date index nos control no cc ebeo tam-108992-98 number release date internal_revenue_service national_office technical_advice_memorandum taxpayer’s name taxpayer’s address taxpayer’s ident no taxable years at issue_date of conference legend taxpayer plan trust agreement issues whether under the rules of sec_461 of the internal_revenue_code taxpayer’s vacation pay was properly accrued for its vacation plans that included a use-or-lose provision and for its employees whose employment could be terminated for cause whether taxpayer’s purchases of letters of credit to secure its promises to pay employee_benefits had a sufficient nontax business_purpose and sufficient economic_substance to cause them to be respected for federal tax purposes conclusions a use-or-lose provision is a condition_subsequent that does not delay the accrual of a liability a vacation pay liability is fixed and accruable as the employee performs services for the employer if an employee’s vacation pay is subject_to a length-of-service threshold the vacation pay liability is fixed and accruable once the employee serves the required minimum length of service termination for cause is also a condition_subsequent thus the possibility that an employee might have been terminated for cause did not delay taxpayer’s accrual of vacation pay for the year in which it was earned by the employee’s performance of services taxpayer’s purchases of letters of credit to secure its promises to pay employee_benefits lacked a sufficient nontax business_purpose and sufficient economic_substance to cause them to be respected for federal tax purposes this means that we have also concluded that by purchasing the letters of credit taxpayer made no transfers of property under the rules of sec_83 of the code thus taxpayer was not entitled to compensation expense deductions for the subject benefits for its taxable years during which those benefits were earned because the deductions were governed by either sec_404 or sec_419 both of which delay the deductions until a later year fact sec_1 for the taxable years at issue taxpayer and its subsidiary corporations taxpayer-group used the accrual_method of accounting had a week taxable_year ending on the saturday closest to january 31st and filed consolidated_returns during those years taxpayer-group maintained vacation plans and sick-pay plans for its employees short-term disability benefits were also paid under the sick-pay plans the terms of the vacation plans varied somewhat depending on the particular member of taxpayer-group its location and applicable union contracts generally employees were required to be employed for a minimum period typically one year before they would become entitled to a vacation with pay employees who were employed for the specified period were paid for their earned vacation upon voluntary taxpayer and the examining officer disagree on the facts of this case in such instances the national_office may refuse to provide technical_advice or may provide advice based on the facts provided by the examining officer see sections dollar_figure and dollar_figure of revproc_99_2 1999_1_irb_73 in this instance we have decided to provide technical_advice termination of employment and upon involuntary termination other than for cause vacations were based on the employee’s hire date unless otherwise required by state law new full-time and salaried employees earned their first vacation upon reaching the anniversary of their hire date employees who completed six months of continuous service in the first calendar_year of employment could take one week of vacation after six months but had to repay those vacation benefits if they separated from employment before reaching their first anniversary date employees who completed their first anniversary year could take all succeeding vacations as of january based upon their length of service to be completed during the calendar_year vacation benefits were earned pro_rata over the employee’s work year the portion of a vacation taken but not earned had to be refunded if the employee did not complete the anniversary year_of_service generally vacation time could not be carried over from one calendar_year to another and was forfeited if not used however if employees were unable to use all of their vacation time during a particular year because of compelling business reasons they were permitted to use it during the following year moreover some members of taxpayer-group permitted certain union employees either to carry over their vacation time or to work and receive vacation pay in lieu of time off also the law of at least one of the states in which taxpayer-group had operations required employers to pay their employees for already-earned vacations regardless of the existence of a use-or-lose provision in the applicable vacation plan to ensure minimal disruptions of business operations and proper coverage of each retail_outlet or business unit limitations were placed on the employees’ scheduling of their vacations vacation time had to be scheduled in advance and approved by the employee’s supervisor supervisors ensured that employees scheduled their vacation time within 2½ months after the close of each of the taxable years at issue taxpayer purchased irrevocable unsecured standby letters of credit to secure taxpayer-group's promises to pay vacation benefits sick_pay benefits and short-term disability benefits accrued for its taxable_year ending prior to the date on which the letters of credit were purchased under applicable bankruptcy law taxpayer-group's general creditors had no rights with respect to payments made or to be made under the letters contemporaneously with its purchases taxpayer scheduled periodic decreases in the amount of benefits to be covered by the letters although taxpayer-group's employees as a class were designated as the sole beneficiaries of the letters of credit taxpayer appointed a bank that did not issue any of the letters to act as the employees' agent in transactions arising under the letters taxpayer-group's employees and their unions were not told about the existence of the letters of credit nor were they told about the appointment of an agent on their behalf under the claims procedure established for the letters of credit application would have needed to have been made to six different banks to obtain full payment of a single delinquent benefit taxpayer was required to reimburse draws against the letters within hours no draws were ever made taxpayer-group was extremely solvent there were no contractual or other requirements union or otherwise obligating the securitizations rather the securitization transactions were explicitly marketed to taxpayer and many others as tax-benefit devices in most instances what would have been the banks’ customary issuance fees for comparable letters of credit were waived for taxpayer and taxpayer’s effective annual interest cost for the purchases was one-tenth of one percent none of the banks issuing letters maintained a list of the employees who were covered by their letters under the plan and the trust agreement certain members of taxpayer-group were obligated to make monthly contributions equal to the following month’s anticipated vacation pay outlay to a nonexempt employees’ trust vacation benefits could be paid either directly to employees from the trust or as was the usual practice directly to employees by a member of taxpayer-group which was then reimbursed by the trust taxpayer-group’s promises to pay benefits funded under the plan and the trust agreement were secured_by the letters of credit taxpayer-group never evidenced transfers of property on its employees’ paystubs and never withheld or paid employment_taxes with respect to the transfers under sec_83 of the code if in_connection_with_the_performance_of_services property is transferred to anyone other than the service_recipient the excess of the fair_market_value of the property over the amount_paid for the property is included as compensation income in the service provider’s gross_income for the first taxable_year in which the rights to the property are transferable or not subject_to a substantial_risk_of_forfeiture substantially_vested for this purpose the fair_market_value of the property is determined on the date that the rights to the property become substantially_vested and without regard to restrictions that lapse for purposes of sec_83 the term property includes real and personal_property other than money or an unfunded and unsecured promise to pay money or property in the future thus a promise to pay money or property in the future is property if it is either funded or secured the term also includes a beneficial_interest in assets including money that are transferred or set_aside from the claims of creditors of the transferor for example in a_trust or escrow account see sec_1_83-3 of the income_tax regulations on its return filed for each of the taxable years at issue taxpayer-group deducted all employee_benefits that were accrued for that year and secured as described above when doing so it used the normal method_of_accounting exception to the general timing-rule for deductions governed by sec_83 of the code issue - applicable law and analysis sec_461 of the code provides that the amount of any deduction or credit is taken for the taxable_year that is the proper taxable_year under the method_of_accounting used in computing taxable_income sec_461 of the code and sec_1_461-1 of the regulations provide that under the accrual_method of accounting a liability is incurred and is generally taken into account for federal_income_tax purposes in the taxable_year in which all the events have occurred that establish the fact of the liability the amount of the liability can be determined with reasonable accuracy and economic_performance has occurred with respect to the liability sec_461 provides that if the liability of the taxpayer arises out of the providing of services to the taxpayer by another person economic_performance occurs as that person provides the services in this case economic_performance occurred as the employee provided services to taxpayer-group no issue has been raised concerning taxpayer-group’s ability to make reasonable estimates of its vacation pay liability thus the only issues are whether the use-or-lose and termination-for-cause provisions were conditions precedent so that employees had to take their vacations within the taxable_year in order for taxpayer-group to have accrued the attributable compensation expense deductions for the year in which the vacation benefits were under sec_83 the service_recipient is allowed a compensation expense deduction under sec_162 equal to the amount included under sec_83 in the service provider’s gross_income under the general timing rule_of sec_83 the deduction is allowed for the service recipient’s taxable_year in which or with which ends the service provider’s taxable_year in which the amount is included in gross_income sec_1_83-6 of the regulations provides an exception to that rule where property is substantially_vested upon transfer the deduction is allowed to the service_recipient in accordance with its method_of_accounting in conformance with sec_446 and sec_461 of the code otherwise earned or whether taxpayer-group’s vacation pay liabilities were fixed in the taxable_year in which the employees having the requisite length of service performed the services required to earn their vacation pay so that the use-or-lose or termination-for-cause provisions constituted conditions subsequent which would require the accruals to be defeased only to the extent that employees failed to use their earned vacation benefits or were terminated for cause a use or lose is a condition_subsequent that does not delay accrual of vacation pay earned through year-end there is no authority that directly considers whether a use-or-lose provision in an employment arrangement causes vacation pay that is otherwise earned by an employee to be contingent and therefore not accruable by the employer until the contingency is eliminated ie the employee takes the vacation within the prescribed time period however there is ample authority analyzing whether a contingency constitutes a condition_precedent which prevents a liability