Federal Register / Vol. 62, No. 11 / Thursday, January 16, 1997 / Rules and Regulations 2267

1976, both of which are incorporated by

reference. The availability of these

incorporations by reference is given in

paragraph (b)(2) of this section.

* * * * *

[FR Doc. 97–55572 Filed 1-15-97; 8:45 am]

BILLING CODE 1505-01-D

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 8711]

RIN 1545–AU82

Intangibles Under Sections 1060 and

338

AGENCY: Internal Revenue Service (IRS),

Treasury.

ACTION: Final and temporary

regulations.

SUMMARY: This document amends the

temporary regulations under sections

1060 and 338(b) of the Internal Revenue

Code (Code) relating to purchase price

allocations in taxable asset acquisitions

and deemed asset purchases. The

amendments revise the treatment of

intangible assets in such acquisitions to

take into account the enactment of

section 197 by the Omnibus Budget

Reconciliation Act of 1993. This

document also makes conforming

amendments to the final regulations

under section 338. The regulations

provide guidance regarding taxable asset

acquisitions and deemed asset

purchases resulting from elections

under section 338. The text of the

temporary regulations herein also serves

as the text of the proposed regulations

set forth in the notice of proposed

rulemaking on this subject in the

Proposed Rules section of this issue of

the Federal Register.

EFFECTIVE DATE: These regulations are

effective February 14, 1997.

For dates of applicability, see

§§ 1.338(b)–2T(c)(4) and 1.1060–

1T(a)(2)(ii).

FOR FURTHER INFORMATION CONTACT:

Brendan P. O’Hara, Office of Assistant

Chief Counsel (Corporate), (202) 622–

7530 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

These regulations amend the current

temporary regulations under sections

1060 (§ 1.1060–1T) and 338(b)

(§§ 1.338(b)–2T and 1.338(b)–3T) (the

current regulations) with respect to the

treatment of acquired intangible assets.

They also amend related examples in

the final regulations under section 338.

Section 1060 provides for the allocation

of purchase price among the assets of a

trade or business under regulations.

Section 338(b) provides for a similar

allocation, also under regulations, for a

deemed purchase of assets under

section 338. The current regulations

employ a residual method of allocation.

The legislative history of section 1060,

adopted in 1986, noted with approval

the use of the residual method under the

section 338(b) regulations and required

that the same method be used pursuant

to regulations to be prescribed under

section 1060. S. Rep. No. 99–313, 99th

Cong., 2d Sess. 253, 254 (1986); 1986–

3 C.B. Vol. 3, 253–54.

The current regulations place each

acquired asset into one of four asset

classes. The purchase price is allocated

among the classes in priority order. No

asset in any class except for the last

class is allocated more than its fair

market value. If the aggregate purchase

price allocable to a particular class is

less than the aggregate fair market value

of the assets within the class, each asset

is allocated an amount in proportion to

its fair market value and nothing is

allocated to any junior class.

The four classes under the current

regulations are as follows:

Class I—Cash and cash equivalents;

Class II—Certificates of deposit, U.S.

government securities, readily

marketable stock or securities, and

foreign currency;

Class III—All assets not in Class I, II, or

IV; and

Class IV—Intangible assets in the nature

of goodwill and going concern

value.

Section 197 was enacted as part of the

Omnibus Budget Reconciliation Act of

1993, Public Law 103–66, 107 Stat. 312

(1993) (the 1993 Act). Prior to the 1993

Act, acquired goodwill and going

concern value were not amortizable, but

other acquired intangible assets were

amortizable if they could be separately

identified and their useful lives

determined with reasonable accuracy.

Section 197 responded to policy and

administrative concerns regarding the

treatment of acquired intangibles by

providing similar treatment for

goodwill, going concern value, and

certain other intangible assets acquired

in a taxable acquisition and held in

connection with a trade or business. The

1993 Act allows taxpayers to amortize

certain acquired intangible assets

(amortizable section 197 intangibles)

over 15 years, subject to certain

exceptions.

The report of the House Committee on

Ways and Means accompanying the

1993 Act states that:

It is expected that the present [regulations

under sections 338 and 1060] will be

amended to reflect the fact that [section 197]

allows an amortization deduction with

respect to intangible assets in the nature of

goodwill and going concern value. It is

anticipated that the residual method

specified in the regulations will be modified

to treat all amortizable section 197

intangibles as Class IV assets and that this

modification will apply to any acquisition of

property to which [section 197] applies.

H.R. Rep. 111, 103d Cong., 1st Sess. 760, 776

(May 23, 1993), 1993–3 C.B. 336, 352.

The current regulations have not yet

been amended in accordance with the

legislative history of section 197. These

new temporary regulations accomplish

that change, with slight modifications,

as discussed below.

Explanation of Provisions

The temporary and final regulations

are amended to conform to the

legislative history of the 1993 Act by

placing all amortizable section 197

intangibles other than goodwill and

going concern value in Class IV.

However, the new regulations also

include nonamortizable section 197

intangibles in Class IV. Some section

197 intangibles are amortizable by the

buyer though they were not amortizable

by the seller. Other section 197

intangibles may not be amortizable

because of the application of the antichurning rules of section 197(f)(9).

Although sections 338(b) and 1060 do

not require conformity between the

buyer and seller on purchase price

allocations, they reflect strong policies

encouraging conformity, including

mandatory application of the rule of

Commissioner v. Danielson, 378 F.2d

771 (3d Cir. 1967), cert. denied, 389 U.S.

858 (1967), in cases where the parties

have agreed to an allocation, and a

reporting system designed to reveal

situations where the parties’ allocations

are inconsistent. These policies favoring

conformity are best served by requiring

both parties to include the same assets

in each class. Moreover, this rule is also

more consistent with section 1060(b) as

amended by the 1993 Act. Section

1060(b)(1) requires the parties to report,

under regulations, ‘‘the amount of

consideration received for the assets

which is allocable to section 197

intangibles.’’ The term section 197

intangibles is more inclusive than

amortizable section 197 intangibles. The

goals of consistency, simplification, and

administrability will be better achieved

with respect to allocations to section
2268 Federal Register / Vol. 62, No. 11 / Thursday, January 16, 1997 / Rules and Regulations

197 intangibles if all such assets are

removed from Class III and isolated in

a junior class (or classes). Accordingly,

these regulations classify all section 197

intangibles (other than goodwill and

going concern value) as Class IV assets.

To reconcile the original intention of

Congress in requiring the residual

method of allocation for goodwill and

going concern value with the legislative

history of the 1993 Act, these

regulations provide that goodwill and

going concern value will be assigned to

a true residual class, Class V. This

method is consistent with the policies of

section 197 (which regards many

intangible assets as the functional

equivalent of goodwill and going

concern value and thus treats them

uniformly) as well as the original

intention of the Tax Reform Act of 1986,

Public Law 99–514, 100 Stat. 2085

(1986) (that goodwill and going concern

value not be valued separately for

purchase price allocation purposes).

