inDecember 1998 included an example ofa summary § 402(f) notice that the Ser-vice and Treasury believe satisfies therequirements for a summary notice setforth in those proposed regulations. See63 Fed. Reg. 70071, 70074 (December18, 1998). The example was not in-tended as a model summary or as the ex-clusive form for such a summary. How-ever, the Service and the Treasurybelieve that additional guidance provid-ing one or more additional examples ofsummary notices may be appropriate.Accordingly, the Service and Treasuryinvite comments and suggestions frominterested parties concerning the devel-opment of additional examples for usein the circumstances described in thoseproposed regulations. We encourageinterested parties to submit examples ofsummary notices that may be used in thedevelopment of further guidance.

Comments related to this notice, in-cluding comments with respect to sum-mary § 402(f) notices, can be addressed toCC:DOM:CORP:R (Notice 2000–11),room 5228, Internal Revenue Service,POB 7604, Ben Franklin Station, Wash-ington, DC 20044. In the alternative,comments may be hand delivered be-tween the hours of 8 a.m.and 5 p.m. toCC:DOM:CORP:R (Notice 2000–11),Courier’s Desk, Internal Revenue Ser-vice, 1111 Constitution Avenue NW,Washington, DC. Alternatively, taxpay-ers may transmit comments electronicallyvia the IRS Internet site at:http://www.irs.gov/tax_regs/regslist.html.

DRAFTING INFORMATION

The principal authors of this notice areSteven Linder of the Tax Exempt andGovernment Entities Division (T:EP) andAmy L. Speetjens of the Office of ChiefCounsel (EBEO). For further informationregarding this notice, contact the Em-ployee Plans taxpayer assistance tele-phone service between the hours of 1:30and 3:30 P.M. Eastern time, Mondaythrough Thursday by calling (202) 622-6074. Mr. Linder can be reached at (202)622-6214. Ms. Speetjens can be reachedat (202) 622-6090. (These telephonenumbers are not toll-free numbers.)

TEXT OF THE SAFE HARBOREXPLANATION

SPECIAL TAX NOTICE REGARDINGPLAN PAYMENTS

This notice contains important infor-mation you will need before you decidehow to receive your Plan benefits.

This notice is provided to you by [IN-SERT NAME OF PLAN ADMINISTRA-TOR] (your “Plan Administrator”) be-cause all or part of the payment that youwill soon receive from the [INSERTNAME OF PLAN] (the “Plan”) may beeligible for rollover by you or your PlanAdministrator to a traditional IRA or an-other qualified employer plan. A “tradi-tional IRA” does not include a Roth IRA,SIMPLE IRA, or education IRA.

If you have additional questions afterreading this notice, you can contact yourplan administrator at [INSERT PHONENUMBER OR OTHER CONTACT IN-FORMATION]

SUMMARY

There are two ways you may be able toreceive a Plan payment that is eligible forrollover: (1) certain payments can be made directlyto a traditional IRA or, if you choose, an-other qualified employer plan that will ac-cept it (“DIRECT ROLLOVER”), or(2) the payment can be PAID TO YOU.

If you choose a DIRECT ROLLOVER•• Your payment will not be taxed in thecurrent year and no income tax will bewithheld.•• Your payment will be made directlyto your traditional IRA or, if youchoose, to another qualified employerplan that accepts your rollover. YourPlan payment cannot be rolled over to aRoth IRA, a SIMPLE IRA, or an edu-cation IRA because these are not tradi-tional IRAs.•• Your payment will be taxed laterwhen you take it out of the traditionalIRA or the qualified employer plan.If you choose to have a Plan payment

that is eligible for rollover PAID TO YOU•• You will receive only 80% of the pay-ment, because the Plan Administrator isrequired to withhold 20% of the pay-ment and send it to the IRS as incometax withholding to be credited againstyour taxes.•• Your payment will be taxed in thecurrent year unless you roll it over.Under limited circumstances, you maybe able to use special tax rules thatcould reduce the tax you owe. How-ever, if you receive the payment beforeage 59-1/2, you also may have to payan additional 10% tax.•• You can roll over the payment bypaying it to your traditional IRA or toanother qualified employer plan thataccepts your rollover within 60 daysafter you receive the payment. Theamount rolled over will not be taxeduntil you take it out of the traditionalIRA, or the qualified employer plan.•• If you want to roll over 100% ofthe payment to a traditional IRA oranother qualified employer plan, youmust find other money to replace the20% that was withheld. If you rollover only the 80% that you received,you will be taxed on the 20% thatwas withheld and that is not rolledover.

2000–6 I.R.B. 573 February 7, 2000

MORE INFORMATION

I. PAYMENTS THATCAN AND CANNOT BE ROLLED OVER . . . . . . . . . . . . . . . . .[ ]

II. DIRECT ROLLOVER . . . . . . . . . .[ ]

III . PAYMENT PAID TO YOU . . . . . .[ ]

IV. SURVIVING SPOUSES, ALTERNATE PAYEES, AND OTHER BENEFICIARIES . . . . .[ ]

I. PAYMENTS THAT CAN AND CANNOTBE ROLLED OVER

Payments from the Plan may be “eligi-ble rollover distributions.” This meansthat they can be rolled over to an IRA orto another employer plan that acceptsrollovers. Payments from a plan cannotbe rolled over to a Roth IRA, a SIMPLEIRA, or an education IRA. Your Plan ad-ministrator should be able to tell you whatportion of your payment is an eligiblerollover distribution. The following types of payments cannotbe rolled over:

Non-taxable Payments. In general,only the “taxable portion” of your pay-ment can be rolled over. If you havemade “after-tax” employee contributionsto the Plan, these contributions will benon-taxable when they are paid to you,and they cannot be rolled over. (After-taxemployee contributions generally are con-tributions you made from your own paythat were already taxed.) Your Plan Ad-ministrator should be able to tell you howmuch of your payment is the taxable por-tion and how much is the after-tax em-ployee contribution portion.

Payments Spread over Long Periods.You cannot roll over a payment if it is partof a series of equal (or almost equal) pay-ments that are made at least once a yearand that will last for

•• your lifetime (or your life ex-pectancy), or •• your lifetime and your beneficiary’slifetime (or life expectancies), or•• a period of ten years or more.Required Minimum Payments.Begin-

ning when you reach age 70-1/2 or retire,whichever is later, a certain portion ofyour payment cannot be rolled over be-cause it is a “required minimum payment”that must be paid to you. Special rulesapply if you own 5% or more of your em-

ployer.Hardship Distributions. A hardship dis-

tribution from your employer’s 401(k)plan may not be eligible for rollover.Your Plan Administrator should be able totell you if your payment includes amountswhich cannot be rolled over.

II. DIRECT ROLLOVER

A DIRECT ROLLOVER is a directpayment of the amount of your Plan bene-fits to a traditional IRA or another quali-fied employer plan that will accept it.You can choose a DIRECT ROLLOVERof all or any portion of your payment thatis an eligible rollover distribution, as de-scribed in Part I above. You are not taxedon any portion of your payment for whichyou choose a DIRECT ROLLOVER untilyou later take it out of the traditional IRAor qualified employer plan. In addition,no income tax withholding is required forany portion of your Plan benefits forwhich you choose a DIRECTROLLOVER.

DIRECT ROLLOVER to a TraditionalIRA. You can open a traditional IRA toreceive the direct rollover. If you chooseto have your payment made directly to atraditional IRA, contact an IRA sponsor(usually a financial institution) to find outhow to have your payment made in a di-rect rollover to a traditional IRA at that in-stitution. If you are unsure of how to in-vest your money, you can temporarilyestablish a traditional IRA to receive thepayment. However, in choosing a tradi-tional IRA, you may wish to considerwhether the traditional IRA you choosewill allow you to move all or a part ofyour payment to another traditional IRAat a later date, without penalties or otherlimitations. See IRS Publication 590, In-dividual Retirement Arrangements, formore information on traditional IRAs (in-cluding limits on how often you can rollover between IRAs).

DIRECT ROLLOVER to a Plan. If youare employed by a new employer that hasa qualified employer plan, and you want adirect rollover to that plan, ask the PlanAdministrator of that plan whether it willaccept your rollover. A qualified em-ployer plan is not legally required to ac-cept a rollover. If your new employer’splan does not accept a rollover, you canchoose a DIRECT ROLLOVER to a tra-ditional IRA.

DIRECT ROLLOVER of a Series ofPayments. If you receive a payment thatcan be rolled over to a traditional IRA oranother qualified employer plan that willaccept it, and it is paid in a series for lessthan ten years, your choice to make or notmake a DIRECT ROLLOVER for a pay-ment will apply to all later payments inthe series until you change your election.You are free to change your election forany later payment in the series.

III. PAYMENT PAID TO YOU

If your payment can be rolled overunder Part I above and the payment ismade to you in cash, it is subject to 20%income tax withholding. The payment istaxed in the year you receive it unless,within 60 days, you roll it over to a tradi-tional IRA or another qualified employerplan that accepts rollovers. If you do notroll it over, special tax rules may apply.

Income Tax Withholding:Mandatory Withholding.If any portion

of your payment can be rolled over underPart I above and you do not elect to makea DIRECT ROLLOVER, the Plan is re-quired by law to withhold 20% of thatamount. This amount is sent to the IRS asincome tax withholding. For example, ifyou can roll over a payment of $10,000,only $8,000 will be paid to you becausethe Plan must withhold $2,000 as incometax. However, when you prepare your in-come tax return for the year, you must re-port the full $10,000 as a payment fromthe Plan. You must report the $2,000 astax withheld, and it will be creditedagainst any income tax you owe for theyear.

Voluntary Withholding. If any portionof your payment is taxable but cannot berolled over under Part I above, the manda-tory withholding rules described above donot apply. In this case, you may elect notto have withholding apply to that portion.To elect out of withholding, ask the PlanAdministrator for the election form andrelated information.

Sixty-Day Rollover Option. If you re-ceive a payment that can be rolled overunder Part I above, you can still decide toroll over all or part of it to a traditionalIRA or another qualified employer planthat accepts rollovers. If you decide toroll over, you must contribute the amountof the payment you received to a tradi-tional IRA or another qualified plan

February 7, 2000 574 2000–6 I.R.B.

within 60 days after you receive the pay-ment. The portion of your payment that isrolled over will not be taxed until youtake it out of the traditional IRA or thequalified employer plan.

You can roll over up to 100% of yourpayment that can be rolled over underPart I above, including an amount equalto the 20% that was withheld. If youchoose to roll over 100%, you must findother money within the 60-day period tocontribute to the traditional IRA or thequalified employer plan, to replace the20% that was withheld. On the otherhand, if you roll over only the 80% thatyou received, you will be taxed on the20% that was withheld.

Example: The portion of your payment that canbe rolled over under Part I above is $10,000, andyou choose to have it paid to you. You will receive$8,000, and $2,000 will be sent to the IRS as incometax withholding. Within 60 days after receiving the$8,000, you may roll over the entire $10,000 to a tra-ditional IRA or a qualified employer plan. To dothis, you roll over the $8,000 you received from thePlan, and you will have to find $2,000 from othersources (your savings, a loan, etc.). In this case, theentire $10,000 is not taxed until you take it out of thetraditional IRA or the qualified employer plan. Ifyou roll over the entire $10,000, when you file yourincome tax return you may get a refund of part or allof the $2,000 withheld.

If, on the other hand, you roll over only $8,000,the $2,000 you did not roll over is taxed in the yearit was withheld. When you file your income tax re-turn you may get a refund of part of the $2,000 with-held. (However, any refund is likely to be larger ifyou roll over the entire $10,000.)

Additional 10% Tax If You Are underAge 59-1/2. If you receive a payment be-fore you reach age 59-1/2 and you do notroll it over, then, in addition to the regularincome tax, you may have to pay an extratax equal to 10% of the taxable portion ofthe payment. The additional 10% taxgenerally does not apply to (1) paymentsthat are paid after you separate from ser-vice with your employer during or afterthe year you reach age 55, (2) paymentsthat are paid because you retire due to dis-ability, (3) payments that are paid as equal(or almost equal) payments over your lifeor life expectancy (or your and your bene-ficiary’s lives or life expectancies), (4)dividends paid with respect to stock by anemployee stock ownership plan (ESOP)as described in Code section 404(k), (5)payments that are paid directly to the gov-ernment to satisfy a federal tax levy, (6)payments that are paid to an alternatepayee under a qualified domestic relationsorder, or (7) payments that do not exceed

the amount of your deductible medicalexpenses. See IRS Form 5329 for moreinformation on the additional 10% tax.

Special Tax Treatment If You Were Bornbefore January 1, 1936. If you receive apayment that can be rolled over underPart I and you do not roll it over to a tradi-tional IRA or other qualified employerplan that will accept it, the payment willbe taxed in the year you receive it. How-ever, if the payment qualifies as a “lumpsum distribution,” it may be eligible forspecial tax treatment. (See also “Em-ployer Stock or Securities”, below.) Alump sum distribution is a payment,within one year, of your entire balanceunder the Plan (and certain other similarplans of the employer) that is payable toyou afteryou have reached age 59-1/2 orbecause you have separated from servicewith your employer (or, in the case of aself-employed individual, after you havereached age 59-1/2 or have become dis-abled). For a payment to be treated as alump sum distribution, you must havebeen a participant in the plan for at leastfive years before the year in which you re-ceived the distribution. The special taxtreatment for lump sum distributions thatmay be available to you is describedbelow.

