t c no united_states tax_court the board_of trade of the city of chicago and subsidiaries commissioner of internal revenue respondent petitioner v docket no filed date petitioner p is a taxable membership corporation that operates a futures exchange when a membership on the exchange is transferred the transferee must pay p a transfer fee which under p’s bylaws is to be used to purchase retire or redeem the indebtedness encumbering the board_of trade building which houses p’s trading floor and substantial office space leased to third-party tenants held the transfer fees are nontaxable contributions to capital rather than taxable payments for services because the transferees pay the fees with an investment motive as evidenced by the earmarking of the fees for reduction of p’s mortgage indebtedness the resulting increase in the members’ equity in p and the members’ opportunity to profit from their investment in p because of the lack of restrictions on the transferability of their membership interests george b javaras barbara m angus richard e peterson and raymond p wexler for petitioner joseph t ferrick for respondent beghe judge respondent determined deficiencies in petitioner's federal_income_tax for the years and in the amounts of dollar_figure dollar_figure and dollar_figure respectively the deficiencies arise from respondent’s inclusion in petitioner’s gross_income of membership transfer fees the sole issue is whether the membership transfer fees paid to petitioner during and are contributions to capital or payments for services we hold the transfer fees to be excluded from gross_income as contributions to capital findings_of_fact the parties have stipulated some facts and the stipulation of facts and the attached exhibits are incorporated in this opinion at all relevant times petitioner maintained its principal_place_of_business in chicago illinois petitioner the board_of trade of the city of chicago commonly referred to as the cbot is a taxable membership corporation organized in under a special act of the illinois legislature petitioner's principal business is the operation of a futures exchange petitioner owns and manages the commercial office building cbot building that houses its exchange facilities the bulk of the space in the cbot building approximately percent is leased to third-party tenants the cbot building is the largest asset shown on petitioner's balance_sheet petitioner's management believes that the current fair_market_value of the cbot building is between dollar_figure and dollar_figure million the cbot building consists of the original landmark building constructed in the 1930's a new trading floor that petitioner constructed in the early 1970's and an adjacent story commercial building that petitioner constructed in the early 1980's at a cost of between dollar_figure and dollar_figure million petitioner's borrowings to finance these acquisitions are represented by one consolidated and extended mortgage debt secured_by the cbot building during the years in issue the mortgage debt encumbering the cbot building represented petitioner's single largest liability the amounts of the mortgage debt as of date and were dollar_figure dollar_figure and dollar_figure respectively petitioner made payments of principal and interest on the mortgage debt in the total amount of dollar_figure in each of the years in issue ownership of petitioner is vested in its members and is represented by five classes of transferable memberships full memberships associate memberships government instruments market gim memberships commodity options market com memberships and index debt and energy market idem memberships each class of membership carries specified voting rights dissolution rights and trading privileges the most comprehensive membership a full membership has trading privileges on all markets on the cbot a full share on liquidation and one vote on all matters voted on by cbot members the most restricted membership an idem membership has trading privileges only on the index debt and energy market a one-half percent of one share on liquidation and voting rights to elect members of an idem liaison committee to the board_of directors of the cbot the following chart shows the numbers of different memberships during the years in issue and summarizes the rights and privileges of each class class of member- ship numbers of memberships as of trading privileges voting rights full associate gim com idem all futures contracts and full trading privileges on the cbot and cboe all futures contracts except agri- cultural and associated markets only government instrument market only commodity options market only index debt and energy market vote on all matters voted on by the owners of cbot member- ship sec_1 of vote on all matters voted on by the owners of cbot member- ships voting rights to elect a gim liaison commit- tee voting rights to elect a com liaison commit- tee voting rights to elect an idem liaison commit- tee dissol- ution rights transfer fee share dollar_figure of share dollar_figure of share dollar_figure of share dollar_figure of share dollar_figure these numbers are the totals of the combined gim com and idem memberships on the dates indicated there is no evidence in the record other than records of the numbers of transfers during a year of each class of membership see infra p of the specific numbers of each of these three classes of membership on any of the specified dates the chicago board_of option exchange cboe is an organization separate from the cbot the bundles of rights inherent in cbot memberships are divisible into two components the ownership or equity component and the trading privilege component although all members of a class of membership have equal rights and privileges approximately to percent of petitioner's members do not exercise their trading privileges the owner of a membership is entitled to lease or delegate the trading privileges attributable to the membership a member who leases or delegates trading privileges retains the voting and dissolution rights attributable to the membership included in the to percent of members who do not exercise their trading privileges are approximately percent of petitioner's members who neither exercise their trading privileges nor lease or delegate them to third parties petitioner's members may freely sell or transfer their memberships pursuant to petitioner's rules and procedures described infra pp during the taxable years through full memberships associate memberships gim memberships com memberships and idem memberships were sold or otherwise transferred at the time of trial spring the fair_market_value of a full membership was approximately dollar_figure when a membership is transferred the transferee in accordance with petitioner’s rule must pay a transfer fee petitioner's rule is separated into three sentences the first states that no transfer of a membership may be consummated unless the transferee pays to the association a transfer fee the transfer fee applies not only to sales of memberships but also to transfers of memberships without consideration such as intrafamily transfers and intrafirm transfers from the name of an owner firm’s qualified partner or employee to another qualified_individual in the firm petitioner’s management regards the transfer fees as necessary for applicants to understand and recognize that they are the owners of the association the second sentence of rule states that the amount of the transfer fee is established from time to time by the board_of directors the amount of the transfer fee depends on the class of membership transferred during the taxable years through the transfer fees set by petitioner's board_of rule is part of the bylaws of the cbot adopted and amended by the owners of cbot memberships in the cbot members adopted the predecessor of rule then known as rule rule was amended in to specify that the purchaser of a membership would pay the transfer fee prior thereto rule specified that the seller would pay the fee in rule was amended to provide that the amount of the transfer fee would be set by the board_of directors directors were dollar_figure for full and associate memberships dollar_figure for gim and com memberships and no fee for an idem membership in the early 1970's petitioner's board_of directors increased the transfer fees for full and associate memberships from dollar_figure to dollar_figure during this same period petitioner constructed the new trading floor in petitioner's board_of directors increased the transfer fee for full and associate memberships from dollar_figure to dollar_figure effective in when petitioner began construction of the adjacent 22-story commercial building the final sentence of rule states that the transfer fee so collected shall be used to purchase retire or redeem the indebtedness encumbering the board_of trade building in and petitioner received transfer fees totaling dollar_figure dollar_figure and dollar_figure respectively the amount of in petitioner and chicago board_of trade safe deposit co a corporation affiliated with petitioner which owned and leased the cbot building to petitioner because at that time petitioner was not permitted under illinois law to own property with a value in excess of dollar_figure had an opportunity to refinance the cbot building at a lower interest rate and on more favorable payment terms provided that the outstanding mortgage principal balance was reduced by dollar_figure in order to raise capital needed to reduce the mortgage principal petitioner made a special assessment against all members and rule was amended to require that all transfer fees be used for the purchase retirement or reduction of the mortgage obligation in after repeal of the property ownership prohibition petitioner acquired its building from chicago board_of trade safe deposit co and rule was amended to reflect the ownership_change of the cbot building as amended rule required that all transfer fees be used for the purchase retirement or redemption of the indebtedness encumbering the cbot building mortgage principal payments made by petitioner in each of the taxable years substantially exceeded the amount of the transfer fees collected by petitioner during those years for example the transfer fees received in and respectively of dollar_figure and dollar_figure compare with the mortgage principal payments of dollar_figure and dollar_figure during those respective years for accounting purposes each transfer fee received by petitioner is recorded as restricted capital in one or the other of two capital accounts petitioner