[Federal Register Volume 68, Number 130 (Tuesday, July 8, 2003)]
[Proposed Rules]
[Pages 40583-40585]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-17090]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-209377-89]
RIN 1545-BA69


At-Risk Limitations; Interest Other Than That of a Creditor

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking.

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SUMMARY: This document contains proposed regulations relating to the 
treatment, for purposes of the at-risk limitations, of amounts borrowed 
from a person who has an interest in an activity other than that of a 
creditor or from a person related to a person (other than the borrower) 
with such an interest. Proposed regulations published in 1979 provide 
that amounts borrowed from a person who has an interest in an activity 
other than that of a creditor do not increase the amount at risk in 
certain enumerated activities. These proposed regulations extend this 
rule to all activities subject to the at-risk limitations. In addition, 
the rule is conformed to the current statutory language providing for 
its application to amounts borrowed from persons related to a person 
(other than the borrower) with an interest other than that of a 
creditor. These proposed regulations affect taxpayers subject to the 
at-risk limitations and provide them with guidance necessary to comply 
with the law.

DATES: Written or electronic comments and requests for a public hearing 
must be received no later than October 6, 2003.

ADDRESSES: Send submissions to: CC:PA:RU (REG-209377-89), room 5226, 
Internal Revenue Service, POB 7604, Ben Franklin Station, Washington, 
DC 20044. Submissions may also be hand delivered Monday through Friday 
between the hours of 8 a.m. and 4 p.m. to: CC:PA:RU (REG-209377-89), 
Courier's Desk, Internal Revenue Service, 1111 Constitution Avenue NW., 
Washington, DC. Alternatively, taxpayers may submit electronic comments 
directly to the IRS Internet site at: http://www.irs.gov/regs.

FOR FURTHER INFORMATION CONTACT: Concerning the regulations, Tara P. 
Volungis or Christopher L. Trump, 202-622-3080; concerning submissions 
and requests for a public hearing, [INSERT NAME], 202-622-7180 (not 
toll-free numbers).

[[Page 40584]]


SUPPLEMENTARY INFORMATION:

Background

    This document proposes amendments to 26 CFR part 1 to provide 
additional rules under section 465 of the Internal Revenue Code of 1986 
(Code), as amended. Section 465 was added to the Code by section 204 of 
the Tax Reform Act of 1976 (Public Law 94-455, 90 Stat. 1531). Section 
465 limits the deductibility of losses to a taxpayer's economic 
investment (the amount at risk) in the activity at the close of a 
taxable year. A taxpayer is generally considered at risk in an activity 
to the extent of cash and the adjusted basis of property contributed by 
the taxpayer to the activity. In general, a taxpayer's amount at risk 
also includes any amounts borrowed for use in the activity if the 
taxpayer is personally liable for repayment or if property other than 
property used in the activity is pledged as security.
    As originally enacted, section 465 applied to certain enumerated 
activities described in section 465(c)(1) (old activities). Subsequent 
amendments made by section 201 of the Revenue Act of 1978 (Public Law 
95-600, 92 Stat. 2814) extended the at-risk rules to other activities 
described in section 465(c)(3)(A) (new activities).
    On June 5, 1979, the IRS published in the Federal Register (44 FR 
32235) proposed regulations (LR-166-76) relating to the treatment of 
investments in old activities under section 465 of the Code (the 
previously proposed regulations). Section 1.465-8 of the previously 
proposed regulations provides that amounts borrowed by a taxpayer for 
use in an old activity do not increase the taxpayer's amount at risk if 
the lender has an interest in the activity other than that of a 
creditor. Section 1.465-20 of the previously proposed regulations 
provides rules for the treatment of amounts borrowed from certain 
persons and amounts protected against loss. This document proposes to 
amend Sec. Sec.  1.465-8 and 1.465-20 of the previously proposed 
regulations.