from being fixed and accruable or a condition_subsequent which merely defeases an otherwise fixed liability in the event that the contingency occurs the law distinguishes among the different types of contingencies to which a liability may be subject and assigns a particular effect to a contingency depending upon how it is categorized some contingencies are conditions precedent that prevent satisfaction of the all_events_test and accrual of the liability until the condition is resolved other contingencies are conditions subsequent that defease an accrued liability only if that contingency occurs other types of contingencies do not prevent accrual either because they are remote contingencies or because they are not recognized as preventing accrual as the court noted in 476_us_593 there is always the possibility of course that a casino may go out of business or surrender or lose its license or go into bankruptcy with the result that the amount shown on the jackpot indicators would never be won by playing patrons but this potential nonpayment of an incurred liability exists for every business that uses an accrual_method and it does not prevent accrual see also 158_f3d_484 9th cir an accrual_method casino could deduct the value of slot club points won by a club member for the year in which the member accumulated the minimum number of points necessary to redeem a prize the casino's liability was not rendered conditional by the possibility that some of the points accumulated by members might go unredeemed 77_f2d_324 2d cir where a contract had a fixed price component due when ore was to be delivered and royalties of dollar_figure per ton were payable ten years after the agreement was signed but subject_to cancellation if one of three contingencies occurred the liability to pay royalties arose upon delivery of the ore and the contingencies were conditions subsequent in applying the foregoing principles to taxpayer-group’s use-or-lose provisions it is clear that the only vacation pay to which those provisions applied was vacation pay that its employees had already earned by performing services there was nothing further for the employees to do to earn their vacation pay assuming that their time-in- service requirements were met the members of taxpayer-group became absolutely liable for the payment of vacation pay when the services that earned that vacation pay were performed a failure to claim vacation pay that has already been earned is an act that defeases a properly accrued liability which means that such a failure is a condition_subsequent b certain dicta in the american stores case are not controlling here the examining officer suggests that certain dicta in 108_tc_178 require that taxpayer-group’s vacation pay deductions be deferred until the year in which its employees take their vacations in american stores the petitioner accrued and deducted under former sec_463 of the code all vacation benefits that it expected to pay within 8½ months after the close of its taxable_year ending date prior to its repeal sec_463 permitted taxpayers to elect to establish a reserve_account for the accrual of vacation benefits and authorized a deduction for vacation pay earned before the close of the taxable_year that because of contingencies would not be deductible under sec_162 as an accrued expense the court upheld the disallowance of current deductions for the vacation benefits to the extent that those benefits were not based on services performed before the end of the taxable_year thus the court held that earned vacation benefits were those attributable to services performed by employees before the end of the taxable_year in response to the petitioner's argument that the commissioner's interpretation rendered sec_463 meaningless the court in dicta referred to a strict accrual doctrine and revrul_54_608 1954_2_cb_8 the court stated that s trict accrual would prohibit any deduction if a possibility existed that the vacation benefits could be forfeited after the end of the taxable_year supra pincite the court concluded that the commissioner did not rely on a strict accrual doctrine which would have been in contravention of sec_463 noting that if she had no deduction for earned vacation benefits would have been allowable unless they were actually paid due to the possibility that benefits could be forfeited after the end of the taxable_year under the applicable vacation plan's use-or-lose provision however we have concluded that the court's interpretation of revrul_54_608 is erroneous we reach these conclusions because the court's statements are both dicta and inapposite to its holding that vacation pay attributable to services performed after the close of an employer's taxable_year and before its extended due_date for filing a return is not earned for that year within the meaning of sec_463 further the tax court’s statement conflicts with the definition of a vested vacation pay plan found in the regulations under sec_463 the court states that the taxpayer could not accrue even vested benefits under the strict accrual doctrine in contrast the regulations under sec_463 provide that vacation pay will be considered vested accrued vacation pay and therefore not contingent even though there is a limit or ceiling on the amount of vacation pay that an employee is entitled to as of the close of the plan_year see sec_1 463-1t f of the temporary income_tax regulations c revrul_54_608 does not delay accrual when applied to the facts of the instant case revrul_54_608 does not address use-or-lose provisions revrul_54_608 revoked i t 1949_1_cb_78 and modified g_c_m 1947_2_cb_44 none of these rulings involved a use-or-lose provision rather they focused on the effect of plan provisions under which terminated employees would lose vacation pay entitlements in none of these rulings was a forfeiture of vacation benefits possible due to the failure to use them i t dealt with the accrual of vacation pay under certain railroad contracts employees working days or more in the preceding_taxable_year were entitled to a vacation in the succeeding taxable_year at issue was the termination clause of the contract which provided that no vacation pay or payment in lieu thereof was owed to an employee whose employment relationship was terminated prior to the taking of a scheduled vacation specifically the service stated t his circumstance referring to the possibility of the loss of vacation pay by termination of the employment relationship however will not preclude the accrual of vacation pay at the end of the taxable_year in which services are performed since with respect to the individual employee at the end of such year the employer would be justified in anticipating that the liability will be paid or with respect to the employees as a group such circumstance would only make uncertain the ultimate amount of liability to the group i t concludes that the liability for vacation pay was fixed as of the close of the taxable_year in which the qualifying services were rendered forfeiture of vacation pay through non-use was impossible because employees who were not allowed to schedule their vacations were paid an allowance in lieu of their vacations in 15_tc_424 a calendar_year taxpayer accrued vacation pay on a monthly basis the employment contracts provided that a ll mine workers with a record of twelve months continuous employment immediately preceding june would be entitled to a vacation of one week per year the service restricted the petitioner’s vacation pay deductions to amounts actually paid during the taxable_year in question on the grounds that only employees on the payroll on june were eligible for vacation pay that strikes were possible which violated the contract and that increases in vacation pay were possible the court held that the petitioner’s liability for vacation payments did not become certain until the date specified in the contracts and that thus such liability depended upon a condition_precedent ie whether the individual miner was working for petitioner on the date required in the contract and had complied with the contract’s requirements no use-or-lose provision was mentioned in revrul_54_608 the service revoked i t and in accordance with tennessee consolidated coal supra held that no accrual of vacation pay can take place until i the fact of liability to a specific person has been clearly established and ii the amount of the liability to each individual is capable of computation with reasonable accuracy the revenue_ruling was given prospective application and was applicable only to taxable years ending on or after date the ruling also cites 19_tc_208 commissioner’s appeal withdrawn 3d cir and e h sh19_tc_481 aff’d in part on this issue 6th cir these cases are not analyzed because the issue is either the same as in tennessee consolidated coal or is not relevant to the issue presented in this technical_advice request the application of revrul_54_608 was delayed by revrul_55_246 1955_1_cb_68 revrul_56_315 1956_2_cb_304 revrul_57_28 1957_1_cb_193 and revrul_57_325 1957_2_cb_302 congress further delayed the application of revrul_54_608 by enacting section of the technical amendments act of pub_l_no which provided that deduction under sec_162 for accrued vacation pay computed in accordance with the method_of_accounting consistently followed by the taxpayer in arriving at such deduction shall not be denied solely by reason of the fact that the requirements of revrul_54_608 have not been met if at the time of the accrual the employee in respect of whom the vacation pay is accrued has performed the qualifying service necessary under a plan or policy which provides for vacations with pay to qualified employees see 1958_3_cb_320 congress repeatedly extended the delay in application of further in revrul_58_18 1958_1_cb_237 the subject vacation pay plan contained a use-or-lose provision the plan expressly provided that no cash payments would be made in lieu of vacations to employees under that plan salaried employees who were employed on date and who had completed more than six months of service on that date were entitled to a vacation with pay in provisions were made for unused vacation payments to eligible employees who after date and before taking a vacation were laid off or discharged or retired resigned entered military service or died revrul_58_18 holds that the fact that there is no written contract for the payment of vacation pay does not in and of itself prevent the accrual and deduction of the liability for the year in which the liability is established the ruling also suggests that a use-or-lose provision will not prevent accrual of the liability because it states as a fact that t he liability of the corporation therefor as of date was clearly established and the amount of the liability to each individual employee was capable of being computed with reasonable accuracy in masonite corp v fly u s t c s d ms the taxpayer's labor contract also contained an explicit use-or-lose provision however the court did not analyze that provision but instead focused on the tennessee consolidated coal decision and the provision in the taxpayer's contract disqualifying employees who resigned or were discharged from receiving vacation pay the court distinguished the taxpayer's contract from the tennessee consolidated coal contract and held that the provision regarding resigned or discharged employees was a condition_subsequent it found that the taxpayer's contract did not require employment on january 1st as a condition_precedent to liability rather it found that january 1st was merely a date for the measurement of service ie any employee not continuously employed for one or more years until january 1st would not be entitled to vacation pay in the year beginning january 1st and by allowing the deduction for the year in which the services were performed the court implicitly recognized the use-or-lose provision as a condition_subsequent as well taxpayer-group's contracts are distinguishable from the contract that was the subject of revrul_54_608 unlike the vacation benefits analyzed in revrul_54_608 the vacation benefits earned by taxpayer-group's employees were properly accruable under the revrul_54_608 until when the delay was effectively made permanent by