office_of_chief_counsel internal_revenue_service memorandum number release date cc intl b04 dbbailey postu-141599-06 third party communication none date of communication not applicable uilc date date to ------------------ ----------------------------------------------- lmsb international from thomas d beem senior technical reviewer branch international david b bailey assistant to the branch chief branch international subject sec_1503 issues upon termination of sec_1504 election this chief_counsel_advice responds to your request for assistance this advice may not be used or cited as precedent legend the company subsidiary country x ----------------------------------- --------------------------------------- ---------- law and analysis this memorandum responds to the arguments relating to dual_consolidated_loss dcl recapture raised by the company in its protest submitted on december postu-141599-06 before discussing the company’s specific arguments however this memorandum provides a background of the policy underlying the rules applicable to this case i policy underlying sec_1503 sec_1503 was enacted to prevent a corporation from using a single economic loss to reduce its own u s tax and also to reduce foreign tax on a stream of income that is not subject_to current u s tax congress sought to prevent this practice of double dipping because it provided an undue tax advantage to certain foreign persons making u s investments the legislative_history to sec_1503 sets forth a simple example that describes the type of double dip that this provision was enacted to prevent in that example shown below in figure example a u k corporation which earned dollar_figure acquired a u s target the u s target also earned dollar_figure of income to finance the acquisition the u k corporation established a dual_resident_corporation drc that incurred interest_expense of dollar_figure and earned no income thus resulting in a loss of dollar_figure for the drc under u k law the drc’s loss was used to offset the income of the parent which was not taxed in the u s such that the group’s u k taxable_income was reduced to dollar_figure likewise under u s law the drc was consolidated with the u s target so that its u s taxable_income was also reduced zero by using the same loss this results in the double dip - a single loss of dollar_figure offsets two separate streams of income one subject_to tax in the u s but not the u k and the other subject_to tax in the u k but not in the u s despite having worldwide profits of dollar_figure the group would pay no tax in either country prior to the enactment of sec_1503 staff of joint comm on tax’n general explanation of the tax_reform_act_of_1986 although this example describes an inbound transaction the statute applies to both inbound and outbound transactions id postu-141599-06 figure uk group fp uk us consolidated_group drc us uk target us sec_1503 and the regulations promulgated thereunder therefore sought to prevent situations in which a dcl could be used to offset two separate streams of income in this manner although it is clear that the regulations police this type of double dip this prohibition is also evident under the language of the statute sec_1503 states that to the extent provided in regulations the term ‘dual consolidated loss’ shall not include any loss which under the foreign_income_tax law does not offset the income of any foreign_corporation in other words congress was concerned about the use of a loss to offset under foreign_income_tax law the income of any foreign_corporation a second example shown in figure below illustrates another situation in which a double dip may occur example usp is a domestic_corporation and the common parent of a consolidated_group that includes drc also a domestic_corporation drc is also considered a resident of country y because it is managed and controlled there thus drc is a dual_resident_corporation in year usp has income of dollar_figure and drc incurs a loss of dollar_figure usp uses the drc loss to offset its dollar_figure of income so that the group’s income is reduced to zero for u s tax purposes and thus no income_tax is paid in the u s in year drc reorganizes to become fs an entity that is treated as a foreign_corporation for u s tax purposes but that is considered unchanged from drc under country y law fs earns dollar_figure of income in year and uses the dollar_figure of loss incurred by drc in year to offset the year income postu-141599-06 figure year dollar_figure usp u s year usp u s drc u s y fs y dollar_figure dollar_figure this also creates a double dip - a single loss of dollar_figure offsets two separate streams of income first offsetting usp’s dollar_figure of income subject_to u s tax in year and then also offsetting the dollar_figure of fs income in year that is subject_to tax in country y but is not subject_to tax in the u s as in example there is dollar_figure of overall net_income but because of the double dip no tax is paid on that dollar_figure in either country this is exactly the advantage congress sought to deny in enacting sec_1503 note that this double dip occurs because the loss could be used to offset both the income of a domestic_corporation and a foreign_corporation even though under the foreign_country law the entity remains unchanged thus what matters in this example is that the foreign law allows the use of the loss against the income of an entity that for u s tax purposes is treated as a foreign_corporation this tracks squarely with the statute which provides that a dual_consolidated_loss shall not include any loss which under the foreign_income_tax law does not offset the income of any foreign_corporation sec_1503 the statute thus focuses on the use of the loss to offset income of a foreign_corporation that is exactly what occurs in example above this illustrates that the triggering event rebuttals in the regulations must be interpreted to provide that the laws of the foreign_country modifies use rather than another person this interpretation is the one that is consistent with the policy and text of the statute if drc had remained a domestic_corporation in year then the dollar_figure of year income would have been subject_to tax in the u s in that case no double dip would have occurred even though the loss would have been used to offset its income under postu-141599-06 the foreign_country law in that situation the dollar_figure of total economic profit would not have escaped tax as it did the example with the double dip rather the u s would tax the dollar_figure of income that drc would have made in year if it had remained domestic and the taxpayer would not have enjoyed the advantage of the double dip this shows the significance of the conversion of drc to a foreign_corporation for u s tax purposes even though under the foreign law the entity remains unchanged that u s tax event creates the possibility for a double dip in the absence of sec_1503 with these examples and this policy in mind we turn to a consideration of the treatment of the transaction at issue under the regulations under sec_1503 the dcl regulations ii treatment of the transaction under the regulations the central issue in this case is whether the termination of subsidiary’s sec_1504 status triggered recapture of subsidiary’s dcls this depends on whether the termination caused subsidiary to become another person within the meaning of the applicable triggering events under the regulations that is all of the applicable triggering events either explicitly or implicitly provide that the transaction would not trigger recapture of the dcls unless they could be used to offset income of another person under the laws of a foreign_country at any time after the termination in example above under the dcl regulations the dollar_figure loss incurred by drc could only be used to offset usp’s income if usp filed an election and agreement described in sec_1_1503-2 in that election and agreement drc would have to certify that no part of the dcl would be used to offset the income of any other person under the income_tax laws of a foreign_country and that it would comply with the recapture provisions of sec_1_1503-2 iii - vii when drc converted from a domestic_corporation to a foreign_corporation it disaffiliated from the consolidated_group as a result this would be a triggering event described in sec_1_1503-2 triggering event this would require the taxpayer to recapture the dollar_figure dcl that it used to offset usp’s income unless it could show that the dcl cannot be used to offset income of another person under the laws of a foreign_country at any time after disaffiliation in the case at hand the company argues that the termination does not trigger recapture because although the dcls admittedly could offset the income of the new foreign_subsidiary after the termination subsidiary is unchanged under country x law and thus is not another person under the laws of a foreign_country our view is that corporation in this case had a foreign_branch separate_unit underneath it that actually incurred the loss nevertheless the conversion results in the potential for a double dip in the same way example does furthermore while triggering event does not apply to the company the triggering events that do apply have the same wording for the rebuttal standard so the discussion of the application of triggering event to example also applies to the company’s case example is very close the facts in this case except that subsidiary the dual resident postu-141599-06 recapture is required in this case because after the termination the dcl can offset the income of subsidiary under the laws of a foreign_country ie country x after the termination as demonstrated above the result is a potential double dip which is contrary to the policy underlying sec_1503 thus unless the policies underlying the dcl rules are considered this case merely involves a linguistic dispute about whether the term under the laws of a foreign county modifies another person or whether it modifies offset the policy cannot however be ignored where there are two possible interpretations of a rule the one that is consistent with the policies underlying the rule is the better interpretation the company has pointed to the triggering event in sec_1 g iii a triggering event which has the same rebuttal standard stating that our interpretation would render the rebuttal meaningless because it could never be satisfied the company’s argument is essentially that an unaffiliated dual_resident_corporation that converts to a foreign_corporation for u s tax purposes but remains unchanged under the foreign law will always be able to offset the dcl against the income the foreign_corporation generates after conversion making it impossible to meet the rebuttal applying our interpretation of the regulation however a rebuttal could still be made if the company could show that the dcl had expired and could not otherwise carry over to the foreign_corporation such as through the depreciable basis of the corporation’s assets in other words if the foreign law does not allow the dcl to be used to offset income of the entity after it becomes a foreign_corporation the rebuttal standard is satisfied thus our interpretation does not render the rebuttal provision meaningless the case at hand represents exactly the type of double dip that the dcl rules were designed to prevent because if no triggering event applied the dcls in question could be used to offset two separate streams of income one taxable in the u s and the other taxable in country x but not taxable in the u s in order to avoid this result the applicable triggering events must be read as treating foreign_subsidiary as another person relative to the former domestic subsidiary as described above this interpretation is fully consistent with the language and purpose of both the statute and the regulations iii the potential characterization of the transaction as an f reorganization is not relevant it is a fundamental principle of statutory construction that ambiguous terms in a statute should be interpreted in a manner that gives effect to the legislative intent 142_f2d_363 