Part IV. Items — Internal Revenue Bulletin 1997-14

331 applies if (a) the installment obligations are qualifying installment obligations, i.e., the installment obligations are acquired in respect to a sale or exchange of property by the corporation during the 12-month period beginning on the date a plan of complete liquidation is adopted, and (b) the liquidation is completed within that 12-month period. However, an installment obligation acquired in a sale or exchange of inventory, stock in trade, or property held for sale in the ordinary course of business qualifies for this treatment only if the obligation arises from a single bulk sale of substantially all of such property attributable to a trade or business of the corporation. If an installment obligation arises from both a sale or exchange of inventory, etc., that does not comply with the requirements of the preceding sentence and a sale or exchange of other assets, the portion of the installment obligation that is attributable to the sale or exchange of other assets is a qualifying installment obligation.

Interaction of Section 453(h) and Limi- tations on the Installment Method

Under section 453(k)(2), an installment obligation arising out of a sale of stock or securities that are traded on an established securities market does not qualify for installment method reporting. Accordingly, if the stock of a liquidating corporation is traded on an established securities market, an installment obligation received by a shareholder from that corporation as a liquidating distribution is not a qualifying installment obligation and does not qualify for installment reporting, regardless of whether the requirements of section 453(h) are otherwise satisfied. However, if an installment obligation received by a shareholder from a liquidating corporation, the stock of which is not publicly traded, arose from a sale by the corporation of stock or securities that are traded on an established securities market, then the obligation generally is a qualifying installment obligation in the hands of the shareholder. An exception to this rule applies to the extent the liquidating corporation is formed or availed of for a principal purpose of avoiding limitations on the availability of installment sale treatment through the use of a related party. For example, the exception would apply if a shareholder contributed a substantial amount of publicly traded

Notice of Proposed Rulemaking and Partial Withdrawal of Previous Notice of Proposed Rulemaking

Installment Obligations Received From Liquidating Corporations

REG–209332–80

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Partial withdrawal of previous notice of proposed rulemaking; Notice of proposed rulemaking.

SUMMARY: This document withdraws portions of the notice of proposed rulemaking published in the Federal Register (49 FR 1742[LR–184–80, 1984–1 C.B. 648]) on January 13, 1984, and proposes new regulations relating to the use of the installment method to report the gain recognized by a shareholder who receives, in exchange for the shareholder’s stock, certain installment obligations that are distributed upon the complete liquidation of a corporation. Changes to the applicable tax law were made by the Installment Sales Revision Act of 1980 and the Tax Reform Act of 1986. These regulations would affect taxpayers who receive installment obligations in exchange for their stock upon the complete liquidation of a corporation.

DATES: Comments or requests for a public hearing must be received by April 22, 1997.

ADDRESSES: Send submissions to: CC:DOM:CORP:R (REG–209332–80), room 5226, Internal Revenue Service, POB 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be hand delivered between the hours of 8 a.m. and 5 p.m. to: CC:DOM:CORP:R (REG–209332–80), Courier’s Desk, Internal Revenue Service, 1111 Constitution Avenue NW, Washington, DC. Alternatively, taxpayers may submit comments electronically via the internet by selecting the ‘‘Tax Regs’’ option on the IRS Home Page, or by submitting comments directly to the IRS internet site at http://www.irs.ustreas.gov/prod/ tax_regs/comments.html.

FOR FURTHER INFORMATION CONTACT: George F. Wright, (202) 622– 4950 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

Section 453(h), relating to the tax treatment of installment obligations received by a shareholder from a liquidating corporation, was added to the Internal Revenue Code of 1954 by the Installment Sales Revision Act of 1980. Proposed regulations under section 453(h) were published in the Federal Register on January 13, 1984 (49 FR 1742). Subsequently, section 453(h) was amended by the Tax Reform Act of 1986. This document withdraws a portion of the regulations proposed on January 13, 1984, at 49 FR 1742 and proposes new regulations under section 453(h). The new proposed regulations are issued under the authority contained in sections 453(j)(1), 453(k) and 7805 of the Internal Revenue Code of 1986 (Code).

Explanation of Provisions

Prior to the Installment Sales Revision Act of 1980, a shareholder recognized gain or loss on receipt of an installment obligation that was distributed by a liquidating corporation in exchange for the shareholder’s stock. Gain could not be reported under the installment sale provisions of section 453 as payments were received on the obligation distributed by the corporation in the liquidation.

As enacted by the Installment Sales Revision Act of 1980 and amended by the Tax Reform Act of 1986, section 453(h) provides a different treatment for certain installment obligations that are distributed in a complete liquidation to which section 331 applies. Under section 453(h), a shareholder that does not elect out of the installment method treats the payments under the obligation, rather than the obligation itself, as consideration received in exchange for the stock. The shareholder then takes into account the income from the payments under the obligation using the installment method. In this manner, the shareholder generally is treated as if the shareholder sold the shareholder’s stock to an unrelated purchaser on the installment method.

This treatment under section 453(h) applies generally to installment obligations received by a shareholder (in exchange for the shareholder’s stock) in a complete liquidation to which section

9 1997–14 I.R.B.

stock to a corporation shortly before or after the corporation adopted a plan of liquidation and sold its assets, including the publicly traded stock, for an installment obligation. Under the exception, the allocable portion of the installment obligation is not a qualifying installment obligation and, thus, is treated as a payment received in exchange for the shareholder’s stock. The IRS specifically requests comments on this exception, which is contained in § 1.453–11(c)(5) of these proposed regulations.

Determination of Shareholder’s Selling Price

All amounts distributed or treated as distributed incident to the liquidation are included in the selling price of the shareholder’s stock in the liquidating corporation. This selling price includes the issue price of a qualifying installment obligation that is distributed in the liquidation. For this purpose, the issue price of a qualifying installment obligation is equal to the sum of the adjusted issue price of the obligation on the date of the distribution and the amount of any qualified stated interest that has accrued prior to the distribution but that is not payable until after the distribution. In this manner, the accrued but unpaid qualified stated interest is treated as having been received and taken into account by the liquidating corporation, and then distributed by the corporation to the shareholder in exchange for the shareholder’s stock. The issue price is also used to compute interest and original issue discount accruals for the shareholder.

