internal_revenue_service number release date index number -------------------- ----------------------------------------------- --------------------- ------ ------------------------------ ----------------------------- legend department of the treasury washington dc person to contact ----------------------- id no --------------- telephone number --------------------- refer reply to cc intl - plr-157167-02 date date ------- --------------- -------------------- ---------------------- --------------------------- taxpayer --------------------------------------------------------------- individual a individual b year x cpa firm dear --------------- this replies to a letter dated date in which taxpayer requests an extension of time under sec_301_9100-3 to file the agreement described in sec_1_1503-2 in accordance with exhibit a which is attached and made a part of this ruling letter the information submitted for consideration is substantially as set forth below the ruling contained in this letter is predicated upon facts and representations submitted by the taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party this office has not verified any of the material submitted in support of the request for a ruling verification of the factual information representations and other data may be required as a part of the audit process in re plr-157167-02 individual a is a tax professional with taxpayer and had primary responsibility among other duties for ensuring that taxpayer complied with applicable u s federal_income_tax laws for each of taxpayer’s international investments including the responsibility for ensuring that all elections were timely and properly made the affidavit of individual a and the facts submitted set forth the reasons for individual a’s conclusion that taxpayer was in compliance with the dual_consolidated_loss rules and therefore was not required to file election statements under sec_1_1503-2 in the latter part of year x taxpayer changed its tax advisers to cpa firm individual b a tax partner with cpa firm conducted an in-depth review of taxpayer’s worldwide dual consolidated losses individual b concluded that contrary to individual a’s conclusion taxpayer was required to file the election statements sec_301 -1 b provides that an election includes an application_for relief in respect of tax and defines a regulatory election as an election whose due_date is prescribed by a regulation a revenue_ruling revenue_procedure notice or announcement sec_301_9100-1 provides that the commissioner has discretion to grant a taxpayer a reasonable extension of time under the rules set forth in sec_301_9100-3 to make a regulatory election under all subtitles of the internal_revenue_code except subtitles e g h and i sec_301_9100-3 provides that requests for relief subject_to this section will be granted when the taxpayer provides the evidence including affidavits described in sec_301_9100-3 to establish to the satisfaction of the commissioner that the taxpayer acted reasonably and in good_faith and the grant of relief will not prejudice the interests of the government in the present situation the agreement described in sec_1_1503-2 is a regulatory election as defined in sec_301_9100-1 therefore the commissioner has discretionary authority under sec_301_9100-1 to grant taxpayer an extension of time provided that taxpayer satisfies the rules set forth in sec_301_9100-3 based on the facts and information submitted we conclude that taxpayer satisfies sec_301_9100-3 accordingly taxpayer is granted an extension of time of days from the date of this ruling letter to file the agreement described in sec_1_1503-2 in accordance with exhibit a in re plr-157167-02 the granting of an extension of time is not a determination that taxpayer is otherwise eligible to file the agreements sec_301_9100-1 a copy of this ruling letter should be associated with the agreements this ruling is directed only to the taxpayer who requested it sec_6110 provides that it may not be used or cited as precedent no ruling has been requested and none is expressed as to the application of any other section of the code or regulations to the facts presented pursuant to a power_of_attorney on file in this office a copy of this ruling letter is being furnished to your authorized representative sincerely associate chief_counsel international by s allen goldstein allen goldstein reviewer enclosure exhibit a copy for purposes ------------------------------------------------------ exhibit a in re plr-157167-02 entities requesting rulings name of dual_resident_corporation ------------------------------------------------- ----------------------------------------------------- ----------------------------------------------------- ----------------------------------------------------- ----------------------------------------------------- ----------------------------------------------------- ------------------------------------ ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ----------------------- ----------------------------------------------------- ----------------------------------------------------- ----------------------------------------------------- ----------------------------------------------------- ----------------------------------------------------- ----------------------------------------------------- ----------------------------------------------------- ---------------------------------------------------------- ---------------------------------------------------------- ------------------------------------------------------ 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------------------------------------------------------------ ------------ ------------------------------------------------------------ ------------ ------------------------------------------------------------ ------------ ------------------------------------------------------------ ------------ ------------------------------------------------------------ ------------ ------------------------------------------------------------ ------------ ------------------------------------------------------------ ------- ------------------------------------------------------- ------------------------------------------------------- ------------------------------------------------------- ------------------------------------------------------- ------------------------------------------------------- ------------------------------------------------------- ------------------------------------------------------- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ - - - - - - - - - - - - - - - - - - - - - - --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --- --- --- --- --- --- --- --- --- --- --- --- --- --- --- --- --- --- --- --- --- --- --- in re plr-157167-02 ------------------------------------------------------------ ------------------------------------------------------------ ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ ------- ------------------------------------------------------------ ------- ------------------------------------------------------------ ------- ------------------------------------------------------------ ------------------------------------------------------------ - - - - - - - - - - - --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --- --- --- --- --- --- --- --- --- --- --- in re plr-157167-02 ------------------------------------------------------------ -- ------------------------------------------------------------ -- ------------------------------------------------------------ -- ---------------------------------------------------------- ---------------------------------------------------------- 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department of the treasury internal_revenue_service washington d c of f i c e of c h i e f c ou n s e l number release date uilc cc intl wta-n-115208-00 internal_revenue_service national_office field_service_advice date date memorandum for carol binner international examiner lmsb group from subject elizabeth beck chief cc intl allocation of interest_expense in commission fsc this chief_counsel_advice responds to your memorandum dated date in accordance with sec_6110 this chief_counsel_advice should not be cited as precedent legend corpa corpa-fsc products u s state u_s_territory date1 taxable_year a taxable_year b issue whether the interest_expense incurred by a commission foreign_sales_corporation fsc that determines its income under the sec_925 combined taxable_income method is allocable to income effectively connected with the conduct_of_a_trade_or_business within the united_states and thus deductible by the fsc conclusion wta-n-115208-00 the interest_expense incurred by a commission fsc that determines its income under the sec_925 combined taxable_income method is only partially allocable to income effectively connected with the conduct_of_a_trade_or_business within the united_states and thus only partially deductible by the fsc this partial allocation of the interest_expense of a commission fsc is determined as if the taxpayer were a buy sell fsc that held export_property assets rather than commissions receivable assets facts corpa is a subchapter_c_corporation organized in u s state corpa-fsc is a wholly-owned subsidiary of corpa incorporated in u_s_territory for taxable years a through b corpa-fsc had in place a valid election to be treated as a fsc pursuant to sec_922 and sec_927 of the internal_revenue_code and in all other respects continuously maintained its status as a fsc as defined in sec_922 at all relevant times corpa manufactured products within the united_states and exported some products abroad with corpa-fsc acting as its commission agent corpa agreed to pay corpa-fsc the maximum commission allowed under sec_925 and computed such commission under the sec_925 combined taxable_income method of the administrative pricing rules corpa was a related_supplier with respect to corpa-fsc and sales of products within the meaning of temp sec_1 d - 2t for purposes of this advice only we assume that products constituted export_property under sec_927 and that the gross_receipts from sales of products constituted foreign_trading_gross_receipts under sec_924 we further assume that corpa-fsc satisfied the foreign_management requirements of sec_924 and sec_924 and the foreign economic processes requirements of sec_924 and sec_924 with respect to the transactions in question in calculating its commissions using the combined taxable_income method corpa-fsc included as direct costs certain expenses_incurred by corpa pursuant to a service agreement entered into to satisfy the requirements of sec_925 however corpa-fsc did not actually reimburse corpa for such expenses either in cash or by means of a journal entry on its books for taxable years a through b the taxpayer and examination agree that corpa-fsc’s failure to reimburse corpa caused an account payable to be deemed created on corpa-fsc’s books as of date1 the due_date of corpa-fsc’s timely filed including extensions united_states income_tax return a corresponding account receivable was deemed created on corpa’s books the account receivable accrued interest and corpa included that interest in its taxable_income for every year the debt remained unpaid wta-n-115208-00 the taxpayer and examination agree on all of the above facts the parties disagree only on the method of allocating and apportioning corpa-fsc’s interest for the purpose of determining corpa-fsc’s taxable_income law i the fsc statutory and regulatory framework in determining fsc income from export_property interest_expense of a fsc is accounted for under two circumstances ie in computing the transfer price or commission from export_property using the sec_925 combined taxable_income method and in calculating the fsc’s taxable_income from foreign_trade_income sec_925 provides that in the case of a sale of export_property to a fsc by a person described in sec_482 the related_supplier the taxable_income of the fsc shall be based upon a transfer price that would allow the fsc to derive taxable_income attributable to such sale regardless of the