[Federal Register Volume 73, Number 246 (Monday, December 22, 2008)]
[Proposed Rules]
[Pages 78252-78254]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E8-30301]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-113462-08]
RIN 1545-BH77


Conduit Financing Arrangements

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking.

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SUMMARY: This document contains proposed regulations relating to 
conduit financing arrangements issued under the authority granted by 
section 7701(l) of the Internal Revenue Code (Code). The proposed 
regulations apply to multiple-party financing arrangements that are 
effected through disregarded entities, and are necessary in order to 
determine which of those arrangements should be recharacterized under 
section 7701(l) and Treas. Reg. Sec.  1.881-3.

DATES:  Written or electronic comments and requests for a public 
hearing must be received by March 23, 2009.

ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-113462-08), Internal 
Revenue Service, room 5205, 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-
113462-08), Courier's Desk, Internal Revenue Service, 1111 Constitution 
Avenue, NW., Washington, DC 20224 or sent electronically via the 
Federal eRulemaking Portal at http://www.regulations.gov (IRS REG-
113462-08).

FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations, 
Quyen Huynh at (202) 622-3880 or John H. Seibert at (202) 622-3860; 
concerning submissions of comments, Oluwafunmilayo Taylor, at (202) 
622-7180 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

    Section 7701(l) of the Code authorizes the Secretary to prescribe 
regulations recharacterizing any multiple-party financing transaction 
as a transaction directly among any two or more of such parties where 
the Secretary determines that such recharacterization is appropriate to 
prevent the avoidance of any tax imposed by the Code. In Treasury 
decision 8611 (1995-37 IRB 20; 60 FR 40997), published August 10, 1995, 
the Treasury Department and the Internal Revenue Service (IRS) issued 
implementing regulations under Treas. Reg. Sec.  1.881-3 relating to 
conduit financing arrangements pursuant to the authority granted by 
section 7701(l).
    In general, Sec.  1.881-3 allows the IRS to disregard the 
participation of one or more intermediate entities in a financing 
arrangement where such entities are acting as conduit entities, and to 
recharacterize the financing arrangement as a transaction directly 
between the remaining parties to the financing arrangement for purposes 
of imposing tax under sections 871, 881, 1441 and 1442 of the Code. 
Section 1.881-3(a)(2)(i)(A) of the regulations defines a financing 
arrangement to mean a series of financing transactions by which one 
person (the financing entity) advances money or other property, or 
grants rights to use property, and another person (the financed entity) 
receives money or other property, or rights to use property, if the 
advance and receipt are effected through one or more other persons 
(intermediate entities). Except in cases to which Sec.  1.881-
3(a)(2)(i)(B) (special rule for related parties) applies, the 
regulations apply only if financing transactions as defined in Sec.  
1.881-3(a)(2)(ii) link the financing entity, each of the intermediate 
entities, and the financed entity.
    Since the publication of Sec.  1.881-3 on August 10, 1995, the 
Treasury Department and IRS issued the so-called ``check-the-box'' 
regulations, under Sec. Sec.  301.7701-1 through 301.7701-3, effective 
January 1, 1997 (TD 8697, 1997-1 CB 215; 61 FR 66854). Section 
301.7701-3 provides, in part, that an entity that is not classified as 
a corporation and that has a single owner may elect to be disregarded 
as an entity separate from its owner (a disregarded entity).
    The Treasury Department and IRS are aware that issues have arisen 
regarding the proper treatment of disregarded entities under Sec.  
1.881-3. These proposed regulations clarify that a disregarded entity 
is a person for purposes of Sec.  1.881-3. Thus, transactions that a 
disregarded entity enters into will be taken into account for purposes 
of determining whether a financing arrangement exists.
    The Treasury Department and IRS are continuing to study conduit 
financing arrangements and may issue separate guidance to address the 
treatment under Sec.  1.881-3 of certain hybrid instruments. 
Specifically, the Treasury Department and IRS are studying transactions 
where a financing entity advances cash or other property to an 
intermediate entity in exchange for a hybrid instrument that is treated 
as debt under the laws of the foreign jurisdiction where the

[[Page 78253]]

intermediate entity is resident and is not treated as debt for U.S. 
federal tax purposes. The issue under consideration is whether such 
instruments should constitute a financing transaction under Sec.  
1.881-3(a)(2)(ii)(A) and part of a financing arrangement within the 
meaning of Sec.  1.881-3(a)(2)(i)(A). No inference should be drawn from 
the approaches described in this preamble regarding the treatment of 
such instruments under current law, including judicial doctrines with 
respect to conduit financing transactions.
    One possible approach is to treat all transactions involving such 
hybrid instruments between a financing entity and an intermediate 
entity as financing transactions under Sec.  1.881-3(a)(2)(ii)(A). 
Comments are requested on this approach, including whether and to what 
extent a connection or relationship between the issuer and recipient of 
the hybrid instrument (for example, an equity ownership percentage) 
should be required in order to treat such instruments as financing 
transactions.
    Another possible approach is to add additional factors to consider 
in determining when stock in a corporation (or other similar interest 
in a partnership or trust) may constitute a financing transaction under 
Sec.  1.881-3(a)(2)(ii)(B). The additional factors would focus on 
whether, based on the facts and circumstances surrounding the stock (or 
other similar interest in a partnership or trust), the financing entity 
had sufficient legal rights to, or other practical assurances 
regarding, the payment received by the intermediate entity to treat the 
stock as a financing transaction. Some possible factors to indicate the 
presence of a financing transaction might include:
    (1) Intent of the parties to pay all or substantially all payments 
received by the intermediate entity to the financing entity;
    (2) History of payment of amounts received by the intermediate 
entity to the financing entity; and
    (3) Precedence of the obligees over other creditors regarding the 
payment of interest and principal, currently or in bankruptcy.
    Comments are requested concerning other possible approaches and any 
additional factors that the Treasury Department and IRS should consider 
in expanding the conduit financing regulations under Sec.  1.881-3.

