Proposed Rule2024-28371
Accounting for Disregarded Transactions Between a Qualified Business Unit and Its Owner
Primary source
Metadata and text below are from the Federal Register, a public-domain U.S. government work. Always verify the official published version before relying on it for any legal matter.
Published
December 11, 2024
Issuing agencies
Treasury DepartmentInternal Revenue Service
Abstract
This document contains proposed regulations relating to the determination of taxable income or loss and foreign currency gain or loss with respect to a qualified business unit. The proposed regulations include an election that is intended to reduce the compliance burden of accounting for certain disregarded transactions between a qualified business unit and its owner. This document also includes a request for comments relating to the treatment of partnerships and controlled foreign corporations.
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<title>Federal Register, Volume 89 Issue 238 (Wednesday, December 11, 2024)</title>
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[Federal Register Volume 89, Number 238 (Wednesday, December 11, 2024)]
[Proposed Rules]
[Pages 99782-99790]
From the Federal Register Online via the Government Publishing Office [<a href="http://www.gpo.gov">www.gpo.gov</a>]
[FR Doc No: 2024-28371]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[REG-117213-24]
RIN 1545-BR37
Accounting for Disregarded Transactions Between a Qualified
Business Unit and Its Owner
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking.
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SUMMARY: This document contains proposed regulations relating to the
determination of taxable income or loss and foreign currency gain or
loss with respect to a qualified business unit. The proposed
regulations include an election that is intended to reduce the
compliance burden of accounting for certain disregarded transactions
between a qualified business unit and its owner. This document also
includes a request for comments relating to the treatment of
partnerships and controlled foreign corporations.
DATES: Written or electronic comments and requests for a public hearing
must be received by March 11, 2025.
ADDRESSES: Commenters are strongly encouraged to submit public comments
electronically via the Federal eRulemaking Portal at <a href="https://www.regulations.gov">https://www.regulations.gov</a> (indicate IRS and REG-117213-24) by following the
online instructions for submitting comments. Requests for a public
hearing must be submitted as prescribed in the ``Comments and Requests
for a Public Hearing'' section. Once submitted to the Federal
eRulemaking Portal, comments cannot be edited or withdrawn. The
Department of the Treasury (Treasury Department) and the IRS will
publish for public availability any comments submitted to the IRS's
public docket. Send paper submissions to: CC:PA:01:PR (REG-117213-24),
Room 5203, Internal Revenue Service, P.O. Box 7604, Ben Franklin
Station, Washington, DC 20044.
FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations,
Adam G. Province at (865) 329-4546; concerning submissions of comments,
requests for a public hearing, and access to a public hearing,
Publications and Regulations Section at (202) 317-6901 (not toll-free
numbers) or by email to <a href="/cdn-cgi/l/email-protection#7c0c091e10151f14191d0e15121b0f3c150e0f521b130a"><span class="__cf_email__" data-cfemail="037376616f6a606b6662716a6d6470436a71702d646c75">[email protected]</span></a> (preferred).
SUPPLEMENTARY INFORMATION:
Authority
This document contains proposed additions and amendments to 26 CFR
part 1 (Income Tax Regulations) addressing the application of section
987 of the Internal Revenue Code (Code) and related provisions (the
``proposed regulations''). The additions and amendments are issued
under sections 987 and 989, pursuant to the express delegations of
authority provided under those sections. The express delegations relied
upon are referenced in the Background section of this preamble. The
proposed regulations are also issued under the express delegation of
authority under section 7805 of the Code.
Background
This document contains proposed regulations under section 987 of
the Code. Section 987 applies to any taxpayer that has a qualified
business unit (QBU) with a functional currency other than the dollar.
Section 987(1) and (2) provide rules for determining and translating
taxable income or loss (``section 987 taxable income or loss'') with
respect to the QBU. In addition, foreign currency gain or loss must be
determined under section 987(3) (``section 987 gain or loss''), which
requires proper adjustments (as prescribed by the Secretary) for
transfers of property between QBUs of the
[[Page 99783]]
taxpayer having different functional currencies.
Sections 987 and 989 provide several explicit grants of regulatory
authority. The statute does not specify how the proper adjustments
should be made under section 987(3), but instead directs the Secretary
to prescribe the proper adjustments needed to determine the taxable
income of the owner of a section 987 QBU. Section 989(c) directs the
Secretary to ``prescribe such regulations as may be necessary or
appropriate to carry out the purposes of this subpart.'' \1\ The grants
of authority in section 989(c) include regulations providing for the
appropriate treatment of related party transactions (including
transactions between QBUs of the same taxpayer). Section 989(c)(5).
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\1\ The reference to ``this subpart'' refers to subpart J of
part III of subchapter N of chapter 1 of the Code, which includes
section 987.
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Concurrently with the publication of these proposed regulations,
the Treasury Department and the IRS are publishing in the rules and
regulations section of this edition of the Federal Register (RIN 1545-
BO07) final regulations under sections 861, 985, 987 through 989, and
1502 of the Code (the ``final regulations''). On November 14, 2023, the
Treasury Department and the IRS published proposed regulations (REG-
132422-17) under those same sections of the Code (the ``2023 proposed
regulations'') in the Federal Register (88 FR 78134). The comments
received in response to the 2023 proposed regulations, and the
revisions made in response to those comments, are summarized in the
Summary of Comments and Explanation of Revisions in the preamble to the
final regulations. In response to certain comments, the Treasury
Department and the IRS are publishing this notice of proposed
rulemaking to provide additional proposed rules under section 987 and
to request comments relating to the application of section 987 to
partnerships and controlled foreign corporations (``CFCs'').
Explanation of Provisions
The proposed regulations provide an election under which, in
certain cases, taxpayers can translate a group of frequently recurring
transfers between a section 987 QBU and its owner using the yearly
average exchange rate (rather than the spot rate applicable on the date
of each transfer). The proposed regulations also would simplify the
computation of unrecognized section 987 gain or loss under Sec. 1.987-
4 for taxpayers that make this election.