4th cir noting that taxpayer’s interpretation has the merit of verbal consistency but we do not think it should be sustained in view of the purpose which congress obviously desired to achieve 123_tc_219 applying this principle to the interpretation of tax regulations postu-141599-06 the company also argues that the transaction at issue does not give rise to another person because it should qualify as an outbound reorganization under sec_368 an f reorganization as a threshold matter however the regulations under sec_367 describe the termination of a sec_1504 election as a constructive outbound_asset_reorganization under sec_368 although the company cites revrul_87_27 for the proposition that this transaction should be viewed as an f reorganization nothing in that ruling compels f reorganization treatment for a sec_1504 termination even if the transaction were properly viewed as an f reorganization however it is not clear why f reorganization treatment would be more preferable to the company than d_reorganization treatment the company seeks to establish that the transaction is an f reorganization so that it can claim that it does not involve a transfer to another person for purposes of the applicable triggering events that is the company seeks to use f reorganization treatment to bootstrap into an argument that the transaction should be exempt from the application of sec_1503 the company’s position is not supported by the history of the f reorganization rule or the underlying policy issues at stake in this case the company contends that it is clear as a matter of u s law that an f reorganization involves only a single corporation that remains unchanged following the reorganization in support of this statement the company cites various authorities in the f reorganization context as well as the language of sec_368 itself which was amended in to clarify that an f reorganization involves one corporation the company reads too much into the f reorganization rule first the legislative_history of sec_368 and the case law in this area principally are concerned with the definitional issue of whether a transaction can be viewed as an f reorganization for purposes of the reorganization provisions even where the reorganization involves multiple corporations they do not stand for the proposition that once an f reorganization exists it must then be respected as involving only one corporation for all tax purposes 1987_1_cb_134 sec_1_367_a_-1t for example when amending sec_368 to include the phrase of one corporation congress conceded that an f reorganization could involve more than one corporation in certain cases company rebuttal at p this limitation does not preclude the use of more than one entity to consummate the transaction provided only one operating company is involved the reincorporation of an operating company in a different state for example is an f reorganization that requires that more than one corporation be involved h_r rep no postu-141599-06 this point is amply illustrated by the regulations under sec_367 which treat an outbound f reorganization as an asset_reorganization into a foreign_corporation for purposes of that provision thus for purposes of sec_367 an outbound f reorganization involves an asset transfer to a new foreign_corporation therefore in terms of the tax treatment of the transaction under the sec_367 regulations the company fares no better if the transaction is an f reorganization than if it is a d_reorganization the reason for this rule is that a conversion to a foreign_corporation creates a substantial change in the tax treatment of the entity unlike a domestic to domestic f reorganization for that reason the international provisions of the code treat these cross border transactions as having more significance than they do in a purely domestic context the company’s argument that an f reorganization is always treated as a reorganization involving a single corporation does not explain why it is treated differently for sec_367 purposes or why that same treatment is not similarly appropriate under the dcl rules for a sec_1504 termination both sets of rules recognize that the transformation from a domestic_corporation to a foreign_corporation is a significant change to the entity and cannot simply be ignored although it may be sensible to view the reincorporation of a domestic_corporation in a different state as involving a single corporation this approach is not appropriate in the international context an outbound f reorganization removes the corporation’s assets from u s taxing jurisdiction and therefore must be viewed as an outbound asset transfer in order to effectuate the purposes of section dollar_figure for the same reason the termination of a sec_1504 election is also viewed as a constructive outbound asset transfer for purposes of sec_367 just as the sec_367 regulations effectuate the purpose of sec_367 by treating a sec_1504 termination in this manner the dcl regulations must also treat the transaction as an outbound reorganization to prevent the double dip that would occur if the dcls of the former domestic_corporation were able to be used to offset the income of the foreign_corporation following the termination iv our position does not involve a retroactive application of the regulations the company also argues that the government’s interpretation while arguably supported by the dcl regulations is not supportable under the dcl regulations applicable to the year at issue and that the government’s interpretation in effect requires the retroactive application of the regulations although the dcl regulations certainly clarified the circumstances that require recapture of dcls the dcl regulations were broad enough to cover most double dip situations including the transaction at issue here the question at issue in the dcl regulations is what the phrase under the laws of a foreign_country modifies we have interpreted the dcl regulations in a manner that is consistent with their policy of preventing id see also revrul_87_27 cf sec_1_367_b_-2 sec_1_367_a_-1t postu-141599-06 double dip transactions although made explicit in the dcl regulations this policy is not new to those regulations but is implicit in the language of sec_1503 itself dating back to as described above the language of the statute suggests that a principal concern of congress in defining whether a loss was a dcl was whether the loss under the foreign_income_tax law could offset the income of any foreign_corporation sec_1503 our position in the present case simply involves an interpretation of the regulations that gives effect to that underlying policy concern v standard of rebuttal even if subsidiary were not considered to be another person following the sec_1504 termination ie even if the termination did not constitute an irrebuttable triggering event the company has not made an adequate rebuttal in particular the company has not addressed whether a dcl could be used by another person in the form of a carryover_basis in the corporation’s depreciable assetsdollar_figure for example a dcl could carry over to a foreign_corporation where the corporation acquired assets from a drc with a carryover_basis and due to timing differences between u s law and the applicable foreign law was able to offset its income with depreciation_deductions from the property the company argues that although depreciation_deductions embedded in the carryover_basis of assets may come within the broad definition of a dual_consolidated_loss in sec_1_1502-2 this is not something that a taxpayer must address for purposes of rebutting a triggering event rather the company argues that a rebuttal need only address the potential carryover of losses expenses or deductions however it is precisely the potential carryover of dcls that the triggering events are concerned with and the triggering events do not apply a lesser threshold of what constitutes a dcl depreciation_deductions that may carry over to another person in the basis of assets are part of the losses expenses or deductions that constitute a dcl thus if a dcl is embedded in carryover asset basis then this should be addressed in the company’s rebuttal the company indicates in passing that the depreciable lives of subsidiary’s assets are shorter for country x tax purposes than for u s tax purposes this statement if substantiated could help to establish that a dcl cannot carry over to another person in the form of carryover asset basis however the company has not provided any substantiation for this claim as it did for its claims that a net_operating_loss could not carry over to another corporation under country x law because we believe the company must provide this information to make a satisfactory rebuttal we do not express an opinion as to whether the information already provided by the company regarding the ability of another person to use the corporation’s losses under country x law is otherwise adequate to satisfy the rebuttal standard for these reasons we believe that the company has not rebutted the applicable postu-141599-06 triggering events and that the dcls at issue should be recaptured this writing may contain privileged information any unauthorized disclosure of this writing may undermine our ability to protect the privileged information if disclosure is determined to be necessary please contact this office for our views please call if you have any further questions by _____________________________ thomas d beem senior technical reviewer branch international


t c memo united_states tax_court a muhsin b jackson muhsin petitioners v commissioner of internal revenue respondent docket no filed date a muhsin pro_se ruth spadaro for respondent memorandum opinion panuthos chief special_trial_judge this case was heard pursuant to sec_7443a and rule sec_180 sec_181 and sec_182 unless otherwise indicated all section references are to the internal_revenue_code in effect for the years in issue all rule references are to the tax_court rules_of_practice and procedure respondent determined a deficiency in petitioners’ federal_income_tax in the amount of dollar_figure and an accuracy- related penalty under sec_6662 for negligence or intentional disregard of rules or regulations in the amount of dollar_figure the issues for decision are as follows whether petitioners are entitled to certain claimed itemized_deductions whether petitioners are entitled to certain claimed schedule c deductions whether petitioners are entitled to an earned_income_tax_credit whether petitioners are liable for the accuracy-related_penalty under sec_6662 for negligence or intentional disregard of rules or regulations background petitioners resided in trenton new jersey at the time the petition was filed in their amended petition petitioners assert the following all the adjustments made are incorrect irs had no grounds for making any changes in my report as submitted irs had no reference and or informations over and above my report to justify any claim s of deficiency the amended petition was filed in this case on date respondent's answer was filed date by notice dated date this case was set for trial at a session commencing in philadelphia pennsylvania on date at the calendar call petitioner abdus-salaam muhsin petitioner appeared and orally moved for a continuance respondent's counsel advised that petitioners had not communicated and cooperated with respondent's counsel the court advised petitioner of the requirement to communicate and cooperate with respondent's representatives also the court was advised that petitioner was in the process of talking with a representative of the villanova tax clinic based on these circumstances including the indication that petitioners would cooperate in an attempt to settle and or narrow the issues the case was continued from the date philadelphia trial session the matter was not resolved the case was again set for a trial session beginning date in philadelphia petitioner appeared at the calendar call and made an oral motion to dismiss the case for lack of jurisdiction and in the alternative a motion for a continuance the court denied the motions and set the matter for trial on the