Title 26—Internal Revenue--Volume 1
PART 1—INCOME TAXES
§ 1.362-3   Basis of importation property acquired in loss importation transaction.
(a) Purpose. The purpose of section 362(e)(1) and this section is to modify the application of section 362(a) (section 351 transfers, contributions to capital, or paid-in surplus) and section 362(b) (reorganizations) to prevent a corporation (Acquiring) from importing a net built-in loss in a transaction described in either section. See paragraph (c) of this section for definitions of terms used in this section.
(b) Basis determinations under this section —(1) Basis of importation property received in loss importation transaction. Notwithstanding the general rules of section 362(a) and (b), Acquiring's basis in importation property (as defined in paragraph (c)(2) of this section) acquired in a loss importation transaction (as defined in paragraph (c)(3) of this section) is equal to the value of the property immediately after the transaction.
(2) Adjustment to basis of subsidiary stock in triangular reorganizations. If a corporation (P) computes its basis in stock of a subsidiary (whether S or T) under § 1.358-6 (stock basis in certain triangular reorganizations), P's basis in property treated as acquired by P in § 1.358-6(c) is determined under section 362(e)(1) and this section to the extent such property, if actually acquired by P, would be importation property acquired in a loss importation transaction. See § 1.358-6(c)(1)(i)(A), (c)(2)(ii)(B), and (c)(3)(i). The subsidiary's basis in the property actually acquired in the transaction is determined under applicable law (including this section), without regard to the amount of any adjustment to P's basis in the subsidiary's stock. Thus, the basis of the property in S's or T's hands may differ from the amount of the adjustment to P's basis in its stock of S or T.
(3) Acquiring's basis in other property transferred. In general, Acquiring's basis in property received in a section 362 transaction (as defined in paragraph (c)(1) of this section) that is not determined under section 362(e)(1) and this section is determined under section 362(a) or section 362(b). However, if the transaction is described in section 362(a) (without regard to whether it is also described in any other section), further adjustment may be required under section 362(e)(2). See § 1.362-4.
(4) Other effects of basis determination under this section —(i) Determination by reference to transferor's basis. A determination of basis under this section is a determination by reference to the transferor's basis, including for purposes of sections 1223(2) and 7701(a)(43). However, solely for purposes of applying section 755, a determination of basis under this section is treated as a determination not by reference to the transferor's basis.
(ii) Not tax-exempt income or noncapital, nondeductible expense. The application of this section does not give rise to an item treated as tax-exempt income under § 1.1502-32(b)(2)(ii) or as a noncapital, nondeductible expense under § 1.1502-32(b)(2)(iii).
(iii) No effect on earnings and profits. Any determination of basis under this section does not reduce or otherwise affect the calculation of the all earnings and profits amount provided in § 1.367(b)-2(d).
(c) Definitions. For purposes of this section, the following definitions apply:
(1) Section 362 transaction. The term section 362 transaction means any transaction described in section 362(a) or in section 362(b).
(2) Importation property —(i) General rule. The term importation property means any property (including separate portions determined under paragraph (d)(4) of this section and separate portions of property tentatively divided under paragraph (e)(2) of this section) with respect to which—
(A) Any gain or loss that would be recognized on its sale by the transferor immediately before the transaction (the transferor's hypothetical sale) would not be subject to tax imposed under any provision of subtitle A of the Internal Revenue Code (federal income tax) (taking into account the provisions of paragraph (d) of this section); and
(B) Any gain or loss that would be recognized on its sale by Acquiring immediately after the transaction (Acquiring's hypothetical sale) would be subject to federal income tax (taking into account the provisions of paragraph (d) of this section).
(ii) Special rules for applying this paragraph (c)(2). See paragraph (d) of this section for rules for determining whether gain or loss on a hypothetical sale would be taken into account in determining a federal income tax liability and paragraph (e) of this section for rules applicable when more than one person would take such gain or loss into account.
(3) Loss importation transaction. The term loss importation transaction means any section 362 transaction in which Acquiring's aggregate basis in all importation property received from all transferors in the transaction would exceed the aggregate value of such property immediately after the transaction. For this purpose, Acquiring's basis in property received is determined without regard to this section or section 362(e)(2).
(4) Value —(i) General rule. The term value means fair market value.
(ii) Special rule for transfers of partnership interests. Notwithstanding the general rule in paragraph (c)(4)(i) of this section, when referring to a partnership interest, for purposes of this section, the term value means the sum of the cash that Acquiring would receive for the interest, assuming an exchange between a willing buyer and a willing seller (neither being under any compulsion to buy or sell and both having reasonable knowledge of relevant facts), increased by any § 1.752-1 liabilities (as defined in § 1.752-1(a)(4)) of the partnership allocated to Acquiring with regard to such transferred interest under section 752 immediately after the transfer to Acquiring. If a partnership has elected under section 754, or if section 743(b) would require a downward basis adjustment to the partnership property, the partnership must apply the rules of § 1.743-1 to determine the amount of the basis adjustment to the partnership property.
(d) Rules for determining whether gain or loss would be taken into account in determining a federal income tax liability —(1) General rule. In general, any gain or loss that would be recognized on a hypothetical sale described in paragraph (c)(2) of this section is considered to be subject to federal income tax if, taking into account all relevant facts and circumstances, such gain or loss would affect or be taken into account in determining the federal income tax liability of the transferor or Acquiring, respectively. This determination is made without regard to whether such person has or would have any actual federal income tax liability for the taxable year of the transaction.
(2) Look-through rule in the case of certain pass-through entities. Notwithstanding the general rule in paragraph (d)(1) of this section, the determination of whether any gain or loss on a hypothetical sale would be treated as subject to federal income tax is made by reference to the person that would be required to include such gain or loss in its taxable income if the hypothetical seller is—
(i) A trust treated as owned by its grantors or others (see section 671);
(ii) A partnership (see section 701); or
(iii) An S corporation (see sections 1363 and 1366).
(3) Controlled foreign corporation (CFC), passive foreign investment company (PFIC). For purposes of this section, gain or loss that would be recognized by a CFC (as defined in section 957(a)) or a PFIC (as defined in section 1297(a)) is not deemed taken into account in determining a federal income tax liability solely because it could affect an inclusion under section 951(a) or section 1293(a).
(4) Special rule for debt-financed property subject to section 512. If property is debt-financed property (as defined in section 514(b)) owned by an organization subject to the unrelated business income tax described in section 511(a)(2) and, as a result, a portion of any gain or loss on a sale of the property would be included in unrelated taxable business income (UBTI) under section 512, such property is treated as divided into separate portions in proportion to the amount of such gain or loss that would be includible in UBTI. The rules of paragraph (e) of this section apply to determine the characterization of such portions (as includible in the determination of a federal income tax liability or not), and the tax treatment and consequences of the transaction in which such portions are transferred.
(5) Look-through treatment in the case of certain avoidance transactions —(i) Application of this paragraph (d)(5). This paragraph (d)(5) applies if—
(A) The transferor is a domestic entity that is a trust (other than a trust described in paragraph (d)(2)(i) of this section), estate, regulated investment company (as defined in section 851(a)), a real estate investment trust (as defined in section 856(a)), or a cooperative (as described in section 1381); and
(B) The transferor transfers, directly or indirectly, property that was transferred to or acquired by it as part of a plan (whether of transferor, Acquiring, or any other person) to avoid the application of section 362(e)(1) and this section to a section 362 transaction.
(ii) Effect of application of this paragraph (d)(5). Notwithstanding paragraph (d)(1) of this section, if a transferor is described in both paragraphs (d)(5)(i)(A) and (B) of this section—
(A) The transferor is treated as though it distributes the proceeds of the hypothetical sale (which, for this purpose, are presumed to be an amount greater than zero);
(B) To the fullest extent possible under the transferor's organizing instrument, the deemed distribution is treated as made to a distributee or distributees that would not take distributions from the transferor into account in determining a federal income tax liability; and
(C) The determination of whether the gain or loss on the hypothetical sale is treated as subject to federal income tax is made by reference to the deemed distributee or distributees.
(iii) Tiered entities. If a deemed distributee is an entity described in paragraph (d)(5)(i)(A) of this section, the determination of whether gain or loss on the hypothetical sale is taken into account in determining a federal income tax liability is made by treating the deemed distributee, and any successive such deemed distributees, as a transferor and applying the rules in paragraphs (d)(5)(i) and (ii) of this section to its deemed distribution (and to all successive deemed distributions), until no deemed distributee or successive deemed distributee is an entity described in paragraph (d)(5)(i)(A) of this section.
(e) Special rules for gain or loss that would be taken into account by multiple persons —(1) In general. If gain or loss from a disposition of property would be includible in income by more than one person, the property is treated as tentatively divided into separate portions in proportion to the amount of gain or loss recognized with respect to the property that would be allocated to each such person. If an entity's organizing instrument specially allocates gain and loss, the tentative division of property under this paragraph (e) must reflect the manner in which gain or loss on the disposition of such property would be allocated under the terms of the organizing instrument and any applicable rules of law, taking into account the net gain or loss actually recognized by the entity in that tax year.
(2) Application of section. The rules of this section apply independently to each tentatively divided portion to determine if the portion is importation property. Each tentatively divided portion that is determined to be importation property is included with all other importation property in the determination of whether the transaction is a loss importation transaction.
(3) Acquiring's basis in property tentatively divided into separate portions. Immediately after the application of section 362(e)(1) and this section and before the application of section 362(e)(2), each property treated as tentatively divided into separate portions for purposes of applying section 362(e)(1) and this section ceases to be treated as tentatively divided and Acquiring has a single, undivided basis in such property that is equal to the sum of—
(i) The value of each tentatively divided portion that is importation property, if the transaction is a loss importation transaction; and
(ii) Acquiring's basis in each tentatively divided portion that is not importation property received in a loss importation transaction, as determined under section 362(a) or section 362(b), as applicable, and without regard to any potential application of section 362(e)(2).
(f) Examples. The examples in this paragraph (f) illustrate the application of section 362(e)(1) and the provisions of this section. Unless otherwise indicated, the examples use the following nomenclature and assumptions: A and B are U.S. citizens. DC, DC1, and P are domestic corporations that have not elected to be S corporations within the meaning of section 1361(a)(1) and that are not members of a consolidated group. F is a foreign individual. FP is a foreign partnership. FC, FC1, and FC2 are foreign corporations. Unless the facts indicate otherwise, the foreign individuals, corporations, and partnerships are not engaged in a U.S. trade or business, have no U.S. real property interests, and have no other relationships, activities, or interests that would cause them, their shareholders, their partners, or their property to be subject to federal income tax. There is no applicable income tax treaty, all persons' tax years are calendar years, and all persons and transactions are unrelated unless the facts indicate otherwise.
(B) Importation property. If FC had sold A1, A2, or A3 immediately before the transaction, no gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. Further, if DC had sold A1, A2, or A3 immediately after the transaction, DC would take into account any gain or loss recognized on the sale in determining its federal income tax liability. Therefore, A1, A2, and A3 are all importation properties. See paragraph (c)(2) of this section.
(C) Loss importation transaction. FC's transfer of A1, A2, and A3 is a section 362 transaction. Furthermore, but for section 362(e)(1) and this section and section 362(e)(2), DC's aggregate basis in the importation properties, A1, A2, and A3, would be $300 ($40 + $120 + $140) under section 362(a) and the properties' aggregate value would be $200 ($150 + $30 + $20). Therefore, the importation properties' aggregate basis would exceed their aggregate value and the transaction is a loss importation transaction. See paragraph (c)(3) of this section.
(D) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation properties, A1, A2, and A3, were transferred in a loss importation transaction, paragraph (b)(1) of this section applies and DC's basis in A1, A2, and A3 will each be equal to the property's value ($150, $30, and $20, respectively) immediately after the transfer.
(E) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. Taking into account the application of section 362(e)(1) and this section, DC's aggregate basis in the transferred properties would not exceed their aggregate value immediately after the transfer. Therefore, FC does not have a net built-in loss, FC's transfer is not a loss duplication transaction, and section 362(e)(2) does not apply to this transaction. DC's bases in A1, A2, and A3, as determined under paragraph (i)(D) of this Example 1, are $150, $30, and $20, respectively. Under section 358(a), FC receives the DC stock with a basis of $300 (the sum of FC's bases in A1, A2, and A3 immediately before the exchange).
(ii) Reorganization. The facts are the same as in paragraph (i)(A) of this Example 1 except that, instead of transferring property to DC in a section 351 exchange, FC merges with and into DC in a transaction described in section 368(a)(1)(A). The analysis and results are the same as set forth in paragraphs (i)(B), (C), and (D) of this Example 1. However, the analysis in paragraph (i)(E) of this Example 1 does not apply to these facts because the transaction is not subject to 362(e)(2) and § 1.362-4. Under section 358(a), FC's shareholders will take the DC stock with a basis determined by reference to their FC stock basis.
(iii) FC's property used in U.S. trade or business. (A) Facts. The facts are the same as in paragraph (i)(A) of this Example 1, except that FC is engaged in a U.S. trade or business and uses all the properties in that U.S. trade or business. In this case, none of the properties would be importation property because FC would take any gain or loss on the disposition of the properties into account in determining its federal income tax liability. Accordingly, this section does not apply to the transaction.
(B) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. Taking into account the application of section 362(e)(1) and this section but without taking into account the provisions of section 362(e)(2), DC's aggregate basis in the transferred properties would be $300 ($40 + $120 + $140) under section 362(a) and the properties' aggregate value immediately after the transfer would be $200 ($150 + $30 + $20). Therefore, FC has a net built-in loss and FC's transfer of A1, A2, and A3 is a loss duplication transaction. Accordingly, under the general rule of section 362(e)(2), FC's $100 net built-in loss ($300 aggregate basis over $200 aggregate value) would be allocated proportionately (by the amount of built-in loss in each property) to reduce DC's basis in the loss properties, A2 and A3. See § 1.362-4. As a result, DC's basis in A2 would be $77.14 ($120 basis under section 362(a) reduced by $42.86, A2's proportionate share of FC's net built-in loss, computed as $90/$210 × $100) and DC's basis in A3 would be $82.86 ($140 basis under section 362(a) reduced by $57.14, A3's proportionate share of FC's net built-in loss, computed as $120/$210 x $100). However, if FC and DC were to elect under section 362(e)(2)(C) to apply the $100 basis reduction to FC's basis in the DC stock received in the transaction, DC's bases in A2 and A3 would remain their section 362(a) bases of $120 and $140, respectively. Under section 362(a), DC's basis in A1 is $40 (irrespective of whether the section 362(e)(2)(C) election is made). If FC and DC do not make a section 362(e)(2)(C) election, FC's basis in the DC stock received in the exchange will be $300; if FC and DC do make the election, FC's basis in the DC stock will be $200 ($300−$100 net built-in loss). See § 1.362-4(b).
(ii) Importation property. A1 and A2 are importation properties for the reasons set forth in paragraph (i)(B) of Example 1 of this paragraph (f). A3 is also an importation property because, if F had sold A3 immediately before the transaction, no gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability, and, further, if DC had sold A3 immediately after the transaction, DC would take into account any gain or loss recognized on the sale in determining its federal income tax liability.
(iii) Loss importation transaction. The transfers by FC and F are a section 362 transaction. The transaction is a loss importation transaction for the reasons set forth in paragraph (i)(C) of Example 1 of this paragraph (f) (notwithstanding that one of the transferors, FC, did not transfer a net built-in loss). See paragraph (c)(3) of this section.
(iv) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation properties, A1, A2, and A3, were transferred in a loss importation transaction, paragraph (b)(1) of this section applies and DC's basis in A1, A2, and A3 will each be equal to the property's value ($150, $30, and $20, respectively) immediately after the transfer.
(v) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. The application of section 362(e)(2) is determined separately for each transferor. See § 1.362-4(b). Taking into account the application of section 362(e)(1) and this section, neither DC's aggregate basis in FC's properties nor DC's basis in F's property would exceed the properties' respective values immediately after the transaction. Therefore neither FC nor F has a net built-in loss, neither transfer is a loss duplication transaction, and section 362(e)(2) does not apply to either transfer. DC's bases in A1, A2, and A3, as determined under paragraph (iv) of this Example 2, are $150, $30, and $20, respectively. Under section 358(a), FC's basis in the DC stock received is $160 ($40 + $120) and F's basis in the DC stock received in the exchange is $140.
(ii) Importation property. A1 and A3 are importation properties for the reasons set forth in paragraph (i)(B) of Example 1 and paragraph (ii) of Example 2 of this paragraph (f), respectively. However, A2 is not importation property because, if FC had sold A2 immediately before the transaction, FC would take into account any gain or loss recognized on the sale in determining its federal income tax liability.
(iii) Loss importation transaction. FC's and F's transfer is a section 362 transaction. Furthermore, but for section 362(e)(1) and this section and section 362(e)(2), DC's aggregate basis in the importation properties, A1 and A3, would be $180 ($40 + $140) and the properties' aggregate value would be $170 ($150 + $20) immediately after the transaction. Therefore, the importation properties' aggregate basis would exceed their aggregate value immediately after the transaction, and the transfer is a loss importation transaction.
(iv) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation properties, A1 and A3, were transferred in a loss importation transaction, paragraph (b)(1) of this section applies and DC's basis in A1 and in A3 will each be equal to the property's value ($150 and $20, respectively) immediately after the transfer.
(v) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. The application of section 362(e)(2) is determined separately for each transferor. See § 1.362-4(b).
