[Federal Register Volume 82, Number 198 (Monday, October 16, 2017)]
[Proposed Rules]
[Pages 48013-48018]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2017-22205]



26 CFR Parts 1 and 301

Executive Order 13789--Second Report to the President on 
Identifying and Reducing Tax Regulatory Burdens

AGENCY: Department of the Treasury.

ACTION: Regulatory review.


SUMMARY: On April 21, 2017, the President issued Executive Order 13789 
(82 FR 19317), a directive designed to reduce tax regulatory burdens. 
The order directed the Secretary of the Treasury to identify 
significant tax regulations issued on or after January 1, 2016, that 
impose an undue financial burden on U.S. taxpayers, add undue 
complexity to the Federal tax laws, or exceed the statutory authority 
of the Internal Revenue Service (IRS). In an interim Report to the 
President dated June 22, 2017, Treasury identified eight such 
regulations. Executive Order 13789 further directs the Secretary to 
submit to the President and publish in the Federal Register a report 
recommending specific actions to mitigate the burden imposed by 
regulations identified in the interim report. This Second Report sets 
forth the Secretary's recommendations.

DATES: October 16, 2017.

FOR FURTHER INFORMATION CONTACT: Austin Bramwell, Senior Advisor, 
Office of Tax Policy, (202) 622-7827 (not a toll-free call).



    This Second Report recommends actions to eliminate, and in other 
cases mitigate, consistent with law, the burdens imposed on taxpayers 
by eight regulations that the Department of the

[[Page 48014]]

Treasury (Treasury) has identified for review under Executive Order 
13789. As stated in the order, it is the policy of the President that 
tax regulations provide clarity and useful guidance. Recent 
regulations, however, have increased tax burdens and impeded economic 
growth. The order therefore calls for immediate action to reduce tax 
regulatory burdens and provide useful and simplified tax guidance.
    The order directed the Secretary of the Treasury to identify 
significant tax regulations issued on or after January 1, 2016, that 
(i) impose an undue financial burden on U.S. taxpayers, (ii) add undue 
complexity to the Federal tax laws, or (iii) exceed the statutory 
authority of the Internal Revenue Service (IRS). In an interim Report 
to the President dated June 22, 2017 (the ``June 22 Report''), Treasury 
identified eight such regulations. Executive Order 13789 further 
directs the Secretary to submit to the President a report recommending 
``specific actions to mitigate the burden imposed by regulations 
identified in the interim report.''
    This Second Report sets forth the Secretary's recommendations. 
Treasury expects to issue additional reports on reducing tax regulatory 
burdens, including, as directed in the order, the status of Treasury's 
actions recommended in this Second Report.

Treasury Department Retrospective Regulatory Review

    Treasury is committed to reducing complexity and lessening the 
burden of tax regulations. In response to Executive Order 13789, 
Treasury's Office of Tax Policy completed a comprehensive review of all 
tax regulations issued in 2016 and January 2017. The June 22 Report 
identified eight proposed, temporary, or final regulations for 
withdrawal, revocation, or modification. Treasury continues to analyze 
all recently issued significant regulations and is considering possible 
reforms of several recent regulations not identified in the June 22 
Report. These include regulations under Section 871(m), relating to 
payments treated as U.S. source dividends, and the Foreign Account Tax 
Compliance Act.
    In addition, in furtherance of the policies stated in Executive 
Order 13789, Executive Order 13771, and Executive Order 13777,\1\ 
Treasury and the IRS have initiated a comprehensive review, coordinated 
by the Treasury Regulatory Reform Task Force, of all tax regulations, 
regardless of when they were issued. Thus, most of the regulations 
subject to this review predate January 1, 2016. This review will 
identify tax regulations that are unnecessary, create undue complexity, 
impose excessive burdens, or fail to provide clarity and useful 
guidance, and Treasury and the IRS will pursue reform or revocation of 
those regulations. Included in the review are longstanding temporary or 
proposed regulations that have not expired or been finalized. As part 
of the process coordinated by the Treasury Regulatory Reform Task 
Force, the IRS Office of Chief Counsel has already identified over 200 
regulations for potential revocation, most of which have been 
outstanding for many years. These regulations remain in the Code of 
Federal Regulations (CFR) but are, to varying degrees, unnecessary, 
duplicative, or obsolete, and force taxpayers to navigate unnecessarily 
complex or confusing rules.\2\ Treasury and the IRS expect to begin the 
rulemaking process for revoking these regulations in the fourth quarter 
of 2017. Treasury and the IRS are also seeking to streamline rules 
where possible. Later reports and guidance will provide details on the 
regulations identified for possible action, the reasons that they may 
be revoked, and the manner in which revocation would occur.