afternoon of date when the case was called for trial petitioner and counsel for respondent appeared petitioner provided the court an attorney from the clinic advised the court that he was considering entering an appearance depending upon his communications with petitioners the clinic attorney did not enter an appearance in this matter with a trial memorandum petitioners enumerated seven numbered issues in the memorandum none of which related to the adjustments in the notice_of_deficiency the issues set forth by petitioners related to the authority of the internal_revenue_service irs to proceed in this matter and the jurisdiction of this court respondent's counsel advised the court that petitioners had failed to respond to attempted communications upon a review of petitioners’ trial memorandum the court advised petitioner that it was incumbent upon him to address the adjustments set forth in the notice_of_deficiency the court explained that petitioners needed to present evidence by way of testimony or documents with respect to the adjustments the court further explained that petitioners would be given a limited opportunity to present argument relating to issues set forth in their trial memorandum and that the court might consider imposing a penalty under sec_6673 if petitioners pursued arguments that were primarily for delay or were frivolous or groundless a review of this record which includes a copy of petitioners' federal_income_tax return and the notice_of_deficiency dated date reflects that petitioner is an islamic religious leader an imam in the trenton new jersey community petitioner asserts that he travels to places of worship and conducts visitations on a daily basis petitioner reported gross_receipts from this activity in the amount of dollar_figure and expenses of dollar_figure petitioners also reported wages of dollar_figure and total itemized_deductions of dollar_figure with respect to the itemized_deductions respondent disallowed dollar_figure of claimed charitable_contribution deductions and dollar_figure of miscellaneous_itemized_deductions the above adjustments which caused an increase in the taxable_income resulted ina computational adjustment reducing the earned_income_credit to zero discussion petitioners despite having been admonished by the court did not present any evidence documents or testimony to support entitlement to the claimed deductions as we have stated on many occasions deductions are a matter of legislative grace anda taxpayer bears the burden of proving that he is entitled to any deductions claimed see 503_us_79 to the extent that petitioner suggests that the irs does not have the power to examine tax returns or that this court does not have jurisdiction we see no need to refute such arguments which have no colorable merit see 737_f2d_1417 5th cir the court_of_appeals for the third circuit indicated approval of crain v commissioner in sauers v commissioner f 2d 3d cir affg tcmemo_1984_367 see also matthews v commissioner tcmemo_1995_577 affd without published opinion 106_f3d_386 3d cir since there is no evidence in this record from which the court can make findings as to petitioners' claimed deductions respondent's determination is sustained respondent determined petitioners were liable for the accuracy-related_penalty under sec_6662 for the accuracy-related_penalty is equal to percent of any portion of an underpayment_of_tax required to be shown on the return that is attributable to the taxpayer's negligence or disregard of the rules or regulations see sec_6662 and b negligence consists of any failure to make a reasonable attempt to comply with the provisions of the internal_revenue_code sec_6662 disregard consists of any careless reckless or intentional disregard id it is the taxpayer's responsibility to establish he is not liable for the accuracy-related_penalty imposed by sec_6662 a see rule a 92_tc_501 petitioner failed to explain adequately the nature of his business and how claimed expenses related to that business he further failed to present any evidence as to itemized_deductions on the basis of the entire record we conclude that petitioners have not established the underpayment_of_tax was due to reasonable_cause and that they acted in good_faith accordingly we hold petitioners are liable for the accuracy-related_penalty the court hereby puts petitioners on notice that in any future proceedings instituted by them primarily for delay or where their position in such proceeding is frivolous or groundless they will be subject_to a penalty not in excess of dollar_figure pursuant to sec_6673 to reflect the foregoing decision will be entered for respondent


department of the treasury i n t e r n a l r e v e n u e s e r v i c e w a s h i n g t o n d c date o f f i c e o f t h e c h i e f c o u n s e l number info release date conex-110157-12 uil the honorable donald payne u s house of representatives washington dc dear mr payne this letter responds to your correspondence dated date you requested a clarification of the status of public charter schools as agencies or instrumentalities of a state for purposes of the definition of the term governmental_plan under sec_414 of the internal_revenue_code the code sec_414 of the code generally defines a governmental_plan as a plan that the government of the united_states the government of any state or its political subdivisions or any of their agencies or instrumentalities establishes or maintains for employees of the entity on date the treasury_department and the irs published an advance notice of proposed rulemaking anprm relating to the definition of a governmental_plan under sec_414 of the code copy enclosed an anprm which is typically issued early in the rulemaking process describes an anticipated regulatory approach and seeks input from the public about the guidance under consideration the anprm includes as an attachment draft proposed_regulations that in part define key terms in the definition of governmental_plan including the terms united_states states and political_subdivision of a state describe the multiple factors under consideration for determining whether an entity is an agency_or_instrumentality of the united_states or an agency_or_instrumentality of a state or a political_subdivision of a state provide rules for determining whether a governmental entity has established and maintained a plan for purposes of sec_414 of the code you wrote that the anprm provides that charter school employees would not be eligible to participate in a governmental_plan within the meaning of sec_414 of the code the anprm does not specifically exclude charter schools as governmental conex-110157-12 entities a facts_and_circumstances_test determines whether an entity is a governmental entity this test depends on all facts relating to the particular entity in question the preamble to the guidance under consideration specifically provides that no one factor will determine whether an entity is a governmental entity in addition the factors in the guidance under consideration are generally a compilation of factors from various revenue rulings and court cases dating back to in cooperation with the department of labor and pension_benefit_guaranty_corporation the treasury_department and the irs will review comments we received in response to the anprm as well as input from the general_public at the public hearings and town hall meetings the irs and the treasury_department as well as the department of education plan to meet with representatives from the charter school community to hear their concerns on the anprm this meeting has been scheduled for date after evaluating the comments the cooperative process for drafting a notice of proposed rulemaking nprm will begin after issuing the nprm the treasury_department and the irs will once again give the public an opportunity to submit comments recognizing that we have never issued regulations on the definition of governmental plans within the meaning of sec_414 of the code we anticipate that once issued the regulations will have transition_rules the anprm specifically requests comments on transitional relief we also anticipate that any regulations would not be effective any earlier than the plan_year beginning after the date of publication of the treasury_decision adopting the rules as final regulations i hope this information is helpful if you have any questions please call me at ------------- ------------- or -------------------------------------------- sincerely victoria a judson division counsel associate chief_counsel tax exempt government entities enclosure


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 psi b02 plr-117603-05 date date --------------------------------------- --------------------------------------- ------------------------------------------------------------------------------- ein ---------------- --------------- ssn ----------------- ------------------- ---------------------- x x ein ---------------- a b c trust date date date date date dear ------------ ----------------------- ---------------------- ---------------------- ------------------ ------------------------- this letter responds to a letter dated date and subsequent correspondence submitted on behalf of x by its authorized representative requesting relief under ' f of the internal_revenue_code plr-117603-05 a the president of x represents that an election was made for x to be an s_corporation effective date b a shareholder of x died on date on date pursuant to the term of b’s will shares of x were transferred to trust c the beneficiary of trust failed to elect to treat trust as a qualified_subchapter_s_trust qsst therefore on date x’s election to be an s_corporation terminated on date the failure_to_file the qsst election was discovered and this request for relief was prepared c represents that trust’s failure to elect to be a qsst was inadvertent and was not motivated by tax_avoidance or retroactive tax planning additionally c represents that c has filed c’s federal_income_tax returns consistent with the treatment of trust as a qsst effective date x and its shareholders have agreed to make any adjustments that the commissioner may require consistent with the treatment of x as an s_corporation sec_1361 provides that the term s_corporation means with respect to any taxable_year a small_business_corporation for which an election under ' a is in effect for such year sec_1361 provides that the term small_business_corporation means a domestic_corporation which is not an ineligible_corporation and which does not have as a shareholder a person other than an estate a_trust described in ' c or an organization described in sec_1361 who is not an individual sec_1361 provides that for purposes of ' b b a_trust all of which is treated under subpart e of part i of subchapter_j of chapter as owned by an individual who is a citizen or resident_of_the_united_states may be a shareholder sec_1361 provides that for purposes of sec_1361 a_trust with respect to stock transferred to it pursuant to the terms of a will is a permitted shareholder but only for the 2-year period beginning on the day on which stock is transferred to it sec_1361 provides that in the case of a qsst for which a beneficiary makes an election under ' d the trust is treated as a_trust described in ' c a i and for purposes of ' a the beneficiary of the trust shall be treated as the owner of that portion of the trust that consists of stock in an s_corporation with respect to which the election under ' d is made sec_1361 provides that a beneficiary of a qsst may elect to have that section apply sec_1_1361-1 of the income_tax regulations provides that the current income_beneficiary of the trust must make the election under ' d by signing plr-117603-05 and filing with the service_center with which the corporation files its income_tax returns the applicable form or a statement including the information listed in ' j ii sec_1362 provides that if an election under ' a by any corporation a was not effective for the taxable_year for which made determined without regard to ' b by reason of a failure to meet the requirements of ' b or to obtain shareholder