sales_price actually charged in an amount that does not exceed the greatest of three enumerated pricing methods under that section the pricing method provided under sec_925 is the combined taxable_income cti method under the cti method a fsc’s taxable_income from the sale of export_property by the fsc may not exceed of the cti that is attributable to the foreign_trading_gross_receipts derived from that property sec_925 sec_924 provides that foreign_trading_gross_receipts ftgr include the gross_receipts of a fsc that are from the sale exchange or other_disposition of export_property pursuant to the authority granted by sec_925 temp sec_1 a -1t d provides that i f any transaction to which sec_925 applies is handled on a commission basis for a related_supplier by a fsc and if commissions paid to the fsc give rise to gross_receipts to the related_supplier which would have been foreign_trading_gross_receipts under sec_924 had the fsc made the sale directly then i the administrative pricing methods of sec_925 or may be used to determine the fsc’s commission a commission fsc that uses the cti method calculates its commission on a transaction using a cti amount that equal sec_1 interest-netting as discussed in 108_f3d_12 2d cir is not involved in this case see temp sec_1_927_d_-2t for the definition of related_supplier wta-n-115208-00 the excess of the related supplier’s gross_receipts from the transaction which would have been foreign_trading_gross_receipts had the sale been made by the fsc directly over the related supplier’s and the fsc’s total costs excluding the commission paid or payable to the fsc but including the related supplier’s cost_of_goods_sold and its and the fsc’s noninventoriable costs see sec_1_471-11 which relate to the gross_receipts from the transaction temp sec_1 a -1t d iii noninventoriable costs include interest sec_1_471-11 these provisions are equivalent to those where a fsc acts as the principal with respect to the sale of export_property compare temp sec_1 a -1t c i a commission fsc may earn in a taxable_year an amount of income that is computed in a manner consistent with paragraph c of temp sec_1 a -1t which the fsc would have been permitted to earn under the gross_receipts method the combined taxable_income method of the sec_482 method if the related_supplier had sold or leased the property or service to the fsc and the fsc had in turn sold or subleased to a third party whether or not a related_party temp sec_1 a -1t d ii the maximum commission that a fsc may charge the related_supplier is the amount of income determined under subdivisions ii and iii of this paragraph plus the fsc’s total costs for the transaction as determined under paragraph c of this section temp sec_1 a -1t d iv a fsc may determine a transfer price or commission using an administrative pricing method only if the fsc or a person acting under contract with the fsc performs the activities described in sec_924 and e sec_925 and temp sec_1 a -1t b ii if a fsc’s related_supplier performs such activities on behalf of the fsc the requirements of sec_925 will be met if the fsc pays the related_supplier an amount equal to the direct and indirect expenses related to the required activities see paragraph c ii of this section for the amount of compensation due the related_supplier the payment wta-n-115208-00 made to the related_supplier must be reflected on the fsc’s books and must be taken into account in computing the fsc’s and related supplier’s combined taxable_income if it is determined that the related_supplier was not compensated for all the expenses related to the required activities or if the entire payment is not reflected on the fsc’s books or in computing combined taxable_income the administrative pricing methods may be used but proper adjustments will be made to the fsc’s and related supplier’s books or income temp sec_1 a -1t b ii a fsc commission determined under temp sec_1 a -1t d is a category of gross_income called foreign_trade_income fti sec_923 temp sec_1 923-1t a sec_923 through divides the fti of a fsc into two categories exempt fti and non-exempt fti a fsc’s exempt fti is treated as foreign_source_income not effectively connected with the conduct_of_a_trade_or_business within the united_states non-eci and thus excluded from the gross_income of the fsc the fsc’s non-exempt fti other than sec_923 income3 is treated as income effectively connected with a trade_or_business eci conducted through a permanent_establishment of the fsc within the united_states sec_921 temp sec_1 921-3t a ii investment_income which includes interest is treated as eci sec_921 sec_1_921-2 q a sec_923 which applies to income determined under the administrative pricing rules provides that of fti derived from a transaction to which sec_925 or applies is exempt fti and thus non-eci under sec_921 while of fti is non-exempt and thus eci under sec_921 deductions including interest properly allocated and apportioned to fti derived by a fsc from any transaction are allocated on a proportionate basis between the exempt fti derived from such transaction and the non-exempt fti derived from such transaction sec_921 ii allocation and apportionment of fsc interest_expense sec_923 non-exempt foreign_trade_income determined under the sec_482 pricing method is the only type of non-exempt foreign_trade_income that is not treated as eci under the fsc provisions sec_921 sec_923 income is not involved in this case although sec_923 provides the fraction sec_291 and temp sec_1 923-1t b provide that only of fti is exempt where the fsc has only corporate shareholders wta-n-115208-00 as stated above under the cti method a fsc’s costs - including interest_expense related to gross_receipts from a transaction that results in a fsc commission - are deducted from ftgr to arrive at the related supplier’s and fsc’s cti interest_expense incurred with respect to unpaid sec_925 expenses is related to gross_receipts from a transaction that results in a fsc commission within the meaning of temp sec_1 a -1t d iii because the reimbursement of sec_925 expenses is a prerequisite for the fsc commission under the administrative pricing rules the amount of interest_expense deducted is determined in accordance with the allocation and apportionment rules of sec_1_861-8 temp sec_1 921-3t b a -1t d iii and a -1t c iii d under temp sec_1_861-8t the rules concerning the allocation and apportionment of interest_expense are set forth in temp sec_1_861-9t through 861-13t temp sec_1_861-11t provides rules for allocating interest_expense of a fsc for the purpose of calculating cti and the fsc commission income for the purpose of calculating a fsc’s taxable_income in general the asset value-based method asset method under temp sec_1_861-9t governs the deductibility of interest_expense however temp sec_1_861-9t provides that the deductibility of the interest_expense of a foreign_corporation is determined under sec_1_882-5 see also sec_1_882-4 pursuant to sec_882 sec_1_882-5 allocates the interest_expense of a foreign_corporation in accordance with a three-step allocation formula as in effect during the taxable years relevant to this case in step one of the three-step allocation formula the taxpayer determines the average total value of all assets of the corporation that generate have generated or could reasonably have been or be expected to generate eci for the taxable_year sec_1_882-5 in step two of the three-step allocation formula the taxpayer determines for the taxable_year the amount of liabilities of the corporation connected with the conduct_of_a_trade_or_business in the united_states sec_1_882-5 such liabilities are called u s -connected liabilities id the taxpayer determines the amount of u s - connected liabilities by multiplying the asset value determined under step one by either the fixed ratio or the actual ratio id current sec_1_882-5 applies only to taxable years beginning on or after date and does not apply in this case t d 1996_1_cb_161 hereinafter all references to sec_1_882-5 are to the regulations as in effect during taxable years a through b unless otherwise indicated wta-n-115208-00 the taxpayer must elect on its return for the first taxable_year to which sec_1_882-5 applies to use either the fixed ratio or the actual ratio sec_1_882-5 the regulations do not provide a time place and manner provision for making the election however administrative practice treats the election as made by a taxpayer that files a timely tax_return for the first applicable_taxable_year calculates the allocable expense and claims the computed results of the method chosen this administrative practice has been clarified by revised final regulations see sec_1_882-5 t d 1996_1_cb_161 in step three of the three-step allocation formula the taxpayer must elect on its return for the first taxable_year to which sec_1_882-5 applies to use either the branch_book_dollar_pool_method or the separate_currency_pools_method for the purpose of determining the amount of its allowed interest_deduction sec_1_882-5 analysis i the rule_of sec_882 and sec_1_882-5 generally generally corpa-fsc’s expenses are allocated and apportioned pursuant to sec_1_861-8 which references the interest_expense and apportionment rules under sec_1_861-9t temp sec_1 921-3t b and a - 1t c iii d temp sec_1_861-9t provides an asset method for allocating and apportioning interest_expense however the asset method allocation and apportionment rules of temp sec_1_861-9t do not apply to the interest_expense of a foreign_corporation such as corpa-fsc temp sec_1_861-9t sec_1_882-4 the interest_expense_deduction allowed to a foreign_corporation is determined under the three-step formula set forth in sec_1_882-5 sec_1_882-5 temp sec_1_861-9t the interest_deduction allowed to foreign_corporations is determined under sec_1_882-5 t d 1981_1_cb_390 providing the version of sec_1_882-5 applicable in this case sec_1_882-5 does not provide special rules for allocating fsc interest_expense deductions because sec_882 allows deductions for expenses of foreign_corporations only if they are connected with eci the deductibility of a fsc’s interest_expense depends on whether the interest_expense is connected with eci within the meaning of sec_882 generally an expense of a foreign_corporation is considered to be connected with eci if it is properly allocated and apportioned to eci under temp sec_1_861-8 sec_1_882-4 and b however in the case of interest_expense the amount of the deduction allowed is determined by applying sec_1_882-5 in this case corpa-fsc is a foreign_corporation with accrued interest_expenses wta-n-115208-00 as a result of its accounts_payable a portion of its commission income and all of its interest_income if any are treated as eci under sec_921 therefore sec_882 and sec_1_882-5 apply to determine the amount of corpa-fsc’s interest_expense which is deductible with respect to such eci sec_1_882-5 provides that corpa-fsc may deduct its interest from eci in accordance with the three- step formula set forth in sec_1_882-5 ii scenario for allocation of interest_expense to eci taxpayer argues that of corpa-fsc’s interest_expense is allocable to eci and thus is wholly deductible such a allocation is possible under the three- step allocation formula of sec_1_882-5 only where all of the foreign corporation’s income is eci and all of its worldwide liabilities are properly booked or treated as booked in the u s trade_or_business to achieve a allocation of interest_expense to eci under sec_1_882-5 the following elements are required under the three-step formula first of the corporation’s assets must be assets that generate have generated or could reasonably have been or be expected to generate eci under step one second the corporation must elect the actual ratio under step two third the corporation’s u s -booked liabilities determined in step three must be equal to the corporation’s worldwide liabilities determined in step two thus corpa-fsc’s interest_expense is allocable to eci as taxpayer claims only if all three of these elements are present solely for purposes of this analysis we assume that the