uses account no capital-membership transfers for transfer fees collected on transfers of full and associate memberships and account no capital-interest transfers for transfer fees collected on transfers of gim and com memberships after a mortgage principal payment is made an equivalent amount of the transfer fees in accounts nos and is considered by petitioner as unrestricted capital from time to time the balances in account nos and are transferred to account no retained earnings these accounting transfers are not made until the amount of mortgage principal paid_by petitioner exceeds the balances in accounts nos and for financial reporting purposes the transfer fees received by petitioner during the year are reflected in the statements of consolidated members’ equity as capital contributions of new members since petitioner has so treated the transfer fees received the transfer fees received by petitioner in and were the only amounts reflected in the statements of consolidated member's equity in petitioner’s financial statements as capital contributions of new members the amount of capital contributions of new members reflected on the financial statements is the sum of the amount of transfer fees received in and the amounts received by petitioner on sales of new participation interests to members in petitioner showed on schedule l of form_1120 u s_corporation income_tax return all transfer fees collected during the taxable years through as contributions to capital a member who wishes to sell a membership submits to petitioner an offer to sell which includes an offer price petitioner posts all offers to sell and bids to purchase on the bulletin board_of the cbot a sale is effected when there is a match between an offer and a bid petitioner’s member services department collects the transfer fees in connection with the transfers of memberships petitioner collected dollar_figure in transfer fees in the capital contributions received from new members during was dollar_figure the balance of dollar_figure was the proceeds of sales of new memberships received by petitioner in the parties’ supplemental stipulation of facts states that transfer fees received by petitioner in and were the only capital contributions made in those years notwithstanding that there were increases in the number of memberships in those years as well as in when a membership is transferred petitioner maintains and publishes a list of bids to purchase and offers to sell receives and holds bid purchase money and transfer fees while bids to purchase are pending receives and holds the authorization of sale submitted by a prospective seller notifies the buyer and seller whenever a bid and offer match withholds from the tendered purchase_price an amount necessary to pay any outstanding exchange fees or fines of the seller as well as any trading related debts or membership financing of the seller owed to other members or clearing firms remits membership sale proceeds to all parties who submitted claims against the seller for repayment of outstanding debt that have been allowed by the exchange and keeps records of all membership transfers including intrafirm and intrafamily transfers and membership exchanges within business days of acquiring the membership unless the application was submitted and approved prior to the acquisition the purchaser must submit an application_for membership to petitioner as part of the application process prospective members are given a copy of petitioner’s rules and they are tested on their knowledge of these rules if the new owner of a membership fails to submit an application is not elected to membership or withdraws the application petitioner's regulations require the new owner to sell the acquired membership within a 30-day period if the membership is not sold within the 30-day period petitioner auctions the membership and remits the proceeds to the seller on all these compulsory resales of memberships petitioner retains the transfer fee that was paid_by the original_purchaser and also collects a transfer fee from the new purchaser on the resale in addition to collecting the transfer fees the member services department collects fees from applicants members and others in the following five categories i application fees ii delegate fees iii registration fees iv badge fees and v miscellaneous fees petitioner's member services department collects application fees in connection with the processing of membership applications from time to time petitioner's board_of directors reconsiders and revises the amount of the application fee increases in the application fee have been related to increases in the cost of operating the cbot member services department the application fee for all first time applicants for any type of membership was dollar_figure from date through date and dollar_figure from date through date the application fee must be paid regardless of whether the purchaser already owns another membership however a person who already owns a cbot membership submits a short-form application in connection with the acquisition of an additional membership during the years in issue the application fee for a short-form application was dollar_figure the member services department collects a delegate fee whenever a member wishes to lease the trading rights associated with his membership the delegate-lessee must submit a delegate application and pay a nonrefundable delegate fee every firm trading on the cbot must be registered with petitioner and pay a registration fee in connection with its registration all individuals who are required to wear a badge on the trading floor must pay the badge fee to petitioner the member services department collects various miscellaneous fees including fees for fingerprinting certificates and coat room services for financial reporting and tax purposes petitioner reports the application delegate registration badge and miscellaneous fees as revenues included in gross_income for and these revenues equaled dollar_figure dollar_figure and dollar_figure respectively for each of the taxable years the badge fees were collected by another department of the cbot prior to the amounts of these other fees and expenses of the member services department during the taxable years were type of fee application fees dollar_figure delegate fees big_number registration fees big_number miscellaneous fees big_number badge fees totals dollar_figure big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number continued through the revenues of the member services department exceeded its expenses the bulk of petitioner’s revenues is derived from transaction fees paid for each trade executed on the exchange and from rents for the lease of space in the cbot building for the years in issue petitioner received the following revenues from these sources year transaction fees building rents dollar_figure dollar_figure big_number big_number big_number big_number all funds received by petitioner including transfer fees are commingled in one bank account during and and prior years cbot members had paid quarterly dues assessed by the cbot board_of directors to help cover operating_expenses however petitioner waived membership dues for every year from through the time of trial continued expenses big_number big_number big_number petitioner’s financial statement states that membership dues were waived in each quarter of however the statement of consolidated income member’s dues column reports total dues of dollar_figure primarily because of the surplus in petitioner's operating revenues opinion the issue for decision is whether petitioner must include in gross_income the transfer fees that prospective members pay in connection with their acquisitions of memberships petitioner characterizes the transfer fees as contributions to capital and principally relies on section for the proposition that contributions to capital are not included in the gross_income of a corporation respondent characterizes the transfer fees as taxable payments for services that do not qualify as contributions to capital sec_118 states that in the case of a corporation gross_income does not include any contribution_to_the_capital_of_the_taxpayer congress enacted sec_118 to codify10 the preexisting concept of a capital_contribution by a nonshareholder 339_us_583 or shareholder park ave corp v commissioner unless otherwise indicated all section references are to the internal_revenue_code in effect for the years in issue sec_118 was a new provision of the code the house ways_and_means_committee report described the section as merely stating the existing law as developed through administrative and court decisions h rept 83d cong 2d sess a38 b t a paducah ill r r v commissioner 2_bta_1001 g_c_m vii-1 c b revoked by revrul_77_354 1977_2_cb_50 respondent postulates that under sec_1_118-1 income_tax regs a payment cannot be a contribution_to_capital unless it is voluntary pro_rata and required by the corporation to conduct its business as described by the somewhat circumscribed example in the regulationsdollar_figure respondent argues that the transfer fees are not contributions to capital because they are not needed by petitioner to conduct its business and are neither voluntary nor pro_rata that the transfer fees are neither voluntary nor pro_rata is not dispositive of whether the fees are capital contributions mandatory payments to a corporation may qualify as capital contributions concord village inc v commissioner t c sec_1_118-1 contributions to the capital of a corporation -- in the case of a corporation sec_118 provides an exclusion_from_gross_income with respect to any contribution of money or property to the capital of the taxpayer thus if a corporation requires additional funds for conducting its business and obtains such funds through voluntary pro_rata payments by its shareholders the amounts so received being credited to its surplus account or to a special account such amounts do not constitute income although there is no increase in the outstanding shares of stock in the corporation however the exclusion does not apply to any money or property transferred to the corporation in consideration for goods or services rendered emphasis added lake petersburg association v commissioner tcmemo_1974_55 and the supreme court has observed that a payment to a corporation can be a capital_contribution even if some shareholders contribute less than others or nothing at all 483_us_89 see also 14_tc_566 these cases confirm that the language of the regulation is merely illustrative and does not exhaust the definition of a