Source: https://www.federalregister.gov/articles/2013/12/02/2013-28409/net-investment-income-tax
Timestamp: 2015-08-01 01:32:38
Document Index: 172571547

Matched Legal Cases: ['§ 1', '§ 1', 'art 1', 'art 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1', '§ 1']

Federal Register | Net Investment Income Tax
Dates: The proposed rule published December 5, 2012 (77 FR 72612), is withdrawn as of December 2, 2013. Comments on this proposed rule must be received by March 3, 2014. Comments on the collection of information for this proposed rule should be received by January 31, 2014.
Comments Close: 01/31/2014
-72474 (24 pages)
Shorter URL: https://federalregister.gov/a/2013-28409 Related Topics
i. Primary Method—Proposed § 1.1411-7(b)
ii. Optional Simplified Reporting Method—Proposed § 1.1411-7(c)
II. Regulatory Background Back to Top
This document contains proposed amendments to 26 CFR part 1 under section 1411 of the Code. On December 5, 2012, the Treasury Department and the IRS published a notice of proposed rulemaking in the Federal Register
(REG-130507-11; 77 FR 72612) relating to the Net Investment Income Tax. On January 31, 2013, corrections to the proposed regulations were published in the Federal Register (78 FR 6781) (collectively, the “2012 Proposed Regulations”). Final regulations, issued contemporaneously with these proposed regulations in the Rules and Regulations section of this issue of the Federal Register, contain amendments to the Income Tax Regulations (26 CFR Part 1), which finalize the 2012 Proposed Regulations (the “2013 Final Regulations”). However, the Treasury Department and the IRS also are proposing amendments to the 2013 Final Regulations to provide additional clarification and guidance with respect to the application of section 1411 to certain specific types of property. Furthermore, the Treasury Department and the IRS are also interested in receiving comments about other aspects of section 1411 that are not addressed in the 2013 Final Regulations or these proposed regulations. If such comments are received, the Treasury Department and the IRS will consider them for inclusion on future Guidance Priority Lists.
The Treasury Department and the IRS also received comments on the 2012 Proposed Regulations questioning the proposed regulation's methodology for adjusting a transferor's gain or loss on the disposition of its partnership interest or S corporation stock. In view of these comments, the 2013 Final Regulations removed § 1.1411-7 of the 2012 Proposed Regulations and reserved § 1.1411-7 in the 2013 Final Regulations. This notice of proposed rulemaking proposes revised rules regarding the calculation of net gain from the disposition of a partnership interest or S corporation stock (each a “Passthrough Entity”) to which section 1411(c)(4) may apply.
The proposed regulations' treatment of section 707(c) guaranteed payments under section 1411 depends on whether the partner receives the payment for services or the use of capital. The proposed regulations exclude all section 707(c) payments received for services from net investment income, regardless of whether these payments are subject to self-employment tax, because payments for services are not included in net investment income. The Treasury Department and the IRS believe that guaranteed payments for the use of capital share many of the characteristics of substitute interest, and therefore should be included as net investment income. This treatment is consistent with existing guidance under section 707(c) and other sections of the Code in which guaranteed payments for the use of capital are treated as interest. See, for example, §§ 1.263A-9(c)(2)(iii) and 1.469-2(e)(2)(ii).
Section 1411(c)(6) provides that net investment income does not include any item taken into account in determining self-employment income for a taxable year on which a tax is imposed by section 1401(b). In the context of section 1411(c)(6), § 1.1411-9(a) of the 2013 Final Regulations provides that the term “taken into account” for self-employment tax purposes does not include amounts excluded from net earnings from self-employment under sections 1402(a)(1)-(17). Commentators suggested that certain section 736 payments are excluded from net earnings from self-employment by reason of section 1402(a)(10) and § 1.1402(a)-17, and therefore should be excluded from net investment income under section 1411(c)(6) for similar policy reasons. The Treasury Department and the IRS believe that section 1411(c)(6) does not apply to section 736 payments, except to the extent that such payments are taken into account, within the meaning of § 1.1411-9(a), in determining net earnings from self-employment. In such a case, the section 736 payment would be subject to self-employment tax and therefore is not included in net investment income by reason of section 1411(c)(6) and § 1.1411-9(a).