Liquidating Distributions Received in More Than One Year

Generally, a shareholder that receives liquidating distributions in more than one taxable year may recover the basis in the shareholder’s stock completely before recognizing any gain. This general rule is inconsistent with installment method reporting, which requires that basis be ratably recovered as payments are received. Therefore, if a shareholder receives liquidating distributions in more than one taxable year, and included in the distributions is an installment obligation that qualifies for section 453(h) treatment, then upon completion of the liquidation, basis must be reallocated among all property received, or to be received, in all years. See section 453(h)(2). One method of achieving this basis reallocation would be to require

the shareholder to file an amended return if the reallocation of basis would affect the computation of gain recognized in an earlier year. An alternative method would be to require the shareholder to recognize in the current year the additional amount of gain that would have been recognized in the earlier year had the total amount of liquidating distributions been known in the earlier year. This portion of the proposed regulations is reserved and comments are specifically requested regarding these and any other methods of accomplishing the basis reallocation.

Recognition of Gain or Loss to the Distributing Corporation Under Section 453B

Under section 453B, the disposition of an installment obligation generally results in the recognition of gain or loss to the transferor. Thus, in accordance with sections 453B and 336, a C corporation generally recognizes gain or loss upon the distribution of an installment obligation to a shareholder in exchange for the shareholder’s stock, including complete liquidations covered by section 453(h). Section 453B(d) provides an exception to this general rule if the installment obligation is distributed in a liquidation to which section 337(a) applies (regarding certain complete liquidations of 80 percent owned subsidiaries). However, that exception does not apply to liquidations under section 331.

The Internal Revenue Code provides for a different treatment in the case of a liquidating distribution by an S corporation. Section 453B(h) provides that if an S corporation distributes an installment obligation in exchange for a shareholder’s stock, and payments under the obligation are treated as consideration for the stock pursuant to section 453(h)(1), then the distribution generally is not treated as a disposition of the obligation by the S corporation. Thus, except for purposes of sections 1374 and 1375 (relating to certain built-in gains and passive investment income), the S corporation does not recognize gain or loss on the distribution of the installment obligation to a shareholder in a complete liquidation covered by section 453(h).

Proposed Effective Date

The proposed regulations provide that this section will be effective for distributions of qualifying installment obliga

tions made on or after the date final regulations are filed with the Federal Register.

Special Analyses

It has been determined that this notice of proposed rulemaking is not a significant regulatory action as defined in EO 12866. Therefore, a regulatory assessment is not required. It also has been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does not apply to these regulations, and because the regulations do not impose a collection of information on small entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to section 7805(f) of the Internal Revenue Code, this notice of proposed rulemaking will be submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on its impact on small business.

Comments and Requests for a Public Hearing

Before these proposed regulations are adopted as final regulations, consideration will be given to any comments that are submitted timely (in the manner described in the ADDRESSES portion of the preamble) to the IRS. All comments will be available for public inspection and copying. A public hearing will be scheduled if requested by any person who timely submits comments. If a public hearing is scheduled, notice of the date, time and place for the hearing will be published in the Federal Regis- ter.

Drafting Information

The principal author of these proposed regulations is George F. Wright of the Office of Assistant Chief Counsel (Income Tax and Accounting). However, other personnel from the IRS and Treasury Department participated in their development.

Partial Withdrawal of Notice of Pro- posed Rulemaking

Accordingly, under the authority of 26 U.S.C. 7805, § 1.453–2 (a), (b), (c), (d) and (f) in the notice of proposed rulemaking that was published on January 13, 1984 (49 FR 1742) is withdrawn.

- - - -

1997–14 I.R.B. 10

Proposed Amendments to the Regula- tions

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

PART 1—INCOME TAXES

Paragraph 1. The authority citation for part 1 is amended by adding an entry in numerical order to read as follows:

Authority: 26 U.S.C. 7805 - - § 1.453–11 also issued under 26 U.S.C. 453(j)(1) and (k). - - Par. 2. Section 1.453–11 is added to read as follows:

§ 1.453–11 Installment obligations re- ceived from a liquidating corporation.

(a) In general —(1) Overview . Except as provided in section 453(h)(1)(C) (relating to installment sales of depreciable property to certain closely related persons), a qualifying shareholder (as defined in paragraph (b) of this section) who receives a qualifying installment obligation (as defined in paragraph (c) of this section) in connection with a liquidation that satisfies section 453(h)(1)(A) treats the receipt of payments in respect to the obligation, rather than the receipt of the obligation itself, as a receipt of payment for the shareholder’s stock. The shareholder reports the payments received on the installment method unless the shareholder elects otherwise in accordance with § 15a.453–1(d) of this chapter.

(2) Coordination with other provi- sions —(i) Deemed sale of stock for in- stallment obligation . Except as specifically provided in section 453(h)(1)(C), a qualifying shareholder treats a qualifying installment obligation, for all purposes of the Internal Revenue Code, as if the obligation is received by the shareholder from the person issuing the obligation in exchange for the shareholder’s stock in the liquidating corporation. For example, if the stock of a corporation that is liquidating is traded on an established securities market, an installment obligation distributed to a shareholder of the corporation in exchange for the shareholder’s stock does not qualify for installment reporting pursuant to section 453(k)(2).

(ii) Special rules to account for the qualifying installment obligation (A) Issue price . A qualifying installment obligation is treated by a qualifying shareholder as newly issued on the date of the distribution. The issue price of the qualifying installment obligation on that date is equal to the sum of the

adjusted issue price of the obligation on the date of the distribution (as determined under § 1.1275–1(b)) and the amount of any qualified stated interest (as defined in § 1.1273–1(c)) that has accrued prior to the distribution but that is not payable until after the distribution. For purposes of the preceding sentence, if the qualifying installment obligation is subject to § 1.446–2 (e.g., a debt instrument that has unstated interest under section 483), the adjusted issue price of the qualifying installment obligation is determined by reference to the issue price of the qualifying installment obligation under § 1.446–2(d)(1).

