department of the treasury internal_revenue_service washington d c number release date uilc 263a 1059a 1059a internal_revenue_service national_office field_service_advice date date memorandum for associate district_counsel kansas-missouri district from subject steven a musher chief branch this field_service_advice responds to your memorandum dated date field_service_advice is not binding on examination or appeals and is not a final case determination this document is not to be used or cited as precedent legend a b c d e f g h i city corporation a corporation b corporation c country date a date b date c date d date e date f date g date h date i date j date k date l individual process product a products b product c state trademark year a year b issues whether for customs purposes royalties or license fees paid_by a u s importer to a foreign related_party were properly taken into account in the dutiable value of the imported merchandise as elements of the price actually paid or payable for the merchandise when sold for exportation to the united_states pursuant to u s c sec_1401a b and b a or alternatively as proceeds of resale that accrue d directly or indirectly to the seller pursuant to u s c sec_1401a b e whether for customs purposes the royalties or license fees were properly taken into account in the dutiable value of the imported merchandise although they were paid to the corporate parent_corporation b rather than to the actual seller of the merchandise corporation c whether the dutiable value for purposes of sec_1059a was increased by reason of the importer’s prior disclosure and voluntary tender of customs duties pursuant to u s c c on the royalties or license fees which had not been taken into account by customs at liquidation whether for federal_income_tax purposes the taxpayer was required to take into account the royalties or license fees as capitalized costs pursuant to sec_263a rather than deducting them currently as selling_expenses conclusion sec_1 yes for customs purposes the royalties or license fees were properly taken into account in the dutiable value of the imported merchandise either as elements of the price actually paid or payable for the merchandise when sold for exportation to the united_states pursuant to u s c sec_1401a b and b a or alternatively as proceeds of resale that accrue d directly or indirectly to the seller pursuant to u s c sec_1401a b e yes for customs purposes the amounts were properly taken into account in dutiable value pursuant to u s c sec_1401a b and a or alternatively pursuant to u s c sec_1401a b e although they were paid to a party related to the seller rather than to the actual seller no because liquidations of the underlying entries had become final before the importer made a voluntary tender of duties with respect to the royalties or license fees the u s customs service had finally determined the dutiable value of the imported merchandise for purposes of sec_1059a and the regulations thereunder the importer’s post-liquidation voluntary tender did not increase the dutiable value from that determined upon liquidation yes in our view the expenses in question were required to be capitalized in the inventory basis of the imported merchandise pursuant to sec_263a facts corporation a is a domestic_corporation with headquarters in city state corporation a’s operations involve the importation resale installation repair maintenance and upgrading of product a product a is used in process to form articles such as products b the years at issue in this case are years a and b the shares of corporation a are held a by individual a u s national and b by corporation b a corporation organized pursuant to the laws of country corporation c another corporation organized pursuant to the laws of country is a wholly-owned subsidiary of corporation b corporation c manufactures product a including product c and sells it to corporation a for resale to unrelated customers in the united_states_corporation c sold the merchandise to corporation a which paid u s customs duty thereon on the basis of the amount on the commercial invoices from corporation c for these purposes the value reported by the taxpayer did not take into account the royalties or license fees which were separately paid to corporation b corporation a claimed these amounts as current- period deductions for income_tax purposes some years earlier on date a corporation a entered into an agreement with corporation b the agreement which gave corporation a the right to sell and service trademark products a in perpetuity in the united_states provided as follows corporation b agrees to license to corporation a the right to sell a full line of its goods in adequate quantities including but not limited to replacement products c and replacement parts corporation a and corporation b agree that this license contract shall be perpetual corporation b and corporation a agree that corporation b shall be paid c as a license fee on sales by corporation a from date b through date c and d license fee on sales by corporation a after date d corporation b and corporation a agree that this agreement contains the entire agreement between the parties although the parties apparently intended that corporation a would become the exclusive u s distributor of trademark products a this relationship was not formalized in a written document upon examination of years a and b the service determined that the royalties or license fees should have been taken into account in the dutiable value of the imported merchandise on date e the service issued an information_document_request idr advising corporation a that the royalties or license fees might be dutiable for customs purposes and notifying corporation a that if in fact the amounts were dutiable sec_1059a might preclude deduction of the amounts for income_tax purposes on the grounds that they had not been taken into account in the dutiable value of the merchandise at the time of liquidation approximately seven months later on date f the service issued a notice of proposed_adjustment form reflecting its intent to deny the claimed deduction for royalties or license fees approximately two weeks after date f in a date g letter to the u s customs service customs counsel for corporation a gave notice of a potential violation of u s c this letter informed customs that the corporation a had failed to declare the royalties or license fees as part of the dutiable value of the imported merchandise subsequently on date h corporation a made a voluntary tender of duties pursuant to u s c c consisting of the lawful duties payable on the royalties or license fees the same document contained a formal prior disclosure of a violation that might warrant penalties pursuant to u s c a counsel for corporation a represented that t he circumstances which warrant corporation a’s prior disclosure result from the importer’s inexperience and an oversight and were not the result of intentional acts the prior disclosure and voluntary tender pertained to substantially_all of corporation a’ s importations from corporation c during the period from date i through date j which included years a and b the voluntary tender was based on an entry-by-entry calculation of duties owed at the rates applicable to specific imported items pursuant to the harmonized tariff schedules of the united_states htsus see u s c sec_1202 in the aggregate for customs entries from date i through date j corporation a tendered additional duties of dollar_figuree reflecting the duties owed on an entry-by-entry basis on the previously-unreported royalties or license fees of dollar_figuref the royalty amounts reported to customs corresponded to the royalty or license fee amounts in accordance with the date a agreement quoted above claimed as deductions on corporation a’s tax returns for years a and b respectively ie dollar_figureg for year a and dollar_figureh for year b adopting the same position as in the notice of proposed_adjustment the service denied corporation a’s claimed deductions from taxable_income of the royalties or license fees a statutory_notice_of_deficiency to this effect was issued on date k reflecting a total increase to taxable_income of dollar_figureg plus dollar_figureh or dollar_figurei for years a and b the service’s rationale was as follows because the royalties or license fees constituted dutiable amounts that the importer incorrectly failed to take into account in dutiable value and because these amounts were properly taken into account in the basis of inventory for income_tax purposes they could not be deducted from taxable_income by operation of the sec_1059a limitation corporation a’s initial disclosure to customs on date g and its formal prior disclosure on date h both took place after the service had advised corporation a of the potential issue with respect to royalties or license fees in date l law and analysis general background sec_1059a limitation on inventory basis of merchandise imported from related_party sec_1059a of the code which was added by the tax_reform_act_of_1986 provides in pertinent part as follows limitation on taxpayer’s basis or inventory cost in property imported from related_persons the imported merchandise was subject_to duty on an ad valorem ie value basis at distinct rates of duty applicable to individual htsus items sec_1059a applies only to merchandise imported from a related_party that is dutiable on a value basis a in general -if any property is imported into the united_states in a transaction directly or indirectly between related_persons within the meaning of sec_482 the amount of any costs- which are taken into account in computing the basis or inventory cost of such property by the purchaser and which are also taken into account in computing the customs_value of such property shall not for purposes of computing such basis or inventory cost for purposes of this chapter be greater than the amount of such costs taken into account in computing such customs_value b customs_value import -for purposes of this section- customs_value -the term customs_value means the value taken into account for purposes of determining the amount of any customs duties or any other duties which may be imposed on the importation of any property sec_1059a emphasis added prior to the courts held that imported value for customs purposes and value for income_tax purposes need not be equivalent e g 66_tc_373 aff’d 598_f2d_1375 5th cir importers could claim a transfer price for income_tax purposes that was higher than would be consistent with the transfer price claimed for customs purposes the provision codified as sec_1059a was enacted to overrule brittingham see s rep no 99th cong 2d sess see also conference_report h_r rep no 99th cong 2d sess ii-656 although congress recognized that customs_value and inventory value might not be equivalent in all cases it imposed a ceiling on the inventory basis for income_tax customs_value is determined under u s c sec_1401a which was enacted by the trade agreements act of pub_l_no 93_stat_144 in order to conform u s law with the agreement on implementation of article vii of the general agreement on tariffs and trade commonly referred to as the customs valuation code see generally s rep no 96th cong 1st sess the value of merchandise imported from a controlled party for federal_income_tax purposes equal to the dutiable value congress was concerned only with establishing a limit on the price an importer could claim for income_tax purposes staff of the joint_committee on taxation general explanation of the tax_reform_act_of_1986 pincite emphasis added hereinafter general explanation sec_1059a provides that