In general, under chapter 1, capital losses that exceed capital gains are allowed as a deduction against ordinary income only to the extent allowed by section 1211(b). In the case of capital losses in excess of the amounts allowed by section 1211(b), section 1212(b)(1) treats these losses as incurred in the following year. Section 1.1411-4(d) adopts these principles when computing net gain under section 1411(c)(1)(A)(iii). Therefore, capital losses incurred in a year prior to the effective date of section 1411 may be taken into account in the computation of section 1411(c)(1)(A)(iii) net gain by reason of the mechanics of section 1212(b)(1). However, certain capital losses may not be taken into account in determining net investment income within the meaning of section 1411(c)(1)(A)(iii) or by reason of the exception in section 1411(c)(4)(B) (generally, an “excluded capital loss”). In the case of section 1411(c)(1)(A)(iii), § 1.1411-4(d)(4)(i) provides that capital losses attributable to the disposition of property used in a trade or business not described in section 1411(c)(2) and § 1.1411-5 are excluded from the computation of net gain. In the case of section 1411(c)(4)(B), some or all of a capital loss resulting from the disposition of certain partnerships or S corporations is excluded from the determination of net gain. Although these capital losses are excluded from the calculation of net gain in the year of recognition by reason of § 1.1411-4(d)(4), such losses may not be fully offset by capital gains for chapter 1 purposes in the same year. In that case, some (or all) of the capital loss carryforward will constitute excluded capital losses in the subsequent year(s) by reason of the mechanics of section 1212(b)(1). Several commentators identified this issue and requested that the Treasury Department and the IRS provide guidance on the identification, tracking, and use of embedded, excluded capital losses within a capital loss carryforward.
The mechanics of the capital loss adjustment accomplishes several objectives. First, the rule causes all capital losses incurred prior to 2013 to be allowable losses for the computation of net gain under § 1.1411-4(d) and any properly allocable deduction for excess losses in § 1.1411-4(f)(4) (if any). This result is accomplished by the application of part (B) of the rule described in the preceding paragraph. Since the adjustment is based on the lesser of (A) or (B), the amount of excluded capital losses in the year immediately before the effective date of section 1411 is zero, so the loss adjustment in the year following the effective date of section 1411 will also be zero. Second, the rule only requires an adjustment when a taxpayer has excluded losses embedded within a capital loss carryforward. Therefore, taxpayers with no excluded capital losses do not have to make any adjustment. Third, the rule also provides a mechanism for ordering the use of capital losses to offset gains. The rule causes excluded capital gains recognized in the current year to be offset by excluded capital losses that are embedded in the capital loss carryforward from the previous year. This matching is accomplished by the use of the term “net capital loss” in § 1.1411-4(d)(4)(iii)(B). If the excluded gain exceeds the amount of excluded capital loss included in the carryforward amount and any excluded capital loss amounts recognized in the current year, the amount of adjustment will be zero in the subsequent year because there was no “net capital loss” in the preceding year. In this situation, no adjustment is required because the previous year's excluded gains were fully absorbed by the excluded losses. Finally, the rule allows taxpayers to use capital non-excluded losses for purposes of the excess loss deduction in § 1.1411-4(f)(4) before subjecting excluded losses to the limitation.
Using a CTF to recharacterize the underlying character of CTF income for section 1411 purposes is closely analogous to the past use of CTFs to cleanse unrelated business taxable income (UBTI) for tax-exempt participants. In 1984, the Treasury Department and the IRS promulgated § 1.584-2(c)(3), which created a special look-through rule to prevent taxpayers from using CTFs to recharacterize UBTI. Section 1.584-2(c)(3) provides, in relevant part, that “any amount of income or loss of the common trust fund which is included in the computation of a participant's taxable income for the taxable year shall be treated as income or loss from an unrelated trade or business to the extent that such amount would have been income or loss from an unrelated trade or business if such participant had made directly the investments of the common trust fund.”
