19864 Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules

9Order No. 486, Regulations Implementing the

National Environmental Policy Act, 52 FR 47897

(Dec. 17, 1987), FERC Stats. & Regs. Preambles

1986–1990 ¶ 30,783 (1987).

10 18 CFR 380.4.

11See 18 CFR 380.4(a)(2)(ii), 380.4(a)(5),

380.4(a)(27).

12 5 U.S.C. 601–612.

Regulatory Commission, phone: (202)

395–3087, fax: (202) 395–7285].

IV. Environmental Analysis

The Commission is required to

prepare an Environmental Assessment

or an Environmental Impact Statement

for any action that may have a

significant adverse effect on the human

environment.9 The Commission has

categorically excluded certain actions

from these requirements as not having a

significant effect on the human

environment.10 The actions proposed to

be taken here fall within categorical

exclusions in the Commission’s

regulations for rules that are clarifying,

corrective, or procedural, for

information gathering, analysis, and

dissemination, and for sales, exchange,

and transportation of natural gas that

requires no construction of facilities.11

Therefore, an environmental assessment

is unnecessary and has not been

prepared in this rulemaking.

V. Regulatory Flexibility Act

Certification

The Regulatory Flexibility Act of 1980

(RFA) 12 generally requires a description

and analysis of final rules that will have

significant economic impact on a

substantial number of small entities.

The proposed regulations would impose

requirements only on interstate

pipelines, which are not small

businesses, and, these requirements are,

in fact, designed to reduce the difficulty

of dealing with pipelines by all

customers, including small businesses.

Accordingly, pursuant to § 605(b) of the

RFA, the Commission hereby certifies

that the regulations proposed herein

will not have a significant adverse

impact on a substantial number of small

entities.

VI. Comment Procedures

The Commission invites interested

persons to submit written comments on

the matters and issues proposed in this

notice to be adopted, including any

related matters or alternative proposals

that commenters may wish to discuss.

An original and 14 copies of comments

must be filed with the Commission no

later than May 22, 1998. Comments

should be submitted to the Office of the

Secretary, Federal Energy Regulatory

Commission, 888 First Street, NE,

Washington, DC 20426, and should refer

to Docket No. RM96–1–008. All written

comments will be placed in the

Commission’s public files and will be

available for inspection in the

Commission’s Public Reference Room at

888 First Street, NE, Washington, DC

20426, during regular business hours.

Additionally, comments should be

submitted electronically. Commenters

are encouraged to file comments using

Internet E-Mail. Comments should be

submitted through the Internet by EMail to comment.rm@ferc.fed.us in the

following format: on the subject line,

specify Docket No. RM96–1–008; in the

body of the E-Mail message, specify the

name of the filing entity and the name,

telephone number and E-Mail address of

a contact person; and attach the

comment in WordPerfect 6.1 or lower

format or in ASCII format as an

attachment to the E-Mail message. The

Commission will send a reply to the EMail to acknowledge receipt. Questions

or comments on electronic filing using

Internet E-Mail should be directed to

Marvin Rosenberg at 202–208–1283, EMail address

marvin.rosenberg@ferc.fed.us.

Commenters also can submit

comments on computer diskette in

WordPerfect 6.1 or lower format or in

ASCII format, with the name of the filer

and Docket No. RM96–1–008 on the

outside of the diskette.

List of Subjects in 18 CFR Part 284

Continental shelf, Natural gas,

Reporting and recordkeeping

requirements; Incorporation by

reference.

By direction of the Commission.

Linwood A. Watson, Jr.,

Acting Secretary.

In consideration of the foregoing, the

Commission proposes to amend Part

284, Chapter I, Title 18, Code of Federal

Regulations, as set forth below.

PART 284—CERTAIN SALES AND

TRANSPORTATION OF NATURAL GAS

UNDER THE NATURAL GAS POLICY

ACT OF 1978 AND RELATED

AUTHORITIES

1. The authority citation for Part 284

continues to read as follows:

Authority: 15 U.S.C. 717–717w, 3301–

3432; 42 U.S.C 7101–7532; 43 U.S.C 1331–

1356.

2. In section 284.10, paragraph

(b)(1)(i) is revised to read as follows:

§ 284.10 Standards for pipeline business

operations and communications.

* * * * *

(b) * * *

(1) * * *

(i) Nominations Related Standards

(Version 1.2, July 31, 1997), with the

addition of standards 1.1.17 through

1.1.19, 1.2.8 through 1.2.12, 1.3.39

through 1.3.44 (as approved March 12,

1998), the modification of standards

1.3.2, 1.3.20, 1.3.22 1.3.32 (as approved

March 12, 1998), and the deletion of

standards 1.2.7, 1.3.10, and 1.3.12;

* * * * *

[FR Doc. 98–10684 Filed 4–21–98; 8:45 am]

BILLING CODE 6717–01–P

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG–251698–96]

RIN 1545–AU77

S Corporation Subsidiaries

AGENCY: Internal Revenue Service (IRS),

Treasury.

ACTION: Notice of proposed rulemaking.

SUMMARY: This document contains

proposed regulations relating to the

treatment of corporate subsidiaries of S

corporations. The proposed regulations

interpret the rules added to the Internal

Revenue Code by section 1308 of the

Small Business Job Protection Act of

1996. The proposed regulations affect S

corporations and their subsidiaries.

DATES: Written comments must be

received by July 21, 1998.

ADDRESSES: Send submissions to

CC:DOM:CORP:R (REG–251698–96),

room 5228, 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–251698–96),

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 http://www.irs.ustreas.gov/prod/

taxlregs/comments.html.

FOR FURTHER INFORMATION CONTACT:

Concerning the regulations, Deanna L.

Walton, (202) 622–3050 (Subchapter S)

or Lee A. Dean, (202) 622–7540

(Subchapter C); concerning

submissions, Michael Slaughter, (202)

622–7190 (not toll-free numbers).
Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules 19865

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collections of information

contained in this notice of proposed

rulemaking have 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 collections 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 collections of

information should be received by June

22, 1998. Comments are specifically

requested concerning: Whether the

proposed collections of information are

necessary for the proper performance of

the functions of the Internal Revenue

Service, including whether the

collections will have a practical utility;

The accuracy of the estimated burden

associated with the proposed collections

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 collections 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 collections of information in

these proposed regulations are in

§§ 1.1361–3(a)(1), 1.1361–3(b)(1),

1.1361–5(a)(2), and 1.1362–8. The

collections of information are required

to determine the manner in which a

corporate subsidiary of an S corporation

will be treated under the Internal

Revenue Code.

These collections of information are

required to obtain a benefit. The likely

respondents and/or recordkeepers are

small businesses or organizations,

businesses or other for-profit

institutions, and farms.

Estimated total annual reporting/

recordkeeping burden: 10,110 hours.

Estimated average annual burden per

respondent/recordkeeper: 57 minutes.

Estimated number of respondents/

recordkeepers: 10,660.

Estimated annual frequency of

responses: On occasion.

An agency may not conduct or

sponsor, and a person is not required to

respond to, a collection of information

unless it 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.

Background

This document contains proposed

amendments to the Income Tax

Regulations (26 CFR part 1) relating to

S corporations and their subsidiaries

under sections 1361 and 1362 of the

Internal Revenue Code (Code). Section

1308 of the Small Business Job

Protection Act of 1996, Public Law 104–

188, 110 Stat. 1755 (the Act), modified

section 1361 of the Code to permit an

S corporation: (1) To own 80 percent or

more of the stock of a C corporation, and

(2) to elect to treat a wholly owned

subsidiary as a qualified subchapter S

subsidiary (QSSS). In Notice 97–4

(1997–2 I.R.B. 24), the IRS announced

its intention to issue regulations under

section 1308 of the Act and requested

comments on certain issues. Section

1601 of the Taxpayer Relief Act of 1997,

Public Law 105–34, 111 Stat. 788 (the

1997 Act), made a technical correction

to section 1361 to provide regulatory

authority regarding the consequences of

an election to be a QSSS.

