[Federal Register Volume 66, Number 150 (Friday, August 3, 2001)]
[Proposed Rules]
[Pages 40659-40663]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 01-19224]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-107151-00]
RIN 1545-AX99


Constructive Transfers and Transfers of Property to a Third Party 
on Behalf of a Spouse

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking and notice of public hearing.

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SUMMARY: This document contains proposed regulations under section 1041 
of the Internal Revenue Code relating to the tax treatment of certain 
redemptions, during marriage or incident to divorce, of stock owned by 
a spouse or former spouse. This document also provides notice of a 
public hearing on the proposed regulations.

DATES: Written comments must be received by November 1, 2001. Requests 
to speak and outlines of topics to be discussed at the public hearing 
scheduled for Friday, December 14, 2001, must be received by November 
23, 2001.

ADDRESSES: Send submissions to: CC:ITA:RU (REG-107151-00), room 5226, 
Internal Revenue Service, POB 7604, Ben Franklin Station, Washington, 
DC 20044. Submissions may be hand delivered between the hours of 8 a.m. 
and 5 p.m. to CC:ITA:U (REG-107151-00), 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.gov/tax_regs/regslist.html. The public hearing will be held in 
the Auditorium, Internal Revenue Building, 1111 Constitution Avenue 
NW., Washington, DC.

FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations, 
Edward C. Schwartz, (202) 622-4960; concerning submissions and the 
hearing, Guy Traynor, (202) 622-7180 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

    The collection of information contained in this notice of proposed 
rulemaking has been submitted to the Office of Management and Budget 
for

[[Page 40660]]

review in accordance with the Paperwork Reduction Act of 1995 (44 
U.S.C. 3507(d)). Comments on the collection of information should be 
sent to the Office of Management and Budget, Attn: Desk Officer for the 
Department of the Treasury, Office of Information and Regulatory 
Affairs, Washington, DC 20503, with copies to the Internal Revenue 
Service, Attn: IRS Reports Clearance Officer, W:CAR:MP:FP:S, 
Washington, DC 20224. Comments on the collection of information should 
be received by October 2, 2001. Comments are specifically requested 
concerning:
    Whether the proposed collection of information is necessary for the 
proper performance of the functions of the Internal Revenue Service, 
including whether the information will have practical utility;
    The accuracy of the estimated burden associated with the proposed 
collection of information (see below);
    How the quality, utility, and clarity of the information to be 
collected may be enhanced;
    How the burden of complying with the proposed collection of 
information may be minimized, including through the application of 
automated collection techniques or other forms of information 
technology; and
    Estimates of capital or start-up costs and costs of operation, 
maintenance, and purchase of services to provide information.
    The collection of information in this proposed regulation is in 
Sec. 1.1041-2(c) of these regulations. Section 1.1041-2(c) permits 
spouses or former spouses to treat a redemption of stock of one spouse 
(the first spouse) as a transfer of that stock to the other spouse (the 
second spouse) in exchange for the redemption proceeds and a redemption 
of the stock from the second spouse in exchange for the redemption 
proceeds if they reflect their intent to do so in a written agreement 
or if a divorce or separation agreement requires such treatment. This 
information must be retained and is required for the spouses or former 
spouses to report properly the tax consequences of the redemption. The 
likely respondents are individuals.
    Estimated total annual reporting and/or recordkeeping burden: 500 
hours.
    Estimated average annual burden hours per respondent and/or 
recordkeeper: 30 minutes.
    Estimated number of respondents and/or recordkeepers: 1,000.
    Estimated annual frequency of responses: On occasion.
    An agency may not conduct or sponsor, and a person is not required 
to respond to, a collection of information unless it displays a valid 
control number assigned by the Office of Management and Budget.
    Books or records relating to a collection of information must be 
retained as long as their contents may become material in the 
administration of any internal revenue law. Generally, tax returns and 
tax return information are confidential, as required by 26 U.S.C. 6103.