Ten-Year Averaging. If you receive alump sum distribution and you wereborn before January 1, 1936, you canmake a one-time election to figure thetax on the payment by using “10-yearaveraging” (using 1986 tax rates). Ten-year averaging often reduces the taxyou owe.

Capital Gain Treatment.If you re-ceive a lump sum distribution and youwere born before January 1, 1936 andif you were a participant in the Plan be-fore 1974, you may elect to have thepart of your payment that is attributableto your pre-1974 participation in thePlan taxed as long-term capital gain ata rate of 20%.There are other limits on the special tax

treatment for lump sum distributions. Forexample, you can generally elect this spe-cial tax treatment only once in your life-time, and the election applies to all lumpsum distributions that you receive in thatsame year. If you have previously rolledover a distribution from the Plan (or cer-tain other similar plans of the employer),you cannot use this special averaging

treatment for later payments from thePlan. If you roll over your payment to atraditional IRA, you will not be able touse special tax treatment for later pay-ments from the traditional IRA. Also, ifyou roll over only a portion of your pay-ment to a traditional IRA, this special taxtreatment is not available for the rest ofthe payment. See IRS Form 4972 for ad-ditional information on lump sum distrib-utions and how you elect the special taxtreatment.

Employer Stock or Securities. There isa special rule for a payment from the Planthat includes employer stock (or otheremployer securities). To use this specialrule, 1) the payment must qualify as alump sum distribution, as describedabove, except that you do not need fiveyears of plan participation, or 2) the em-ployer stock included in the paymentmust be attributable to “after-tax” em-ployee contributions, if any. Under thisspecial rule, you may have the option ofnot paying tax on the “net unrealized ap-preciation” of the stock until you sell thestock. Net unrealized appreciation gener-ally is the increase in the value of the em-ployer stock while it was held by the Plan.For example, if employer stock was con-tributed to your Plan account when thestock was worth $1,000 but the stock wasworth $1,200 when you received it, youwould not have to pay tax on the $200 in-crease in value until you later sold thestock.

You may instead elect not to have thespecial rule apply to the net unrealized ap-preciation. In this case, your net unreal-ized appreciation will be taxed in the yearyou receive the stock, unless you roll overthe stock. The stock (including any netunrealized appreciation) can be rolledover to a traditional IRA or another quali-fied employer plan, either in a directrollover or a rollover that you make your-self.

If you receive only employer stock in apayment that can be rolled over, noamount will be withheld from the pay-ment. If you receive cash or propertyother than employer stock, as well as em-ployer stock, in a payment that can berolled over, the 20% withholding amountwill be based on the entire amount paid toyou (including the employer stock but ex-cluding the net unrealized appreciation).However, the amount withheld will be

2000–6 I.R.B. 575 February 7, 2000

limited to the cash or property (excludingemployer stock) paid to you.

If you receive employer stock in a pay-ment that qualifies as a lump sum distrib-ution, the special tax treatment for lumpsum distributions described above (suchas 10-year averaging) also may apply.See IRS Form 4972 for additional infor-mation on these rules.

Repayment of Plan Loans. If you endyour employment and have an outstand-ing loan from your Plan, your employermay reduce (or “offset”) your balance inthe Plan by the amount of the loan youhave not repaid. The amount of your loanoffset is treated as a distribution to you atthe time of the offset and will be taxed un-less you roll over an amount equal to theamount of your loan offset to anotherqualified employer plan or a traditionalIRA within 60 days of the date of the off-set. If the amount of your loan offset isthe only amount you receive or are treatedas having received, no amount will bewithheld from it. If you receive otherpayments of cash or property from thePlan, the 20% withholding amount will bebased on the entire amount paid to you,including the amount of the loan repay-ment. The amount withheld will be lim-ited to the amount of other cash or prop-erty paid to you (other than any employersecurities).

IV. SURVIVING SPOUSES, ALTERNATEPAYEES, AND OTHER BENEFICIARIES

In general, the rules summarized abovethat apply to payments to employees alsoapply to payments to surviving spouses of

employees and to spouses or formerspouses who are “alternate payees.” Youare an alternate payee if your interest inthe Plan results from a “qualified domes-tic relations order,” which is an order is-sued by a court, usually in connectionwith a divorce or legal separation. Someof the rules summarized above also applyto a deceased employee’s beneficiary whois not a spouse. However, there are someexceptions for payments to survivingspouses, alternate payees, and other bene-ficiaries that should be mentioned.

If you are a surviving spouse, you maychoose to have a payment that can berolled over, as described in Part I above,paid in a DIRECT ROLLOVER to a tra-ditional IRA or paid to you. If you havethe payment paid to you, you can keep itor roll it over yourself to a traditional IRAbut you cannot roll it over to a qualifiedemployer plan. If you are an alternatepayee, you have the same choices as theemployee. Thus, you can have the pay-ment paid as a direct rollover or paid toyou. If you have it paid to you, you cankeep it or roll it over yourself to a tradi-tional IRA or to another qualified em-ployer plan that accepts rollovers.

If you are a beneficiary other than thesurviving spouse, you cannot choose a di-rect rollover, and you cannot roll over thepayment yourself.

If you are a surviving spouse, an alter-nate payee, or another beneficiary, yourpayment is generally not subject to the ad-ditional 10% tax described in section IIIabove, even if you are younger than age59-1/2.

If you are a surviving spouse, an alter-nate payee, or another beneficiary, youmay be able to use the special tax treat-ment for lump sum distributions and thespecial rule for payments that include em-ployer stock, as described in section IIIabove. If you receive a payment becauseof the employee’s death, you may be ableto treat the payment as a lump sum distri-bution if the employee met the appropri-ate age requirements, whether or not theemployee had 5 years of participation inthe Plan.

HOW TO OBTAIN ADDITIONALINFORMATION

This notice summarizes only the federal(not state or local) tax rules that mightapply to your payment. The rules describedabove are complex and contain many con-ditions and exceptions that are not includedin this notice. Therefore, you may want toconsult with the Plan Administrator or aprofessional tax advisor beforeyou take apayment of your benefits from your Plan.Also, you can find more specific informa-tion on the tax treatment of payments fromqualified retirement plans in IRS Publica-tion 575, Pension and Annuity Income, andIRS Publication 590, Individual RetirementArrangements. These publications areavailable from your local IRS office, on theIRS’s Internet Web Site at www.irs.gov,orby calling 1-800-TAX- FORMS.

February 7, 2000 576 2000–6 I.R.B.

Notice of Proposed Rulemakingand Notice of Public Hearing

Source of Compensation forLabor or Personal Services

REG–208254–90

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Notice of proposed rulemak-ing and notice of public hearing.

SUMMARY: This document contains aproposed Income Tax Regulation describ-ing the appropriate basis for determiningthe source of income from labor or per-sonal services performed partly withinand partly without the United States. Thisproposed regulation would modify theexisting final regulation under section 861of the Internal Revenue Code (Code).This regulation would affect foreign andUnited States persons that perform ser-vices partly within and partly without theUnited States during the taxable year.This document also provides a notice of apublic hearing on this proposed regula-tion.

DATES: Written and electronic commentsand outlines of topics to be discussed atthe public hearing scheduled for April 19,2000, must be received by March 29,2000.

ADDRESSES: Send submissions to:CC:DOM:CORP:R (REG–208254–90),room 5226, Internal Revenue Service, POB7604, Ben Franklin Station, Washington,DC 20044. Submissions may be hand de-livered Monday through Friday betweenthe hours of 8 a.m. and 5 p.m. to:CC:DOM:CORP:R (REG–208254–90),Courier’s Desk, Internal Revenue Service,1111 Constitution Avenue, NW., Washing-ton, DC. Alternatively, taxpayers may sub-mit comments electronically via the Inter-net by selecting the “Tax Reg” option onthe IRS Home Page, or by submitting com-ments directly to the IRS Internet site athttp://www.irs.gov/tax_regs/regslist.html.The public hearing will be held at 10 a.m.in room 2615, Internal Revenue Building,1111 Constitution Avenue, NW., Washing-ton DC.

FOR FURTHER INFORMATION CON-TACT: Concerning the proposed regula-tion, David Bergkuist of the Office of As-sociate Chief Counsel (International),within the Office of Chief Counsel, (202)622-3850; concerning submission ofcomments, the hearing, and/or to beplaced on the building access list to attendthe hearing, LaNita Van Dyke (202) 622-7180 (not toll free numbers).

SUPPLEMENTARY INFORMATION:

Background

This document contains proposedamendments to the Income Tax Regula-tions (26 CFR Part 1) under section 861of the Internal Revenue Code (Code).These amendments modify the applica-tion of the existing final regulation relat-ing to the determination of the source ofincome from the performance of labor orpersonal services when such labor or per-sonal services are performed partly withinand partly without the United States.

Explanation of Provisions

Section 861(a)(3) of the Code provides,in general, that compensation for the per-formance of labor or personal serviceswithin the United States is treated as grossincome from sources within the UnitedStates. Generally, under current§1.861–4(b)(1)(i) of the Income Tax Reg-ulations, if a specific amount is paid forlabor or personal services performed inthe United States, that amount shall be in-cluded in United States source gross in-come. If no accurate allocation or segre-gation of amounts paid as compensationfor labor or personal services performedin the United States can be made, or whensuch compensation is paid for labor orpersonal service performed partly withinand partly without the United States, thisregulation provides that the amount to beincluded in gross income from sourceswithin the United States shall be deter-mined on the basis that most correctly re-flects the proper source of income underthe facts and circumstances of the particu-lar case. In many cases, the facts and cir-cumstances will be such that an appor-tionment on a time basis will beacceptable; that is, the amount to be in-cluded in gross income from sources

within the United States will be thatamount that bears the same relation to thetotal compensation as the number of daysof performance of the labor or servicewithin the United States bears to the totalnumber of days of performance of laboror services for which the payment ismade. In other cases, the facts and cir-cumstances will be such that anothermethod of apportionment will be accept-able.

The IRS understands that, under thecurrent regulations, U.S. individualsposted overseas and foreign individualsposted to the United States generally ap-portion compensation on a time basis.However, the IRS has become aware thatunder the facts and circumstances test ofthe current regulations, U.S. individualsare taking the position that certain fringebenefits associated with an overseas post-ing by their employer should be consid-ered compensation for labor or personalservices performed outside the UnitedStates and treated entirely as foreignsource income even though some servicesare performed within the United Statesduring the time of the overseas posting.Conversely, foreign individuals posted tothe United States are taking the positionthat fringe benefits associated with theirU.S. posting should be apportioned be-tween compensation for labor or personalservices performed within and without theUnited States based upon the amount oftime spent in each jurisdiction and wouldbe partly U.S. and partly foreign sourceincome. In addition, under the currentregulations, similarly situated taxpayersmay be treated differently dependingupon how their employers account for anyforeign posting fringe benefits. Where anemployer separately states the value of afringe benefit, a U.S. individual postedoverseas may argue that the fringe benefitis entirely compensation for labor or per-sonal services performed outside theUnited States and foreign source. How-ever, another employee receiving thesame amount of additional compensationas part of a foreign posting, but where thatbenefit is not separately stated, will oftenbe required to apportion this benefit onthe basis of time. Finally, the current reg-ulations may allow U.S. individuals totake an inconsistent position for U.S. and

2000–6 I.R.B. 577 February 7, 2000

Part IV. Items of General Interest

February 7, 2000 578 2000–6 I.R.B.

foreign tax purposes with respect to thesource of fringe benefits associated withan overseas posting and avoid all tax onsuch compensation.

Treasury and the IRS have determinedthat an individual who performs labor orpersonal services partly within andpartly without the United States during aspecific time period should apportionthe services income, including any in-come in the nature of fringe benefits, be-tween compensation for labor or per-sonal services performed within andwithout the United States on a timebasis. The amount of compensationpaid for labor or personal services per-formed in the United States, as deter-mined under proposed §1.861–4(b), willconstitute United States source incomeunless an exception applies under§1.861–4(a). A time basis test for indi-viduals will provide certainty as well asease of administration for both taxpay-ers and the IRS. A time basis test willalso prevent the possibility of in-boundtaxpayers taking a time basis apportion-ment position to apportion a portion oftheir United States posting fringe bene-fits back to their home country whilesimilarly situated out-bound taxpayerstake a facts and circumstances positionto allocate all of their fringe benefits toforeign sources. This rule will alsoeliminate any disparate treatment ofsimilarly situated taxpayers that mightoccur due to their employer’s method ofwage accounting. Finally, Treasury andthe IRS believe that this rule will limitthe potential for individuals to take in-consistent positions for U.S. and foreigntax purposes with respect to the sourceof their fringe benefits and avoid all tax.

Treasury and the IRS have further de-termined that, with respect to personsother than an individual, an apportion-ment based upon all of the facts and cir-cumstances available, for example, an ap-portionment based upon payroll expensesor capital and intangibles employed, maybetter reflect the proper source of suchcompensation. In many situations, an ap-portionment on a time basis may be ac-ceptable.

The proposed regulation would deleteas obsolete current §1.861–4(b)(2), con-taining rules applicable to taxable yearsbeginning before January 1, 1976.

