IRB 2004-32 (Rev. August 9, 2004)

Bulletin No. 2004-32August 9, 2004

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.

INCOME TAX

Rev. Rul. 2004–81, page 161.LIFO; price indexes; department stores. The May 2004Bureau of Labor Statistics price indexes are accepted for useby department stores employing the retail inventory and last-in,first-out inventory methods for valuing inventories for tax yearsended on, or with reference to, May 31, 2004.

Rev. Rul. 2004–83, page 157.Corporate reorganizations. This ruling provides that if, pur-suant to an integrated plan, a parent corporation sells the stockof a subsidiary to another subsidiary and the acquired sub-sidiary liquidates into the acquiring subsidiary, the transactionis a reorganization under section 368(a)(1)(D) of the Code.

Rev. Rul. 2004–84, page 163.Federal rates; adjusted federal rates; adjusted federallong-term rate and the long-term exempt rate. For pur-poses of sections 382, 642, 1274, 1288, and other sectionsof the Code, tables set forth the rates for August 2004.

Rev. Rul. 2004–87, page 154.Bankruptcy; golden parachute payments. This ruling pro-vides rules for the application of section 280G of the Code,concerning golden parachute payments, in the context of abankruptcy. Specifically, this ruling addresses whether the ac-quisition of stock by the former creditors results in a changein ownership or control, whether a corporation whose stockis de-listed is eligible for the exemption for certain corpora-tions whose stock is not readily tradeable on an establishedsecurities market if the shareholder approval and disclosure re-quirements described in the final regulations are satisfied, andwhether stock that is de-listed from a securities market is con-

sidered readily tradeable if it is traded on an over-the-countermarket (such as the pink sheets).

T.D. 9138, page 160.This Treasury decision removes temporary regulation section1.463–1T, which provides a rule for an election to deductvested accrued vacation pay for a taxpayer’s first taxable yearending after July 18, 1984. The repeal of section 463 of theCode in 1987 has rendered the temporary regulation obsolete.

T.D. 9140, page 159.Final regulations under section 461 of the Code clarify that thetransfer of a taxpayer’s note or promise to provide property orservices in the future is not a transfer for the satisfaction ofa contested liability under section 461(f). A transfer of a tax-payer’s stock or the stock or note of a related party also isnot a transfer for the satisfaction of a contested liability undersection 461(f). The regulations further provide that, in general,economic performance does not occur when a taxpayer trans-fers money or other property to a trust, escrow account, orcourt to provide for the satisfaction of a contested paymentliability.

REG–150562–03, page 175.Proposed regulations relate to the application of section 1045of the Code to partnerships and their partners. The regula-tions provide rules regarding the deferral of gain on a partner’ssale of qualified small business stock and deferral of gain on apartner’s sale of qualified small business stock distributed bya partnership. A public hearing is scheduled for November 2,2004.

Notice 2004–52, page 168.This notice requests comments regarding the treatment of cer-tain financial transactions commonly known as credit defaultswaps (CDSs).

(Continued on the next page)

Actions Relating to Court Decisions is on the page following the Introduction.Announcements of Disbarments and Suspensions begin on page 184.Finding Lists begin on page ii.

Rev. Proc. 2004–48, page 172.This document provides that certain eligible entities may re-quest relief for a late S corporation election and a late elec-tion to be classified as an association taxable as a corporationwithin 18 months of the original due date of the S corporationelection (but in no event later than 6 months after the due dateof the tax return, excluding extensions, for the first year theentity intended to be an S corporation).

ESTATE TAX

Rev. Proc. 2004–47, page 169.This document provides a simplified alternate procedure (in lieuof requesting a letter ruling) for certain executors of estatesand trustees of trusts to request relief to make a late reversequalified terminable interest property (QTIP) election under sec-tion 2652 of the Code.

EXCISE TAX

Rev. Rul. 2004–80, page 164.Retail excise tax; highway tractor; truck. This ruling ap-plies the primarily designed tests in section 145.4051–1(e)(1)and (2) of the regulations under the Highway Revenue Act of1982 (Pub. L. 97–424) for purposes of determining whethera vehicle is a truck or a highway tractor.

ADMINISTRATIVE

Rev. Rul. 2004–88, page 165.TEFRA partnership; disregarded entity; pass-thru part-ner; tax matter partner. This ruling addresses whether adisregarded entity partner will disqualify a partnership from be-ing a “small partnership” excluded from the TEFRA partnershipprovisions. The ruling also addresses whether a disregardedentity may be designated as the tax matters partner of a part-nership.

Rev. Proc. 2004–48, page 172.This document provides that certain eligible entities may re-quest relief for a late S corporation election and a late elec-tion to be classified as an association taxable as a corporationwithin 18 months of the original due date of the S corporationelection (but in no event later than 6 months after the due dateof the tax return, excluding extensions, for the first year theentity intended to be an S corporation).

August 9, 2004 2004–32 I.R.B.

The IRS MissionProvide America’s taxpayers top quality service by helpingthem understand and meet their tax responsibilities and by

applying the tax law with integrity and fairness to all.

IntroductionThe Internal Revenue Bulletin is the authoritative instrument ofthe Commissioner of Internal Revenue for announcing officialrulings and procedures of the Internal Revenue Service and forpublishing Treasury Decisions, Executive Orders, Tax Conven-tions, legislation, court decisions, and other items of generalinterest. It is published weekly and may be obtained from theSuperintendent of Documents on a subscription basis. Bulletincontents are compiled semiannually into Cumulative 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 application ofthe tax laws, including all rulings that supersede, revoke, mod-ify, or amend any of those previously published in the Bulletin.All published rulings apply retroactively unless otherwise indi-cated. Procedures relating solely to matters of internal man-agement are not published; however, statements of internalpractices and procedures that affect the rights and duties oftaxpayers are published.

Revenue rulings represent the conclusions of the Service on theapplication of the law to the pivotal facts stated in the revenueruling. In those based on positions taken in rulings to taxpayersor technical advice to Service field offices, identifying detailsand information of a confidential nature are deleted to preventunwarranted invasions of privacy and to comply with statutoryrequirements.

Rulings and procedures reported in the Bulletin do not have theforce and effect of Treasury Department Regulations, but theymay be used as precedents. Unpublished rulings will not berelied on, used, or cited as precedents by Service personnel inthe disposition of other cases. In applying published rulings andprocedures, the effect of subsequent legislation, regulations,

court decisions, rulings, and procedures must be considered,and Service personnel and others concerned are cautionedagainst reaching the same conclusions in other cases unlessthe facts and circumstances are substantially the same.

The Bulletin is divided into four parts as follows:

Part I.—1986 Code.This part includes rulings and decisions based on provisions ofthe 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 Other Related Items, and Subpart B, Leg-islation and Related Committee Reports.

Part III.—Administrative, Procedural, and Miscellaneous.To the extent practicable, pertinent cross references to thesesubjects are contained in the other Parts and Subparts. Alsoincluded in this part are Bank Secrecy Act Administrative Rul-ings. Bank Secrecy Act Administrative Rulings are issued bythe Department of the Treasury’s Office of the Assistant Sec-retary (Enforcement).

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

The last Bulletin for each month includes a cumulative indexfor the matters published during the preceding months. Thesemonthly indexes are cumulated on a semiannual basis, and arepublished in the last Bulletin of each semiannual period.

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.

2004–32 I.R.B. August 9, 2004

Actions Relating to Decisions of the Tax CourtIt is the policy of the Internal Rev-

enue Service to announce at an early datewhether it will follow the holdings in cer-tain cases. An Action on Decision is thedocument making such an announcement.An Action on Decision will be issued atthe discretion of the Service only on unap-pealed issues decided adverse to the gov-ernment. Generally, an Action on Decisionis issued where its guidance would be help-ful to Service personnel working with thesame or similar issues. Unlike a TreasuryRegulation or a Revenue Ruling, an Actionon Decision is not an affirmative statementof Service position. It is not intended toserve as public guidance and may not becited as precedent.

Actions on Decisions shall be reliedupon within the Service only as conclu-sions applying the law to the facts in theparticular case at the time the Action onDecision was issued. Caution should beexercised in extending the recommenda-tion of the Action on Decision to similarcases where the facts are different. More-over, the recommendation in the Action onDecision may be superseded by new legis-lation, regulations, rulings, cases, or Ac-tions on Decisions.

Prior to 1991, the Service publishedacquiescence or nonacquiescence only in

certain regular Tax Court opinions. TheService has expanded its acquiescenceprogram to include other civil tax caseswhere guidance is determined to be help-ful. Accordingly, the Service now mayacquiesce or nonacquiesce in the holdingsof memorandum Tax Court opinions, aswell as those of the United States DistrictCourts, Claims Court, and Circuit Courtsof Appeal. Regardless of the court decid-ing the case, the recommendation of anyAction on Decision will be published inthe Internal Revenue Bulletin.

The recommendation in every Actionon Decision will be summarized as ac-quiescence, acquiescence in result only,or nonacquiescence. Both “acquiescence”and “acquiescence in result only” meanthat the Service accepts the holding ofthe court in a case and that the Servicewill follow it in disposing of cases withthe same controlling facts. However, “ac-quiescence” indicates neither approvalnor disapproval of the reasons assignedby the court for its conclusions; whereas,“acquiescence in result only” indicatesdisagreement or concern with some or allof those reasons. “Nonacquiescence” sig-nifies that, although no further review wassought, the Service does not agree withthe holding of the court and, generally,

will not follow the decision in disposingof cases involving other taxpayers. Inreference to an opinion of a circuit courtof appeals, a “nonacquiescence” indicatesthat the Service will not follow the hold-ing on a nationwide basis. However, theService will recognize the precedentialimpact of the opinion on cases arisingwithin the venue of the deciding circuit.

The Actions on Decisions published inthe weekly Internal Revenue Bulletin areconsolidated semiannually and appear inthe first Bulletin for July and the Cumula-tive Bulletin for the first half of the year. Asemiannual consolidation also appears inthe first Bulletin for the following Januaryand in the Cumulative Bulletin for the lasthalf of the year.

The Commissioner does NOT ACQUI-ESCE in the following decision:

United States v. Roland HarryMacher (In re Macher),1

91 AFTR2d 2003–2654,2003–2 USTC ¶50,537

(Bankr. W.D. Va.), aff’d 303 B.R.798 (W.D. Va. 2003)

1 Nonacquiescence relating to whether a bankruptcy court has the authority to order the United States to process and consider a debtor’s plan of reorganization in accordance with proceduresapplicable to offers in compromise submitted by taxpayers who are not currently in bankruptcy.

August 9, 2004 2004–32 I.R.B.

Part I. Rulings and Decisions Under the Internal Revenue Codeof 1986Section 42.—Low-IncomeHousing Credit

The adjusted applicable federal short-term, mid-term, and long-term rates are set forth for the monthof August 2004. See Rev. Rul. 2004-84, page 163.

Section 280G.—GoldenParachute Payments

Federal short-term, mid-term, and long-term ratesare set forth for the month of August 2004. See Rev.Rul. 2004-84, page 163.

26 CFR 601.105: Examination of returns and claimsfor refund, credit, or abatement; determination ofcorrect tax liability.

Bankruptcy; golden parachute pay-ments. This ruling provides rules for theapplication of section 280G of the Code,concerning golden parachute payments, inthe context of a bankruptcy. Specifically,this ruling addresses whether the acquisi-tion of stock by the former creditors re-sults in a change in ownership or con-trol, whether a corporation whose stockis de-listed is eligible for the exemptionfor certain corporations whose stock is notreadily tradeable on an established securi-ties market if the shareholder approval anddisclosure requirements described in thefinal regulations are satisfied, and whetherstock that is de-listed from a securitiesmarket is considered readily tradeable ifit is traded on an over-the-counter market(such as the pink sheets).

Rev. Rul. 2004–87

ISSUE

In the situations described below, hasthere been a change in ownership or con-trol for purposes of §§ 280G and 4999 ofthe Internal Revenue Code? If so, are anycontingent payments potentially exemptunder § 280G(b)(5)(A)(ii) (concerningpayments from certain corporations thatare approved by its shareholders)?

FACTS

Situation 1. On March 1, 2005, Cor-poration A, files a voluntary petition for

relief under Chapter 11 of the BankruptcyCode. See 11 U.S.C. § 1101, et seq. Cor-poration A common stock is widely heldand actively traded on the New York StockExchange. There are no other shares ofCorporation A outstanding. Committeesof creditors holding unsecured claims andequity security holders are appointed pur-suant to 11 U.S.C. § 1102.

After negotiations between the unse-cured creditors’ committee, the equitycommittee, and Corporation A, a plan ofreorganization is presented to the bank-ruptcy court and approved. Under theplan of reorganization, all of the existingshares of Corporation A common stockare cancelled and new shares of commonstock are authorized. Under the plan ofreorganization, the unsecured creditors ofCorporation A will receive 75% of the newcommon stock, distributed in proportionto their claims. Certain shareholders willreceive 25% of the new common stock,distributed in proportion to their pre-re-organization stock holdings. No singleunsecured creditor will receive 20% ormore of the outstanding shares of Corpo-ration A after the reorganization.

Under the plan of reorganization, theexisting Board of Directors is replaced by anew Board of Directors that is endorsed bythe pre-reorganization Board of Directors.

Situation 2. Assume the same facts asin Situation 1 except that after the reorgani-zation the largest creditor of Corporation Awill receive 25% of the outstanding sharesof Corporation A.

Situation 3. Common stock of Corpo-ration B is widely-held and actively tradedon the New York Stock Exchange. Noother shares of Corporation B are outstand-ing. Since January 2000, Corporation Bhas experienced financial difficulties.

On June 15, 2005, Corporation B deter-mines that it is insolvent and files a vol-untary petition for relief under Chapter 11of the Bankruptcy Code. Committees ofcreditors holding unsecured claims and eq-uity security holders are appointed pur-suant to 11 U.S.C. § 1102.

On January 15, 2006, Corporation B’sstock is de-listed from the New York StockExchange and is thereafter no longer trade-able on any established securities market

(as defined in § 1.897–1(m)). No trad-ing occurred with respect to stock in Cor-poration B on any other market, includ-ing any over-the-counter market (e.g., thepink sheets, the over-the-counter-bulletinboard (OTCBB), the automated confirma-tion transaction service (ACT), or any sim-ilar market).

In March 2006, Corporation C proposesto purchase more than one-third of the totalgross fair market value of the assets of Cor-poration B. Corporation B files a motionin the bankruptcy court for approval of thesale. Pursuant to an employment contract,the sale would trigger certain payments toExecutive E, a disqualified individual withrespect to Corporation B. E files a requestin the bankruptcy court to allow Corpora-tion B to make the payments as administra-tive expenses of the bankruptcy estate un-der 11 U.S.C. § 503(a). The request spec-ifies that the payments will be made be-cause of the sale of assets to CorporationC, the total amount of each payment, anda brief description of each payment. Therequest also explains why the paymentsare actual, necessary costs and expenses ofpreserving the bankruptcy estate.

After notice and hearing, the bank-ruptcy court approves the sale of assetsand the request for payment of adminis-trative expense by orders dated September15, 2006.

On October 1, 2006, Corporation C ac-quires the assets from Corporation B, andthe payments are made to E.

Situation 4. Assume the same factsas in Situation 3 except that the stock ofCorporation B is tradeable on an over-the-counter market after de-listing from theNew York Stock Exchange.

LAW

Section 280G of the Code was enactedto discourage substantial payments to topexecutives and other personnel of a targetcorporation in connection with an acquisi-tion. In some situations, the existence ofgolden parachute arrangements could en-courage executives and other key person-nel to favor a proposed takeover that maynot be in the best interests of the sharehold-ers. To the extent amounts must be paid

2004–32 I.R.B. 154 August 9, 2004

to executives and other key personnel ofthe target corporation because of goldenparachutes or similar arrangements, thereis less for the shareholders of that corpo-ration. See, S. Prt. No. 98–169, at 195(1984); JOINT COMMITTEE ON TAXA-TION, 98th CONG., GENERAL EXPLA-NATION OF THE REVENUE PROVI-SIONS OF THE DEFICIT REDUCTIONACT OF 1984, at 199–200 (1984).

Section 280G denies a deduction forany excess parachute payment. Section4999 imposes a nondeductible 20-percentexcise tax on the recipient of any excessparachute payment, within the meaning of§ 280G(b).

An excess parachute payment is definedin § 280G(b)(1) as an amount equal tothe excess of any parachute payment overthe portion of the disqualified individual’sbase amount that is allocated to such pay-ment.

Section 280G(b)(2)(A) defines aparachute payment as any payment inthe nature of compensation to (or for thebenefit of) a disqualified individual if (i)such payment is contingent on a changein the ownership of a corporation, theeffective control of a corporation, or theownership of a substantial portion of theassets of a corporation (a change in own-ership or control), and (ii) the aggregatepresent value of the payments in the natureof compensation which are contingent onsuch change equals or exceeds an amountequal to 3 times the base amount.

Section 280G(b)(5)(A)(ii) of the Codeprovides, in part, that a parachute paymentdoes not include any payment to a disqual-ified individual with respect to a corpora-tion (other than a small business corpora-tion as defined in § 1361(b) but without re-gard to paragraph (1)(C) thereof) if (I) im-mediately before the change described in§ 280G(b)(2)(A) no stock in such corpo-ration was readily tradeable on an estab-lished securities market or otherwise, and(II) the shareholder approval requirementsof § 280G(b)(5)(B) are met with respect tosuch payment.

Section 280G(b)(5)(B)(ii) of the Codeprovides that the shareholder approval re-quirements of § 280G(b)(5) are met withrespect to any payment if (i) such pay-ment was approved by a vote of the per-sons who owned, immediately before thechange described in § 280G(b)(2)(A)(i),more than 75 percent of the voting power

of all outstanding stock of the corporation,and (ii) there was adequate disclosure toshareholders of all material facts concern-ing all payments which (but for this para-graph) would be parachute payments withrespect to a disqualified individual.

Under §1.280G–1 of the Income TaxRegulations, Q/A–6(a), a parachute pay-ment does not include any payment to adisqualified individual with respect to acorporation if (1) immediately before thechange in ownership or control, no stockin such corporation was readily tradeableon an established securities market or oth-erwise, and (2) the shareholder approvalrequirements of Q/A–7 are met with re-spect to such payment. Under §1.280G–1,Q/A–6(e) of the regulations, stock istreated as readily tradeable if it is regu-larly quoted by brokers or dealers makinga market in such stock. Section 1.280G–1of the regulations, Q/A–6(f) provides thatan established securities market means anestablished securities market as defined in§1.897–1(m) of the regulations.

Section 1.280G–1, Q/A–7(a), of theregulations provides that the shareholderapproval requirements are met with re-spect to the payment if (1) the payment isapproved by more than 75% of the votingpower of all outstanding stock entitled tovote (as described in Q/A–7) immediatelybefore the change in ownership or control,and (2) before the vote there is adequatedisclosure to all persons entitled to vote(as described in Q/A–7) of all materialfacts concerning all material paymentswhich (but for Q/A–6) would be parachutepayments with respect to the disqualifiedindividual.

Section 1.280G–1 of the regulations,Q/As 27, 28, and 29 provides guidanceconcerning when a corporation is consid-ered to have undergone a change in owner-ship of a corporation, a change in effectivecontrol of a corporation, or a change in theownership of a substantial portion of theassets of a corporation (a change in own-ership or control).

Q/A–27(a) provides that a change in theownership of a corporation occurs on thedate that any one person, or more than oneperson acting as a group, acquires owner-ship of stock of the corporation that, to-gether with stock held by such person (ormore than one person acting as a groupunder Q/A–27(b)) possesses more than 50percent of the total fair market value or to-

tal voting power of the stock of such cor-poration. Q/A–27(b) provides that personswill not be considered to be acting as agroup merely because they happen to pur-chase or own stock of the same corporationat the same time, or as a result of the samepublic offering.

Q/A–28(a) provides, in part, that achange in the effective control of a corpo-ration is presumed to occur on the date thateither (1) any one person, or more thanone person acting as a group (as definedin Q/A–28(d)), acquires (or has acquiredduring the 12-month period ending on thedate of the most recent acquisition by suchperson or persons) ownership of stock ofthe corporation possessing 20 percent ormore of the total voting power of the stockof such corporation; or (2) a majority ofthe members of the corporation’s board ofdirectors is replaced during any 12-monthperiod by directors whose appointment orelection is not endorsed by a majority ofthe members of the corporation’s board ofdirectors prior to the date of the appoint-ment or election. The presumption may berebutted by showing that the acquisitionof stock or replacement of the board doesnot transfer the power to control (directlyor indirectly) from any one person (ormore than one person acting as a group)to another person (or group). Q/A–28(d)contains the same language as Q/A–27(b)concerning when more than one person isconsidered to be acting as a group.

Q/A–29 provides that a change in theownership of a substantial portion of acorporation’s assets occurs on the datethat any one person, or more than oneperson acting as a group (as defined inQ/A–29(c)) acquires (or has acquired dur-ing the 12-month period ending on thedate of the most recent acquisition by suchperson or persons) assets from the corpo-ration that have a total gross fair marketvalue equal to or more than one-third ofthe total gross fair market value of all ofthe assets of the corporation immediatelyprior to such acquisition or acquisitions.For this purpose, gross fair market valuemeans the value of the assets of the cor-poration, or the value of the assets beingdisposed of, determined without regard toany liabilities associated with such assets.Q/A–29(c) contains the same language asQ/A–27(b) concerning when person willbe considered to be acting as a group.

August 9, 2004 155 2004–32 I.R.B.

In a bankruptcy case, an entity may filea request for payment of an administrativeexpense of the bankruptcy estate. See 11U.S.C. § 503(a). Pursuant to 11 U.S.C.§ 503(b)(1)(A), after notice and hearing,the bankruptcy court shall allow the pay-ment of administrative expenses whichwere actual, necessary costs and expensesof preserving the estate, including wages,salaries, or commissions for services ren-dered after the commencement of the case.11 U.S.C. § 503(b)(1)(A).

ANALYSIS — Situation 1

The receipt of stock by a creditor un-der a bankruptcy plan of reorganization isoften involuntary in that the creditors of abankrupt estate typically would prefer thatthe debt be paid in cash rather than in stockof the debtor. The fact that unsecured cred-itors are represented by a committee andthat the plan of reorganization of the debtorprovides for the creditors to receive stockinstead of cash is ordinarily a function ofthe financial resources of the estate and isnot necessarily indicative of any intentionof the creditors to act as a group to ac-quire control of the debtor. In this situa-tion, Corporation A filed a voluntary peti-tion for relief in the bankruptcy court andthe pre-bankruptcy creditors did not act to-gether to force Corporation A into bank-ruptcy. The fact that the pre-bankruptcycreditors were appointed to a committee ofcreditors and received stock in proportionto their pre-bankruptcy debt does not in-dicate that the creditors acted together toacquire stock in Corporation A. Thus, thecreditors are not acting as a group, withinthe meaning of Q/A–27(b) or Q/A–28(d),to acquire the stock of Corporation A.