Background

    Section 1041 was added to the Internal Revenue Code by section 421 
of the Tax Reform Act of 1984 (1984 Act), Public Law 98-369. Section 
1041(a) provides that no gain or loss will be recognized on a transfer 
of property from an individual to (or in trust for the benefit of) a 
spouse or former spouse if the transfer is incident to a divorce. Under 
section 1041(b), for purposes of subtitle A, the transferee is treated 
as having acquired the property by gift from the transferor with a 
carryover basis from the transferor.
    The House Report accompanying the 1984 Act states:

    The current rules governing transfers of property between 
spouses or former spouses incident to divorce have not worked well 
and have led to much controversy and litigation. Often the rules 
have proved a trap for the unwary * * *.
    Furthermore, in divorce cases, the government often gets 
whipsawed. The transferor will not report any gain on the transfer, 
while the recipient spouse, when he or she sells, is entitled under 
[United States v. Davis, 370 U.S. 65 (1962)] to compute his or her 
gain or loss by reference to a basis equal to the fair market value 
of the property at the time received.
    The committee believes that to correct these problems and make 
the tax laws as unintrusive as possible with respect to relations 
between spouses, the tax laws governing transfers between spouses 
and between former spouses should be changed. * * *
    The bill provides that the transfer of property to a spouse 
incident to a divorce will be treated, for income tax purposes, in 
the same manner as a gift. Gain (including recapture income) or loss 
will not be recognized to the transferor, and the transferee will 
receive the property at the transferor's basis * * *. Thus, uniform 
Federal income tax consequences will apply to these transfers 
notwithstanding that the property may be subject to differing state 
property laws.

H.R. Rep. No. 432, 98th Cong., 2d Sess., Part 2, at 1491-92 (1984) 
(House Report).
    By enacting the carryover basis rules in section 1041(b), Congress 
has, in essence, provided spouses with a mechanism for determining 
between themselves which one will pay tax upon the disposition of 
property outside the marital unit. For example, assume Spouse A owns 
appreciated property that he or she wishes to sell to a third party. 
The spouses may agree that Spouse A will sell the property to the third 
party and recognize the gain. Any subsequent transfer from Spouse A to 
Spouse B of the sales proceeds will be nontaxable under section 1041. 
In the alternative, the spouses may agree that Spouse A will first 
transfer the property to Spouse B. This transfer is nontaxable under 
section 1041, with Spouse B taking a carryover basis in the transferred 
property. Spouse B will then recognize the gain or loss on the sale of 
the property to the third party because a sale to a third party is not 
covered by section 1041. In this latter scenario, the tax consequences 
of the sale are shifted to Spouse B.
    Under Sec. 1.1041-1T(c), Q&A-9, of the Temporary Income Tax 
Regulations (Q&A-9), section 1041 will apply to a transfer of property 
by the transferor spouse to a third party that is on behalf of the 
other spouse or former spouse (nontransferor spouse) if: (i) The 
transfer to the third party is required by the divorce or separation 
instrument; (ii) the transfer to the third party is pursuant to the 
written request of the nontransferor spouse; or (iii) the transferor 
spouse receives from the nontransferor spouse a written consent or 
ratification of the transfer to the third party. If Q&A-9 applies, a 
direct transfer of property to a third party is treated first as a 
transfer to the nontransferor spouse in a transaction governed by 
section 1041 and then as an immediate transfer by the nontransferor 
spouse to the third party in a transaction not governed by section 
1041.
    Q&A-9 has provided spouses and former spouses with the ability to 
shift between themselves the tax consequences of a sale of property 
outside the marital unit. However, the questions of what standard 
should be applied for purposes of determining whether a transfer of 
property is, or is not, ``on behalf of'' the nontransferor spouse for 
purposes of section 1041, and whether the same standard should be 
applied for purposes of determining the tax treatment of the transferor 
spouse and the nontransferor spouse under provisions of the Internal 
Revenue Code other than section 1041, have become the source of much 
confusion and litigation in the context of certain stock redemptions. 
For instance, the United States Court of Appeals for the Ninth Circuit 
in Arnes v. United States, 981 F.2d 456 (9th Cir. 1992) (regarding the 
tax treatment of the transferor spouse), and the Tax Court in Arnes v.

[[Page 40661]]

