Part I. Rulings — Internal Revenue Bulletin 2002-26

Explanation of Provisions

Since the publication of the temporary regulations, several questions have been raised concerning the interpretation and application of the temporary regulations. In response to these questions, the IRS and Treasury are promulgating the regulations in this Treasury decision as temporary regulations to clarify and amend the temporary regulations as described below in this preamble. The following paragraphs describe these amendments.

Netting Rule

Commentators requested that § 1.337 (d)–2T be amended to provide a netting rule similar to that set forth in § 1.1502–20(a)(4), pursuant to which gain and loss from certain dispositions of stock may be netted. This Treasury decision adds § 1.337(d)–2T(a)(4) to provide such a rule and also adds § 1.337(d)– 2T(b)(4), which provides a similar netting rule for basis reductions on deconsolidations of subsidiary stock.

Time For Filing Election Described in § 1.1502–20T(i)

Section 1.1502–20T(i) currently provides that an election to determine allowable loss by applying § 1.1502–20 (without regard to the duplicated loss component of the loss disallowance rule) or § 1.337(d)–2T must be made by including a statement with or as part of the original return for the taxable year that includes the later of March 7, 2002, and the date of the disposition or deconsolidation of the stock of the subsidiary, or with or as part of an amended return filed before the date the original return for the taxable year that includes March 7, 2002, is due. Commentators noted that this provision may not permit the election to be made on an original return for the 2001 taxable year where the disposition occurs during the 2001 taxable year. The IRS and Treasury believe that it is appropriate to permit the election to be made on such a return. Therefore, this Treasury decision amends § 1.1502–20T(i) to provide that the statement may be filed with or as part of a timely filed (including any extensions) original return for any taxable

Section 337.—Nonrecognition for Property Distributed to Parent in Complete Liquidation of Subsidiary

26 CFR 1.337(d)–2T: Loss limitation window period (temporary).

T.D. 8998

Loss Limitation Rules

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Temporary regulations.

SUMMARY: This document contains amendments to temporary regulations issued under sections 337(d) and 1502. The amendments clarify certain aspects of the temporary regulations relating to the deductibility of losses recognized on dispositions of subsidiary stock by members of a consolidated group. The amendments in these temporary regulations apply to corporations filing consolidated returns, both during and after the period of affiliation, and also affect purchasers of the stock of members of a consolidated group. The text of these temporary regulations also serves as the text of the proposed regulations (REG–123305–02) set forth in this issue of the Bulletin.

DATES: Effective Date : These regulations are effective May 31, 2002.

Applicability Date : For dates of applicability see § 1.337(d)–2T(g) and 1.1502–20T(i).

FOR FURTHER INFORMATION CONTACT: Sean P. Duffley (202) 622–7530 or Lola L. Johnson (202) 622–7550 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collection of information contained in these regulations has been previously reviewed and approved by the Office of Management and Budget under control number 1545–1774. Responses to this collection of information are volun

tary. No material changes to this collection of information are made by these regulations.

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 Office of Management and Budget.

Books or records relating to the 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.

Background

On March 12, 2002, the IRS and Treasury published in the Federal Register at 67 FR 11034 (T.D. 8984, 2002–13 I.R.B. 668) temporary regulations under sections 337(d) and 1502 (the temporary regulations). The temporary regulations set forth rules that limit the deductibility of loss recognized by a consolidated group on the disposition of stock of a subsidiary member and that require certain basis reductions on the deconsolidation of stock of a subsidiary member. Section 1.1502–20T(i) of the temporary regulations provides that, in the case of a disposition or deconsolidation of a subsidiary before March 7, 2002, and for such transactions effected pursuant to a binding written contract entered into before March 7, 2002, that was in continuous effect until the disposition or deconsolidation, a consolidated group may determine the amount of allowable stock loss or basis reduction by applying § 1.1502–20 in its entirety, § 1.1502–20 without regard to the duplicated loss component of the loss disallowance rule, or § 1.337(d)–2T. For dispositions and deconsolidations that occur on or after March 7, 2002, and that are not within the scope of the binding contract rule, § 1.1502–20T(i) provides that allowable loss and basis reduction are determined under § 1.337(d)–2T, not § 1.1502–20.