(A) FC's transfer. Taking into account the application of section 362(e)(1) and this section but without taking into account the provisions of section 362(e)(2), DC would have an aggregate basis of $270 in the transferred properties ($150 in A1, as determined under paragraph (iv) of this Example 3, plus $120 in A2, determined under section 362(a)), and the properties would have an aggregate value of $180 ($150 + $30) immediately after the transfer. Therefore, FC has a net built-in loss and FC's transfer of A1 and A2 is a loss duplication transaction. Accordingly, under the general rule of section 362(e)(2), FC's $90 net built-in loss ($270 aggregate basis to DC over $180 aggregate value) would be allocated proportionately to reduce DC's basis in the loss property transferred by FC. As a result, FC's entire net built-in loss would be allocated to A2, the only loss property transferred by FC, and DC's basis in A2 would be $30 ($120 basis under section 362(a) reduced by $90 net built-in loss). However, if FC and DC were to elect under section 362(e)(2)(C) to apply the $90 basis reduction to FC's basis in the DC stock received in the transaction, DC's basis in A2 would remain its section 362(a) basis of $120. DC's basis in A1 is $150 as determined under paragraph (iv) of this Example 3 (irrespective of whether the section 362(e)(2)(C) election is made). If FC and DC do not make a section 362(e)(2)(C) election, FC's basis in the DC stock received in the exchange will be $160; if FC and DC do make the election, FC's basis in the DC stock will be $70 ($160−$90 net built-in loss). See § 1.362-4.
(B) F's transfer of A3. Taking into account the application of section 362(e)(1) and this section, DC's basis in A3, the property transferred by F, would not exceed its value immediately after the transfer. Therefore, F does not have a built-in loss, F's transfer is not a loss duplication transaction, and section 362(e)(2) does not apply to F's transfer. DC's basis in A3, as determined under paragraph (iv) of this Example 3, is $20. Under section 358(a), F receives the DC stock with a basis of $140.
(ii) Importation property. A2 is not importation property and A3 is importation property for the reasons set forth in paragraph (ii) of Example 3 and paragraph (i)(B) of Example 1 of this paragraph (f), respectively. A1 is not importation property because, if DC1 had sold A2 immediately before the transaction, DC1 would take into account any gain or loss recognized on the sale in determining its federal income tax liability.
(iii) Loss importation transaction. The transfer of A1, A2, and A3 is a section 362 transaction. Furthermore, but for section 362(e)(1) and this section and section 362(e)(2), DC's basis in importation property, A3, would be $140 and the value of the property would be $20 immediately after the transaction. Therefore, the importation property's basis would exceed value and the transfer is a loss importation transaction.
(iv) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation property, A3, was transferred in a loss importation transaction, section 362(e)(1) and paragraph (b)(1) of this section apply and DC's basis in A3 will be equal to A3's $20 value immediately after the transfer.
(v) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. The application of section 362(e)(2) is determined separately for each transferor. See § 1.362-4.
(A) DC1's transfer. Taking into account the application of section 362(e)(1) and this section, DC's basis in A1 ($40 under section 362(a)) would not exceed its value immediately after the transfer. Therefore, DC1 does not have a net built-in loss, DC1's transfer is not a loss duplication transaction, and section 362(e)(2) does not apply to DC1's transfer. DC's basis in A1, determined under section 362(a), is $40. Under section 358(a), DC1 receives the DC stock with a basis of $40.
(B) FC's transfer. Taking into account the application of section 362(e)(1) and this section, but without taking into account the provisions of section 362(e)(2), DC would have a section 362(a) basis of $120 in A2, which would exceed A2's $30 value immediately after the transfer. Therefore, FC has a net built-in loss and FC's transfer of A2 is a loss duplication transaction. Accordingly, under the general rule of section 362(e)(2), FC's $90 net built-in loss (DC's $120 basis in A2 over A2's $30 value) would be applied to reduce DC's basis in A2, the only loss property transferred by FC. As a result, DC's basis in A2 would be $30 ($120 basis under section 362(a), reduced by the $90 net built-in loss). However, if FC and DC were to elect under section 362(e)(2)(C) to apply the $90 basis reduction to FC's basis in the DC stock received in the transaction, DC's basis in A2 would be its $120 basis determined under section 362(a). If FC and DC do not make a section 362(e)(2)(C) election, FC's basis in the DC stock received in the exchange will be $120; if FC and DC do make the election, FC's basis in the DC stock will be $30 ($120−$90). See § 1.362-4.
(C) F's transfer. F's transfer of A3 is a transaction described in section 362(a). However, taking into account the application of section 362(e)(1) and this section, DC's basis in A3 ($20) would not exceed its value immediately after the transfer. Therefore, F does not have a built-in loss, F's transfer is not a loss duplication transaction, and section 362(e)(2) does not apply to F's transfer. DC's basis in A3, as determined under paragraph (iv) of this Example 4, is $20. Under section 358(a), F receives the DC stock with a basis of $140.
(B) Importation property. If FP had sold A1 immediately before the transaction, any gain or loss recognized on the sale would be allocated to and includible by A and F equally under the partnership agreement. Thus, under paragraph (d)(2) of this section, A1 is treated as tentatively divided into two equal portions, one treated as owned by A and one treated as owned by F. If FP had sold A1 immediately before the transaction, any gain or loss recognized on the portion treated as owned by A would have been taken into account in determining a federal income tax liability (A's); thus A's tentatively divided portion of A1 is not importation property. However, no gain or loss recognized on the tentatively divided portion treated as owned by F would have been taken into account in determining a federal income tax liability. Further, if DC had sold A1 immediately after the transaction, any gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability (DC's); thus, F's tentatively divided portion of A1 is importation property.
(C) Loss importation transaction. FP's transfer of A1 is a section 362 transaction. Furthermore, but for section 362(e)(1) and this section and section 362(e)(2), DC's basis in the importation property, F's portion of A1, would be $50 under section 362(a) and the property's value would be $35 immediately after the transaction. Therefore, the importation property's basis would exceed its value and the transfer is a loss importation transaction.
(D) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation property, F's tentatively divided portion of A1, was transferred in a loss importation transaction, section 362(e)(1) and paragraph (b)(1) of this section apply and DC's basis in F's portion of A1 will be equal to its $35 value.
(E) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. Taking into account the application of section 362(e)(1) and this section but without taking into account the provisions of section 362(e)(2), DC's aggregate basis in A1 would be $85 (the sum of the $35 basis in F's tentatively divided portion of A1, as determined under paragraph (i)(D) of this Example 5, and the $50 basis in A's tentatively divided portion of A1, determined under section 362(a), see paragraphs (d)(2) and (e)(3) of this section) and A1's value immediately after the transfer would be $70. Therefore, FP has a net built-in loss and FP's transfer of A1 is a loss duplication transaction. Accordingly, under the general rule of section 362(e)(2), FP's $15 net built-in loss ($85 basis over $70 value) would be allocated to reduce DC's basis in the loss asset, A1, the only loss property transferred by FP. As a result, DC's basis in A1 would be $70 ($85 basis under section 362(a) and this section, reduced by the $15 net built-in loss). Under section 358, FP's basis in the DC stock received in the exchange will be $100. See § 1.362-4.
(ii) Transfer with election to apply section 362(e)(2)(C). The facts are the same as in paragraph (i)(A) of this Example 5, except that FP and DC elect to apply section 362(e)(2)(C) to reduce FP's basis in the DC stock received in the exchange. The analysis and results are the same as in paragraphs (i)(B), (C), (D), and (E) of this Example 5, except that the $15 reduction to DC's basis in A1 is not made and, as a result, DC's basis in A1 remains $85, and FP's basis in the DC stock received in the exchange is reduced from $100 to $85. The $15 reduction to FP's basis in DC stock reduces A's basis in its FP interest under section 705(a)(2)(B). See § 1.362-4(e)(1).
(iii) Transfer by domestic partnership. The facts are the same as in paragraph (i)(A) of this Example 5 except that FP is a domestic partnership. The analysis and results are the same as in paragraphs (i)(B), (C), (D), and (E) of this Example 5.
(iv) Transfer of interest in partnership with liability. (A) Facts. F and two other individuals are equal partners in FP. F's basis in its partnership interest is $247. F's share of FP's § 1.752-1 liabilities (as defined in § 1.752-1(a)(4)) is $150. F transfers his partnership interest to DC in a transaction to which section 351 applies. If DC were to sell the FP interest immediately after the transfer, DC would receive $100 in cash or other property. In addition, taking into account the rules under § 1.752-4, DC's share of FP's § 1.752-1 liabilities (as defined in § 1.752-1(a)(4)) is $145 immediately after the transfer.
(B) Importation property. If F had sold his partnership interest immediately before the transaction, no gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. Further, if DC had sold the partnership interest immediately after the transaction, any gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. Therefore, F's partnership interest is importation property.
(C) Loss importation transaction. F's transfer is a section 362 transaction. However, but for section 362(e)(1) and this section and section 362(e)(2), DC's basis in the importation property, the partnership interest, determined under section 362(a) and taking into account the rules under section 752, would be $242 (F's $247 basis reduced by F's $150 share of FP liabilities and increased by DC's $145 share of FP liabilities) and, under paragraph (c)(4)(ii) of this section, the value of the FP interest would be $245 (the sum of $100, the cash DC would receive if DC immediately sold the partnership interest, and $145, DC's share of the § 1.752-1 liabilities (as defined in § 1.752-1(a)(4)) under section 752 immediately after the transfer to DC). Therefore, the importation property's basis ($242) would not exceed its value ($245), and the transfer is not a loss importation transaction.
(D) Basis in property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. As described in paragraph (iv)(C) of this Example 5, taking into account the application of section 362(e)(1) and this section, DC's basis in the partnership interest would not exceed its value. Therefore, under § 1.362-4, F does not have a net built-in loss, the transfer is not a loss duplication transaction, and section 362(e)(2) does not apply to the transfer. DC's basis in F's partnership interest is $242, determined under sections 362(a) and 752. Under section 358, taking into account the rules under section 752, F's basis in the DC stock received in the exchange is $97 ($247 reduced by F's $150 share of FP liabilities). If FP had elected under section 754, or if section 743(b) required a downward basis adjustment to the partnership property, FP would apply the rules of § 1.743-1 to determine the amount of the basis adjustment to the partnership property.
(B) Importation property. If InsCo had sold the DC1 stock immediately before the transaction, any gain or loss realized would be excluded from UBTI under section 512(b)(5), and thus no gain or loss recognized on the sale would have been taken into account in determining federal income tax liability. Further, if DC had sold the DC1 stock immediately after the transaction, any gain or loss recognized on the sale would have been taken into account in determining federal income tax liability. Therefore, the DC1 stock is importation property.
(C) Loss importation transaction. InsCo's transfer is a section 362 transaction. Furthermore, but for section 362(e)(1) and this section and section 362(e)(2), DC's basis in importation property, the DC1 stock, would be $100, and the stock's value would be $70 immediately after the transaction. Therefore, the importation property's basis would exceed its value and the transfer is a loss importation transaction.
(D) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation property, the DC1 stock, was transferred in a loss importation transaction, paragraph (b)(1) of this section applies and DC's basis in the stock will be equal to its $70 value.
(E) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. Taking into account the application of section 362(e)(1) and this section, DC's basis in the DC1 stock does not exceed its value immediately after the transaction. Therefore, InsCo does not have a net built-in loss, InsCo's transfer is not a loss duplication transaction, and section 362(e)(2) has no application to the transaction. DC's basis in the DC1 stock, as determined under paragraph (i)(D) of this Example 6, is $70. Under section 358, InsCo's basis in the DC stock received in the exchange will be $100.
(ii) Transferor loses tax-exempt status. (A) Facts. The facts are the same as in paragraph (i)(A) of this Example 6 except that InsCo fails to be described in section 501(c)(12) in Year 1.
(B) Importation property. If InsCo had sold the DC1 stock immediately before the transaction, any gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. Therefore, the DC1 stock is not importation property and this section does not apply to the transaction.
(C) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. Taking into account the application of section 362(e)(1) and this section but without taking into account the provisions of section 362(e)(2), DC would have a section 362(a) basis of $100 in the stock, which would exceed its value of $70 immediately after the transfer. Therefore, InsCo has a net built-in loss and InsCo's transfer of the DC1 stock is a loss duplication transaction. Accordingly, under the general rule of section 362(e)(2), InsCo's $30 net built-in loss ($100 basis over $70 value) would be allocated to reduce DC's basis in the loss asset, the DC1 stock, the only loss property transferred by InsCo. As a result, DC's basis in the DC1 stock would be $70 ($100 basis under section 362(a), reduced by the $30 net built-in loss). Under section 358, InsCo's basis in the DC stock received in the exchange will be $100.
(iii) Transfer of property that is subject to unrelated business tax. (A) Facts. The facts are the same as in paragraph (i)(A) of this Example 6 except that, on December 31, Year 1, instead of the DC1 stock, InsCo transfers A1 (basis $200, value $150) to DC. A1 is real property that InsCo owned from January 1 to December 31 of Year 1. During the entirety of this period, A1's basis was $200, and in the twelve months prior to December 31, Year 1, the highest amount of outstanding principal indebtedness on A1 was $40. For purposes of the UBTI rules under section 512, A1 is debt-financed property within the meaning of section 514(b).
(B) Importation property. If InsCo had sold A1 immediately before the transaction, 20 percent of any gain or loss recognized on that sale (that is, $40 of acquisition indebtedness on A1 divided by A1's $200 basis in Year 1) would, under sections 512 and 514, be includible in UBTI at the end of Year 1, and 80 percent would not. Thus, under paragraph (d)(4) of this section, A1 is treated as tentatively divided into two portions, one reflecting the gain or loss that would be taken into account in determining a federal income tax liability in InsCo's hands immediately before the transfer (the 20 percent portion) and one that would not (the 80 percent portion). Further, if DC sold A1 immediately after the transfer, any gain or loss on both portions would be taken into account in determining a federal income tax liability. Accordingly, the 20 percent portion is not importation property, but the 80 percent portion is.
(C) Loss importation transaction. InsCo's transfer of A1 is a section 362 transaction. Furthermore, but for section 362(e)(1) and this section and section 362(e)(2), DC's basis in the importation property, the 80 percent portion of A1, would be $160 (80 percent of InsCo's $200 basis) under section 362(a) and the property's value would be $120 (80% of A1's $120 value) immediately after the transaction. Therefore, the importation property's basis would exceed its value and the transfer is a loss importation transaction.
(D) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation property, the 80 percent portion of A1, was transferred in a loss importation transaction, section 362(e)(1) and paragraph (b)(1) of this section apply and DC's basis in that portion of A1 will be equal to its $120 value.
(E) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. Taking into account the application of section 362(e)(1) and this section but without taking into account the provisions of section 362(e)(2), DC's aggregate basis in A1 would be $160 (the sum of the $120 basis in the 80 percent importation portion of A1, as determined under paragraph (iii)(D) of this Example 6, and the $40 basis in the 20 percent portion of A1 that is not importation property, determined under section 362(a). See paragraph (e)(3) of this section). Further, A1's value immediately after the transfer would be $150. Therefore, InsCo has a net built-in loss in A1, and InsCo's transfer of A1 is a loss duplication transaction. Accordingly, under the general rule of section 362(e)(2), InsCo's $10 net built-in loss ($160 basis over $150 value) would be allocated to reduce DC's basis in the loss asset, A1, the only loss property transferred by InsCo. As a result, DC's basis in A1 would be $150 ($160 basis under section 362(a) and this section, reduced by the $10 net built-in loss). Under section 358, InsCo's basis in the DC stock received in the exchange will be $200. See § 1.362-4.
(iv) Transfer with election to apply section 362(e)(2)(C). The facts are the same as in paragraph (iii)(A) of this Example 6, except that InsCo and DC elect to apply section 362(e)(2)(C) to reduce InsCo's basis in the DC stock received in the exchange. The analysis and results are the same as in paragraphs (iii)(B), (C), (D), and (E) of this Example 6, except that the $10 reduction to DC's basis in A1 is not made and, as a result, DC's basis in A1 remains $160; however, InsCo's basis in the DC stock received in the exchange is reduced from $200 to $190.
(B) Importation property. If FC had sold A1 immediately before the transaction, any gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability (FC's). See section 882(a). Therefore, A1 is not importation property. If FC had sold A2 immediately before the transaction, FC would not take the gain or loss recognized into account in determining its federal income tax liability, but the gain or loss could be taken into account in determining a section 951 inclusion to FC's U.S. shareholders. However, under paragraph (d)(3) of this section, gain or loss is not deemed taken into account in determining a federal income tax liability solely because it could affect an inclusion under section 951(a). Further, if DC had sold A2 immediately after the transaction, any gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. Therefore, A2 is importation property.
(C) Loss importation transaction. FC's transfer is a section 362 transaction. Furthermore, but for section 362(e)(1) and this section and section 362(e)(2), DC's basis in the importation property, A2, would be $100 and the property's value would be $75 immediately after the transaction. Therefore, the importation property's basis would exceed its value and the transfer is a loss importation transaction.
(D) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation property, A2, was transferred in a loss importation transaction, paragraph (b)(1) of this section applies and DC's basis in A2 will be equal to A2's $75 value immediately after the transfer.
