This section of the FEDERAL REGISTER

contains notices to the public of the proposed

issuance of rules and regulations. The

purpose of these notices is to give interested

persons an opportunity to participate in the

rule making prior to the adoption of the final

rules.

Proposed Rules Federal Register

31850

Vol. 66, No. 114

Wednesday, June 13, 2001

DEPARTMENT OF AGRICULTURE

Agricultural Marketing Service

7 CFR Part 981

[Docket No. FV01–981–610 Review]

California Almonds; Section 610

Review of Marketing Order

AGENCY: Agricultural Marketing Service,

USDA.

ACTION: Notice of review and request for

comments.

SUMMARY: This action announces that

the Agricultural Marketing Service

(AMS) plans to review Marketing Order

981 for almonds grown in California,

under the criteria contained in section

610 of the Regulatory Flexibility Act

(RFA).

DATES: Written comments on this action

must be received by August 13, 2001.

ADDRESSES: Interested persons are

invited to submit written comments

concerning this notice of review.

Comments must be sent to the Docket

Clerk, Fruit and Vegetable Programs,

AMS, USDA, Room 2525–S, Box 96456,

Washington, DC 20090–6456; Fax: (202)

720–8938; or E-mail:

moab.docketclerk@usda.gov. All

comments should reference the docket

number and the date and page number

of this issue of the Federal Register and

will be made available for public

inspection in the Office of the Docket

Clerk during regular business hours, or

may be viewed at http://

www.ams.usda.gov/fv/moab.html.

FOR FURTHER INFORMATION CONTACT:

Martin Engeler, California Marketing

Field Office, Marketing Order

Administration Branch, Fruit and

Vegetable Programs, AMS, USDA, 2202

Monterey Street, Suite 102B, Fresno,

California 93721; telephone: (209) 487–

5901; Fax: (209) 487–5906; E-mail:

Martin.Engeler@usda.gov; or George

Kelhart, Marketing Order

Administration Branch, Fruit and

Vegetable Programs, AMS, USDA, room

2525–S, P.O. Box 96456, Washington,

DC 20090–6456; telephone: (202) 720–

2491; Fax: (202) 720–8938; E-mail:

George.Kelhart@usda.gov.

SUPPLEMENTARY INFORMATION: Marketing

Order No. 981, as amended (7 CFR part

981), regulates the handling of almonds

grown in California. The marketing

order is effective under the Agricultural

Marketing Agreement Act of 1937

(AMAA), as amended (7 U.S.C. 601–

674).

AMS published in the Federal

Register (63 FR 8014; February 18,

1999), its plan to review certain

regulations, including Marketing Order

No. 981, under criteria contained in

section 610 of the Regulatory Flexibility

Act (RFA; 5 U.S.C. 601–612). Because

many AMS regulations impact small

entities, AMS decided, as a matter of

policy, to review certain regulations

which, although they may not meet the

threshold requirement under section

610 of the RFA, warrant review. The

February 18 notice stated that AMS

would list the regulations to be

reviewed in AMS’ regulatory agenda

which is published in the Federal

Register as part of the Unified Agenda.

However, after further consideration,

AMS has decided to announce the

reviews in the Federal Register separate

from the Unified Agenda. Accordingly,

this notice and request for comments is

made for California almonds.

The purpose of the review will be to

determine whether the California

marketing order for almonds should be

continued without change, amended, or

rescinded (consistent with the

objectives of the AMAA) to minimize

the impacts on small entities. In

conducting this review, AMS will

consider the following factors: (1) The

continued need for the marketing order;

(2) the nature of complaints or

comments received from the public

concerning the marketing order; (3) the

complexity of the marketing order; (4)

the extent to which the marketing order

overlaps, duplicates, or conflicts with

other Federal rules, and, to the extent

feasible, with State and local

governmental rules; and (5) the length of

time since the marketing order has been

evaluated or the degree to which

technology, economic conditions, or

other factors have changed in the area

affected by the marketing order.

Written comments, views, opinions,

and other information regarding the

almond marketing order’s impact on

small businesses are invited.

Dated: June 7, 2001.

Kenneth C. Clayton,

Acting Administrator, Agricultural Marketing

Service.

[FR Doc. 01–14832 Filed 6–12–01; 8:45 am]

BILLING CODE 3410–02–P

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Parts 1, 5c, 5f, 18, and 301

[REG–106917–99]

RIN 1545–AX15

Changes in Accounting Periods

AGENCY: Internal Revenue Service (IRS),

Treasury.

ACTION: Notice of proposed rulemaking

and notice of public hearing.

SUMMARY: This document contains

proposed regulations under sections

441, 442, 706, and 1378 of the Internal

Revenue Code of 1986 that relate to

certain adoptions, changes, and

retentions of annual accounting periods.

The proposed regulations are necessary

to update, clarify, and reorganize the

rules and procedures for adopting,

changing, and retaining a taxpayer’s

annual accounting period. The proposed

regulations primarily affect taxpayers

that want to adopt an annual accounting

period under section 441 or that must

receive approval from the Commissioner

to adopt, change, or retain their annual

accounting periods under section 442.

This document also contains a notice of

public hearing on these proposed

regulations.

DATES: Written and electronic comments

and requests to speak (with outlines of

oral comments) at a public hearing

scheduled for October 2, 2001, must be

received by September 11, 2001.

ADDRESSES: Send submissions to:

CC:M&SP:RU (REG–106917–99), room

5226, Internal Revenue Service, POB

7604, Ben Franklin Station, Washington,

DC 20044. Submissions may be hand

delivered Monday through Friday

between the hours of 8 a.m. and 5 p.m.

to: CC:M&SP:RU (REG–106917–99),

Courier’s Desk, Internal Revenue

Service, 1111 Constitution Avenue,

NW., Washington, DC. Alternatively,

Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules 31851

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/

tax_regs/regslist.html. The public

hearing will be held in the IRS

Auditorium, Internal Revenue Building,

1111 Constitution Avenue, NW.,

Washington, DC.

FOR FURTHER INFORMATION CONTACT:

Concerning the proposed regulations,

Roy A. Hirschhorn and Martin Scully,

Jr. (202) 622–4960; concerning

submissions of comments and the

hearing, and/or to be placed on the

building access list to attend the

hearing, Treena Garrett (202) 622–7180

(not toll-free numbers).

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,

W:CAR:MP:FP:S:O, Washington, DC

20224. Comments on the collections of

information should be received by

August 13, 2001. 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 information will have

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 collection of information can be

found in §§ 1.441–2(b)(1), 1.442–1(b)(1)

and (b)(4) and (d), and 1.1378–1 of these

regulations. Section 1.441–2(b)(1)

requires certain taxpayers to file

statements on their federal income tax

returns to notify the Commissioner of

the taxpayers’ election to adopt a 52–53-

week taxable year. Section 1.442–1(b)(4)

provides that certain taxpayers must

establish books and records that clearly

reflect income for the short period

involved when changing their taxable

year from their taxable year to a

proposed fiscal taxable year. Section

1.442–1(d) requires a newly married

husband or wife to file a statement with

their short period return when changing

to the other spouse’s taxable year. This

collection of information is mandatory.

The likely respondents are businesses or

other profit entities and individuals.

The estimated average annual burden

per respondent and/or recordkeeper

required by §§ 1.442–1(b)(1) and

1.1378–1 are reflected in the burdens of

Forms 1128 and 2553.

Further, the estimated average burden

per respondent and/or recordkeeper

required by §§ 1.441–2(b)(1), 1.442–

1(b)(4) and 1.442–1(d) is as follows:

Estimated total reporting/

recordkeeping burden: 3,500 hours.

Estimated average burden per

respondent/recordkeeper: 21 minutes.

Estimated number of respondents/

recordkeepers: 10,000.

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 the collection of information

displays a valid OMB control number.

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 and Explanation of

Provisions

A. Overview

This document contains proposed

amendments to regulations under

section 441 (period for computing

taxable income), and sections 442, 706,

and 1378 (regarding the requirement to

obtain the approval of the

Commissioner to adopt, change, or

retain an annual accounting period).

B. Section 441: Period for Computing

Taxable Income

1. Background. Section 441 provides

that taxable income must be computed

on the basis of the taxpayer’s taxable

year and generally defines the term

‘‘taxable year.’’ The current temporary

regulations under section 441 are

primarily the product of two separate

Treasury Decisions, TD 8167, 52 FR

485241 (published with a cross

reference to a notice of proposed

rulemaking) and TD 8123, 52 FR 3615

(1988). Prior to the issuance of TD 8167

and TD 8123 (the temporary

regulations), the regulations under

section 441 contained provisions

relating mostly to the period for

computing taxable income and the

election of a 52–53-week taxable year.

The temporary regulations retain these

provisions, but also add new provisions

to implement section 806 of the Tax

Reform Act of 1986, Public Law 99–512

(100 Stat. 2362), 1986–3 C.B. (Vol. 1) 1,

279, (the 1986 Act). Enacted with the

principal intent of eliminating the

deferral period between certain entities

and their owners, the 1986 Act generally

required partnerships, S corporations,

and personal service corporations

(PSCs) to conform their taxable years to

the taxable years of their partners,

shareholders, or employee-owners,

respectively. H.R. Conf. Rep. No. 99–

514, 99th Cong., 2d Sess 318 (1986).

In addition to general implementation

provisions, the temporary regulations

include transition and anti-abuse

provisions specific to taxpayers in

existence at the time the 1986 Act

became effective. For example, § 1.441–

3T provides rules intended to prevent

taxpayers from circumventing the

effective date of the provisions of the

1986 Act by adopting or changing to (or

from) a 52–53-week taxable year during

the period beginning after September

29, 1986, and ending before January 5,

1987.

Generally, this document reproposes

the temporary regulations under section

441. However, this document also

reorganizes, clarifies, modifies, and

updates the temporary regulations.

Many of the provisions contained in the

temporary regulations remain

essentially the same, including the

general rules for adopting a taxable year,

the provisions relating to electing a 52–

53-week taxable year, and the rules for

PSCs. However, provisions that are now

obsolete have been removed, and new

rules and definitions have been added,

as described in more detail below. In

addition, new cross-references to

section 442 and the proposed

regulations thereunder are included to

guide taxpayers, where appropriate, to

the rules and procedures for obtaining

approval to adopt, change, or retain

their annual accounting periods.

2. General Rules and Definitions.

Most of the substantive provisions in

§ 1.441–1T of the temporary regulations

31852 Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules

have been retained, including the

general rules for the period for

computing tax, numerous definitions,

and the requirement that partnerships, S

corporations, electing S corporations,

and PSCs generally must demonstrate a

business purpose and obtain the

Commissioner’s approval to adopt or

retain a taxable year other than their

required taxable year. However, § 1.441–

1T has been reorganized, obsolete

transition rules have been removed, and

some rules have been clarified. For

example, the proposed regulations now

define the term required taxable year,

identify entities that have such a year

(with appropriate cross-references), and

clarify the applicable exceptions.

In addition, the proposed regulations

clarify the meaning of the requirement

to keep books for taxpayers using a

fiscal year. The temporary regulations

provide that a fiscal year will be

recognized only if the books of the

taxpayer are kept in accordance with

that fiscal year. The proposed

regulations conform the book keeping

requirement for taxpayers using a fiscal

year to that of § 1.446–1(a)(4), which

allows for a reconciliation between the

taxpayer’s books and return. However,

as a term and condition of obtaining

approval to adopt, change to, or retain

an annual accounting period under

section 442, certain taxpayers

nevertheless may be required to

compute income and keep their books

(including financial statements and

reports to creditors) on the basis of the

requested annual accounting period.

See, e.g., Rev. Proc. 2000–11 (2000–3

I.R.B. 309).

The proposed regulations also provide

that a taxable year is adopted by filing

the first federal income tax return using

that taxable year. Accordingly, filing an

application for an employer

identification number, filing an

extension, or making estimated tax

payments, indicating a particular

taxable year do not constitute an

adoption of that year. Consequently,

Rev. Rul. 57–589 (1957–2 C.B. 298), and

Rev. Rul. 69–563 (1969–2 C.B. 104),

holding that the filing of an extension

and estimated tax payments establishes

a taxable year, are proposed to be

superseded. The IRS will continue to

follow the decision in E.G. Wilson, 267

F. Supp. 89 (East. Dist. MO, 1967), with

respect to the classification of an

amended return as a ‘‘first return.’’

3. 52–53-week Taxable Years. The

proposed regulations retain most of the

rules provided in § 1.441–2T of the

temporary regulations for taxpayers

electing to use a 52–53-week taxable

year or changing to or from a 52–53-

week taxable year. However, the

procedures for certain taxpayers to

obtain approval (automatic or

otherwise) to change to or from a 52–53-

week taxable year have been removed

and are now contained in administrative

procedures published by the

Commissioner. See Rev. Proc. 2000–11;

and Notice 2001–35 (IRB 2001–23). In

addition, although these administrative

procedures continue to provide

automatic approval for a change to a 52–

53-week taxable year ending with

reference to the same calendar month,

the change will be effected with a Form

1128 (Application to Adopt, Change or

Retain a Tax Year) rather than with a

statement, consistent with most other

changes.

The proposed regulations also expand

the applicability of the rules for

determining the inclusion of income

and deductions from a pass-through

entity where either the entity or its

owner uses a 52–53-week taxable year.

In addition to applying to partnerships,

S corporations, and PSCs (as in the

temporary regulations), the proposed

regulations apply these inclusion rules

to trusts, common trust funds,

controlled foreign corporations, foreign

personal holding companies, and

passive foreign investment companies

that are qualified electing funds.