Allocating goodwill and going concern

value to Class V avoids the need for

determining the value of goodwill and

going concern value through a nonresidual method. Although this

approach places some section 197

intangibles in Class V instead of Class

IV, it carries out the expectation set

forth in the legislative history of the

1993 Act by making section 197

intangibles junior to all other assets in

the allocation scheme. The practical

significance of placing goodwill and

going concern value in Class V is

generally limited to circumstances in

which fewer than all of the amortizable

section 197 intangibles acquired in a

single transaction are subsequently

disposed of at a gain. Those situations,

in any case, require some method of

allocation among the intangibles.

Effective Date

These regulations are effective for

applicable asset acquisitions, as defined

in section 1060(c), completed on or after

February 14, 1997, and for acquisition

dates, as defined in section 338(h)(2), on

or after February 14, 1997.

As described above, the current

regulations have been in conflict with

the 1993 Act legislative history

concerning the classification of

amortizable section 197 intangibles

other than goodwill and going concern

value since August 10, 1993, generally

(the date of enactment of section 197),

and, in some cases, since 1991.

The legislative history to the 1993 Act

clearly contemplates that changes to the

classification system would be made by

amended regulations. In the absence of

such amendments, the only system

available under regulations was the

four-class system established before the

enactment of section 197. Further, the

IRS revised Form 8594, Asset

Acquisition Statement under Section

1060, in January of 1996 in a manner

consistent with the legislative history,

i.e., by placing all amortizable section

197 intangibles in Class IV. For

acquisition dates before February 14,

1997, if section 197 applies to any asset

acquired or deemed acquired, the

taxpayer (and all related parties) may

consistently (in all transactions in

which AGUB, ADSP, MADSP, or

consideration must be allocated under

section 338 or 1060)—

(i) apply these new rules in full as

written;

(ii) apply the current temporary

regulations as written; or

(iii) apply the current temporary

regulations as written, but treat all

amortizable section 197 intangibles as

Class IV assets.

Special Analyses

It has been determined that this

Treasury decision is not a significant

regulatory action as defined in EO

12866. Therefore, a regulatory

assessment is not required. It also has

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, these

regulations will be submitted to the

Chief Counsel for Advocacy of the Small

Business Administration for comment

on their impact on small business.

Drafting Information

The principal author of these

regulations is Brendan P. O’Hara, Office

of the Assistant Chief Counsel

(Corporate), IRS. However, other

personnel from the IRS and Treasury

Department participated in their

development.

List of Subjects in 26 CFR Part 1

Income taxes, Reporting and

recordkeeping requirements.

Adoption of Amendments to the

Regulations

Accordingly, 26 CFR part 1 is

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. In § 1.338–0, entries for

§ 1.338(b)–2T(b)(2)(v) and § 1.338(b)–

2T(c)(4) are added to read as follows:

§ 1.338–0 Outline of topics.

* * * * *

§ 1.338(b)–2T Allocation of adjusted

grossed-up basis among target assets

(temporary).

* * * * *

(b) * * *

(2) * * *

(v) Class V assets.

(c) * * *

(4) Effective dates.

* * * * *

Par. 3. Section 1.338–3 is amended

by:

1. Revising paragraph (b)(4).

2. Revising paragraph (d)(8)(ii)

Example 1, paragraph (e); Example 2,

paragraphs (a), (b), and (d); Example 3,

paragraph (d); and Example 4,

paragraphs (d) and (f).

The revisions read as follows:

§ 1.338–3 Deemed sale and aggregate

deemed sale price.

* * * * *

(b) * * *

(4) Classes of assets. The classes of

assets are defined in § 1.338(b)–2T(b).

* * * * *

(d) * * *

(8) * * *

(ii) * * *

Example 1. * * *

(e) The facts are the same as in paragraph

(a) of this Example 1, except that T also has

goodwill (a Class V asset) with an appraised

value of $10,000. The results are the same as

in paragraphs (b) and (c) of this Example 1.

Because the ADSP does not exceed the fair

market value of the Class III asset, no amount

is allocated to the Class V assets (assets in the

nature of goodwill and going concern value).

Example 2. * * *

(a) P purchases all of the T stock for

$140,000. On July 1 of Year 1, T has

liabilities (not including the tax liability for

deemed sale gain of its assets) of $50,000,

cash (a Class I asset) of $10,000, readily

marketable securities (a Class II asset) with a

basis of $4,000 and a fair market value of

$10,000, goodwill (a Class V asset) with a

basis of $3,000, and the following Class III

assets:

Asset Basis FMV Ratio

1. Land ....................................................................................................................................................................... $5,000 $35,000 .14
Federal Register / Vol. 62, No. 11 / Thursday, January 16, 1997 / Rules and Regulations 2269

Asset Basis FMV Ratio

2. Inventory ................................................................................................................................................................. 10,000 50,000 .20

3. Equipment A (recomputed basis $80,000) ............................................................................................................ 5,000 90,000 .36

4. Equipment B (recomputed basis $20,000) ............................................................................................................ 10,000 75,000 .30

Totals ............................................................................................................................................................... $30,000 $250,000 1.00

(b) The ADSP exceeds $20,000. Thus,

$10,000 of the ADSP is allocated to the cash

and $10,000 to the marketable securities.

Except as provided in section 7701(g), the

amount allocated to an asset (other than a

Class V asset) cannot exceed its fair market

value. See § 1.338(b)–2T(c)(1) (relating to fair

market value limitation).

* * * * *

(d) Because, under the preliminary

calculations of the ADSP, the amount to be

allocated to the Class I, II, III, and IV assets

does not exceed their aggregate fair market

value, no ADSP amount is allocated to

goodwill. Accordingly, the deemed sale of

the goodwill results in a capital loss of

$3,000. The portion of the ADSP allocable to

the Class III assets is finally determined by

taking into account this loss as follows:

ADSPIII = (G ¥ (I + II)) + L + TR × [(II ¥

BII) + (ADSPIII ¥ BIII) + (ADSPV ¥ BV)]

1ADSPIII = ($140,000 ¥ ($10,000 + $10,000))

+ $50,000 + .34 × [($10,000 ¥ $4,000) +

(ADSPIII ¥ $30,000) + ($0 ¥ $3,000)]

ADSPIII = $160,820 + .34ADSPIII

.66ADSPIII = $160,820

ADSPIII = $243,666.67

* * * * *

Example 3. * * *

(d)(1) Based on the preliminary allocation,

the ADSP is determined as follows: (In the

formula, the amount allocated to the Class I

assets is referred to as I, the amount allocated

to the Class II assets as II, and the amount

allocated to the Class III assets as III.)

