July 7, 2007

Sent via certified mail

CC:PA:LPD:PR (REG-144859-04)

Room 5203

Internal Revenue Service

P.O. Box 7604

Ben Franklin Station

Washington, DC 20044

Dear Sir or Madam:

I am very concerned about the proposed changes advanced in Proposed
Regulation 1.1367-2 Adjustments to Basis of Indebtedness to Shareholder
(Prop Reg). This Prop Reg would impose a substantial annual burden on
many thousands of taxpayers. This burden far exceeds the benefit of
these proposed rules, as drafted. Except for those exceedingly rare
occurrences involving many millions of dollars, this proposed rule is
clearly unnecessary---the underlying S Corporation rules have served
well in its absence for more than 20 years. To create this sweeping
accounting and administrative burden to address an exceedingly unusual
egregious circumstance is not good tax or administrative policy. I
respectfully submit that this Prop Reg is not needed and should be
scrapped. If it finalized, the di minimus threshold must be raised to
well in excess of \$100,000 and it must be annually adjusted upwards for
inflation.

I. Impact on Taxpayers

This is an overreaction to the *F.G. Brooks*, TC Memo 2005-204 decision.
The Treasury's estimated impact of this Prop Reg is dramatically
understated. Most small S Corporations have shareholder loans. Many
thousands of S Corporation taxpayers and their tax advisors would have
to address and apply this rule each year. Competent taxpayers and
advisors would have to periodically review the shareholder loans during
the course of each year. The burden of this proposal, as drafted, far
exceeds the benefit of policing the rare egregious circumstances.

II\. Di Minimus Rule

Basing the \$10,000 di minimus rule on IRC 7872's limit is incongruent
and completely inappropriate. While IRC 7872 is not inflation adjusted,
as it should be, any finalized threshold under the Prop Reg should be
annually adjusted upwards for inflation.

IRC 7872 was intended to properly capture related party interest income
and expense---it has no remote connection to an S Corporation
shareholder's basis. Indeed, there is no connection between IRC 7872 and
IRC 1367 and there should not be. Invoking IRC 7872 is a mere
justification for this proposal---IRC 7872 is not a reasonable basis for
a di minimus rule. *F.G. Brooks* involved loans in the millions of
dollars and might well present egregious facts. However, bad facts
cannot be permitted to promote bad regulation. The small proposed di
minimus rule is the reason this Prop Reg would have a huge,
inappropriate impact. If this rule is finalized, it should be with a di
minimus well in excess of \$100,000 that is annually adjusted for
inflation.

III\. Authority

What authority does the Treasury have to set an open account debt
limitation? IRC 7872 does not provide any such authority.

IV\. S Corporations and Partnerships

For decades, the S Corporation rules have moved closer to the
partnership rules. Because of their vestigial double taxation regimen, S
Corporations raise more revenue than do partnerships therefore, the
Internal Revenue Service has been generous in promoting S Corporations.
Because a partner's basis includes debt and partnership distributions
are generally suspended and netted at the close of the year, the Prop
Reg would make S Corporations an even less favorable operating entity.
This Prop Reg would provide yet another reason to operate as a
partnership/limited liability company, rather than as an S Corporation.

V. Unequal Application

This Prop Reg would only affect S Corporations with more than one
shareholder and any S Corporation with significant Accumulated
Subchapter C Earnings & Profits (AE&P). This provision is easily avoided
by single-shareholder S Corporations without AE&P. Such taxpayers would
merely run the basis-affecting withdrawals and contributions through
equity.

VI\. Unfair Application

This Pro Reg would only make a difference if the shareholder open
account debt were needed to allow the deduction of loss allocations and
the company has not yet generated the income to restore the basis in the
open account debt. Yet, regardless of its income or loss, the S
Corporation would have to separately track the open account debt to
comply with the \$10,000 per-debt limitation. If the company is
successful, this Prop Reg will generally not change the shareholder's
tax. However, if the company ultimately fails and this Prop Reg had
required the shareholder to recognize income, thereby increasing his
basis in the debt, then the shareholder's loss could be unfairly
converted from an ordinary loss to a capital loss on the ultimately
worthless debt.

This is a classic illustration of a bad rule impelled by an overreaction
to a correct judicial decision involving egregious facts. This Prop Reg
would apply unequally, based on solely the factors of whether an S
Corporation has more than one owner and AE&P. It would encourage more
businesses to operate as partnerships.

This ill advised Prop Reg must not be permitted to affect many thousands
of taxpayers who will have to annually comb their books to determine
whether there was a nanosecond during which a shareholder open account
debt peaked over \$10,000. For thousands of truly small businesses that
operate as S Corporations, that accounting question might annually
require substantial time and cost to answer.

I respectfully submit that this Prop Reg be scrapped. In the
alternative, the di minimus must be raised to over \$100,000 and
adjusted for inflation.

I appreciate the opportunity to respond to this Proposed Regulation and
appreciate your favorable consideration. If you would like to discuss
any of these issues, please call me.

Sincerely,

[Pulakos & Alongi, Ltd.]{.smallcaps}

Carl D. Harper

CDH/cdh

Enclosures-Eight Copies

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