Federal Register / Vol. 60, No. 244 / Wednesday, December 20, 1995 / Rules and Regulations 65547

shall continue and may be relied upon

until the earliest of—

(A) The expiration or material

modification of the plan or agreement;

(B) The issuance of all employer stock

and other compensation that has been

allocated under the plan; or

(C) The first meeting of shareholders

at which directors are to be elected that

occurs after December 31, 1996.

(iii) Stock-based compensation. This

paragraph (h)(3) will apply to any

compensation received pursuant to the

exercise of a stock option or stock

appreciation right, or the substantial

vesting of restricted property, granted

under a plan or agreement described in

paragraph (h)(3)(i) of this section if the

grant occurs on or before the earliest of

the events specified in paragraph

(h)(3)(ii) of this section.

(iv) Example. The following example

illustrates the application of this

paragraph (h)(3):

Example. Corporation Z adopted a stock

option plan in 1991. Pursuant to Rule 16b–

3 under the Exchange Act, the stock option

plan has been administered by disinterested

directors and was approved by Corporation Z

shareholders. Under the terms of the plan,

shareholder approval is not required again

until 2001. In addition, the terms of the stock

option plan include an aggregate limit on the

number of shares available under the plan.

Option grants under the Corporation Z plan

are made with an exercise price equal to or

greater than the fair market value of

Corporation Z stock. Compensation

attributable to the exercise of options that are

granted under the plan before the earliest of

the dates specified in paragraph (h)(3)(ii) of

this section will be treated as satisfying the

requirements of paragraph (e) of this section

for qualified performance-based

compensation, regardless of when the

options are exercised.

(i) (Reserved)

(j) Effective date—(1) In general.

Section 162(m) and this section apply to

compensation that is otherwise

deductible by the corporation in a

taxable year beginning on or after

January 1, 1994.

(2) Delayed effective date for certain

provisions—(i) Date on which

remuneration is considered paid.

Notwithstanding paragraph (j)(1) of this

section, the rules in the second sentence

of each of paragraphs (e)(3)(ii)(A),

(e)(3)(ii)(B), and (e)(3)(ii)(C) of this

section for determining the date or dates

on which remuneration is considered

paid to a director are effective for

taxable years beginning on or after

January 1, 1995. Prior to those taxable

years, taxpayers must follow the rules in

paragraphs (e)(3)(ii)(A), (e)(3)(ii)(B), and

(e)(3)(ii)(C) of this section or another

reasonable, good faith interpretation of

section 162(m) with respect to the date

or dates on which remuneration is

considered paid to a director.

(ii) Separate treatment of publicly

held subsidiaries. Notwithstanding

paragraph (j)(1) of this section, the rule

in paragraph (c)(1)(ii) of this section that

treats publicly held subsidiaries as

separately subject to section 162(m) is

effective as of the first regularly

scheduled meeting of the shareholders

of the publicly held subsidiary that

occurs more than 12 months after

December 2, 1994. The rule for stockbased compensation set forth in

paragraph (f)(3) of this section will

apply for this purpose, except that the

grant must occur before the shareholder

meeting specified in this paragraph

(j)(2)(ii). Taxpayers may choose to rely

on the rule referred to in the first

sentence of this paragraph (j)(2)(ii) for

the period prior to the effective date of

the rule.

(iii) Subsidiaries that become separate

publicly held corporations.

Notwithstanding paragraph (j)(1) of this

section, if a subsidiary of a publicly

held corporation becomes a separate

publicly held corporation as described

in paragraph (f)(4)(i) of this section,

then, for the duration of the reliance

period described in paragraph (f)(2) of

this section, the rules of paragraph (f)(1)

of this section are treated as applying

(and the rules of paragraph (f)(4) of this

section do not apply) to remuneration

paid to covered employees of that new

publicly held corporation pursuant to a

plan or agreement that existed prior to

December 2, 1994, provided that the

treatment of that remuneration as

performance-based is in accordance

with a reasonable, good faith

interpretation of section 162(m).