ADSP = G + L + TR × [(II ¥ BII) + (III ¥ BIII)

+ (ADSP ¥ (I + II + III + BV))]

ADSP = $150,000 + $50,000 + .34 × [($10,000

¥ $4,000) + ($250,000 ¥ $30,000) +

(ADSP ¥ ($10,000 + $10,000 + $250,000

+ $3,000))]

ADSP = $200,000 + .34ADSP ¥ $15,980

.66ADSP = $184,020

ADSP = $278,818.18

(2) Because the ADSP as determined

exceeds the aggregate fair market value of the

Class I, II, III, and IV assets, the $250,000

amount preliminarily allocated to the Class

III assets is appropriate. Thus, the amount of

the ADSP allocated to Class III assets equals

their aggregate fair market value ($250,000),

and the allocated ADSP amount for each

Class III asset is its fair market value. Further,

because there are no Class IV assets, the

allocable ADSP amount for the Class V asset

(goodwill) is $8,818.18 (the excess of the

ADSP over the aggregate ADSP amounts for

the Class I, II, and III assets).

Example 4. * * *

(d) Because the portion of the preliminary

ADSP allocable to Class III assets

($243,666.67) does not exceed their fair

market value ($250,000), no amount is

allocated to Class V assets for T. Further, this

amount ($243,666.67) is allocated among T’s

Class III assets in proportion to their fair

market values. See paragraph (e) of Example

2. Tentatively, $48,733.34 of this amount is

allocated to the T1 stock.

* * * * *

(f) The facts are the same as in paragraph

(a) of this Example 4, except that the T1

inventory has a $12,500 basis and a $62,500

value, the T1 stock has a $62,500 value, and

T owns 80% of the T1 stock. In preliminarily

calculating ADSPIII, the T1 stock can be

disregarded but, because T owns only 80%

of the T1 stock, only 80% of T1 asset basis

and value should be taken into account in

calculating T’s ADSP. By taking into account

80% of these amounts, the remaining

calculations and results are the same as in

paragraphs (b), (c), (d), and (e) of this

Example 4, except that the grossed-up basis

in T’s recently purchased T1 stock is

$44,455.00 ($35,564.00/0.8).

Par. 4. Section 1.338(b)–2T is

amended by:

1. Revising paragraphs (b)(2), (c)(1),

and (c)(3)(iii).

2. Adding paragraph (c)(4).

3. Revising paragraph (d) Example 1,

paragraphs (vi) and (x) through (xiii).

4. Revising paragraph (d) Example 2,

paragraphs (vi) through (viii).

The revisions and addition read as

follows:

§ 1.338(b)–2T Allocation of adjusted

grossed-up basis among target assets

(temporary).

* * * * *

(b) * * *

(2) Other assets—(i) In general.

Subject to the limitations and other

special rules of paragraph (c) of this

section, adjusted grossed-up basis (as

reduced by Class I assets) is allocated

among Class II assets of target held at

the beginning of the day after the

acquisition date in proportion to their

fair market values at such time, then

among Class III assets so held in such

proportion, then among Class IV assets

so held in such proportion, and finally

to Class V assets.

(ii) Class II assets. Class II assets are

certificates of deposit, U.S. Government

securities, readily marketable stock or

securities (within the meaning of

§1.351–1(c)(3)), foreign currency, and

other items designated in the Internal

Revenue Bulletin by the Internal

Revenue Service.

(iii) Class III assets. Class III assets are

all assets of target other than Class I, II,

IV, and V assets.

(iv) Class IV assets. Class IV assets are

all section 197 intangibles, as defined in

section 197, except those in the nature

of goodwill and going concern value.

(v) Class V assets. Class V assets are

section 197 intangibles in the nature of

goodwill and going concern value.

(c) * * *

(1) Basis not to exceed fair market

value. The amount of adjusted grossedup basis allocated to an asset (other than

Class V assets) shall not exceed the fair

market value of that asset at the

beginning of the day after the

acquisition date. For modification of

this fair market value limitation with

respect to certain contingent income

assets, see § 1.338(b)–3T(g).

* * * * *

(3) * * *

(iii) Allocation of adjusted grossed-up

basis. Subject to the limitations in

paragraphs (c)(1) and (2) of this section,

adjusted grossed-up basis (after

reduction by the amount of Class I

assets) is allocated among Class II, III,

IV, and V assets of target held at the

beginning of the day after the

acquisition date in proportion to their

fair market values at such time. For this

purpose, the fair market value of Class

V assets is deemed to be the excess, if

any, of the hypothetical purchase price

over the sum of the amount of the Class

I assets and the fair market values of the

Class II, III, and IV assets.

(4) Effective dates. This section

applies for acquisition dates on or after

February 14, 1997. For acquisition dates

before February 14, 1997, if section 197

does not apply to any asset deemed

acquired, the provisions of the

regulations in effect before February 14,

1997, apply (see § 1.338(b)–2T as

contained in 26 CFR part 1 revised April

1, 1996). For acquisition dates before

February 14, 1997, if section 197 applies

to any asset deemed acquired, the

taxpayer (and all related parties) may

consistently (in all transactions in

which AGUB, ADSP, MADSP, or

consideration must be allocated under

section 338 or 1060)—

(i) Apply the provisions of this

section;

(ii) Apply the provisions of this

section as in effect before February 14,

1997 (see § 1.338(b)–2T as contained in

26 CFR part 1 revised April 1, 1996); or
2270 Federal Register / Vol. 62, No. 11 / Thursday, January 16, 1997 / Rules and Regulations

(iii) Apply the provisions of this

section as in effect before February 14,

1997 (see § 1.338(b)–2T as contained in

26 CFR part 1 revised April 1, 1996), but

treat all amortizable section 197

intangibles as Class IV assets.

(d) * * *

Example 1. * * *

(vi) T has no Class IV assets. The amount

allocated to T’s Class V assets (assets in the

nature of goodwill and going concern value)

is $150, i.e., $2,500–$2,350.

* * * * *

(x) Assume that at the beginning of the day

after the acquisition date, T1’s cash and the

fair market values of its Class III and IV assets

are as follows:

Asset

class Asset

Fair

market

value

I .............. Cash .............................. $50 *

III ............ Equipment ..................... 200

IV ........... Patent ............................ 350

Total .............................. $600

*Amount

(xi) The amount of AGUB allocable to T1’s

Class III and IV assets is first reduced by the

$50 of cash.

(xii) Since the remaining amount of AGUB

($570) is an amount which exceeds the fair

market value of T1’s only Class III asset, the

equipment, the amount allocated to the

equipment is its fair market value ($200).

After that, the remaining amount of AGUB

($370) exceeds the fair market value of T1’s

only Class IV asset, the patent. Thus, the

amount allocated to the patent is its fair

market value ($350).

(xiii) The amount allocated to T1’s Class V

assets (assets in the nature of goodwill and

going concern value) is $20, i.e., $570¥$550.

Example 2.* * *

(vi) The amount of AGUB ($2,700)

available to allocate to T’s assets is reduced

by the amount of cash to $2,500, i.e.,

$2,700¥$200. This $2,500 balance is then

allocated among the Class II, III, IV, and V

assets in proportion to, and not in excess of,

their fair market values (as determined under

§ 1.338(b)–2T(c)(3)(iii)).

