[Federal Register Volume 76, Number 71 (Wednesday, April 13, 2011)]
[Proposed Rules]
[Pages 20593-20594]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-8758]


=======================================================================
-----------------------------------------------------------------------

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-154159-09]
RIN 1545-BJ14


Guidance Under Section 108(a) Concerning the Exclusion of Section 
61(a)(12) Discharge of Indebtedness Income of a Grantor Trust or a 
Disregarded Entity

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking.

-----------------------------------------------------------------------

SUMMARY: This document contains proposed regulations relating to the 
exclusion from gross income under section 108(a) of discharge of 
indebtedness income of a grantor trust or an entity that is disregarded 
as an entity separate from its owner. The proposed regulations provide 
rules regarding the term ``taxpayer'' for purposes of applying section 
108 to discharge of indebtedness income of a grantor trust or a 
disregarded entity. The proposed regulations affect grantor trusts, 
disregarded entities, and their owners.

DATES: Written or electronic comments and requests for a public hearing 
must be received by July 12, 2011.

ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-154159-09), Room 
5203, Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, 
Washington, DC 20044. Submissions may be hand-delivered Monday through 
Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-
154159-09), Courier's Desk, Internal Revenue Service, 1111 Constitution 
Avenue, NW., Washington, DC; or sent electronically, via the Federal 
eRulemaking Portal at http://www.regulations.gov (IRS REG-154159-09).

FOR FURTHER INFORMATION CONTACT: Bryan A. Rimmke or Benjamin H. Weaver, 
(202) 622-3050 (not a toll-free number).

SUPPLEMENTARY INFORMATION: 

Background

    Section 61(a)(12) of the Internal Revenue Code (the Code) provides 
that income from the discharge of indebtedness is includable in gross 
income. However, such income may be excludable from gross income under 
section 108 in certain circumstances. Section 108(a)(1)(A) and (B) 
excludes from gross income any amount that would be includible in gross 
income by reason of the discharge of indebtedness of the taxpayer if 
the discharge occurs in a Title 11 case or to the extent the taxpayer 
is insolvent when the discharge occurs. Section 108(d)(1) through (3) 
provides the meaning of the terms ``indebtedness of the taxpayer,'' 
``Title 11 case,'' and ``insolvent,'' for purposes of applying section 
108, and each definition uses the term ``taxpayer.'' Section 
7701(a)(14) defines a taxpayer as any person subject to any internal 
revenue tax.
    Several types of disregarded entities exist under the Code and 
regulations. For instance, Sec.  301.7701-2(a) of the Procedure and 
Administration Regulations provides that the term business entity 
includes an entity with a single owner that may be disregarded as an 
entity separate from its owner under Sec.  301.7701-3; an example of a 
disregarded entity under this provision is a domestic single member 
limited liability company that does not elect to be classified as a 
corporation for Federal income tax purposes. Additionally, some 
disregarded entities are created by statute; examples of statutory 
disregarded entities include a corporation that is a qualified REIT 
subsidiary (within the meaning of section 856(i)(2)), and a corporation 
that is a qualified subchapter S subsidiary (within the meaning of 
section 1361(b)(3)(B)).
    The activities of an entity that is a disregarded entity are 
treated in the same manner as a sole proprietorship, branch, or 
division of the owner (except for certain employment and excise tax 
rules). Accordingly, for Federal income tax purposes, all assets, 
liabilities, and items of income, deduction, and credit of a 
disregarded entity are treated as assets, liabilities, and such items 
(as the case may be) of the owner of the disregarded entity.
    A grantor trust is any portion of a trust that is treated (under 
subpart E of part I of subchapter J of chapter 1) as being owned by the 
grantor or another person. In the case of any grantor trust, items of 
income, deductions, and credits attributable to the trust are 
includable in computing the taxable income and credits of the owner.

Explanation of Provisions

    The proposed regulations provide that, for purposes of applying 
section 108(a)(1)(A) and (B) to discharge of indebtedness income of a 
grantor trust or a disregarded entity, the term taxpayer, as used in 
section 108(a)(1) and (d)(1) through (3), refers to the owner(s) of the 
grantor trust or disregarded entity. The proposed regulations further 
provide that grantor trusts and disregarded entities themselves will 
not be considered owners for this purpose. Finally, the proposed 
regulations provide that, in the case of a partnership, the owner rules 
apply at the partner level to the partners of the partnership to whom 
the discharge of indebtedness income is allocable. Thus, for example, 
if a partnership holds an interest in a grantor trust or disregarded 
entity, the applicability of section 108(a)(1)(A) and (B) to discharge 
of indebtedness income of the grantor trust or disregarded entity is 
tested by looking to the partners to whom the income is allocable. If 
any partner is itself a grantor trust or disregarded entity, the 
applicability of section 108(a)(1)(A) and (B) is determined by looking 
through such grantor trust or disregarded entity to the ultimate 
owner(s) of such partner.
    Some taxpayers have taken the position that the insolvency 
exception is available to the extent a grantor trust or disregarded 
entity is insolvent, even if its owner is not. The IRS and the Treasury 
Department do not believe this

[[Page 20594]]

is an appropriate application of the relevant statutory provisions. The 
proposed regulations clarify that, subject to the special rule for 
partnerships under section 108(d)(6), the insolvency exception is 
available only to the extent the owner is insolvent, as owner is 
determined as described in this preamble.
    Some taxpayers have taken the position that the bankruptcy 
exception is available if a grantor trust or disregarded entity is 
under the jurisdiction of a bankruptcy court, even if its owner is not. 
These taxpayers may argue that because, for Federal income tax 
purposes, the disregarded entity is disregarded and the ``taxpayer'' is 
the owner of the disregarded entity's assets and liabilities, the 
taxpayer is properly seen as being subject to the bankruptcy court's 
jurisdiction. Under the proposed regulations, it is insufficient for 
the grantor trust or disregarded entity to be subject to the bankruptcy 
court's jurisdiction. The proposed regulations clarify that, subject to 
the special rule for partnerships under section 108(d)(6), the 
bankruptcy exception is available only if the owner of the grantor 
trust or disregarded entity is subject to the bankruptcy court's 
jurisdiction, as owner is determined as described in this preamble.

