Federal Register / Vol. 60, No. 77 / Friday, April 21, 1995 / Proposed Rules 19867

final rule on the July 2, 1991, proposal.

As proposed, FDA adopted minimum

Brix values in § 101.30 for 51 fruit and

vegetable juice products, including

values for all of the fruits listed in the

canned fruit nectars standard. In

adopting the final Brix values, FDA

considered the minimum Brix values in

the stayed canned fruit nectars standard

along with the information received in

comments on the proposal. Thus, the

agency concludes that the Brix values in

the canned fruit nectars standard have

been effectively superceded by the

values in § 101.30. Moreover, § 101.30

requires that the label of products that

purport to contain fruit or vegetable

juice, including canned fruit nectars,

declare the total percentage of juice

contained in such products. This

provision ensures that consumers will

be able to make value comparisons

based on the level of juice used in the

beverage.

Finally, in the January 6, 1993, final

rule, FDA adopted § 102.33 on the

common or usual names of juice

beverages that purport to contain fruit or

vegetable juice. Canned fruit nectars are

among the foods that must be labeled in

accordance with § 102.33. This

regulation permits products that

traditionally have been considered to be

canned fruit nectars to continue to bear

the term ‘‘nectar.’’

D. Conclusions and Proposal

The agency points out that the stayed

standard of identity for canned fruit

nectars was established under section

701(e) of the act (21 U.S.C. 371(e)),

which required formal rulemaking in

any action for the establishment,

amendment, or repeal of a food

standard. However, the 1990

amendments removed food standards

rulemaking proceedings, except for the

amendment or repeal of standards of

identity for dairy products and maple

syrup, from the formal rulemaking

requirements of section 701(e) of the act

(see section 8 of the 1990 amendments).

Therefore, rulemaking proceedings to

revise or repeal the stayed standard for

canned fruit nectars are subject to

section 701(a) of the act.

In considering its options with respect

to the stayed standard, the agency

considered proposing to amend it to

incorporate the revised Brix values as a

means of responding to the objections

on the canned nectars final rule. FDA

rejected this option because the Brix

values in the standard would duplicate

the provisions in § 101.30. In addition,

§ 102.33 provides for the use of an

appropriately descriptive name for

diluted juice beverages, including fruit

nectars. FDA believes that use of an

appropriately descriptive name, along

with a declaration of the percentage of

juice, will provide adequate information

to consumers regarding the nature of

fruit nectars, and that a separate

standard of identity for canned fruit

nectars is not necessary. Thus, the

agency tentatively concludes that the

stayed standard of identity for canned

fruit nectars should be removed.

The agency’s tentative view is

supported by the petitioner for the

canned fruit nectars standard. In a letter

to the agency dated July 8, 1994, and

filed under Docket No. 80N–0140,

NFPA stated that the opinion of its

members is that, with the advent of

mandatory percent juice labeling for any

food that purports to be a beverage that

contains a fruit or vegetable juice

(§ 101.30), the stayed standard is no

longer necessary and should be removed

from the Code of Federal Regulations.

Accordingly, NFPA requested that the

agency take such action.

Thus, in view of the petitioner’s

request and of the existing requirements

for percent juice declaration in § 101.30

and for naming diluted juice beverages

in § 102.33, FDA tentatively concludes

that the standard of identity for canned

fruit nectars in § 146.113 is not needed,

and that no further action on the

objections filed to the May 7, 1968, final

rule establishing that standard is

warranted. Therefore, FDA is proposing

to revoke the stayed standard of identity

for canned fruit nectars.

II. Economic Impact

As required by Executive Order 12866

and the Regulatory Flexibility Act (Pub.

L. 354), FDA has examined the

economic implications of this proposed

rule that would remove the stayed

standard of identity for canned fruit

nectars in 21 CFR part 164. Executive

Order 12866 directs agencies to assess

all costs and benefits of available

regulatory alternatives and, when

regulation is necessary, to select

regulatory approaches that maximize

net benefits (including potential

economic, environmental, public health,

and safety effects; distributive impacts;

and equity). The Regulatory Flexibility

Act requires that the agency analyze

options for regulatory relief for small

businesses.