However, if remuneration is paid to

covered employees of that new publicly

held corporation pursuant to a plan or

agreement that existed prior to

December 2, 1994, but that

remuneration is not performance-based

under a reasonable, good faith

interpretation of section 162(m), the

rules of paragraph (f)(1) of this section

will be treated as applying only until

the first regularly scheduled meeting of

shareholders that occurs more than 12

months after December 2, 1994. The

rules of paragraph (f)(4) of this section

will apply as of that first regularly

scheduled meeting. The rule for stockbased compensation set forth in

paragraph (f)(3) of this section will

apply for purposes of this paragraph

(j)(2)(iii), except that the grant must

occur before the shareholder meeting

specified in the preceding sentence if

the remuneration is not performancebased under a reasonable, good faith

interpretation of section 162(m).

Taxpayers may choose to rely on the

rules of paragraph (f)(4) of this section

for the period prior to the applicable

effective date referred to in the first or

second sentence of this paragraph

(j)(2)(iii).

(iv) Bonus pools. Notwithstanding

paragraph (j)(1) of this section, the rules

in paragraph (e)(2)(iii)(A) that limit the

sum of individual percentages of a

bonus pool to 100 percent will not

apply to remuneration paid before

January 1, 2001, based on performance

in any performance period that began

prior to December 20, 1995.

(v) Compensation based on a

percentage of salary or base pay.

Notwithstanding paragraph (j)(1) of this

section, the requirement in paragraph

(e)(4)(i) of this section that, in the case

of certain formulas based on a

percentage of salary or base pay, a

corporation disclose to shareholders the

maximum dollar amount of

compensation that could be paid to the

employee, will apply only to plans

approved by shareholders after April 30,

1995.

PART 602—OMB CONTROL NUMBERS

UNDER THE PAPERWORK

REDUCTION ACT

Par. 3. The authority citation for part

602 continues to read as follows:

Authority: 26 U.S.C. 7805.

§ 602.101 [Amended]

Par. 4. In § 602.101, paragraph (c) is

amended by adding the entry ‘‘1.162–

27. . . . 1545–1466’’ in numerical order

to the table.

Margaret Milner Richardson,

Commissioner of Internal Revenue.

Approved: December 12, 1995.

Leslie Samuels,

Assistant Secretary of the Treasury.

[FR Doc. 95–30869 Filed 12–19–95; 8:45 am]

BILLING CODE 4830–01–U

26 CFR Part 1

[TD 8635]

RIN 1545–AS92

Nonbank Trustee Net Worth

Requirements

AGENCY: Internal Revenue Service (IRS),

Treasury.

ACTION: Final and temporary

regulations.

SUMMARY: This document contains

regulations that provide guidance to

nonbank trustees with respect to the

adequacy of net worth requirements that

must be satisfied in order to be or
65548 Federal Register / Vol. 60, No. 244 / Wednesday, December 20, 1995 / Rules and Regulations

remain an approved nonbank trustee.

These regulations affect nonbank

trustees and custodians of individual

retirement accounts, and nonbank

custodians of qualified plans and taxsheltered annuities.

EFFECTIVE DATE: These regulations are

effective December 20, 1995.

FOR FURTHER INFORMATION CONTACT:

Marjorie Hoffman, (202) 622–6030 (not

a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

On December 6, 1994, temporary

regulations (TD 8570) under section 401

were published in the Federal Register

(59 FR 62570). A notice of proposed

rulemaking (EE–38–94), crossreferencing the temporary regulations,

was published in the Federal Register

(59 FR 62644) on the same day. The

temporary regulations provide guidance

on the adequacy of net worth

requirements for nonbank trustees and

custodians of individual retirement

plans, and for nonbank custodians of

custodial accounts of qualified plans

and tax-sheltered annuities.

After consideration of all of the

comments, the temporary regulations

are replaced and the proposed

regulations are adopted as revised by

this Treasury decision. Because section

401(d)(1), under which § 1.401–12 was

originally issued, was repealed by

section 237(a) of the Tax Equity and

Fiscal Responsibility Act of 1982, Public

Law 97–248 (1982), these final

regulations also move all the rules for

nonbank trustees and custodians that

were previously in § 1.401–12(n) to

§ 1.408–2.