Proposed Effective/Applicability Date

    These regulations are proposed to apply to discharge of 
indebtedness income occurring on or after the date final regulations 
are published in the Federal Register. No inference is intended that 
the provisions set forth in these proposed regulations are not current 
law.

Special Analyses

    It has been determined that this notice of proposed rulemaking is 
not a significant regulatory action as defined in Executive Order 
12866. Therefore, a regulatory assessment is not required. It has also 
been determined that section 553(b) of the Administrative Procedure Act 
(5 U.S.C. chapter 5) does not apply to these regulations, and because 
the regulations do not impose a collection of information on small 
entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not 
apply. Pursuant to section 7805(f) of the Code, this regulation has 
been submitted to the Chief Counsel for Advocacy of the Small Business 
Administration for comment on its impact on small business.

Comments and Requests for a Public Hearing

    Before the proposed regulations are adopted as final regulations, 
consideration will be given to any written (a signed original and eight 
(8) copies) or electronic comments that are submitted timely to the 
IRS. The IRS and Treasury Department request comments on the clarity of 
the proposed rules and how they can be made easier to understand. All 
comments will be available for public inspection and copying. A public 
hearing may be scheduled if requested in writing by any person that 
timely submits written comments. If a public hearing is scheduled, 
notice of the date, time, and place for the public hearing will be 
published in the Federal Register.

Drafting Information

    The principal authors of these regulations are Bryan A. Rimmke and 
Benjamin H. Weaver, Office of the Associate Chief Counsel (Passthroughs 
& Special Industries). However, other personnel from the IRS and 
Treasury Department participated in its development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Proposed Amendments to the Regulations

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

PART 1--INCOME TAXES

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

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

    Par. 2. Section 1.108-9 is added to read as follows:


Sec.  1.108-9  Application of insolvency and bankruptcy provisions of 
section 108 to disregarded entities and grantor trusts.

    (a) General rule. For purposes of applying section 108(a)(1)(A) and 
(B) to discharge of indebtedness income of a grantor trust or 
disregarded entity, neither the grantor trust nor the disregarded 
entity shall be considered to be the ``taxpayer,'' as that term is used 
in section 108(a)(1) and (d)(1) through (3). Rather, for purposes of 
section 108(a)(1) and (d)(1) through (3) and subject to section 
108(d)(6), the owner of the grantor trust or disregarded entity is the 
taxpayer. If indebtedness of a grantor trust or disregarded entity is 
discharged in a Title 11 case, section 108(a)(1)(A) will apply only to 
an owner of the grantor trust or disregarded entity that is under the 
jurisdiction of the court in a Title 11 case. If the grantor trust or 
disregarded entity is under the jurisdiction of the court in a Title 11 
case, but the owner of the grantor trust or disregarded entity is not, 
section 108(a)(1)(A) will not apply to the discharge of indebtedness 
income. If indebtedness of a grantor trust or disregarded entity is 
otherwise discharged, section 108(a)(1)(B) will apply only to the 
extent the owner of the grantor trust or disregarded entity is 
insolvent. If the grantor trust or disregarded entity is insolvent, but 
the owner of the grantor trust or disregarded entity is not, section 
108(a)(1)(B) will not apply to the discharge of indebtedness income.
    (b) Application to partnerships. Under section 108(d)(6), in the 
case of a partnership, section 108(a)(1)(A) and (B) applies at the 
partner level. Accordingly, in the case of a partnership, paragraph (a) 
of this section applies to the partners of such partnership to whom the 
discharge of indebtedness income is allocable.
    (c) Definitions--(1) Disregarded entities. For purposes of this 
section, a disregarded entity is an entity that is disregarded as an 
entity separate from its owner for Federal income tax purposes. 
Examples of disregarded entities include a domestic single member 
limited liability company that does not elect to be classified as a 
corporation for Federal income tax purposes, a corporation that is a 
qualified REIT subsidiary (within the meaning of section 856(i)(2)), 
and a corporation that is a qualified subchapter S subsidiary (within 
the meaning of section 1361(b)(3)(B)).
    (2) Grantor trust. For purposes of this section, a grantor trust is 
any portion of a trust that is treated under subpart E of part I of 
subchapter J of chapter 1 as being owned by the grantor or another 
person.
    (3) Owner. Notwithstanding any other provision of this section to 
the contrary, neither a grantor trust nor a disregarded entity shall be 
considered an owner for purposes of this section.
    (d) Effective/applicability date. The rules of this section are 
proposed to apply to discharge of indebtedness income occurring on or 
after the date final regulations are published in the Federal Register.

Steven T. Miller,
Deputy Commissioner for Services and Enforcement.
[FR Doc. 2011-8758 Filed 4-12-11; 8:45 am]
BILLING CODE 4830-01-P