Proposed § 1.1411-7(b) provides a calculation to determine how much of the gain or loss that is recognized for chapter 1 purposes is attributable to property owned, directly or indirectly, by the Passthrough Entity that, if sold, would give rise to net gain within the meaning of section 1411(c)(1)(A)(iii) (“Section 1411 Property”). Section 1411 Property is any property owned by, or held through, the Passthrough Entity that, if sold, would result in net gain or loss allocable to the partner or shareholder that is includable in determining the partner or shareholder's net investment income under § 1.1411-4(a)(1)(iii). This definition recognizes that the items of property inside the Passthrough Entity that constitute Section 1411 Property might vary among transferors because a transferor may or may not be “passive” with respect to the property.
In the case of an individual, trust, or estate, the proposed regulations provide that section 1411(c)(4) applies to “Section 1411(c)(4) Dispositions.” A Section 1411(c)(4) Disposition is the disposition of an interest in a Passthrough Entity by an individual, estate, or trust if: (i) The Passthrough Entity is engaged in one or more trades or businesses, or owns an interest (directly or indirectly) in another Passthrough Entity that is engaged in one or more trades or businesses, other than the business of trading in financial instruments or commodities (within the meaning of § 1.1411-5(a)(2)); and (ii) one or more of the trades or businesses of the Passthrough Entity is not a passive activity (within the meaning of § 1.1411-5(a)(1)) of the transferor. Thus, if the transferor materially participates in one or more of the Passthrough Entity's trades or businesses (other than a trade or business of trading in financial instruments or commodities), then the transferor must use section 1411(c)(4) to calculate how much of the chapter 1 gain or loss from the disposition to include under section 1411(c)(1)(A)(iii). Section 1411(c)(4) only applies to dispositions of equity interests in partnerships and stock in S corporations, and does not apply to gain or loss recognized on, for example, indebtedness owed to the taxpayer by a partnership or S corporation.
Proposed § 1.1411-7(a)(3) also addresses dispositions by Passthrough Entities of interests in lower-tier Passthrough Entities (a “Subsidiary Passthrough Entity”). Proposed § 1.1411-7(a)(3)(ii) provides a “look through rule” that treats a partner or shareholder as owning a proportionate share of any Subsidiary Passthrough Entity, as if the partner or shareholder owned the interest directly. Thus, each partner of the upper-tier Passthrough Entity must determine whether the disposition of the Subsidiary Passthrough Entity is a Section 1411(c)(4) Disposition based on whether the disposition would qualify as a Section 1411(c)(4) Disposition if that owner owned its interest in the Subsidiary Passthrough Entity directly.
Proposed § 1.1411-7 refers to partnerships or S corporations collectively as “Passthrough Entities” and the disposition of an interest in one of these entities is referred to as a “Section 1411(c)(4) Disposition.” The purpose of section 1411(c)(4) is to allow gain attributable to non-passive activities to be excluded from the calculation of section 1411 tax upon the disposition of an interest in a Passthrough Entity. To accomplish this, section 1411(c)(4)(A) provides that gain from the disposition of an interest in a Passthrough Entity shall be taken into account in computing net investment income only to the extent of the amount of gain the transferor would have included under section 1411(c)(1)(A)(iii) if the Passthrough Entity sold all of its assets immediately before the Section 1411(c)(4) Disposition. The proposed regulations refer to the property that would generate gain for inclusion in section 1411(c)(1)(A)(iii) as “Section 1411 Property.”
Section 1.469-2T(e)(3) addresses dispositions of partnership interests and S corporation stock in the context of the passive activity loss rules for purposes of chapter 1. Section 1.469-2T(e)(3) provides guidance on allocating disposition gains or losses among the activities of the entity. These rules require the taxpayer to determine the overall gain or loss from each activity (regardless of whether or not the taxpayer materially participates in the activity). For this purpose, § 1.469-2T(e)(3)(ii)(B)(1)(i) requires the taxpayer to compute for each activity “the amount of net gain . . . that would have been allocated to the holder of such interest with respect thereto if the passthrough entity had sold its entire interest in such activity for its fair market value on the applicable valuation date.” Section 1.469-2T(e)(3)(ii)(B)(2)(i) contains a corollary rule for dispositions at a loss.