4. Transition Rules. Section 1.441–3T

of the temporary regulations provide

transition rules for the 1986 Act that

generally were effective from September

29, 1986, through January 5, 1987.

Moreover, the rules contained in

§ 1.441–3T regarding 52–53-week

taxable years and the definition of a PSC

were superseded by similar rules

promulgated under §§ 1.441–2T and

1.441–4T, respectively. Because these

rules are now obsolete, this section has

been removed from the proposed

regulations.

5. Personal Service Corporations. The

rules for PSCs contained in § 1.441–4T

of the temporary regulations generally

have been retained in the proposed

regulations. However, the proposed

regulations reorganize and clarify the

required taxable year of a PSC and the

rules for adopting, changing to, and

retaining a year other than the required

taxable year. For example, the proposed

regulations make clear that a PSC may

have a year other than a required taxable

year by making an election under

section 444. In addition, the provision

allowing a PSC to obtain automatic

approval to change to its required

taxable year has been removed and is

now contained in Notice 2001–35 (I.R.B.

2001–23). Similarly, the rules regarding

establishing a business purpose and

obtaining approval for the use of a fiscal

year have been moved to § 1.442–1(b)

and Notice 2001–34 (I.R.B. 2001–23).

Comments were received on the

notice of proposed rulemaking that is

cross-referenced by the temporary

regulations under § 1.441–4T. Most

significantly, one commentator

suggested that the testing period for

determining whether a taxpayer is a PSC

should be the three preceding taxable

years, rather than the preceding taxable

year, to prevent taxpayers from

becoming a PSC due to temporary or

aberrational conditions. The proposed

regulations retain the one-year testing

period provided in the temporary

regulations. However, the IRS and

Treasury Department will reconsider

this testing period, as well as other

comments received on the temporary

regulations, to the extent similar

comments are received on these

proposed regulations now that taxpayers

have significantly more experience with

the provisions in the temporary

regulations.

C. Section 442: Changes of Annual

Accounting Period

1. Background. Under section 442 and

the current regulations, a taxpayer

generally can change its annual

accounting period only by obtaining the

approval of the Commissioner. The

current regulations set forth the general

rules for obtaining such approval,

including: (1) The manner and time for

filing an application to change an

annual accounting period; (2) the

requirement that the taxpayer

demonstrate a substantial business

purpose for the change; and (3) the need

for agreement between the taxpayer and

the Commissioner to the terms,

conditions, and adjustments that are

necessary to effect the change. Under

the current regulations, both tax and

non-tax factors are considered in

determining whether a taxpayer has

established a substantial business

purpose.

2. Manner and Time for Filing. The

proposed regulations retain the general

requirement to file a Form 1128 to

request approval, but extend the time

for filing the Form 1128. The current

regulations require that the Form 1128

be filed on or before the 15th day of the

second calendar month (generally 45

days) following the close of the short

period. Under the proposed regulations,

the Form 1128 must be filed by the 15th

day of the third calendar month

(generally 75 days) after the close of the

taxable year in which the taxpayer

wants the adoption, change, or retention

to be effective (i.e., the first effective

year). However, taxpayers are

encouraged to file their Forms 1128 as

Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules 31853

soon after the close of the first effective

year as possible to allow the IRS

adequate time to process the Form 1128

before the extended due date of the

return for the first effective year.

Because the IRS has found that Forms

1128 filed before the close of the short

period often lack complete information

and result in processing delays, the

proposed regulation provides that the

Form 1128 may not be filed prior to the

close of the first effective year.

3. Business Purpose, Terms,

Conditions, and Adjustments.

Taxpayers have expressed concern with

the substantial business purpose

requirement set forth in the current

regulations. In particular, taxpayers

have complained that the

Commissioner’s interpretation of a

substantial business purpose as

demonstrated in the IRS’s ruling

practice has been unclear, inconsistent,

and overly restrictive.

As a result, the IRS and Treasury

Department published Notice 99–19

(1999–1 C.B. 919) soliciting comments

on how the rules for obtaining approval

of an adoption, change, or retention in

annual accounting period could be

clarified and simplified. In response,

commentators urged the IRS and

Treasury Department to expand the

categories of taxpayers that would be

granted automatic approval for an

annual accounting period and to revise

the substantial business purpose

requirement to broaden the

circumstances in which a taxpayer will

be granted approval to change an annual

accounting period.

The IRS and Treasury Department

believe that the proposed regulations, in

combination with automatic and prior

approval revenue procedures, will

clarify the rules governing accounting

periods, expand the circumstances in

which taxpayers will be granted

approval (automatically and otherwise),

and result in a more clear, uniform

ruling practice.

The proposed regulations continue to

provide the general standards for

obtaining approval for an adoption,

change, or retention in annual

accounting period: taxpayers must

demonstrate the existence of a ‘‘business

purpose’’ and must agree to the terms,

conditions, and adjustments for the

adoption, change, or retention. In

modifying the ‘‘substantial business

purpose’’ requirement to ‘‘business

purpose,’’ the IRS and Treasury

Department intend merely to conform to

the language of the business purpose

requirement found in sections 441(i),

706, and 1378 and not to lower the

current standard. In addition, the

proposed regulations contain business

purpose guidelines generally applicable

to all taxpayers. For example, the

proposed regulations provide the

general rule that deferral of income will

not be treated as a business purpose.

They also explain that a taxpayer will

have demonstrated a business purpose

by applying to adopt, change to, or

retain a year coinciding with its

required taxable year, ownership taxable

year, or natural business year.

The prior approval revenue procedure

is intended to provide more detailed

guidance about how a taxpayer’s

business purpose will be evaluated, and

the terms, conditions, and adjustments

that will apply to an adoption, change,

or retention of annual accounting

period. Notice 2001–34, issued

concurrently with these proposed

regulations, proposes a revenue

procedure that, when finalized, will

provide the rules and procedures

applicable to taxpayers who must apply

to the national office to obtain the

Commissioner’s prior approval for an

adoption, change, or retention. Under

the proposed revenue procedure, the

IRS in its ruling practice would no

longer weigh the merit of the taxpayer’s

stated business purpose against the

amount of distortion of income or other

tax consequences resulting from an

adoption, change, or retention.

Taxpayers wanting to adopt, change to,

or retain a natural business year

generally would be granted approval

(provided they agree to general terms

and conditions) under the proposed

revenue procedure as under the current

IRS ruling practice. Also consistent with

the current IRS ruling practice,

establishing a natural business year

generally will be the only circumstance

under which a partnership, S

corporation, electing S corporation, or

PSC will be granted approval. However,

the IRS ruling practice for other

taxpayers generally will be liberalized.

These other taxpayers that do not

establish a natural business year

generally would be granted approval

under the proposed revenue procedure

if they agree to certain additional terms,

conditions, and adjustments designed to

neutralize the tax effects of substantial

distortion of income resulting from the

change. Under the IRS’s current ruling

practice, these other taxpayers generally

would have been denied approval to

change their annual accounting period if

the change would have resulted in more

than de minimis distortion of income.

4. Automatic Approval. Under the

current regulations, automatic approval

is granted to a C corporation that

satisfies certain conditions through the

filing of a statement with the District

Director. Among the requirements for

automatic approval are that the taxpayer

not have changed its annual accounting

period at any time within the preceding

ten calendar years, and that a C

corporation not elect S corporation

status for the taxable year immediately

following the short period. The rules for

C corporations contained in the current

regulations are inconsistent with, and

generally more restrictive than, the

automatic approval procedures in Rev.

Proc. 2000–11. For example, under Rev.

Proc. 2000–11, six years (rather than

ten) is the required period of time

between automatic changes and an S

corporation election is allowed for the

tax year following the short period.

Consequently, the proposed regulations

remove the automatic approval

provision contained in the current

regulations.

Further, the proposed regulations

provide that the procedures to obtain

automatic approval of the Commissioner

for an adoption, change, or retention of

annual accounting period generally are

contained in administrative procedures.

The IRS and Treasury Department

believe that this structure will allow for

the issuance of more detailed and useful

guidance. See, for example, Rev. Proc.

2000–11 (2000–3 I.R.B. 309), which

provides procedures for automatic

approval for corporations; Notice 2001–

35, proposing to update and supersede

Rev. Proc. 87–32 (1987–2 C.B. 396),

which provides procedures for

automatic approval for partnerships, S

corporations, electing S corporations,

and PSCs; and Rev. Proc. 66–50 (1966–

2 C.B. 1260), which provides automatic

approval provisions for individuals. As

part of the finalization of these proposed

regulations and the proposed revenue

procedures contained in Notices 2001–

34 and 2001–35, the IRS and Treasury

Department intend to update the

procedures in Rev. Proc. 2000–11 to

make conforming changes. For example,

Rev. Proc. 2000–11 may be modified to

reduce the time period between

automatic changes from six to four years

(as proposed in Notice 2001–34) and to

provide audit protection for taxpayers

making voluntary period changes (as

proposed in both notices).

5. Obsolete Provisions. The rules

relating to partners and partnerships

contained in the current regulations are

proposed to be removed because they

have been superseded by the 1986 Act.

Updated rules for partners and

partnerships are provided in new

proposed regulations under § 1.706–1

contained in this notice of proposed

rulemaking.

Similarly, the rules relating to certain

foreign corporations contained in the

current regulations are proposed to be

31854 Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules

removed because they have been

superseded by section 898. Updated

rules for these foreign corporations are

contained in proposed regulations

under section 898.

Finally, the proposed regulations

would remove the following transitional

provisions, which are now obsolete:

§§ 5c.442–1, 5f.442–1, 1.442–2T, and

1.442–3T.

D. Sections 706: Taxable Years of

Partners and Partnerships

1. Partnership Taxable Year

The current regulations under

§ 1.706–1 have not been updated to

reflect changes made to section 706(b)

by the 1986 Act. These proposed

regulations modify the current

regulations to reflect the required

taxable year of a partnership consistent

with the 1986 Act and § 1.706–1T

(regarding the taxable year that results

in the least aggregate deferral of

income). The proposed regulations also

remove the procedural aspects of

establishing a business purpose and

requesting approval of the

Commissioner to adopt or change a

taxable year and instead refer to the

procedures in § 1.442–1 (including the

administrative procedures prescribed

thereunder).

These regulations also propose to

remove § 1.706–1T. This removal is not

intended to effect a substantive change

because the provisions of § 1.706–1T

generally are adopted by the proposed

regulations. The IRS and Treasury

recently expressed a commitment to the

finalization of § 1.706–1T, as well as

other previously proposed regulations

under section 706, LR–183–84 (49 FR

47048) and LR–53–88 (53 FR 19715).

See 66 FR 3920, 3922. However, it is

believed that adopting the substantive

provisions of § 1.706–1T in the current

proposed regulations will promote

clarity and efficiency.

2. Inclusion Rule for Distributions,

Sales, and Exchanges

Section 1.706–1(a)(2) of the current

regulations provides that any gain or

loss from a partnership distribution or

from a sale or exchange of all or part of

a partnership interest is includible in

the partner’s gross income for the

taxable year in which the payment is

made. Gain or loss from a distribution

or a sale or exchange of a partnership

interest generally is includible in gross

income in the taxable year in which

payment is made, but not always. For

example, a partner who sells his

partnership interest in exchange for an

installment note may be able to defer

inclusion of the gain from that sale

under the installment method of

accounting. Because the IRS and

Treasury Department believe that other

provisions of the Code and regulations

provide adequate guidance on the time

for including gain or loss from a

partnership distribution or from a sale

or exchange of a partnership interest,

the inclusion rule in § 1.706–1(a)(2) is

proposed to be removed.

3. Determination of Interest in Profits

and Capital

To apply any of the three required

taxable year tests, a partnership must

determine the partners’ interests in

partnership profits and capital. The

proposed regulations elaborate on the

meaning of a partner’s interest in

partnership profits and capital for

purposes of these tests. With respect to

profits interests, the regulations clarify

that a partner’s profits interest is the

partner’s share of the taxable income,

rather than the book income, of the

partnership. The regulations also clarify

that the partners’ profits interests are

determined on an annual basis based on

the manner in which the partnership

expects to allocate its income for the

year. If the partnership does not expect

to have income in the current year, then

the partnership determines the partner’s

profits interests based on the manner in

which it expects to allocate its income

in the first taxable year in which the

partnership expects to have income.

Generally, a partner’s interest in

partnership capital is determined

through reference to the assets of the

partnership that the partner would be

entitled to upon withdrawal from the

partnership or upon the liquidation of

the partnership. See, e.g., § 1.704–

1(e)(v), Rev. Proc. 93–27 (1993 C.B.

343). As a practical matter, such a

determination will require a valuation

of the partnership’s assets. Because the

determination under section 706 must

be made on an annual basis, the burden

associated with actual valuations may

make it difficult for partnerships to

identify their taxable years quickly and

easily. Therefore, for partnerships that

maintain capital accounts in accordance

with § 1.704–1(b)(2)(iv), these proposed

regulations provide that in making this

determination, it will be reasonable for

the partnership to assume that a

partner’s interest in partnership capital

is the ratio of the partner’s capital

account to all partners’ capital accounts.

The IRS and Treasury Department are

aware that this method will not always

be as precise as an actual valuation, but

believe that any imprecision is

outweighed by the strong interest that

partnerships have in being able to easily

determine their taxable year.

This definition of a partner’s interest

in partnership profits and capital was

designed to be compatible with the

provisions of, and policies underlying,

section 706(b). Many other sections of

the Code also contain references to a

partner’s interest in partnership profits

or capital. As those sections address

concerns that differ substantially from

the concerns addressed by section

706(b), this proposed regulation should

not be read to create any implication as

to the meaning of a partner’s interest in

partnership profits and capital for

purposes of those sections.