Proposed Effective Date

These regulations are proposed to beapplicable for taxable years beginning onor after the date they are published in theFederal Registeras final regulations.

Special Analyses

It has been determined that this pro-posed rulemaking is not a significant reg-ulatory action as defined in ExecutiveOrder 12866. Therefore, a regulatory as-sessment is not required. It has also beendetermined that section 553(b) of the Ad-ministrative Procedure Act (5 U.S.C.Chapter 5) does not apply to this regula-tion, and, because this regulation does notimpose a collection of information onsmall entities, the Regulatory FlexibilityAct (5 U.S.C. Chapter 6) do not apply.Pursuant to section 7805(f) of the InternalRevenue Code, this notice of proposedrulemaking will be submitted the ChiefCounsel for Advocacy of the Small Busi-ness Administration for comment on itsimpact on small business.

Comments and Public Hearing

Before this proposed regulation isadopted as a final regulation, considera-tion will be given to any written com-ments (a signed original and eight (8)copies) and electronic comments that aresubmitted timely to the IRS. The IRS andTreasury Department request commentson the clarity of the proposed rule andhow it may be made easier to understand.All comments will be available for publicinspection and copying.

A public hearing has been scheduledfor April 19, 2000, beginning at 10 a.m. inroom 2615 of the Internal Revenue Build-ing, 1111 Constitution Avenue, NW.,Washington, DC. Due to building secu-rity procedures, visitors must enter at the10th Street entrance, located betweenConstitution and Pennsylvania Avenues,NW. In addition, all visitors must presentphoto identification to enter the building.Because of access restrictions, visitorswill not be admitted beyond the immedi-ate entrance area more than 15 minutesbefore the hearing starts. For informationabout having your name placed on thebuilding access list to attend the hearing,see the “FOR FURTHER INFORMA-TION CONTACT” section of this pream-ble.

The rules of 26 CFR 601.601(a)(3)apply to the hearing. Persons who wish topresent oral comments at the hearing mustsubmit written comments and an outlineof the topics to be discussed and the timeto be devoted to each topic (signed origi-nal and eight (8) copies) by March 29,2000. A period of 10 minutes will be al-lotted to each person for making com-ments. An agenda showing the schedul-ing of the speakers will be prepared afterthe deadline for receiving outlines haspassed. Copies of the agenda will beavailable free of charge at the hearing.

Drafting Information

The principal author of this regulationis David Bergkuist of the Office of Asso-ciate Chief Counsel (International),within the Office of Chief Counsel, Inter-nal Revenue Service. However, otherpersonnel from the IRS and Treasury De-partment participated in its development.

* * * * *

Proposed Amendments to theRegulations

Accordingly, 26 CFR part 1 is pro-posed to be amended as follows:

PART 1—INCOME TAX

Paragraph 1. The authority citation forpart 1 continues to read in part as follows:

Authority: 26 U.S.C. 7805. * * *Par. 2. Section 1.861–4 is amended as

follows:1. The heading for paragraph (a)(1) is

revised.2. A new sentence is added at the be-

ginning of paragraph (a)(1).3. Paragraphs (b) and (d) are revised.The addition and revisions read as fol-

lows: §1.861–4 Compensation for labor or per-sonal services.

(a) Compensation for labor or personalservices performed within the UnitedStates. (1) Generally, a specific amountpaid for labor or personal services per-formed in the United States is gross in-come from sources within the UnitedStates. * * ** * * * *

(b) Compensation for labor or per-sonal services performed partly withinand partly without the United States—(l) Persons other than individuals. If a

2000–6 I.R.B. 579 February 7, 2000

taxpayer other than an individual re-ceives compensation for a specific timeperiod for labor or personal services per-formed partly within and partly withoutthe United States, the amount of com-pensation for labor or personal servicesperformed in the United States shall bedetermined on the basis that most cor-rectly reflects the proper source of theincome under the facts and circum-stances of the particular case. To the ex-tent that a determination is made on atime basis, the time period to which thecompensation for services relates is pre-sumed to be the taxable year of the tax-payer in which the services are per-formed unless the taxpayer establishesto the satisfaction of the Commissioner,or the Commissioner determines, achange in circumstances that establishesa distinct, separate, and continuous pe-riod of time.

(2) Individuals. If an individual re-ceives compensation, including fringebenefits, for a specific time period forlabor or personal services that are per-formed partly within and partly withoutthe United States, the amount of com-pensation for labor or personal servicesperformed within the United States shallbe determined on a time basis. Anamount of compensation for labor orpersonal services performed in theUnited States determined on a time basisis an amount that bears the same relationto the total compensation as the numberof days of performance of the labor orservices within the United States bearsto the total number of days of perfor-mance of labor or services for which thecompensation payment is made. Thetime period to which the compensationfor services relates is presumed to be thecalendar year in which the services areperformed, unless the taxpayer estab-lishes to the satisfaction of the Commis-sioner, or the Commissioner determines,a change in circumstances that estab-lishes a distinct, separate, and continu-ous period of time. For example, atransfer from a position in the UnitedStates to a foreign posting during theyear would generally establish two sepa-rate time periods. However, a foreignposting that requires short-term returnsto the United States to perform servicesfor the employer would not be sufficientto establish a distinct, separate, and con-

tinuous time period within the foreignposting time period. Short-term returnsto the United States during the separatetime period of the foreign posting wouldbe relevant to the apportionment ofcompensation relating to such time pe-riod.

(3) Examples. The following exam-ples illustrate the application of this para-graph (b):

Example 1. Corp X, a United States corporation,receives compensation of $15,000 under a contractfor services to be performed concurrently in theUnited States and in several foreign countries at dif-fering rates of compensation by numerous Corp Xemployees during the taxable year. The employeesperforming services under this contract performtheir services exclusively in one jurisdiction and donot work both within and without the United Statesduring the taxable year. The payroll costs for em-ployees performing services in the United States as-sociated with these contract services is $2,000 out ofa total contract payroll cost of $3,000. Since the em-ployees add relatively different amounts of value tothe product, a time basis test is not the best testunder the facts and circumstances of this particularcase. An apportionment of the income receivedunder the contract based upon relative payroll costswould be the basis that most correctly reflects theproper source of the income. Thus, $10,000 of thecompensation received under this contract will becompensation for labor or personal services per-formed in the United States ($15,000 x$2,000/$3,000).

Example 2. Corp X, a United States corporation,receives compensation of $15,000 under a contractfor services. Corp X is able to perform the servicesnecessary to fulfill its obligation under the contractby assigning only three of its employees, each withthe same rate of compensation, to render servicesboth within and without the United States during thetaxable year. Since the rate of compensation is thesame, it can be assumed that all employees areadding the same value to the product. The totalnumber of employee-days necessary to complete thecontract is 30 days of which 10 days were spent per-forming services within the United States. Underthese facts and circumstances, an apportionment ona time basis would be the basis that most correctlyreflects the proper source of the income. Theamount of compensation for labor or personal ser-vices performed in the United States will be thatamount that bears the same relation to the total com-pensation as the number of days of performance ofthe labor or services within the United States bearsto the total number of days of performance of laboror services for which the payment is made. Thus,$5,000 will be compensation from labor or personalservices performed in the United States ($15,000 x10/30).

Example 3. B, a nonresident alien individual,was employed by M, a domestic corporation, fromMarch 1 to June 12 of the taxable year, a total of 104days, for which B received compensation in theamount of $12,240. Under the contract, B was sub-ject to call at all times by M and was in a paymentstatus on a 7-day week basis. Pursuant to the con-tract, B performed services within the United States

for 59 days and performed services without theUnited States for 45 days. Under subparagraph(b)(2) of this section, the amount of compensationfrom labor or personal services performed in theUnited States will be determined on a time basis andequal to $6,943.85 ($12,240 x 59/104).

Example 4. (i) A, a United States citizen, is em-ployed by a domestic corporation. A earns an annualsalary of $100,000. During the first quarter of thecalendar year, A’s post of duty is in the United Statesand A performs services entirely within the UnitedStates during this period. A is transferred to CountryX for the remaining three-quarters of the year, and,in addition to A’s annual salary, receives $75,000 infringe benefits that relate to the foreign posting.These fringe benefits are paid separately from A’sannual salary and are specifically stated to be ahousing allowance and an allowance for familyhome leave. Under A’s employment contract, A isrequired to work on a 5-day week basis, Mondaythrough Friday. During the last three quarters of theyear, A performs services 30 days in the UnitedStates and 150 days abroad.

(ii) A has $175,000 gross income for the taxableyear from the performance of services. A is able toclearly establish that A’s transfer created two dis-tinct, separate, and continuous time periods withinthe calendar year. Accordingly, $25,000 of the in-come designated as salary is attributable to the firstquarter of the year (one quarter of $100,000). Thisamount is allocated entirely to compensation forlabor or personal services performed in the UnitedStates. The balance of A’s adjusted gross income,$150,000 (which includes the $75,000 in fringe ben-efits that relate to the foreign posting), is compensa-tion allocated to services performed for the finalthree quarters of his taxable year. During the lastthree quarters of the year, A’s periodic performanceof services in the United States does not constitutedistinct, separate, and continuous periods of time.Of this $150,000 amount, $125,000 (150/180 x$150,000) is apportioned to compensation for laboror personal services performed outside the UnitedStates, and $25,000 (30/180 x $150,000) is appor-tioned to compensation for labor or personal ser-vices performed in the United States.

* * * * *(d) Effective date. Paragraphs (a) and

(c) of this section apply with respect totaxable years beginning after December31, 1966, however, the first sentence ofparagraph (a)(1) applies to taxable yearsbeginning on or after final regulations arepublished in the Federal Register. Para-graph (b) of this section applies to taxableyears beginning on or after final regula-tions are published in the Federal Regis-ter. For paragraph (b) of this section andcorresponding rules applicable to taxableyears beginning after December 31, 1966,and before the date final regulations arepublished in the Federal Register, see§1.861– 4(b) in effect prior to the datefinal regulations are published in the Fed-eral Register (26 CFR part 1 revised April1, 1999). For corresponding rules applic-

February 7, 2000 580 2000–6 I.R.B.

able to taxable years beginning beforeJanuary 1, 1967, see §1.861–4 in effectprior to October 2, 1975 (26 CFR part 1revised April 1, 1975).

Robert E. Wenzel,Deputy Commissioner

of Internal Revenue.

(Filed by the Office of the Federal Register on Janu-

ary 20, 2000, 8:45 a.m., and published in the issue of

the Federal Register for January 21, 2000, 65 F.R.

3401)

Notice of Proposed Rulemakingand Notice of Public Hearing

Guidance Under Section 356Relating to the Treatment ofNonqualified Preferred Stockand Other in Certain Exchangesand Distributions

REG–105089–99

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Notice of proposed rulemak-ing and notice of public hearing.

SUMMARY: This document containsproposed regulations providing guidancerelating to nonqualified preferred stock.The proposed regulations address the ef-fective date of the definition of nonquali-fied preferred stock and the treatment ofnonqualified preferred stock and similarpreferred stock received by shareholdersin certain reorganizations and distribu-tions. This document also provides noticeof a public hearing on these proposed reg-ulations.

DATES: Written or electronic commentsand requests to speak (with outlines oforal comments) at a public hearing sched-uled for 10 a.m., May 31, 2000, must bereceived by May 10, 2000.

ADDRESSES: Send submissions to:CC:DOM:CORP:R (REG–105089–99),Room 5226, Internal Revenue Service,POB 7604, Ben Franklin Station, Wash-ington, DC 20044. Submissions may behand delivered Monday through Fridaybetween the hours of 8 a.m. and 5 p.m. to:CC:DOM:CORP:R (REG–105089–99),Courier’s Desk, Internal Revenue Ser-vice, 1111 Constitution Avenue, NW.,

Washington, DC. Alternatively, taxpayersmay submit comments electronically viathe Internet by selecting the “Tax Regs”option on the IRS Home Page or by sub-mitting comments directly to the IRS In-ternet site athttp://www.irs.ustreas.gov/tax_regs/regslist.html. The public hearing will be heldin the NYU Classroom, Room 2615, In-ternal Revenue Building, 1111 Constitu-tion Avenue, NW., Washington, DC.

FOR FURTHER INFORMATION CON-TACT: Concerning the proposed regula-tions, Richard E. Coss, (202) 622-7790;concerning submissions of comments, thehearing, and/or to be placed on the build-ing access list to attend the hearing,LaNita Van Dyke, (202) 622-7180 (nottoll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

This document contains proposedamendments to the Income Tax Regula-tions (26 CFR part 1) under sections 354,355, 356, and 1036 of the Internal Rev-enue Code (the Code). Section 1014 ofthe Taxpayer Relief Act of 1997 (TRA of1997), Public Law 105-34, enacted onAugust 5, 1997, amended sections 351,354, 355, 356, and 1036 of the Code. Asamended, these sections, in general, pro-vide that nonqualified preferred stock (asdefined in section 351(g)(2)) (NQPS) re-ceived in an exchange or distribution willnot be treated as stock or securities but,instead, will be treated as “other prop-erty” or “boot.” As a result, the receipt ofNQPS in a transaction occurring after theNQPS provisions are effective will, un-less a specified exception applies, resultin gain (or, in some instances, loss) recog-nition. Section 351(g)(4) provides au-thority to issue regulations to carry out thepurposes of these provisions.