the enactment of sec_463 which was an elective provision dealing specifically with vacation pay accruals publaw_93_625 93d cong 2d sess standards articulated in revrul_54_608 as to each specific employee once that employee earned vacation pay by performing services and met the requisite time- in-service requirements the time and date requirements found in the tennessee consolidated coal contract were conditions precedent no earning of a portion of the allotted vacation was possible and employees could not earn vacation pay unless they were actually employed on june 1st in contrast under taxpayer-group’s contracts the vacation pay was earned through the provision of services and thus the possibility of forfeiting that vacation pay was a condition_subsequent the legislative_history underlying sec_463 indicates that the reason for revoking i t was the enactment of sec_462 sec_462 provided for the deduction of additions to reserves for certain estimated expenses including vacation pay accrued on a completion-of-qualifying-service basis it was concluded that it was no longer necessary to maintain the administrative position of i t which allowed accruals on the basis of employees as a group thus by revoking i t revrul_54_608 reduced the scope of permissible accruals to those liabilities that were fixed with regard to specific employees see senate report no c b in taxpayer-group’s case the accruals were determined as to specific employees each employee’s anniversary date was the date of reference for determining his or her vacation pay and the employee’s vacation pay was earned pro_rata once the minimum service requirement was met accordingly we conclude that the type of group accrual that revrul_54_608 was designed to eliminate is not present in this case d termination for cause is a condition_subsequent that does not delay accrual of vacation pay earned through year-end as was the case with the use-or-lose provisions the only vacation pay to which these provisions applied was vacation pay that the employees had already earned by performing services there was nothing further for the employees to do to earn the vacation pay at issue assuming that their time-in-service requirements were met taxpayer-group became absolutely liable to pay vacation pay to its employees when the services that earned the vacation pay were performed a loss of earned vacation pay through a termination for cause is an act that defeases a properly accrued liability and is therefore a condition_subsequent it was thought that taxpayers accruing vacation pay under plans that did not meet the requirements of the strict accrual rule set forth in revrul_54_608 would utilize sec_462 e the termination for cause provisions did not cause accrual to be delayed under revrul_54_608 unlike use-or-lose provisions the effect of termination for cause provisions has been examined by the courts and the service in i t discussed above the liability for vacations with pay or pay in lieu thereof was terminated if the employment relationship was terminated prior to the scheduled vacation the service concluded that this possibility did not preclude the accrual of vacation pay at the end of the taxable_year in which the services were performed see also masonite corp v fly supra a termination for cause provision was a condition_subsequent as noted above revrul_54_608 revoked i t however although both taxpayer-group’s contracts and the tennessee consolidated coal contracts had provisions that caused employees terminated for cause to lose any earned but unused vacation the other terms of the contracts differed which leads to a different result in this case in the tennessee consolidated coal contracts analyzed in revrul_54_ the time and date requirements were conditions precedent those contracts required one year’s continuous employment as of june which prevented any accrual of vacation pay by the end of the taxpayer’s taxable_year december no earning of a portion of the allotted vacation was possible and employees could not earn vacation pay unless they were actually employed ie not previously terminated on the following june in contrast under taxpayer-group’s contracts the vacation pay of each individual employee was earned by the employee’s provision of services and the possibility of forfeiture by a termination for cause was a condition_subsequent thus although it can be argued that revrul_54_608 is controlling as to termination- for-cause provisions upon close examination it is clear that under the standards articulated in revrul_54_608 the vacation pay earned by employees under taxpayer-group’s contracts was properly accruable for the year in which the attributable services were performed this is because the possible loss of earned vacation pay through a termination for cause was a condition_subsequent and because the accrual was for a specific person who had earned the vacation pay by performing services and had met the requisite time-in-service requirements rather than for a group issue - applicable law and analysis in general a transaction will be respected for tax purposes if it has economic_substance which is compelled or encouraged by business or regulatory realities is imbued with tax-independent considerations and is not shaped solely by tax-avoidance features that have meaningless labels attached 435_us_561 899_f2d_905 10th cir in assessing the economic_substance of a transaction a key factor is whether the transaction has any practical economic_effect other than the creation of tax deductions courts have refused to recognize the tax consequences of a transaction that does not appreciably affect the taxpayer's beneficial_interest except to reduce tax the presence of an insignificant pre-tax profit is not enough to provide a transaction with sufficient economic_substance to be respected for tax purposes 364_us_361 157_f3d_231 3d cir 94_tc_738 see also revrul_99_14 1999_13_irb_3 the factors that we considered in analyzing taxpayer’s securitization transactions can be summarized as follows first the transactions were explicitly marketed to taxpayer as tax-benefit devices second taxpayer-group was extremely solvent so there were no ascertainable nontax-financial concerns motivating taxpayer to enter into the transactions third there were no contractual or other requirements union or otherwise obligating taxpayer to secure its promises to pay benefits fourth putting taxpayer-group's employees' minds at rest about taxpayer- group's ability to pay the subject benefits could not have been a motivation for the transactions because taxpayer-group never told its employees or their unions about them fifth providing an employee benefit through securitization of the pre-existing promises to pay benefits could not have been a meaningful motive here perhaps most telling in this regard is the fact that taxpayer consistently refrained from securing benefits that were to be paid within 2½ months after the close of its taxable_year for which they were accrued -- benefits that under the rules of sec_404 of the code were already deductible for the taxable_year for which they were accrued without resort to letters of credit sixth taxpayer never revealed the existence of the letters of credit to its employees or their unions by doing that it sacrificed the goodwill that it presumably would have earned from publicizing a new cost-free employee benefit seventh the banks issuing the letters did not maintain a list of the employees covered by the letters eighth if due to taxpayer’s scheduled decreases in the amount of benefits covered by the letters the total amount of secured benefits dropped below the amount of unpaid benefits uncertainty would have arisen about whether any particular employee’s benefits were as of that moment fully secured ninth the banks’ customary letter_of_credit issuance fees were in most cases waived for taxpayer and taxpayer’s effective interest cost on the transactions was one-tenth of one percent in this regard commercial realities ie arm’s-length bargaining would dictate that these discounts were offered because the letters of credit produced no meaningful economic risks to the banks ie would the banks have entered into these transactions on such terms if they considered their economic risks to be significant tenth the purported nontax economic benefit inuring to taxpayer ie providing its employees with a compensatory albeit uncommunicated securing of its promises to pay benefits was so incremental as to make the game not worth the candle the only way that taxpayer could ever hope to recover its transaction costs was through the tax benefits achieved through acceleration of its deductions for unpaid benefits eleventh because draws against the letters of credit had to be reimbursed by taxpayer within hours the economic positions of taxpayer and issuing banks in terms of their respective liabilities to pay benefits were not materially altered by the purchases twelfth the claims procedures under the letters of credit were nonsensical the employees or their agent would have had to apply to six different banks to obtain full payment of a single delinquent benefit seemingly the employees could have merely threatened that action waited hours and immediately received payment in full from the funds that taxpayer ostensibly obligated itself to raise to reimburse those banks alternatively rather than bothering to apply to six different banks to obtain full payment of a single delinquent benefit the employees of certain members of taxpayer- group could have received full payment of those benefits from the employees’ trust ie the employees’ unions would have forced the trustee of delinquent funded benefits to simply pay them to the employees in such cases it seems that the trustee would have had to pay the employees then the banks would have had to reimburse the trust and then taxpayer would have had to reimburse the banks thirteenth from both taxpayer’s and its employees’ perspectives the purchases of letters of credit did not cause any change in taxpayer’s historical methodology of paying benefits stated another way had one stood on top of the world and looked down on these transactions one would have seen benefits being paid just as if no letters of credit had ever been purchased fourteenth in contrast to taxpayer’s suggested confirmation of the substance of these transactions ie income_tax consequences to its employees see below by its deliberate acts of omission taxpayer demonstrated that it never intended that such consequences should ever take place taxpayer never evidenced transfers of property on its employees’ paystubs and never withheld or paid employment_taxes with respect to the transfers looking at these factors we conclude that taxpayer’s purported nontax motivations for purchasing letters of credit essentially vanish in the shadow of its anticipated tax benefits accordingly we conclude that taxpayer’s nontax motives for securing its promises to pay employee_benefits do not support the conclusion that those securitization transactions had any nontax business_purpose that would be sufficient to cause them to be respected for federal tax purposes additionally we conclude that the objective economic realities of the transactions viewed as a whole demonstrate that both taxpayer and the issuing banks clearly understood that the letters would never be drawn upon in turn this supports the conclusion that the transactions lacked the potential for any significant economic consequences other than the creation of tax benefits thus we conclude that the economic_substance of the transactions was insufficient to cause them to be respected for federal tax purposes in summary we conclude that taxpayer's purchases of letters of credit to secure taxpayer-group's promises to pay employee_benefits lacked a sufficient nontax business_purpose and sufficient economic_substance to cause them to be respected for federal tax purposes taxpayer argues that the business_purpose and economic_substance requirements either do not apply to compensatory transactions or if they do are presumptively satisfied in the case of employee compensation specifically taxpayer’s submission states as follows the provision of compensation to the employees is a business_purpose that gives the