E. Section 1378: S Corporations

The current regulations under

§ 18.1378–1 describe the permitted year

of an S corporation and provide

procedural rules for an S corporation or

electing S corporation to obtain

approval to adopt, change, or retain its

taxable year. However, the automatic

change provision contained in these

regulations is more restrictive than the

automatic change proposed in Notice

2001–35. For this reason, and to be

consistent with the policy decision to

provide the procedural aspects of

adopting, retaining, or changing a

taxable year under § 1.442–1 (including

the administrative procedures

prescribed thereunder), these

regulations propose to modify

§ 18.1378–1 to remove these procedural

rules and instead refer to § 1.442–1.

F. Proposed Effective Date

These regulations are proposed to be

applicable for taxable years ending on or

after the date these regulations are

published in the Federal Register as

final regulations.

Effect on Other Documents

Rev. Rul. 57–589 is obsolete.

Rev. Rul. 65–316 (1965–2 C.B. 149) is

obsolete.

Rev. Rul. 68–125 (1968–1 C.B. 189) is

obsolete.

Rev. Rul. 69–563 is obsolete.

Rev. Rul. 74–326 (1974–2 C.B. 142) is

obsolete.

Rev. Rul. 78–179 (1978–1 C.B. 132) is

obsolete.

Special Analyses

It has been determined that this notice

of proposed rulemaking is not a

significant regulatory action as defined

in Executive Order 12866. Therefore, a

regulatory assessment is not required. It

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. It is hereby

certified that the collection of

information in these regulations will not

Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules 31855

have a significant economic impact on

a substantial number of small entities.

This certification is based upon the fact

that few small entities are expected to

adopt a 52–53 week taxable year,

triggering the collection of information,

and that for those who do, the burden

imposed under § 1.441–2(b)(1)(ii) will

be minimal. Therefore, a Regulatory

Flexibility Analysis under the

Regulatory Flexibility Act (5 U.S.C.

chapter 6) 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.

Comments and Public Hearing

Before these proposed regulations are

adopted as final regulations,

consideration will be given to any

written comments (a signed original and

eight (8) copies) and electronic

comments that are submitted timely to

the IRS. The IRS and Treasury

Department specifically request

comments on the clarity of the proposed

rules and how they can be made easier

to understand. All comments will be

available for public inspection and

copying.

A public hearing has been scheduled

for October 2, 2001, at 10 a.m., in the

IRS Auditorium, Internal Revenue

Building, 1111 Constitution Avenue,

NW., Washington, DC. Due to building

security procedures, visitors must enter

at the 10th Street entrance, located

between Constitution and Pennsylvania

Avenues, NW. In addition, all visitors

must present photo identification to

enter the building. Because of access

restrictions, visitors will not be

admitted beyond the immediate

entrance area more than 15 minutes

before the hearing starts. For

information about having your name

placed on the building access list to

attend the hearing, see the FOR FURTHER

INFORMATION CONTACT section of this

preamble.

The rules of 26 CFR 601.601(a)(3)

apply to the hearing.

Persons who wish to present oral

comments at the hearing must submit

timely written or electronic comments

and must submit an outline of the topics

to be discussed and the time to be

devoted to each topic (preferably a

signed original and eight (8) copies) by

September 11, 2001.

A period of 10 minutes will be

allocated to each person for making

comments.

An agenda showing the scheduling of

the speakers will be prepared after the

deadline for receiving outlines has

passed. Copies of the agenda will be

available free of charge at the hearing.

Drafting Information

The principal authors of these

regulations are Roy A. Hirschhorn and

Martin Scully, Jr. of the Office of

Associate Chief Counsel (Income Tax

and Accounting). However, other

personnel from the IRS and Treasury

Department participated in their

development.

List of Subjects

26 CFR Parts 1, 5f, and 18

Income taxes, Reporting and

recordkeeping requirements.

26 CFR Part 5c

Accounting, Income taxes, Reporting

and recordkeeping requirements.

26 CFR Part 301

Administrative practice and

procedure, Income taxes.

Proposed Amendments to the

Regulations

Accordingly, 26 CFR parts 1, 5c, 5f,

18, and 301 are 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. In the list below, for each

section indicated in the left column,

remove the old language in the middle

column and add the new language in

the right column.

Affected Section Remove Add

1.46–1(p)(2)(iv) ................................................................. paragraph (b)(1) of § 1.441–2 ......................................... § 1.441–2

1.48–3(d)(1)(iii) ................................................................. paragraph (b)(1) of § 1.441–2 ......................................... § 1.441–2

1.280H–1T(a), last sentence ............................................ § 1.441–4T(d) .................................................................. § 1.441–3(c)

1.443–1(b)(1)(ii) ................................................................ and paragraph (c)(5) of § 1.441–2 .................................. and § 1.441–2(b)(2)(ii)

1.444–1T(a)(1), first sentence .......................................... § 1.441–4T(d) .................................................................. § 1.441–3(c)

1.444–2T(a), last sentence ............................................... § 1.441–4T(d) .................................................................. § 1.441–3(c)

1.448–1(h)(2)(ii)(B)(1) ....................................................... § 1.441–2T(b)(1) .............................................................. § 1.441–2(c)

1.469–1(h)(4)(ii)(D) ........................................................... § 1.441–4T(f) ................................................................... § 1.441–3(e)

1.469–1T(g)(2)(i) ............................................................... § 1.441–4T(d) .................................................................. § 1.441–3(c)

1.1561–1(c)(2) .................................................................. See paragraph (b)(1) of § 1.441–2 ................................. See § 1.441–2

1.6654–2(a), concluding text ............................................ paragraph (b) of § 1.441–2 ............................................. § 1.441–2(c)

1.6655–2(a)(4), first sentence .......................................... paragraph (b) of § 1.441–2 ............................................. § 1.441–2(c)

301.7701(b)–6(a), third sentence ..................................... § 1.441–1(e) .................................................................... § 1.441–1(b)

Par. 3. Sections 1.441–0, 1.441–1,

1.441–2, 1.441–3, and 1.441–4 are

added to read as follows:

§ 1.441–0 Table of contents.

This section lists the captions

contained in § 1A1.441–1 through

1.441–4 as follows:

§ 1.441–1 Period for computation of taxable

income.

(a) Computation of taxable income.

(1) In general.

(2) Length of taxable year.

(b) General rules and definitions.

(1) Taxable year.

(2) Required taxable year.

(i) In general.

(ii) Exceptions.

(A) 52–53-week taxable years.

(B) Partnerships, S corporations, and PSCs.

(C) Specified foreign corporations.

(3) Annual accounting period.

(4) Calendar year.

(5) Fiscal year.

(i) Definition.

(ii) Recognition.

(6) Grandfathered fiscal year.

(7) Books.

(c) Adoption of taxable year.

(1) In general.

(2) Approval required.

(i) Taxpayers with required taxable years.

(ii) Taxpayers without books.

(d) Retention of taxable year.

(e) Change of taxable year.

(f) Obtaining approval of the Commissioner

or making a section 444 election.

§ 1.441–2 Election of taxable year consisting

of 52–53 weeks.

(a) In general.

(1) Election.

(2) Eligible taxpayer.

(3) Example.

(b) Procedures to elect a 52–53-week

taxable year.

31856 Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules

(1) Adoption of a 52–53-week taxable year.

(i) In general.

(ii) Filing requirement.

(2) Change to (or from) a 52–53-week

taxable year.

(i) In general.

(ii) Special rules for short period required

to effect the change.

(3) Examples.

(c) Application of effective dates.

(1) In general.

(2) Examples.

(3) Changes in tax rates.

(4) Examples.

(d) Computation of taxable income.

(e) Treatment of taxable years ending with

reference to the same calendar month.

(1) Pass-through entities.

(2) Personal service corporations and

employee-owners.

(3) Definitions.

(i) Pass-through entity.

(ii) Owner of a pass-through entity.

(4) Examples.

(5) Transition rule.

§ 1.441–3 Taxable year of a personal service

corporation.

(a) Taxable year.

(1) Required taxable year.

(2) Exceptions.

(b) Adoption, change, or retention of

taxable year.

(1) Adoption of taxable year.

(2) Change in taxable year.

(3) Retention of taxable year.

(4) Procedures for obtaining approval or

making a section 444 election.

(5) Examples.

(c) Personal service corporation defined.

(1) In general.

(2) Testing period.

(i) In general.

(ii) New corporations.

(3) Examples.

(d) Performance of personal services.

(1) Activities described in section

448(d)(2)(A).

(2) Activities not described in section

448(d)(2)(A).

(e) Principal activity.

(1) General rule.

(2) Compensation cost.

(i) Amounts included.

(ii) Amounts excluded.

(3) Attribution of compensation cost to

personal service activity.

(i) Employees involved only in the

performance of personal services.

(ii) Employees involved only in activities

that are not treated as the performance of

personal services.

(iii) Other employees.

(A) Compensation cost attributable to

personal service activity.

(B) Compensation cost not attributable to

personal service activity.

(f) Services substantially performed by

employee-owners.

(1) General rule.

(2) Compensation cost attributable to

personal services.

(3) Examples.

(g) Employee-owner defined.

(1) General rule.

(2) Special rule for independent

contractors who are owners.

(h) Special rules for affiliated groups filing

consolidated returns.

(1) In general.

(2) Examples.

§ 1.441–4 Effective date.

§ 1.441–1 Period for computation of

taxable income.

(a) Computation of taxable income—

(1) In general. Taxable income must be

computed and a return must be made

for a period known as the ‘‘taxable

year.’’ For rules relating to methods of

accounting, the taxable year for which

items of gross income are included and

deductions are taken, inventories, and

adjustments, see parts II and III (section

446 and following), subchapter E,

chapter 1 of the Internal Revenue Code,

and the regulations thereunder.

(2) Length of taxable year. Except as

otherwise provided in the Internal

Revenue Code and the regulations

thereunder (e.g., § 1.441–2 regarding 52–

53-week taxable years), a taxable year

may not cover a period of more than 12

calendar months.

(b) General rules and definitions. The

general rules and definitions in this

paragraph (b) apply for purposes of

sections 441 and 442 and the

regulations thereunder.

(1) Taxable year. Taxable year

means—

(i) The period for which a return is

made, if a return is made for a period

of less than 12 months (short period).

See section 443 and the regulations

thereunder;

(ii) Except as provided in paragraph

(b)(1)(i) of this section, the taxpayer’s

required taxable year (as defined in

paragraph (b)(2) of this section), if

applicable;

(iii) Except as provided in paragraphs

(b)(1)(i) and (ii) of this section, the

taxpayer’s annual accounting period (as

defined in paragraph (b)(3) of this

section), if it is a calendar year or a

fiscal year; or

(iv) Except as provided in paragraphs

(b)(1)(i) and (ii) of this section, the

calendar year, if the taxpayer keeps no

books, does not have an annual

accounting period, or has an annual

accounting period that does not qualify

as a fiscal year.

(2) Required taxable year—(i) In

general. Certain taxpayers must use the

particular taxable year that is required

under the Internal Revenue Code and

the regulations thereunder (the required

taxable year). For example, the required

taxable year is—

(A) In the case of a foreign sales

corporation or domestic international

sales corporation, the taxable year

determined under section 441(h) and

§ 1.921–1T(a)(11), (b)(4), and (b)(6);

(B) In the case of a personal service

corporation (PSC), the taxable year

determined under section 441(i) and

§ 1.441–3;

(C) In the case of a nuclear

decommissioning fund, the taxable year

determined under § 1.468A–4(c)(1);

(D) In the case of a designated

settlement fund or a qualified settlement

fund, the taxable year determined under

§ 1.468B–2(j);

(E) In the case of a common trust

fund, the taxable year determined under

section 584(i);

(F) In the case of certain trusts, the

taxable year determined under section

644;

(G) In the case of a partnership, the

taxable year determined under section

706 and § 1.706–1;

(H) In the case of an insurance

company, the taxable year determined

under section 843 and § 1.1502–76(a)(2);

(I) In the case of a real estate

investment trust, the taxable year

determined under section 859;

(J) In the case of a real estate mortgage

investment conduit, the taxable year

determined under section 860D(a)(5)

and § 1.860D–1(b)(6);

(K) In the case of a specified foreign

corporation, the taxable year determined

under section 898(c) and §§ 1.898–1

through 1.898–4;

(L) In the case of an S corporation, the

taxable year determined under section

1378 and § 1.1378–1; or

(M) In the case of a member of an

affiliated group that makes a

consolidated return, the taxable year

determined under § 1.1502–76.

(ii) Exceptions. Notwithstanding

paragraph (b)(2)(i) of this section, the

following taxpayers may have a taxable

year other than their required taxable

year:

(A) 52–53-week taxable years. Certain

taxpayers may elect to use a 52–53-week

taxable year that ends with reference to

their required taxable year. See, for

example, §§ 1.441–3 (PSCs), 1.706–1

(partnerships), 1.1378–1 (S

corporations), and 1.1502–76(a)(1)

(members of a consolidated group), and

1.898–4(c)(3) (specified foreign

corporations).

(B) Partnerships, S corporations, and

PSCs. A partnership, S corporation, or

PSC may use a taxable year other than

its required taxable year if the taxpayer

elects a 52–53-week taxable year that

ends with reference to its required

taxable year as provided in paragraph

(b)(2)(ii)(A) of this section, elects to use

a taxable year other than its required

taxable year under section 444, or

establishes a business purpose to the

satisfaction of the Commissioner under

Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules 31857

section 442 (such as a grandfathered

fiscal year).

