[Federal Register Volume 72, Number 186 (Wednesday, September 26, 2007)]
[Proposed Rules]
[Pages 54615-54618]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E7-18934]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Parts 1 and 301

[REG-129916-07]
RIN 1545-BG76


Patented Transactions

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking.

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SUMMARY: This document contains proposed regulations that provide rules 
relating to the disclosure of reportable transactions under sections 
6011 and 6111 of the Internal Revenue Code (Code). These regulations 
propose to add the patented transactions category of reportable 
transaction to the regulations under Sec.  1.6011-4 of the Income Tax 
Regulations. The regulations also include conforming changes to the 
rules relating to the disclosure of reportable transactions by material 
advisors under section 6111. The regulations affect taxpayers 
participating in reportable transactions under section 6011, material 
advisors responsible for disclosing reportable transactions under 
section 6111, and material advisors responsible for keeping lists under 
section 6112.

DATES: Written or electronic comments and requests for a public hearing 
must be received by December 26, 2007.

ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-129916-07), room 
5203, Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, 
Washington, DC 20044. Submissions may be hand-delivered Monday through 
Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-
129916-07), Courier's Desk, Internal Revenue Service, 1111 Constitution 
Avenue, NW., Washington, DC, or sent electronically, via the Federal 
eRulemaking Portal at www.regulations.gov (IRS-REG-129916-07).

FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations, 
Michael H. Beker or Charles D. Wien, (202) 622-3070; concerning the 
submissions of comments and requests for hearing, Richard Hurst at 
[email protected] or (202) 622-7180 (not toll-free 
numbers).

SUPPLEMENTARY INFORMATION: 

Background

    This document proposes to amend 26 CFR parts 1 and 301 by adding 
the patented transactions category of reportable transaction to the 
rules under section 6011 and by making conforming changes to the rules 
relating to the disclosure of reportable transactions by material 
advisors under section 6111.
    On November 1, 2006, the IRS and Treasury Department issued a 
notice of proposed rulemaking and temporary and final regulations under 
sections 6011, 6111, and 6112 (REG-103038-05, REG-103039-05, REG-
103043-05, TD 9295) (the November 2006 regulations). The November 2006 
regulations were published in the Federal Register (71 FR 64488, 71 FR 
64496, 71 FR 64501, 71 FR 64458) on November 2, 2006. In the preamble 
to those proposed regulations, the IRS and Treasury Department 
expressed concern, shared by many commentators, regarding the patenting 
of tax advice or tax strategies that have the potential for tax 
avoidance. A patent for tax advice or a tax strategy might be 
interpreted by taxpayers as approval by the IRS and Treasury Department 
of the transaction, which might impede the efforts of the IRS and 
Treasury Department to obtain information regarding tax avoidance 
transactions and have an impact on effective tax administration. 
Consequently, the IRS and Treasury Department requested comments 
regarding the creation of a new category of reportable transaction to 
address these concerns.
    The IRS and Treasury Department received written public comments 
responding to the proposed regulations and held a public hearing 
regarding the proposed rules on March 20, 2007. After consideration of 
the comments received, the IRS and Treasury Department are issuing 
these proposed regulations with respect to patented transactions. Upon 
publication of final regulations, these regulations will be effective 
for transactions entered into on or after the date of publication of 
this notice of proposed rulemaking.

Explanation of Provisions

    In response to the request for comments, the IRS and Treasury 
Department received five comments regarding the creation of a new 
category of reportable transaction to address the patenting of tax 
advice or tax strategies. One commentator suggested that the patenting 
of tax advice or tax strategies should not be addressed through the 
addition of a new category of reportable transaction. The commentator 
suggested that the IRS should require a form of notification or have a 
disclosure requirement informing the IRS when the United States Patent 
and Trademark Office (USPTO) issues a tax strategy patent. The 
commentator suggested that this could be accomplished through