letter_of_credit transaction economic_substance the substance of the transaction is confirmed by the fact that it has income_tax consequences to its employees as well the economic_substance and business_purpose doctrines have no application to an employer's decision to provide compensation to its employees as long as the transaction results in compensation that is paid for personal services actually rendered and is reasonable in amount it is by definition deductible compensation treas reg sec_1_162-7 thus as long as a transaction is truly compensatory the compensatory aspect of the transaction provides the transaction with both a business_purpose and economic_substance and there is no need to further delve into either the economic_substance or the business_purpose doctrine in analyzing this argument it is important to keep in mind that the employee_benefits ultimately being paid are not the compensation at issue rather it is taxpayer-group’s ostensibly compensatory decision to secure its promises to pay those benefits that is at issue the first element of taxpayer’s argument is that the business_purpose and economic_substance doctrines do not apply to compensatory transactions we note that although the court cases applying those doctrines generally involve deductions for interest depreciation or losses the principles by which those cases have been decided are expressed in broad terms that are not limited in application to any particular provisions of the code for example in acm partnership v comm’r the third circuit stated that the tax court’s analysis properly rested on economic_substance cases applying provisions which like those relevant in this case do not by their terms require a business_purpose or profit_motive supra pincite accordingly we conclude that taxpayer’s position on this point is incorrect simply put there is no indication in the case law that the doctrines do not apply to purportedly compensatory arrangements that lack any practical economic_effect other than the creation of tax losses the second element of taxpayer’s argument is that the doctrines are presumptively satisfied in compensatory transactions we agree that unless a compensatory_amount is unreasonable the internal_revenue_service ordinarily does not question an employer’s business decisions about compensating its employees however it does not follow that the service is precluded as a matter of law from ever considering the underlying reality of compensation arrangements stated another way simply labeling a transaction as compensatory in purpose will not cause it to be respected for federal tax purposes if there is insufficient economic reality to the arrangement accordingly we have concluded that the business_purpose and economic_substance doctrines apply to determine whether a compensation-related transaction should be respected for federal tax purposes we note here that we are not revisiting the issue considered in 107_tc_271 ie whether a sec_83 inclusion event upon securitization of benefits constitutes receipt of those benefits by employees for purposes of determining whether an employer’s deduction for the benefits is subject_to sec_404 of the code in schmidt the parties stipulated that the securitizations constituted transfers of property for purposes of sec_83 in contrast here we are analyzing the facts of a similar transaction under tax doctrines of general applicability that were not considered by the schmidt court in light of the stipulation in that case the tax consequences of our analysis of issue having concluded that taxpayer’s purchases of letters of credit should not be respected for federal tax purposes we therefore conclude also that by purchasing the letters of credit taxpayer made no transfers of property under the rules of sec_83 of the code absent a sec_83 transfer within 2½ months after the end of taxpayer’s taxable_year in which the relevant services were performed we do not reach the issue addressed by the tax_court in schmidt baking instead we proceed directly to analyze taxpayer-group’s deductions under the rules of sec_404 sec_404 provides that compensation paid_or_accrued by an employer on account of any employee under a plan deferring the receipt of such compensation is not deductible under chapter of the code but if it would otherwise be deductible is deductible only under sec_404 subject_to the limitations of that section sec_404 of the code provides that payments by an employer to employees under a nonqualified_deferred_compensation_plan are deductible by the employer for the employer's taxable_year in which they are includible in the employees' gross incomes see also sec_1_404_a_-12 of the regulations however in the case of a plan in which more than one employee participates deductions are allowed under this section only if separate_accounts are maintained for each employee sec_404 also provides that vacation pay that is treated as deferred_compensation is deductible for the taxable_year of the employer in which it is paid to the employee q a-2 of sec_1_404_b_-1t of the temporary income_tax regulations addresses the question of when a plan or method or arrangement will be considered to defer the receipt of compensation or benefits for purposes of sec_404 specifically a plan or method or arrangement defers the receipt of compensation or benefits to the extent that it is one under which an employee receives compensation or benefits more than a brief period of time after the end of the employer's taxable_year in which the services creating the right to such compensation or benefits are performed this determination is made separately with respect to each employee and each amount of compensation or benefit see q a-2 a of sec_1_404_b_-1t under q a-2 b of sec_1_404_b_-1t a plan or method or arrangement is presumed to be one deferring the receipt of compensation_for more than a brief period of time after the end of the employer's taxable_year to the extent that an employee receives compensation after the fifteenth day of the third calendar month following the end of the employer's taxable_year in which the related_services were rendered the 2½ month period thus for example a year-end bonus received beyond the 2½ month period by one employee is presumed to constitute payment under a plan deferring the receipt of compensation_for that employee even though bonus payments to all other employees are not similarly treated because they are received within the 2½ month period benefits are deferred benefits if assuming the benefits were cash compensation such benefits would be considered deferred_compensation thus analyzing the transaction without regard to taxpayer's purchases of letters of credit we conclude that to the extent that the subject benefits were not funded through the trust they constituted deferred benefits treated as deferred_compensation whose deduction by taxpayer-group was governed by the rules of sec_404 of the code as a result under sec_404 the vacation pay was not deductible until taxpayer-group’s taxable_year in which it was paid and the sick_pay was not deductible until taxpayer-group’s taxable_year within which ended the year that it was included in the employees’ incomes although deductions for deferred benefits are ordinarily governed by sec_404 of the code under the general_rule of sec_404 there is an exception in sec_404 for benefits provided through a welfare_benefit_fund as defined in sec_419 sec_419 of the code provides that contributions paid_or_accrued by an employer to a welfare_benefit_fund are deductible for the taxable_year in which paid subject_to the limitation contained in sec_419 and provided that the contributions would be otherwise deductible applying the rules of sec_419 of the code we conclude that to the extent that the subject benefits were funded through the trust they constituted welfare benefits and the trust constituted a welfare_benefit_fund under sec_419 of the code accordingly sec_419 governs taxpayer-group’s deductions for benefits funded through the trust delaying the deductions at least until the year in which the amounts are contributed to the trust thus in both situations - deferred benefits under sec_404 and welfare benefits under sec_419 - deductions were not available to taxpayer-group for the years that such benefits were earned by its employees a copy of this technical_advice_memorandum is to be given to taxpayer sec_6110 of the code provides that it may not be used or cited as precedent -end-


internal_revenue_service number release date index number -------------------------- ------------------------------------------------------------ ------------ ---------------------------------------- ------------------------------- ---------------------------------- department of the treasury washington dc third party communication none date of communication not applicable_person to contact ------------------------------------ id no ------ ------------------ telephone number ---------------------- refer reply to cc corp plr-113452-17 date date distributing controlled merger partner merger sub merger partner funds fiduciary transferred business state a state b date a ------------------------------------------------------------------------------------- ------------------------------------------------------------------------------------- ----------------- ------------------------------------------------------------------------------------- ------------------------------------------------------------------------------------- ------------------------------------------------------------------------------------- --------------- ------------------------------------------------------------------------------------- ------------------------------------------------------------------------------------- ----------------- ------------------------------------------------------------------------------------- ------------------------------------------------------------------------------------- ------------------ ------------------------------------------------------------------------------------- ----- ------------------------------------------------- --------------------------------------------------------------------------- -------------- -------------- ------------------------ plr-113452-17 date b a b c d e f g ----------------------- ------ -------------------- -- ------ ---- ---- ------ dear ------------------- this letter responds to a letter dated date submitted on behalf of distributing requesting a ruling on two significant issues presented under sec_355 of the internal_revenue_code the code this letter supersedes the letter dated date the material information provided in that request is summarized below this letter and the rulings contained therein are issued pursuant to section dollar_figure of revproc_2017_1 2017_1_irb_1 regarding one or more significant issues under sec_355 and only address one or more discrete legal issues involved in the transaction this office expresses no opinion as to the overall tax consequences of the transactions described in this letter or as to any issue not specifically addressed by the rulings below the rulings contained in this letter are 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 summary of facts distributing is a publicly traded state a corporation that is the common parent of an affiliated_group that files a consolidated federal_income_tax return the distributing group prior to the distribution as defined in step iii infra the distributing group was engaged in several lines of business including the transferred business controlled is a state b corporation that was wholly owned by distributing until the distribution plr-113452-17 merger partner is a publicly traded state b corporation that is unrelated to the distributing group and is the common parent of an affiliated_group that files a consolidated federal_income_tax return prior to the merger as defined in step iv infra merger partner wholly owned merger sub a state b corporation which was formed for the sole purpose of facilitating the transaction merger partner has historically engaged in share repurchases through various share repurchase plans including through both non-accelerated repurchases and accelerated share repurchase programs asr programs pursuant to accelerated