[Federal Register Volume 79, Number 10 (Wednesday, January 15, 2014)]
[Rules and Regulations]
[Pages 2589-2591]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2014-00613]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9653]
RIN 1545-BL28


Bond Premium Carryforward

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations that provide guidance 
on the tax treatment of a debt instrument with a bond premium 
carryforward in the holder's final accrual period. The regulations in 
this document provide guidance to holders of Treasury securities and 
other debt instruments acquired at a premium.

DATES: Effective Date: These regulations are effective on January 15, 
2014.
    Applicability Date: For the date of applicability, see Sec.  1.171-
2(a)(4)(i)(C)(2).

FOR FURTHER INFORMATION CONTACT: William E. Blanchard, (202) 317-3900 
(not a toll-free number).

SUPPLEMENTARY INFORMATION: 

Background

    On January 4, 2013, the IRS and the Treasury Department published 
temporary regulations (TD 9609) in the Federal Register (78 FR 666) 
relating to the federal income tax treatment of a debt instrument with 
a bond premium carryforward in the holder's final accrual period, 
including a Treasury bill acquired at a premium. See Sec.  1.171-2T. On 
the same day, the IRS and the Treasury Department published a notice of 
proposed rulemaking (REG-140437-12) cross-referencing the temporary 
regulations in the Federal Register (78 FR 687). No comments were 
received on the notice of proposed rulemaking. No public hearing was 
requested or held.
    The proposed regulations are adopted without substantive change by 
this

[[Page 2590]]

Treasury decision, and the corresponding temporary regulations are 
removed.

Explanation of Provisions

    Prior to the issuance of the temporary regulations, the IRS and the 
Treasury Department had received questions about an electing holder's 
treatment of a taxable zero coupon debt instrument, including a 
Treasury bill, acquired at a premium and with a negative yield. In this 
situation, as explained in more detail below, under the bond premium 
regulations in effect prior to the issuance of the temporary 
regulations (the prior regulations), a holder that had elected to 
amortize bond premium under section 171 generally would have had a 
capital loss upon the sale, retirement, or other disposition of the 
debt instrument rather than an ordinary deduction under section 
171(a)(1) for all or a portion of the bond premium. The acquisition of 
a zero coupon debt instrument at a premium and with a negative yield 
was not contemplated when the prior regulations were revised in 1997 
(TD 8746).
    Under section 171(c) and Sec.  1.171-4, a holder can elect to 
amortize bond premium on taxable debt instruments. A holder acquires a 
debt instrument at a premium if the holder's basis in the debt 
instrument immediately after its acquisition by the holder exceeds the 
sum of all amounts payable on the debt instrument after the acquisition 
date other than payments of qualified stated interest (as defined in 
Sec.  1.1273-1(c)). The general effect of an election to amortize bond 
premium on a debt instrument that is a capital asset is to treat the 
bond premium as an offset to ordinary income rather than as a capital 
loss.
    Under section 171(e) and Sec.  1.171-2, an electing holder 
amortizes bond premium by offsetting the qualified stated interest 
allocable to an accrual period with the bond premium allocable to the 
period. As a result, the holder only includes the net amount of 
interest in income for the period. If the bond premium allocable to an 
accrual period exceeds the qualified stated interest allocable to the 
accrual period, the holder treats the excess as a bond premium 
deduction under section 171(a)(1) for the accrual period. However, the 
amount treated as a bond premium deduction is limited to the amount by 
which the holder's total interest inclusions on the debt instrument in 
prior accrual periods exceed the total amount treated by the holder as 
a bond premium deduction on the debt instrument in prior accrual 
periods. If the bond premium allocable to an accrual period exceeds the 
sum of the qualified stated interest allocable to the accrual period 
and the amount treated as a deduction under section 171(a)(1), the 
excess is carried forward to the next accrual period and is treated as 
bond premium allocable to that period. See Sec.  1.171-2(a)(4). Under 
Sec.  1.1016-5(b), a holder's basis in a taxable debt instrument is 
reduced by the amount of bond premium used to offset qualified stated 
interest on the debt instrument and the amount of bond premium allowed 
as a deduction under section 171(a)(1).
    There is no stated interest payable, and therefore no qualified 
stated interest, on a zero coupon debt instrument, including a Treasury 
bill. As a result, under Sec.  1.171-2, if a zero coupon debt 
instrument is acquired at a premium (that is, acquired for an amount 
greater than its stated principal amount), the bond premium allocable 
to an accrual period is carried forward to the next accrual period and 
to each succeeding accrual period. As a result, upon the sale, 
retirement, or other disposition of the debt instrument, there 
generally will be a bond premium carryforward in the holder's final 
accrual period. In this situation, because there is no qualified stated 
interest to offset the bond premium carryforward and the holder's basis 
in the debt instrument has not been reduced, under the prior 
regulations the holder would have had a capital loss in an amount at 
least equal to the bond premium carryforward.
    To address the treatment of a bond premium carryforward in the 
situation described in the prior paragraph, the temporary regulations 
added a specific rule for the treatment of a bond premium carryforward 
determined as of the end of the holder's final accrual period for any 
taxable debt instrument for which the holder had elected to amortize 
bond premium. These final regulations adopt the rule in the temporary 
and proposed regulations. Thus, in the situation described in the prior 
paragraph, under these final regulations an electing holder deducts all 
or a portion of the bond premium under section 171(a)(1) when the 
instrument is sold, retired, or otherwise disposed of rather than 
recognizing a capital loss.
    As noted above, no comments were received on the temporary 
regulations. The final regulations in this document are substantively 
the same as the temporary regulations.