third element is satisfied in this case a actual ratio election made under step two corpa-fsc’s first income_tax return to which sec_1_882-5 was applicable purported to deduct of the taxpayer’s interest_expense against eci sec_1_882-5 requires the taxpayer to represent the sec_1_882-5 election on the return taxpayer argues that corpa-fsc’s only assets during the taxable years at issue were the commission receivable and a checking account both of which did or could generate only interest_income which would be treated as eci under sec_921 pointing to these two eci-generating assets the taxpayer claimed on its return that of corpa-fsc’s interest_expense is allocable to eci we conclude that corpa-fsc’s claim for deductibility of its interest_expense constituted a timely sec_1_882-5 election to use the actual ratio described above accordingly the service should not seek to disallow a portion of the interest_expense_deduction on the grounds that the taxpayer did not properly elect the actual ratio for its initial required_year the validity of the actual ratio election in combination with our assumption that corpa-fsc’s u s -booked liabilities are equal to its worldwide liabilities however dictates that the taxpayer’s claim of deductibility wta-n-115208-00 is correct only if of its assets give rise to eci as described in step one taxpayer’s claim for allocation of corpa-fsc’s interest_expense to eci also constitutes a timely election to use the branch_book_dollar_pool_method under step three b percentage of eci-generating assets under step one taxpayer argues that its only two assets commissions receivable and a checking account can generate only eci in the form of interest_income it is unclear whether interest-bearing commissions receivable should be viewed as generating non- eci commission income eci commission income eci interest_income or some combination thereof if taxpayer were correct that its receivables should be considered to generate only eci a mechanical application of sec_1_882-5 in this case would permit corpa-fsc to allocate of its interest_expense to eci because of its assets generate eci however the proper application of this allocation rule must be considered in the broader context of the fsc statutory and regulatory framework which operates to reach a different conclusion as explained below iii sec_1_882-5 - step one applied in the fsc context a general proposition the fsc provisions permit a fsc to operate as a buy sell fsc under sec_925 or a commission fsc under sec_925 buy sell refers to a fsc that acts as the principal in a transaction that generates ftgr for the fsc commission refers to a fsc that acts as a commission agent in a transaction that generates gross_receipts for the fsc’s related_supplier that would otherwise have constituted ftgr had the fsc acted as the principal see generally temp sec_1 a -1t d the use of a commission fsc instead of a buy sell fsc should not affect the amount of the fsc income from the sale of export_property the legislative_history for the fsc provisions makes congress’ intent on this point clear the same intercompany allocation to the fsc fti will be permitted whether the fsc takes title as principal or acts as a commission agent staff of the joint_committee on taxation 98th cong 2d sess general explanation of the revenue provisions of the deficit_reduction_act_of_1984 pincite comm print temp sec_1 a -1t d ii reflects this principle when it states that a commission fsc may earn in a taxable_year an amount of income that is wta-n-115208-00 computed in a manner consistent with paragraph c of this section which the fsc would have been permitted to earn under the gross_receipts method the combined taxable_income method or the sec_482 method if the related_supplier had sold or leased the property or service to the fsc and the fsc had in turn sold or subleased to a third party whether or not a related_party thus a commission fsc is entitled to the same amount of fsc fti as a similarly situated buy sell fsc but may not receive more fti than the buy sell fsc for example suppose a buy sell fsc pays its related_supplier a transfer price that allows the fsc to compute dollar_figure of fti the rule_of temp sec_1 a -1t d ii provides that a similarly situated commission fsc may receive a commission from its related_supplier based on fti in an amount no greater than dollar_figure b eci-generating assets differ in buy sell fscs and commission fsc sec_1 export_property vs commissions receivable a buy sell fsc’s assets consist primarily of the export_property that it purchases for sale or lease export_property generates fti which is by definition part eci and part non-eci sec_921 in contrast a commission fsc’s assets consist primarily of commissions receivable that generate only eci in the form of interest thus one consequence of the fact that buy sell fscs and commission fscs hold different kinds of assets is that a mechanical application of sec_1_882-5 applies to the two fsc types inconsistently for buy sell fscs that own export_property which generates both eci and non-eci sec_1_882-5 permits only a partial allocation of interest_expense to eci under step one of the three-step allocation formula for commission fscs that own commissions receivable instead of export_property sec_1_882-5 permits allocation of all interest_expense to eci assuming that the taxpayer elects the actual ratio under step two and that its u s - booked liabilities equal its worldwide liabilities this result conflicts directly with the rule_of temp sec_1 a - 1t d ii which entitle a commission fsc to the same income from the sale of export_property as a similarly situated buy sell fsc to prevent this violation of the principle of equal allocation of income for buy sell and commission fscs sec_1_882-5 should be applied to a commission fsc as if it were a buy sell fsc with the result of equal tax treatment in accordance with this principle the average total value of all assets used in step one of the three-step formula to determine the portion of a taxpayer’s assets that generate eci should be interpreted to result in the same amount of interest_expense allocation between eci and non-eci that would have resulted had wta-n-115208-00 the sales that gave rise to fti been made through a buy sell fsc the remaining discussion analyzes the application of temp treas sec_1_882-5 to a buy sell fsc bifurcation of export_property for purposes of step one under sec_1_882-5 step one under sec_1_882-5 determines the value of assets that generate eci export_property generates only one type of income fti by statute fti is treated a sec_15 non-eci and eci where a fsc has only corporate shareholders sec_923 and temp sec_1 923-1t b therefore of export_property can never generate eci under sec_864 principles some provisions require the split characterization of income gains and losses between eci and non-eci in contrast other provisions require the characterization of income gains and losses as entirely eci or entirely non-eci where income gains and losses may be split characterized the assets that give rise to such income gains and losses are similarly split characterized while sec_1_882-5 refers to assets that generate eci the regulation does not distinguish between assets that generate only eci and assets that generate both eci and non-eci we conclude that the proper application of sec_1_882-5 requires that an asset such as export_property that generates both eci and non-eci in determinable proportions be bifurcated so that only the portion of the asset which generates eci is taken into account for purposes of valuing eci- generating assets under step one this view has been reflected in situations where u s branches of foreign banks have purchased securities with respect to which only a portion of the interest_income gains and losses is eci under the flush language of sec_1_864-4 the service’s view has been that for purposes of apportioning the u s branch’s interest_expense only a portion of the securities would be included in the asset value determination under sec_1_882-5 accordingly where assets cannot give rise to eci treatment on income gains and losses the proportion of the asset that cannot give rise to eci for any type of recognition event is economically severable and should be treated as an asset that gives rise only to non-eci in this manner a buy sell fsc’s export_property cannot be considered to give rise to income that is treated as eci because sec_921 requires that a portion of the fti generated by the disposition of export_property is non-eci similarly the commissions receivable of a commission fsc should be apportioned between eci and non-eci as if the fsc’s income-generating asset were export_property rather than receivables iv summary wta-n-115208-00 to the extent that sec_1_882-5 is silent concerning the treatment of receivables the better view is to apply the regulation so that a commission fsc gets the same tax results as a similarly situated buy sell fsc as provided under temp sec_1 a -1t d ii had corpa-fsc been a buy sell fsc it is clear that a portion of the interest_expense that it incurred would have to be allocated under the asset method to fti ie allocated to both eci and non-eci because a large portion of its assets would consist of export_property rather than commissions receivable in short the interest_expense incurred by a commission fsc that determines its income under the sec_925 cti method is only partially allocable to eci and thus only partially deductible by the fsc this partial allocation of the interest_expense of a commission fsc to eci is determined as if the taxpayer were a buy sell fsc that held export_property assets rather than commissions receivable assets case development hazards and other considerations the plain language of sec_1_882-5 referring to assets that generate have generated or could reasonably have been or be expected to generate income may support the view that the commission receivable should be allocated to interest_income because only interest may be earned on the commission receivable therefore a mechanical application of sec_1_882-5 without regard for the fsc principle of equal tax treatment for buy sell and commission fscs may result in deductibility for corpa-fsc’s interest_income against eci the view enunciated in this advice however is the view that the service previously has taken in fsas and letter rulings this writing may contain privileged information any unauthorized disclosure of this writing may have an adverse effect on privileges such as the attorney client privilege if disclosure becomes necessary please contact this office for our views if you have questions please call the branch pincite-1490 elizabeth beck chief branch office of the associate chief_counsel international


