[Federal Register Volume 63, Number 1 (Friday, January 2, 1998)]
[Proposed Rules]
[Pages 39-42]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-33984]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-115795-97]
RIN 1545-AV39


General Rules for Making and Maintaining Qualified Electing Fund 
Elections

AGENCY: Internal Revenue Service (IRS), Treasury

ACTION: Notice of proposed rulemaking by cross-reference to temporary 
regulations and notice of public hearing.

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SUMMARY: In the Rules and Regulations section of this issue of the 
Federal Register, the IRS is issuing temporary regulations that provide 
guidance to a passive foreign investment company (PFIC) shareholder 
that makes the election under section 1295 (section 1295 election) to 
treat the PFIC as a qualified electing fund (QEF). The temporary 
regulations also provide guidance for shareholders that wish to make a 
section 1295 election that will apply on a retroactive basis 
(retroactive election). The temporary regulations also include a rule 
concerning the taxation under section 1291 of an exempt organization 
that is a shareholder of a PFIC that is not a pedigreed QEF. This rule 
was originally proposed in 1992. The text of the temporary regulations 
also serves as the text of these proposed regulations. In addition, 
this document proposes amendments to proposed regulation Sec. 1.1296-
4(e), concerning the treatment of interbank deposits as loans for 
purposes of the exception to passive income characterization of income 
derived in the active conduct of a banking business. This document also 
provides notice of a public hearing on these proposed regulations.

DATES: Written comments must be received by April 2, 1998. Requests to 
speak and outlines of oral comments to be discussed at the public 
hearing scheduled for April 16, 1998, must be received by March 26, 
1998.

ADDRESSES: Send submissions to: CC:DOM:CORP:R (REG-115795-97), room 
5226, Internal Revenue Service, POB 7604, Ben Franklin Station, 
Washington, DC 20044. Submissions may be hand delivered between the 
hours of 8 a.m. and 5 p.m. to: CC:DOM:CORP:R (REG-115795-97), Courier's 
Desk, Internal Revenue Service, 1111 Constitution Avenue, NW, 
Washington, DC. Alternatively, taxpayers may submit comments 
electronically via the Internet by selecting the ``Tax Regs'' option on 
the IRS Home Page, or by submitting comments directly to the IRS 
Internet site at <a href="http://www.irs.ustreas.gov/prod/tax______regs/
comments.html">http://www.irs.ustreas.gov/prod/tax______regs/
comments.html</a>. The public hearing will be held in Room 3313, Internal 
Revenue Service, 1111 Constitution Avenue, NW, Washington, DC.

FOR FURTHER INFORMATION CONTACT: Concerning the regulations, Gayle 
Novig, (202) 622-3840; concerning submissions and the hearing, 
Evangelista Lee, (202) 622-7190 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

    The collection of information contained in this notice of proposed 
rulemaking has been submitted to the Office of Management and Budget 
for review in accordance with the Paperwork Reduction Act of 1995 (44 
U.S.C. 3507(d)).
    Comments on the collection of information should be sent to the 
Office of Management and Budget, Attn: Desk Officer for the Department 
of the Treasury, Office of Information and Regulatory Affairs, 
Washington, DC 20503, with copies to the Internal Revenue Service, 
Attn: IRS Reports Clearance Officer, T:FP, Washington, DC 20224. 
Comments on the collection of information should be received by March 
3, 1998. Comments are specifically requested concerning:
    Whether the proposed collection of information is necessary for the 
proper performance of the functions of the Internal Revenue Service, 
including whether the information will have practical utility;
    The accuracy of the estimated burden associated with the proposed 
collection of information (see below);
    How the quality, utility, and clarity of the information to be 
collected may be enhanced;
    How the burden of complying with the proposed collection of 
information may be minimized, including through the application of 
automated collection techniques or other forms of information 
technology; and
    Estimates of capital or start-up costs and costs of operation, 
maintenance, and purchase of services to provide information.
    The collection of information in this proposed regulation is in 
proposed regulation Secs. 1.1295-1(f), 1.1295-1(g), 1.1295-3(c), and 
1.1295-3(g). The information required in Sec. 1.1295-1 (f) and (g) will 
notify the Internal Revenue Service that certain shareholders have made 
the section 1295 election, and will enable the Internal Revenue Service 
to determine if a shareholder is satisfying the election and annual 
reporting requirements and is reporting income as required under 
section 1293.
    The information required in proposed regulation Sec. 1.1295-3(c) 
will notify the IRS that certain shareholders of foreign corporations 
have filed a Protective Statement to preserve their ability to make a 
retroactive section 1295 election, and that those shareholders have 
extended the periods of limitations for their taxable years to which 
the Protective Statement will apply. The information will enable the 
IRS to verify that the shareholders filing the Protective Statement had 
the requisite reasonable belief at the time they filed the statement. 
The information required in proposed regulation Sec. 1.1295-3(g) will 
notify the IRS that a shareholder has made the retroactive election 
and, in the case of a shareholder that filed a Protective Statement, 
that the shareholder's waiver of the periods of