(E) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. Taking into account the application of section 362(e)(1) and this section but without taking into account the provisions of section 362(e)(2), DC would have an aggregate basis of $145 in the transferred properties ($70 in A1, determined under section 362(a), plus $75 in A2, determined under this section) and the properties would have an aggregate value of $175 ($100 + $75) immediately after the transfer. Therefore, FC does not have a net built-in loss, FC's transfer is not a loss duplication transaction, and section 362(e)(2) does not apply to the transaction. DC's basis in A1 will be $70, determined under section 362(a), and DC's basis in A2 will be $75, as determined under paragraph (i)(D) of this Example 7. Under the general rule in section 358(a), FC receives the DC stock with a basis of $170 ($70 attributable to A1 plus $100 attributable to A2).
(ii) Transfer of CFC stock. (A) Facts. The facts are the same as in paragraph (i)(A) of this Example 7, except that A transfers its 60 shares of FC stock (basis $80, value $105) and F transfers its 40 shares of FC stock (basis $100, value $70) to DC in an exchange that qualifies under section 351.
(B) Importation property. If A had sold its FC shares immediately before the transaction, any gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability (A's). Therefore, A's FC shares are not importation property. However, if F had sold its FC shares immediately before the transaction, no gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. Further, if DC had sold F's FC shares immediately after the transaction, any gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. Therefore, F's FC shares are importation property.
(C) Loss importation transaction. The transfer of the FC shares is a section 362 transaction. Furthermore, but for section 362(e)(1) and this section and section 362(e)(2), DC's aggregate basis in the importation property, F's shares of FC stock, would be $100 under section 362(a) and the shares' aggregate value would be $70. Therefore, the importation property's aggregate basis would exceed its aggregate value, and the transfer is a loss importation transaction.
(D) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation property, F's shares of FC stock, was transferred in a loss importation transaction, paragraph (b)(1) of this section applies and DC's aggregate basis in the shares will be equal to their $70 aggregate value immediately after the transfer.
(E) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. The application of section 362(e)(2) is determined separately for each transferor. See § 1.362-4(b).
( 1 ) A's transfer. Taking into account the application of section 362(e)(1) and this section, DC's aggregate basis in the shares ($80 under section 362(a)) would not exceed the shares' value ($105) immediately after the transaction. Therefore A does not have a built-in loss, A's transfer is not a loss duplication transaction, and section 362(e)(2) does not apply to A's transfer. DC's aggregate basis in A's shares, determined under section 362(a), is $80. Under section 358(a), A receives the DC stock with a basis of $80.
( 2 ) F's transfer. Taking into account the application of section 362(e)(1) and this section, DC's aggregate basis in the shares would not exceed their value immediately after the transaction. Therefore, F does not have a built-in loss, F's transfer is not a loss duplication transaction, and section 362(e)(2) does not apply to F's transfer. DC's aggregate basis in F's shares, as determined under paragraph (ii)(D) of this Example 7, is $70. Under section 358(a), F receives the DC stock with a basis of $100.
(ii) Importation property. Although any dividends received with respect to the DC1 stock were subject to withholding tax, if FC had sold the share of stock of DC1, no gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. See section 865(a)(2). Further, if DC had sold the share of DC1 stock immediately after the transaction, any gain or loss recognized on the sale would be taken into account in determining federal income tax liability. Therefore, the share of DC1 stock is importation property.
(iii) Loss importation transaction. FC's transfer is a section 362 transaction. Furthermore, but for section 362(e)(1) and this section and section 362(e)(2), DC's basis in the importation property, the share of DC1 stock, would be $100 and the share's value would be $70 immediately after the transaction. Therefore, the share's basis would exceed its value and the transfer is a loss importation transaction.
(iv) Application of section 362(e)(1) and this section to importation property received in loss importation transaction. Because the importation property, the DC1 share, was transferred in a loss importation transaction, paragraph (b)(1) of this section applies and DC's basis in the share will be equal to the share's $70 value.
(v) Basis of property received in transaction. Following the application of section 362(e)(1) and this section, the provisions of section 362(e)(2) must be taken into account because the transfer is a section 362(a) transaction. Taking into account the application of section 362(e)(1) and this section, DC's basis in the DC1 share would not exceed the share's value immediately after the transaction. Therefore, FC does not have a net built-in loss, FC's transfer is not a loss duplication transaction, and section 362(e)(2) does not apply to the transaction. DC's basis in the DC1 share, as determined under paragraph (iv) of this Example 8, is $70. Under section 358, FC's basis in the DC stock received in the exchange will be $100.
(B) Determining P's basis in its FC share. Pursuant to § 1.358-6, for purposes of determining the adjustment to P's basis in its FC shares, P is treated as though it first received A1 in a transaction in which its basis in A1 would be determined under section 362(b) and then it transferred A1 to FC in a transaction in which P's basis in its FC stock would be determined under section 358.
( 1 ) P's deemed acquisition and transfer of A1. If FC2 had sold A1 for its value immediately before the deemed transaction, no gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. If P had sold A1 immediately after the deemed transaction, any gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability (P's). Therefore, with respect to P's deemed acquisition, A1 is importation property. Furthermore, immediately after the deemed transaction, P's basis in A1, but for section 362(e)(1) and this section and section 362(e)(2), would be $100 and A1's value is $20. Therefore, the importation property's basis would exceed its value and the transfer is a loss importation transaction. Accordingly, P's deemed basis in A1 will be equal to A1's $20 value.
( 2 ) P's FC stock basis. As a result of P's deemed transfer of A1 to FC (and applying the principles of § 1.367(b)-13), P's basis in its FC stock is increased by its $20 deemed basis in A1. Accordingly, following the transaction, P's basis in its share of FC stock will be $21 (the sum of its original $1 basis and the $20 adjustment for the deemed transfer of A1).
(C) FC's basis in A1. FC's basis in A1 is determined under the rules of this section without regard to the determination of P's adjustment to its basis in FC stock. If FC2 had sold A1 for its value immediately before the transaction, no gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. However, if FC had sold A1 immediately after the transaction, no gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability, so A1 is not importation property. Accordingly, this section will not apply to the transaction. Although there is a net built-in loss in A1, the transaction is not described in section 362(a), and so section 362(e)(2) and § 1.362-4 will not apply to the transaction. Thus, under section 362(b), FC's basis in A1 will be $100.
(D) FC1's basis in P stock. Under section 358, FC1's basis in the P stock it receives in the exchange will be $100.
(ii) Property transferred to U.S. subsidiary in triangular reorganization. (A) Facts. The facts are the same as in paragraph (i)(A) of this Example 9, except that P also owns the sole outstanding share of DC (basis $1) and, instead of merging into FC, FC2 merged into DC.
(B) Determining P's basis in its DC share. As determined under paragraph (i)(B)( 2 ) of this Example 9, P's basis in its DC share is $21, the sum of its original $1 basis plus the $20 adjustment for the deemed transfer of A1.
(C) DC's basis in A1. If FC2 had sold A1 for its value immediately before the transaction, no gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability. However, if DC had sold A1 immediately after the transaction, any gain or loss recognized on the sale would have been taken into account in determining a federal income tax liability, so A1 is importation property with respect to DC. Furthermore, immediately after the transaction, DC's basis in A1, but for section 362(e)(1) and this section and section 362(e)(2), would be $100 and A1's value is $20. Therefore, the importation property's basis would exceed its value and the transfer is a loss importation transaction. Accordingly, DC's basis in A1 will be $20, A1's value immediately after the transaction.
(D) FC1's basis in P stock. Under section 358, FC1's basis in the P stock it receives in the exchange is $100.
(g) Applicability date. This section applies with respect to any transaction occurring on or after March 28, 2016, and also with respect to any transaction occurring before such date as a result of an entity classification election under § 301.7701-3 of this chapter filed on or after March 28, 2016, unless such transaction is pursuant to a binding agreement that was in effect prior to March 28, 2016 and at all times thereafter. In addition, taxpayers may apply this section to any transaction occurring after October 22, 2004.
§ 1.362-4   Basis of loss duplication property.
(a) Purpose and scope —(1) In general. The purpose of section 362(e)(2) and this section is to prevent the duplication of net loss in transfers to which section 351 applies, capital contributions, and paid-in surplus (each, a section 362(a) transaction). See paragraph (g) of this section for definitions of terms used in this section.
(2) Intercompany transactions. For rules relating to the application of section 362(e)(2) to transfers between members of a consolidated group on or after October 22, 2004, see § 1.1502-80(h).
(b) Basis determinations under section 362(e)(2) and this section. Notwithstanding section 362(a), if a corporation (Acquiring) receives loss duplication property (as defined in paragraph (g)(1) of this section) from a person (Transferor) in a loss duplication transaction (as defined in paragraph (g)(2) of this section), Acquiring's basis in such property is equal to the basis of the property determined without regard to section 362(e)(2) and this section (as described in paragraph (g)(1)(ii) of this section), reduced by the property's allocable portion of Transferor's net built-in loss (as defined in paragraph (g)(3) of this section). If more than one Transferor transfers property to a corporation in a section 362(a) transaction, whether and the extent to which section 362(e)(2) and this section apply is determined separately for each Transferor.
(c) Exceptions and special rules —(1) Transactions in which net built-in loss is eliminated without recognition. Section 362(e)(2) does not apply to a transaction to the extent that—
(i) Without recognizing gain or loss, Transferor distributes the Acquiring stock received in the transaction; and
(ii) Upon completion of the transaction, no person holds Acquiring stock or any other asset with a basis determined, in whole or in part, by reference to Transferor's basis in the distributed Acquiring stock.
(2) Certain transactions outside of the United States. Section 362(e)(2) does not apply to a transaction if—
(i) Neither Transferor nor Acquiring is a U.S. person (as defined in section 7701(a)(30)), a person otherwise required to file a U.S. return for the year of the transaction, a controlled foreign corporation (CFC, as defined in paragraph (g)(7) of this section), or a controlled foreign partnership (CFP, as defined in paragraph (g)(9) of this section) on the date of the transaction;
(ii) The transfer occurs more than two years prior to the date of any event described in paragraph (d)(3)(ii)(E), (F), or (G) of this section; and
(iii) The original transaction and the event or events described in paragraph (d)(3)(ii)(E), (F), or (G) of this section were not entered into with a view to reducing or avoiding the Federal income tax liability of any person by avoiding the application of section 362(e)(2) and this section to the original transaction.
(3) Other effects of basis determination under this section —(i) Determination by reference to transferor's basis. A determination of basis under this section is a determination by reference to the transferor's basis, including for purposes of sections 755, 1223(2), and 7701(a)(43).
(ii) Treatment as tax-exempt income or noncapital, nondeductible expense. A determination of basis under paragraph (b) of this section does not give rise to an item treated as a noncapital, nondeductible expense under § 1.1502-32(b)(2)(iii). However, a determination of basis under paragraph (d) of this section does give rise to an item treated as a noncapital, nondeductible expense under § 1.1502-32(b)(2)(iii).
(d) Election to reduce Transferor's stock basis instead of Acquiring's asset basis —(1) In general. In lieu of making the basis reductions otherwise required under paragraph (b) of this section, Transferor and Acquiring may elect to reduce Transferor's basis in Acquiring stock that is received in the transaction without the recognition of gain or loss (the section 362(e)(2)(C) election). The section 362(e)(2)(C) election may be made protectively and will have no effect to the extent that property transferred in the transaction is determined not to be subject to section 362(e)(2) and this section. However, the election is irrevocable once it is made. A section 362(e)(2)(C) election is made and effective if—
(i) Prior to the filing of a Section 362(e)(2)(C) Statement (described in paragraph (d)(3)(i) of this section), Transferor and Acquiring enter into a written, binding agreement to elect to apply section 362(e)(2)(C); and
(ii) The Section 362(e)(2)(C) Statement is filed in accordance with the provisions of paragraph (d)(3) of this section.
(2) Effect of section 362(e)(2)(C) election. If a section 362(e)(2)(C) election is made and in effect—
(i) An amount equal to the portion of Transferor's net built-in loss (as defined in paragraph (g)(3) of this section) that would otherwise be applied to reduce asset basis under paragraph (b) of this section is allocated among the Acquiring shares received or deemed received in the exchange (in proportion to the value of such shares) and applied to reduce Transferor's basis (determined without regard to section 362(e)(2) and this section) in each such share; and
(ii) Acquiring's basis in loss duplication property received from Transferor in the transaction is not determined under section 362(e)(2) and this section.
(3) Section 362(e)(2)(C) Statement —(i) Form and contents of statement. The Section 362(e)(2)(C) Statement is to be titled “Section 362(e)(2)(C) Statement.” The Section 362(e)(2)(C) Statement must—
(A) Identify (by name and tax identification number, if any) Transferor and Acquiring;
(B) State that Transferor and Acquiring have entered into a written, binding agreement to elect to apply section 362(e)(2)(C) as required in paragraph (d)(1)(i) of this section; and
(C) State the date of the transaction (or, if the transaction includes transfers on more than one date, then the dates of all transfers) to which the election applies.
(ii) Filing the Section 362(e)(2)(C) Statement. In general, the Section 362(e)(2)(C) Statement is filed by the person or entity described in the applicable paragraph of this paragraph (d)(3)(ii). Thus, if Transferor is a partnership, S corporation, trust (including a subpart E trust), or other pass-through entity, or Acquiring is an S corporation, the entity (and not the partners, shareholders, or other persons having an interest in the entity or its property) is the person that must file the Section 362(e)(2)(C) Statement, without regard to whether such entity is foreign or domestic. However, in the case of a CFC or CFP, the controlling U.S. shareholders of the CFC or the reporting U.S. partners of the CFP, respectively, file the Section 362(e)(2)(C) Statement.
(A) Transferor is a person required to file a U.S. return. If Transferor is a person required to file a U.S. return for the year of the transfer, Transferor must include the Section 362(e)(2)(C) Statement on or with its timely filed (including extensions) original U.S. return for the taxable year in which the transfer occurred.
(B) Transferor is a CFC or CFP and not required to file a U.S. return. If paragraph (d)(3)(ii)(A) of this section does not apply and Transferor is either a CFC or a CFP on the date of the transfer, all of Transferor's controlling U.S. shareholders (in the case of a CFC) or all of Transferor's reporting U.S. partners (in the case of a CFP) must include the Section 362(e)(2)(C) Statement on or with their timely filed (including extensions) original U.S. returns for their taxable years in which the transfer occurred.
(C) Transferor is not a person required to file a U.S. return, a CFC, or a CFP, but Acquiring is required to file U.S. return. If paragraphs (d)(3)(ii)(A) and (B) of this section do not apply and Acquiring is a person required to file a U.S. return for the year of the transfer, Acquiring must include the Section 362(e)(2)(C) Statement on or with its timely filed (including extensions) original U.S. return for the taxable year in which the transfer occurred.
(D) Transferor is not a person required to file a U.S. return, a CFC, or a CFP, Acquiring is not required to file a U.S. return, but Acquiring is a CFC. If paragraphs (d)(3)(ii)(A) through (C) of this section do not apply and Acquiring is a CFC on the date of the transfer, all of Acquiring's controlling U.S. shareholders must include the Section 362(e)(2)(C) Statement on or with their timely filed (including extensions) original U.S. returns for their taxable years in which the transfer occurred.
(E) Neither Transferor nor Acquiring is a person required to file a U.S. return, a CFC, or a CFP, but Transferor later becomes a person required to file a U.S. return, a CFC, or a CFP. If paragraphs (d)(3)(ii)(A) through (D) of this section do not apply and Transferor becomes a person required to file a U.S. return, a CFC, or a CFP, Transferor (if required to file a U.S. return), all of Transferor's controlling U.S. shareholders (if Transferor becomes a CFC not otherwise required to file a U.S. return), or all of Transferor's reporting U.S. partners (if Transferor becomes a CFP not otherwise required to file a U.S. return) must include the Section 362(e)(2)(C) Statement on or with their timely filed (including extensions) original U.S. returns for their taxable years in which an event described in this paragraph (d)(3)(ii)(E) first occurs. For purposes of this paragraph (d)(3)(ii)(E), the term Transferor includes any person holding property with a basis determined directly or indirectly by reference to Transferor's basis in the Acquiring stock received in the transaction.
(F) Transferor is not and does not become a person required to file a U.S. return, a CFC, or a CFP, Acquiring is not, but later becomes either a person required to file a U.S. return, a CFC, or a CFP. If paragraphs (d)(3)(ii)(A) through (E) of this section do not apply and Acquiring becomes a person required to file a U.S. return, a CFC, or a CFP, Acquiring (if required to file a U.S. return), all of Acquiring's controlling U.S. shareholders (if Acquiring becomes a CFC not otherwise required to file a U.S. return), or all of Acquiring's reporting U.S. partners (if Acquiring becomes a CFP not otherwise required to file a U.S. return) must include the Section 362(e)(2)(C) Statement on or with their timely filed (including extensions) original U.S. returns for their taxable years in which an event described in this paragraph (d)(3)(ii)(F) first occurs. For purposes of this paragraph (d)(3)(ii)(F), the term Acquiring includes any person holding property with a basis determined directly or indirectly by reference to Acquiring's basis in loss duplication property received in the transaction.
(G) Transferor and Acquiring are not and do not become a person required to file a U.S. return, a CFC, or a CFP, but the basis of the loss duplication property or Acquiring stock later becomes relevant for Federal tax purposes. If paragraphs (d)(3)(ii)(A) through (F) of this section do not apply and, in a transferred basis transaction, a person required to file a U.S. return, a CFC, or a CFP acquires either loss duplication property or Acquiring stock that was received in the loss duplication transaction, or any property the basis of which is determined in whole or in part by reference to any such property or stock, all such persons (or, in the case of a CFC or CFP not required to file a U.S. return, all the controlling U.S. shareholders or all the reporting U.S. partners, as applicable) must include the Section 362(e)(2)(C) Statement on or with their timely filed (including extensions) original U.S. returns for their first taxable year(s) in which there occurs an event or events described in this paragraph (d)(3)(ii)(G).