consents or b was terminated under ' d or the secretary determines that the circumstances resulting in the ineffectiveness or termination were inadvertent no later than a reasonable period of time after discovery of the circumstances resulting in the ineffectiveness or termination steps were taken a so that the corporation is a small_business_corporation or b to acquire the shareholder consents and the corporation and each person who was a shareholder of the corporation at any time during the period specified pursuant to ' f agrees to make such adjustments consistent with the treatment of the corporation as an s_corporation as may be required by the secretary with respect to such period then notwithstanding the circumstances resulting in the ineffectiveness or termination the corporation will be treated as an s_corporation during the period specified by the secretary based solely on the facts submitted and the representations made we conclude x’s s_corporation_election terminated on date when trust became an ineligible s_corporation shareholder and that the termination was inadvertent within the meaning of sec_1362 we further hold that pursuant to the provisions of sec_1362 x will be treated as continuing to be an s_corporation from date and thereafter provided x’s s_corporation_election was otherwise valid and provided that the election was not otherwise terminated under sec_1361 trust will be treated as a_trust described in sec_1361 and c will be treated as the owner of the portion of trust that consists of x stock the shareholders of x must include their pro-rata share of the separately_stated and nonseparately computed items of x as provided in sec_1366 make any adjustments to basis as provided in sec_1367 and take into account any distributions made by x as provided in sec_1368 if x or its shareholders fail to treat themselves as described above this ruling is null and void this ruling is conditioned upon c filing a completed qsst election for trust effective date with the appropriate service_center within days following the date of this letter a copy of this letter should be attached to the election except as specifically ruled above we express no opinion concerning the federal tax consequences of the transactions described above under any other provisions of the code in particular we express no opinion on whether trust is or ever was a qsst within the meaning of sec_1361 plr-117603-05 this ruling is directed only to the taxpayer that requested it sec_6110 provides that it may not be used or cited as precedent pursuant to a power_of_attorney on file a copy of this letter is being sent to x’s authorized representative enclosures copy of this letter copy for sec_6110 purposes sincerely j thomas hines chief branch associate chief_counsel passthroughs special industries


department of the treasury inte rnal reve nue s ervi ce washington d c t a x e x e m p t a n d g o v e r n m e n t e n t i t i e s d i v i s i o n date number release date uil dear i am responding to your inquiry dated date regarding voter education activities for a proposed exempt_organization this letter is for informational purposes only and is intended to provide general statements of well-defined law it is not a ruling and may not be relied on as such see revproc_2010_4 2010_1_irb_122 or its successor this letter will be made available for public inspection the internal_revenue_service will delete any name address and other identifying information as appropriate under the freedom_of_information_act see announcement 2000_2_irb_295 as a general_rule organizations that are exempt from income_tax under sec_501 of the internal_revenue_code the code as organizations described in sec_501 may not participate in or intervene in including the publishing or distributing of statements any political campaign on behalf of or in opposition to any candidate for public_office revrul_2007_41 discusses the use of web sites by exempt_organizations to communicate political materials and messages in general if a 501_c_3_organization posts something on its web site that favors or opposes a candidate for public_office the organization will be treated the same as if it distributed printed material oral statements or broadcasts that favored or opposed a candidate which would violate the prohibition on political activity by sec_501 organizations examples and of the revenue_ruling illustrate hypothetical situations of c organizations using a web site to distribute political information a copy of revrul_2007_41 is enclosed for your reference further revrul_78_248 illustrates prohibited and acceptable voter education activities by a sec_501 organization publication contains guidance sincerely regarding lobbying and other political campaign activities on page sec_5 through copies of both documents are included for your reference if you have any questions please call me at or identification_number at enclosures revproc_2010_4 revrul_2007_41 revrul_78_248 publication david l fish manager exempt_organizations guidance


t c no united_states tax_court coggin automotive corporation petitioner v commissioner of internal revenue respondent docket no filed date p was a holding_company that held over percent of the stock of five corporations collectively the subsidiaries that were engaged in the retail sales of automobiles and jlight trucks conducted through six dealerships from or until and including the fiscal_year ended date p as common parent filed consolidated corporate_income_tax returns with its subsidiaries the subsidiaries maintained their inventories of automobiles and light trucks under the dollar-value lifo_method of accounting p did not directly own any inventory from date the date of incorporation until date p was a c_corporation on or about date p elected s_corporation status effective date the election was made pursuant to a restructuring plan the restructuring resulted in the establishment of six new s_corporations formed for the purpose of becoming general partners in six limited_partnerships that would operate the six dealerships fach subsidiary contributed the assets and liabilities of -- - its dealership to a limited_partnership in exchange for a limited_partnership_interest following the transfer of assets to the limited_partnerships the subsidiaries were liquidated as a result p obtained the subsidiaries’ limited_partnership interests r determined that pursuant to sec_1363 i r c p’s conversion to an s_corporation triggered the inclusion of the affiliated group’s pre-s-election lifo_reserves dollar_figure into p’s income r’s primary position was that the restructuring should be disregarded because it had no tax-independent purpose r alternatively maintained that under the aggregate approach to partnerships a pro_rata share dollar_figure of the pre-s-election lifo_reserves was attributable to p held the restructuring was a genuine multiple- party transaction with economic_substance compelled by business realities and imbued with tax-independent considerations the restructuring was not shaped solely by tax_avoidance features consequently r’s primary position that there was no tax-independent business_purpose for the restructuring is rejected held further the aggregate approach as opposed to the entity approach to partnerships better serves the underlying purpose and scope of sec_1363 i r c accordingly p is deemed to own a pro_rata share of the partnerships’ inventories of automobiles and jlight trucks consequently upon its election of s_corporation status p was reguired to include dollar_figure in its gross_income as its ratable share of the lifo_recapture_amount sheldon m kay and robert l loray for petitioner james p dawson and julius gonzalez for respondent jacobs judge respondent determined deficiencies in petitioner’s federal income taxes as follows tax_year ended deficiency date dollar_figure date big_number date big_number date big_number these deficiencies stem from respondent’s determination requiring petitioner to recapture its lifo_reserves upon conversion from ac corporation to an s_corporation effective date the issue for decision is whether petitioner is subject_to lifo_recapture pursuant to sec_1363 as a consequence of a change in the structure of petitioner and its subsidiaries for the reasons set forth below we hold that it is all section references are to the internal_revenue_code as in effect for all dollar amounts are rounded findings_of_fact some of the facts have been stipulated and are so found the stipulation of facts and the attached exhibits are incorporated herein by this reference background at the time the petition in this case was filed coggin automotive corp formerly known as coggin-o’steen investment corp was a florida corporation with its principal_place_of_business in jacksonville florida herein both coggin automotive corp and coggin-o’steen investment corp are referred to as petitioner q4e- petitioner was a holding_company before date petitioner held over percent of the stock of five c corporations namely coggin pontiac inc coggin nissan inc coggin-o’ steen imports inc coggin-o’steen motors inc and coggin imports inc collectively the subsidiaries all of which were engaged in the retail sales of automobiles and light trucks rach subsidiary was incorporated in florida six automobile dealerships were operated through the subsidiaries five through direct ownership and one through ownership of a 50-percent general_partnership interest four of the dealerships coggin pontiac-gmc coggin honda coggin nissan and coggin acura were located in jacksonville florida one coggin motor mall was located in fort pierce florida and one coggin-andrews honda was located in orlando florida from or until and including the fiscal_year ended date petitioner as the common parent filed consolidated forms u s_corporation income_tax return with its subsidiaries hereinafter the affiliated_group the subsidiaries maintained their inventories of automobiles and light trucks under the dollar-value lifo_method of accounting petitioner and its subsidiaries reported their consolidated income on a to 53-week basis the fiscal_year of the affiliated_group ended in june - - petitioner did not directly own any inventory as of date the accumulated lifo_reserves of the affiliated_group were dollar_figure pre-s-election lifo_reserves from date the date of incorporation until date petitioner was a c_corporation as of date the equity and voting interests in petitioner were held as follows shareholder ownership_interest voting interest luther coggin harold o’ steen howard o’ steen luther coggin was petitioner’s president and chief_executive_officer harold and howard o’steen collectively the o’steens were vice presidents of petitioner mr coggin and the o’steens were also the three directors of petitioner the o’steens did not assume an active managerial role in petitioner’s operations on date the o’steens sold their stock interests in petitioner for dollar_figure pursuant to a redemption and purchase agreement coggin pontiac--gmc coggin pontiac-gmc began its operations in initially its operations were conducted through coggin pontiac inc before date coggin pontiac inc owned the assets of its dealership including the franchise rights coggin honda coggin honda began its operations in initially its operations were conducted through coggin pontiac inc before date coggin pontiac inc owned the assets of its dealership including the franchise rights coggin nissan petitioner acquired coggin nissan in initially its operations were conducted through coggin nissan inc from its inception until date coggin nissan inc owned the assets of its dealership including the franchise rights on or about date michael andrews the then-acting general manager of the dealership acquired a 5-percent stock interest in coggin nissan inc for dollar_figure between and todd seth was the general manager of coggin nissan on or about date mr seth acquired a 5-percent stock interest in coggin nissan inc for dollar_figure the prices paid_by messrs andrews and seth for their respective interests were determined by reference to the corporation’s book_value with little or no value being assigned