capital_contribution nor does petitioner’s lack of need for the transfer fees in order to conduct its business compel the conclusion that they are not contributions to capital the corporation’s need is only another element of the illustrative language of the regulation a payment can be a contribution_to_capital where it is not needed by the corporation for the conduct of its business see 44_bta_617 holding shareholder payments in excess of operating requirements to be contributions to capital when used to retire bonded indebtedness the correct characterization of a shareholder payment to a corporation depends on the capacities in which the shareholder and the corporation deal with each other in making and receiving the payment cf sec_1_301-1 income_tax regs limiting dividend treatment to amounts paid_by a corporation to a shareholder in his capacity as such sec_1 e income_tax regs applying sec to distributions to shareholders made by reason of the corporation-shareholder relationship and not to transactions between a corporation and a shareholder in his capacity as debtor creditor employee or vendee where the fact that the distributee is a shareholder is incidental to the transaction here the characterization issue is complicated by the fact that the payors of the transfer fees become both equity owners of petitioner and its primary customers and that by becoming members the payors of the transfer fees become entitled to use the trading facilities of the exchange cbot members’ use of petitioner’s trading facilities does not prevent the transfer fees from being contributions to capital a payment by a member-owner of an organization can be a contribution_to_capital even where the member-owners receive goods or services from the corporation see concord village inc v commissioner supra payments by members to a cooperative_housing_corporation to fund a replacement reserve held to be contributions to capital even though members also leased property from the corporation minnequa univ club v commissioner tcmemo_1971_305 payments by members to an the general nonrecognition rule_of sec_311 as interpreted by this regulation was repealed as part of the fairly comprehensive repeal by the tax_reform_act_of_1986 publaw_99_514 100_stat_2085 of the statutory enactments of 296_us_200 the regulation was removed from the regulations in by t d 1993_1_cb_242 incorporated non-stock social_club to repair and improve the club's building held to be capital contributions even though the club's principal business was providing services to its members lake forest inc v commissioner tcmemo_1963_39 payments by members to a cooperative_housing_corporation to meet mortgage amortization obligations were held to be capital contributions even though members also leased property from the corporation because petitioner's members have a dual role as users of the cbot services and facilities and holders of equity interests in the cbot we must determine whether the payments were made in consideration of the receipt of goods or services from petitioner or as an investment in the capital of the corporation respondent argues that the transfer fees are payments in consideration of obtaining access to the trading facilities and thus are ordinary_income we disagree petitioner charges its members a separate transaction fee for each trade executed on the exchange a transaction fee is paid in consideration of the use of the trading facilities every time a trade is executed the transaction fees amounted to more than dollar_figure million in each of the years in issue and are petitioner’s primary source of revenue we are not persuaded that the transfer fees amounting to less than percent of the transaction fees charged for actual use of the trading facilities are payments in consideration of the use of trading facilities even though payment of the transfer fee is a prerequisite to obtaining or retaining membership respondent also argues that the transfer fees paid to petitioner were for services provided to its members in consideration of and in connection with membership transfers and are thus taxable_income in support of this argument respondent asserts that in exchange for the transfer fees petitioner performs the services listed supra p we are not persuaded that these services are provided in consideration of the transfer fee an indicator of whether a payment is for a good or service is whether the amount of the payment is directly related to the amount and number of services provided or merely incidental thereto see 39_tc_135 affd 325_f2d_280 10th cir cf sec_1 e income_tax regs in the case at hand the amounts of petitioner's transfer fees have no quantifiable correlation with the amounts or extent of the functions performed or services rendered by the member services department the same functions are performed for the different classes of members even though they pay different transfer fees in fact idem memberships were either sold or transferred during the taxable years without the transferees paying any transfer fees and the member services department performed the same functions with respect to these transfers as it would have performed for a full membership transferee who paid dollar_figure petitioner in some instances assesses the same fees despite substantial differences in the amounts of services for instance the transfer fee for an intrafamily transfer of a full membership which requires few of the services listed is normally dollar_figure the same transfer fee payable in connection with an outright sale of a full membership which requires the entire range of services in contrast to the transfer fees the application fees paid in connection with applications for cbot memberships are directly related to the services performed in connection with the applications short-form applications which obviously require fewer services require a lower fee than full applications the application fees are based on the services rendered and as such are treated as ordinary_income on the other hand the transfer fees are not based on the functions performed rather the transfer functions are performed incidentally to the paying of the transfer fee the lack of correlation between the different transfer fees and the functions performed by the member services department supports the conclusion that the transfer fees are not payments for or in consideration of these services the parties agree that the payor’s motive controls whether a payment is a contribution_to_capital whether the payor is a nonshareholder see 412_us_401 brown shoe co v commissioner u s pincite or a shareholder 614_f2d_670 9th cir if the payor is a shareholder we specifically look to see whether the payor has an investment motive in making the payment see id holding the investment motive to be the crucial element of capital contributions if an investment motive exists then the payment is a contribution_to_capital see lake petersburg association v commissioner tcmemo_1974_55 holding that payments of assessments to a housing cooperative were capital contributions and not membership fees for services turned on the conclusion that an investment motive existed minnequa univ club v commissioner supra an investment_interest in members' payment of assessments to a social_club led to the conclusion that the payments were contributions to capital the question in the case at hand is whether the cbot members had an investment motive in paying the transfer fee direct proof of the motive of the payor is rarely availabledollar_figure whenever state of mind is relevant under the tax laws the most important operational question usually concerns the weight to be attached to external factors blum motive none of petitioner’s members testified about their motives in paying the transfer fees however petitioner’s senior vice president of planning and operations frank grede testified that petitioner’s management views the transfer fees as necessary for applicants to understand and recognize that they are the owners of the association intent and purpose in federal income_taxation u chi law rev cf 91_tc_874 the objective badges or indicia of fraud under sec_6663 sec_1_183-2 income_tax regs enumerating the objective factors taken into account evidencing a profit_motive the proper tax characterization cannot turn on the separate intentions of multiple participants in an organization since each participant is apt to take a different view blum supra pincite instead motive or intent must be determined at the institutional level which necessarily requires an examination of external factors therefore we look to the objective facts and circumstances surrounding the payment to determine whether the members must or should be deemed to have an investment motive in paying the transfer fees there is no preexisting checklist of objective factors that can be used as a template for deciding if the payors have an investment motive therefore we look to other shareholder club member capital_contribution cases to isolate the objective factors that have tended to show an investment motive the transfer fees are similar to assessments paid_by owners of interests in a housing cooperative because any assessment paid_by the cooperative owners can arguably be a charge for the privilege of residing on the premises just as respondent argues the transfer fee should be considered merely another charge for the privilege of trading on the cbot however we held early on that some kinds of assessments imposed upon cooperative housing members by the cooperative are nontaxable contributions to capital we will look to these cases to find some of the objective factors for our inquirydollar_figure in 23_bta_400 a housing cooperative corporation pursuant to the terms of the proprietary leases levied assessments on its tenant-shareholders for the purpose of amortizing debt secured_by mortgages on its property the taxpayer used the assessments to amortize the mortgage debt and credited the payments to its capital stock account the board_of_tax_appeals held that these assessments respondent argues that housing cooperative cases are inapplicable because of the special relationship between the shareholder-tenants and the cooperative insofar as the tax statutes are concerned citing 452_f2d_1036 which concerned whether the payments by tenant-shareholders to be applied to the mortgage were income to the corporation for the purpose of the 80-percent requirement of sec_216 eckstein refers to cases cited in lake forest inc v commissioner tcmemo_1963_39 on which eckstein relies along with 44_bta_617 and 23_bta_400 all this court said