(e) Transfers by partnerships and S corporations —(1) Transfers by partnerships. If a partnership transfers property in a loss duplication transaction with respect to which a section 362(e)(2)(C) election is made, the resulting reduction to the partnership's basis in the Acquiring stock received in exchange for the loss duplication property is treated as an expenditure of the partnership described in section 705(a)(2)(B).
(2) Transfers by S corporations. If an S corporation transfers property in a loss duplication transaction with respect to which a section 362(e)(2)(C) election is made, the resulting reduction to the S corporation's basis in the Acquiring stock received in exchange for the loss duplication property is treated as an expense of the S corporation described in section 1367(a)(2)(D).
(f) Transfers to S corporations. If a person transfers property to an S corporation in a loss duplication transaction, any resulting reduction under section 362(e)(2) and this section to the S corporation's basis in the property received is not treated as an expense of the S corporation described in section 1367(a)(2)(D).
(g) Definitions. For purposes of section 362(e)(2) and this section—
(1) Loss duplication property is any property—
(i) That is transferred by Transferor to Acquiring in a loss duplication transaction (as defined in paragraph (g)(2) of this section); and
(ii) That Acquiring would take with a basis in excess of value immediately after the transaction; for this purpose, the basis Acquiring would take in the property is determined immediately after the transaction and without regard to section 362(e)(2) and this section, but otherwise taking into account all applicable provisions of law, including, without limitation, section 362(e)(1).
(2) A loss duplication transaction is a section 362(a) transaction in which Acquiring's aggregate basis in the property received from Transferor would, but for section 362(e)(2) and this section, exceed the aggregate value of such property immediately after the transaction. For this purpose—
(i) A transaction is a section 362(a) transaction if it is described in section 362(a) without regard to whether it is also described in any other provision of the Internal Revenue Code (Code), including, without limitation, section 362(b); and
(ii) Acquiring's aggregate basis in the property received from Transferor is determined immediately after the transaction and without regard to section 362(e)(2) and this section, but otherwise taking into account all applicable provisions of law, including, without limitation, section 362(e)(1).
(3) Transferor's net built-in loss is the excess of—
(i) Acquiring's aggregate basis (determined under paragraph (g)(2)(ii) of this section) in all property received from Transferor in a loss duplication transaction, over
(ii) The aggregate value of such property immediately after the transaction.
(4) A property's built-in loss is the excess of Acquiring's basis in the property (determined as described in paragraph (g)(1)(ii) of this section) over the property's value (determined immediately after the transaction).
(5) A property's allocable portion of Transferor's net built-in loss is the portion of Transferor's net built-in loss that bears the same ratio to Transferor's net built-in loss that the property's built-in loss bears to the aggregate built-in losses reflected in the bases of loss duplication property transferred by Transferor in the transaction.
(6) A U.S. return is a return of income under section 6012 or an information return under Subtitle F, Chapter 61, Subchapter A, Part III of the Code (sections 6031 and following) or the regulations thereunder, that the taxpayer is unconditionally required to file. Thus, the term does not include elective forms or statements that are required to be filed only to obtain a particular tax treatment, including forms filed to make an election or to reduce or avoid withholding by a person not otherwise required to file a U.S. return (as described in this paragraph (g)(6)) (for example, a notice of nonrecognition under § 1.1445-2(d)).
(7) A controlled foreign corporation (CFC) is any corporation described in section 957 or section 953(c).
(8) A controlling U.S. shareholder is any person that is treated as a controlling U.S. shareholder under § 1.964-1(c)(5) because such person either owns a direct interest in the CFC or is treated as owning an interest in the CFC by reason of section 318(a)(2) (attribution from partnerships, estates, trusts, and corporations).
(9) A controlled foreign partnership (CFP) is any partnership treated as a controlled foreign partnership for purposes of section 6038.
(10) A reporting U.S. partner is any partner of a CFP that is required to file an information return with respect to the CFP pursuant to section 6038 or the regulations thereunder, without regard to § 1.6038-3(c) or (j). In addition, in applying the constructive ownership rules of § 1.6038-3(b)(4), the term “nonresident alien” is replaced by the term “individual.”
(11) The term stock means both Acquiring stock and Acquiring securities received by Transferor in the transaction if gain or loss on the receipt of the stock or securities is not recognized in whole or in part.
(12) Value —(i) General rule. The term value means fair market value.
(ii) Special rule for transfers of partnership interests. Notwithstanding the general rule in paragraph (g)(12)(i) of this section, when referring to a partnership interest, for purposes of section 362(e)(2) and this section, the term value means the sum of the cash that Acquiring would receive for the interest, assuming an exchange between a willing buyer and a willing seller (neither being under any compulsion to buy or sell and both having reasonable knowledge of relevant facts), increased by any § 1.752-1 liabilities (as defined in § 1.752-1(a)(4)) of the partnership allocated to Acquiring with regard to such transferred interest under section 752 immediately after the transfer to Acquiring. See § 1.743-1 regarding the application of section 743(b) following a section 362(e) basis reduction.
(h) Examples. The examples in this paragraph (h) illustrate the application of section 362(e)(2) and the provisions of this section. Unless the facts otherwise indicate, the examples use the following nomenclature and assumptions: X, Y, P, S, S1, and S2 are domestic corporations; A and B are U.S. individuals; FC1 and FC2 are foreign corporations and are not engaged in a U.S. trade or business, have no U.S. real property interests, and have no other relationships, activities, or interests that would cause them, their shareholders, or their property to be subject to tax imposed under any provision of subtitle A of the Internal Revenue Code (federal income tax); there is no applicable income tax treaty; PRS is a domestic partnership; no election is made under section 362(e)(2)(C); and the transferred property is not importation property (as defined in § 1.362-3(c)(2)) and the transfers are not loss importation transactions (as defined in § 1.362-3(c)(3)), so that the basis of no property is determined under section 362(e)(1). All persons and transactions are unrelated unless the facts indicate otherwise, all taxpayers are on a calendar tax year, and all other relevant facts are set forth in the examples. See § 1.362-3(f) for additional examples illustrating the application of section 362(e)(2) and this section, including to transactions that are subject to section 362(e)(2), and section 362(e)(1).
(B) Analysis —( 1 ) Loss duplication transaction. A's transfer of Asset 1 and Asset 2 is a section 362(a) transaction. But for section 362(e)(2) and this section, X's aggregate basis in those assets would be $200 ($90 + $110), which would exceed the aggregate value of the assets $180 ($60 + $120) immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and A has a net built-in loss of $20 ($200−$180).
( 2 ) Identifying loss duplication property. But for section 362(e)(2) and this section, X's basis in Asset 1 would be $90, which would exceed Asset 1's $60 value immediately after the transaction. Accordingly, Asset 1 is loss duplication property. But for section 362(e)(2) and this section, X's basis in Asset 2 would be $110, which would not exceed Asset 2's $120 value immediately after the transaction. Accordingly, Asset 2 is not loss duplication property.
(C) Basis in loss duplication property. X's basis in Asset 1 is $70, computed as its $90 basis under section 362(a) reduced by A's $20 net built-in loss.
(D) Basis in other property. Under section 362(a), X has a transferred basis of $110 in Asset 2. Under section 358(a), A has an exchanged basis of $200 in the X stock it receives in the transaction.
(ii) Section 362(e)(2)(C) election. The facts are the same as in paragraph (i)(A) of this Example 1, except that A and X make an election under section 362(e)(2)(C). Under paragraph (d)(2)(i) of this section, A reduces its basis in the X stock, as determined without regard to section 362(e)(2) and this section, by the amount of A's net built-in loss that would have been applied to reduce X's basis in Asset 1 had the section 362(e)(2)(C) election not been made. In addition, no reduction is made to X's basis in Asset 1, as determined without regard to section 362(e)(2) and this section. As a result, A's basis in the X stock is $180 ($200−$20), X's basis in Asset 1 is $90, and X's basis in Asset 2 is $110.
(B) Analysis —( 1 ) Loss duplication transaction. P's transfer of the S2 shares is a section 362(a) transaction notwithstanding that it is also a transaction described in section 368(a)(1)(B) and therefore section 362(b). But for section 362(e)(2) and this section, S1's aggregate basis in the S2 shares would be $75 ($10 × 5, or $50, for Shares 1-5 + $5 × 5, or $25, for Shares 6-10). Thus, S1's $75 aggregate basis in the shares would exceed the aggregate value of the shares, $70 ($7 × 10 shares), immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and P has a net built-in loss of $5 ($75−$70).
( 2 ) Identifying loss duplication property. But for section 362(e)(2) and this section, S1's basis in each of Shares 1-5 would be $10, which would exceed each share's $7 value immediately after the transaction. Accordingly, Shares 1-5 are each loss duplication property. But for section 362(e)(2) and this section, S1's basis in each of Shares 6-10 would be $5, which would not exceed each share's $7 value immediately after the transaction. Accordingly, Shares 6-10 are not loss duplication property.
(C) Basis in loss duplication property. S1's basis in each of Shares 1-5 is $9, computed as its $10 basis (determined without regard to section 362(e)(2) and this section) reduced by $1, the share's allocable portion (1/5) of P's net built-in loss ($5).
(D) Basis in other property. Under section 362(a), S1 has a transferred basis of $5 in each of Shares 6-10. Under section 358(a), P has an exchanged basis in the ten S1 shares it receives in the exchange ($10 in each of the five S1 shares received in exchange for Shares 1-5 and $5 in each of the five S1 shares received in exchange for Shares 5-10).
(ii) Section 362(e)(2)(C) election. The facts are the same as in paragraph (i)(A) of this Example 2, except that an election under section 362(e)(2)(C) is made to reduce P's basis in the shares of S1 stock received in the exchange. Under paragraph (d)(2)(i) of this section, P reduces its basis in the S1 stock by $5, the amount of P's net built-in loss that S1's basis in the S2 shares would have been reduced under section 362(e)(2) and this section had the section 362(e)(2)(C) election not been made, and no reduction is made to S1's basis in the S2 stock (as determined without regard to section 362(e)(2) and this section). Because an election is being made under section 362(e)(2)(C), P's basis in the new S1 shares is not determined under the general rule of § 1.358-2(a)(2)(i) (under which P's basis in each new S1 share would be equal to the basis of the S2 share transferred in exchange for the S1 share). Section 1.358-2(a)(2)(viii)(B). Accordingly, P's basis in each new S1 share will be $7, the share's allocable portion of P's $75 aggregate basis in the S2 shares transferred in the transaction (or, $7.50 per share), reduced under paragraph (d)(2)(i) of this section by the $5 that would have been applied to reduce S1's basis in the S2 shares had the section 362(e)(2)(C) election not been made (or $.50 per share). Under paragraph (d)(2)(ii) of this section and section 362(a), S1 receives five shares of the S2 stock with a basis of $10 each and five shares of the S2 stock with a basis of $5 each.
(ii) Application of section to A's transfer of Asset 1. A's transfer of Asset 1 is a section 362(a) transaction. But for section 362(e)(2) and this section, X's basis in Asset 1 would be $120, which would not exceed Asset 1's $130 value immediately after the transaction. Accordingly, A's transfer of Asset 1 is not a loss duplication transaction notwithstanding that, taking both A's transfer and Y's transfer into account, X has an aggregate net loss in Asset 1 and Asset 2. Because Asset 1 is not received in a loss duplication transaction, it is not loss duplication property and section 362(e)(2) and this section do not apply to A's transfer of Asset 1.
(iii) Application of section to Y's transfer of Asset 2 —(A) Analysis —( 1 ) Loss duplication transaction. Y's transfer of Asset 2 to X is a section 362(a) transaction, notwithstanding that it is also a transaction described in section 368(a)(1)(A) and therefore section 362(b). But for section 362(e)(2) and this section, X's basis in Asset 2 would be $250, which would exceed Asset 2's $210 value immediately after the transaction. Accordingly, Y's transfer is a loss duplication transaction and Y has a net built-in loss of $40.
( 2 ) Identifying loss duplication property. But for section 362(e)(2) and this section, X's basis in Asset 2 would be $250, which would exceed Asset 2's $210 value immediately after the transaction. Accordingly, Asset 2 is loss duplication property.
(B) Basis in loss duplication property. Although Asset 2 is loss duplication property, section 362(e)(2) does not apply to Y's transfer of Asset 2 to X because Y distributes all of the X stock received in the exchange without recognizing gain or loss, and, upon completion of the transaction, no person will hold the X stock or any other asset with a basis determined in whole or in part by reference to Y's basis in such stock. Accordingly, under paragraph (c)(1) of this section, X's basis in Asset 2 is not determined under section 362(e)(2) and this section. Thus, under section 362(a), X's basis in Asset 2 is $250.
(iv) Basis in other property. Under section 358, A's basis in the X stock received in exchange for Asset 1 is $120 and B's basis in the X stock received in the merger is $150. Under section 362(a), X's basis in Asset 1 is $120.
(B) Analysis —( 1 ) Loss duplication transaction. X's transfer of Asset 1, Asset 2, and Asset 3 is a section 362(a) transaction. But for section 362(e)(2) and this section, Y's aggregate basis in those assets would be $500 ($120 + $160 + $220). The aggregate value of the assets immediately after the transaction is $420 ($70 + $110 + $240). Thus, Y's aggregate basis in the assets would exceed the aggregate value of the assets immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and X has a net built-in loss of $80 ($500 − $420).
( 2 ) Identifying loss duplication property. But for section 362(e)(2) and this section, Y's basis in Asset 1 would be $120, which would exceed Asset 1's $70 value immediately after the transaction. Accordingly, Asset 1 is loss duplication property. But for section 362(e)(2) and this section, Y's basis in Asset 2 would be $160, which would exceed Asset 2's $110 value immediately after the transaction. Accordingly, Asset 2 is also loss duplication property. But for section 362(e)(2) and this section, Y's basis in Asset 3 would be $220 and would therefore not exceed Asset 3's $240 value immediately after the transaction. Accordingly, Asset 3 is not loss duplication property.
(C) Basis in loss duplication property. Although Asset 1 and Asset 2 are each loss duplication property, X will distribute the Y stock received in exchange for Asset 1 and Asset 2 without recognition of gain or loss, and, upon completion of the transaction, no person will hold the Y stock received by X or any other asset with a basis determined in whole or in part by reference to X's basis in the Y stock received in the exchange. (A's basis in the Y stock will be determined by reference to his basis in his X stock.) Accordingly, under paragraph (c)(1) of this section, Y's bases in Asset 1 and Asset 2 are determined under section 362(a) and not under section 362(e)(2) and this section. Thus, Y's basis in Asset 1 is $120 and Y's basis in Asset 2 is $160.
(D) Basis in other property. Under section 358, A's basis in the Y stock received in exchange for his X stock is determined by reference to his basis in his X stock surrendered. Under section 362(a), Y's basis in Asset 3 is $220.
(ii) Section 355(e) —(A) Facts. The facts are the same as in paragraph (i)(A) of this Example 4, except that, after the section 355 distribution, Y is acquired pursuant to a plan (within the meaning of § 1.355-7), resulting in the application of section 355(e) to the transactions.
(B) Analysis. Because section 361(c)(2), and not section 361(c)(1), will apply to X's distribution of Y stock, X will not qualify for nonrecognition treatment on the distribution of the Y stock. As a result, paragraph (c)(1) of this section does not apply to the transaction, and Y's bases in Asset 1 and Asset 2, the loss duplication property, are determined under section 362(e)(2) and this section. Asset 1 has a built-in loss of $50 ($120 − $70), and Asset 2 has a built-in loss of $50 ($160 − $110). Thus, Asset 1's allocable portion of X's net built-in loss is $40 ($50/$100 × $80), and Asset 2's allocable portion of X's net built-in loss is $40 ($50/$100 × $80). Accordingly, Y receives Asset 1 with a basis of $80 ($120 − $40) and Asset 2 with a basis of $120 ($160 − $40).
(iii) Retained stock and securities —(A) Facts. The facts are the same as in paragraph (i)(A) of this Example 4, except that X transfers Asset 1, Asset 2, and Asset 3 to Y in exchange for Y stock and Y securities, each constituting half of the consideration. In addition, for a valid business purpose, X retains Y stock and Y securities each worth 1 percent of the total consideration.
(B) Analysis. Paragraph (c)(1) of this section applies only to the extent that stock received in a transaction is distributed without recognition of gain or loss. Thus, section 362(e)(2) and this section apply to the extent that property was exchanged for the retained Y stock and Y securities (2 percent of the total). Accordingly, Y reduces its basis in Asset 1 and in Asset 2, the loss duplication property, by $1.60 (two percent of X's $80 net built-in loss). Asset 1 has a built-in loss of $50 ($120 − $70), and Asset 2 has a built-in loss of $50 ($160 − $110). Thus, Asset 1's allocable portion of X's net built-in loss is $.80 ($50/$100 × $1.60), and Asset 2's allocable portion of X's net built-in loss is $.80 ($50/$100 × $1.60). As a result, Y receives Asset 1 with a basis of $119.20 ($120 − $.80) and Asset 2 with a basis of $159.20 ($160 − $.80).
(iv) Retained stock and securities with a section 362(e)(2)(C) election —(A) Facts. The facts are the same as in paragraph (iii)(A) of this Example 4, except that an election under section 362(e)(2)(C) is made to reduce X's bases in its retained Y stock and retained Y securities.