subject_to certain exceptions not relevant here the value of merchandise imported from a related_party as that value is taken into account for federal_income_tax purposes ie as inventory or cost_of_goods_sold may not be higher than the dutiable value taken into account by customs which formed the basis for liquidation ie assessment of customs duties on individual customs entries congress intended to prevent the whipsaw that could result where related-party importers were permitted to claim inconsistent values for tax and customs purposes such practices between commonly-controlled entities could improperly avoid u s tax or customs duties general explanation pincite see also cong rec s7922 daily ed date statement of sen dixon there can be no question but that such abuses have occurred in the past the treasury regulations state that in computing the liquidated-value limitation under sec_1059a hereinafter the sec_1059a limitation certain adjustments to customs_value are appropriate specifically customs_value may be increased by inter alia iv any other_amounts which are not taken into account in deter- mining the customs_value which are not properly includible in customs_value and which are appropriately included in the cost_basis or inventory cost for income_tax purposes see sec_1_471-11 and sec_263a sec_1_1059a-1 thus for purposes of sec_1059a customs_value may be increased on account of expenses eg freight insurance etc that are properly excluded therefrom provided that such expenses are required to be taken into account in cost_of_goods_sold or inventory as appropriate for income_tax purposes in practice this provision prevents sec_1059a from applying in cases where the inventory value of merchandise for income_tax purposes is greater than the entered value for customs purposes on account of bona_fide differences between income_tax accounting principles and customs valuation rules issue sec_1 and appropriate treatment of royalties or license fees for customs purposes purposes must conform to the arm’s length standard of sec_482 and also must be taken into account in inventory or cost_of_goods_sold as appropriate on the basis of proper income_tax accounting principles in order to determine whether sec_1059a applies in this case we must first determine whether corporation a correctly declined to take the royalties or license fees into account in entered value for customs purposes sec_402 of the tariff act of as amended u s c sec_1401a provides rules for valuation of merchandise for purposes of determining the customs duty payable one authorized method of determining dutiable value is by reference to transaction value which is defined as follows t he price actually paid or payable for the merchandise when sold for exportation to the united_states plus amounts equal to- a the packing costs incurred by the buyer with respect to the imported merchandise b any selling commission incurred by the buyer with respect to the imported merchandise c the value apportioned as appropriate of any assist d any royalty or license fee related to the imported merchandise that the buyer is required to pay directly or indirectly as a condition of the sale of the imported merchandise for exportation to the united_states e the proceeds of any subsequent resale disposal or use of the imported merchandise that accrue directly or indirectly to the seller u s c sec_1401a b emphasis added for purposes of this subsection the term price actually paid or payable is defined as t he total_payment whether direct or indirect and exclusive of any costs charges or expenses_incurred for transportation insurance and related_services incident to the international shipment of the merchandise from the country of exportation to the place of importation in the united_states made or to be made for imported merchandise by the buyer to or for the benefit of the seller u s c sec_1401a b a emphasis added three judicial decisions have interpreted the term price actually paid or payable in 905_f2d_377 fed cir the u s court_of_appeals_for_the_federal_circuit considered whether certain import quota charges paid to the seller on behalf of the buyer were part of the price actually paid or payable for imported merchandise reversing the u s court of international trade the court_of_appeals held that as long as the quota payments are made to the seller in exchange for merchandise sold for export to the united_states the payment properly may be included in transaction value even if the payment represents something other than the per se value of the goods generra f 2d pincite the court also held that customs was not required to perform extensive fact-finding to determine whether separate payments all of which accrued to the seller in connection with the purchase of imported merchandise were paid for the merchandise itself or for some other purpose id citing 896_f2d_535 fed cir in chrysler corp v united_states cit the court of international trade applied generra and determined that although tooling expenses paid_by the buyer were part of the price actually paid or payable certain shortfall and special application fees paid_by the buyer to the seller were not with respect to fees in these latter categories the evidence indicated that they were independent and unrelated costs which were assessed because the buyer failed to purchase certain other unrelated products from the seller as such they did not relate to the prices charged for the imported merchandise automobile engines recently in tikal distributing corp v united_states slip op ct int’l trade_date certain payments by an importer buyer to an exporter seller made pursuant to a written exclusive distributorship agreement were held to be dutiable as elements of the price actually paid or payable for the imported merchandise the court viewed these additional payments for exclusive distribution rights as integral components of the consideration paid under the transaction-value approach in effect the court found that the exclusive rights and the payments in connection therewith constituted terms and conditions of the pre-existing distributorship arrangement based on the foregoing precedents and the plain language of u s c sec_1401a b and b a customs applies a rebuttable_presumption that all payments by a buyer to a seller constitute part of the price actually paid or payable for the imported merchandise only evidence indicating that the particular payments are unrelated to the imported merchandise see eg chrysler is sufficient to rebut this presumption customs applies this presumption to all categories of payments to the seller including royalties and license fees in addition customs applies the generra standard regardless of whether the payments are made directly to the seller or to an intermediate party related to the seller in at least one non-binding advisory ruling customs noted that this approach is consistent with the statutory definition of price actually paid or payable as including indirect payments and payments made for the benefit of the seller see customs headquarters ruling date turning to the present case the royalties or license fees should have been taken into account in the price actually paid or payable pursuant to u s c sec_1401a b and b a because they were made by the buyer to corporation b a party related to the seller corporation c and were related to the sales of products a and c per the license agreement absent evidence showing that the payments were unrelated to the imported merchandise or that they did not accrue directly or indirectly to the seller or provide any benefit to the seller customs would treat such payments as part of the price actually paid or payable under the same analysis the royalties or licensing fees may also in addition or in the alternative be considered to be proceeds of a subsequent resale of the imported merchandise pursuant to u s c sec_1401a b e the fact that these payments were made to corporation b the corporate parent rather than corporation c the actual seller is immaterial for these purposes subsections b and b a encompass the total_payment whether direct or indirect for the benefit of the seller and subsection b e encompasses payments that accrue directly or indirectly to the seller customs’ practice is generally to treat all proceeds of a subsequent resale that accrue to a related_party of the seller as for the benefit of or accruing indirectly to the seller pursuant to either subsections b and b a or subsection b e therefore the royalties or licensing fees should have been taken into account in the dutiable value of the imported merchandise thus the customs values declared by corporation a at the time of entry which formed the basis for liquidation were erroneous corporation a contends that the payments were not royalties or license fees but rather were made in exchange for consulting services research_and_development intangible-exploitation rights and market-support provided by corporation b these claims conflict with the written_agreement between the parties that agreement indicates that the payments were for marketing rights ie rights similar to those in tikal thus the payments are properly included in the transaction value of the merchandise as part of the price actually paid or payable compare eg 417_us_134 and 99_tc_561 imposing a heightened standard of proof on a taxpayer when it attempts to disavow the form of its transaction because the amounts are subject_to u s c sec_1401a b and b a or 1401a b e we do not need to reach whether they may also be properly taken into account in transaction value as royalties or license fees pursuant to u s c sec_1401a b d further facts would be necessary for that determination corporation a also contends that the royalties or license fees were paid in connection with total u s sales as opposed to sales of products a and c imported from corporation c if the facts indicate corporation a’s u s sales of products other than product a and product c were substantial then payment of royalties or license fees based on total sales might indicate that these expenses were at least in part not properly taken into account in transaction value under the precedents described above however the importer bears the burden of rebutting the presumption that the payments were directly linked to resales of the imported merchandise in this case given the agreement between the parties that burden is substantial finally we note that corporation a explicitly admitted in its prior disclosure to customs pursuant to u s c c that it had erroneously excluded the royalties or license fees from the entered value of the merchandise which in turn constituted the liquidated value corporation a should not now be able to argue contrary to its prior disclosure to customs that these same expenses were in fact not properly taken into account in the dutiable value of the imported merchandise see also national alfalfa and estate of durkin supra issue customs_value for purposes of sec_1059a it is also necessary to determine the point at which the customs_value of the imported merchandise was finally determined as that term is defined by sec_1_1059a-1 and customs law the treasury regulations define a final_determination of value by customs as follows d finality of customs_value and of other determinations of the u s customs service for purposes of sec_1059a and this section a taxpayer is bound by the finally-determined customs_value and by every final_determination made by the u s customs service including but not limited to dutiable value the value attributable to the cost or value of products of the united_states and classification of the product for purposes of imposing any