(vii) Under paragraph (c)(3) of this section,

the fair market value of the Class V assets is

deemed to be $150, i.e., the $3,000

hypothetical purchase price minus $2,850

(the sum of T’s cash, $200, and the fair

market value of its Class II, III, and IV assets,

$2,650). The allocation is as follows:

Portfolio of marketable securities ... * $268

Inventory .......................................... 268

Accounts receivable ........................ 536

Building ............................................ 714

Land .................................................. 178

Investment in T1 ............................. 402

Goodwill and going concern value 134

Total .......................................... $2,500

* All numbers rounded for convenience.

(viii) If the AGUB of T is increased (or

decreased) as a result of a subsequent

adjustment, the hypothetical purchase price

and the deemed fair market value of the Class

V assets shall be redetermined and the

increase (or decrease) in AGUB shall be

allocated among T’s acquisition date assets

pursuant to § 1.338(b)–3T(f). The increase (or

decrease) in AGUB is allocated pursuant to

§ 1.338(b)–3T(f) even if the hypothetical

purchase price, as redetermined, no longer

exceeds AGUB, as redetermined.

Par. 5. Section 1.338(b)–3T is

amended by:

1. Revising paragraphs (e)(1), (f)(1),

and (f)(2).

2. In paragraph (j), redesignating

Example (1) through Example (8) as

Example 1 through Example 8.

3. Revising the following newly

designated examples in paragraph (j):

Example 1; Example 2; Example 3,

paragraph (i) and paragraphs (v) through

(vii); and Example 6 through Example 8.

The revisions read as follows:

§ 1.338(b)–3T Subsequent adjustments to

adjusted grossed-up basis (temporary).

* * * * *

(e) * * *

(1) In general. If adjusted grossed-up

basis was allocated in accordance with

the rules of § 1.338(b)–2T(b)(2), a

decrease in adjusted gross-up basis (as

determined under paragraph (c)(3) of

this section) is allocated in the

following order: first, as a reduction in

the bases of target’s Class V acquisition

date assets, second, as a reduction of the

bases of target’s Class IV acquisition

date assets in proportion to their fair

market values at the beginning of the

day after the acquisition date, third, as

a reduction of the bases of target’s Class

III acquisition date assets in proportion

to their fair market values at the

beginning of the day after the

acquisition date, and finally, as a

reduction of the bases of target’s Class

II acquisition date assets in proportion

to their fair market values at the

beginning of the day after the

acquisition date. The decrease in

adjusted grossed-up basis allocated to

an asset shall not exceed the adjusted

grossed-up basis of target previously

allocated to that asset. If adjusted

grossed-up basis was allocated among

target’s assets pursuant to § 1.338(b)–

2T(c)(3), a decrease in adjusted grossedup basis (as determined under

paragraph (c)(3) of this section) is

accounted for in accordance with the

rules of paragraph (f) of this section.

* * * * *

(f) * * *

(1) Scope. This paragraph (f) applies

if adjusted grossed-up basis was

allocated among new target’s Class II,

III, IV, and V assets in accordance with

§ 1.338(b)–2T(c)(3) and an adjustment

event occurs after the close of the new

target’s first taxable year.

(2) Allocation of increases (decreases)

in adjusted grossed-up basis. If an

adjustment event after the close of new

target’s first taxable year increases (or

decreases) adjusted grossed-up basis,

the following items shall be

redetermined, taking into account such

adjustment event: the hypothetical

purchase price, the deemed fair market

value of Class V assets, and the adjusted

grossed-up basis allocable to each

acquisition date asset under § 1.338(b)–

2T(c)(3) (the redetermined (c)(3)

amount). (The redetermination of the

deemed fair market value of Class V

assets under this paragraph (f)(2) is

made by taking into account the target’s

Class I assets and the fair market values

of its Class II, III, and IV assets at the

beginning of the day after the

acquisition date.) If the redetermined

(c)(3) amount for an acquisition date

asset exceeds the amount of adjusted

grossed-up basis previously allocated to

such asset (taking into account prior

adjustments under this paragraph (f)),

an amount of adjusted grossed-up basis

equal to such excess shall be allocated

to such asset. If the amount of the

adjusted grossed-up basis previously

allocated to an acquisition date asset

(taking into account prior adjustments

under this paragraph (f)) exceeds the

redetermined (c)(3) amount for that

asset, an amount equal to such excess

shall be allocated as a reduction in the

basis of such asset. The rules of

paragraph (d)(2) of this section (or

paragraph (e)(2) of this section) apply

for the treatment of amounts allocable

under this paragraph (f) to an

acquisition date asset that has been

disposed of, depreciated, amortized, or

depleted.

* * * * *

(j) * * *

Example 1. (i)(A) T’s assets other than

goodwill and going concern value, and their

fair market values at the beginning of the day

after the acquisition date, are as follows:

Asset

class Asset

Fair

market

value

III ............ Building ......................... $100

III ............ Stock of X (not a target) 200

Total .............................. $300

(B) T has no liabilities other than a

contingent obligation and T does not use the

elective formula under section 338(h)(11).

(ii)(A) On September 1, 1997, P purchases

all of the outstanding stock of T for $270 and

makes an express election for T. The grossedup basis of the T stock and T’s adjusted

grossed-up basis (AGUB) are both $270. The

AGUB is ratably allocated among T’s Class III
Federal Register / Vol. 62, No. 11 / Thursday, January 16, 1997 / Rules and Regulations 2271

assets in proportion to their fair market

values as follows:

Asset Basis

Building ($270×100/300) ................... $ 90

Stock ($270×200/300) ...................... 180

Total ....................................... $270

(B) No amount is allocated to the Class V

assets. New T is a calendar year taxpayer.

Assume that the X stock is a capital asset in

the hands of new T.

(iii) On January 1, 1998, new T sells the X

stock and uses the proceeds to purchase

inventory.

(iv) On June 30, 1999, the contingent

liability of old T becomes fixed and

determinable. The amount of the liability is

$60.

(v) T’s AGUB increases by $60 from $270

to $330. This $60 increase in AGUB is first

allocated among T’s acquisition date assets in

accordance with the provisions of § 1.338(b)–

2T. Since the redetermined AGUB for T

($330) exceeds the sum of the fair market

values at the beginning of the day after the

acquisition date of the Class III acquisition

date assets ($300), AGUB allocated to those

assets is limited to those fair market values

under § 1.338(b)–2T(c)(1). As there are no

Class IV assets, the remaining AGUB of $30

is allocated to goodwill and going concern

value (Class V assets). The amount of

increase in AGUB allocated to each

acquisition date asset is determined as

follows:

Asset Original

AGUB

Redetermined

AGUB

Increase in

AGUB

Building ..................................................................................................................................................... $ 90 $100 $10

X Stock ..................................................................................................................................................... 180 200 20

Goodwill and going concern value ........................................................................................................... 0 30 30

Total ............................................................................................................................................... $270 $330 $60

(vi) Since the X stock was disposed of

before the contingent liability became fixed

and determinable, no amount of the increase

in AGUB attributable to such stock may be

allocated to any T asset. Rather, such

amount, $20, is allowed as a capital loss to

T for the taxable year 1999 under the

principles of Arrowsmith v. Commissioner,

344 U.S. 6 (1952). In addition, the $10

increase in AGUB allocated to the building

and the $30 increase in AGUB allocated to

the goodwill and going concern value are

treated as basis redeterminations in 1999. See

paragraph (d)(2) of this section.