in lake forest is that it did not interpret 308_f2d_634 9th cir 39_tc_135 affd 325_f2d_280 10th cir 37_tc_909 322_f2d_872 9th cir 206_fsupp_330 s d cal judgment revd 322_f2d_891 9th cir as requiring a different result were nontaxable contributions to capital because they were provided for in the leases and used for capital purposes in 44_bta_617 the commissioner determined deficiencies against a cooperative_housing_corporation on the ground that assessments collected from the tenant-shareholders for the ostensible purpose of retiring bonded indebtedness were income to the corporation the taxpayer used most of the funds for operating_expenses but used any excess funds to retire its bonds the board relying on park ave held that the excess of assessments used to retire bonds were nontaxable contributions to capital notwithstanding the lack of an explicit agreement between the corporation and the shareholders or any requirement that the corporation use the excess funds to retire the bonds our most recent opinion on the housing coop capital_contribution issue 65_tc_142 is instructive the taxpayer was a nonstock not-for-profit housing corporation operated for the benefit of its members who had proprietary interests however upon the sale of their interests members were required under the taxpayer’s bylaws to forfeit to the corporation the part of the sale price that exceeded the fha transfer value we held that the forfeitures were taxable gain to the taxpayer but that all proceeds of assessments accumulated in the taxpayer’s replacement reserve were nontaxable contributions to capital we upheld capital_contribution treatment of the assessments on the ground that the replacement reserve was in a separate bank account earmarked solely for capital expenditures and the member received no goods or services in consideration for the payments to the replacement reserve although we were concerned that members had no right upon the transfer of their memberships or at any other time to any of the contributed amounts in the replacement reserve we concluded that this did not compel a different result because it did appear that the amounts contributed to the replacement reserve did bear some relation to the value of the members’ equity in the taxpayer id pincite cases that have denied capital_contribution treatment on which respondent relies are also instructive in determining the characteristics of a capital_contribution in 308_f2d_634 9th cir the taxpayer a grocery-buying cooperative charged its members monthly dues to participate in the cooperative the court_of_appeals for the ninth circuit concluded that the members had no investment motive in paying the dues because memberships were not transferable and there was no way that members could recover their investments in the corporation in 614_f2d_670 9th cir the court concluded that the membership-type fees although earmarked for capital expenditures could not be treated as capital contributions because the members had no equity_interest in the club and received no legal entitlement for the payment of the fees other than access to the club and the right to vote for the board_of directors the court commented that the earmarking of the payments for capital expenditures was relevant and pertinent but not determinative of a contribution_to_capital id pincite in 37_tc_909 322_f2d_872 9th cir we addressed whether membership fees paid to the taxpayer a nonstock membership corporation operating department stores for the exclusive use of its members and their guests were contributions to capital we held that the fees were payments for the privilege of shopping at the taxpayer’s stores and were not contributions to capital because the members were not entitled to share in the profits of the enterprise and had no assurance of a share in the dissolution proceeds because the memberships were nonassignable and terminated at death id pincite in 74_tc_35 we denied a country club's motion for summary_judgment holding that a proprietary interest is not sufficient to turn a membership fee into a capital_contribution however the members could not resell their memberships or profit from appreciation in the value of the membership we found the only benefit to the members was their right to use the club's facilities in 887_f2d_760 7th cir the court_of_appeals for the seventh circuit to which an appeal in this case would lie provided useful guidance in dealing with the member capital_contribution issue in holding that member dues placed in the ama’s association equity reserve_account were current membership receipts that could be allocated to circulation income in the year received the court rejected the taxpayer’s alternative argument that membership fees so placed should be likened to capital contributions id pincite the court_of_appeals explained the problem with this argument is that the ama members received nothing in return for their investment in the ama other than the right to receive the benefits of membership in the single annual period for which dues were assessed in exchange for a capital_contribution the contributor receives a future or residual claim for example for return_of_capital as dividends or as the proceeds of liquidation a capital_contribution is in the nature of an investment whereby the investor purchases a continuing interest in an enterprisedollar_figure in this case there is no evidence that ama members received anything more for their annual membership fee than an annual membership they received no claim of future benefit see eg 483_us_89 contributors must intend to protect or increase the value of their investment in the corporation 862_f2d_112 7th cir capital_contribution characterized by fact that investor expects to recoup her investment hopefully with a profit in the event the corporation is successful id pincite explaining and applying washington athletic club v united_states supra the court_of_appeals noted since members received no benefit through payment of the surcharge other than the rights attendant to an annual membership in the club the members lacked an investment motive in making the payments and therefore treatment of the monies received as a capital_contribution was inappropriate id the reasoning of washington athletic club is persuasive and directly applicable here the ama’s members received no continuing benefit from their payments into the association equity account the sum paid as an annual membership fee entitled the member only to the benefits of membership in the year of payment therefore the funds placed in the association equity account were current income of the ama american medical association v united_states supra pincite in reconciling the cases relied upon by petitioner and respondent we discern three objective factors whose presence tends to support the existence of an investment motive the fee in question is earmarked for application to a capital acquisition or expenditure the payors are the equity owners of the corporation and there is an increase in the equity_capital of the organization by virtue of the payment and the members have an opportunity to profit from their investment in the corporation the first factor is whether the payment is specifically earmarked or applied to a capital acquisition or expenditure webster’s ninth new collegiate dictionary defines earmarking as to designate or set_aside funds for a specific use or owner the repealed excise_tax on club due sec_15 and the regulations thereunder provide an appropriate framework for giving content to the concept of earmarking as it should be applied in this casedollar_figure sec_4241 imposed an excise_tax on club_dues and sec_4243 provided an exemption from the excise_tax for members’ payments for the construction or reconstruction of capital improvementsdollar_figure the structure for imposing the club_dues excise_tax and allowing the capital_expenditure exemption parallels the approach under sec_118 for differentiating payments for services from capital contributions amounts that corporate shareholders or association members pay for_the_use_of corporation or association facilities and services are ordinary_income to the recipient sec_4241 and sec_4243 and the regulations thereunder were repealed by sec_301 of the excise_tax reduction act of publaw_89_44 79_stat_145 the commissioner has recognized that federal_income_tax principles can be relevant to the consideration of federal excise_tax issues g_c_m date g_c_m date g_c_m date congress enacted sec_4243 to provide club_dues excise_tax relief from the burdensome and heavy initial cost of construction or reconstruction of a club facility whereas charges which go to the upkeep and operation of social athletic or sporting clubs were to continue to be taxable conf rept 85th cong 2d sess whereas their payments in aid of capital improvements are capital contributions the interpretive regulations under sec_4243 stated that the exemption applied to amounts paid for the retirement of indebtedness a mortgage loan for example incurred by reason of the construction or reconstruction of any capital addition improvement or facilitydollar_figure sec_49 b iii excise_tax regs however the regulations did not allow the exemption unless the funds were earmarked for capital purposes id in 277_fsupp_669 n d ga the court held that the board’s resolution to divert percent of future assessments to qualified purposes allowed the payments so used to qualify for the exemption the court based its holding on the facts that the assessments were based upon known existing needs although no specific project was stated and the funds although commingled with operating funds were held for future construction requirements in 277_fsupp_749 s d ill the court held that there was insufficient earmarking for the exception to apply where the members were not told that a for payments made before date the regulation stated that assessments paid for the retirement of indebtedness a mortgage loan for example incurred by reason of the construction or reconstruction of any such facility are considered to be assessments for construction or reconstruction sec_49 a excise_tax regs specific_portion of fees would be set_aside for capital improvements and all income and receipts were commingled the court stated that the amount or proportion to be used for capital improvements must be stated at the time of ‘assessment’ and earmarked for that purpose at the time of receipt in maryland country club inc v united_states ustc par big_number d md judgment revd 539_f2d_345 4th cir the court after examining the above- cited cases19 concluded