duty the customs_value is considered to be finally determined and all u s customs service determinations are considered final when liquidation of the entry becomes final for this purpose the term liquidation means the ascertainment of the customs duties occurring on the entry of the property and liquidation is considered to become final after days following notice of liquidation to the importer unless a protest is filed if the importer files a protest the customs_value will be considered finally determined and all other u s customs service determinations will be considered final either when a decision by the customs service on the protest is not contested after expiration of the period allowed to contest the determination or when a judgment of the court of international trade becomes final for purposes of this section any adjustments to the customs_value resulting from a petition under u s c section requests by interested parties unrelated to the importer for redetermination of the appraised value classification or the rate of duty imposed on imported merchandise or reliquidation under u s c section reliquidation by the customs service upon a finding that fraud was involved in the original liquidation will not be taken into account however reliquidation under u s c sec_1501 voluntary relquidation by the customs service within days of the original liquidation to correct errors in appraisement classification or any element entering into a liquidation or reliquidation or reliquidation under u s c section c to correct a clerical_error mistake of fact or other inadvertence within one year of a liquidation or reliquidation will be taken into account in the same manner as and take the place of the original liquidation in determining customs_value sec_1_1059a-1 emphasis added the treasury regulation accords substantial weight to the event of liquidation which is a term of art under customs law liquidation refers to the process by which the declared value and duty assessment become final see u s c sec_1504 liquidation occurs automatically one year after an entry unless the entry is held open by customs see u s c sec_1504 172_f3d_1319 n fed cir see also u s c appraisement classification and liquidation procedures thus the regulation specifies three post-liquidation events potentially bearing upon appraised or liquidated value that may give rise to a change in the liquidated value for purposes of sec_1059a a final judgment of the court of international trade overturning customs’ denial of a customs protest with respect to valuation see u s c sec_1503 or reliquidation pursuant to u s c sec_1501 voluntary reliquidation within days of the liquidation to correct errors in the liquidation or reliquidation pursuant to u s c c reliquidation within one year of liquidation to correct an error mistake of fact or other inadvertence the regulation similarly specifies two post-liquidation events potentially bearing upon appraised or liquidated value that do not give rise to a change in liquidated value for purposes of sec_1059a cid cid cid adjustments resulting from a petition by parties unrelated to the importer for redetermination of the value classification or other element of a liquidation ie domestic interested_party petition u s c or reliquidation upon a finding that fraud was involved in the original liquidation u s c see sec_1_1059a-1 the regulation therefore comprehensively and systematically prescribes whether relevant provisions of customs law potentially bearing upon appraised or liquidated value may or may not give rise to a change in the liquidated value for purposes of sec_1059a by contrast as will be discussed below voluntary tenders pursuant to u s c c do not potentially bear upon appraised or liquidated value and therefore have no affect on the outcome of the general_rule that the dutiable value finally determined at liquidation is controlling for purposes of sec_1059a unless the importer files a protest contesting the liquidation of a particular customs entry or group of entries and absent fraud or clerical_error that liquidation becomes final upon the expiration of ninety days from the date on which notice of liquidation is provided to the importer u s c a c all determinations by customs that are necessary to the liquidation including the appraised dutiable value become final at that time see u s c a with certain exceptions not relevant here the dutiable value of imported merchandise ie the basis on which ad valorem duties are assessed consists of the appraised value determined upon liquidation u s c sec_1503 a domestic interested_party petition which requests customs to apply a higher appraised value a higher rate of duty or a less-favorable tariff classification to merchandise imported by parties unrelated to the petitioner can only affect customs entries on a prospective basis that is if customs’ determination is affirmative it applies only to entries made more than thirty days after publication in the customs bulletin of notice to the petitioner of the determination alternatively if customs’ determination is negative and that determination is reversed upon judicial review liquidation of the affected entries is suspended as of the date that the secretary publishes in the federal_register notice of the adverse judicial decision and the affected entries will be liquidated in accordance with the final judicial decision in the case see u s c d f where evidence indicates that an importer acted fraudulently distinct statutory provisions may apply e g u s c entry may be reliquidated within two years after date of liquidation if customs finds probable cause to believe that fraud took place u s c a customs may assess penalties for fraud within five years after discovery of the fraudulent act cid cid presumably most or all of corporation a’s year a and year b customs entries had already been liquidated when the service issued its notice of proposed_adjustment on date f based on application of sec_1059a to our knowledge none of these entries were subject_to protest under these circumstances the limitation amount for purposes of sec_1_1059a-1 consists of the final dutiable value ie the appraised value of the merchandise as determined upon liquidation see u s c sec_1503 corporation a argues that a voluntary tender alters the customs_value of the underlying entries as that term is defined in sec_1059a thus corporation a argues that because the voluntary tender remedied the loss of duties that resulted from its original erroneous reporting the fisc was made whole and no abuse was present however this argument finds no support in the statutory provisions governing liquidation or voluntary tenders or in the language of sec_1_1059a-1 because the statute as construed by the regulation defines the sec_1059a limitation by reference to customs_value which is the value determined by customs at the time of liquidation the service’s authority to utilize another value that reflects post-liquidation events is expressly limited see sec_1059a-1 d listing events that do and do not warrant adjustment of liquidated value quoted above importantly the procedure of prior disclosure and voluntary tender pursuant to u s c c serves to reduce customs penalties that might otherwise be applicable as a result of errors or omissions by the importer whether or not customs assesses monetary penalties pursuant to u s c a it may also require the importer to restore all lawful duties ie duties that should have been but were not collected upon liquidation u s c d however the importer’s act of voluntarily tendering such duties has no effect on the dutiable value as determined at liquidation in fact u s c d is a specific grant of authority that permits customs to assess penalties and or to collect lawful duties notwithstanding that liquidation has taken place and has become final pursuant to u s c see id corporation a also contends that its voluntary tender was a payment of other duties as that term is defined in sec_1059a consequently corporation a argues the customs_value for purposes of the sec_1059a limitation should be if the importer files a protest which may contest inter alia appraised value and the protest is granted any duties found to have been assessed or collected in excess shall be remitted or refunded u s c a however this has no effect on the dutiable value only if customs denies the protest the importer files a civil_action contesting that denial and the court enters a final order requiring reliquidation does appraised value change from the amount determined at liquidation see u s c sec_1503 a voluntary tender creates no right to protest nor is customs’ collection of lawful duties pursuant to u s c d subject_to review by traditional means ie by challenge to denial of a protest in the court of international trade see 970_fsupp_1056 ct int’l trade increased by the amount of the royalties or license fees the cited provision reads in full as follows customs_value -the term customs_value means the value taken into account for purposes of determining the amount of any customs duties or other duties which may be imposed on the importation of any property sec_1059a emphasis added in our view in this context other duties refers to duties other than those specifically provided for in the htsus ie other duties that are imposed based on the value of imported merchandise see eg u s c f duty for failure for mark imported merchandise with country of origin sec_4461 harbor_maintenance_tax of imposed on value of commercial_cargo tax treated as a duty for administrative and enforcement purposes see sec_4462 in this case the duties tendered by corporation a were based on an element of transaction value royalties or license fees which corporation a erroneously excluded from the value declared at the time of importation the lawful duties in this case were general customs duties rather than other duties within the meaning of the regulation nothing in sec_1059a suggests that congress intended to alter the well- established concept of finality of liquidation accordingly the argument that an importer’s voluntary tender of duties somehow re-opens liquidations that are otherwise final must be rejected as demonstrated above if liquidation has taken place and become final a voluntary tender cannot affect dutiable value see u s c sec_1503 the treasury regulations specify that t he customs_value is considered to be finally determined and all u s customs service determinations are considered final when liquidation of the entry becomes final sec_1059a-1 d emphasis added consequently corporation a’s voluntary tender did not increase the dutiable value of the merchandise for purposes of the sec_1059a limitation issue correct treatment of royalties or license fees for income_tax purposes next we consider whether for federal_income_tax purposes the royalties or license fees were properly taken into account in the inventory basis of the imported merchandise see sec_1_1059a-1 we conclude that the expenses are subject_to capitalization pursuant to sec_263a sec_263a enacted by the tax_reform_act_of_1986 contains the so-called uniform_capitalization_rules which require that certain expenses be capitalized rather than deducted currently sec_263a provides that these rules apply to property acquired for resale this term is defined in sec_263a as including inter alia personal_property described in sec_1221 ie inventory which is acquired for resale the uniform_capitalization_rules with respect to personal_property do not apply to taxpayers that have average annual gross_receipts of less than dollar_figure million for the three years preceding the year at issue sec_263a in determining whether