Commissioner, 102 T.C. 522 (1994) (regarding the tax treatment of the 
nontransferor spouse), applied different standards to determine the tax 
treatment of the transferor spouse and the nontransferor spouse, 
respectively, in the context of a redemption of stock owned by the 
transferor spouse. Consequently, neither spouse was taxed on the 
redemption proceeds, a result that Congress clearly sought to avoid in 
enacting section 1041. See House Report at 1491.
    In the Arnes cases, a husband and wife owned all the stock of a 
corporation. The divorce instrument required the wife to tender her 
stock to the corporation for redemption. The Ninth Circuit held that 
the redemption was on behalf of the husband and, therefore, was not 
taxable to the wife, because it found that the husband had an 
obligation under the property settlement to purchase the wife's stock 
and the husband was benefitted by the redemption. The Ninth Circuit did 
not address the tax treatment of the husband, although it implied that 
the husband might be taxable on the redemption.
    The Tax Court in Arnes addressed whether the husband was taxable on 
the redemption. The Tax Court stated that the question was whether the 
husband had a constructive dividend; that is, whether he had a 
``primary and unconditional obligation'' to purchase the stock. The 
court concluded that the husband did not have a primary and 
unconditional obligation to purchase the wife's stock and, therefore, 
the redemption of the wife's stock did not result in a constructive 
dividend to the husband. This conclusion, the court stated, was 
supported by the IRS's position in Rev. Rul. 69-608, 1969-2 C.B. 42. 
Rev. Rul. 69-608 holds that a corporation's redemption of its stock 
from a shareholder (the first shareholder) results in a constructive 
distribution to another shareholder (the second shareholder) if the 
redemption is in satisfaction of the second shareholder's primary and 
unconditional obligation to purchase the first shareholder's stock. The 
majority opinion of the Tax Court in Arnes expressly declined to opine 
as to whether the ``on behalf of'' standard of Q&A-9 is the same as the 
``primary and unconditional obligation'' standard applicable to 
constructive distributions.
    The uncertainty has persisted in subsequent cases. In Read v. 
Commissioner, 114 T.C. 14 (2000), the Tax Court rejected equating the 
``primary and unconditional obligation'' standard with the ``on behalf 
of'' standard in Q&A-9 for purposes of determining the tax consequences 
of a stock redemption to the transferor spouse. The Tax Court concluded 
that the appropriate standard for determining whether a transfer of 
property to a third party by a transferor spouse was on behalf of the 
nontransferor spouse under Q&A-9 was whether the transferor spouse was 
acting ``as the representative of'' or ``in the interest of'' the 
nontransferor spouse or whether the transfer satisfied a liability or 
an obligation of the nontransferor spouse. See also Blatt v. 
Commissioner, 102 T.C. 77 (1994).
    Because of these inconsistent standards, the regulations must be 
amended to provide greater certainty in determining which spouse will 
be taxed on certain stock redemptions occurring during marriage or 
incident to divorce.

Explanation of Provisions

    The proposed regulations apply where, under current law, the 
``primary and unconditional obligation'' standard applicable to 
constructive distributions governs the tax consequences to one spouse 
or former spouse of a redemption of stock owned by the other spouse or 
former spouse. Accordingly, the proposed regulations provide that they 
apply only where the nontransferor spouse owns stock of the redeeming 
corporation either immediately before or immediately after the stock 
redemption.
    The proposed regulations provide that, if a corporation redeems 
stock owned by a transferor spouse, and the transferor spouse's receipt 
of property in respect of such stock is treated, under applicable tax 
law, as resulting in a constructive distribution to the nontransferor 
spouse, then the stock redeemed is deemed first to be transferred by 
the transferor spouse to the nontransferor spouse and then to be 
transferred by the nontransferor spouse to the redeeming corporation. 
Section 1041 applies to the deemed transfer of the stock by the 
transferor spouse to the nontransferor spouse, provided the 
requirements of section 1041 are otherwise satisfied with respect to 
such deemed transfer. Section 1041 does not apply to the deemed 
transfer of stock from the nontransferor spouse to the redeeming 
corporation. Any property actually received by the transferor spouse 
from the redeeming corporation in respect of the redeemed stock is 
deemed first to be transferred by the redeeming corporation to the 
nontransferor spouse in exchange for the stock in a transaction to 
which section 1041 does not apply, and then to be transferred by the 
nontransferor spouse to the transferor spouse in a transaction to which 
section 1041 applies, provided the requirements of section 1041 are 
otherwise satisfied with respect to such deemed transfer. The tax 
consequences of the deemed transfer of stock from the nontransferor 
spouse to the redeeming corporation in exchange for the redemption 
proceeds from the redeeming corporation are determined under applicable 
provisions of the Internal Revenue Code (other than section 1041) as if 
such transfers had actually occurred.
    Where applicable law does not treat a transferor spouse's receipt 
of property in respect of stock redeemed as resulting in a constructive 
distribution to the nontransferor spouse, the form of the stock 
redemption is respected. In other words, the transferor spouse and the 
redeeming corporation are respected as parties to the redemption 
transaction, and thus the transferor spouse, not the nontransferor 
spouse, is treated as a party to the redemption.
    The approach of the proposed regulations recognizes that applicable 
tax law currently imposes the primary and unconditional obligation 
standard, which has its origins in well-established case law including 
Wall v. United States, 164 F.2d 462 (4th Cir. 1947), and Sullivan v. 
United States, 363 F.2d 724 (8th Cir. 1966), for determining whether a 
shareholder has received a constructive distribution. The proposed 
regulations are designed to remove inconsistencies caused by the 
simultaneous potential application of the on behalf of standard of Q&A-
9 for one spouse and the primary and unconditional obligation standard 
of the case law for the other spouse. Thus, for example, if the rules 
of the proposed regulations had applied in the Arnes case, because the 
husband did not have a primary and unconditional obligation to purchase 
the wife's stock, the redemption would have been taxed in accordance 
with its form with the result that the wife would have incurred the tax 
consequences of the redemption.
    The proposed regulations provide a special rule that permits 
spouses and former spouses to treat a redemption of the transferor 
spouse's stock as a deemed transfer of the redeemed stock by the 
transferor spouse to the nontransferor spouse and then a deemed 
transfer of the redeemed stock by the nontransferor spouse to the 
redeeming corporation, and to treat any property actually received by 
the transferor spouse from the redeeming corporation in respect of the 
redeemed stock as first transferred by the redeeming corporation to the 
nontransferor spouse in exchange for the stock and then to be 
transferred by the nontransferor spouse to the transferor spouse. The 
special