to the franchise rights as reflected on the general motors operating report gmor the general motors operating report is a report customarily used by general motors and other automotive dealers that provides a uniform method of determining certain financial information for a dealership including book_value for the dealership coggin acura coggin acura began its operations in initially its operations were conducted through coggin imports inc at all relevant times jack hanania was the general manager of the dealership from its inception until date coggin imports inc a subsidiary of petitioner owned the assets of the dealership including the franchise rights on or about date mr hanania acquired a 20-percent interest in coggin imports inc for dollar_figure the price paid_by mr hanania for his interest was determined by reference to the corporation’s book_value with little or no value being assigned to the franchise rights as reflected on the gmor coggin motor mall petitioner acquired coggin motor mall in initially its operations were conducted through coggin-o’steen motors inc since the general manager of the dealership has been robert caracello mr andrews was the director of operations for the dealership from through since coggin---o’ steen motors inc has owned the assets of the dealership including the franchise rights on or about date mr caracello acquired shares of stock in coggin-o’ steen motors inc he subsequently sold --- - of these shares to petitioner for dollar_figure immediately after this sale mr caracello held a 5-percent interest in coggin-o’ steen motors inc cogqgin-andrews honda coggin-andrews honda f k a coggin-o’ steen honda began its operations around date from until coggin- o’steen imports inc imports owned coggin-andrews' honda petitioner owned an 80-percent interest in imports the remaining percent was owned by mr andrews in petitioner agreed to sell the honda dealership to a group of investors because of a lack of financing the deal collapsed mr andrews wanted to be the sole owner of the honda dealership he was upset upon learning that petitioner had agreed to sell the dealership without his consent thereafter he intensified his efforts to increase his percentage of ownership in imports and eventually be the sole owner of the honda dealership in mr andrews began negotiations with mr coggin regarding the acquisition of all the stock of imports ultimately it was agreed that mr coggin would immediately sell mr andrews an additional 30-percent interest in imports and give him the option to purchase the entire honda dealership including the franchise rights after years --- - in order to facilitate mr andrews’ eventual sole ownership of the dealership as well as to provide mr andrews immediately with some degree of control_over the dealership’s assets mr andrews’ attorney charles egerton recommended that the dealership’s assets be held by a limited_partnership mr egerton advised mr andrews that operating the dealership through a limited_partnership would afford mr andrews the following advantages limited_liability protection the ability to make disproportionate distributions a single level of taxation a lower federal tax_rate the ability to avoid florida’s state_income_tax on his distributive_share of profits and the ability to exercise greater control_over the potential sale or liquidation of partnership assets mr coggin agreed to have the dealership’s assets held by a limited_partnership coggin-andrews partnership on date imports entered into an agreement with andrews automotive corp andrews automotive an s_corporation solely owned by mr andrews to form the coggin-andrews partnership the partnership was created through a series of related transactions first mr andrews redeemed all of his stock in imports receiving in exchange a promissory note in the amount of dollar_figure the note immediately prior thereto and in contemplation of the redemption imports made a dollar_figure distribution to petitioner then mr andrews contributed both the note and dollar_figure in cash to andrews automotive finally andrews automotive contributed the note and the dollar_figure while imports contributed the assets of coggin andrews honda valued at approximately dollar_figure to the partnership each receiving in exchange a 50-percent interest in the partnership under the terms of the coggin-andrews partnership_agreement the partnership_agreement imports was designated the partnership’s managing partner the restructuring transactions petitioner’s board_of directors determined that because the general managers wanted to own a direct interest in and participate in the profits of a stand-alone partnership dealership and mr coggin wanted as part of a succession plan and to provide liquidity to cover estate_taxes an effective way in which the general managers could buy him out it would be advantageous to change the structure of petitioner from a c_corporation to an s_corporation and to operate the dealerships through partnerships similar to the coggin-andrews partnership consequently during the latter part of date the board adopted a plan to change petitioner’s structure and that of the subsidiaries pursuant to a series of transactions the restructuring as outlined ina talking points paper prepared by kpmg peat marwick kpmg permission from the automobile manufacturers associated with the particular dealerships had to be obtained before there could be a change in the ownership structure of the dealerships consequently on or around date petitioner sent letters to each of the automobile manufacturers notifying them of the proposed changes and requested their approval each letter stated in part after serious consideration of the present and future tax laws the shareholders are in the process of forming a florida limited_partnership it is our objective to complete the transfer of x the dealership operation to the newly formed partnership on or before date completion of the transfer by that date 1s critical to us for tax reasons bach automobile manufacturer approved the ownership_change the first step of the restructuring was the establishment of six new corporations on date articles of incorporation were filed for cp-gmc motor corp ch motor corp cn motor corp ca motor corp co motor corp and cfp motor corp collectively the newly formed s_corporations and each corporation elected s_corporation status effective date the corporations were incorporated for the purpose of being general partners in limited_partnerships that would operate the dealerships mr coggin and the o’steens were the sole shareholders of the newly formed s_corporations during all relevant periods each holding the same proportion of ownership interests in the newly formed s_corporations as they held in petitioner the second step of the restructuring was to create florida limited_partnerships contemporaneously with the establishment of the s_corporations petitioner’s subsidiaries the s_corporations and several of the dealerships’ general managers entered into limited_partnership arrangements collectively the limited_partnerships as follows name of partnership general_partner limited_partner cp-gmc motors ltd cp-gmc motor corp coggin pontiac inc ch motors ltd ch motor corp coggin pontiac inc cn motors ltd cn motor corp coggin nissan inc ca motors ltd ca motor corp coggin imports inc cfp motors ltd cfp motor corp coggin-o’ steen motors inc co motors ltd co motor corp coggin-o’ steen motors inc rach general_partner held a l1-percent interest in the limited_partnership each limited_partner held a 99-percent interest the third step of the restructuring involved the redemption of messrs andrews’ seth’s hanania’s and caracello’s stock interests on or about date coggin nissan inc redeemed messrs andrews’ and seth’s stock interests for dollar_figure each this amount was paid in the form of promissory notes made by coggin nissan inc petitioner paid a portion of the taxes attributable to the gain generated by the redemption on the same day coggin imports inc redeemed mr hanania’s stock interest for dollar_figure and coggin-o’steen motors inc redeemed mr - - caracello’s stock interest for dollar_figure payment for these stock interests was in the form of a promissory note of the respective redeeming corporation all redemptions were based on the book values of the dealerships as reflected on the gmor next on date each of the newly formed s s_corporations contributed dollar_figure in cash to the limited_partnership in which it was to hold an interest simultaneously coggin pontiac inc contributed the assets and liabilities of its pontiac dealership valued at dollar_figure to cp-gmc motors ltd coggin pontiac inc contributed the assets and liabilities of its honda dealership valued at dollar_figure to ch motors ltd coggin nissan inc contributed the assets and liabilities of its nissan dealership valued at dollar_figure to cn motors ltd coggin imports inc contributed the assets and liabilities of its acura dealership valued at dollar_figure to ca motors ltd coggin-o’ steen motors inc contributed the assets and liabilities of its mercedes benz bmw dealership valued at dollar_figure to cfp motors ltd and coggin-o’ steen imports inc contributed its general_partnership interest in the coggin-andrews partnership valued at dollar_figure to co motors ltd concurrently messrs andrews and seth each contributed the dollar_figure coggin nissan inc note to cn motors ltd in exchange for a 5-percent total percent limited_partnership_interest mr hanania contributed the dollar_figure coggin imports inc note to ca motors ltd in exchange for a 20-percent limited_partnership_interest and mr caracello contributed the dollar_figure coggin--o’ steen motors inc note to cfp motors ltd in exchange for a 5-percent limited_partnership_interest by date the aforementioned notes were canceled bach partnership_agreement provided that the general_partner ie one of the newly formed s_corporations would have control_over the operations of the partnership further each partnership_agreement provided that the general manager limited_partner had to tender his partnership_interest to the partnership in the event he left immediately following the transfers of assets to _ the partnerships the subsidiaries were liquidated as a result petitioner obtained the subsidiaries’ limited_partnership interests on or about date petitioner elected s_corporation status effective date at the time of the election no changes were made to petitioner’s capital structure or to the ownership interests in its stock subsequent transactions on date mr hanania acquired an additional percent limited_partnership_interest in ca motors ltd for dollar_figure subsegquently he purchased another 10-percent limited_partnership_interest for dollar_figure ultimately on date - - petitioner and mr hanania entered into an agreement whereby mr hanania was given the right to acquire the acura dealership over years as part of the agreement mr hanania had the option to obtain the franchise rights of the dealership for an additional dollar_figure in petitioner sold its 50-percent interest in the partnership to mr hanania for dollar_figure mr hanania borrowed the entire purchase_price from petitioner securing his loan with his shares of stock in his solely owned corporation on date mr seth purchased mr andrews’ 5-percent limited_partnership_interest in cn motors ltd for dollar_figure on date cn motor corp co motor corp ch motor corp ca motor corp and cfp motor corp merged into cp-gmc motor corp simultaneously therewith cp-gmc motor corp changed its name to cf motor corp as of that date mr coggin was the majority shareholder percent of cf motor corp most of the other shareholders were key employees of petitioner none of these employees had an ownership_interest greater than percent in petitioner agreed to sell the stock of cf motor corp as well as the assets of the dealerships to asbury automotive of jacksonville l p asbury as part of the acquisition petitioner agreed to sell to asbury its 50-percent interest in the coggin-andrews partnership mr andrews objected - to selling the dealership and filed a lawsuit seeking to block the proposed sale settlement