this threshold is satisfied aggregation rules similar to those in sec_448 and apply see sec_263a for purposes of this advice we assume that corporation a’s gross_receipts are above the dollar_figure million gross- receipts threshold treasury and the irs issued temporary and final regulations pursuant to sec_263a the final regulations sec_1_263a-1 apply to tax years beginning on or after date for taxable years that began prior to date including years a and b in this case the temporary regulations were applicable for such years taxpayers were obliged to take positions that were reasonable in light of the temporary regulations as well as revenue rulings revenue procedures and announcements applicable to those years see sec_1_263a-1 the temporary regulations require capitalization of a broad category of indirect_costs defined as follows ii indirect costs-general description the term indirect_costs includes all costs other than direct_material_costs and direct_labor_costs all costs that directly benefit or are incurred by reason of the performance of a production or resale activity must be capitalized with respect to the property produced or acquired unless otherwise provided in paragraph b v of this section temp sec_1_263a-1t b ii emphasis added the royalty or licensing fees in this case are within the scope of indirect_costs that are subject_to capitalization the requirement that corporation a pay the fees is set forth in the license agreement dated date a that agreement granted corporation a the right to sell a full line of trademark products in adequate quantities based on the plain language of the agreement as well as other evidence available to date these fees were incurred by reason of the performance of a production or resale activity within the meaning of the temporary_regulation and therefore must be capitalized the temporary_regulation exempts the following costs among others from the capitalization requirement marketing selling advertising and distribution expenses bidding expenses_incurred in the solicitation of contracts not awarded to the taxpayer certain general and administrative expenses sec_174 research_and_development expenses sec_165 losses temp sec_1_263a-1t b v based on the evidence currently available the fees in this case are not subject_to the above exceptions as noted above taxpayer contends that the fees in question were paid not in connection with the licensing agreement but as compensation_for consulting services research_and_development intangibles-exploitation and other market- support provided by corporation b if in fact the fees can be so characterized they may be deductible currently pursuant to temp sec_1 236a-1t b v however such a characterization would be in direct conflict with the parties’ written_agreement and with corporation a’s treatment of these fees as royalties on the tax returns a taxpayer faces a heightened standard of proof when it attempts to disavow the form of its transaction e g 417_us_134 and 99_tc_561 subject_to specific facts emerging other than those of which we have been advised so far in our view taxpayer has not met the heightened standard as applied in this case case development hazards and other considerations please call if you have any further questions steven a musher chief branch


department of the treasury internal_revenue_service washington d c g tax_exempt_and_government_entities_division may uniform issue list xxxxxxxkxkxx xxxxxkkxxkx legend taxpayer a xxxxxxkxxkx company b xxxxxxxkxxx state c agreement d xxxxxxkkkk xxxxxxkkxkx xxxxxkxxkxk amount xxkxxkxxxkxkx dear xxxxxxxxxx ‘ ‘ this letter is in response to the xxxxxxxxxxx letter as supplemented by correspondence dated xxxxxxxxxx and xxxxxxxxxx submitted on taxpayer a’s behalf by its authorized representative taxpayer a requests a ruling on whether the appointment of a substitute custodian for certain custodial accounts that are subject_to internal_revenue_code code sec_403 pursuant to a business transaction changes the status of such custodial accounts under section dollar_figure or dollar_figure of revproc_2007_71 r b rev_proc taxpayer a makes the following statement of facts and representations under penalties of perjury taxpayer a is a financial_institution with its principal offices in state c taxpayer a is a broker-dealer and investment_advisor registered with the u s securities_and_exchange_commission and a member of the financial_institution regulatory authority and the new york stock exchange taxpayer a has been approved by the internal_revenue_service service as a non-bank trustee under sec_4 e of the income_tax regulations regulations company b is a financial_institution with its principal offices in state c company b has been approved by the service as a non-bank trustee under sec_1 e of the regulations company b is the non-bank trustee of amount code sec_403 custodial accounts accounts the accounts are administered pursuant to agreement d taxpayer a represents that no contributions were made to the accounts after date taxpayer a represents that the accounts are within the parameters of sections dollar_figure or dollar_figure of revproc_2007_71 company b has not established any new code sec_403 accounts since date taxpayer a and company b are engaged in a business transaction pursuant to which company b will resign as custodian of the accounts and pursuant to agreement d taxpayer a will become successor custodian of the accounts taxpayer a represents that all of the terms and conditions set forth in agreement d will continue and will be applied to taxpayer a after it becomes the successor custodian in the same manner as the terms and conditions previously applied to company b in addition taxpayer a represents that the accumulated benefit of each account after the substitution of taxpayer a as custodian will be at least equal to the accumulated benefit immediately before the substitution after the substitution of taxpayer a as custodian the accounts will be subject_to restrictions on distributions that are not less stringent than before the substitution ‘of taxpayer a as custodian the resignation of company b and the subsequent substitution of taxpayer a as custodian does not violate any federal state or local law rule_or_regulation including but not limited to other aspects of code sec_403 and the regulations thereunder not contemplated in this ruling and following the completion of the transaction taxpayer a will assume the responsibilities required as the non-bank trustee of the accounts and adhere to all requirements of sec_1_408-2 of the regulations pertaining to non-bank trustees ruling requested whether the substitution of taxpayer a for company b as custodian of certain b custodial accounts pursuant to the terms of the governing custodial agreements changes the status of such accounts under section dollar_figure or dollar_figure of revproc_2007_71 law code sec_403 provides for the tax deferred treatment of annuity_contracts purchased by certain eligible employers for their employees code sec_403 provides that if the conditions in that section are met amounts contributed to a custodial_account will be treated as amounts contributed to an annuity_contract under code sec_403 on date the service issued final regulations under code sec_403 fr td with a general effective date of date sec_1 b - b of the regulations provides in pertinent part that a contract does not satisfy b unless it is maintained pursuant to a written plan following the issuance of the b regulations the service issued revproc_2007_71 to provide in part guidance with respect to the application of sec_403 to certain contracts issued before date section dollar_figure of revproc_2007_71 provides that in the case of a contract issued after date and before date by an issuer that does not receive contributions under the plan in a year after the contact was issued the contract will not fail to satisfy code sec_403 for the year merely because the contract is not part of a written plan that satisfies sec_1_403_b_-3 of the regulations if the employer makes a reasonable good_faith effort to include the contract as part of the employer's plan that satisfies sec_1_403_b_-3 of the regulations for the purpose of section dollar_figure of revproc_2007_71 a reasonable good_faith effort to include those contracts as part of the employer's plan includes collecting available information concerning those issuers for which purpose the information is not required to be collected for issuers that ceased to receive contributions before date and notifying them of the name and contact information for the person in charge of administering the employer's plan for the purpose of coordinating information necessary to satisfy code sec_403 section dollar_figure of revproc_2007_71 further states that as an alternative to the actions described above a reasonable good_faith effort to include that contract as part of the employer's plan also includes the issuer taking action before making any distribution or loan to the participant or beneficiary which constitutes a reasonable good_faith effort to contact the employer and exchange any information that may be needed in order to satisfy code sec_403 with the person in charge of administering the employer's plan section dollar_figure of revproc_2007_71 provides that in the case of an issuer that holds sec_403 contracts under a b plan but ceases to receive contributions before date for a contract that is for a former employee or beneficiary the contracts continue to be subject_to the requirements of sec_403 and the final b regulations to the extent applicable however pursuant to section dollar_figure of revproc_2007_71 a b plan will not be treated as failing to satisfy the requirements of sec_1 b - b of the regulations if the plan does not include terms relating to those contracts section dollar_figure of revproc_2007_71 further states that if the participant or beneficiary requests a loan in accordance with code sec_72 the relief in that section only applies if the issuer makes such a loan after the issuer has made reasonable efforts to determine whether the participant or beneficiary has in the prior months has any other outstanding loans from qualified_employer plans of the employer taking into account sec_72 and sec_72 and if the participant or beneficiary has had any such loans the highest outstanding balance of such loans during that period section dollar_figure of revproc_2007_71 further states that if the employer is still in existence at the time the issuer is making the loan then reliance on information from the participant or beneficiary about outstanding loans does not constitute reasonable efforts to determine whether the participant or beneficiary has other outstanding loans from plans of the employer - the rules in section dollar_figure apply only with respect to a contract that has been issued before date under a b plan that is held on behaif of a participant who on that date is a former employee of the employer or for a beneficiary the issuer may rely on information from the participant as to whether the participant is a former employee assuming that reliance in that information is not unreasonable given the facts and circumstances conclusion based upon taxpayer a’s representations regarding the accounts the details of the proposed transaction and the terms and conditions of agreement d we conclude that the substitution of taxpayer a for company b as custodian of the accounts pursuant to the terms of agreement d does not change the status of the accounts under section dollar_figure or dollar_figure of revproc_2007_71 the ruling contained in this letter is based upon information submitted by taxpayer a 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_ruling it is subject_to verification on examination no opinion is expressed as to the tax treatment of the transaction described herein under the provisions of any other section of either the code or regulations which may be applicable thereto this ruling assumes that all other applicable_requirements of code sec_403 and the regulations are met with respect to the accounts this ruling is directed only to the taxpayer who requested it code sec_6110 provides that it may not be used or cited as precedent if you wish to inquire about this ruling please contact xxxxxxxxxx at x_ please address all correspondence to xxxxxxxxxx copies of this letter have been sent to your authorized representative in accordance with a power_of_attorney on file in this office sincerely yours daz ll mae yh a donzelttittlejohn manager employee_plans technical group enclosures deleted copy of ruling letter notice of intention to disclose cc xxxxxxxxxx power_of_attorney