(B) Variable rate debt instrument . If the qualifying installment obligation is a variable rate debt instrument (as defined in § 1.1275–5), the shareholder uses the equivalent fixed rate debt instrument (within the meaning of § 1.1275– 5(e)(3)(ii)) constructed for the qualifying installment obligation on the date the obligation was issued to the liquidating corporation to determine the accruals of original issue discount, if any, and interest on the obligation.

(3) Liquidating distributions treated as selling price . All amounts distributed or treated as distributed to a qualifying shareholder incident to the liquidation, including cash, the issue price of qualifying installment obligations as determined under paragraph (a)(2)(ii)(A) of this section, and the fair market value of other property (including obligations that are not qualifying installment obligations) are considered as having been received by the shareholder as the selling price (as defined in § 15a.453– 1(b)(2)(ii) of this chapter) for the shareholder’s stock in the liquidating corporation. For the proper method of reporting liquidating distributions received in more than one taxable year of a shareholder, see paragraph (d) of this section. An election not to report on the installment method an installment obligation received as a liquidating distribution applies to all distributions received in the liquidation.

(4) Assumption of corporate liability by shareholders. For purposes of this section, if in the course of a liquidation a shareholder assumes secured or unsecured liabilities of the liquidating corporation, or receives property from the corporation subject to such liabilities (including any tax liabilities incurred by the corporation on the distribution), the amount of the liabilities is added to the shareholder’s basis in the stock of the liquidating corporation. These additions

to basis do not affect the shareholder’s holding period for the stock. These liabilities do not reduce the amounts received in computing the selling price.

(5) Examples . The provisions of this paragraph (a) are illustrated by the following examples. Except as otherwise provided, assume in each example that A, an individual who is a calendar-year taxpayer, owns all of the stock of T corporation. A’s adjusted tax basis in that stock is $100,000. On February 1, 1998, T, an accrual basis taxpayer, adopts a plan of complete liquidation that satisfies section 453(h)(1)(A) and immediately sells all of its assets to unrelated B corporation in a single transaction. The examples are as follows:

Example 1 . (i) The stated purchase price for T’s assets is $3,500,000. In consideration for the sale, B makes a down payment of $500,000 and issues a 10-year installment obligation with a stated principal amount of $3,000,000. The obligation provides for interest payments of $150,000 on January 31 of each year, with the total principal amount due at maturity.

(ii) Assume that for purposes of section 1274, the test rate on February 1, 1998, is 8 percent, compounded semi-annually. Also assume that a semi-annual accrual period is used. Under § 1.1274–2, the issue price of the obligation on February 1, 1998, is $2,368,450. Accordingly, the obligation has $631,550 of original issue discount ($3,000,000 - $2,368,450). Between February 1 and July 31, $19,738 of original issue discount and $75,000 of qualified stated interest accrue with respect to the obligation and are taken into account by T.

(iii) On July 31, 1998, T distributes the installment obligation to A in exchange for A’s stock. No other property is ever distributed to A. On January 31, 1999, A receives the first annual payment of $150,000 from B.

(iv) When the obligation is distributed to A on July 31, 1998, it is treated as if the obligation is received by A in an installment sale of shares directly to B on that date. Under § 1.1275–1(b), the adjusted issue price of the obligation on that date is $2,388,188 (original issue price of $2,368,450 plus accrued original issue discount of $19,738). Accordingly, the issue price of the obligation under paragraph (a)(2)(ii)(A) of this section is $2,463,188, the sum of the adjusted issue price of the obligation on that date ($2,388,188) and the amount of accrued but unpaid qualified stated interest ($75,000).

(v) The selling price and contract price of A’s stock in T is $2,463,188, and the gross profit is $2,363,188 ($2,463,188 selling price less A’s adjusted tax basis of $100,000). A’s gross profit ratio is thus 96 percent (gross profit of $2,363,188 divided by total contract price of $2,463,188).

(vi) Under §§ 1.446–2(e)(1) and 1.1275–2(a), $98,527 of the $150,000 payment is treated as a payment of the interest and original issue discount that accrued on the obligation from July 31, 1998, to January 31, 1999 ($75,000 of qualified stated interest and $23,527 of original issue discount). The balance of the payment ($51,473) is treated as a payment of principal. A’s gain recognized in 1999 is $49,414 (96 percent of $51,473). Example 2. (i) T owns Blackacre, unimproved real property, with an adjusted tax basis of

11 1997–14 I.R.B.

$700,000. Blackacre is subject to a mortgage (underlying mortgage) of $1,100,000. A is not personally liable on the underlying mortgage and the T shares held by A are not encumbered by the underlying mortgage. The other assets of T consist of $400,000 of cash and $600,000 of accounts receivable attributable to sales of inventory in the ordinary course of business. The unsecured liabilities of T total $900,000.

(ii) On February 1, 1998, T adopts a plan of complete liquidation complying with section 453(h)(1)(A), and promptly sells Blackacre to B for a 4-year mortgage note (bearing adequate stated interest and otherwise meeting all of the requirements of section 453) in the face amount of $4 million. Under the agreement between T and B, T (or its successor) is to continue to make principal and interest payments on the underlying mortgage. Immediately thereafter, T completes its liquidation by distributing to A its remaining cash of $400,000 (after payment of T’s tax liabilities), accounts receivable of $600,000, and the $4 million B note. A assumes T’s $900,000 of unsecured liabilities and receives the distributed property subject to the obligation to make payments on the $1,100,000 underlying mortgage. A receives no payments from B on the B note during 1998.

(iii) Unless A elects otherwise, the transaction is reported by A on the installment method. The selling price is $5 million (cash of $400,000, accounts receivable of $600,000, and the B note of $4 million). The total contract price also is $5 million. A’s adjusted tax basis in the T shares, initially $100,000, is increased by the $900,000 of unsecured T liabilities assumed by A and by the obligation (subject to which A takes the distributed property) to make payments on the $1,100,000 underlying mortgage on Blackacre, for an aggregate adjusted tax basis of $2,100,000. Accordingly, the gross profit is $2,900,000 (selling price of $5 million less aggregate adjusted tax basis of $2,100,000). The gross profit ratio is 58 percent (gross profit of $2,900,000 divided by the total contract price of $5 million). The 1998 payments to A are $1 million ($400,000 cash plus $600,000 receivables) and A recognizes gain in 1998 of $580,000 (58 percent of $1 million).