Explanation of Provisions

Overview

Prior law prohibited an S corporation

from owning 80 percent or more of the

stock of another corporation. The Act

repealed section 1362(b)(2)(A) of the

Internal Revenue Code (Code), thereby

allowing an S corporation to own 80

percent or more of the stock of a C

corporation. The Act also added section

1504(b)(8) to the Code to prevent an S

corporation from joining in the filing of

a consolidated return with its affiliated

C corporations. A C corporation

subsidiary of an S corporation, however,

may file a consolidated return with its

affiliated C corporations. See H.R. Conf.

Rep. No. 737, 104th Cong., 2d Sess. 224

(1996).

New section 1361(b)(3)(B) defines the

term qualified subchapter S subsidiary

as any domestic corporation that is not

an ineligible corporation if, (1) an S

corporation holds 100 percent of the

stock of the corporation, and (2) that S

corporation elects to treat the subsidiary

as a QSSS. Except as otherwise

provided in regulations, a corporation

for which a QSSS election is made is

not treated as a separate corporation,

and all assets, liabilities, and items of

income, deduction, and credit of the

QSSS are treated as assets, liabilities,

and items of income, deduction, and

credit of the parent S corporation. The

legislative history accompanying section

1361(b)(3) indicates that, when the

parent corporation makes the election,

the subsidiary is deemed to have

liquidated under sections 332 and 337

immediately before the election is

effective. See S. Rep. No. 281, 104th

Cong., 2d Sess. 53 (1996); H.R. Rep. No.

586, 104th Cong., 2d Sess. 89 (1996).

However, the legislative history

accompanying the technical correction

made by the 1997 Act indicates that

regulations may provide exceptions to

that general rule. See S. Rep. No. 33,

105th Cong., 1st Sess. 320 (1997).

Section 1361(b)(3)(C) provides that

any QSSS that ceases to meet the

requirements of section 1361(b)(3)(B)

will be treated as a new corporation

acquiring all of its assets (and assuming

all of its liabilities) immediately before

the cessation from its S corporation

parent in exchange for the subsidiary’s

stock. Section 1361(b)(3)(D) provides

that a QSSS whose election has

terminated (or a successor corporation)

may not make an S election or have a

QSSS election made with respect to it

before its fifth taxable year that begins

after the first taxable year for which the

termination is effective, unless the

Secretary consents to the election.

Under current and prior law, the S

election of a corporation with

subchapter C corporation earnings and

profits terminated if that S corporation

received passive investment income,

including dividends, in excess of 25

percent of gross receipts for three

consecutive years. Section 1362(d)(3)(E)

modifies that general rule by excluding

dividends from passive investment

income to the extent that the dividends

are attributable to the active conduct of

a trade or business of a C corporation in

which the S corporation has an 80

percent or greater ownership interest.

Neither the Act nor the legislative

history provides rules for determining

the attribution of dividends to an active

trade or business.

QSSS Formation

Under the proposed regulations, an S

corporation makes a QSSS election with

respect to an eligible subsidiary by filing

a form to be developed by the IRS prior

to the time these regulations become

final. This proposes to change the

temporary election procedure provided

in Notice 97–4, which provides that a

parent S corporation files a completed

Form 966, Corporate Dissolution and
19866 Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules

Liquidation (with some modifications),

to make a QSSS election. Until these

proposed regulations are finalized,

taxpayers should continue to use the

temporary election procedure in Notice

97–4 to make QSSS elections.

The proposed regulations also provide

that the effective date of a QSSS election

may be up to 2 months and 15 days

prior to the day the QSSS election is

made. This is a slight change from the

75 day retroactive period provided in

Notice 97–4, but is consistent with the

general time period for making S

elections. Unlike the S election,

however, a QSSS election does not need

to be made within 2 months and 15 days

of the beginning of a taxable year. A

similar retroactive period is provided

for revocations of QSSS status. In

addition, a taxpayer may choose a

prospective effective date for a QSSS

election or revocation, so long as the

date selected is not more than 12

months after the date the election or

revocation is made.

The proposed regulations provide

that, when an S corporation makes a

valid QSSS election with respect to a

subsidiary, the subsidiary is deemed to

have liquidated into the parent. The tax

treatment of this liquidation, alone or in

the context of any larger transaction (for

example, a transaction that also

includes the acquisition of the

subsidiary’s stock), is generally

determined under all relevant

provisions of the Code and general

principles of tax law, including the step

transaction doctrine. However, a special

transition rule applies to certain

elections effective prior to the date that

is 60 days after publication of final

regulations in the Federal Register. The

transition rule indicates the recognition

of special concerns that may have arisen

as a result of transactions entered into

by taxpayers relying on the legislative

history to the Act and without applying

the step transaction doctrine to the

acquisition of the subsidiary’s stock

followed by a QSSS election. The IRS

requests comments concerning other

transactions occurring during the

transitional period for which relief from

the effect of application of the step

transaction doctrine may be warranted.

Special rules may apply when a QSSS

election is made following the transfer

of one S corporation’s stock to another

S corporation. For example, if an S

corporation acquires the stock of

another S corporation in a transaction in

which the acquiring S corporation’s

basis in the stock received is determined

by reference to the transferor’s basis and

makes a QSSS election with respect to

the other corporation effective on the

day of acquisition, any losses

disallowed under section 1366(d) with

respect to a former shareholder of the

QSSS will be available to that

shareholder as a shareholder of the

acquiring S corporation. Furthermore,

when stock in an S corporation is

transferred to another S corporation and

a QSSS election is made with respect to

the subsidiary effective on the day of

acquisition, the S election of the former

corporation terminates at the same

moment as the QSSS election becomes

effective. This rule ensures that the

former S corporation is not treated as a

C corporation for any period solely

because of the transfer.

Generally, the proposed regulations

treat the liquidation as occurring at the

close of the day before the QSSS

election is effective. Under this rule, if

a parent corporation makes an S

election effective on the same date as a

QSSS election with respect to a

subsidiary, the deemed liquidation

occurs at a time when the parent

corporation is still a C corporation. A

QSSS election satisfies the requirement

of adopting a plan of liquidation under

section 332.

Following the deemed liquidation, the

QSSS is not treated as a separate

corporation (except as otherwise

provided in the regulations), and all

assets, liabilities, and items of income,

deduction, and credit are treated as

those of the S corporation. Accordingly,

all such items must be reported on the

S corporation’s return required to be

filed under section 6037. A special rule

applies for the calculation of these items

where either an S corporation or its

QSSS is a bank (as defined in section

581). This special rule was first

announced in Notice 97–5 (1997–2

I.R.B. 25). Until these proposed

regulations are finalized, taxpayers

should continue to follow Notice 97–5.

QSSS Termination

The QSSS status of a corporation

continues until it terminates. The

regulations specify the date of

termination for specific terminating

events. Section 1361(b)(3)(D) provides

that, if a QSSS election terminates, the

corporation is treated as a new

corporation acquiring all of its assets

(and assuming all of its liabilities) from

the S corporation in exchange for stock

of the new corporation immediately

before the termination. The tax

treatment of this transaction or of a

larger transaction that includes this

transaction will be determined under

the Code and general principles of tax

law, including the step transaction

doctrine. Examples are provided to

illustrate situations in which the

formation of the new corporation will

qualify as a nonrecognition transaction

under section 351. The proposed

regulations also provide that, under

certain circumstances, relief may be

available under the standards

established under section 1362(f) for the

inadvertent termination of an S election.

Section 1361(b)(3)(D) provides that a

corporation whose QSSS election has

terminated (or a successor corporation)

may not make an S election or have a

QSSS election made with respect to it

for five taxable years following the

termination without the consent of the

Secretary. The proposed regulations

provide that, without requesting the

Secretary’s consent, a corporation may

make an election to be treated as an S

corporation or may have a QSSS

election made with respect to it before

the expiration of the five-year period

under certain circumstances. Consent is

not required if an otherwise valid S

election or QSSS election is made for

the former QSSS (or its successor

corporation) effective immediately

following the disposition of its stock.

Thus, the proposed regulations allow

corporations to move freely between

QSSS and S corporation status,

provided there is no intervening period

for which the corporation is treated as

a C corporation.