(C) Specified foreign corporations. A

specified foreign corporation (as defined

in section 898(b)) may use a taxable year

other than its required taxable year if it

elects a 52–53-week taxable year that

ends with reference to its required

taxable year as provided in paragraph

(b)(2)(ii)(A) of this section or makes a

one-month deferral election under

section 898(c)(1)(B) and § 1.898–3(a)(2).

(3) Annual accounting period. Annual

accounting period means the annual

period (calendar year or fiscal year) on

the basis of which the taxpayer regularly

computes its income in keeping its

books.

(4) Calendar year. Calendar year

means a period of 12 consecutive

months ending on December 31. A

taxpayer who has not established a

fiscal year must make its return on the

basis of a calendar year.

(5) Fiscal year—(i) Definition. Fiscal

year means—

(A) A period of 12 consecutive

months ending on the last day of any

month other than December; or

(B) A 52–53-week taxable year, if such

period has been elected by the taxpayer.

See § 1.441–2.

(ii) Recognition. A fiscal year will be

recognized only if the books of the

taxpayer are kept in accordance with

such fiscal year.

(6) Grandfathered fiscal year.

Grandfathered fiscal year means a fiscal

year (other than a year that resulted in

a three month or less deferral of income)

that a partnership or an S corporation

received permission to use on or after

July 1, 1974, by a letter ruling (i.e., not

by automatic approval).

(7) Books. Books include the

taxpayer’s regular books of account and

such other records and data as may be

necessary to support the entries on the

taxpayer’s books and on the taxpayer’s

return, as for example, a reconciliation

of any difference between such books

and the taxpayer’s return. Records that

are sufficient to reflect income

adequately and clearly on the basis of an

annual accounting period will be

regarded as the keeping of books. See

section 6001 and the regulations

thereunder for rules relating to the

keeping of books and records.

(c) Adoption of taxable year—(1) In

general. Except as provided in

paragraph (c)(2) of this section, a new

taxpayer may adopt any taxable year

that satisfies the requirements of section

441 and the regulations thereunder

without the approval of the

Commissioner. A taxable year of a new

taxpayer is adopted by filing its first

federal income tax return using that

taxable year. The filing of an application

for automatic extension of time to file a

federal income tax return (e.g., Form

7004), the filing of an application for an

employer identification number (i.e.,

Form SS4), or the payment of estimated

taxes, for a particular taxable year do

not constitute an adoption of that

taxable year.

(2) Approval required—(i) Taxpayers

with required taxable years. A newlyformed partnership, electing S

corporation, or newly-formed PSC that

wants to adopt a taxable year other than

its required taxable year, a 52–53-week

taxable year that ends with reference to

its required taxable year, or a taxable

year elected under section 444, must

establish a business purpose and obtain

the approval of the Commissioner under

section 442.

(ii) Taxpayers without books. A

taxpayer that must use a calendar year

under section 441(g) and paragraph (f)

of this section may not adopt a fiscal

year without obtaining the approval of

the Commissioner.

(d) Retention of taxable year. In

certain cases, a partnership, S

corporation, or PSC will be required to

change its taxable year unless it obtains

the approval of the Commissioner under

section 442, or makes an election under

section 444, to retain its current taxable

year. For example, a corporation using

a June 30 fiscal year that either becomes

a PSC or elects to be an S corporation

and, as a result, is required to use the

calendar year under sections 441(i) or

1378, respectively, must obtain the

approval of the Commissioner to retain

its current fiscal year. Similarly, a

partnership using a taxable year that

corresponds to its required taxable year

must obtain the approval of the

Commissioner to retain such taxable

year if its required taxable year changes

as a result of a change in ownership.

However, a partnership that previously

established a business purpose to the

satisfaction of the Commissioner to use

a taxable year is not required to obtain

the approval of the Commissioner if its

required taxable year changes as a result

of a change in ownership.

(e) Change of taxable year. Once a

taxpayer has adopted a taxable year,

such taxable year must be used in

computing taxable income and making

returns for all subsequent years unless

the taxpayer obtains approval from the

Commissioner to make a change or the

taxpayer is otherwise authorized to

change without the approval of the

Commissioner under the Internal

Revenue Code (e.g., section 444 or

section 859) or the regulations

thereunder.

(f) Obtaining approval of the

Commissioner or making a section 444

election. See § 1.442–1(b) for procedures

for obtaining approval of the

Commissioner (automatically or

otherwise) to adopt, change, or retain an

annual accounting period. See §§ 1.444–

1T and 1.444–2T for qualifications, and

1.444–3T for procedures, for making an

election under section 444.

§ 1.441–2 Election of taxable year

consisting of 52–53 weeks.

(a) In general—(1) Election. An

eligible taxpayer may elect to compute

its taxable income on the basis of a

fiscal year that—

(i) Varies from 52 to 53 weeks;

(ii) Ends always on the same day of

the week; and

(iii) Ends always on—

(A) Whatever date this same day of

the week last occurs in a calendar

month; or

(B) Whatever date this same day of the

week falls that is the nearest to the last

day of the calendar month.

(2) Eligible taxpayer. A taxpayer is

eligible to elect a 52–53-week taxable

year if such fiscal year would otherwise

satisfy the requirements of section 441

and the regulations thereunder. For

example, a taxpayer that is required to

use a calendar year under § 1.441–

1(b)(1)(D) is not an eligible taxpayer.

(3) Example. The provisions of this

paragraph (a) are illustrated by the

following example:

Example. If the taxpayer elects a taxable

year ending always on the last Saturday in

November, then for the year 2001, the taxable

year would end on November 24, 2001. On

the other hand, if the taxpayer had elected a

taxable year ending always on the Saturday

nearest to the end of November, then for the

year 2001, the taxable year would end on

December 1, 2001. Thus, in the case of a

taxable year described in paragraph

(a)(1)(iii)(A) of this section, the year will

always end within the month and may end

on the last day of the month, or as many as

six days before the end of the month. In the

case of a taxable year described in paragraph

(a)(1)(iii)(B) of this section, the year may end

on the last day of the month, or as many as

three days before or three days after the last

day of the month.

(b) Procedures to elect a 52–53-week

taxable year—(1) Adoption of a 52–53

week taxable year—(i) In general. A new

eligible taxpayer elects a 52–53-week

taxable year by adopting such year in

accordance with § 1.441–1(c). A newlyformed partnership, electing S

corporation, or newly-formed personal

service corporation (PSC) may adopt a

52–53-week taxable year without the

approval of the Commissioner if such

year ends with reference to either the

taxpayer’s required taxable year (as

31858 Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules

defined in § 1.441–1(b)(2)) or the taxable

year elected under section 444. See

§§ 1.706–1, 1.1378–1 and 1.441–3.

Similarly, a newly-formed specified

foreign corporation (as defined in

section 898(b)) may adopt a 52–53-week

taxable year if such year ends with

reference to the taxpayer’s required

taxable year, or, if the one-month

deferral election under section

898(c)(1)(B) is made, with reference to

the month immediately preceding the

required taxable year. See § 1.898–

4(c)(3). See also § 1.1502–76(a)(1) for

special rules regarding subsidiaries

adopting 52–53-week taxable years.

(ii) Filing requirement. A taxpayer

adopting a 52–53-week taxable year

must file with its federal income tax

return for its first taxable year a

statement containing the following

information—

(A) The calendar month with

reference to which the new 52–53-week

taxable year ends;

(B) The day of the week on which the

52–53-week taxable year always will

end; and

(C) Whether the 52–53-week taxable

year will always end on the date on

which that day of the week last occurs

in the calendar month, or on the date on

which that day of the week falls that is

nearest to the last day of that calendar

month.

(2) Change to (or from) a 52–53 week

taxable year—(i) In general. An election

of a 52–53-week taxable year by an

existing eligible taxpayer with an

established taxable year is treated as a

change in annual accounting period that

requires the approval of the

Commissioner in accordance with

§ 1.442–1. Thus, a taxpayer must obtain

approval to change from its current

taxable year to a 52–53-week taxable

year. Similarly, a taxpayer must obtain

approval to change from a 52–53-week

taxable year, or to change from one 52–

53-week taxable year to another 52–53-

week taxable year. However, if a change

to a 52–53-week taxable year ends with

reference to the same calendar month as

the existing taxable year, or if a change

from a 52–53-week taxable year ends

with reference to the same calendar

month as the proposed taxable year, the

taxpayer may obtain approval for the

change automatically pursuant to

administrative procedures published by

the Commissioner. See § 1.442–1(b) for

procedures for obtaining such approval.

(ii) Special rules for the short period

required to effect the change. If a change

to or from a 52–53-week taxable year

results in a short period (within the

meaning of § 1.443–1(a)) of 359 days or

more, or six days or less, the tax

computation under § 1.443–1(b) does

not apply. If the short period is 359 days

or more, it is treated as a full taxable

year. If the short period is six days or

less, such short period is not a separate

taxable year but instead is added to and

deemed a part of the following taxable

year. (In the case of a change to or from

a 52–53-week taxable year not involving

a change of the month with reference to

which the taxable year ends, the tax

computation under § 1.443–1(b) does

not apply because the short period will

always be 359 days or more, or six days

or less.) In the case of a short period

which is more than six days and less

than 359 days, taxable income for the

short period is placed on an annual

basis for purposes of § 1.443–1(b) by

multiplying such income by 365 and

dividing the result by the number of

days in the short period. In such case,

the tax for the short period is the same

part of the tax computed on such

income placed on an annual basis as the

number of days in the short period is of

365 days (unless § 1.443–1(b)(2),

relating to the alternative tax

computation, applies). For an

adjustment in deduction for personal

exemption, see § 1.443–1(b)(1)(v).

(3) Examples. The following examples

illustrate paragraph (b)(2)(ii) of this

section:

Example 1. A taxpayer having a fiscal year

ending April 30, obtains approval to change

to a 52–53-week taxable year ending the last

Saturday in April for taxable years beginning

after April 30, 2001. This change involves a

short period of 362 days, from May 1, 2001,

to April 27, 2002, inclusive. Because the

change results in a short period of 359 days

or more, it is not placed on an annual basis

and is treated as a full taxable year.

Example 2. Assume the same conditions as

Example 1, except that the taxpayer changes

for taxable years beginning after April 30,

2002, to a taxable year ending on the

Thursday nearest to April 30. This change

results in a short period of two days, May 1

to May 2, 2002. Because the short period is

less than seven days, tax is not separately

computed. This short period is added to and

deemed part of the following 52–53-week

taxable year, which would otherwise begin

on May 3, 2002, and end on May 1, 2003.

(c) Application of effective dates—(1)

In general. Except as provided in

paragraph (c)(3) of this section, for

purposes of determining the effective

date (e.g., of legislative or regulatory

changes) or the applicability of any

provision of this title that is expressed

in terms of taxable years beginning,

including, or ending with reference to

the first or last day of a specified

calendar month, a 52–53-week taxable

year is deemed to begin on the first day

of the calendar month nearest to the first

day of the 52–53-week taxable year, and

is deemed to end or close on the last day

of the calendar month nearest to the last

day of the 52–53-week taxable year, as

the case may be. Examples of provisions

of this title, the applicability of which

is expressed in terms referred to in the

preceding sentence, include the

provisions relating to the time for filing

returns and other documents, paying

tax, or performing other acts, and the

provisions of part II, subchapter B,

chapter 6 (section 1561 and following)

relating to surtax exemptions of certain

controlled corporations.

(2) Examples. The provisions of

paragraph (c)(1) of this section may be

illustrated by the following examples:

Example 1. Assume that an income tax

provision is applicable to taxable years

beginning on or after January 1, 2001. For

that purpose, a 52–53-week taxable year

beginning on any day within the period

December 26, 2000, to January 4, 2001,

inclusive, is treated as beginning on January

1, 2001.

Example 2. Assume that an income tax

provision requires that a return must be filed

on or before the 15th day of the third month

following the close of the taxable year. For

that purpose, a 52–53-week taxable year

ending on any day during the period May 25

to June 3, inclusive, is treated as ending on

May 31, the last day of the month ending

nearest to the last day of the taxable year, and

the return, therefore, must be made on or

before August 15.

Example 3. X, a corporation created on

January 1, 2001, elects a 52–53-week taxable

year ending on the Friday nearest the end of

December. Thus, X’s first taxable year begins

on Monday, January 1, 2001, and ends on

Friday, December 28, 2001; its next taxable

year begins on Saturday, December 29, 2001,

and ends on Friday, January 3, 2003; and its

next taxable year begins on Saturday, January

4, 2003, and ends on Friday, January 2, 2004.

For purposes of applying the provisions of

Part II, subchapter B, chapter 6 of the Internal

Revenue Code, X’s first taxable year is

deemed to end on December 31, 2001; its

next taxable year is deemed to begin on

January 1, 2002, and end on December 31,

2002, and its next taxable year is deemed to

begin on January 1, 2003, and end on

December 31, 2003. Accordingly, each such

taxable year is treated as including one and

only one December 31st.

(3) Changes in tax rates. If a change

in the rate of tax is effective during a

52–53-week taxable year (other than on

the first day of such year as determined

under paragraph (c)(1) of this section),

the tax for the 52–53-week taxable year

must be computed in accordance with

section 15, relating to effect of changes,

and the regulations thereunder. For the

purpose of the computation under

section 15, the determination of the

number of days in the period before the

change, and in the period on and after

the change, is to be made without regard

to the provisions of paragraph (b)(1) of

this paragraph.