share repurchase agreements merger partner would repurchase a specified number or volume range of its shares of common_stock from a third-party investment bank at an agreed-upon price per share or other price mechanism the bank would obtain the shares of common_stock by borrowing such shares and the bank would buy the shares typically on the open market over time to return the borrowed shares in the non- accelerated repurchases merger partner appointed a financial_institution as agent to repurchase shares of merger partner common_stock subject_to certain securities law restrictions as well as price volume and other parameters set forth in the plans the agent was authorized to purchase merger partner’s shares at the then-prevailing market price on the principal exchange on which merger partner common_stock is traded any national securities exchange in the over-the-counter market on an automated trading system or otherwise on the day before the merger approximately a of the total outstanding shares of merger partner stock was owned by the merger partner funds each of which is held by a retirement_plan qualified under sec_401 on date a distributing controlled merger partner and merger sub entered into a merger agreement as amended the merger agreement and various other agreements governing certain terms of the transaction on the same date distributing and controlled entered into a separation agreement as amended the separation agreement governing certain terms of the transaction pursuant to the separation agreement and the merger agreement the following steps were taken together the transaction i distributing controlled and certain of each of their subsidiaries engaged in a series of steps to effect an internal reorganization to prepare for the separation of the transferred business from the other businesses of the distributing group ii on date b distributing transferred its ownership interests in certain assets related to the transferred business to controlled in exchange for controlled common_stock controlled’s assumption of certain liabilities related to the transferred business and a cash payment of approximately dollar_figureb the transfer plr-113452-17 iii on date b and following the transfer distributing exchanged all of the shares of controlled common_stock for shares of distributing the distribution the distribution was intended qualify as a distribution of controlled common_stock to distributing’s shareholders pursuant to sec_355 and together with the transfer as a reorganization described in sec_368 iv on date b and following the distribution merger sub merged with and into controlled with controlled being the surviving corporation of the merger and a wholly owned subsidiary of merger partner the merger in the merger each share of controlled common_stock held by distributing stockholders was automatically converted into the right to receive c share s of merger partner common_stock the merger approximately d more than of the outstanding shares of merger partner common_stock was held by shareholders who held distributing stock prior to step iii step iv was intended to qualify as a reorganization within the meaning of sec_368 by reason of sec_368 and or a b the consummation of immediately after v in retirement of outstanding distributing pursuant to the separation agreement within e months following the distribution distributing will distribute the cash proceeds received in step ii to distributing’s creditors to distributing’s shareholders in repurchase of or distribution with respect to distributing’s shares step v is intended to qualify as money distributed to distributing’s creditors or stockholders in connection with the reorganization in step ii and step iii for purposes of sec_361 indebtedness or merger partner intends to engage in repurchases of its common_stock through open market purchases or accelerated share repurchase transactions collectively the share repurchases when consistent with its overall capital deployment plan merger partner has excess available cash and the opportunity to repurchase shares at an attractive price merger partner intends to adopt a new share repurchase plan providing for share repurchases in an open market and may adopt additional programs on substantially_similar terms in the future the proposed share repurchase plans will be on similar terms as merger partner’s previous non-accelerated repurchases except that the proposed share repurchase plans will require any repurchases to be in the open market in addition merger partner intends to adopt a new asr program that is expected to operate on terms substantially the same as the accelerated share repurchase agreements entered into by merger partner in the past under the share repurchases merger partner expects to repurchase in the aggregate less than f of its common_stock outstanding after the closing of the transaction merger partner is indifferent as to which shareholders participate in the share repurchases immediately after the merger the merger partner funds owned approximately g of the total outstanding shares of merger partner stock no other retirement plans of merger partner or any person that is treated as the same employer as merger partner plr-113452-17 or controlled under sec_414 c m or o qualifying under sec_401 or sec_403 has owned any merger partner stock since the date that is two years before date b merger partner intends to issue additional shares of merger partner stock to the merger partner funds and the merger partner funds may from time to time acquire additional shares of merger partner stock from open market purchases during the two-year period following the distribution and merger collectively the fund acquisitions during the two-year period following the distribution and merger other than the fund acquisitions merger partner will not issue merger partner common_stock to any other retirement_plan of merger partner or any person that is treated as the same employer as merger partner or controlled under sec_414 c m or o qualifying under sec_401 or sec_403 nor will any such plan otherwise acquire merger partner stock distributing makes the following representations representation sec_1 the share repurchases will be motivated by a business_purpose the stock to be repurchased in the share repurchases will be widely held and the share repurchases will be made in the open market or through an asr program the share repurchases are not motivated to any extent by a desire to increase or decrease the ownership percentage of any particular shareholder or group of shareholders to the extent that the share repurchases are made on the open market through a broker merger partner will not know the identity of any shareholder from which merger partner stock is repurchased to the extent that the share repurchases are made through an asr program merger partner will not know with certainty the identity of any shareholder from which merger partner stock is borrowed or purchased by each bank that participates in such asr program no shareholder of distributing who actively participates in the management or operation of distributing has filed a form_3 form_4 schedule 13d or schedule 13g indicating that it owned enough shares to be a controlling shareholder within the meaning of sec_1_355-7 a controlling shareholder during the two-year period before the distribution the 2-year pre-distribution period and distributing has no actual knowledge of any controlling shareholders during the 2-year pre-distribution period no shareholder of merger partner who actively participates in the management or operation of merger partner has filed a form_3 form_4 schedule 13d or schedule 13g indicating that it owns enough shares to be a controlling shareholder since the merger and merger partner has no plr-113452-17 actual knowledge of any controlling shareholders since the merger no shareholder of merger partner has filed a form_3 form_4 schedule 13d or schedule 13g indicating that it owns enough shares to be a ten-percent shareholder within ten-percent shareholder since the merger and merger partner has no actual knowledge of any ten-percent shareholders since the merger the meaning of sec_1_355-7 a for purposes of representations and actual knowledge means the actual knowledge of the vice president of investor relations the general counsel or a functionally similar position at distributing or merger partner as applicable of the existence of a controlling shareholder or ten-percent shareholder rulings based solely on the information submitted and representations made we rule as follows to the extent the share repurchases are treated as part of a plan or series of related transactions with the distribution for purposes of sec_355 the share repurchases will be treated as being made from all public shareholders of merger partner common_stock on a pro_rata basis for the purposes of testing the effect of the share repurchases on the distribution under sec_355 for purposes of this ruling each merger partner common_stock shareholder will be treated as a public shareholder with respect to any share repurchases that occur on or prior to five business days after either actual knowledge or the filing of a schedule 13d schedule 13g form_3 or form_4 indicating the shareholder holds enough shares to be considered a five-percent shareholder within the meaning of sec_1_355-7 and it actively participates in the management or operation of acquiring as described in sec_1 h or a ten-percent shareholder for purposes of determining whether a ten-percent shareholder exists merger partner may disregard a schedule 13g unless item reports such a shareholder or is left blank or the filer discloses its status as a ten-percent shareholder on form_3 or form_4 for purposes of sec_355 the merger partner funds are treated as having indirectly acquired an amount of controlled common_stock in the merger the merger shares equal to i the number of shares of merger partner common_stock held by the merger partner funds immediately after the merger multiplied by ii a fraction the numerator of which is the total number of shares of controlled common_stock outstanding immediately after the merger and the denominator of which is the total number of shares of merger partner common plr-113452-17 stock outstanding immediately after the merger sec_1_355-7 applies to the merger shares in an amount the pre-distribution amount to the extent the pre-distribution amount does not represent more than ten percent of the total combined voting power of all classes of stock entitled to vote or more than ten percent of the total value of all shares of all classes of stock of controlled outstanding immediately after the merger the pre-distribution amount is equal to i the excess of the number of shares of merger partner common_stock acquired by the merger partner funds in the year pre-distribution period over the number of shares of merger partner common_stock disposed of by the merger partner funds in the 2-year pre- distribution period multiplied by ii a fraction the numerator of which is the total number of shares of controlled common_stock outstanding immediately after the merger and the denominator of which is the total number of shares of merger partner common_stock outstanding immediately after the merger that such post-distribution acquisition when combined with for purposes of sec_355 each acquisition of merger partner common_stock by the merger partner funds is treated as an indirect acquisition of controlled stock each a post-distribution acquisition during the period in which controlled remains a wholly owned subsidiary of merger partner sec_1_355-7 will apply to each post-distribution acquisition to the extent the acquisitions of the pre-distribution amount and all previous post-distribution acquisitions do not represent acquisitions of more than ten percent of the total combined voting power of all classes of stock entitled to vote or more than ten percent of the total value of shares of all classes of stock of controlled outstanding immediately after the post-distribution acquisition calculated as a fraction i the numerator of which is the excess of the number of shares of merger partner common_stock acquired by the merger partner funds in the four- year period beginning two years before the distribution the 4-year period over the number of shares of merger partner common_stock disposed of by the merger partner funds in the 4-year period and ii the denominator of which is the total number of shares of merger partner common_stock outstanding immediately after the post-distribution acquisition caveats except as expressly provided herein no opinion is expressed or implied concerning the tax consequences of any aspect of any transaction or item discussed or referenced in this letter procedural statements plr-113452-17 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 in accordance with the power_of_attorney on file with this office copies of this letter are being sent to your authorized representatives a copy of this letter must be attached to any income_tax return to which it is relevant alternatively taxpayers filing their returns electronically may satisfy this requirement by attaching a statement to their return that provides the date and control number of the letter_ruling sincerely william w burhop assistant branch chief branch office of the associate chief_counsel corporate cc