Applicability Date

    Section 1.171-2(a)(4)(i)(C)(1) applies to a debt instrument (bond) 
acquired on or after January 4, 2013 (the effective/applicability date 
of the temporary regulations). A taxpayer, however, may rely on this 
section for a debt instrument (bond) acquired before that date.

Special Analyses

    It has been determined that this Treasury decision is not a 
significant regulatory action as defined in Executive Order 12866, as 
supplemented by Executive Order 13563. 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, the Regulatory 
Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to 
section 7805(f) of the Code, the proposed regulations preceding these 
final regulations were submitted to the Chief Counsel for Advocacy of 
the Small Business Administration for comment on their impact on small 
business. No comments were received.

Drafting Information

    The principal author of these regulations is William E. Blanchard, 
Office of Associate Chief Counsel (Financial Institutions and 
Products). 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

    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 entry for '1.171-2T to read in part as follows:

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

0
Par. 2. Section 1.171-2 is amended by adding new paragraph (a)(4)(i)(C) 
to read as follows:


Sec.  1.171-2  Amortization of bond premium.

    (a) * * *
    (4) * * *
    (i) * * *
    (C) Carryforward in holder's final accrual period--(1) Bond premium 
deduction. If there is a bond premium carryforward determined under 
paragraph (a)(4)(i)(B) of this section as

[[Page 2591]]

of the end of the holder's accrual period in which the bond is sold, 
retired, or otherwise disposed of, the holder treats the amount of the 
carryforward as a bond premium deduction under section 171(a)(1) for 
the holder's taxable year in which the sale, retirement, or other 
disposition occurs. For purposes of Sec.  1.1016-5(b), the holder's 
basis in the bond is reduced by the amount of bond premium allowed as a 
deduction under this paragraph (a)(4)(i)(C)(1).
    (2) Effective/applicability date. Notwithstanding Sec.  1.171-
5(a)(1), paragraph (a)(4)(i)(C)(1) of this section applies to a bond 
acquired on or after January 4, 2013. A taxpayer, however, may rely on 
paragraph (a)(4)(i)(C)(1) of this section for a bond acquired before 
that date.
* * * * *


Sec.  1.171-2T   [Removed]

0
Par. 3. Section 1.171-2T is removed.

0
Par. 4. Section 1.171-3 is amended by revising the fifth sentence in 
paragraph (b) to read as follows:


Sec.  1.171-3  Special rules for certain bonds.

* * * * *
    (b) * * * However, the rules in Sec.  1.171-2(a)(4)(i)(C) apply to 
any remaining deflation adjustment attributable to bond premium as of 
the end of the holder's accrual period in which the bond is sold, 
retired, or otherwise disposed of. * * *
* * * * *

John Dalrymple,
Deputy Commissioner for Services and Enforcement.
    Approved: January 7, 2014.
Mark J. Mazur,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2014-00613 Filed 1-14-14; 8:45 am]
BILLING CODE 4830-01-P