internal_revenue_service department of the washington dc contact person telephone number in reference to date t ep ra t3 jan uic legend taxpayer a taxpayer b accountant c ira x ira y company m dear this is in response to the letter submitted by your authorized representative as amended by correspondence dated january relief under sec_301_9100-3 of the procedure and administration regulations the following facts and representations support your ruling_request in which you request a roth_ira taxpayer a maintained ira x during calendar_year taxpayer a converted ira x is an individual_retirement_arrangement described in code sec_408 with company m to married to taxpayer b income for exceeded the limit found at sec_408a b however prior to the ira conversion taxpayers a and b were not advised taxpayers a and b’s adjusted gross of the internal_revenue_code ira y also with company m taxpayer a i pee that taxpayer a was by their tax preparer accountant c ineligible to convert ira x to roth_ira y taxpayers a and b were unaware of the time limits found in announcements and for recharacterizing an amount that had been converted from a traditional_ira to roth_ira internal_revenue_service discovered the failure to recharacterize pursuant to said announcements this ruling_request was submitted before the additionally a taxpayers a and b timely filed with an extension their calendar_year federal_income_tax return based on the above you through your authorized representative request the following letter_ruling that pursuant to sec_301_9100-3 of the regulations taxpayer a exceed six months from the date of this ruling letter to recharacterize her roth_ira traditional_ira is granted a period not to ira y toa with respect to your request for relief under sec_301_9100-3 of the regulations sec_408a of the internal_revenue_code and sec_1_408a-5 of the income_tax regulations provide that except as otherwise provided by the secretary a taxpayer may elect to recharacterize an ira contribution made to one type of ira as having been made to another type of ira by making a trustee-to-trustee transfer of the ira contribution plus earnings to the other type of ira contribution is treated as having been made to the transferee ira and not the transferor ira 408a d election generally must occur on or before the date prescribed by law including extensions for filing the taxpayer’s federal_income_tax returns for the year of contributions and sec_1_408a-5 this recharacterization in a recharacterization the ira under section sec_1_408a-5 question and answer-6 describes how a taxpayer makes the election to recharacterize the ira contribution converted from a traditional_ira to a roth_ira taxpayer must notify the roth_ira trustee of the taxpayer’s intent to recharacterize the amount to recharacterize an amount that has been the taxpayer must the pf page provide the trustee and the transferee trustee if different from the transferor trustee with specified information that is sufficient to effect the recharacterization and transfer the trustee must make the sec_1_408a-4 q a-2 provides in summary that an individual with modified_adjusted_gross_income in excess of dollar_figure for a taxable_year is not permitted to convert an amount to a roth_ira during that taxable_year sec_301_9100-1 sec_301_9100-2 and sec_301_9100-3 of the procedure and administration regulations in general provide guidance concerning requests for relief submitted to the service on or after december c of the regulations provides that the commissioner of the internal_revenue_service in his discretion may grant a reasonable extension of the time fixed by a regulation a revenue_ruling a revenue_procedure a notice or an announcement published in the internal_revenue_bulletin for the making of an election or application_for relief in respect of tax under among others subtitle a of the code section sec_301_9100-2 lists certain elections for which automatic extensions of time to file are granted of the regulations generally provides guidance with respect to the granting of relief with respect to those elections not referenced in sec_301_9100-2 the relief requested in this case is not referenced in sec_301_9100-2 section sec_301_9100-3 of the regulations provides that applications for relief that fall within sec_301_9100-3 will be granted when the taxpayer provides sufficient evidence including affidavits described in sec_301_9100-3 to establish that reasonably and in good_faith and not prejudice the interests of the government granting relief would the taxpayer acted sec_301_9100-3 of the temporary regulations provides that a taxpayer will be deemed to have acted reasonably and in good_faith i relief is filed before the failure to make a if its request for section p page ii if the timely election is discovered by the service taxpayer inadvertently failed to make the election because of intervening events beyond the taxpayer's control iii if the taxpayer failed to make the election because after exercising reasonable diligence the taxpayer was unaware of the necessity for the election reasonably relied upon the written advice of the service or the taxpayer reasonably relied on a qualified_tax professional including a tax professional employed by the taxpayer and the tax professional failed to make or advise the taxpayer to make the election the taxpayer iv v sec_301_9100-3 ii of the temporary regulations provides that ordinarily the interests of the government will be treated as prejudiced and that ordinarily the service will not grant relief when tax years that would have been affected by the election had it been timely made are closed by the statute_of_limitations before the taxpayer's receipt of this section a ruling granting relief under announcement 1994_24_irb_50 date provided that a taxpayer who timely filed his her federal_income_tax return would have until october to recharacterize an amount that had been converted from a traditional_ira to a roth_ira announcement 1999_44_irb_555 date provided that a taxpayer who timely filed his her federal_income_tax return would have until december converted from a traditional_ira to a roth_ira to recharacterize an amount that had been taxpayer a timely filed her federal_income_tax as a result she was eligible for relief under return either announcement or announcement she missed the deadlines found in said announcements therefore it for relief under the provisions of sec_301_9100-3 of the regulations is necessary to determine if she is eligible however in this case taxpayer a was ineligible to convert her ira x to roth_ira y since her adjusted_gross_income exceeded dollar_figure however until she discovered d- page otherwise taxpayer a believed that she was eligible to convert her ira x to a roth_ira taxpayer a filed this request for sec_301 relief shortly after discovering that she was ineligible to convert ira x toa roth_ira and her failure to comply with the announcements referenced above calendar_year is not a closed tax_year as noted above before the service discovered with respect to your request for relief we believe and that you have acted reasonably and in good that based on the information submitted and the representations contained herein the requirements of sec_301_9100-1 and sec_301_9100-3 of the regulations have been met faith with respect to making the election to recharacterize your roth_ira as traditional iras service has concluded that you have met the requirements of clauses i iii and the regulations of six months from the date of the issuance of this letter_ruling to so recharacterize therefore you are granted an extension of sec_301_9100-3 of specifically the v no opinion is expressed as to the tax treatment of the transaction described herein under the provisions of any other section of either the code or regulations which may be applicable thereto this letter is directed only to the taxpayer who requested it it may not be used or cited as precedent section j of the code provides that l492 page pursuant to a power_of_attorney on file with this office a copy of this ruling letter is being sent to your authorized representative sincerely yours kennthe t yedncek kenneth t yednock manager employee_plans technical tax_exempt_and_government_entities_division enclosures deleted copy of ruling letter notice of intention to disclose


department of the treasury int ernal revenue service washington d c o f f i c e o f c h i e f c o u n s e l number release date cc intl postf-154656-01 uilc internal_revenue_service national_office field_service_advice date date memorandum for tamara moravia-israel industry counsel to shipping technical advisor team cc lm rfp mia from subject jacob feldman special counsel cc intl application of fsc provisions to lease of vessel by bareboat charter between members of a controlled_group followed by a time charter of the vessel to an unrelated customer this chief_counsel_advice responds to your memorandum dated date in accordance with sec_6110 this chief_counsel_advice should not be cited as precedent legend uscorp ussub owner charterer uscorp-fsc industrya location1 countrya service1 service2 taxable year1 date1 postf-154656-01 amount1 amount2 amount3 amount4 activity1 activity2 activity3 issue whether a bareboat lease of a vessel by a domestic_corporation is treated as the lease of export_property for foreign_sales_corporation purposes under sec_927 and temp sec_1_927_a_-1t where the lease is for use by a lessee that is a member of the lessor’s controlled_group and the lessee derives income from the time charter of the vessel to an unrelated_person conclusion no the lease of a vessel by a domestic_corporation is not treated as the lease of export_property for foreign_sales_corporation purposes where the lease is for use by a lessee that is a member of the lessor’s controlled_group and the lessee derives income from the time charter of the vessel to an unrelated_person temp sec_1_927_a_-1t does not apply because the time charter transaction between the lessee and the unrelated_person constituted a service_contract not a sublease facts i the parties and charters uscorp a domestic_corporation wholly-owned domestic_corporation ussub collectively taxpayer which owns an ocean-going vessel in servicing industrya the vessel was used to transport crews equipment and supplies between mainland and offshore locations the vessel was used to perform service1 provide service2 and perform other specialized services during the period at issue the vessel was ported in countrya and traveled only between countrya and location1 the vessel did not travel to destinations within the united_states and performed services only within countrya and location1 during taxable year1 taxpayer transferred the vessel to its wholly-owned the related-lessee excluded_property rule_of sec_927 aside we assume solely for purposes of this memorandum that the vessel otherwise satisfied the definition of export_property under sec_927 we received no facts as to whether the requirements of sec_927 were satisfied in this case postf-154656-01 subsidiary owner a countrya corporation by bareboat charter bareboat charter taxpayer and examination agree that the bareboat charter constituted a lease owner negotiated a time charter time charter of the vessel with charterer an unrelated customer during taxable year1 for a discussion of the distinction between bareboat and time charters see page of this memorandum the vessel involved in this case is one of approximately amount1 vessels that taxpayer owns and charters using subsidiaries such as owner during taxable year1 uscorp also wholly owned uscorp-fsc a foreign_corporation that made an election on date1 to be treated as a foreign_sales_corporation fsc under sec_922 of the internal_revenue_code code which election remained in effect at all relevant times thereafter we assume solely for purposes of this memorandum that uscorp-fsc met all the requirements for fsc status under sec_922 at all relevant times and satisfied the foreign_management and economic process requirements under sec_924 with respect to the bareboat charter taxpayer paid a commission to uscorp-fsc with respect to the rental income that taxpayer earned under the bareboat charter to owner taxpayer owner and uscorp-fsc are members of the same controlled_group as defined in sec_927 charterer is not a member of such controlled_group ii the terms of the time charter the time charter consisted of a preamble sec_1 through and attachments a through f paragraphs a and b of the preamble state that owner provides vessels and the crew and equipment necessary to conduct industrya-related activities and that charterer desires that owner provide such a vessel and crew paragraph of the time charter provides that charterer shall hire owner’s manned vessel paragraph provides that the vessel shall be available for charterer’s use hours per day shall be employed pursuant to the instructions of the charterer regarding services required scheduling and destination in lawful activities necessary or incident to supporting activity1 location1 and shall perform such other duties as charterer may direct from time to time including activity2 and carrying cargo and personnel paragraph requires that the crew of the vessel chartered provide all lawful taxpayer holds title to the vessel owner which is referred to as owner in the time charter described below is the lessee of the vessel under the bareboat charter we received no information