C Corporation Subsidiaries

The proposed regulations also provide

rules relating to certain C corporation

subsidiaries held by S corporations.

Under section 1362(d)(3)(E), dividends

received by an S corporation from a C

corporation in which the S corporation

has an 80 percent or greater ownership

interest are not treated as passive

investment income for purposes of

sections 1362 and 1375 to the extent the

dividends are attributable to the

earnings and profits of the C corporation

derived from the active conduct of a

trade or business. The proposed

regulations provide guidance for

attributing dividends to the active

conduct of a trade or business. Special

rules apply to dividends distributed by

the common parent of a consolidated

group.

Under the proposed regulations,

earnings and profits of a C corporation

derived from the active conduct of a

trade or business are the earnings and

profits of the corporation derived from

activities that would not produce

passive investment income under

section 1362(d)(3) if the C corporation

were an S corporation. The proposed

regulations provide a safe harbor under

which the corporation may determine

the amount of the active earnings and

profits by comparing the corporation’s

gross receipts derived from non-passive
Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules 19867

investment income-producing activities

with the corporation’s total gross

receipts in the year the earnings and

profits are produced. If less than 10

percent of the C corporation’s earnings

and profits for a taxable year are derived

from activities that would produce

passive investment income, all earnings

and profits produced by the corporation

during the taxable year are considered

active earnings and profits.

The proposed regulations also provide

that a C corporation may treat all

earnings and profits accumulated by the

corporation prior to the time an S

corporation held stock meeting the

requirements of section 1504(a)(2) as

active earnings and profits in the same

proportion as the C corporation’s active

earnings and profits for the three taxable

years ending prior to the time when the

S corporation acquired 80 percent of the

C corporation bear to the C corporation’s

total earnings and profits for those three

taxable years. Provisions also address

the allocation of distributions from

current or accumulated earnings and

profits.

Proposed Effective Date

The regulations are proposed to be

effective on the date that final

regulations are published in the Federal

Register. However, the IRS is

considering whether certain provisions

should be made retroactive. The IRS

requests comments concerning whether

certain provisions should be made

effective for taxable years beginning on

or after January 1, 1997.

Special Analyses

It has been determined that this notice

of proposed rulemaking is not a

significant regulatory action as defined

in EO 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 is

hereby certified that the collections of

information contained in these

regulations will not have a significant

economic impact on a substantial

number of small businesses. This

certification is based on the fact that the

economic burden imposed on taxpayers

by the collections of information and

recordkeeping requirements of these

regulations is insignificant. For

example, the estimated average annual

burden per respondent is less than one

hour. Furthermore, most taxpayers will

only have to respond to the requests for

information contained in §§ 1.1361–

3(b)(1) and 1.1361–5(a)(2) one time in

the life of the corporation. Therefore, a

Regulatory Flexibility Analysis under

the Regulatory Flexibility Act (5 U.S.C.

chapter 6) is not required.

Comments and Public Hearing

Before these proposed regulations are

adopted as final regulations,

consideration will be given to any

written comments (preferably a signed

original and eight (8) copies) that are

timely submitted to the IRS. All

comments will be available for public

inspection and copying.

A public hearing will be scheduled in

the Internal Revenue Building, 1111

Constitution Avenue, NW., Washington,

DC. The IRS recognizes that persons

outside the Washington, DC, area also

may wish to testify at the public hearing

through teleconferencing. Requests to

include teleconferencing sites must be

received by June 22, 1998. If the IRS

receives sufficient indications of interest

to warrant teleconferencing to a

particular city, and if the IRS has

teleconferencing facilities available in

that city on the date the public hearing

is to be scheduled, the IRS will try to

accommodate the requests.

The IRS will publish the time and

date of the public hearing and the

locations of any teleconferencing sites

in an announcement in the Federal

Register.

Drafting Information

The principal authors of these

proposed regulations are Deanna L.

Walton, Office of the Assistant Chief

Counsel (Passthroughs and Special

Industries); and Lee A. Dean, Office of

the Assistant Chief Counsel (Corporate).

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.

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. Amend § 1.1361–0 as follows:

1. Revise the introductory text.

2. Remove the entry for § 1.1361–

1(d)(3).

3. Add entries for §§ 1.1361–2,

1.1361–3, 1.1361–4, .1361–5, and

1.1361–6.

The revisions and additions read as

follows:

Section 1.1361–0 Table of Contents

This section lists captions contained

in §§ 1.1361–1, 1.1361–2, 1.1361–3,

1.1361–4, 1.1361–5, and 1.1361–6.

* * * * *

Section 1.1361–2 Definitions Relating to S

Corporation Subsidiaries

(a) In general.

(b) Stock treated as held by S corporation.

(c) Examples.

Secton 1.1361–3 QSSS Election

(a) Time and manner of making election.

(1) In general.

(2) Time of making election.

(3) Effective date of election.

(4) Example.

(5) Extension of time for making a QSSS

election.

(b) Revocation of QSSS election.

(1) Manner of revoking QSSS election.

(2) Effective date of revocation.

(3) Revocation after termination.

Section 1.1361–4 Effect of QSSS Election.

(a) Separate existence ignored.

(1) In general.

(2) Liquidation of subsidiary.

(3) Treatment of banks.

(i) In general.

(ii) Examples.

(4) Treatment of stock of QSSS.

(5) Transitional relief.

(i) General rule.

(ii) Examples.

(b) Timing of the liquidation.

(1) In general.

(2) Acquisitions.

(3) Coordination with section 338 election.

(c) Carryover of disallowed losses and

deductions.

(d) Examples.

Section 1.1361–5 Termination of QSSS

Election

(a) In general.

(1) Effective date.

(2) Information to be provided upon

termination of QSSS election by failure to

qualify as a QSSS.

(3) Examples.

(b) Effect of termination of QSSS election.

(1) Formation of new corporation.

(2) Carryover of disallowed losses and

deductions.

(3) Examples.

(c) Inadvertent terminations.

(d) Election after QSSS termination.

(1) In general.

(2) Exception.

(3) Examples.

Section 1.1361–6 Effective Date

Par. 3. Amend § 1.1361–1 as follows:

1. Revise paragraph (b)(1)(i).

2. Remove paragraph (d)(1)(i).

3. Redesignate paragraphs (d)(1)(ii),

(d)(1)(iii), (d)(1)(iv), and (d)(1)(v) as

paragraphs (d)(1)(i), (d)(1)(ii), (d)(1)(iii),

and (d)(1)(iv), respectively.

4. Revise newly designated paragraph

(d)(1)(i).
19868 Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules

5. Remove paragraph (d)(3).

6. Revise the first sentence of

paragraph (e)(1).

The revisions read as follows:

§ 1.1361–1 S corporation defined.

* * * * *

(b) * * *

(1) * * *

(i) More than 75 shareholders (35 for

taxable years beginning before January

1, 1997);

* * * * *

(d) * * *

(1) * * *

(i) For taxable years beginning on or

after January 1, 1997, a financial

institution that uses the reserve method

of accounting for bad debts described in

section 585 (for taxable years beginning

prior to January 1, 1997, a financial

institution to which section 585 applies

(or would apply but for section 585(c))

or to which section 593 applies);

* * * * *

(e) * * *

(1) General rule. A corporation does

not qualify as a small business

corporation if it has more than 75

shareholders (35 for taxable years

beginning prior to January 1, 1997).

* * *

* * * * *

Par. 4. Add §§ 1.1361–2, 1.1361–3,

1.1361–4, 1.1361–5, and 1.1361–6 to

read as follows:

§ 1.1361–2 Definitions relating to S

corporation subsidiaries.

(a) In general. The term qualified

subchapter S subsidiary (QSSS) means

any domestic corporation that is not an

ineligible corporation (as defined in

section 1361(b)(2) and the regulations

thereunder), if—

(1) 100 percent of the stock of such

corporation is held by an S corporation;

and

(2) The S corporation properly elects

to treat the subsidiary as a QSSS under

§ 1.1361–3.