FDA believes that there will be no

economic impact on the juice

processing industry from this proposed

rule because the removal of the stayed

standard will not result in any new

costs or requirements. Canned fruit

nectars, currently marketed as

nonstandardized foods, will continue to

be named and labeled in accordance

with the existing requirements of

§§ 101.30 and 102.33. Removal of the

stayed standard will eliminate

confusion regarding the compositional

requirements for juice products named

by use of the term ‘‘nectar.’’

Thus, FDA concludes that this is not

a significant regulatory action as defined

by Executive Order 12866. In

compliance with the Regulatory

Flexibility Act, the agency certifies that

the final rule will not have a significant

impact on a substantial number of small

businesses.

III. Environmental Impact

The agency has determined under 21

CFR 25.24(b)(1) that this action is of a

type that does not individually or

cumulatively have a significant effect on

the human environment. Therefore,

neither an environmental assessment

nor an environmental impact statement

is required.

IV. Request for Comments

Interested persons may, on or before

June 20, 1995, submit to the Dockets

Management Branch (address above)

written comments regarding this

proposal. Two copies of any comments

are to be submitted, except that

individuals may submit one copy.

Comments are to be identified with the

docket number found in brackets in the

heading of this document. Received

comments may be seen in the office

above between 9 a.m. and 4 p.m.,

Monday through Friday.

List of Subjects in 21 CFR Part 146

Food grades and standards, Fruit

juices.

Therefore, under the Federal Food,

Drug, and Cosmetic Act and under

authority delegated to the Commissioner

of Food and Drugs, and redelegated to

the Director, Center for Food Safety and

Applied Nutrition, it is proposed that 21

CFR part 146 be amended as follows:

PART 146—CANNED FRUIT JUICES

1. The authority citation for 21 CFR

part 146 continues to read as follows:

Authority: Secs. 201, 401, 403, 409, 701,

721 of the Federal Food, Drug, and Cosmetic

Act (21 U.S.C. 321, 341, 343, 348, 371, 379e).

§ 146.113 [Removed]

2. Section 146.113 Canned fruit

nectars is removed from subpart B.

Dated: February 8, 1995.

Fred R. Shank,

Director, Center for Food Safety and Applied

Nutrition.

[FR Doc. 95–9949 Filed 4–20–95; 8:45 am]

BILLING CODE 4160–01–F
19868 Federal Register / Vol. 60, No. 77 / Friday, April 21, 1995 / Proposed Rules

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[IA–18–95]

RIN 1545–AT33

Lease Term; Exchanges of Tax-Exempt

Use Property

AGENCY: Internal Revenue Service (IRS),

Treasury.

ACTION: Notice of proposed rulemaking

and notice of public hearing.

SUMMARY: This document contains

proposed regulations relating to the

lease term of tax-exempt use property.

The proposed regulations also provide

guidance regarding certain like-kind

exchanges among related parties

involving tax-exempt use property. This

document also provides notice of a

public hearing on these regulations.

DATES: Written comments must be

received by July 20, 1995. Requests to

appear and outlines of topics to be

discussed at the public hearing

scheduled for August 2, 1995, must be

received by July 12, 1995.

ADDRESSES: Send submissions to:

CC:DOM:CORP:T:R (IA–18–95), room

5228, Internal Revenue Service, POB

7604, Ben Franklin Station, Washington,

DC 20044. In the alternative,

submissions may be hand delivered

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

to: CC:DOM:CORP:T:R (IA–18–95),

Courier’s Desk, Internal Revenue

Service, 1111 Constitution Avenue NW.,

Washington, DC. The public hearing

will be held in the IRS Auditorium, 7th

Floor, 1111 Constitution Avenue NW.,

Washington, DC.