Explanation of Provisions

The fiduciary conduct rules for

nonbank trustees and custodians under

longstanding Treasury regulations

require nonbank trustees and custodians

to maintain a minimum amount of net

worth in order to qualify as an approved

nonbank trustee or custodian. Under

this requirement, the nonbank trustee or

custodian’s net worth must exceed the

greater of a specified dollar amount or

a percentage of the value of all assets

held in fiduciary accounts of retirement

plans. A primary objective of this

adequacy-of-net-worth requirement has

been to ensure that nonbank trustees

and custodians maintain a level of

solvency commensurate with their

financial and fiduciary responsibilities.

Under the general net worth

requirement, nonbank trustees and

custodians may not accept new

accounts unless their net worth exceeds

the greater of $100,000 or four percent

of the value of all assets held in

fiduciary accounts. Additionally,

nonbank trustees and custodians must

take whatever steps are necessary

(including the relinquishment of

fiduciary accounts) to ensure that their

net worth exceeds the greater of $50,000

or two percent of the value of all assets

held by them in fiduciary accounts.

For passive nonbank trustees and

custodians (qualified nonbank entities

that have no discretion to direct the

investment of assets), the percentage

requirements are lower. Specifically,

passive nonbank trustees and

custodians may not accept new

accounts unless their net worth exceeds

the greater of $100,000 or two percent

of the value of all assets held in

fiduciary accounts. Additionally, they

must take appropriate action (including

the relinquishment of fiduciary

accounts) to ensure that their net worth

exceeds the greater of $50,000 or one

percent of the value of assets held in

their fiduciary accounts.

The proposed and temporary

regulations provide a special rule for

passive nonbank trustees and

custodians that are broker-dealers and

members of the Securities Investor

Protection Corporation (SIPC). The

proposed and temporary regulations

provide that, to the extent that assets

held in any fiduciary accounts are

insured by SIPC in the event of the

member’s liquidation ($500,000 per

account, $100,000 of which may be

cash), the assets will be disregarded in

determining the value of assets held in

fiduciary accounts by the trustee or

custodian for purposes of the percentage

part of the net worth requirement.

The final regulations adopt the

provisions of the proposed and

temporary regulations. In addition, in

response to comments, the final

regulations extend the SIPC-related

relief to all nonbank trustees and

custodians that are broker-dealers and

members of SIPC rather than limiting

the relief to passive nonbank trustees

and custodians. The final regulations

provide that the amount of the

minimum net worth requirement for

nonbank trustees and custodians that

are SIPC members is reduced by either

two percent of assets insured by SIPC

(in the case of the minimum net worth

requirement that applies to a trustee or

custodian accepting additional

accounts) or one percent of assets

insured by SIPC (in the case of the

minimum net worth requirement that

must be satisfied to avoid a mandatory

relinquishment of accounts). An

example in the regulations illustrates

this rule.

The final regulations also retain the

rule in the proposed and temporary

regulations that increased the initial net

worth requirement for all nonbank

trustees and custodians. The purpose of

the rule is to better assure that the

enterprises are sound and well-funded

during their start-up period. This initial

net worth requirement requires all new

entities applying for nonbank trustee or

custodian status to have a net worth of

not less than $250,000 for the most

recent taxable year preceding the

applicant’s initial application.

This new initial net worth

requirement applies only to applications

received after January 5, 1995.

Previously approved nonbank trustees

and custodians need only satisfy the

ongoing net worth requirement.

Special Analyses

It has been determined that this

Treasury decision is not a significant

regulatory action as defined in EO

12866. Therefore, a regulatory

assessment is not required. It also has

been determined that section 553(b) of

the Administrative Procedure Act (5

U.S.C. chapter 5) and the Regulatory

Flexibility Act (5 U.S.C. chapter 6) do

not apply to these regulations, and,

therefore, a Regulatory Flexibility

Analysis is not required. Pursuant to

section 7805(f) of the Internal Revenue

Code, the notice of proposed rulemaking

preceding these regulations was

submitted to the Small Business

Administration for comment on its

impact on small business.

