[Federal Register Volume 72, Number 137 (Wednesday, July 18, 2007)]
[Rules and Regulations]
[Pages 39313-39315]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E7-13839]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9341]
RIN 1545-BE87


Treatment of Excess Loss Accounts

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations and removal of temporary regulations.

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SUMMARY: This document contains final regulations under section 1502. 
Section 1.1502-19(d) governs basis determinations and adjustments of 
subsidiary stock in certain transactions involving members of a 
consolidated group. Section 1.1502-80(c) governs the determination of 
when subsidiary stock is treated as worthless under section 165. These 
final regulations affect affiliated groups of corporations filing 
consolidated returns.

DATES: Effective Date: These final regulations are effective on July 
18, 2007.
    Applicability Dates: Section 1.1502-19(d) applies to transactions 
occurring on or after July 18, 2007. Section 1.1502-80(c) applies to 
taxable years for which the original consolidated Federal income tax 
return is due (without extensions) after July 18, 2007.

FOR FURTHER INFORMATION CONTACT: For questions regarding Sec.  1.1502-
19(d), contact Theresa M. Kolish, (202) 622-7530 (not a toll-free 
number). For questions regarding Sec.  1.1502-80(c), contact Theresa 
Abell, (202) 622-7700 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

    On January 26, 2006, the IRS and Treasury Department published a 
notice of proposed rulemaking (REG-138879-05, 71 FR 4319) by cross-
reference to a temporary regulation under Sec.  1.1502-19 (TD 9244, 71 
FR 4264). Prior to the publication of the proposed and temporary 
regulations, the direction of a transaction determined whether an 
excess loss account would be reduced or eliminated. For example, if P 
had owned all the stock of S with an excess loss account of $100 and 
all of the stock of T with a basis of $150, and T had merged into S in 
a reorganization described in section 368(a)(1)(D) in which P received 
additional shares of S stock, under Sec.  1.1502-19(d), P's excess loss 
account in its original shares of S stock was first eliminated. 
Therefore, P's original S shares would have had an aggregate basis of 
$0 and P's new S shares would have had an aggregate basis of $50. 
However, if S instead had merged into T in a reorganization described 
in section 368(a)(1)(D) in which P received additional shares of T 
stock, Sec.  1.1502-19(d) would not have applied because P did not 
already have T shares with an excess loss account. Therefore, P's 
original T shares would have had a basis of $150 and P's new T shares 
would have had an excess loss account of $100.
    The IRS and Treasury Department found the electivity of the rule 
based on the direction of the transaction to be undesirable. 
Accordingly, the IRS and Treasury Department added Sec.  1.1502-19T(d), 
which provides that, if a member would otherwise determine shares of a 
class of S's stock (a new share) to have an excess loss account and 
such member owns one or more other shares of the same class of S's 
stock, the basis of such other shares is

[[Page 39314]]