I. Rules of the Final Regulations Relating to Disregarded Transactions
A. Accounting for Disregarded Transactions Between a Section 987 QBU
and Its Owner
Under the final regulations, an asset is treated as transferred to
a section 987 QBU from its owner if, because of a disregarded
transaction, the asset is reflected on the books and records of the
section 987 QBU. See Sec. 1.987-2(c)(2)(i). Similarly, an asset is
treated as transferred from a section 987 QBU to its owner if, because
of a disregarded transaction, the asset ceases to be reflected on the
books and records of the section 987 QBU. Thus, for example, if a
section 987 QBU purchases inventory from its owner (or another eligible
QBU of its owner) in a disregarded transaction, the section 987 QBU is
treated as distributing cash to its owner, and the owner is treated as
contributing the inventory to the section 987 QBU. Disregarded
transactions, however, do not give rise to items of income, gain,
deduction, or loss that are taken into account in determining section
987 taxable income or loss under Sec. 1.987-3. See Sec. 1.987-
2(c)(2)(iii).
The final regulations provide rules for determining the basis of an
asset or the amount of a liability that has been transferred by an
owner to a section 987 QBU. In general, marked items are translated
into the section 987 QBU's functional currency at the spot rate
applicable on the date of the transfer, while historic items are
translated at the applicable historic rate. See Sec. 1.987-2(d).
Similarly, when an asset or liability is transferred from a section 987
QBU to its owner, marked items are translated into the owner's
functional currency at the spot rate applicable on the date of
transfer, while historic items are translated at the applicable
historic rate. See Sec. 1.987-5(f). These rules apply to all transfers
of assets and liabilities between a section 987 QBU and its owner,
including transfers made in connection with ordinary course disregarded
transactions (for example, sales of inventory).
The definition of a marked item under the final regulations
includes an asset or liability denominated in, or determined by
reference to, the functional currency of the section 987 QBU that would
be a section 988 transaction if it were held or entered into directly
by the owner of the section 987 QBU; it also includes several other
categories of assets and liabilities. See Sec. 1.987-1(d)(1). However,
the final regulations provide an election to treat all items of a
section 987 QBU as marked items (the ``current rate election''). See
Sec. 1.987-1(d)(2).
B. Determination of Unrecognized Section 987 Gain or Loss With Respect
to a Section 987 QBU
Section 1.987-4 provides rules for computing net unrecognized
section 987 gain or loss with respect to a section 987 QBU. Under Sec.
1.987-4(b), net unrecognized section 987 gain or loss is equal to the
sum of (i) the unrecognized section 987 gain or loss for the current
taxable year and (ii) net accumulated unrecognized section 987 gain or
loss for all prior taxable years.
Section Sec. 1.987-4(d) provides a ten-step formula for computing
unrecognized section 987 gain or loss for the current taxable year. The
first step of this formula is to determine the change in owner
functional currency net value (``OFCNV'') of the section 987 QBU for
the taxable year, computed using end-of-year exchange rates for marked
items and historic rates for historic items. See Sec. 1.987-4(d)(1)
and (e). The other steps adjust for amounts comprising the separate
components of the annual change in OFCNV (other than changes in the
exchange rate). Steps 2 through 5 relate to transfers of assets and
liabilities between a section 987 QBU and its owner, and steps 6
through 9 relate to items of income or loss of the section 987 QBU. See
Sec. 1.987-4(d)(2) through (9). Step 10 is a residual adjustment for
any remaining increase or decrease to the section 987 QBU's functional
currency balance sheet. This residual adjustment is translated into the
owner's functional currency using the yearly average exchange rate for
the taxable year. See Sec. 1.987-4(d)(10).
In applying steps 2 through 5, an owner must account for all
transfers of assets and liabilities between a section 987 QBU and its
owner, including transfers made in connection with ordinary course
disregarded transactions. See Sec. 1.987-4(d)(2) through (5). For this
purpose, marked items are translated into the owner's functional
currency at the spot rate applicable on the date of the transfer, while
historic items are translated at the applicable historic rate.
II. Proposed Rules Relating to Disregarded Transactions
A. Comment Concerning the Compliance Burden of Accounting for
Disregarded Transactions
A comment to the 2023 proposed regulations asserted that it is
burdensome for taxpayers to track and translate disregarded
transactions between a section 987 QBU and its owner (or between
different section 987 QBUs of the same owner) that arise in
[[Page 99784]]
the ordinary course of a section 987 QBU's trade or business. The
comment recommended that, for taxpayers that make a current rate
election, unrecognized section 987 gain or loss for the taxable year
should be computed by applying only two of the steps provided in Sec.
1.987-4(d): step 1 (determining the change in OFCNV) and step 10
(reducing or increasing the amount determined in step 1 by the change
in QBU net value, translated into the owner's functional currency at
the yearly average exchange rate). The comment asserted that, under
this approach, it would not be necessary to track ordinary course
disregarded transactions between a section 987 QBU and its owner (or
different section 987 QBUs of the same owner), because those
transactions would be eliminated from the computation of unrecognized
section 987 gain or loss.
As explained in the preamble to the final regulations, the effect
of the comment's recommended rule would be to translate the net amount
of all transfers between a section 987 QBU and its owner at the yearly
average exchange rate under step 10. See part V.A.3 of the Summary of
Comments and Explanation of Revisions in the preamble to the final
regulations. By contrast, Sec. 1.987-4(d) requires each transfer to be
translated at the appropriate exchange rate in applying steps 2 through
5. Under the final regulations, if a current rate election is in
effect, the basis of each asset and the amount of each liability
transferred is translated at the spot rate applicable on the date of
transfer (because all assets and liabilities are treated as marked
items). The final regulations do not adopt the rule recommended by the
comment because the applicable spot rate could be significantly higher
or lower than the yearly average exchange rate, in which case the
comment's recommended rule could substantially distort the computation
of unrecognized section 987 gain or loss.
B. Recurring Transfer Group Election
Notwithstanding the concern described in part II.A of this
Explanation of Provisions, the Treasury Department and the IRS are of
the view that, in certain cases, a group of frequently recurring
transfers between a section 987 QBU and its owner could be translated
using the yearly average exchange rate without creating significant
distortions. Further, permitting taxpayers to use the yearly average
exchange rate in lieu of the applicable spot rate would reduce the
compliance burden of the section 987 regulations.