[[Page 40]]

limitations will terminate within three years of making the election. 
The information will enable the Service to verify that the requirements 
for making a retroactive election have been satisfied.
    The collection of information and responses to these collections of 
information are mandatory. The likely respondents are individuals, 
businesses, and other for-profit organizations.
    An agency may not conduct or sponsor, and a person is not required 
to respond to, a collection of information unless the collection of 
information displays a valid control number assigned by the Office of 
Management and Budget.
    Books or records relating to a collection of information must be 
retained as long as their contents may become material in the 
administration of any internal revenue law. Generally, tax returns and 
tax return information are confidential, as required by 26 U.S.C. 6103.
    Estimated total annual reporting/recordkeeping burden: 623 hours.
    The estimated annual burden per respondent varies from 15 minutes 
to three hours, depending on individual circumstances, with an 
estimated average of 29 minutes.
    Estimated number of respondents: 1,290.
    Estimated annual frequency of responses: Annually or one time only.

Background

Sections 1291, 1293, 1295, and 1297

    Temporary regulations in the Rules and Regulations section of this 
issue of the Federal Register amend the Income Tax Regulations (26 CFR 
part 1) relating to sections 1291, 1293, 1295, and 1297. The temporary 
regulations contain rules concerning the taxation of exempt 
organizations under section 1291, elections under section 1295 to treat 
passive foreign investment companies as qualified electing funds 
(QEFs), the calculation of net capital gain for purposes of section 
1293, and the inclusion of the pro rata shares of the earnings and 
profits of QEFs held through pass through entities. The temporary 
regulations amend Sec. 1.1297-3T, permitting in certain cases the 
application of the rules of section 1291(d)(2)(B) to an election made 
under section 1297(b)(1).
    The text of those temporary regulations also serves as the text of 
these proposed regulations. The preamble to the temporary regulations 
explains the temporary regulations.

Section 1296

    On April 28, 1995, proposed regulations were published providing 
guidance for the exceptions to passive income characterization of 
certain income derived by active foreign banks and foreign security 
dealers provided in section 1296 (b)(2)(A) and (b)(3), respectively. 
The proposed section 1296 regulations reflect comments received with 
respect to Notice 89-81, 1989-2 C.B. 399. That notice established tests 
for determining whether a foreign corporation qualified for the active 
foreign bank exception. The notice specifically stated that interbank 
deposits would not be treated as loans made in the ordinary course of a 
banking business.
    After consideration of the comments received with respect to the 
Notice, the IRS and Treasury determined that interbank deposits were 
made and accepted in the ordinary course of a banking business, and 
therefore should be treated as such for purposes of section 
1296(b)(2)(A). Accordingly, proposed regulation Sec. 1.1296-4(d)(3) 
specifically includes interbank deposits with other deposits for 
purposes of determining whether the foreign corporation satisfies the 
deposit-taking requirements of Sec. 1.1296-4(d). Also in response to 
comments, proposed regulation Sec. 1.1296-4(e) is clarified to 
specifically provide that interbank deposits made with banks in the 
ordinary course of business constitute loans for purposes of 
Sec. 1.1296-4. This clarification is favorable to taxpayers, and is 
proposed to be effective for taxable years beginning after December 31, 
1994. It is also proposed that taxpayers may apply it to a taxable year 
beginning after December 31, 1986, provided it is consistently applied 
to that taxable year and all subsequent taxable years. The dates for 
applying proposed regulation Sec. 1.1296-4(e) coincide with the dates 
for which Sec. 1.1296-4 is proposed to be effective. See proposed 
regulation Sec. 1.1296-4(k).

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. Pursuant to 
section 7805(f) of the Internal Revenue Code, this notice of proposed 
rulemaking will be submitted to the Chief Counsel for Advocacy of the 
Small Business Administration for comment on its impact on small 
business. It has been determined that an initial regulatory flexibility 
analysis is required for the collection of information in this notice 
of proposed rulemaking under 5 U.S.C. Sec. 603. This analysis is set 
forth below under the heading ``Initial Regulatory Flexibility 
Analysis.''