[[Page 40662]]

rule will apply if a divorce or separation instrument, or a written 
agreement between the transferor spouse and the nontransferor spouse, 
requires the transferor spouse and the nontransferor spouse to file 
their Federal income tax returns in a manner that reflects that the 
transferor spouse transferred the redeemed stock to the nontransferor 
spouse in exchange for the redemption proceeds and the corporation 
redeemed the stock from the nontransferor spouse in exchange for the 
redemption proceeds. Such divorce or separation instrument must be 
effective, or the written agreement must be executed by both spouses or 
former spouses, prior to the date on which the nontransferor spouse 
files such spouse's first timely filed Federal income tax return for 
the year that includes the date of the redemption, but no later than 
the date such return is due (including extensions). The special rule is 
provided to give spouses and former spouses a means of ensuring the 
application of those Federal income tax consequences that would have 
resulted had applicable tax law treated the transferor spouse's stock 
redemption as resulting in a constructive distribution to the 
nontransferor spouse.

Proposed Effective Date

    The proposed regulations are applicable to redemptions of stock on 
or after the date the regulations in this section are published as 
final regulations, except for redemptions of stock that are pursuant to 
instruments in effect before the date the regulations in this section 
are published as final regulations. For redemptions of stock before the 
date the regulations in this section are published as final regulations 
and redemptions of stock that are pursuant to instruments in effect 
before the date the regulations in this section are published as final 
regulations, see Sec. 1.1041-1T(c), A-9. However, these regulations 
will be applicable to redemptions described in the preceding sentence 
if the spouses or former spouses execute a written agreement on or 
after August 3, 2001, that satisfies the requirements of paragraph (c) 
of these regulations with respect to such redemption.

Special Analysis

    It has been determined that this notice of proposed rulemaking is 
not a significant regulatory action as defined in Executive Order 
12866. Therefore, a regulatory assessment is not required. It has also 
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 collection of information on small 
entities, a Regulatory Flexibility Analysis is not required. 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 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) and electronic comments that are submitted timely 
to the IRS. The IRS is also interested in receiving comments regarding 
the proper treatment of transfers of property to third parties by a 
spouse or former spouse other than transfers under these proposed 
regulations that solely govern certain redemptions of stock owned by a 
spouse or former spouse. Further, comments are specifically requested 
concerning the effective date provisions in the proposed regulations. 
All comments will be available for public inspection and copying.
    A public hearing has been scheduled for December 14, 2001, at 10:00 
a.m. in the Auditorium, Internal Revenue Building, 1111 Constitution 
Avenue, NW., Washington, DC. Due to building security procedures, 
visitors must enter at the 10th Street entrance, located between 
Constitution and Pennsylvania Avenues, NW. In addition, all visitors 
must present photo identification to enter the building. Because of 
access restrictions, visitors will not be admitted beyond the immediate 
entrance area more than 15 minutes before the hearing starts. For 
information about having your name placed on the building access list 
to attend the hearing, see the FOR FURTHER INFORMATION CONTACT section 
of this preamble.
    The rules of 26 CFR 601.601(a)(3) apply to the hearing.
    Persons that wish to present oral comments at the hearing must 
submit timely written or electronic comments and must submit an outline 
of the topics to be discussed and the time to be devoted to each topic 
(preferably a signed original and eight (8) copies) by November 23, 
2001.
    A period of 10 minutes will be allotted to each person for making 
comments.
    An agenda showing the scheduling of the speakers will be prepared 
after the deadline for receiving outlines has passed. Copies of the 
agenda will be available free of charge at the hearing.