    \1\ Executive Order 13771, titled ``Reducing Regulation and 
Controlling Regulatory Costs,'' manages the costs associated with 
the regulatory compliance by, among other things, generally 
requiring the identification of two regulations for repeal for every 
new regulation that is proposed. Executive Order 13777, titled 
``Enforcing the Regulatory Reform Agenda,'' sets forth procedures 
for implementing and enforcing regulatory reform.
    \2\ See Executive Order 13777 Sec.  3(f) (directing ``each 
agency head [to] prioritize'' revocation of regulations which are 
``outdated, unnecessary, or ineffective'').

    Treasury has considered carefully the burdens that the eight 
regulations identified in the June 22 Report impose and, in conjunction 
with the IRS Office of Chief Counsel, has extensively studied possible 
actions to provide relief. In response to a public request for comments 
following the June 22 Report, Treasury received over 140 comments from 
the public--as well as thousands of duplicate form comments--concerning 
the potential modification or revocation of the eight regulations 
identified.\3\ The thrust of the comments varied widely, with some 
recommending that Treasury withdraw one or more of the regulations and 
others requesting that Treasury retain those same regulations. Treasury 
has carefully reviewed and considered the comments and possible 
reforms. One specific action--guidance delaying the documentation 
regulations under Section 385--has already been taken by the IRS in 
Notice 2017-36. As described below, Treasury now recommends, consistent 
with law, that two proposed regulations be withdrawn entirely, three 
temporary or final regulations be revoked in substantial part, and the 
remaining three regulations all be substantially revised.

    \3\ Comments can be found at the following Web site: https://www.regulations.gov/docketBrowser?rpp=25&so=DESC&sb=comment 

Proposed Regulations To Be Withdrawn Entirely

1. Proposed Regulations Under Section 2704 on Restrictions on 
Liquidation of an Interest for Estate, Gift and Generation-Skipping 
Transfer Taxes (REG-163113-02; 81 FR 51413)

    Section 2704 addresses the valuation, for wealth transfer tax 
purposes, of interests in family-controlled entities. In limited cases, 
Section 2704 disregards restrictions on the ability to liquidate 
family-controlled entities when determining the fair market value of an 
interest for estate, gift, and generation-skipping transfer tax 
purposes. Also in limited cases, Section 2704 treats lapses of voting 
or liquidation rights as if they were transfers for gift and estate tax 
purposes. The proposed regulations, through a web of dense rules and 
definitions, would have narrowed longstanding exceptions and 
dramatically expanded the class of restrictions that are disregarded 
under Section 2704. In addition, the proposed regulations would have 
required an entity interest to be valued as if disregarded restrictions 
did not exist, either in the entity's governing documents or under 
state law. No exceptions would have been allowed for interests in 
active or operating businesses.
    The goal of the proposed regulations was to counteract changes in 
state statutes and developments in case law that have eroded Section 
2704's applicability and facilitated the use of family-controlled 
entities to generate artificial valuation discounts, such as for lack 
of control and marketability, and thereby depress the value of property 
for gift and estate tax purposes. Commenters warned, however, that the 
valuation requirements of the proposed regulations were unclear and 
that their eff on traditional valuation discounts was uncertain. In 
particular, commenters argued that it was not feasible to value an 
entity interest as if no restrictions on withdrawal or liquidation 
existed in either the entity's governing documents or state law. A 
legal vacuum in which there is no law relevant to an interest holder's 
right to