FOR FURTHER INFORMATION CONTACT:

Concerning the proposed regulations,

John M. Aramburu of the Office of

Assistant Chief Counsel (Income Tax

and Accounting) at (202) 622–4960;

concerning submissions and the public

hearing, Christian Vasquez, (202) 622–

7190 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

This document contains proposed

amendments to the Income Tax

Regulations (26 CFR part 1) relating to

the depreciation of tax-exempt use

property under section 168 of the

Internal Revenue Code (Code). Section

168(h) provides rules relating to the

definition of tax-exempt use property.

Section 168(i)(3) provides rules for

determining a lease term for purposes of

section 168. These proposed regulations

provide guidance relating to certain

exchanges of tax-exempt use property

among related parties and the

determination of lease term under

certain circumstances.

Explanation of Provisions

Current Law

Under section 168, property used in a

trade or business, or held for the

production of income, generally may be

depreciated under the general

depreciation system (GDS) using

accelerated methods over relatively

short recovery periods. However, certain

property must be depreciated under the

alternative depreciation system (ADS)

described in section 168(g). Under ADS,

depreciation deductions are determined

using the straight-line method over

longer recovery periods.

Under section 168(g)(1)(B), taxexempt use property is subject to ADS.

Section 168(h)(1) defines tax-exempt

use property to include that portion of

any tangible property (other than

nonresidential real property) leased to a

tax-exempt entity, as well as

nonresidential real property, under

certain conditions. For these purposes,

section 168(h)(2)(A)(iii) provides that

certain foreign entities and persons are

considered tax-exempt entities. Under

ADS, the recovery period of tax-exempt

use property subject to a lease is no less

than 125 percent of the lease term. See

section 168(g)(3)(A).

The intent of Congress is subjecting

tax-exempt use property to a slower

depreciation system than GDS is

expressed in the legislative history as

follows:

The committee believes that reform of the

tax law is essential, insofar as it relates to

property used by tax-exempt entities under a

lease, a lease formulated as a service contract,

or other similar arrangements. When taxexempt entities use property under these

arrangements, they pay reduced rents that

reflect a pass-through of investment tax

incentives from the owner of the property.

Tax-exempt entities thereby benefit from

investment incentives for which they do not

qualify directly, and effectively gain the

advantage of taking income tax deductions

and credits while having no corresponding

liability to pay any tax on income from the

property.

S. Rep. No. 169 (Vol. 1), 98th Cong., 2d

Sess. 123 (1984).

Thus, Congress subjected tax-exempt

use property to a slower depreciation

system in order to prevent tax-exempt

entities from receiving, through reduced

rentals, the tax benefits of GDS.

Congress retained the rules for

depreciating tax-exempt use property

when it modified the accelerated cost

recovery system in 1986. S. Rep. No.

313, 99th Cong., 2d Sess. 103 (1986).

Section 168(i)(5) provides that when

property changes status, for example,

ceases to be tax-exempt use property,

the depreciation deduction for the year

of change and subsequent taxable years

shall be determined in such manner as

the Secretary shall prescribe by

regulation. Proposed § 1.168–2(j)(3) sets

forth principles for depreciating

property following a change in its

status. Section 1.168(j)–1T, Q&A 2,

which relates to tax-exempt use

property, references that provision.

The tax-exempt use property rules

contain a number of references to lease

term. As noted above, the recovery

period of tax-exempt use property

subject to a lease is no less than 125

percent of the lease term. In addition,

section 168(h)(1)(B)(ii)(III) characterizes

as tax-exempt use property

nonresidential real property leased to a

tax-exempt entity for a term in excess of

20 years, section 168(h)(3)(A) excludes

from the definition of tax-exempt use

property certain high technology

equipment leased to a tax-exempt entity

for a term of no more than five years,

and section 168(h)(1)(C) excludes

property subject to certain short-term

leases from the tax-exempt use property

rules.

For each of these purposes, the lease

term is determined under all the facts

and circumstances. Further, legislative

history states that rules ‘‘similar to those

applied under section 46(e)(3) (relating

to investment credits for non-corporate

lessors) be applied in determining lease

term. See. e.g., Hokanson v.

Commissioner, 730 F.2d 1245, 1248 (9th

Cir. 1984) (which applies a reasonable

expectations test).’’ S. Rep. No. 169 (Vol.