(iv) In 1999, A receives payment from B on the B note of $1 million (exclusive of interest). A’s gain recognized in 1999 is $580,000 (58 percent of $1 million).

(b) Qualifying shareholder. For purposes of this section, qualifying share- holder means a shareholder to which, with respect to the liquidating distribution, section 331 applies. For example, a creditor that receives a distribution from a liquidating corporation, in exchange for the creditor’s claim, is not a qualifying shareholder as a result of that distribution regardless of whether the liquidation satisfies section 453(h)(1)(A).

(c) Qualifying installment obliga- tion —(1) In general . For purposes of this section, qualifying installment obli- gation means an installment obligation (other than an evidence of indebtedness described in § 15a.453–1(e) of this chapter, relating to obligations that are payable on demand or are readily tradable) acquired in a sale or exchange of corporate assets by a liquidating corporation during the 12-month period be

ginning on the date the plan of liquidation is adopted. See paragraph (c)(4) of this section for an exception for installment obligations acquired in respect to certain sales of inventory. Also see paragraph (c)(5) of this section for an exception for installment obligations attributable to sales of certain property that do not generally qualify for installment sale treatment.

(2) Corporate assets. Except as provided in section 453(h)(1)(C), in paragraph (c)(4) of this section (relating to certain sales of inventory), and in paragraph (c)(5) of this section (relating to certain tax avoidance transactions), the nature of the assets sold by, and the tax consequences to, the selling corporation do not affect whether an installment obligation is a qualifying installment obligation. Thus, for example, the fact that the fair market value of an asset is less than the adjusted basis of that asset in the hands of the corporation; or that the sale of an asset will subject the corporation to depreciation recapture (e.g., under section 1245 or section 1250); or that the assets of a trade or business sold by the corporation for an installment obligation include depreciable property, certain marketable securities, accounts receivable, installment obligations, or cash; or that the distribution of assets to the shareholder is or is not taxable to the corporation under sections 336 and 453B, does not affect whether installment obligations received in exchange for those assets are treated as qualifying installment obligations by the shareholder. However, an obligation received by the corporation in exchange for cash, in a transaction unrelated to a sale or exchange of noncash assets by the corporation, is not treated as a qualifying installment obligation.

(3) Installment obligations distributed in liquidations described in section 453(h)(1)(E) —(i) In general. In the case of a liquidation to which section 453(h)(1)(E) (relating to certain liquidating subsidiary corporations) applies, a qualifying installment obligation acquired in respect to a sale or exchange by the liquidating subsidiary corporation will be treated as a qualifying installment obligation if distributed by a controlling corporate shareholder (within the meaning of section 368(c)) to a qualifying shareholder. The preceding sentence is applied successively to each controlling corporate shareholder, if any, above the first controlling corporate shareholder.

(ii) Examples. The provisions of this paragraph (c)(3) are illustrated by the following examples:

Example 1. (i) A, an individual, owns all of the stock of T corporation, a C corporation. T has an operating division and three wholly-owned subsidiaries, X, Y, and Z. On February 1, 1998, T, Y, and Z all adopt plans of complete liquidation.

(ii) On March 1, 1998, the following sales are made to unrelated purchasers: T sells the assets of its operating division to B for cash and an installment obligation. T sells the stock of X to C for an installment obligation. Y sells all of its assets to D for an installment obligation. Z sells all of its assets to E for cash. The B, C, and D installment obligations bear adequate stated interest and meet the requirements of section 453.

(iii) In June 1998, Y and Z completely liquidate, distributing their respective assets (the D installment obligation and cash) to T. In July 1998, T completely liquidates, distributing to A cash and the installment obligations respectively issued by B, C, and D. The liquidation of T is a liquidation to which section 453(h) applies and the liquidations of Y and Z into T are liquidations to which section 332 applies.

(iv) Because T is in control of Y (within the meaning of section 368(c)), the D obligation acquired by Y is treated as acquired by T pursuant to section 453(h)(1)(E). A is a qualifying shareholder and the installment obligations issued by B, C, and D are qualifying installment obligations. Unless A elects otherwise, A reports the transaction on the installment method as if the cash and installment obligations had been received in an installment sale of the stock of T corporation. Under section 453B(d), no gain or loss is recognized by Y on the distribution of the D installment obligation to T. Under sections 453B(a) and 336, T recognizes gain or loss on the distribution of the B, C, and D installment obligations to A in exchange for A’s stock.

Example 2. (i) A, a cash-method individual taxpayer, owns all of the stock of P corporation, a C corporation. P owns 30 percent of the stock of Q corporation. The balance of the Q stock is owned by unrelated individuals. On February 1, 1998, P adopts a plan of complete liquidation and sells all of its property, other than its Q stock, to B, an unrelated purchaser for cash and an installment obligation bearing adequate stated interest. On March 1, 1998, Q adopts a plan of complete liquidation and sells all of its property to an unrelated purchaser, C, for cash and installment obligations. Q immediately distributes the cash and installment obligations to its shareholders in completion of its liquidation. Promptly thereafter, P liquidates, distributing to A cash, the B installment obligation, and a C installment obligation that P received in the liquidation of Q.

(ii) In the hands of A, the B installment obligation is a qualifying installment obligation. In the hands of P, the C installment obligation was a qualifying installment obligation. However, in the hands of A, the C installment obligation is not treated as a qualifying installment obligation because P owned only 30 percent of the stock of Q. Because P did not own the requisite 80 percent stock interest in Q, P was not a controlling corporate shareholder of Q (within the meaning of section 368(c)) immediately before the liquidation. Therefore, section 453(h)(1)(E) does not apply. Thus, in the hands of A, the C obligation is considered to be a third-party note (not a purchaser’s evidence of indebtedness) and is treated as a payment to A in the year of distribution. Accordingly, for 1998, A reports as payment the cash and cash $190,000 B note $200,000 C note $100,000 D note $170,000 F note $100,000 G note ¹ $230,000 $ 10,000 Total $700,000 $300,000

1face amount $240,000. (vi) Assume that A’s adjusted tax basis in the stock of P is $100,000. Under the installment method, A’s selling price and the contract price are both $1 million, the gross profit is $900,000 (selling price of $1 million less adjusted tax basis of $100,000), and the gross profit ratio is 90 percent (gross profit of $900,000 divided by the contract price of $1 million). Accordingly, in 1998, A reports gain of $270,000 (90 percent of $300,000 payment in cash and other property). A’s adjusted tax basis in each of the qualifying installment obligations is an amount equal to 10 percent of the obligation’s respective face amount. A’s adjusted tax basis in the F note, a nonqualifying installment obligation, is $100,000, i.e., the fair market value of the note when received by A. A’s adjusted tax basis in the G note, a mixed obligation, is $33,000 (10 percent of the $230,000 qualifying installment obligation portion of the note, plus the $10,000 nonqualifying portion of the note).