(B) Analysis. Under paragraph (d)(2)(i) of this section, X reduces its basis in the retained Y stock and the retained Y securities (determined without regard to section 362(e)(2) and this section) by $1.60, the portion of X's $80 net built-in loss that would have been applied to reduce Y's basis in the transferred assets had the election to apply section 362(e)(2)(C) not been made. (Because the value of the Y stock and the value of the Y securities are equal, X's $500 basis in the transferred property would be allocated equally between the Y stock and the Y securities, $250 to each, under § 1.358-2(b)(2), and the retained Y stock and Y securities have a basis of $2.50 each (one percent of $250).) For the reasons set forth in paragraph (iii)(B) of this Example 4, Y would have been required to reduce its basis in the transferred assets by $1.60. Accordingly, X must reduce its aggregate basis in the retained Y stock and Y securities by $1.60. Under paragraph (d)(2)(i) of this section, the $1.60 basis reduction is allocated and applied to reduce X's bases in the retained Y stock and Y securities in proportion to the value of each. Because X retained Y stock and Y securities with equal values, X holds each of the retained Y stock and securities with an adjusted basis of $1.70 ($2.50 − $.80). Under paragraph (d)(2)(ii) of this section, Y receives Asset 1 with a basis of $120, Asset 2 with a basis of $160, and Asset 3 with a basis of $220.
( 2 ) Analysis —( i ) Loss duplication transaction. A's transfer of Asset 1 is a section 362(a) transaction. But for section 362(e)(2) and this section, X's basis in Asset 1 would be $800, which would exceed Asset 1's $700 value immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and A has a net built-in loss of $100 ($800 − $700).
( ii ) Identifying loss duplication property. But for section 362(e)(2) and this section, X's basis in Asset 1 would be $800, which would exceed the $700 value of Asset 1 immediately after the transaction. Accordingly, Asset 1 is loss duplication property.
( 3 ) Basis in loss duplication property. X's basis in Asset 1 is $700, computed as its $800 basis determined under section 362(a) reduced by A's $100 net built-in loss.
( 4 ) Basis in other property. Under sections 358(a) and (d)(1), A's basis in the X stock is $600 ($800 basis in property transferred—$200 liability assumed).
(B) Section 362(e)(2)(C) election. The facts are the same as in paragraph (i)(A)( 1 ) of this Example 5, except that A and X make an election under section 362(e)(2)(C). In this case, A's $100 net built-in loss that would have been applied to reduce X's basis in Asset 1 is applied to reduce A's basis in the X stock received. As a result, A's basis in the X stock is $500 ($600, as determined in paragraph (i)(A)( 4 ) of this Example 5, reduced by $100) and X's basis in Asset 1 is $800.
(ii) Contingent liabilities described in section 358(h)(1), section 358(h)(2)(A) exception applies —(A) Facts. The facts are the same as in paragraph (i)(A)( 1 ) of this Example 5, except that A's liability (valued at $200) has not been taken into account for tax purposes and is described in sections 358(d)(2) and 358(h)(1). However, Asset 1 is a trade or business and the liability is associated with the trade or business; as a result, the liability is described in section 358(h)(2)(A) and is excepted from the general rule of section 358(h)(1).
(B) Analysis. For the reasons set forth in paragraph (i)(A)( 2 ) of this Example 5, A's transfer of Asset 1 is a loss duplication transaction, A has a net built-in loss of $100, and Asset 1 is loss duplication property.
(C) Basis in loss duplication property. For the reasons set forth in paragraph (i)(A)( 3 ) of this Example 5, X's basis in Asset 1 is $700.
(D) Basis in other property. A's basis in the X stock is $800 under sections 358(a), 358(d)(2), and 358(h)(2)(A).
(E) Section 362(e)(2)(C) election. The facts are the same as in paragraph (ii)(A) of this Example 5, except that A and X make an election under section 362(e)(2)(C). In this case, A's $100 net built-in loss that would have applied to reduce X's basis in Asset 1 is applied to reduce A's basis in the X stock received. As a result, A's basis in the X stock is $700 ($800, as determined in paragraph (ii)(D) of this Example 5, reduced by $100). X's basis in Asset 1 is $800.
(B) Analysis —( 1 ) Loss duplication transaction. A's transfer of Asset 1 and Asset 2 is a section 362(a) transaction. But for section 362(e)(2) and this section, X's aggregate basis in those assets would be $130, computed as follows. Under section 362(a), a corporation's basis in property acquired in a transaction to which section 351 applies is the same as the property's basis in the hands of the transferor, increased by any gain recognized to the transferor on such transfer. Under section 351(b), gain (but not loss) is recognized to the extent a transferor in a section 351 exchange receives other property or money in addition to the stock permitted to be received without the recognition of gain. To determine the amount of gain recognized under section 351(b), the consideration is allocated proportionately (by value) among the transferred properties. A's gain on the transfer is therefore computed as follows: Asset 1 reflects 80 percent of the value transferred ($100/$125) and Asset 2 reflects 20 percent of the value transferred ($25/$125). Thus, 80 percent of the stock (eight shares) and the cash ($20) are treated as being received in exchange for Asset 1 and 20 percent of the stock (two shares) and the cash ($5) are treated as being received in exchange for Asset 2. Thus, under section 351(b), A recognizes $20 of gain for the cash received in exchange for Asset 1, but A recognizes no loss for the amount received for Asset 2. As a result, under section 362(a), X would have a basis of $100 in Asset 1 and $30 in Asset 2. Thus, X's aggregate basis in the assets would be $130, which exceeds the $125 aggregate value of the assets ($100 + $25)). The transfer is a loss duplication transaction and A has a net built-in loss of $5 ($130−$125).
( 2 ) Identifying loss duplication property. But for section 362(e)(2) and this section, X's basis in Asset 1 would be $100 (A's $80 basis increased by A's $20 gain recognized), which would not exceed Asset 1's $100 value immediately after the transaction. Accordingly, Asset 1 is not loss duplication property. But for section 362(e)(2) and this section, X's basis in Asset 2 would be $30, which would exceed Asset 2's $25 value immediately after the transaction. Accordingly, Asset 2 is loss duplication property.
(C) Basis in loss duplication property. X's basis in Asset 2 is $25, computed as its $30 basis under section 362(a) reduced by A's $5 net built-in loss.
(D) Basis in other property. Under section 362(a), X's basis in Asset 1 is $100 (A's $80 basis increased by the $20 gain recognized). Under section 358, A's basis in the X stock is $105 (the sum of its $80 basis in Asset 1, its $30 basis in Asset 2, and its $20 gain recognized, reduced by the $25 cash received in the exchange).
(ii) Section 362(e)(2)(C) election. The facts are the same as in paragraph (i)(A) of this Example 6, except that A and X elect to reduce A's stock basis under section 362(e)(2)(C). Under paragraph (d)(2)(i) of this section, A reduces its $105 basis in the X stock by $5, the amount of A's net built-in loss of that would have been applied to reduce X's basis in Asset 2 had the section 362(e)(2)(C) election not been made. As a result, A's basis in the X stock is $100, and X's basis in Asset 2 is $30.
(B) Analysis —( 1 ) Loss duplication transaction. A's deemed transfer of X stock to Y is a section 362(a) transaction. But for section 362(e)(2) and this section, Y's aggregate basis in the X stock would be $90, which would exceed the X stock's value of $60 immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and A has a net built-in loss of $30.
( 2 ) Identifying loss duplication property. But for section 362(e)(2) and this section, Y's basis in the X stock would be $90, which would exceed the X stock's $60 value immediately after the transaction. Accordingly, the X stock is loss duplication property.
(C) Basis in loss duplication property. Y's basis in the X stock is $60, its $90 basis determined without regard to section 362(e)(2) and this section, reduced by A's $30 net built-in loss.
(D) Basis in other property. Under section 358(a), A has an exchanged basis of $90 in the Y stock he is deemed to receive in the exchange; the effect of the deemed redemption of that stock is then determined under section 302.
(ii) Section 362(e)(2)(C) election. The facts are the same as in paragraph (i)(A) of this Example 7, except that the parties elect to reduce A's stock basis under section 362(e)(2)(C). For the reasons set forth in paragraphs (i)(B) and (C) of this Example 7, Y's basis in the X stock would be reduced by $30. Accordingly, A's basis in the deemed-issued Y stock is $60, his $90 basis otherwise determined under section 358(a) reduced by the $30 that would have been applied to reduce Y's basis in the X stock under section 362(e)(2) and this section; the effect of the deemed redemption of that stock is then determined under section 302. Y's basis in the X stock is $90.
( 2 ) Analysis —( i ) Loss duplication transaction. PRS's transfer of Asset 1 is a section 362(a) transaction. But for section 362(e)(2) and this section, X's basis in Asset 1 would be $100, which would exceed Asset 1's $70 value immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and PRS has a net built-in loss of $30 ($100−$70).
( ii ) Identifying loss duplication property. But for section 362(e)(2) and this section, X's basis in Asset 1 would be $100, which would exceed Asset 1's $70 value immediately after the transaction. Accordingly, Asset 1 is loss duplication property.
( 3 ) Basis in loss duplication property. X's basis in Asset 1 is $70, computed as its $100 basis under section 362(a) reduced by PRS's $30 net built-in loss.
( 4 ) Basis in other property. Under section 358(a), PRS has an exchanged basis of $100 in the X stock it receives in the exchange.
(B) Section 362(e)(2)(C) election. The facts are the same as in paragraph (i)(A)( 1 ) of this Example 8, except that PRS and X elect to reduce PRS's stock basis under section 362(e)(2)(C). In this case, PRS's $30 net built-in loss (as determined in paragraph (i)(A)( 2 )( i ) of this Example 8 ) that would have been applied to reduce X's basis in Asset 1 is applied to reduce PRS's basis in the X stock received. As a result, PRS's basis in the X stock is $70 ($100−$30) and X's basis in Asset 1 is $100. The $30 reduction to PRS's basis in the X stock is treated as an expenditure of PRS under section 705(a)(2)(B) and paragraph (e)(1) of this section. As a result, the partners of PRS must reduce their bases in their PRS interests.
(ii) Transfer of interest in partnership with liability —(A) Basic application of section —( 1 ) Facts. A and two other individuals are equal partners in PRS. A's basis in its partnership interest is $247. A's share of PRS's § 1.752-1 liabilities (as defined in § 1.752-1(a)(4)) is $145. A transfers his partnership interest to X in a transaction to which section 351 applies. PRS has no election in effect under section 754. If X were to sell the PRS interest immediately after the transfer, X would receive $100 in cash or other property. In addition, assume that, taking into account the rules under § 1.752-4, X's share of PRS's § 1.752-1 liabilities (as defined in § 1.752-1(a)(4)) is $150 immediately after the transfer.
( 2 ) Analysis —( i ) Loss duplication transaction. A's transfer of its PRS interest is a section 362(a) transaction. But for section 362(e)(2) and this section, X's basis in the PRS interest, would be $252 (A's basis of $247, reduced by A's $145 share of PRS liabilities, increased by X's $150 share of PRS liabilities) and, under paragraph (g)(12)(ii) of this section, the value of the PRS interest would be $250 (the sum of $100, the cash X would receive if X immediately sold the interest, and $150, X's share of the § 1.752-1 liabilities (as defined in § 1.752-1(a)(4)) under section 752 immediately after the transfer to X). Therefore, the transfer is a loss duplication transaction and A has a net built-in loss of $2 ($252−$250).
( ii ) Identifying loss duplication property. But for section 362(e)(2) and this section, X's basis in the PRS interest would be $252, which would exceed the PRS interest's $250 value immediately after the transaction. Accordingly, the PRS interest is loss duplication property.
( 3 ) Basis in loss duplication property. X's basis in the PRS interest is $250, computed as its $252 basis under section 362(a), taking into account the rules under section 752, reduced by A's $2 net built-in loss.
( 4 ) Basis in other property. Under section 358, taking into account the rules under section 752, A has a basis of $102 ($247 reduced by A's $145 share of PRS liabilities) in the X stock he receives in the transaction.
(B) Section 362(e)(2)(C) election. The facts are the same as in paragraph (i)(A) of this Example 8, except that A and X make an election under section 362(e)(2)(C). Under paragraph (d)(2)(i) of this section, A reduces his basis in the X stock, as determined without regard to section 362(e)(2) and this section, by the amount of A's net built-in loss that would have been applied to reduce X's basis in the PRS interest had the section 362(e)(2)(C) election not been made. In addition, no reduction is made to X's basis in the PRS interest, as determined without regard to section 362(e)(2) and this section. As a result, A's basis in the X stock is $100 ($102−$2) and X's basis in the PRS interest is $252.
(C) Transfer of partnership interest with liability, not loss duplication transaction. The facts are the same as in paragraph (ii)(A)(1) of this Example 8, except that A's share of PRS's § 1.752-1 liabilities (as defined in § 1.752-1(a)(4)) is $155. But for section 362(e)(2) and this section, X's basis in the PRS interest would be $242 (A's basis of $247, reduced by A's $155 share of PRS liabilities, increased by X's $150 share of PRS liabilities), which would not exceed the PRS interest's $250 value immediately after the transaction. Accordingly, A's transfer of the PRS interest is not a loss duplication transaction and section 362(e)(2) and this section have no application to the transaction. Under section 362(a), X's basis in the PRS interest is $242 and, under section 358, taking into account the rules under section 752, A has a basis of $92 ($247 reduced by A's $155 share of PRS liabilities) in the X stock he receives in the transaction.
( 2 ) Analysis —( i ) Loss duplication transaction. S's transfer of Asset 1 is a section 362(a) transaction. But for section 362(e)(2) and this section, X's basis in Asset 1 would be $100, which would exceed Asset 1's $70 value immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and S has a net built-in loss of $30 ($100−$70).
( ii ) Identifying loss duplication property. But for section 362(e)(2) and this section, X's basis in Asset 1 would be $100, which would exceed Asset 1's $70 value immediately after the transaction. Accordingly, Asset 1 is loss duplication property.
( iii ) Basis in loss duplication property. X's basis in Asset 1 is $70, computed as its $100 basis under section 362(a) reduced by S's $30 net built-in loss.
( iv ) Basis in other property. Under section 358(a), S has an exchanged basis of $100 in the X stock it receives in the exchange.
(B) Section 362(e)(2)(C) election. The facts are the same as in paragraph (i)(A)( 1 ) of this Example 9, except that S and X elect to reduce S's stock basis under section 362(e)(2). In this case, S's $30 built-in loss (as determined in paragraph (i)(A)( 2 )( i ) of this Example 9 ) that would have been applied to reduce X's basis in Asset 1 is applied to reduce S's basis in the X stock received. As a result, S's basis in the X stock is $70 ($100 − $30) and X's basis in Asset 1 is $100. The $30 reduction to S's basis in the X stock is treated as an expense of S under section 1367(a)(2)(D) and paragraph (e)(2) of this section. As a result, the shareholders of S must reduce their bases in their S stock.
(ii) Transfer to S Corporation —(A) Basic application of section. ( 1 ) Facts. A owns Asset 1 (basis $90, value $60) and Asset 2 (basis $110, value $120). In a transaction to which section 351 applies, A transfers Asset 1 and Asset 2 to S, an S corporation as defined in section 1361(a)(1), in exchange for a single share of S stock representing all the outstanding S stock immediately after the transaction.
( 2 ) Analysis —( i ) Loss duplication transaction. A's transfer of Asset 1 and Asset 2 is a section 362(a) transaction. But for section 362(e)(2) and this section, S's aggregate basis in those assets would be $200 ($90 + $110), which would exceed the aggregate value of the assets $180 ($60 + $120) immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and A has a net built-in loss of $20 ($200 − $180).
( ii ) Identifying loss duplication property. But for section 362(e)(2) and this section, S's basis in Asset 1 would be $90, which would exceed Asset 1's $60 value immediately after the transaction. As a result, Asset 1 is loss duplication property. But for section 362(e)(2) and this section, S's basis in Asset 2 would be $110, which would not exceed Asset 2's $120 value immediately after the transaction. As a result, Asset 2 is not loss duplication property.
( 3 ) Basis in loss duplication property. S's basis in Asset 1 is $70, computed as its $90 basis under section 362(a) reduced by S's $20 net built-in loss. The $20 reduction to S's basis in Asset 1 does not require a reduction to A's basis in its S stock under section 1367(a)(2)(D). See paragraph (f) of this section.
( 4 ) Basis in other property. Under section 362(a), S has a transferred basis of $110 in Asset 2. Under section 358(a), A has a basis of $200 in the S stock it receives in the exchange.
(B) Section 362(e)(2)(C) election —( 1 ) Application of section to transaction. The facts are the same as in paragraph (ii)(A)( 1 ) of this Example 9, except that A and S elect to reduce A's stock basis under section 362(e)(2)(C). In this case, A's $20 built-in loss (as determined in paragraph (ii)(A)( 2 ) of this Example 9 ) that would have been applied to reduce S's basis in Asset 1 is applied to reduce A's basis in the S stock received. As a result, A's basis in the S stock is $180 ($200 − $20), S's basis in Asset 1 is $90, and S's basis in Asset 2 is $110.
