[Federal Register Volume 64, Number 21 (Tuesday, February 2, 1999)]
[Proposed Rules]
[Pages 5012-5015]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 99-1666]
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Proposed Rules
Federal Register
________________________________________________________________________
This section of the FEDERAL REGISTER contains notices to the public of
the proposed issuance of rules and regulations. The purpose of these
notices is to give interested persons an opportunity to participate in
the rule making prior to the adoption of the final rules.
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Federal Register / Vol. 64, No. 21 / Tuesday, February 2, 1999 /
Proposed Rules
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[REG-113744-98]
RIN 1545-AW69
Passive Foreign Investment Companies; Definition of Marketable
Stock
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking.
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SUMMARY: This document contains proposed regulations relating to the
new mark to market election for stock of a passive foreign investment
company (PFIC). The proposed regulations interpret changes made by the
Taxpayer Relief Act of 1997. The proposed regulations affect persons
holding PFIC stock that is regularly traded on certain U.S. or foreign
exchanges or markets or holding stock in certain PFICs comparable to
U.S. regulated investment companies (RICs). The proposed regulations
also reserve treatment of and request comments on making the mark to
market election for options on marketable stock.
DATES: Written comments or requests for a public hearing must be
received by May 3, 1999.
ADDRESSES: Send submissions to CC:DOM:CORP:R (REG-113744-98), room
5226, Internal Revenue Service, POB 7604, Ben Franklin Station,
Washington, DC 20044. In the alternative, submissions may be hand
delivered Monday through Friday between the hours of 8 a.m. and 5 p.m.
to: CC:DOM:CORP:R (REG-110524-98), Courier's Desk, Internal Revenue
Service, 1111 Constitution Avenue, NW., Washington, DC. Alternatively,
taxpayers may submit comments electronically via the Internet by
selecting the ``Tax Regs'' option on the IRS Home Page, or by
submitting comments directly to the IRS Internet site at:
http://www.irs.ustreas.gov/prod/tax__regs/comments.html.
FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations,
Robert Laudeman, (202) 622-3840; concerning submissions, LaNita
VanDyke, (202) 622-7190 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Background
This notice contains proposed amendments to the Income Tax
Regulations (26 CFR Part 1) regarding the taxation of U.S. holders of
PFIC stock.
Since the enactment of the Tax Reform Act of 1986, U.S. holders of
PFIC stock have been subject to two alternative sets of inclusion
rules: the interest charge rules under section 1291 of the Internal
Revenue Code and the qualified electing fund (QEF) rules under section
1293.
The interest charge rules apply to shareholders of PFICs that are
not QEFs or for which a QEF election is unavailable. Under the interest
charge rules, the PFIC shareholders pay tax and an interest charge that
is attributable to the value of deferral on receipt of certain
distributions and on disposition of the PFIC stock. By contrast, PFIC
shareholders who make a QEF election include currently in gross income
their respective shares of the PFIC's total earnings, with a separate
election to defer payment of tax, subject to an interest charge, on
income not currently received.
Congress recognized that the interest charge rules are a
substantial source of complexity for PFIC shareholders and that some
shareholders would prefer the current inclusion method afforded by the
QEF election, but are unable to make the election because they cannot
obtain the necessary information from the PFIC. Congress accordingly
enacted new section 1296 in the Tax Reform Act of 1997 to provide PFIC
shareholders with an alternative method to include income currently
with respect to their interests in a PFIC by allowing PFIC shareholders
to elect to mark to market PFIC stock that qualifies as marketable
stock.
In general, a PFIC shareholder who elects under section 1296 to
mark to market the marketable stock of a PFIC includes in income each
year an amount equal to the excess, if any, of the fair market value of
the PFIC stock as of the close of the taxable year over the
shareholder's adjusted basis in such stock.
A shareholder is also generally allowed a deduction for the excess,
if any, of the adjusted basis of the PFIC stock over the fair market
value as of the close of the taxable year. Deductions under this rule,
however, are allowable only to the extent of any net mark to market
gains with respect to the stock included by the shareholder for prior
taxable years.
Section 1296(e)(1) defines marketable stock as including several
categories of stock. First, section 1296(e)(1)(A) states that
marketable stock includes any stock which is regularly traded on (i) a
national securities exchange which is registered with the Securities
and Exchange Commission (SEC) or the national market system established
pursuant to section 11A of the Securities Exchange Act of 1934, or (ii)
any exchange or other market which the Secretary determines has rules
adequate to carry out the purposes of the PFIC provisions. With respect
to (ii) above, the conference report specifies that ``PFIC stock is
considered marketable if it is regularly traded on any exchange or
market that the Secretary of the Treasury determines has rules
sufficient to ensure that the market price represents a legitimate and
sound fair market value.'' H.R. Conf. Rep. No. 2014, 105th Cong., 1st
Sess. 625 (1997). Second, section 1296(e)(1)(B) states that, to the
extent provided in regulations, stock in any foreign corporation which
is comparable to a RIC and which offers for sale or has outstanding any
stock of which it is the issuer and which is redeemable at its net
asset value will be marketable stock. Third, section 1296(e)(1)(C)
states that, to the extent provided in regulations, any option on stock
described in section 1296(e)(1)(A) or (B) will constitute marketable
stock.