(vii) In respect to the $100,000 payment received from G in 1999, $10,000 is treated as the recovery of the adjusted tax basis of the nonqualifying portion of the G installment obligation and $9,000 (10 percent of $90,000) is treated as the recovery of the adjusted tax basis of the portion of the note that is a qualifying installment obligation. The remaining $81,000 (90 percent of $90,000) is reported as gain from the sale of A’s stock.

(5) Installment obligations attribut- able to sales of certain property —(i) In general. An installment obligation acquired by a liquidating corporation, to the extent attributable to the sale of property described in paragraph (c)(5)(ii) of this section, is not a qualifying obligation if the corporation is formed or availed of for a principal purpose of avoiding section 453(b)(2)(A) (relating to dealer dispositions), section 453(i) (relating to sales of property subject to recapture), or section 453(k) (relating to dispositions under a revolving credit plan and sales of stock or securities traded on an established securities market) through the use of a party bearing a relationship, either directly or indirectly, described in section 267(b) to any shareholder of the corporation.

(ii) Covered property. Property is described in this paragraph (c)(5)(ii) if, within 12 months before or after the adoption of the plan of liquidation, the property was owned by any shareholder and—

the fair market value of the C obligation distributed to A in the liquidation of P.

(iii) Because P held 30 percent of the stock of Q, section 453B(d) is inapplicable to P. Under sections 453B(a) and 336, accordingly, Q recognizes gain or loss on the distribution of the C obligation. P also recognizes gain or loss on the distribution of the B and C installment obligations to A in exchange for A’s stock. See sections 453B and 336.

(4) Installment obligations attribut- able to certain sales of inventory (i) In general. An installment obligation acquired by a corporation in a liquidation that satisfies section 453(h)(1)(A) in respect to a broken lot of inventory is not a qualifying installment obligation. If an installment obligation is acquired in respect to a broken lot of inventory and other assets, only the portion of the installment obligation acquired in respect to the broken lot of inventory is not a qualifying installment obligation. The portion of the installment obligation attributable to other assets is a qualifying installment obligation. For purposes of this section, the term broken lot of inventory means inventory property that is sold or exchanged other than in bulk to one person in one transaction involving substantially all of the inventory property attributable to a trade or business of the corporation. See paragraph (c)(4)(ii) of this section for rules for determining what portion of an installment obligation is not a qualifying installment obligation.

(ii) Rules for determining nonqualify- ing portion of an installment obligation. If a broken lot of inventory is sold to a purchaser together with other corporate assets for consideration consisting of an installment obligation and either cash, other property, the assumption of (or taking property subject to) corporate liabilities by the purchaser, or some combination thereof, the installment obligation is treated as having been acquired in respect to a broken lot of inventory only to the extent that the fair market value of the broken lot of inventory exceeds the sum of unsecured liabilities assumed by the purchaser, secured liabilities which encumber the broken lot of inventory and are assumed by the purchaser or to which the broken lot of inventory is subject, and the sum of the cash and fair market value of other property received. This rule applies solely for the purpose of determining the portion of the installment obligation (if any) that is attributable to the broken lot of inventory.

(iii) Example. The following example illustrates the provisions of this para

graph (c)(4). In this example, assume that all obligations bear adequate stated interest within the meaning of section 1274(c)(2) and that the fair market value of each nonqualifying installment obligation equals its face amount. The example is as follows:

Example. (i) P corporation has three operating divisions, X, Y, and Z, each engaged in a separate trade or business, and a minor amount of investment assets. On July 1, 1998, P adopts a plan of complete liquidation that meets the criteria of section 453(h)(1)(A). The following sales are promptly made to purchasers unrelated to P: P sells all of the assets of the X division (including all of the inventory property) to B for $30,000 cash and installment obligations totalling $200,000. P sells substantially all of the inventory property of the Y division to C for a $100,000 installment obligation, and sells all of the other assets of the Y division (excluding cash but including installment receivables previously acquired in the ordinary course of the business of the Y division) to D for a $170,000 installment obligation. P sells 1/3 of the inventory property of the Z division to E for $100,000 cash, 1/3 of the inventory property of the Z division to F for a $100,000 installment obligation, and all of the other assets of the Z division (including the remaining 1/3 of the inventory property worth $100,000) to G for $60,000 cash, a $240,000 installment obligation, and the assumption by G of the liabilities of the Z division. The liabilities assumed by G, which are unsecured liabilities and liabilities encumbering the inventory property acquired by G, aggregate $30,000. Thus, the total purchase price G pays is $330,000.

(ii) P immediately completes its liquidation, distributing the cash and installment obligations, which otherwise meet the requirements of section 453, to A, an individual cash-method taxpayer who is its sole shareholder. In 1999, G makes a payment to A of $100,000 (exclusive of interest) on the $240,000 installment obligation.

(iii) In the hands of A, the installment obligations issued by B, C, and D are qualifying installment obligations because they were timely acquired by P in a sale or exchange of its assets. In addition, the installment obligation issued by C is a qualifying installment obligation because it arose from a sale to one person in one transaction of substantially all of the inventory property of the trade or business engaged in by the Y division.

(iv) The installment obligation issued by F is not a qualifying installment obligation because it is in respect to a broken lot of inventory. A portion of the installment obligation issued by G is a qualifying installment obligation and a portion is not a qualifying installment obligation, determined as follows: G purchased part of the inventory property (with a fair market value of $100,000) and all of the other assets of the Z division by paying cash ($60,000), issuing an installment obligation ($240,000), and assuming liabilities of the Z division ($30,000). The assumed liabilities ($30,000) and cash ($60,000) are attributed first to the inventory property. Therefore, only $10,000 of the $240,000 installment obligation is attributed to inventory property. Accordingly, in the hands of A, the G installment obligation is a qualifying installment obligation to the extent of $230,000, but is not a qualifying installment obligation to the extent of the $10,000 attributable to the inventory property.