[[Page 48015]]

withdraw or liquidate is impossible, commenters asserted, and, 
therefore, cannot meaningfully be applied as a valuation assumption. 
Commenters also argued that the proposed regulations could have 
produced unrealistic valuations. For example, the lack of a market for 
interests in family-owned operating businesses is a reality that, 
commenters argued, should continue to be taken into account when 
determining fair market value.
    After reviewing these comments, Treasury and the IRS now believe 
that the proposed regulations' approach to the problem of artificial 
valuation discounts is unworkable. In particular, Treasury and the IRS 
currently agree with commenters that taxpayers, their advisors, the 
IRS, and the courts would not, as a practical matter, be able to 
determine the value of an entity interest based on the fanciful 
assumption of a world where no legal authority exists. Given that 
uncertainty, it is unclear whether the valuation rules of the proposed 
regulations would have even succeeded in curtailing artificial 
valuation discounts. Moreover, merely to reach the conclusion that an 
entity interest should be valued as if restrictions did not exist, the 
proposed regulations would have compelled taxpayers to master lengthy 
and difficult rules on family control and the rights of interest 
holders. The burden of compliance with the proposed regulations would 
have been excessive, given the uncertainty of any policy gains. 
Finally, the proposed regulations could have affected valuation 
discounts even where discount factors, such as lack of control or lack 
of a market, were not created artificially as a value-depressing 
    In light of these concerns, Treasury and the IRS currently believe 
that these proposed regulations should be withdrawn in their entirety. 
Treasury and the IRS plan to publish a withdrawal of the proposed 
regulations shortly in the Federal Register.

2. Proposed Regulations Under Section 103 on Definition of Political 
Subdivision (REG-129067-15; 81 FR 8870)

    Section 103 excludes from a taxpayer's gross income the interest on 
state or local bonds, including obligations of political subdivisions. 
Proposed regulations would have required a ``political subdivision'' to 
possess not only significant sovereign power, but also to meet enhanced 
standards to show a governmental purpose and governmental control. Some 
commenters argued that settled law only requires a political 
subdivision to possess sovereign powers. Many commenters also argued 
that the proposed regulations would force costly and burdensome changes 
in entity structure to meet the new requirements. Treasury and the IRS 
continue to believe that some enhanced standards for qualifying as a 
political subdivision may be appropriate. After careful consideration 
of the comments on the proposed regulations, however, Treasury and the 
IRS now believe that regulations having as far-reaching an impact on 
existing legal structures as the proposed regulations are not 
    Thus, while Treasury and the IRS will continue to study the legal 
issues relating to political subdivisions, Treasury and the IRS 
currently believe that these proposed regulations should be withdrawn 
in their entirety, and plan to publish a withdrawal of the proposed 
regulations shortly in the Federal Register. Treasury and the IRS may 
propose more targeted guidance in the future after further study of the 
relevant legal issues.

Regulations To Consider Revoking in Part

3. Final Regulations Under Section 7602 on the Participation of a 
Person Described in Section 6103(n) in a Summons Interview (T.D. 9778; 
81 FR 45409)

    These final regulations provide that the IRS may use private 
contractors to assist the IRS in auditing taxpayers. Under the 
regulations, the IRS may contract with persons who are not government 
employees, and those private contractors may ``participate fully'' in 
the IRS's interview of taxpayers or other witnesses summoned to provide 
testimony during an examination. In particular, the regulations allow 
private contractors to receive and review records produced in response 
to a summons, be present during interviews of witnesses, and question 
witnesses under oath, under the guidance of an IRS officer or employee. 
These regulations were issued as temporary regulations in 2014 and were 
finalized in 2016.
    Although only two comments were submitted during the public comment 
period, these regulations have since attracted public attention and 
criticism. In particular, the IRS's ability to hire outside attorneys 
as contractors and have them question witnesses during a summons 
interview has raised concerns. After the IRS hired an outside law firm 
to assist with the audit of a corporate taxpayer, a federal court found 
that the ``idea that the IRS can `farm out' legal assistance to a 
private law firm is by no means established by prior practice'' and 
noted that it ``may lead to further scrutiny by Congress.'' \4\ While 
the court determined, based on the statute, that the IRS had the legal 
authority to enlist the outside attorneys, the court was ``troubled by 
[the law firm's] level of involvement in this audit.'' \5\ The Senate 
Finance Committee subsequently approved legislation that would prohibit 
the IRS from using any private contractors for any purpose in summons 
proceedings. This legislation has not been enacted into law.

    \4\ United States v. Microsoft Corp., 154 F. Supp. 3d 1134, 1143 
(W.D. Wash. 2015).
    \5\ Id.