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(4) Examples. The provisions of

paragraph (c)(3) of this section may be

illustrated by the following examples:

Example 1. Assume a change in the rate of

tax is effective for taxable years beginning

after June 30, 2002. For a 52–53-week taxable

year beginning on Friday, November 2, 2001,

the tax must be computed on the basis of the

old rates for the actual number of days from

November 2, 2001, to June 30, 2002,

inclusive, and on the basis of the new rates

for the actual number of days from July 1,

2002, to Thursday, October 31, 2002,

inclusive.

Example 2. Assume a change in the rate of

tax is effective for taxable years beginning

after June 30, 2001. For this purpose, a 52–

53-week taxable year beginning on any of the

days from June 25 to July 4, inclusive, is

treated as beginning on July 1. Therefore, no

computation under section 15 will be

required for such year because of the change

in rate.

(d) Computation of taxable income.

The principles of section 451, relating to

the taxable year for inclusion of items of

gross income, and section 461, relating

to the taxable year for taking

deductions, generally are applicable to

52–53-week taxable years. Thus, except

as otherwise provided, all items of

income and deduction must be

determined on the basis of a 52–53-

week taxable year. However, a taxpayer

may determine particular items as

though the 52–53-week taxable year

were a taxable year consisting of 12

calendar months, provided that practice

is consistently followed by the taxpayer

and clearly reflects income. For

example, an allowance for depreciation

or amortization may be determined on

the basis of a 52–53-week taxable year,

or as though the 52–53-week taxable

year is a taxable year consisting of 12

calendar months, provided the taxpayer

consistently follows that practice with

respect to all depreciable or amortizable

items.

(e) Treatment of taxable years ending

with reference to the same calendar

month—(1) Pass-through entities. If a

pass-through entity (as defined in

paragraph (e)(3)(i) of this section) or an

owner of a pass-through entity (as

defined in paragraph (e)(3)(ii) of this

section), or both, use a 52–53-week

taxable year and the taxable year of the

pass-through entity and the owner end

with reference to the same calendar

month, then, for purposes of

determining the taxable year in which

items of income, gain, loss, deductions,

or credits from the pass-through entity

are taken into account by the owner of

the pass-through, the owner’s taxable

year will be deemed to end on the last

day of the pass-through’s taxable year.

Thus, if the taxable year of a partnership

and a partner end with reference to the

same calendar month, then for purposes

of determining the taxable year in which

that partner takes into account items

described in section 702 and items that

are deductible by the partnership

(including items described in section

707(c)) and includible in the income of

that partner, that partner’s taxable year

will be deemed to end on the last day

of the partnership’s taxable year.

Similarly, if the taxable year of an S

corporation and a shareholder end with

reference to the same calendar month,

then for purposes of determining the

taxable year in which that shareholder

takes into account items described in

section 1366(a) and items that are

deductible by the S corporation and

includible in the income of that

shareholder, that shareholder’s taxable

year will be deemed to end on the last

day of the S corporation’s taxable year.

(2) Personal service corporations and

employee-owners. If the taxable year of

a PSC (within the meaning of § 1.441–

3(c)) and an employee-owner (within

the meaning of § 1.441–3(g)) end with

reference to the same calendar month,

then for purposes of determining the

taxable year in which an employeeowner takes into account items that are

deductible by the PSC and includible in

the income of the employee-owner, the

employee-owner’s taxable year will be

deemed to end on the last day of the

PSC’s taxable year.

(3) Definitions—(i) Pass-through

entity. For purposes of this section, a

pass-through entity means a

partnership, S corporation, trust, estate,

common trust fund (within the meaning

of section 584(i)), controlled foreign

corporation (within the meaning of

section 957), foreign personal holding

company (within the meaning of section

552), or passive foreign investment

company that is a qualified electing

fund (within the meaning of section

1295).

(ii) Owner of a pass-through entity.

For purposes of this section, an owner

of a pass-through entity means a

taxpayer that owns an interest in, or

stock of, a pass-through entity. For

example, an owner of a pass-through

entity includes a partner in a

partnership, a shareholder of an S

corporation, a beneficiary of a trust or

an estate, a participant in a common

trust fund, a U.S. shareholder (as

defined in section 951(b)) of a

controlled foreign corporation, a U.S.

shareholder (as defined in section

551(a)) of a foreign personal holding

company, or a U.S. person that holds

stock in a passive foreign investment

company that is a qualified electing

fund.

(4) Examples. The provisions of

paragraph (e)(2) of this section may be

illustrated by the following examples:

Example 1. ABC Partnership uses a 52–53-

week taxable year that ends on the

Wednesday nearest to December 31, and its

partners, A, B, and C, are individual calendar

year taxpayers. Assume that, for ABC’s

taxable year ending January 3, 2001, each

partner’s distributive share of ABC’s taxable

income is $10,000. Under section 706(a) and

paragraph (e)(1) of this section, for the

taxable year ending December 31, 2000, A, B,

and C each must include $10,000 in income

with respect to the ABC year ending January

3, 2001. Similarly, if ABC makes a

guaranteed payment to A on January 2, 2001,

A must include the payment in income for

A’s taxable year ending December 31, 2000.

Example 2. X, a PSC, uses a 52–53-week

taxable year that ends on the Wednesday

nearest to December 31, and all of the

employee-owners of X are individual

calendar year taxpayers. Assume that, for its

taxable year ending January 3, 2001, X pays

a bonus of $10,000 to each employee-owner

on January 2, 2001. Under paragraph (e)(2) of

this section, each employee-owner must

include its bonus in income for the taxable

year ending December 31, 2000.

(5) Transition rule. In the case of an

owner of a pass-through entity (other

than the owner of a partnership or S

corporation) that is required by this

paragraph (e) to include in income for

its first taxable year ending on or after

the date these regulations are published

in the Federal Register as final

regulations amounts attributable to two

taxable years of a pass-through entity,

the amount that otherwise would be

required to be included in income for

such first taxable year by reason of this

paragraph (e) should be included in

income ratably over the four-taxableyear period beginning with such first

taxable year under principles similar to

§ 1.702–3T, unless the owner of the

pass-through elects to include all such

income in its first taxable year ending

on or after the date these regulations are

published in the Federal Register as

final regulations.

§ 1.441–3 Taxable year of a personal

service corporation.

(a) Taxable year—(1) Required taxable

year. Except as provided in paragraph

(a)(2) of this section, the taxable year of

a personal service corporation (PSC) (as

defined in paragraph (c) of this section)

must be the calendar year.

(2) Exceptions. A PSC may have a

taxable year other than its required

taxable year (i.e., a fiscal year) if elects

to use a 52–53-week taxable year that

ends with reference to the calendar year,

makes an election under section 444, or

establishes a business purpose for such

fiscal year and obtains the approval of

the Commissioner under section 442.

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(b) Adoption, change, or retention of

taxable year—(1) Adoption of taxable

year. A PSC may adopt, in accordance

with § 1.441–1(c), the calendar year, a

52–53-week taxable year ending with

reference to the calendar year, or a

taxable year elected under section 444

without the approval of the

Commissioner. See § 1.441–1. A PSC

that wants to adopt any other taxable

year must establish a business purpose

and obtain the approval of the

Commissioner under section 442.

(2) Change in taxable year. A PSC that

wants to change its taxable year must

obtain the approval of the

Commissioner under section 442 or

make an election under section 444.

However, a PSC may obtain automatic

approval for certain changes, including

a change to the calendar year or to a 52–

53-week taxable year ending with

reference to the calendar year, pursuant

to administrative procedures published

by the Commissioner.

(3) Retention of taxable year. In

certain cases, a PSC will be required to

change its taxable year unless it obtains

the approval of the Commissioner under

section 442, or makes an election under

section 444, to retain its current taxable

year. For example, a corporation using

a June 30 fiscal year that becomes a PSC

and, as a result, is required to use the

calendar year must obtain the approval

of the Commissioner to retain its current

fiscal year.

(4) Procedures for obtaining approval

or making a section 444 election. See

§ 1.442–1(b) for procedures to obtain the

approval of the Commissioner

(automatically or otherwise) to adopt,

change, or retain a taxable year. See

§§ 1.444–1T and 1.444–2T for

qualifications, and 1.444–3T for

procedures, for making an election

under section 444.

(5) Examples. The provisions of

paragraph (b)(4) of this section may be

illustrated by the following examples:

Example 1. X, whose taxable year ends on

January 31, 2001, becomes a PSC for its

taxable year beginning February 1, 2001, and

does not obtain the approval of the

Commissioner for using a fiscal year. Thus,

for taxable years ending before February 1,

2001, this section does not apply with

respect to X. For its taxable year beginning

on February 1, 2001, however, X will be

required to comply with paragraph (a) of this

section. Thus, unless X obtains approval of

the Commissioner to use a January 31 taxable

year, or makes a section 444 election, X will

be required to change its taxable year to the

calendar year under paragraph (b) of this

section by using a short taxable year that

begins on February 1, 2001, and ends on

December 31, 2001. Under paragraph (b)(1) of

this section, X may obtain automatic

approval to change its taxable year to a

calendar year. See § 1.442–1(b).

Example 2. Assume the same facts as in

Example 1, except that X desires to change

to a 52–53-week taxable year ending with

reference to the month of December. Under

paragraph (b)(1) of this section X may obtain

automatic approval to make the change. See

§ 1.442–1(b).

(c) Personal service corporation

defined—(1) In general. For purposes of

this section and section 442, a taxpayer

is a PSC for a taxable year only if—

(i) The taxpayer is a C corporation (as

defined in section 1361(a)(2)) for the

taxable year;

(ii) The principal activity of the

taxpayer during the testing period is the

performance of personal services;

(iii) During the testing period, those

services are substantially performed by

employee-owners (as defined in

paragraph (g) of this section); and

(iv) Employee-owners own (as

determined under the attribution rules

of section 318, except that ‘‘any’’ applies

instead of ‘‘50 percent’’ in section

318(a)(2)(C)) more than 10 percent of the

fair market value of the outstanding

stock in the taxpayer on the last day of

the testing period.

(2) Testing period—(i) In general.

Except as otherwise provided in

paragraph (c)(2)(ii) of this section, the

testing period for any taxable year is the

immediately preceding taxable year.

(ii) New corporations. The testing

period for a taxpayer’s first taxable year

is the period beginning on the first day

of that taxable year and ending on the

earlier of—

(A) The last day of that taxable year;

or

(B) The last day of the calendar year

in which that taxable year begins.

(3) Examples. The provisions of

paragraph (c)(2)(ii) of this section may

be illustrated by the following

examples:

Example 1. Corporation A’s first taxable

year begins on June 1, 2001, and A desires

to use a September 30 taxable year. However,

if A is a personal service corporation, it must

obtain the Commissioner’s approval to use a

September 30 taxable year. Pursuant to

paragraph (c)(2)(ii) of this section, A’s testing

period for its first taxable year beginning June

1, 2001, is the period June 1, 2001 through

September 30, 2001. Thus, if, based upon

such testing period, A is a personal service

corporation, A must obtain the

Commissioner’s permission to use a

September 30 taxable year.

Example 2. The facts are the same as in

Example 1, except that A desires to use a

March 31 taxable year. Pursuant to paragraph

(c)(2)(ii) of this section, A’s testing period for

its first taxable year beginning June 1, 2001,

is the period June 1, 2001, through December

31, 2001. Thus, if, based upon such testing

period, A is a personal service corporation,

A must obtain the Commissioner’s

permission to use a March 31 taxable year.

(d) Performance of personal

services—(1) Activities described in

section 448(d)(2)(A). For purposes of

this section, any activity of the taxpayer

described in section 448(d)(2)(A) or the

regulations thereunder will be treated as

the performance of personal services.

Therefore, any activity of the taxpayer

that involves the performance of

services in the fields of health, law,

engineering, architecture, accounting,

actuarial science, performing arts, or

consulting (as such fields are defined in

§ 1.448–1T) will be treated as the

performance of personal services for

purposes of this section.

(2) Activities not described in section

448(d)(2)(A). For purposes of this

section, any activity of the taxpayer not

described in section 448(d)(2)(A) or the

regulations thereunder will not be

treated as the performance of personal

services.

(e) Principal activity—(1) General

rule. For purposes of this section, the

principal activity of a corporation for

any testing period will be the

performance of personal services if the

cost of the corporation’s compensation

(the compensation cost) for such testing

period that is attributable to its activities

that are treated as the performance of

personal services within the meaning of

paragraph (d) of this section (i.e., the

total compensation for personal service

activities) exceeds 50 percent of the

corporation’s total compensation cost

for such testing period.

(2) Compensation cost—(i) Amounts

included. For purposes of this section,

the compensation cost of a corporation

for a taxable year is equal to the sum of

the following amounts allowable as a

deduction, allocated to a long-term

contract, or otherwise chargeable to a

capital account by the corporation

during such taxable year—

(A) Wages and salaries; and

(B) Any other amounts, attributable to

services performed for or on behalf of

the corporation by a person who is an

employee of the corporation (including

an owner of the corporation who is

treated as an employee under paragraph

(g)(2) of this section) during the testing

period. Such amounts include, but are

not limited to, amounts attributable to

deferred compensation, commissions,

bonuses, compensation includible in

income under section 83, compensation

for services based on a percentage of

profits, and the cost of providing fringe

benefits that are includible in income.

(ii) Amounts excluded.

Notwithstanding paragraph (e)(2)(i) of

this section, compensation cost does not

include amounts attributable to a plan

qualified under section 401(a) or 403(a),

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or to a simplified employee pension

plan defined in section 408(k).

(3) Attribution of compensation cost

to personal service activity—(i)

Employees involved only in the

performance of personal services. The

compensation cost for employees

involved only in the performance of

activities that are treated as personal

services under paragraph (d) of this

section, or employees involved only in

supporting the work of such employees,

are considered to be attributable to the

corporation’s personal service activity.