(v) In the 1998 liquidation of P, A receives a liquidating distribution as follows:

Cash and Other Property

Item

Qualifying Install- ment Obligations

13 1997–14 I.R.B.

(A) The shareholder regularly sold or otherwise disposed of personal property of the same type on the installment plan or the property is real property that the shareholder held for sale to customers in the ordinary course of a trade or business (provided the property is not described in section 453(l)(2)(relating to certain exceptions to the definition of dealer dispositions));

(B) The sale of the property by the shareholder would result in recapture income (within the meaning of section 453(i)(2)), but only if the amount of recapture is equal to or greater than 50 percent of the property’s fair market value on the date of the sale by the corporation;

(D) The sale of the property by the shareholder would have been under a revolving credit plan.

(iii) Safe harbor . Paragraph (c)(5)(i) of this section will not apply to the liquidation of a corporation if, on the date the plan of complete liquidation is adopted and thereafter, less than 15 percent of the fair market value of the corporation’s assets is attributable to property described in paragraph (c)(5)(ii) of this section.

(iv) Example. The provisions of this paragraph (c)(5) are illustrated by the following example:

Example. Ten percent of the fair market value of the assets of T is attributable to stock and securities traded on an established securities market. T owns no other assets described in paragraph (c)(5)(ii) of this section. T, after adopting a plan of complete liquidation, sells all of its stock and securities holdings to C corporation in exchange for an installment obligation bearing adequate stated interest, sells all of its other assets to B corporation for cash, and distributes the cash and installment obligation to its sole shareholder, A, in a complete liquidation that satisfies section 453(h)(1)(A). Because the C installment obligation arose from a sale of publicly traded stock and securities, T cannot report the gain on the sale under the installment method pursuant to section 453(k)(2). In the hands of A, however, the C installment obligation is treated as having arisen out of a sale of the stock of T corporation. In addition, the general rule of paragraph (c)(5)(i) of this section does not apply, even if a principal purpose of the liquidation was the avoidance of section 453(k)(2), because the fair market value of the publicly traded stock and securities is less than 15 percent of the total fair market value of T’s assets. Accordingly, section 453(k)(2) does not apply to A, and A may use the installment method to report the gain recognized on the payments it receives in respect to the obligation.

(d) Liquidating distributions received in more than one taxable year. [Reserved]

(e) Effective date. This section is applicable to distributions of qualifying installment obligations made on or after the date final regulations are filed with the Federal Register.

Margaret Milner Richardson, Commissioner of Internal Revenue.

(Filed by the Office of the Federal Register on January 21, 1997, 8:45 a.m., and published in the issue of the Federal Register for January 22, 1997, 62 F.R. 3244)

Notice of Proposed Rulemaking Section 42(d)(5) Federal Grants

REG–254394–96

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking by cross-reference to temporary regulations.

SUMMARY: In *** T.D. 8713, page 4, the IRS is issuing temporary regulations with respect to the low-income housing tax credit relating to the application of section 42(d)(5) to certain rental assistance programs under section 42(g)(2)(B)(i). The text of those temporary regulations also serves as the text of these proposed regulations.

DATES: Written comments and requests for a public hearing must be received by April 28, 1997.

ADDRESSES: Send submissions to: CC:DOM:CORP:R (REG–254394–96), room 5226, Internal Revenue Service, POB 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be hand delivered between the hours of 8 a.m. and 5 p.m. to: CC:DOM:CORP:R (REG–254394–96), Courier’s Desk, Internal Revenue Service, 1111 Constitution Avenue, NW, Washington, DC. Alternatively, taxpayers may submit comments electronically via the Internet by selecting the ‘‘Tax Regs’’ option on the IRS Home Page, or by submitting comments directly to the IRS Internet site at http://www.irs.ustreas.gov/prod/ tax_regs/comments/html.

FOR FURTHER INFORMATION CONTACT: Christopher J. Wilson (202) 622– 3040 (not a toll-free call).

SUPPLEMENTARY INFORMATION:

Background

Temporary regulations published in *** T.D. 8713 provide rules with re

spect to the low-income housing tax credit relating to the application of section 42(d)(5) to certain rental assistance programs under section 42(g)(2)(B)(i). The text of those temporary regulations also serves as the text of these proposed regulations. The preamble to the temporary regulations explains the temporary regulations.

Special Analyses

It has been determined that this notice of proposed rulemaking is not a significant regulatory action as defined in EO 12866. Therefore, a regulatory assessment is not required. It also has been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does not apply to these regulations and, because these regulations do not impose on small entities a collection of information requirement, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not apply. Therefore, a Regulatory Flexibility Analysis is not required. Pursuant to section 7805(f) of the Internal Revenue Code, this notice of proposed rulemaking will be submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on its impact on small business.

Comments and Requests for a Public Hearing

Before these proposed regulations are adopted as final regulations, consideration will be given to any written comments (a signed original and eight (8) copies) that are submitted timely to the IRS. All comments will be available for public inspection and copying. A public hearing may be scheduled if requested in writing by a person that timely submits written comments. If a public hearing is scheduled, a notice of the date, time, and place for the hearing will be published in the Federal Register.

Drafting Information

The principal author of these regulations is Christopher J. Wilson, Office of Assistant Chief Counsel (Passthroughs and Special Industries). However, other personnel from the IRS and Treasury Department participated in their development.

- - - -

Proposed Amendments to the Regula- tions

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

1997–14 I.R.B. 14

Kiamichi Country Genealogy Society,

Broken Bow, OK Kids Place, Salt Lake City, UT Killough Middle School Parent Advisory

Committee, Killough Middle School Advise Committee, Houston, TX La Compania Madre, Inc., Honolulu, HI Life Giving Word Ministries, Inc., Tulsa,

PART 1—INCOME TAXES

Buckingham Square Optimist Fund Inc.,

Paragraph 1. The authority citation for part 1 is amended by adding an entry in numerical order to read in part as follows:

Authority: 26 U.S.C. 7805 - - Section 1.42–16 also issued under 26 U.S.C. 42(n); - - Par. 2. Section 1.42–16 is added to read as follows:

§ 1.42–16 Eligible basis reduced by federal grants.