Proposed § 1.1411-7(c)(4) provides certain exceptions for situations in which a transferor is ineligible to use the optional simplified reporting method. These exceptions include situations in which the transferor's historical distributive share amounts are less likely to reflect the gain in the Passthrough Entity's Section 1411 Property on the date of the transferor's disposition. The proposed regulations provide five exceptions for this purpose: (i) Transferors that have held the interest for less than 12 months, (ii) certain contributions and distributions during the Section 1411 Holding Period, (iii) Passthrough Entities that have significantly modified the composition of their assets, (iv) S corporations that have recently converted from C corporations, and (v) partial dispositions. The first exception requires that the transferor has held directly the interest in the Passthrough Entity (or held the interest indirectly in the case of a Subsidiary Passthrough Entity) for the twelve-month period preceding the Section 1411(c)(4) Disposition.
For purposes of section 1411, the inclusion of the operating income or loss of an S corporation in the beneficiary's net investment income is determined in a manner consistent with the treatment of a QSST beneficiary in chapter 1 (as explained in the preceding paragraph), which includes the determination of whether the S corporation is a passive activity of the beneficiary under section 469. However, because gain or loss resulting from the sale of S corporation stock by the QSST will be reported by the QSST and taxed to the trust by reason of § 1.1361-1(j)(8), it is not clear whether the beneficiary's section 469 status with respect to the S corporation is attributed to the trust.
Partial Withdrawal of Notice of Proposed Rulemaking Back to Top
1.Revising the entries under § 1.1411-3 for paragraphs (d)(2)(ii), (d)(3) and adding entries (d)(3)(i) through (iii). 2.Revising the entries under § 1.1411-4 for paragraphs (d)(4)(iii), (e)(3), and (g)(10) through (13). 3.Adding entries to § 1.1411-7. end regulatory text
(1) Information to be provided by passthrough entity to transferor. (2) Information reporting by transferors.
1.Revising paragraph (d)(2)(ii). 2.Revising paragraph (d)(2)(iii) by adding Example 2 through Example 5. 3.Revising paragraph (d)(3). 4.Revising paragraph (f). end regulatory text
(ii) Special rules for CRTs with income from certain CFCs or PFICs. If a CRT is a trust described in § 1.1411-10(a), and the CRT includes an amount in gross income under section 951(a) or section 1293(a) from a CFC or QEF that is not also income derived from a trade or business described in section 1411(c)(2) and § 1.1411-5 (except as provided in § 1.1411-10(b)(2)) and an election under § 1.1411-10(g) is not in effect with respect to the CFC or QEF, or the CRT is treated as receiving an excess distribution within the meaning of section 1291(b) or recognizing gain treated as an excess distribution under section 1291(a)(2), then the following rules apply for purposes of section 1411 with regard to income derived from the CFC, QEF, or PFIC—
(B) For the year in which the CRT is treated as receiving any of the items of net investment income described in paragraphs (c)(1)(i), (c)(1)(ii), (c)(2)(i), and (c)(4) of § 1.1411-10 that otherwise are not included in gross income for purposes of chapter 1 for that year (“NII Inclusion Amount”) with respect to the CFC, QEF, or PFIC, the rules of this paragraph (d)(2)(ii)(B) apply; and
(C) In the case of a difference between the amount calculated with respect to a disposition under paragraph (c)(2)(iii) or (c)(2)(iv) of § 1.1411-10 and the amount attributable to the relevant disposition for purposes of chapter 1, the following rules apply—
(i) In 2010, A creates a net income with makeup CRT (NIMCRUT). A is the sole income beneficiary of the NIMCRUT for 15 years. As of December 31, 2012, the NIMCRUT had $2,000 of dividend income and $180,000 of long-term capital gain within the Ordinary Income and Capital Gain Categories, respectively. Because both of these amounts were received by the NIMCRUT during a taxable year beginning before 2013, both constitute excluded income within the meaning of § 1.1411-1(d). In Year 1, the NIMCRUT acquires an interest in a CFC. The NIMCRUT does not make the § 1.1411-10(g) election with respect to the CFC. In Year 1, the NIMCRUT receives a section 951(a) inclusion of $5,000 and makes no distributions to A. For all years, income derived with respect to the CFC is not income derived in a trade or business described in section 1411(c)(2) and § 1.1411-5.