internal_revenue_service department of the treasury washington d c number release date index nos telephone number refer reply to cc fip plr-114860-00 date date person to contact legend trust company a company b year a b c d e f dear this ruling responds to a letter dated date as well as subsequent correspondence submitted on behalf of trust requesting several rulings under sec_301 sec_305 sec_561 sec_562 and sec_857 of the internal_revenue_code facts trust is a domestic_corporation that has elected to be taxed as a real_estate_investment_trust reit trust regularly distributes its earnings_and_profits as required under sec_857 of the code trust stock has been publicly traded since year trust owns a percent of the nonvoting and b percent of the voting_stock of two corporations company a and company b_trust company a and company b are all involved in the acquisition financing development management and leasing of real_estate properties plr-114860-00 trust intends to make a special dividend special dividend its shareholders may elect to receive it in cash stock or a combination of cash and stock specifically a shareholder may elect one of the following three options a b c c percent cash c percent trust common_stock or d percent cash the cash percentage and e percent trust common_stock trust may elect to use a different cash percentage but anticipates that the range will be f to d percent if a shareholder does not make an election trust has the right to make the distribution to the shareholder under option c the default election trust may change the default election to option a or option b shareholders who elect to receive stock will be allocated a number of shares with a value equal to the amount of cash the shareholder would have received if the shareholder had elected an all-cash distribution the cash allocation amount this allocation will occur on the valuation_date which is a few days prior to the distribution date because the value of a share of trust stock may change between the valuation_date and the distribution date the value of the stock actually distributed to the trust shareholders may not equal the cash allocation amount furthermore trust will limit the total amount of cash it will distribute to the shareholders to the cash percentage multiplied by the total value of the cash and trust common_stock to be distributed as a special dividend maximum cash distribution given this limitation an adjustment may be made to the amount of cash distributed to shareholders who elect option a if an adjustment is made then the class of shareholders who elect option a will receive cash equal to the maximum cash distribution less the amount of cash distributed to shareholders electing option c the option a cash in this case the option a cash will be distributed pro_rata to the shareholders electing option a with these shareholders receiving the balance of their dividend in trust common_stock law and analysis sec_857 of the code provides in part that the provisions of part ii of subchapter_m of chapter except sec_856 and sec_857 shall not apply to a reit for a tax_year unless the deduction for dividends_paid during the year as defined in sec_561 but determined without regard to capital plr-114860-00 gains dividends equals or exceeds percent of its real_estate_investment_trust_taxable_income sec_857 of the code provides that in determining real_estate_investment_trust_taxable_income the taxable_income of the reit will be adjusted by among other things the deduction for dividends_paid as defined in sec_561 computed without regard to that portion of such deduction that is attributable to the net_income_from_foreclosure_property sec_561 of the code provides in part that the deduction for dividends_paid shall be the sum of the dividends_paid during the taxable_year and the consent dividends for the taxable_year determined under sec_565 sec_1_561-2 of the income_tax regulations provides that a dividend will be considered paid when it is received by the shareholder sec_562 of the code provides that the term dividend shall except as otherwise provided in that section include only dividends described in sec_316 relating to the definition of dividends for purposes of corporate_distributions sec_562 of the code provides that the amount of any distribution shall not be considered as a dividend for purposes of computing the dividends_paid deduction unless such distribution is pro_rata with no preference to any share of stock as compared with other shares of the same class and with no preference to one class of stock as compared to another class except to the extent that the former is entitled without reference to waivers of their rights by shareholders to such preference sec_1_562-2 of the regulations provides in part that a corporation will not be entitled to a deduction for dividends_paid with respect to any distribution upon a class of stock if there is distributed to any shareholder of such class in proportion to the number of shares held by him more or less than his pro_rata part of the distribution as compared with the distribution made to any other shareholder of the same class nor will a corporation be entitled to a deduction for dividends_paid in the case of any distribution upon a class of stock if there is distributed upon such class of stock more or less than the amount to which it is entitled plr-114860-00 compared with any other class of stock a preference exists if any rights to preference inherent in any class of stock are violated the disallowance where any preference in fact exists extends to the entire amount of the distribution and not merely to a part of such distribution sec_301 of the code generally provides that a distribution_of_property made to a shareholder shall be treated in the manner provided in sec_301 sec_301 provides that in the case of a distribution to which sec_301 applies that portion of the distribution that is a dividend as defined in sec_316 shall be included in gross_income the term dividend is defined in sec_316 as any distribution_of_property made by a corporation to its shareholders out of current or accumulated_earnings_and_profits the term dividend used in sec_561 and sec_562 refers generally to dividends described in sec_316 revrul_64_292 1964_2_cb_182 holds that a nontaxable stock_dividend made by a reit does not qualify for the dividends_paid deduction under sec_857 because the dividend does not qualify as a distribution_of_property for purposes of sec_316 revrul_78_375 1978_2_cb_130 concerns the treatment of shareholders who participate in a dividend_reinvestment_plan drip that offers a dividend reinvestment component an optional purchase component the revenue_ruling provides that under either component a participant is treated as having a distribution to which sec_301 applies by reason of sec_305 revrul_83_117 1983_2_cb_98 concerns whether dividend distributions made by a reit would qualify for the dividends_paid deduction both situations considered by the revenue_ruling involve reits that established a drip under which shareholders may elect to have cash dividends on their common_stock that would otherwise be distributed to them reinvested in the reit’s common_stock under the first plan situation stock acquired by shareholders under the drip is priced pincite percent of its fair_market_value on the distribution date the percent discount approximates the costs that the reit would otherwise incur in issuing new shares under the second plan situation the stock is acquired at a price less than percent of its fair_market_value on the distribution date plr-114860-00 in situation revrul_83_117 holds that the reit is entitled to a dividends_paid deduction for the amount of any distribution made in either cash or discounted stock the plan treats the shareholders impartially by giving them an equal opportunity to reinvest moreover the plan’s discount is relatively small resulting in relatively minor differences in the amounts received by shareholders of the same class in situation of revrul_83_117 the plan’s discount is no longer relatively minor causing more than relatively minor differences in the amounts received by shareholders of the same class accordingly revrul_83_117 holds that the dividend in situation is preferential and the reit is not entitled to a dividends_paid deduction in trust’s case the special dividend is treated as a taxable_stock_dividend under sec_305 furthermore the special dividend does not involve preferential treatment with respect to shareholders choosing a particular option instead the number of shares distributed will have a value equal to the amount of cash that would otherwise be distributed and will be valued on a date as close to the distribution date as possible unlike the facts of revrul_83_117 there is no discount offered to shareholders that choose to take all or part of the special dividend in stock thus this reinvestment_right is within the minimal discount exception portrayed in situation of revrul_83_117 accordingly the special dividend will qualify for the dividends_paid deduction under sec_561 sec_562 and sec_857 provided trust has sufficient earnings_and_profits holding based upon the information submitted in the ruling_request we rule as follows a shareholder of trust who receives all or part of the special dividend in stock will be treated as having received a distribution to which sec_301 applies through the application of sec_305 and or b sec_1_305-3 see revrul_78_375 c b for purposes of sec_301 the amount of the distribution paid in stock will be equal to the value of the stock on the valuation_date rather than on the date of distribution sec_1_305-1 and sec_1_305-2 example plr-114860-00 we also rule that the special dividend will qualify for the dividends_paid deduction under sec_561 sec_562 and sec_857 provided trust has sufficient earnings_and_profits except as specifically ruled upon above no opinion is expressed or implied regarding the consequences of this transaction under any other provision of the code in particular no opinion is expressed whether trust qualifies as a reit under sec_856 of the code furthermore no opinion is expressed whether trust meets the percent voting_securities requirement of sec_856 through its interests in company a and company b this ruling is directed only to the taxpayer who requested it sec_6110 of the code provides that this ruling may not be used or cited as precedent sincerely yours acting associate chief_counsel financial institutions and products by alice m bennett chief branch enclosures copy of this letter copy for sec_6110 purposes