Explanation of Provisions

I. Application of Section 465(b)(3) to New Activities

    Under section 465(b)(3), amounts borrowed for use in an activity 
will not increase the borrower's amount at risk in the activity if the 
lender has an interest other than that of a creditor in the activity (a 
disqualifying interest) or if the lender is related to a person (other 
than the borrower) who has a disqualifying interest in the activity. 
The rule applies even if the borrower is personally liable for the 
repayment of the loan or the loan is secured by property not used in 
the activity.
    Section 465(c)(3)(D) provides that section 465(b)(3) will apply to 
new activities only to the extent provided in regulations prescribed by 
the Secretary. The Tax Court in Alexander v. Commissioner, 95 T.C. 467 
(1990), held that, until regulations are issued, section 465(b)(3) 
cannot be applied to a new activity. These proposed regulations will 
apply section 465(b)(3) to the new activities described in section 
465(c)(3)(A).

II. Related Persons

    As originally enacted, section 465(b)(3) also applied to any 
borrowing from persons related to the taxpayer under section 267(b). 
Section 432(c) of the Deficit Reduction Act of 1984 (Public Law 98-369, 
98 Stat. 814) eliminated this rule but provided, instead, that a 
taxpayer's amount at risk is not increased by amounts borrowed from a 
person related to a person (other than the taxpayer) who has a 
disqualifying interest in the activity. These proposed regulations 
change Sec.  1.465-20 of the previously proposed regulations to reflect 
the amendment made by the Deficit Reduction Act of 1984.

III. Scope of Sec.  1.465-8

    These proposed regulations modify the previously proposed 
regulations to reflect section 465(b)(3)(B)(ii), which provides that, 
for purposes of determining a corporation's amount at risk, an interest 
as a shareholder is not a disqualifying interest. Thus, amounts 
borrowed by a corporation from its shareholders may increase the 
corporation's amount at risk.
    These proposed regulations also modify the previously proposed 
regulations to reflect section 465(b)(6)(A), which provides that 
``qualified nonrecourse financing,'' if borrowed for use in an activity 
of holding real property and secured by real property used in the 
activity, is not subject to the limitations of section 465(b)(3). In 
addition, these proposed regulations expand the exception to include 
financing that, if it were nonrecourse, would be financing described in 
section 465(b)(6)(B). This expansion of the exception ensures that 
recourse financing is treated no worse than qualified nonrecourse 
financing.

Proposed Effective Date

    The new rules in these regulations are proposed to be applicable to 
amounts borrowed after the rules are published as final regulations in 
the Federal Register.

Special Analyses

    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 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 
these regulations do not impose on small entities a collection of 
information requirement, the Regulatory Flexibility Act (5 U.S.C. 
chapter 6) does not apply. Therefore, a Regulatory Flexibility Analysis 
is not required. Pursuant to section 7805(f) of the 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 Public Hearing

    Before these proposed regulations are adopted as final regulations, 
consideration will be given to any written (a signed original and 8 
copies) or electronic comments 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 will be scheduled if requested in writing by any person that 
timely submits written comments. If a public hearing is scheduled, 
notice of the date, time, and place for the public hearing will be 
published in the Federal Register.

Drafting Information

    The principal authors of these proposed regulations are Tara P. 
Volungis and Christopher L. Trump of the Office of Associate Chief 
Counsel (Passthroughs and Special Industries). Other personnel from 
Treasury and the IRS 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, which was proposed at 44 FR 32235 (June 
5, 1979), is proposed to be amended as follows:

[[Page 40585]]

PART 1--INCOME TAXES

    Paragraph 1. The authority citation for part 1 is amended by adding 
entries in numerical order to read in part as follows:

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

Section 1.465-8 also issued under 26 U.S.C. 465. * * *
Section 1.465-20 also issued under 26 U.S.C. 465. * * *

    Par. 2. Section 1.465-8, as proposed at 44 FR 32238 (June 5, 1979), 
is amended as follows:
    1. Paragraphs (a) and (b)(1) are revised.
    2. The last sentence of paragraph (c)(1) is revised.
    3. The second sentence of paragraph (d)(1) is revised.
    4. Paragraph (e) is added.
    The revisions and additions read as follows:


Sec.  1.465-8  General rules; interest other than that of a creditor.