Year 1 Ending Category and Class Balances Back to Top
Interest and Other Income (including section 951 Inclusions)
Category and Class Balances Immediately Before Both the CFC Distribution and the NIMCRUT's Year 3 Distribution to A Back to Top
Interest (post-2012)
Year 3 Ending Category and Class Balances Back to Top
* Of which $800 will carry out NII to A when distributed.
Interest & Other Income (including section 951 Inclusions)
Category and Class Balances Immediately Before the Year 2 Distribution to A Back to Top
Category and Class Balances as of December 31, Year 2 Back to Top
Category and Class Balances as of December 31, Year 3 Back to Top
* All of which will carry out NII to A when distributed in the future.
Interest & Other Income (section 951 inclusion)
Year 2 Ending Category and Class Balances Back to Top
Category and Class Balances Immediately Before the Year 3 Distribution to A Back to Top
* Of which $4,000 will carry out NII to A when distributed in the future.
* 180,000
(3) Elective simplified method—(i) Treatment of annuity or unitrust distributions. If a CRT makes a valid election under this paragraph (d)(3), the rules of paragraph (d)(2) of this section shall not apply, and the net investment income of the beneficiary attributable to the beneficiary's annuity or unitrust distribution from the CRT shall include an amount equal to the lesser of—
(i)(A) In Year 1, A, an unmarried individual, disposes of 100 shares of publicly traded stock for a short-term capital gain of $4,000. In addition, A disposes of a partnership interest and recognizes a long-term capital loss of $19,000. Assume that the entire amount of $19,000 loss is not allowed against net investment income pursuant to section 1411(c)(4)(B), § 1.1411-7, and paragraph (d)(4)(ii) of this section. A has no capital loss carryovers from the year preceding Year 1.
(11) Treatment of section 736 payments—(i) In general. The treatment of payments received by a retiring partner or a deceased partner's successor in interest described in section 736 is determined under the rules of this paragraph (g)(11). Section 736 payments are not distributions from a plan or arrangement described in section 1411(c)(5) and § 1.1411-8. To the extent that any portion of a section 736 payment is taken into account in computing a taxpayer's net earnings from self-employment (within the meaning of § 1.1411-9), then such amount is not taken into account in computing net investment income by reason of section 1411(c)(6) and § 1.1411-9.
(ii) Treatment of section 736(a)(1) payments—(A) General rule. In the case of a payment described in section 736(a)(1) as a distributive share of partnership income, the items of income, gain, loss, and deduction attributable to such distributive share are taken into account in computing net investment income in section 1411(c) in a manner consistent with the item's character and treatment for chapter 1 purposes. See § 1.469-2(e)(2)(iii) for rules concerning the item's character and treatment for chapter 1.
Distributive share for goodwill. (i) A retires from PRS, a business entity classified as a partnership for Federal income tax purposes, and is entitled, pursuant to the partnership agreement, to receive 10% of PRS's net income for 60 months commencing immediately following A's retirement in exchange for A's fair market value share of PRS's unrealized receivables. PRS is not engaged in a trade or business described in section 1411(c)(2)(B) (a trading business). A will provide no services to PRS for the 60-month period following A's retirement. Prior to A's retirement, A materially participated in PRS's trade or business within the meaning of § 1.469-5T. As a result, PRS is characterized by A as a nonpassive activity for section 469 purposes. For purposes of section 1411, PRS was not a trade or business described in section 1411(c)(2)(A) prior to A's retirement.
Excess distributive share payments. Assume the same facts as in Example 1 except that PRS provides A an additional 2% of PRS's net income for 48 months commencing immediately following A's retirement as an incentive for A to retire earlier than planned. In the case of the additional 2% distributive share, the section 736(a) income characterization rule in § 1.469-2(e)(2)(iii) does not apply because the payment exceeds the value of PRS's unrealized receivables (which was established to equal 10% of PRS's income for 60 months in Example 1). As a result, A must determine whether PRS is a trade of business described in section 1411(c)(2)(A) and § 1.1411-5(a)(1) in Year 3 in order to determine whether the distributive share of operating income and deductions is includable in net investment income. If PRS is engaged in a trade or business described in section 1411(c)(2)(A) and § 1.1411-5(a)(1) with respect to A in Year 3, then the distributive share will be taken into account in computing A's net investment income.