Drafting Information

The principal author of these

regulations is Marjorie Hoffman, Office

of the Associate Chief Counsel,

(Employee Benefits and Exempt

Organizations) IRS. However, other

personnel from the IRS and Treasury

Department participated in their

development.

List of Subjects in 26 CFR Part 1

Income taxes, Reporting and

recordkeeping requirements.

Adoption of Amendments to the

Regulations

Accordingly, 26 CFR part 1 is

amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation

for part 1 is amended by adding an entry

in numerical order to read as follows:

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

§ 1.401–12 also issued under 26

U.S.C. 401(d)(1). * * *
Federal Register / Vol. 60, No. 244 / Wednesday, December 20, 1995 / Rules and Regulations 65549

§§ 1.401–12 and 1.408–2 [Amended]

Par. 2. Paragraph (n) of § 1.401–12 is

redesignated as paragraph (e) of § 1.408–

2 and the authority citation immediately

following § 1.401–12 is removed.

§ 1.401–12T [Removed]

Par. 3. Section 1.401–12T is removed.

§ 1.401(f)–1 [Amended]

Par. 4. Section 1.401(f)–1 is amended

by:

1. Removing the language ‘‘section

401(d)(1) and the regulations

thereunder’’ and adding ‘‘§ 1.408–2(e)’’

in its place in the last sentence of

paragraph (b)(1)(ii).

2. Removing the language ‘‘401(d)(1)

and adding ‘‘408(n)’’ in its place in

paragraph (d)(1).

Par. 5. Section 1.408–2 is amended

by:

1. Removing the language ‘‘401(d)(1)’’

and adding ‘‘408(n)’’ in its place in

paragraph (b)(2)(i).

2. Removing the language ‘‘(b)(2)(ii)’’

and adding ‘‘(e)’’ in its place in

paragraph (b)(2)(i).

3. Removing paragraph (b)(2)(ii).

4. Redesignating (b)(2)(iii) as (b)(2)(ii).

5. Removing newly designated

paragraphs (e)(1) and (e)(9).

6. Further redesignating paragraphs

(e)(2) through (e)(8) as paragraphs (e)(1)

through (e)(7), respectively.

7. Removing the language ‘‘For the

plan years to which this paragraph

applies, the’’ and adding ‘‘The’’ in its

place, and removing the language

‘‘(c)(1)(i)’’ and adding ‘‘(b)’’ in its place,

in the first sentence of newly designated

paragraph (e)(1).

8. Removing the language ‘‘401’’ and

adding ‘‘408’’ in its place, and removing

the language ‘‘(n)(3) to (n)(7)’’ and

adding ‘‘(e)(2) to (e)(6)’’ in its place, in

the second sentence of newly

designated paragraph (e)(1).

9. Removing the language

‘‘Commissioner of Internal Revenue,

Attention: E:EP, Internal Revenue

Service, Washington, D.C. 20224’’ and

adding ‘‘the address prescribed by the

Commissioner in revenue rulings,

notices, and other guidance published

in the Internal Revenue Bulletin (see

§ 601.601(d)(2)(ii)(b) of this chapter)’’ in

its place in the third sentence of newly

designated paragraph (e)(1), in the last

sentence of newly designated

(e)(6)(9)(iv), and in the first sentence of

newly designated (e)(6)(v)(B).

10. Removing the language ‘‘(n)(8)’’

and adding ‘‘(e)(7)’’ in its place in the

last sentence of newly designated

paragraph (e)(1).

11. Removing the language ‘‘(n)(6)’’

and adding ‘‘(e)(5)’’ in its place in newly

designated paragraph (e)(2)(iv).

12. Redesignating newly designated

paragraph (e)(5)(ii)(A) as paragraph

(e)(5)(ii)(E).

13. Removing the language

‘‘(n)(7)(i)(A)’’ and adding ‘‘(e)(6)(i)(A)’’

in its place in newly designated

paragraph (e)(5)(ii)(B)(2) and in newly

designated paragraph (e)(5)(ii)(C)(2).

14. Removing the language

‘‘(n)(6)(iii)(A)’’ and adding

‘‘(e)(5)(iii)(A)’’ in its place in newly

designated paragraph (e)(5)(iii)(B).