( 2 ) Tax consequences of subsequent disposition of transferred assets. The facts are the same as in paragraph (ii)(B)( 1 ) of this Example 9 except that, in addition, the year after the transaction, S sells Asset 1 (basis $90, value $60) and Asset 2 (basis $110, value $120) for $180, recognizing the $20 net built-in loss. The loss is allocated to A and reduces A's basis in the S stock from $180 to $160 under section 1367(a)(2)(B). If A then sells its S stock for its $180 value, A will recognize a gain of $20.
(ii) Analysis. The reorganization is not a section 362(a) transaction, notwithstanding that, under § 1.358-6(c), P is treated as acquiring and then transferring S2's assets to S1 for purposes of determining P's adjustment to its basis in its S1 stock. Accordingly, S1's basis in the property acquired in the transaction is not determined under section 362(e)(2) and this section; it is determined under section 362(b).
(B) Application of section 362(e)(1). Immediately after the transfer, and without regard to section 362(e)(1) or section 362(e)(2) and this section, DC's aggregate basis in importation property (Asset 2 and Asset 3) would be $152. The aggregate value of the importation property immediately after the transfer is $150. Accordingly, the transaction is a loss importation transaction within the meaning of § 1.362-3(c)(3) and, under section 362(e)(1), DC's bases in Asset 2 and Asset 3 would equal the value of each, $110 and $40, respectively.
(C) Application of section 362(e)(2) and this section. ( 1 ) Analysis. ( i ) Loss duplication transaction. FC1's transfer of Asset 1, Asset 2, and Asset 3 is a transaction described in section 362(a). But for section 362(e)(2) and this section, DC's aggregate basis in those assets would be $230 ($80 under section 362(a) + $110 + $40 under section 362(e)(1)), which would exceed the aggregate value of the assets $200 ($50 + $110 + 40) immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and FC1 has a net built-in loss of $30 ($230 − $200).
( ii ) Identifying loss duplication property. But for section 362(e)(2) and this section, DC's basis in Asset 1 would be $80, which would exceed Asset 1's $50 value immediately after the transaction. Accordingly, Asset 1 is loss duplication property. But for section 362(e)(2) and this section, DC's basis in Asset 2 would be $110, which would not exceed Asset 2's $110 value immediately after the transaction. Accordingly, Asset 2 is not loss duplication property. But for section 362(e)(2) and this section, DC's basis in Asset 3 would be $40, which would not exceed Asset 3's $40 value immediately after the transaction. Accordingly, Asset 3 is not loss duplication property.
(D) Basis in loss duplication property. DC's basis in Asset 1 is $50, computed as its $80 basis under section 362(a) reduced by FC1's $30 net built-in loss.
(E) Basis in other property. Under section 362(e)(1), DC's basis in Asset 2 is $110 and DC's basis in Asset 3 is $40. Under section 358(a), FC1 has an exchanged basis of $232 in the DC stock it receives in the transaction.
(ii) Multiple transferors, no importation of loss. (A) Facts. The facts are the same as paragraph (i)(A) of this Example 11, except that, in addition, FC2 transfers Asset 4 (basis $100, value $150) to DC as part of the same transaction. Asset 4 is importation property within the meaning of § 1.362-3(c)(2).
(B) Application of section 362(e)(1). Immediately after the transfer, and without regard to section 362(e)(1) or section 362(e)(2) and this section, DC's aggregate basis in importation property (Asset 2, Asset 3, and Asset 4) would be $252 ($120 + $32 + $100). The aggregate value of the importation property immediately after the transfer is $300 ($110 + $40 + $150). Accordingly, the transaction is not a loss importation transaction within the meaning of § 1.362-3(c)(3) and DC's bases in the importation property is not determined under section 362(e)(1).
(C) Application of section 362(e)(2) and this section. Notwithstanding that the transfers by FC1 and FC2 are pursuant to a single plan forming one transaction, section 362(e)(2) and this section apply to each transferor separately.
( 1 ) Application of section to FC1. ( i ) Loss duplication transaction. FC1's transfer of Asset 1, Asset 2, and Asset 3 is a transaction described in section 362(a). But for section 362(e)(2) and this section, DC's aggregate basis in those assets would be $232 ($80 + $120 + $32), which would exceed the aggregate value of the assets $200 ($50 + $110 + $40) immediately after the transaction. Accordingly, the transfer is a loss duplication transaction and FC1 has a net built-in loss of $32 ($232 − $200).
( ii ) Identifying loss duplication property. But for section 362(e)(2) and this section, DC's basis in Asset 1 would be $80, which would exceed Asset 1's $50 value immediately after the transaction. Accordingly, Asset 1 is loss duplication property. But for section 362(e)(2) and this section, DC's basis in Asset 2 would be $120, which would exceed Asset 2's $110 value immediately after the transaction. Accordingly, Asset 2 is also loss duplication property. But for section 362(e)(2) and this section, DC's basis in Asset 3 would be $32, which would not exceed Asset 3's $40 value immediately after the transaction. Accordingly, Asset 3 is not loss duplication property.
( iii ) Basis in loss duplication property. DC's basis in Asset 1 is $56, computed as its $80 basis under section 362(a) reduced by $24, its allocable portion of FC1's $32 net built-in loss ($30/40 × $32). DC's basis in Asset 2 is $112, computed as its $120 basis under section 362(a) reduced by $8, its allocable portion of FC1's $40 net built-in loss ($10/$40 × $32).
( iv ) Basis in other property. Under section 358(a), FC1 has an exchanged basis of $232 in the DC stock it receives in the transaction.
( 2 ) Application of section to FC2. FC2's transfer of Asset 3 is not a loss duplication transaction because Asset 3's value exceeds its basis immediately after the transaction. Accordingly, under section 362(a), DC's basis in Asset 3 is $100.
(ii) Loss duplication property later acquired by a person required to file U.S. return. The facts are the same as in paragraph (i) of this Example 12, except that, in addition, on January 1, Year 2, FC2 transfers Asset 1 to DC in an exchange to which section 351 applies. FC2's transfer is an event described in paragraph (d)(3)(ii)(G) of this section. As a result, paragraph (c)(2) does not except the original transfer from the application of section 362(e)(2) and this section. Under paragraph (d)(3)(ii)(G) of this section, DC must include the Section 362(e)(2)(C) Statement for the original transfer on or with its Year 2 U.S. return in order for that election to be effective. The result would be the same if, instead of FC2 transferring Asset 1 to DC, FC1 transferred its FC2 stock to DC in an exchange to which section 351 applies. (Further, if an asset transferred by FC1 or FC2 to DC is a loss asset immediately after its transfer to DC, DC's basis in that asset may be subject to section 362(e)(1).)
(iii) Party to exchange later becomes a person required to file U.S. return. The facts are the same as in paragraph (i) of this Example 12, except that, in addition, on January 1, Year 2, FC2 becomes engaged in a U.S. business. FC2's becoming engaged in a U.S. business is an event described in paragraph (d)(3)(ii)(F) of this section because it will cause FC2 to become a person required to file a U.S. return. As a result, paragraph (c)(2) of this section does not except the transfer from the application of section 362(e)(2) and this section. Under paragraph (d)(3)(ii)(F) of this section, FC2 must include the Section 362(e)(2)(C) Statement for the original transfer on or with its Year 2 U.S. return in order for the section 362(e)(2)(C) election for the original transfer to be effective.
(iv) Statement not filed with respect to designated event. The facts are the same as in paragraph (iii) of this Example 12, except that, in addition, FC1 became engaged in a U.S. trade or business on October 31, Year 1 and as a result became a person required to file a U.S. return, an event described in paragraph (d)(3)(ii)(E) of this section. As a result, paragraph (c)(2) of this section does not except the transfer from the application of section 362(e)(2) and this section. Further, in order for the election to be effective, FC1 must file the Section 362(e)(2)(C) Statement on or with its Year 1 U.S. return. See paragraph (d)(3)(ii)(E) of this section. A statement filed by FC2 on or with its Year 2 U.S. return has no effect. Thus, if FC1 does not file the statement, the election does not become effective and basis is determined under the general rule of section 362(e)(2).
(v) Nonrecognition transfer of loss duplication property outside United States, transferee later becomes engaged in U.S. trade or business. The facts are the same as in paragraph (i) of this Example 12, except that, in addition, on December 31, Year 1, FC2 transfers Asset 1 to FC3 in a transferred basis transaction. In Year 2, FC3 becomes engaged in a U.S. trade or business and as a result becomes a person required to file a U.S. return; Asset 1 is not used in or connected with the U.S. trade or business or otherwise subject to Federal income tax. FC3's becoming engaged in a U.S. trade or business is an event described in paragraph (d)(3)(ii)(F) of this section because FC3, a person who holds loss duplication property with a basis determined by FC2's basis in the property, will be required to file a U.S. return as a result of its becoming engaged in a U.S. business. As a result, paragraph (c)(2) of this section does not except the transfer from the application of section 362(e)(2) and this section. Under paragraph (d)(3)(ii)(F) of this section, FC3 must include the Section 362(e)(2)(C) Statement for the original transfer on or with its Year 2 U.S. return in order for the section 362(e)(2)(C) election for the original transfer to be effective.
(i) [Reserved]
(j) Effective/applicability date. This section applies to transactions occurring after September 3, 2013, unless effected pursuant to a binding agreement that was in effect prior to September 3, 2013, and at all times thereafter. In addition, taxpayers may apply these regulations to transactions occurring after October 22, 2004. The introductory text and Example 11 of paragraph (h) of this section apply with respect to transactions occurring on or after March 28, 2016, and also with respect to transactions occurring before such date as a result of an entity classification election under § 301.7701-3 of this chapter filed on or after March 28, 2016, unless such transaction is pursuant to a binding agreement that was in effect prior to March 28, 2016 and at all times thereafter. In addition, taxpayers may apply such provisions to any transaction occurring after October 22, 2004.
§ 1.367(a)-0   Table of contents.
This section lists the paragraphs contained in §§ 1.367(a)-1 through 1.367(a)-8.
(a) Scope.
(b) General rules.
(1) Foreign corporation not considered a corporation for purposes of certain transfers.
(2) Cases in which foreign corporate status is not disregarded.
(3) Determination of value.
(4) In general.
(5) Treatment of certain property as subject to section 367(d).
(c) [Reserved]
(d) Definitions.
(1) United States person.
(2) Foreign corporation.
(3) Transfer.
(4) Property.
(5) Intangible property.
(6) Operating intangibles.
(e) Close of taxable year in certain section 368(a)(1)(F) reorganizations.
(f) Exchanges under sections 354(a) and 361(a) in certain section 368(a)(1)(F) reorganizations.
(1) Rule.
(2) Rule applies regardless of whether a continuance under applicable law.
(g) Effective/applicability dates.
(a) Scope and general rule.
(1) Scope.
(2) General rule.
(b) Eligible property.
(c) Exception for certain property.
(1) Inventory.
(2) Installment obligations, etc.
(3) Nonfunctional currency, etc.
(4) Certain leased tangible property.
(d) Active conduct of a trade or business outside the United States.
(1) In general.
(2) Trade or business.
(3) Active conduct.
(4) Outside of the United States.
(5) Use in the trade or business.
(6) Active leasing and licensing.
(e) Special rules for certain property to be leased.
(1) Leasing business of the foreign corporation.
(2) De minimis leasing by the foreign corporation.
(3) Aircraft and vessels leased in foreign commerce.
(f) Special rules for oil and gas working interests.
(1) In general.
(2) Active use of working interest.
(3) Start-up operations.
(4) Other applicable rules.
(g) Property retransferred by the foreign corporation.
(1) General rule.
(2) Exception.
(h) Compulsory transfers of property.
(i) [Reserved]
(j) Failure to comply with reporting requirements of section 6038B.
(1) Failure to comply.
(2) Relief for certain failures to comply that are not willful.
(k) Effective/applicability dates.
(1) In general.
(2) Foreign currency exception.
(a) In general.
(1) Overview.
(2) Exceptions for certain exchanges of stock or securities.
(3) Cross-references.
(b) Transfers of stock or securities of foreign corporations.
(1) General rule.
(2) Certain transfers subject to sections 367(a) and (b).
(c) Transfers of stock or securities of domestic corporations.
(1) General rule.
(2) Ownership presumption.
(3) Active trade or business test.
(4) Special rules.
(5) Definitions.
(6) Reporting requirements of U.S. target company.
(7) Ownership statements.
(8) Certain transfers in connection with performance of services.
(9) Private letter ruling option.
(10) Examples.
(11) Effective date.
(d) Indirect stock transfers in certain nonrecognition transfers.
(1) In general.
(2) Special rules for indirect transfers.
(3) Examples.
(e) [Reserved]
(f) Failure to file statements.
(1) Failure to file.
(2) Relief for certain failures to file that are not willful.
(g) Effective/applicability dates.
(1) Rules of applicability.
(2) Election.
(h) Former 10-year gain recognition agreements.
(i) [Reserved]
(j) Transition rules regarding certain transfers of domestic or foreign stock or securities after December 16, 1987, and prior to July 20, 1998.
(1) Scope.
(2) Transfers of domestic or foreign stock or securities: Additional substantive rules.
(k) [Reserved]
(a) Depreciated property used in the United States.
(1) In general.
(2) U.S. depreciated property.
(3) Property used within and without the United States.
(b) Effective/applicability dates.
(a) through (b)(1) [Reserved]
(2) No active conduct exception.
(c)(1) [Reserved]
(2) Gain limitation.
(3) [Reserved]
(4) Transfers of certain intangible property.
(d) through (i) [Reserved].
(j) Effective/applicability dates.
(a) Scope and purpose.
(b) General rule.
(1) Nonrecognition exchanges enumerated in section 367(a)(1).
(2) Nonrecognition exchanges not enumerated in section 367(a)(1).
(c) Elective exception.
(1) Control.
(2) Gain recognition.
(3) Basis adjustments required for control group members.
(4) Agreement to amend or file a U.S. income tax return.
(5) Election and reporting requirements.
(d) Section 361 exchange followed by successive distributions to which section 355 applies.
(e) Other rules.
(1) Section 367(a) property with respect to which gain is recognized.
(2) Relief for certain failures to comply that are not willful.
(3) Anti-abuse rule.
(4) Certain income inclusions under § 1.367(b)-4.
(5) Certain gain under § 1.367(a)-6.
(f) Definitions.
(g) Examples.
(h) Applicable cross-references.
(i) [Reserved]
(j) Effective/applicability dates.
(1) In general.
(2) Section 367(d) property.
(a) Scope.
(b) Definitions and special rules.
(1) Definitions.
(2) Special rules.
(c) Gain recognition agreement.
(1) Terms of agreement.
(2) Content of gain recognition agreement.
(3) Description of transferred stock or securities and other information.
(4) Basis adjustments for gain recognized.
(5) Terms and conditions of a new gain recognition agreement.
(6) Cross-reference.
(d) Filing requirements.
(1) General rule.
(2) Special requirements.
(3) Common parent as agent for U.S. transferor.
(e) Signatory.
(1) General rule.
(2) Signature requirement.
(f) Extension of period of limitations on assessments of tax.
(1) General rule.
(2) New gain recognition agreement.
(g) Annual certification.
(h) Use of security.
(i) [Reserved]
(j) Triggering events.
(1) Disposition of transferred stock or securities.
(2) Disposition of substantially all of the assets of the transferred corporation.
(3) Disposition of certain partnership interests.
(4) Disposition of stock of the transferee foreign corporation.
(5) Deconsolidation.
(6) Consolidation.
(7) Death of an individual; trust or estate ceases to exist.
(8) Failure to comply.
(9) Gain recognition agreement filed in connection with indirect stock transfers and certain triangular asset reorganizations.
(10) Gain recognition agreement filed pursuant to paragraph (k)(14) of this section.
(k) Triggering event exceptions.
(1) Transfers of stock of the transferee foreign corporation to a corporation or partnership.
(2) Complete liquidation of U.S. transferor under sections 332 and 337.
(3) Transfers of transferred stock or securities to a corporation or partnership.
(4) Transfers of substantially all of the assets of the transferred corporation.
(5) Recapitalizations and section 1036 exchanges.
(6) Certain asset reorganizations.
(7) Certain triangular reorganizations.
(8) Complete liquidation of transferred corporation.
(9) Death of U.S. transferor.
(10) Deconsolidation.
(11) Consolidation.
(12) Intercompany transactions.
(13) Deemed asset sales pursuant to section 338(g) elections.
(14) Other dispositions or events.
(l) [Reserved]
(m) Receipt of boot in nonrecognition transactions.
(1) Dispositions of transferred stock or securities.
(2) Dispositions of assets of transferred corporation.
(n) Special rules for distributions with respect to stock.
(1) Certain dividend equivalent redemptions treated as dispositions.
(2) Gain recognized under section 301(c)(3).
(o) Dispositions or other events that terminate or reduce the amount of gain subject to the gain recognition agreement.
(1) Taxable disposition of stock of the transferee foreign corporation.
(2) Gain recognized in connection with certain nonrecognition transactions.
(3) Gain recognized under section 301(c)(3).
(4) Dispositions of substantially all of the assets of a domestic transferred corporation.
(5) Certain distributions or transfers of transferred stock or securities to U.S. persons.
(6) Dispositions or other event following certain intercompany transactions.
(7) Expropriations under foreign law.
(p) Relief for certain failures to file or failures to comply that are not willful.
(1) In general.
(2) Procedures for establishing that a failure to file or failure to comply was not willful.
(3) Examples.
(q) Examples.
(1) Presumed facts and references.
(2) Examples.
(r) Effective/applicability date.
(1) General rule.
(2) Applicability to transfers occurring before March 13, 2009.
(3) Applicability to requests for relief submitted before November 19, 2014.