internal_revenue_service department of the treasury number release date index number washington dc person to contact telephone number refer reply to cc psi 1-plr-104696-03 date march legend x state d1 dear this letter responds to your letter dated date submitted on behalf of x requesting a ruling that x be granted an extension of time under sec_301_9100-3 of the procedure and administration regulations to file an election under sec_301_7701-3 to be treated as an association_taxable_as_a_corporation for federal tax purposes facts according to the information submitted x was converted from a corporation to a limited_partnership on d1 under the law of state x intended to elect to be treated as an association_taxable_as_a_corporation effective d1 however x inadvertently failed to timely file the proper election law and analysis sec_301_7701-3 provides guidance on the classification of a domestic eligible_entity for federal tax purposes generally a domestic eligible_entity is treated as a partnership if it has two or more members unless the entity makes an election to be classified otherwise a domestic eligible_entity with two or more members may elect to be classified as an association_taxable_as_a_corporation pursuant to the rules under sec_301_7701-3 sec_301_7701-3 provides that an entity classification election must be filed on form_8832 and can be effective up to days prior to the date the form is filed or up to months after the date on which the form is filed plr-104696-03 under sec_301_9100-1 the commissioner may grant a reasonable extension of time to make a regulatory election or a statutory election but no more than six months except in the case of a taxpayer who is abroad under all subtitles of the code except subtitles e g h and i sec_301_9100-1 defines the term regulatory election as including an election whose deadline is prescribed by a regulation published in the internal_revenue_bulletin sec_301_9100-1 through provide the standards that the commissioner will use to determine whether to grant an extension of time to make an election sec_301_9100-1 sec_301_9100-2 provides automatic extensions of time for making certain elections sec_301_9100-3 provides extensions of time for making elections that do not meet the requirements of sec_301_9100-2 requests for relief under sec_301_9100-3 will be granted when the taxpayer provides evidence to establish that the taxpayer acted reasonably and in good_faith and that granting relief will not prejudice the interests of the government sec_301_9100-3 conclusion based solely on the facts submitted and the representations made we conclude that the requirements of sec_301_9100-3 have been satisfied as a result x is granted an extension of time of sixty days from the date of this letter to make an election to be treated as an association_taxable_as_a_corporation for federal tax purposes effective d1 x should make the election by filing a properly executed form_8832 with the appropriate service_center a copy of this letter should be attached to the form except as specifically provided herein no opinion is expressed or implied concerning the federal tax consequences of the facts described above under any other provision of the code this ruling is directed only to the taxpayer requesting it sec_6110 of the internal_revenue_code provides that it may not be used or cited as precedent in accordance with the power_of_attorney on file with this office a copy of the letter is being sent to x’s authorized representative sincerely heather c maloy associate chief_counsel passthroughs and special industries enclosures copy of this letter copy for sec_6110 purposes


department of the treasury i n t e r n a l r e v e n u e s e r v i c e w ash i n g t o n d c date number release date conex-128284-16 uil no the honorable jim mcdermott member u s house of representatives 7th avenue suite seattle wa attention -------------------- dear representative mcdermott i am responding to your inquiry dated date on behalf of your constituent ----------------------- who is the ----------------------------------------------------- a tax-exempt sec_501 organization ------------------wrote that -----------------------------proposed rehabilitation project will not qualify for the historic tax_credit due to the prohibitions on tax-exempt use under sec_168 of the internal_revenue_code code he asked whether this provision of the law can be changed or whether -------------------------can get an exception overall it appears that congress would need to change the law for the rehabilitation of - -------------------------to qualify for the rehabilitation_credit nonetheless i hope the following information about the historic tax_credit also known as the rehabilitation tax_credit is helpful in explaining why -------------------------does not qualify for the credit the rehabilitation_credit for any taxable_year is percent of the qualified_rehabilitation_expenditures for any certified_historic_structure sec_47 of the code the term qualified_rehabilitation_expenditure does not include any expenditures to rehabilitate any portion of the building that is or is reasonably expected to be tax-exempt_use_property tax-exempt_use_property for nonresidential_real_property means the portion of the property leased to a tax-exempt_entity in a disqualified_lease sec_168 of the code a disqualified_lease includes any lease to a tax-exempt_entity if conex-128284-16 the lease occurs after a sale or other transfer of the property by or lease of the property from that entity or a related_entity and that entity or a related_entity used the property before its sale or other transfer or lease sec_168 of the code sec_168 of the code provides several exceptions to the prohibitions on tax- exempt use but ------------------does not indicate that any of those exceptions apply to ----------------------------situation thus the proposed rehabilitation of -----------------------will not qualify for the rehabilitation tax_credit this is due to the prohibitions on tax-exempt use under sec_168 that bar -------------------------from leasing the property from a lessor after its rehabilitation because it is currently using the property the irs does not have authority to grant exceptions to the prohibitions on tax-exempt use that are not authorized by statute therefore as noted above congress would need to change the law for the rehabilitation of -------------------------to qualify for the rehabilitation_credit please call ---------------------at ----------------------or me at ----------------------if you have questions sincerely scott k dinwiddie associate chief_counsel income_tax and accounting


department of the treasury internal_revenue_service washington d c date number release date cc dom fs fi p tl-n-8420-98 uilc internal_revenue_service national_office field_service_advice memorandum for assistant district_counsel from deborah a butler assistant chief_counsel cc dom fs fi p subject interest on dividend accumulations this field_service_advice responds to your memorandum dated date field_service_advice is not binding on examination or appeals and is not a final case determination this document is not to be cited as precedent legend taxpayer percentage a issues whether taxpayer is correctly accounting for interest credited on policyholder dividends left on deposit with taxpayer conclusions the first two arguments presented by exam carry substantial litigating hazards and should not be pursued we agree with exam however that the definition of policyholder dividends set forth in sec_808 includes the interest on deposited policyholder dividends at issue in this case accordingly taxpayer should account for such interest payments as required by sec_808 facts taxpayer issues participating life_insurance policies that provide for the payment of policyholder dividends the dividends are declared at the end of each calendar_year payable in the following year on the condition that the policy remain in force on its anniversary the policyholder is offered a number of elections as to the application of the dividends once payable one of the elections is to leave the dividends on deposit with taxpayer the accumulated dividends will earn interest at a rate to be declared by taxpayer each year but is guaranteed to be no less than percentage a per year interest is payable only for amounts left on deposit for full policy years taxpayer routinely declares interest at a rate substantially in excess of the guaranteed rate but generally no greater than the state prevailing assumed interest rate under annual_statement accounting a liability must be established for interest accrued by the passage of time as of the balance_sheet date but not yet credited to the policyholders' accounts thus for a policy with a july 1st anniversary date six months of interest will be reported for statutory accounting purposes for tax purposes taxpayer claims a deduction under sec_808 for the dividends credited to the policyholder with respect to those dividends left on deposit taxpayer reports premium income pursuant to sec_808 and claims a reserve deduction under sec_807 taxpayer claims only the reserve deduction without the corresponding premium dividend treatment for the interest accrued on such policies the service has determined that the deduction for interest_paid on dividend accumulations is subject_to the accrual_method of accounting and that the deduction does not satisfy the all-events test for such deduction prior to the end of each policy year taxpayer contends that it is entitled to use the method_of_accounting for such interest which it uses in accounting for such interest on its annual_statement law and analysis sec_807 allows a deduction for increases in reserves and sec_807 requires that decreases in reserves are included in income sec_807 identifies those reserves which are taken into account under sec_807 sec_807 identifies as an included reserve dividend accumulations and other_amounts held at interest in connection with insurance and annuity_contracts taxpayer maintains that because dividend accumulations is a specifically defined reserve under sec_807 the accrual accounting_method does not apply to interest credited to such reserves at the outset it should be noted that if it is determined that the accrual accounting_method is applicable to such interest payments the effect would be to delay accrual until the year the interest is credited to the policyholder's account see revrul_79_218 1979_2_cb_260 see also revrul_67_352 1967_2_cb_176 people's bank and trust co v commissioner 50_tc_750 exam has raised three possible arguments for the position that the deduction