2002–26 I.R.B. 1 July 1, 2002

year that includes any date on or before March 7, 2002. In addition, if the date of the disposition or deconsolidation of the stock of the subsidiary is after March 7, 2002, the statement may be filed with or as part of a timely filed (including any extensions) original return for the taxable year that includes such date. This latter alternative effectively permits the statement to be filed with the original return that includes the date of the disposition or deconsolidation if, as of March 7, 2002, the disposition or deconsolidation was subject to a binding written contract entered into before March 7, 2002, that was in continuous effect until the date of the disposition or deconsolidation.

Requirements for Perfecting Election Described in § 1.1502–20T(i)

Commentators questioned whether an election to determine allowable loss by applying § 1.1502–20 (without regard to the duplicated loss component of the loss disallowance rule) or § 1.337(d)–2T was valid only if a statement of allowed loss described in § 1.337(d)–2T(c) or 1.1502– 20(c), as appropriate, was or is filed with respect to the disposition or deconsolidation of subsidiary stock. The amendments to the temporary regulations in this Treasury decision clarify that no statement other than the one described in § 1.1502– 20T(i)(4) is necessary to perfect an election to compute allowable loss or basis reduction by applying the provisions described in § 1.1502–20T(i)(2)(i) or (ii). Therefore, an election pursuant to § 1.1502–20T(i) may be made regardless of whether a statement of allowed loss described in § 1.337(d)–2T(c) or 1.1502– 20(c) was or is filed with respect to the disposition or deconsolidation.

In addition, taxpayers determining allowable loss under § 1.1502–20 in its entirety will generally be treated as having satisfied the requirement to file a statement of allowed loss otherwise imposed by § 1.1502–20(c) even if no such statement is filed. Nothing in the temporary regulations or these amendments to the temporary regulations, however, affects the filing requirements regarding the election provided in § 1.1502–20(g).

Effect of Election

Finally, a number of questions have been raised regarding the extent to which the election described in § 1.1502–20T(i) affects a taxpayer’s items of income, gain, deduction, or loss other than the loss allowed on a disposition of subsidiary stock. In response to these questions, the temporary regulations are amended to explain that if, pursuant to an election under § 1.1502–20T(i), the loss allowed with respect to a disposition of subsidiary stock is increased, but the year of the disposition (or the year to which such loss would have been carried back or carried forward) is closed, to the extent that the absorption of such excess loss in such year would have affected the tax treatment of another item ( e.g., another loss that was absorbed in such year) that has an effect in an open year, the election will affect the treatment of such other item.

In addition, the regulations provide a special rule for situations in which a subsidiary of the group (the disposing member) recognized a loss on the disposition of stock of a lower-tier subsidiary member of the group, the loss was disallowed under § 1.1502–20, and, as a result, a group member’s basis in the stock of the disposing member was reduced pursuant to § 1.1502–32 (because the disallowed loss was treated as a noncapital, nondeductible expense). In such cases, to the extent that all or some portion of the disallowed loss is allowed as a result of an election under § 1.1502–20T(i), but such loss would have been properly absorbed or expired in a closed year, the basis in the stock of the disposing member may be increased. This adjustment is to be made for purposes of determining the group’s or the shareholder-member’s Federal income tax liability for all open years.

Special Analyses

In light of the Federal Circuit’s decision in Rite Aid Corp. v. United States, 255 F.3d 1357 (Fed. Cir. 2001), the temporary regulations were necessary to provide taxpayers with immediate guidance regarding allowable loss and basis reductions in connection with dispositions and deconsolidations of subsidiary stock and to carry out the principles of General Utilities repeal pending the issuance of

further guidance. These amendments to the temporary regulations clarify those rules and simplify their application in order to ease taxpayer compliance. Accordingly, good cause is found for dispensing with notice and public procedure pursuant to 5 U.S.C. 553(b)(B) and with a delayed effective date pursuant to 5 U.S.C. 553(d)(1) and (3). It has been determined that this Treasury decision is not a significant regulatory action as defined in Executive Order 12866. Therefore, a regulatory assessment is not required.

Drafting Information

The principal authors of these regulations are Sean P. Duffley and Lola L. Johnson, Office of Associate Chief Counsel (Corporate). However, other personnel from the IRS and Treasury Department participated in their development.