Therefore, the proposed regulations would provide that a taxpayer
that has made a current rate election may elect to use the yearly
average exchange rate to translate assets that are transferred between
a section 987 QBU and its owner as part of a recurring transfer group
(a ``recurring transfer group election''). Proposed Sec. 1.987-
2(f)(1). The recurring transfer group election would be subject to the
general timing and consistency requirements provided in Sec. 1.987-
1(g) of the final regulations.
If a recurring transfer group election is in effect, assets
transferred between a section 987 QBU and its owner as part of a
recurring transfer group (``grouped assets'') are translated under
Sec. Sec. 1.987-2(d), 1.987-4(d)(2), and 1.987-5(f) using the yearly
average exchange rate in lieu of the applicable spot rate. Proposed
Sec. 1.987-2(f)(4). In addition, proposed Sec. 1.987-2(f)(5)(i) would
provide that transfers made as part of a recurring transfer group are
disregarded for purposes of Sec. 1.987-4(d)(2) and (3) (steps 2 and
3). Proposed Sec. 1.987-2(f)(5). That is, because all transfers that
are part of a recurring transfer group are translated at the yearly
average exchange rate, these transfers do not need to be separately
tracked and translated for purposes of determining unrecognized section
987 gain or loss.
Transfers that are part of a recurring transfer group are also
disregarded when applying steps 2 and 3 in the functional currency of
the section 987 QBU for purposes of determining the residual increase
or decrease to net assets under Sec. 1.987-4(d)(10). Proposed Sec.
1.987-4(d)(10)(ii)(D). To the extent that these transfers increase or
reduce the year-end net assets of the section 987 QBU (determined in
the section 987 QBU's functional currency), the residual increase or
decrease to net assets will be translated at the yearly average
exchange rate under Sec. 1.987-4(d)(10) (step 10).
Under the proposed regulations, if a recurring transfer group
election is in effect, and the only transfers between a section 987 QBU
and its owner are part of a recurring transfer group, the owner would
determine unrecognized section 987 gain or loss for the taxable year by
applying only steps 1 and 10 (as recommended by the comment). Transfers
that are not part of a recurring transfer group must be taken into
account at the applicable spot rate under steps 2 through 5. However,
the final regulations permit taxpayers to use a spot rate convention
based on the average of spot rates for a reasonable period (which can
be as long as three months), which should reduce the compliance burden
of accounting for these transfers. See Sec. 1.987-1(c)(1)(ii).
The special rule for computing unrecognized section 987 gain or
loss in proposed Sec. 1.987-2(f)(5)(i) would not apply if the owner of
a section 987 QBU determines QBU net value using the formula provided
in Sec. 1.987-4(e)(2)(iii). Proposed Sec. 1.987-2(f)(5)(ii).
Taxpayers using this formula must separately track each transfer for
purposes of computing QBU net value, and therefore disregarding the
transfers for purposes of Sec. 1.987-4(d)(2) and (3) would not reduce
the compliance burden for these taxpayers.
The proposed regulations also would modify the recordkeeping
requirements in Sec. 1.987-9 to provide that taxpayers are not
required to maintain records concerning amounts transferred between an
owner and a section 987 QBU unless the transferred amounts are taken
into account in applying Sec. 1.987-4 or Sec. 1.987-5. Proposed Sec.
1.987-9(b)(5) and (6). Therefore, if a taxpayer makes a recurring
transfer group election and uses the alternative calculation provided
in Sec. 1.987-5(c)(2) (under which the remittance for a taxable year
is determined by reference to the change in QBU net value, adjusted for
income or loss of the section 987 QBU), the taxpayer generally would
not be required to maintain records with respect to transfers of
grouped assets.
C. Definition of a Recurring Transfer Group
Under the proposed regulations, a recurring transfer group would be
defined as a group of frequently recurring transfers between a section
987 QBU and its owner (or another eligible QBU of the owner) that are
made in the ordinary course of a trade or business. Proposed Sec.
1.987-2(f)(2)(i). Only transfers made in connection with sales of
inventory, payments for services, or rent or royalty transactions in
which arm's length compensation (determined by applying the principles
of the arm's length standard of Sec. 1.482-1(b)(1)) has been paid
would be included in a recurring transfer group. Proposed Sec. 1.987-
2(f)(2)(ii). For this purpose, the principles of the arm's length
standard apply as if the section 987 QBU were a corporation that is
separate from its owner and, thus, as if the disregarded transaction
were a controlled transfer within the meaning of Sec. 1.482-1(i)(8). A
recurring transfer group would not include a transfer between the
section 987 QBU and its owner if the transfer (or a portion of the
transfer) would be treated as a distribution with respect to stock, or
an exchange for stock (or a contribution to
[[Page 99785]]
capital), for U.S. tax purposes if the QBU were treated as a separate
corporation. Proposed Sec. 1.987-2(f)(2)(iii). Those transfers are
unlikely to be made in the ordinary course of a trade or business and
could be used to manipulate the computation of unrecognized section 987
gain or loss.
The definition of a recurring transfer group in Sec. 1.987-2(f)(2)
is tailored to identify ordinary business transactions for which the
use of the yearly average exchange rate would not cause significant
distortions and which could be burdensome to account for under the
rules of the final regulations. The Treasury Department and the IRS
request comments as to whether other transfers should be included in a
recurring transfer group. For example, comments are requested as to
whether intercompany lending transactions (or other transactions) of a
bank or other financial entity should be included in a recurring
transfer group and, if so, how the scope of the covered transactions
should be defined. Although lending transactions are made in the
ordinary course of a bank's trade or business, it may be difficult to
distinguish between ordinary course loans and extraordinary
transactions that could be used to manipulate a taxpayer's unrecognized
section 987 gain or loss.
D. Exception for Disproportionate Transfers
The rules of proposed Sec. 1.987-2(f)(4) and (5) would not apply
in a taxable year in which a disproportionate amount of the assets
transferred as part of a recurring transfer group are transferred
during one or more quarters of the taxable year. Proposed Sec. 1.987-
2(f)(6). In particular, proposed Sec. 1.987-2(f)(4) and (5) would not
apply if either (i) more than 50 percent of the total amount
transferred during the taxable year is transferred during one quarter
of the taxable year or (ii) more than 80 percent of the total amount
transferred during the taxable year is transferred during two quarters
of the taxable year.