that there were three basic conditions of earmarking first there must be a definite commitment to engage in some capital construction second at the time of the initial payment both the club and the member must be operating under the in addition to the above-cited cases the court also examined 280_fsupp_534 d s d holding that a resolution prior to collection of the funds to apply percent of the funds collected to capital improvements was sufficient to bring that percent within the exception and 248_fsupp_690 d colo the court said that pinehurst was probably at the clearly qualified end of the scale of acceptable earmarking stating that although earmarking was not in question in that case the earmarking which did occur and which was plainly acceptable serves as a useful example in other cases maryland country club inc v united_states ustc par big_number at big_number d md judgment revd 539_f2d_345 4th cir in pinehurst the new members in addition to paying dues had an option of paying an assessment for capital improvements and construction in cash or in installments the amounts paid as capital contributions were accounted for separately and deposited in a separate escrow bank account and thereafter were transferred directly from the escrow account to a construction account at which time members who had paid construction assessments were credited with the amounts not used assumption that the funds so collected will be used for capital purposes and three the funds must be accounted for at the time of payment and held for that purpose and for no other purpose using this test the court held that the earmarking requirement had not been met because the club used the amounts in the capital accounts for operating_expenses the court held that this use related back to and invalidated the initial purported earmarking in light of this history we conclude that petitioner’s procedures for the collection accounting and use of the transfer fees provide sufficient assurance that the transfer fees are dedicated to the required purpose of reducing petitioner’s mortgage debt in accordance with the requirements of rule as in maryland country club v united_states supra petitioner’s rule illustrates petitioner’s definite commitment to engage in a capital use with the funds ie the retirement and redemption of the cbot building indebtedness which was incurred to finance capital construction projects both petitioner and its members are aware that the transfer fees are collected for a designated purpose prospective members are given a copy of and tested on petitioner’s rules including rule finally the fees are accounted for separately from operating revenues they are accounted for by book entries as restricted capital the funds are held in these accounts until petitioner makes a mortgage principal payment in an amount greater than the amounts in the book entries only then are the amounts in the book entries reclassified as unrestricted capital the bylaw restriction in rule and the accounting ledger accounts sufficiently restrict the amounts of the transfer fees collected until an equal amount is paid toward the mortgage principaldollar_figure we thus conclude that petitioner's rule and its accounting procedures sufficiently earmark the transfer fees for use in reducing its mortgage debt a designated capital_expenditure the second factor is whether the equity_interest of the members increased because of the contribution to the membership_organization there is no dispute that petitioner's members are the equity owners of petitioner they have voting rights and liquidation rights according to the interest held and their interests are freely transferable to qualified purchasers or transferees because petitioner's largest liability is the mortgage on the cbot building any decrease in that liability directly increases petitioner's members' equity the transfer fees accounted for over dollar_figure of the mortgage principal the commissioner in maryland country club v united_states supra argued that earmarking under sec_4243 required that the taxpayer record the funds in a separate bookkeeping account which was to be matched by available qualified funds in a bank account and or to designate funds as capital contributions by some formal mechanism such as a bylaw in the case at hand petitioner records the transfer fees in separate bookkeeping accounts which are always matched by available qualified funds in its general bank account and the transfer fees are designated as capital contributions by petitioner’s rule payments made in each of the taxable years the members' equity accounts increased each year by an amount no less than the transfer fees collected respondent argues that the members cannot have an investment motive because they enjoy no right to any return of the amount of transfer fees paid in connection with that membership we are not persuaded there is no requirement that the payments directly increase the individual payor's equity_interest on a dollar-for-dollar basis nor is there any requirement that a member must have a right to recover from petitioner the amount of the transfer fee paiddollar_figure although an individual member's interest does not directly reflect the amount of transfer fees paid in connection with that membership members' equity as a whole is increased by each transfer fee paid see 65_tc_142 we are respondent seems to be arguing that in order for the transfer fees to be capital contributions petitioner must maintain a capital_account for each member that directly reflects the actual amounts paid in respect of that particular membership interest petitioner is a corporation not a partnership there is no such requirement for corporations a corporation is a separate legal entity whereas a partnership is an aggregate of its partners partnership capital accounts reflect what each partner can draw from the partnership a corporation does not have individual drawing accounts for each of its shareholders any shareholder simply has an ownership_interest in this separate_entity represented by the number of shares owned by him satisfied that the transfer fees enhance the equity interests of petitioner’s membersdollar_figure the third factor is whether the payor has an opportunity to profit from the appreciation in his investment the cbot memberships are freely transferable allowing the members to realize a profit from any appreciation of their investmentdollar_figure respondent relied heavily on revrul_77_354 1977_2_cb_50 arguing that it requires a finding here that the transfer fees are not capital contributions a revenue_ruling is nothing more than respondent’s litigation position 86_tc_243 however the revenue_ruling cited actually supports petitioner’s position in this case in revrul_77_354 the internal_revenue_service overruled its position in g_c_m vii-1 c b in holding that a securities exchange’s initiation fees were not capital contributions the service based its holding on the facts that neither new members nor existing members derived any enhanced equity value by virtue of the payment the funds were not earmarked or restricted in their use to capital expenditures and the fees bore no relation to the capital needs of the exchange here petitioner’s members do derive an enhanced equity value by virtue of the payment of the transfer fee the funds are earmarked or restricted in their use to a capital_expenditure and the fees bear a relation to the capital needs of the exchange the mortgage indebtedness in earlier rulings the service had concluded that fees paid_by members to membership organizations were capital contributions where members held substantial equity rights in the organizations and the payments enhanced the members’ collective interest in the organization revrul_72_132 1972_1_cb_21 membership certificates sold by an unincorporated securities exchange revrul_74_563 1974_2_cb_38 special_assessments levied by a homeowners_association to pave a community parking lot revrul_75_371 1975_2_cb_52 special_assessments levied by a condominium to replace the outdoor furniture surrounding the swimming pool the facts of the case at hand are more compelling in justifying capital_contribution treatment than many of the above cited cases because the cbot members suffer no restriction on their rights to retain the entire proceeds of sale of their continued over percent of petitioner's members do not trade on petitioner's exchange but instead hold their interests for investment the majority of these members lease their trading privileges to others but approximately percent of the members neither use their trading privileges nor lease them to third parties apparently expecting to realize a profit on the ultimate disposition of their memberships the transfer fees are used to amortize the debt on a revenue-raising asset the cbot building petitioner lease sec_80 to percent of the space in the cbot building to third parties the leases generate substantial rental income to petitioner the cbot building also houses the trading floor which generates transaction fees petitioner’s primary source of revenue it is clear that members’ payments of assessments to finance initial construction of those assets would have been contributions to capital because they would have increased the members’ equity in continued interests some of the members’ interests in the cases discussed above even those allowing capital_contribution treatment were subject_to such a restriction cf 65_tc_142 308_f2d_634 9th cir 614_f2d_670 9th cir 37_tc_909 322_f2d_872 9th cir 74_tc_35 the restriction on the amount of profit a member can make from his transfer of an interest attenuates the members’ financial interest in the equity of the organization there is no such restriction in the case at hand petitioner and directly paid for capital assets used for the production_of_income in petitioner’s trade_or_business and there would have been no tenable argument that the payments were in consideration for goods or services the transfer fees paid at the time of the acquisition of a membership reduce the principal of the mortgage debt on the cbot building each year the periodic collection of the transfer fees is the equivalent of installment payments for the building we fail to see a significant difference where petitioner's members make their capital contributions in installments instead of all at once see lake forest inc v commissioner tcmemo_1963_39 see also sec_49 a excise_tax regs supra note which equate amounts paid to retire mortgage indebtedness incurred to finance construction or reconstruction of capital improvements with exempt payments for capital improvements petitioner's members have not paid dues since at least the dues were eliminated because of a surplus in petitioner's operating revenues largely attributable to petitioner’s lease revenues and transaction fees the nonpayment of dues is a form of additional profit to the members see minnequa univ club v commissioner t c memo the transfer fees therefore help finance the major sources of petitioner's revenues and directly increase the members' profit potential from their investment we conclude that the transfer fees are primarily paid with an investment motive although there may be some attenuated and incidental senses in which the transfer fees may be paid in consideration for services rendered and to be rendered we hold on balance that the transfer fees paid to petitioner are paid primarily to reduce petitioner’s mortgage debt which was incurred to finance capital improvements the transfer fees are therefore nontaxable contributions to petitioner's capital and are not includable in gross_income to reflect the foregoing decision will be entered for petitioner