for interest credited on dividend accumulations is subject_to the accrual accounting_method that the accrual_method is required for sec_807 reserves that sec_807 reserves do not include interest until credited to the policyholder's account and that part of the interest itself qualifies as a policyholder_dividend and therefore is subject_to the accrual_method under sec_808 you have determined that the first and second arguments are not defensible but that the third argument is defensible we shall address separately each of these arguments argument one -- the accrual_method is required for sec_807 reserves the first argument is that the accrual_method is required for sec_807 reserves sec_811 provides in general that life_insurance_companies must report their income and deductions using the accrual_method of accounting and that naic accounting must be followed unless the rules of accrual accounting dictate a contrary result as described above naic accounting rules allow recognition of an increase in reserves for interest accrued until year end exam interprets sec_811 to dictate that although naic rules apply to insurance-type reserves such as life_insurance_reserves this is not an insurance-type reserve and therefore accrual accounting rules should govern the reserve at issue is not an insurance type reserve in the sense that it does not involve life health or accident contingencies but only debt-type obligations in 92_tc_254 the court determined the proper method_of_accounting for certain retroactive rate credits under former sec_818 the predecessor to sec_811 the court ruled that in applying sec_818 insurance-type reserves were subject_to naic accounting rules but that other items were to be accounted for using tax accrual rules naic accounting rules allow a deduction for an increase in reserve prior to the satisfaction of the all-events test under accrual accounting the court reasoned that under insurance accounting rules reserve items correspond to premium income received if premiums were to be taxed as received but deductions allowed only as they later became fixed the result would be to tax very large sums of money as income when in fact those amounts will never really become income because they will have to be paid out to policyholders and other claimants therefore the court did not consider insurance accounting to be inconsistent with accrual accounting provisions the court defined insurance-type reserves to be those included in former sec_810 former sec_810 is similar to current sec_807 in that it identifies the same types of reserves for which increases and decreases are taken into account as deductions and additions to income respectively dividend accumulations and other_amounts held at interest were as now identified as a reserve item under this reasoning all reserves identified under sec_807 qualify for naic accounting rules the north central analysis is of continued relevance sec_807 defines those items which will be deductible or includible in income as increases or decreases in reserves the term reserve is commonly used to distinguish an estimated amount set_aside for a future liability from a current_liability unless a reserve_account is specifically authorized by the code no deduction will be allowed for amounts set_aside to cover a liability not yet incurred world airways inc and 62_tc_786 although some of the items included in sec_807 do not involve insurance type contingencies they are included in sec_807 because congress intended them to be treated as insurance reserves otherwise there would be no need for a special provision for such items because they would be deductible under general rules applicable to trade_or_business_expenses this interpretation is supported by the legislative_history to sec_807 which generally reflects that naic reserve methods apply in absence of specific provisions in sec_807 to the contrary s rept vol on the basis of the foregoing we conclude that this argument carries significant hazards in this case and we recommend that you not pursue it argument two -- sec_807 reserves do not include interest until credited to the policyholder's account the second argument is that the reserve described in sec_807 for dividends and other_amounts held at interest only includes interest after it is credited to the policyholder’s account which does not occur until after the policy anniversary date a literal reading of the phrase dividends and other_amounts held at interest would restrict the reserve to the account balance upon which interest is computed under this interpretation interest cannot be deducted as an increase to reserve until the policy anniversary date when the interest is actually included in the policyholder’s account balance although a literal reading of the provision appears to support exam’s position we conclude that such a literal reading is not appropriate in this instance in the present case all increases in the account balance including increases due to the additional dividends are not credited until the policy anniversary date nevertheless this fact per se does not preclude such amounts from being taken into account under the reserve_method set forth in sec_807 moreover even assuming a distinction could be drawn between interest and other increases in the account balance this argument would result in more than one accounting_method being applicable for the same reserve finally the legislative_history of sec_807 specifically provides that unlike the treatment under the act the deduction for increases in sec_807 reserves would take into account both premiums and assumed interest credited to the reserves s rept vol thus we conclude that congress did not intend that the reserve be limited to changes actually credited to the policyholder's account balance we also note that exam in suggesting a literal interpretation of sec_807 implicitly argues that interest cannot be included in the reserve until the all-events test has been satisfied we have rejected this argument supra on the basis of the foregoing we conclude that this argument carries significant hazards in this case and we recommend that you not pursue it argument three - part of the interest itself qualifies itself as a policyholder_dividend and therefore is subject_to the accrual_method under sec_808 the third argument is that interest on dividend accumulations in excess of guaranteed rates qualifies as policyholder dividends under sec_808 life_insurance_companies calculate the deduction for policyholder dividends in accordance with accrual accounting principles sec_808 national life_insurance co v commissioner f 3rd 2d cir therefore if excess_interest on dividends qualifies as a policyholder_dividend under sec_808 it should be accounted for under accrual accounting principles the fact that dividends if left on deposit would also qualify as increases to sec_807 reserves should not lead to a different result sec_808 specifically directs that the accrual accounting_method be used in accounting for policyholder dividends sec_808 applies to policyholder dividends whether or not they are left on deposit and in fact as more fully discussed below applies to specific amounts left on deposit therefore we conclude that sec_807 can not we note that other code sections may impose additional restrictions e g sec_808 limiting timing of deduction for policyholder dividends be read to accelerate the timing for deductions otherwise qualifying as dividends under sec_808 sec_808 defines policyholder dividends as any dividend or similar distribution to policyholders in their capacity as such sec_808 provides that for purposes of subchapter_l the term policyholder_dividend includes-- any amount_paid or credited including as an increase in benefits where the amount is not fixed in the contract but depends on the experience of the company or the discretion of the management excess_interest premium adjustments and experience-rated refunds sec_808 defines excess_interest as any amount in the nature of interest_paid or credited to a policyholder in his capacity as such and in excess of interest determined at the prevailing state assumed rate for such contract the legislative_history states that for purposes of sec_808 amounts in the nature of interest include all amounts paid for_the_use_of money regardless of the designation adopted by the payor or payee and include interest payments with respect to amounts left on deposit see staff of joint_committee on taxation 98th cong 2d sess general explanation of the deficit_reduction_act_of_1984 comm print the bluebook the amounts in question are amounts in the nature of interest_paid to the policyholder in his capacity as such with respect to amounts left on deposit thus to the extent that the rate exceeds the prevailing state assumed rate the amounts would qualify as policyholder dividends under sec_808 it could be argued that interest on dividend accumulations does not qualify as policyholder dividends even if they satisfy the criteria of sec_808 because interest on indebtedness is not dividends_and_similar_distributions to policyholders in their capacity as such as defined in sec_808 in unum corporation v united_states f 3rd 1st cir the court held that amounts that may qualify under sec_808 are not policyholder dividends unless they also satisfy sec_808 this is consistent with the legislative_history of sec_808 which states that the section was intended to include any distribution to a policyholder that is the economic equivalent of a dividend h_r conf_rep no pincite sec_808 and sec_808 however specifically include within the definition of policyholder dividends interest on indebtedness therefore it must follow either that sec_808 is not restricted by sec_808 or that congress considered interest on indebtedness if otherwise satisfying sec_808 to be the economic equivalent of a dividend in unum supra the court held that a policyholder_dividend was not subject_to the limitations of sec_316 and therefore was payable from sources other than earnings_and_profits nevertheless it identified certain criteria that were the essential characteristics of a policyholder_dividend the payment must be based on the contractual relationship between the policyholder and the insurer it must be a unilateral distribution it must be a recurrent return paid to policyholders by a going corporation in the ordinary course of business finally and of most importance in the context of that case it must leave the owner's equity_interest in the company intact all of these criteria have been met in the instant case the payment is pursuant to the contract between the policyholder and the insurer the policyholder does not give up anything in exchange for the payment the payments are made recurrently in the ordinary course of the business of the insurer they do not impact on the policyholder's equity_interest in the company it could also be argued that congress intended that sec_808 be the sole basis upon which interest payments could qualify as dividends under sec_808 there is nothing in the statute however that indicates whether congress considered any of the sec_808 items to be mutually exclusive any of the payments described in sec_808 through b could also qualify under sec_808 if the payments were not fixed in the contract but based on company experience or management discretion sec_808 by its terms is susceptible to a broad reading and there is nothing in sec_808 that limits its applicability the legislative_history of sec_808 interpreted in the context of prior_law further supports the conclusion that congress did not intend to restrict the broad language of sec_808 former sec_811 imposed substantial limitations