Example 2. (i) On January 1, 1998, P

purchases all of the outstanding stock of T

and makes an express election for T. T does

not use the elective formula under section

338(h)(11). Assume that the AGUB of T is

$500 and is allocated among T’s acquisition

date assets as follows:

Asset

class Asset Basis

III ............ Machinery ..................... $150

III ............ Land .............................. 250

V ............ Goodwill and going concern value.100

Total .............................. $500

(ii) On September 30, 1998, P filed a claim

against the selling shareholders of T in a

court of appropriate jurisdiction alleging

fraud in the sale of the T stock.

(iii) On January 1, 2007, the former

shareholders refund part of the purchase

price to P in a settlement of the lawsuit. This

refund results in a decrease of T’s AGUB of

$140.

(iv) Under paragraph (e)(1) of this section,

the decrease in AGUB is allocated among T’s

acquisition date assets. First, because $100

was originally allocated to the Class V assets,

$100 of the decrease is allocated to those

assets. As there were no Class IV assets

acquired, the remaining decrease in AGUB

($40) is allocated to the Class III assets in

proportion to their fair market values at the

beginning of the day after the acquisition

date. Thus, $15 is allocated to the machinery

($40 x 150/$400) and $25 to the land ($40 x

250/$400).

(v) Assume that, as a result of deductions

under section 168, the adjusted basis of the

machinery immediately before the decrease

in AGUB is zero. The machinery is treated as

if it were disposed of before the decrease is

taken into account. In 2007, T recognizes

income of $15, the character of which is

determined under the principles of

Arrowsmith v. Commissioner, 344 U.S. 6

(1952), and the tax benefit rule. No

adjustment to the basis of T’s assets is made

for any tax paid on this amount. Assume also

that, as a result of amortization deductions,

the adjusted basis of the goodwill and going

concern value immediately before the

decrease in AGUB is $40. A similar

adjustment to income is made in 2007 with

respect to the $60 of previously amortized

goodwill and going concern value.

(vi) In summary, the basis of T’s

acquisition date assets, as of January 1, 2007,

is as follows:

Asset Basis

Machinery ......................................... $0

Land .................................................. 225

Goodwill and going concern value ... 0

Example 3. (i) Assume that the facts are the

same as Example 2 of § 1.338(b)–2T(d) except

that the recently purchased stock is acquired

for $1,600 plus additional payments that are

contingent upon T’s future earnings. Thus,

T’s AGUB, determined as of the beginning of

the day after the acquisition date (after

reduction by T’s cash of $200), is $2,500 and

is allocable among T’s Class II, III, IV, and V

acquisition date assets pursuant to

§ 1.338(b)–2T(c)(3)(iii) as follows:

Asset Basis

Portfolio of marketable securities ..... *$268

Inventory ........................................... 268

Asset Basis

Accounts receivable .......................... 536

Building ............................................. 714

Land .................................................. 178

Investment in T1 ............................... 402

Goodwill and going concern value ... 134

Total ....................................... $2,500

*All numbers rounded for convenience.

* * * * *

(v) Under §1.338(b)–2T(c)(3) the

redetermined fair market value of Class V

assets is deemed to be $400, i.e., the

hypothetical purchase price, as

redetermined, of $3,250 minus $2,850 (the

sum of T’s cash, $200, and the fair market

values of its Class II, III, and IV assets,

$2,650).

(vi) The amount of AGUB available to

allocate to T’s Class II, III, IV, and V

acquisition date assets is $2,700 (i.e.,

redetermined AGUB reduced by cash). AGUB

allocable to each of T’s acquisition date

assets (i.e., the redetermined (c)(3) amount) is

redetermined using the deemed fair market

value of the Class V assets from paragraph (v)

of this Example as follows:

Portfolio of marketable securities ... *$266

Inventory .......................................... 266

Accounts receivable ........................ 531

Building ............................................ 708

Land .................................................. 177

Investment in T1 ............................. 398

Goodwill and going concern value 354

Total ....................................... $2,700

* All numbers rounded for convenience.

(vii) As illustrated by this example, the

application of paragraph (f) of this section

results in a basis increase for some assets and

a basis decrease for other assets. The amount

of increase (or decrease) in AGUB allocated

to each acquisition date asset is determined

as follows:
2272 Federal Register / Vol. 62, No. 11 / Thursday, January 16, 1997 / Rules and Regulations

Asset Original

AGUB

Redetermined (c)(3)

amount

Increase (or

decrease) in

AGUB

Portfolio of marketable.

securities .................................................................................................................................................. $268 $266 $(2)

Inventory ................................................................................................................................................... 268 266 (2)

Accounts receivable ................................................................................................................................. 536 531 (5)

Building ..................................................................................................................................................... 714 708 (6)

Land .......................................................................................................................................................... 178 177 (1)

Investment in T1 ....................................................................................................................................... 402 398 (4)

Goodwill and going concern value ........................................................................................................... 134 354 220

Total ............................................................................................................................................... $2,500 $2,700 $200

* * * * *

Example 6. (i)(A) T has three assets (other

than goodwill and going concern value)

whose fair market values as of the beginning

of the day after the acquisition date are as

follows:

Asset

class Asset

Fair

market

value

III ............ Building ......................... $100

III ............ Equipment ..................... 50

IV ........... Secret process .............. 50

Total .............................. $200

(B) The secret process is a section 197

intangible. T has no liabilities. Assume that

no election under section 338 (h)(10) or

(h)(11) is in effect.

(ii) On January 1, 1998, P purchases all of

the outstanding T stock for $225 plus 50

percent of the net profits generated by the

secret process for each of the next three

years, determinable and payable on January

1 of each following year. P and T are calendar

year taxpayers.

(iii) As of the beginning of January 2, 1998,

T’s AGUB is $225, allocated as follows:

Asset

class Asset Basis

III ............ Building ......................... $100

III ............ Equipment ..................... 50

IV ........... Secret process .............. 50

V ............ Goodwill and going concern value.25

Total .............................. $225

(iv) On January 1, 1999, $5 is paid by P for

the T stock by reason of the net profits from

the secret process. The payments are not

attributable in any respect to any of T’s other

acquisition date assets. As a result, T’s AGUB

on January 1, 1999 is increased by $5.

(v) Assume that on January 1, 1999, the fair

market value of the secret process is

redetermined to be $52. (For purposes of this

redetermination, only those circumstances

that resulted in the increase to AGUB are

taken into account.)

(vi) On January 1, 1999, only $2 of the $5

increase in AGUB is allocated to the secret

process because the increase in AGUB so

allocated cannot increase the basis of the

secret process above its redetermined fair

market value ($52). The balance of the

increase is allocated to goodwill and going

concern value because the fair market value

limitation of § 1.338(b)–2T(c)(1) precludes

allocating additional AGUB to the Class III

and IV assets.