§ 1.367(a)-1   Transfers to foreign corporations subject to section 367(a): In general.
(a) Scope. Section 367(a)(1) provides the general rule concerning certain transfers of property by a United States person (referred to at times in this section as the “U.S. person” or “U.S. transferor”) to a foreign corporation. Paragraph (b) of this section provides general rules explaining the effect of section 367(a)(1). Paragraph (c) of this section describes transfers of property that are described in section 367(a)(1). Paragraph (d) of this section provides definitions that apply for purposes of sections 367(a) and (d) and the regulations thereunder. Paragraphs (e) and (f) of this section provide rules that apply to certain reorganizations described in section 368(a)(1)(F). Paragraph (g) of this section provides dates of applicability. For rules concerning the reporting requirements under section 6038B for certain transfers of property to a foreign corporation, see § 1.6038B-1.
(b) General rules —(1) Foreign corporation not considered a corporation for purposes of certain transfers. If a U.S. person transfers property to a foreign corporation in connection with an exchange described in section 351, 354, 356, or 361, then, pursuant to section 367(a)(1), the foreign corporation will not be considered to be a corporation for purposes of determining the extent to which gain is recognized on the transfer. Section 367(a)(1) denies nonrecognition treatment only to transfers of items of property on which gain is realized. Thus, the amount of gain recognized because of section 367(a)(1) is unaffected by the transfer of items of property on which loss is realized (but not recognized).
(2) Cases in which foreign corporate status is not disregarded. For circumstances in which section 367(a)(1) does not apply to a U.S. transferor's transfer of property to a foreign corporation, and thus the foreign corporation is considered to be a corporation, see §§ 1.367(a)-2, 1.367(a)-3, and 1.367(a)-7.
(3) Determination of value. In cases in which a U.S. transferor's transfer of property to a foreign corporation constitutes a controlled transaction as defined in § 1.482-1(i)(8), the value of the property transferred is determined in accordance with section 482 and the regulations thereunder.
(4) Character, source, and adjustments —(i) In general. If a U.S. person is required to recognize gain under section 367 upon a transfer of property to a foreign corporation, then—
(A) The character and source of such gain are determined as if the property had been disposed of in a taxable exchange with the transferee foreign corporation (unless otherwise provided by regulation); and
(B) Appropriate adjustments to earnings and profits, basis, and other affected items will be made according to otherwise applicable rules, taking into account the gain recognized under section 367(a)(1). For purposes of applying section 362, the foreign corporation's basis in the property received is increased by the amount of gain recognized by the U.S. transferor under section 367(a) and the regulations issued pursuant to that section. To the extent the regulations provide that the U.S. transferor recognizes gain with respect to a particular item of property, the foreign corporation increases its basis in that item of property by the amount of such gain recognized. For example, §§ 1.367(a)-2, 1.367(a)-3, and 1.367(a)-4 provide that gain is recognized with respect to particular items of property. To the extent the regulations do not provide that gain recognized by the U.S. transferor is with respect to a particular item of property, such gain is treated as recognized with respect to items of property subject to section 367(a) in proportion to the U.S. transferor's gain realized in such property, after taking into account gain recognized with respect to particular items of property transferred under any other provision of section 367(a). For example, § 1.367(a)-6 provides that branch losses must be recaptured by the recognition of gain realized on the transfer but does not associate the gain with particular items of property. See also § 1.367(a)-1(c)(3) for rules concerning transfers by partnerships or of partnership interests.
(C) The transfer will not be recharacterized for U.S. Federal tax purposes solely because the U.S. person recognizes gain in connection with the transfer under section 367(a)(1). For example, if a U.S. person transfers appreciated stock or securities to a foreign corporation in an exchange described in section 351, the transfer is not recharacterized as other than an exchange described in section 351 solely because the U.S. person recognizes gain in the transfer under section 367(a)(1).
(ii) Example. The rules of this paragraph (b)(4) are illustrated by the following example.
(5) Treatment of certain property as subject to section 367(d). A U.S. transferor may apply section 367(d) and § 1.367(d)-1, rather than section 367(a) and the regulations thereunder, to a transfer of property to a foreign corporation that otherwise would be subject to section 367(a), provided that the property is not eligible property, as defined in § 1.367(a)-2(b) but determined without regard to § 1.367(a)-2(c). A U.S. transferor and any other U.S. transferor that is related (within the meaning of section 267(b) or 707(b)(1)) to the U.S. transferor must consistently apply this paragraph (b)(5) to all property described in this paragraph (b)(5) that is transferred to one or more foreign corporations pursuant to a plan. A U.S. transferor applies the provisions of this paragraph (b)(5) in the form and manner set forth in § 1.6038B-1(d)(1)(iv) and (v).
(c)(1) through (c)(3)(i) [Reserved]. For further guidance, see § 1.367(a)-1T(c)(1) through (c)(3)(i).
(ii) Transfer of partnership interest treated as transfer of proportionate share of assets —(A) In general. If a U.S. person transfers an interest as a partner in a partnership (whether foreign or domestic) in an exchange described in section 367(a)(1), then that person is treated as having transferred a proportionate share of the property of the partnership in an exchange described in section 367(a)(1). Accordingly, the applicability of the exception to section 367(a)(1) provided in § 1.367(a)-2 is determined with reference to the property of the partnership rather than the partnership interest itself. A U.S. person's proportionate share of partnership property is determined under the rules and principles of sections 701 through 761 and the regulations thereunder.
(c)(3)(i)(A) Example through (7) [Reserved]. For further guidance, see § 1.367(a)-1T(c)(3)(i)(A) Example through (7).
(d) Definitions. The following definitions apply for purposes of sections 367(a) and (d) and the regulations thereunder.
(1) United States person. The term “United States person” includes those persons described in section 7701(a)(30). The term includes a citizen or resident of the United States, a domestic partnership, a domestic corporation, and any estate or trust other than a foreign estate or trust. (For definitions of these terms, see section 7701 and the regulations thereunder.) For purposes of this section, an individual with respect to whom an election has been made under section 6013(g) or (h) is considered to be a resident of the United States while such election is in effect. A nonresident alien or a foreign corporation will not be considered a United States person because of its actual or deemed conduct of a trade or business within the United States during a taxable year.
(2) Foreign corporation. The term “foreign corporation” has the meaning set forth in section 7701(a)(3) and (5) and § 301.7701-5.
(3) Transfer. For purposes of section 367 and regulations thereunder, the term “transfer” means any transaction that constitutes a transfer for purposes of section 332, 351, 354, 355, 356, or 361, as applicable. A person's entering into a cost sharing arrangement under § 1.482-7 or acquiring rights to intangible property under such an arrangement shall not be considered a transfer of property described in section 367(a)(1). See § 1.6038B-1T(b)(4) for the date on which the transfer is considered to be made.
(4) Property. For purposes of section 367 and the regulations thereunder, the term “property” means any item that constitutes property for purposes of section 351, 354, 355, 356, or 361, as applicable.
(5) Intangible property. The term “intangible property” means either property described in section 367(d)(4) or property to which a U.S. person applies section 367(d) pursuant to paragraph (b)(5) of this section, but does not include property described in section 1221(a)(3) or a working interest in oil and gas property.
(6) Operating intangibles. An operating intangible is any property described in section 367(d)(4) of a type not ordinarily licensed or otherwise transferred in transactions between unrelated parties for consideration contingent upon the licensee's or transferee's use of the property. Examples of operating intangibles may include long-term purchase or supply contracts, surveys, studies, and customer lists.
(e) Close of taxable year in certain section 368(a)(1)(F) reorganizations. If a domestic corporation is the transferor corporation in a reorganization described in section 368(a)(1)(F) after March 30, 1987, in which the acquiring corporation is a foreign corporation, then the taxable year of the transferor corporation shall end with the close of the date of the transfer and the taxable year of the acquiring corporation shall end with the close of the date on which the transferor's taxable year would have ended but for the occurrence of the transfer. With regard to the consequences of the closing of the taxable year, see section 381 and the regulations thereunder.
(f) Exchanges under sections 354(a) and 361(a) in certain section 368(a)(1)(F) reorganizations —(1) Rule. In every reorganization under section 368(a)(1)(F), where the transferor corporation is a domestic corporation, and the acquiring corporation is a foreign corporation, there is considered to exist—
(i) A transfer of assets by the transferor corporation to the acquiring corporation under section 361(a) in exchange for stock (or stock and securities) of the acquiring corporation and the assumption by the acquiring corporation of the transferor corporation's liabilities;
(ii) A distribution of the stock (or stock and securities) of the acquiring corporation by the transferor corporation to the shareholders (or shareholders and security holders) of the transferor corporation; and
(iii) An exchange by the transferor corporation's shareholders (or shareholders and security holders) of their stock (or stock and securities) of the transferor corporation for stock (or stock and securities) of the acquiring corporation under section 354(a).
(2) Rule applies regardless of whether a continuance under applicable law. For purposes of paragraph (f)(1) of this section, it shall be immaterial that the applicable foreign or domestic law treats the acquiring corporation as a continuance of the transferor corporation.
(g) Effective/applicability dates. (1) through (3) [Reserved]. For further guidance, see § 1.367(a)-1T(g)(1) through (3).
(4) The rules in paragraphs (b)(4)(i)(B) and (b)(4)(i)(C) of this section apply to transfers occurring on or after April 18, 2013. For guidance with respect to paragraph (b)(4)(i)(B) of this section before April 18, 2013, see 26 CFR part 1 revised as of April 1, 2012. The rules in paragraph (e) of this section apply to transactions occurring on or after March 31, 1987. The rules in paragraph (f) of this section apply to transactions occurring on or after January 1, 1985.
(5) Paragraphs (a), (b)(1) through (b)(4)(i)(B), (b)(4)(ii) through (b)(5), (c)(3)(ii)(A), (d) introductory text through (d)(2), (d)(4) through (d)(6) of this section apply to transfers occurring on or after September 14, 2015, and to transfers occurring before September 14, 2015, resulting from entity classification elections made under § 301.7701-3 that are filed on or after September 14, 2015. For transfers occurring before this section is applicable, see §§ 1.367(a)-1 and 1.367(a)-1T as contained in 26 CFR part 1 revised as of April 1, 2016.
§ 1.367(a)-1T   Transfers to foreign corporations subject to section 367(a): In general (temporary).
(a) [Reserved]
(b) General rules —
(b)(1) through (3) [Reserved]
(4) Character, source, and adjustments —(i) In general. If a U.S. person is required to recognize gain under section 367 upon a transfer of property to a foreign corporation, then—
(A) [Reserved]
(B) [Reserved] For further guidance see § 1.367(a)-1(b)(4)(i)(B).
(C) [Reserved] For further guidance see § 1.367(a)-1(b)(4)(i)(C).
(b)(4)(ii) through (5) [Reserved]
(c) Transfers described in section 367(a)(1) —(1) In general. A transfer described in section 367(a)(1) is any transfer of property by a U.S. person to a foreign corporation pursuant to an exchange described in section 332, 351, 354, 355, 356, or 361. Section 367(a)(1) applies to such a transfer whether it is made directly, indirectly, or constructively. Indirect or constructive transfers that are described in section 367(a)(1) include the transfers described in subparagraphs (2) through (7) of this paragraph (c).
(2) Indirect transfers in certain reorganizations. [Reserved]. For further guidance, see § 1.367(a)-3(d).
(3) Indirect transfers involving partnerships and interests therein —(i) Transfer by partnership treated as transfer by partners —(A) In general. If a partnership (whether foreign or domestic) transfers property to a foreign corporation in an exchange described in section 367(a)(1), then a U.S. person that is a partner in the partnership shall be treated as having transferred a proportionate share of the property in an exchange described in section 367(a)(1). A U.S. person's proportionate share of partnership property shall be determined under the rules and principles of sections 701 through 761 and the regulations thereunder. The rule of this paragraph (c)(3)(i)(A) is illustrated by the following example.
(B) Special adjustments to basis. If a U.S. person is treated under the rule of this paragraph (c)(3)(i) as having transferred a proportionate share of the property of a partnership in an exchange described in section 367(a), and is therefore required to recognize gain upon the transfer, then—
( 1 ) The U.S. person's basis in the partnership shall be increased by the amount of gain recognized by him;
( 2 ) Solely for purposes of determining the basis of the partnership in the stock of the transferee foreign corporation, the U.S. person shall be treated as having newly acquired an interest in the partnership (for an amount equal to the gain recognized), permitting the partnership to make an optional adjustment to basis pursuant to sections 743 and 754; and
( 3 ) The transferee foreign corporation's basis in the property acquired from the partnership shall be increased by the amount of gain recognized by U.S. persons under this paragraph (c)(3)(i).
(ii) Transfer of partnership interest treated as transfer of proportionate share of assets —
(A) [Reserved]
(B) Special adjustments to basis. If a U.S. person is treated under the rule of paragraph (c)(3)(ii)(A) of this section as having transferred a proportionate share of the property of a partnership in an exchange described in section 367(a), and is therefore required to recognize gain upon the transfer, then—
( 1 ) The U.S. person's basis in the stock of the transferee foreign corporation shall be increased by the amount of gain so recognized by that person;
( 2 ) The transferee foreign corporation's basis in the transferred partnership interest shall be increased by the amount of gain recognized by the U.S. person; and
( 3 ) Solely for purposes of determining the partnership's basis in the property held by it, the U.S. person shall be treated as having newly acquired an interest in the partnership (for an amount equal to the gain recognized), permitting the partnership to make an optional adjustment to basis pursuant to sections 743 and 754.
(C) Limited partnership interest. The transfer by a U.S. person of an interest in a partnership shall not be subject to the rules of paragraph (c)(3)(ii)(A) and (B) if—
( 1 ) The interest transferred is a limited partnership interest; and
( 2 ) Such interest is regularly traded on an established securities market.
(D) Regularly traded on an established securities market —( 1 ) Established securities market. For purposes of this paragraph (c)(3)(ii), an established securities market is—
( i ) A national securities exchange which is registered under section 6 of the Securities Exchange Act of 1934 (15 U.S.C. 78f);
( ii ) A foreign national securities exchange which is officially recognized, sanctioned, or supervised by governmental authority; and
( iii ) An over-the-counter market. An over-the-counter market is any market reflected by the existence of an inter-dealer quotation system. An inter-dealer quotation system is any system of general circulation to brokers and dealers which regularly disseminates quotations of stock and securities by identified brokers or dealers, other than by quotation sheets which are prepared and distributed by a broker or dealer in the regular course of business and which contain only quotations of such broker or dealer.
( 2 ) Regularly traded. A class of interests that is traded on an established securities market is considered to be regularly traded if it is regularly quoted by brokers or dealers making a market in such interests. A class of interests shall be presumed to be regularly traded if the entity has a total of 500 or more interest-holders.
(4) Transfers by trusts and estates —(i) In general. For purposes of section 367(a), a transfer of property by an estate or trust shall be treated as a transfer by the entity itself and not as an indirect transfer by its beneficiaries. Thus, a transfer of property by a foreign trust or estate (as defined in section 7701(a)(31)) is not described in section 367(a)(1), regardless of whether the beneficiaries of the trust or estate are U.S. persons. Similarly, a transfer of property by a domestic trust or estate may be described in section 367(a)(1), regardless of whether the beneficiaries of the trust or estate are foreign persons.
(ii) Grantor trusts. A transfer of a portion or all of the assets of a foreign or domestic trust to a foreign corporation in an exchange described in section 367(a)(1) is considered a transfer by any U.S. person who is treated as the owner of any such portion or all of the assets of the trust under sections 671 through 679.
(5) Termination of election under section 1504(d). Section 367(A) applies to the constructive reorganization and transfer of property from a domestic corporation to a foreign corporation that occurs upon the termination of an election under section 1504(d), which permits the treatment of certain contiguous country corporations as domestic corporations. The rule of this paragraph (c)(5) is illustrated by the following example.
(6) Changes in classification of an entity. If a foreign entity is classified as an entity other than an association taxable as a corporation for United States tax purposes, and subsequently a change is made in the governing documents, articles, or agreements of the entity so that the entity is thereafter classified as an association taxable as a corporation, the change in classification is considered a transfer of property to a foreign corporation in connection with an exchange described in section 351. For purposes of section 367(a)(1), the transfer of property is considered as made by the persons determined under the rules set forth in paragraph (c)(3) of this section with respect to partnerships, and paragraph (c)(4)(i) or (ii), with respect to trusts and estates, and the rules of such paragraphs apply determining whether a transfer described in section 367(a)(1) has been made.
(7) Contributions to capital. For rules with respect to the treatment of a contribution to the capital of a foreign corporation as a transfer described in section 367(a)(1), see section 367(c)(2) and the regulations thereunder.
(d) introductory text through (d)(2) [Reserved]
(3) [Reserved] For further guidance, see § 1.367(a)-1(d)(3).
(4) through (6) [Reserved]
(e) [Reserved]. For further guidance, see § 1.367(a)-1(e).
(f) [Reserved]. For further guidance, see § 1.367(a)-1(f).
(g) Effective date of certain section —
(1) In general. Except as specifically provided to the contrary elsewhere in these sections, §§ 1.367(a)-1T through 1.367(a)-6T apply to transfers occurring after December 31, 1984.
(2) Private rulings. The taxpayer may rely on a private ruling under section 367(a) received by him before June 16, 1986.
(3) Certain indirect transfers. Sections 1.367(a)-1T(c)(2)(i) and (iii) and 1.367(a)-1T(c)(3) apply to transfers made after June 16, 1986. For transfers made before that date, see 26 CFR 1.367(a)-1(b) (revised as of April 1, 1986).