[[Page 54616]]

cooperation between the IRS and the USPTO. To the extent cooperation 
does not result in the necessary disclosures, the commentator suggested 
that the current reportable transaction regime or another mechanism 
could provide the necessary notifications and disclosures.
    One commentator suggested that the patenting of tax advice or tax 
strategies should be addressed through the transaction of interest 
category of reportable transaction under Sec.  1.6011-4(b)(6). The 
commentator suggested that each application for, or grant of a patent 
be automatically included within the scope of a transaction of 
interest, thereby requiring anyone who ``participated'' in the 
transaction to file a disclosure statement. In addition, the 
commentator suggested that the party who files an application for a 
patent, or for whom a patent is granted, be considered a material 
advisor, as defined in Sec.  301.6111-3(b) of the Procedure and 
Administration Regulations. The commentator noted that treating the 
patent applicant or holder as a material advisor would obligate that 
party to file a disclosure statement under Sec.  301.6111-3 and also to 
maintain an investor list under Sec.  301.6112-1. Further, the 
commentator proposed that each material advisor should be required to 
disclose to each taxpayer on that material advisor's list of investors 
that the transaction is a transaction of interest and that the taxpayer 
is required to disclose the transaction.
    Two commentators suggested the creation of a new category of 
reportable transaction for taxpayers who participate in a transaction 
that uses a patented tax strategy for each year in which the taxpayer's 
return reports items attributable to such transaction. The two 
commentators both suggested treating the patent holder as a material 
advisor within the meaning of section 6111. One of the two commentators 
suggested lowering the gross income threshold amounts for material 
advisors in Sec.  301.6111-3(b)(3). One of the commentators recommended 
that a material advisor should only include the owner of the patent and 
advisors who pay fees directly or indirectly for the patented tax 
strategy or advice. This commentator also recommended that the 
disclosure obligations be narrowly construed so as not to apply to 
those taxpayers and material advisors who implement patented tax 
strategies and provided advice without any knowledge that the tax 
strategy or advice has been patented.
    Another commentator also recommended limiting the scope of a 
category of reportable transaction for patents so that the category 
applies only to those taxpayers and material advisors who have a legal 
right to use the patented tax strategy or tax advice. Finally, 
commentators recommended excluding from the category of reportable 
transaction the use of patented tax methods or processes for complying 
with return preparation and filing and other administrative 
requirements.
    After careful consideration of the comments received, the IRS and 
Treasury Department continue to be concerned about the patenting of tax 
advice or tax strategies and believe that adding a new category of 
reportable transaction to the section 6011 regulations for patented 
transactions will assist the IRS and Treasury Department in obtaining 
disclosures of tax avoidance transactions and in providing effective 
tax administration. Under the new category of reportable transactions, 
the ``patented transaction'' is a transaction for which a taxpayer pays 
(directly or indirectly) a fee in any amount to a patent holder or the 
patent holder's agent for the legal right to use a tax planning method 
that the taxpayer knows or has reason to know is the subject of the 
patent. A patented transaction also is a transaction for which a 
taxpayer (the patent holder or the patent holder's agent) has the right 
to payment for another person's use of a tax planning method that is 
the subject of the patent.
    The proposed regulations exclude mathematical calculations or 
mechanical assistance in the preparation of tax returns from the 
patented transaction category of reportable transactions. Thus, a 
patented transaction does not include patent-protected tax preparation 
software or other tools used to perform or model mathematical 
calculations or to provide mechanical assistance in the preparation of 
tax or information returns.
    For purposes of the new patented transaction category, a taxpayer 
has participated in a patented transaction if the taxpayer's tax return 
reflects a tax benefit from the transaction (including a deduction for 
fees paid in any amount to the patent holder or patent holder's agent). 
A taxpayer also has participated in a patented transaction if the 
taxpayer is the patent holder or patent holder's agent and the 
taxpayer's tax return reflects a tax benefit in relation to obtaining a 
patent for a tax planning method (including any deduction for amounts 
paid to the United States Patent and Trademark Office as required by 
title 35 of the United States Code and attorney's fees) or reflects 
income from a payment received from another person for the use of the 
tax planning method that is the subject of the patent.
    These regulations also describe when a person is a material advisor 
with respect to a patented transaction under section 6111. Because of 
the nature of patented transactions and how those transactions are 
marketed, the threshold amount as described in section 6111(b) is 
reduced from $50,000 to $250 and from $250,000 to $500. A person who is 
a material advisor with respect to a patented transaction will have a 
list maintenance obligation under section 6112.