Section 351(g)(2)(A) defines NQPS aspreferred stock if (1) the holder has theright to require the issuer or a related per-son to redeem or purchase the stock, (2)the issuer or a related person is required toredeem or purchase the stock, (3) the is-suer or a related person has the right to re-deem or purchase the stock and, as of theissue date, it is more likely than not thatsuch right will be exercised, or (4) thedividend rate on the stock varies in wholeor in part (directly or indirectly) with ref-

erence to interest rates, commodity prices,or other similar indices. Factors (1), (2),and (3) above will cause an instrument tobe NQPS only if the right or obligationmay be exercised within 20 years of thedate the instrument is issued and suchright or obligation is not subject to a con-tingency which, as of the issue date,makes remote the likelihood of the re-demption or purchase.

These rights or obligations do not causepreferred stock to be NQPS in certain cir-cumstances described in section351(g)(2)(C). In one such exception, con-tained in section 351(g)(2)(C)(i)(II), a re-demption or purchase right shall not causestock to be NQPS if the stock containingthe right is transferred in connection withthe performance of services for the issueror a related person (and represents reason-able compensation), and the right may beexercised only upon the holder’s separa-tion from service.

The NQPS provisions also provide cer-tain exceptions to the treatment of NQPSas boot. Under sections 354(a)(2)(C),355(a)(3)(D), and 356(e)(2), NQPS istreated as stock, and not other property, incases where the NQPS is received in ex-change for, or in a distribution with re-spect to, NQPS. As a result, the receiptof NQPS in exchange for NQPS will notresult in gain or loss recognition.

Under prior law, preferred stock gener-ally did not constitute boot in a reorgani-zation or in a distribution under section355 of the Code. The legislative history ofthe NQPS provisions indicates that Con-gress was concerned about nonrecognitiontransactions in which a secure preferredstock instrument is received in exchangefor common stock or riskier preferredstock. The committee reports state that“[c]ertain preferred stocks have beenwidely used in corporate transactions toafford taxpayers non-recognition treat-ment, even though the taxpayers may re-ceive relatively secure instruments in ex-change for relatively risky investments,”and that “[t]he Committee believes thatwhen such preferred stock instruments arereceived in certain transactions, it is ap-propriate to view such instruments as tax-able consideration, since the investor hasoften obtained a more secure form of in-vestment.” H.R. Rep. No. 148, 105th

Cong., 1st Sess. 472 (1997); S. Rep. 33,105th Cong., 1st Sess. (1997).

2000–6 I.R.B. 581 February 7, 2000

The NQPS provisions apply to transac-tions after June 8, 1997, but will not applyto any transaction (1) made pursuant to awritten agreement which was binding onsuch date and at all times thereafter, (2)described in a ruling request submitted tothe IRS on or before such date, or (3) de-scribed in a public announcement or filingwith the Securities and Exchange Com-mission on or before such date. Section1014(f) of TRA of 1997.

A temporary regulation published asT.D. 8753 (1999–9 I.R.B. 6) in the Fed-eral Register on January 6, 1998, pro-vides that, notwithstanding contempora-neously issued final regulations treatingcertain rights to acquire stock as securitiesthat can be received tax-free in reorgani-zations and section 355 distributions, aright to acquire NQPS received in ex-change for stock other than NQPS (or fora right to acquire stock other than NQPS)will not be treated as a security, and thatNQPS received in exchange for stockother than NQPS (or for a right to acquirestock other than NQPS) will not betreated as stock or a security. The tempo-rary regulation added §1.356–6T, and ap-plies to NQPS (or a right to acquire suchstock) received in connection with atransaction occurring on or after March 9,1998 (other than transactions described insection 1014(f)(2) of TRA of 1997).

Explanation of Provisions

The proposed regulations address threetechnical issues relating to the question ofwhether certain preferred stock instru-ments qualify as NQPS.

The first issue addressed by the pro-posed regulations is whether stock de-scribed in section 351(g)(2) that was is-sued in a transaction on or before June 8,1997, qualifies as NQPS (even though thereceipt of such stock would not have beenboot because the transaction in which itwas received occurred prior to the NQPSprovisions’ effective date). Although theNQPS provisions generally are effectivewith respect to transactions occurringafter June 8, 1997, neither the effectivedate provisions of section 1014(f) of TRAof 1997 nor the legislative history of theNQPS provisions addresses this issue.

The proposed regulations provide thatstock described in section 351(g)(2) isNQPS regardless of the date on which thestock is issued. The IRS and Treasury be-

lieve that this represents the proper inter-pretation of the NQPS provisions; a con-trary interpretation would give rise to re-sults that are inconsistent with otherNQPS provisions and their underlyingpolicy.

For example, assume that corporation(T) issues preferred stock described insection 351(g)(2) to shareholder (X) in1996, and that X surrenders the T stockand receives NQPS of acquiring corpora-tion (P) in a reorganization occurring afterJune 8, 1997 (when the NQPS provisionsare effective). If the T preferred stock re-ceived in 1996 is not NQPS, X will recog-nize gain (if any) on the exchange. Thisresult is unwarranted, because X is not re-ceiving a more secure type of investmentfor a relatively risky type of investment,and exchanges of NQPS for NQPS areotherwise governed by the nonrecognitionrules of sections 354, 355, and 356.

The second issue addressed by the pro-posed regulations is the treatment ofNQPS received in a reorganization in ex-change for (or in a distribution with re-spect to) preferred stock that is not NQPSsolely because, at the time the originalstock was issued, a redemption or pur-chase right was not exercisable until aftera 20-year period beginning on the issuedate, or a redemption or purchase rightwas exercisable within a 20-year periodbut was subject to a contingency whichmade remote the likelihood of the re-demption or purchase, or, in the case of anissuer’s right to redeem or purchase stockdescribed in section 351(g)(2)(A)(iii),was unlikely to be exercised within a 20-year period beginning on the issue date(or because of any combination of thesereasons). To illustrate, assume that afterJune 8, 1997, T issues preferred stock toX that permits the holder to require T toredeem the stock on demand, but not be-fore the stock is held for 22 years. As-sume that seven years later, the T stock isexchanged in a reorganization for P pre-ferred stock with substantially identicalterms that permits the holder to require Pto redeem the stock after 15 years.

Technically, this transaction could beviewed as a taxable exchange because Xis receiving P stock that meets the defini-tion of NQPS in exchange for T stock thatis not NQPS (QPS). However, the IRSand Treasury believe that nonrecognitiontreatment is appropriate because the P

stock represents a continuation of theoriginal investment in the T stock.

The proposed regulations provide arule that treats the P stock received insuch transactions as QPS if the P stock issubstantially identical to the T preferredstock surrendered (or the T stock onwhich a distribution is made). The sub-stantially identical requirement is neces-sary to ensure that this rule does not per-mit the NQPS provisions to becircumvented through exchanges of QPSfor more secure NQPS. The P stock isconsidered to be substantially identical tothe T stock if two conditions are met. Thefirst condition is that the P stock does notcontain any terms which, in relation to theterms of the T stock, decrease the periodin which a redemption or purchase rightwill be exercised, increase the likelihoodthat such a right will be exercised, or ac-celerate the timing of the returns from thestock instrument (including the receipt ofdividends or other distributions). Thesecond condition is that, as a result of thereceipt of P stock in the transaction, theexercise of the right or obligation does notbecome more likely than not to occurwithin a 20-year period beginning on theissue date of the T stock. To illustrate thetwo conditions, if the P stock contains aterm that permits the stock to be re-deemed before the date on which the Tstock could be redeemed, or if, at the timeof the transaction, the T stock is not morelikely than not to be redeemed within a20-year period beginning on the issuedate of the T stock but the P stock is morelikely than not to be redeemed within a20-year period beginning on the issuedate of the T stock, the P stock is not sub-stantially identical to the T stock.

Under this rule, the P stock receivedwill continue to be treated as QPS in sub-sequent transactions, and similar princi-ples will apply to those transactions. Forexample, if the P stock is later exchangedin a reorganization for substantially iden-tical stock of another acquiring corpora-tion, the acquiring corporation stock willalso be treated as QPS. However, if the Pstock is later exchanged for stock de-scribed in section 351(g)(2) that is notsubstantially identical, the receipt of thestock will be treated as boot.

The third issue addressed by the pro-posed regulations is how to interpret theprovision that exempts from the definition

February 7, 2000 582 2000–6 I.R.B.

of NQPS certain preferred stock contain-ing a purchase or redemption right thatmay only be exercised on the holder’sseparation from service (compensationstock). To be exempted from the defini-tion of NQPS under this provision, stockmust be “transferred in connection withthe performance of services” and mustrepresent “reasonable compensation.” Acommentator has questioned how theserequirements apply in the context of a re-organization or distribution. The concernis that, when an employee of T receives Ppreferred stock in a reorganization in ex-change for T stock of equal value, the Pstock received could be considered trans-ferred in exchange for stock (rather thanfor services), or could be considered notto represent reasonable compensation (be-cause the P stock received in the equalvalue exchange represents no additionalcompensation to the employee). The leg-islative history of the NQPS provisionsdoes not address these ambiguities.

The IRS and Treasury believe that theexemption for compensation stock is in-tended to apply in situations where an em-ployee previously received compensationstock and then surrenders that stock in a re-organization in exchange for new compen-sation stock containing a similar purchaseor redemption right that can only be exer-cised upon separation from service. Theproposed regulations provide a rule thattreats the P preferred stock received in suchtransactions as satisfying the “transferred inconnection with the performance of ser-vices” and the “reasonable compensation”requirements if the T stock surrendered (orthe T stock on which a distribution is made)was originally transferred to the T em-ployee in connection with the performanceof services and represented reasonablecompensation at the time of the transfer.This rule applies regardless of whether theT stock is common or preferred stock. Noinference is intended regarding the mean-ing of the phrases “transferred in connec-tion with the performance of services” and“reasonable compensation” for purposesother than the exemption from the defini-tion of NQPS in section 351(g)(2)(C)(i)(II).

The proposed regulations also providethat the principles of the rules describedabove apply to transactions involvingrights to acquire NQPS that are subject to §1.356–6T.

Proposed Effective Date

The proposed regulations are proposedto be effective for transactions on the datethat final regulations are published in theFederal Register. Notwithstanding theprospective effective date of the proposedregulations, the IRS and Treasury believethat the regulations prescribe the propertreatment of the transactions they address,and the IRS generally will not challengereturn positions consistent with the regu-lations. However, a transaction involvingrights to acquire NQPS that occurs beforethe effective date of §1.356–6T will betreated in accordance with the law gov-erning rights to acquire stock in effect atthat time.

Special Analyses

It has been determined that this noticeof proposed rulemaking is not a signifi-cant regulatory action as defined in Exec-utive Order 12866. Therefore, a regula-tory assessment is not required. It hasalso been determined that section 553(b)of the Administrative Procedures Act (5U.S.C. chapter 5) does not apply to theseregulations and, because the regulationsdo not impose a collection of informationon small entities, the Regulatory Flexibil-ity Act (5 U.S.C. chapter 6) does notapply. Pursuant to section 7805(f) of theInternal Revenue Code, this notice of pro-posed rulemaking will be submitted to theChief Counsel for Advocacy of the SmallBusiness Administration for comment onits impact on small business.

Comments and Public Hearing

Before these proposed regulations areadopted as final regulations, considera-tion will be given to any written com-ments (preferably a signed original andeight (8) copies, if written) that are sub-mitted timely (in the manner described inthe ADDRESSES portion of this pream-ble) to the IRS. The IRS and Treasuryspecifically request comments on the clar-ity of the proposed regulations and howthe regulations may be made easier to un-derstand. All comments will be availablefor public inspection and copying.

A public hearing has been scheduledfor May 31, 2000, beginning at 10 a.m., inthe NYU Classroom, Room 2615, Inter-nal Revenue Building, 1111 ConstitutionAvenue, NW., Washington, D.C. Due tobuilding security procedures, visitorsmust enter at the 10th Street entrance, lo-

cated between Constitution and Pennsyl-vania Avenues, NW. In addition, all visi-tors must present photo identification toenter the building. Because of access re-strictions, visitors will not be admitted be-yond the immediate entrance area morethan 15 minutes before the hearing starts.For information about having your nameplaced on the hearing access list to attendthe hearing, see the “FOR FURTHER IN-FORMATION CONTACT” section ofthis preamble.

The rules of 26 CFR 601.601(a)(3) applyto the hearing. Persons who wish to presentoral comments at the hearing must requestto speak, and submit written comments andan outline of the topics to be discussed andthe time to be devoted to each topic (signedoriginal and eight (8) copies) by May 10,2000. A period of 10 minutes will be allot-ted to each person for making comments.An agenda showing the scheduling of thespeakers will be prepared after the deadlinefor receiving outlines has passed. Copiesof the agenda will be available free ofcharge at the hearing.

Drafting Information

The principal author of these proposedregulations is Richard E. Coss, Office ofAssistant Chief Counsel (Corporate).However, other personnel from the IRSand Treasury participated in their devel-opment.