regarding these issues postf-154656-01 services required by charterer including services incident to activity3 handling anchors handling cargo and securing aboard the vessel all cargo loaded from charterer’s base sec_2 sets forth rights and obligations concerning owner’s vessel and crew for example paragraph b provides that owner represents and warrants that it is qualified and has full authority to do business in all jurisdictions where the time charter is to be performed paragraph requires in part that at all times during the time charter owner shall use all reasonable efforts to assure that the vessel be a tight strong and seaworthy b sufficiently tackled appareled furnished supplied and equipped in order to promptly and efficiently perform owner’s obligations under the time charter and c properly maintained in good running order and repair and in a state such as to obtain the vessel’s most economic operation with regard to speed and consumption of fuel in addition paragraph requires that the vessel be fully equipped for waterborne public transportation operations be suitable for the performance of the services contemplated by the time charter and be properly maintained paragraph provides charterer with the right to inspect the vessel for compliance with the time charter if the vessel is not being properly maintained repaired or supplied in accordance with the time charter and if owner fails to initiate action to correct such deficiency within hours of receipt of notice charterer shall have the option to cease payment for the duration of such deficiency under paragraph the charterer has the right to inspect any aspect of owner’s operations and equipment under the time charter and owner at its cost shall correct any deficiency in operations or repair or replace any equipment rejected by charterer paragraph lists the personnel required by the time charter for manning the vessel eg the master mate and chief engineer and the types of operations such personnel must be able to perform see also attachment c list of crewing requirements paragraph also requires that the vessel be crewed to be available seven days per week twenty-four hours per day paragraph provides that if owner fails to correct any deficiency in the manning of the vessel within hours from receipt of notice charterer may terminate the time charter if the vessel is not properly manned at any time during the term of the time charter adjustments shall be made in the day rate to which owner is entitled during such periods sec_3 addresses the manner of performance of the time charter paragraph states that owner shall perform promptly all services contemplated by this time charter with due diligence and paragraph states that owner shall operate the vessel or any replacement vessel that may be employed by charterer in accordance with governmental laws and regulations governing the transport of passengers and cargo over water paragraph requires owner to pay all costs and expenses relating to the vessel her master and her crew including all wages shipping and discharging fees postf-154656-01 and all other expenses of the master officers and crew paragraph sec_3_4 through impose on owner a list of expenses duties and responsibilities for the vessel including the use of great care and due caution in the performance of ultrahazardous activities the use of reasonable diligence to prevent pollution and the requirement that owner be responsible for cleaning up any such pollution the cost and responsibility for obtaining all licenses permits visas registrations and certificates for the vessel and for owner’s personnel the keeping of the vessel’s log a strict accounting of all cargo and passengers and proper maintenance records sec_4 concerns compensation specifically paragraph requires charterer to pay owner for the hire of the vessel in accordance with the rates set forth in attachment d and such rates shall be pro rated for any day during which the vessel is available for less than 24-hour service attachment d provides that in full consideration of the provision of the vessel complete with its full complement of master and crew charterer will reimburse owner for the following sums vessel’s mobilization fee of dollar_figureamount2 lump sum vessel’s daily rate of dollar_figureamount3 or pro_rata dollar_figureamount4 per passenger per meal and dollar_figureamount4 per passenger per night under paragraph sec_4 and owner is responsible for preparing invoices for delivery to charterer and charterer is responsible for making the payments on such invoices to owner sec_5 contains several provisions that govern insurance coverage paragraph requires owner for the full term of the time charter to procure and maintain solely at its own expense all insurance for the vessel and crew in amounts set forth in attachment e under paragraph any and all deductibles in the insurance policies are assumed by for the account of and at owner’s sole risk paragraph requires owner to obtain the prior written consent of charterer before modifying or canceling any insurance_policy under paragraph owner must furnish insurance certificates for itself and any of its subcontractors to charterer paragraph provides that all insurance policies required of owner shall contain endorsements that to the extent of liabilities assumed by owner underwriters will have no rights of recovery or subrogation against charterer section contains mutual indemnification and hold harmless provisions generally section provides that any damage or loss to the property of charterer shall be the loss of charterer and any damage or loss to the property of owner shall be the loss of owner see paras and paragraph dollar_figure provides that neither party shall be liable to the other for special or consequential damages for lost revenues or profits cost of capital lost production or products loss of business opportunity with third parties or punitive or exemplary damages under paragraph the master of the vessel shall have the sole right to determine whether a voyage ordered by charterer may be undertaken with safety to owner’s crew all persons on board and the vessel section governs downtime and loss of the vessel under paragraph owner must provide at no additional cost to charterer a replacement vessel in the event that the vessel subject_to the time charter is unavailable due to scheduled maintenance if the vessel becomes unavailable due to any other cause payment postf-154656-01 generally will cease for the duration of the downtime owner also must provide a replacement vessel to charterer upon request during any unscheduled downtime pursuant to paragraph the time charter will cease immediately if the vessel suffers actual or constructive total loss and owner shall have no rights to further compensation except those sums due or accrued at the time of such loss section addresses taxes and duties paragraph imposes on owner responsibility for all taxes levies assessments fines etc imposed on the vessel owner and owner’s personnel including corporate and personal income taxes sales_taxes excise_taxes stamp taxes use or compensating taxes social insurance taxes and contractor license paragraph imposes on charterer responsibility only for payment of harbor and port dues and certain other charges applicable to use of the vessel under section owner is responsible for maintaining all books_and_records subject_to charterer’s right of inspection pursuant to section owner and charterer agree to share equally any salvage money earned by the vessel net of certain specified expenses sec_15 describes the relationship of the parties stating owner shall perform all services under this time charter as an independent_contractor charterer shall exercise no control_over the owner’s employees or agents nor those of its subcontractor s nor the methods or means employed by owner in the performance of such work or services the charterer is solely interested in the attainment of the desired results section addresses the duration of the time charter under paragraph the primary term of the time charter is one year with six options of one month each to be exercised individually upon hours notice to owner in addition attachment c imposes on owner responsibility for obtaining a safe manning certificate and indicates that the master and crew of the vessel are owner’s personnel postf-154656-01 iii summary of the case taxpayer claimed fsc commission deductions with respect to rents that taxpayer received from owner under the bareboat charter taxpayer does not argue that the fsc benefits apply to income received by owner from charterer pursuant to the time charter examination asserts that the fsc benefits do not apply to the rents from the bareboat charter because the vessel which was leased to a related_party was not subsequently subleased or held for sublease to an unrelated party by owner and thus was not export_property under sec_927 law and analysis i application of fsc provisions to leases a generally the fsc provisions provide an income_tax exemption for a portion of certain commissions earned by a fsc sec_923 and sec_925 temp sec_1 923-1t a a fsc may earn commissions that may qualify for this exemption with respect to a lease or rental of export_property for use by the lessee outside the united_states sec_924 temp sec_1 a -1t c under sec_927 property that is manufactured in the united_states has foreign content not in excess of of its fair_market_value and is held primarily for sale lease or rental for direct use consumption or disposition outside the united_states may constitute export_property b leases between members of a controlled_group sec_927 excepts from the definition of export_property property leased or rented by a fsc or through a commission fsc for use by any member of a controlled_group_of_corporations as defined under sec_927 of which the fsc is a member is excluded_property and does not constitute export_property thi sec_4 your request for field_service_advice seeks the opinion of the national_office with respect to numerous bareboat time charter transactions engaged in by multiple subsidiaries of taxpayer with respect to approximately amount1 vessels this memorandum addresses only the specific fact pattern set forth above and should not be considered to apply to every bareboat time charter transaction entered into by taxpayer and its subsidiaries considering our conclusions that the fsc provisions do not apply to taxpayer’s rental income under the bareboat charter on the grounds that the time charter did not constitute a sublease and the time charter income was operating income we do not address the service’s argument that the time charter was a true lease but not a sublease with respect to the bareboat charter postf-154656-01 related-lessee excluded_property rule was originally enacted as part of the domestic_international_sales_corporation disc provisions sec_993 looking to the disc legislative_history the purpose of the related-lessee excluded_property rule was to prevent a leasing transaction from effectively converting income derived from the production of property outside the united_states - which ordinarily would not fall under the disc provisions - into disc leasing income while permitting the disc provisions to apply in cases where the only operational income of the taxpayer and related entities with respect to the property was from leasing in particular congress stated in the disc legislative_history that the purpose of the related-lessee excluded_property rule in sec_993 was to ensure that taxpayers were not able to convert substantial amounts of what otherwise would be manufacturing or operational as distinct from selling income into tax-favored disc income s rep no 92d cong 1st sess reprinted in 1972_1_cb_559 h_rep_no 92d cong 1st sess reprinted in 1972_1_cb_498 in other words congress intended the related-lessee excluded_property rule to deny the disc deferral6 to rental income that arose from operating income rather than rental income earned under a purported sublease to illustrate this principle regarding the conversion of operating income to rental income the disc