(vii) The price for which old target is

deemed to have sold the secret process is

increased to reflect the $2 increase allocated

to its basis to new target. See § 1.338–3(d)

and paragraph (h)(1) of this section.

(viii) If the fair market value of the secret

process as of January 1, 1999, is unchanged

from the fair market value as of the beginning

of the day after the acquisition date, then the

$5 increase in AGUB is allocated to T’s

goodwill and going concern value.

Example 7. (i) The facts are the same as in

Example 6 except that—

(A) The secret process is valued at $75 as

of the beginning of the day after the

acquisition date; and

(B) P pays $250 for the T stock and the

former T shareholders agree to refund a

portion of the purchase price to P for each

of the three years that the net income from

the secret process is less than $15 per year,

determinable and payable on January 1 of the

next year.

(ii) Assume that the secret process in the

hands of new T is an amortizable section 197

intangible and, therefore, on January 1, 1999,

new T’s adjusted basis in the secret process

is $70 (i.e., $75–$5 of allowable

amortization).

(iii) Assume the net income from the

process is less than $15 for 1998, and on

January 1, 1999, P receives a refund that

reduces the stock purchase price by $3.

(iv) Assume that as of January 1, 1999, the

fair market value of the secret process is

redetermined to be $65. (For purposes of this

redetermination, only those circumstances

that resulted in the decrease to AGUB are

taken into account.)

(v) As of January 1, 1999, the AGUB of T

is decreased by $3. This decrease is allocated

to the secret process, the basis of which

becomes $67 (i.e., $70–$3) and is amortizable

over the remaining 14 years.

(vi) The price for which old target is

deemed to have sold the secret process is

decreased to reflect the $3 decrease allocated

to its basis to new target. See § 1.338–3(d)

and paragraph (h)(1) of this section.

Example 8. The facts are the same as in

Example 6 except that the intangible Class IV

asset is a patent instead of a secret process.

The redetermination of the fair market value

of the patent on January 1, 1999, is made

without regard to the decrease in the

remaining life of the patent because that is

not a circumstance that resulted in the

increase in AGUB.

Par. 6. Section 1.1060–1T is amended

by:

1. Designating the text of paragraph

(a)(2) following the heading as

paragraph (a)(2)(i), adding a heading to

newly designated paragraph (a)(2)(i),

and adding paragraph (a)(2)(ii).

2. In paragraph (a)(3), revising the

outline of topics entries for (a)(2), (b)(2)

and (h)(3).

3. Revising the seventh sentence of

paragraph (b)(4).

4. Revising paragraphs (d)(2), (e)(1),

and (f)(3)(i).

5. Revising the following examples in

paragraph (g): Example 1; Example 2;

Example 3, paragraphs (i), (viii), and

(xi); and Example 4.

6. Revising paragraph (h)(3).

The additions and revisions read as

follows:

§ 1.1060–1T Special allocation rules for

certain asset acquisitions (temporary).

(a) * * *

(2) Effective date—(i) In general.

* * *

(ii) Allocation of consideration.

Paragraphs (d) and (h)(3) of this section

and conforming amendments to other

provisions of this section apply to

applicable asset acquisitions completed

on or after February 14, 1997. For

applicable asset acquisitions completed

before February 14, 1997, if section 197

does not apply to any of the acquired

assets, the provisions of the regulations

in effect before February 14, 1997 apply

(see § 1.1060–1T as contained in 26 CFR

part 1 revised April 1, 1996). For

applicable asset acquisitions completed

before February 14, 1997, if section 197

applies to any of the acquired assets, the

taxpayer (and related parties) may

consistently (in all transactions in

which AGUB (as defined in § 1.338(b)–

1), ADSP (as defined in § 1.338–3),

MADSP (as defined in § 1.338(h)(10)–1),

or consideration must be allocated

under section 338 or 1060)—

(A) Apply the provisions of this

section;
Federal Register / Vol. 62, No. 11 / Thursday, January 16, 1997 / Rules and Regulations 2273

(B) Apply the provisions of this

section as in effect before February 14,

1997 (see § 1.1060–1T as contained in

26 CFR part 1 revised April 1, 1996); or

(C) Apply the provisions of this

section as in effect before February 14,

1997 (see § 1.1060–1T as contained in

26 CFR part 1 revised April 1, 1996), but

treat all amortizable section 197

intangibles as Class IV assets.

(3) * * *

(a) * * *

(2) Effective date.

(i) In general.

(ii) Allocation of consideration.

* * * * *

(d) * * *

(2) Assets other than Class I assets.

(i) In general.

(ii) Class II assets.

(iii) Class III assets.

(iv) Class IV assets.

(v) Class V assets.

* * * * *

(h) * * *

(3) Interim procedures for Form 8594.

(b) * * *

(4) * * * The money and other

property that are treated as transferred

in exchange for the like-kind property

(and which are excluded from the assets

to which section 1060 applies) are

considered to come from the following

assets in the following order: first from

Class I assets, then from Class II assets,

then from Class III assets, then from

Class IV assets, and then from Class V

assets. * * *

* * * * *

(d) * * *

(2) Assets other than Class I assets—

(i) In general. Subject to the limitations

and other special rules of paragraph (e)

of this section, consideration (as

reduced by the amount of Class I assets)

is allocated among Class II assets

transferred by the seller in proportion to

the fair market values of such Class II

assets on the purchase date, then among

Class III assets transferred by the seller

in proportion to the fair market values

of such Class III assets on that date, then

among Class IV assets transferred by the

seller in proportion to the fair market

values of such Class IV assets on that

date, and finally to Class V assets.

(ii) Class II assets. Class II assets are

certificates of deposit, U.S. government

securities, readily marketable stock or

securities (within the meaning of

§ 1.351–1(c)(3)), foreign currency, and

other items designated in the Internal

Revenue Bulletin by the Internal

Revenue Service.

(iii) Class III assets. Class III assets are

all assets other than Class I, II, IV, and

V assets.

(iv) Class IV assets. Class IV assets are

all section 197 intangibles, as defined in

section 197, except those in the nature

of goodwill and going concern value.

(v) Class V assets. Class V assets are

section 197 intangibles in the nature of

goodwill and going concern value.

(e) * * *

(1) Allocation not to exceed fair

market value. The amount of

consideration allocated to an asset

(other than Class V assets) shall not

exceed the fair market value of that asset

on the purchase date.

* * * * *

(f) * * *

(3) * * *

(i) In general. A decrease in

consideration is allocated in the

following order: first, as a reduction in

the amount previously allocated to Class

V assets, second, as a reduction in the

amount previously allocated to Class IV

assets in proportion to their fair market

values, third, as a reduction in the

amount previously allocated to Class III

assets in proportion to their fair market

values, and finally, as a reduction in the

amount previously allocated to Class II

assets in proportion to their fair market

values. Decreases in consideration

allocated to an asset shall not exceed the

amount of consideration previously

allocated to that asset. Except as

provided in paragraph (f)(4)(ii) of this

section (relating to patents and similar

property), the fair market value is the

fair market value on the purchase date.