* * * * *

Proposed Amendments to theRegulations

Accordingly, 26 CFR part 1 is pro-posed to be amended as follows:

Part 1–INCOME TAXES

Paragraph 1. The authority citation forpart 1 is amended by adding the followingentries in numerical order to read in partas follows:

Authority: 26 U.S.C. 7805 * * *Section 1.354–1 also issued under 26

U.S.C. 351(g)(4).Section 1.355–1 also issued under 26

U.S.C. 351(g)(4). * * *Section 1.356–7 also issued under 26

U.S.C. 351(g)(4). * * *Section 1.1036–1 also issued under 26

U.S.C. 351(g)(4). * * *Par. 2. Section 1.354–1 is amended byadding paragraph (f) as follows:

2000–6 I.R.B. 583 February 7, 2000

§1.354–1 Exchanges of stock and securi-ties in certain reorganizations.* * * * *

(f) Nonqualified preferred stock. See§1.356–7(a) and (b) for the treatment ofnonqualified preferred stock (as definedin section 351(g)(2)) received in certainexchanges for nonqualified preferredstock or preferred stock. See §1.356–7(c)for the treatment of preferred stock re-ceived in certain exchanges for commonor preferred stock described in section351(g)(2)(C)(i)(II).

Par. 3. Section 1.355–1 is amended byadding paragraph (d) as follows:§1.355–1 Distributions of stock and secu-rities of a controlled corporation.* * * * *

(d) Nonqualified preferred stock.See§1.356–7(a) and (b) for the treatment ofnonqualified preferred stock (as definedin section 351(g)(2)) received in certainexchanges for (or in certain distributionswith respect to) nonqualified preferredstock or preferred stock. See §1.356–7(c)for the treatment of the receipt of pre-ferred stock in certain exchanges for (orin certain distributions with respect to)common or preferred stock described insection 351(g)(2)(C)(i)(II).

Par. 4. Section 1.356–7 is added toread as follows:§ 1.356–7 Rules for treatment of nonqual-ified preferred stock and other preferredstock received in certain transactions.

(a) Stock issued prior to effective date.Stock described in section 351(g)(2) isnonqualified preferred stock (NQPS) re-gardless of the date on which the stock isissued. However, sections 351(g),354(a)(2)(C), 355(a)(3)(D), 356(e), and1036(b) do not apply to any transactionoccurring prior to June 9, 1997, or to anytransaction occurring after June 8, 1997,that is described in section 1014(f)(2) ofthe Taxpayer Relief Act of 1997, PublicLaw 105–34, 111 Stat. 788, 921.

(b) Receipt of preferred stock in ex-change for (or distribution on) substan-tially identical preferred stock—- (1)General rule. For purposes of sections354(a)(2)(C)(i), 355(a)(3)(D), and356(e)(2), preferred stock is not NQPS,even though it is described in section351(g)(2), if it is received in exchange for(or in a distribution with respect to) pre-ferred stock (the original preferred stock)that is not NQPS (QPS), provided —-

(i) The original preferred stock is QPSsolely because, on its issue date, a right orobligation described in clause (i), (ii), or(iii) of section 351(g)(2)(A) was not exer-cisable until after a 20-year period begin-ning on the issue date, the right or obliga-tion was exercisable within the 20-yearperiod beginning on the issue date butwas subject to a contingency which maderemote the likelihood of the redemptionor purchase, or the issuer’s (or a relatedparty’s) right to redeem or purchase thestock was not more likely than not to beexercised within a 20-year period begin-ning on the issue date, or because of anycombination of these reasons; and

(ii) the stock received is substantiallyidentical to the original preferred stock.

(2) Substantially identical.The stockreceived is substantially identical to theoriginal preferred stock if —

(i) the stock received does not containany term or terms which, in relation toany term or terms of the original preferredstock, decrease the period in which a rightor obligation described in clause (i), (ii),or (iii) of section 351(g)(2)(A) may be ex-ercised, increase the likelihood that such aright or obligation may be exercised, oraccelerate the timing of the returns fromthe stock instrument, including the timingof actual or deemed dividends or otherdistributions received on the stock; and

(ii) as a result of the exchange or distri-bution, exercise of the right or obligationdoes not become more likely than not tooccur within a 20-year period beginningon the issue date of the original preferredstock.

(3) Treatment of stock received. Thestock received will continue to be treatedas QPS in subsequent transactions involv-ing such stock, and the principles of thisparagraph (b) apply to such transactionsas though the stock received is the origi-nal preferred stock issued on the samedate as the original preferred stock.

(c) Stock transferred for services.Forpurposes of sections 354(a)(2)(C)(i),355(a)(3)(D), and 356(e)(2), preferredstock containing a right or obligation de-scribed in clause (i), (ii) or (iii) of section351(g)(2)(A) that is exercisable only uponthe holder’s separation from service fromthe issuer or a related person (as describedin section 351(g)(3)(B)) will be treated astransferred in connection with the perfor-mance of services (and representing rea-

sonable compensation) within the mean-ing of section 351(g)(2)(C)(i)(II), if suchpreferred stock is received in exchangefor (or in a distribution with respect to)existing stock containing a similar right orobligation (exercisable only upon separa-tion from service) and the existing stockwas transferred in connection with theperformance of services for the issuer or arelated person (and represented reason-able compensation when transferred). Inapplying the rules relating to NQPS, thepreferred stock received will continue tobe treated as transferred in connectionwith the performance of services (andrepresenting reasonable compensation) insubsequent transactions involving suchstock, and the principles of this paragraph(c) apply to such transactions.

(d) Rights to acquire stock. For purposesof §1.356–6T, the principles of paragraphs(a), (b), and (c) of this section apply.

(e) Examples. The following examplesillustrate paragraphs (a), (b), and (c) ofthis section. For purposes of the exam-ples in this paragraph (e), T and P are cor-porations, A is a shareholder of T, and, ex-cept for in Example 1, A surrenders andreceives (in addition to the stock ex-changed in the examples) common stockin the reorganizations described.

Example 1. In 1995, A transfers property to Tand receives T preferred stock that is described insection 351(g)(2) in a transaction under section 351.In 2002, pursuant to a reorganization under section368(a)(1)(B), A surrenders the T preferred stock inexchange for P NQPS. Under paragraph (a) of thissection, the T preferred stock issued to A in 1995 isNQPS. However, because section 351(g) does notapply to transactions occurring before June 9, 1997,the T NQPS was not “other property” within themeaning of section 351(b) when issued in 1995.Under sections 354(a)(2)(C) and 356(e)(2), the PNQPS received by A in 2002 is not “other property”within the meaning of section 356(a)(1)(B) becauseit is received in exchange for NQPS.

Example 2. T issues QPS to A on January 1,2000 that is not NQPS solely because the holdercannot require T to redeem the stock until January 1,2022. In 2007, pursuant to a reorganization undersection 368(a)(1)(A) in which T merges into P, Asurrenders the T preferred stock in exchange for Ppreferred stock with terms that are identical to theterms of the T preferred stock, including the termthat the holder cannot require the redemption of thestock until January 1, 2022. Because the P stock andthe T stock have identical terms, and because the re-demption did not become more likely than not tooccur within the 20-year period that begins on Janu-ary 1, 2000 (which is the issue date of the T pre-ferred stock) as a result of the exchange, under para-graph (b) of this section, the P preferred stockreceived by A is treated as QPS. Thus, the P pre-ferred stock received is not “other property” within

February 7, 2000 584 2000–6 I.R.B.

the meaning of section 356(a)(1)(B).Example 3. The facts are the same as in Example

2, except that, in addition, in 2010, pursuant to a re-capitalization of P under section 368(a)(1)(E), A ex-changes the P preferred stock above for P NQPS thatpermits the holder to require P to redeem the stock in2020. Under paragraph (b) of this section, the P pre-ferred stock surrendered by A is treated as QPS. Be-cause the P preferred stock received by A in the re-capitalization is not substantially identical to the Ppreferred stock surrendered, the P preferred stock re-ceived by A is not treated as QPS. Thus, the P pre-ferred stock received is “other property” within themeaning of section 356(a)(1)(B).

Example 4. T issues preferred stock to A on Jan-uary 1, 2000 that permits the holder to require T toredeem the stock on January 1, 2018, or at any timethereafter, but which is not NQPS solely because, asof the issue date, the holder’s right to redeem is sub-ject to a contingency which makes remote the likeli-hood of redemption on or before January 1, 2020. In2007, pursuant to a reorganization under section368(a)(1)(A) in which T merges into P, A surrendersthe T preferred stock in exchange for P preferredstock with terms that are identical to the terms of theT preferred stock. Immediately before the ex-change, the contingency to which the holder’s rightto cause redemption of the T stock is subject makesremote the likelihood of redemption before January1, 2020, but the P stock, although subject to thesame contingency, is more likely than not to be re-deemed before January 1, 2020. Because, as a resultof the exchange of T stock for P stock, the exerciseof the redemption right became more likely than notto occur within the 20-year period beginning on theissue date of the T preferred stock, the P preferredstock received by A is not substantially identical tothe T stock surrendered, and is not treated as QPS.Thus, the P preferred stock received is “other prop-erty” within the meaning of section 356(a)(1)(B).

Example 5. The facts are the same as in Example4, except that, immediately before the merger of Tinto P in 2007, the contingency to which the holder’sright to cause redemption of the T stock is subjectmakes it more likely than not that the T stock will beredeemed before January 1, 2020. Because exerciseof the redemption right did not become more likelythan not to occur within the 20-year period begin-ning on the issue date of the T preferred stock as aresult of the exchange, the P preferred stock re-ceived by A is substantially identical to the T stocksurrendered, and is treated as QPS. Thus, the P pre-ferred stock received is not “other property” withinthe meaning of section 356(a)(1)(B).

Example 6. A is an employee of T. In connectionwith A’s performance of services for T, T transfers toA in 2000 an amount of T common stock that repre-sents reasonable compensation. The T commonstock contains a term granting A the right to requireT to redeem the common stock, but only upon A’sseparation from service from T. In 2005, pursuant toa reorganization under section 368(a)(1)(A) inwhich T merges into P, A receives, in exchange forA’s T common stock, P preferred stock granting asimilar redemption right upon A’s separation fromP’s service. Under paragraph (c) of this section, theP preferred stock received by A is treated as trans-ferred in connection with the performance of ser-vices (and representing reasonable compensation)within the meaning of section 351(g)(2)(C)(i)(II).

Thus, the P preferred stock received by A is QPS.

(f) Effective dates. This section appliesto transactions occurring on or after thedate these regulations are published asfinal regulations in the Federal Register.

Par. 5. Section 1.1036–1 is amendedby adding paragraph (d) as follows:§1.1036–1 Stock for stock of the samecorporation.* * * * *

(d) Nonqualified preferred stock. See§1.356–7(a) for the applicability of thedefinition of nonqualified preferred stockin section 351(g)(2) for stock issued priorto June 9, 1997, and for stock issued intransactions occurring after June 8, 1997,that are described in section 1014(f) of theTaxpayer Relief Act of 1997, Public Law105–34, 111 Stat. 788, 921.

Robert E. Wenzel,Deputy Commissioner

of Internal Revenue.

(Filed by the Office of the Federal Register on Janu-ary 21, 2000, 8:45 a.m., and published in the issue ofthe Federal Register for January 26, 2000, 65 F.R.4203)

Notice of Proposed Rulemakingand Notice of Public Hearing

Stock Transfer Rules:Supplemental Rules

REG–116048–99

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Notice of proposed rulemakingand notice of public hearing.

SUMMARY: This document proposes, bycross-reference to temporary regulations,amendments to the final regulations con-cerning the Federal tax treatment of cer-tain exchanges subject to section 367(b)of the Internal Revenue Code (Code).The temporary regulations, T.D. 8863,provide an election for certain taxpayersengaged in certain exchanges described insection 367(b). The temporary regula-tions provide guidance for taxpayers thatmake the specified election in order to de-termine the extent to which income mustbe included and certain corresponding ad-justments must be made. The text of thetemporary regulations also serves as thetext of the proposed regulations. This

document also provides notice of a publichearing on the proposed regulations.

DATES: Written comments must be re-ceived by April 24, 2000. Requests tospeak (with outlines of oral comments) atthe public hearing scheduled for April 20,2000, must be submitted by March 31,2000.

ADDRESSES: Send submissions to:CC:DOM:CORP:R (REG–116048–99),room 5228, Internal Revenue Service,POB 7604, Ben Franklin Station, Wash-ington, DC 20044. In the alternative, sub-missions may be hand delivered betweenthe hours of 8 a.m. and 5 p.m. to:CC:DOM:CORP:R (REG–116048–99),Courier’s Desk, Internal Revenue Ser-vice, 1111 Constitution Avenue NW.,Washington, DC. Alternatively, taxpayersmay submit comments electronically viathe Internet by selecting the “Tax Regs”option of the IRS Home Page, or by sub-mitting comments directly to the IRS In-ternet site at:http://www.irs.ustreas.gov/prod/tax_regs/regslist.html. The public hearing will beheld in room 2615, Internal RevenueBuilding, 1111 Constitution Avenue, NW.,Washington, DC.