(b) Stock treated as held by S

corporation. For purposes of satisfying

the 100 percent stock ownership

requirement in section 1361(b)(3)(B)(i)

and paragraph (a)(1) of this section,

stock of a corporation is treated as held

by an S corporation if the S corporation

is the owner of that stock for federal

income tax purposes.

(c) Examples. The following examples

illustrate the application of this section:

Example 1. X, an S corporation, owns 100

percent of Y, a corporation for which a valid

QSSS election is in effect for the taxable year.

Y owns 100 percent of Z, a corporation

otherwise eligible for QSSS status. X may

elect to treat Z as a QSSS under section

1361(b)(3)(B)(ii).

Example 2. Assume the same facts as in

Example 1, except that Y is a business entity

that is disregarded as an entity separate from

its owner under § 301.7701–2(c)(2) of this

chapter. X may elect to treat Z as a QSSS.

Example 3. Assume the same facts as in

Example 1, except that Y owns 50 percent of

Z, and X owns the other 50 percent. X may

elect to treat Z as a QSSS.

Example 4. Assume the same facts as in

Example 1, except that Y is a C corporation.

Although Y is a domestic corporation that is

otherwise eligible to be a QSSS, no QSSS

election has been made for Y. Thus, X is not

treated as holding the stock of Z.

Consequently, X may not elect to treat Z as

a QSSS.

§ 1.1361–3 QSSS election.

(a) Time and manner of making

election—(1) In general. Except as

provided in section 1361(b)(3)(D) and

§ 1.1361–5(d) (five-year prohibition on

re-election), an S corporation may elect

to treat an eligible subsidiary as a QSSS

by filing a completed form to be

prescribed by the Internal Revenue

Service. The election form must be

signed by a person authorized to sign

the S corporation’s return required to be

filed under section 6037 and must be

submitted to the service center where

the subsidiary filed its most recent tax

return (if applicable). If an S corporation

forms a subsidiary and makes a valid

QSSS election (effective upon the date

of the subsidiary’s formation) for the

subsidiary, the election should be

submitted to the service center where

the S corporation filed its most recent

return.

(2) Time of making election. A QSSS

election may be made by the S

corporation parent at any time during

the taxable year.

(3) Effective date of election. A QSSS

election will be effective on the date

specified on the election form or on the

date the election form is filed if no date

is specified. The effective date specified

on the form can not be more than 2

months and 15 days prior to the date of

filing and can not be more than 12

months after the date of filing. For this

purpose, the definition of the term

‘‘month’’ found in § 1.1362–6(a)(2)(ii)(C)

applies. If an election form specifies an

effective date more than 2 months and

15 days prior to the date on which the

election form is filed, it will be effective

2 months and 15 days prior to the date

it is filed. If an election form specifies

an effective date more than 12 months

after the date on which the election is

filed, it will be effective 12 months after

the date it is filed. The corporation for

which the QSSS election is made must

meet all the requirements of section

1361(b)(3)(B) at the time the election is

made and for all periods for which the

election is to be effective.

(4) Example. The following example

illustrates the application of paragraph

(a)(3) of this section:

Example. X has been a calendar year S

corporation engaged in a trade or business for

several years. X acquires the stock of Y, a

calendar year C corporation, on April 1,

1998. On August 10, 1998, X makes an

election to treat Y as a QSSS. Unless

otherwise specified on the election form, the

election will be effective as of August 10,

1998. If specified on the election form, the

election may be effective on some other date

that is not more than 2 months and 15 days

prior to August 10, 1998, and not more than

12 months after August 10, 1998.

(5) Extension of time for making a

QSSS election. An extension of time to

make a QSSS election may be available

under the procedures applicable under

§§ 301.9100–1 and 301.9100–3 of this

chapter.

(b) Revocation of QSSS election—(1)

Manner of revoking QSSS election. An

S corporation may revoke a QSSS

election under section 1361 by filing a

statement with the service center where

the S corporation’s most recent tax

return was properly filed. The

revocation statement must include the

names, addresses, and taxpayer

identification numbers of both the

parent S corporation and the QSSS. The

statement must be signed by a person

authorized to sign the S corporation’s

return required to be filed under section

6037.

(2) Effective date of revocation. The

revocation of a QSSS election is

effective on the date specified on the

revocation statement or on the date the

revocation statement is filed if no date

is specified. The effective date specified

on the revocation statement can not be

more than 2 months and 15 days prior

to the date on which the revocation

statement is filed and can not be more

than 12 months after the date on which

the revocation statement is filed. If a

revocation statement specifies an

effective date more than 2 months and

15 days prior to the date on which the

statement is filed, it will be effective 2

months and 15 days prior to the date it

is filed. If a revocation statement

specifies an effective date more than 12

months after the date on which the

statement is filed, it will be effective 12

months after the date it is filed.

(3) Revocation after termination. A

revocation may not be made after the

occurrence of an event that renders the

subsidiary ineligible for QSSS status

under section 1361(b)(3)(B).

§ 1.1361–4 Effect of QSSS election.

(a) Separate existence ignored—(1) In

general. Except as otherwise provided

in paragraph (a)(3) of this section, for

federal tax purposes—
Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules 19869

(i) A corporation which is a QSSS

shall not be treated as a separate

corporation; and

(ii) All assets, liabilities, and items of

income, deduction, and credit of a QSSS

shall be treated as assets, liabilities, and

items of income, deduction, and credit

of the S corporation.

(2) Liquidation of subsidiary. If an S

corporation makes a valid QSSS

election with respect to a subsidiary, the

subsidiary is deemed to have liquidated

into the S corporation. Except as

provided in paragraph (a)(5) of this

section, the tax treatment of the

liquidation or of a larger transaction that

includes the liquidation will be

determined under the Internal Revenue

Code and general principles of tax law,

including the step transaction doctrine.

Thus, for example, if an S corporation

forms a subsidiary and makes a valid

QSSS election (effective upon the date

of the subsidiary’s formation) for the

subsidiary, there will be no deemed

liquidation of the new subsidiary.

Instead, the corporation will be deemed

to be a QSSS from its inception. For

purposes of section 332, the making of

a QSSS election satisfies the

requirement of adopting a plan of

liquidation.

(3) Treatment of banks—(i) In general.

If an S corporation is a bank, or if an S

corporation makes a valid QSSS

election for a subsidiary that is a bank,

any special rules applicable to banks

under the Internal Revenue Code

continue to apply separately to the bank

parent or bank subsidiary as if the

deemed liquidation of any QSSS under

paragraph (a)(2) of this section had not

occurred. For any QSSS that is a bank,

however, all assets, liabilities, and items

of income, deduction, and credit of the

QSSS, as determined in accordance

with the special bank rules, are treated

as assets, liabilities, and items of

income, deduction, and credit of the S

corporation. For purposes of this

paragraph (a)(3)(i), the term ‘‘bank’’ has

the same meaning as in section 581.

(ii) Examples. The following

examples illustrate the application of

this paragraph (a)(3):

Example 1. X, an S corporation, is a bank

as defined in section 581. X owns 100

percent of Y and Z, corporations for which

valid QSSS elections are in effect. Y is a bank

as defined in section 581, and Z is not a

financial institution. Pursuant to paragraph

(a)(3)(i) of this section, any special rules

applicable to banks under the Internal

Revenue Code continue to apply separately

to X and Y and do not apply to Z. Thus, for

example, section 265(b), which provides

special rules for interest expense deductions

of banks, applies separately to X and Y. That

is, X and Y each must make a separate

determination under section 265(b) of

interest expense allocable to tax-exempt

interest, and no deduction is allowed for that

interest expense.

Example 2. X, an S corporation, is a bank

holding company and thus is not a bank as

defined in section 581. X owns 100 percent

of Y, a corporation for which a valid QSSS

election is in effect. Y is a bank as defined

in section 581. Pursuant to paragraph (a)(3)(i)

of this section, any special rules applicable

to banks under the Internal Revenue Code

continue to apply to Y and do not apply to

X. However, all of Y’s assets, liabilities, and

items of income, deduction, and credit, as

determined in accordance with the special

bank rules, are treated as those of X. Thus,

for example, section 582(c), which provides

special rules for sales and exchanges of debt

by banks, applies only to sales and exchanges

by Y. However, any gain or loss on such a

transaction by Y that is considered ordinary

income or ordinary loss pursuant to section

582(c) is treated as ordinary income or

ordinary loss of X.