Special Analyses

    It has been determined that these regulations are 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. It is hereby certified that the 
collection of information in these regulations will not have a 
significant economic impact on a substantial number of small entities. 
This certification is based on the fact that most information is 
already required to be reported on the disclosure statement referenced 
in the regulation and approved under OMB control number 1545-0074; the 
new information required by these proposed regulations add little or no 
new burden to the existing requirements. Therefore, a Regulatory 
Flexibility Analysis under the provisions of the Regulatory Flexibility 
Act (5 U.S.C. chapter 6) 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 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) or electronic comments that are submitted timely 
to the IRS. The IRS and Treasury Department specifically request 
comments on the clarity of the proposed rules, how they can be made 
easier to understand, and the administrability of the rules in the 
proposed regulations. All comments will be available for public 
inspection and copying. A public hearing will be scheduled if requested 
in writing by any person that submits timely written or electronic 
comments. If a public hearing

[[Page 54617]]

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 regulations are Michael H. Beker and 
Charles D. Wien, Office of the Associate Chief Counsel (Passthroughs 
and Special Industries). However, other personnel from the IRS and 
Treasury Department participated in their development.

List of Subjects

26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

26 CFR Part 301

    Employment taxes, Estate taxes, Excise taxes, Gift taxes, Income 
taxes, Penalties, Reporting and recordkeeping requirements.

Proposed Amendments to the Regulations

    Accordingly, 26 CFR parts 1 and 301 are 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. Section 1.6011-4 is amended by:
    1. Revising paragraphs (b)(7) and (c)(3)(i)(F).
    2. Adding to paragraph (c)(3)(ii) Examples 4, 5, 6, and 7.
    3. Revising paragraph (h)(2).
    The revisions and additions read as follows:


Sec.  1.6011-4  Requirement of statement disclosing participation in 
certain transactions by taxpayers.

* * * * *
    (b) * * *
    (7) Patented transactions--(i) In general. A patented transaction 
is a transaction for which a taxpayer pays (directly or indirectly) a 
fee in any amount to a patent holder or the patent holder's agent for 
the legal right to use a tax planning method that the taxpayer knows or 
has reason to know is the subject of the patent. A patented transaction 
also is a transaction for which a taxpayer (the patent holder or the 
patent holder's agent) has the right to payment for another person's 
use of a tax planning method that is the subject of the patent.
    (ii) Definitions. For purposes of this paragraph (b)(7), the 
following definitions apply:
    (A) Fee. The term fee means consideration in whatever form paid, 
whether in cash or in kind, for the right to use a tax planning method 
that is the subject of a patent. The term fee includes any 
consideration the taxpayer knows or has reason to know will be paid 
indirectly to the patent holder or patent holder's agent, such as 
through a referral fee, fee-sharing arrangement, or license. The term 
fee does not include amounts paid in settlement of, or as the award of 
damages in, a suit for damages for infringement of the patent.
    (B) Patent. The term patent means a patent granted under the 
provisions of title 35 of the United States Code, or any foreign patent 
granting rights generally similar to those under a United States 
patent. See Sec.  1.1235-2(a). The term patent includes patents that 
have been applied for but not yet granted.
    (C) Patent holder. A person is a patent holder if--
    (1) The person is a holder as defined in Sec.  1.1235-2(d) and (e);
    (2) The person would be a holder as defined in Sec.  1.1235-2(d)(2) 
if the phrase S corporation or trust was substituted for the word 