FOR FURTHER INFORMATION CON-TACT: Concerning the regulations, MarkD. Harris, (202) 622-3860 (not a toll-freenumber); concerning submissions and thehearing, Guy Traynor, (202) 622-7180(not a toll-free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collection of information containedin this notice of proposed rulemaking hasbeen submitted to the Office of Manage-ment and Budget for review in accor-dance with the Paperwork Reduction Actof 1995 (44 U.S.C. 3507(d)). Commentson the collection of information should besent to the Office of Management andBudget, Attn: Desk Officer for the De-partment of the Treasury, Office of Infor-mation and Regulatory Affairs, Washing-ton, DC 20503, with copies to theInternal Revenue Service, Attn: IRS Re-ports Clearance Officer, OP:FS:FP,Washington, DC 20224. Comments onthe collection of information should be re-ceived by March 24, 2000. Commentsare specifically requested concerning:

2000–6 I.R.B. 585 February 7, 2000

Whether the proposed collection of in-formation is necessary for the proper per-formance of the functions of the InternalRevenue Service, including whether theinformation will have practical utility;

The accuracy of the estimated burdenassociated with the proposed collection ofinformation (see below);

How the quality, utility, and clarity ofthe information to be collected may be en-hanced;

How the burden of complying with theproposed collection of information maybe minimized, including through the ap-plication of automated collection tech-niques or other forms of information tech-nology; and

Estimates of capital or start-up costs andcosts of operation, maintenance, and pur-chase of service to provide information.

The collection of information in this pro-posed regulation is in §1.367(b)–3(b)(4).This information is required to properlymake an election to include an amount inincome that is different than the inclusioncurrently required under §1.367(b)–3 of thefinal regulations. This information will beused to verify proper compliance with thesection 367(b) regulations, including thatthe election provided herein was made andthat the required adjustments will be madeby all parties to the section 367(b) transac-tion. The collection of information ismandatory. The likely respondents arebusinesses or other for-profit institutions.

Estimated total annual reporting bur-den: 85 hours.

Estimated average annual burden hoursper respondent: 4 hours, 15 minutes.

Estimated number of respondents: 20Estimated annual frequency of re-

sponses: onceAn agency may not conduct or sponsor,

and a person is not required to respond to,a collection of information unless it dis-plays a valid control number assigned bythe Office of Management and Budget.

Books or records relating to a collec-tion of information must be retained aslong as their contents may become mater-ial in the administration of any internalrevenue law. Generally, tax returns andtax return information are confidential, asrequired by 26 U.S.C. 6103.

Background

T.D. 8863 on page 488 amends the In-come Tax Regulations (26 CFR part 1) re-

lating to section 367(b). The temporaryregulations contain rules that provide anelection for certain taxpayers engaged incertain exchanges described in section367(b).

The text of those temporary regulationsalso serves as the text of these proposedregulations. The preamble to the tempo-rary regulations explains the proposedregulations.

Proposed Effective Date

Except as otherwise specified, theseregulations are proposed to apply to sec-tion 367(b) exchanges that occur on orafter January 24, 2000.

Special Analyses

It has been determined that these reg-ulations are not a significant regulatoryaction as defined in Executive Order12866. Therefore, a regulatory assess-ment is not required. It is hereby certi-fied that the collection of informationcontained in these regulations will nothave a significant economic impact on asubstantial number of small entities.This certification is based upon the factthat the number of section 367(b) ex-changes that require reporting underthese regulations is estimated to be only20 per year. Therefore, a RegulatoryFlexibility Analysis under the Regula-tory Flexibility Act (5 U.S.C. chapter 6)is not required.

Pursuant to section 7805(f) of theCode, these proposed regulations will besubmitted to the Chief Counsel for Ad-vocacy of the Small Business Adminis-tration for comment on their impact.

Comments and Public Hearing

Before these proposed regulations areadopted as final regulations, considera-tion will be given to any written com-ments (preferably a signed original andeight (8) copies) that are submitted timelyto the IRS. The IRS and Treasury requestcomments on the clarity of the proposedregulation and how it may be made easierto understand. All comments will beavailable for public inspection and copy-ing.

A public hearing has been scheduledfor April 20, 2000, beginning at 10 a.m.,in room 2615, Internal Revenue Building,1111 Constitution Avenue NW., Washing-

ton, DC. Because of access restrictions,visitors will not be admitted beyond theInternal Revenue Building lobby morethan 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 com-ments at the hearing must submit timelywritten comments and an outline of thetopics to be discussed and the time to bedevoted to each topic by (preferably asigned original and eight (8) copies)March 31, 2000. However, comments notto be presented at the hearing must besubmitted by April 24, 2000.

A period of 10 minutes will be allottedto each person for making comments.

An agenda showing the scheduling ofthe speakers will be prepared after thedeadline for receiving outlines haspassed. Copies of the agenda will beavailable free of charge at the hearing.

Drafting Information

The principal author of these regula-tions is Mark Harris of the Office of Asso-ciate Chief Counsel (International).However, other personnel from the IRSand Treasury Department participated intheir development.

* * * * *

Proposed Amendments to theRegulations

Accordingly, 26 CFR part 1 is pro-posed to be amended as follows:

Income taxes, Reporting and record-keeping requirements.

PART 1—INCOME TAXES

Paragraph 1. The authority citation forpart 1 continues to read in part as follows:

Authority: 26 U.S.C. 7805 * * * Par. 2. Section 1.367(b)–3 is amended

by adding paragraph (b)(4) to read as fol-lows:§1.367(b)–3 Repatriation of foreign cor-porate assets in certain nonrecognitiontransactions.* * * * *

(b) * * *(4) [The text of this proposed addition

is the same as the text of§1.367(b)–3T(b)(4) published inT.D.8863].* * * * *

February 7, 2000 586 2000–6 I.R.B.

John M. Dalrymple,Acting Deputy Commissioner

of Internal Revenue.

(Filed by the Office of the Federal Register on Janu-ary 21, 2000, 8:45 a.m., and published in the issue ofthe Federal Register for January 24, 2000, 65 F.R.3629)

Update of Mortality Tables

Announcement 2000–7

The Internal Revenue Service and theTreasury Department are undertaking areview of the mortality table in effectunder § 412(l)(7)(C) of the Internal Rev-enue Code (the Code) and section302(d)(7)(C) of the Employee RetirementIncome Security Act of 1974 (ERISA).

Background

Section 412(l) of the Code and section302(d) of ERISA provide additional fund-ing requirements for certain defined bene-fit pension plans. The additional fundingrequirements for a plan are in part basedupon the current liability under a plan asdefined in § 412(l)(7) of the Code andsection 302(d)(7) of ERISA. Section412(l )(7)(C) of the Code and section302(d)(7)(C) of ERISA provide for the in-terest rate and mortality table to be usedto determine the current liability of a plan.

Section 412(l)(7)(C) of the Code andsection 302(d)(7)(C) of ERISA providethat the mortality table used in determin-ing current liability shall be prescribed bythe Secretary of the Treasury. Section412(l)(7)(C)(ii)(I) of the Code and section302(d)(7)(C)(ii)(I) of ERISA provide thatthe initial mortality table is to be based onthe prevailing commissioners’ standardtable (described in § 807(d)(5)(A) of theCode) used to determine reserves forgroup annuity contracts issued on January1, 1993.

Section 412(l)(7)(C)(iii) of the Codeand section 302(d)(7)(C)(iii) of ERISAprovide that, in the case of plan years be-ginning after December 31, 1995, theSecretary shall establish mortality tableswhich may be used (in lieu of the tablesunder§ 412(l)(7)(C)(ii) of the Code andsection 302(d)(7)(C)(ii) of ERISA) to de-termine current liability for individualswho are entitled to benefits under the planon account of disability. The Secretary

was to establish separate tables for indi-viduals whose disabilities occur in planyears beginning before January 1, 1995,and for individuals whose disabilitiesoccur in plan years beginning on or aftersuch date.

Except as provided in section412(l)(7)(C)(iii) of the Code and section302(d)(7)(C)(iii) of ERISA, relating to dis-abled lives, Rev. Rul. 95–28, 1995–1 C.B.74, sets forth the mortality table to be usedunder Section 412(l)(7)(C)(ii)(I) of theCode and section 302(d)(7)(C)(ii)(I) ofERISA for plan years beginning after De-cember 31, 1994. Rev. Rul. 95–28 also re-quested written comments concerning themortality table to be used for determiningcurrent liability for plan years beginningafter December 31, 1999, and informationon existing or upcoming independent stud-ies of mortality of individuals covered bypension plans.

Rev. Rul. 96–7, 1996–1 C.B. 59, setsforth the alternative mortality tables thatmay be used under § 412(l)(7)(C)(iii) ofthe Code and section 302(d)(7)(C)(iii) ofERISA to determine a plan’s current lia-bility for individuals who are entitled tobenefits under the plan on account of dis-ability.

Section 412(l)(7)(C)(ii)(III) of the Codeand section 302(d)(7)(C)(ii)(III) of ERISAprovide that the Secretary shall periodically(at least every 5 years) review any tables ineffect under these sections and, to the ex-tent the Secretary determines necessary, byregulation update the mortality tables usedto determine current liability. Section412(l)(7)(C)(ii)(II) of the Code and section302(d)(7)(C)(ii)(II) of ERISA provide thatthe updated tables are to be based upon theactual experience of pension plans and pro-jected trends in such experience, and that inprescribing such tables, the Secretary is totake into account results of available inde-pendent studies of mortality of individualscovered by pension plans. Section412(l)(7)(C)(ii)(II) of the Code and section302(d)(7)(C)(ii)(II) of ERISA also providethat the updated tables may not be effectiveuntil the first plan year beginning after De-cember 31, 1999.

Review

As required by § 412(l)(7)(C)(ii)(III)of the Code and section302(d)(7)(C)(ii)(III) of ERISA, the Inter-nal Revenue Service and the Treasury

Department are undertaking a review ofthe mortality tables used to determinecurrent liability under § 412(l)(7)(C) ofthe Code and section 302(d)(7)(C) ofERISA. As part of the review, the Ser-vice and the Treasury Department willtake into account studies of mortality ofindividuals covered by defined benefitpension plans. The review also includesan analysis of projected trends in mortal-ity of individuals covered by definedbenefit pension plans.

Accordingly, interested parties are in-vited to submit any studies of mortality,any studies of trends in mortality, or anyinformation with respect to such studiesthat they believe to be relevant to individ-uals covered by defined benefit pensionplans. Furthermore, interested parties areinvited to submit written comments con-cerning the mortality table or tables to beused for determining current liability forplan years beginning after December 31,1999. The studies, information, or com-ments should be sent to Commissioner ofInternal Revenue, Attention:T:EP:RA:T:A1, Washington, D.C.20224.

If the review indicates that a change inmortality tables is appropriate, the Ser-vice and the Treasury Department willpropose regulations. The Service and theTreasury Department anticipate that in noevent would there be any change in themortality tables for plan years beginningbefore January 1, 2001.

Foundations Status of CertainOrgainzations

Announcement 2000–8

The following organizations havefailed to establish or have been unable tomaintain their status as public charitiesor as operating foundations. Accord-ingly, grantors and contributors may not,after this date, rely on previous rulingsor designations in the Cumulative Listof Organizations (Publication 78), or onthe presumption arising from the filingof notices under section 508(b) of theCode. This listing does not indicate thatthe organizations have lost their statusas organizations described in section501(c)(3), eligible to receive deductiblecontributions.

2000–6 I.R.B. 587 February 7, 2000

Former Public Charities.The followingorganizations (which have been treated asorganizations that are not private founda-tions described in section 509(a) of theCode) are now classified as private foun-dations:1-12 Club, Baton Rouge, LAAbounding Love Christian Ministries,

Brown Deer, WIAffirming Life, Inc., Oklahoma City, OKAffordable Housing Corporation, Chicago,

ILAgape Community Arts Center, Cayce, SCA.L. Brown Outreach Foundation,

Jackson, MSAlexandria Outreach Inc., Pineville, LAAmazing Grace Ministries, Youngstown,

OHAmerican Institute of Mathematics,

Palo Alto, CaAmesbury Youth Music Supporters,

Amesbury, MAAnother Way, Inc., Acme, PAArts for Hearts, Inc., Sacramento, CABees Incorporated, New York, NYBlack Research Organization, Inc.,

Milwaukee, WIBlast Intermediate Unit 17 Educational

Enhancement Foundation, Williamsport,PA

Board of Trustees for People withDevelopmental Disabilities Inc., Bronx,NY

Bondservant Ministries, Inc., Katy, TXBuild and Design for Charities, Inc. A

Delaware Corporation, Glendora CACapital City Transit Coalition, Gahanna,

OHCarlos Mantilla Ortega Foundation, Inc.,

Baltimore, MDCausa-Peru, East Hartford, CTCenter for Alcohol Policy and Prevention,

Syracuse, NYChallenger Space Education Foundation,

Santa Clara, CAChristian Buddies, Wyoming, MICity of Tolleson Community Development

Block Grant Corporation, Tolleson, AZClowns on Rounds, Inc., Albany, NYCoalition for the Advancement of Regional

Transportation, Inc., Louisville, KYCoastal Villages Investment Fund,

Anchorage, AKColumbia-Marion County Development

Foundation, Inc., Columbia, MSCommunity Recovery House of Kansas,

Kansas City, MOComtemporary Music Forum, Inc.,

Takoma Park, MDCovington County Art Association,

Seminary, MSThe D & N Institute, Oakland, CADanville Lions Foundation, Inc., Danville,