[The text of this proposed section is the same as the text of § 1.42–16T published in T.D. 8713, page 4.]

Margaret Milner Richardson, Commissioner of Internal Revenue.

(Filed by the Office of the Federal Reigster on January 24, 1997, 8:45 a.m., and published in the issue of the Federal Register for January 27, 1997, 62 F.R. 3848)

Foundations Status of Certain Organizations

Announcement 97–28

The following organizations have failed to establish or have been unable to maintain their status as public charities or as operating foundations. Accordingly, grantors and contributors may not, after this date, rely on previous rulings or designations in the Cumulative List of Organizations (Publication 78), or on the presumption arising from the filing of notices under section 508(b) of the Code. This listing does not indicate that the organizations have lost their status as organizations described in section 501(c)(3), eligible to receive deductible contributions.

Former Public Charities . The following organizations (which have been treated as organizations that are not private foundations described in section 509(a) of the Code) are now classified as private foundations: AIDS Equity League, Inc., Houston, TX AIDS Resource Center of Texoma,

Aurora, CO Cancer Scholarship Fund, Katy, TX Candlelighters Circle of Friends

Lake City, UT Intermountain Society for Parenteral and

Enteral Nutrition, Salt Lake City, UT Irving Elementary School Parent

Teacher Organization PTO, Mesa, AZ Joe Holland Evangelistic Association,

Chanute, KS Smithson Valley High School Athletic

Childhood Cancer Support Group Inc., Tulsa, OK Christian Center of Universal Peace of

Houston, Houston, TX Classical Traditions International

Entertainment, Los Angeles, CA Clearwater Youth Wrestling Club,

Clearwater, KS Colorado Latino AIDS Community

Network, Inc., Denver, CO Colorado Parents for All Children,

OK Lighthouse Counseling Services, Inc.,

Oklahoma City, OK Loyal Companions for the Handicap

Training Institute, Oklahoma City, OK Mayes County Resource Council, Inc.,

Colorado Springs, CO Cosme Garto Memorial Scholarship

Pryor, OK Megan Ledue Guardian Angel

Foundation, Salt Lake City, UT Covenant Ministries, Inc., Fort Worth,

TX Delta Nutrition Services, Houston, TX Docent Council of Forth Worth Zoo,

Foundation, Wichita Falls, TX Metatheatre, Tucson, AZ Moore County Crime Stoppers, Inc.,

Prevention, Inc., Scottsdale, AZ Neighborhood Pioneer Clubs, Colorado

Dumas, TX National Commission on Rape

Fort Worth, TX ECO-Fair Texas, Inc., Austin, TX Elfields Residential, Houston, TX Families Actively Communicating

Springs, CO Network of Lyricists and Songwriters,

Together, Winfield, KS Family Outreach of Southern Dallas,

Inc., Pearland, TX New Mexico Partnership for

Mathematics and Science Education, Albuquerque, NM New Mexico Wildlife Foundation, Santa

Inc., Dallas, TX Flagstaff Youth Hockey Association,

Inc., Flagstaff, AZ Flour Bluff Helping Hand, Corpus

Christi, TX Fort Worth Foundation, Fort Worth, TX Foster Place Community Center, Inc.,

Fe, NM North Valley Paralegal Service of

Arizona, Glendale, AZ Open Heart, Inc., Houston, TX Our House, Inc., Denver, CO Phoenix Center for Rape Prevention,

Houston, TX Freedom for Youth, Denver, CO Friends of the Utah Center, Salt Lake

Phoenix, AZ Prairie Dog Pals of ABQ, Albuquerque,

City, UT Glendale Centennial Committee,

Glendale, AZ Greater Fort Worth Luis Palau Crusade,

Fort Worth, TX Hispanic American Medical Scholarship

NM Project Hungry for El Paso, El Paso, TX Puente De Esperanza, Espanola, NM Putnam-Fullana Education Association,

Fund, Houston, TX Housing and Neighborhood

Development, Phoenix, AZ Houston Business League, Houston, TX Houston Japanese Television Ministry,

Inc., Fort Collins, CO Pylon Salesmanship Club, Dallas, TX Red River Symphony Guild, Inc.,

Sherman, TX Rock Springs Youth Boys Basketball,

Rock Springs, WY Rocky Mountain Center for Attitudinal

Inc., San Antonio, TX ICAK, Inc., Lawrence, KS Indian Health Care Clinic, Inc., Salt

Healing, Colorado Springs, CO Sal De Ahi, Santa Fe, NM Shepherds Center of Chanute, Inc.,

Citizens, Dallas, TX Southern Arizona Environmental

Sherman, TX Albuquerque Literacy Program, Inc.,

Albuquerque, NM Austin Area Youth, Austin, TX Austin Junior Chamber of Commerce

Colony, TX Jones Spiritual Research Center, Inc.,

Booster Club, Spring Branch, TX Sonshine College for Oriental Senior

Foundation, Inc., Austin, TX Austin Releaf Council, Austin, TX Big Bend, Inc., Riverton, WY Brownsville Opportunity Youth Soccer

Longview, TX Kerrville South Volunteer Fire

Department, Inc., Kerrville, TX

Management Society, Inc., Tucson, AZ South Texas Festival of Film, Corpus

Association, Inc., Brownsville, TX

Christi, TX

15 1997–14 I.R.B.

South Texas Organization for

1996, through December 31, 1996. You can download the publication if you have a computer with a modem. Dial 1–304–264–7070 and follow the instructions. If you have problems downloading the publication, call the help line at 1–304–263–8700 and ask for the bulletin board. (These are not toll-free calls.)

Classification of Certain Transactions Involving Computer Programs; Correction

Announcement 97–31

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Correction to notice of proposed rulemaking.

SUMMARY: This document contains corrections to the notice of proposed rulemaking (REG–251520–96[1996–48 I.R.B. 15]) which was published in the Federal Register on Wednesday, November 13, 1996 (61 FR 58152). The notice of proposed rulemaking relates to the tax treatment of certain transactions involving the transfer of computer programs.