Because one creditor acquired 20 per-cent or more of Corporation A’s stockwithin a 12-month period, Corporation Ais presumed, under Q/A–28(a), to haveexperienced a change in effective control.However, this presumption may be rebut-ted by a showing that the largest creditorwill not act to control the management andpolicies of Corporation A.


Because Corporation C acquired morethan one third of the total gross fair market

value of all of the assets of Corporation B,there is a change in ownership of Corpo-ration B under Q/A–29. However, if Cor-poration B qualifies as a corporation de-scribed in § 280G(b)(5)(A)(ii)(I), concern-ing payments from corporations that meetcertain shareholder approval and disclo-sure requirements, and the requirementsof § 280G(b)(5)(A)(ii)(II) are satisfied, thepayments are exempt from the definitionof parachute payment.

Under these facts, the stock of Cor-poration B was de-listed from an es-tablished securities market and was nototherwise readily tradeable on the date ofthe change in control. Further, no trad-ing occurred on any market (includingany over-the-counter market). Thus, Cor-poration B is a corporation described in§ 280G(b)(5)(A)(ii)(I) on the date of thechange in control.

In order to satisfy the requirementsof § 280G(b)(5)(A)(ii)(II) outside of thebankruptcy context, generally, Q/A–7(a)of the regulations requires that the pay-ment must be adequately disclosed toshareholders and then approved by morethan 75% of the voting power of all out-standing stock entitled to vote immedi-ately before the change in ownership orcontrol. However, for a corporation inbankruptcy, the continuing interests ofequity owners can be difficult to deter-mine or predict. Through the bankruptcyprocess, the pre-bankruptcy shareholdersmay end up with a continuing equity in-terest in the company or the equity mayend up partially or fully transferred tocreditors. Correspondingly, the pre-bank-ruptcy shareholders may lack a materialcontinuing equity interest in the affairs ofthe corporation and therefore also lack thecorresponding motivation to appropriatelyevaluate the payments at issue.

In Situation 3, the payments to E wereapproved by the bankruptcy court pur-suant to 11 U.S.C. § 503(b)(1)(A). Thebankruptcy court therefore made a factualfinding that the payments were actual,necessary costs and expenses of preserv-ing the bankruptcy estate. The legislativehistory of § 280G indicates that the goldenparachute rules were enacted to discour-age excessive payments to executivesand other key personnel in order to pro-tect the shareholders. See S. Rpt. No.98–169 at 195. The bankruptcy courtapproval serves to protect the estate and

the ultimate owners from unnecessary orexcessive payments made to executives.Consequently, for purposes of § 280G,the shareholder approval and disclosurerequirements of § 280G(b)(5)(A)(i)(II)and Q/A–7 are deemed satisfied, and thepayments to E are not parachute payments.


Similar to Situation 3, there has beena change in ownership of CorporationB under Q/A–29. Additionally, if Cor-poration B qualifies as a corporationdescribed in § 280G(b)(5)(A)(ii)(I) (con-cerning payments from corporations thatmeet certain shareholder approval and dis-closure requirements) on the date of thechange in control and the requirements of§ 280G(b)(5)(A)(ii)(II) are satisfied, thepayments are exempt from the definitionof parachute payment.

The trading of stock on an over-the-counter market (e.g., the pink sheets, theOTCBB, the ACT, or any similar market)when the corporation is a debtor in a caseunder the Bankruptcy Code is impaired,and therefore, the stock is not considered“readily tradeable” for purposes of § 280G.

Accordingly, for the reasons discussedin Situation 3, the payments to E are notparachute payments.

HOLDINGS — Situation 1

In Situation 1, because no person (orpersons acting as a group) acquired morethan 50 percent of the total fair marketvalue or total voting power of Corpora-tion A (Q/A–27); because no person (orpersons acting as a group) acquired withina 12-month period 20% or more of theoutstanding stock of Corporation B andthe new Board of Directors is approvedby the pre-reorganization Board of Direc-tors (Q/A–28); and because there is no ac-quisition of the assets of Corporation A(Q/A–29), Corporation A did not undergoa change in ownership or control under§ 280G.


Corporation A is presumed to have ex-perienced a change in effective control un-der § 280G. The presumption may be re-butted in accordance with Q/A–28(b).

2004–32 I.R.B. 156 August 9, 2004


Because Corporation C acquired morethan one third of the total gross fair mar-ket value of all of the assets of Corpora-tion B, there is a change in ownership ofCorporation B under Q/A–29. However,Corporation B is eligible for the exemp-tion provided in § 280G(b)(5)(A)(ii). Un-der these facts, the shareholder approvaland disclosure requirements described in§ 280G(b)(5)(B) and Q/A–7 are deemedto be satisfied, and thus, the paymentsto E are exempt from the definition ofparachute payment.


For purposes of §280G, the tradingof stock on an over-the-counter marketwhen the corporation is a debtor in a caseunder the Bankruptcy Code is impaired,and therefore, the stock is not considered“readily tradeable.” Thus, Corporation Bis eligible for the exemption provided in§ 280G(b)(5)(A)(ii). Under these facts,the shareholder approval and disclosure re-quirements described in § 280G(b)(5)(B)and Q/A–7 are deemed to be satisfied, andthe payments to E are exempt from thedefinition of parachute payment.

EFFECTIVE DATE

This revenue ruling applies to any pay-ment that is contingent on a change in own-ership or control if the change of own-ership or control occurs on or after July19, 2004. Notwithstanding the foregoing,where a corporation is a debtor in a caseunder the Bankruptcy Code, its securitiestraded on an over-the-counter market alsoare not considered “readily tradeable” forpurposes of § 280G(b)(5)(A)(ii) with re-spect to a change in ownership or controlthat occurred before July 19, 2004.

COMMENTS REQUESTED

Comments are requested concern-ing whether, or to what extent, thedefinition of “readily tradeable” under§ 280G(b)(5)(A)(ii) should exclude stockof a corporation that is tradeable on anover-the-counter market (e.g., the pinksheets, the OTCBB, the ACT, or any sim-ilar market).

Comments should be submitted by Oc-tober 18, 2004, to CC:PA:LPD:PR (Rev-

enue Ruling 2004–87), Room 5203, In-ternal Revenue Service, POB 7604 BenFranklin Station, Washington, D.C. 20044.Comments may be hand delivered betweenthe hours of 8 a.m. and 4 p.m., Mondaythrough Friday to CC:PA:LPD:PR (Rev-enue Ruling 2004–87), Courier’s Desk,Internal Revenue Service, 1111 Constitu-tion Ave., NW, Washington, D.C. Alter-natively, comments may be submitted viathe Internet at [email protected]. All comments will be avail-able for public inspection.

DRAFTING INFORMATION

The principal author of this revenue rul-ing is Erinn Madden of the Division Coun-sel/Associate Chief Counsel (Tax Exemptand Government Entities). However, otherpersonnel from the IRS and Treasury De-partment participated in its development.For further information regarding this rev-enue ruling, contact Ms. Madden at (202)622–6030 (not a toll-free call).

Section 304.—RedemptionThrough Use of RelatedCorporations26 CFR 1.304–2: Acquisition by related corporation(other than subsidiary).

If, pursuant to an integrated plan, a parent corpo-ration sells the stock of a wholly owned subsidiaryfor cash to another wholly owned subsidiary and theacquired subsidiary completely liquidates into the ac-quiring subsidiary, the transaction is treated as a re-organization under § 368(a)(1)(D). See Rev. Rul.2004-83, page 157.

Section 368.—DefinitionsRelating to CorporateReorganizations26 CFR 1.368–1: Purpose and scope of exception ofreorganization exchanges.

Corporate reorganizations. This rul-ing provides that if, pursuant to an in-tegrated plan, a parent corporation sellsthe stock of a subsidiary to another sub-sidiary and the acquired subsidiary liq-uidates into the acquiring subsidiary, thetransaction is a reorganization under sec-tion 368(a)(1)(D) of the Code.

Rev. Rul. 2004–83

ISSUE

Under the facts described below, whatis the proper tax treatment if, pursuant to anintegrated plan, a parent corporation sellsthe stock of a wholly owned subsidiaryfor cash to another wholly owned sub-sidiary and the acquired subsidiary com-pletely liquidates into the acquiring sub-sidiary.

FACTS

Situation 1

Corporation P owns all the stock of Cor-poration S and Corporation T. P, S, and Tare members of a consolidated group. Aspart of an integrated plan, S purchases allthe stock of T from P for cash and T com-pletely liquidates into S. Assume that if Thad sold its assets directly to S and T hadcompletely liquidated into P, the transac-tion would have qualified as a reorganiza-tion under § 368(a)(1)(D) of the InternalRevenue Code.

Situation 2

The facts are the same as in Situation 1except that P, S, and T are not members ofa consolidated group.

LAW

Section 368(a)(1)(D) provides that a re-organization includes a transfer by a cor-poration of all or a part of its assets to an-other corporation if immediately after thetransfer the transferor, or one or more of itsshareholders (including persons who wereshareholders immediately before the trans-fer), or any combination thereof, is in con-trol of the corporation to which the assetsare transferred; but only if, in pursuanceof the plan, stock or securities of the cor-poration to which the assets are transferredare distributed in a transaction that quali-fies under § 354, 355, or 356.

In Rev. Rul. 70–240, 1970–1 C.B. 81,B owned all the outstanding stock of Cor-poration X and Corporation Y. X sold itsoperating assets to Y for cash equal to theirfair market value and used its remainingassets to pay its debts. X then liquidatedand B received a liquidating distributionin exchange for his X stock. The ruling

August 9, 2004 157 2004–32 I.R.B.

concludes that the transfer by X of its op-erating assets to Y is regarded as the ac-quisition by Y of substantially all the as-sets of X and is a reorganization under§ 368(a)(1)(D). Accord Atlas Tool Co. v.Commissioner, 70 T.C. 86 (1978), aff’d,614 F.2d 860 (3rd Cir. 1980), cert. denied,449 U.S. 836 (1980); Armour v. Commis-sioner, 43 T.C. 295 (1964).

In determining whether a transac-tion qualifies as a reorganization under§ 368(a), the transaction must be eval-uated under relevant provisions of law,including the step transaction doctrine.Section 1.368–1(a) of the Income TaxRegulations. The step transaction doctrine“treats a series of formally separate ‘steps’as a single transaction if such steps arein substance integrated, interdependent,and focused toward a particular result.”Penrod v. Commissioner, 88 T.C. 1415,1428 (1987).

In Rev. Rul. 67–274, 1967–2 C.B. 141,pursuant to a plan of reorganization, Cor-poration Y acquired all the stock of Cor-poration X in exchange for voting stockof Y. Thereafter, X completely liquidatedinto Y. The ruling concludes that the twosteps do not qualify as a reorganizationunder § 368(a)(1)(B) followed by a liq-uidation under § 332, but instead qual-ify as a single acquisition of X’s assetsin a reorganization under § 368(a)(1)(C).See also Rev. Rul. 72–405, 1972–2 C.B.217 (treating the acquisition of the assetsof a target corporation in a forward trian-gular merger followed by the liquidationof the acquiring subsidiary as a reorgani-zation under § 368(a)(1)(C)); Rev. Rul.2001–46, 2001–2 C.B. 321 (applying theapproach reflected in Rev. Rul. 67–274 toa stock acquisition followed by a merger ofthe acquired corporation into the acquiringcorporation).

Section 1.1361–4(a)(2) provides that ifan S corporation makes a QSub electionwith respect to a subsidiary (an electionto disregard a subsidiary as an entity sep-arate from its S corporation parent), thesubsidiary is deemed to have liquidatedinto the S corporation. In Example 3 of§ 1.1361–4(a)(2)(ii), pursuant to a plan, In-dividual A contributes all the outstandingstock of Y to his wholly owned S corpora-tion, X, and immediately causes X to make

a QSub election for Y. The example con-cludes that the transaction is a reorgani-zation under § 368(a)(1)(D), assuming theother conditions for reorganization treat-ment are satisfied.

Section 304(a)(1) provides, in general,for purposes of §§ 302 and 303, if oneor more persons are in control of each oftwo corporations and, in return for prop-erty, one of the corporations acquires stockin the other corporation from the person (orpersons) so in control, then such propertyshall be treated as a distribution in redemp-tion of the stock of the corporation acquir-ing such stock.

Section 1.1502–80(b), which relates toconsolidated returns, provides that § 304does not apply to any acquisition of stockof a corporation in an intercompany trans-action.

ANALYSIS

In Situation 1, because P, S, and Tare members of a consolidated group,and S’s purchase of the T stock fromP is an intercompany transaction under§ 1.1502–80(b), § 304 cannot apply to P’ssale of T stock to S. As described above,if T had transferred its assets directly toS and T had completely liquidated intoP, the stock sale and liquidation wouldhave qualified as a reorganization un-der § 368(a)(1)(D). Consistent with Rev.Ruls. 67–274 and 72–405 and Example3 of § 1.1361–4(a)(2)(ii), the step trans-action doctrine applies to treat the stocksale and liquidation as a reorganizationunder § 368(a)(1)(D). Authorities thatreject the application of the step trans-action doctrine based on the policy of§ 338, such as § 1.338–3(d) and Rev.Rul. 90–95, 1990–2 C.B. 67, are notrelevant in this case because there is nopurchase of T stock within the meaning of§ 338(h)(3)(A) and § 1.338–3(b).

Situation 2 differs from Situation 1 onlyin that P, S, and T are not members of aconsolidated group. As a result, if the steptransaction doctrine does not apply to steptogether the stock sale and liquidation, thestock sale would be treated as a distribu-tion in redemption of the S stock under§ 304(a)(1) and the liquidation of T into Swould qualify as a liquidation under § 332.

There is no policy that requires § 304to be applied when § 368(a)(1)(D) wouldotherwise apply. See J. Comm. on Tax’n.,98th Cong. 2nd Sess., General Expla-nation of the Revenue Provisions of theDeficit Reduction Act of 1984 192 (Comm.Print 1984). Moreover, the legislative his-tory to the Deficit Reduction Act of 1984,P.L. 98–369, 1984–3 (Vol. 1) C.B. 1, indi-cates that § 304 was not intended to over-ride reorganization treatment. See H.R.Rep. No. 98–432 Pt. 2, 1624 (1984). Ac-cordingly, in Situation 2, as in Situation1, the step transaction doctrine applies totreat the stock sale and liquidation as a re-organization under § 368(a)(1)(D).

HOLDING

Under the facts presented, if, pursuantto an integrated plan, a parent corporationsells the stock of a wholly owned sub-sidiary for cash to another wholly ownedsubsidiary and the acquired subsidiarycompletely liquidates into the acquiringsubsidiary, the transaction is treated as areorganization under § 368(a)(1)(D).


The principal author of this revenueruling is Lisa S. Dobson of the Office ofAssociate Chief Counsel (Corporate). Forfurther information regarding this rev-enue ruling, contact Ms. Dobson at (202)622–7790 (not a toll-free call).

Section 382.—Limitationon Net Operating LossCarryforwards and CertainBuilt-In Losses FollowingOwnership Change

The adjusted applicable federal long-term rate isset forth for the month of August 2004. See Rev. Rul.2004-84, page 163.

Section 412.—MinimumFunding Standards


2004–32 I.R.B. 158 August 9, 2004

Section 461.—GeneralRule for Taxable Yearof Deduction26 CFR 1.461–2: Contested liabilities.

T.D. 9140

DEPARTMENT OFTHE TREASURYInternal Revenue Service26 CFR Part 1

Transfers to Provide forSatisfaction of ContestedLiabilities

AGENCY: Internal Revenue Service(IRS), Treasury.

ACTION: Final regulations.

SUMMARY: This document contains finalregulations relating to transfers of moneyor other property to provide for the satis-faction of contested liabilities. The regu-lations affect taxpayers that are contestingan asserted liability and that transfer theirown stock or indebtedness, the stock or in-debtedness of a related party, or a promiseto provide services or property in the fu-ture, to provide for the satisfaction of theliability prior to the resolution of the con-test. The regulations also affect taxpayersthat transfer money or other property to atrust, an escrow account, or a court to pro-vide for the satisfaction of a liability forwhich payment is economic performance.

DATES: Effective Date: These regulationsare effective July 20, 2004.

Applicability Dates: For dates of appli-cability, see §1.461–2(g).

FOR FURTHER INFORMATIONCONTACT: Norma Rotunno, (202)622–7900 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

This document contains amendmentsto 26 CFR Part 1 under section 461(f) ofthe Internal Revenue Code (Code). OnNovember 21, 2003, temporary regula-tions (T.D. 9095, 2003–49 I.R.B. 1175)were published in the Federal Register(68 FR 65634) relating to the transfer of

money or other property to provide forthe satisfaction of an asserted liabilitythat a taxpayer is contesting. A notice ofproposed rulemaking (REG–136890–02,2003–49 I.R.B. 1191) cross-referencingthe temporary regulations also was pub-lished in the Federal Register (68 FR65645) on November 21, 2003. No pub-lic hearing was requested or held. Onecomment was received responding to thenotice of proposed rulemaking. After con-sideration of the comment, the proposedregulations are adopted by this Treasurydecision.

Summary of Comment

The temporary regulations clarify that,in general, economic performance doesnot occur in the taxable year in which ataxpayer transfers money or other prop-erty to a trust, escrow account, or courtto provide for the satisfaction of an as-serted liability under section 461(f) forwhich payment constitutes economic per-formance. Rather, economic performanceoccurs in the taxable year in which ataxpayer transfers money or other prop-erty to the person asserting the liabilitythat the taxpayer is contesting, or in thetaxable year in which payment from thetrust, escrow account, or court registry ismade to the person to which the liability isowed. The temporary regulations also in-dicate that economic performance may besatisfied under section 468B and the regu-lations thereunder (relating to designatedsettlement funds and qualified settlementfunds).

A commentator suggested that the reg-ulations provide an example of a transferto a contested liability fund that qualifiesfor a deduction in the taxable year of trans-fer because it also satisfies the require-ments for a qualified settlement fund under§1.468B–1. The final regulations do notadopt this comment because the require-ments for establishing a qualified settle-ment fund under §1.468B–1 are complexand are beyond the scope of these regula-tions.

Effective Date

In general, these final regulations ap-ply to transfers made in taxable yearsbeginning after December 31, 1953, andending after August 16, 1954. However,these regulations apply to transfers of

any stock of the taxpayer or any stockor indebtedness of a related person onor after November 19, 2003. Addition-ally, §1.461–2(e)(2)(i), relating to eco-nomic performance, applies to transfersof money or other property after July 18,1984, the effective date of section 461(h).Section 1.461–2(e)(2)(ii) applies to (1)transfers of money or other property afterJuly 18, 1984, to satisfy workers compen-sation or tort liabilities, and (2) transfersof money or other property in taxableyears beginning after December 31, 1991,the effective date of §1.461–4(g), to sat-isfy payment liabilities designated under§1.461–4(g) (other than liabilities forworkers compensation or tort).

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 assessmentis not required. It also has been deter-mined that section 553(b) of the Admin-istrative Procedure Act (5 U.S.C. chapter5) does not apply to these regulations, andbecause the regulation does not impose acollection of information on small entities,the Regulatory Flexibility Act (5 U.S.C.chapter 6) does not apply. Pursuant to sec-tion 7805(f) of the Code, the proposed reg-ulations preceding these regulations weresubmitted to the Chief Counsel for Advo-cacy of the Small Business Administrationfor comment on their impact on small busi-ness.

Drafting Information

The principal author of these regula-tions is Norma Rotunno of the Office ofthe Associate Chief Counsel (Income Tax& Accounting). However, other personnelfrom the IRS and Treasury participated intheir 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 continues to read, in part, as follows:

August 9, 2004 159 2004–32 I.R.B.

Authority: 26 U.S.C. 7805 * * *Par. 2. In §1.461–2, paragraphs (c)(1),

(e)(2), (e)(3) Example 2, and (g) are re-vised to read as follows:

§1.461–2 Contested liabilities.

* * * * *(c) Transfer to provide for the satis-

faction of an asserted liability—(1) Ingeneral. (i) A taxpayer may provide forthe satisfaction of an asserted liability bytransferring money or other property be-yond his control to—

(A) The person who is asserting the li-ability;

(B) An escrowee or trustee pursuant to awritten agreement (among the escrowee ortrustee, the taxpayer, and the person whois asserting the liability) that the money orother property be delivered in accordancewith the settlement of the contest;

(C) An escrowee or trustee pursuant toan order of the United States or of anyState or political subdivision thereof or anyagency or instrumentality of the foregoing,or of a court, that the money or other prop-erty be delivered in accordance with thesettlement of the contest; or

(D) A court with jurisdiction over thecontest.

(ii) In order for money or other propertyto be beyond the control of a taxpayer, thetaxpayer must relinquish all authority overthe money or other property.

(iii) The following are not transfers toprovide for the satisfaction of an assertedliability—

(A) Purchasing a bond to guaranteepayment of the asserted liability;

(B) An entry on the taxpayer’s books ofaccount;

(C) A transfer to an account that iswithin the control of the taxpayer;

(D) A transfer of any indebtedness ofthe taxpayer or of any promise by the tax-payer to provide services or property in thefuture; and

(E) A transfer to a person (other than theperson asserting the liability) of any stockof the taxpayer or of any stock or indebt-edness of a person related to the taxpayer(as defined in section 267(b)).

* * * * *(e) * * *(2) Application of economic perfor-

mance rules to transfers under section461(f). (i) A taxpayer using an accrual

method of accounting is not allowed adeduction under section 461(f) in the tax-able year of the transfer unless economicperformance has occurred.

(ii) Economic performance occurs forliabilities requiring payment to anotherperson arising out of any workers com-pensation act or any tort, or any otherliability designated in §1.461–4(g), aspayments are made to the person to whichthe liability is owed. Except as providedin section 468B or the regulations thereun-der, economic performance does not occurwhen a taxpayer transfers money or otherproperty to a trust, an escrow account,or a court to provide for the satisfactionof an asserted workers compensation,tort, or other liability designated under§1.461–4(g) that the taxpayer is contest-ing unless the trust, escrow account, orcourt is the person to which the liabilityis owed or the taxpayer’s payment to thetrust, escrow account, or court dischargesthe taxpayer’s liability to the claimant.Rather, economic performance occurs inthe taxable year the taxpayer transfersmoney or other property to the person thatis asserting the workers compensation,tort, or other liability designated under§1.461–4(g) that the taxpayer is contest-ing or in the taxable year that payment ismade from a trust, an escrow account, ora court registry funded by the taxpayer tothe person to which the liability is owed.

(3) * * *

* * * * *Example 2. Corporation X is a defendant in a

class action suit for tort liabilities. In 2002, X es-tablishes a trust for the purpose of satisfying the as-serted liability and transfers $10,000,000 to the trust.The trust does not satisfy the requirements of sec-tion 468B or the regulations thereunder. In 2004, thetrustee pays $10,000,000 to the plaintiffs in settle-ment of the litigation. Under paragraph (e)(2) of thissection, economic performance with respect to X’s li-ability to the plaintiffs occurs in 2004. X may deductthe $10,000,000 payment to the plaintiffs in 2004.

* * * * *(g) Effective dates. (1) Except as other-

wise provided, this section applies to trans-fers of money or other property in taxableyears beginning after December 31, 1953,and ending after August 16, 1954.