partnership and the phrase shareholder or beneficiary was substituted 
for the words member and partner;
    (3) The person is an employer of a holder as defined in Sec.  
1.1235-2(d) and the holder transferred to the employer all substantial 
rights to the patent as defined in Sec.  1.1235-2(b);
    (4) The person receives all substantial rights to the patent as 
defined in Sec.  1.1235-2(b) in exchange (directly or indirectly) for 
consideration in any form.
    (D) Patent holder's agent. The term patent holder's agent means any 
person who has the permission of the patent holder to offer for sale or 
exchange, to sell or exchange, or to market a tax planning method that 
is the subject of a patent. The term patent holder's agent also means 
any person who receives (directly or indirectly) for or on behalf of a 
patent holder a fee in any amount for a tax planning method that is the 
subject of a patent.
    (E) Payment. The term payment includes consideration in whatever 
form paid, whether in cash or in kind, for the right to use a tax 
planning method that is the subject of a patent. For example, if a 
patent holder or patent holder's agent receives payment for a patented 
transaction and a separate payment for another transaction, part or all 
of the payment for the other transaction may be treated as payment for 
the patented transaction if the facts and circumstances indicate that 
the payment for the other transaction is in consideration for the 
patented transaction. The term payment also includes amounts paid in 
settlement of, or as the award of damages in, a suit for damages for 
infringement of the patent.
    (F) Tax planning method. The term tax planning method means any 
plan, strategy, technique, or structure designed to affect Federal 
income, estate, gift, generation skipping transfer, employment, or 
excise taxes. A patent issued solely for tax preparation software or 
other tools used to perform or model mathematical calculations or to 
provide mechanical assistance in the preparation of tax or information 
returns is not a tax planning method.
    (iii) Related parties. For purposes of this paragraph (b)(7), 
persons who bear a relationship to each other as described in section 
267(b) or 707(b) will be treated as the same person.
* * * * *
    (c) * * *
    (3) * * *
    (i) * * *
    (F) Patented transactions. A taxpayer has participated in a 
patented transaction, as defined in paragraph (b)(7) of this section, 
if the taxpayer's tax return reflects a tax benefit from the 
transaction (including a deduction for fees paid in any amount to the 
patent holder or patent holder's agent). A taxpayer also has 
participated in a patented transaction, as defined in paragraph (b)(7) 
of this section, if the taxpayer is the patent holder or patent 
holder's agent and the taxpayer's tax return reflects a tax benefit in 
relation to obtaining a patent for a tax planning method (including any 
deduction for amounts paid to the United States Patent and Trademark 
Office as required by title 35 of the United States Code and attorney's 
fees) or reflects income from a payment received from another person 
for the use of the tax planning method that is the subject of the 
patent.
* * * * *
    (ii) * * *
    Example 4. (i) A, an individual, creates a tax planning method 
and applies for a U.S. patent. A pays attorney fees in relation to 
obtaining the patent and A pays the fee required under title 35 of 
the United States Code for the patent application. Subsequently, C 
pays a fee to A for the legal right to use the tax planning method 
that C knows or has reason to know is the subject of A's patent. A's 
tax return reflects both a deduction for an amount paid in relation 
to obtaining a patent and income from C's payment to A for the legal 
right to use the tax planning method that is the subject of the 
patent. C's tax return reflects a deduction for an amount paid to A 
for the right to use the tax planning method that is the subject of 
the patent.
    (ii) A is a patent holder under paragraph (b)(7)(ii)(C)(1) of 
this section. The transaction