15. Removing the language

‘‘(n)(6)(vi)’’ and adding ‘‘(e)(5)(vi)’’ in its

place in newly designated paragraph

(e)(5)(v)(A).

16. Removing the language

‘‘(n)(6)(viii)(C)’’ and adding

‘‘(e)(5)(viii)(C)’’ in its place in newly

designated paragraph (e)(5)(vi).

17. Removing the language ‘‘(n)(3)(v)’’

and adding ‘‘(e)(2)(v)’’ in its place, and

removing the language ‘‘(n)(8)’’ and

adding ‘‘(e)(7)’’ in its place, in newly

designated paragraph (e)(5)(viii).

18. Removing the language

‘‘(n)(6)(i)(A)(3)’’ and adding

‘‘(e)(5)(i)(A)(3)’’ in its place, and

removing the language ‘‘(n)(5)(ii)(E)’’

and adding ‘‘(e)(4)(ii)(E)’’ in its place, in

the third sentence of newly designated

paragraph (e)(6)(i)(A).

19. Removing the language

‘‘(n)(7)(iii)(A)(3)’’ and adding

‘‘(e)(6)(iii)(A)(3)’’ in its place in newly

designated paragraph (e)(6)(iii)(C).

20. Revising newly designated

paragraph (e)(5)(ii)(A) and adding

paragraph (e)(5)(ii)(D).

21. The revision and addition read as

follows:

§ 1.408–2 Individual retirement accounts.

* * * * *

(e) * * *

* * * * *

(5) * * *

(ii) Adequacy of net worth—(A) Initial

net worth requirement. In the case of

applications received after January 5,

1995, no initial application will be

accepted by the Commissioner unless

the applicant has a net worth of not less

than $250,000 (determined as of the end

of the most recent taxable year).

Thereafter, the applicant must satisfy

the adequacy of net worth requirements

of paragraph (e)(6)(ii) (B) and (C) of this

section.

* * * * *

(D) Assets held by members of SIPC—

(1) For purposes of satisfying the

adequacy-of-net-worth requirement of

this paragraph, a special rule is

provided for nonbank trustees that are

members of the Securities Investor

Protection Corporation (SIPC) created

under the Securities Investor Protection

Act of 1970 (SIPA)(15 U.S.C. 78aaa et

seq., as amended). The amount that the

net worth of a nonbank trustee that is a

member of SIPC must exceed is reduced

by two percent for purposes of

paragraph (e)(5)(ii)(B)(2), and one

percent for purposes of paragraph

(e)(5)(ii)(C)(2), of the value of assets

(determined on an account-by-account

basis) held for the benefit of customers

(as defined in 15 U.S.C. 78fff–2(e)(4)) in

fiduciary accounts by the nonbank

trustee to the extent of the portion of

each account that does not exceed the

dollar limit on advances described in 15

U.S.C. 78fff–3(a), as amended, that

would apply to the assets in that

account in the event of a liquidation

proceeding under the SIPA.

(2) The provisions of this special rule

for assets held in fiduciary accounts by

members of SIPC are illustrated in the

following example.

Example—(a) Trustee X is a broker-dealer

and is a member of the Securities Investment

Protection Corporation. Trustee X also has

been approved as a nonbank trustee for

individual retirement accounts (IRAs) by the

Commissioner but not as a passive nonbank

trustee. Trustee X is the trustee for four IRAs.

The total assets of each IRA (for which

Trustee X is the trustee) as of the most recent

valuation date before the last day of Trustee

X’s taxable year ending in 1995 are as

follows: the total assets for IRA–1 is

$3,000,000 (all of which is invested in

securities); the value of the total assets for

IRA–2 is $500,000 ($200,000 of which is cash

and $300,000 of which is invested in

securities), the value of the total assets for

IRA–3 is $400,000 (all of which is invested

in securities); and the value of the total assets

of IRA–4 is $200,000 (all of which is cash).

The value of all assets held in fiduciary

accounts, as defined in § 1.408–

2(e)(6)(viii)(A), is $4,100,000.