The exception in proposed Sec. 1.987-2(f)(6) is intended to
prevent significant distortions that could arise from using the yearly
average exchange rate to translate transfers that primarily occur in
only part of the taxable year, while being flexible enough to
accommodate ordinary course disregarded transactions between a section
987 QBU and its owner. The Treasury Department and the IRS request
comments as to whether other standards could be used to identify
transfers that can appropriately be translated at the yearly average
exchange rate. For example, comments are requested as to whether more
flexibility should be provided in taxable years in which exchange rates
do not significantly fluctuate.
Applicability Dates
Once finalized, the regulations would apply to taxable years
beginning after the date the Treasury Decision adopting these rules as
final regulations is published in the Federal Register. A taxpayer may
rely on these proposed regulations for a taxable year in which the
final regulations (that is, the final regulations that are being
published concurrently with the proposed regulations) apply, provided
the taxpayer and each member of its consolidated group and section 987
electing group, as applicable, consistently follow the proposed
regulations in their entirety and in a consistent manner.
In addition, for a taxable year in which the final regulations
apply, a taxpayer may continue to rely on the parts of the proposed
regulations published in the Federal Register (REG-128276-12, 81 FR
88882) on December 8, 2016 (the ``2016 proposed regulations'') that
have not been finalized or withdrawn, provided that the taxpayer and
each member of its consolidated group and section 987 electing group,
as applicable, consistently follow these parts in their entirety and in
a consistent manner. The following parts of the 2016 proposed
regulations have not been finalized or withdrawn: (1) rules regarding
QBUs with the U.S. dollar as their functional currency (see Sec. Sec.
1.987-1 and 1.987-6 of the 2016 proposed regulations); and (2) rules
requiring the deferral of certain section 988 loss that arises with
respect to related-party loans (see Sec. 1.988-2 of the 2016 proposed
regulations).
Comments and Request for Public Hearing
I. In General
Before these proposed regulations are adopted as final regulations,
consideration will be given to comments that are submitted timely to
the IRS as prescribed in this preamble under the ADDRESSES heading. In
addition to the specific requests for comments in parts II.C and II.D
of the Explanation of Provisions, the Treasury Department and the IRS
request comments on all other aspects of the proposed regulations as
well as on the specific issues identified in part II of this Comments
and Request for Public Hearing section. Any comments submitted will be
made available at <a href="https://www.regulations.gov">https://www.regulations.gov</a> or upon request.
A public hearing concerning the proposed regulations will be
scheduled if requested in writing by any person who timely submits
electronic or written comments. Requests for a public hearing are also
encouraged to be made electronically. If a public hearing is scheduled,
notice of the date and time for the public hearing will be published in
the Federal Register.
II. Additional Requests for Comments
A. Treatment of Partnerships for Purposes of Sections 987 and 989(a)
The final regulations do not provide detailed rules concerning the
application of section 987 to partnerships, and they reserve on the
treatment of a partnership as a QBU under section 989(a). See part
VIII.B.1 of the Summary of Comments and Explanation of Revisions in the
preamble to the final regulations. See also part VIII of the
Explanation of Provisions in the preamble to the 2023 proposed
regulations. The Treasury Department and the IRS continue to study
those issues and therefore request comments on the following topics:
1. Should section 987 be applied to partnerships using an entity
approach, an aggregate approach, or a hybrid approach? Comments
recommending an entity approach should address the concerns raised in
the preamble to the 2023 proposed regulations regarding the potential
for unrecognized section 987 gain or loss to be shifted between
partners upon a sale of a partnership interest. See part VIII.C of the
Explanation of Provisions in the preamble to the 2023 proposed
regulations.
2. Should a partnership be treated as a per se QBU under section
989(a) and Sec. 1.989(a)-1(b)(2)(i)?
3. Should different rules be provided for purposes of sections 987
and 989(a) depending on whether the partners in the partnership are
related parties? Comments recommending an entity approach for
partnerships owned by related parties should address the concerns
raised in the preamble to the 2023 proposed regulations regarding the
potential for a group of related parties to hold an eligible QBU
through a partnership (rather than directly) in order to alter the
section 987 treatment of the eligible QBU without meaningfully altering
the group's economic position. See part VIII.E of the Explanation of
Provisions in the preamble to the 2023 proposed regulations.
4. Under an entity approach, if a partnership's functional currency
differs from that of its partners, how should the
[[Page 99786]]
partners account for currency gain or loss with respect to their
partnership interests?
Comments submitted in response to the 2023 proposed regulations do
not need to be resubmitted in response to these proposed regulations.
B. Application of Section 987 to CFCs
As discussed in part II.A.3 of the Summary of Comments and
Explanation of Revisions in the preamble to the final regulations, a
comment on the 2023 proposed regulations recommended that the
application of section 987 be simplified by applying rules similar to
section 986(c) to section 987 QBUs owned by CFCs in lieu of applying
section 987. In response to this comment, the preamble to the final
regulations explained that the Treasury Department and the IRS are of
the view that it would not be feasible to adopt this comment, but
nonetheless are studying whether there are instances in which it would
be possible to simplify the application of section 987 by modifying the
application of section 987(3) (and the related regulations, including
Sec. Sec. 1.987-4 through 1.987-6, 1.987-8, and 1.987-11 through
1.987-13) to certain entities.
In considering the appropriateness of such a rule, it is helpful to
consider United States persons (``U.S. persons'') and foreign persons
separately. In the case of a U.S. person, except to the extent that the
Code specifically provides otherwise, the taxable income of the U.S.
person should reflect that person's accession to wealth, as measured in
the U.S. dollar. Accordingly, when the amount of the U.S. person's
basis in its assets or the amount of its liabilities fluctuates as a
result of fluctuations in the functional currency of a section 987 QBU,
section 987(3) is necessary to ensure that currency gain or loss is
taken into account to prevent these fluctuations from artificially
increasing or decreasing the taxpayer's income, gain, deduction, and
loss, as measured in the U.S. dollar. In contrast, in the case of a
foreign person, such as a CFC or a partnership with only foreign
partners, the Treasury Department and the IRS are studying whether the
U.S. tax system appropriately tracks and taxes the foreign person's
accession to wealth given that its functional currency may not be the
U.S. dollar.