    (a) In general--(1) Amounts borrowed. This section applies to 
amounts borrowed for use in an activity described in section 465(c)(1) 
or (c)(3)(A). Amounts borrowed with respect to an activity will not 
increase the borrower's amount at risk in the activity if the lender 
has an interest in the activity other than that of a creditor or is 
related to a person (other than the borrower) who has an interest in 
the activity other than that of a creditor. This rule applies even if 
the borrower is personally liable for the repayment of the loan or the 
loan is secured by property not used in the activity. For additional 
rules relating to the treatment of amounts borrowed from these persons, 
see Sec.  1.465-20.
    (2) Certain borrowed amounts excepted. (i) For purposes of 
determining a corporation's amount at risk, an interest in the 
corporation as a shareholder is not an interest in any activity of the 
corporation. Thus, amounts borrowed by a corporation from a shareholder 
may increase the corporation's amount at risk.
    (ii) For purposes of determining a taxpayer's amount at risk in an 
activity of holding real property, paragraph (a)(1) of this section 
does not apply to financing that is secured by real property used in 
the activity and is either--
    (A) Qualified nonrecourse financing described in section 
465(b)(6)(B); or
    (B) Financing that, if it were nonrecourse, would be financing 
described in section 465(b)(6)(B).
    (b) Loans for which the borrower is personally liable for 
repayment--(1) General rule. If a borrower is personally liable for the 
repayment of a loan for use in an activity, a person shall be 
considered a person with an interest in the activity other than that of 
a creditor only if the person has either a capital interest in the 
activity or an interest in the net profits of the activity.
* * * * *
    (c) * * *
    (1) * * * In the case of such a loan a person shall be considered a 
person with an interest in the activity other than that of a creditor 
only if the person has either a capital interest in the activity or an 
interest in the net profits of the activity.
* * * * *
    (d) * * *
    (1) * * * In the case of such a loan a person shall be considered a 
person with an interest in the activity other than that of a creditor 
if the person stands to receive financial gain (other than interest) 
from the activity or from the sale of interests in the activity. * * *
* * * * *
    (e) Effective date. This section applies to amounts borrowed after 
the date this section is published as a final regulation in the Federal 
Register.
    Par. 3. Section 1.465-20, as proposed at 44 FR 32241 (June 5, 
1979), is amended as follows:
    1. Paragraphs (a) and (b) are revised.
    2. Paragraph (d) is added.
    The revisions and additions read as follows:


Sec.  1.465-20  Treatment of amounts borrowed from certain persons and 
amounts protected against loss.

    (a) General rule. The following amounts are treated in the same 
manner as borrowed amounts for which the taxpayer has no personal 
liability and for which no security is pledged--
    (1) Amounts that do not increase the taxpayer's amount at risk 
because they are borrowed from a person who has an interest in the 
activity other than that of a creditor or from a person who is related 
to a person (other than the taxpayer) who has an interest in the 
activity other than that of a creditor; and
    (2) Amounts (whether or not borrowed) that are protected against 
loss.
    (b) Interest other than that of a creditor; cross reference. See 
Sec.  1.465-8 for additional rules relating to amounts borrowed from a 
person who has an interest in the activity other than that of a 
creditor or is related to a person (other than the taxpayer) who has an 
interest in the activity other than that of a creditor.
* * * * *
    (d) Effective date. This section applies to amounts borrowed after 
the date this section is published as a final regulation in the Federal 
Register.

Robert E. Wenzel,
Deputy Commissioner for Services and Enforcement.
[FR Doc. 03-17090 Filed 7-7-03; 8:45 am]
BILLING CODE 4830-01-P