(b) The dollar limit on advances described

in 15 U.S.C. § 78fff–3(a) that would apply to

the assets in each account in the event of a

liquidation proceeding under the Securities

Investor Protection Act of 1970 in effect as

of the last day of Trustee X’s taxable year

ending in 1995 is $500,000 per account (no

more than $100,000 of which is permitted to

be cash). Thus, the dollar limit that would

apply to IRA–1 is $500,000; the dollar limit

for IRA–2 is $400,000 ($100,000 of the cash

and the $300,000 of the value of the

securities); the dollar limit for IRA–3 is

$400,000 (the full value of the account

because the value of the account is less than

$500,000 and no portion of the account is

cash); and the dollar limit for IRA–4 is

$100,000 (the entire account is cash and the

dollar limit per account for cash is $100,000).

The aggregate dollar limits of the four IRAs

is $1,400,000.

(c) For 1996, the amount determined under

§ 1.408–2(e)(6)(ii)(B) is determined as follows

for Trustee X: (1) four percent of $4,100,000

equals $164,000; (2) two percent of

$1,400,000 equals $28,000; and (3) $164,000

minus $28,000 equals $136,000. Thus,
65550 Federal Register / Vol. 60, No. 244 / Wednesday, December 20, 1995 / Rules and Regulations

because $136,000 exceeds $100,000, the

minimum net worth necessary for Trustee X

to accept new accounts for 1996 is $136,000.

(d) For 1996, the amount determined under

§ 1.408–2(e)(6)(ii)(C) for Trustee X is

determined as follows: (1) two percent of

$4,100,000 equals $82,000; (2) one percent of

$1,400,000 equals $14,000; and (3) $82,000

minus $14,000 equals $68,000. Thus, because

$68,000 exceeds $50,000, the minimum net

worth necessary for Trustee X to avoid a

mandatory relinquishment of accounts for

1996 is $68,000.

* * * * *

Margaret Milner Richardson,

Commissioner of Internal Revenue.

Approved: December 12, 1995.

Leslie Samuels,

Assistant Secretary of the Treasury.

[FR Doc. 95–30684 Filed 12–19–95; 8:45 am]

BILLING CODE 4830–01–U

26 CFR Part 1

[TD 8640]

RIN 1545–AI52

Exempt Organizations Not Required To

File Annual Returns: Integrated

Auxiliaries of Churches

AGENCY: Internal Revenue Service (IRS),

Treasury.

ACTION: Final regulations.

SUMMARY: This document contains final

regulations that exempt certain

integrated auxiliaries of churches from

filing information returns. These

regulations incorporate the rules of Rev.

Proc. 86–23 (1986–1 C.B. 564), into the

regulations defining integrated auxiliary

for purposes of determining what

entities must file information returns.

The new definition focuses on the

sources of an organization’s financial

support in addition to the nature of the

organization’s activities.

DATES: These regulations are effective

December 20, 1995.

For dates of applicability of these

regulations, see § 1.6033–2(h)(6).

FOR FURTHER INFORMATION CONTACT:

Terri Harris or Paul Accettura, of the

Office of the Associate Chief Counsel

(Employee Benefits and Exempt

Organizations), IRS, at 202–622–6070

(not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

On December 15, 1994 proposed

regulations §§ 1.6033–2 and 1.508–1

[EE–41–86 (1995–2 I.R.B. 20)] under

sections 6033(a)(2) and 508 of the

Internal Revenue Code of 1986,

respectively, were published in the

Federal Register (59 FR 64633). The

proposed regulations adopted the rules

of Rev. Proc. 86–23 (1986–1, C.B. 564)

as the definition of integrated auxiliary

of a church replacing the current

definition set forth in § 1.6033–2(g)(5).

Additionally, section 508(c) excepts

integrated auxiliaries of a church from

the requirement that new organizations

notify the Secretary of the Treasury that

they are applying for recognition of

section 501(c)(3) status (Form 1023). For

consistency, § 1.508–1(a)(3)(i)(a), which

gives several examples of integrated

auxiliaries, was proposed to be

amended by deleting the examples and

by adding a cross-reference to § 1.6033–

2(h) for the definition of integrated

auxiliary of a church. After IRS and

Treasury consideration of the public

comments received regarding the

proposed regulations, the regulations

are adopted as revised by this Treasury

decision.