The Treasury Department and the IRS agree with the comment that the
compliance and administrative burdens of the section 987 regulations
would be substantially reduced if section 987(3) and the related
regulations did not apply to CFCs or to partnerships with only foreign
partners. Under such an approach, a CFC or a partnership with only
foreign partners would not calculate net unrecognized section 987 gain
or loss with respect to a section 987 QBU and would not recognize
section 987 gain or loss on a remittance or termination. Instead, if a
section 987 QBU owned by the CFC or partnership transferred assets or
liabilities to its owner, the CFC or partnership would merely take a
basis in the assets or measure the amount of the liabilities by
translating from the section 987 QBU's functional currency into the CFC
or partnership's functional currency at the spot rate on the date of
the transfer.
Relatedly, the Treasury Department and the IRS are concerned about
the ability of foreign entities to manipulate the recognition of
section 987 gain and loss under section 987(3) and the related
regulations. This concern is not entirely alleviated by the loss-to-
the-extent-of-gain-rule in Sec. 1.987-11, which suspends the
recognition of section 987 loss for taxpayers that make a current rate
election.
Accordingly, the Treasury Department and the IRS are studying
whether, in certain cases, it would be appropriate to not apply section
987(3) and the related regulations to CFCs and partnerships with only
foreign partners. However, the Treasury Department and the IRS have a
number of concerns, including that, under this approach, the amount of
currency gain (or loss) that would have been taken into account under
section 987(3) would give rise to an increase (or decrease) in a CFC's
aggregate inside asset basis without a corresponding change in the
CFC's earnings and profits, and the resulting mismatch between inside
asset basis and earnings and profits could produce inappropriate
results.
For example, over time, it would be common for a CFC's aggregate
inside asset basis to be greater or less than the sum of its (i)
earnings and profits determined under the principles of Sec. 1.367(b)-
2(d) but without regard to whether the exchanging shareholder is a U.S.
person or foreign person, (ii) total basis in the stock of the CFC; and
(iii) the amount of the CFC's liabilities. Although it is possible for
a CFC to have aggregate inside asset basis in excess of these amounts
(``excess asset basis'') \2\ under current law, the Treasury Department
and the IRS are concerned that, if CFCs were not required to recognize
currency gain or loss under section 987(3), excess asset basis would
become more prevalent. If the United States shareholder (``U.S.
shareholder'') ultimately sells its stock in the CFC, the U.S.
shareholder would generally recognize the appropriate amount of gain or
loss on the sale of stock (notwithstanding the potential excess asset
basis of the CFC). However, if, in lieu of a sale of stock, the CFC
merges or liquidates into a domestic corporation pursuant to an inbound
asset reorganization or liquidation described in Sec. 1.367(b)-3, the
excess asset basis could be imported into the United States without a
corresponding inclusion of income or gain under Sec. 1.367(b)-3, and
thus permanently escape U.S. taxation.
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\2\ For a discussion of ``excess asset basis,'' see the
preambles accompanying issuance of Sec. 1.367(b)-3(g) (TD 10004, 89
FR 58275) and proposed Sec. 1.367(b)-3(g) (88 FR 69559),
respectively.
---------------------------------------------------------------------------
Accordingly, the Treasury Department and the IRS request comments
concerning the following topics:
1. Should the final regulations be modified to provide that section
987(3) and the related regulations do not apply to CFCs or to
partnerships with only foreign partners? If so, how should currency
gain or loss be recognized with respect to the section 987 QBU (if at
all)?
2. If section 987(3) did not apply to CFCs and partnerships with
only foreign partners, what other rules would be needed to prevent
value equal to the amount of excess asset basis from permanently
escaping U.S. taxation upon an inbound transaction such as an asset
reorganization or liquidation described in Sec. 1.367(b)-3? For
example, should the importation of excess asset basis trigger the
recognition of gain in the same manner that Sec. 1.367(b)-3 triggers a
deemed dividend to a shareholder? If so, are there circumstances in
which excess asset basis should not trigger gain (such as excess asset
basis arising by reason of section 362(e) or by reason of minority
interests)? How should excess asset basis be computed? What additional
rules would be needed to similarly prevent taxpayers from planning into
the permanent avoidance or indefinite deferral of gain or acceleration
of losses?
3. If section 987(3) and the related regulations continue to apply
to CFCs and partnerships with only foreign partners generally, are any
modifications needed to the calculation of section 987 gain and loss
for these entities?
Special Analyses
I. Regulatory Planning and Review--Economic Analysis
Pursuant to the Memorandum of Agreement, Review of Treasury
Regulations under Executive Order
[[Page 99787]]
12866 (June 9, 2023), tax regulatory actions issued by the IRS are not
subject to the requirements of section 6 of Executive Order 12866, as
amended. Therefore, a regulatory impact assessment is not required.
II. Paperwork Reduction Act
The Paperwork Reduction Act of 1995 (44 U.S.C. 3501-3520) (PRA)
requires that a Federal agency obtain the approval of the Office of
Management and Budget (OMB) before collecting information from the
public, whether such collection of information is mandatory, voluntary,
or required to obtain or retain a benefit. An agency may not conduct or
sponsor, and a person is not required to respond to, a collection of
information unless it displays a valid control number assigned by the
OMB.
The collections of information in the proposed regulations with
respect to section 987 are in proposed Sec. 1.987-2(f)(1) (and the
related election rules in Sec. 1.987-1(g) of the final regulations).
The likely respondents are individuals who file a Form 1040 and
businesses that file a Form 1065 or Form 1120.
The collection of information in proposed Sec. 1.987-2(f)(1) is
required only when a taxpayer makes or revokes a recurring transfer
group election under proposed Sec. 1.987-2(f)(1). In the first year in
which the section 987 regulations apply to a taxpayer, or the first
year in which the taxpayer or a member of its consolidated group or
section 987 electing group is the owner of a section 987 QBU, the
taxpayer is permitted to make a recurring transfer group election
without the Commissioner's consent. Thereafter, the taxpayer may make
or revoke a recurring transfer group election only with the consent of
the Commissioner, which may be granted with a private letter ruling.
When a taxpayer makes or revokes an election, the collection of
information is mandatory. The collection of information required by
proposed Sec. 1.987-2(f)(1) will be used by the IRS for tax compliance
purposes.