allocated to eliminate and equalize any excess loss account that would 
otherwise be in the new shares.
    No public hearing regarding the proposed regulation was requested 
or held. However, a few informal comments regarding the proposed and 
temporary regulations were received. In particular, the commentators 
noted that Sec.  1.1502-19T(d) would appear to apply in the earlier 
example if P had excess loss accounts in its shares of both S and T. 
For example, assume that P owned S and T (which were of equal value), P 
had a $50 excess loss account in its S stock and a $100 excess loss 
account in its T stock, and T merged into S in a reorganization 
described in section 368(a)(1)(D) in which additional shares were 
issued. Under Sec.  1.1502-19T(d), the excess loss accounts in the two 
blocks of S stock would be equalized so that P would have a $75 excess 
loss account in each block. The commentators asked whether this outcome 
was intended. The IRS and Treasury Department believe that the excess 
loss accounts in this example should be equalized and affirm that Sec.  
1.1502-19 does apply under the facts of presented. This application 
eliminates the disparity between excess loss accounts in order to 
better reflect P's investment in its subsidiary stock. The proposed 
regulation under Sec.  1.1502-19 is adopted by this Treasury decision 
and the temporary regulation is removed.
    Additionally, on January 23, 2007, the IRS and Treasury Department 
published a notice of proposed rulemaking (REG-157711-02, 72 FR 2964) 
under Sec.  1.1502-80(c) regarding when the stock of a member is 
treated as worthless under section 165. The proposed regulation is 
adopted without substantive modification by this Treasury Decision, and 
is applicable to tax years for which the original consolidated Federal 
income tax return is due (without extensions) after July 18, 2007. 
Section 1.1502-80T is removed.
    Consistent with the prior final regulations, these regulations 
provide that subsidiary stock is not treated as worthless before the 
earlier of the time that the subsidiary ceases to be a member of the 
group or the time that the stock of the subsidiary is worthless within 
the meaning of Sec.  1.1502-19(c)(1)(iii). Section 1.1502-19(c)(1)(iii) 
identifies three separate events that cause a share of subsidiary stock 
to be treated as worthless and therefore disposed of for purposes of 
taking into account an excess loss account in the share. Section 
1.1502-19(c)(1)(iii)(A) applies when the subsidiary disposes of 
substantially all of its assets, and the deferral of any worthless 
securities deduction until that time implements single-entity 
principles. While an event identified in either Sec.  1.1502-
19(c)(1)(iii)(B) or (C) (generally dealing with debt cancellations) 
will likely occur in connection with an event identified in Sec.  
1.1502-19(c)(1)(iii)(A), either may occur independently. In light of 
the single-entity purpose of the regulations, the IRS and Treasury 
Department are requesting comments regarding whether these regulations 
should refer only to the time stock is treated as worthless within the 
meaning of Sec.  1.1502-19(c)(1)(iii)(A).

Special Analyses

    It has been determined that this Treasury Decision is not a 
significant regulatory action as defined in Executive Order 12866. 
Therefore, a regulatory assessment is not required. Pursuant to 5 
U.S.C. 553(d)(3) it has been determined that that a delayed effective 
date is unnecessary because this rule finalizes currently effective 
temporary rules regarding the treatment of excess loss accounts without 
substantive change. It is hereby certified that these final regulations 
will not have a significant economic impact on a substantial number of 
small entities. This certification is based on the fact that these 
regulations will primarily affect affiliated groups of corporations 
that have elected to file consolidated returns, which tend to be larger 
businesses. Moreover, the number of taxpayers affected and the average 
burden are minimal. Accordingly, a Regulatory Flexibility Analysis 
under the Regulatory Flexibility Act (5 U.S.C. chapter 6) is not 
required. Pursuant to section 7805(f) of the Internal Revenue Code, the 
notices of proposed rulemaking preceding these regulations were 
submitted to the Chief Counsel for Advocacy of the Small Business 
Administration for comment on its impact on small business.

Drafting Information

    The principal author of Sec.  1.1502-19 is Theresa M. Kolish of the 
Office of the Associate Chief Counsel (Corporate), IRS. The principal 
author of Sec.  1.1502-80(c) is Theresa Abell of the Office of the 
Associate Chief Counsel (Corporate), IRS. However, other personnel from 
the IRS and the Treasury Department participated in their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations

0
Accordingly, 26 CFR part 1 is amended as follows:

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 is amended by removing 
the entries for Sec. Sec.  1.1502-19T and 1.1502-80T to read in part as 
follows:

    Authority: 26 U.S.C. 7805 * * *
    Section 1.1502-19 and Sec.  1.1502-80 are also issued under 26 
U.S.C. 1502. * * *


0
Par. 2. Section 1.1502-19 is amended by revising paragraphs (d), (g) 
Example 2, and (h)(2)(iv) to read as follows:


Sec.  1.1502-19.  Excess loss accounts.

* * * * *
    (d) Special allocation of basis in connection with an adjustment or 
determination--(1) Excess loss account in original shares. If a member 
has an excess loss account in shares of a class of S's stock at the 
time of a basis adjustment or determination under the Internal Revenue 
Code with respect to shares of the same class of S's stock owned by the 
member, the adjustment or determination is allocated first to equalize 
and eliminate that member's excess loss account. See Sec.  1.1502-32(c) 
for similar allocations of investment adjustments to prevent or 
eliminate excess loss accounts.
    (2) Excess loss account in new S shares. If a member would 
otherwise determine shares of a class of S's stock (new shares) to have 
an excess loss account and such member owns one or more other shares of 
the same class of S's stock, the basis of such other shares is 
allocated to eliminate and equalize any excess loss account that would 
otherwise be in the new shares.
* * * * *
    (g) * * *