internal_revenue_service department of the treasury index number washington dc number release date person to contact telephone number refer reply to cc dom corp - plr-101644-99 date date re parent acquiring target state a busine sec_1 busine sec_2 date date plr-101644-99 dear we respond to your date request for rulings as to the federal_income_tax consequences of a series of proposed transactions the facts submitted for consideration are substantially as set forth below acquiring is a state a corporation which is a holding_company acquiring’s outstanding_stock is widely held and publicly traded target is a state a corporation which is engaged in busine sec_1 target’s outstanding_stock is widely held and publicly traded parent is a state a corporation which is engaged in busine sec_2 parent’s stock is widely held and publicly traded for what are represented to be valid business reasons the following transaction has been proposed and in part consummated i ii acquiring incorporated a wholly-owned subsidiary interim under the laws of state a and shortly thereafter on date caused interim to merge with and into target in a statutory merger under state a law the acquisition merger in the acquisition merger the shareholders of target exchanged their target voting common_stock solely for acquiring common_stock except for cash in lieu of fractional shares on date a newly formed wholly owned subsidiary of parent merged with and into acquiring in a statutory merger under state law acquiring shareholders including former shareholders of target exchanged their acquiring stock solely for parent voting common_stock except for cash in lieu of fractional shares the parent merger the taxpayer has represented that the parent merger qualifies as a reorganization as described in sec_368 a a and a e iii target will merge with and into acquiring the upstream_merger pursuant to a statutory merger under the laws of state a the taxpayer has represented that the acquisition merger constitutes a statutory merger under applicable state law and if viewed independently would qualify as a reorganization as described in sec_368 a a and a e of the internal_revenue_code it is also represented that the upstream_merger will constitute a statutory merger under applicable state law and if viewed independently would qualify as a reorganization as described in sec_368 a a finally it is represented that if target were not to have merged with interim but were to have merged directly into acquiring after the parent merger in a transaction in which target shareholders received solely plr-101644-99 parent stock in exchange for their target shares except for cash in lieu of fractional shares such merger would qualify as a reorganization described in sec_368 a a and a d the taxpayer also has represented that there is no plan or intention for acquiring to merge liquidate or otherwise dispose_of any of its assets other than in the ordinary course of business the taxpayer represents that the parent merger constitutes a reverse_acquisition within the meaning of sec_1_1502-75 of the regulations and that the consolidated tax returns of the combined parent - acquiring group will be filed in accordance with the cited regulations and related provisions thereof pursuant to section dollar_figure of rev_proc 1999_1_cb_103 the internal_revenue_service will not rule as to whether a proposed transaction qualifies under sec_368 a a by reason of sec_368 a d however the service has discretion to rule on significant sub-issues that must be resolved to determine whether a transaction qualifies under sec_368 a a accordingly based on the information submitted and the representations made and provided that i the acquisition merger the upstream_merger and the parent merger are treated as steps in an integrated_plan pursuant to the step_transaction_doctrine and ii the acquisition merger the upstream_merger and the parent merger qualify as statutory mergers under applicable state law we hold that the acquisition merger and the upstream_merger will be treated as if acquiring acquired the target assets in exchange for parent stock and acquiring’s assumption of target liabilities through a statutory merger as that term is used in sec_368 a a and sec_368 a d we express no other opinion as to whether any of the three mergers will qualify as a reorganization under sec_368 further we express no opinion as to the tax treatment of the transaction under other provisions of the code and regulations specifically the consolidated_return rules or about the tax treatment of any conditions existing at the time of or effects resulting from the proposed transactions that are not specifically covered by the above rulings this ruling is directed only to the taxpayer who requested it sec_6110 k of the code provides that it may not be used or cited as precedent a copy of this letter should be attached to the federal_income_tax returns of the taxpayers involved for the taxable_year in which the transaction covered by this ruling is consummated plr-101644-99 pursuant to the power_of_attorney on file in this office a copy of this letter is being sent to the taxpayer sincerely yours assistant chief_counsel corporate filiz a serbes assistant to the chief branch by


internal_revenue_service department of the treasury index number washington dc number release date person to contact telephone number refer reply to cc dom p si 2-plr-114005-99 date date legend x a date date year year state dear this letter responds to your date letter and subsequent correspondence requesting relief under sec_1362 of the internal_revenue_code the information submitted states that x incorporated on date of year but did not conduct any business until date of year a the president and sole shareholder of x represents that a intended x to be an s_corporation beginning with x’s year taxable_year and filed with state for x to be an s_corporation a represents that a was not aware that x also needed to file a form_2553 election by a small_business_corporation for year x filed a form_1120s u s income_tax return for an s_corporation sec_1362 of the code provides that if-- a an election under sec_1362 for any taxable_year is made after the date prescribed by sec_1362 for making such election for such taxable_year or no such election is made for any taxable_year and b the secretary determines that there was reasonable_cause for the failure to timely make such election the secretary may treat such an election as timely made for such taxable_year based solely on the facts and the representations submitted we conclude that x has established reasonable_cause for failing to make a timely election to be an s_corporation for x’s year taxable_year accordingly provided that x makes an election to be an s_corporation by filing a completed form_2553 with the appropriate service_center effective for year within days following the date of this letter then such election will be treated as timely made for x’s year taxable_year a copy of this letter should be attached to the form_2553 except as specifically set forth above we express no opinion concerning the federal tax consequences of the facts described above under any other provision of the code including whether x was or is a small_business_corporation under sec_1361 of the code this ruling is directed only to the taxpayer who requested it sec_6110 of the code provides that it may not be used or cited as precedent sincerely yours h grace kim assistant to the chief branch office of the assistant chief_counsel passthroughs and special industries enclosures copy of this letter copy for sec_6110 purposes


internal_revenue_service department of the treasury significant index no fgg9 washington dc - contact person telephone number in reference to date cp e eo t nov legend m d o k n t l t o t dear sir or madan this is in reference to your date request for rulings concerning the federal tax consequences of the proposed transactions described below the information provided indicates that x is a not-for- a wholly-owned profit corporation established in by y in subsidiary of a publicly traded corporation established z both x and z have a not-for-profit corporation been recognized as exempt from federal_income_tax under sec_501 of the internal_revenue_code hereafter code as organizations described in sec_501 classified as private_foundations under sec_509 of the code and ali such officers and directors and employees of and z are dedicated to identical charitable purposes of making gifts to organizations described in sec_501 a substantial_contributor d a is as that term is defined in section x‘s and z’s boards of directors and officers are identical of the code to both x and z of the code and are both x y y - in order to promote administrative convenience and to x and z into one entity eliminate duplicate expenses such as auditing and trust management and service fees the boards of directors have decided to consolidate the activities of addition since both x and z are dedicated to identical charitable purposes there is no need to have two corporations perform the same mission ruling_request x will submit a plan of dissolution and distribution of assets the plan to the appropriate court the court requesting the court’s approval for x to distribute its net assets to upon receiving such approval and after receiving a favorable ruling regarding the tax consequences of the transaction from the internal_revenue_service x will distribute all of its net assets to after the