VADialogue Toward Change, Inc.,

Framingham, MADr. Morris Smoller Social Service Fund,

New York, NYEastern Virginia Breastfeeding Taskforce,

Norfolk, VAElkhorn American Legion Baseball

Association, Elkhorn, NEEugene/Springfield/Bethel Education

Foundation, Eugene, ORFlipper Temple Institutional Outreach

Ministry, Inc., Atlanta, GAFort Dale Pioneer Settlement, Inc.,

Greenville, ALFoundation of the Burns Archive, Inc.,

New York, NYFoundation of the Interreligious Council of

Central New York, Syracuse, NYFowler Center for Wildlife Education, Inc.New Canaan, CTFrends/Funding Resources in Education

Needs and Directional Solutions, Inc.,Tucson, AZ

Friends of Francis W. Gregory Jr. HighSchool Foundation, New Orleans, LA

Friends of Luke, Glendale, AZGreenwood Stop the Violence Committee,

Greenwood, SCHealing Institute for Jobs Recovery

Academics and Housing, Mt. View, CAHeartbeat Enterprises, Prescott, AZHeavenbound, Inc., Reno, NVHolden Youth Sports, Inc., Worchester,

MAHome Street Home, Clayton, NCILC Industries Foundation, Inc., Bohemia,

NYInternational Children Care, Houston, TXThe Jamani/Tanawake Project, Fairfield,

CAJ & L Center Stage Incorporated, Danville,

CAKoanig Educational Foundation,

Anchorage, AKLatin American Educational Association

for Health Care, Boston, MALincoln Crawford, Cincinnati, OhLiving Potential, Inc., Binghampton, NYLocal 144 Hospital & Health Facilities

Education Fund, New York, NYLos Angeles County Bomberos, Inc.,

Monterey Park, CA

Madison Rotary Club Foundation, Inc.,Roseland, NJ

MAK Foundation, Inc., Montebello, CAMarshall County Sheriff’s Posse,

Plymouth, INM & M Community Development, Inc.,

Nashville, TNMulticultural Journalism Consortium, Inc.,

Schererville, INMy Iran, Inc., Beaverton, ORMy Sisters Keeper, Seagoville, TXNational Hispanic Youth Organization, San

Antonio, TXNew Day, Inc., Des Moines, IANew Direction Outreach, Mound Bayou,

MSNew Federalist Foundation, Salt Lake City,

UTNew Life for All, Inc., Eustis, FLNew Life Praise Temple Ministries, Inc.,

Savannah, GANew Mexico Foundation for Educational

Excellence, Albuquerque, NMNew York Kunsthalle, Inc., New York, NYOperation One Warm Coat Plus—Children

of Shelters, San Francisco, CAOSHO Neeraj Meditation Center, Inc.,

Niskayuna, NYOutreach Ministry for Singles, Inc.,

Newark, NYPhiladelphia Center for Complementary

Medicine, Philadelphia, PAPioneer Civic Services, Inc. Peoria, ILProject Scivias Hildegardis, San Francisco,

CAPromotion of Education in Pakistan

Foundation, Inc., Staten Island, NYRa’Hel House, Columbus, OHReaching Out to Others Through Services,

Washington, DCRNC, Inc., Dallas, TXSalon De Fleurus, Inc., New York, NYSandwich Islands Mission Outreach,

Honolulu, HISeawind Initiative, Inc., Cotuit, MAServing Christ Ministry, St. Paul, MNShamrock Foundation, Portland, ORShofar Broadcasting Corp c/o James R.

Jenkins, Charleston, WVShree Kapilaben Ramanlal Patel

Foundation, Medinah, ILSnadpiper Medical Foundation, Palo Alto,

CASons of the American Revolution Patriotic

and Educational Foundation, Inc.,Atlanta, GA

Sullivan Center Foundation for Children,Fresno, CA

February 7, 2000 588 2000–6 I.R.B.

Texas Medical Assistance andDevelopment, Houston, TX

Tullywinney Arts and Education Fund,Inc., Helena, MT

United Interfaith Council, Chicago, ILUniversity Community Hospital Specialty

Care, Inc., Tampa, FLVillage Oaks Community Association,

Eugene, ORWayne Group Home Corporation,

Hackensack, NJ

We Stop the Tears, Sun City, AZWooster Family Housing Corporation,

Akron, OHYonose Foundation, Tucson, AZ

If an organization listed above submitsinformation that warrants the renewal ofits classification as a public charity or as aprivate operating foundation, the InternalRevenue Service will issue a ruling or de-termination letter with the revised classi-fication as to foundation status. Grantors

and contributors may thereafter rely uponsuch ruling or determination letter as pro-vided in section 1.509(a)–7 of the IncomeTax Regulations. It is not the practice ofthe Service to announce such revised clas-sification of foundation status in the Inter-nal Revenue Bulletin.

2000–6 I.R.B. i February 7, 2000

Revenue rulings and revenue procedures(hereinafter referred to as “rulings”) thathave an effect on previous rulings use thefollowing defined terms to describe theeffect:

Amplified describes a situation whereno change is being made in a prior pub-lished position, but the prior position isbeing extended to apply to a variation ofthe fact situation set forth therein. Thus,if an earlier ruling held that a principleapplied to A, and the new ruling holdsthat the same principle also applies to B,the earlier ruling is amplified. (Comparewith modified, below).

Clarified is used in those instanceswhere the language in a prior ruling isbeing made clear because the languagehas caused, or may cause, some confu-sion. It is not used where a position in aprior ruling is being changed.

Distinguisheddescribes a situationwhere a ruling mentions a previouslypublished ruling and points out an essen-tial difference between them.

Modified is used where the substanceof a previously published position isbeing changed. Thus, if a prior rulingheld that a principle applied to A but notto B, and the new ruling holds that it ap-

plies to both A and B, the prior ruling ismodified because it corrects a publishedposition. (Compare with amplified andclarified, above).

Obsoleted describes a previously pub-lished ruling that is not considered deter-minative with respect to future transac-tions. This term is most commonly usedin a ruling that lists previously publishedrulings that are obsoleted because ofchanges in law or regulations. A rulingmay also be obsoleted because the sub-stance has been included in regulationssubsequently adopted.

Revoked describes situations where theposition in the previously published rul-ing is not correct and the correct positionis being stated in the new ruling.

Superseded describes a situation wherethe new ruling does nothing more thanrestate the substance and situation of apreviously published ruling (or rulings).Thus, the term is used to republish underthe 1986 Code and regulations the sameposition published under the 1939 Codeand regulations. The term is also usedwhen it is desired to republish in a singleruling a series of situations, names, etc.,that were previously published over a pe-riod of time in separate rulings. If the

new ruling does more than restate thesubstance of a prior ruling, a combinationof terms is used. For example, modifiedand superseded describes a situationwhere the substance of a previously pub-lished ruling is being changed in part andis continued without change in part and itis desired to restate the valid portion ofthe previously published ruling in a newruling that is self contained. In this casethe previously published ruling is firstmodified and then, as modified, is super-seded.

Supplemented is used in situations inwhich a list, such as a list of the names ofcountries, is published in a ruling andthat list is expanded by adding furthernames in subsequent rulings. After theoriginal ruling has been supplementedseveral times, a new ruling may be pub-lished that includes the list in the originalruling and the additions, and supersedesall prior rulings in the series.

Suspended is used in rare situations toshow that the previous published rulingswill not be applied pending some futureaction such as the issuance of new oramended regulations, the outcome ofcases in litigation, or the outcome of aService study.

AbbreviationsThe following abbreviations in current use and for-merly used will appear in material published in theBulletin.

A—Individual.

Acq.—Acquiescence.

B—Individual.

BE—Beneficiary.

BK—Bank.

B.T.A.—Board of Tax Appeals.

C.—Individual.

C.B.—Cumulative Bulletin.

CFR—Code of Federal Regulations.

CI—City.

COOP—Cooperative.

Ct.D.—Court Decision.

CY—County.

D—Decedent.

DC—Dummy Corporation.

DE—Donee.

Del. Order—Delegation Order.

DISC—Domestic International Sales Corporation.

DR—Donor.

E—Estate.

EE—Employee.

E.O.—Executive Order.

ER—Employer.

ERISA—Employee Retirement Income Security Act.

EX—Executor.

F—Fiduciary.

FC—Foreign Country.

FICA—Federal Insurance Contribution Act.

FISC—Foreign International Sales Company.

FPH—Foreign Personal Holding Company.

F.R.—Federal Register.

FUTA—Federal Unemployment Tax Act.

FX—Foreign Corporation.

G.C.M.—Chief Counsel’s Memorandum.

GE—Grantee.

GP—General Partner.

GR—Grantor.

IC—Insurance Company.

I.R.B.—Internal Revenue Bulletin.

LE—Lessee.

LP—Limited Partner.

LR—Lessor.

M—Minor.

Nonacq.—Nonacquiescence.

O—Organization.

P—Parent Corporation.

PHC—Personal Holding Company.

PO—Possession of the U.S.

PR—Partner.

PRS—Partnership.

PTE—Prohibited Transaction Exemption.

Pub. L.—Public Law.

REIT—Real Estate Investment Trust.

Rev. Proc.—Revenue Procedure.

Rev. Rul.—Revenue Ruling.

S—Subsidiary.

S.P.R.—Statements of Procedral Rules.

Stat.—Statutes at Large.

T—Target Corporation.

T.C.—Tax Court.

T.D.—Treasury Decision.

TFE—Transferee.

TFR—Transferor.

T.I.R.—Technical Information Release.

TP—Taxpayer.

TR—Trust.

TT—Trustee.

U.S.C.—United States Code.

X—Corporation.

Y—Corporation.

Z—Corporation.

Definition of Terms

February 7, 2000 ii 2000–6 I.R.B.

Numerical Finding List1

Bulletins 2000–1 through 2000–5

Announcements:

2000–1, 2000–2 I.R.B. 2942000–2, 2000–2 I.R.B. 2952000–3, 2000–2 I.R.B. 2962000–4, 2000–3 I.R.B. 3172000–5, 2000–4 I.R.B. 4272000–6, 2000–4 I.R.B. 428

Notices:

2000–1, 2000–2 I.R.B. 2882000–3, 2000–4 I.R.B. 4132000–4, 2000–3 I.R.B. 3132000–5, 2000–3 I.R.B. 3142000–6, 2000–3 I.R.B. 3152000–7, 2000–4 I.R.B. 4192000–8, 2000–4 I.R.B. 4202000–9, 2000–5 I.R.B. 4492000–10, 2000–5 I.R.B. 451

Proposed Regulations:

REG–101492–98, 2000–3 I.R.B. 326REG–106012–98, 2000–2 I.R.B. 290REG–103831–99, 2000–5 I.R.B. 452REG–105606–99, 2000–4 I.R.B. 421REG–111119–99, 2000–5 I.R.B. 455REG–116567–99, 2000–5 I.R.B. 463REG–116704–99, 2000–3 I.R.B. 325

Revenue Procedures:

2000–1, 2000–1 I.R.B. 42000–2, 2000–1 I.R.B. 732000–3, 2000–1 I.R.B. 1032000–4, 2000–1 I.R.B. 1152000–5, 2000–1 I.R.B. 1582000–6, 2000–1 I.R.B. 1872000–7, 2000–1 I.R.B. 2272000–8, 2000–1 I.R.B. 2302000–9, 2000–2 I.R.B. 2802000–10, 2000–2 I.R.B. 2872000–11, 2000–3 I.R.B. 3092000–12, 2000–4 I.R.B. 3872000–15, 2000–5 I.R.B. 447

Revenue Rulings:

2000–1, 2000–2 I.R.B. 2502000–2, 2000–3 I.R.B. 3052000–3, 2000–3 I.R.B. 2972000–4, 2000–4 I.R.B. 3312000–5, 2000–5 I.R.B. 436

Treasury Decisions:

8849, 2000–2 I.R.B. 2458850, 2000–2 I.R.B. 2658851, 2000–2 I.R.B. 2758852, 2000–2 I.R.B.2538853, 2000–4 I.R.B.3778854, 2000–3 I.R.B.3068855, 2000–4 I.R.B.3748856, 2000–3 I.R.B.2988857, 2000–4 I.R.B.3658858, 2000–4 I.R.B.3328859, 2000–5 I.R.B.4298860, 2000–5 I.R.B.4378861, 2000–5 I.R.B.441

1 A cumulative list of all revenue rulings, revenueprocedures, Treasury decisions, etc., published inInternal Revenue Bulletins 1999–27 through1999–52 is in Internal Revenue Bulletin 2000–1,dated January 3, 2000.