* * * * *

(g) * * *

Example 1. (i) On January 1, 1998, S, a sole

proprietor, sells to P, a corporation, a group

of assets which constitute a trade or business

under paragraph (b)(2) of this section. P pays

S $2,000 in cash and assumes $1,000 in

liabilities. Thus, the total consideration is

$3,000.

(ii) Assume that P acquires no Class I assets

and that on the purchase date, the fair market

values of the Class II, Class III, and Class IV

assets S sold to P are as follows:

Asset

class Asset

Fair

market

value

II ............. Portfolio of marketable

securities.

$ 400

Total Class II ............. $ 400

III ............ Furniture and fixtures .... $ 800

Building ......................... 800

Land .............................. 200

Equipment ..................... 400

Asset

class Asset

Fair

market

value

Accounts receivable ...... 100

Total Class III ................ $2,300

IV ........... Covenant not to compete.$100

Total Class IV ............... $100

(iii) Under paragraphs (d)(1) and (2) of this

section, the amount of consideration

allocable to the Class II, III, IV, and V assets

is the total consideration reduced by the

amount of any Class I assets. Since P

acquired no Class I assets, the total

consideration of $3,000 is next allocated first

to Class II, then to Class III, and then to Class

IV assets. Since the fair market value of the

Class II assets is $400, $400 of consideration

is allocated to the Class II assets. Since the

remaining amount of consideration is $2,600

($3,000 ¥ $400), an amount which exceeds

the sum of the fair market values of the Class

III assets ($2,300), the amount allocated to

each Class III asset is its fair market value.

Since, after the allocation to Class III assets,

the remaining amount of consideration is

$300 ($3,000 ¥ ($400 + $2,300)), an amount

which exceeds the fair market value of the

Class IV asset ($100), the amount allocated to

the Class IV asset is its fair market value.

Thus, the total amount allocated to the Class

II assets is $400, the total amount allocated

to the Class III assets is $2,300, and the total

amount allocated to the Class IV asset is

$100.

(iv) The amount allocated to the Class V

assets (assets in the nature of goodwill and

going concern value) is $200 (i.e., $3,000 ¥

($400 + $2,300 + $100)).

Example 2. (i) Assume the same facts as in

Example 1.Assume further that P and S each

use the calendar year as the taxable year and

that, on September 30, 1998, P files a claim

against S alleging fraud in the sale of all of

the assets.

(ii) On January 1, 2007, S refunds $400 of

the purchase price to P in a settlement of the

lawsuit.

(iii) Under paragraph (f)(3)(i) of this

section, both S and P take into account the

$400 decrease in consideration and allocate

it among the assets. First, since $200 of

consideration previously was allocated to the

assets in the nature of goodwill and going

concern value (Class V assets), $200 of the

decrease in consideration is allocated to

those assets. Then, since $100 of

consideration previously was allocated to the

only Class IV asset, the covenant not to

compete, the next $100 of the remaining

decrease in consideration ($200) is allocated

to that asset. The remaining decrease in

consideration ($100) is then allocated to the

Class III assets in proportion to their fair

market values on the purchase date as

follows:
2274 Federal Register / Vol. 62, No. 11 / Thursday, January 16, 1997 / Rules and Regulations

Asset

Fair

market

value

Allocation

fraction

Decrease in

consideration

($100 × Col. (2))

Furniture and fixtures ........................................................................................................................... $800 800/2,300 $34.78

Building ................................................................................................................................................. 800 800/2,300 34.78

Land ...................................................................................................................................................... 200 200/2,300 8.70

Equipment ............................................................................................................................................ 400 400/2,300 17.39

Accounts receivable ............................................................................................................................. 100 100/2,300 4.35

Total ........................................................................................................................................... $2,300 $100.00

(iv) In summary, the redetermined

consideration that S received for the

group of assets is $2,600 after taking

into account the decrease in

consideration. After allocating the

decrease, P’s and S’s redetermined

consideration is as follows:

Asset Original

consideration

Decrease in

consideration

Redetermined

consideration

Portfolio of marketable securities ........................................................................................... $400.00 $0.00 $400.00

Furniture and fixtures ............................................................................................................. 800.00 34.78 765.22

Building ................................................................................................................................... 800.00 34.78 765.22

Land ........................................................................................................................................ 200.00 8.70 191.30

Equipment .............................................................................................................................. 400.00 17.39 382.61

Accounts receivable ............................................................................................................... 100.00 4.35 95.65

Covenant not to compete ....................................................................................................... 100.00 100.00 0.00

Goodwill and going concern value ......................................................................................... 200.00 200.00 0.00

Total ............................................................................................................................. $3,000.00 $400.00 $2,600.00

(v) Assume that, as a result of

deductions under section 168, P’s

adjusted basis in the equipment

immediately before the decrease in

consideration is zero. P, therefore, treats

the equipment as if it were disposed of

before the decrease is taken into

account. In 2007, P recognizes income

of $17.39, the character of which is

determined under the principles of

Arrowsmith v. Commissioner, 344 U.S.

6 (1952), and the tax benefit rule. No

adjustment to the basis of P’s assets is

made for any tax paid on this amount.

Assume also that, as a result of

amortization deductions, the adjusted

basis of the covenant not to compete

and the goodwill and going concern

value immediately before the decrease

in consideration is $120. A similar

adjustment to income is made in 2007

with respect to the $180 of previously

amortized covenant not to compete and

goodwill and going concern value.

Example 3. (i) On January 1, 1998, A

transfers assets X, Y, and Z worth

$1,000 to B in exchange for assets D, E,

and F, worth $100, plus $1,000 cash.

* * * * *

(viii) A, as transferor of assets X, Y,

and Z, received $100 that must be

allocated under section 1060 and

paragraph (d) of this section. Since A

transferred no Class I, II, III, or IV assets

to which section 1060 applies, the $100

is allocated to Class V assets (assets in

the nature of goodwill and going

concern value).

* * * * *

(xi) B, as transferee of assets X, Y, and Z,

gave A $100 that must be allocated under

section 1060 and paragraph (d) of this

section. Since B received from A no Class I,

II, III, or IV assets to which section 1060

applies, the $100 consideration is allocated

by B to Class V assets (assets in the nature

of goodwill and going concern value).

Example 4. (i) On January 1, 1998, S, a sole

proprietor, sells to P, a corporation, a group

of assets which constitutes a trade or

business under paragraph (b)(2) of this

section. S, who plans to retire immediately,

also executes a covenant not to compete in

P’s favor. P pays S $3,000 in cash and

assumes $1,000 in liabilities. Thus, the total

consideration is $4,000.

(ii) On the purchase date, P and S also

execute a separate agreement that states that

the fair market values of the Class II, Class

III, and Class IV assets S sold to P are as

follows:

Asset

class Asset

Fair

market

value

II ............. Portfolio of marketable

securities.