1), 98th Cong., 2d Sess. 150 (1984).

Section 168(i)(3) provides rules for

determining a lease term. It indicates

that, in determining a lease term,

options to renew generally must be

taken into account and the periods of

certain successive leases must be

aggregated with the period of an original

lease.

Section 1.168(j)–1T, Q&A 17, provides

additional rules for determining lease

term. The regulation sets forth

circumstances under which a lease term

will include not only the stated duration

of a lease but also an additional period,

including options to renew and

successive leases. It also provides

examples of situations in which

aggregation of lease periods is required,

and situations in which lease periods

are considered sufficiently independent

so that aggregation is not required.

Lease Term

The proposed regulations generally

clarify the rules for determining a lease
Federal Register / Vol. 60, No. 77 / Friday, April 21, 1995 / Proposed Rules 19869

term in certain situations. They require

the aggregation of the stated duration of

an original lease with any additional

period for which the original, taxexempt lessee (or a person related to the

lessee) retains financial responsibility.

The proposed regulations are intended

to supplement existing authorities,

including § 1.168(j)–1T, Q&A 17.

Specifically, the proposed regulations

provide that an additional period of

time during which a lessee may not

continue to be the lessee is nevertheless

included in the lease term if the lessee

(or a related person) has agreed that one

or both of them will or could be

obligated to make a payment of rent, or

a payment in the nature of rent, with

respect to such period. For purposes of

this rule, a payment in the nature of rent

includes a payment intended to

substitute for rent or to fund or

supplement the rental payments of

another. For example, a payment in the

nature of rent includes a payment of any

kind that is required to be made in the

event that: (1) The leased property is not

leased for the additional period; (2) the

leased property is leased for the

additional period under terms that do

not satisfy specified terms and

conditions; (3) there is a failure to make

a payment of rent with respect to such

additional period; or (4) similar

circumstances occur. This rule

disregards, however, obligations to

make de minimis payments.

The proposed regulations also provide

that in the event an additional period is

included in the lease term, section

168(i)(5) (relating to changes in status)

applies if the leased property ceases to

be tax-exempt use property for such

additional period.

The proposed regulations apply to

leases entered into on or after the date

the proposed regulations are filed with

the Federal Register. No inference as to

the treatment of additional lease periods

under current law is intended by such

effective date. The proposed regulations

do not preclude the application of

common law doctrines (such as the

substance over form or step transaction

doctrines) and other authorities to the

determination of lease term or to the

determination of whether a transaction

is characterized as a lease, a conditional

sale, or otherwise for federal income tax

purposes.

Like-Kind Exchanges

The proposed regulations also

addresses certain transactions between

related persons that are designed to

circumvent the tax-exempt use property

rules. For example, a taxpayer might

purchase tax-exempt use property for

$100x and then promptly transfer the

property to a related person in exchange

for like-kind property of an equal value

that has a zero basis and is not taxexempt use property (the taxable

property). If the exchange qualifies for

nonrecognition treatment under section

1031 as to the related person, the related

person recognizes none of its gain with

respect to the taxable property and takes

the tax-exempt use property with a zero

basis. At the same time, the taxpayer has

a $100x basis in the taxable property.

The desired net tax result of the

transaction is that a new investment in

property that is properly subject to the

ADS becomes subject to GDS.

To address this situation, the

proposed regulations provide that

property (tainted property) transferred

directly or indirectly to the taxpayer by

a related person (the related party) as

part of, or in connection with, a

transaction described in section 1031

where the related party receives taxexempt use property (related tax-exempt

use property) will, if the tainted

property is subject to an allowance for

depreciation, be treated in the same

manner as the related tax-exempt use

property for purposes of determining

the allowable depreciation deduction

under section 167(a). Under this rule,

the tainted property is depreciated by

the taxpayer over the remaining

recovery period of, and using the same

depreciation method and convention as

that of, the related tax-exempt use

property.