legislative_history provided the following example thus if a disc leases a movie film to a foreign_corporation which is a member of the same group of controlled corporations and that foreign_corporation then leases the film to persons not members of that group for showing to the general_public the film is not to be considered non-export property by reason of the lease from the disc to the foreign_corporation however if the persons showing the film to the general_public are members of the same group of controlled corporations as the disc the film is not to be considered export_property s rep no 92d cong 1st sess reprinted in c b pincite the example stresses two principles the ultimate sublessee must be an unrelated_person and the related sublessor must earn income from rental_activity rather than business operations sec_1_993-3 adopted this example as part of a rule that limited the scope of the related-lessee excluded_property rule under the disc provisions the fsc provisions substantially replaced the disc provisions after december whereas the fsc provisions exempt a portion of a fsc’s income the disc provisions deferred tax on a portion of a disc’s income see pub_l_no 85_stat_497 sec_501 date for the disc tax_deferral provisions in effect before their substantial replacement by the fsc provisions postf-154656-01 in order to resolve trade disputes arising from the tax treatment of discs t he fsc system of taxation was designed to comply with the letter and spirit of the general agreement on trade and tariffs gatt code and to be revenue-neutral compared to the disc system s prt 98th cong 2d sess date accordingly the fsc provisions preserved the related-lessee excluded_property rule_of sec_993 in sec_927 these two sections are materially identical the fsc legislative_history provides further in general where the provisions of the act are identical or substantially_similar to the disc provisions under present and prior_law congress intended that rules comparable to the rules in regulations issued under those provisions be applied to the fsc staff of the joint_committee on taxation general explanation of the revenue provisions of the deficit_reduction_act_of_1984 jcs-41-84 date s prt 98th cong 2d sess date thus the regulatory limitation on the related-lessee excluded_property rule in sec_1_993-3 was carried forward into the fsc provisions in temp sec_1_927_a_-1t these two regulations are materially identical under temp sec_1_927_a_-1t property leased to a member of the lessor’s controlled_group does constitute export_property during a period of time if during the period a the property is held for sublease or is subleased to a third person for ultimate use by the third person b the third person is not a member of the same controlled_group and c the property is used predominantly outside the united_states as defined in paragraph d vi temp sec_1_927_a_-1t provides the following example - adopted nearly verbatim from the example quoted above from the disc legislative_history - to demonstrate the principle that the fsc provisions do not apply to operating income i f x a fsc for the taxable_year leases a movie film to y a foreign_corporation which is not a member of the same controlled_group as x and y then subleases the film to persons which are members of the controlled_group for showing to the general_public the film is not export_property on the other hand if x a fsc for the taxable_year leases a under temp sec_1_927_a_-1t property is used predominantly outside the united_states for any period if during that period the property is located outside the united_states more than percent of the time postf-154656-01 movie film to z a foreign_corporation which is a member of the same controlled_group as x and z then subleases the film to y another foreign_corporation which is not a member of the same controlled_group for showing to the general_public the film is not disqualified from being export_property ii time charter service_contract and lease a time charter defined the fsc provisions do not define time charter however under the common_law definition of time charter the owner’s master officers and crew continue in possession of the vessel its management and operation see eg 166_fsupp_732 e d p a under a time charter the vessel’s carrying capacity is taken up by the time charterer for a fixed period of time for carriage of cargo or other use of the vessel while the crew navigation and management remain in the control of the owner and its agents id a voyage charter is similar to a time charter except that the vessel is chartered for a specified voyage rather than a specified period of time see eg revrul_74_170 1974_1_cb_175 sec_7701 provides a means for determining whether a particular time charter constitutes a lease or a service_contract b characterization as a service_contract or lease under sec_7701 for purposes of discussing sec_7701 an understanding of the following terminology is necessary if the time charter is a lease owner would be considered the lessor and the charterer would be the lessee or sublessor and sublessee respectively if the bareboat charter is considered to be the basic or primary lease and if the time charter is a service_contract owner would be considered the service provider and charterer would be considered the service_recipient sec_7701 and its legislative_history provide factors which may be applied to determine whether a time charter of a vessel should be characterized as a lease or a service_contract the legislative_history states that the factors set forth in sec_7701 apply for all purposes of the income_tax provisions of the code sec_7701 provides that a contract that purports to be a service_contract shall be treated as a lease of property if such contract is properly treated as a lease of property taking into account all relevant factors including whether or not a the service see also prop sec_1_883-1 which defines time charter as a contract for_the_use_of a ship for a specific period of time during which the ship’s owner lessor retains control of the navigation and management of the ship eg the owner lessor continues to be responsible for the crew supplies repairs and maintenance fees and insurance charges commissions and other expenses connected with the use of the ship postf-154656-01 recipient is in physical possession of the property b the service_recipient controls the property c the service_recipient has a significant possessory or economic_interest in the property d the service provider does not bear any risk of substantially diminished receipts or substantially increased expenditures if there is nonperformance under the contract e the service provider does not use the property concurrently to provide significant services to entities unrelated to the service_recipient and f the total_contract_price does not substantially exceed the rental value of the property for the contract period sec_7701 was added to the code by the deficit_reduction_act_of_1984 act pub_l_no 98_stat_494 sec_31 the senate_finance_committee report senate report that accompanied the act discusses in great detail the factors set forth in the statute s rep no in particular the senate report illustrates the rules of sec_7701 as follows the service_contract provision applies for all purposes of the income_tax provisions of the internal_revenue_code including the depreciation provisions of the bill and the nontaxable_use restriction on the investment_credit as modified by the bill this provision applies to service contracts involving personal_property or real_property regardless of whether the so-called service provider is the tax owner or the lessee of the property physical possession physical possession of property is indicative of a lease under the bill property that is located on the premises of a service_recipient or located off the premises but operated by employees of such recipient is viewed as in the physical possession of the recipient however property is not in the physical possession of the recipient merely because the property is located on land leased to the service provider by the tax-exempt_entity control of the property the fact that the service_recipient controls the property is indicative of a lease under the bill a service_recipient is viewed as controlling the property to the extent such recipient dictates or has a right to dictate the manner in which the property is operated maintained or improved control is not established merely by reason of contractual provisions designed to enable the recipient to monitor or ensure the service provider's compliance with performance safety pollution control or other general standards postf-154656-01 possessory or economic_interest a contract that conveys a significant possessory or economic_interest to a service_recipient resembles a lease under the bill the existence of a possessory or economic_interest in property is established by facts that show the property’s use is likely to be dedicated to the service_recipient for a substantial portion of the useful_life of the property the recipient shares the risk that the property will decline in value the recipient shares in any appreciation in the value of the property the recipient shares in savings in the property’s operating costs or the recipient bears the risk of damage to or loss of the property substantial risk of nonperformance under a service_contract arrangement the service provider bears the risk of substantially diminished receipts or substantially increased expenditures if there is nonperformance by the service provider or the property under the act facts that establish that the service provider does not bear any significant risk of nonperformance are indicative of a lease concurrent use of property the concurrent use of the property to provide significant services to entities unrelated to the service_recipient is indicative of a service_contract rental value of property relative to total_contract_price the fact that the total_contract_price including expenses to be reimbursed by the service_recipient substantially exceeds the rental value of the property for the contract period is indicative of a service_contract if the total_contract_price reflects substantial costs that are attributable to items other than the use of the property subject_to the contract then the contract more closely resembles a service_contract conversely the fact that the total_contract_price is based principally on recovery_of the cost of the property is indicative of a lease a contract that states charges for services separately from charges for use of property is indicative of a lease other rules a contract will be treated as a lease rather than a service_contract if the contract more nearly resembles a lease although each of the factors in the bill must be considered a particular factor postf-154656-01 or factors may be insignificant in the context of any given case similarly because the test for determining whether a service_contract should be treated as a lease is inherently factual the presence or absence of any single factor may not be dispositive in every case for example even if a tax-exempt_entity or other service_recipient does not have physical possession of property the arrangement could still be treated as a lease after taking all other_relevant_factors into account id examples and in the senate report provide a sample application of the sec_7701 factors with respect to two time charters that have differing terms s rep no certain facts are common to both examples because example is based in part on the facts set forth in example in both examples e an agency of the federal government desires to obtain the use of a built-to-purpose vessel a contractor arranges for the construction of the vessel and for the sale of the vessel to t the contractor then leases the vessel from t the shipowner under a long- term bareboat charter e and the contractor enter into a time charter with respect to the vessel the time charter provides for the transportation of equipment cargo and personnel under the time charter e has the right to designate the port of call and the cargo