on the amount of the deduction for policyholder dividends therefore the determination of whether an item qualified as a dividend was quite significant under sec_811 policyholder dividends were defined as dividends_and_similar_distributions to policyholders in their capacity as such sec_811 however specifically excluded from the definition of policyholder dividends interest_paid as defined in former sec_805 interest_paid included amounts in the nature of interest whether or not guaranteed on insurance or annuity_contracts which did not involve at the time of accrual life health or accident contingencies sec_1 b it included interest_paid on dividends left on deposit with the company as well as excess_interest dividends generally defined as interest on other_amounts left on deposit with the company eg as a settlement option these amounts were included in determining the policyholder's share of investment_yield under sec_805 and were also taken into account as reserves under former sec_810 revrul_72_253 1972_1_cb_204 plr date since they were already excluded from income they were not deductible as a dividend in determining gain from operations the legislative_history underlying former sec_811 indicates that congress considered the criteria now found in sec_808 to be the benchmark for determining whether a payment was a policyholder_dividend it indicates that congress excluded interest_paid under sec_808 from this definition to make clear that excess_interest payments on contracts not involving insurance contingencies were not policyholder dividends even though they met this criteria h_rep_no 86th cong 1st sess 1959_2_cb_813 this language is also to be found in sec_1_811-2 the regulations implicitly acknowledged that but for sec_811 interest_paid could qualify as a policyholder_dividend as reflected in the following language in sec_1_811-2 in general any payment not fixed in the contract which is made with respect to a participating_contract that is a contract which during the taxable_year contains a right to participate in the divisible surplus of the company shall be treated as a dividend to policyholders however the term does not include interest_paid as defined in sec_805 and paragraph b of sec_1 or return_premiums as defined in sec_809 and paragraph a ii of sec_1_809-4 thus so- called excess-interest dividends and amounts returned by one life_insurance_company to another in respect of reinsurance ceded shall not be treated as dividends_to_policyholders even though such amounts are not fixed in the contract but depend upon the experience of the company or the discretion of the management although excess_interest on contracts involving life contingencies did not qualify as interest_paid there was controversy as to whether such interest qualified as policyholder dividends even through such interest was not fixed in the contract but depended on the experience of the company or the discretion of management this type of excess_interest was defined in plr date as follows the term ‘excess interest’ refers to that portion of the amounts credited to a policyholder’s account above the minimum amount or rate guaranteed in the contract to be credited often the minimum guaranteed amount or rate is the same as the amount or rate used for state reserve_valuation purposes the term ‘excess interest’ as used here should not be confused with the term ‘excess-interest dividends’ which is used in sec_1 b and a of the income_tax regulations in revrul_82_133 1982_2_cb_119 the service ruled that excess_interest on deferred_annuity contracts paid at the discretion of management was a policyholder_dividend this ruling had also been applied to universal life policies plr date in congress considered the treatment of excess_interest credited to deferred_annuity contracts congress was concerned that revrul_82_133 which would treat such amounts as policyholder dividends would place certain products at a competitive disadvantage it therefore amended sec_805 to provide that certain excess_interest payments on annuity_contracts qualified as interest_paid it noted that although competitive concerns were driving this decision the legal issue concerning excess_interest was unsettled it also provided grandfathering relief for excess_interest on contracts which did not qualify as annuities such as universal life policies congress however left open the issue of whether such amounts are properly treated as interest or policyholder dividends for years after date staff of joint_committee on taxation 97th cong 2d sess general explanation of the revenue provisions of the tax equity and fiscal responsibility act of comm print in addition to these disputes there was litigation with respect to return_premiums and experience-rated refunds as to whether such amounts were paid on terms which reflected the experience of the company or the discretion of management or otherwise qualified as policyholder dividends the legislative_history underlying sec_808 reflects that congress was well aware of this unsettled state of current law in describing present law congress cited the exclusion for interest_paid and the discretionary test set forth in the regulations it also referred to excess_interest which it as amounts in the nature of interest_paid or credited to policyholders at a rate in excess of the rate used under the contract for purposes of computing the company's reserve deduction it noted that taxpayers had taken the position excess_interest payments credited to insurance reserves were not policyholder dividends even though such amounts were discretionary in describing sec_808 the bluebook explained the act adopts a broad definition of the term policyholder dividends to include any distribution to a policyholder that is the economic equivalent of a dividend thus in addition to any amount_paid or credited to policyholders including an increase in benefits when the amount is not fixed in the contract but depends on the experience of the company or the discretion of management the term policyholder dividends specifically includes excess_interest premium adjustments and experience-rated refunds in this regard the act corrects a possible deficiency of prior_law which may have permitted companies to avoid the limitations on policyholder dividends through the use of excess_interest and experience-rated products rather than traditional dividend paying products staff of joint_committee on taxation 98th cong 2d sess general explanation of the deficit_reduction_act_of_1984 comm print as the foregoing indicates congress was well aware that absent specific restrictions such as the exclusion for interest_paid the discretionary test set forth in prior regulations now found in sec_808 was susceptible to a broad reading although there were ongoing disputes as to its scope not only did congress not attempt to restrict the definition of policyholder dividends to resolve this controversy it expanded the definition both by removing the limitation for interest_paid and by making clear that certain payments were covered whether or not they qualified under sec_808 therefore absent express congressional statement to the contrary we conclude that the restrictive definition of excess_interest in sec_808 was not intended to limit the more expansive definition set forth in sec_808 therefore we agree with exam’s position that interest on dividend accumulations in excess of guaranteed rates qualifies as policyholder dividends under sec_808 case development hazards and other considerations argument one as explained supra the tax_court in north central held that insurance-type reserves were subject_to naic accounting rules the court further defined insurance-type reserves to be those included in former sec_810 former sec_810 is similar to current sec_807 in that it identifies the same types of reserves for which increases and decreases are taken into account as deductions and additions to income respectively dividend accumulations and other_amounts held at interest were as now identified as a reserve item under this reasoning all reserves identified under sec_807 qualify for naic accounting rules furthermore although some of the items included in sec_807 do not involve insurance type contingencies they are included in sec_807 because congress intended them to be treated as insurance reserves otherwise there would be no need for a special provision for such items because they would be deductible under general rules applicable to trade_or_business_expenses for the following reasons it is unlikely that a court would accept exam’s first argument due to the substantial litigating hazards which this argument presents we recommend that you not pursue it argument two as explained supra a literal reading of the phrase dividend accumulations and other_amounts held at interest provided in sec_807 would restrict the reserve to the account balance upon which interest is computed the items included in sec_807 however are generally not subject_to accrual accounting rules even assuming a distinction could be drawn between interest and other increases in the account balance this argument would result in more than one accounting_method being applicable for the same reserve furthermore the legislative_history suggests that congress did not intend that the reserve be limited to changes actually credited to the policyholder's account balance argument three the legislative_history underlying sec_808 suggests that congress intended that the term policyholder_dividend be broadly construed please call if you have any further questions deborah a butler assistant chief_counsel by joel e helke chief cc dom fs fi p cc


department of the treasury washington dc third party communication none date of communication not applicable_person to contact ------------------------ id no ------------ telephone number -------------------- refer reply to cc psi plr-103027-16 date date internal_revenue_service number release date index number ------------------------------------------------------ -------------------------------- ----------------------- ----------------------------------- re -------------------------------- legend decedent spouse date date attorney accountant ---------------------------------------------- ---------------------------------------------- ------------------ ------------------------ ------------------- ------------------------ dear -------------- this letter responds to your personal representative’s letter of date and subsequent correspondence requesting an extension of time pursuant to sec_301_9100-3 of the procedure and administration regulations to make the election under sec_2010 of the internal_revenue_code code portability election to allow a decedent’s surviving_spouse to take into account that decedent’s deceased spousal unused exclusion dsue amount the facts and representations submitted are as follows decedent died on date survived by spouse date is a date after the effective date of the amendment to sec_2010 which provides for portability of a dsue amount to a surviving_spouse to obtain the benefit of portability of decedent’s dsue amount to spouse decedent’s estate was required to file form_706 united_states estate and generation-skipping_transfer_tax return on or before the date that is nine months after decedent’s date of death or the last day of the period covered by an extension plr-103027-16 decedent’s form_706 was due on date but the estate did not file a form_706 to make the portability election the estate discovered its failure to elect portability after the due_date for making the election spouse as personal representative of decedent’s estate represents that the value of decedent’s