Section 1296(e)(2) provides that in the case of any RIC which is
offering for sale or has outstanding any stock of which it is the
issuer and which is redeemable at net asset value, all stock in a PFIC
which it owns directly or indirectly shall be treated as marketable
stock for purposes of section 1296. Section 1296(e)(2) further provides
that except as provided in regulations, similar treatment as marketable
stock shall apply in the case of any other RIC which
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publishes net asset valuations at least annually.
The proposed regulations define marketable stock for purposes of
section 1296. Specifically, the proposed regulations define regularly
traded and list attributes that a foreign exchange or market must have
in order for PFIC stock traded on such an exchange or market to be
eligible for the mark to market election. The definition of regularly
traded and the attributes required of foreign exchanges or markets are
intended to ensure that the prices of PFIC shares listed on the
exchange or market represent legitimate and sound fair market values.
The proposed regulations also list the attributes that a foreign
corporation must satisfy to be comparable to a RIC, and thus for its
stock to be marketable stock. The attributes are intended to ensure
that the foreign corporation is an investment vehicle similar in
relevant respects to a U.S. mutual fund and that its representations of
net asset value represent a legitimate fair market value.
Explanation of Provisions
Regularly Traded
Under the proposed regulations, the class of PFIC stock held by the
shareholder must be traded, other than in de minimis quantities, on at
least 15 days during each calendar quarter. The proposed regulations
also include an anti-abuse rule to prevent persons from manipulating
the number of trades in order to meet this test.
Exchange or Other Market
The proposed regulations require that a foreign exchange or market
be regulated or supervised by a governmental authority of the country
in which the market is located. This requirement will help to ensure
that the prices of the stock listed by the exchange are legitimate and
sound fair market values. Because the degree of governmental regulation
or supervision for each foreign exchange or market may vary by exchange
or market or country, the proposed regulations also list additional
characteristics that the foreign exchange or market must have for stock
that is regularly traded on the exchange or market to be considered
marketable stock for purposes of section 1296.
First, the exchange must have trading volume, listing, financial
disclosure and other requirements, designed to prevent fraud, perfect
the mechanism of a free and open market, and protect investors. See
section 6 of the Securities Exchange Act of 1934, 15 U.S.C. 78f. There
must be actual enforcement of these requirements by the exchange and
government of the country in which the exchange is located.
Second, the rules of the exchange must ensure active trading of
listed stocks.
Finally, the IRS and Treasury Department invite comments on whether
PFIC stock that is regularly traded on any other type of exchange or
market, such as an over-the-counter market, should be considered
marketable stock. Additional comments are requested about what features
those exchanges or markets should have to ensure that the stock prices
quoted on such markets are legitimate and sound fair market values.
Stock in Certain PFICs
The proposed regulations provide that stock in certain PFICs will
be marketable stock if the PFIC is a corporation described in section
1296(e)(1)(B) (foreign corporations comparable to RICs) and if the PFIC
offers for sale or has outstanding stock of which it is the issuer and
which is redeemable at its net asset value. A PFIC will be a
corporation described in section 1296(e)(1)(B) if the PFIC satisfies
the conditions listed in the proposed regulations and described below,
with respect to the class of shares held by the electing taxpayer.
These conditions are intended to describe PFICs that are comparable to
U.S. RICs in relevant respects and to implement the intent of the
statute by ensuring that the net asset valuations of such companies
represent legitimate and sound fair market values for the companies'
stock.
First, the class of stock held by an electing shareholder must be
held by one hundred or more unrelated shareholders. The relationships
set forth in section 267(b) are used to define related shareholders
that are excluded from satisfying this test. This condition is
consistent with the requirements for RICs under section 851(a) and
Sec. 1.851-1 of the income tax regulations.
Second, the applicable class of shares of the foreign corporation
must be regularly available for purchase by the general public at its
net asset value in initial amounts not greater than $10,000 (U.S.). The
IRS and Treasury Department invite comments on whether $10,000 is the
appropriate ceiling to ensure that the shares of the company will be
widely available to the general public. The IRS and Treasury Department
also invite comments on whether and under what conditions the
regulations should allow shares of a foreign corporation to be
purchased at amounts different from their net asset value, such as for
a price that includes a sales load. Additional comments are requested
about whether the regulations should cover foreign corporations that
otherwise qualify but are closed to new investors.