(ii) Employees involved only in

activities that are not treated as the

performance of personal services. The

compensation cost for employees

involved only in the performance of

activities that are not treated as personal

services under paragraph (d) of this

section, or for employees involved only

in supporting the work of such

employees, are not considered to be

attributable to the corporation’s

personal service activity.

(iii) Other employees. The

compensation cost for any employee

who is not described in either paragraph

(e)(3)(i) or paragraph (e)(3)(ii) of this

section (a mixed-activity employee) is

allocated as follows—

(A) Compensation cost attributable to

personal service activity. That portion of

the compensation cost for a mixed

activity employee that is attributable to

the corporation’s personal service

activity equals the compensation cost

for that employee multiplied by the

percentage of the total time worked for

the corporation by that employee during

the year that is attributable to activities

of the corporation that are treated as the

performance of personal services under

paragraph (d) of this section. That

percentage is to be determined by the

taxpayer in any reasonable and

consistent manner. Time logs are not

required unless maintained for other

purposes;

(B) Compensation cost not

attributable to personal service activity.

That portion of the compensation cost

for a mixed activity employee that is not

considered to be attributable to the

corporation’s personal service activity is

the compensation cost for that employee

less the amount determined in

paragraph (e)(3)(iii)(A) of this section.

(f) Services substantially performed by

employee-owners—(1) General rule.

Personal services are substantially

performed during the testing period by

employee-owners of the corporation if

more than 20 percent of the

corporation’s compensation cost for that

period attributable to its activities that

are treated as the performance of

personal services within the meaning of

paragraph (d) of this section (i.e., the

total compensation for personal service

activities) is attributable to personal

services performed by employeeowners.

(2) Compensation cost attributable to

personal services. For purposes of

paragraph (f)(1) of this section—

(i) The corporation’s compensation

cost attributable to its activities that are

treated as the performance of personal

services is determined under paragraph

(e)(3) of this section; and

(ii) The portion of the amount

determined under paragraph (f)(2)(i) of

this section that is attributable to

personal services performed by

employee-owners is to be determined by

the taxpayer in any reasonable and

consistent manner.

(3) Examples. The provisions of this

paragraph (f) may be illustrated by the

following examples:

Example 1. For its taxable year beginning

February 1, 2001, Corp A’s testing period is

the taxable year ending January 31, 2000.

During that testing period, A’s only activity

was the performance of personal services.

The total compensation cost of A (including

compensation cost attributable to employeeowners) for the testing period was

$1,000,000. The total compensation cost

attributable to employee-owners of A for the

testing period was $210,000. Pursuant to

paragraph (f)(1) of this section, the employeeowners of A substantially performed the

personal services of A during the testing

period because the compensation cost of A’s

employee-owners was more than 20 percent

of the total compensation cost for all of A’s

employees (including employee-owners).

Example 2. Corp B has the same facts as

corporation A in Example 1, except that

during the taxable year ending January 31,

2001, B also participated in an activity that

would not be characterized as the

performance of personal services under this

section. The total compensation cost of B

(including compensation cost attributable to

employee-owners) for the testing period was

$1,500,000 ($1,000,000 attributable to B’s

personal service activity and $500,000

attributable to B’s other activity). The total

compensation cost attributable to employeeowners of B for the testing period was

$250,000 ($210,000 attributable to B’s

personal service activity and $40,000

attributable to B’s other activity). Pursuant to

paragraph (f)(1) of this section, the employeeowners of B substantially performed the

personal services of B during the testing

period because more than 20 percent of B’s

compensation cost during the testing period

attributable to its personal service activities

was attributable to personal services

performed by employee-owners ($210,000).

(g) Employee-owner defined—(1)

General rule. For purposes of this

section, a person is an employee-owner

of a corporation for a testing period if—

(i) The person is an employee of the

corporation on any day of the testing

period; and

(ii) The person owns any outstanding

stock of the corporation on any day of

the testing period.

(2) Special rule for independent

contractors who are owners. Any person

who is an owner of the corporation

within the meaning of paragraph

(g)(1)(ii) of this section and who

performs personal services for, or on

behalf of, the corporation is treated as

an employee for purposes of this

section, even if the legal form of that

person’s relationship to the corporation

is such that the person would be

considered an independent contractor

for other purposes.

(h) Special rules for affiliated groups

filing consolidated returns—(1) In

general. For purposes of applying this

section to the members of an affiliated

group of corporations filing a

consolidated return for the taxable

year—

(i) The members of the affiliated

group are treated as a single corporation;

(ii) The employees of the members of

the affiliated group are treated as

employees of such single corporation;

and

(iii) All of the stock of the members

of the affiliated group that is not owned

by any other member of the affiliated

group is treated as the outstanding stock

of that corporation.

(2) Examples. The provisions of this

paragraph (h) may be illustrated by the

following examples:

Example 1. The affiliated group AB,

consisting of corporation A and its wholly

owned subsidiary B, filed a consolidated

Federal income tax return for the taxable year

ending January 31, 2001, and AB is

attempting to determine whether it is affected

by this section for its taxable year beginning

February 1, 2001. During the testing period

(i.e., the taxable year ending January 31,

2001), A did not perform personal services.

However, B’s only activity was the

performance of personal services. On the last

day of the testing period, employees of A did

not own any stock in A. However, some of

B’s employees own stock in A. In the

aggregate, B’s employees own 9 percent of

A’s stock on the last day of the testing period.

Pursuant to paragraph (h)(1) of this section,

this section is effectively applied on a

consolidated basis to members of an affiliated

group filing a consolidated federal income

tax return. Because the only employeeowners of AB are the employees of B, and

because B’s employees do not own more than

10 percent of AB on the last day of the testing

period, AB is not a PSC subject to the

provisions of this section. Thus, AB is not

required to determine on a consolidated basis

whether, during the testing period, its

principal activity is the providing of personal

services, or the personal services are

substantially performed by employee-owners.

Example 2. The facts are the same as in

Example 1, except that on the last day of the

testing period A owns only 80 percent of B.

31862 Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules

The remaining 20 percent of B is owned by

employees of B. The fair market value of A,

including its 80 percent interest in B, as of

the last day of the testing period, is

$1,000,000. In addition, the fair market value

of the 20 percent interest in B owned by B’s

employees is $50,000 as of the last day of the

testing period. Pursuant to paragraphs

(c)(1)(iv) and paragraph (h)(1) of this section,

AB must determine whether the employeeowners of A and B (i.e., B’s employees) own

more than 10 percent of the fair market value

of A and B as of the last day of the testing

period. Because the $140,000 [($1,000,000 ×

.09) + $50,000] fair market value of the stock

held by B’s employees is greater than 10

percent of the aggregate fair market value of

A and B as of the last day of the testing

period, or $105,000 [$1,000,000 + $50,000 ×

.10], AB may be subject to this section if, on

a consolidated basis during the testing

period, the principal activity of AB is the

performance of personal services and the

personal services are substantially performed

by employee-owners.

§ 1.441–4 Effective date.

Sections 1.441–0 through 1.441–3 are

applicable for taxable years ending on or

after the date these regulations are

published in the Federal Register as

final regulations.

§§ 1.441–1T, 1.441–2T, 1.441–3T and 1.441–

4T [Removed]

Par. 4. Sections 1.441–1T, 1.441–2T,

1.441–3T and 1.441–4T are removed.

Par 5. Section 1.442–1 is revised to

read as follows:

§ 1.442–1 Change of annual accounting

period.

(a) Approval of the Commissioner. A

taxpayer that has adopted an annual

accounting period (as defined in

§ 1.441–1(b)(3)) as its taxable year

generally must continue to use that

annual accounting period in computing

its taxable income and for making its

federal income tax returns. If the

taxpayer wants to change its annual

accounting period and use a new

taxable year, it must obtain the approval

of the Commissioner, unless it is

otherwise authorized to change without

the approval of the Commissioner under

either the Internal Revenue Code (e.g.,

section 444 and section 859) or the

regulations thereunder (e.g., paragraph

(c) of this section). In addition, as

described in § 1.441–1(c) and (d), a

partnership, S corporation, electing S

corporation, or personal service

corporation (PSC) generally is required

to secure the approval of the

Commissioner to adopt or retain an

annual accounting period other than its

required taxable year. The manner of

obtaining approval from the

Commissioner to adopt, change, or

retain an annual accounting period is

provided in paragraph (b) of this

section. However, special rules for

obtaining approval may be provided in

other sections.

(b) Obtaining approval—(1) Time and

manner for requesting approval. Except

as otherwise provided in paragraph

(b)(3) of this section, in order to secure

the approval of the Commissioner to

adopt, change, or retain an annual

accounting period, a taxpayer must file

an application, generally on Form 1128

(Application To Adopt, Change, or

Retain a Tax Year), with the

Commissioner. The Form 1128 must be

filed no earlier than the day following

the close of the first taxable year in

which the taxpayer wants the adoption,

change, or retention to be effective (the

first effective year) and no later than the

15th day of the third calendar month

following the close of the first effective

year. However, in the case of a change

that results in a short period of six days

or less, the Form 1128 must be filed no

later than the 15th day of the third

calendar month following the close of

the short period, even though the short

period is not treated as a separate

taxable year under § 1.441–2(b)(2).

(2) General requirements for approval.

Except as provided in paragraph (b)(3)

of this section, an adoption, change, or

retention in annual accounting period

will be approved where the taxpayer

establishes a business purpose for the

requested annual accounting period and

agrees to the Commissioner’s prescribed

terms, conditions, and adjustments for

effecting the adoption, change, or

retention. In determining whether a

taxpayer has established a business

purpose and which terms, conditions,

and adjustments will be required,

consideration will be given to all the

facts and circumstances relating to the

adoption, change, or retention,

including the tax consequences

resulting therefrom. Generally, the

requirement of a business purpose will

be satisfied, and adjustments to

neutralize any tax consequences will

not be required, if the requested annual

accounting period coincides with the

taxpayer’s required taxable year (as

defined in § 1.441–1(b)(2)), ownership

taxable year, or natural business year. In

the case of a partnership, S corporation,

electing S corporation, or PSC, deferral

of income to partners, shareholders, or

employee-owners will not be treated as

a business purpose.

(3) Administrative procedures.

Notwithstanding the provisions of

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

the Commissioner may prescribe

administrative procedures under which

a taxpayer will be permitted to adopt,

change, or retain an annual accounting

period. These administrative procedures

will describe the business purpose

requirements (including an ownership

taxable year and a natural business year)

and the terms, conditions, and

adjustments necessary to obtain

approval. Such terms, conditions, and

adjustments may include adjustments

necessary to neutralize the tax effects of

a substantial distortion of income that

would otherwise result from the

requested annual accounting period

including: a deferral of a substantial

portion of the taxpayer’s income, or

shifting of a substantial portion of

deductions, from one taxable year to

another; a similar deferral or shifting in

the case of any other person, such as a

beneficiary in an estate; the creation of

a short period in which there is a

substantial net operating loss, capital

loss, or credit (including a general

business credit); or the creation of a

short period in which there is a

substantial amount of income to offset

an expiring net operating loss, capital

loss, or credit. See, for example, Notice

2001–34 (2001–23 I.R.B. 1302),

procedures to obtain the

Commissioner’s prior approval of an

adoption, change, or retention in annual

accounting period through application

to the national office; Rev. Proc. 2000–

11 (2000–3 I.R.B. 309), automatic

approval procedures for certain

corporations; Notice 2001–35 (2001–23

I.R.B. 1314), automatic approval

procedures for partnerships, S

corporations, electing S corporations,

and PSCs; and Rev. Proc. 66–50 (1966–

2 C.B. 1260), automatic approval

procedures for individuals. For

availability of Revenue Procedures and

Notices, see § 601.601(d)(2) of this

chapter.

(4) Taxpayers to whom section 441(g)

applies. If section 441(g) and § 1.441–

1(b)(1)(iv) apply to a taxpayer, the

adoption of a fiscal year is treated as a

change in the taxpayer’s annual

accounting period under section 442.

Therefore, that fiscal year can become

the taxpayer’s taxable year only with the

approval of the Commissioner. In

addition to any other terms and

conditions that may apply to such a

change, the taxpayer must establish and

maintain books that adequately and

clearly reflect income for the short

period involved in the change and for

the fiscal year proposed.

(c) Special rule for change of annual

accounting period by subsidiary

corporation. A subsidiary corporation

that is required to change its annual

accounting period under § 1.1502–76,

relating to the taxable year of members

of an affiliated group that file a

consolidated return, does not need to

obtain the approval of the

Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules 31863

Commissioner or file an application on

Form 1128 with respect to that change.

(d) Special rule for newly married

couples. (1) A newly married husband

or wife may obtain automatic approval

under this paragraph (d) to change his

or her annual accounting period in

order to use the annual accounting

period of the other spouse so that a joint

return may be filed for the first or

second taxable year of that spouse

ending after the date of marriage. Such

automatic approval will be granted only

if the newly married husband or wife

adopting the annual accounting period

of the other spouse files a federal

income tax return for the short period

required by that change on or before the

15th day of the 4th month following the

close of the short period. See section

443 and the regulations thereunder. If

the due date for any such short-period

return occurs before the date of

marriage, the first taxable year of the

other spouse ending after the date of

marriage cannot be adopted under this

paragraph (d). The short-period return

must contain a statement at the top of

page one of the return that it is filed

under the authority of this paragraph

(d). The newly married husband or wife

need not file Form 1128 with respect to

a change described in this paragraph (d).