- - - -

Amendments to the Regulations

Accordingly, 26 CFR part 1 is amended as follows:

Paragraph 1. The authority citation for part 1 is amended by removing the entry for “Section 1.1502–20T(i)” and adding an entry in numerical order to read in part as follows:

Authority: 26 U.S.C. 7805 - - Section 1.1502–20T also issued under the authority of 26 U.S.C. 337(d) and 1502.

- Par. 2. In § 1.337(d)–2T, paragraphs (a)(4) and (b)(4) are added to read as follows:

§ 1.337(d)–2T Loss limitation window period (temporary).

(a) - - (4) Netting . Paragraph (a)(1) of this section does not apply to loss with respect to the disposition of stock of a subsidiary, to the extent that, as a consequence of the same plan or arrangement, gain is taken into account by members with respect to stock of the same subsidiary having the same material terms. If the gain to which this paragraph applies is less than the amount of the loss with respect to the disposition of the subsidiary’s stock, the gain is applied to offset loss with respect to

July 1, 2002 2 2002–26 I.R.B.

each share disposed of as a consequence of the same plan or arrangement in proportion to the amount of the loss deduction that would have been disallowed under paragraph (a)(1) of this section with respect to such share before the application of this paragraph (a)(4). If the same item of gain could be taken into account more than once in limiting the application of paragraphs (a)(1) and (b)(1) of this section, the item is taken into account only once.

(b) - - (4) Netting . Paragraph (b)(1) of this section does not apply to reduce the basis of stock of a subsidiary, to the extent that, as a consequence of the same plan or arrangement, gain is taken into account by members with respect to stock of the same subsidiary having the same material terms. If the gain to which this paragraph applies is less than the amount of basis reduction with respect to shares of the subsidiary’s stock, the gain is applied to offset basis reduction with respect to each share deconsolidated as a consequence of the same plan or arrangement in proportion to the amount of the reduction that would have been required under paragraph (b)(1) of this section with respect to such share before the application of this paragraph (b)(4).

- - - Par. 3. Section 1.1502–20T is amended by revising paragraphs (i)(3)(v) and (i)(4) to read as follows:

§ 1.1502–20T Disposition or deconsoli- dation of subsidiary stock (temporary).

(i) - - (3) - - (v) Items taken into account in open years —(A) General rule . An election under paragraph (i)(2) of this section affects a taxpayer’s items of income, gain, deduction, or loss only to the extent that the election gives rise, directly or indirectly, to items or amounts that would properly be taken into account in a year for which an assessment of deficiency or a refund of overpayment, as the case may be, is not prevented by any law or rule of law. Under this paragraph, if the election increases the loss allowed with respect to a disposition of subsidiary stock, but the

year of the disposition (or the year to which such loss would have been carried back or carried forward) is a year for which a refund of overpayment is prevented by law, to the extent that the absorption of such excess loss in such year would have affected the tax treatment of another item ( e.g., another loss that was absorbed in such year) that has an effect in a year for which a refund of overpayment is not prevented by any law or rule of law, the election will affect the treatment of such other item. Therefore, if the absorption of the excess loss in the year of the disposition (which is a year for which a refund of overpayment is prevented by law) would have prevented the absorption of another loss (the second loss) in such year and such loss would have been carried to and used in a year for which a refund of overpayment is not prevented by any law or rule of law (the other year), the election makes the second loss available for use in the other year.

(B) Special rule . If a member’s basis in stock of a subsidiary was reduced pursuant to § 1.1502–32 because a loss with respect to stock of a lower-tier subsidiary was treated as disallowed under § 1.1502–20, then, to the extent such disallowed loss is allowed as a result of an election under paragraph (i) of this section but would have been properly absorbed or expired in a year for which a refund of overpayment is prevented by law or rule of law, the member’s basis in the subsidiary stock may be increased for purposes of determining the group’s or the shareholder-member’s Federal income tax liability in all years for which a refund of overpayment is not prevented by law or rule of law.