(4) [Reserved] For further guidance see § 1.367(a)-1(g)(4).
§ 1.367(a)-2   Exceptions for transfers of property for use in the active conduct of a trade or business.
(a) Scope and general rule —(1) Scope. Paragraph (a)(2) of this section provides the general exception to section 367(a)(1) for certain property transferred for use in the active conduct of a trade or business. Paragraph (b) of this section describes property that is eligible for the exception provided in paragraph (a)(2) of this section. Paragraph (c) of this section describes property that is not eligible for the exception provided in paragraph (a)(2) of this section. Paragraph (d) of this section provides general rules, and paragraphs (e) through (h) of this section provide special rules, for determining whether property is used in the active conduct of a trade or business outside of the United States. Paragraph (i) of this section is reserved. Paragraph (j) of this section provides relief for certain failures to comply with the reporting requirements under paragraph (a)(2)(iii) of this section that are not willful. Paragraph (k) of this section provides dates of applicability. The rules of this section do not apply to a transfer of stock or securities in an exchange subject to § 1.367(a)-3.
(2) General rule. Except as otherwise provided in §§ 1.367(a)-4, 1.367(a)-6, and 1.367(a)-7, section 367(a)(1) does not apply to property transferred by a United States person (U.S. transferor) to a foreign corporation if—
(i) The property constitutes eligible property;
(ii) The property is transferred for use by the foreign corporation in the active conduct of a trade or business outside of the United States, as determined under paragraph (d), (e), (f), (g), or (h) of this section, as applicable; and
(iii) The U.S. transferor complies with the reporting requirements of section 6038B and the regulations thereunder.
(b) Eligible property. Except as provided in paragraph (c) of this section, eligible property means—
(1) Tangible property;
(2) A working interest in oil and gas property; and
(3) A financial asset. For purposes of this section, a financial asset is—
(i) A cash equivalent;
(ii) A security within the meaning of section 475(c)(2), without regard to the last sentence of section 475(c)(2) (referencing section 1256) and without regard to section 475(c)(4), but excluding an interest in a partnership;
(iii) A commodities position described in section 475(e)(2)(B), 475(e)(2)(C), or 475(e)(2)(D); and
(iv) A notional principal contract described in § 1.446-3(c)(1).
(c) Exception for certain property. Notwithstanding paragraph (b) of this section, property described in paragraph (c)(1), (2), (3), or (4) of this section does not constitute eligible property.
(1) Inventory. Stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of its trade or business (including raw materials and supplies, partially completed goods, and finished products).
(2) Installment obligations, etc. Installment obligations, accounts receivable, or similar property, but only to the extent that the principal amount of any such obligation has not previously been included by the taxpayer in its taxable income.
(3) Nonfunctional currency, etc. —(i) In general. Property that gives rise to a section 988 transaction of the taxpayer described in section 988(c)(1)(A) through (C), without regard to section 988(c)(1)(D) and (E), or that would give rise to such a section 988 transaction if it were acquired, accrued, entered into, or disposed of directly by the taxpayer.
(ii) Limitation of gain required to be recognized. If section 367(a)(1) applies to a transfer of property described in paragraph (c)(3)(i) of this section, then the gain required to be recognized is limited to the gain realized as part of the same transaction upon the transfer of property described in paragraph (c)(3)(i) of this section, less any loss realized as part of the same transaction upon the transfer of property described in paragraph (c)(3)(i) of this section. This limitation applies in lieu of the rule in § 1.367(a)-1(b)(1). No loss is recognized with respect to property described in this paragraph (c)(3).
(4) Certain leased tangible property. Tangible property with respect to which the transferor is a lessor at the time of the transfer, unless either the foreign corporation is the lessee at the time of the transfer or the foreign corporation will lease the property to third persons.
(d) Active conduct of a trade or business outside the United States —(1) In general. Except as provided in paragraphs (e), (f), (g), and (h) of this section, to determine whether property is transferred for use by the foreign corporation in the active conduct of a trade or business outside of the United States, four factual determinations must be made:
(i) What is the trade or business of the foreign corporation (see paragraph (d)(2) of this section);
(ii) Do the activities of the foreign corporation constitute the active conduct of that trade or business (see paragraph (d)(3) of this section);
(iii) Is the trade or business conducted outside of the United States (see paragraph (d)(4) of this section); and
(iv) Is the transferred property used or held for use in the trade or business (see paragraph (d)(5) of this section)?
(2) Trade or business. Whether the activities of the foreign corporation constitute a trade or business is determined based on all the facts and circumstances. In general, a trade or business is a specific unified group of activities that constitute (or could constitute) an independent economic enterprise carried on for profit. For example, the activities of a foreign selling subsidiary could constitute a trade or business if they could be independently carried on for profit, even though the subsidiary acts exclusively on behalf of, and has operations fully integrated with, its parent corporation. To constitute a trade or business, a group of activities must ordinarily include every operation which forms a part of, or a step in, a process by which an enterprise may earn income or profit. In this regard, one or more of such activities may be carried on by independent contractors under the direct control of the foreign corporation. (However, see paragraph (d)(3) of this section.) The group of activities must ordinarily include the collection of income and the payment of expenses. If the activities of the foreign corporation do not constitute a trade or business, then the exception provided by this section does not apply, regardless of the level of activities carried on by the corporation. The following activities are not considered to constitute by themselves a trade or business for purposes of this section:
(i) Any activity giving rise to expenses that would be deductible only under section 212 if the activities were carried on by an individual; or
(ii) The holding for one's own account of investments in stock, securities, land, or other property, including casual sales thereof.
(3) Active conduct. Whether a trade or business is actively conducted by the foreign corporation is determined based on all the facts and circumstances. In general, a corporation actively conducts a trade or business only if the officers and employees of the corporation carry out substantial managerial and operational activities. A corporation may be engaged in the active conduct of a trade or business even though incidental activities of the trade or business are carried out on behalf of the corporation by independent contractors. In determining whether the officers and employees of the corporation carry out substantial managerial and operational activities, however, the activities of independent contractors are disregarded. On the other hand, the officers and employees of the corporation are considered to include the officers and employees of related entities who are made available to and supervised on a day-to-day basis by, and whose salaries are paid by (or reimbursed to the lending related entity by), the foreign corporation. See paragraph (d)(6) of this section for the standard that applies to determine whether a trade or business that produces rents or royalties is actively conducted. The rule of this paragraph (d)(3) is illustrated by the following example.
(4) Outside of the United States. Whether the foreign corporation conducts a trade or business outside of the United States is determined based on all the facts and circumstances. Generally, the primary managerial and operational activities of the trade or business must be conducted outside the United States and immediately after the transfer the transferred assets must be located outside the United States. Thus, the exception provided by this section would not apply to the transfer of the assets of a domestic business to a foreign corporation if the domestic business continued to operate in the United States after the transfer. In such a case, the primary operational activities of the business would continue to be conducted in the United States. Moreover, the transferred assets would be located in the United States. However, it is not necessary that every item of property transferred be used outside of the United States. As long as the primary managerial and operational activities of the trade or business are conducted outside of the United States and substantially all of the transferred assets are located outside the United States, incidental items of transferred property located in the United States may be considered to have been transferred for use in the active conduct of a trade or business outside of the United States.
(5) Use in the trade or business. Whether property is used or held for use by the foreign corporation in a trade or business is determined based on all the facts and circumstances. In general, property is used or held for use in the foreign corporation's trade or business if it is—
(i) Held for the principal purpose of promoting the present conduct of the trade or business;
(ii) Acquired and held in the ordinary course of the trade or business; or
(iii) Otherwise held in a direct relationship to the trade or business. Property is considered held in a direct relationship to a trade or business if it is held to meet the present needs of that trade or business and not its anticipated future needs. Thus, property will not be considered to be held in a direct relationship to a trade or business if it is held for the purpose of providing for future diversification into a new trade or business, future expansion of trade or business activities, future plant replacement, or future business contingencies.
(6) Active leasing and licensing. For purposes of paragraph (d)(3) of this section, whether a trade or business that produces rents or royalties is actively conducted is determined under the principles of section 954(c)(2)(A) and the regulations thereunder, but without regard to whether the rents or royalties are received from an unrelated party. See §§ 1.954-2(c) and (d).
(e) Special rules for certain property to be leased —(1) Leasing business of the foreign corporation. Except as otherwise provided in this paragraph (e), tangible property that will be leased to another person by the foreign corporation will be considered to be transferred for use by the foreign corporation in an active trade or business outside the United States only if—
(i) The foreign corporation's leasing of the property constitutes the active conduct of a leasing business, as determined under paragraph (d)(6) of this section;
(ii) The lessee of the property is not expected to, and does not, use the property in the United States; and
(iii) The foreign corporation has a need for substantial investment in assets of the type transferred.
(2) De minimis leasing by the foreign corporation. Tangible property that will be leased to another person by the foreign corporation but that does not satisfy the conditions of paragraph (e)(1) of this section will, nevertheless, be considered to be transferred for use in the active conduct of a trade or business if either—
(i) The property transferred will be used by the foreign corporation in the active conduct of a trade or business but will be leased during occasional brief periods when the property would otherwise be idle, such as an airplane leased during periods of excess capacity; or
(ii) The property transferred is real property located outside the United States and—
(A) The property will be used primarily in the active conduct of a trade or business of the foreign corporation; and
(B) Not more than ten percent of the square footage of the property will be leased to others.
(3) Aircraft and vessels leased in foreign commerce. For purposes of satisfying paragraph (e)(1) of this section, an aircraft or vessel, including component parts such as an engine leased separately from the aircraft or vessel, that will be leased to another person by the foreign corporation will be considered to be transferred for use in the active conduct of a trade or business if—
(i) The employees of the foreign corporation perform substantial managerial and operational activities of leasing aircraft or vessels outside the United States; and
(ii) The leased property is predominantly used outside the United States, as determined under § 1.954-2(c)(2)(v).
(f) Special rules for oil and gas working interests —(1) In general. A working interest in oil and gas property will be considered to be transferred for use in the active conduct of a trade or business if—
(i) The transfer satisfies the conditions of paragraph (f)(2) or (f)(3) of this section;
(ii) At the time of the transfer, the foreign corporation has no intention to farm out or otherwise transfer any part of the transferred working interest; and
(iii) During the first three years after the transfer there are no farmouts or other transfers of any part of the transferred working interest as a result of which the foreign corporation retains less than a 50-percent share of the transferred working interest.
(2) Active use of working interest. A working interest in oil and gas property that satisfies the conditions in paragraphs (f)(1)(ii) and (iii) of this section will be considered to be transferred for use in the active conduct of a trade or business if—
(i) The U.S. transferor is regularly and substantially engaged in exploration for and extraction of minerals, either directly or through working interests in joint ventures, other than by reason of the property that is transferred;
(ii) The terms of the working interest transferred were actively negotiated among the joint venturers;
(iii) The working interest transferred constitutes at least a five percent working interest;
(iv) Before and at the time of the transfer, through its own employees or officers, the U.S. transferor was regularly and actively engaged in—
(A) Operating the working interest, or
(B) Analyzing technical data relating to the activities of the venture;
(v) Before and at the time of the transfer, through its own employees or officers, the U.S. transferor was regularly and actively involved in decision making with respect to the operations of the venture, including decisions relating to exploration, development, production, and marketing; and
(vi) After the transfer, the foreign corporation will for the foreseeable future satisfy the requirements of subparagraphs (iv) and (v) of this paragraph (f)(2).
(3) Start-up operations. A working interest in oil and gas property that satisfies the conditions in paragraphs (f)(1)(ii) and (iii) of this section but that does not satisfy all the requirements of paragraph (f)(2) of this section will, nevertheless, be considered to be transferred for use in the active conduct of a trade or business if—
(i) The working interest was acquired by the U.S. transferor immediately before the transfer and for the specific purpose of transferring it to the foreign corporation;
(ii) The requirements of paragraphs (f)(2)(ii) and (iii) of this section are satisfied; and
(iii) The foreign corporation will for the foreseeable future satisfy the requirements of paragraph (f)(2)(iv) and (v) of this section.
(4) Other applicable rules. A working interest in oil and gas property that is not described in paragraph (f)(1) of this section may nonetheless qualify for the exception to section 367(a)(1) contained in this section depending upon the facts and circumstances.
(g) Property retransferred by the foreign corporation —(1) General rule. Property will not be considered to be transferred for use in the active conduct of a trade or business outside of the United States if—
(i) At the time of the transfer, it is reasonable to believe that, in the reasonably foreseeable future, the foreign corporation will sell or otherwise dispose of any material portion of the property other than in the ordinary course of business; or
(ii) Except as provided in paragraph (g)(2) of this section, the foreign corporation receives the property in an exchange described in section 367(a)(1), and, as part of the same transaction, transfers the property to another person. For purposes of the preceding sentence, a subsequent transfer within six months of the initial transfer will be considered to be part of the same transaction, and a subsequent transfer more than six months after the initial transfer may be considered to be part of the same transaction under step-transaction principles.
(2) Exception. Notwithstanding paragraph (g)(1) of this section, the active conduct exception provided by this section shall apply to the initial transfer if—
(i) The initial transfer is followed by one or more subsequent transfers described in section 351 or 721; and
(ii) Each subsequent transferee is either a partnership in which the preceding transferor is a general partner or a corporation in which the preceding transferor owns common stock; and
(iii) The ultimate transferee uses the property in the active conduct of a trade or business outside the United States.
(h) Compulsory transfers of property. Property is presumed to be transferred for use in the active conduct of a trade or business outside of the United States, if—
(1) The property was previously in use in the country in which the foreign corporation is organized; and
(2) The transfer is either:
(i) Legally required by the foreign government as a necessary condition of doing business; or
(ii) Compelled by a genuine threat of immediate expropriation by the foreign government.
(i) [Reserved]
(j) Failure to comply with reporting requirements of section 6038B —(1) Failure to comply. For purposes of the exception to the application of section 367(a)(1) provided in paragraph (a)(2) of this section, a failure to comply with the reporting requirements of section 6038B and the regulations thereunder (failure to comply) has the meaning set forth in § 1.6038B-1(f)(2).
(2) Relief for certain failures to comply that are not willful —(i) In general. A failure to comply described in paragraph (j)(1) of this section will be deemed not to have occurred for purposes of satisfying the requirements of this section if the taxpayer demonstrates that the failure was not willful using the procedure set forth in this paragraph (j)(2). For this purpose, willful is to be interpreted consistent with the meaning of that term in the context of other civil penalties, which would include a failure due to gross negligence, reckless disregard, or willful neglect. Whether a failure to comply was a willful failure will be determined by the Director of Field Operations, Cross Border Activities Practice Area, Large Business & International (or any successor to the roles and responsibilities of such position, as appropriate) (Director) based on all the facts and circumstances. The taxpayer must submit a request for relief and an explanation as provided in paragraph (j)(2)(ii)(A) of this section. Although a taxpayer whose failure to comply is determined not to be willful will not be subject to gain recognition under this section, the taxpayer will be subject to a penalty under section 6038B if the taxpayer fails to demonstrate that the failure was due to reasonable cause and not willful neglect. See § 1.6038B-1(b)(1) and (f). The determination of whether the failure to comply was willful under this section has no effect on any request for relief made under § 1.6038B-1(f).
(ii) Procedures for establishing that a failure to comply was not willful —(A) Time and manner of submission. A taxpayer's statement that the failure to comply was not willful will be considered only if, promptly after the taxpayer becomes aware of the failure, an amended return is filed for the taxable year to which the failure relates that includes the information that should have been included with the original return for such taxable year or that otherwise complies with the rules of this section, and that includes a written statement explaining the reasons for the failure to comply. The amended return must be filed with the Internal Revenue Service at the location where the taxpayer filed its original return. The taxpayer may submit a request for relief from the penalty under section 6038B as part of the same submission. See § 1.6038B-1(f).
(B) Notice requirement. In addition to the requirements of paragraph (j)(2)(ii)(A) of this section, the taxpayer must comply with the notice requirements of this paragraph (j)(2)(ii)(B). If any taxable year of the taxpayer is under examination when the amended return is filed, a copy of the amended return and any information required to be included with such return must be delivered to the Internal Revenue Service personnel conducting the examination. If no taxable year of the taxpayer is under examination when the amended return is filed, a copy of the amended return and any information required to be included with such return must be delivered to the Director.
(3) For illustrations of the application of the willfulness standard of this paragraph (j), see the examples in § 1.367(a)-8(p)(3).
(4) Paragraph (j) applies to requests for relief submitted on or after November 19, 2014.
(k) Effective/applicability dates —(1) In general. Except as provided in paragraphs (j)(4) and (k)(2) of this section, the rules of this section apply to transfers occurring on or after September 14, 2015, and to transfers occurring before September 14, 2015, resulting from entity classification elections made under § 301.7701-3 that are filed on or after September 14, 2015. For transfers occurring before this section is applicable, see §§ 1.367(a)-2, -2T, -4, -4T, -5, and -5T as contained in 26 CFR part 1 revised as of April 1, 2016.
(2) Foreign currency exception. Notwithstanding paragraph (c)(3)(i) of this section, § 1.367(a)-5T(d)(2) as contained in 26 CFR part 1 revised as of April 1, 2016, applies to transfers of property denominated in a foreign currency occurring before December 16, 2016, other than transfers occurring before that date resulting from entity classification elections made under § 301.7701-3 that are filed on or after that date.