to be carried the master officers and crew of the vessel are hired by the contractor subject_to e’s approval example continues by setting forth numerous additional facts that result in the conclusion that under the factors set forth in the act the time charter is a lease the additional facts in example differ from certain facts in example example changes the following facts from those set forth in example a e has no right to make alterations to the vessel b e’s obligation to pay charter hire is set at a rate per deadweight ton and is subject_to the condition that the vessel be in full working order c the time charter has an initial term of years with an option to renew for one to five one-year periods for a total of years d t bears the risk of damage to or loss of the vessel and e e has no option to purchase the vessel in addition e is not required to pay termination value or any other penalty if it fails to exercise a renewal option on these facts the time charter will be respected as a service_contract under the bill the following factors provide the basis for that conclusion a e has no control_over the vessel b e has no possessory or economic_interest in the vessel c the contractor bears a substantial risk of nonperformance because the contractor will receive no revenues if the vessel is unavailable for service and d the facts do not indicate that any portion of the charter hire is based on the cost of the vessel postf-154656-01 iii analysis a the time charter is a service_contract not a sublease the fsc provisions apply to gross_receipts from the lease or rental of export_property for use by the lessee outside the united_states sec_924 the service and taxpayer agree that the bareboat charter involved in this case constituted a lease within the meaning of sec_924 and sec_927 although the use of the vessel otherwise meets the sec_927 definition of export_property the sec_927 related-lessee excluded_property rule excludes property from the definition of export_property where the property is leased between members of the same controlled_group as defined in sec_927 taxpayer owner and uscorp-fsc are members of the same controlled_group under this definition the rules in temp sec_1_927_a_-1t provide an exception to the related-lessee excluded_property rule the exception permits property leased between members of the same controlled_group to be characterized as export_property if the property is subsequently subleased or held for sublease by the lessee to a third person not a member of the same controlled_group for such third person’s ultimate use and if such third person uses the property predominantly outside the united_states within the meaning of temp sec_1_927_a_-1t temp sec_1 a - 1t f i owner entered into the time charter arrangement with charterer an unrelated third person customer that was not a member of the same controlled_group as taxpayer owner or uscorp-fsc the time chartered vessel was ultimately used by charterer which used the vessel in industrya-related activities because these activities occurred exclusively outside the united_states the vessel was used under the time charter predominantly outside the united_states within the meaning of temp sec_1_927_a_-1t thus in determining whether the temp sec_1_927_a_-1t exception to the related-lessee excluded_property rule applies in this case the controlling question is whether the time charter constituted a sublease of the vessel that was leased by taxpayer to owner under the bareboat charter although the common_law and other authorities provide definitions for a time charter transaction such definition does not establish whether for federal_income_tax purposes a particular time charter is a lease or a service_contract therefore a sec_7701 analysis is necessary to determine whether the time charter is a true sublease or a contract for services the time charter uses words throughout the agreement such as charter charterer owner and hire rather than leasing terms such as lease lessee lessor and rent or provisions of services terms such as service_contract service_recipient service provider and fees numerous provisions use the term services to describe the nature or character of what owner was obligated to provide to charterer see eg paras and sec_15 in addition examples postf-154656-01 and in the legislative_history of sec_7701 illustrate the application of sec_7701 with respect to time charter agreements these examples demonstrate that a time charter may be either a lease or a service_contract depending on the terms of the agreement therefore application of sec_7701 is appropriate for the purpose of determining whether a particular time charter constitutes a lease or a service_contract accordingly we apply sec_7701 to determine whether the time charter is in substance a service_contract as opposed to a lease physical possession the first factor in sec_7701 concerns whether the service_recipient is in physical possession of the property according to the senate report physical possession by the service_recipient is indicative of a lease and property operated by employees of the service_recipient is viewed as in the physical possession of the service_recipient in this case there is no indication in the time charter that employees of charterer operated the vessel numerous provisions however require that the vessel be manned or operated by a master and crew employed by owner see eg paras a and b of the preamble requiring owner to crew the vessel stating hire owner’s manned vessel and attachment c listing the personnel required by the time charter for manning the vessel and placing such responsibility on owner requiring owner to pay all costs and expenses relating to the vessel her master and her crew including wages dollar_figure giving the master the sole right to determine if a voyage may be undertaken with safety to owner’s crew sec_15 providing that charterer shall exercise no control_over the owner’s employees ie the crew because owner’s employees not charterer’s employees operate the vessel we conclude that owner did not transfer physical possession of the vessel to charterer therefore this factor favors characterizing the contract as a service_contract not as a lease control of the property the second factor in sec_7701 is whether the service_recipient controls the property the senate report states that control of the property by the service_recipient is indicative of a lease control is established if the service_recipient dictates the manner in which the property is operated maintained or improved although charterer has the right to require certain services concerning offshore operations for its industrya business from owner see paragraph sec_1 and above sec_15 of the time charter provides that with respect to the vessel charterer shall exercise no control_over the owner’s employees or agents nor those of its subcontractor s nor the methods or means employed by owner in the performance of such work or services the charterer is solely interested in the attainment of the desired results numerous other provisions in the time charter place control of the operation postf-154656-01 maintenance and repair of the vessel in the hands of owner see eg paras and setting forth owner’s obligations and standards of performance of the services requiring owner to exercise due diligence in the performance of all services contemplated by the time charter and through setting forth a long list of duties and responsibilities of owner with respect to the vessel and requiring owner to use good care and due diligence or reasonable diligence in the performance of such duties although paragraph sec_2 and give charterer a right to inspect the vessel and to inspect any of owner’s operations and equipment under the time charter the senate report clearly provides that a right of inspection designed to permit the service_recipient to monitor or ensure the service provider’s compliance with certain standards does not amount to control accordingly we conclude that the provisions of the time charter clearly establish that owner retained control of the vessel therefore this factor supports characterizing the time charter as a service_contract not a lease possessory or economic_interest the third factor in sec_7701 concerns whether the service_recipient has a significant possessory or economic_interest in the property the senate report indicates that a contract that conveys a significant possessory or economic_interest to the service_recipient resembles a lease five elements are necessary to establish the conveyance of a significant possessory or economic_interest in the property first in this case the term of the time charter is one year with six one-month renewal options see para therefore the time charter did not dedicate the vessel’s use to charterer for a substantial portion of the vessel’s useful_life this element suggests that the time charter did not convey a significant possessory or economic_interest in the vessel to charterer under the second and third elements the time charter does not contain any provisions suggesting that charterer shares the risk that the property will decline in value or that charterer will share in any appreciation in the value of the property fourth paragraph provides that the charterer will share in any savings in the vessel’s operating costs concerning for instance fuel consumption also the reimbursement procedures in paragraph sec_4 and lead to a similar result this fact favors treatment as a lease the fifth element concerns whether the recipient bears the risk of damage or loss of the property the terms of the time charter strongly suggest that charterer did not bear the risk of damage or loss paragraph sec_5 and impose on owner the obligation to procure insurance for the vessel and its crew paragraph provides that any damage or loss of owner’s property ie the vessel shall be owner’s and any right of recovery against charterer for such loss is waived paragraph also provides that if the vessel is lost the time charter terminates and owner has no rights to further compensation other than sums due or accrued at the time of the loss an analysis of the time charter with respect to these elements indicates that no significant possessory or economic_interest in the vessel was conveyed to charterer therefore this factor indicates that the time charter is a postf-154656-01 service_contract not a lease substantial risk of nonperformance the fourth factor in sec_7701 is whether the service provider bears any risk of substantially diminished receipts or substantially increased expenditures if there is nonperformance under the contract according to the senate report facts that establish that the service provider does not bear any significant risk of nonperformance are indicative of a lease the terms of the time charter do not directly address diminished receipts or increased expenditures in the event of nonperformance however attachment d provides that owner will be reimbursed by charterer according to the day rate for the vessel accordingly for each day the vessel is not in use owner bears a risk of diminished receipts in the form of lower total reimbursements this factor favors treating the time charter as a service_contract concurrent use of property the fifth factor in sec_7701 concerns the concurrent use of the property the senate report provides that the concurrent use of the property to provide significant services to entities unrelated to the service_recipient is indicative of a service_contract in this case paragraph requires that the vessel be available for charterer’s use hours per day for the duration of the time charter paragraph provides for pro ration of the day rate for any day in which the vessel is available for less than hours service because of the exclusive nature of these provisions it is reasonable to conclude that the time charter does not permit the concurrent use of the vessel for entities unrelated to the service_recipient this factor favors lease treatment rental value of property relative to total_contract_price the final factor in sec_7701 concerns the rental value of property