    After reviewing and considering the foregoing concerns and the 
public comments received, Treasury and the IRS are looking into 
proposing a prospectively effective amendment to these regulations in 
order to narrow their scope by prohibiting the IRS from enlisting 
outside attorneys to participate in an examination, including a summons 
interview. Under the amendment currently contemplated by Treasury and 
the IRS, outside attorneys would not be permitted to question witnesses 
on behalf of the IRS, nor would they be permitted to play a behind-the-
scenes role, such as by reviewing summoned records or consulting on IRS 
legal strategy. When the IRS enlists outside attorneys to perform the 
investigative functions ordinarily performed by IRS employees, the 
government risks losing control of its own investigation.
    IRS investigators wield significant power to question witnesses 
under oath, to receive and review books and records, and to make 
discretionary strategic judgments during an audit-- with potentially 
serious consequences for the taxpayer. The current regulation requires 
the IRS to retain authority over important decisions, but the risk of a 
private attorney taking practical control may simply be too great. 
These powers should be exercised solely by government employees 
committed to serve the public interest, not by outside attorneys. These 
concerns outweigh any countervailing need for the IRS to contract with 
outside attorneys. Treasury remains confident that the core functions 
of questioning witnesses and conducting investigations are well within 
the expertise and ability of the IRS's dedicated attorneys and 
examination agents.
    Although Treasury and the IRS are currently considering proposing 
an amendment to the regulations so that outside lawyers would no longer 

[[Page 48016]]

allowed to participate in an examination, Treasury and the IRS 
currently intend that the regulations would continue to allow outside 
subject-matter experts to participate in summons proceedings. In 
certain highly complex examinations, effective tax administration may 
require the specialized knowledge of an economist, an engineer, a 
foreign attorney who is a specialist in foreign law, or other subject-
matter experts. In some cases, there is a compelling need to look 
outside the IRS for expertise that the IRS's own employees lack. 
Because experts have a circumscribed role in providing subject-matter 
knowledge, outside experts do not pose the same risks as outside 
attorneys. Outside experts should thus continue to be permitted to 
assist IRS by reviewing summoned materials and, if necessary, by posing 
questions to witnesses under the guidance and in the presence of IRS 
employees. Such a role would be limited to the small subset of cases in 
which the IRS requires the assistance of a subject-matter expert to 
ensure effective tax administration.

4. Regulations Under Section 707 and Section 752 on Treatment of 
Partnership Liabilities (T.D. 9788; 81 FR 69282)

    These partnership tax regulations include: (i) Proposed and 
temporary regulations governing how liabilities are allocated for 
purposes of disguised sale treatment; and (ii) proposed and temporary 
regulations for determining whether so-called ``bottom-dollar'' 
guarantees create the economic risk of loss necessary to be taken into 
account as a recourse liability.
    The first rule would have changed the tax treatment of forming many 
partnerships. In particular, for disguised sale purposes, the temporary 
regulations would, in general terms, have applied the rules relating to 
non-recourse liabilities to formations of partnerships involving 
recourse liabilities. According to commenters, the first rule was 
promulgated without adequate consideration of its impact. While 
Treasury and the IRS believe that the temporary regulations' novel 
approach to addressing disguised sale treatment merits further study, 
Treasury and the IRS agree that such a far-reaching change should be 
studied systematically. Treasury and the IRS, therefore, are 
considering whether the proposed and temporary regulations relating to 
disguised sales should be revoked and the prior regulations reinstated.
    By contrast, Treasury and the IRS currently believe that the second 
set of regulations relating to bottom-dollar guarantees should be 
retained. Before the proposed and temporary regulations relating to 
bottom-dollar guarantees were issued, the liability allocation rules 
permitted sophisticated taxpayers to create basis artificially and 
thereby shelter or defer income tax liability. Bottom-dollar guarantees 
permitted taxpayers to achieve these results without meaningful 
economic risk, which is inconsistent with the economic-risk-of-loss 
principle underlying the debt allocation rules for recourse 
obligations. Thus, Treasury and the IRS continue to believe, consistent 
with the views of a number of commentators, that the temporary 
regulations on bottom-dollar guarantees are needed to prevent abuses 
and do not meaningfully increase regulatory burdens for the taxpayers 
affected. Consequently, although Treasury and the IRS will continue to 
study the technical issues and consider comments, they do not plan to 
propose substantial changes to the temporary regulations on bottom-
dollar guarantees. Treasury and the IRS are reviewing and considering 
ways to rationalize and lessen the burden of partnership tax 
regulations governing liabilities and allocations more generally. In 
their review, Treasury and the IRS will take into account the ways in 
which the rules under different sections of the Internal Revenue Code 
interact, and may propose further changes to the relevant liability or 
allocation regulations.