negotiations followed and ultimately mr andrews agreed to sell his 50-percent interest in the coggin- andrews partnership to petitioner and asbury for approximately dollar_figure million notices of deficiency in two notices of deficiency one regarding tax_year ended date and the other regarding tax years ended date and respondent determined that pursuant to sec_1363 petitioner’s conversion to an s_corporation triggered the inclusion of the affiliated group’s pre-s election lifo_reserves dollar_figure into petitioner’s gross_income respondent’s primary position was that the restructuring should be disregarded because it had no tax-independent purpose alternatively respondent maintained that under the aggregate approach of partnerships a pro_rata share dollar_figure of the pre-s election lifo_reserves was attributable to petitioner respondent before the issuance of the notices of deficiency respondent’s national_office issued a technical_advice_memorandum tech adv mem date which concluded that petitioner would be subject_to lifo_recapture pursuant to sec_1363 as a consequence of a change in its and its subsidiaries’ structure technical_advice memorandums are not binding on us we mention the issuance of the technical_advice_memorandum solely for the sake of completeness - - concluded that under either theory there was an increase in petitioner’s tax_liability payable in four equal annual installments opinion use of lifo vis-a-vis fifo often allows a taxpayer the benefit of income deferral particularly in periods of rising inventory costs and stable or growing inventory stock the amount of cumulative income deferral obtained through the use of the lifo_method of accounting is represented in a taxpayer’s lifo reserve sec_1363 mandates recapture of the lifo reserve upon the conversion of a c_corporation to an s_corporation in relevant part sec_1363 provides sec_1363 recapture of lifo benefits ---- in general --if-- a an s_corporation was a c_corporation for the last taxable_year before the first taxable_year for which the election under sec_1362 was effective and b the corporation inventoried goods under the lifo_method for such last taxable_year the lifo_recapture_amount shall be included in the gross_income of the corporation for such last taxable_year and appropriate adjustments to the basis of the inventory shall be made to take into account the amount included in gross_income under this paragraph ‘ pursuant to respondent’s alternative position the tax_deficiency for the taxable years under consideration is dollar_figure lifo_recapture_amount --for purposes of this subsection the term lifo_recapture_amount means the amount if any by which-- a the inventory_amount of the inventory_asset under the first-in_first-out method authorized by sec_471 exceeds b the inventory_amount of such assets under the lifo_method any increase in tax resulting from the application of sec_1363 1s required to be paid in four equal installments beginning in the last taxable_year for which the corporation was a c_corporation see sec_1363 in enacting sec_1363 congress was concerned that a corporation maintaining its inventory under lifo might circumvent the built-in_gain rules of sec_1374 to the extent the corporation did not liguidate its lifo layers during the years following its conversion from a c_corporation to an s_corporation h rept vol ii pincite in relevant part states the committee is concerned that taxpayers using the lifo_method may avoid the built-in_gain rules of sec_1374 it believes that lifo_method taxpayers which have enjoyed the deferral benefits of the lifo_method during their status as a c_corporation should not be treated more favorably than their fifo first-in_first-out counterparts to eliminate this potential disparity in treatment the committee believes it is appropriate to require a lifo taxpayer to recapture the benefits of using the lifo_method in the year of conversion to s status respondent relying on 435_us_561 takes the position that the restructuring was not imbued with tax-independent considerations but was instead shaped solely by tax-avoidance features that have meaningless labels attached in this regard respondent posits the restructuring was conceived and executed for the principal purpose of permanently escaping corporate level taxes on the lifo_reserves built into the lifo_inventories of petitioner’s former consolidated subsidiaries petitioner disputes respondent’s assertion maintaining that the restructuring occurred in order to achieve tax--independent economic and or business desires of both mr coggin and the general managers we agree with petitioner the record reveals general managers were vital to the successful operation of the automobile dealerships providing incentives to attract and retain quality general managers was essential in the success of the automobile dealerships operating the automobile dealerships in stand-alone partnership form afforded the general managers flexibility greater than that offered by operating the dealerships in corporate form and mr coggin and the general managers never discussed recapture of the lifo_reserves it is axiomatic that tax considerations may play a legitimate role in shaping a business transaction and tax planning does not necessarily transform an event otherwise - - nontaxable into one that is taxable here mr coggin sought the advice of tax professionals----both accountants and tax attorneys the legal opinion rendered by the law firm that mr coggin engaged did not address lifo_recapture the talking points paper prepared by kpmg set forth the potential risk of lifo_recapture as well as a calculation of the potential tax_liability if sec_1363 d applied specifically the document stated lifo inventory should not be recaptured on conversion of coic coggin-o’ steen investment corp from a ec corporation to an s_corporation since coic does not inventory any goods under the lifo_method for its last tax_year as a c_corporation sec_1363 some degree of irs risk which is being reviewed by our washington national tax practice but notably the paper did not address the tax benefits of avoiding the lifo_recapture to conclude this aspect of our opinion we find that the restructuring was a genuine multiple-party transaction with economic_substance compelled by business realties imbued with tax-independent considerations and not shaped solely by tax_avoidance features cf frank lyon co v united_states supra consequently we reject respondent’s primary position that there was no tax-independent business_purpose for the restructuring we now turn our attention to respondent’s alternative position for tax purposes a partnership may be viewed either as an aggregation of its partners each of whom directly owns an interest in the partnership’s assets and operations or as a separate --- - entity in which separate interests are owned by each of the partners subchapter_k of the internal_revenue_code partners and partnerships blends both approaches in certain areas the aggregate approach predominates see sec_701 partners not partnership subject_to tax sec_702 income and credits of partner in other areas the entity approach predominates see sec_742 basis of transferee partner’s interest sec_743 optional_adjustment_to_basis of partnership property outside of subchapter_k whether the aggregate or the entity approach is to be applied depends upon which approach more appropriately serves the code provision at issue see 773_f2d_276 fed cir casel v commissioner t c conf rept 83d cong 2d sess respondent argues that the legislative intent underlying the enactment of sec_1363 requires the application of the aggregate_theory respondent asserts that congress enacted sec_1363 in order to ensure that the corporate level of taxation be preserved on built-in_gain assets such as lifo_reserves that fall outside the ambit of sec_1374 in this regard respondent contends that failure to apply the aggregate_theory to sec_1363 would allow the gain deferred under the lifo_method to completely escape the corporate level of taxation upon a c corporation’s election of s_corporation status and would eviscerate -- - congress’ supersession of 296_us_200 petitioner maintains that although there are no cases that apply the aggregate or entity approach to inventory_items the focus with respect to accounting for inventory is done at the partnership level in essence petitioner asserts that the lifo_recapture_amount under sec_1363 is a component of a partnership’s taxable_income that must be computed at the partnership level petitioner posits that it would be incongruent to treat the calculation of the lifo_recapture_amount as an item_of_income under the entity approach while applying the aggregate approach to attribute the ownership of inventory to the partners moreover petitioner argues that sec_1363 d operates to prevent the inventory of one member_of_an_affiliated_group from being attributed to another member to summarize the parties’ positions respondent maintains that for purposes of sec_1363 each of the limited_partnerships ie cp-gmc motors ltd ch motors ltd cn motors ltd ca motors ltd cfp motors ltd and co motors ltd should be viewed as an aggregation of its partners and consequently petitioner as a limited_partner in each of the partnerships is deemed to own a pro_rata share of each partnership’s inventory of automobiles and light trucks conversely petitioner maintains that each of the limited - - partnerships should be viewed as a_ separate_entity and consequently none of any limited partnership’s inventory or lifo reserve is deemed to be owned by petitioner or the other partners we agree with respondent’s position for the following reasons in congress enacted the tax_reform_act_of_1986 tra publaw_99_514 secs 100_stat_2085 which did away with the general_utilities_doctrine under the general_utilities_doctrine corporations generally had not been taxed on the distribution of assets whose fair market values exceeded their tax bases see 110_tc_530 ndollar_figure in tra sec_632 sec_1374 tax imposed on certain built-in gains was amended to prevent the potential circumvention of the corporate level of tax on the distribution of appreciated built-in_gain assets by a former c_corporation that held such assets at the time of its conversion to an s_corporation see rondy inc v commissioner tcmemo_1995_372 the original purpose of sec_1374 was to support congress’ repeal of the general_utilities_doctrine h conf rept vol ii at ii-198 to ii-199 ii-203 c b vol it became apparent that the goal of sec_1374 was not being achieved with respect to former c corporations that used the lifo in general sec_1374 requires an s_corporation to pay a corporate-level tax on any net recognized built-in gains recognized within years following the effective date of the s election -- - method_of_accounting because a taxpayer that experienced rising acquisition costs would seldom if ever experience a decrement of its lifo_reserves ’ congress thus recognized that the deferred built-in_gain resulting from using the lifo_method might escape taxation at the corporate level in light of this potential for abuse sec_1363 was enacted see h rept vol ti pincite after considering the legislative histories of sec_1374 and sec_1363 we conclude that the application of the aggregate approach as opposed to the entity approach of partnerships in this case better serves congress’ intent by enacting sec_1374 and sec_1363 congress evinced an intent to prevent corporations from avoiding a second level of taxation on built-in_gain assets by converting to s_corporations application of the aggregate approach to sec_1363 is consistent with congress’ rationale for enacting this section and operates to prevent a corporate taxpayer from using the lifo_method of accounting to permanently avoid gain recognition on appreciated assets in contrast applying the entity approach to sec_1363 would potentially allow a corporate_partner to permanently avoid paying a second level of tax on appreciated_property by encouraging see eg staff of joint_committee on taxation description of possible options to increase revenue sec_189 j comm print sec_1374 may be ineffective