relative to total_contract_price the senate report provides that the fact that the total_contract_price including expenses to be reimbursed by the service_recipient substantially exceeds the rental value of the property for the contract period is indicative of a service_contract s rep no conversely contractual terms that base the total_contract_price principally on recovery_of the cost of the property are indicative of a lease the time charter neither discusses whether the total_contract_price substantially exceeds the rental value of the property nor indicates whether the total_contract_price is based on owner’s recovery_of its cost of the property consequently additional factual development is necessary to establish whether this factor supports characterization as a service_contract or lease on balance the factors set forth in sec_7701 and its legislative_history support characterizing the time charter as a service_contract not a lease for federal_income_tax purposes further support for characterizing the time charter as a service_contract can be found in the sourcing_rules which historically have treated income from time charters as compensation_for services or operation of a vessel rather than rental postf-154656-01 income see eg staff of the joint_committee on taxation general explanation of the revenue provisions of the deficit_reduction_act_of_1984 jcs-41-84 date revrul_81_197 1981_2_cb_166 revproc_91_12 c b pincite b fsc benefits do not apply to income from the provision of services and performance of activities by owner under the time charter the conclusion that we reached applying the sec_7701 factors above is consistent with the policy that fsc benefits do not apply to income from the operation of a business the legislative_history of the related-lessee excluded_property rule originally enacted in sec_993 reflects congress’ intent to limit the disc deferral mechanism to selling and leasing income and to prevent operating income earned at the lessee or sublessee level from being converted into leasing income at the lessor’s level temp sec_1_927_a_-1t constitutes a narrow exception to the related-lessee excluded_property rule this exception is premised on the notion that fsc benefits do not apply to operating income thus temp sec_1 a - 1t f enables a lessor to obtain fsc benefits on a lease of export_property to a related lessee unless such property generated operating income in the hands of the related lessee or a related sublessee this principle is illustrated in the example in temp sec_1_927_a_-1t taken from the disc legislative_history and regulations in the present case owner received income from charterer under the time charter as compensation_for owner’s provision of services such as service1 and service2 as well as performance of activities such as activity2 and supporting activity1 owner’s income was not leasing income because owner did not lease the vessel to charterer charterer paid owner for providing services and performing activities owner received income for the active operation of a business as distinguished from passive leasing activity owner’s income from the operation of a business servicing industrya was converted into leasing income when owner paid rent to taxpayer under the bareboat charter lease this is precisely the situation anticipated by the disc legislative_history and by the related-lessee excluded_property rule under sec_927 a taxpayer may not circumvent the related-lessee excluded_property rule and trigger the exception under temp sec_1_927_a_-1t simply by labeling a time charter as a lease or a sublease the exception to the related-lessee excluded_property rule under temp sec_1_927_a_-1t applies to a time charter by a bareboat lease charterer only where the time charter generates true leasing income the example in temp sec_1_927_a_-1t states that the exception does not apply where a related lessee shows a leased movie to the public because the related lessee did not sublease the movie but rather used the movie in the operation of its business fsc benefits do not apply to the leasing income of the postf-154656-01 movie’s lessor the same principle applies in the present case owner did not sublease the vessel to charterer under the time charter case development hazards and other considerations this writing may contain privileged information any unauthorized disclosure of this writing may have an adverse effect on privileges such as the attorney client privilege if disclosure becomes necessary please contact this office for our views please call cc intl at if you have any further questions jacob feldman special counsel office of associate chief_counsel international


internal_revenue_service number release date index number -------------------------- -------------------------- ------------------------------------------ -------------------------------- - department of the treasury washington dc third party communication none date of communication not applicable_person to contact ------------------------ id no ------------- telephone number --------------------- refer reply to cc corp b03 plr-114508-04 date july ------------------ -------------------------- ----------------------------- ------------------------------ legend taxpayer ---------------------------------------------------------------------------------- ------------------------------------------------------------------- date date company official -------------------------------------------------------------------------- dear ------------------ taxpayer an extension of time under sec_301_9100-1 through of the procedure and administration regulations to file an election the extension is being requested for taxpayer to file an election under sec_1_1502-21 of the income_tax regulations to relinquish the entire carryback period for the consolidated_net_operating_loss cnol of the consolidated_group of which taxpayer is the common parent for the tax_year ending date additional information was submitted in a letter dated date the material information submitted for consideration is summarized below cnol in the tax_year ending date none of the cnol was attributable to a corporation that had a separate_return_year within the meaning of sec_1_1502-1 at any time within the carryback period for the cnol and none has been carried back to a prior year this letter responds to a letter dated date requesting on behalf of taxpayer is the common parent of a consolidated_group which sustained a sec_1_1502-21 provided for the year at issue that a consolidated taxpayer intended to relinquish the carryback period for its consolidated group’s plr-114508-04 cnol on its tax_return for the tax_year ending date the return was timely filed consistent with a valid election having been made however for various reasons a valid election was not filed on date which was after the date that the return was timely filed it was discovered that a valid election was not filed subsequently this request was submitted under sec_301_9100-3 for an extension of time to file a valid election the period of limitations on assessment under sec_6501 has not expired for the taxable_year for which the election should have been filed or for any subsequent taxable_year group may elect to relinquish the carryback period with respect to a cnol for any consolidated_return_year the election is made in a separate statement entitled this is an election under sec_1_1502-21 to waive the entire carryback period pursuant to sec_172 for the insert consolidated_return_year cnols of the consolidated_group of which insert name and employer_identification_number of common parent is the common parent sec_1_1502-21 provides that the statement must be signed by the common parent and filed with the group’s income_tax return for the consolidated_return_year in which the cnol arises extension of time to make a regulatory election or a statutory election but no more than six months except in the case of a taxpayer who is abroad under all subtitles of the internal_revenue_code except subtitles e g h and i commissioner will use to determine whether to grant an extension of time to make a regulatory election sec_301_9100-1 sec_301_9100-2 provides automatic extensions of time for making certain elections sec_301_9100-3 provides extensions of time for making regulatory elections that do not meet the requirements of sec_301_9100-2 requests for relief under sec_301_9100-3 will be granted when the taxpayer provides evidence to establish that the taxpayer acted reasonably and in good_faith and that granting relief will not prejudice the interests of the government sec_301 a sec_1_1502-21 therefore the commissioner has discretionary authority under sec_301_9100-3 to grant an extension of time for taxpayer to file the election provided taxpayer establishes it acted reasonably and in good_faith the requirements of sec_301_9100-1 and sec_301_9100-3 are satisfied and granting relief will not prejudice the interests of the government_official explain the circumstances that resulted in the failure to timely file a valid information affidavits and representations submitted by taxpayer and company under sec_301_9100-1 the commissioner has discretion to grant a reasonable in this case the time for filing the election is fixed by the regulations ie sec_301_9100-1 through provide the standards the plr-114508-04 election the information establishes that taxpayer reasonably relied on a qualified_tax professional who failed to make or advise taxpayer to make the election and that the interests of the government will not be prejudiced if relief is granted see sec_301 b v based on the facts and information submitted including the representations that have been made we conclude that taxpayer has established it acted reasonably and in good_faith in failing to timely file the election the requirements of sec_301_9100-1 and sec_301_9100-3 are satisfied and granting relief will not prejudice the interests of the government accordingly we grant an extension of time under sec_301_9100-3 until days from the date on this letter for taxpayer to file the election with respect to the relinquishment of the entire carryback period for the cnol for the tax_year ending date as described above the above extension of time is conditioned on taxpayer’s consolidated group’s tax_liability if any not being lower in the aggregate for all years to which the election applies than it would have been if the election had been made timely taking into account the time_value_of_money no opinion is expressed as to taxpayer’s consolidated group’s tax_liability for the years involved a determination thereof will be made upon audit of the federal_income_tax returns involved further no opinion is expressed as to the federal_income_tax effect if any if it is determined that taxpayer’s consolidated group’s liability is lower sec_301_9100-3 taxpayer should file the election in accordance with sec_1_1502-21 taxpayer’s return must be amended to attach the election statement required by sec_1_1502-21 a copy of this letter should be attached to the election statement election late under the provisions of any other section of the code and regulations or as to the tax treatment of any conditions existing at the time of or resulting from filing the election late that are not specifically set forth in the above ruling for purposes of granting relief under sec_301_9100-3 we relied on certain statements and representations made by the taxpayer and its representatives however all essential facts must be verified in addition notwithstanding that an extension is granted under sec_301_9100-3 to file the election penalties and interest that would otherwise be applicable if any continue to apply provides that it may not be used or cited as precedent this letter is directed only to the taxpayer who requested it sec_6110 no opinion is expressed as to the tax effects or consequences of filing the pursuant to a power_of_attorney on file in the office a copy of this letter is being plr-114508-04 sent to taxpayer sincerely __________________ ken cohen senior technician reviewer branch office of associate chief_counsel corporate