5. Final and Temporary Regulations Under Section 385 on the Treatment 
of Certain Interests in Corporations as Stock or Indebtedness (T.D. 
9790; 81 FR 72858)

    These final and temporary regulations address the classification of 
related-party debt as debt or equity for U.S. federal income tax 
purposes. Treasury received a very large number of comments on the 
Section 385 regulations. Many supported the regulations, while others 
were critical.
    The regulations are primarily comprised of (i) rules establishing 
minimum documentation requirements that ordinarily must be satisfied in 
order for purported debt obligations among related parties to be 
treated as debt for federal tax purposes (the ``documentation 
regulations''); and (ii) rules that treat as stock certain debt that is 
issued by a corporation to a controlling shareholder in a distribution 
or in another related-party transaction that achieves an economically 
similar result (the ``distribution regulations''). Although they each 
address debt/equity considerations, these two parts of the overall 
Section 385 regulations are very different in purpose, scope and 
application. The documentation rules apply principally to domestic 
issuers and are generally concerned with establishing certain minimum 
standards of practice so that the tax character of an interest can be 
objectively evaluated. The distribution regulations, on the other hand, 
principally affect interests issued to related-party non-U.S. holders 
and are the rules that limit earnings-stripping, including in the 
context of inversions and foreign takeovers. Consistent with these 
fundamental differences, Treasury and the IRS currently plan to take 
different approaches to the two parts of these regulations.
    Potential revocation of documentation regulations. Many commenters 
strongly criticized the compliance burdens that those regulations 
imposed. Others urged that the regulations be retained. Several 
commenters argued that the burden imposed by the documentation 
regulations would be severe for all similarly situated taxpayers, and 
would exceed the perceived benefits for tax administration. Treasury 
and the IRS now agree with commenters that some requirements of the 
documentation regulations departed substantially from current practice 
and would have compelled corporations to build expensive new systems to 
satisfy the numerous tests required by the regulations. Treasury and 
the IRS do not believe that taxpayers should have to expend time and 
resources designing and building systems to comply with rules that may 
be modified to alleviate undue burdens of compliance. Accordingly, 
shortly after issuing the June 22 Report, Treasury and the IRS 
announced in Notice 2017-36 that application of the documentation rules 
would be delayed until 2019.
    After further study of the documentation regulations, Treasury and 
the IRS are considering a proposal to revoke the documentation 
regulations as issued. Treasury and the IRS are actively considering 
the development of revised documentation rules that would be 
substantially simplified and streamlined in a manner that will lessen 
their burden on U.S. corporations, while requiring sufficient legal 
documentation and other information for tax administration purposes. In 
place of any revoked regulations, Treasury and the IRS would develop 
and propose streamlined documentation rules, with a prospective 
effective date that would allow time for comments and compliance. 
Consideration is being given, in particular, to modifying significantly 
the requirement, contained

[[Page 48017]]

in the documentation regulations, of a reasonable expectation of 
ability to pay indebtedness. This aspect of the documentation 
regulations proved particularly problematic. The treatment of ordinary 
trade payables under the documentation regulations is also being 
reexamined. It is also expected that any proposed streamlined 
documentation rules would include certain technical, conforming changes 
to the definitional provisions of the Section 385 regulations.
    Distribution regulations retained pending enactment of tax reform. 
The distribution regulations address inversions and takeovers of U.S. 
corporations by limiting the ability of corporations to generate 
additional interest deductions without new investment in the United 
States. In recent years, earnings-stripping by foreign-parented 
multinational corporations, as well as corporate inversions whereby 
U.S. corporations become foreign corporations and engage in earnings 
stripping, frequently as a tax artifice have put U.S. corporations at a 
competitive disadvantage compared to their foreign peers. Treasury is 
committed to the Administration's goals of leveling the playing field 
for U.S. businesses, so that they may compete freely and fairly in the 
global economy, and implementing tax rules that reduce the distortion 
of capital and ownership decisions through earnings stripping and 
similar practices.
    Commenters have criticized the complexity and breadth of the 
distribution rules. They criticized in particular the funding rule that 
addresses multiple-step transactions and the burdens of tracking 
multiple transactions among affiliated companies over long periods of 
time. Treasury understands that the distribution rules are a blunt 
instrument for accomplishing their tax policy objectives, and continues 
to consider how the distribution rules might be made more targeted and 
compliance with the regulations made less onerous. At the same time, 
Treasury continues to believe firmly in maintaining safeguards against 
earnings-stripping and diminishing incentives for inversions and 
foreign takeovers.
    Treasury has consistently affirmed that legislative changes can 
most effectively address the distortions and base erosion caused by 
excessive earnings stripping, as well as the general tax incentives for 
U.S. companies to engage in inversions. Treasury is actively working 
with Congress on fundamental tax reform that should prevent base 
erosion and fix the structural deficiencies in the current U.S. tax 
system. Tax reform is expected to obviate the need for the distribution 
regulations and make it possible for these regulations to be revoked.
    In the meantime, after careful consideration, Treasury believes 
that proposing to revoke the existing distribution regulations before 
the enactment of fundamental tax reform, could make existing problems 
worse. If legislation does not entirely eliminate the need for the 
distribution regulations, Treasury will reassess the distribution rules 
and Treasury and the IRS may then propose more streamlined and targeted 