For a change of annual accounting

period by a husband or wife that does

not qualify under this paragraph (d), see

paragraph (b) of this section.

(2) The provisions of this paragraph

(d) may be illustrated by the following

example:

Example. H & W marry on September 25,

2001. H is on a fiscal year ending June 30,

and W is on a calendar year. H wishes to

change to a calendar year in order to file joint

returns with W. W’s first taxable year after

marriage ends on December 31, 2001. H may

not change to a calendar year for 2001 since,

under this paragraph (d), he would have had

to file a return for the short period from July

1 to December 31, 2000, by April 16, 2001.

Since the date of marriage occurred

subsequent to this due date, the return could

not be filed under this paragraph (d).

Therefore, H cannot change to a calendar

year for 2001. However, H may change to a

calendar year for 2002 by filing a return

under this paragraph (d) by April 15, 2002,

for the short period from July 1 to December

31, 2001. If H files such a return, H and W

may file a joint return for calendar year 2002

(which is W’s second taxable year ending

after the date of marriage).

(e) Effective date. The rules of this

section are applicable for taxable years

ending on or after the date these

regulations are published in the Federal

Register as final regulations.

§§ 1.442–2T and 1.442–3T [Removed]

Par. 6. Sections 1.442–2T and 1.442–

3T are removed.

Par. 7. Section 1.706–1 is amended by

revising paragraphs (a) and (b) and

adding paragraph (d) to read as follows:

§ 1.706–1 Taxable years of partner and

partnership.

(a) Year in which partnership income

is includible. (1) In computing taxable

income for a taxable year, a partner is

required to include the partner’s

distributive share of partnership items

set forth in section 702 and the

regulations thereunder for any

partnership taxable year ending within

or with the partner’s taxable year. A

partner must also include in taxable

income for a taxable year guaranteed

payments under section 707(c) that are

deductible by the partnership under its

method of accounting in the partnership

taxable year ending within or with the

partner’s taxable year.

(2) The rules of this paragraph (a)(1)

may be illustrated by the following

example:

Example. Partner A reports his income

using a calendar year, while the partnership

of which he is a member reports its income

using a fiscal year ending May 31. The

partnership reports its income and

deductions under the cash method of

accounting. During the partnership taxable

year ending May 31, 2002, the partnership

makes guaranteed payments of $120,000 to A

for services and for the use of capital. Of this

amount, $70,000 was paid to A between June

1 and December 31, 2001, and the remaining

$50,000 was paid to A between January 1 and

May 31, 2002. The entire $120,000 paid to A

is includible in A’s taxable income for the

calendar year 2002 (together with A’s

distributive share of partnership items set

forth in section 702 for the partnership

taxable year ending May 31, 2002).

(3) If a partner receives distributions

under section 731 or sells or exchanges

all or part of a partnership interest, any

gain or loss arising therefrom does not

constitute partnership income.

(b) Taxable year—(1) Partnership

treated as a taxpayer. The taxable year

of a partnership must be determined as

though the partnership were a taxpayer.

(2) Partnership’s taxable year—(i)

Required taxable year. Except as

provided in paragraph (b)(2)(ii) of this

section, the taxable year of a partnership

must be—

(A) The majority interest taxable year,

as defined in section 706(b)(4);

(B) If there is no majority interest

taxable year, the taxable year of all of

the principal partners of the

partnership, as defined in 706(b)(3) (the

principal partners’ taxable year); or;

(C) If there is no majority interest

taxable year or principal partners’

taxable year, the taxable year that

produces the least aggregate deferral of

income as determined under § 1.706–

1(b)(3).

(ii) Exceptions. A partnership may

have a taxable year other than its

required taxable year if it elects to use

a 52–53-week taxable year that ends

with reference to its required taxable

year, makes an election under section

444, or establishes a business purpose

for such taxable year and obtains

approval of the Commissioner under

section 442.

(3) Least aggregate deferral—(i)

Taxable year that results in the least

aggregate deferral of income. The

taxable year that results in the least

aggregate deferral of income will be the

taxable year of one or more of the

partners in the partnership which will

result in the least aggregate deferral of

income to the partners. The aggregate

deferral for a particular year is equal to

the sum of the products determined by

multiplying the month(s) of deferral for

each partner that would be generated by

that year and each partner’s interest in

partnership profits for that year. The

partner’s taxable year that produces the

lowest sum when compared to the other

partner’s taxable years is the taxable

year that results in the least aggregate

deferral of income to the partners. If the

calculation results in more than one

taxable year qualifying as the taxable

year with the least aggregate deferral,

the partnership may select any one of

those taxable years as its taxable year.

However, if one of the qualifying taxable

years is also the partnership’s existing

taxable year, the partnership must

maintain its existing taxable year. The

determination of the taxable year that

results in the least aggregate deferral of

income generally must be made as of the

beginning of the partnership’s current

taxable year. The district director,

however, may determine that the first

day of the current taxable year is not the

appropriate testing day and require the

use of some other day or period that will

more accurately reflect the ownership of

the partnership and thereby the actual

aggregate deferral to the partners where

the partners engage in a transaction that

has as its principal purpose the

avoidance of the principles of this

section. Thus, for example the

preceding sentence would apply where

there is a transfer of an interest in the

partnership that results in a temporary

transfer of that interest principally for

purposes of qualifying for a specific

taxable year under the principles of this

section. For purposes of this section,

deferral to each partner is measured in

terms of months from the end of the

partnership’s taxable year forward to the

end of the partner’s taxable year.

(ii) Determination of the taxable year

of a partner or partnership that uses a

52–53 week taxable year. For purposes

31864 Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules

of the calculation described in

paragraph (b)(3)(i) of this section, the

taxable year of a partner or partnership

that uses a 52–53 week taxable year

must be the same year determined

under the rules of section 441(f) and the

regulations thereunder with respect to

the inclusion of income by the partner

or partnership.

(iii) Special de minimis rule. If the

taxable year that results in the least

aggregate deferral produces an aggregate

deferral that is less than .5 when

compared to the aggregate deferral of the

current taxable year, the partnership’s

current taxable year will be treated as

the taxable year with the least aggregate

deferral. Thus, the partnership will not

be permitted to change its taxable year.

(iv) Examples. The principles of this

section may be illustrated by the

following examples:

Example 1. Partnership P is on a fiscal year

ending June 30. Partner A reports income on

the fiscal year ending June 30 and Partner B

reports income on the fiscal year ending July

31. A and B each have a 50 percent interest

in partnership profits. For its taxable year

beginning July 1, 1987, the partnership will

be required to retain its taxable year since the

fiscal year ending June 30 results in the least

aggregate deferral of income to the partners.

This determination is made as follows:

Test 6/30 Year end

Interest in

partnership

profits

Months of

deferral

for 6/30

year end

Interest ×

Deferral

Partner A .................................................................................................................................. 6/30 .5 0 0

Partner B .................................................................................................................................. 7/31 .5 1 .5

Aggregate deferral ............................................................................................................ .5

Test 7/31 Year end

Interest in

partnership

profits

Months of

deferral

for 7/31

year end

Interest ×

deferral

Partner A .................................................................................................................................. 6/30 .5 11 5.5

Partner B .................................................................................................................................. 7/31 .5 0 0

Aggregate deferral ............................................................................................................ 5.5

Example 2. The facts are the same as in

Example 1 except that A reports income on

the calendar year and B reports on the fiscal

year ending November 30. For the

partnership’s taxable year beginning July 1,

1987, the partnership is required to change

its taxable year to a fiscal year ending

November 30 because such year results in the

least aggregate deferral of income to the

partners. This determination is made as

follows:

Test 12/31 Year end

Interest in

partnership

profits

Months of

deferral

for 12/31

year end

Interest ×

deferral

Partner A .................................................................................................................................. 12/31 .5 0 0

Partner B .................................................................................................................................. 11/30 .5 11 5.5

Aggregate deferral ............................................................................................................ 5.5

Test 11/30 Year end

Interest in

partnership

profits

Months of

deferral

for 11/30

year end

Interest ×

deferral

Partner A .................................................................................................................................. 12/31 .5 1 .5

Partner B .................................................................................................................................. 11/30 .5 0 0

Aggregate deferral ............................................................................................................ .5

Example 3. The facts are the same as in

Example 2 except that B reports income on

the fiscal year ending June 30. For the

partnership’s taxable year beginning July 1,

1987, each partner’s taxable year will result

in identical aggregate deferral of income. If

the partnership’s current taxable year was

neither a fiscal year ending June 30 nor the

calendar year, the partnership would select

either the fiscal year ending June 30 or the

calendar year as its taxable year. However,

since the partnership’s current taxable year

ends June 30, it must retain its current

taxable year. This determination is made as

follows:

Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules 31865

Test 12/31 Year end

Interest in

partnership

profits

Months of

deferral

for 12/31

year end

Interest ×

deferral

Partner A .................................................................................................................................. 12/31 .5 0 0

Partner B .................................................................................................................................. 6/30 .5 6 3.0

Aggregate deferral ............................................................................................................ 3.0

Test 6/30 Year end

Interest in

partnership

profits

Months of

deferral

for 6/30

year end

Interest ×

deferral

Partner A .................................................................................................................................. 12/31 .5 6 3.0

Partner B .................................................................................................................................. 6/30 .5 0 0

Aggregate deferral ............................................................................................................ 3.0

Example 4. The facts are the same as in

Example 1except that on December 31, 1987,

partner A sells a 4 percent interest in the

partnership to Partner C, who reports income

on the fiscal year ending June 30, and a 40

percent interest in the partnership to Partner

D, who also reports income on the fiscal year

ending June 30. The taxable year beginning

July 1, 1987, is unaffected by the sale.

However, for the taxable year beginning July

31, 1988, the partnership must determine the

taxable year resulting in the least aggregate

deferral as of July 1, 1988. In this case, the

partnership will be required to retain its

taxable year since the fiscal year ending June

30 continues to be the taxable year that

results in the least aggregate deferral of

income to the partners.

Example 5. The facts are the same as in

Example 4except that Partner D reports

income on the fiscal year ending April 30. As

in Example 4, the taxable year during which

the sale took place is unaffected by the shifts

in interests. However, for its taxable year

beginning July 1, 1988, the partnership will

be required to change its taxable year to the

fiscal year ending April 30. This

determination is made as follows:

Test 7/31 Year end

Interest in

partnership

profits

Months of

deferral

for 7/31

year end

Interest ×

deferral

Partner A .................................................................................................................................. 6/30 .06 11 .66

Partner B .................................................................................................................................. 7/31 .5 0 0

Partner C ................................................................................................................................. 6/30 .04 11 .44

Partner D ................................................................................................................................. 4/30 .4 9 3.60

Aggregate deferral ............................................................................................................ 4.70

Test 6/30 Year end

Interest in

partnership

profits

Months of

deferral

for 6/30

year end

Interest ×

deferral

Partner A .................................................................................................................................. 6/30 .06 0 0

Partner B .................................................................................................................................. 7/31 .5 1 .5

Partner C ................................................................................................................................. 6/30 .04 0 0

Partner D ................................................................................................................................. 4/30 .4 10 4.0

Aggregate deferral ............................................................................................................ 4.5

Test 4/30 Year end

Interest in

partnership

profits

Months of

deferral

for 4/30

year end

Interest ×

deferral

Partner A .................................................................................................................................. 6/30 .06 2 .12

Partner B .................................................................................................................................. 7/31 .5 3 1.50

Partner C ................................................................................................................................. 6/30 .04 2 .08

Partner D ................................................................................................................................. 4/30 .4 0 0

Aggregate deferral ............................................................................................................ 1.70

§ 1.706–1(b)(3) Test:

Current taxable year (June 30) ................................................................................................................................................................ 4.5

Less: Taxable year producing the least aggregate deferral (April 30) .................................................................................................... 1.7

Additional aggregate deferral (greater than .5) ................................................................................................................................. 2.8

31866 Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules

Example 6. (i) Partnership P has two

partners, A who reports income on the fiscal

year ending March 31, and B who reports

income on the fiscal year ending July 31. A

and B share profits equally. P has determined

its taxable year under § 1.706–1(b)(3) to be

the fiscal year ending March 31 as follows:

Test 3/31 Year end

Interest in

partnership

profits

Deferral

for 3/31

year end

Interest ×

deferral

Partner A .................................................................................................................................. 3/31 .5 0 0

Partner B .................................................................................................................................. 7/31 .5 4 2

Aggregate deferral ............................................................................................................ 2

Test 7/31 Year end

Interest in

partnership

profits

Deferral

for 7/31

year end

Interest ×

deferral

Partner A .................................................................................................................................. 3/31 .5 8 4

Partner B .................................................................................................................................. 7/31 .5 0 0

Aggregate deferral ............................................................................................................ 4

(ii) In May 1988, Partner A sells a 45

percent interest in the partnership to C, who

reports income on the fiscal year ending

April 30. For the taxable period beginning

April 1, 1989, the fiscal year ending April 30

is the taxable year that produces the least

aggregate deferral of income to the partners.