This rule is subject to certain

limitations. In general, the rule applies

only with respect to so much of the

taxpayer’s basis in the tainted property

as does not exceed the taxpayer’s

adjusted basis in the related tax-exempt

use property prior to the transfer. Any

excess of the taxpayer’s basis in the

tainted property over its adjusted basis

in the related tax-exempt use property

prior to the transfer is treated as

property to which the rule does not

apply. Moreover, the rule does not

apply to so much of the taxpayer’s basis

in the tainted property as is subject to

section 168(i)(7).

The proposed regulations provide that

related tax-exempt use property

includes property that does not become

tax-exempt use property (as defined in

section 168(h)) until after the transfer if,

at the time of the transfer, it was

intended that the property become taxexempt property. Moreover, in the

circumstances described in the

preceding sentence, the related taxexempt use property will be treated as

having, prior to the transfer, a lease term

equal to the term of any lease that

causes such property to become taxexempt use property.

The proposed regulations only apply

with respect to direct or indirect

transfers of property involving related

persons where (1) section 1031 applies

to any party, and (2) a principal purpose

of the transfer is to avoid or limit the

application of ADS. For purposes of this

rule, a person is related to another

person if they bear a relationship

specified in section 267(b) or section

707(b)(1).

The proposed regulations apply to

transfers made on or after the date the

proposed regulations are filed with the

Federal Register. No inference is

intended as to the treatment of transfers

intended to avoid or limit the

application of ADS that are made prior

to the effective date. In addition, the

proposed regulations do not preclude

the application of common law

doctrines (such as the substance over

form or step transaction doctrines) and

other authorities to transfers intended to

avoid or limit the application of ADS,

including transfers occurring prior to

the effective date of the proposed

regulations.

The IRS and Treasury invite

comments on the scope of the proposed

regulations. For example, comments are

requested as to whether any transactions

should be excepted from the proposed

regulations or whether other

transactions should be included within

their scope.

Special Analyses

It has been determined that this notice

of proposed rulemaking is not a

significant regulatory action as defined

in EO 12866. Therefore, a regulatory

assessment is not required. 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 proposed regulations,

and, therefore, a Regulatory Flexibility

Analysis 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 businesses.

Comments and Public Hearing

Before these proposed regulations are

adopted as final regulations,

consideration will be given to any

written comments (a signed original and

eight (8) copies) that are submitted

timely to the IRS. All comments will be

available for public inspection and

copying.

A public hearing has been scheduled

for August 2, 1995, at 10 a.m. in the IRS

Auditorium, 7th Floor, 1111
19870 Federal Register / Vol. 60, No. 77 / Friday, April 21, 1995 / Proposed Rules

Constitution Avenue NW., Washington,

DC. Because of access restrictions,

visitors will not be admitted beyond the

Internal Revenue Building lobby more

than 15 minutes before the hearing

starts.

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

apply to the hearing.

Persons that wish to present oral

comments at the hearing must submit

written comments by July 20, 1995 and

submit an outline of the topics to be

discussed and the time to be devoted to

each topic by July 12, 1995.

A period of 10 minutes will be

allotted 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 author of these

proposed regulations is John M.

Aramburu of the Office of Assistant

Chief Counsel (Income Tax and

Accounting). However, other personnel

from the IRS and Treasury Department

participated in their development.

List of Subjects in 26 CFR Part 1

Income taxes, Reporting and

recordkeeping requirements.

Proposed Amendments to the

Regulations

Accordingly, 26 CFR part 1 is

proposed to be amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation

for part 1 is amended by adding entries

in numerical order to read as follows:

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

Section 1.168(h)–1 also issued under 26

U.S.C. 168.

Section 1.168(i)–2 also issued under 26

U.S.C. 168. * * *

Par. 2. Sections 1.168(h)–1 and

1.168(i)–2 are added to read as follows:

§ 1.168(h)–1 Like-kind exchanges

involving tax-exempt use property.

(a) Scope. (1) This section applies

with respect to a direct or indirect

transfer of property among related

persons, including transfers made

through a qualified intermediary (as

defined in § 1.1031(k)–1(g)(4)) or other

unrelated person, (a transfer) if—

(i) Section 1031 applies to any party

to the transfer or to any related

transaction; and

(ii) A principal purpose of the transfer

or any related transaction is to avoid or

limit the application of the alternative

depreciation system (within the

meaning of section 168(g)).