(2) Paragraph (c)(1)(iii)(E) of this sec-tion applies to transfers of any stock of thetaxpayer or any stock or indebtedness of aperson related to the taxpayer on or afterNovember 19, 2003.

(3) Paragraph (e)(2)(i) of this sectionapplies to transfers of money or other prop-erty after July 18, 1984.

(4) Paragraph (e)(2)(ii) and paragraph(e)(3) Example 2 of this section apply to—

(i) Transfers after July 18, 1984, ofmoney or other property to provide for thesatisfaction of an asserted workers com-pensation or tort liability; and

(ii) Transfers in taxable years begin-ning after December 31, 1991, of moneyor other property to provide for the sat-isfaction of asserted liabilities designatedin §1.461–4(g) (other than liabilities forworkers compensation or tort).

Mark E. Matthews,Deputy Commissioner forServices and Enforcement.

Approved July 7, 2004.

Gregory F. Jenner,Acting Assistant Secretary of the Treasury.

(Filed by the Office of the Federal Register on July 19, 2004,8:45 a.m., and published in the issue of the Federal Registerfor July 20, 2004, 69 F.R. 43302)

Section 463.—Accrualof Vacation Pay26 CFR 1.463–1T: Removed.

T.D. 9138

DEPARTMENT OFTHE TREASURYInternal Revenue Service26 CFR Part 1

Transitional Rule for VestedAccrued Vacation Pay


ACTION: Removal of temporary regula-tion.

SUMMARY: This document removes atemporary regulation that provides a rulefor an election to deduct vested accrued va-cation pay for the first taxable year endingafter July 18, 1984. The repeal of the un-derlying code section in 1987 has renderedthe temporary regulation obsolete. The re-moval of this regulation will not affect tax-payers.

2004–32 I.R.B. 160 August 9, 2004

DATES: This Treasury decision is effec-tive on July 15, 2004.

FOR FURTHER INFORMATIONCONTACT: Jamie J. Kim at (202)622–4950 (not a toll-free number).


Background

Prior to repeal in 1987, section 463 ofthe Internal Revenue Code (Code) permit-ted taxpayers to elect to deduct reasonableadditions to a reserve account for vacationpay, including amounts earned by employ-ees before the close of the taxable yearthat, because of contingencies, would notbe deductible under section 162(a) as anaccrued expense. In connection with theenactment of the economic performancerules under section 461(h), section 91(i) ofthe Tax Reform Act of 1984, Public Law98–369 (98 Stat. 494, 609), provided atransitional rule under which certain tax-payers could make an election under sec-tion 463 for the first taxable year endingafter July 18, 1984. On February 4, 1986,the IRS and Treasury published temporaryregulation §1.463–1T (T.D. 8073, 1986–1C.B. 45) in the Federal Register (51 FR4312), as amended on April 2, 1986, (51FR 11302), to provide guidance on mak-ing the election under section 463 pursuantto the transitional rule. The repeal of sec-tion 463 by section 10201(a) of the Rev-enue Act of 1987, Public Law 100–203(101 Stat. 1330–382, 1330–387), has ren-dered temporary regulation §1.463–1T ob-solete.

Special Analyses

It has been determined that the removalof this regulation is not a significant regu-latory action as defined in Executive Order12866. Therefore, a regulatory assessmentis not required. Because this rule merelyremoves regulatory provisions made obso-lete by statute, prior notice and comment

and a delayed effective date are unneces-sary and contrary to the public interest. 5U.S.C 553(b)(B) and (d)(3). Because nonotice of proposed rulemaking is required,the Regulatory Flexibility Act (5 U.S.C.chapter 6) does not apply.


The principal author of this Treasurydecision is Jamie J. Kim of the Office ofAssociate Chief Counsel (Income Tax andAccounting), IRS.

* * * * *

Removal of Temporary Regulation

Accordingly, 26 CFR Part 1 is amendedas follows:

PART 1 — INCOME TAXES


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

§1.463–1T [Removed]

Par. 2. Section 1.463–1T is removed.


Approved July 7, 2004.

Gregory F. Jenner,Acting Assistant Secretary of the

Treasury (Tax Policy).


Section 467.—CertainPayments for the Use ofProperty or Services


Section 468.—SpecialRules for Mining and SolidWaste Reclamation andClosing Costs


Section 472.—Last-in,First-out Inventories26 CFR 1.472–1: Last-in, first-out inventories.

LIFO; price indexes; departmentstores. The May 2004 Bureau of LaborStatistics price indexes are accepted foruse by department stores employing theretail inventory and last-in, first-out in-ventory methods for valuing inventoriesfor tax years ended on, or with referenceto, May 31, 2004.

Rev. Rul. 2004–81

The following Department Store In-ventory Price Indexes for May 2004 wereissued by the Bureau of Labor Statistics.The indexes are accepted by the Inter-nal Revenue Service, under § 1.472–1(k)of the Income Tax Regulations and Rev.Proc. 86–46, 1986–2 C.B. 739, for ap-propriate application to inventories ofdepartment stores employing the retailinventory and last-in, first-out inventorymethods for tax years ended on, or withreference to, May 31, 2004.

The Department Store Inventory PriceIndexes are prepared on a national basisand include (a) 23 major groups of depart-ments, (b) three special combinations ofthe major groups — soft goods, durablegoods, and miscellaneous goods, and (c) astore total, which covers all departments,including some not listed separately, ex-cept for the following: candy, food, liquor,tobacco, and contract departments.

August 9, 2004 161 2004–32 I.R.B.

BUREAU OF LABOR STATISTICS, DEPARTMENT STOREINVENTORY PRICE INDEXES BY DEPARTMENT GROUPS

(January 1941 = 100, unless otherwise noted)

Groups May 2003 May 2004

Percent Changefrom May 2003to May 20041

1. Piece Goods . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 456.3 483.5 6.02. Domestics and Draperies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 557.6 542.2 -2.83. Women’s and Children’s Shoes . . . . . . . . . . . . . . . . . . . . . . . . . . . . 637.0 645.0 1.34. Men’s Shoes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 855.8 868.4 1.55. Infants’ Wear . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 599.6 575.6 -4.06. Women’s Underwear. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 519.8 512.2 -1.57. Women’s Hosiery . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 349.5 338.2 -3.28. Women’s and Girls’ Accessories . . . . . . . . . . . . . . . . . . . . . . . . . . . 550.2 567.5 3.19. Women’s Outerwear and Girls’ Wear . . . . . . . . . . . . . . . . . . . . . . . 374.5 377.2 0.710. Men’s Clothing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 562.3 548.4 -2.511. Men’s Furnishings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 587.2 594.3 1.212. Boys’ Clothing and Furnishings . . . . . . . . . . . . . . . . . . . . . . . . . . . . 463.5 445.2 -3.913. Jewelry. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 877.9 905.2 3.114. Notions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 789.7 797.5 1.015. Toilet Articles and Drugs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 979.7 1001.4 2.216. Furniture and Bedding . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 620.2 613.8 -1.017. Floor Coverings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 578.9 587.9 1.618. Housewares. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 730.9 714.8 -2.219. Major Appliances. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 213.7 201.6 -5.720. Radio and Television. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45.9 42.4 -7.621. Recreation and Education2. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83.4 80.8 -3.122. Home Improvements2 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 126.1 129.1 2.423. Automotive Accessories2 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 111.6 112.1 0.4

Groups 1–15: Soft Goods . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 568.1 570.1 0.4Groups 16–20: Durable Goods . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 397.1 384.2 -3.2Groups 21–23: Misc. Goods2 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 94.7 93.4 -1.4

Store Total3 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 506.0 503.2 -0.6

1Absence of a minus sign before the percentage change in this column signifies a price increase.2Indexes on a January 1986 = 100 base.3The store total index covers all departments, including some not listed separately, except for the following: candy, food, liquor,tobacco and contract departments.


The principal author of this revenueruling is Michael Burkom of the Officeof Associate Chief Counsel (Income Taxand Accounting). For further informa-tion regarding this revenue ruling, contactMr. Burkom at (202) 622–7924 (not atoll-free call).

Section 482.—Allocationof Income and DeductionsAmong Taxpayers


Section 483.—Interest onCertain Deferred Payments


Section 642.—SpecialRules for Credits andDeductions


Section 807.—Rules forCertain Reserves


2004–32 I.R.B. 162 August 9, 2004

Section 846.—DiscountedUnpaid Losses Defined


Section 1274.—Determi-nation of Issue Price in theCase of Certain Debt Instru-ments Issued for 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 and the

long-term exempt rate. For purposes ofsections 382, 642, 1274, 1288, and othersections of the Code, tables set forth therates for August 2004.

Rev. Rul. 2004–84

This revenue ruling provides variousprescribed rates for federal income taxpurposes for August 2004 (the currentmonth). Table 1 contains the short-term,mid-term, and long-term applicable fed-eral rates (AFR) for the current monthfor purposes of section 1274(d) of theInternal Revenue Code. Table 2 containsthe short-term, mid-term, and long-term

adjusted 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 de-termining the present value of annuity, aninterest for life or for a term of years, ora remainder or a reversionary interest forpurposes of section 7520.

REV. RUL. 2004–84 TABLE 1

Applicable Federal Rates (AFR) for August 2004

Period for Compounding

Annual Semiannual Quarterly Monthly

Short-Term

AFR 2.37% 2.36% 2.35% 2.35%110% AFR 2.62% 2.60% 2.59% 2.59%120% AFR 2.85% 2.83% 2.82% 2.81%130% AFR 3.09% 3.07% 3.06% 3.05%

Mid-Term

AFR 4.00% 3.96% 3.94% 3.93%110% AFR 4.41% 4.36% 4.34% 4.32%120% AFR 4.81% 4.75% 4.72% 4.70%130% AFR 5.22% 5.15% 5.12% 5.10%150% AFR 6.03% 5.94% 5.90% 5.87%175% AFR 7.05% 6.93% 6.87% 6.83%

Long-Term

AFR 5.21% 5.14% 5.11% 5.09%110% AFR 5.73% 5.65% 5.61% 5.58%120% AFR 6.27% 6.17% 6.12% 6.09%130% AFR 6.79% 6.68% 6.63% 6.59%


Adjusted AFR for August 2004

Period for Compounding

Annual Semiannual Quarterly Monthly

Short-term adjustedAFR

1.71% 1.70% 1.70% 1.69%

Mid-term adjusted AFR 3.30% 3.27% 3.26% 3.25%

Long-term adjustedAFR

4.64% 4.59% 4.56% 4.55%

August 9, 2004 163 2004–32 I.R.B.


Rates Under Section 382 for August 2004

Adjusted federal long-term rate for the current month 4.64%

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.) 4.72%


Appropriate Percentages Under Section 42(b)(2) for August 2004

Appropriate percentage for the 70% present value low-income housing credit 8.07%

Appropriate percentage for the 30% present value low-income housing credit 3.46%


Rate Under Section 7520 for August 2004

Applicable federal rate for determining the present value of an annuity, an interest for life or a term of years,or a remainder or reversionary interest 4.8%

Section 1288.—Treatmentof Original Issue Discounton Tax-Exempt Obligations


Section 1361.—S Corpo-ration Defined

Under what circumstances can an eligible entityrequest relief for a late S corporation election whenthe entity also fails to timely file an election to beclassified as an association taxable as a corporation?See Rev. Proc. 2004-48, page 172.

Section 1362.—Election;Revocation; Termination


Section 2056.—Bequests,etc., to Surviving Spouse

Simplified alternate procedure (in lieu of request-ing a letter ruling) for certain executors of estates andtrustees of trusts in order to request relief to makea late reverse qualified terminable interest property

(QTIP) election under section 2652 of the Code. SeeRev. Proc. 2004-47, page 169.

Section 2632.—SpecialRules for Allocation ofGST Exemption26 CFR 26.2632–1: Allocation of GST exemption.

Simplified alternate procedure (in lieu of request-ing a letter ruling) for certain executors of estates andtrustees of trusts in order to request relief to makea late reverse qualified terminable interest property(QTIP) election under section 2652 of the Code. SeeRev. Proc. 2004-47, page 169.

Section 2652.—OtherDefinitions26 CFR 26.2652–1: Transferor defined; other defini-tions.26 CFR 26.2652–2: Special election for qualified ter-minable interest property.

Simplified alternate procedure (in lieu of request-ing a letter ruling) for certain executors of estates andtrustees of trusts in order to request relief to makea late reverse qualified terminable interest property(QTIP) election under section 2652 of the Code. SeeRev. Proc. 2004-47, page 169.

Section 4051.—Impositionof Tax on Heavy Trucks andTrailers Sold at Retail26 CFR 145.4051–1: Imposition of tax on heavytrucks and trailers sold at retail.

Retail excise tax; highway tractor;truck. This ruling applies the primarilydesigned tests in section 145.4051–1(e)(1)and (2) of the regulations under the High-way Revenue Act of 1982 (Pub. L.97–424) for purposes of determiningwhether a vehicle is a truck or a highwaytractor.

Rev. Rul. 2004–80

ISSUE

Is the vehicle described below a truckor a tractor for purposes of the retail ex-cise tax imposed by § 4051 of the InternalRevenue Code?

FACTS

The vehicle tows trailers and semitrail-ers (trailers); the trailers exceed 35 feetin length and have a gross vehicle weight(GVW) rating of 20,000 pounds. The ve-hicle has a standard chassis cab (4-doorwith crew cab), accommodating five pas-sengers, and is outfitted with certain lux-ury features. The cab has an electric trailer

2004–32 I.R.B. 164 August 9, 2004

brake control that connects to the brakes ofa towed trailer and to a hook up for trailerlights. The vehicle has two storage boxesbehind the cab that can accommodate inci-dental items such as small tools and vehi-cle repair equipment.

The chassis cab has a GVW rating of23,000 pounds and a gross combinationweight (GCW) rating of 43,000 pounds.The vehicle is equipped with hydraulicdisc brakes with a four wheel automaticbraking system, a 300 horsepower engine,and a six-speed automatic transmission.The front axle of the vehicle has an 8,000pound rating and the rear axle has a 15,000pound rating.

The vehicle has three types of hitch-ing devices: a removable ball gooseneckhitch, a fifth wheel hitch, and a heavy dutytrailer receiver hitch. The vehicle’s plat-form, which is approximately 139 incheslong, is designed with a rectangular wellto accommodate the gooseneck and fifthwheel hitches (bed hitches). This platformslopes at the rear of the rectangular welland has tie-down hooks. Optional remov-able steel stake rails can be placed aroundthe platform.

LAW AND ANALYSIS

Section 4051(a)(1) imposes an excisetax on the first retail sale of automobiletruck chassis and bodies, truck trailer andsemitrailer chassis and bodies, and tractorsof the kind chiefly used for highway trans-portation in combination with a trailer orsemitrailer. The tax is not limited to com-mercial vehicles. Thus, a vehicle may besubject to tax even if sold for use or used asa recreational or private tow vehicle ratherthan for commercial purposes.

Section 145.4051–1(e)(1)(i) of theTemporary Excise Tax Regulations Underthe Highway Revenue Act of 1982 (Pub.L. 97–424) defines “tractor” as a highwayvehicle primarily designed to tow a ve-hicle, such as a trailer or semitrailer, butdoes not carry cargo on the same chassisas the engine. A vehicle equipped withair brakes and/or towing package will bepresumed to be primarily designed as atractor.

Section 145.4051–1(e)(2) defines“truck” as a highway vehicle that is pri-marily designed to transport its load onthe same chassis as the engine even if it is

also equipped to tow a vehicle, such as atrailer or semitrailer.

“Primarily” means “principally” or “offirst importance.” See Malat v. Riddle,383 U.S. 569 (1966), 1966–1 C.B. 184.“Primarily” does not mean “exclusive.”See Rev. Rul. 77–36, 1977–1 C.B.347. Therefore, in the context of theprimarily designed test, the reference in§ 145.4051–1(e)(1)(i) to vehicles not car-rying cargo on the same chassis as theengine does not require an absolute in-ability to carry any cargo on the vehicle’schassis. This limitation may be satisfiedeven if the vehicle can carry incidentalitems of cargo when towing a trailer orsemitrailer or is capable of carrying lim-ited amounts of cargo when not engagedin its primary function of towing a traileror semitrailer.

Under the primarily designed test, a ve-hicle that can both carry cargo on its chas-sis and tow a trailer is characterized as ei-ther a truck or tractor depending on whichfunction is of greater importance. Thefunction for which a vehicle is primarilydesigned is evidenced by physical char-acteristics such as the vehicle’s capacityto tow a vehicle, carry cargo, and oper-ate (including brake) safely when towingor carrying a cargo. Cargo carrying capac-ity depends on the vehicle’s GVW ratingand the configuration of the vehicle’s bedor platform. Towing capacity depends onthe vehicle’s GVW and GCW ratings andwhether the vehicle is configured to tow atrailer or semitrailer.

Some characteristics of the vehicle suchas its chassis cab with a GVW rating of23,000 pounds, a 300 horsepower engine,a front axle with an 8,000 pound rating,and a rear axle with a 15,000 pound ratingare consistent with either a cargo carryingor a towing function. In this case, how-ever, the vehicle also has a GCW ratingof 43,000 pounds and its engine, brakes,transmission, axle ratings, electric trailerbrake control, trailer hook up lights, andhitches enable it to tow a 20,000 poundtrailer that may exceed 35 feet in length.

When the vehicle’s bed hitches are usedto tow, the cargo carrying capacity of thevehicle is limited to the storage boxes be-hind the cab and is minimal in comparisonto the GVW of the towed trailer or semi-trailer. Neither the steel stake bed rails northe tie down hooks significantly increasecargo carrying capacity when either of the

bed hitches is used. Even if neither of thevehicle’s two bed hitches is used, the de-sign of the vehicle significantly reducesits cargo carrying capacity when comparedto the cargo carrying capacity of a pickuptruck body or a flatbed truck body installedon a comparable chassis. The significantreduction in cargo carrying capacity result-ing from the vehicle’s platform with itsrectangular well and sloping platform atthe rear of the rectangular well is evidencethat the vehicle is not primarily designedto carry cargo. By accommodating the bedhitches, however, this platform configura-tion increases the vehicle’s towing capac-ity and, in conjunction with the other fea-tures described above, makes it possible tosafely tow a 20,000 pound trailer.

The vehicle’s physical characteristics,which maximize towing capacity at the ex-pense of carrying capacity, establish thatthe vehicle is primarily designed to towa vehicle, such as a trailer or semitrailer,rather than to carry cargo on its chassis.

HOLDING

The vehicle is a tractor for purposes of§ 4051.


The principal author of this revenue rul-ing is Celia Gabrysh of the Office of As-sociate Chief Counsel (Passthroughs andSpecial Industries). For further informa-tion regarding this revenue ruling, contactCelia Gabrysh at (202) 622–3130 (not atoll-free call).

Section 6321.—Definitionsand Special Rules26 CFR 301.6231(a)–1(a)(2): Pass-thru partnerdisqualifies a partnership from the “small partner-ship” exception to the unified audit and litigationprocedures of I.R.C. §§ 6221 through 6234.Also, § 301.6231(a)(7)–1(b); 301.7701–1;301.7701–3.

TEFRA partnership; disregardedentity; pass-thru partner; tax matterpartner. This ruling addresses whethera disregarded entity partner will disqual-ify a partnership from being a “smallpartnership” excluded from the TEFRApartnership provisions. The ruling also ad-dresses whether a disregarded entity maybe designated as the tax matters partner ofa partnership.

August 9, 2004 165 2004–32 I.R.B.

Rev. Rul. 2004–88

ISSUE

1. Is a partnership that has a disregardedentity as a partner considered a “small part-nership” that is excluded from the unifiedpartnership audit and litigation proceduresset forth in I.R.C. §§ 6221 through 6234(the TEFRA partnership provisions)?

2. May a disregarded entity be desig-nated the tax matters partner (TMP) of apartnership subject to the TEFRA partner-ship provisions?

FACTS

P is a limited partnership with onegeneral partner and four limited partners.The sole general partner is a Limited Li-ability Company (LLC) that is treatedas a disregarded entity under section301.7701–3(b)(1)(ii). LLC is owned byA, an individual who is not a nonresidentalien. The four limited partners in P areindividuals who are not nonresident aliens.On its partnership return for the 2002 tax-able year, P designates LLC as its TMP.

LAW AND ANALYSIS

Issue 1

Section 6231(a)(3) defines a partner-ship item as any item required to be takeninto account for the partnership’s tax-able year under subtitle A, to the extentregulations provide that the item is moreappropriately determined at the partner-ship level than at the partner level. Undersection 6221, the tax treatment of anypartnership item shall be determined atthe partnership level under the TEFRApartnership provisions. As a general rule,the TEFRA partnership provisions applyto any partnership required to file a re-turn of partnership income under section6031. Section 6231(a)(1)(A). The TEFRApartnership provisions do not apply toa partnership that qualifies as a smallpartnership under section 6231(a)(1)(B)unless the partnership elects to applythose provisions. For partnership taxableyears ending after August 5, 1997, section6231(a)(1)(B) defines a small partnershipas a partnership in which there are ten orfewer partners, each of whom is an indi-vidual (other than a nonresident alien), an

estate of a deceased partner, or a C corpo-ration.

Section 6231(a)(2) defines a “partner”as including both a partner in the partner-ship and any other person whose incometax liability under subtitle A is determinedin whole or in part by taking into accountdirectly or indirectly partnership items ofthe partnership.

Section 301.6231(a)(1)–1(a)(2) pro-vides that the small partnership exceptiondoes not apply if any partner during thetaxable year is a “pass-thru partner” as de-fined in section 6231(a)(9). A “pass-thrupartner” is defined in section 6231(a)(9)as “a partnership, estate, trust, S corpo-ration, nominee or other similar personthrough whom other persons hold an in-terest in the partnership. . . .” (Emphasisadded). If legal title to a partnership inter-est is held in the name of a person otherthan the ultimate owner, the holder of le-gal title is considered a pass-thru partnerwithin the meaning of section 6231(a)(9).Compare White v. Commissioner, T.C.Memo. 1991–552 (custodian for minorchildren was not a pass-thru partner be-cause, under state Gift to Minors Act,the children held legal title to partner-ship interests rather than custodian; smallpartnership exception applicable) withPrimco Management Co. v. Commis-sioner, T.C. Memo. 1997–332 (grantortrust holding legal title to an interest inan S corporation was a “pass-thru share-holder”; small S corporation exceptionunder the parallel provisions of section301.6241–1T(c)(2)(iii) inapplicable).

Section 6231(a)(10) defines an indirectpartner as a person holding an interest in apartnership through one or more pass-thrupartners.

Section 301.7701–3(a) provides rulesfor the classification of certain businessentities for federal tax purposes. A busi-ness entity that is not classified as a corpo-ration is a “domestic eligible entity” and,in the absence of an election, the domesticeligible entity is “[d]isregarded as an en-tity separate from its owner if it has a sin-gle owner.” Section 301.7701–3(b)(1)(ii).If the entity is disregarded, its activities aretreated in the same manner as a sole propri-etorship, branch, or division of the owner.Section 301.7701–2(a).