distribution of net assets is complete x will according to the applicable state statutes subsequent to the filing of this in z re submit an application to the court requesting permission to dissolve sec_509 of the code provides that a private_foundation shall continue to be treated as a private_foundation unless its status as such is terminated under sec_507 sec_507 of the code provides that except as provided or operation as the organization in sec_507 regarding transfers to public_charities an organization’s status as a private_foundation is terminated only if either notifies the service of its intent to terminate its status or there have been either willful repeated acts or failures to act or a willful and flagrant act or failure to act giving rise to liability for tax under chapter notifies such organization that it tax imposed by sec_507 addition to paid or abated to z of the code of its intent to terminate its status as foundation x will give notice to the service under sec_507 a private the tax under sec_507 after the final distribution of all assets by x is liable for the termination by reason of such acts and the service is either and or in sec_507 of the code provides that in the case of a transfer of assets of any private_foundation to another private_foundation pursuant to any liquidation merger redemption recapitalization or other adjustment organization or reorganization the transferee foundation shall not be treated as a newly created organization sec_1_507-3 of the income_tax regulations the terms other adjustment organization or hereafter regulations provides that for purposes of sec_507 reorganization shall include the significant disposition of assets to one or more private_foundations other than transfers for full and adequate_consideration or distrikutions out of current income sec_1_507-3 of the regulations provides that the term significant disposition of assets includes any disposition by a private_foundation which i sec_25 or more of the fair_market_value of the net assets of the distributing foundation at the beginning of the taxable_year sec_1_507-3 of the regulations states that unless a private_foundation gives notice pursuant to sec_507 of the code a transfer of assets described in sec_507 will not constitute a termination of the transferor’s private_foundation_status under sec_507 such transfer must nevertheless satisfy the requirements of any pertinent provisions of chapter sec_1_507-3 of the regulations provides that in a significant transfer of assets to one or more the case of private_foundations within the meaning of sec_1_507-3 the transferee shall not be treated as a newly created organization a transferee is treated as possessing those attributes and characteristics of the transferor described in sec_1 a carryover of aggregate tax_benefit to the transferee a carryover of substantial contributors to the transferee and a carryover of chapter tax_liability to the transferee sec_1_507-3 and ii of the regulations provide that a transferee organization to which this paragraph applies shall succeed to the aggregate tax_benefit of the transferor organization in an amount determined as follows shall be an amount equal to the amount of such aggregate tax_benefit multiplied by a fraction the numerator of which is the fair_market_value of the assets less encumbrances transferred to such transferee and the denominator of which is the fair_market_value of the assets of the transferor less encumbrances immediately before the transfer such amount sec_1_507-3 of the regulations provides that if a private_foundation incurs liability under chapter penalty resulting therefrom prior to a transfer of assets under sec_507 to one or more private_foundations in any case where transferee_liability applies each transferee foundation shall be treated as receiving the transferred assets subject_to such liability to the extent that the transferor foundation does not satisfy such liability or as a result of making or any sec_1_507-3 of the regulations provides that except as provided in sec_1_507-3 the transferor must meet the distribution_requirements of sec_4942 for any_tax year in which it makes a transfer described in sec_507 of the code requirements of sec_4942 and the transfer itself counts if it meets the sec_1_507-3 of the regulations provides that the holding periods described in sec_4943 the code include both the period in which the transferor and in which the transferee holds the assets and of sec_1_507-3 of the regulations provides that except as provided in sec_1_507-3 during any period in which the transferor has no assets sec_4945 and of h rh the code expenditure_responsibility shall not apply to the transferee or the transferor with respect to any expenditure_responsibility grants made by the transferor except for information reporting requirements under sec_4945 for any year in which the transferor disposes of all its assets sec_1_507-3 provides that except as provided in sec_1 a transferee in a sec_507 transfer ii a and a a date with respect to any transferred grants a will not be treated as being in existence prior to assets prior to date and b will not be treated as holding the transferred c will not be treated as having engaged in or become subject_to the transferred assets prior to january any transaction or obligation with respect to sec_1_507-3 ii of the regulations provides that in a sec_507 transfer the provisions enumerated in subparagraphs a through g thereof apply to the transferee foundation with respect to the assets transferred to the same extent and in the same manner that they would have applied to the transferor foundation had the transfer described in sec_507 not been affected sec_1_507-3 i of the regulations provides that if sec_1_482-1 now redesignated as section a private_foundation transfers all of its net assets to one or more private_foundations which are effectively controlled within the meaning of 482-1a a directly or indirectly by the same person or persons which effectively controlled the transferor for purposes of chapter and sec_507 through such a transferee shall be treated as proportionality is appropriate such a transferee shall be treated as fair_market_value of the assets less encumbrances transferred to such transferee bears to the fair_market_value of the assets less encumbrances of the transferor immediately before the transfer it were the transferor in the proportion which the it were the transferor however where if if sec_1_482-1a of the regulations provides that the term controlled includes any kind of control direct or indirect whether legally enforceable and however exercisable or exercised not the form or the mode of its exercise is the reality of the control which is decisive it sec_1_507-3 ii of the regulations provides that i shall not apply to the requirements sec_1_507-3 and of the code which must be under sec_6033 complied with by the transferor nor to the requirement under sec_6043 that the transferor file a return with respect to its liquidation dissolution or termination sec_1_507-3 iii of the regulations provides the following illustration s and t p to r on july as of the end of p has and t shall each be treated as in order to facilitate accomplishment of a and b are the trustees of the p charitable_trust example a private_foundation and are the only substantial contributors to p diverse charitable purposes a and b create and control the r foundation the s foundation and the t foundation and transfer the net assets of an outstanding grant to foundation w and has been required to exercise expenditure_responsibility with respect to this grant under sec_4945 and h s the fair_market_value of the assets transferred to each bears to the fair_market_value of the assets of p immediately before the transfer p absent a specific provision for exercising expenditure_responsibility with respect to the grant to w each of them is required to exercise expenditure_responsibility with respect to such grant part of the transfer to r with respect to the expenditure_responsibility grant to w only r would be required to exercise expenditure_responsibility with respect to the grant to w rather than as recipients of expenditure responsibility’ grants there are no expenditure_responsibility requirements which must be exercised under sec_4945 the transfers of assets to r as a p assigned and r assumed p’s duties under these circumstances r in the proportion and t are treated as p and t are treated as h with respect to if they are p since r since r and t and if s s s sec_1_507-3 of the regulations provides that sec_1_507-1 which requires filing under sec_6033 and sec_6056 of the code in the year of the transfer applies where a private_foundation has transferred all its net assets sec_4940 of the code imposes a tax on the net_investment_income of on its activities a private_foundation for each taxable_year it carries sec_4941 of the code imposes a tax upon any act of self- dealing between a private_foundation and a disqualified_person sec_53_4946-1 of the regulations provides that purposes of sec_4941 a transferee is not a disqualified for person if is an organization described in sec_501 unless it is an organization described in sec_509 it sec_4942 of the code provides that the term qualifying_distribution means any amount including reasonable and necessary administrative expenses paid to accomplish one or more purposes described in sec_170 of the code sec_4944 of the code imposes a tax on amounts invested by a private_foundation in such a manner as to jeopardize the carrying out of any of the foundation’s exempt purposes sec_4945 of the code imposes a tax on each taxable_expenditure of a private_foundation as defined in sec_4945 sec_4945 defines a taxable_expenditure to include among other things a grant to another organization unless such organization is not a private_foundation or unless the donor private_foundation exercises expenditure_responsibility with respect to such grant in accordance with sec_4945 sec_4945 of the code provides that expenditure_responsibility means the private_foundation is responsible to exert all reasonable efforts and to establish adequate procedures to see that the grant is spent solely for the purpose for which made to obtain full and complete reports from the grantee on how the funds are spent and to make full and detailed reports with respect to such expenditures to the secretary or_his_delegate for endowment for the purchase of capital sec_53_4945-5 of the foundation and similar excise_taxes regulations hereafter also regulations provides that if a private_foundation makes