(2) For purposes of this section, a

person is related to another person if

they bear a relationship specified in

section 267(b) or section 707(b)(1).

(b) Allowable depreciation deduction

for property subject to this section—(1)

In general. Property (tainted property)

transferred directly or indirectly to a

taxpayer by a related person (related

party) as part of, or in connection with,

a transaction in which the related party

receives tax-exempt use property

(related tax-exempt use property) will, if

the tainted property is subject to an

allowance for depreciation, be treated in

the same manner as the related taxexempt use property for purposes of

determining the allowable depreciation

deduction under section 167(a). Under

this paragraph (b), the tainted property

is depreciated by the taxpayer over the

remaining recovery period of, and using

the same depreciation method and

convention as that of, the related taxexempt use property.

(2) Limitations—(i) Taxpayer’s basis

in related tax-exempt use property. This

section applies only with respect to so

much of the taxpayer’s basis in the

tainted property as does not exceed the

taxpayer’s adjusted basis in the related

tax-exempt use property prior to the

transfer. Any excess of the taxpayer’s

basis in the tainted property over its

adjusted basis in the related tax-exempt

use property prior to the transfer is

treated as property to which this section

does not apply. This paragraph (b)(2)(i)

does not apply if the related tax-exempt

use property is not acquired from the

taxpayer (e.g., if the taxpayer acquires

the tainted property for cash but section

1031 nevertheless applies to the related

party because the transfer involves a

qualified intermediary).

(ii) Application of section 168(i)(7).

This section does not apply to so much

of the taxpayer’s basis in the tainted

property as is subject to section

168(i)(7).

(c) Related tax-exempt use property.

(1) For purposes of paragraph (b) of this

section, related tax-exempt use property

includes—

(i) Property that is tax-exempt use

property (as defined in section 168(h))

at the time of the transfer; and

(ii) Property that does not become taxexempt use property until after the

transfer if, at the time of the transfer, it

was intended that the property become

tax-exempt use property.

(2) For purposes of determining the

remaining recovery period of the related

tax-exempt use property in the

circumstances described in paragraph

(c)(1)(ii) of this section, the related taxexempt use property will be treated as

having, prior to the transfer, a lease term

equal to the term of any lease that

causes such property to become taxexempt use property.

(d) Examples. The following examples

illustrate the application of this section.

The examples do not address common

law doctrines or other authorities that

may apply to recharacterize or alter the

effects of the transactions described

therein. Unless otherwise indicated,

parties to the transactions are not

related to one another.

Example 1. (i) X owns all of the stock of

two subsidiaries, B and Z. X, B and Z do not

file a consolidated federal income tax return.

On May 5, 1995, B purchases an aircraft (FA)

for $1 million and leases it to a foreign airline

whose income is not subject to United States

taxation and which is a tax-exempt entity as

defined in section 168(h)(2). On the same

date, Z owns an aircraft (DA) with a fair

market value of $1 million, which has been,

and continues to be, leased to an airline that

is a United States taxpayer. Z’s adjusted basis

in DA is $0. The next day, at a time when

each aircraft is still worth $1 million, B

transfers FA to Z (subject to the lease to the

foreign airline) in exchange for DA (subject

to the lease to the airline that is a United

States taxpayer). Z realizes gain of $1 million

on the exchange, but that gain is not

recognized pursuant to section 1031(a)

because the exchange is of like-kind

properties. Assume that a principal purpose

of the transfer of DA to B or of FA to Z is

to avoid the application of the alternative

depreciation system. Following the exchange,

Z has a $0 basis in FA pursuant to section

1031(d). B has a $1 million basis in DA.

(ii) B has acquired property from Z, a

related person; Z’s gain is not recognized

pursuant to section 1031(a); Z has received

tax-exempt use property as part of the

transaction; and a principal purpose of the

transfer of DA to B or of FA to Z is to avoid

the application of the alternative

depreciation system. Accordingly, the

transaction is within the scope of this

section. Pursuant to paragraph (b) of this

section, B must recover its $1 million basis

in DA over the remaining recovery period of,

and using the same depreciation method and

convention as that of, FA, the related taxexempt use property.