in the case of a lifo inventory since a taxpayer experiencing constant growth may never be required to invade lifo inventory layers - - transfers of inventory between related entities this result clearly would be inconsistent with the legislative_history of sec_1363 and sec_1374 and the supersession of the general_utilities_doctrine courts have in some instances used the aggregate approach for purposes of applying nonsubchapter k provisions for instance in casel v commissioner t c pincite we upheld the commissioner’s use of the aggregate approach for purposes of applying sec_267 disallowance of losses between related parties in holiday village shopping ctr v united_states f 2d pincite the court_of_appeals_for_the_federal_circuit applied the aggregate approach for purposes of determining the extent of depreciation_recapture to each shareholder similarly the court_of_appeals in 936_f2d_1316 d c cir affg tcmemo_1990_15 used the aggregate approach in determining a taxpayer’s permanent_establishment in each of these instances the court analyzed the relevant legislative_history and statutory scheme in determining whether the aggregate or entity approach was more appropriate moreover we are mindful that the aggregate approach is generally applied to various subchapter_k provisions dealing with inventory and other built-in_gain assets under sec_704 the contributing_partner is normally allocated the built-in_gain of the asset however if there is no liquidation of lifo layers no gain_or_loss would be allocated to a contributing_partner who uses the lifo_method this would render sec c effectively useless in allocating the built-in_gain deferred by the lifo_method of accounting - - e receivables see eg sec_704 sec_731 sec_734 sec_743 b we recognize that in several instances courts have found the entity approach better than the aggregate approach for example in 109_tc_423 this court used the entity approach for purposes of applying sec_1056 similarly in 72_tc_521 affd 633_f2d_512 7th cir this court and the court_of_appeals for the seventh circuit applied the entity approach in determining whether expenses were ordinary and necessary under sec_162 likewise in 77_f3d_217 8th cir revg 104_tc_105 the court_of_appeals for the bighth circuit concluded that the entity approach rather than the aggregate approach should be used in characterizing income subpart_f_income earned by the partnership we do not believe the holdings in those cases to be dispositive here the outcomes in those cases were based upon the specific legislative histories and statutory schemes of the respective code provisions at issue fach court viewed the respective statute in the context in which it was enacted and concluded that the entity approach was more appropriate than the aggregate approach to carry out congress’ intent here as stated both the legislative_history and the statutory scheme of sec_1363 mandate the application of the aggregate approach finally we do not believe that sec_1363 d operates o7 - to prevent the attribution of the dealership’s lifo_reserves to petitioner sec_1363 d provides d not treated as member of affiliated_group -- except as provided in regulations the corporation referred to in sec_1363 shall not be treated as a member_of_an_affiliated_group with respect to the amount included in gross_income simply stated sec_1363 d requires that a member_of_an_affiliated_group that elects to be an s_corporation be treated as an independent entity for purposes of determining the amount included in gross_income sec_1363 d requires only a converting member of the affiliated_group rather than each member of the affiliated_group to be responsible for the tax imposed on the recapture of the corporation’s lifo_reserves see s rept pincite sec_1363 d does not prohibit attribution of the inventory and lifo_reserves to petitioner in this case to conclude we hold that the aggregate approach as opposed to the entity approach better serves the underlying purpose and scope of sec_1363 in the circumstances of this case consequently petitioner is deemed to own a pro_rata _ share dollar_figure of the dealerships’ inventories accordingly we hold that upon its election of s_corporation status petitioner was required to include in its gross_income its ratable share of the lifo_recapture_amount in reaching our conclusions we have considered carefully all arguments made by the parties for a result contrary to that - - expressed herein and to the extent not discussed above we find them to be without merit the deficiencies set forth in the notices of deficiency are based on petitioner’s failure to recapture its lifo_reserves of dollar_figure into its income based on our holding that dollar_figure rather than dollar_figure of the dealerships’ pre-s election lifo_reserves must be included in petitioner’s income the tax_deficiency is dollar_figure rather than dollar_figure pursuant to respondent’s alternative position for each of the years under consideration accordingly decision will be entered for respondent in the reduced amounts for the years under consideration


internal_revenue_service number release date index number --------------------------- -------------------------------------------------------- ----------------------------------- -------------------------------- ---------------------------- in re ------------------------ 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 psi b05 plr-130657-14 date date legend taxpayer -------------------------------------------------------------- ------------------------------------ company ----------------------------------------------- corp -------------------------------------------------------------- ----------------------------------- administrator administrator ------------------------------------------------------------------ ------------------------------------ agreement ---------------------------------------------------------------------- ------------------------------------------------------------- dear ---------------- this letter responds to a request for a ruling dated date and subsequent correspondence submitted on behalf of taxpayer by your authorized representatives taxpayer requested a ruling that certain payments taxpayer received are contributions to the capital of taxpayer under sec_118 of the internal_revenue_code the relevant facts as represented in your submission are set forth below facts taxpayer an indirect wholly-owned subsidiary of corp is incorporated in the state of ----------- taxpayer is included in the consolidated federal_income_tax return of plr-130657-14 corp taxpayer employs the accrual_method of accounting and reports on a calendar_year basis taxpayer is a regulated_public_utility that generates transmits distributes and sells electricity to customers taxpayer is subject_to regulation by the ------------------ --------------------------------- and the federal energy regulatory commission ferc taxpayer is a member of administrator administrator is a ferc-approved regional transmission operator rto which oversees the operation of the bulk power transmission system for a substantial portion of the ----------------------------------- administrator maintains operational reliability of the transmission system plans for transmission and generation resources manages the market for electric energy and related_services and administers the ferc tariffs for transmission service this ruling_request involves certain payments to taxpayer made by --------- entities that own and operate wind generation facilities these entities are ----------------- --------------------------------------------------------------------------------------------------------------------- --------------------------------------------------------------------------------------------------------------------- --------------------------------------------------------------------- collectively generators each generator operates a wind farm collectively facilities located in ----------- each facility is interconnected with the transmission system owned by company and controlled by administrator company is a regulated electric utility which generates distributes transmits and sells electricity in parts of ------------------------------ administrator is a ferc-approved rto that oversees the operation of the bulk power transmission system in all or parts of ---- states and -------------------------------- including the part of ----------- where the generators are located the power produced by generators is initially transported over transmission lines that are not owned by taxpayer and not controlled by administrator taxpayer received no payments from generators at the time they entered into interconnection service agreements isas with administrator and company in ------- the isas required generators to reimburse company for the cost of the interconnection facilities generators are not customers of company the electricity they produce is sold at the busbar of each of facilities the terms of the isas with company are all long term taxpayer’s transmission system is interconnected with the transmission system owned by company and controlled by administrator as a result of the configuration of these two interconnected transmission systems the volume of electricity being carried on taxpayer’s system can congest company 1’s system administrator and administrator have an operating_agreement that allows one to notify the other of the need to curtail one or more generators when congestion occurs congestion on taxpayer’s transmission system at certain points occasionally impacts generators directly when this congestion occurs generators are curtailed at the request of generators administrator determined that if taxpayer constructs plr-130657-14 certain upgrades to its transmission system it would alleviate congestion such that their generation activities within the administrator market would be curtailed less frequently specifically taxpayer needs to upgrade a substation and reconductor ------- segments of a transmission line circuit collectively upgrades on -------------------------- taxpayer administrator and generators entered into agreement pursuant to which taxpayer will construct upgrades agreement provides that generators are obligated to pay taxpayer costs associated with seeking all necessary approvals and testing upgrades including tax gross-up amounts taxpayer will own and operate upgrades generators are not and will not become customers of taxpayer taxpayer will not include the cost of upgrades in its regulated rate base generators will amortize their payments to taxpayer over a twenty-year period additionally no more than of the projected total power flows over upgrades will flow to generators ruling requested taxpayer requests a ruling that the contribution of the intertie and all sums paid for construction of the intertie are not a contribution_in_aid_of_construction ciac under sec_118 and are excludable from taxpayer’s gross_income as a non-shareholder contribution_to_capital under sec_118 law and analysis sec_61 and sec_1_61-1 of the income_tax regulations provide that gross_income means all income from whatever source derived unless excluded by law sec_118 provides that in the case of a corporation gross_income does not include any contribution_to_the_capital_of_the_taxpayer sec_118 provides that the term contribution_to_the_capital_of_the_taxpayer does not include any contribution_in_aid_of_construction or any other contribution as a customer or potential customer sec_1_118-1 of the income_tax regulations provides that in the case of a corporation sec_118 provides an exclusion_from_gross_income with respect to any contribution of money or property to the capital of the taxpayer thus if a corporation requires additional funds for conducting its business and obtains such funds through voluntary pro_rata payments by its shareholders the amounts so received being credited to its surplus account or to a special account such amounts do not constitute income although there is no increase in the outstanding shares of stock of the corporation in such a case the payments are in the nature of assessments upon