(4) Treatment of stock of QSSS.

Except for purposes of section

1361(b)(3)(B)(i) and § 1.1361–2(a)(1), the

stock of a QSSS shall be disregarded for

all federal tax purposes.

(5) Transitional relief—(i) General

rule. If an S corporation and another

corporation (the related corporation) are

persons specified in section 267(b) prior

to an acquisition by the S corporation of

some or all of the stock of the related

corporation followed by a QSSS election

for the related corporation, the step

transaction doctrine will not apply to

determine the tax consequences of the

acquisition. This paragraph (a)(5) shall

apply to QSSS elections effective prior

to the date that is 60 days after

publication of final regulations in the

Federal Register.

(ii) Examples. The following

examples illustrate the application of

this paragraph (a)(5):

Example 1. Individual A owns 100 percent

of the stock of X, an S corporation. X owns

79 percent of the stock of Y, a solvent

corporation, and A owns the remaining 21

percent. On May 4, 1998, A contributes its Y

stock to X in exchange for X stock. X makes

a QSSS election with respect to Y effective

immediately following the transfer. The

liquidation described in paragraph (a)(2) of

this section is respected as an independent

step separate from the stock acquisition, and

the tax consequences of the liquidation are

determined under sections 332 and 337. The

contribution by A of the Y stock qualifies

under section 351, and no gain or loss is

recognized by A, X, or Y.

Example 2. Individual A owns 100 percent

of the stock of two solvent S corporations, X

and Y. On May 4, 1998, A contributes the

stock of Y to X. X makes a QSSS election

with respect to Y immediately following the

transfer. The liquidation described in

paragraph (a)(2) of this section is respected

as an independent step separate from the

stock acquisition, and the tax consequences

of the liquidation are determined under

sections 332 and 337. The contribution by A

of the Y stock to X qualifies under section

351, and no gain or loss is recognized by A,

X, or Y. Y is not treated as a C corporation

for any period solely because of the transfer

of its stock to X, an ineligible shareholder.

See § 1.1362–2(b)(4).

(b) Timing of the liquidation—(1) In

general. Except as otherwise provided

in paragraphs (b)(2) or (b)(3) of this

section, the liquidation described in

paragraph (a)(2) of this section occurs at

the close of the day before the QSSS

election is effective. Thus, for example,

if a C corporation elects to be treated as

an S corporation and makes a QSSS

election (effective the same date as the

S election) with respect to a subsidiary,

the liquidation occurs immediately

before the S election becomes effective,

while the S electing parent is still a C

corporation.

(2) Acquisitions. If an S corporation

does not own 100 percent of the stock

of the subsidiary on the day before the

QSSS election is effective, the

liquidation described in paragraph (a)(2)

of this section occurs immediately after

the time at which the S corporation first

owns 100 percent of the stock.

(3) Coordination with section 338

election. An S corporation that makes a

qualified stock purchase of a target may

make an election under section 338 with

respect to the acquisition if it meets the

requirements for the election, and may

make a QSSS election with respect to

the target. If an S corporation makes an

election under section 338 with respect

to a subsidiary acquired in a qualified

stock purchase, a QSSS election made

with respect to that subsidiary is not

effective before the day after the

acquisition date (within the meaning of

section 338(h)(2)). If the QSSS election

is effective on the day after the

acquisition date, the liquidation under

paragraph (a)(2) of this section occurs

immediately after the deemed asset

purchase by the new target corporation

under section 338. If an S corporation

makes an election under section 338

(without a section 338(h)(10) election)

with respect to a target, the target must

file a final or deemed sale return as a C

corporation reflecting the deemed sale.

See § 1.338–1(e).

(c) Carryover of disallowed losses and

deductions. If an S corporation (S1)

acquires the stock of another S

corporation (S2) in a transaction in

which the basis of the S2 stock is

determined in whole or in part by

reference to the transferor’s basis, and

S1 makes a QSSS election with respect

to S2 effective on the day of the

acquisition, any loss or deduction

disallowed under section 1366(d) with

respect to a former shareholder of S2 is
19870 Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules

available to that shareholder as a

shareholder of S1. Thus, a loss or

deduction of a shareholder of S2

disallowed prior to or during the taxable

year of the transaction is treated as

incurred by S1 with respect to that

shareholder if the shareholder is a

shareholder of S1 after the transaction.

(d) Examples. The following examples

illustrate the application of this section:

Example 1. X, an S corporation, owns 100

percent of the stock of Y, a C corporation. On

June 2, 1998, X makes a valid QSSS election

for Y, effective June 2, 1998. Assume that,

under general principles of tax law,

including the step transaction doctrine, X’s

acquisition of the Y stock and the subsequent

QSSS election would not be treated as

related. The liquidation described in

paragraph (a)(2) of this section occurs at the

close of the day on June 1, 1998, the day

before the QSSS election is effective, and the

plan of liquidation is considered adopted on

that date. Y’s taxable year and separate

existence for federal tax purposes end at the

close of June 1, 1998.

Example 2. X, a C corporation, owns 100

percent of the stock of Y, another C

corporation. On December 31, 1998, X makes

an election under section 1362 to be treated

as an S corporation and a valid QSSS

election for Y, both effective January 1, 1999.

Assume that, under general principles of tax

law, including the step transaction doctrine,

X’s acquisition of the Y stock and the

subsequent QSSS election would not be

treated as related. The liquidation described

in paragraph (a)(2) of this section occurs at

the close of December 31, 1998, the day

before the QSSS election is effective. The

QSSS election for Y is effective on the same

day that X’s S election is effective, and the

deemed liquidation is treated as occurring

before the S election is effective, when X is

still a C corporation. Y’s taxable year ends at

the close of December 31, 1998. See

§ 1.381(b)–1.

Example 3. On June 1, 1998, X, an S

corporation, acquires 100 percent of the stock

of Y, an existing S corporation, for cash in

a transaction meeting the requirements of a

qualified stock purchase (QSP) under section

338. X immediately makes a QSSS election

for Y effective June 2, 1998, and also makes

a joint election under section 338(h)(10) with

the shareholder of Y. Under section 338(a)

and § 1.338(h)(10)–1, Y is treated as having

sold all of its assets at the close of the

acquisition date, June 1, 1998. Y is treated as

a new corporation which purchased all of

those assets as of the beginning of June 2,

1998, the day after the acquisition date.

Section 338(a)(2). The QSSS election is

effective on June 2, 1998, and the liquidation

under paragraph (a)(2) of this section occurs

immediately after the deemed asset purchase

by the new corporation.

Example 4. X, an S corporation, owns 100

percent of Y, a corporation for which a QSSS

election is in effect. On May 12, 1998, a date

on which the QSSS election is in effect, X

issues Y a $10,000 note under state law that

matures in ten years with a market rate of

interest. Y is not treated as a separate

corporation, and X’s issuance of the note to

Y on May 12, 1998, is disregarded for federal

tax purposes.

Example 5. X, an S corporation, owns 100

percent of the stock of Y, a C corporation. At

a time when Y is indebted to X in an amount

which exceeds the fair market value of Y’s

assets, X makes a QSSS election effective on

the date it is filed with respect to Y. The

liquidation described in paragraph (a)(2) of

this section does not qualify under sections

332 and 337 and, thus, Y recognizes gain or

loss on the assets distributed, subject to the

limitations of section 267.

§ 1.1361–5 Termination of QSSS election.

(a) In general—(1) Effective date. The

termination of a QSSS election is

effective—

(i) On the effective date contained in

the revocation statement if a QSSS

election is revoked under § 1.1361–3(b);

(ii) At the close of the last day of the

parent’s last taxable year as an S

corporation if the parent’s S election

terminates under § 1.1362–2; or

(iii) At the close of the day on which

an event (other than an event described

in paragraph (a)(1)(ii) of this section)

occurs that renders the subsidiary

ineligible for QSSS status under section

1361(b)(3)(B).