$500

Total Class II ............. $500

III ............ Furniture and fixtures .... $800

Building ...................... 800

Land .......................... 200

Equipment ................. 400

Accounts receivable .. 200

Total Class III ................ $2,400

Asset

class Asset

Fair

market

value

IV ........... Covenant not to compete.$900

Total Class IV ............... $900

(iii) P and S each allocate the consideration

in the transaction among the assets

transferred under paragraph (d) of this

section in accordance with the agreed upon

fair market values of the assets, so that $500

is allocated to Class II assets, $2,400 is

allocated to Class III assets, $900 is allocated

to Class IV assets, and $200 ($4,000 total

consideration less $3,800 allocated to asset

classes II, III, and IV is allocated to the Class

V assets (assets in the nature of goodwill and

going concern value).

(iv) In connection with the examination of

P’s return, the District Director, in

determining the fair market values of the

assets transferred, may disregard the parties’

agreement. Assume that the District Director

correctly determines that the fair market

value of the covenant not to compete was

$100. Since the allocation of consideration

among Class II, III, and IV assets results in

allocation up to the fair market value

limitation, the $800 of unallocated

consideration resulting from the District

Director’s redetermination of the value of the

covenant not to compete is allocated to Class

V assets (assets in the nature of goodwill and

going concern value).

(h) * * *

(3) Interim procedures for Form 8594.

Until such time, if any, as Form 8594 is

revised to require otherwise, the sum of

the amounts allocated to Classes IV and
Federal Register / Vol. 62, No. 11 / Thursday, January 16, 1997 / Rules and Regulations 2275

V should be reported on Form 8594 as

Class IV assets.

Approved: December 20, 1996.

Margaret Milner Richardson,

Commissioner of Internal Revenue.

Donald C. Lubick,

Acting Assistant Secretary of the Treasury.

[FR Doc. 97–656 Filed 1–9–97; 2:53 pm]

BILLING CODE 4830–01–U

26 CFR Parts 1 and 602

[TD 8712]

RIN 1545–AU62

Definition of Private Activity Bonds

AGENCY: Internal Revenue Service (IRS),

Treasury.

ACTION: Final regulations.

SUMMARY: This document contains final

regulations on the definition of private

activity bonds applicable to tax-exempt

bonds issued by state and local

governments. These final regulations

reflect changes to the applicable law

that were made by the Technical and

Miscellaneous Revenue Act of 1988.

These regulations affect issuers of taxexempt bonds and provide needed

guidance for applying the private

activity bond restrictions.

DATES: These regulations are effective

May 16, 1997.

For dates of applicability of these

regulations, see §§ 1.141–15, 1.141–16,

1.148–6(a)(3) and 1.148–6(d)(1)(iii) of

these regulations.

FOR FURTHER INFORMATION CONTACT:

Loretta J. Finger or Nancy M. Lashnits,

(202) 622–3980 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collections of information

contained in these final regulations have

been reviewed and approved by the

Office of Management and Budget in

accordance with the Paperwork

Reduction Act (44 U.S.C. 3507) under

control number 1545–1451. Responses

to these collections of information are

mandatory. Pursuant to comments

received, the collections of information

have been amended, but the estimated

annual burden per respondent/

recordkeeper has not changed.

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.

The estimated average annual burden

hours per respondent/recordkeeper: 3

hours.

Comments concerning the accuracy of

this burden estimate and suggestions for

reducing this burden should be sent to

the Internal Revenue Service, Attn: IRS

Reports Clearance Officer, T:FP,

Washington, DC 20024, and 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.

Books or records relating to

collections 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.

Background

Removal of Existing Regulations for

Repealed Sections

Prior to the enactment of the Tax

Reduction and Simplification Act of

1977 (Pub. L. 95–30), sections 141

through 144 contained provisions of the

Internal Revenue Code of 1954 relating

to the standard deduction. Sections 141

(‘‘Standard Deduction’’), 142

(‘‘Individuals Not Eligible for Standard

Deduction’’), and 144 (‘‘Election of

Standard Deduction’’) were repealed by

section 101(d)(1) of that act. Section 143

(’’Determination of Marital Status’’) was

redesignated section 7703 by section

1301(j)(2) of the Tax Reform Act of 1986

(Pub. L. 99–514). Therefore, existing

regulations §§ 1.141–1, 1.142–1, 1.142–

2, 1.144–1, 1.144–2, and 1.144–3 are

being removed from the Code of Federal

Regulations (CFR), and regulation

§ 1.143–1 is being redesignated

§ 1.7703–1.

Proposed Regulations

On December 30, 1994, proposed

regulations (FI–72–88) were published

in the Federal Register (59 FR 67658) to

provide guidance under the Internal

Revenue Code of 1986 (Code) in

sections 141 (relating to private activity

bonds and to qualified bonds), 142

(relating to exempt-facility bonds), 145

(relating to qualified 501(c)(3) bonds),

147 (relating to other requirements

applicable to certain private activity

bonds), 148 (relating to arbitrage), 150

(relating to change of use), and 1394

(relating to enterprise zone facility

bonds). All subsequent references in

this preamble to Code sections are to the

Internal Revenue Code of 1986. On June

8, 1995, the IRS held a public hearing

on the proposed regulations. Written

comments responding to the proposed

regulations were received.

On May 31, 1996, final regulations

(FI–72–88) were published in the

Federal Register (61 FR 106) to provide

guidance under Code section 1394 to

address the issues relating to enterprise

zone facility bonds. After consideration

of all the comments, certain of the

proposed regulations under Code

sections 141, 142, 144, 145, 147, 148,

and 150 are adopted as revised by this

Treasury decision. The principal

revisions to the proposed regulations are

discussed below.

Explanation of Provisions

Certain commentators suggested that

the proposed regulations, with certain

modifications, be published again as

proposed regulations. A number of other

commentators suggested that the

proposed regulations, with certain

modifications, should be promulgated

as final regulations to provide certainty

at the earliest possible time. After

considering these comments, the IRS

and Treasury concluded that state and

local government issuers would benefit

from the adoption of the proposed

regulations, with certain modifications

made in response to comments, as final

regulations.

A. Section 1.141–1 Definitions and

rules of general application.

Replaced amounts. The proposed

regulations provide that the proceeds

taken into account under the private

activity bond tests include certain

replacement proceeds that are

reasonably expected to be available

during the project period.

The final regulations treat replaced

amounts also as arising to the extent

that the issuer reasonably expects that

the term of the issue will be longer than

is reasonably necessary for the

governmental purposes of the issue, in

the same manner as replacement

proceeds arise under the arbitrage

regulations under Code section 148.

Thus, replaced amounts may arise

under the private activity bond tests if

an issuer reasonably expects that there

will be available amounts during the

period that the bonds remain

outstanding longer than necessary for

the governmental purposes of the issue

and if those amounts are used for

purposes that are inconsistent with the

private activity bond tests.

B. Section 1.141–2 Private activity

bond tests.

1. Clarification of reasonable

expectations test. Under the proposed

regulations the private activity bond

tests depend on both reasonable

expectations as of the issue date and