Third, the proposed regulations require that quotations for the
class of shares of the foreign corporation be determined and published
on a daily basis in a widely-available medium, such as a newspaper of
general circulation. This requirement approximates the practice of U.S.
RICs and is intended to ensure that shareholders and prospective
purchasers have regular access to publicly available price information.
Fourth, financial statements of the foreign corporation prepared by
independent auditors that include balance sheets (statements of assets,
liabilities, and net assets) and statements of income and expenses,
must be prepared and made available to the public no less frequently
than annually. This requirement approximates the requirements imposed
on U.S. mutual funds by the SEC and is intended to ensure that
shareholders and prospective purchasers have regular access to
financial information for the foreign corporation.
Fifth, the foreign corporation must be supervised or regulated as
an investment company by a foreign government or an agency or
instrumentality thereof. This condition is intended to approximate the
SEC's regulation of U.S. RICs while taking into account the variety of
regulatory regimes used by different governments.
Sixth, the foreign corporation may not have any senior securities
authorized or outstanding, including any debt other than de minimis
amounts. This requirement is similar to the requirement imposed on U.S.
RICs by the SEC.
Finally, the foreign corporation must meet the PFIC income and
asset tests in sections 1297(a)(1) and (2) with the requisite
percentages increased from 75 percent to 90 percent and from 50 percent
to 90 percent respectively. This condition is intended to approximate
the characteristic of U.S. RICs as passive investment vehicles.
The proposed regulations also include an anti-abuse rule to prevent
a foreign corporation from improperly manipulating its net asset
valuations to reduce the U.S. tax under section 1296 of one or more
shareholders of the corporation.
Options on Marketable Stock
The proposed regulations reserve the paragraph for defining how and
when options on marketable stock, as defined
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by these regulations, will be eligible for mark to market treatment.
The IRS and Treasury Department invite comments regarding the
conditions under which the regulations should define options on
marketable stock to be marketable stock.
Special Rules for RICs
The proposed regulations clarify that shares in a PFIC that are
owned directly or indirectly by a U.S. RIC, which is offering for sale
or has outstanding any stock of which it is the issuer and which is
redeemable at net asset value, shall be treated as marketable stock for
purposes of section 1296. The IRS and Treasury Department invite
comments regarding situations where PFIC stock held by other U.S. RICs
that publish asset valuations at least annually should not be treated
as marketable stock for purposes of section 1296.
Proposed Effective Date
The regulations are proposed to be applicable for shareholders
whose taxable years end on or after the date these regulations are
published as final regulations in the Federal Register. In addition, it
is proposed that shareholders may elect to apply these regulations to
taxable years beginning after December 31, 1997.
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in EO 12866. Therefore,
a regulatory assessment is not required. It also has been determined
that section 553(b) of the Administrative Procedure Act (5 U.S.C.
chapter 5) does not apply to these regulations, and, because the
regulations do not impose a requirement for the collection of
information on small entities, the Regulatory Flexibility Act (5 U.S.C.
chapter 6) does not apply. Pursuant to section 7805(f) of the Internal
Revenue Code, this notice of proposed rulemaking will be submitted to
the Chief Counsel for Advocacy of the Small Business Administration for
comment on its impact on small business.
Comments and Requests for a Public Hearing
Before these proposed regulations are adopted as final regulations,
consideration will be given to any written comments (a signed original
and eight (8) copies) that are submitted timely to the IRS. The IRS and
Treasury Department request comments on the clarity of the proposed
rules and how they can be made easier to understand. All comments will
be available for public inspection and copying. A public hearing may be
scheduled if requested by any person that timely submits comments. If a
public hearing is scheduled, notice of the date, time, and place for
the hearing will be published in the Federal Register.
Drafting Information
The principal author of these regulations is Robert Laudeman,
Office of the Associate Chief Counsel (International). However, other
personnel from the IRS and Treasury Department participated in their
development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is proposed to be amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 is amended by adding
an entry in numerical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.1296(e)-1 also issued under 26 U.S.C. 1296(e). * * *
Par. 2. Section 1.1296(e)-1 is added to read as follows:
Sec. 1.1296(e)-1 Definition of marketable stock.
(a) General rule. For purposes of section 1296, the term marketable
stock means--
(1) Passive foreign investment company (PFIC) stock that is
regularly traded, as defined in paragraph (b) of this section, on a
qualified exchange or other market, as defined in paragraph (c) of this
section;
(2) Stock in certain PFICs, as described in paragraph (d) of this
section; and
(3) Options on stock that is described in paragraph (a)(1) or (2)
of this section, to the extent provided in paragraph (e) of this
section.