(iii) If FA did not become tax-exempt use

property until after the exchange, it would

still be related tax-exempt use property and

paragraph (b) of this section would apply if,

at the time of the exchange, it was intended

that FA become tax-exempt use property.

Example 2. (i) X owns all of the stock of

two subsidiaries, B and Z. X, B and Z do not

file a consolidated federal income tax return.

B and Z each own identical aircraft. B’s

aircraft (FA) is leased to a tax-exempt entity

as defined in section 168(h)(2) and has a fair

market value of $1 million and an adjusted

basis of $500,000. Z’s aircraft (DA) is leased

to a United States taxpayer and has a fair

market value of $1 million and an adjusted

basis of $10,000. On May 1, 1995, B and Z

exchange aircraft, subject to their respective

leases. B realizes gain of $500,000 and Z

realizes gain of $990,000, but neither person

recognizes gain because of the operation of
Federal Register / Vol. 60, No. 77 / Friday, April 21, 1995 / Proposed Rules 19871

section 1031(a). Moreover, assume that a

principal purpose of the transfer of DA to B

or of FA to Z is to avoid the application of

the alternative depreciation system.

(ii) As in example 1, B has acquired

property from Z, a related person; Z’s gain is

not recognized pursuant to section 1031(a); Z

has received tax-exempt use property as part

of the transaction; and a principal purpose of

the transfer of DA to B or of FA to Z is to

avoid the application of the alternative

depreciation system. Thus, the transaction is

within the scope of this section even though

B has held tax-exempt use property for a

period of time and, during that time, has

used the alternative depreciation system with

respect to such property. Pursuant to

paragraph (b) of this section, B, which has a

substituted basis determined pursuant to

section 1031(d) of $500,000 in DA, must

depreciate the aircraft over the remaining

recovery period of FA, using the same

depreciation method and convention. Z

holds tax-exempt use property with a basis

of $10,000, which must be depreciated under

the alternative depreciation system.

(iii) Assume the same facts as in paragraph

(i) of this example, except that B and Z are

members of an affiliated group that files a

consolidated federal income tax return. Of

B’s $500,000 basis in DA, $10,000 is subject

to section 168(i)(7) and therefore not subject

to this section. The remaining $490,000 of

basis is subject to this section.

(e) Effective date. This section applies

to transfers made on or after April 20,

1995.

§ 1.168(i)–2 Lease term.

(a) In general. For purposes of section

168, a lease term is determined under

all the facts and circumstances.

Paragraph (b) of this section and

§ 1.168(j)–1T, Q&A 17, provide rules

that apply to determine whether a

period of time not included in the stated

duration of an original lease (additional

period) is included in the lease term,

under certain circumstances. These

rules do not prevent the inclusion of an

additional period in the lease term in

other circumstances.

(b) Lessee retains financial obligation.

(1) An additional period of time during

which a lessee may not continue to be

the lessee will nevertheless be included

in the lease term if the lessee (or a

related person) has agreed that one or

both of them will or could be obligated

to make a payment of rent or a payment

in the nature of rent with respect to

such period.

(2) For the purposes of this paragraph

(b), a payment in the nature of rent

includes a payment intended to

substitute for rent or to fund or

supplement the rental payments of

another. For example, a payment in the

nature of rent includes a payment of any

kind that is required to be made in the

event that—

(i) The leased property is not leased

for the additional period;

(ii) The leased property is leased for

the additional period under terms that

do not satisfy specified terms and

conditions;

(iii) There is a failure to make a

payment of rent with respect to such

additional period; or

(iv) Circumstances similar to those

described in paragraph (b)(2)(i), (ii), or

(iii) occur.

(3) For the purposes of this paragraph

(b), de minimis payments will be

disregarded.

(c) Related person. For purposes of

paragraph (b) of this section, a person is

related to the lessee if such person is

described in section 168(h)(4).