Under the facts of this ruling, althoughLLC is a disregarded entity for federaltax purposes, LLC is a partner of P un-

der the law of the state in which P is or-ganized. Similarly, although A, LLC’sowner, is a partner of P for purposes ofthe TEFRA partnership provisions undersection 6231(a)(2)(B) because A’s incometax liability is determined by taking intoaccount indirectly the partnership items ofP, A is not a partner of P under state law.Because A holds an interest in P throughLLC, A is an indirect partner and LLC,the disregarded entity, is a pass-thru part-ner under the TEFRA partnership provi-sions. Consequently, the small partnershipexception does not apply to P because Phas a partner that is a pass-thru partner.

Issue 2

Section 6231(a)(7) provides that theTMP of any partnership is (A) the generalpartner designated as the tax matters part-ner, or (B) if there is no general partnerwho has been so designated, the generalpartner having the largest profits interestin the partnership. If no general partnerhas been designated as the TMP and theSecretary determines that it is impracti-cable to apply the largest profits interestrule, the partner selected by the Secretaryshall be treated as the tax matters partner.

Section 301.6231(a)(7)–1(b) providesthat the partnership may designate a per-son as the TMP of a partnership if thatperson (i) was a general partner in thepartnership at some time during the tax-able year for which the designation ismade, or (ii) is a general partner in thepartnership at the time the designation ismade. A partnership may designate only ageneral partner as the TMP because onlya general partner is authorized to bind thepartnership. A partner’s status as a generalpartner is determined under state law forthis purpose. Transpac Drilling Venture,1983–63 v. United States, 26 Cl. Ct. 1245,1247 (1992).

Although the regulations under sections301.7701–1 through 301.7701–3 providethat a disregarded entity is disregarded forall federal tax purposes, these regulationsdo not alter state law, which determines apartner’s status as a general partner.

Under the facts of this ruling, A, LLC’sowner, does not become a general partnerunder state law by operation of sections301.7701–1 through 301.7701–3. Al-though LLC is a disregarded entity forfederal tax purposes, LLC remains a part-

2004–32 I.R.B. 166 August 9, 2004

ner in P and is the sole general partnerauthorized to bind the partnership understate law. A has no power to bind otherpartners as a general partner under statelaw. Accordingly, A cannot step into theshoes of LLC, the disregarded entity, asthe TMP. See Transpac Drilling Venture,1983–63, 26 Cl. Ct. at 1248 (limited part-ner could not be the TMP because limitedpartner was not a general partner underDelaware law). See also Montana Sap-phire Associates, Ltd. v. Commissioner,95 T.C. 477, 481 (1990) (partnershipcould not designate a person who was nota member of the partnership as the TMP).Thus, only LLC, the disregarded entity, iseligible to be designated by P as its TMPor to become the TMP under the largestprofits interest rule.

HOLDINGS

1. LLC, a disregarded entity for fed-eral tax purposes, is a pass-thru partner un-der section 6231(a)(9). Consequently, be-cause P has a pass-thru partner, LLC, asa partner, the small partnership exception

to the TEFRA partnership provisions doesnot apply to the partnership.

2. LLC, a disregarded entity for federaltax purposes, but a general partner of P un-der state law, may be designated the TMPof P, a partnership subject to the TEFRApartnership provisions.


The principal author of this revenueruling is William Heard of the Office ofAssociate Chief Counsel (Procedure andAdministration), Administrative Provi-sions and Judicial Practice Division. Forfurther information regarding this rev-enue ruling, contact Mr. Heard at (202)622–7950 (not a toll-free call).

Section 7520.—ValuationTables


Section 7701.—Definitions26 CFR 301.7701–1: Classification of organizationsfor federal tax purposes.26 CFR 301.7701–2: Business entities; definitions.26 CFR 301.7701–3: Classification of business enti-ties.


Section 7872.—Treatmentof Loans With Below-MarketInterest Rates


August 9, 2004 167 2004–32 I.R.B.

Part III. Administrative, Procedural, and MiscellaneousRequest for Information AboutCredit Default Swaps

Notice 2004–52

I. PURPOSE

This notice requests further informationregarding certain financial transactionscommonly known as credit default swapsin connection with the consideration byTreasury and the IRS of taxpayer requestsfor specific guidance on the tax treatmentof credit default swaps.

II. BACKGROUND

A credit default swap (CDS) gener-ally refers to a contractual arrangementin which one party (the protection buyer)buys from a counterparty (the protectionseller) protection against default by a par-ticular obligor (the reference entity) withrespect to a particular obligation (the refer-ence obligation). Typically the protectionbuyer either pays a single lump sum, or itpays periodical regular fees either until adefined credit event occurs or until the ma-turity of the CDS if no credit event occurs.Following the occurrence of a credit event,the protection seller typically either paysthe protection buyer an amount reflectingthe reference obligation’s loss in valuefrom the date the CDS was establishedor purchases from the protection buyer ata pre-determined price an obligation (thedeliverable obligation) that is expected toapproximate the post-credit-event value ofthe reference obligation. Although certainstandard contractual terms and conditionsmay be used, the reference obligation, thedeliverable obligation, the credit eventscovered, and the protection seller’s obliga-tion upon the occurrence of a credit eventare all matters of negotiation between theparties.

A large international market for CDSshas developed. Market participants in-clude commercial banks, broker-dealers,insurance companies, hedge funds, andspecial-purpose securitization vehiclessuch as synthetic collateralized debt obli-gations. Commercial banks may buyprotection in order to manage credit riskassociated with a particular loan and maysell protection in order to acquire synthetic

exposure to other loans. Broker-dealersmay buy and sell protection in the courseof providing market liquidity. Insurancecompanies may buy and sell protectionboth in the conduct of their investmentactivities and in the conduct of their in-surance activities. Hedge funds may buyand sell protection in order to manage risk,speculate, or acquire synthetic exposure.Securitization vehicles may sell protectionin order to acquire synthetic exposure.

Recent news reports suggest that mar-ket participants are considering the cre-ation of CDS indexes through which par-ticipants could buy and sell protection on adefined basket of credit exposures on stan-dardized terms.

Several market participants have re-quested specific guidance regarding thetax treatment of CDSs. Treasury and theIRS recognize the significance of the CDSmarket and are aware that the market israpidly evolving. Treasury and the IRSbelieve that CDSs deserve careful study sothat appropriate guidance can be issued.

III. TAXPAYER REQUESTS FORGUIDANCE

Several taxpayers and industry groupshave requested guidance on the tax treat-ment of CDSs and the taxpayers that enterinto them. Among the questions they haveraised are:

• whether amounts paid by a U.S. pro-tection buyer to a foreign protectionseller constitute income that is subjectneither to withholding nor to the insur-ance-premium excise tax;

• whether a protection seller could beconsidered to be engaged in a tradeor business within the United Statesby virtue of entering into CDS agree-ments;

• whether a CDS gives rise to:

• passive income for purposes of thepassive foreign investment com-pany rules;

• qualifying income for purposesof the publicly traded partnershiprules; or

• unrelated business taxable income;and

• the timing of recognition of income forthe protection seller and expense forthe protection buyer.

The concerns raised relate particu-larly, although not exclusively, to thetreatment of payments from a protectionbuyer within the United States to a pro-tection seller outside the United States. Inresponse to these taxpayer requests, Trea-sury and the IRS are thoroughly analyzingall of the tax issues raised by CDSs andexpect to issue guidance.

Submissions generally have argued thatthe legal rights and obligations under aCDS are sufficiently analogous to thosein other types of existing financial trans-action that the tax treatment of the anal-ogous transactions should govern the taxtreatment of a CDS for all purposes of theCode. See, e.g., Bank of America v. UnitedStates, 680 F.2d 142, 149–50 (Ct. Cl.1982) (commissions for bankers’ accep-tances sourced for foreign tax credit pur-poses in same manner as interest becausepredominant feature of acceptance is sub-stitution of credit and because interest isclosest analogy in source rules).

Some possible analogies for a CDSinclude a derivative financial instrumentsuch as a contingent option or notionalprincipal contract, a financial guarantee orstandby letter of credit, and an insurancecontract. A variety of theories have beenadvanced in the existing literature both forand against these analogies. Other com-mentary recommends an alternative to theanalogue approach. Following is a briefsurvey of some of the theories that havebeen advanced.

A CDS has been analogized to a con-tingent put option that the option buyer isentitled to settle either for cash value or byphysical exercise with respect to the de-liverable obligation following the occur-rence of a credit event. Option premiumgenerally is not subject to withholding.Trading in such options may not give riseto a “trade or business within the UnitedStates” pursuant to the securities-tradingsafe harbor under section 864(b).

A CDS has been analogized to certainnotional principal contracts providing for

2004–32 I.R.B. 168 August 9, 2004

contingent nonperiodic payments. Somecommentators have argued that CDSs withperiodic payments, among other features,meet the definition of a notional princi-pal contract; however, commentators dis-agree about the scope of CDSs that mayfall within the definition of notional prin-cipal contract. Payments with respect toa notional principal contract generally arenot subject to withholding. Trading in suchnotional principal contracts may not giverise to a trade or business within the UnitedStates. Special timing rules may apply tonotional principal contracts.

A CDS has been analogized to a guaran-tee. Guarantee fees have been analogizedto commissions for letters of credit, whichare sourced in the same manner as interest.See Centel Communications Co. v. Com-missioner, 920 F.2d 1335, 1343–1344 (7thCir. 1990) (citing Bank of America). Inaddition, guaranteeing obligations and is-suing standby letters of credit from withinthe United States could constitute engag-ing in a trade or business within the UnitedStates. Some commentators have distin-guished CDSs from guarantees on the ba-sis that a credit event under a CDS requiresperformance by the protection seller with-out regard to whether the protection buyersustains an actual loss. A relevant factor inthis regard may be how much of the CDSprotection-buying market consists of per-sons who do not have or expect to be ex-posed to credit risk.

A CDS has been analogized to a formof insurance. Insurance premiums paid toa foreign person with respect to a U.S. riskare subject to excise tax. Moreover, in-suring risks from within the United Statescould constitute engaging in a trade orbusiness within the United States. Somecommentators have distinguished CDSsfrom insurance on the basis, as describedabove, that no actual loss need be sustainedin order to give rise to an obligation undera CDS. Some commentators have notedthe Supreme Court’s opinion in Helveringv. LeGierse, 312 U.S. 531 (1941), that theessence of insurance activity is the shiftingand distribution of insurance risk. Thesecommentators have suggested that manyprotection sellers do not shift or distributerisk with respect to CDSs in this way, andthat it is not clear how a protection buyercould know how its counterparty managesrisk with respect to a particular CDS.

Some commentators have suggestedconsideration of an approach to deter-mine the tax treatment of CDSs other thanclassification by analogy to other typesof financial transaction. Instead, theyhave proposed that the tax treatment ofpayments with respect to a CDS couldbe determined by analyzing various ele-ments of the CDS transaction, includingthe nature of the reference obligation andwhether a party to the CDS provides fi-nancial services to customers.

IV. REQUEST FOR COMMENTS

The foregoing brief overview indicatesthat the economic similarity of a CDS tovarious financial transactions tends to blurthe distinctions between possible analo-gies and that the various analogies corre-spond to significantly different tax treat-ment.

Treasury and the IRS believe that ad-ditional information is needed in order torespond to taxpayer requests for specificguidance regarding the appropriate taxtreatment of amounts paid and receivedwith respect to a CDS. Treasury and theIRS are particularly interested in informa-tion regarding:

• CDS contractual terms, both standardand negotiated, particularly with re-spect to credit events, subrogationrights, security interests in collateral,and collateralization requirements ingeneral;

• CDS pricing, particularly with respectto guarantees, contingent options, andinsurance;

• operation of the CDS market, partic-ularly with respect to price quotationand dissemination;

• market practice regarding hedging, themanagement of basis risk, and the tim-ing of CDS transactions relative to theassumption and disposition of analo-gous risks; and

• the regulatory capital, GAAP, and in-ternal booking treatment of CDSs byvarious market participants.

Treasury and the IRS also welcome anyother information that market participantsbelieve may be relevant.

V. SUBMISSION OF COMMENTS

Taxpayers may submit written com-ments to: CC:PA:LPD:PR (Notice2004–52), Room 5203, Internal Rev-enue Service, POB 7604, Ben FranklinStation, Washington, DC 20044. Sub-missions may be hand delivered be-tween the hours of 8 a.m. and 4 p.m.to CC:PA:LPD:PR (Notice 2004–52),Courier’s Desk, Internal Revenue Service,1111 Constitution Avenue, NW, Wash-ington, DC. Alternatively, taxpayers maysubmit comments electronically via the In-ternet by submitting comments electron-ically via the following e-mail address:[email protected] include: Notice 2004–52 in thesubject line of any electronic communica-tions.


The principal authors of this noticeare Paul Epstein, Theodore Setzer, andSteven Jensen of the Office of AssociateChief Counsel (International). For furtherinformation regarding this notice, contactMr. Epstein, Mr. Setzer, or Mr. Jensen at(202) 622–3870 (not a toll-free call).

26 CFR 601.201: Rulings and determination letters.(Also, Part I, §§ 2056, 2652; 26.2632–1, 26.2652–1,26.2652–2, 301.9100–3.)

Rev. Proc. 2004–47

SECTION 1. PURPOSE

This revenue procedure provides a sim-plified alternate method for certain execu-tors of estates and trustees of trusts to re-quest relief to make a late reverse qualifiedterminable interest property (QTIP) elec-tion under § 2652 of the Internal RevenueCode. This alternate method may be usedin lieu of the normal letter ruling process.No user fee is charged for requests filed un-der this revenue procedure.

SECTION 2. BACKGROUND

.01 Under § 2001(a), the estate tax isimposed on the transfer of the taxableestate of every decedent who is a citizenor resident of the United States. Sec-tion 2056(a) provides that for purposesof § 2001, the value of the taxable estate

August 9, 2004 169 2004–32 I.R.B.

shall, except as limited by § 2056(b), bedetermined by deducting from the valueof the gross estate the value of any interestin property that passes or has passed fromthe decedent to the decedent’s survivingspouse. Section 2056(b) generally pro-vides that no deduction is allowed for aninterest passing to the surviving spouseif, on the lapse of time, on the occurrenceof an event or contingency, or on the fail-ure of an event or contingency to occur,the interest will terminate or fail. Sec-tion 2056(b)(7) provides an exception forproperty meeting the QTIP requirementsin § 2056(b)(7)(B).

.02 Section 2056(b)(7)(B)(i) defines“qualified terminable interest property” asproperty: (1) that passes from the dece-dent; (2) in which the surviving spouse hasa qualifying income interest for life; and(3) to which an election under § 2056(b)(7)applies. Property for which a QTIP elec-tion is made is treated as passing to thesurviving spouse for purposes of deter-mining the decedent’s taxable estate. Thevalue of any property that was deductedunder § 2056(b)(7) from the decedent’sgross estate and that remains on the sur-viving spouse’s death will be included inthe surviving spouse’s gross estate under§ 2044. If the surviving spouse makes alifetime disposition of all or a portion ofthe qualifying income interest, § 2519 pro-vides that the surviving spouse is treatedfor estate and gift tax purposes as trans-ferring all interests in the property otherthan the qualifying income interest. Fur-thermore, the transfer of the qualifyingincome interest is subject to the gift taxunder § 2511 and § 25.2511–2.

.03 Chapter 13 imposes a generation-skipping transfer (GST) tax on all trans-fers, whether made directly or indirectly,to skip persons. Under § 2613(a), a skipperson is a person who is two or more gen-erations younger than the transferor or is atrust if all of the interests are held by skippersons. Under § 2652, the transferor gen-erally is the individual who transfers prop-erty in a transaction subject to the federalgift or estate tax. Under § 2611(a), trans-fers that are subject to the GST tax includedirect skips, taxable distributions, and tax-able terminations.

.04 Section 2631 allows every trans-feror a GST tax exemption of $1,000,000that may be allocated by the individual (orthe individual’s executor) to any property

with respect to which the individual is thetransferor. For calendar years after 1998,this exemption amount has been indexedfor inflation. For transfers made betweenJanuary 1, 2004, and December 31, 2009(inclusive), the GST exemption will equalthe amount that is exempted from trans-fer tax by the applicable credit amount de-scribed in § 2010. With respect to trans-fers made at death, the allocation of a dece-dent’s GST tax exemption is made on thedecedent’s Form 706, United States Es-tate (and Generation-Skipping Transfer)Tax Return. A decedent’s unused GSTtax exemption is automatically allocatedon the due date for filing the decedent’sForm 706 to the extent not otherwise al-located by the decedent’s executor on orbefore that date.

.05 Section 2632(e) and § 26.2632–1(d)(2) of the Generation-Skipping Trans-fer Tax Regulations supply the methodfor the automatic allocation of any unusedGST tax exemption. The exemption is firstallocated pro rata to direct skips treatedas occurring on death on the basis of thevalue of property as finally determined forfederal estate tax purposes. The balance,if any, is then allocated pro rata, on thebasis of estate tax value, to trusts with re-spect to which a taxable termination mayoccur or from which a taxable distributionmay be made. In the case of trusts that arenot included in the gross estate, the GSTtax exemption is allocated on the basis ofthe date of death value of the trust. Noautomatic allocation is made to a trust thatwill have a new transferor with respect tothe entire trust prior to the occurrence ofany GST with respect to the trust. The au-tomatic allocation of GST tax exemptionis irrevocable.

.06 With respect to QTIP, the dece-dent’s surviving spouse will become thenew transferor with respect to the entiretrust before the occurrence of any GSTfrom the trust. Accordingly, a decedent’sGST tax exemption is not automaticallyallocated to property for which a QTIPelection was made. Section 2652(a)(3)provides, however, that if an election ismade to treat property as QTIP under§ 2056(b)(7), the person making the elec-tion may, for purposes of chapter 13, electto treat the property as if the QTIP elec-tion had not been made (reverse QTIPelection). As a result of the reverse QTIPelection, the decedent remains, for GST

tax purposes, the transferor of the QTIPtrust or property. The decedent’s GST taxexemption, accordingly, may be allocatedto the QTIP trust or property, either by anaffirmative allocation or by the automaticallocation of the decedent’s remainingGST tax exemption. The reverse QTIPelection is made on the same return onwhich the QTIP election is made.

.07 To date, the Internal Revenue Ser-vice has issued several private letter rul-ings providing relief to taxpayers whofailed to make a reverse QTIP electionon a timely filed Form 706 and who havesatisfied the requirements of § 301.9100–3of the Procedure and Administration Reg-ulations. Section 301.9100–3(a) gener-ally provides that requests for extensionsof time for regulatory elections will begranted when the taxpayer provides ev-idence to establish to the satisfaction ofthe Commissioner that the taxpayer actedreasonably and in good faith, and that thegrant of relief will not prejudice the inter-ests of the Government.

SECTION 3. SCOPE

.01 In General. Except as otherwiseprovided in sections 3.02 and 3.03 of thisrevenue procedure, the alternate simplifiedprocedure authorized in this revenue pro-cedure for obtaining permission to file alate reverse QTIP election is available ifthe requirements of sections 4.02 and 4.03of this revenue procedure are met.

.02 Certain Late Reverse QTIP Elec-tions. This revenue procedure does not ap-ply to intervivos transfers to or for the ben-efit of a spouse, or to transfers to or for thebenefit of a non-citizen spouse in the formof a qualified domestic trust. Relief underthis revenue procedure does not include orgrant permission to make a late severanceof a trust included in the gross estate orto allocate GST exemption. Accordingly,permission to file a late reverse QTIP elec-tion in conjunction with a late severance oran allocation of GST exemption must berequested through the letter ruling processas described in section 3.03 of this revenueprocedure.

.03 Failure to Qualify for Relief Un-der This Revenue Procedure. An executorwho is denied relief or is otherwise out-side the scope of this revenue proceduremay request relief under § 301.9100–3 byrequesting a letter ruling. The procedural

2004–32 I.R.B. 170 August 9, 2004

requirements for requesting a letter rul-ing are described in Rev. Proc. 2004–1,2004–1 I.R.B. 1 (or its successor). If a let-ter ruling is requested after relief has beendenied under this revenue procedure, theletter ruling request must indicate that re-lief was requested and denied under thisrevenue procedure. Rev. Proc. 2004–1,Appendix C, 2004–1 I.R.B. 1, 70.

SECTION 4. RELIEF FOR UNTIMELYREVERSE QTIP ELECTIONS

.01 Definitions.(1) Executor. Solely for purposes of

this revenue procedure, the term execu-tor includes: an executor of an estate asdefined in § 2203 and §§ 20.2203–1 and§ 20.2056(b)–7(b)(3) of the Estate TaxRegulations; the trustee of the QTIP trust;or any other person in actual or construc-tive possession of the property, for whichthe reverse QTIP election will be made.

(2) Decedent. For purposes of this rev-enue procedure, the term decedent refers tothe individual for whose estate the reverseQTIP election was not timely made.

(3) Reverse QTIP Election. For pur-poses of this revenue procedure, a reverseQTIP election refers to the affirmative in-dication on Schedule R of Form 706 by theexecutor to treat the decedent as the trans-feror for GST purposes of the QTIP trustor property to which the election pertains.As a result of this election, the decedent’sGST tax exemption may be allocated tothe QTIP trust or property. This is thecase even though the surviving spouse orthe surviving spouse’s estate will be sub-ject to the gift or estate tax with respect tothe property before the property passes toa skip person.

(4) Due Date of the Reverse QTIPElection. Section 26.2652–2(b) providesthat the reverse QTIP election is madeon the return on which the QTIP electionis made. Section 20.2056(b)–7(b)(4)(i)provides that the QTIP election under§ 2056(b)(7) must be made on the last es-tate tax return filed by the executor on orbefore the due date of the return, includingextensions (if any). If a timely return isnot filed, the election must be made on thefirst estate tax return filed by the executorafter the due date. Estate tax returns mustbe filed within 9 months after the date ofthe decedent’s death, not including exten-sions.

.02 Eligibility for Relief. Relief is avail-able under section 4.02 of this revenue pro-cedure if, on the date of the filing of therequest described in 4.03 of this revenueprocedure, the following requirements aremet:

(1) A valid QTIP election under§ 2056(b)(7) was made for the property ortrust on the federal estate tax return filedfor the decedent’s estate;

(2) The reverse QTIP election was notmade on the estate tax return as filed be-cause the taxpayer relied on the advice andcounsel of a qualified tax professional andthat qualified tax professional failed to ad-vise the taxpayer of the need, advisability,or proper method to make a reverse QTIPelection;

(3) The decedent has a sufficientamount of unused GST exemption,after the automatic allocation of theGST exemption under § 2632(e) and§ 26.2632–1(d)(2), to result in a zero-in-clusion ratio for the reverse QTIP trust orproperty;

(4) The estate is not eligible under§ 301.9100–2(b) for an automatic 6-monthextension;

(5) The surviving spouse has not madea lifetime disposition of all or any part ofthe qualifying income interest for life inthe QTIP trust or property;

(6) The surviving spouse is alive or nomore than 6 months have passed since thedeath of the surviving spouse; and

(7) Relief is requested by the executorin accordance with section 4.03 of this rev-enue procedure.