The Treasury Department and the IRS intend that the information
required by Sec. 1.987-1(g) with respect to a recurring transfer group
election under proposed Sec. 1.987-2(f)(1) will be collected by
attaching a statement to a taxpayer's return (such as the appropriate
Form 1040, Form 1120, Form 1065, or other appropriate forms). For
purposes of the PRA, the reporting burden associated with those
collections of information will be reflected in the PRA submissions
associated with those forms. The OMB Control Numbers for the forms will
be approved under 1545-0074 for individuals and under 1545-0123 for
business entities.
To the extent that a taxpayer makes or revokes an election by
obtaining a private letter ruling, the reporting burden associated with
those collections of information will be reflected in the PRA
submissions associated with revenue procedures governing private letter
rulings. The OMB Control Number for those revenue procedures is control
number 1545-1522. The proposed regulations would only require taxpayers
to follow the procedures under Revenue Procedure 2024-1, IRB 2024-1 (or
future revenue procedures governing private letter rulings) and would
not change the collection requirements of the Revenue Procedure.
Books or records relating to a collection of information must be
retained as long as their contents may become material in the
administration of any Internal Revenue law. Generally, tax returns and
tax return information are confidential, as required by 26 U.S.C. 6103.
III. Regulatory Flexibility Act
Pursuant to the Regulatory Flexibility Act (5 U.S.C. chapter 6), it
is hereby certified that this rulemaking will not have a significant
economic impact on a substantial number of small entities within the
meaning of section 601(6) of the Regulatory Flexibility Act. The
proposed regulations affect individuals and corporations (other than S
corporations) with foreign branch operations.
The number of small entities potentially affected by the proposed
regulations is unknown; however, it is unlikely to be a substantial
number because taxpayers with wholly owned foreign operations are
typically larger businesses. The Treasury Department and the IRS
estimate that the total number of corporations (other than S
corporations) with a foreign branch subject to section 987 is
approximately 2,000. This estimate is based on the number of
corporations (other than S corporations) that filed a Form 8858 in 2022
that showed that the filer: (1) owned at least one disregarded entity
or branch with a functional currency different from the functional
currency of the owner, and (2) indicated that the disregarded entity or
branch was a section 989 QBU. As shown in the following table, only a
small percentage of those filers are small entities.
------------------------------------------------------------------------
Percentage of
Total receipts/positive income (2022) filers
------------------------------------------------------------------------
Under $5 Million........................................ 7
$5 Million to $10 Million............................... 2
$10 Million to $25 Million.............................. 4
Over $25 Million........................................ 87
------------------------------------------------------------------------
The number of affected corporations (other than S corporations)
with total receipts of less than $25 million represents 0.02% of all
corporations (other than S corporations) with total receipts of less
than $25 million.
These proposed regulations generally modify the rules that would
otherwise apply under the final regulations by providing taxpayers with
an election that reduces the compliance burden of applying section 987.
Small entities generally would not be affected by these rules unless
they choose to make an election to reduce their compliance burden.
A portion of the economic impact of the proposed regulations may
derive from the collection of information requirements imposed under
proposed Sec. 1.987-2(f)(1) (and the related election rules in Sec.
1.987-1(g) of the final regulations). The Treasury Department and the
IRS have determined that the average burden is 1.95 hours per response.
The IRS's Research, Applied Analytics, and Statistics division
estimates that the appropriate wage rate for this set of taxpayers is
$99.87 per hour. Thus, the annual burden per taxpayer from each
collection of information requirement is $194.75. The requirements of
proposed Sec. 1.987-2(f)(1) apply only if a taxpayer chooses to make
or revoke an election (and only in the year of the election or
revocation).
IV. Section 7805(f)
Pursuant to section 7805(f) of the Code, this proposed regulation
will be submitted to the Chief Counsel for Advocacy of the Small
Business Administration for comment on their impact on small business.
V. Unfunded Mandates Reform Act
Section 202 of the Unfunded Mandates Reform Act of 1995 requires
that agencies assess anticipated costs and benefits and take certain
other actions before issuing a final rule that includes any Federal
mandate that may result in expenditures in any one year by a State,
local, or Tribal government, in the aggregate, or by the private
sector, of $100 million in 1995 dollars, updated annually for
inflation. The proposed regulations do not include any Federal mandate
that may result in expenditures by State, local, or Tribal governments,
or by the private sector in excess of that threshold.
[[Page 99788]]
VI. Executive Order 13132: Federalism
Executive Order 13132 (entitled ``Federalism'') prohibits an agency
from publishing any rule that has federalism implications if the rule
either imposes substantial, direct compliance costs on State and local
governments, and is not required by statute, or preempts State law,
unless the agency meets the consultation and funding requirements of
section 6 of the Executive order. The proposed regulations do not have
federalism implications and do not impose substantial direct compliance
costs on State and local governments or preempt State law within the
meaning of the Executive order.
Drafting Information
The principal authors of these proposed regulations are Adam G.
Province and Raphael J. Cohen of the Office of Associate Chief Counsel
(International). However, other personnel from the Treasury Department
and the IRS participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Proposed Amendments to the Regulations
Accordingly, the Treasury Department and the IRS propose to amend
26 CFR part 1 as follows:
PART 1--INCOME TAXES
0
Paragraph 1. The authority citation for part 1 continues to read in
part as follows:
Authority: 26 U.S.C. 7805 * * *
* * * * *
Section 1.987-2 also issued under 26 U.S.C. 987, 989, and 1502.
* * * * *
Section 1.987-4 also issued under 26 U.S.C. 987 and 989.
* * * * *
Section 1.987-9 also issued under 26 U.S.C. 987, 989, and 6001.
* * * * *
Section 1.987-15 also issued under 26 U.S.C. 987 and 989.
* * * * *
0
Par. 2. Section 1.987-2 is amended by adding paragraph (f) to read as
follows:
Sec. 1.987-2 Attribution of items to eligible QBUs; definition of a
transfer and related rules.