- - - (4) Time and manner of making the election . An election to determine allowable loss or basis reduction by applying the provisions described in paragraph (i)(2)(i) or (ii) of this section is made by including the statement required by this paragraph with or as part of any timely filed (including any extensions) original return for a taxable year that includes any date on or before March 7, 2002, or, if the date of the disposition or deconsolidation of the stock of the subsidiary is after March 7, 2002, then such date, or with or as part of an amended return filed before the date the original return for the taxable

year that includes March 7, 2002, is due (including any extensions). Filing a statement in accordance with the provisions of this paragraph satisfies the requirement to file a “statement of allowed loss” otherwise imposed under § 1.1502–20(c)(3) or § 1.337(d)–2T(c)(3). The statement required by this paragraph satisfies the requirement that a statement be filed in order to claim allowable loss or basis reduction by applying the provisions described in paragraph (i)(2)(i) or (ii). The statement filed under this paragraph shall be entitled “Allowed Loss under Section [Specify Section under Which Allowed Loss Is Determined] Pursuant to Section 1.1502–20T(i)” and must include the following information—

(i) The name and employer identification number (E.I.N.) of the subsidiary and of the member(s) that disposed of the subsidiary stock;

(ii) In the case of an election to determine allowable loss or basis reduction by applying the provisions described in paragraph (i)(2)(i) of this section, a statement that the taxpayer elects to determine allowable loss or basis reduction by applying such provisions;

(iii) In the case of an election to determine allowable loss or basis reduction by applying the provisions described in paragraph (i)(2)(ii) of this section, a statement that the taxpayer elects to determine allowable loss or basis reduction by applying such provisions;

(iv) If an election described in § 1.1502–20(g) was made with respect to the disposition of the stock of the subsidiary, the amount of losses originally treated as reattributed pursuant to such election and the amount of losses treated as reattributed pursuant to paragraph (i)(3)(i) or (ii) of this section;

(v) If an apportionment of a separate section 382 limitation, a subgroup section 382 limitation, or a consolidated section 382 limitation is adjusted pursuant to paragraph (i)(3)(iii)(A), (B), or (C) of this section, the original and redetermined apportionment of such limitation; and

(vi) If the application of paragraph (i)(3)(i) or (ii) of this section results in a reduction of the amount of losses treated as reattributed pursuant to an election described in § 1.1502–20(g), a statement that the notification described in paragraph (i)(3)(iv) of this section was sent to

2002–26 I.R.B. 3 July 1, 2002

from real property” are among the sources listed in both of those sections. Section 856(d)(1) defines rents from real property to include rents from interests in real property, charges for services customarily rendered in connection with the rental of real property, and rent attributable to certain leased personal property. However, § 856(d)(2)(C) excludes “impermissible tenant service income” from the definition of rents from real property. Pursuant to § 856(d)(7)(A), impermissible tenant service income means, with respect to any real property, any amount received by a REIT for services rendered by the REIT to tenants of the property. Section 856(d)(7)(C)(i) provides that services rendered through a TRS are not treated as rendered by its REIT for purposes of § 856(d)(7)(A). Thus, services rendered by a TRS do not give rise to impermissible tenant service income.

Section 857(b)(7)(A) imposes for each taxable year of a REIT a tax equal to 100 percent of “redetermined rents.” Section 857(b)(7)(B)(i) provides that redetermined rents mean rents from real property (as defined in § 856(d)) to the extent the amount of the rents would (but for § 857(b)(7)(E)) be reduced on allocation under § 482 to clearly reflect income as a result of services rendered by a TRS to a tenant of its REIT. Section 482 provides that when two or more organizations, trades, or businesses are owned or controlled directly or indirectly by the same interests (controlled organizations), the Secretary may allocate gross income between or among those controlled organizations if the Secretary determines that such allocation is necessary to clearly reflect the income of any of those controlled organizations. Pursuant to § 1.482–1(b)(1), the standard applied in determining the true taxable income of a controlled organization is that of an organization dealing at arm’s length with an uncontrolled organization. Section 1.482– 2(b)(3) defines an arm’s length charge for services provided between controlled organizations, regardless of whether the services are an integral part of either organization’s business activity (the § 482 arm’s length charge). Section 857(b) (7)(E) provides that the imposition of tax under § 857(b)(7)(A) is in lieu of allocation under § 482.

the subsidiary and, if the acquirer was a member of a consolidated group at the time of the stock sale, to the person that was the common parent of such group at such time, as required by paragraph (i)(3)(iv) of this section.