.03 Procedural Requirements for Relief.(1) The estate must file with the In-

ternal Revenue Service a request for anextension of time to make a reverse QTIPelection. The request should have a coversheet requesting relief that states at the topof the document “REQUEST FOR EX-TENSION FILED PURSUANT TO REV.PROC. 2004–47.” The following itemsmust be attached to the request for relief:

(a) Copies of Parts 1 through 5and Schedule M of the original estate taxreturn filed with the Service;

(b) A properly completed Sched-ule R as required to make the reverse QTIPelection;

(c) A statement describing whythe reverse QTIP election was not madeon the estate tax return as filed;

(d) A statement affirming that allof the requirements in section 4.02 of thisrevenue procedure have been met;

(e) A dated declaration, signedby the executor of the estate (as definedabove), that states: “Under penalties ofperjury, I declare that, to the best of myknowledge and belief, the facts presentedin support of this election are true, correct,and complete. In addition, all attachmentsprovided in support of this request forrelief are true and correct copies of theoriginal documents.”; and

(f) A signed statement from thequalified tax professional on whom thetaxpayer relied when preparing the origi-nal estate tax return. The statement shouldestablish the tax professional’s qualifi-cations as a qualified tax professionaland must include a dated declaration thatstates: “Under penalties of perjury, I de-clare that, to the best of my knowledgeand belief, the facts presented in supportof this request for relief are true, correct,and complete.”

(2) Subject to any contrary instruc-tions in future forms, instructions, orguidance published by the Service, therequest should be sent to the CincinnatiService Center for processing.

(a) If a private delivery service isused, the request should be sent to:

Internal Revenue Service Center201 W. Rivercenter Blvd.Covington, KY 41012;

(b) If a private delivery service isnot used, the request should be sent to:

Internal Revenue Service CenterCincinnati, OH 45999.

.04 Relief for Late Reverse QTIP Elec-tion. Upon receipt of a request for re-lief under section 4.03 of this revenue pro-cedure, the Service Center will determinewhether the requirements for granting ad-ditional time to file the reverse QTIP elec-tion under this revenue procedure havebeen satisfied and will notify the executorof the result of this determination.

.05 Effect of Relief. An extension oftime to make the reverse QTIP election un-der § 2652(a)(3) does not extend the timeto make an allocation of any remainingGST exemption. However, once the elec-tion is made, the decedent remains, forGST tax purposes, the transferor of the

August 9, 2004 171 2004–32 I.R.B.

QTIP trust or property. As a result, thedecedent’s remaining GST tax exemptionwill be automatically allocated pursuant to§ 2632(e) and § 26.2632–1(d)(2) to theQTIP trust or property for which the re-verse QTIP election was made, based onthe value of the trust or property as finallydetermined for federal estate tax purposes.The relief provided by this revenue proce-dure does not include or grant permissionto allocate retroactively the decedent’s re-maining GST exemption or to make a lateseverance of a trust included in the grossestate.

SECTION 5. EFFECTIVE DATE

.01 In General. This revenue procedureis effective August 9, 2004.

.02 Transition Rule for Pending LetterRuling Requests. If an executor has fileda request for a letter ruling seeking re-lief to file a reverse QTIP election under§ 301.9100–3 and that letter ruling requestis pending in the national office on Au-gust 9, 2004, the executor may withdrawthe letter ruling request and receive a re-fund of its user fee if prior to September23, 2004, the executor notifies the nationaloffice that it will withdraw the letter rulingrequest. If the executor does not so notifythe national office by September 23, 2004,the national office will process letter rul-ing requests pending on August 9, 2004,and will retain the user fee paid.

SECTION 6. PAPERWORKREDUCTION ACT

The collection of information con-tained in this revenue procedure has beenreviewed and approved by the Officeof Management and Budget in accor-dance with the Paperwork Reduction Act(44 U.S.C. 3507) under control number1545–1898.

An agency may not conduct or sponsor,and a person is not required to respondto, a collection of information unless thecollection of information displays a validOMB control number.

The collection of information in thisrevenue procedure is in section 4. Thisinformation is required to be submitted tothe applicable service center in order to ob-tain an extension of time to make a late re-verse QTIP election. This information willbe used to determine whether the eligibil-

ity requirements for obtaining relief havebeen met. The collection of information isrequired to obtain a benefit. The likely re-spondents are estates and trusts.

The estimated total annual reportingburden is 54 hours.

The estimated average annual burdenper respondent is 9 hours to complete thestatements required under this revenueprocedure. The estimated number of re-spondents is 6.

There is no estimated annual frequencyof responses as the reverse QTIP electionis a one-time election.

Books or records relating to a collectionof information must be retained as longas their contents may become material inthe administration of any internal revenuelaw. Generally tax returns and tax returninformation are confidential, as requiredby 26 U.S.C. 6103.


The principal author of this revenueprocedure is DeAnn K. Malone of theOffice of the Associate Chief Counsel(Passthroughs and Special Industries). Forfurther information regarding this revenueprocedure, contact DeAnn K. Malone at(202) 622–7830 (not a toll-free call).

26 CFR 601.105: Examination of returns and claimsfor refund, credit, or abatement.(Also §§ 1361, 1362; 301.7701–1, 301.7701–2,301.7701–3, 301.9100–1, 301.9100–3.)

Rev. Proc. 2004–48

SECTION 1. PURPOSE

This revenue procedure provides a sim-plified method for taxpayers to request re-lief for a late S corporation election and alate corporate classification election whichwas intended to be effective on the samedate that the S corporation election was in-tended to be effective. Generally, this rev-enue procedure provides that certain eligi-ble entities may be granted relief if the en-tity satisfies the requirements of section 4of this revenue procedure.

SECTION 2. BACKGROUND

.01 S Corporation Elections.(1) In general. Section 1361(a)(1) of

the Internal Revenue Code provides that

the term “S corporation” means, with re-spect to any taxable year, a small busi-ness corporation for which an election un-der § 1362(a) is in effect for that year.

Section 1362(b)(1) provides that acorporation may make an election to betreated as an S corporation for any taxableyear (A) at any time during the precedingtaxable year, or (B) at any time during thetaxable year and on or before the 15th dayof the 3rd month of the taxable year.

Section 1362(b)(3) provides that if (A)a small business corporation makes anelection under § 1362(a) for any taxableyear, and (B) the election is made after the15th day of the 3rd month of the taxableyear and on or before the 15th day of the3rd month of the following taxable year,then the election shall be treated as madefor the following taxable year.

(2) Late S corporation elections. Sec-tion 1362(b)(5) provides that if (A) anelection under § 1362(a) is made for anytaxable year (determined without regardto § 1362(b)(3)) after the date prescribedby § 1362(b) for making the election forthe taxable year or no election is made forany taxable year, and (B) the Secretary de-termines that there was reasonable causefor the failure to timely make the elec-tion, the Secretary may treat the electionas timely made for the taxable year (and§ 1362(b)(3) shall not apply).

.02 Entity Classification Elections.(1) In general. Section 301.7701–2(a)

of the Procedure and Administration Reg-ulations defines a “business entity” as anyentity recognized for federal tax purposesthat is not properly classified as a trust un-der § 301.7701–4 or otherwise subject tospecial treatment under the Code.

Section 301.7701–3(a) provides that abusiness entity that is not classified as acorporation under § 301.7701–2(b)(1), (3),(4), (5), (6), (7), or (8) (an “eligible entity”)can elect its classification for federal taxpurposes as provided in this section.

Section 301.7701–3(b)(1) providesthat, except as otherwise provided in para-graph (b)(3) of that section, unless theentity elects otherwise, a domestic eligibleentity is (i) a partnership if it has two ormore members; or (ii) disregarded as anentity separate from its owner if it has asingle owner.

Section 301.7701–3(c)(1) provides thatan eligible entity may elect to be classifiedother than as provided in § 301.7701–3(b)

2004–32 I.R.B. 172 August 9, 2004

by filing Form 8832, Entity ClassificationElection, with the service center desig-nated on Form 8832.

Section 301.7701–3(c)(iii) providesthat the entity classification election willbe effective on the date specified by theentity on the Form 8832 or on the datefiled if no date is specified on the elec-tion form. The effective date specified onForm 8832 cannot be more than 75 daysbefore or more than 12 months after thedate the election is filed. If an electionspecifies a date more than 75 days prior tothe date it was filed, the election will beeffective 75 days prior to the date it wasfiled. If an election specifies a date morethan 12 months after the date it was filed,the election will be effective 12 monthsafter it is filed.

(2) Late Entity Classification Elections.Under § 301.9100–1(c) the Commissionermay grant a reasonable extension of timeunder the rules set forth in § 301.9100–2and 301.9100–3 to make a regulatory elec-tion, or a statutory election (but no morethan six months except in the case of a tax-payer who is abroad), under all subtitles ofthe Code, except subtitles E, G, H, and I.

Section 301.9100–1(b) defines the term“regulatory election” as an election whosedue date is prescribed by a regulation pub-lished in the Federal Register, or a revenueruling, revenue procedure, notice, or an-nouncement published in the Internal Rev-enue Bulletin.

Section 301.9100–3 provides that re-quests for relief under that section will begranted when the taxpayer provides evi-dence to establish to the satisfaction of theCommissioner that the taxpayer acted rea-sonably and in good faith, and that grant-ing relief will not prejudice the interests ofthe Government.

Rev. Proc. 2002–59, 2002–2 C.B. 615,provides relief for an entity newly formedunder local law that requests relief for alate initial classification election filed bythe due date of the entity’s first federalincome tax return (excluding extensions).

Rev. Proc. 2003–43, 2003–1 C.B. 998provides a simplified method for taxpay-ers to request relief for late S corporationelections where the entity fails to qualify asan S corporation solely because of the fail-ure to file the election timely with the ap-plicable service center. Under the revenueprocedure, certain eligible entities may begranted relief for failing to file these elec-

tions in a timely manner if the request forrelief is filed within 24 months of the duedate of the election.

Under § 301.7701–3T(c)(1)(v)(C), aneligible entity that timely elects to be anS corporation under section 1362(a)(1)is treated as also having made an elec-tion to be classified as an association,provided that (as of the effective dateof the election under section 1362(a)(1))the entity meets all other requirementsto qualify as a small business corpo-ration under section 1361(b). Section301.7701–3T(c)(1)(v)(C) further providesthat the deemed election to be classifiedas an association generally is effective asof the effective date of the S corporationelection and will remain in effect until theentity makes another entity classificationelection under § 301.7701–3(c)(1)(i).

SECTION 3. SCOPE

.01 In General. An eligible entity thatseeks to be classified as a subchapter S cor-poration must elect to be classified as anassociation under § 301.7701–3(c)(1)(i)by filing Form 8832 and must elect tobe an S corporation under § 1362(a) byfiling Form 2553, Election by a SmallBusiness Corporation. In many situa-tions, an entity may timely file Form2553 but fail to file the Form 8832. Sec-tion 301.7701–3T(c)(1)(v)(C) applies tothese situations and deems an eligibleentity that timely files a Form 2553 toalso have filed a Form 8832. In othersituations, an eligible entity fails to filea timely Form 2553. In these situations,§ 301.7701–3T(c)(1)(v)(C) does not applyand the entity would be required to ob-tain relief in a letter ruling. This revenueprocedure provides a simplified methodfor requesting relief for those situationsnot covered by § 301.7701–3T, providedthat the requirements of sections 4.01 and4.02 of this revenue procedure are satis-fied. The method provided in this revenueprocedure is in lieu of the letter rulingprocess ordinarily used to obtain relieffor late elections under §§ 1362(b)(5),301.9100–1, and 301.9100–3. Accord-ingly, user fees do not apply to correctiveaction under this revenue procedure.

.02 Relief if this Revenue Procedure isnot Applicable. An entity that does notmeet the requirements for relief or is de-nied relief under this revenue procedure

may seek relief by requesting a letter rul-ing. The procedural requirements for re-questing a letter ruling are described inRev. Proc. 2004–1, 2004–1 I.R.B. 1, orits successors.

SECTION 4. RELIEF FOR LATE SCORPORATION ELECTION ANDLATE CORPORATE CLASSIFICATIONELECTION

.01 Eligibility for Relief. An entity mayrequest relief under this revenue procedureif the following requirements are met:

(1) The entity is an eligible entity asdefined in § 301.7701–3(a);

(2) The entity intended to be classifiedas a corporation as of the intended effectivedate of the S corporation status;

(3) The entity fails to qualify asa corporation solely because Form8832 was not timely filed under§ 301.7701–3(c)(1)(i), or Form 8832was not deemed to have been filed under§ 301.7701–3T(c)(1)(v)(C);

(4) In addition to section 4.01(3) ofthis section, the entity fails to qualify asan S corporation on the intended effectivedate of the S corporation status solely be-cause the S corporation election was notfiled timely pursuant to § 1362(b); and

(5) The entity has reasonable cause forits failure to file timely the S corporationelection and the entity classification elec-tion.

.02 Procedural Requirements for Relief.Within 6 months after the due date for thetax return, excluding extensions, for thefirst year the entity intended to be an S cor-poration), the corporation must file a prop-erly completed Form 2553 with the appli-cable service center. The Form 2553 muststate at the top of the document “FILEDPURSUANT TO REV. PROC. 2004–48.”Attached to the Form 2553 must be a state-ment explaining the reason for the failureto file timely the S corporation election anda statement explaining the reason for thefailure to file timely the entity classifica-tion election.

.03 Relief for Late S Corporation Elec-tion and Relief for a Late CorporateClassification Election. Upon receipt ofa completed application requesting reliefunder section 4 of this revenue procedure,the Service will determine whether therequirements for granting additional timeto file the elections have been satisfied and

August 9, 2004 173 2004–32 I.R.B.

will notify the entity of the result of thisdetermination. An entity receiving reliefunder this revenue procedure is treated ashaving made an election to be classifiedas an association taxable as a corporationunder § 301.7701–3(c) as of the effectivedate of the S corporation election.

SECTION 5. EFFECTIVE DATE

This revenue procedure is effective July20, 2004. Any entity that meets the re-quirements of this revenue procedure as ofJuly 20, 2004, may seek relief under thisrevenue procedure. This revenue proce-dure applies to requests pending with theService on July 20, 2004.

SECTION 6. PAPERWORKREDUCTION ACT

The collection of information con-tained in this revenue procedure has beenreviewed and approved by the Officeof Management and Budget in accor-

dance with the Paperwork Reduction Act(44 U.S.C. 3507) under control number1545–1548.

An agency may not conduct or sponsor,and a person is not required to respondto, a collection of information unless thecollection of information displays a validOMB control number.

The collections of information in thisrevenue procedure are in section 4.02.This information is required to be sub-mitted to the applicable service center inorder to obtain relief for a late ElectionUnder Subchapter S. This information willbe used to determine whether the eligibil-ity requirements for obtaining relief havebeen met. The collection of information isrequired to obtain a benefit. The likely re-spondents are business or other for-profitinstitutions.

The estimated total annual reportingburden is 25,000 hours.

The estimated annual burden per re-spondent varies from .5 hours to 1 hour, de-pending on individual circumstances, with

an estimated average burden of 1 hour tocomplete the statement. The estimatednumber of respondents is 25,000.

The estimated annual frequency of re-sponses is on occasion.

Books or records relating to a collectionof information must be retained as longas their contents may become material inthe administration of any internal revenuelaw. Generally tax returns and tax returninformation are confidential, as requiredby 26 U.S.C. 6103.


The principal author of this rev-enue procedure is Rebekah A. Myersof the Office of Associate Chief Counsel(Passthroughs and Special Industries). Forfurther information regarding this revenueprocedure, contact Ms. Myers at (202)622–3050 (not a toll-free call).

2004–32 I.R.B. 174 August 9, 2004

Part IV. Items of General InterestNotice of ProposedRulemaking and Notice ofPublic Hearing

Section 1045 Application toPartnerships

REG–150562–03


ACTION: Notice of proposed rulemakingand notice of public hearing.

SUMMARY: This document contains pro-posed regulations relating to the applica-tion of section 1045 of the Internal Rev-enue Code (Code) to partnerships and theirpartners. These regulations provide rulesregarding the deferral of gain on a part-nership’s sale of qualified small businessstock and deferral of gain on a partner’ssale of qualified small business stock dis-tributed by a partnership. The proposedregulations affect partnerships that investin qualified small business stock and theirpartners. This document also provides no-tice of a public hearing on the proposedregulations.

DATES: Written or electronic commentsand requests to speak and outlines of top-ics to be discussed at the public hearingscheduled for Tuesday, November 2, 2004,at 10 a.m. must be received by October 11,2004.

ADDRESSES: Send submissions to:CC:PA:LPD:PR (REG–150562–03),Room 5203, Internal Revenue Service,P.O. Box 7604, Ben Franklin Station,Washington, DC 20044. Submissions maybe hand delivered Monday through Fridaybetween the hours of 8 a.m. and 4 p.m.to CC:PA:LPD:PR (REG–150562–03),Courier’s Desk, Internal Revenue Service,1111 Constitution Avenue, NW, Wash-ington DC, or sent electronically, via theIRS Internet site at: www.irs.gov/regsor via the Federal eRulemaking Por-tal at www.regulations.gov (IRS andREG–150562–03). The public hearingwill be held in the IRS Auditorium, Inter-nal Revenue Building, 1111 ConstitutionAvenue, NW, Washington, DC.

FOR FURTHER INFORMATIONCONTACT: Concerning the proposed reg-ulations, Charlotte Chyr, (202) 622–3070,or Jian H. Grant, (202) 622–3050; con-cerning submissions, the hearing, and/orplacement on the building access list toattend the hearing, Sonya Cruse, (202)622–4693 (not toll-free numbers).


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 accordancewith the Paperwork Reduction Act of 1995(44 U.S.C. 3507(d)). Comments on thecollection of information should be sent tothe Office of Management and Budget,Attn: Desk Officer for the Departmentof the Treasury, Office of Informationand Regulatory Affairs, Washington, DC20503, with copies to the Internal Rev-enue Service, Attn: IRS Reports Clear-ance Officer, SE:W:CAR:MP:T:T:SPWashington, DC 20224. Comments onthe collection of information should be re-ceived no later than September 13, 2004.Comments are specifically requested con-cerning:

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 can beminimized, including through the appli-cation of automated collection techniquesor other forms of information technology;and

Estimates of capital or start-up costsand costs of operation, maintenance, andpurchase of services to provide informa-tion.

The collection of informationin this proposed regulation is in§1.1045–1(b)(4)(ii). This information

is required to inform the IRS of partner-ships and partners making the section 1045election. The collection of information isrequired to obtain a benefit, that is, to electto apply section 1045 treatment for qual-ified small business stock that is sold bythe partnership. This information will beused by the partner to permit the partnerto defer its allocable share of gain on thepartnership’s sale of qualified small busi-ness stock and by partnerships to makenecessary adjustments to the basis of re-placement qualified small business stock.The likely respondents are individuals,businesses or other for-profit institutions,and small businesses or organizations.

The estimated burden for the collectionof information in §1.1045–1(b)(4)(ii) is asfollows:

Estimated total annual reporting bur-den: 1,000 hours.

The estimated annual burden per re-spondent varies from 45 to 75 minutes, de-pending on individual circumstances, withan estimated average of 1 hour.

Estimated number of respondents:1000

Estimated annual frequency of re-sponses: On occasion

An agency may not conduct or sponsor,and a person is not required to respond to, acollection of information unless the collec-tion of information displays a valid OMBcontrol number assigned by the Office ofManagement and Budget.

Books or records relating to a collectionof information must be retained as longas their contents may become material inthe administration of any internal revenuelaw. Generally, tax returns and tax returninformation are confidential, as requiredby 26 U.S.C. 6103.

Background

Section 1045 and section 1202 bothprovide for special treatment of gain onthe sale of QSB stock held by non-corpo-rate taxpayers. Under section 1202 of theInternal Revenue Code (Code), a taxpayerother than a corporation (a non-corporatetaxpayer) excludes 50 percent of gain onthe sale of qualified small business (QSB)stock (as defined in section 1202(c)) fromgross income if the taxpayer holds thestock for more than five years. Section

August 9, 2004 175 2004–32 I.R.B.

1045 permits a non-corporate taxpayerthat holds QSB stock (relinquished QSBstock) for more than six months and sellsit after August 5, 1997, to elect to deferrecognizing gain on the sale. To qualifyfor such deferral, the taxpayer must pur-chase QSB stock (replacement QSB stock)within a 60-day period beginning on thedate of the sale of the relinquished QSBstock. Any gain not recognized reducesthe cost basis of the replacement QSBstock. Section 1045(b)(3). The taxpayerrecognizes gain to the extent the amountrealized on the sale of the relinquishedQSB stock exceeds the cost basis of thereplacement QSB stock. Section 1045(a).Section 1045 does not apply to any gaintreated as ordinary income. Id.

Section 6005(f)(2) of the Internal Rev-enue Service Restructuring and ReformAct of 1998, Public Law 105–206 (112Stat. 6005(f)(2)), July 22, 1998, (the 1998Act) added section 1045(b)(5). That sec-tion provides that rules similar to the rulesin section 1202(f), (g), (h), (i), (j), and(k) apply for purposes of section 1045.The legislative history accompanying the1998 Act provides that the benefit of de-ferred recognition of gain with respectto the sale of QSB stock by a partner-ship will flow through to a partner who isnot a corporation if the partner held thepartnership interest at all times the partner-ship held the QSB stock. See H.R. Conf.Rep. 105–599, 105th Cong., 2d Sess. 339(1998). The legislative history further pro-vides that there are no limitations on thetypes of partners that a partnership mayhave in order for the benefits of section1045 to apply. Id. at 340.

Under section 1202(g), a non-corpo-rate taxpayer applies section 1202 to thetaxpayer’s share of a passthrough entity’sgain from the sale of QSB stock if two re-quirements are met. First, the passthroughentity must have held the QSB stockfor more than five years. Second, thetaxpayer must have held an interest inthe passthrough entity on the date thepassthrough entity acquired the QSB stockand at all times thereafter before the dis-position of the stock. For purposes ofsection 1202, passthrough entities includepartnerships, S corporations, regulated in-vestment companies (RICs), and commontrust funds. Section 1202(g)(4).

QSB stock must generally be acquiredby the taxpayer at its original issue. How-

ever, section 1202(h) provides that, in thecase of certain transfers of QSB stock,the transferee is treated as having acquiredsuch stock in the same manner as the trans-feror and as having held such stock duringany continuous period immediately pre-ceding the transfer during which it washeld by the transferor. Section 1202(h) ap-plies to transfers from a partnership to apartner of stock with respect to which re-quirements similar to the requirements ofsection 1202(g) are met at the time of thetransfer (without regard to the 5-year hold-ing period requirement) as well as to trans-fers by gift or at death.

The committee reports underlying theenactment of section 1202 explain that, un-der section 1202(h),

[q]ualified small business stock ... maybe distributed by a partnership to one ormore of its partners, as long as (1) alleligibility requirements with respect toqualified small business stock are met,and (2) the partner held its interest inthe partnership on the date the partner-ship acquired the stock and at all timesthereafter and before the disposition ofthe stock. In addition, a partner can-not treat stock distributed by a partner-ship as qualified small business stock tothe extent that the partner’s share of thestock distributed by the partnership ex-ceeded the partner’s interest in the part-nership at the time the partnership ac-quired the stock.