Explanation of Provisions

Section 6033(a)(1) requires

organizations that are exempt from

income tax under section 501(a) to file

annual returns. Section 6033(a)(2)(A)

provides exceptions to this requirement

for certain specified types of

organizations, including, among others,

churches, their integrated auxiliaries,

and conventions or associations of

churches. Section 6033(a)(2)(B) provides

that the Secretary may relieve any

organization from the filing requirement

where the Secretary determines that

filing is not necessary to the efficient

administration of the internal revenue

laws.

Prior to this Treasury decision,

§ 1.6033–2(g)(5)(i) defined the term

integrated auxiliary of a church as an

organization that is: (1) exempt from

taxation as an organization described in

section 501(c)(3); (2) affiliated with a

church (within the meaning of § 1.6033–

2(g)(5)(iii)); and (3) engaged in a

principal activity that is ‘‘exclusively

religious.’’ Section 1.6033–2(g)(5)(ii)

provides that an organization’s principal

activity is not ‘‘exclusively religious’’ if

that activity is educational, literary,

charitable, or of another nature (other

than religious) that would serve as a

basis for exemption under section

501(c)(3).

The ‘‘exclusively religious’’ element

of the definition was litigated in

Lutheran Social Service of Minnesota v.

United States, 583 F. Supp. 1298 (D.

Minn. 1984), rev’d 758 F.2d 1283 (8th

Cir. 1985), and Tennessee Baptist

Children’s Homes, Inc. v. United States,

604 F. Supp. 210 (M.D. Tenn. 1984)

aff’d, 790 F.2d 534 (6th Cir. 1986).

While the litigation over the

‘‘exclusively religious’’ standard was

proceeding, Congress enacted section

3121(w) of the Internal Revenue Code,

Tax Reform Act of 1984, Pub. L. 98–369,

section 2603(b), 98 Stat. 494, 1128

(1984), which permits certain churchrelated organizations to elect out of

social security coverage if they meet a

standard based on the degree of

financial support they receive from a

church. In light of this litigation and the

enactment of section 3121(w), IRS

personnel met with representatives of

various church organizations to

encourage voluntary compliance with

the filing requirements and to develop

a less controversial and more objective

standard for identifying an integrated

auxiliary of a church.

Subsequent to these meetings the IRS

published Rev. Proc. 86–23, which

provides that, for tax years beginning

after December 31, 1975, an

organization is not required to file Form

990 if it is: (1) described in sections

501(c)(3) and 509(a) (1), (2), or (3); (2)

affiliated with a church or a convention

or association of churches; and (3)

internally supported. With respect to

this last criterion, Rev. Proc. 86–23 sets

forth an internal support standard that

is similar to the financial support

standard in section 3121(w).

The proposed regulations adopted the

rules of Rev. Proc. 86–23 as the

definition of the term integrated

auxiliary of a church replacing the

current definition set forth in § 1.6033–

2(g)(5). The final regulations retain the

definition of an integrated auxiliary of a

church that is contained in the proposed

regulations.

Under this Treasury decision, to be an

integrated auxiliary of a church an

organization must first be described in

section 501(c)(3) and section 509(a) (1),

(2), or (3), and be affiliated with a

church in accordance with standards set

forth in the regulations. An organization

meeting those tests is an integrated

auxiliary if it either: (1) does not offer

admissions, goods, services, or facilities

for sale, other than on an incidental

basis, to the general public; or (2) offers

admissions, goods, services, or facilities

for sale, other than on an incidental

basis, to the general public and not more

than 50 percent of its support comes

from a combination of government

sources, public solicitation of

contributions, and receipts other than

those from an unrelated trade or

business.

Some commentators have noted that

certain church-related organizations that

finance, fund and manage pension

programs were originally excused from

filing by Notice 84–2 (1984–1 C.B. 331),

which was issued pursuant to the

Commissioner’s discretionary authority