internal_revenue_service number release date index number 468a cc psi 6--plr-105956-00 date re revised schedule of ruling amounts taxpayer parent plant state director location commission a commission b law order dear this letter responds to the request dated and subsequent submissions for a revised schedule of ruling amounts in accordance with sec_1_468a-3 of the income_tax regulations taxpayer is seeking this revised schedule of ruling amounts because a commission having regulatory plr-105956-00 authority over taxpayer has changed the date on which the plant will no longer be in rate base for ratemaking purposes taxpayer was previously granted revised schedules of ruling amounts on information was submitted pursuant to sec_1_468a-3 we understand the facts as presented by taxpayer to be as follows taxpayer is an investor-owned public_utility company engaged in providing electricity to customers within state taxpayer is a wholly-owned subsidiary of parent taxpayer is subject_to the audit jurisdiction of the district taxpayer owns percent of the plant which is located in location the plant began commercial operations in and its operating license is scheduled to expire at midnight on taxpayer is subject_to the ratemaking jurisdiction of commission a and commission b the portion of taxpayer’s sales within the jurisdiction of commission a and commission b is percent respectively because the commission b jurisdictional percentage is so small rates charged to wholesale customers are generally negotiated with the customer and subsequently submitted to commission b for acceptance taxpayer’s request results from the determinations made by commission a in order which removes the plant from taxpayer’s rate base as of taxpayer represents that pursuant to law nuclear decommissioning costs are collected from its customers through a nonbypassable nuclear decommissioning charge that will continue until the time that the costs are fully recovered notwithstanding the removal of plant from rate base as approved by commission a in order the total estimated cost of decommissioning the plant is dollar_figure using an assumed inflation rate of percent the total estimated future cost of decommissioning the plant is dollar_figure the annual amount of decommissioning costs to be included in taxpayer's cost of service is dollar_figure through calculated by using a variable assumed rate of return taxpayer represents that certain figures presented in the text of order are subject_to administrative error and that taxpayer has filed a petition to amend those figures taxpayer further represents that commission a nonetheless relied on the plr-105956-00 correct figures in calculating the amount of decommissioning costs included in cost of service for ratemaking purposes the funding_period extends from however because the date that the plant will no longer be in rate base has been changed to the level_funding limitation period extends from the estimated period for which the fund will be in effect extends from and the estimated_useful_life of the plant extends from thus taxpayer has calculated its qualifying percentage to be percent at the present time there are no proceedings pending before commission a or commission b that would increase or decrease the amount of decommissioning costs to be included in taxpayer’s cost of service for ratemaking purposes sec_468a of the code provides that a taxpayer may elect to deduct for any taxable_year the amount of payments made by taxpayer to a qualified decommissioning fund during the taxable_year pursuant to sec_1_468a-1 of the regulations this deduction is available only to an eligible_taxpayer an eligible_taxpayer as defined in sec_1_468a-1 is any taxpayer that has a qualifying interest in a nuclear power plant sec_1_468a-1 of the regulations defines the term qualifying interest as among other things a direct ownership_interest a direct ownership_interest includes an interest held as a tenant in common or joint tenant but does not include stock in a corporation that owns a nuclear power plant or an interest in a partnership that owns a nuclear power plant under sec_468a of the code the amount that a taxpayer may pay into a nuclear decommissioning fund for any taxable_year is limited to the lesser_of the amount of nuclear decommissioning costs allocable to the nuclear decommissioning fund that is included in taxpayer’s cost of service for ratemaking purposes for the taxable_year or the ruling_amount applicable to the nuclear decommissioning fund for the taxable_year sec_1_468a-1 of the regulations defines the term nuclear decommissioning costs or decommissioning costs as all otherwise deductible expenses to be incurred in connection with the entombment decontamination dismantlement removal and plr-105956-00 disposal of the structures systems and components of a nuclear power plant that has permanently ceased the production of electric energy this term includes all otherwise deductible expenses to be incurred in connection with the preparation for decommissioning such as engineering and other planning expenses and all otherwise deductible expenses to be incurred with respect to the plant after the actual decommissioning occurs such as physical security and radiation monitoring expenses sec_468a of the code provides that no deduction shall be allowed for any payment to a nuclear decommissioning fund unless taxpayer requests and receives from the secretary a schedule of ruling amounts sec_468a of the code defines the term ruling_amount as the amount that the secretary determines to be necessary to fund a portion of the decommissioning costs this amount is that portion which bears the same ratio to the total nuclear decommissioning costs for the nuclear power plant as the period for which a nuclear decommissioning fund is in effect bears to the estimated_useful_life of the nuclear power plant the ruling_amount is further restricted under sec_468a to the amount necessary to prevent any excessive funding of decommissioning costs or the funding of these costs at a rate more rapid than level_funding taking into account the discount rates as the secretary deems appropriate sec_1_468a-3 of the regulations requires the schedule of ruling amounts for a nuclear decommissioning fund to specify the annual payments that over the taxable years remaining in the funding_period will result in a projected balance of the nuclear decommissioning fund as of the last day of the funding_period equal to and in no event greater than the amount of decommissioning costs allocable to the nuclear decommissioning fund the projected fund balance is calculated by taking into account the fair_market_value of fund assets as of the first taxable_year to which the schedule of ruling amounts applies and the estimated rate of return to be earned by the fund assets after payment of administrative costs and incidental_expenses to be incurred by the fund including all federal state_and_local_income_taxes to be incurred by the fund the after-tax rate of return sec_1_468a-3 of the regulations provides that to the extent consistent with the principles and provisions of sec_1_468a-3 each schedule of ruling amounts shall be based on the reasonable assumptions and determinations used by the plr-105956-00 applicable public_utility commission in establishing or approving the amount of decommissioning costs to be included in cost of service for ratemaking purposes taking into account amounts that are otherwise required to be included in taxpayer’s income under sec_88 of the code and the regulations thereunder thus for example each schedule of ruling amounts shall be based on the public_utility commission’s reasonable assumptions concerning i the after-tax rate of return to be earned by the amounts collected for decommissioning ii the total estimated cost of decommissioning the nuclear power plant and iii the frequency of contributions to a nuclear decommissioning fund for a taxable_year under sec_1_468a-3 of the regulations the service shall provide a schedule of ruling amounts that is identical to the schedule proposed by taxpayer but no schedule of ruling amounts shall be provided unless taxpayer’s proposed schedule is consistent with the principles and provisions of sec_1_468a-3 sec_1_468a-3 of the regulations provides that the ruling_amount specified in a schedule of ruling amounts for any taxable_year in the level_funding limitation period shall not be less than the ruling_amount specified in the schedule for any earlier taxable_year the amount of decommissioning costs allocable to a nuclear decommissioning fund is determined under sec_1_468a-3 of the regulations pursuant to sec_1_468a-3 this amount is taxpayer’s share of the total estimated cost of decommissioning the nuclear power plant multiplied by the qualifying percentage sec_1_468a-3 of the regulations provides that taxpayer’s share of the total estimated cost of decommissioning a nuclear power plant equals the total estimated cost of decommissioning the plant multiplied by taxpayer’s qualifying interest in the plant the term qualifying percentage is defined in sec_1_468a-3 of the regulations this regulation provides that the qualifying percentage for any nuclear decommissioning fund is a fraction the numerator of which is the number of taxable years in the estimated period for which the fund is to be in effect and the denominator of which is the number of taxable years in the estimated_useful_life of the nuclear power plant plr-105956-00 sec_1_468a-3 of the regulations provides that the estimated period for which a nuclear decommissioning fund is to be in effect begins on the later of the first day of the first taxable_year for which a deductible payment is made to the nuclear decommissioning fund or the first day of the taxable_year that includes the date that the nuclear power plant begins commercial operations this estimated period ends on the last day of the taxable_year that includes the estimated date on which the nuclear power plant will no longer be included in taxpayer’s rate base for ratemaking purposes as determined by the applicable public_utility commission at the time the plant was first included in taxpayer’s rate base sec_1_468a-3 of the regulations provides that the estimated_useful_life of the nuclear power plant begins on the first day of the taxable_year that includes the date that the nuclear power plant begins commercial operations and ends on the last day of the taxable_year that includes the estimated date on which the nuclear power plant will no longer be included in taxpayer’s rate base for ratemaking purposes as determined by the applicable public_utility commission at the time the plant was first included in taxpayer’s rate base sec_1_468a-3 of the regulations provides that the service shall not provide a taxpayer with a schedule of ruling amounts for any nuclear decommissioning fund unless the public_utility commission that establishes or approves rates for electric energy generated by a nuclear power plant to which the nuclear decommissioning fund relates has determined the amount of decommissioning costs to be included in taxpayer’s cost of service for ratemaking purposes and has disclosed the after-tax rate of return and any other assumptions and determinations used in establishing or approving the amount if rates are established or approved by two or more public_utility commissions the special rules in sec_1_468a-3 of the regulations apply sec_1_468a-3 and require that a schedule of ruling amounts shall be separately determined for each public_utility commission and this separate determination shall take into account only the portion of the total estimated decommissioning cost that is properly allocated to the ratepayers whose rates are established or approved by the public_utility commission in addition sec_1_468a-3 and provide that the schedule of ruling amounts for any taxable_year is the sum of ruling amounts for the taxable_year determined under the separate schedules of ruling amounts plr-105956-00 sec_1_468a-3 of the regulations requires a taxpayer to request a revised schedule of ruling amounts for a nuclear decommissioning fund if a any public_utility commission that establishes or approves rates for the furnishing or sale of electric energy generated by the nuclear power plant to which the fund relates increases the proposed period over which the decommissioning costs will be included in cost of service for ratemaking purposes adjusts the estimated date on which the nuclear power plant will no longer be included in rate base for ratemaking purposes or reduces the amount of decommissioning costs to be included in cost of service for ratemaking purposes for any taxable_year and b taxpayer’s most recent request for a schedule of ruling amounts did not provide notice to the service of the action