- - - Robert E. Wenzel, Deputy Commissioner of

Internal Revenue .

Approved May 20, 2002.

Pamela F. Olson, Acting Assistant Secretary

of the Treasury.

(Filed by the Office of the Federal Register on May 30, 2002, 8:45 a.m., and published in the issue of the Federal Register for May 31, 2002, 67 F.R. 37998)

Section 856.—Definition of Real Estate Investment Trust

(Also § 857.)

REIT noncustomary service income . Guidance is provided under sections 856 and 857(b)(7) of the Code when a REIT forms a taxable REIT subsidiary (TRS) to provide noncustomary services to tenants of the REIT and no service charges are separately stated from the rents paid by the tenants to the REIT.

Rev. Rul. 2002–38

ISSUE

If a real estate investment trust (REIT) forms a taxable REIT subsidiary (TRS) to provide noncustomary services to tenants of the REIT and no service charges are separately stated from the rents paid by the tenants to the REIT, how is the REIT’s income from the services treated under §§ 856 and 857(b)(7) of the Internal Revenue Code?

FACTS

Situation 1

Corporation R, which has elected to be a REIT as defined in § 856, owns residential apartment buildings. R forms a wholly-owned subsidiary, corporation T, to provide housekeeping services to ten

ants of R ’s apartment buildings. The services do not qualify as customary services under § 1.856–4(b)(1) of the Income Tax Regulations. R and T jointly elect under § 856(l) to treat T as a TRS of R .

Employees of T perform all of the housekeeping services received by R ’s tenants, including administration and management of the services. T pays all costs of providing the services, such as its employees’ salaries and the costs of their uniforms, equipment, and supplies. To carry out the housekeeping operations, T also rents space in R ’s apartment buildings in accordance with § 856(d)(8)(A). T makes no payments to R other than its rental payments for that space. The annual value of the housekeeping services provided at each property exceeds one percent of the total annual amount received by R from the property.

Charges to the tenants for the housekeeping services are not separately stated from the rents that the tenants pay to R for the use of their apartments. T does not enter into contracts with the tenants for the performance of the housekeeping services. R compensates T for providing the services by paying T an amount that is 160 percent of T’s direct cost of providing the services. T reports the full amount of R ’s payment as gross income on T’s federal income tax return.

Situation 2

The facts are the same as in Situation 1 except that R compensates T for providing the services by paying T an amount that is 125 percent of T ’s direct cost of providing the services, and that payment is less than the arm’s length charge under § 482 for providing the services.

LAW

For taxable years beginning after December 31, 2000, §§ 856 and 857(b)(7) provide special rules for a corporation that is a TRS within the meaning of § 856(l). Those rules, which allow a TRS to provide noncustomary services to tenants of its REIT, govern the relationship between the REIT and the TRS.

To qualify as a REIT, an entity must derive at least 95 percent of its gross income from sources listed in § 856(c)(2) and at least 75 percent of its gross income from sources listed in § 856(c)(3). “Rents

July 1, 2002 4 2002–26 I.R.B.

Section 857(b)(7)(B)(ii) through (vii) contains exceptions, or safe harbors, from the 100 percent tax on redetermined rents. For example, pursuant to § 857(b)(7)(B) (vi), the definition of redetermined rents does not apply to any service rendered by a TRS to a tenant of its REIT if the gross income of the TRS from the service is at least 150 percent of the TRS’s direct cost in rendering the service. Other safe harbors in § 857(b)(7)(B) cover customary services, services giving rise to de mini- mis amounts, services priced comparably to those provided by the TRS to unrelated persons, certain services with separately stated charges, and services excepted by the Secretary.

ANALYSIS

If a REIT forms a TRS to provide noncustomary services to the REIT’s tenants and no service charges are separately stated from the tenants’ rents, a primary question in determining the treatment of the REIT’s income from the services is whether they are considered to be rendered by the REIT, or by the TRS, for purposes of § 856(d)(7). If rendered by the TRS and hence described in § 856(d)(7)(C)(i), the services do not give rise to impermissible tenant service income. All relevant facts and circumstances must be considered in determining the provider of the services for this purpose.

