under subparagraph (A) or (B) would (but for 
this subparagraph) be 20 percent or less, such 
ratio for such quarter shall be zero. 
‘‘(E) LOOK-THRU OF PARTNERSHIPS.—For 
purposes of this paragraph, a qualified invest-
ment entity which holds a partnership interest 
shall be treated (in lieu of holding a partnership 
interest) as holding its proportionate share of 
the assets held by the partnership. 
‘‘(3) TREATMENT OF RETURN OF CAPITAL DIS-
TRIBUTIONS.—Except as otherwise provided by the 
Secretary, a distribution with respect to stock in a 
qualified investment entity which is not a dividend 
and which results in a reduction in the adjusted 
basis of such stock shall be treated as allocable to 
stock acquired by the taxpayer in the order in which 
such stock was acquired. 
‘‘(4) QUALIFIED
INVESTMENT
ENTITY.—For 
purposes of this subsection, the term ‘qualified in-
vestment entity’ means— 
‘‘(A) a regulated investment company 
(within the meaning of section 851), and 
‘‘(B) a real estate investment trust (within 
the meaning of section 856). 
‘‘(f) OTHER PASS-THRU ENTITIES.— 
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‘‘(1) PARTNERSHIPS.— 
‘‘(A) IN GENERAL.—In the case of a part-
nership, the adjustment made under subsection 
(a) at the partnership level shall be passed 
through to the partners. 
‘‘(B) SPECIAL RULE IN THE CASE OF SEC-
TION 754 ELECTIONS.—In the case of a trans-
fer of an interest in a partnership with respect 
to which the election provided in section 754 is 
in effect— 
‘‘(i) the adjustment under section 
743(b)(1) shall, with respect to the trans-
feror partner, be treated as a sale of the 
partnership assets for purposes of applying 
this section, and 
‘‘(ii) with respect to the transferee 
partner, the partnership’s holding period 
for purposes of this section in such assets 
shall be treated as beginning on the date 
of such adjustment. 
‘‘(2) S CORPORATIONS.—In the case of an S 
corporation, the adjustment made under subsection 
(a) at the corporate level shall be passed through to 
the shareholders. This section shall not apply for 
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purposes of determining the amount of any tax im-
posed by section 1374 or 1375. 
‘‘(3) COMMON TRUST FUNDS.—In the case of a 
common trust fund, the adjustment made under sub-
section (a) at the trust level shall be passed through 
to the participants. 
‘‘(4) INDEXING ADJUSTMENT DISREGARDED IN 
DETERMINING LOSS ON SALE OF INTEREST IN ENTI-
TY.—Notwithstanding the preceding provisions of 
this subsection, for purposes of determining the 
amount of any loss on a sale or exchange of an in-
terest in a partnership, S corporation, or common 
trust fund, the adjustment made under subsection 
(a) shall not be taken into account in determining 
the adjusted basis of such interest. 
‘‘(g) DISPOSITIONS BETWEEN RELATED PERSONS.— 
‘‘(1) IN GENERAL.—This section shall not apply 
to any sale or other disposition of property between 
related persons except to the extent that the basis 
of such property in the hands of the transferee is a 
substituted basis. 
‘‘(2) RELATED PERSONS DEFINED.—For pur-
poses of this section, the term ‘related persons’ 
means— 
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‘‘(A) persons bearing a relationship set 
forth in section 267(b), and 
‘‘(B) persons treated as single employer 
under subsection (b) or (c) of section 414. 
‘‘(h) TRANSFERS TO INCREASE INDEXING ADJUST-
MENT.—If any person transfers cash, debt, or any other 
property to another person and the principal purpose of 
such transfer is to secure or increase an adjustment under 
subsection (a), the Secretary may disallow part or all of 
such adjustment or increase. 
‘‘(i) SPECIAL RULES.—For purposes of this section— 
‘‘(1) TREATMENT OF IMPROVEMENTS, ETC.—If 
there is an addition to the adjusted basis of any tan-
gible property or of any stock in a corporation dur-
ing the taxable year by reason of an improvement to 
such property or a contribution to capital of such 
corporation— 
‘‘(A) such addition shall never be taken 
into account under subsection (c)(1)(A) if the 
aggregate amount thereof during the taxable 
year with respect to such property or stock is 
less than $1,000, and 
‘‘(B) such addition shall be treated as a 
separate asset acquired at the close of such tax-
able year if the aggregate amount thereof dur-
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