and represent an additional price paid for the shares of stock held by the individual shareholders and will be treated as an addition to and as a part of the operating capital plr-130657-14 of the company sec_118 also applies to contributions to capital made by persons other than shareholders for example the exclusion applies to the value of land or other_property contributed to a corporation by a governmental_unit or by a civic group for the purpose of inducing the corporation to locate its business in a particular community or for the purpose of enabling the corporation to expand its operating facilities notice_2016_36 2016_25_irb_1029 provides a safe_harbor for transfers of property from either an electricity generation or cogeneration_facility or an energy storage_facility to a regulated_public_utility used to facilitate the transmission of electricity over the utility’s transmission system to be treated as a contribution to the capital of a corporation under sec_118 and not a contribution_in_aid_of_construction ciac under sec_118 the safe_harbor provides that a contribution of an intertie including a dual-use intertie by a generator to a utility will not be treated as gross_income under sec_118 or a ciac under sec_118 if all of the following conditions are met first the generator may not purchase electricity from the utility unless the purchase satisfies the test the test provides that if in light of all information available to the utility at the time the intertie is contributed it is reasonably projected that during the ten taxable years of the utility beginning with the year in which the contributed intertie is placed_in_service no more than of the projected total power flows over the intertie will flow to the generator the test will be satisfied this projection must be supported by appropriate documentation total power flows mean power flows to or from the generator over the intertie power flows to a generator include power flows to a related_party of the generator if the transmission of power to the related_party has been facilitated by the contribution of the intertie for purposes of the test power flows in the taxable_year in which the transferred property is placed_in_service may at the option of the utility be ignored power purchases by the generator from parties other than the utility are not taken into account second in the case of electricity wheeled over the utility’s transmission system ownership of the wheeled electricity remains with the generator prior to its transmission onto the grid this ownership requirement is deemed to be satisfied if title to electricity wheeled passes to the purchaser at the busbar on the generator's end of the intertie third the cost of the intertie is not included in the utility’s rate base fourth the intertie will be used for transmitting electricity finally the cost of the intertie is capitalized by the generator as an intangible asset and recovered using the straight-line method over a useful_life that is treated as years a utility may not claim depreciation or amortization deductions with respect to the intertie however if the intertie is subsequently transferred or deemed transferred to the utility the utility may be allowed to take depreciation_deductions with respect to the intertie section viii of notice_2016_36 provides that the irs will not issue private letter rulings involving the safe_harbor under notice_2016_36 further section dollar_figure of rev plr-130657-14 proc 2017_1_irb_1 provides that generally the service will not issue a letter_ruling or a determination_letter if the request presents an issue that cannot be readily resolved before a regulation or any other published guidance is issued sec_3 of revproc_2017_3 provides that the service will not issue rulings or determination letters concerning whether a transfer of an intertie as defined in section iii b of notice_2016_36 meets all of the requirements under the safe_harbor provided by notice_2016_36 in this case taxpayer requested the private_letter_ruling before the project that led to publication of notice_2016_36 was opened and before the addition of this area to revproc_2017_3 in the interest of sound tax_administration and because the circumstances of this particular case warrant the issuance of a private_letter_ruling we are issuing this private_letter_ruling in the instant case the transfer of the intertie is subject_to the guidance set forth in notice_2016_36 and we conclude that the deemed contribution of the intertie by generators to taxpayer meets the safe_harbor requirements of notice_2016_36 therefore the deemed contribution of the intertie to taxpayer and all sums paid for construction of the intertie are not a ciac under sec_118 and are excludable from taxpayer's gross_income as a non-shareholder contribution_to_capital under sec_118 a change in a utility’s treatment of a transfer of an intertie including a change to or from the safe_harbor method_of_accounting provided in section iii of notice_2016_36 is a change in method_of_accounting to which the provisions of sec_446 and sec_481 and the regulations thereunder apply a utility that wants to change to the methods_of_accounting described in this notice must use the automatic change procedures in revproc_2015_13 2015_5_irb_419 or its successor taxpayer should follow the instructions under section dollar_figure of revproc_2016_29 2016_21_irb_880 with respect to the transaction described in this letter_ruling except as specifically set forth above no opinion is expressed or implied concerning the federal_income_tax consequences of the above described facts under any other provision of the code or regulations this ruling is directed only to the taxpayer requesting it sec_6110 of the code provides that it may not be used or cited as precedent this ruling is based upon information and representations submitted by the taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party while this office has not verified any of the material submitted in support of the request for rulings it is subject_to verification on examination plr-130657-14 in accordance with the power_of_attorney on file with this office a copy of this letter is being sent to your authorized representative sincerely nicole r cimino chief branch office of associate chief_counsel passthroughs and special industries enclosure copy


number release date internal_revenue_service index number ----------------------------- --------------------------------- --------------------- ------------------------------------- - - department of the treasury washington dc person to contact -------------------- id no ------------- telephone number --------------------- refer reply to cc psi - plr-158005-05 date date properties -------------------------------------------------------------------------------------------- -------------------------------------------------------------------------------------------- -------------------------------------------------- ------------------------------------------------ company company --------------------------------- --------------------------------- -------------------------- ----------------- shareholders ------------------------------------------------------- ------------------------------------------------------- ------------------------------------------------------- -------------------- ----------------- state a b c d e f g --------- -------------------- ---------------------- --- --------------- --------------- ---------------------------------- ---------------------------------- plr-158005-05 h i k m n --------------- --------------- ---------------------------------- --------------- ------------ dear -------------- this letter responds to a letter from your authorized representative dated date as well as subsequent correspondence requesting a ruling that the rental income received by company from the property is not passive_investment_income within the meaning of ' d c i of the internal_revenue_code company was incorporated under the laws of state on a and elected under ' a to be an s_corporation effective b it owns leases and manages the properties through c full-time employees as well as independent contractors company provides various services to the properties in its real_estate leasing and management activities these services include provision and maintenance of common areas and facilities including a recreation building and its furnishings a canopied picnic area various game courts a pool laundry facilities and common area lighting maintenance of roads and sidewalks including street signs and lighting insect and rodent control trash and debris pickup sewage disposal including maintenance of associated lines provision of water to common areas including maintenance of water mains and grounds maintenance including grass cutting and fertilizing tree trimming and the installation and maintenance of lawn sprinklers company assists its tenants in various ways such as in applying for monetary assistance or in cleaning up and repairing storm damage and its employees are on call hours a day for emergencies in addition to the services provided to tenants company handles the usual leasing and administrative functions involved in managing rental real_estate company received or accrued approximately d in rents and paid_or_incurred approximately e in relevant expenses for f on the properties the rental income and expense figures for g are h and i respectively the rental income and expense figures for k are m and n plr-158005-05 except as provided in ' g ' a provides that a small_business_corporation may elect in accordance with the provisions of ' to be an s_corporation sec_1362 provides that an election under ' a terminates whenever the corporation i has accumulated_earnings_and_profits at the close of each of three consecutive tax years and ii has gross_receipts for each of such tax years more than percent of which are passive_investment_income except as otherwise provided in ' d c ' d c i provides that the term passive_investment_income means gross_receipts derived from royalties rents dividends interest annuities and sales or exchanges of stock_or_securities sec_1_1362-2 of the income_tax regulations provides that rents means amounts received for_the_use_of or the right to use property whether real or personal of the corporation sec_1_1362-2 provides that rents does not include rents derived in the active trade_or_business of renting property rents received by a corporation are derived in an active trade_or_business of renting property only if based on all the facts and circumstances the corporation provides significant services or incurs substantial costs in the rental business generally significant services are not rendered and substantial costs are not incurred in connection with net leases whether significant services are performed or substantial costs are incurred in the rental business is determined based upon all the facts and circumstances including the number of persons employed to provide the services and the types and amounts of costs and expenses_incurred other than depreciation based solely on the facts and representations submitted we conclude that the rents company receives from the properties are not passive_investment_income under ' d c i except for the specific ruling above we express or imply no opinion concerning the federal tax consequences of the facts of this case under any other provision of the code specifically we express or imply no opinion regarding the validity of company's election to be an s_corporation further the passive_investment_income rules of ' are independent of the passive_activity rules of ' unless an exception under ' applies the rental_activity remains passive for purposes of ' under a power_of_attorney on file with this office we are sending a copy of this letter to your authorized representative plr-158005-05 this ruling is directed only to the taxpayer who requested it according to ' k this ruling may not be used or cited as precedent sincerely s james a quinn senior counsel branch office of associate chief_counsel passthroughs and special industries enclosures copy for ' purposes