In Situations 1 and 2, charges to the tenants for the housekeeping services are not separately stated from the rents that the tenants pay to R for the use of their apartments. As a result, the amounts of the rents reflect the availability and use of those services. In other words, R receives greater rental payments than it would have received if the services had not been provided to its tenants. However, the structure of the 100 percent tax on redetermined rents indicates that Congress did not intend the lack of a separately stated service charge, by itself, to cause services to be treated as rendered by a REIT, rather than its TRS. In Situations 1 and 2, employees of T perform all of the housekeeping services received by R ’s tenants, including administration and management of the services. T pays all costs of providing the services, such as its employees’ salaries and the costs of their uniforms, equipment, and supplies. T also rents

space to carry out the housekeeping operations and makes no payments to R other than its rental payments for that space. For purposes of § 856(d)(7)(C)(i), in those circumstances the services are considered to be rendered by T, rather than R, even though no service charges are separately stated from the tenants’ rents. Accordingly, the services do not give rise to impermissible tenant service income and thus do not cause any portion of the rents received by R to fail to qualify as rents from real property under § 856(d).

As rents from real property, those rents are subject to being treated as redetermined rents under § 857(b)(7)(B)(i). That section provides that redetermined rents mean rents from real property (as defined in § 856(d)) to the extent the amount of the rents would (but for § 857(b)(7)(E)) be reduced on allocation under § 482 to clearly reflect income as a result of services rendered by a TRS to a tenant of its REIT. Section 482 allows the Secretary to allocate income from a REIT to its TRS to reflect the § 482 arm’s length charge for the TRS’s services. However, the 100 percent tax on redetermined rents is not imposed with respect to services described in a safe harbor of § 857(b) (7)(B).

In Situation 1, R compensates T for providing the housekeeping services by paying it an amount that is 160 percent of T ’s direct cost of providing the services, and T reports the full amount of R ’s payment as gross income on T ’s federal income tax return. Pursuant to the safe harbor of § 857(b)(7)(B)(vi), the definition of redetermined rents does not apply to any service rendered by a TRS to a tenant of its REIT if the TRS’s gross income from the service is at least 150 percent of its direct cost in rendering the service. In Situation 1, that safe harbor protects R from imposition of the 100 percent tax on redetermined rents. However, if the amount paid by R to T is less than the § 482 arm’s length charge for providing the services, income is allocable from R to T under § 482 to reflect that charge. Section 857(b)(7)(E) does not preclude allocation under § 482 of income on which the 100 percent tax is not imposed. Income so allocated from R to T under § 482 would be deductible by R under § 162 and thus would reduce R ’s

taxable income, but not its gross income. Such allocation under § 482 would not cause any portion of the rents received by R to fail to qualify as rents from real property under § 856(d).

In Situation 2, R compensates T by paying it an amount that is 125 percent of T ’s direct cost of providing the services, and that payment is less than the § 482 arm’s length charge. In Situation 2, no safe harbor protects R from imposition of the 100 percent tax on redetermined rents. As a result, § 857(b)(7)(A) imposes on R a tax equal to the amount that would (but for imposition of that tax) be allocated under § 482 from R to T to reflect the § 482 arm’s length charge for providing the services. In other words, the tax is equal to the amount by which the § 482 arm’s length charge exceeds the payment from R to T . Pursuant to § 857(b)(7)(E), imposition of that tax is in lieu of allocation of the same amount from R to T under § 482. Imposition of that tax does not cause any portion of the rents received by R to fail to qualify as rents from real property under § 856(d).

HOLDINGS

(1) In Situation 1, the housekeeping services are considered to be rendered by T, rather than R, for purposes of § 856(d)(7)(C)(i). Accordingly, the services do not give rise to impermissible tenant service income and thus do not cause any portion of the rents received by R to fail to qualify as rents from real property under § 856(d). The safe harbor of § 857(b)(7)(B)(vi) protects R from imposition of the 100 percent tax on redetermined rents. However, if the amount paid by R to T represents less than the § 482 arm’s length charge for providing the services, income is allocable from R to T under § 482. Income so allocated from R to T under § 482 would be deductible by R under § 162 and thus would reduce R ’s taxable income, but not its gross income. Such allocation under § 482 would not cause any portion of the rents received by R to fail to qualify as rents from real property under § 856(d).