Initial Regulatory Flexibility Analysis

    This initial analysis is provided pursuant to the Regulatory 
Flexibility Act (5 U.S.C. chapter 6). The major objective of the 
proposed regulations is to provide guidance to PFIC shareholders that 
wish to elect under section 1295 to treat their PFICs as QEFs, and 
provide guidance to those PFICs about the requirements imposed on them. 
The legal basis for these requirements is contained in sections 1293, 
1294, and 1295. The IRS and Treasury are not aware of any federal rules 
that duplicate, overlap, or conflict with the proposed regulations.
    The recordkeeping and reporting requirements of the proposed 
regulations enable the Internal Revenue Service to identify those 
taxpayers that are treating their PFICs as QEFs; to verify that those 
U.S. taxpayers are currently including their shares of QEF earnings in 
income, as required in section 1293 of the Internal Revenue Code; to be 
informed of those QEF shareholders that are not paying their section 
1293 tax liability because they made the section 1294 election to defer 
the time for payment; to identify those shareholders of foreign 
corporations that are preserving their right to make a retroactive 
section 1295 election; to identify those shareholders making 
retroactive elections and verify that they are satisfying the 
requirements of a retroactive election; and, in the case of 
shareholders that have filed Protective Statements, the dates by which 
the shareholders' extensions of periods of limitations will terminate.
    These proposed regulations will affect those small entities that 
are PFICs, at least one shareholder of which makes the section 1295 
election. The proposed regulations also will affect those small 
entities that are PFIC shareholders that make the section 1295 
election. The IRS and Treasury believe that affected small entities 
generally will be small businesses, as local governments are not likely 
to invest in PFICs. Also, few, if any, affected small entities likely 
will be tax exempt organizations, because only a tax exempt entity that 
is taxable under subchapter F on dividends received from the PFIC 
generally would need to consider making the section 1295 election.
    The collections of information in these proposed regulations would 
impact a small entity that is treated as a QEF principally by requiring 
the

[[Page 41]]

entity to calculate annually its ordinary earnings and net capital gain 
according to federal income tax accounting principles, as required by 
section 1293, and report that information to its shareholders that are 
U.S. persons. With the enactment of section 1(h), the QEF also must 
calculate each type of long term capital gain that it derived and the 
applicable rates of tax for proper inclusion of the QEF's net capital 
gain by the QEF shareholders. Alternatively, the regulations permit the 
QEF to provide its shareholders with its books, records and other 
documents necessary for the shareholders to calculate the ordinary 
earnings and net capital gain amounts. This alternative will enable a 
small entity that is a QEF to avoid the burden of calculating its net 
capital gain by providing its shareholders with information with which 
the shareholders can make the calculations.
    The economic impact of other collections of information contained 
in these proposed regulations would fall on a small entity that is a 
shareholder of a PFIC for which it has made the section 1295 election 
or that is a pass through entity to which an interest holder 
transferred stock subject to a section 1295 election. The economic 
impact would result primarily from the reporting and recordkeeping 
requirements pertaining to (1) the manner for making the section 1295 
election and the annual election requirements; (2) the calculation by 
the shareholder (rather than the QEF) of the QEF's ordinary earnings 
and net capital gain according to federal income tax principles, and 
its pro rata shares thereof; (3) a request for consent to revoke a 
section 1295 election; (4) the preservation of the right to make a 
retroactive election under section 1295; (5) a request for consent to 
make a retroactive election; (6) making a retroactive election, 
including filing amended returns for the affected taxable years; and 
(7) providing interest holders with PFIC statements and other 
information received by an intermediary shareholder.
    The proposed regulations reduce the burden under existing rules for 
making the section 1295 election for all taxpayers, including small 
businesses and other small entities. Unlike the current requirements 
provided in Notice 88-125, the proposed regulations only require 
electing shareholders to file Form 8621 to make the section 1295 
election, thereby eliminating the shareholder election statement as 
well as the requirement to file a copy of the PFIC Annual Information 
Statement. The proposed regulations only require shareholders to retain 
the PFIC Annual Information Statement or the Annual Intermediary 
Statement received as well as a copy of their filings for each year to 
which the section 1295 election applies. In addition, the proposed 
regulations impose a lesser burden on small shareholders, typically 
individuals and small entities, to preserve their right to make a 
retroactive election and a lesser burden of making a retroactive 
election. A small entity that owns less than five percent of each class 
of stock of a foreign corporation and satisfies other requirements is 
not required to file a Protective Statement to preserve its right to 
make a retroactive election with respect to the foreign corporation. 
Similarly, a small entity potentially has fewer amended returns to file 
to make a retroactive election than a shareholder that filed a 
Protective Statement. These changes in election requirements are 
illustrative of IRS efforts to minimize burden, particularly with 
respect to small entities.
    An estimate of the number of small entities that would be affected 
by these regulations is unavailable. In any event, the enactment in 
1997 of the mark-to-market election for PFIC shareholders and the 
elimination of the overlap in certain cases of subpart F and the PFIC 
provisions, will reduce the number of small entities that would be 
affected by these regulations.
    None of the significant alternatives considered in drafting these 
regulations would have significantly altered the economic impact of the 
collections of information on small entities. In considering the 
significant alternatives that would be permissible under the Code and 
would enable the IRS to ensure compliance with the Code, the IRS and 
Treasury concluded that the alternatives generally would impose equal 
or greater burdens.