Regulations To Consider Substantially Revising

6. Final Regulations Under Section 367 on the Treatment of Certain 
Transfers of Property to Foreign Corporations (T.D. 9803; 81 FR 91012)

    Section 367 of the Internal Revenue Code generally imposes 
immediate or future U.S. tax on transfers of property (tangible and 
intangible) to foreign corporations, subject to certain exceptions, 
including an exception for certain property transferred for use in the 
active conduct of a trade or business outside of the United States. 
Prior regulations provided favorable treatment for foreign goodwill and 
going concern value. To address difficulties in administering these 
exceptions, these regulations eliminated the ability of taxpayers to 
transfer foreign goodwill and going-concern value to a foreign 
corporation without immediate or future U.S. income tax. However, no 
active trade or business exception was provided for such transfers. 
Commenters noted that the legislative history to Section 367 indicated 
that Congress anticipated that outbound transfers of foreign goodwill 
and going-concern value would generally not be subject to Section 367. 
Some commenters requested, if the regulations were not revoked, that 
transfers of foreign goodwill and going-concern value be made eligible 
for the active trade or business exception in circumstances not ripe 
for abuse.
    After considering the comments and studying further the legal and 
policy issues, Treasury and the IRS have concluded that an exception to 
the current regulations may be justified by both the structure of the 
statute and its legislative history. Thus, to address taxpayers' 
concerns about the breadth of the regulations, the Office of Tax Policy 
and IRS are actively working to develop a proposal that would expand 
the scope of the active trade or business exception described above to 
include relief for outbound transfers of foreign goodwill and going-
concern value attributable to a foreign branch under circumstances with 
limited potential for abuse and administrative difficulties, including 
those involving valuation. Treasury and the IRS currently expect to 
propose regulations providing such an exception in the near term.

7. Temporary Regulations Under Section 337(d) on Certain Transfers of 
Property to Regulated Investment Companies (RICs) and Real Estate 
Investment Trusts (REITs) (T.D. 9770; 81 FR 36793)

    These temporary regulations amend existing rules on transfers of 
property by C corporations to REITs and RICs generally. In addition, 
the regulations provide rules relating to newly-enacted provisions of 
the Protecting Americans from Tax Hikes Act of 2015 (the ``PATH Act''). 
The PATH Act's provisions were intended to prevent certain spinoff 
transactions involving transfers of property by C corporations to REITs 
from qualifying for non-recognition treatment. Commenters criticized 
several aspects of the regulations. According to commenters, for 
example, the REIT spin-off rules could result in over-inclusion of gain 
in certain situations, particularly where a large corporation acquires 
a small corporation that engaged in a Section 355 spin-off and the 
large corporation subsequently makes a REIT election.
    Treasury and the IRS agree that the temporary regulations may 
produce inappropriate results in some cases. In particular, Treasury 
and the IRS agree, for example, that the regulations may cause too much 
gain in certain cases to be recognized. Thus, Treasury and the IRS are 
considering revisions that would limit the potential taxable gain 
recognized in situations in which, because of the application of the 
predecessor and successor rule in Regulation Section 1.337(d)-7T(f)(2), 
gain recognition is required in excess of the amount that would have 
been recognized if a party to a spin-off had directly transferred 
assets to a REIT. In a case in which a smaller corporation that is 
party to a spin-off merges into a larger corporation in a tax-free 
reorganization, and the larger corporation makes a REIT election after 
the spin-off, the temporary regulations require immediate gain 
recognition with respect to all of the assets of the larger 
corporation. The proposed revisions under consideration by Treasury 
would substantially reduce the immediately taxed gain of the larger 
corporation by limiting gain recognition to the assets of the smaller 
corporation. In addition,