(2) In Situation 2, the housekeeping services are considered to be rendered by T for purposes of § 856(d)(7)(C)(i). Accordingly, the services do not give rise to impermissible tenant service income and thus do not cause any portion of the

2002–26 I.R.B. 5 July 1, 2002

proposed rulemaking published in the Proposed Rules section of the Federal Register .

Background

On July 2, 1999, the IRS and Treasury published in the Federal Register (64 FR 36092 (T.D. 8823, 1999–2 C.B. 34)) final regulations regarding certain deductions and losses of members that join a consolidated group. These regulations added § 1.1502–21(b)(3)(ii)(B), which permits an acquiring consolidated group to elect to waive, with respect to all consolidated net operating losses attributable to certain acquired members, the portion of the carryback period for which the corporation was a member of another group.

Section 172(b)(1) provides, in part, that a net operating loss for any taxable year must generally be carried back to each of the 2 taxable years preceding the taxable year of the loss. Section 172(b)(3) provides that any taxpayer entitled to a carryback period under section 172(b)(1) may elect to relinquish the carryback period with respect to a loss for any taxable year. An election to relinquish the carryback period under section 172(b)(3) must be made by the due date (including extensions) of the taxpayer’s return for the taxable year of the loss and in the manner prescribed by the Secretary. Normally, this election is irrevocable.

Section 172(b)(1)(H), which was enacted as part of the Job Creation and Worker Assistance Act of 2002 (the Act), extended the 2-year carryback period to 5 years for losses arising in taxable years ending during 2001 and 2002 (hereafter, 2001 and 2002). Section 172(j), which was also enacted as part of the Act, allows a taxpayer entitled to the 5-year carryback period under section 172(b)(1)(H) to elect to relinquish that carryback period with respect to a loss for any taxable year. A taxpayer making this election generally must apply the 2-year carryback period set forth in section 172(b)(1), unless the taxpayer also elects

rents received by R to fail to qualify as rents from real property under § 856(d). However, no safe harbor protects R from imposition of the 100 percent tax on redetermined rents. Section 857(b)(7)(A) imposes on R a tax equal to the amount by which the § 482 arm’s length charge for providing the services exceeds the payment from R to T . Imposition of that tax is in lieu of allocation of that amount from R to T under § 482 and does not cause any portion of the rents received by R to fail to qualify as rents from real property under § 856(d).

DRAFTING INFORMATION

The principal author of this revenue ruling is Jonathan D. Silver of the Office of Associate Chief Counsel (Financial Institutions and Products). For further information regarding this revenue ruling, contact Mr. Silver at (202) 622–3920 (not a toll-free call).

Section 857.—Taxation of Real Estate Investment Trusts and Their Beneficiaries

If a REIT forms a taxable REIT subsidiary to provide noncustomary services to tenants of the REIT and no service charges are separately stated from the rents paid by the tenants to the REIT, how is the REIT’s income from the services treated under section 857(b)(7). See Rev. Rul. 2002–38, page 4.

Section 1502.— Regulations

26 CFR 1.1502–21: Net operating losses.

T.D. 8997

DEPARTMENT OF THE TREASURY Internal Revenue Service 26 CFR Parts 1 and 602

Carryback of Consolidated Net Operating Losses to Separate Return Years

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Temporary regulations.

SUMMARY: This document contains regulations under section 1502 that affect corporations filing consolidated returns. These regulations permit certain acquiring consolidated groups to elect to waive all or a portion of the pre-acquisition portion of the 5-year carryback period under section 172(b)(1)(H) for certain losses attributable to certain acquired members. The text of these temporary regulations also serves as the text of the proposed regulations set forth in the notice of proposed rulemaking (REG–122564–02) on this subject in this issue of the Bulletin.

DATES: Effective Date : These temporary regulations are effective May 31, 2002.

Applicability Date : These regulations apply to consolidated net operating losses arising in taxable years ending during 2001 and 2002.

FOR FURTHER INFORMATION CONTACT: Marie Milnes-Vasquez of the Office of Associate Chief Counsel (Corporate), (202) 622–7770 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

These regulations are being issued without prior notice and public procedure pursuant to the Administrative Procedure Act (5 U.S.C. 553). For this reason, the collection of information contained in these regulations has been reviewed and, pending receipt and evaluation of public comments, approved by the Office of Management and Budget under control number 1545–1790. Responses to this collection of information are required to obtain a benefit.