gross_estate is less than the basic exclusion amount in the year of the decedent’s death and that decedent made no taxable_gifts during his lifetime as personal representative spouse requests an extension of time pursuant to sec_301_9100-3 to elect portability of decedent’s dsue amount pursuant to sec_2010 law and analysis sec_2001 imposes a tax on the transfer of the taxable_estate of every decedent who is a citizen or resident_of_the_united_states sec_2010 provides that a credit of the applicable credit_amount shall be allowed to the estate of every decedent against the tax imposed by sec_2001 sec_2010 provides that the applicable credit_amount is the amount of the tentative_tax that would be determined under sec_2001 if the amount with respect to which such tentative_tax is to be computed were equal to the applicable_exclusion_amount on date congress amended sec_2010 effective for estates of decedents dying and gifts made after date to allow portability of a decedent’s unused applicable_exclusion_amount between spouses tax relief unemployment insurance reauthorization and job creation act of pub_l_no sec_303 124_stat_3296 sec_2010 provides that the applicable_exclusion_amount is the sum of the basic exclusion amount and in the case of a surviving_spouse the dsue amount sec_2010 generally provides that the basic exclusion amount is dollar_figure to be adjusted for inflation annually after calendar_year sec_2010 defines the dsue amount to mean the lesser_of a the basic exclusion amount or b the excess of -- i the applicable_exclusion_amount of the last deceased spouse of the surviving_spouse over ii the amount with respect to which the tentative_tax is determined under sec_2001 on the estate of such deceased spouse sec_2010 provides that a dsue amount may not be taken into account by a surviving_spouse under sec_2010 unless the executor of the estate of the deceased spouse files an estate_tax_return on which such amount is computed and makes an plr-103027-16 election on such return that such amount may be so taken into account the election once made shall be irrevocable no election may be made if such return is filed after the time prescribed by law including extensions for filing such return sec_2010 provides that the secretary shall prescribe regulations as may be necessary or appropriate to implement sec_2010 sec_20_2010-2t a of the estate_tax regulations as in effect on date provides that to allow a decedent’s surviving_spouse to take into account that decedent’s dsue amount the executor of the decedent’s estate must elect portability of the dsue amount on a timely filed form_706 under sec_20_2010-2t a the due_date of an estate_tax_return required to elect portability is nine months after the decedent’s date of death or the last day of the period covered by an extension if an extension of time for filing has been granted under sec_20_2010-2t a the portability election is made by timely filing a complete and properly prepared estate_tax_return unless the executor satisfies the requirements for the election not to apply in sec_20_2010-2t a i sec_301_9100-1 provides that the commissioner may grant a reasonable extension of time under the rules set forth in sec_301_9100-2 and sec_301_9100-3 to make a regulatory election or a statutory election but no more than six months except in the case of a taxpayer who is abroad under all subtitles of the code except subtitles e g h and i sec_301_9100-1 provides that the term statutory election means an election whose due_date is prescribed by statute the term regulatory election means an election whose due_date is prescribed by a regulation published in the federal_register or a revenue_ruling revenue_procedure notice or announcement published in the internal_revenue_bulletin sec_301_9100-3 provides the standards the commissioner will use to determine whether to grant an extension of time to make an election whose due_date is prescribed by a regulation and not expressly provided by statute a request for relief under sec_301_9100-3 will be granted when the taxpayer provides evidence to establish to the satisfaction of the commissioner that the taxpayer acted reasonably and in good_faith and that granting relief will not prejudice the interests of the government sec_301_9100-3 provides that a taxpayer is deemed to have acted reasonably and in good_faith if the taxpayer reasonably relied on a qualified_tax professional including a tax professional employed by the taxpayer and the tax professional failed to make or advise the taxpayer to make the election plr-103027-16 the due_date for the portability election is prescribed by statute in the case of an estate required to file an estate_tax_return under sec_6018 see sec_2010 sec_6075 and sec_6018 in the case of an estate that is not required to file an estate_tax_return under sec_6018 the due_date is prescribed by regulation see sec_20_2010-2t a see also sec_20_2010-2 and revproc_2014_18 2014_7_irb_513 sec_2 accordingly in the latter case a taxpayer may seek an extension of time to elect portability under the provisions of sec_301_9100-3 sec_6018 requires the filing of an estate_tax_return in all cases where the gross_estate exceeds the basic exclusion amount in effect under sec_2010 for the calendar_year which includes the date of death for purposes of this determination under sec_6018 the basic exclusion amount is reduced but not below zero by the sum of -- a the amount of the adjusted_taxable_gifts within the meaning of sec_2001 made by the decedent after date plus b the aggregate amount allowed as a specific exemption under sec_2521 as in effect before its repeal by the tax reform act of with respect to gifts made by the decedent after date as personal representative spouse represents that based on the value of the gross_estate and taking into account any taxable_gifts decedent’s estate is not required to file an estate_tax_return under sec_6018 under these facts the commissioner has discretionary authority under sec_301_9100-3 to grant to decedent’s estate an extension of time to elect portability based on the facts submitted and the representations made we conclude that the requirements of sec_301_9100-3 have been satisfied accordingly we grant an extension of time of days from the date of this letter in which to elect portability under sec_2010 the election should be made by filing a complete and properly prepared form_706 and a copy of this letter within days from the date of this letter to the cincinnati service_center at the following address internal_revenue_service cincinnati service_center stop cincinnati oh for purposes of electing portability a form_706 filed by decedent’s estate within days from the date of this letter will be considered to be timely filed 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 if it is later determined that based on the value of the gross_estate and taking into account any taxable_gifts decedent’s estate is required to file an estate_tax_return pursuant to sec_6018 the commissioner is without authority under sec_301_9100-3 to grant to decedent’s estate an extension of time to elect portability and the grant of the extension referred to in this letter is deemed null and void plr-103027-16 this ruling is directed only to the taxpayer requesting it sec_6110 provides that it may not be used 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 your authorized representative sincerely yours associate chief_counsel passthroughs special industries by karlene m lesho karlene m lesho senior technician reviewer branch office of associate chief_counsel passthroughs and special industries enclosures copy of this letter copy for sec_6110 purposes cc


internal_revenue_service number release date index number -------------------------------------- ------------------------------------ --------------------- --------------------------------------------- department of the treasury washington dc third party communication none date of communication not applicable_person to contact ---------------------- id no ------------- telephone number ------------------- refer reply to cc psi plr-107365-08 date date estate a dollar_figurex year year legend ------------------------------------ ----------------------- ------------------------ ----------- ------- ------- dear -------------------- this responds to a letter dated date submitted on behalf of estate requesting that the service grant estate an extension of time pursuant to sec_301_9100-3 of the procedure and administration regulations to make an election under sec_663 of the internal_revenue_code the information submitted states that estate files its income_tax return on a calendar_year basis a the executor of the estate made a distribution in the amount of dollar_figurex distribution within the first days of year estate included distribution on its federal_income_tax return for year as permitted under sec_663 but failed to make the sec_663 election law analysis plr-107365-08 sec_663 provides that if within the first days of any taxable_year of an estate_or_trust an amount is properly paid or credited such amount shall be considered paid or credited on the last day of the preceding_taxable_year provided that the executor of the estate or the fiduciary of the trust so elects in such manner and at such time as the secretary prescribes by regulations sec_1_663_b_-2 of the income_tax regulations provides that if a_trust return is required to be filed for a trust's taxable_year for which a sec_663 election is to be made the election is made in the appropriate place on the return the election is made not later than the time prescribed by law for filing the return including extensions thereof the election is irrevocable after the last day prescribed for making it sec_301_9100-1 provides that the commissioner may grant a reasonable extension of time to make a regulatory election or a statutory election but no more than months except in the case of a taxpayer who is abroad under all subtitles of the internal_revenue_code except subtitles e g h and i sec_301_9100-1 defines the term regulatory election as an election whose due_date is prescribed by a regulation published in the federal_register or a revenue_ruling revenue_procedure notice or announcement published in the internal_revenue_bulletin sec_301_9100-3 provides the standards the commissioner will use to determine whether to grant an extension of time for regulatory elections that do not meet the requirements of sec_301_9100-2 under sec_301_9100-3 a request for relief will be granted when the taxpayer provides evidence to establish to the satisfaction of the commissioner that the taxpayer acted reasonably and in good_faith and that granting relief will not prejudice the interests of the government conclusion based solely on the information submitted and the representations made we conclude that the requirements of sec_301_9100-1 and sec_301_9100-3 have been satisfied as a result estate is granted an extension of time of days from the date of this letter to make an election under sec_663 by filing an income_tax return amended to include the election for year with the appropriate service_center with a copy of this letter attached a copy is enclosed for that purpose except as specifically set forth above no opinion is expressed concerning the federal tax consequences of the facts described above under any other provision of the code plr-107365-08 this ruling is directed only to the taxpayer requesting it sec_6110 provides that it may not be used or cited as precedent sincerely s william p o’shea associate chief_counsel passthroughs special industries enclosures copy of this letter copy for sec_6110 purposes