H. R. Rep. No. 103–111, 103d Cong., lstSess. 602 (1993).

The committee report goes on to ex-plain that transferees in cases not de-scribed in section 1202(h) are not eligiblefor partial exclusion of gain under section1202(a). Thus, for example, if qualifiedsmall business stock is transferred to apartnership and the partnership disposesof the stock, any gain from the dispositionwill not be eligible for the exclusion. Id.

Rev. Proc. 98–48, 1998–2 C.B. 367,generally provides procedures for tax-payers (including passthrough entitiesand individuals holding interests in apassthrough entity) to elect to apply sec-tion 1045. The background section of therevenue procedure explains that, undersection 1045(b)(5), a passthrough entitythat sells QSB stock held for more than 6months may make a section 1045 election

if the entity purchases replacement QSBstock during the 60-day period beginningon the date of the sale. Section 2.03, Rev.Proc. 98–48. The benefit of the section1045 election flows through to a non-cor-porate taxpayer that held an interest in thepassthrough entity for as long as the en-tity held the QSB stock. The backgroundsection of the revenue procedure also ex-plains that, under section 1045(b)(5), if apassthrough entity sells QSB stock heldfor more than six months, a non-corporatetaxpayer who has held an interest in theentity during the period in which the entityheld the QSB stock and who purchasesreplacement QSB stock during the 60-daystatutory period may elect to apply sec-tion 1045 to the non-corporate taxpayer’sshare of any gain on the sale that the entitydoes not defer under section 1045. Section2.03, Rev. Proc. 98–48.

Since Rev. Proc. 98–48 was published,the IRS and Treasury Department have re-ceived inquiries regarding the applicationof section 1045 to partnerships and theirpartners. In response to these inquiries,the proposed regulations provide rules re-lating to sales and purchases of interests ina partnership that owns QSB stock, part-nership dispositions of QSB stock, partner-ship distributions of QSB stock, and con-tributions of QSB stock to a partnership.Partners and partnerships wishing to electsection 1045 must continue to follow theprocedures of Rev. Proc. 98–48 for rulesregarding the time and manner for makingthe election, the scope of the election, andrevocation of the election.

Explanation of Provisions

A. General Rules and Definitions

1. QSB stock

Section 1045(b)(1) provides that theterm QSB stock has the same meaninggiven such term by section 1202(c). Sec-tion 1202(c) provides that the term QSBstock is any stock in a C corporation thatis originally issued after the date of theenactment of the Revenue ReconciliationAct of 1993, if (A) as of the date of is-suance, the corporation is a qualified smallbusiness, and (B) except as provided insection 1202(f) and (h), the stock is ac-quired by the taxpayer at its original issuein exchange for money or other property

2004–32 I.R.B. 176 August 9, 2004

(not including stock), or as compensationfor services provided to the corporation.

Some taxpayers have asked if a part-ner may treat a sale of a partnership inter-est as a sale of QSB stock or an acquisi-tion of a partnership interest as an acqui-sition of QSB stock. Sections 1045 and1202 do not adopt a look-though approachto the sale and acquisition of partnershipinterests. Under the plain language of sec-tion 1202(c), an investment in a partner-ship that holds or purchases QSB stock isnot treated as an investment in QSB stock.This plain language interpretation is fur-ther supported by the structure of sections1045 and 1202. Congress clearly contem-plated partnership transactions when en-acting section 1202, as several of its pro-visions address such transactions. In lightof this, Congress’s failure to provide forsection 1202(a) treatment for acquisitionsand dispositions of partnership interestsappears to have been intentional. Sucha decision by Congress would be consis-tent with the approach taken by section1202(g). That section allows partners toqualify for section 1202(a) treatment withrespect to gain recognized by reason ofholding a partnership interest only if thepartner held the interest in the partnershipon the date of the partnership’s acquisitionof QSB stock and at all times thereafter be-fore the disposition of the stock by the part-nership. If a partner were to sell its part-nership interest while the partnership stillheld QSB stock, then the partner wouldnot have held the partnership interest fromthe date of the acquisition of that stock un-til the date of the disposition of the stockby the partnership. For these reasons, theproposed regulations provide that the termQSB stock does not include an interest ina partnership that holds or purchases QSBstock.

2. Eligible partner

Under the proposed regulations, onlyan eligible partner may defer gain recog-nized by a partnership on the sale of QSBstock. Consistent with section 1202(g) and(h), the proposed regulations define an el-igible partner as a non-corporate partnerwho held an interest in the partnership atall times that the partnership held the QSBstock or a non-corporate partner who ac-quired an interest in a partnership from anexisting eligible partner by gift or death.

The proposed regulations provide spe-cial rules for determining eligible part-ners if a partnership (upper-tier partner-ship) holds an interest in a partnership(lower-tier partnership) that holds QSBstock. The proposed rules disregard theupper-tier partnership’s ownership of thelower-tier partnership and treat each part-ner of the upper-tier partnership as owningthe interest in the lower-tier partnershipdirectly. A partner of the upper-tier part-nership is treated as owning an interestin the lower-tier partnership during theperiod in which both the partner of theupper-tier partnership held an interestin the upper-tier partnership and the up-per-tier partnership held an interest in thelower-tier partnership.

The IRS and the Treasury Departmentare concerned that, although the currentlook-through treatment for tiered partner-ships may be the simplest approach, theapplication of the proposed rules presentsthe following potential problems: (1) theproposed rules prohibit an upper-tier part-nership from making a section 1045 elec-tion at the partnership level; (2) the eligiblepartners of the upper-tier partnership maynot have the necessary information to ben-efit from the proposed rules; and (3) noti-fication from the lower-tier partnership tothe upper-tier partnerships and their part-ners and vice versa may be difficult if mul-tiple tiers of partnerships are involved. Ac-cordingly, the IRS and Treasury Depart-ment request comments specifically on theapplication of the proposed rules with re-spect to tiered partnerships.

3. Nonrecognition limitation

Under the proposed regulations, theamount of gain that an eligible partnermay defer under section 1045 (whetherthe election to apply section 1045 is madeat the partnership or the partner level) maynot exceed: (A) the partner’s smallestpercentage interest in the partnership’sincome, gain, or loss with respect to therelinquished QSB stock, multiplied by (B)the partnership’s realized gain from thesale of such stock. For this purpose, thepartnership’s realized gain from the saleof the QSB stock is determined withoutregard to any basis adjustment under sec-tion 734(b) or 743(b). This rule followssection 1202(g)(2) and (3) by ensuringthat the partner can defer recognition of

only the gain that relates to the partner’scontinuous economic interest in the relin-quished QSB stock.

B. Partnership Election Under Section1045

1. General rule

Consistent with Rev. Proc. 98–48, theproposed regulations allow a partnershipto elect to apply section 1045 if the part-nership held QSB stock for more than sixmonths, sold such QSB stock, and pur-chased other QSB stock (replacement QSBstock) within 60 days of the sale. If thepartnership makes an election under sec-tion 1045, all eligible partners of the part-nership must defer their distributive sharesof the partnership section 1045 gain fromthe partnership’s sale of the QSB stock.No separate election is required of the part-ners. Partnership section 1045 gain equalsthe partnership’s gain from the sale of theQSB stock reduced by the greater of: (A)the gain from the sale of the QSB stockthat is treated as ordinary income, or (B)the excess of the amount realized by thepartnership on the sale over the cost of anyreplacement QSB stock purchased by thepartnership during the 60-day period be-ginning on the date of the sale.

2. Election procedures and notification

The proposed regulations require thepartnership to make the section 1045 elec-tion on the partnership’s timely filed re-turn (including extensions) for the taxableyear during which the partnership sells theQSB stock. In addition, the partnershipmust follow the procedures of Rev. Proc.98–48.

When a partnership makes the elec-tion, the proposed regulations require thepartnership to notify all partners that ithas made the election, and separately stateeach partner’s distributive share of thepartnership section 1045 gain under sec-tion 702. Each partner must determine ifit is an eligible partner and report the part-ner’s distributive share of gain, includinggain not recognized, on Schedule D of thepartner’s federal income tax return.

August 9, 2004 177 2004–32 I.R.B.

C. Partner Election Under Section 1045

1. General rule

Also consistent with Rev. Proc. 98–48,the proposed regulations allow an eligi-ble partner to make a section 1045 elec-tion with respect to the partner’s share ofgain from the partnership’s sale of QSBstock if the partnership does not make asection 1045 election or purchase replace-ment QSB stock within the statutory timeperiod. The election may be made if thepartnership either replaces none of the re-linquished QSB stock or replaces some butnot all of the relinquished QSB stock. Forexample, relinquished QSB stock can bepartially replaced by the partnership andpartially replaced by the partner if section1045 elections are made by both the part-nership and the partner. If a partner makesa section 1045 election, the partner recog-nizes its distributive share of the gain fromthe sale of the relinquished QSB stock onlyto the extent of the greater of: (1) the gainthat is treated as ordinary income, or (2) theexcess of the partner’s share of the amountrealized by the partnership on the sale ofthe QSB stock over the cost of any replace-ment QSB stock purchased by the partnerduring the 60-day statutory period.

A partnership that has sold QSB stockshould promptly notify its partners whenit does not intend to make a section 1045election with respect to the sale. Promptnotification will allow partners who in-tend to make separate section 1045 elec-tions time to purchase replacement QSBstock within 60 days of the sale of the re-linquished QSB stock and to make timelysection 1045 elections. However, the pro-posed regulations do not impose a require-ment on partnerships to provide such no-tification. The IRS and Treasury Depart-ment believe that it is more appropriatefor the partners to decide (for example, inthe partnership agreement) whether, and towhat extent, the partnership must providesuch notification.

2. Election procedures

The proposed regulations provide thata partner making an election under section1045 with respect to its distributive shareof gain on the partnership’s sale of QSBstock must do so on the partner’s timelyfiled federal income tax return (including

extensions) for the taxable year in whichsuch gain is taken into account. In ad-dition, the partner must follow the proce-dures of Rev. Proc. 98–48.

D. Basis Adjustments

The proposed regulations provide rulesregarding adjustments to the eligible part-ner’s basis in the partnership interest andthe partnership’s basis in the replacementQSB stock. Under these rules, if the part-nership makes a section 1045 election,then the eligible partner may not increaseits outside basis by the amount of gainthat is not recognized under section 1045.In addition, the partnership is required toreduce its basis in the replacement QSBstock by the amount of gain that is notrecognized by its partners. The adjust-ment to the partnership’s inside basis inthe replacement QSB stock is similar toa basis adjustment under section 743(b).These rules are necessary to preserve (inthe replacement QSB stock and the part-nership interest) the deferred gain on thesale of the relinquished QSB stock.

As explained above, a partner’s basis ina partnership interest is not increased byany gain that is deferred by reason of apartnership section 1045 election. In con-trast, a partner’s basis in a partnership in-terest is increased by any gain that is de-ferred by reason of a partner section 1045election. A partner must reduce the basisof any replacement QSB stock the partnerpurchases by the amount of gain that is notrecognized by reason of a partner section1045 election.

To allow the partnership to make the ap-propriate adjustments to the basis of the re-placement QSB stock, the proposed reg-ulations require any partner who recog-nizes all or part of the partner’s distribu-tive share of partnership section 1045 gainto notify the partnership of the amount ofthe partnership section 1045 gain that wasrecognized. In the absence of notifica-tion, the partnership must presume that thepartner deferred recognition of the partner-ship section 1045 gain and decrease its ba-sis in the replacement QSB stock by thepartner’s distributive share of partnershipsection 1045 gain until such time as thepartner provides notification of the amountrecognized by the partner. However, if thepartnership knows that one of its partnerswas, during any period in which the part-

nership held the QSB stock, classified as acorporation for federal tax purposes, thenthe partnership may presume that the part-ner did not defer recognition of the partner-ship section 1045 gain even in the absenceof a notification by the partner.

E. Distribution of QSB Stock

Consistent with section 1202(h) and thelegislative history underlying that section,the proposed regulations provide that, ifa partnership distributes QSB stock to aneligible partner, then the eligible partneris treated as having acquired such stockin the same manner as the partnership andhaving held such stock during any con-tinuous period immediately preceding thedistribution during which it was held bythe partnership. However, the amount ofgain on the sale of such distributed QSBstock that the partner can defer cannotexceed the distribution nonrecognitionlimitation. For this purpose, the distribu-tion nonrecognition limitation is equal tothe partner’s section 1045 amount real-ized, reduced by the partner’s section 1045adjusted basis. The proposed regulationsprovide rules for determining the part-ner’s section 1045 amount realized andthe partner’s section 1045 adjusted basisin the case of a liquidating distribution,a nonliquidating distribution of all of theQSB stock (of the same type), and othernonliquidating distributions.

These rules follow the legislative his-tory’s directive that a partner may not treatstock distributed by a partnership as QSBstock to the extent that the partner’s shareof the distributed stock exceeds the part-ner’s interest in the partnership at the timethe partnership acquired the stock. Un-der the proposed regulations, the amountof gain that a distributee partner may deferon the sale of distributed QSB stock will beno more than (but in the case of QSB stockreceived in certain nonliquidating distribu-tions may be less than) the amount of gainthat the partner would have been able todefer in the absence of the distribution.

The IRS and Treasury Departmentconsidered an alternative approach fordetermining the distribution nonrecog-nition limitation for sales of QSB stockfollowing a nonliquidating distribution toa partner. Under this alternative approach,the distribution nonrecognition limitationwould be determined by reference to the

2004–32 I.R.B. 178 August 9, 2004

maximum amount of gain that the part-ner would have been able to defer if thepartnership had not distributed any QSBstock of the type sold, but instead had soldall of that QSB stock for a per share priceequal to the per share price received on theactual sale of the distributed QSB stock bythe partner. Due to the complexity of thisalternative approach, it was rejected and isnot included in the proposed regulations.The IRS and Treasury Department requestcomments on the extent to which refine-ments of the distribution nonrecognitionlimitation applicable to sales of distributedQSB stock are appropriate.

F. Contribution of QSB Stock

The proposed regulations provide that acontribution of QSB stock to a partnershipin a transaction to which section 721(a) ap-plies does not cause the contributing part-ner to recognize any gain that was previ-ously deferred under section 1045. How-ever, the QSB stock, once contributed, isno longer QSB stock in the hands of thepartnership because the partnership has notacquired the stock at original issue withinthe meaning of section 1202(c)(1)(B). Seealso H.R. Rep. No. 103–111, 103d Cong.,1st Sess. 602 (1993).

G. Proposed Effective Date

The regulations are proposed to apply tosales of QSB stock on or after the date finalregulations are published in the FederalRegister.

Effect on Other Documents

The following publication will be am-plified for partners and partnerships begin-ning on or after the date these regulationsare published as final regulations in theFederal Register:

Rev. Proc. 98–48, 1998–2 C.B. 367.

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 also hasbeen determined that section 553(b) of theAdministrative Procedure Act (5 U.S.C.chapter 5) does not apply to these regu-lations. It is hereby certified that the col-lection of information in these regulations

will not have a significant economic im-pact on a substantial number of small en-tities. This certification is based upon thefact that QSB stock is not held by a sub-stantial number of small entities and thatthe time required to make the election isestimated to average 1 hour. Therefore, aRegulatory Flexibility Analysis under theRegulatory Flexibility Act (5 U.S.C. chap-ter 6) is not required. Pursuant to section7805(f) of the 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, considerationwill be given to any written (a signed origi-nal and eight (8) copies) or electronic com-ments that are submitted timely to the IRS.The IRS and Treasury Department requestcomments on the clarity of the proposedrules and how they can be made easier tounderstand. All comments will be avail-able for public inspection and copying.

A public hearing has been scheduled forTuesday, November 2, 2004, at 10 a.m.in the IRS Auditorium, Internal RevenueBuilding, 1111 Constitution Avenue, NW,Washington, D.C. Due to building securityprocedures, visitors must enter at the Con-stitution Avenue entrance. In addition, allvisitors must present photo identificationto enter the building. Because of accessrestrictions, visitors will not be admittedbeyond the immediate entrance area morethan 15 minutes before the hearing starts.For information about having your nameplaced on the building access list to attendthe hearing, see the “FOR FURTHER IN-FORMATION CONTACT” section of thispreamble.

The rules of 26 CFR 601.601(a)(3) ap-ply to the hearing. Persons who wish topresent oral comments at the hearing mustsubmit written or electronic comments andan outline of the topics to be discussed andthe time to be devoted to each topic (signedoriginal and eight (8) copies) by October11, 2004. A period of 10 minutes will beallotted to each person for making com-ments. An agenda showing the schedulingof the speakers will be prepared after thedeadline for receiving outlines has passed.

Copies of the agenda will be available freeof charge at the hearing.


The principal authors of these regula-tions are Charlotte Chyr and Jian H. Grant,Office of the Associate Chief Counsel(Passthroughs and Special Industries).However, other personnel from the IRSand Treasury Department participated intheir development.

* * * * *

Proposed Amendments to theRegulations

Accordingly, 26 CFR part 1 is proposedto be amended as follows:

PART 1—INCOME TAXES


Authority: 26 U.S.C. 7805 * * *Par. 2. Section 1.1045–1 is added to

read as follows:

§1.1045–1 Application to partnerships.

(a) General rules—(1) Definition ofQSB stock—In general. For purposes ofsection 1045 and this section, qualifiedsmall business stock (QSB stock) has themeaning provided in section 1202(c). Forpurposes of section 1045 and this section,the term QSB stock does not include aninterest in a partnership that purchases orholds QSB stock. (For further guidance,see Example 1 and Example 2 of paragraph(g) of this section.)

(2) Eligible partner—(i) In general.For purposes of this section, an eligiblepartner with respect to QSB stock is a tax-payer other than a corporation who holdsan interest in a partnership on the date thepartnership acquires the QSB stock and atall times thereafter before the partnershipsells or distributes the QSB stock.

(ii) Acquisition by gift or at death. Forpurposes of this section, a taxpayer whoacquires from an eligible partner by giftor at death an interest in a partnership thatholds QSB stock is treated as having heldthe acquired interest in the partnership dur-ing the period the eligible partner held theinterest in the partnership. (For furtherguidance, see Example 6 of paragraph (g)of this section.)

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(iii) Tiered partnership—(A) Gener-ally. If a partnership (upper-tier partner-ship), holds an interest in another part-nership (lower-tier partnership) that holdsQSB stock, then, for purposes of this para-graph (a)(2), the upper-tier partnership’sownership of the lower-tier partnership isignored and each partner of the upper-tierpartnership is treated as owning the inter-est in the lower-tier partnership directly.The partner of the upper-tier partnershipis treated as owning the interest in thelower-tier partnership during the period inwhich both—

(1) The partner of the upper-tier part-nership held an interest in the upper-tierpartnership; and

(2) The upper-tier partnership held aninterest in the lower-tier partnership. (Forfurther guidance, see Example 3 of para-graph (g) of this section.)

(B) Multiple tiers of partnership. Prin-ciples similar to those described in para-graph (a)(2)(iii)(A) of this section applywhere a taxpayer holds the interest in thelower-tier partnership through multipletiers of partnerships.

(3) Nonrecognition limitation—(i) Ingeneral. For purposes of this section,the amount of gain that an eligible part-ner does not recognize under paragraphs(b)(1) and (c)(1) of this section cannotexceed the nonrecognition limitation. Forthis purpose, the nonrecognition limitationis equal to the product of—

(A) The partnership’s realized gainfrom the sale of the QSB stock, determinedwithout regard to any basis adjustment un-der section 734(b) or 743(b) (other thanbasis adjustments described in paragraph(b)(3)(ii) of this section); and

(B) The eligible partner’s smallest per-centage interest in the partnership’s in-come, gain, or loss with respect to the QSBstock that was sold. (For further guidance,see Example 4 of paragraph (g) of this sec-tion.)

(ii) Eligible partner’s smallest percent-age interest. In determining an eligiblepartner’s smallest percentage interest inthe partnership’s income, gain, or loss withrespect to QSB stock, reductions in thepartner’s interest that occur solely as a re-sult of a distribution of QSB stock to thepartner are not taken into account.

(b) Partnership election—(1) Generalrule. A partnership that holds QSB stockfor more than six months, sells such QSB

stock, and purchases other QSB stock (re-placement QSB stock), within 60 days be-ginning on the date of the sale may elect toapply section 1045. For purposes of thisparagraph (b)(1), a purchase of replace-ment QSB stock by a partner is not treatedas a purchase of replacement QSB stockby the partnership. If the partnership electsto apply section 1045, then, subject to theprovisions of paragraph (a)(3) of this sec-tion, each eligible partner does not rec-ognize the partner’s distributive share ofany partnership section 1045 gain. Forthis purpose, partnership section 1045 gainequals the partnership’s gain from the saleof the QSB stock reduced by the greaterof—

(i) The amount of the gain from the saleof the QSB stock that is treated as ordinaryincome; or

(ii) The excess of the amount realizedby the partnership on the sale over the costof any replacement QSB stock purchasedby the partnership during the 60-day pe-riod beginning on the date of the sale (ex-cluding the cost of any replacement QSBstock that is otherwise taken into accountunder section 1045).

(2) Partner’s share of partnership sec-tion 1045 gain. A partnership must allo-cate partnership section 1045 gain to thepartners in the same proportion as the part-nership’s entire gain from the sale of theQSB stock is allocated to the partners. Forthis purpose, the partnership’s gain fromthe sale of QSB stock and the partner’s dis-tributive share of that gain are determinedwithout regard to basis adjustments undersection 743(b) and paragraph (b)(3)(ii) ofthis section.

(3) Basis adjustments—(i) Partner’s in-terest in a partnership. Notwithstandingsection 705(a)(1), the adjusted basis of apartner’s interest in a partnership is not in-creased by gain from a partnership’s saleof QSB stock that is not recognized by thepartner under paragraph (b)(1) of this sec-tion.

(ii) Partnership’s replacement QSBstock. The basis of a partnership’s re-placement QSB stock is reduced (in theorder acquired) by the amount of gainfrom the partnership’s sale of QSB stockthat is not recognized by an eligible part-ner. The basis adjustment with respect toany amount described in this paragraph(b)(3)(ii) constitutes an adjustment to thebasis of the partnership’s replacement

QSB stock with respect to that partneronly. The effect of such a basis adjust-ment is determined under the principles of§1.743–1(g), (h), and (j). For purposes ofthis paragraph (b)(3)(ii), the partnershipmust presume that a partner did not rec-ognize that partner’s distributive share ofQSB gain until such time as the partnerprovides to the partnership the notifica-tion described in paragraph (b)(4)(ii) ofthis section. However, if the partner-ship knows that a particular partner isclassified, for Federal tax purposes, as acorporation during any period in which thepartnership held the QSB stock, then thepartnership may presume that the partnerdid not defer recognition of the partnershipsection 1045 gain, even in the absence ofa notification by the partner.