FOR FURTHER INFORMATION CONTACT: William H. Morris (202) 622– 3880 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

The notice of proposed rulemaking that is subject to these corrections is under section 861 of the Internal Revenue Code.

Need for Correction

As published, the notice of proposed rulemaking (REG–251520–96) contains errors that may prove to be misleading and is in need of clarification.

Correction of Publication

Accordingly, the publication of proposed rulemaking (REG–251520–96) which is the subject of FR Doc. 96– 29055 is corrected as follows:

§ 1.861–18 [Corrected]

On page 58157, column 2, § 1.861–18, paragraph (h), paragraph (ii)(B) of Example 10., line 2, the language ‘‘circumstances, P is properly treated as the’’ is corrected to read ‘‘circumstances, Corp E is properly treated as the’’.

Reproductive Medicine, San Antonio, TX Southwest Aquatic Specialties, Inc.,

Hobbs, NM Spectrum Housing, Dallas, TX Tarrant County Junior Livestock Show

Association, Inc., Fort Worth, TX Tejanos for Onda Music, Dallas, TX Texas Tiger Tournament, Inc., Houston,

TX Tiyospaye, Inc., Wichita, KS Toe Tappers, Houston, TX Tomboys, Burkburnett, TX Touch Foundation, Colorado Springs,

CO Touch Town Incorporated, Missouri

City, TX Toy Lending Library, Inc., Kerrville, TX Triangle Recovery Foundation, Inc.,

Beaumont, TX Triple Cross Ministries, Inc., Spencer,

OK Triumph, Inc., Wichita, KS Troxler Charitable Foundation, Inc.,

Dallas, TX Tulsa Parents As Teachers, Inc., Tulsa,

OK Tulsa Theatreworks, Inc., Tulsa, OK Tulsa Visiting Nurse Services, Inc.,

Tulsa, OK 24 Hour Serenity Club, Poolview, TX United Hispanic Fund, Uvalde, TX Ushers of the Coming, Inc., Dallas, TX Veterans Rainbow House, Inc., Salt

Lake City, UT VNA Management Services, Inc., Tulsa,

OK Weatherization Managers Association,

Salt Lake City, UT Yellow Ribbon Family Support Group,

Brownwood, TX Yes I Can Extended Hours Child Care,

Broomfield, CO Youth Development Tae Kwon Do

Foundation, Inc., Oklahoma City, OK Youth Enchancement Services, Inc.,

Austin, TX Youth for Christ Association of the

World, Spirit Lake, ID Zora Neale Hurston-Roof Garden

Museum, Inc., Belle Glade, FL If an organization listed above submits information that warrants the renewal of its classification as a public charity or as a private operating foundation, the Internal Revenue Service will issue a ruling or determination letter with the revised classification as to foundation status. Grantors and contributors may thereafter rely upon such ruling or determination letter as provided in section 1.509(a)–7 of the Income Tax Regulations. It is not the practice of the

Service to announce such revised classification of foundation status in the Internal Revenue Bulletin.

Changes to Publication 515 for New Income Tax Treaty and Protocol

Announcement 97–29

The United States recently exchanged instruments of ratification for a new income tax treaty with Kazakstan and a new protocol with Indonesia. This information is not reflected in the 1996 revision of Publication 515, Withholding of Tax on Nonresident Aliens and For- eign Corporations (For withholding in 1997), which was printed before these items were exchanged. Use the following information to modify the 1997 withholding tables in Publication 515.

Kazakstan. The provisions for taxes withheld on interest, dividends, and royalties are effective for amounts paid or credited on or after February 1, 1997. For other taxes, the provisions are effective for tax periods beginning on or after January 1, 1996.

The withholding rates for 1997 are the same as the tax rates for 1996. The provisions and tax rates can be found in Tables 1 and 2 of the March 1997 revision of Publication 901, U.S. Tax Treaties.

Indonesia. The provisions of the new protocol are effective for amounts paid or credited on or after February 1, 1997.

Table 1 of Publication 515 reflects the January 1997 rates. For amounts paid or credited on or after February 1, 1997, make the following changes to Table 1 :

Under income codes 1, 2, 3, 7, 11, and 12, replace ‘‘15’’ with ‘‘10.’’
In column 7, add footnote ‘‘b.’’ The reduced rate only applies if the foreign parent corporation owns directly at least 25% of the voting stock of the company paying the dividends.

REMICs Publication Updated

Announcement 97–30

The 1996 fourth quarter update of the directory section of Publication 938, Real Estate Mortgage Investment Con- duits (REMICs) Reporting Information (And Other Collateralized Debt Obliga- tions (CDOs)), is now available on the IRS electronic bulletin board (IRP– BBS). The update contains information received by the Internal Revenue Service during the period September 1,

1997–14 I.R.B. 16

On page 58157, column 2, § 1.861–18, paragraph (h), paragraph (i) of Example 12., line 8, the language ‘‘fee, Corp C receives the right to receive’’ is corrected to read ‘‘fee, Corp E receives the right to receive’’.

Cynthia E. Grigsby, Chief, Regulations Unit, Assistant Chief Counsel (Corporate).

(Filed by the Office of the Federal Register on January 16, 1997, 8:45 a.m., and published in the issue of the Federal Register for January 17, 1997, 62 F.R. 2633)

Form 5309 Revision

Announcement 97–32

Form 5309, Application for Determination of Employee Stock Ownership Plan, has been revised and is now available from Internal Revenue Service Distribution Centers by calling 1–800– TAX FORM. The new revision date is January, 1997. Forms with prior revision dates may be used until July 1, 1997.

Changes made to the form include the substitution of ‘‘Yes’’ and ‘‘No’’ questions on lines 6 through 9 for questions

regarding the plan section number, and new questions numbered 6d and 6f. Other question numbers were reformatted accordingly. A space was added for plan number, while the space for address, plan adoption date, and phone number were deleted. These items appear on the forms (Form 5300 or 5303) to which Form 5309 must be attached.

Persons may computer generate this form without approval if it is word-forword identical to the revised form.

17 1997–14 I.R.B.