    Example 2. Basis determinations under the Internal Revenue Code 
in intercompany reorganizations--transfer of shares without an 
excess loss account. (i) Facts. P owns all of the sole class of 
stock of each of S and T. P has 150 shares of S stock that it 
acquired on Date 1. Each S share has a $1 basis and a fair market 
value of $1. P has 100 shares of T stock that it acquired on Date 2. 
Each T share has a $1.20 excess loss account and a fair market value 
of $1. P transfers S's stock to T without receiving additional T 
stock. The transfer is an exchange described in both section 351 and 
section 354.
    (ii) Analysis. Under sections 351 and 354, P does not recognize 
gain in connection with the transfer. Under Sec.  1.358-
2(a)(2)(iii), P is deemed to receive 150 shares of T stock of the 
same class. Without regard to the application of paragraph (d) of 
this section, under section 358 and Sec.  1.358-2(a)(2)(i), P would 
have a $1 basis in each such share.

[[Page 39315]]

However, because the basis of the additional shares of T stock will 
be determined when P has an excess loss account in its original 
shares of T stock, under paragraph (d)(1) of this section, the basis 
that P would otherwise have in such additional shares will eliminate 
the excess loss account in P's original shares of T stock such that 
each original share of T stock will have a basis of $0 and each 
share of T stock deemed received will have a basis of $0.20. Then, 
under Sec.  1.358-2(a)(2)(iii), the T stock is deemed to be 
recapitalized in a reorganization under section 368(a)(1)(E) in 
which P receives 100 shares of T stock (those shares P actually owns 
immediately after the transfer) in exchange for those 100 shares of 
T stock that P held immediately prior to the transfer and those 150 
shares of T stock P is deemed to receive in the transfer. Under 
Sec.  1.358-2(a)(2)(i), immediately after the transfer, P holds 100 
shares of T stock, 60 of which take a basis of $0.50 each and 40 of 
which take a basis of $0 each. In addition, T takes a $1 basis in 
each share of S stock under section 362. (If P had actually received 
an additional 150 shares of T stock of the same class, paragraph 
(d)(1) of this section would apply to shift basis from such 
additional T shares to P's original T shares because the basis of 
the additional T stock would be determined when P had an excess loss 
account in its original T shares. P would have a basis of $0 in each 
of the original T shares and a basis of $0.20 in each of the 
additional T shares.)
    (iii) Transfer of shares with an excess loss account. The facts 
are the same as in paragraph (i) of this Example 2, except that P 
transfers T's stock to S without receiving additional S stock. The 
transfer is an exchange described in both section 351 and section 
354. Under paragraph (c) of this section, P's transfer is treated as 
a disposition of T's stock. Under sections 351 and 354 and paragraph 
(b)(2) of this section, P does not recognize gain from the 
disposition. Under Sec.  1.358-2(a)(2)(iii), P is deemed to have 
received 100 shares of S stock of the same class. Without regard to 
the application of paragraph (d) of this section, P would have a 
$1.20 excess loss account in each such share. However, because P 
will have an excess loss account in such shares and P owns other 
shares of S stock of the same class, under paragraph (d)(2) of this 
section, the excess loss account that P would otherwise have in such 
shares will decrease P's basis in its original shares of S's stock 
such that each such original share will have a basis of $0.20 and 
each share deemed received will have a basis of $0. Then, under 
Sec.  1.358-2(a)(2)(iii), the S stock is deemed to be recapitalized 
in a reorganization under section 368(a)(1)(E) in which P receives 
150 shares of S stock (those shares P actually owns immediately 
after the transfer) in exchange for those 150 shares of S stock that 
P held immediately prior to the transfer and those 100 shares of S 
stock that P is deemed to receive in connection with the transfer. 
Under Sec.  1.358-2(a)(2)(i), immediately after the transfer, P 
holds 150 shares of S stock, 90 of which take a basis of $0.33 each 
and 60 of which take a basis of $0 each. In addition, S takes an 
excess loss account of $1.20 in each share of T stock under section 
362. (If P had actually received 100 additional shares of S stock of 
the same class, paragraph (d)(2) of this section would apply to 
shift basis from P's original S stock because P would have otherwise 
had an excess loss account in such additional shares and P owned 
other shares of S stock of the same class. The excess loss account 
that P would have otherwise had in such additional shares would have 
decreased P's basis in its original shares of S's stock. P would 
have had a basis of $0.20 in each of the original shares and a basis 
of $0 in each of the additional shares.)
    (iv) Intercompany merger--shares with excess loss account 
retained. The facts are the same as in paragraph (i) of this Example 
2, except that S merges into T in a reorganization described in 
section 368(a)(1)(A) (and in section 368(a)(1)(D)), and P receives 
150 additional shares of T stock of the same class in the 
reorganization. Under section 354, P does not recognize gain. 
Without regard to the application of paragraph (d) of this section, 
under section 358 and Sec.  1.358-2(a)(2)(i), P would have a $1 
basis in each such share. However, because the basis of the 
additional shares of T stock will be determined when P has an excess 
loss account in its original shares of T stock, under paragraph 
(d)(1) of this section, the basis that P would otherwise have in 
such additional shares eliminates the excess loss account in P's 
original shares of T stock such that each original share of T stock 
has a basis of $0 and each additional share of T stock has a basis 
of $0.20.
    (v) Intercompany merger--shares with excess loss account 
surrendered. The facts are the same as in paragraph (i) of this 
Example 2, except that T merges into S in a reorganization described 
in section 368(a)(1)(A) (and in section 368(a)(1)(D)), and P 
receives 100 additional shares of S stock of the same class in the 
reorganization. Under section 354 and paragraph (b)(2) of this 
section, P does not recognize gain from the disposition. Without 
regard to the application of paragraph (d) of this section, under 
section 358 and Sec.  1.358-2(a)(2)(i), P would have a $1.20 excess 
loss account in each additional share of S stock received. However, 
because P would have an excess loss account in such shares and P 
owns other shares of S stock of the same class, under paragraph 
(d)(2) of this section, the excess loss account that P would 
otherwise have in such shares decreases P's basis in its original 
shares of S's stock such that each original share of S stock has a 
basis of $0.20 and each additional share of S stock has a basis of 
$0.
* * * * *
    (h) * * *
    (2) * * *
    (iv) Intercompany reorganizations. Paragraphs (d) and (g) Example 2 
of this section apply to transactions occurring on or after July 18, 
2007. For transactions occurring on or after January 23, 2006, and 
before July 18, 2007, see Sec.  1.1502-19T as contained in 26 CFR part 
1 in effect April 1, 2007. For transactions occurring before January 
23, 2006, see Sec.  1.1502-19 as contained in 26 CFR part 1 in effect 
April 1, 2005.
* * * * *