(iii) Treatment of section 736(a)(2) payments—(A) Payments for unrealized receivables and goodwill. In the case of a payment described in section 736(a)(2), the portion (if any) of the payment that is allocable to the unrealized receivables (within the meaning of section 751(c)) and goodwill of the partnership (as described and calculated in § 1.469-2(e)(2)(iii)(B)) is included in net investment income under section 1411(c)(1)(A)(iii) and paragraphs (a)(1)(iii) and (d) of this section as gain from the disposition of a partnership interest.
(12) Income and deductions from certain notional principal contracts—(i) In general. Net income for a taxable year taken into account by a taxpayer under § 1.446-3(d) that is attributable to a notional principal contract described in paragraph (g)(12)(ii) of this section is net investment income described in section 1411(c)(1)(A) and paragraph (a)(1) of this section. A net deduction for a taxable year taken into account by a taxpayer under § 1.446-3(d) that is attributable to a notional principal contract described in paragraph (g)(12)(ii) of this section is a properly allocable deduction described in section 1411(c)(1)(B) and paragraph (f) of this section.
§ 1.1411-7 Exception for dispositions of certain active interests in partnerships and S corporations.
(a) In general—(1) General application. In the case of a transferor that disposes of an interest in a partnership or S corporation described in paragraph (a)(3) of this section (transferor), the gain or loss from the disposition recognized under chapter 1 that is taken into account under § 1.1411-4(a)(1)(iii) shall be calculated in accordance with this section. The calculation in paragraph (b) of this section reflects the net gain or net loss that the transferor would take into account if the partnership or S corporation sold all of its Section 1411 Property (as defined in paragraph (a)(2)(iv) of this section) for fair market value immediately before the disposition of such interest. In certain instances, transferors may qualify to use an alternative calculation described in paragraph (c) of this section in lieu of the calculation described in paragraph (b) of this section. Paragraph (d) of this section contains additional rules for Section 1411(c)(4) Dispositions (as defined in paragraph (a)(2)(ii) of this section) in deferred recognition transactions. Paragraph (f) of this section provides rules for adjusting the amount of gain or loss computed under this paragraph (a)(1) for transferors subject to basis adjustments required by § 1.1411-10(d). Paragraph (g) of this section provides rules for information disclosures by a partnership or S corporation to transferors and for information reporting by individuals, trusts, and estates. If a transferor disposes of an interest in a partnership or S corporation not described in paragraph (a)(3) of this section, then this section does not apply and the full amount of the gain or loss, as computed under chapter 1 and adjusted by § 1.1411-10(d) (if applicable), is taken into account in computing the transferor's net investment income.
(4) Special rules—(i) Certain liquidations. If a fully taxable disposition of all of the Passthrough Entity's assets is followed by the complete liquidation of the Passthrough Entity as part of a single plan, then the disposition will be treated as an asset sale for purposes of section 1411, and no additional gain or loss will be included in net investment income under § 1.1411-4(a)(1)(iii) on the subsequent liquidation of the Passthrough Entity by any transferor who would have satisfied paragraph (a)(3) of this section prior to the sale. A sale of stock in an S corporation with respect to which an election under section 336(e) or section 338(h)(10) is made shall be treated as a fully taxable disposition of the Passthrough Entity's assets followed by the liquidation of the Passthrough Entity for purposes of this paragraph (a)(4)(i).
(iii) Rules applicable to S corporation shareholders—(A) Certain S corporation dispositions. If the transfer of an interest in an S corporation causes the S election to terminate on the day of the transfer, then the corporation shall continue to be treated as an S corporation for purposes of applying the rules of this section to the transferor notwithstanding that § 1.1362-3(a) treats the day of the transfer as the first day of the corporation's C corporation short year (as defined therein).