2000–6 I.R.B. iii February 7, 2000

Finding List of Current Action onPreviously Published Items1

Bulletins 2000–1 through 2000–5

Notices:

97–19Modified by Rev. Proc. 2000–1, 2000–1 I.R.B. 4

98–52Modified by Notice 2000–3, 2000–4 I.R.B. 413

98–61Modified and superseded by Notice 2000–15, 2000–5 I.R.B. 447

99–8Obsoleted by Rev. Proc. 2000–12, 2000–4 I.R.B. 387

Revenue Procedures:

92–13Modified, amplified, and superseded by Rev. Proc. 2000–11, 2000–3 I.R.B. 309

92–13AModified, amplified, and superseded by Rev. Proc. 2000–11, 2000–3 I.R.B. 309

94–12Modified, amplified, and superseded by Rev. Proc. 2000–11, 2000–3 I.R.B. 309

96–13Modified by Rev. Proc. 2000–1, 2000–1 I.R.B. 4

98–27Superseded by Rev. Proc. 2000–12, 2000–4 I.R.B. 387

98–64Superseded by Rev. Proc. 2000–9, 2000–2 I.R.B. 280

99–1Superseded by Rev. Proc. 2000–1, 2000–1 I.R.B. 4

99–2Superseded byRev. Proc. 2000–2, 2000–1 I.R.B. 73

99–3Superseded by Rev. Proc. 2000–3, 2000–1 I.R.B. 103

99–4Superseded by Rev. Proc. 2000–4, 2000–1 I.R.B. 115

99–5Superseded by Rev. Proc. 2000–5, 2000–1 I.R.B. 158

99–6Superseded by Rev. Proc. 2000–6, 2000–1 I.R.B. 187

99–7Superseded by Rev. Proc. 2000–7, 2000–1 I.R.B. 227

99–8Superseded by Rev. Proc. 2000–8, 2000–1 I.R.B. 230

99–49Modified and amplified by bothNotice 2000–4, 2000–3, I.R.B. 313and Rev. Rul. 2000–4, 2000–4 I.R.B. 331

99–51Superseded by Rev. Proc. 2000–3, 2000–1 I.R.B. 103

Treasury Decisions:

8734Modified by T.D. 8856, 2000–3, I.R.B. 298

8804Modified by T.D. 8856, 2000–3, I.R.B. 298

1 A cumulative list of previously published items inInternal Revenue Bulletins 1999–27 through1999–52 is in Internal Revenue Bulletin 2000–1,dated January 3, 2000.

February 7, 2000 iv 2000–6 I.R.B.

IndexInternal Revenue Bulletins2000–1 Through 2000–6

For a cumulative index of items publishedin Internal Revenue Bulletins 1999–1through 1999–26, see Internal RevenueBulletin 1999–27, dated July 6, 1999.

The abbreviation and number in paren-thesis following the index entry refer tothe specific item; numbers in roman anditalic type following the parenthesis referto the Internal Revenue Bulletin in whichthe item may be found and the pagenumber on which it appears.

Key to Abbreviations:RR Revenue RulingRP Revenue ProcedureTD Treasury DecisionCD Court DecisionPL Public LawEO Executive OrderDO Delegation OrderTDO Treasury Department OrderTC Tax ConventionSPR Statement of Procedural

RulesPTE Prohibited Transaction

Exemption

EMPLOYEE PLANSAreas in which advance letter rulings and

determination letters will not be issuedfrom Associate Chief Counsel;Domestic (RP 3) 1, 103

Areas in which advance letter rulings anddetermination letters will not be issuedfrom Associate Chief Counsel;International (RP 7) 1, 227

Cash or deferred arrangements; nondis-crimination (Notice 3) 4, 413

Determination letter; issuing procedures(RP 6) 1, 187

Full funding limitations; weighted aver-age interest rate for: January (Notice8) 4, 420

Letter rulings, determination letters andinformation letters issued by AssociateChief Counsel (RP 1) 1, 4

Letter rulings, information letters, etc.(RP 4) 1, 115

Reporting requirements; Section 457plans (Ann 1) 2, 294

Technical advice to district directors andchiefs, appeals office from AssociateChief Counsel (RP 2) 1, 73

Technical advice to IRS employees (RP5) 1, 158

User fees; request for letter rulings (RP8) 1, 230

EMPLOYMENT TAXESTATE TAXQTIP elections; individual retirement

accounts and testamentary trusts (RR2) 3, 305

Marital / Charitable deduction, valuationof property; administration expenses(Ann 3) 2, 296

Regulations:26 CFR 1.663(a)–1, amended;

1.663(c)–1, amended; 1.663(c)–2,revised; 1.663(c)–3, amended;1.663(c)–4, redesignated as1.663(c)–5; 1.663(c)–4, added;1.663(c)–5, amended; 1.663(c)–6,added; separate shares rule applica-ble to estates (TD 8849) 2, 245

Separate shares rules (TD 8849) 2, 245

EXCISE TAXPrepaid telephone cards (TD 8855) 4,

374Regulations:

26 CFR 49.4251–4, added; 602.101,amended; prepaid telephone cards(TD 8855) 4, 374

Return filing and deposits (Ann 5) 4, 427

EXEMPT ORGANIZATIONSAreas in which advance letter rulings and

determination letters will not be issuedfrom Associate Chief Counsel;Domestic (RP 3) 1, 103

Information letters available for publicinspection (Ann 2) 2, 295

Letter rulings, information letters, etc.(RP 4) 1, 115

Private foundation disclosure rules (TD8861) 5, 442

Regulations:26 CFR 301.6104(d)–1, removed;

301.6104(d)–2, redesignated as301.6104(d)–0, revised;301.6104(d)–3, redesignated as301.6104(d)–1, amended;301.6104(d)–4, redesignated as301.6104(d)–2, amended;301.6104(d)–5, redesignated as

301.6104(d)–3, amended; 602.101(b),amended; private foundation disclo-sure rules (TD 8861) 5, 442

Technical advice to IRS employees (RP5) 1, 158

User fees; request for letter rulings (RP8) 1, 230

INCOME TAXAccounting period change; automatic

consent (RP 11) 3, 309Adequate disclosure of gifts (Ann 6) 4,

428Allocation of partnership debt; nonre-

course liabilities (REG–103831–99) 5,452

Appeals; test of arbitration procedure(Ann 4) 3, 317

Areas in which advance letter rulings anddetermination letters will not beissued; International (RP 7) 1, 227

Asset acquisitions; allocation of purchaseprice (TD 8858) 4, 332

Barter exchanges; information reporting(Notice 6) 3, 315

Business Expenses:Hyperinflationary currencies; defini-

tion (REG–116567–99) 5, 463; (TD8860) 5, 437

ISO 9000 costs (RR 4) 4, 331 Traveling expenses; per diem

allowances (RP 9) 2, 280Canadian banking legislation, repeal;

deferral of termination (Notice 7) 4,419

Closely-held real estate investment trust;estimated tax payments; penalty relief(Notice 5) 3, 314

Contribution in aid of construction; defi-nition (REG–106012–98) 2, 290

Credits:Low-income housing credit; compli-

ance monitoring (TD 8859) 5, 429Research credit; controlled group

(REG–105606–99) 4, 421Depreciation of MACRS property; invol-

untary conversion or like-kindexchange (Notice 4) 3, 313

Determination of underwriting income;non-life insurance companies (TD8857) 4, 365

Disclosure of return information; Censusof Agriculture (TD 8854) 3,306;

EXEMPT ORGANIZATIONS—continued

2000–6 I.R.B. v February 7, 2000

(REG–116704–99) 3, 325Estimated taxes:

Closely-held real estate investmenttrust; penalty relief (Notice 5) 3,314

Foreign currency, hyperinflation; defi-nition (REG–116567–99) 5, 463;(TD 8860) 5, 437

Foreign partnership:Information reporting (TD 8850) 3,

265U.S. persons with reportable event;

reporting requirement (TD 8851) 2,275

Guidance priority list (Notice 10) 5, 451Information letters available for public

inspection (Ann 2) 2, 295Information reporting:

Barter exchange (Notice 6) 3, 315Foreign partnerships and foreign cor-porations (TD 8850) 3, 265

Innocent spouse; equitable relief (RP 15)5, 447

Interest:Investment:Federal short-term, mid-term, and

long-term rates for: January 2000(RR 1) 2, 250

Inventory:LIFO:Price indexes; department stores:

November 1999 (RR 3) 3, 297Letter rulings, determination letters and

information letters issued by AssociateChief Counsel (RP 1) 1, 4

Low-income housing credit; compliancemonitoring (TD 8859) 5, 429

Partnerships:Mergers and divisions

(REG–111119–99) 5, 455Allocation of nonrecourse liabilities

(REG–103831–99) 5,452Postponement of tax-related deadlines;

service in combat zone orPresidentially declared disaster(REG–101492–98) 3, 326

Private foundation disclosure rules (TD8861) 5, 442

Proposed Regulations:26 CFR 1.41–0, amended; 1.41–8,

revised; credit for increasingresearch activities(REG–105606–99) 4, 421

26 CFR 1.118–2, added; contributionin aid of construction; definition(REG–106012–98) 2, 290

26 CFR 1.708–1, amended; 1.743–1,amended; treatment of partnershipmergers and divisions(REG–111119–99) 5, 455

26 CFR 1.752–3, amended; 1.752–5,revised; allocation of nonrecourseliabilities by a partnership(REG–103831–99) 5, 452

26 CFR 1.988–1, revised; hyperinfla-tionary currencies, definition(REG–116567–99) 5, 463

26 CFR 301.6103(j)(5)–1, added; dis-closure of return information;Census of Agriculture(REG–116704–99) 3, 325

26 CFR 301.7508–1, added;301.7508A–1, added; relief for ser-vice in combat zone and forPresidentially declared disaster(REG–101492–98) 3, 326

Qualified Zone Academy Bonds (RP 10)2, 287

Recharacterizing financing arrangements;fast-pay stock (TD 8853) 4, 377

Regulations:26 CFR 1.42–5, –6, –11, –12, –13,

amended; 1.42–17, added; compli-ance monitoring and miscellaneousissues relating to the low-incomehousing credit (TD 8859) 5, 429

26 CFR 1.338–0, –1, –2, –3, removed;1.338–4, redesignated as 1.338–8;1.338–5, redesignated as 1.338–9;1.338–4T, –5T, –6T, –7T, –10T,added; 1.338(b)–1, added;1.338(b)–2T, –3T, removed;1.338(h)(10)–1, removed;1.338(i)–1, removed; 1.338(i)–1T,added; 1.1060–1T, revised; purchaseprice allocations in deemed andactual asset acquisitions (TD 8858)4, 332

26 CFR 1.871–14, revised; 1.1441–1,–4, –5, –6, –8, –9, revised;1.1443–1, revised; 1.6042–3,revised; 1.6045–1, revised;1.6049–5, revised; withholding oftax on certain U.S. source incomepaid to foreign persons; delay ofeffective date (TD 8856) 3, 298

26 CFR 1.988–0, amended; 1.988–2,amended; treatment of income andexpenses from certain hyperinfla-tionary currencies; nonperiodic pay-ments (TD 8860) 5, 437

26 CFR 1.1366–0, –1, added;

1.1366–2, revised; 1.1366–3, –4, –5,added; 1.1367–0, –1, amended;1.1367–3, revised; 1.1368–0, –1, –2,–3, amended; 1.1368–4, revised;passthrough of items of an S corpo-ration to its shareholders (TD 8852)2, 253

26 CFR 1.1441–10, added;1.7701(1)–0, added; 1.7701(1)–3,added; 602.101(b), amended;recharacterizing financing arrange-ments involving fast–pay stock (TD8853) 4, 377

26 CFR 1.6038–3, added; 1.6038–2,amended; 1.6038B–1, amended;1.6038B–2, amended; informationreporting with respect to certain for-eign partnerships and certain foreigncorporations (TD 8850) 2, 265

26 CFR 1.6046A–1, added; returnrequirement for U.S. persons acquir-ing or disposing of an interest in aforeign partnership (TD 8851) 2,275

26 CFR 301.6103(j)(5)–1T, added;disclosure of return information;Census of Agriculture (TD 8854) 3,306

26 CFR 301.6104(d)–1, removed;301.6104(d)–2, redesignated as301.6104(d)–0, revised;301.6104(d)–3, redesignated as301.6104(d)–1, amended;301.6104(d)–4, redesignated as301.6104(d)–2, amended;301.6104(d)–5, redesignated as301.6104(d)–3, amended;602.101(b), amended; private foun-dation disclosure rules (TD 8861) 5,442

Reorganizations:Solely for voting stock requirement

(Notice 1) 2, 288Divisive mergers; definition (RR 5) 5,

436Research credit; controlled group

(REG–105606–99) 4, 421S corporation passthrough items (TD

8852) 2, 253Letter rulings, determination letters and

information letters issued by AssociateChief Counsel (RP1) 1, 4

Technical advice to district directors andchiefs, appeals office from AssociateChief Counsel (RP 2) 1, 73

Variable annuity contracts; closing agree-

INCOME TAX cont. INCOME TAX cont.INCOME TAX cont.

February 7, 2000 vi 2000–6 I.R.B.

ments (Notice 9) 5, 449Withholdings:

U.S. source income payments to for-eign persons; delay of effective date(TD 8856) 3, 298

Qualified intermediary withholdingagreements (RP 12) 4, 387

INCOME TAX cont.

INTERNAL REVENUE BULLETINThe Introduction at the beginning of this issue describes the purpose and content of this publication. The weekly Internal Revenue

Bulletin is sold on a yearly subscription basis by the Superintendent of Documents. Current subscribers are notified by theSuperintendent of Documents when their subscriptions must be renewed.

CUMULATIVE BULLETINSThe contents of this weekly Bulletin are consolidated semiannually into a permanent, indexed, Cumulative Bulletin. These are

sold on a single copy basis and are not included as part of the subscription to the Internal Revenue Bulletin. Subscribers to the week-ly Bulletin are notified when copies of the Cumulative Bulletin are available. Certain issues of Cumulative Bulletins are out of printand are not available. Persons desiring available Cumulative Bulletins, which are listed on the reverse, may purchase them from theSuperintendent of Documents.

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