* * * * *
(f) Recurring transfer group election--(1) In general. For a
taxable year in which a current rate election is in effect, the owner
of a section 987 QBU may elect to use the yearly average exchange rate
to translate all assets that are transferred to or from the section 987
QBU in a taxable year as part of a recurring transfer group (a
recurring transfer group election). The rules of this paragraph (f)
apply to all transfers that are part of a recurring transfer group in
any taxable year to which the recurring transfer group election applies
(regardless of whether transfers of the same kind occurred in the first
year to which the election applied).
(2) Recurring transfer group. A recurring transfer group is a group
of frequently recurring transfers made between a section 987 QBU and
its owner (or another eligible QBU of the owner) in a taxable year that
meet the requirements of paragraphs (f)(2)(i) through (iii) of this
section.
(i) Ordinary course transfers. The transfers must be made in the
ordinary course of a trade or business.
(ii) Specified transactions. The transfers must be made as part of
one or more disregarded transactions described in paragraphs
(f)(2)(ii)(A) through (C) of this section between the section 987 QBU
and its owner (or another eligible QBU of the owner), the compensation
for which would satisfy the principles of the arm's length standard
(within the meaning of Sec. 1.482-1(b)) if the section 987 QBU were
treated as a separate corporation. Transfers made in connection with
different disregarded transactions described in paragraphs
(f)(2)(ii)(A) through (C) of this section in the same taxable year are
treated as part of a single recurring transfer group.
(A) Sales of inventory;
(B) Payments for services;
(C) Rents or royalties.
(iii) Distributions and contributions excluded. A transfer is not
included in a recurring transfer group if the transfer (or any portion
of the transfer) would be treated as a distribution with respect to
stock, or an exchange for stock (or a contribution to capital), if the
section 987 QBU were treated as a separate corporation.
(3) Consistency requirement. The determination as to which
transfers are included in a recurring transfer group must be made
consistently from year to year. However, this determination may change
from one year to the next based on changes in the nature and timing of
the relevant transfers.
(4) Effect of recurring transfer group election. Except as provided
in paragraph (f)(6) of this section, in a taxable year in which a
recurring transfer group election is in effect, assets that are
transferred to or from a section 987 QBU in a taxable year as part of a
recurring transfer group (grouped assets) are translated under
paragraph (d) of this section and Sec. Sec. 1.987-4(d)(2) and 1.987-
5(f) by deeming the spot rate applicable on the date of each transfer
to be equal to the yearly average exchange rate for the taxable year.
However, if the Commissioner determines that the use of the yearly
average exchange rate to translate grouped assets in a taxable year
does not clearly reflect income, the Commissioner may require some or
all transfers of the grouped assets to be excluded from the recurring
transfer group or may prescribe the use of a different exchange rate to
translate the grouped assets.
(5) Accounting for a disregarded transfer group in determining
unrecognized section 987 gain or loss for the taxable year--(i) In
general. Except as provided in paragraph (f)(5)(ii) or (f)(6) of this
section, in a taxable year in which a recurring transfer group election
is in effect, transfers of grouped assets are disregarded for purposes
of Sec. 1.987-4(d)(2) and (3) (steps 2 and 3).
(ii) Exception. Paragraph (f)(5)(i) of this section does not apply
to a section 987 QBU in a taxable year in which the owner determines
QBU net value with respect to the section 987 QBU under the steps
provided in Sec. 1.987-4(e)(2)(iii) (alternative formula for
determining QBU net value without preparing an adjusted balance sheet).
(6) Exception for taxable years in which a disproportionate amount
of grouped assets is transferred in one or more quarters of the taxable
year--(i) In general. Paragraphs (f)(4) and (5) of this section do not
apply to a section 987 QBU in a taxable year in which--
(A) More than 50 percent of the total amount of grouped assets
transferred to or from the section 987 QBU during the taxable year is
transferred during one quarter of the taxable year; or
(B) More than 80 percent of the total amount of grouped assets
transferred to or from the section 987 QBU during the taxable year is
transferred during two quarters of the taxable year.
(ii) Amount of grouped assets transferred. For the purpose of
applying paragraph (f)(6)(i) of this section, the amount of grouped
assets transferred to or from a section 987 QBU in a taxable year and
in each quarter of the taxable year is determined in the functional
currency of the section 987 QBU by reference to the aggregate of the
amount of functional currency transferred and the basis of the other
assets transferred (taking into account the total gross amount of both
the transfers from the section 987 QBU to the owner or another eligible
QBU of the owner and
[[Page 99789]]
the transfers from the owner or another eligible QBU of the owner to
the section 987 QBU). For this purpose, amounts transferred from the
owner (or another eligible QBU of the owner) to the section 987 QBU are
translated into the section 987 QBU's functional currency at the yearly
average exchange rate.
(iii) Short taxable year. For purposes of applying this paragraph
(f)(6) in a short taxable year, each quarter comprises a number of days
equal to one fourth of the total number of days in the taxable year. If
a section 987 QBU did not exist for the full taxable year of the owner,
this paragraph (f)(6) is applied with respect to the section 987 QBU by
treating the taxable year as comprising the portion of the taxable year
in which the section 987 QBU existed.
(7) Examples. The following examples illustrate the application of
this paragraph (f). For purposes of the examples, DC1 is a domestic
corporation that owns Business A, a section 987 QBU that has the euro
as its functional currency. In year 1, DC1's home office provides
services to Business A in exchange for arm's length cash payments
(within the meaning of Sec. 1.482-1(b)). The payments are made in the
ordinary course of the Business A trade or business. A current rate
election and a recurring transfer group election are in effect for year
1. DC1 does not determine QBU net value with respect to Business A
under the steps provided in Sec. 1.987-4(e)(2)(iii).
(i) Example 1: Transfers treated as part of a recurring transfer
group--(A) Facts. In year 1, Business A made 50 payments for services
to DC1's home office, totaling [euro]30,000x. Of this amount, Business
A paid [euro]5,000x in the first quarter of year 1, [euro]7,500x in the
second quarter of year 1, [euro]10,000x in the third quarter of year 1,
and [euro]7,500x in the fourth quarter of year 1. No other transfers
were made between Business A and DC1 for year 1.