(b) Calculation—(1) In general. A transferor of an interest in a Passthrough Entity who disposes of that interest in a Section 1411(c)(4) Disposition may use the simplified calculation in paragraph (c) of this section if it meets the eligibility requirements set forth in paragraph (c)(2) of this section. Any other transferor who disposes of an interest in a Passthrough Entity in a Section 1411(c)(4) Disposition must include gain or loss under § 1.1411-4(a)(1)(iii) determined in accordance with this paragraph (b).
(i) Gain on disposition of interest. If the transferor recognized a gain from the disposition, the amount of the net gain included in § 1.1411-4(a)(1)(iii) is the lesser of— (A) the transferor's gain on the disposition of the interest in the Passthrough Entity as determined in accordance with chapter 1; or
(ii) Loss on disposition of interest. If the transferor recognizes a loss from the disposition, the amount of the net loss included in § 1.1411-4(a)(1)(iii) is the lesser of—
(i) Facts. A owns a one-half interest in P, a calendar year partnership. In Year 1, A sells its interest for $200,000. A's adjusted basis for the interest sold is $120,000. Thus, A recognizes $80,000 of gain from the sale (chapter 1 gain). P is engaged in three trade or business activities, X, Y, and Z, none of which are § 1.1411-5(a)(2) (trading in financial instruments or commodities) trades or businesses. P also owns marketable securities. For Year 1, A materially participates in activity Z, thus it is not a § 1.1411-5(a)(1) (passive activity) trade or business of A. A, however, does not materially participate in activities X and Y, so these activities are § 1.1411-5(a)(1) trades or businesses of A. Because P is engaged in at least one trade or business and at least one of those trades or businesses is not passive to the transferor A, A determines its amount of § 1.1411-4(a)(1)(iii) gain or loss from net investment income under § 1.1411-7. Assume for purposes of this example, A is not eligible to compute its § 1.1411-4(a)(1)(iii) gain or loss under the optional simplified reporting method discussed in paragraph (c) of this section. The fair market value and adjusted basis of the gross assets used in P's activities are as follows:
X (Passive as to A)
Y (Passive as to A)
Z (Non-passive as to A)
Assume the same facts as Example 1, but A materially participates in activities Y and Z and does not materially participate in activity X. Under paragraph (b)(1)(i) of this section, A's allocable share of P's Section 1411 Property is ($12,000) (($20,000) from X + $8,000 from the marketable securities). Because A sold its interest for a chapter 1 gain, the amount allocable to A from a deemed sale of P's Section 1411 Property cannot be less than zero. Accordingly, A includes no gain or loss under § 1.1411-4(a)(1)(iii).
Facts. A owns a one-half interest in P, a partnership. In Year 1, A sells the interest for $2,000,000. A's adjusted basis for the interest sold is $1,100,000. Because P is engaged in at least one trade or business and at least one of those trades or businesses is not passive to the transferor A, A determines its amount of § 1.1411-4(a)(1)(iii) gain or loss from net investment income under § 1.1411-7. None of the nonapplicability conditions set forth in section 1.1411-7(c)(3) apply. The aggregate net income from P's activities allocable to A for the year of disposition and the two preceding tax years are as follows:
Aggregate income/
X (Non-Passive as to A)
Assume the same facts as Example 1, but A sells the interest in P for $900,000. Under paragraph (c)(3) of this section, A's percentage of Section 1411 Property is determined by dividing A's allocable share of income and loss of a type that are taken into account in the calculation of net investment income (as defined in § 1.1411-1(d)) that are allocated to the transferor by the Passthrough Entity during the Section 1411 Holding Period is $10,000 ($10,000 loss from Y + $20,000 income from marketable securities) by $1,810,000, which is the sum of A's share of income and loss from all of P's activities ($1,800,000 + ($10,000) + 20,000). Because A's allocable share during the Section 1411 Holding Period of income and loss of a type that is taken into account in calculating net investment income was a positive amount, and A sells its interest for an overall chapter 1 loss, A uses a fraction of 0 to compute its net investment income under paragraph (c)(4) of this section. Thus, A has no gain or loss for purposes of § 1.1411-4(a)(1)(iii) ($200,000 chapter 1 loss multiplied by a fraction of 0).
(e) Disposition of tiered Passthrough Entities.[Reserved]