(2) Information to be provided upon

termination of QSSS election by failure

to qualify as a QSSS. If a QSSS election

terminates because an event renders the

subsidiary ineligible for QSSS status,

the S corporation must attach to its

return for the taxable year in which the

termination occurs a notification that a

QSSS election has terminated, the date

of the termination, and the names,

addresses, and employer identification

numbers of both the parent corporation

and the QSSS.

(3) Examples. The following examples

illustrate the application of this

paragraph (a):

Example 1. Termination because parent’s S

election terminates. X, an S corporation,

owns 100 percent of Y. A QSSS election is

in effect with respect to Y for 1998. Effective

on January 1, 1999, X revokes its S election.

Because X is no longer an S corporation, Y

no longer qualifies as a QSSS at the close of

December 31, 1998.

Example 2. Termination due to transfer of

QSSS stock. X, an S corporation, owns 100

percent of Y. A QSSS election is in effect

with respect to Y for 1998. On December 10,

1998, X sells one share of Y stock to A, an

individual. Because X no longer owns 100

percent of the stock of Y, Y no longer

qualifies as a QSSS. Accordingly, the QSSS

election made with respect to Y terminates at

the close of December 10, 1998.

Example 3. No termination on stock

transfer between QSSS and parent. X, an S

corporation, owns 100 percent of the stock of

Y and Y owns 100 percent of the stock of Z.

QSSS elections are in effect with respect to

both Y and Z. Y transfers all of its Z stock

to X. Because X is treated as owning the stock

of Z both before and after the transfer of stock

solely for purposes of determining whether

the requirements of section 1361(b)(3)(B)(i)

and § 1.1361–2(a)(1) have been satisfied, the

transfer of Z stock does not terminate Z’s

QSSS election. Because the stock of Z is

disregarded for all other federal tax purposes,

no gain is recognized under section 311.

(b) Effect of termination of QSSS

election—(1) Formation of new

corporation. If a QSSS election

terminates under paragraph (a) of this

section, the former QSSS is treated as a

new corporation acquiring all of its

assets (and assuming all of its liabilities)

immediately before the termination

from the S corporation parent in

exchange for stock of the new

corporation. The tax treatment of this

transaction or of a larger transaction that

includes this transaction will be

determined under the Internal Revenue

Code and general principles of tax law,

including the step transaction doctrine.

(2) Carryover of disallowed losses and

deductions. If a QSSS terminates

because the S corporation distributes

the QSSS stock to some or all of the S

corporation’s shareholders in a

transaction to which section

368(a)(1)(D) applies by reason of section

355 (or so much of section 356 as relates

to section 355), any loss or deduction

disallowed under section 1366(d) with

respect to a shareholder of the S

corporation immediately before the

distribution is allocated between the S

corporation and the former QSSS with

respect to the shareholder. The amount

of the disallowed loss or deduction

allocated to the S corporation is an

amount that bears the same ratio to each

item of disallowed loss or deduction as

the value of the shareholder’s stock in

the S corporation bears to the total value

of the shareholder’s stock in both the S

corporation and the former QSSS, in

each case as determined immediately

after the distribution.

(3) Examples. The following examples

illustrate the application of this

paragraph (b):

Example 1. X, an S corporation, owns 100

percent of the stock of Y, a corporation for

which a QSSS election is in effect. X sells 21

percent of the Y stock to Z, an unrelated

corporation, for cash, thereby terminating the

QSSS election. Y is treated as a new

corporation acquiring all of its assets (and

assuming all of its liabilities) in exchange for

Y stock immediately before the termination

from the S corporation. The deemed

exchange by X of assets for Y stock does not

qualify under section 351 because X is not in

control of Y within the meaning of section

368(c) immediately after the transfer as a

result of the sale of stock to Z. Therefore, X

must recognize gain, if any, on the assets

transferred to Y in exchange for its stock. X’s

losses, if any, on the assets transferred are

subject to the limitations of section 267.
Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules 19871

Example 2. Assume the same facts as in

Example 1, except that, instead of purchasing

Y stock, Z contributes to Y an operating asset

in exchange for 21 percent of the Y stock. Y

is treated as a new corporation acquiring all

of its assets (and assuming all of its

liabilities) in exchange for Y stock

immediately before the termination. Because

X and Z are co-transferors that control the

transferee immediately after the transfer, the

transaction qualifies under section 351.

Example 3. X, an S corporation, owns 100

percent of the stock of Y, a corporation for

which a QSSS election is in effect. X

distributes all of the Y stock pro rata to its

shareholders, and the distribution terminates

the QSSS election. The transaction can

qualify as a distribution to which sections

368(a)(1)(D) and 355 apply if the transaction

otherwise satisfies the requirements of those

sections.

Example 4. X, an S corporation, owns 100

percent of the stock of Y, a corporation for

which a QSSS election is in effect. X

subsequently revokes the QSSS election. Y is

treated as a new corporation acquiring all of

its assets (and assuming all of its liabilities)

immediately before the revocation from its S

corporation parent in a deemed exchange for

Y stock. On a subsequent date, X sells 21

percent of the stock of Y to Z, an unrelated

corporation, for cash. Assume that under

general principles of tax law including the

step transaction doctrine, the sale is not

taken into account in determining whether X

is in control of Y immediately after the

deemed exchange of assets for stock. The

deemed exchange by X of assets for Y stock

and the deemed assumption by Y of its

liabilities qualify under section 351 because,

for purposes of that section, X is in control

of Y within the meaning of section 368(c)

immediately after the transfer.

(c) Inadvertent terminations. Relief

from the consequences of an inadvertent

termination of a QSSS election may be

available under the standards

established by the Commissioner for the

inadvertent termination of an S election

under § 1.1362–4.

(d) Election after QSSS termination—

(1) In general. Absent the

Commissioner’s consent, and except as

provided in paragraph (d)(2) of this

section, a corporation whose QSSS

election has terminated under paragraph

(a) of this section (or a successor

corporation as defined in § 1.1362–5(b))

may not make an S election under

section 1362 or have a QSSS election

under section 1361(b)(3)(B)(ii) made

with respect to it for five taxable years

(as described in section 1361(b)(3)(D)).

The Commissioner may permit an S

election by the corporation or a new

QSSS election with respect to the

corporation before the 5-year period

expires. The corporation requesting

consent to make the election has the

burden of establishing that, under the

relevant facts and circumstances, the

Commissioner should consent to a new

election.

(2) Exception. If a corporation’s QSSS

election terminates by reason of a

disposition of the corporation’s stock,

the corporation may, without requesting

the Commissioner’s consent, make an S

election or have a QSSS election made

with respect to it before the expiration

of the five-year period described in

section 1361(b)(3)(D) and paragraph

(d)(1) of this section, provided that—

(i) Immediately following the

disposition of its stock, the corporation

(or its successor corporation) is

otherwise eligible to make an S election

or have a QSSS election made for it; and

(ii) The relevant election is made

effective immediately following the

disposition of the stock of the

corporation.

(3) Examples. The following examples

illustrate the application of this

paragraph (d):

Example 1. Termination upon distribution

of QSSS stock to shareholders of parent. X,

an S corporation, owns Y, a QSSS. X

distributes all of its Y stock to X’s

shareholders. The distribution terminates the

QSSS election because Y no longer satisfies

the requirements of a QSSS. Assuming Y is

otherwise eligible to be treated as an S

corporation, Y’s shareholders may elect to

treat Y as an S corporation effective on the

date of the stock distribution without

requesting the Commissioner’s consent.

Example 2. Sale of 100 percent of QSSS

stock. X, an S corporation, owns Y, a QSSS.

X sells 100 percent of the stock of Y to Z, an

unrelated S corporation. Z may elect to treat

Y as a QSSS effective on the date of purchase

without requesting the Commissioner’s

consent.

§ 1.1361–6 Effective date.

Except as provided in § 1.1361–

4(a)(5)(i), the provisions of §§ 1.1361–2

through 1.1361–5 apply to taxable years

beginning on or after the date that final

regulations are published in the Federal

Register.