[[Page 54618]]

is a reportable transaction for A under paragraph (b)(7) of this 
section because A has the right to payment for another person's use 
of the tax planning method that is the subject of the patent. The 
transaction is a reportable transaction for C under paragraph (b)(7) 
of this section, because C paid a fee to A for the legal right to 
use a tax planning method that C knew or had reason to know was the 
subject of a patent. A has participated in the transaction in the 
year in which A's tax return reflects a tax benefit in relation to 
obtaining the patent or reflects income from C's payment to A for 
the legal right to use the tax planning method that is the subject 
of the patent. C has participated in the transaction in the year in 
which C's tax return reflects the deduction for any amount paid to A 
for the legal right to use the tax planning method that is the 
subject of the patent. C also participates in the transaction for 
any years for which any other tax benefit from the transaction is 
reflected on C's tax return.
    Example 5. (i) A, an individual, is the employee of B, a 
corporation. A creates a tax planning method and applies for a U.S. 
patent but B pays the fee required under title 35 of the United 
States Code for A's patent application. Pursuant to A's employment 
contract with B, B holds all substantial rights to the patent. B's 
tax return reflects a deduction for the amount paid in relation to 
obtaining the patent.
    (ii) A and B are patent holders under paragraph (b)(7)(ii)(C)(1) 
and (3) of this section, respectively. The transaction is not a 
reportable transaction for A under paragraph (b)(7) of this section 
because A does not have the right to payment for another person's 
use of the tax planning method that is the subject of the patent. 
The transaction is a reportable transaction for B under paragraph 
(b)(7) of this section because B holds all substantial rights to the 
patent and has the right to payment for another person's use of the 
tax planning method that is the subject of the patent. B has 
participated in the transaction in the year in which B's tax return 
reflects a tax benefit in relation to obtaining the patent. B also 
participates in the transaction for any years for which B's tax 
return reflects income from a payment received from another person 
for the use of the tax planning method that is the subject of the 
patent.
    Example 6. (i) Assume the facts as in Example 4, except that A 
agrees to license the patent to F, a financial institution. The 
license agreement between A and F provides that F may offer the tax 
planning method to its clients and if a client decides to use the 
tax planning method, F must pay A for each client's use of the tax 
planning method. F offers the tax planning method to G who uses the 
tax planning method and knows or has reason to know it is the 
subject of a patent. F charges G for financial planning services and 
pays A for G's use of the tax planning method. A's tax return 
reflects income from the payment received from F. F's tax return 
reflects income from the payment received from G, and G's tax return 
reflects a deduction for the fees paid to F.
    (ii) F is a patent holder's agent under paragraph (b)(7)(ii)(D) 
of this section because F has the permission of the patent holder to 
offer for sale or exchange, to sell or exchange, or to market a tax 
planning method that is the subject of a patent. F also is a patent 
holder's agent under paragraph (b)(7)(ii)(D) of this section because 
F receives (directly or indirectly) a fee in any amount for a tax 
planning method that is the subject of a patent for or on behalf of 
a patent holder. The transaction is a reportable transaction for 
both A and F under paragraph (b)(7) of this section because A and F 
each have the right to payment for another person's use of the tax 
planning method that is the subject of the patent. The transaction 
is a reportable transaction for G under paragraph (b)(7) of this 
section because G paid a fee (directly or indirectly) to a patent 
holder or a patent holder's agent for the legal right to use a tax 
planning method that G knew or had reason to know was the subject of 
the patent. A has participated in the transaction in the years in 
which A's tax return reflects income from the payment received from 
F for G's use of the tax planning method that is the subject of the 
patent. F has participated in the transaction in the years in which 
F's tax return reflects income from the payment received from G for 
use of the tax planning method that is the subject of the patent. G 
has participated in the transaction in the years in which G's tax 
return reflects a deduction for the fees paid to F. G also 
participates in the transaction for any years for which any other 
tax benefit from the transaction is reflected on G's tax return.
    Example 7. Assume the same facts as in Example 4. J uses a tax 
planning method that is the same as the tax planning method that is 
the subject of A's patent. J does not pay any fees to any patent 
holder or patent holder's agent with respect to the tax planning 
method that is the subject of the patent. A sues J for infringement 
of the patent and J pays A an amount for damages. A's tax return 
reflects as income the amounts for damages received from J. The 
transaction is not a reportable transaction for J under paragraph 
(b)(7) of this section because J did not pay any fees (as defined in 
paragraph (b)(7)(ii)(A) of this section) (directly or indirectly) to 
a patent holder or patent holder's agent for the legal right to use 
a tax planning method that J knew or had reason to know was the 
subject of the patent. A has participated in a reportable 
transaction under paragraph (b)(7) of this section in the year in 
which A's tax return reflects income from a payment (the amount 
received as an award for damages in a suit for damages for 
infringement of the patent) received from another person for the use 
of the tax planning method that is the subject of a patent.
* * * * *
    (h) * * *
    (2) Patented transactions. Upon the publication of the Treasury 
decision adopting these rules as final regulations in the Federal 
Register, paragraphs (b)(7), (c)(3)(i)(F), and (c)(3)(ii) Examples 4 
through 7 of this section will apply to transactions entered into on or 
after September 26, 2007.

PART 301--PROCEDURE AND ADMINISTRATION

    Par. 3. The authority citation for part 301 continues to read, in 
part, as follows:

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

    Par. 4. Section 301.6111-3 is amended by revising paragraphs 
(b)(2)(ii)(E), (b)(3)(i)(C), and (i)(2) to read as follows:


Sec.  301.6111-3  Disclosures of reportable transactions.

* * * * *
    (b) * * *
    (2) * * *
    (ii) * * *
    (E) Patented transactions. A statement relates to a tax aspect of a 
transaction that causes it to be a patented transaction if the 
statement is made or provided by the patent holder or by the patent 
holder's agent, as defined in Sec.  1.6011-4(b)(7)(ii)(C) or (D) of 
this chapter, and concerns the tax planning method that is the subject 
of the patent.
* * * * *
    (3) * * *
    (i) * * *
    (C) Patented transactions. For patented transactions described in 
Sec.  1.6011-4(b)(7) of this chapter, the threshold amounts in Sec.  
301.6111-3(b)(3)(i)(A) are reduced from $50,000 to $250 and from 
$250,000 to $500.
* * * * *
    (i) * * *
    (2) Patented transactions. Upon the publication of the Treasury 
decision adopting these rules as final regulations in the Federal 
Register, paragraphs (b)(2)(ii)(E) and (b)(3)(i)(C) of this section 
will apply to transactions with respect to which a material advisor 
makes a tax statement on or after September 26, 2007.

Linda E. Stiff,
Deputy Commissioner for Services and Enforcement.
[FR Doc. E7-18934 Filed 9-25-07; 8:45 am]
BILLING CODE 4830-01-P