(B) Analysis--(1) Recurring transfer group. Under paragraph (c)(2)
of this section, each payment for services is treated as a transfer of
assets from Business A to DC1. These transfers qualify as a recurring
transfer group under paragraph (f)(2) of this section because they are
frequently recurring payments for services made in the ordinary course
of the Business A trade or business that would satisfy the principles
of the arm's length standard (within the meaning of Sec. 1.482-1(b))
if Business A were treated as a separate corporation. In addition, the
exception in paragraph (f)(6) of this section does not apply because
Business A did not transfer more than 50 percent of the total amount of
grouped assets transferred in year 1 in any one quarter, and Business A
did not transfer more than 80 percent of the total amount of grouped
assets transferred in year 1 in any two quarters.
(2) Effect of recurring transfer group election. Under paragraph
(f)(4) of this section, because Business A's transfers to DC1 comprise
a recurring transfer group, DC1 applies Sec. 1.987-5(f) by deeming the
spot rate applicable on the date of each transfer to be equal to the
yearly average exchange rate for year 1. As a result, DC1 determines
its basis in the euros received from Business A by translating the
total amount of euros transferred in year 1 at the yearly average
exchange rate for year 1. In addition, under paragraph (f)(5) of this
section, the transfers are disregarded for purposes of determining
unrecognized section 987 gain or loss for year 1 under Sec. 1.987-
4(d)(2).
(ii) Example 2: Disproportionate transfers--(A) Facts. The facts
are the same as in paragraph (f)(7)(i) of this section (Example 1),
except that most of the payments are made in the fourth quarter of year
1 to compensate DC1's home office for additional services provided at
the end of year 1. Specifically, of the [euro]30,000 paid by Business A
for services in year 1, [euro]18,000x is transferred in the fourth
quarter of year 1, and [euro]4,000x is transferred in each of the first
three quarters of year 1.
(B) Analysis. The amount of grouped assets transferred in the
fourth quarter ([euro]18,000x) exceeds 50 percent of the total amount
of grouped assets transferred in year 1 ([euro]30,000x). Therefore,
under paragraph (f)(6) of this section, paragraphs (f)(4) and (5) of
this section do not apply. As a result, DC1 determines its basis in the
euros received from Business A by translating each transfer at the
applicable spot rate under Sec. 1.987-5(f), and DC1 must take each
transfer into account for purposes of determining unrecognized section
987 gain or loss for year 1 under Sec. 1.987-4(d)(2).
(iii) Example 3: Determination of the transfers including in a
recurring transfer group over multiple taxable years--(A) Facts. The
facts in year 1 are the same as in paragraph (f)(7)(i) of this section
(Example 1). The recurring transfer group election remains in effect in
years 2 and 3. In year 2, DC1's home office continues to provide
services to Business A in exchange for arm's length cash payments made
in the ordinary course of the Business A trade or business.
Additionally, in year 2, Business A begins to sell Product X inventory
to Business B, an eligible QBU of DC1 that is not a section 987 QBU, in
exchange for arm's length cash payments. In year 3, DC1's home office
no longer provides services to Business A, but Business A continues to
sell Product X inventory to Business B in exchange for arm's length
cash payments. Additionally, in year 3, Business A begins to sell
Product Y inventory to Business B in exchange for arm's length cash
payments. In each of years 1, 2, and 3, the transfers to and from
Business A are made on a frequent basis in the ordinary course of the
Business A trade or business.
(B) Analysis. In year 1, the cash payments for services made by
Business A to DC1's home office are part of a recurring transfer group.
In year 2, the recurring transfer group includes the cash payments for
services made by Business A to DC1's home office, the transfers of
Product X inventory from Business A to Business B, and the cash
payments made by Business B to Business A in connection with the
inventory sales. In year 3, the recurring transfer group includes the
transfers of Product X inventory and Product Y inventory from Business
A to Business B and the cash payments made by Business B to Business A
in connection with the inventory sales. Therefore, in each of years 1,
2, and 3, unless the exception in paragraph (f)(6) of this section
applies, the grouped assets are translated at the yearly average
exchange under paragraph (f)(4) of this section, and the transfers of
the grouped assets are disregarded for purposes of determining
unrecognized section 987 gain or loss under Sec. 1.987-4(d)(2) and
(3).
* * * * *
0
Par 3. Section 1.987-4 is amended by adding paragraph (d)(10)(ii)(D) to
read as follows:
Sec. 1.987-4 Determination of net unrecognized section 987 gain or
loss of a section 987 QBU.
* * * * *
(d) * * *
(10) * * *
(ii) * * *
(D) Recurring transfer group. In order to determine the residual
increase or decrease to net assets under this paragraph (d)(10) in a
taxable year in which transfers of grouped assets are disregarded under
Sec. 1.987-2(f)(5), the transfers of grouped assets are disregarded
for purposes of applying steps 2 and 3 (paragraphs (d)(2) and (3) of
this section) in the functional currency of the section 987 QBU.
* * * * *
[[Page 99790]]
0
Par 4. Section 1.987-9 is amended by revising paragraphs (b)(5) and (6)
to read as follows:
Sec. 1.987-9 Recordkeeping requirements.
* * * * *
(b) * * *
(5) The amount of assets and liabilities transferred by the owner
to the section 987 QBU determined in the functional currency of the
owner and the section 987 QBU (to the extent those amounts are taken
into account in applying Sec. 1.987-4 or Sec. 1.987-5).
(6) The amount of assets and liabilities transferred by the section
987 QBU to the owner determined in the functional currency of the owner
and the section 987 QBU (to the extent those amounts are taken into
account in applying Sec. 1.987-4 or Sec. 1.987-5).
* * * * *
0
Par 5. Section 1.987-15 is amended by adding paragraph (e) to read as
follows:
Sec. 1.987-15 Applicability date.
* * * * *
(e) Recurring transfer group election. Sections 1.987-2(f),1.987-
4(d)(10)(ii)(D), and 1.987-9(b)(5) and (6) apply to taxable years
beginning after [DATE OF PUBLICATION OF THE FINAL RULE IN THE FEDERAL
REGISTER].
Douglas W. O'Donnell,
Deputy Commissioner.
[FR Doc. 2024-28371 Filed 12-10-24; 8:45 am]
BILLING CODE 4830-01-P
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This is legal information, not legal advice. Laws vary by jurisdiction and change frequently. Always verify current law with official sources and consult a licensed attorney in your jurisdiction for advice on your specific situation.