However, under paragraph (b)(3)(iii) of this

section the partnership is required to retain

its fiscal year ending March 31. This

determination is made as follows:

Test 3/31 Year end

Interest in

partnership

profits

Deferral

for 3/31

year end

Interest ×

deferral

Partner A .................................................................................................................................. 3/31 .05 0 0

Partner B .................................................................................................................................. 7/31 .5 4 2.0

Partner C ................................................................................................................................. 4/30 .45 1 .45

Aggregate deferral ............................................................................................................ 2.45

Test 7/31 Year end

Interest in

partnership

profits

Deferral

for 7/31

year end

Interest ×

deferral

Partner A .................................................................................................................................. 3/31 .05 8 .40

Partner B .................................................................................................................................. 7/31 .5 0 0

Partner C ................................................................................................................................. 4/30 .45 9 4.05

Aggregate deferral ............................................................................................................ 4.45

Test 4/30 Year end

Interest in

partnership

profits

Deferral

for 4/30

year end

Interest ×

deferral

Partner A .................................................................................................................................. 3/31 .05 11 .55

Partner B .................................................................................................................................. 7/31 .5 3 1.50

Partner C ................................................................................................................................. 4/30 .45 0 0

Aggregate deferral ............................................................................................................ 2.05

§ 1.706–1(b)(3) Test:

Current taxable year (3/31) ...................................................................................................................................................................... 2.45

Less: Taxable year producing the least aggregate deferral (4/30) .......................................................................................................... 2.05

Additional aggregate deferral (less than .5) ...................................................................................................................................... .40

(4) Measurement of partner’s profits

and capital interest— (i) In general. The

rules of this paragraph (b)(4) apply in

determining the majority interest

taxable year, the principal partners’

taxable year, and the least aggregate

deferral taxable year.

(ii) Profits interest—(A) In general.

For purposes of section 706(b), a

partner’s interest in partnership profits

is generally the partner’s percentage

share of partnership profits for the

current partnership taxable year. If the

partnership does not expect to have net

income for the current partnership

taxable year, then a partner’s interest in

partnership profits instead must be the

partner’s percentage share of

partnership net income for the first

taxable year in which the partnership

expects to have net income.

Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules 31867

(B) Percentage share of partnership

net income. The partner’s percentage

share of partnership net income for a

partnership taxable year is the ratio of:

the partner’s distributive share of

partnership net income for the taxable

year, to the partnership’s net income for

the year. If a partner’s percentage share

of partnership net income for the

taxable year depends on the amount or

nature of partnership income for that

year (due to, for example, preferred

returns or special allocations of specific

partnership items), then the partnership

must make a reasonable estimate of the

amount and nature of its income for the

taxable year. This estimate must be

based on all facts and circumstances

known to the partnership as of the first

day of the current partnership taxable

year. The partnership must then use this

estimate in determining the partners’

interests in partnership profits for the

taxable year.

(C) Distributive share. For purposes of

this paragraph (b)(4)(ii), a partner’s

distributive share of partnership net

income is determined by taking into

account all rules and regulations

affecting that determination, including,

without limitation, section 704(b), (c),

and (e), section 736, and section 743.

(iii) Capital interest. Generally, a

partner’s interest in partnership capital

is determined by reference to the assets

of the partnership that the partner

would be entitled to upon withdrawal

from the partnership or upon

liquidation of the partnership. If the

partnership maintains capital accounts

in accordance with § 1.704–1(b)(2)(iv),

then for purposes of section 706(b), the

partnership may assume that a partner’s

interest in partnership capital is the

ratio of the partner’s capital account to

all partners’ capital accounts as of the

first day of the partnership taxable year.

(5) Certain tax-exempt partners

disregarded. [Reserved]

(6) Foreign partners. [Reserved]

(7) Adoption of taxable year. A newlyformed partnership may adopt, in

accordance with § 1.441–1(c), its

required taxable year, a 52–53-week

taxable year ending with reference to its

required taxable year, or a taxable year

elected under section 444 without

securing the approval of the

Commissioner. If a newly-formed

partnership wants to adopt any other

taxable year, it must establish a business

purpose and secure the approval of the

Commissioner under section 442.

(8) Change in taxable year—(i)

Partnerships—(A) Approval required.

An existing partnership may change its

taxable year only by securing the

approval of the Commissioner under

section 442 or making an election under

section 444. However, a partnership

may obtain automatic approval for

certain changes, including a change to

its required taxable year, pursuant to

administrative procedures published by

the Commissioner.

(B) Short period tax return. A

partnership that changes its taxable year

must make its return for a short period

in accordance with section 443, but

must not annualize the partnership

taxable income.

(C) Change in required taxable year. If

a partnership is required to change to its

majority interest taxable year, then no

further change in the partnership’s

required taxable year is required for

either of the two years following the

year of the change. This limitation

against a second change within a threeyear period applies only if the first

change was to the majority interest

taxable year and does not apply

following a change in the partnership’s

taxable year to the principal partners’

taxable year or the least aggregate

deferral taxable year.

(ii) Partners. Except as otherwise

provided in the Internal Revenue Code

or the regulations thereunder (e.g.,

section 859 regarding real estate

investment trusts or § 1.442–2(c)

regarding a subsidiary changing to its

consolidated parent’s taxable year), a

partner may not change its taxable year

without securing the approval of the

Commissioner under section 442.

However, certain partners may be

eligible to obtain automatic approval to

change their taxable years pursuant to

the regulations or administrative

procedures published by the

Commissioner. A partner that changes

its taxable year must make its return for

a short period in accordance with

section 443.

(9) Retention of taxable year. In

certain cases, a partnership will be

required to change its taxable year

unless it obtains the approval of the

Commissioner under section 442, or

makes an election under section 444, to

retain its current taxable year. For

example, a partnership using a taxable

year that corresponds to its required

taxable year must obtain the approval of

the Commissioner to retain such taxable

year if its required taxable year changes

as a result of a change in ownership,

unless the partnership previously

obtained approval for its current taxable

year or, if appropriate, makes an

election under section 444.

(10) Procedures for obtaining

approval or making a section 444

election. See § 1.442–1(b) for procedures

to obtain the approval of the

Commissioner (automatically or

otherwise) to adopt, change, or retain a

taxable year. See §§ 1.444–1T and

1.444–2T for qualifications, and

§ 1.444–3T for procedures, for making

an election under section 444.

* * * * *

(d) Effective date. The rules of this

section are applicable for taxable years

ending on or after the date these

regulations are published in the Federal

Register as final regulations, except for

paragraph (c) which applies for taxable

years beginning after December 31,

1953.

§ 1.706–1T [Removed]

Par. 8. Section 1.706–1T is removed.

Par. 9. Section 1.898–4, as proposed

to be added at 58 FR 297, January 5,

1993, is amended by adding paragraph

(c)(3)(iv) to read as follows:

§ 1.898–4 Special rules.

* * * * *

(c) * * *

(3) * * *

(iv) Recognition of income and

deductions. See § 1.441–2(e) for rules

regarding the recognition of income and

deductions (e.g., amounts includible in

gross income pursuant to sections 951(a)

or 553) if either the majority United

States shareholder, or the specified

foreign corporation, or both, elect to use

a 52–53-week taxable year under this

paragraph (c)(3).

* * * * *

Par. 10. Section 1.1378–1 is added

under the undesignated centerheading

‘‘Small Business Corporations and Their

Shareholders’’ to read as follows:

§ 1.1378–1 Taxable year of S corporation.

(a) In general. The taxable year of an

S corporation must be a permitted year

or a taxable year elected under section

444. No corporation may make an

election to be an S corporation for any

taxable year unless the taxable year is a

permitted year or a taxable year elected

under section 444. In addition, an S

corporation may not change its taxable

year to any taxable year other than a

permitted year or a taxable year elected

under section 444. A permitted year is

the required taxable year (i.e., a taxable

year ending on December 31), a 52–53-

week taxable year ending with reference

to the required taxable year, or any other

taxable year for which the corporation

establishes a business purpose to the

satisfaction of the Commissioner under

section 442.

(b) Adoption of taxable year. An

electing S corporation may adopt, in

accordance with § 1.441–1(c), its

required taxable year, a 52–53-week

taxable year ending with reference to its

required taxable year, or a taxable year

elected under section 444 without the

31868 Federal Register / Vol. 66, No. 114 / Wednesday, June 13, 2001 / Proposed Rules

approval of the Commissioner. See

§ 1.441–1. An electing S corporation

that wants to adopt any other taxable

year, must establish a business purpose

and obtain the approval of the

Commissioner under section 442.

(c) Change in taxable year. An S

corporation or electing S corporation

that wants to change its taxable year

must obtain the approval of the

Commissioner under section 442 or

make an election under section 444.

However, an S corporation or electing S

corporation may obtain automatic

approval for certain changes, including

a change to its required taxable year,

pursuant to administrative procedures

published by the Commissioner.

(d) Retention of taxable year. In

certain cases, an S corporation or

electing S corporation will be required

to change its taxable year unless it

obtains the approval of the

Commissioner under section 442, or

makes an election under section 444, to

retain its current taxable year. For

example, a corporation using a June 30

fiscal year that elects to be an S

corporation and, as a result, is required

to use the calendar year must obtain the

approval of the Commissioner to retain

its current fiscal year.

(e) Procedures for obtaining approval

or making a section 444 election—(1) In

general. See § 1.442–1(b) for procedures

to obtain the approval of the

Commissioner (automatically or

otherwise) to adopt, change, or retain a

taxable year. See §§ 1.444–1T and

1.444–2T for qualifications, and 1.444–

3T for procedures, for making an

election under section 444.

(2) Special rules for electing S

corporations. An electing S corporation

that wants to adopt, change to, or retain

a taxable year other than its required

taxable year must request approval of

the Commissioner on Form 2553

(Election by a Small Business

Corporation) when the election to be an

S corporation is filed pursuant to

section 1362(b) and § 1.1362–6. See

§ 1.1362–6(a)(2)(i) for the manner of

making an election to be an S

corporation. If such corporation receives

permission to adopt, change to, or retain

a taxable year other than its required

taxable year, the election to be an S

corporation will be effective. Denial of

the request renders the election

ineffective unless the corporation agrees

that, in the event the request to adopt,

change to, or retain a taxable year other

than its required taxable year is denied,

it will adopt, change to, or retain its

required taxable year or, if applicable,

make an election under section 444.

(f) Effective date. The rules of this

section are applicable for taxable years

ending on or after the date these

regulations are published in the Federal

Register as final regulations.

PART 5c—TEMPORARY INCOME TAX

REGULATIONS UNDER THE

ECONOMIC RECOVERY TAX ACT OF

1981

Par. 11. The authority citation for part

5c continues to read as follows:

Authority: 26 U.S.C. 168(f)(8)(G) and 7805.

§ 5c.442–1 [Removed]

Par. 12. Section 5c.442–1 is removed.

PART 5f—TEMPORARY INCOME TAX

REGULATIONS UNDER THE TAX

EQUITY AND FISCAL RESPONSIBILITY

ACT OF 1982

Par. 13. The authority citation for part

5f continues to read in part as follows:

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

§ 5f.442–1 [Removed]

Par. 14. Section 5f.442–1 is removed.

PART 18—TEMPORARY INCOME TAX

REGULATIONS UNDER THE

SUBCHAPTER S REVISION ACT OF

1982

Par. 15. The authority citation for part

18 continues to read as follows:

Authority: 26 U.S.C. 7805.

§ 18.1378–1 [Removed]

Par. 16. Section 18.1378–1 is

removed.

Robert E. Wenzel,

Deputy Commissioner of Internal Revenue.

[FR Doc. 01–13536 Filed 6–12–01; 8:45 am]

BILLING CODE 4830–01–P

DEPARTMENT OF TRANSPORTATION

Coast Guard

33 CFR Part 100

[CGD05–00–046]

RIN 2115–AE46

Special Local Regulations for Marine

Events; Fireworks Displays, Patapsco

River, Baltimore, Maryland

AGENCY: Coast Guard, DOT.

ACTION: Notice of proposed rulemaking.

SUMMARY: The Coast Guard proposes to

establish permanent special local

regulations for fireworks displays to be

held over the waters of the Patapsco

River, Baltimore, Maryland. These

special local regulations are necessary to

provide for the safety of life on

navigable waters during the fireworks

displays. This action is intended to

temporarily restrict vessel traffic in the

Patapsco River to protect spectator craft

and other vessels transiting the event

area from the dangers associated with

the fireworks.

DATES: Comments and related material

must reach the Coast Guard on or before

August 13, 2001.

ADDRESSES: You may mail comments

and related material to Commander

(Aoax), Fifth Coast Guard District, 431

Crawford Street, Portsmouth, Virginia

23704–5004, hand-deliver them to

Room 119 at the same address between

9 a.m. and 2 p.m., Monday through

Friday, except Federal holidays, or fax

them to (757) 398–6203. Commander

(Aoax), Fifth Coast Guard District,

maintains the public docket for this

rulemaking. Comments and materials

received from the public as well as

documents indicated in this preamble as

being available in the docket, will

become part of this docket and will be

available for inspection or copying at

the above address between 9 a.m. and 2

p.m., Monday through Friday, except

Federal holidays.

FOR FURTHER INFORMATION CONTACT:

Chief Warrant Officer R. Houck, Marine

Events Coordinator, Commander, Coast

Guard Activities Baltimore, telephone

number (410) 576–2674.

SUPPLEMENTARY INFORMATION:

Request for Comments

We encourage you to participate in

this rulemaking by submitting

comments and related material. If you

do so, please include your name and

address, identify the docket number for

this rulemaking (CGD05–00–046),

indicate the specific section of this

document to which each comment

applies, and give the reason for each

comment. Please submit all comments

and related material in an unbound

format, no larger than 81⁄2 by 11 inches,

suitable for copying. If you would like

to know that your comments reached us,

please enclose a stamped, self-addressed

postcard or envelope. We will consider

all comments and material received

during the comment period. We may

change this proposed rule in view of

them.

Public Meeting

We do not now plan to hold a public

meeting. But you may submit a request

for a meeting by writing to the address

listed under ADDRESSES explaining why

one would be beneficial. If we

determine that one would aid this

rulemaking, we will hold one at a time

and place announced by a later notice

in the Federal Register.