Comments and Public Hearing

    Before these proposed regulations are adopted as final regulations, 
consideration will be given to any written comments (a signed original 
and eight (8) copies) that are submitted timely to the IRS. All 
comments will be available for public inspection and copying.
    A public hearing has been scheduled for April 16, 1998, at 10 a.m., 
in room 2615, Internal Revenue Building, 1111 Constitution Avenue, NW, 
Washington, DC. Because of access restrictions, visitors will not be 
admitted beyond the Internal Revenue lobby more than 15 minutes before 
the hearing starts.
    The rules of 26 CFR 601.601(a)(3) apply to the hearing.
    Persons that wish to present oral comments at the hearing must 
submit written comments by April 2, 1998, and submit an outline of the 
topics to be discussed and the time to be devoted to each topic (signed 
original and eight (8) copies) by March 26, 1998.
    A period of 10 minutes will be allotted to each person for making 
comments.
    An agenda showing the schedule of speakers will be prepared after 
the deadline for receiving outlines has passed. Copies of the agenda 
will be available free of charge at the hearing.

Drafting Information

    The principal authors of the proposed regulations are Gayle Novig 
and Judith Cavell Cohen, of the Office of the Associate Chief Counsel 
(International). Other personnel from the IRS and Treasury Department 
also participated in the development of these regulations.

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 1.1291-1 is added to read as follows:
    [The text of this proposed section is the same as the text of 
Sec. 1.1291-1T published elsewhere in this issue of the Federal 
Register.]
    Par. 3. Section 1.1293-1 is added to read as follows:


Sec. 1.1293-1  Current taxation of income from qualified electing 
funds.

    [The text of this proposed section is the same as the text of 
Sec. 1.1293-1T published elsewhere in this issue of the Federal 
Register.]
    Par. 4. Section 1.1295-1 is added to read as follows:


Sec. 1.1295-1  Qualified electing funds.

    [The text of this proposed section is the same as the text of 
Sec. 1.1295-1T published elsewhere in this issue of the Federal 
Register.]
    Par. 5. Section 1.1295-3 is added to read as follows:


Sec. 1.1295-3  Retroactive elections.

    [The text of this proposed section is the same as the text of 
Sec. 1.1295-3T published elsewhere in this issue of the Federal 
Register.]

[[Page 42]]

    Par. 6. In Sec. 1.1297-3, paragraph (c) is added to read as 
follows:


Sec. 1.1297-3  Deemed sale election by a United States person that is a 
shareholder of a passive foreign investment company.

    [The text of this proposed paragraph (c) is the same as the text of 
Sec. 1.1297-3T(c) published elsewhere in this issue of the Federal 
Register.]
    Par. 7 Section 1.1296-4(e) as proposed at 60 FR 20922 (April 28, 
1995) is amended by adding a sentence at the end of the paragraph to 
read as follows:


Sec. 1.1296-4  Characterization of certain banking income of foreign 
banks as passive.

* * * * *
    (e) Lending activities test. * * * An interbank deposit made in the 
ordinary course of a corporation's banking business will be treated as 
a loan for purposes of this section. For the effective date of this 
paragraph (e), see paragraph (k) of this section.
Michael P. Dolan,
Deputy Commissioner of Internal Revenue.
[FR Doc. 97-33984 Filed 12-31-97; 8:45 am]
BILLING CODE 4830-01-U