a grant described in sec_4945 to a private_foundation which is exempt from taxation under sec_501 equipment or for other capital purposes the grantor foundation shall require reports from the grantee on the use of the principal and the income from the grant funds make such reports annually for its taxable_year in which the grant was made and the immediately succeeding two taxable years only if end of such second succeeding taxable_year neither the principal the income from the grant funds nor the equipment purchased with the grant funds has been used for any purpose which would result in liability for tax under sec_4945 the grantor may then allow such reports to be discontinued is reasonably apparent to the grantor that before the the grantee shall it sec_4945 of the code states that a taxable_expenditure means any amount_paid or incurred by a private_foundation for any purpose other than one specified in section sec_53_4945-6 of the regulation sec_170 provides that a transfer of assets of sec_507 will not be considered used exclusively for purposes described in sec_170 unless such assets are transferred to an organization described in sec_501 other than an organization described in sec_509 a private_foundation under in revrul_78_387 1978_2_cb_270 a private_foundation that had a carryover of excess qualifying distributions as described in sec_4942 of the code transferred all its assets to another private_foundation that was controlled by same persons who controlled the first foundation concluded that the transferee would be treated as transferor citing sec_1_507-3 i and allowed the transferee to reduce its distributable_amount under sec_4942 of the code by such carryover it were the the service if while sec_507 of the code on its face suggests that all tax characteristics of the transferor in b transfer should carry over proportionately to the transferee sec_1_507-3 of the regulations provides that effective_control must exist before the transferee is treated proportionately as the transferor for purposes of chapter even then the transferor and sections of the code must dispose_of all net assets for the transferee to be treated proportionately as the transferor a section effective_control also determines whether there is a rul carryover of sec_4942 excess qualifying distributions as rev transferor still has net assets or effectively controlled there is no carryover if the if the transferees are not indicates with regard to expenditure_responsibility for previous grants example of sec_1_507-3 of the regulations indicates that expenditure_responsibility applies to both the transferor and the transferees where they are effectively controlled and the transferor transfers all of its net assets unless they agree amongst themselves who will assume the expenditure_responsibility of less than all the net assets then the expenditure_responsibility remains with the transferor transferees which are not effectively controlled sec_1 a provides that neither the transferor nor the transferee need exercise expenditure_responsibility except for information reporting requirements in the year of the transfer as long as the transferor has no assets sec_507 transfer is itself a grant to which expenditure a transfer of all the assets to also indicates that a if the transfer is if there is example responsibility applies unless there is effective_control of the transferees by the transferor because the another effect of qualifying a newly created organization the transfer of assets by x to z will qualify as a sec_507 transfer because x will transfer more than of its assets to z both of which are private_foundations transfer qualifies under sec_507 sec_2 will not be treated as under sec_507 is that z succeeds to the aggregate tax benefits of x b the transfer does not cause a termination of x‘s status as notified the service of its intent to terminate its private_foundation_status and because x has not been notified of or committed any acts which could trigger an involuntary termination the transfer will not cause the imposition of the termination_tax under sec_507 of the code terminates its private_foundation_status there will be no liability under sec_507 because x will have no assets because the transfer qualifies under section in addition because x has not a private_foundation x later if the transfer of assets by x is a donation to z because it a donation and not an investment in is y do not constitute net_investment_income under sec_4940 of the code subject_to tax under sec_4940 or sec_4944 accordingly the transfer of the assets will not be the assets received by z z is exempt from federal income_taxation under section sec_501 organizations are c of the code specifically excluded from the definition of disqualified persons for purposes of sec_4941 of the code not a disqualified_person the transfer of assets by x to not an act of self-dealing subject_to tax under sec_4941 thus the transfer of assets is not because z is z is the issue of whether x must meet its distribution_requirements under sec_4942 of the code in the year in which it makes the sec_507 transfer depends on whether x and because x and z are effectively controlled by the same persons z are effectively controlled by y x for purposes accordingly z will succeed to the distribution of sec_4942 requirements of also the commonality of control means that z may use any qualifying_distribution carryover of distributable_amount under sec_4942 of the code x to reduce its is treated as x z x will transfer all of its assets to z which is exempt from tax under sec_501 organization the transfer to expenditure under sec_4945 of the code and z are effectively controlled by the same persons z is because z is a sec_501 z does not constitute a taxable further because x treated as x for purposes of sec_4945 not have to exercise expenditure_responsibility with respect to the transfer of its assets consequently x does accordingly we rule as follows the proposed transfer of assets is a transfer described in sec_507 of the code the proposed transfer of assets will not adversely affect the tax-exempt status of either x or the proposed transfer of assets will not result in either a voluntary or termination of z’s private_foundation_status under sec_507 of the code or an involuntary termination under sec_507 of the code and will not cause the imposition of the termination_tax described in sec_507 assets and liabilities x notifies the service of its intent to terminate its status as a private_foundation and should the value of x’s net assets equal zero at such time as x gives such notice and terminates its private_foundation_status then x will not be liable for any termination_tax under sec_507 of the code when after the transfer of all its of the code after the proposed transfer of assets will not be treated as a newly created organization for purposes of code sec_507 and sec_509 the proposed transfer of assets will not constitute a willful and flagrant act liability to either x or or failure to att giving rise to z for under chapter of the code the proposed transfer of assets will not constitute any act or failure to act under sec_507 of the code the proposed transfer assets will not be treated as either gross_investment_income or capital_gain_net_income under sec_4940 of the code the proposed transfer of assets will not constitute an act of self-dealing under sec_4941 of the code the proposed transfer of assets will not involve the application of sec_4943 of the code concerning excess_business_holdings provided that none of the assets transferred places z in the position of having excess_business_holdings the proposed transfer of assets will not be treated as a jeopardy investment under sec_4944 of the code the proposed transfer of assets will not constitute a grant within the meaning of sec_4945 of the code as to which x would be required to exercise expenditure_responsibility pursuant to sec_4945 of the code after the transfer of assets z will be treated as possessing all the attributes and characteristics of specifically xx a z will be treated as if it were x for purposes of chapter of the code and code sec_507 through b z will succeed to the aggregate tax_benefit of under sec_507 of the code c any person who is a substantial_contributor under sec_507 a treated as such with respect to z of the code with respect to x will be will take the assets of liabilities of x imposed by chapter a x subject_to any and all of the code e z will report the net_investment_income of x for the year of transfer of assets and pay any excise_tax imposed under sec_4940 of the code z's payment of x’s tax_liability will not constitute a taxable_expenditure under sec_4945 of the code f x will not be required to meet the code sec_4942 distribution requirement for its taxable_year in which the transfer is made or for the immediately preceding_taxable_year because x's distributable_amount and qualifying distributions in each year are treated as z’s provided that qualifying distributions from z after the proposed transfer of assets satisfy x’s distribution_requirements for periods ending prior to the date of the transfer or on g z may reduce its distributable_amount under sec_4942 carryover as described in sec_4942 of the code of the code by x’s excess qualifying distributions h for purposes of sec_4940 of the code for the taxable_year in which the proposed transfer of assets occurs 2's base_period shall include the five preceding_taxable_years of and the qualifying distributions and assets for each such year x and for the year in which the code sec_4940 calculation is being made shall be calculated by aggregating the qualifying distributions and assets of x and z for each year i 2’s satisfaction of grants awarded but not yet paid_by x prior to the proposed transfer from x to z shall not of itself constitute a code sec_4945 taxable_expenditure by in and j z will be required to exercise expenditure_responsibility under sec_4945 of the code with respect to any grants previously made by x that required x to exercise expenditure_responsibility at the time the grant was made x will not be required to exercise expenditure_responsibility for any of its grants after the transfer of all its assets to z k z may continue to utilize its current fiscal_year and will not be required to switch to the calendar_year utilized by x prior to the transfer these rulings are directed only to the organizations that requested them these rulings may not be used or cited as precedent pursuant to sec_6110 j of the code sincerely yours edward k karcher chief exempt_organizations technical branch