(4) Notice requirements—(i) Partner-ship notification to partners. A partner-ship that makes the election described inparagraph (b)(1) of this section must no-tify all of its partners of the election in ac-cordance with the applicable forms and in-structions and separately state each part-ner’s distributive share of gain from thesale of QSB stock under section 702. Eachpartner shall determine whether the partneris an eligible partner within the meaningof paragraph (b)(1) of this section and re-port the partner’s distributive share of gainfrom the partnership’s sale of QSB stock,including gain not recognized, on Sched-ule D of the partner’s federal income taxreturn.

(ii) Partner notification to partnership.Any partner that must recognize all or partof the partner’s distributive share of part-nership section 1045 gain must notify thepartnership, in writing, of the amount ofpartnership section 1045 gain that is rec-ognized by the partner. (For further guid-ance concerning paragraph (b) of this sec-tion, see Example 4 through Example 7 ofparagraph (g) of this section.)

(c) Partner election—(1) In general.If an eligible partner of a partnership thatsells QSB stock purchases replacementQSB stock during the 60-day period be-ginning on the date of the partnership’ssale of the QSB stock, then the partnermay elect to apply section 1045. Forpurposes of this paragraph (c)(1), a pur-chase of replacement QSB stock by thepartnership is not treated as a purchase ofreplacement QSB stock by a partner. Aneligible partner that elects to apply section

2004–32 I.R.B. 180 August 9, 2004

1045 must recognize its distributive shareof gain from the partnership’s sale of QSBstock only to the extent of the greater of—

(i) The amount of the partner’s distribu-tive share of the gain from the sale of theQSB stock that is treated as ordinary in-come; or

(ii) The excess of the partner’s shareof the amount realized by the partnershipon the sale of the QSB stock (excludingany QSB stock that was replaced by thepartnership) over the cost of any replace-ment QSB stock purchased by the partnerduring the 60-day period beginning on thedate of the partnership’s sale of the QSBstock (excluding the cost of any replace-ment QSB stock that is otherwise takeninto account under section 1045).

(2) Partner’s share of amount realizedby partnership. The partner’s share of theamount realized by the partnership shallbear the same proportion to the amountrealized by the partnership on the sale ofthe QSB stock (excluding the cost of anyreplacement QSB stock) as the partner’sdistributive share of the partnership’s re-alized gain from the sale of the QSB stockbears to the partnership’s realized gain onthe sale of the QSB stock. For this pur-pose, the partnership’s realized gain fromthe sale of QSB stock and the partner’s dis-tributive share of that gain are determinedwithout regard to basis adjustments undersection 743(b) and paragraph (b)(3)(ii) ofthis section.

(3) Basis adjustments—(i) Partner’sinterest in a partnership. Under section705(a)(1), the adjusted basis of a partner’sinterest in a partnership is increased by theamount of gain that is not recognized byan eligible partner pursuant to paragraph(c)(1) of this section.

(ii) Partner’s replacement QSB stock.A partner’s basis in any replacement QSBstock that is purchased by the partner dur-ing the 60-day period described in para-graph (c)(1) of this section must be re-duced (in the order acquired) by the part-ner’s distributive share of the gain on thesale of the partnership’s QSB stock that isnot recognized by the partner pursuant toparagraph (c)(1) of this section. (For fur-ther guidance concerning this paragraph(c), see Example 8 through Example 10 ofparagraph (g) of this section.)

(d) Partnership distribution of QSBstock to an eligible partner—(1) In gen-eral. Subject to paragraphs (d)(2) and (3)

of this section, in the case of a partnershipdistribution of QSB stock to an eligiblepartner within the meaning of paragraph(a)(2) of this section, the eligible partnershall be treated as—

(i) Having acquired such stock in thesame manner as the partnership; and

(ii) Having held such stock during anycontinuous period immediately precedingthe distribution during which it was heldby the partnership. (For further guidanceconcerning this paragraph (d), see Exam-ple 11 and Example 12 of paragraph (g) ofthis section.)

(2) Eligibility under section 1202(c).Paragraph (d)(1) of this section does notapply unless all eligibility requirementswith respect to the QSB stock as defined insection 1202(c) are met by the distributingpartnership with respect to its investmentin the QSB stock.

(3) Distribution nonrecognition limita-tion—(i) Generally. The amount of gainthat an eligible partner does not recognizeon the sale of QSB stock (the relinquishedQSB stock) that was distributed by thepartnership to the partner cannot exceedthe distribution nonrecognition limitation.For this purpose, the nonrecognition limi-tation is—

(A) The partner’s section 1045 amountrealized; reduced by

(B) The partner’s section 1045 adjustedbasis.

(ii) Section 1045 amount realized—(A)QSB stock received in liquidation of part-ner’s interest and in certain nonliquidat-ing distributions. If a partner receives re-linquished QSB stock from the partnershipin a distribution in liquidation of the part-ner’s interest in the partnership or as partof a series of related distributions by thepartnership in which the partnership dis-tributes all of the partnership’s QSB stockof a particular type, then the partner’s sec-tion 1045 amount realized is the partner’samount realized from the sale of the relin-quished QSB stock, multiplied by a frac-tion—

(1) The numerator of which is the part-ner’s smallest percentage interest (prior tothe distribution) in the partnership’s in-come, gain, or loss with respect to the typeof QSB stock sold by the partner; and

(2) The denominator of which is thepartner’s percentage interest in that type ofpartnership QSB stock immediately after

the distribution (determined under para-graph (d)(3)(iv) of this section).

(B) QSB stock received in other distri-butions. If a partner receives relinquishedQSB stock in a distribution from the part-nership that is not described in paragraph(d)(3)(ii)(A) of this section, the partner’ssection 1045 amount realized is the part-ner’s amount realized from the sale ofthe relinquished QSB stock multiplied bythe partner’s smallest interest (prior to thedistribution) in the partnership’s income,gain, or loss with respect to such stock.

(iii) Section 1045 adjusted basis—(A)QSB stock received in liquidation of part-ner’s interest and in certain nonliquidatingdistributions. If a partner receives relin-quished QSB stock from the partnership ina distribution in liquidation of the partner’sinterest in the partnership or as part of a se-ries of related distributions by the partner-ship in which the partnership distributes allof the partnership’s QSB stock of a partic-ular type, then the partner’s section 1045adjusted basis is the product of—

(1) The partnership’s basis in all of theQSB stock of the type distributed (withoutregard to basis adjustments under section734(b) or 743(b), other than basis adjust-ments described in paragraph (b)(3)(ii) ofthis section);

(2) The partner’s smallest interest (priorto the distribution) in the partnership’s in-come, gain, or loss with respect to suchstock; and

(3) The proportion of the distributedQSB stock that was sold by the partner.

(B) QSB stock received in other distri-butions. If a partner receives relinquishedQSB stock in a distribution from the part-nership that is not described in paragraph(d)(3)(iii)(A) of this section, the partner’ssection 1045 adjusted basis is the productof—

(1) The partnership’s basis in the QSBstock sold by the partner (without regardto basis adjustments under section 734(b)or 743(b), other than basis adjustments de-scribed in paragraph (b)(3)(ii) of this sec-tion); and

(2) The partner’s smallest interest (priorto the distribution) in the partnership’s in-come, gain, or loss with respect to suchstock.

(iv) Partner’s percentage interest in dis-tributed QSB stock. For purposes of thisparagraph (d)(3), a partner’s percentageinterest in a type of QSB stock immedi-

August 9, 2004 181 2004–32 I.R.B.

ately after a partnership distribution is thevalue (as of the date of the distribution) ofthe QSB stock distributed to the partner di-vided by the value (as of the date of the dis-tribution) of all of that type of QSB stockthat was acquired by the partnership.

(v) QSB stock of the same type. For pur-poses of this paragraph (d)(3), QSB stockwill be of the same type as the distributedQSB stock if it has the same issuer andthe same rights and preferences as the dis-tributed QSB stock and was acquired bythe partnership at its original issue.

(e) Contribution of QSB stock or re-placement QSB stock to a partnership.Section 721 applies to a contribution ofQSB stock to a partnership by a taxpayerother than a corporation. Except as pro-vided in section 721(b), any gain thatwas not recognized by the taxpayer un-der section 1045 is not recognized whenthe taxpayer contributes QSB stock to apartnership in exchange for a partnershipinterest in the hands of the taxpayer. Stockthat is contributed to a partnership is notQSB stock in the hands of the partnershipbecause the partnership did not acquirethe stock at original issue. (For furtherguidance, see Example 13 of paragraph(g) of this section.)

(f) Time and manner of making elec-tion. A partnership making an election un-der section 1045 (as described under para-graph (b)(1) of this section) must do soon the partnership’s timely filed (includingextensions) return for the taxable year dur-ing which the sale of QSB stock occurs. Apartner making an election under section1045 (as described under paragraph (c)(1)of this section) must do so on the part-ner’s timely filed (including extensions)federal income tax return for the taxableyear during which the partner’s distribu-tive share of the partnership’s gain fromthe sale of the QSB stock is taken into ac-count under section 706. In addition, apartnership or partner making an electionunder section 1045 must follow the ad-ministrative procedures issued for makingsuch elections. (For further guidance, seeRev. Proc. 98–48, 1998–2 C.B. 367, and§601.601(d)(2)(ii)(b) of this chapter.)

(g) Examples. The provisions of thissection are illustrated by the following ex-amples:

Example 1. Acquisition of a partnership inter-est as replacement property. On January 1, 2006,A, an individual, X, a corporation, and Y, a corpo-

ration, form PRS, a partnership. A, X, and Y eachcontribute $25 to PRS and agree to share all partner-ship items equally. PRS purchases QSB stock on Feb-ruary 1, 2006, and subsequently sells the QSB stockon November 4, 2006, for $150. PRS realizes $75 ofgain from the sale of the QSB stock (none of which istreated as ordinary income) and allocates $25 of gainto each of A, X, and Y. On November 30, 2006, Acontributes $50 to ABC, a partnership, in exchangefor an interest in ABC (instead of purchasing QSBstock). ABC then purchases QSB stock for $50 onDecember 1, 2006. A’s acquisition of the additionalpartnership interest is not treated as a purchase of re-placement QSB stock for purposes of section 1045.

Example 2. Sale of a partnership interest. Thefacts are the same as in Example 1, except that PRSdoes not sell its QSB stock. Instead, on November 4,2006, A sells the PRS interest for $50x, realizing $25of capital gain. On November 30, 2006, A purchases$50 of new QSB stock. Under paragraph (a)(1) ofthis section, the sale of an interest in a partnershipthat holds QSB stock is not treated as a sale of QSBstock. Therefore, A may not elect to apply section1045 with respect to A’s $25 of gain from the sale ofthe PRS interest.

Example 3. Eligible and non-eligible partners oftiered partnership. On January 1, 2006, A, an indi-vidual, and B, an individual, contribute cash to UTP,(upper-tier partnership) for equal partnership inter-ests. On February 1, 2006, UTP and C, an individ-ual, contribute cash to LTP, (lower-tier partnership)for equal partnership interests. On March 1, 2006,LTP purchases QSB stock. On April 1, 2006, D, anindividual, joins UTP by contributing cash to UTPfor a 1/3 interest in UTP. On December 1, 2006, LTPsells the QSB stock. Under paragraph (a)(2)(iii) ofthis section, A, B, and D are treated as owning an in-terest in LTP during the period in which each of thepartners held an interest in UTP and UTP held an in-terest in LTP. Therefore, under paragraph (a)(2)(i) ofthis section, A and B are eligible partners, and D isnot an eligible partner.

Example 4. Partnership sale of QSB stock andpurchase and sale of replacement QSB stock. (i) As-sume the same facts as in Example 1, except that PRSpurchases replacement QSB stock for $135 on De-cember 15, 2006. On its timely filed return for thetaxable year during which the sale of the relinquishedQSB stock occurs, PRS makes an election to applysection 1045. PRS knows that X and Y are corpora-tions. On March 30, 2007, PRS sells the replacementQSB stock for $165. PRS realizes $30 of capital gainfrom the sale of the replacement QSB stock and allo-cates $10 of gain to each of A, X, and Y.

(ii) Under paragraph (b)(1) of this section, thepartnership section 1045 gain is $60 ($75 gain less$15 ($150 amount realized on the sale of the relin-quished QSB stock less $135 cost of the replacementQSB stock)). This amount must be allocated amongthe partners in the same proportions as the entire gainfrom the sale of the QSB stock is allocated to the part-ners, 1/3 ($20) to A, 1/3 ($20) to X, and 1/3 ($20) toY.

(iii) Because neither X nor Y are eligible partnersunder paragraph (a)(2) of this section, X and Y musteach recognize its $25 distributive share of partner-ship gain from the sale of the QSB stock. BecauseA is an eligible partner under paragraph (a)(2) of thissection, and because A is bound by the election by

PRS to apply section 1045, A defers recognition ofA’s $20 distributive share of partnership section 1045gain. A is not required to separately elect to applysection 1045. A must recognize A’s remaining $5 dis-tributive share of the partnership’s gain from the saleof the QSB stock.

(iv) Under section 705(a)(1)(A), the adjustedbases of X’s and Y’s interests in PRS are each in-creased by $25. Under section 705(a)(1)(A) andparagraph (b)(3)(i) of this section, the adjusted basisof A’s interest in PRS is not increased by the $20of partnership section 1045 gain that was not rec-ognized by A, but is increased by A’s remaining $5distributive share of gain.

(v) PRS must decrease its basis in the replacementQSB stock by the $20 of partnership section 1045gain that was allocated to A. This basis reduction isa reduction with respect to A only. PRS then adjustsA’s distributive share of gain from the sale of the re-placement QSB stock to reflect the effect of A’s basisadjustment under paragraph (b)(3)(ii) of this section.In accordance with the principles of §1.743–1(j)(3),the amount of A’s gain from the sale of the replace-ment QSB stock in which A has a $20 negative ba-sis adjustment equals $30 (A’s share of PRS’s gainfrom the sale of the replacement QSB stock ($10),increased by the amount of A’s negative basis adjust-ment for the replacement stock ($20)). Accordingly,upon the sale of the replacement QSB stock, A rec-ognizes $30 of gain, and X and Y each recognize $10of gain.

Example 5. Sale of partnership interest whilepartnership holds QSB stock. Assume the same factsas in Example 4, except that A sells A’s interest inPRS to B, an individual, on March 1, 2006. B is notan eligible partner under paragraph (a)(2)(i) of thissection, because B did not hold an interest in PRSon the date PRS originally acquired the QSB stock.Therefore, B must recognize B’s distributive share ofpartnership section 1045 gain.

Example 6. Death of partner while partnershipholds QSB stock. Assume the same facts as in Exam-ple 4, except that A dies on March 1, 2006, and B in-herits A’s interest in PRS. Under paragraph (a)(2)(ii)of this section, B is treated as holding the interest inPRS during the period that A held the interest in PRS.Therefore, B is an eligible partner under paragraph(a)(2)(i) of this section. Accordingly, B defers recog-nition of B’s distributive share of the partnership sec-tion 1045 gain on the sale of the QSB stock.

Example 7. Partnership sale of QSB stock andpartner purchase of replacement QSB stock. (i) As-sume the same facts as in Example 4, except that PRSdoes not make an election under section 1045 with re-spect to the sale of the QSB stock. On November 30,2006, A, an eligible partner under paragraph (a)(2)of this section, purchases replacement QSB stock for$50. A elects to apply section 1045 on A’s timelyfiled return for the taxable year that A is required toinclude A’s distributive share of PRS’s gain from thesale of the relinquished QSB stock.

(ii) Under paragraph (c)(2) of this section, A’sshare of the amount realized from PRS’s sale of theQSB stock is $50 (the amount which bears the sameproportion to the total amount realized by the partner-ship on the sale of the QSB stock ($150) as A’s shareof the gain from the sale of the QSB stock ($25) bearsto the total gain realized by the partnership on thesale of the QSB stock ($75)). Because A purchased,

2004–32 I.R.B. 182 August 9, 2004

within 60 days of PRS’s sale of the QSB stock, re-placement QSB stock for a cost equal to A’s shareof the partnership’s amount realized on the sale ofthe QSB stock, and because A made a valid electionto apply section 1045, A defers recognition of A’s$25 distributive share of gain from PRS’s sale of theQSB stock. Under section 705(a)(1) and paragraph(c)(3)(i) of this section, the adjusted basis of A’s in-terest in PRS is increased by $25. Under paragraph(c)(3)(ii) of this section, A’s basis in the replacementQSB stock is $25 ($50 cost minus $25 nonrecogni-tion amount).

Example 8. Election by partner; replacement bypartnership. Assume the same facts as in Example7, except that PRS purchases replacement QSB stockon December 31, 2006, but does not make an electionto apply section 1045. A makes an election to applysection 1045, but does not purchase any replacementQSB stock during the 60-day period beginning on thedate of PRS’s sale of the QSB stock. Because the re-quirements of neither paragraph (b)(1) nor paragraph(c)(1) of this section has been satisfied, A must rec-ognize all of A’s distributive share of the gain fromPRS’s sale of the QSB stock.

Example 9. Partial replacement by partnership;partial replacement by partner. (i) On January 1,2006, A, an individual, and X, a corporation, formPRS, a partnership. A and X each contribute $50 toPRS and agree to share all partnership items equally.PRS purchases QSB stock on February 1, 2006, for$100 and subsequently sells the QSB stock on Jan-uary 31, 2008, for $300. PRS realizes $200 of gainfrom the sale of the QSB stock (none of which istreated as ordinary income) and allocates $100 of gainto each of A and X. On February 10, 2008, PRS pur-chases replacement QSB stock for $220. On March20, 2008, A purchases replacement QSB stock for$40. Both A and PRS make valid elections to applysection 1045.

(ii) Under paragraph (b)(1) of this section, part-nership section 1045 gain is $120 ($200 less $80($300 amount realized on the sale of the relinquishedQSB stock minus $220 cost of the replacement QSBstock)). This amount is allocated among the partnersin the same proportions as the entire gain from thesale of the QSB stock is allocated to the partners,1/2 to A ($60), and 1/2 to X ($60). Because A is aneligible partner, A defers recognition of A’s $60distributive share of partnership section 1045 gain.

(iii) A also made a valid section 1045 electionand purchased, within 60 days of PRS’s sale of theQSB stock, replacement QSB stock. Therefore, un-der paragraph (c)(1) of this section, A may defer aportion of A’s distributive share of the remaining gainfrom the partnership’s sale of the QSB stock. A mustrecognize that remaining gain, however, to the ex-tent that A’s share of the amount realized by PRS onthe sale of the QSB stock (excluding the QSB stockthat was replaced by PRS) exceeds the cost of thereplacement QSB stock purchased by A during the60-day period following the sale of the QSB stock.The amount realized by PRS on the sale of the QSBstock (excluding the QSB stock that was replaced byPRS) is $80 ($300 minus $220). Under paragraph(c)(2) of this section, A’s share of that amount real-ized is $40 (50/100 (A’s share of the gain from thesale of the QSB stock) multiplied by $80). Becausethe replacement QSB stock purchased by A cost $40,

A defers recognition of all of the remaining gain fromthe sale of the QSB stock.

(iv) The adjusted basis of A’s interest in PRS isnot increased by the gain that was not recognized pur-suant to paragraph (b)(1) of this section, $60, but isincreased by the gain that was not recognized pur-suant to paragraph (c)(1) of this section, $40. Seeparagraphs (b)(3)(i) and (c)(3)(i) of this section. PRSmust decrease its basis in the replacement QSB stockby the $60 of partnership section 1045 gain that wasallocated to A. See paragraph (b)(3)(ii) of this sec-tion. A must decrease A’s basis in the replacementQSB stock purchased by A by the $40 not recognizedpursuant to paragraph (c)(1) of this section. See para-graph (c)(3)(ii) of this section.

Example 10. Change in partner’s interest in part-nership while partnership holds QSB stock. (i) As-sume the same facts as in Example 9, except that, onAugust 2, 2006, A sells a 25 percent interest in PRSto Z. On July 10, 2007, A repurchases the 25 percentinterest from Z for $50. Assume that PRS makes atimely election under section 754 for the taxable yearduring which A purchases Z’s PRS interest and that,under section 743(b), A has a positive basis adjust-ment of $25.

(ii) PRS allocates the $200 of realized gain fromthe sale of the QSB stock $100 to A and $100 to X.However, A has a positive basis adjustment of $25;therefore, A’s share of the gain is reduced to $75. Be-cause A is an eligible partner under paragraph (a)(2)of this section, A may defer recognition of A’s dis-tributive share of gain from the sale of the QSB stocksubject to the nonrecognition limitation described inparagraph (a)(3) of this section. The smallest inter-est that A held in PRS during the time that PRS heldthe QSB stock is 25 percent. Under the nonrecogni-tion limitation, A may not defer more than 25 per-cent of the partnership gain realized from the sale ofthe QSB stock (determined without regard to any ba-sis adjustment under section 734(b) or section 743(b),other than a basis adjustment described in paragraph(b)(3)(ii) of this section). Because the partnership’srealized gain determined without regard to A’s basisadjustment under section 743(b) is $200, A may de-fer recognition of $50 (25% of $200) of the gain fromthe sale of the QSB stock. A must recognize the re-maining $25 of that gain.

Example 11. Sale by partner of QSB stock re-ceived in a liquidating distribution. (i) On January1, 2006, A, an individual, and X, a corporation, formPRS, a partnership. A and X each contribute $150 toPRS and agree to share all partnership items equally.PRS purchases QSB stock on February 1, 2006, for$300. On May 1, 2006, when the QSB stock hasappreciated in value to $400, A contributes $100 toPRS, increasing A’s interest in PRS’s income, gains,losses, deductions, and credits to 60 percent. On June1, 2009, when the QSB stock is still worth $400,PRS makes a liquidating distribution of $300 worthof QSB stock to A. Under section 732, A’s basis inthe distributed QSB stock is $250. A sells the QSBstock on August 4, 2009, for $600, realizing a gain of$350 (none of which is treated as ordinary income).A purchases replacement QSB stock on August 30,2009, for $550, and makes a valid election under sec-tion 1045 with respect to the QSB stock.

(ii) A is an eligible partner under paragraph(a)(2)(i) of this section. Therefore, under paragraph(d)(1) of this section, A is treated as having acquired

the distributed QSB stock in the same manner asPRS and as having held the QSB stock since Feb-ruary 1, 2006, its original issue date. Because Apurchased, within 60 days of A’s sale of the QSBstock, replacement QSB stock, A is eligible to defera portion of A’s gain from the sale of the QSB stock.A must recognize gain, however, to the extent thatA’s amount realized on the sale of the QSB stock,$600, exceeds the cost of the replacement QSB stockpurchased by A during the 60-day period beginningon the date of the sale of the relinquished QSB stock,$550. Accordingly, A must recognize $50 of the gainfrom the sale of the QSB stock. A defers recognitionof the remaining $300 of gain to the extent that suchgain does not exceed the distribution nonrecognitionlimitation.

(iii) Under paragraph (d)(3)(ii) of this section, A’snonrecognition limitation with respect to the sale ofthe QSB stock is A’s section 1045 amount realizedwith respect to the stock, reduced by A’s section 1045adjusted basis with respect to the stock. A’s amountrealized from the sale is the product of A’s amountrealized from the sale, $600; and a fraction:

(1) the numerator of which is A’s smallest per-centage interest in PRS’s income, gain, or loss withrespect to such stock, 50%; and

(2) the denominator of which is A’s percentageinterest in that type of partnership QSB stock imme-diately after the distribution, 75% (the value of thestock distributed to A, $300, divided by the value ofall QSB stock of that type acquired by PRS, $400).