Drafting Information

    The principal author of these regulations is Edward C. Schwartz of 
the Office of the Associate Chief Counsel (Income Tax and Accounting). 
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 continues to read in 
part as follows:

    Authority: 26 U.S.C. 7805 * * *

    Par. 2. In Sec. 1.1041-1T, paragraph (c) is amended by adding a 
sentence at the end of A-9 to read as follows:


Sec. 1.1041-1T  Treatment of transfer of property between spouses or 
incident to divorce (temporary).

* * * * *
    (c) * * *
    A-9: * * * This A-9 shall not apply to transfers to which 
Sec. 1.1041-2 applies.
* * * * *
    Par. 3. Section 1.1041-2 is added to read as follows:


Sec. 1.1041-2  Certain redemptions of stock.

    (a) In general--(1) Redemptions of stock resulting in constructive 
distributions. Notwithstanding Q&A-9 of Sec. 1.1041-1T(c), if a 
corporation redeems stock owned by a spouse or former spouse 
(transferor spouse), and the transferor spouse's receipt of property in 
respect of such redeemed stock is treated, under applicable tax law, as 
resulting in a constructive distribution to the other spouse or former 
spouse (nontransferor spouse), then the stock redeemed shall be deemed 
first to be transferred by the transferor spouse to the nontransferor 
spouse and then to be transferred by the nontransferor spouse to the 
redeeming corporation. Any property actually received by the transferor 
spouse from the redeeming corporation in respect of the redeemed stock 
shall be deemed first to be transferred by the redeeming corporation to 
the nontransferor spouse in exchange for the redeemed stock and then to 
be transferred by the nontransferor spouse to the transferor spouse.
    (2) Redemptions of stock not resulting in constructive 
distributions.

[[Page 40663]]

Notwithstanding Q&A-9 of Sec. 1.1041-1T(c), if a corporation redeems 
stock owned by the transferor spouse, and the transferor spouse's 
receipt of property in respect of such redeemed stock is not treated, 
under applicable tax law, as resulting in a constructive distribution 
to the nontransferor spouse, then the form of the stock redemption 
shall be respected for Federal income tax purposes. Therefore, the 
transferor spouse and the redeeming corporation will be respected as 
engaging in a redemption transaction to which the nontransferor spouse 
is not a party.
    (b) Tax consequences--(1) Transfers described in paragraph (a)(1). 
The tax consequences of each deemed transfer described in paragraph 
(a)(1) of this section are determined under applicable provisions of 
the Internal Revenue Code as if the parties had actually made such 
transfers. Accordingly, section 1041 applies to any deemed transfer of 
the stock and redemption proceeds between the transferor spouse and the 
nontransferor spouse, provided the requirements of section 1041 are 
otherwise satisfied with respect to such deemed transfer. Section 1041, 
however, will not apply to any deemed transfer of stock by the 
nontransferor spouse to the redeeming corporation in exchange for the 
redemption proceeds. See section 302 for rules relating to the tax 
consequences of certain corporate redemptions.
    (2) Transfers described in paragraph (a)(2). Section 1041 will not 
apply to any of the transfers described in paragraph (a)(2) of this 
section. See section 302 for rules relating to the tax consequences of 
certain stock redemptions.
    (c) Special rule. Notwithstanding applicable tax law, a transferor 
spouse's receipt of property in respect of redeemed stock will be 
treated as resulting in a constructive distribution to the 
nontransferor spouse for purposes of paragraph (a)(1) of this section 
if a divorce or separation instrument, or a written agreement between 
the transferor spouse and the nontransferor spouse, requires the 
transferor spouse and the nontransferor spouse to file their Federal 
income tax returns in a manner that reflects that the transferor spouse 
transferred the redeemed stock to the nontransferor spouse in exchange 
for the redemption proceeds and the corporation redeemed the stock from 
the nontransferor spouse in exchange for the redemption proceeds. Such 
divorce or separation instrument must be effective, or written 
agreement must be executed by both spouses or former spouses, prior to 
the date on which the nontransferor spouse files such spouse's first 
timely filed Federal income tax return for the year that includes the 
date of the stock redemption, but no later than the date such return is 
due (including extensions).
    (d) Limited scope. Paragraphs (a) and (c) of this section shall 
apply only to stock redemptions where, either immediately before or 
immediately after the stock redemption, the nontransferor spouse owns 
directly stock of the redeeming corporation.
    (e) Examples. The provisions of this section may be illustrated by 
the following examples:

    Example 1. Corporation X has 100 shares outstanding. A and B 
each own 50 shares. A and B divorce. The divorce instrument requires 
B to purchase A's shares, and A to sell A's shares to B, in exchange 
for $100x. Corporation X redeems A's shares for $100x. Assume that, 
under applicable tax law, the stock redemption results in a 
constructive distribution to B. Paragraph (a)(1) of this section 
applies to the transfers of stock and redemption proceeds in 
connection with the redemption transaction. Accordingly, A will be 
treated as transferring A's stock of Corporation X to B in a 
transfer to which section 1041 applies (assuming the requirements of 
section 1041 are otherwise satisfied). B will be treated as 
transferring the Corporation X stock B is deemed to have received 
from A to Corporation X in exchange for $100x in an exchange to 
which section 1041 does not apply and sections 302(d) and 301 apply, 
and B will be treated as transferring the $100x to A in a transfer 
to which section 1041 applies.
    Example 2. Assume the same facts as Example 1, except that the 
divorce instrument requires A to sell A's shares to Corporation X in 
exchange for a note. B guarantees Corporation X's payment of the 
note. Assume that, under applicable tax law, B does not have a 
primary and unconditional obligation to purchase A's stock. Also 
assume that the special rule of paragraph (c) of this section does 
not apply to the transfer of stock and redemption proceeds in 
connection with the redemption transaction. Under applicable tax 
law, the stock redemption does not result in a constructive 
distribution to B, because B does not have a primary and 
unconditional obligation to purchase A's stock. Paragraph (a)(1) of 
this section does not apply to the transfers of stock and redemption 
proceeds in connection with the redemption transaction. Accordingly, 
under paragraphs (a)(2) and (b)(2) of this section, the tax 
consequences of the redemption will be determined in accordance with 
its form as a redemption of A's shares by Corporation X. See section 
302.
    Example 3. Assume the same facts as Example 2, except that the 
divorce instrument provides as follows: ``A and B agree that A's 
Federal income tax return for the year that includes the date of the 
redemption will reflect that A transferred A's shares of Corporation 
X to B in exchange for the redemption proceeds of $100x and B's 
Federal income tax return for such year will reflect that 
Corporation X redeemed such shares from B in exchange for such 
proceeds.'' By virtue of the special rule of paragraph (c) of this 
section, the redemption is treated as resulting in a constructive 
distribution to B. Accordingly, A will be treated as transferring 
A's stock of Corporation X to B in a transfer to which section 1041 
applies (assuming the requirements of section 1041 are otherwise 
satisfied). B will be treated as transferring the Corporation X 
stock B is deemed to have received from A to Corporation X in 
exchange for $100x in an exchange to which section 1041 does not 
apply and sections 302(d) and 301 apply, and B will be treated as 
transferring the $100x to A in a transfer to which section 1041 
applies.

    (f) Effective date. Except as otherwise provided in this paragraph 
(f), this section is applicable to redemptions of stock on or after the 
date these regulations are published as final regulations in the 
Federal Register, except for redemptions of stock that are pursuant to 
instruments in effect before the date these regulations are published 
as final regulations in the Federal Register. For redemptions of stock 
before the date these regulations are published as final regulations in 
the Federal Register and redemptions of stock that are pursuant to 
instruments in effect before the date these regulations are published 
as final regulations in the Federal Register, see Sec. 1.1041-1T(c), A-
9. However, this section will be applicable to redemptions described in 
the preceding sentence of this paragraph (f) if the spouses or former 
spouses execute a written agreement on or after August 3, 2001 that 
satisfies the requirements of paragraph (c) of this section with 
respect to such redemption.

Robert Wenzel,
Deputy Commissioner of Internal Revenue.
[FR Doc. 01-19224 Filed 8-2-01; 8:45 am]
BILLING CODE 4830-01-P