Par. 5. Amend § 1.1362–0 as follows:

1. Add an entry for § 1.1362–2(b)(4).

2. Add entries for § 1.1362–8.

The additions read as follows:

§ 1.1362–0 Table of contents.

* * * * *

Section 1.1362–2 Termination of Election

* * * * *

(b) * * *

(4) Termination when stock transferred to

another S corporation.

* * * * *

Section 1.1362–8 Dividends Received From

Affiliated Subsidiaries

(a) In general.

(b) Determination of active or passive

earnings and profits.

(1) In general.

(2) Lower tier subsidiaries.

(3) De minimis exception.

(4) Special rules for earnings and profits

accumulated by a C corporation prior to 80

percent acquisition.

(5) Gross receipts safe harbor.

(c) Allocating distributions to active or

passive earnings and profits.

(1) Distributions from current earnings and

profits.

(2) Distributions from accumulated

earnings and profits.

(3) Adjustments to active earnings and

profits.

(4) Special rules for consolidated groups.

(d) Examples.

(e) Effective date.

Par. 6. Amend § 1.1362–2 as follows:

1. Amend paragraph (b)(1) by adding

a sentence to the end of the paragraph.

2. Add paragraph (b)(4).

3. Amend paragraph (c)(5)(ii)(C) by

adding a sentence to the end of the

paragraph.

The additions read as follows:

§ 1.1362–2 Termination of election.

* * * * *

(b) * * *

(1) * * * See paragraph (b)(4) of this

section for a special rule applying to the

termination of an S election caused by

the transfer of the corporation’s stock to

another S corporation.

* * * * *

(4) Termination when stock

transferred to another S corporation. If

all of the stock of an S corporation (S1)

is transferred to another S corporation

(S2) and a QSSS election for S1 is made

effective as of the day of the transfer,

S1’s S election terminates at the same

time as the deemed liquidation under

§ 1.1361–4(a)(2). Accordingly, S1 is not

treated as a C corporation for any period

solely because of the transfer of S1 stock

to S2, an ineligible S corporation

shareholder. See, however, § 1.338–

1(e)(3) if an election under section 338

(without an election under section

338(h)(10)) is made. This paragraph

(b)(4) is effective on the date final

regulations are published in the Federal

Register.

(c) * * *

(5) * * *

(ii) * * *

(C) * * * See § 1.1362–8 for special

rules regarding the treatment of

dividends received by an S corporation

from a C corporation in which the S

corporation holds stock meeting the

requirements of section 1504(a)(2).

* * * * *

Par. 7. Add § 1.1362–8 to read as

follows:

§ 1.1362–8 Dividends received from

affiliated subsidiaries.

(a) In general. For purposes of section

1362(d)(3), if an S corporation holds

stock in a C corporation meeting the
19872 Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules

requirements of section 1504(a)(2), the

term ‘‘passive investment income’’ does

not include dividends from the C

corporation to the extent those

dividends are attributable to the

earnings and profits of the C corporation

derived from the active conduct of a

trade or business (‘‘active earnings and

profits’’). For purposes of applying

section 1362(d)(3), earnings and profits

of a C corporation are active earnings

and profits to the extent that the

earnings and profits are derived from

activities that would not produce

passive investment income (as defined

in section 1362(d)(3)) if the C

corporation were an S corporation.

(b) Determination of active or passive

earnings and profits—(1) In general. An

S corporation may use any reasonable

method to determine the amount of

dividends that are not treated as passive

investment income under section

1362(d)(3)(E). Paragraph (b)(5) of this

section describes a method of

determining the amount of dividends

that are not treated as passive

investment income under section

1362(d)(3)(E) that is deemed to be

reasonable under all circumstances.

(2) Lower tier subsidiaries. If a C

corporation subsidiary (upper tier

corporation) holds stock in another C

corporation (lower tier subsidiary)

meeting the requirements of section

1504(a)(2), the upper tier corporation’s

gross receipts attributable to a dividend

from the lower tier subsidiary are

considered to be derived from the active

conduct of a trade or business to the

extent the lower tier subsidiary’s

earnings and profits are attributable to

the active conduct of a trade or business

by the subsidiary under paragraph

(b)(1), (b)(3), (b)(4), or (b)(5) of this

section. For purposes of this section,

distributions by the lower tier

subsidiary will be considered

attributable to active earnings and

profits according to the rule in

paragraph (c) of this section. This

paragraph (b)(2) does not apply to any

member of a consolidated group (as

defined in § 1.1502–1(h)).

(3) De minimis exception. If less than

10 percent of a C corporation’s earnings

and profits for a taxable year are derived

from activities that would produce

passive investment income if the C

corporation were an S corporation, all

earnings and profits produced by the

corporation during that taxable year are

considered active earnings and profits.

(4) Special rules for earnings and

profits accumulated by a C corporation

prior to 80 percent acquisition. A C

corporation may treat all earnings and

profits accumulated by the corporation

in all taxable years ending before the S

corporation held stock meeting the

requirements of section 1504(a)(2) as

active earnings and profits in the same

proportion as the C corporation’s active

earnings and profits for the three taxable

years ending prior to the time when the

S corporation acquired 80 percent of the

C corporation bears to the C

corporation’s total earnings and profits

for those three taxable years.

(5) Gross receipts safe harbor. A

corporation may treat its earnings and

profits for a year as active earnings and

profits in the same proportion as the

corporation’s gross receipts (as defined

in § 1.1362–2(c)(4)) derived from

activities that would not produce

passive investment income (if the C

corporation were an S corporation),

including those that do not produce

passive investment income under

paragraphs (b)(2) through (b)(4) of this

section, bear to the corporation’s total

gross receipts for the year in which the

earnings and profits are produced.

(c) Allocating distributions to active

or passive earnings and profits—(1)

Distributions from current earnings and

profits. Dividends distributed by a C

corporation from current earnings and

profits are attributable to active earnings

and profits in the same proportion as

current active earnings and profits bear

to total current earnings and profits of

the C corporation.

(2) Distributions from accumulated

earnings and profits. Dividends

distributed by a C corporation out of

accumulated earnings and profits for a

taxable year are attributable to active

earnings and profits in the same

proportion as accumulated active

earnings and profits for that taxable year

bear to total accumulated earnings and

profits for that taxable year immediately

prior to the distribution.

(3) Adjustments to active earnings

and profits. For purposes of applying

paragraph (c)(1) or (c)(2) of this section

to a distribution, the active earnings and

profits of a corporation shall be reduced

by the amount of any prior distribution

properly treated as attributable to active

earnings and profits from the same

taxable year.

(4) Special rules for consolidated

groups. For purposes of applying

section 1362(d)(3) and this section to

dividends received by an S corporation

from the common parent of a

consolidated group (as defined in

§ 1.1502–1(h)), the following rules

apply—

(i) The current earnings and profits,

accumulated earnings and profits, and

active earnings and profits of the

common parent shall be determined

under the principles of § 1.1502–33

(relating to earnings and profits of any

member of a consolidated group owning

stock of another member); and

(ii) The gross receipts of the common

parent shall be the sum of the gross

receipts of each member of the

consolidated group (including the

common parent), adjusted to eliminate

gross receipts from intercompany

transactions (as defined in § 1.1502–

13(b)(1)(i)).

(d) Examples. The following examples

illustrate the principles of this section:

Example 1. (i) X, an S corporation, owns

85 percent of the one class of stock of Y. On

December 31, 1998, Y declares a dividend of

$100 ($85 to X), which is equal to Y’s current

earnings and profits. In 1998, Y has total

gross receipts of $1,000, $200 of which

would be passive investment income if Y

were an S corporation.

(ii) One-fifth ($200/$1,000) of Y’s gross

receipts for 1998 is attributable to activities

that would produce passive investment

income. Accordingly, one-fifth of the $100 of

earnings and profits is passive, and $17 (1⁄5

of $85) of the dividend from Y to X is passive

investment income.