(b) Regularly traded--(1) General rule. For purposes of paragraph
(a)(1) of this section, a class of stock that is traded on one or more
qualified exchanges or other markets, as defined in paragraph (c) of
this section, is considered to be regularly traded on such exchanges or
markets for any calendar year during which such class of stock is
traded, other than in de minimis quantities, on at least 15 days during
each calendar quarter.
(2) Anti-abuse rule. Trades that have as one of their principal
purposes the meeting of the trading requirement of paragraph (b)(1) of
this section shall be disregarded. Further, a class of stock shall not
be treated as meeting the trading requirement of paragraph (b)(1) of
this section if there is a pattern of trades conducted to meet the
requirement of that paragraph.
(c) Qualified exchange or other market--(1) General rule. For
purposes of paragraph (a)(1) of this section, the term qualified
exchange or other market means, for any taxable year--
(i) A national securities exchange which is registered with the
Securities and Exchange Commission or the national market system
established pursuant to section 11A of the Securities Exchange Act of
1934 (15 U.S.C. 78f); or
(ii) A foreign securities exchange that is regulated or supervised
by a governmental authority of the country in which the market is
located and which has the following characteristics--
(A) The exchange has trading volume, listing, financial disclosure,
and other requirements designed to prevent fraudulent and manipulative
acts and practices, to remove impediments to and perfect the mechanism
of a free and open market, and to protect investors; and the laws of
the country in which the exchange is located and the rules of the
exchange ensure that such requirements are actually enforced; and
(B) The rules of the exchange ensure active trading of listed
stocks.
(2) Exchange with multiple tiers. If an exchange in a foreign
country has more than one tier or market level on which stock may be
separately listed or traded, each such tier shall be treated as a
separate exchange.
(d) Stock in certain PFICs--(1) General rule. Except as provided in
paragraph (d)(2) of this section, a foreign corporation will be a
corporation described in section 1296(e)(1)(B), and paragraph (a)(2) of
this section, if the foreign corporation offers for sale or has
outstanding stock of which it is the issuer and which is redeemable at
its net asset value and if the foreign corporation satisfies the
following conditions with respect to the class of shares held by the
electing taxpayer--
(i) The foreign corporation has one hundred or more shareholders
with respect to the class, other than shareholders who are related
under section 267(b);
(ii) The class of shares of the foreign corporation is readily
available for purchase by the general public at its net asset value by
new investors in initial amounts not greater than $10,000 (U.S.);
(iii) Quotations for the class of shares of the foreign corporation
are
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determined and published on a daily basis in a widely-available medium,
such as a newspaper of general circulation;
(iv) No less frequently than annually, independent auditors must
prepare financial statements of the foreign corporation that include
balance sheets (statements of assets, liabilities, and net assets) and
statements of income and expenses, and those statements must be made
available to the public;
(v) The foreign corporation is supervised or regulated as an
investment company by a foreign government or an agency or
instrumentality thereof;
(vi) The foreign corporation has no senior securities authorized or
outstanding, including any debt other than in de minimis amounts;
(vii) Ninety percent or more of the gross income of the foreign
corporation for its taxable year is passive income, as defined in
section 1297(a)(1) and the regulations thereunder; and
(viii) The average percentage of assets held by the foreign
corporation during its taxable year which produce passive income or
which are held for the production of passive income, as defined in
section 1297(a)(2) and the regulations thereunder, is at least 90
percent.
(2) Anti-abuse rule. If a foreign corporation undertakes any action
with a principal purpose of manipulating the net asset value of a class
of its shares in order to reduce the United States tax under section
1296 of one or more of its shareholders, the class of shares will not
qualify as marketable stock for purposes of paragraph (d)(1) of this
section.
(e) [Reserved]
(f) Special rules for regulated investment companies (RICs)--(1)
General rule. In the case of any RIC which is offering for sale or has
outstanding any stock of which it is the issuer and which is redeemable
at net asset value, its stock in any passive foreign investment company
which it owns directly or indirectly, as defined in sections 958(a) (1)
and (2), shall be treated as marketable stock owned by that RIC for
purposes of section 1296.
(2) [Reserved]
(g) Effective date. This section applies to shareholders whose
taxable year ends on or after the date these regulations are published
as final regulations in the Federal Register for stock in a foreign
corporation whose taxable year ends with or within the shareholder's
taxable year. In addition, shareholders may elect to apply these
regulations to any taxable year beginning after December 31, 1997, for
stock in a foreign corporation whose taxable year ends with or within
the shareholder's taxable year.
Robert E. Wenzel,
Deputy Commissioner of Internal Revenue.
[FR Doc. 99-1666 Filed 2-1-99; 8:45 am]
BILLING CODE 4830-01-U