Therefore, A’s section 1045 amount realized is$400 ($600 multiplied by 50/75). Because PRS dis-tributed the QSB stock to A in liquidation of A’s in-terest in PRS, A’s section 1045 adjusted basis is theproduct of PRS’s basis in all of the QSB stock of thetype distributed, $300; A’s smallest interest (prior tothe distribution) in PRS’s income, gain, or loss withrespect to QSB stock of the type distributed, 50%; andthe percentage of the distributed QSB stock that wassold by A, 100%. Therefore, A’s section 1045 ad-justed basis is $150 (the product of $300, 50%, and100%)) and A’s nonrecognition limitation amount onthe sale of the QSB stock is $250 ($400 section 1045amount realized minus $150 section 1045 adjustedbasis). Accordingly, A defers recognition of $250of the remaining $300 gain from the sale of the QSBstock.

(iv) A’s basis in the replacement QSB stock is$300 (cost of the replacement stock, $550, reducedby the gain not recognized under section 1045, $250).

Example 12. Sale by partner of QSB stock re-ceived in a nonliquidating distribution. (i) The factsare the same as in Example 11, except that, on June1, 2009, PRS distributes only $200 of the QSB stockto A, reducing A’s interest in PRS from 60% to 33%.PRS’s basis in the distributed QSB stock is $150. OnNovember 1, 2009, A sells for $250 the QSB stockdistributed by PRS to A and purchases, within 60days of the date of sale of the relinquished QSB stock,replacement QSB stock for $250. On December 1,2009, PRS sells all of its QSB stock for $250 andpurchases, within 60 days of the date of the sale ofthe relinquished QSB stock, replacement QSB stockfor $250. A makes a timely election to apply section1045 with respect to its sale of the distributed QSBstock and PRS makes a timely election to apply sec-tion 1045 with respect to its sale of the QSB stock.

August 9, 2004 183 2004–32 I.R.B.

(ii) Under section 732, A’s basis in the distributedQSB stock is $150. Therefore, A realizes a gain onthe sale of the distributed QSB stock of $100. Be-cause A made a valid election to apply section 1045to the sale, and because A purchased, within 60 daysof A’s sale of the QSB stock, replacement QSB stockat a cost equal to the amount realized on the sale ofthe distributed QSB stock, A defers recognition of thegain from the sale of the QSB stock to the extent thatsuch gain does not exceed the distribution nonrecog-nition limitation.

(iii) Under paragraph (d)(3) of this section, thenonrecognition limitation with respect to A’s sale ofthe QSB stock is A’s section 1045 amount realizedreduced by A’s section 1045 adjusted basis. BecausePRS did not distribute all of a particular type of QSBstock and the distribution of the QSB stock to A wasnot in liquidation of A’s interest in PRS, A’s section1045 amount realized is $125 (A’s amount realizedfrom the sale of the distributed QSB stock, $250, mul-tiplied by A’s smallest percentage interest (prior to thedistribution) in PRS’s income, gain, or loss with re-spect to such stock, 50%). A’s section 1045 adjustedbasis is the product of the partnership’s basis in theQSB stock sold by the partner, $150, and A’s small-est percentage interest (prior to the distribution) inthe partnership’s income, gain, or loss with respectto such stock, 50%. Therefore, A’s section 1045 ad-justed basis is $75 (50% of $150), and A’s nonrecog-nition limitation amount on the sale of the QSB stockis $50 ($125 section 1045 amount realized minus $75section 1045 adjusted basis). As this amount is lessthan the amount of gain that A is eligible to defer un-der section 1045, $100, A defers recognition of only$50 of the gain from the sale of the QSB stock. Amust recognize the remaining $50 of that gain.

(iv) The partnership realizes gain of $100 ($250amount realized minus $150 remaining basis in QSBstock) on the sale of its QSB stock. Because the part-nership reinvested its entire amount realized in newQSB stock and because the partnership made a timelyelection to apply section 1045, the partnership maytreat all of this gain as section 1045 gain. A’s shareof the partnership section 1045 gain is $50 (50% of$100). Because A is an eligible partner under para-graph (a)(2) of this section, A can defer recognition ofthis gain subject to the nonrecognition limitation de-scribed in paragraph (a)(3) of this section. The small-est percentage interest that A held in PRS during thetime that PRS held the QSB stock (determined with-out regard to the reduction that occurred as a result ofPRS’s distribution of QSB stock to A) is 50%. Seeparagraph (a)(3)(ii) of this section. Therefore, underthe nonrecognition limitation, A can defer recogni-tion of all $50 (50% of $100) of the gain allocated toA.

Example 13. Contribution of replacement QSBstock to a partnership. (i) On January 1, 2006, A,an individual, B, an individual, and X, a corporation,form PRS, a partnership. A, B, and X each contribute$25 to PRS and agree to share all partnership itemsequally. On February 1, 2006, PRS purchases Stock1, which is QSB stock in the hands of the partnership.PRS sells Stock 1 on November 4, 2006, for $150.PRS realizes $75 of gain from the sale of Stock 1(none of which is treated as ordinary income) andallocates $25 of gain to each of its partners. PRSinforms the partners that it does not intend to make anelection under section 1045 with respect to the sale ofStock 1. Each partner’s share of the amount realizedfrom the sale of Stock 1 is $50. On November 30,2006, A, an eligible partner within the meaning of

paragraph (a)(2) of this section, purchases Stock 2,which is also QSB stock, for $50 and makes a validsection 1045 election under paragraph (c)(1) of thissection. Subsequently, A transfers Stock 2 to ABC, apartnership.

(ii) Because A purchased, within 60 days ofPRS’s sale of Stock 1, replacement QSB stock for acost equal to A’s share of the partnership’s amountrealized on the sale of Stock 1, and because A madea valid election to apply section 1045 with respectto A’s share of the gain from PRS’s sale of Stock1, A does not recognize A’s $25 distributive shareof the gain from PRS’s sale of Stock 1. Before thecontribution of Stock 2 to ABC, A’s adjusted basis inStock 2 is $25 ($50 cost minus $25 nonrecognitionamount). Upon the contribution of Stock 2 to ABC,A’s basis in the ABC partnership interest is $25, andABC’s basis in Stock 2 is $25. However, Stock 2does not qualify as QSB stock in ABC’s hands be-cause it was not acquired at original issue. Neither Anor ABC will be eligible for section 1045 treatmenton a subsequent sale of Stock 2.

(h) Effective date. This section appliesto sales of QSB stock on or after the datefinal regulations are published in the Fed-eral Register.



Announcement of Disciplinary Actions InvolvingAttorneys, Certified Public Accountants, Enrolled Agents,and Enrolled Actuaries — Suspensions, Censures,Disbarments, and ResignationsAnnouncement 2004-63

Under Title 31, Code of Federal Regu-lations, Part 10, attorneys, certified publicaccountants, enrolled agents, and enrolledactuaries may not accept assistance from,or assist, any person who is under disbar-ment or suspension from practice beforethe Internal Revenue Service if the assis-tance relates to a matter constituting prac-tice before the Internal Revenue Serviceand may not knowingly aid or abet another

person to practice before the Internal Rev-enue Service during a period of suspen-sion, disbarment, or ineligibility of suchother person.

To enable attorneys, certified publicaccountants, enrolled agents, and enrolledactuaries to identify persons to whomthese restrictions apply, the Director, Of-fice of Professional Responsibility, willannounce in the Internal Revenue Bulletin

their names, their city and state, their pro-fessional designation, the effective dateof disciplinary action, and the period ofsuspension. This announcement will ap-pear in the weekly Bulletin at the earliestpracticable date after such action and willcontinue to appear in the weekly Bulletinsfor five successive weeks.

2004–32 I.R.B. 184 August 9, 2004

Disbarments From Practice Before the Internal RevenueService After Notice and an Opportunity for a Proceeding

Under Title 31, Code of Federal Regu-lations, Part 10, after notice and an oppor-

tunity for a proceeding before an adminis-trative law judge, the following individu-

als have been disbarred from practice be-fore the Internal Revenue Service:

Name Address Designation Effective Date

Banister, Joseph R. San Jose, CA CPA June 25, 2004

Suspensions From Practice Before the Internal RevenueService After Notice and an Opportunity for a Proceeding

Under Title 31, Code of Federal Reg-ulations, Part 10, after notice and an op-portunity for a proceeding before an ad-

ministrative law judge, the following indi-viduals have been placed under suspension

from practice before the Internal RevenueService:

Name Address Designation Effective Date

Stukes, Donald A. Pound Ridge, NY CPA May 13, 2004toMay 11, 2005

Moore, Earl Riverview, FL CPA March 26, 2004toMarch 24, 2006

Consent Suspensions From Practice Before the InternalRevenue Service

Under Title 31, Code of Federal Regu-lations, Part 10, an attorney, certified pub-lic accountant, enrolled agent, or enrolledactuary, in order to avoid institution or con-clusion of a proceeding for his or her dis-barment or suspension from practice be-

fore the Internal Revenue Service, may of-fer his or her consent to suspension fromsuch practice. The Director, Office of Pro-fessional Responsibility, in his discretion,may suspend an attorney, certified publicaccountant, enrolled agent, or enrolled ac-

tuary in accordance with the consent of-fered.

The following individuals have beenplaced under consent suspension frompractice before the Internal Revenue Ser-vice:

Name Address Designation Date of Suspension

Bell, Don W. Grand Junction, CO Enrolled Agent IndefinitefromApril 1, 2004

Lentz, Carole A. Mastic, NY Enrolled Agent IndefinitefromApril 23, 2004

Cummiskey Jr., Edward R. Warwick, NY Enrolled Agent IndefinitefromApril 23, 2004

August 9, 2004 185 2004–32 I.R.B.


Goble, Dennis R. Valparaiso, IN CPA IndefinitefromApril 26, 2004

Grant, Elaine C. Woodway, WA Enrolled Agent May 1, 2004toOctober 31, 2004

Rivera, Eduardo M. Torrence, CA Attorney May 1, 2004toOctober 29, 2006

Masengale, Thomas J. Indianapolis, IN Enrolled Agent IndefinitefromMay 1, 2004

Cohick, Jeffrey S. Newville, PA Enrolled Agent May 1, 2004toOctober 30, 2004

Bach, Royce E. Deer Park, TX Enrolled Agent IndefinitefromMay 27, 2004

McMillin, Juanell Austin, TX Enrolled Agent IndefinitefromMay 28, 2004

Silva, Hesmeregildo V. Livermore, CA Enrolled Agent IndefinitefromMay 28, 2004

Grossman, Richard Durham, NC Attorney IndefinitefromJune 1, 2004

Schnieders, Joseph A. St. Louis, MO Enrolled Agent IndefinitefromJune 1, 2004

Rahn, Miriam C. Hutchinson, MN Enrolled Agent IndefinitefromJune 8, 2004

Tarantur, Dale B. Glenview, IL CPA IndefinitefromJune 15, 2004

Derby, Mark West Newton, MA CPA IndefinitefromJune 15, 2004

Miller, Winfred J. Harrisonburg, VA CPA IndefinitefromJune 30, 2004

Croom, John A. Austin, TX CPA IndefinitefromJuly 1, 2004

2004–32 I.R.B. 186 August 9, 2004


Dion, Paul Middletown, RI CPA IndefinitefromJuly 8, 2004

Todd, Debra R. Leander, TX Enrolled Agent IndefinitefromAugust 30, 2004

Expedited Suspensions From Practice Before the InternalRevenue Service

Under Title 31, Code of Federal Regu-lations, Part 10, the Director, Office of Pro-fessional Responsibility, is authorized toimmediately suspend from practice beforethe Internal Revenue Service any practi-tioner who, within five years from the date

the expedited proceeding is instituted (1)has had a license to practice as an attor-ney, certified public accountant, or actuarysuspended or revoked for cause or (2) hasbeen convicted of certain crimes.

The following individuals have beenplaced under suspension from practice be-fore the Internal Revenue Service by virtueof the expedited proceeding provisions:


Somerville, Sally L. Havre de Grace, MD Attorney IndefinitefromMay 3, 2004

Simon, Laurence M. Englishtown, NJ CPA IndefinitefromMay 10, 2004

Taylor, Joelle T. Carolina Beach, NC CPA IndefinitefromMay 10, 2004

Becker, Joseph C. Austin, TX CPA IndefinitefromMay 10, 2004

Maffongelli Jr., Joseph Montclair, NJ Attorney IndefinitefromMay 10, 2004

Lence, John A. Kalispell, MT CPA IndefinitefromMay 21, 2004

McWade, Kenneth W. Kaliua, HI Attorney IndefinitefromJune 9, 2004

Sims, William A. Sausalito, CA Attorney IndefinitefromJune 9, 2004

Sommer, Peter J. Baltimore, MD Attorney IndefinitefromJune 21, 2004

August 9, 2004 187 2004–32 I.R.B.


Eisenberg, Alan D. Whitefish Bay, WI Attorney IndefinitefromJune 21, 2004

Litwin, Martin E. Highland Park, IL Attorney IndefinitefromJune 21, 2004

Kiernat, Bruce E. St. Paul, MN Attorney IndefinitefromJuly 1, 2004

Resignations of Enrolled AgentsUnder Title 31, Code of Federal Regu-

lations, Part 10, an enrolled agent, in or-der to avoid the institution or conclusionof a proceeding for his or her disbarmentor suspension from practice before the In-

ternal Revenue Service, may offer his orher resignation as an enrolled agent. TheDirector, Office of Professional Responsi-bility, in his discretion, may accept the of-fered resignation.

The Director, Office of ProfessionalResponsibility, has accepted offers of res-ignation as an enrolled agent from thefollowing individuals:

Name Address Date of Resignation

Murphy, Claire A. Viera, FL May 10, 2004

Murphy, John W. Viera, FL May 10, 2004

Censure Issued by ConsentUnder Title 31, Code of Federal Reg-

ulations, Part 10, in lieu of a proceedingbeing instituted or continued, an attorney,certified public accountant, enrolled agent,

or enrolled actuary, may offer his or herconsent to the issuance of a censure. Cen-sure is a public reprimand.

The following individuals have con-sented to the issuance of a Censure:

Name Address Designation Date of Censure

Clifton, Michael J. Augusta, KS CPA May 12, 2004

Flaherty, Patrick J. Traverse City, MI CPA May 19, 2004

Monroy, Frances Petaluma, CA Enrolled Agent May 27, 2004

Pearson, Michael N. Houston, TX Enrolled Agent June 7, 2004

2004–32 I.R.B. 188 August 9, 2004

Definition of TermsRevenue rulings and revenue procedures(hereinafter referred to as “rulings”) thathave an effect on previous rulings use thefollowing defined terms to describe the ef-fect:

Amplified describes a situation whereno change is being made in a prior pub-lished position, but the prior position is be-ing extended to apply to a variation of thefact situation set forth therein. Thus, ifan earlier ruling held that a principle ap-plied to A, and the new ruling holds that thesame principle also applies to B, the earlierruling is amplified. (Compare with modi-fied, below).

Clarified is used in those instanceswhere the language in a prior ruling is be-ing made clear because the language hascaused, or may cause, some confusion.It is not used where a position in a priorruling is being changed.

Distinguished describes a situationwhere a ruling mentions a previously pub-lished ruling and points out an essentialdifference between them.

Modified is used where the substanceof a previously published position is beingchanged. Thus, if a prior ruling held that aprinciple applied to A but not to B, and thenew ruling holds that it applies to both A

and B, the prior ruling is modified becauseit corrects a published position. (Comparewith amplified and clarified, 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 used ina ruling that lists previously published rul-ings that are obsoleted because of changesin laws or regulations. A ruling may alsobe obsoleted because the substance hasbeen included in regulations subsequentlyadopted.

Revoked describes situations where theposition in the previously published rulingis not correct and the correct position isbeing stated in a new ruling.

Superseded describes a situation wherethe new ruling does nothing more than re-state the substance and situation of a previ-ously published ruling (or rulings). Thus,the term is used to republish under the1986 Code and regulations the same po-sition published under the 1939 Code andregulations. The term is also used whenit is desired to republish in a single rul-ing a series of situations, names, etc., thatwere previously published over a period oftime in separate rulings. If the new rul-ing does more than restate the substance

of a prior ruling, a combination of termsis used. For example, modified and su-perseded describes a situation where thesubstance of a previously published rulingis being changed in part and is continuedwithout change in part and it is desired torestate the valid portion of the previouslypublished ruling in a new ruling that is selfcontained. In this case, the previously pub-lished ruling is first modified and then, asmodified, is superseded.

Supplemented is used in situations inwhich a list, such as a list of the names ofcountries, is published in a ruling and thatlist is expanded by adding further names insubsequent rulings. After the original rul-ing has been supplemented several times, anew ruling may be published that includesthe list in the original ruling and the ad-ditions, and supersedes all prior rulings inthe series.

Suspended is used in rare situationsto show that the previous published rul-ings will not be applied pending somefuture action such as the issuance of newor amended regulations, the outcome ofcases in litigation, or the outcome of aService study.

AbbreviationsThe following abbreviations in current useand formerly used will appear in materialpublished in the Bulletin.

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 Contributions 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.—Statement of Procedural 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.

August 9, 2004 i 2004–32 I.R.B.

Numerical Finding List1

Bulletins 2004–27 through 2004–32

Announcements:

2004-55, 2004-27 I.R.B. 15

2004-56, 2004-28 I.R.B. 41

2004-57, 2004-27 I.R.B. 15

2004-58, 2004-29 I.R.B. 66

2004-59, 2004-30 I.R.B. 94

2004-60, 2004-29 I.R.B. 43

2004-61, 2004-29 I.R.B. 67

2004-62, 2004-30 I.R.B. 103

2004-63, 2004-31 I.R.B. 184

Notices:

2004-41, 2004-28 I.R.B. 31

2004-43, 2004-27 I.R.B. 10

2004-44, 2004-28 I.R.B. 32

2004-45, 2004-28 I.R.B. 33

2004-46, 2004-29 I.R.B. 46

2004-47, 2004-29 I.R.B. 48

2004-48, 2004-30 I.R.B. 88

2004-49, 2004-30 I.R.B. 88

2004-51, 2004-30 I.R.B. 89

2004-52, 2004-32 I.R.B. 168

Proposed Regulations:

REG-153841-02, 2004-31 I.R.B. 145

REG-131486-03, 2004-28 I.R.B. 36

REG-150562-03, 2004-32 I.R.B. 175

REG-117307-04, 2004-28 I.R.B. 39

Revenue Procedures:

2004-38, 2004-27 I.R.B. 10

2004-39, 2004-29 I.R.B. 49

2004-40, 2004-29 I.R.B. 50

2004-41, 2004-30 I.R.B. 90

2004-42, 2004-31 I.R.B. 121

2004-43, 2004-31 I.R.B. 124

2004-44, 2004-31 I.R.B. 134

2004-45, 2004-31 I.R.B. 140

2004-46, 2004-31 I.R.B. 142

2004-47, 2004-32 I.R.B. 169

2004-48, 2004-32 I.R.B. 172

Revenue Rulings:

2004-63, 2004-27 I.R.B. 6

2004-64, 2004-27 I.R.B. 7

2004-65, 2004-27 I.R.B. 1

2004-66, 2004-27 I.R.B. 4

2004-67, 2004-28 I.R.B. 28

2004-68, 2004-31 I.R.B. 118

2004-71, 2004-30 I.R.B. 74

2004-72, 2004-30 I.R.B. 77

2004-73, 2004-30 I.R.B. 80

Revenue Rulings— Continued:

2004-74, 2004-30 I.R.B. 84

2004-75, 2004-31 I.R.B. 109

2004-76, 2004-31 I.R.B. 111

2004-77, 2004-31 I.R.B. 119

2004-78, 2004-31 I.R.B. 108

2004-79, 2004-31 I.R.B. 106

2004-80, 2004-32 I.R.B. 164

2004-81, 2004-32 I.R.B. 161

2004-83, 2004-32 I.R.B. 157

2004-84, 2004-32 I.R.B. 163

2004-87, 2004-32 I.R.B. 154

2004-88, 2004-32 I.R.B. 165

Tax Conventions:

2004-60, 2004-29 I.R.B. 43

Treasury Decisions:

9131, 2004-27 I.R.B. 2

9132, 2004-28 I.R.B. 16

9133, 2004-28 I.R.B. 25

9134, 2004-30 I.R.B. 70

9135, 2004-30 I.R.B. 69

9136, 2004-31 I.R.B. 112

9138, 2004-32 I.R.B. 160

9140, 2004-32 I.R.B. 159

1 A cumulative list of all revenue rulings, revenue procedures, Treasury decisions, etc., published in Internal Revenue Bulletins 2004–1 through 2004–26 is in Internal Revenue Bulletin2004–26, dated June 28, 2004.

2004–32 I.R.B. ii August 9, 2004

Findings List of Current Actions onPreviously Published Items1

Bulletins 2004–27 through 2004–32

Notices:

98-65

Superseded by

Rev. Proc. 2004-40, 2004-29 I.R.B. 50

2001-50

Modified by

Rev. Proc. 2004-46, 2004-31 I.R.B. 142

Revenue Procedures:

79-61

Superseded by

Rev. Proc. 2004-44, 2004-31 I.R.B. 134

94-64

Superseded by

Rev. Proc. 2004-38, 2004-27 I.R.B. 10

96-53

Superseded by

Rev. Proc. 2004-40, 2004-29 I.R.B. 50

2002-9

Modified and amplified by

Rev. Proc. 2004-41, 2004-30 I.R.B. 90

2004-4

Modified by

Rev. Proc. 2004-44, 2004-31 I.R.B. 134

Revenue Rulings:

54-379

Superseded by

Rev. Rul. 2004-68, 2004-31 I.R.B. 118

73-354

Obsoleted by

Rev. Rul. 2004-76, 2004-31 I.R.B. 111

80-7

Amplified and clarified by

Rev. Rul. 2004-71, 2004-30 I.R.B. 74

Rev. Rul. 2004-72, 2004-30 I.R.B. 77

Rev. Rul. 2004-73, 2004-30 I.R.B. 80

Rev. Rul. 2004-74, 2004-30 I.R.B. 84

81-100

Clarified and modified by

Rev. Rul. 2004-67, 2004-28 I.R.B. 28

85-70

Amplified and clarified by

Rev. Rul. 2004-71, 2004-30 I.R.B. 74

Rev. Rul. 2004-72, 2004-30 I.R.B. 77

Rev. Rul. 2004-73, 2004-30 I.R.B. 80

Rev. Rul. 2004-74, 2004-30 I.R.B. 84

1 A cumulative list of current actions on previously published items in Internal Revenue Bulletins 2004–1 through 2004–26 is in Internal Revenue Bulletin 2004–26, dated June 28, 2004.

August 9, 2004 iii 2004–32 I.R.B.*U.S. Government Printing Office: 2004—304–778/60147