by the public_utility commission under sec_1_468a-7 of the regulations an eligible_taxpayer generally is allowed a deduction for the taxable_year in which taxpayer makes a cash payment or is deemed to make a cash payment to a nuclear decommissioning fund only if taxpayer elects the application of sec_468a of the code a separate election is required for each nuclear decommissioning fund and for each taxable_year for which payments are to be deducted under sec_468a in the case of an affiliated_group_of_corporations that join in filing a consolidated_return for a taxable_year the common parent must make a separate election on behalf of each member whose payments to a nuclear decommissioning fund during each taxable_year are to be deducted under sec_468a the election under sec_468a for any taxable_year is irrevocable and must be made by attaching a statement election statement and a copy of the schedule of ruling amounts provided pursuant to the rules of sec_1_468a-3 to taxpayer’s federal_income_tax return or in the case of an affiliated_group_of_corporations that join in filing a consolidated_return the consolidated_return for such taxable_year the return to which the election statement and a copy of the schedule of ruling amounts is attached must be filed on or before the time prescribed by law including extensions for filing the return for the taxable_year for which payments are to be deducted under sec_468a we have examined the representations submitted by taxpayer based solely upon these representations we reach the following conclusions plr-105956-00 taxpayer has a qualifying interest in the plant and therefore is an eligible_taxpayer under sec_1_468a-1 and of the regulations commissions a and b have authorized decommissioning costs to be included in taxpayer’s cost of service for ratemaking purposes as required by sec_1_468a-3 of the regulations as required by sec_1_468a-3 of the regulations taxpayer subject_to the jurisdiction of two public_utility commissions for ratemaking purposes has calculated its share of the total estimated cost of decommissioning the plant allocable to the ratepayers whose rates are established by commissions a and b taxpayer has calculated its qualifying percentage under sec_1_468a-3 of the regulations to be percent taxpayer has proposed a schedule of ruling amounts that meets the requirements of sec_1 468a- a and of the regulations the annual payments specified in the proposed schedule are based on the reasonable assumptions and determinations used by commission a and will result in a projected fund balance at the end of the funding_period that is equal to or less than the amount of decommissioning costs allocable to the fund taxpayer’s proposed schedule of ruling amounts complies with the level_funding requirements of sec_1_468a-3 of the regulations no payment specified in the proposed schedule for any taxable_year is less than the specified_payment for any earlier taxable_year pursuant to sec_468a of the code the maximum amount of cash payments made or deemed made to the fund during any taxable_year is restricted to the lesser amount of the decommissioning costs included in taxpayer’s cost of service for the taxable_year or the ruling_amount applicable to the fund for the taxable_year plr-105956-00 based on the above determinations we conclude that taxpayer’s proposed schedule of ruling amounts satisfies the requirements of sec_468a of the code and the regulations thereunder therefore the schedule of ruling amounts requested by taxpayer under the provisions of sec_468a is approved as follows approved schedule of ruling amounts year commission a commission b total approval of the schedule of ruling amounts is contingent on there being no change in the facts and circumstances known or assumed at the time the current ruling is issued if any of the events described in sec_1_468a-3 of the regulations occur in future years the taxpayer must request a review and revision of the schedule of ruling amounts generally the taxpayer is required to file such a request on or before the deemed payment deadline date for the first tax_year in which the rates reflecting such action became effective when no such event occurs the taxpayer must file a request for a revised schedule of ruling amounts on or before the deemed payment deadline of the 10th tax_year following the close of the tax_year in which the most recent schedule of ruling amounts was received the approved schedule of ruling amounts is relevant only to those payments made to the fund payments allocable to any funds other than the fund cannot qualify for purposes of the deduction under the provisions of sec_468a of the code payments made to such fund can qualify only to the extent they are made while taxpayer is the owner of the plant and only to the extent that they do not exceed the lesser_of the decommissioning costs applicable to such fund or the ruling amounts applicable to this fund in the tax_year this ruling is directed only to the taxpayer who requested it section 6ll0 k of the code provides it may not be used plr-105956-00 or cited as precedent in accordance with the power_of_attorney on file with this office a copy of this letter is being sent to the taxpayer’s senior vice president pursuant to sec_1_468a-7 of the regulations a copy of this letter must be attached with the required election statement to the taxpayer's federal_income_tax return for each tax_year in which the taxpayer claims a deduction for payments made to the fund sincerely yours peter c friedman peter c friedman office of associate chief_counsel passthroughs and special industries senior technician reviewer branch


office_of_chief_counsel internal_revenue_service memorandum number release date cc pa apjp postn-160621-03 uilc date date to associate area_counsel -------------------------- ----------------------------------------------------------------------------------------------------------------- from william a heard acting senior technician reviewer branch apjp cc pa apjp subject applicability of tefra partnership provisions to sec_501 religious and apostolic organizations this chief_counsel_advice responds to your memorandum dated date in accordance with sec_6110 this advice may not be used or cited as precedent legend ------- ---------------------------------------- ---------------------------------------- community community parent_corporation -------------------------------------- year a date state state issue ------------------ -------------- ------------- postn-160621-03 on the facts described do the unified partnership audit and litigation procedures of sec_6221 through of the internal_revenue_code tefra apply to the present sec_501 apostolic organization conclusion no facts the service has recognized communitie sec_1 and and their parent holding_company collectively the organization or the d organization as tax-exempt apostolic organizations under sec_501 of the internal_revenue_code community and community are incorporated communal groups parent_corporation is a corporate holding_company for the two communities for tax_year a parent_corporation filed form_1065 with communitie sec_1 and listed on schedule k on the return it stamped the following parent_corporation is tax exempt under sec_501 as per letter dated date from tax rulings division ruling requires filing on form_1065 although the entity is not a partnership law and analysis sec_501 exempts religious and apostolic associations or corporations from taxation if they meet certain requirements described in sec_501 under sec_501 the associations and corporations must have a common treasury or community treasury even if they engage in business for the common benefit of their members the members must include in their gross_income their entire pro_rata shares whether distributed or not of the taxable_income of the association or corporation for the year any amount included in the gross_income of a member is to be treated as a dividend received sec_1_501_d_-1 under sec_1_6033-2 and the filing instructions for form_1065 d organizations must file returns on form_1065 u s return of partnership income sec_6231 defines a partnership for purposes of the unified_audit and litigation procedures of sec_6221 - tefra as any partnership required to file a return under sec_6031 under sec_6031 every partnership as defined under sec_761 must file a partnership return sec_761 defines the term partnership as a syndicate group pool joint_venture or other unincorporated organization through or by means of which any business financial operation or venture is carried on and which is not a corporation trust or estate under sec_301_7701-2 the term corporation means a business_entity organized under a federal or state statute generally sec_6233 applies the tefra partnership provisions to any taxable_year for which an entity files a partnership return even if it is ultimately determined that the postn-160621-03 entity is not a partnership for such year sec_301_6233-1 see 331_f3d_972 d c cir 88_tc_1405 91_tc_242 in the present case the d organization does not meet the definition of a partnership subject_to the tefra partnership provisions community and community are corporations under the laws of state and state respectively parent is a corporate holding_company consequently parent_corporation and its subsidiary communitie sec_1 and are not partnerships in the absence of sec_501 the income of a religious corporation would be subject_to corporate_income_tax under subchapter_c of the code see 87_tc_1233 sec_501 treats the amount includable in the gross_income of the members of a d organization as a dividend received rather than as a partnership_distribution under subchapter_k additionally the d organization’s mere filing of form_1065 does not turn it into a partnership see 707_f2d_1024 9th cir 262_fsupp_405 - w d mich aff’d 397_f2d_809 6th cir nor may it elect or default into a partnership sec_301_7701-3 finally the requirement that the organization file form_1065 derives from sec_6033 regarding returns by exempt_organizations not sec_6031 regarding partnership returns see sec_1_501_d_-1 and sec_1_6033-2 since the organization is a corporation cannot elect partnership status and is not required to file a partnership return under sec_6031 it does not qualify as a partnership within the meaning of sec_6231 nor did the organization file a partnership return making the tefra provisions applicable under sec_6233 the organization stamped the following on its form_1065 parent_corporation is tax exempt under sec_501 as per letter dated date from tax rulings division ruling requires filing on form_1065 although the entity is not a partnership the organization has clearly identified itself on form_1065 as a d entity and not a partnership since the d organization did not purport to file the form_1065 as a partnership sec_6233 does not make the tefra provisions apply the foregoing conclusion is limited to d organizations no comment is offered regarding non-501 d entities case development hazards and other considerations --------------------------------------------------------------------------------------------------------------------- --------------------------------------------------------------------------------------------------------------------- --------------------------------------------------------------------------------------------------------------------- --------------------------------------------------------------------------------------------------------------------- however a different set of facts could lead to the opposite result under sec_6233 if for example a d apostolic organization filed a form_1065 that failed to identify it sec_501 tax-exempt non- partnership status in other words the tefra partnership provisions could apply to the taxable_year of a sec_501 organization that filed a form_1065 that did not adequately identify itself as a d organization postn-160621-03 --------------------------------------------------------------------------------------------------------------------- --------------------------------------------------------------------------------------------------------------------- --------------------------------------------------- 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