Sec.  1.1502-19T  [Removed]

0
Par. 3. Section 1.1502-19T is removed.

0
Par. 4. Section 1.1502-80 is amended by revising paragraph (c) to read 
as follows:


Sec.  1.1502-80  Applicability of other provisions of law.

* * * * *
    (c) Deferral of section 165--(1) General rule. Subsidiary stock is 
not treated as worthless under section 165 until immediately before the 
earlier of the time--
    (i) The stock is worthless within the meaning of Sec.  1.1502-
19(c)(1)(iii); or
    (ii) The subsidiary for any reason ceases to be a member of the 
group.
    (2) Cross reference. See Sec. Sec.  1.337(d)-2 and 1.1502-35 for 
additional rules relating to loss on subsidiary stock.
    (3) Effective/applicability date. This paragraph (c) applies to 
taxable years for which the original consolidated Federal income tax 
return is due (without extensions) after July 18, 2007. However, 
taxpayers may apply this paragraph (c) to taxable years beginning on or 
after January 1, 1995.
* * * * *


Sec.  1.1502-80T  [Removed]

0
Par. 5. Section 1.1502-80T is removed.

Kevin M. Brown,
Deputy Commissioner for Services and Enforcement.
    Approved: July 10, 2007.
Eric Solomon,
Assistant Secretary of the Treasury (Tax Policy).
 [FR Doc. E7-13839 Filed 7-17-07; 8:45 am]
BILLING CODE 4830-01-P