Explanation of Provisions

    Section 1.881-3(a)(2)(i)(C) of the proposed regulations provides 
that for purposes of this section, the term person includes a business 
entity that is disregarded as an entity separate from its single member 
owner under Sec. Sec.  301.7701-1 through 301.7701-3. Because a 
disregarded entity is a person, any transaction that it enters into 
will be taken into account for purposes of determining whether a 
conduit financing arrangement exists.
    These proposed regulations also modify the parenthetical in Sec.  
1.881-3(a)(2)(ii)(A)(2) and Sec.  1.881-3(a)(2)(ii)(B)(1). The proposed 
regulations also correct a typographical error in Sec.  1.881-
3(a)(3)(ii)(B) of the final regulations and update titles and cross-
references in the final regulations.

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 is hereby 
certified that this regulation will not have a significant economic 
impact on a substantial number of small entities. Accordingly, a 
regulatory flexibility analysis is not required. Pursuant to section 
7805(f) of the Internal Revenue Code, this notice of proposed 
rulemaking has been 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 eight 
(8) copies) or electronic comments that are submitted timely to the 
IRS. 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 author of these regulations is Paul J. Carlino, 
Office of Associate Chief Counsel (International). However, other 
personnel from the IRS and Treasury Department participated in their 
development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Proposed Amendments to the Regulations

    Accordingly, 26 CFR part 1 is proposed to be amended as follows:

PART 1--INCOME TAXES

    Paragraph 1. The authority citation for part 1 continues to read in 
part as follows:

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

    Par. 2. Section 1.881-3 is amended by:
    1. Removing the language ``district director'' throughout this 
section and adding ``director of field operations'' in its place.
    2. Removing the language ``Sec.  1.1441-3(j)'' throughout this 
section and adding ``Sec.  1.1441-3(g)'' in its place.
    3. Removing the language ``Sec.  1.1441-7(d)'' throughout this 
section and adding ``Sec.  1.1441-7(f)'' in its place.
    4. In the last sentence of paragraph (a)(3)(ii)(B), removing the 
second ``financed'' and adding ``financing'' in its place.
    5. Removing the parenthetical language ``(or a similar interest in 
a partnership or trust)'' in paragraphs (a)(2)(ii)(A)(2) and 
(a)(2)(ii)(B)(1) and adding ``(or a similar interest in a partnership, 
trust, or other person)'' in its place.
    6. Adding a new paragraph (a)(2)(i)(C).
    7. In paragraph (e), redesignating Examples 3, 4, 5, 6, 7, 8, 9, 
10, 11, 12, 13, 14, 15, 16, 17, 18, 19, 20, 21, 22, 23, 24, and 25 as 
Examples 4, 5, 6, 7, 8, 9, 10, 11, 12, 13, 14, 15, 16, 17, 18, 19, 20, 
21, 22, 23, 24, 25, and 26, respectively.
    8. Adding a new Example 3 in paragraph (e).
    9. Adding a new sentence at the end of paragraph (f).
    The additions read as follows:


Sec.  1.881-3  Conduit financing arrangements.

* * * * *
    (a) * * *
    (2) * * *
    (i) * * *
    (C) Treatment of disregarded entities. For purposes of this 
section, the term person includes a business entity that is disregarded 
as an entity separate from its single member owner under Sec. Sec.  
301.7701-1 through 301.7701-3.
* * * * *
    (e) Examples. * * *

    Example 3. Participation of a disregarded intermediate entity. 
(i) The facts are the same as in Example 2, except that, in 
addition, FS is an entity that is disregarded as an entity separate 
from its owner, FP, under Sec.  301.7701-3. Under paragraph 
(a)(2)(i)(C) of this section, FS is a person and therefore may

[[Page 78254]]

itself be an intermediate entity that is linked by financing 
transactions to other persons in a financing arrangement. The DS 
note held by FS and the FS note held by FP are financing 
transactions within the meaning of paragraph (a)(2)(ii) of this 
section, and together constitute a financing arrangement within the 
meaning of paragraph (a)(2)(i) of this section.
* * * * *
    (f) Effective/applicability date. * * * Paragraph (a)(2)(i)(C) of 
this section is effective for payments made on or after the date of 
publication of the Treasury decision adopting these regulations as 
final regulations in the Federal Register.

Linda E. Stiff,
Deputy Commissioner for Services and Enforcement.
[FR Doc. E8-30301 Filed 12-19-08; 8:45 am]
BILLING CODE 4830-01-P