(d) Changes in status. Section

168(i)(5) (changes in status) applies if an

additional period is included in a lease

term under this section and the leased

property ceases to be tax-exempt use

property for such additional period.

(e) Example. The following example

illustrates the application of this

section. The example does not address

common law doctrines or other

authorities that may apply to cause an

additional period to be included in the

lease term or to recharacterize a lease as

a conditional sale or otherwise for

federal income tax purposes. Unless

otherwise indicated, parties to the

transactions are not related to one

another.

Example. Financial obligation with respect

to an additional period.—(i) Facts. X, a

taxable corporation, and Y, a foreign airline

whose income is not subject to United States

taxation, enter into a lease agreement under

which X agrees to lease an aircraft to Y for

a period of 10 years. The lease agreement

provides that, at the end of the lease period,

Y is obligated to find a subsequent lessee

(replacement lessee) to enter into a

subsequent lease (replacement lease) of the

aircraft from X for an additional 10-year

period. The provisions of the lease agreement

require that any replacement lessee be

unrelated to Y and that it not be a tax-exempt

entity as defined in section 168(h)(2). The

provisions of the lease agreement also set

forth the basic terms and conditions of the

replacement lease, including its duration and

the required rental payments. In the event Y

fails to secure a replacement lease, the lease

agreement requires Y to make a payment to

X in an amount determined under the lease

agreement.

(ii) Application of this section. The lease

agreement between X and Y obligates Y to

make a payment in the event the aircraft is

not leased for the period commencing after

the initial 10-year lease period and ending on

the date the replacement lease is scheduled

to end. Accordingly, pursuant to paragraph

(b) of this section, the term of the lease

between X and Y includes such additional

period, and the lease term is 20 years for

purposes of section 168.

(ii) Facts modified. Assume the same facts

as in paragraph (i) of this example, except

that Y is required to guarantee the payment

of rentals under the 10-year replacement

lease and to make a payment to X equal to

the present value of any excess of the

replacement lease rental payments specified

in the lease agreement between X and Y, over

the rental payments actually agreed to be

paid by the replacement lessee. Pursuant to

paragraph (b) of this section, the term of the

lease between X and Y includes the

additional period, and the lease term is 20

years for purposes of section 168.

(iv) Changes in status. If, upon the

conclusion of the stated duration of the lease

between X and Y, the aircraft either is

returned to X or leased to a replacement

lessee that is not a tax-exempt entity as

defined in section 168(h)(2), the subsequent

method of depreciation will be determined

pursuant to section 168(i)(5).

(f) Effective date. This section applies

to leases entered into on or after April

20, 1995.

Margaret Milner Richardson,

Commissioner of Internal Revenue.

[FR Doc. 95–9946 Filed 4–20–95; 8:45 am]

BILLING CODE 4830–01–M

DEPARTMENT OF JUSTICE

28 CFR Part 16

[AAG/A Order No. 102–95]

Exemption of Records System Under

the Privacy Act

AGENCY: Department of Justice.

ACTION: Proposed rule.

SUMMARY: The Department of Justice,

Bureau of Prisons (BOP), proposes to

exempt a Privacy Act system of records

from subsections (c)(3) and (4), (d),

(e)(2) and (3), (e)(5) and (8), (f) and (g)

of the Privacy Act, 5 U.S.C. 552a(j)(2)

and (k)(2). This system of records is the

BOP ‘‘Telephone Activity Record

System (JUSTICE/BOP–011).’’

Information in this system relates to

inmate telephone activity and may

include information relating to official

Federal investigations and matters of

law enforcement of the BOP pursuant to

18 U.S.C. 2510 et seq., 3621, 4003, 4042

and 4082. The exemptions are necessary

to protect third party privacy and to

avoid interference with law enforcement

activities, e.g., to preclude the

disclosure of investigative techniques,

to prevent subjects of investigations

from frustrating the investigative

process, and to more effectively ensure

the safety, security and good order of

Federal correctional facilities.

DATES: Submit any comments by May

22, 1995.