Example 2. (i) The facts are the same as in

Example 1, except that Y owns 90 percent of

the stock of Z. Y and Z do not join in the

filing of a consolidated return. In 1998, Z has

gross receipts of $15,000, $12,000 of which

are derived from activities that would

produce passive investment income. On

December 31, 1998, Z declares a dividend of

$1,000 ($900 to Y) from current earnings and

profits.

(ii) Four-fifths ($12,000/15,000) of the

dividend from Z to Y are attributable to

passive earnings and profits. Accordingly,

$720 (4⁄5 of $900) of the dividend from Z to

Y is considered gross receipts from an

activity that would produce passive

investment income. The $900 dividend to Y

gives Y a total of $1,900 ($1,000 + $900) in

gross receipts, $920 ($200 + $720) of which

is attributable to passive investment incomeproducing activities. Under these facts, $41

($920/1,900 of $85) of Y’s distribution to X

is passive investment income to X.

(e) Effective date. This section applies

to dividends received in taxable years

beginning on or after the date that final

regulations are published in the Federal

Register.

§ 1.1368–0 [Amended]

Par. 8. Amend § 1.1368–0 in the entry

for § 1.1368–2(d)(2) by revising

‘‘Reorganizations’’ to read ‘‘Liquidations

and reorganizations’’.

§ 1.1368–2 [Amended]

Par. 9. Amend § 1.1368–2 in

paragraph (d)(2) by revising

‘‘Reorganizations’’ to read ‘‘Liquidations

and reorganizations’’ in the heading and

by revising ‘‘section 381(a)(2)’’ to read

‘‘section 381(a)’’ in the first sentence.

Par. 10. Amend § 1.1374–8 by adding

two sentences to the end of paragraph

(b) to read as follows:
Federal Register / Vol. 63, No. 77 /Wednesday, April 22, 1998 / Proposed Rules 19873

§ 1.1374–8 Section 1374(d)(8) transactions.

* * * * *

(b) Separate determination of tax.

* * * If a C corporation elects to be

treated as an S corporation, and also

makes a QSSS election under section

1361(b)(3) (effective on the same date as

the S election) with respect to a

subsidiary, the assets held by the QSSS

at the time of the QSSS election will be

treated as assets held by the parent

when it became an S corporation. The

preceding sentence applies to QSSS

elections made after the date final

regulations are published in the Federal

Register.

* * * * *

Michael P. Dolan,

Deputy Commissioner of Internal Revenue.

[FR Doc. 98–10373 Filed 4–21–98; 8:45 am]

BILLING CODE 4830–01–U

DEPARTMENT OF LABOR

Pension and Welfare Benefits

Administration

29 CFR Part 2550

Insurance Company General

Accounts; Notice of Hearing

AGENCY: Pension and Welfare Benefits

Administration, Labor.

ACTION: Proposed regulation; notice of

hearing.

SUMMARY: This document provides

notice of a public hearing regarding a

proposed regulation under section

401(c) of the Employee Retirement

Income Security Act of 1974 as

amended (ERISA) which clarifies the

application of ERISA to insurance

company general accounts. The

proposed regulation was set forth in a

notice of proposed rulemaking

published in the Federal Register at 62

FR 66908 on December 22, 1997.

DATES: The hearing will be held on

Monday, June 1, 1998, and Tuesday,

June 2, 1998, beginning at 9:30 a.m. and

ending at 5:00 p.m. E.S.T. on each day.

ADDRESSES: The hearing will be held in

Room C–5310 of the Department of

Labor Building, 200 Constitution

Avenue, N.W., Washington, D.C. 20210.

FOR FURTHER INFORMATION CONTACT:

Wendy McColough, Office of Exemption

Determinations, Pension and Welfare

Benefits Administration, U.S.

Department of Labor, Room N–5649,

200 Constitution Avenue, N.W.,

Washington, D.C. 20210, (202) 219–

8194. This is not a toll-free number.

SUPPLEMENTARY INFORMATION: On

December 22, 1997, the Department of

Labor (the Department) published a

notice of proposed rulemaking in the

Federal Register (62 FR 66908) which

clarifies the application of ERISA to

insurance company general accounts. In

that notice, the Department invited all

interested persons to submit written

comments concerning the proposed

regulation on or before March 23, 1998.

In view of the importance of the

proposed regulation, the Department

has decided to hold a hearing on the

proposed regulation on Monday, June 1,

1998, and Tuesday, June 2, 1998,

beginning at 9:30 a.m. and ending at

5:00 p.m. E.S.T. on each day, in Room

C–5310 of the Department of Labor

Building, 200 Constitution Avenue,

N.W., Washington D.C. 20210.

Any interested person who wishes to

be assured of an opportunity to present

oral comments at the hearing should

submit by 3:30 p.m. E.S.T. May 15,

1998: (1) a written request to be heard

and (2) an outline (preferably five

copies) of the topics to be discussed,

indicating the time allocated to each

topic. The request to be heard and

accompanying outline should be sent to

the Office of Exemption Determinations,

Pension and Welfare Benefits

Administration, U.S. Department of

Labor, Room N–5649, 200 Constitution

Avenue, N.W., Washington, D.C. 20210,

and marked ‘‘Attention: Insurance

Company General Accounts Hearing.’’

Individuals who did not file written

comments regarding the proposed

regulation may nonetheless submit a

request to make oral comments at the

hearing.

The Department will prepare an

agenda indicating the order of

presentation of oral comments. In the

absence of special circumstances, each

commentator will be allotted fifteen

minutes in which to complete his or her

presentation and answer questions that

may be posed by a panel of Pension and

Welfare Benefits Administration

employees and by the Department’s

consultant on this proposed regulation,

Dr. Dan McGill. Information about the

agenda may be obtained on or after May

21, 1998 by telephoning Wendy

McColough, Washington, D.C. (202)

219–8194 (not a toll free number).

Individuals not listed in the agenda will

be allowed to make oral comments at

the hearing to the extent time permits.

Those individuals who make oral

comments at the hearing should be

prepared to answer questions regarding

their comments. The hearing will be

transcribed.

Individuals with disabilities, who

need special accommodations, should

notify Wendy McColough on or before

May 21, 1998.

Notice of Public Hearing

Notice is hereby given that a public

hearing will be held on Monday, June 1,

1998, and Tuesday, June 2, 1998,

regarding a proposed regulation which

clarifies the application of ERISA to

insurance company general accounts.

The hearing will be held beginning at

9:30 a.m. E.S.T. on each day, in Room

C–5310 of the Department of Labor

Building, 200 Constitution Avenue,

N.W., Washington D.C. 20210.

Signed at Washington, D.C., this 16th day

of April, 1998.

Alan D. Lebowitz,

Deputy Assistant Secretary for Program

Operations, Pension and Welfare Benefits

Administration, Department of Labor.

[FR Doc. 98–10635 Filed 4–21–98; 8:45 am]

BILLING CODE 4510–29–P

DEPARTMENT OF LABOR

Mine Safety and Health Administration

30 CFR Part 75

Self-Rescue Devices; Use and

Location Requirements

AGENCY: Mine Safety and Health

Administration, (MSHA) Labor.

ACTION: Extension of comment period.

SUMMARY: Due to requests from the

mining community, MSHA is extending

the comment period on its draft policy

letter (PPL) relating to the approval

guidelines for storage plans for SelfContained Self-Rescue (SCSR) Devices

in underground coal mines.

DATES: Submit all comments on or

before May 29, 1998.

ADDRESSES: Comments may be

transmitted by electronic mail, fax or

mail. Comments by electronic mail must

be clearly identified as such and sent to

this e-mail address:

comments@msha.gov. Comments by fax

must be clearly identified as such and

sent to: Mine Safety and Health

Administration, Office of Standards,

Regulations and Variances, 703–235–

5551. Send mail comments to: Mine

Safety and Health Administration,

Office of Standards, Regulations and

Variances, Room 631, 4015 Wilson

Boulevard, Arlington, Virginia 22203–

1984. Interested persons are encouraged

to supplement written comments with

computer files or disks; please contact

the Agency with any questions about

format.

FOR FURTHER INFORMATION CONTACT:

Milton D. Conley, Division of Health,

Coal Mine Safety and Health, (703) 235–

1358.