[[Page 48018]]

other technical changes to narrow further the application of the rules 
are currently being considered. With these contemplated changes 
incorporated, Treasury and the IRS believe the revised regulations 
would more closely track the intent of Congress.

8. Final Regulations Under Section 987 on Income and Currency Gain or 
Loss With Respect to a Section 987 Qualified Business Unit (T.D. 9794; 
81 FR 88806)

    These final regulations provide rules for: (i) Translating income 
from branch operations conducted in a currency different from the 
branch owner's functional currency into the owner's functional 
currency; (ii) calculating foreign currency gain or loss with respect 
to the branch's financial assets and liabilities; and (iii) recognizing 
such foreign currency gain or loss when the branch makes certain 
transfers of any property to its owner. Commenters argued that the 
transition rule in the final regulations imposes an undue financial 
burden because it disregards losses calculated for years prior to the 
transition but not previously recognized. Many taxpayers have also 
commented that the method prescribed by the final regulations for 
calculating foreign currency gain or loss is unduly complex and 
financially burdensome to apply, particularly where the final 
regulations differ from financial accounting rules.
    After reviewing these comments and meeting with a significant 
number of affected taxpayers in different industries, Treasury and the 
IRS believe that the regulations have proved difficult to apply for 
many taxpayers. To address these difficulties, Treasury and the IRS 
currently expect to issue guidance that would permit taxpayers to elect 
to defer the application of Regulation Sections 1.987-1 through 1.981-
10 until at least 2019, depending on the beginning date of the 
taxpayer's taxable year.
    In addition, Treasury and the IRS also intend to propose 
modifications to the final regulations to permit taxpayers to elect to 
adopt a simplified method of calculating Section 987 gain and loss and 
translating Section 987 income and loss, subject to certain limitations 
on the timing of recognition of Section 987 loss. Under one variation 
of a simplified methodology currently being considered, taxpayers would 
treat all assets and liabilities of a Section 987 qualified business 
unit (QBU) as marked items and translate all items of income and 
expense at the average exchange rate for the year. This methodology 
generally would result in determinations of amounts of Section 987 gain 
or loss that are consistent with amounts of translation gain or loss 
that would be determined under applicable financial accounting rules, 
as well as under the 1991 proposed Section 987 regulations.
    In this connection, the IRS and the Office of Tax Policy are 
considering alternative loss recognition timing limitations that would 
apply to electing taxpayers. Under the base limitation under 
consideration, the electing taxpayer would be permitted to recognize 
net Section 987 losses only to the extent of net Section 987 gains 
recognized in prior or subsequent years. As a possible additional 
approach to limiting losses, the IRS and the Office of Tax Policy are 
also considering the administrability of a limitation under which the 
electing taxpayer would defer recognition of all Section 987 losses and 
gains until the earlier of (i) the year that the trade or business 
conducted by the Section 987 QBU ceases to be performed by any member 
of its controlled group or (ii) the year substantially all of the 
assets and activities of the QBU are transferred outside of the 
controlled group.
    Finally, the IRS and the Office of Tax Policy are considering 
alternatives to the transition rules in the final regulations. One 
alternative would be to allow taxpayers that elect to apply the loss 
limitations applicable to the simplified methodology discussed above to 
carry forward unrealized Section 987 gains and losses, measured as of 
the transition date with appropriate adjustments, and subject to such 
loss limitations. A second alternative under consideration would be to 
allow taxpayers adopting the final regulations to elect to translate 
all items on the QBU's opening balance sheet on the transition date at 
the spot exchange rate, but not carry forward any unrealized Section 
987 gains or losses.

David J. Kautter,
Assistant Secretary of the Treasury for Tax Policy.
[FR Doc. 2017-22205 Filed 10-13-17; 8:45 am]