For further information concerning this collection of information, and where to submit comments on the collection of information and the accuracy of the estimated burden, and suggestions for reducing this burden, please refer to the preamble to the cross-referencing notice of

July 1, 2002 6 2002–26 I.R.B.

to relinquish that carryback period under section 172(b)(3).

As described in Revenue Procedure 2002–40 (2002–23 I.R.B. 1096), in order to give effect to the intent of Congress to allow taxpayers a 5-year carryback period to the maximum extent possible, the Service is permitting any taxpayer that previously elected under section 172(b)(3) to forgo the carryback period for losses arising in 2001 or 2002 to revoke such election in order to take advantage of the 5-year carryback period, provided the taxpayer revokes the election no later than October 31, 2002. Revenue Procedure 2002–40 also permits a taxpayer that filed an application for a tentative carryback adjustment or an amended return using the 2-year carryback period for a net operating loss arising in 2001 or 2002 to file certain forms to claim the 5-year carryback period provided under section 172(b)(1)(H). Given the enactment of section 172(b)(1)(H) and taxpayers’ ability to revoke prior elections under section 172(b)(3) and to make certain other filings in order to take advantage of the 5-year carryback period, the IRS and Treasury believe that it is appropriate to afford certain acquiring consolidated groups that did not make an election described in § 1.1502–21(b)(3)(ii)(B) with respect to certain acquired members an opportunity to waive the portion of the entire carryback period or the portion of the extended carryback period for 2001 and 2002 losses attributable to the acquired members, for pre-acquisition years. In this regard, the regulations in this Treasury decision add § 1.1502– 21T(b)(3)(ii)(C), which sets forth two elections.

Pursuant to the first election, an acquiring group may waive the portion of the 5-year carryback period for 2001 and 2002 losses attributable to a member acquired from another group after June 25, 1999, for which the member was a member of another group. While this election effectively permits a waiver of the entire 5-year carryback period to the extent that it is prior to the acquisition with respect to a consolidated net operating loss arising in a particular taxable year, it is only available where none of such losses have previously been carried back to a taxable year of a group of

which the acquired member was previously a member.

Pursuant to the second election, an acquiring group may waive the portion of the pre-acquisition carryback period for 2001 and 2002 losses attributable to a member acquired from another group to the extent that the Act increased the carryback period for such losses. This second election effectively permits a waiver of the third, fourth, and fifth carryback years to the extent that such years are prior to the acquisition and is available even where 2001 or 2002 losses have been carried back to the first or second carryback years of the acquired member that are pre-acquisition years. This second election, however, is only available with respect to consolidated net operating losses arising in a particular taxable year where none of such losses have been carried back to a taxable year of a group of which the acquired member was previously a member that is prior to the second taxable year preceding the taxable year of the loss.

Unlike the election under § 1.1502– 21(b)(3)(ii)(B), the elections provided in these regulations apply only to losses for 2001 and 2002. In addition, the elections are made on a year-by-basis. That is, one election may be made for 2001 losses while another election, or no election, may be made for 2002 losses. An election that relates to consolidated net operating losses attributable to a taxable year ending during 2001 must be filed with the acquiring consolidated group’s timely filed (including extensions) original or amended return for the taxable year ending during 2001, provided that such original or amended return is filed on or before October 31, 2002. An election that relates to consolidated net operating losses attributable to a taxable year ending during 2002 must be filed with the acquiring consolidated group’s timely filed (including extensions) original or amended return for the taxable year ending during 2001 or 2002, provided that such original or amended return is filed on or before September 15, 2003.

If the acquiring consolidated group files or filed a valid election described in § 1.1502–21(b)(3)(ii)(B) with respect to the acquisition of a member, no election under § 1.1502–21T(b)(3)(ii)(C) needs to be (or should be) filed to ensure that 2001

or 2002 losses are not carried back to preacquisition years of the acquired member.

Special Analyses

These temporary regulations are necessary to provide taxpayers with immediate elective relief from section 172(b)(1)(H), which was enacted as the part of the Job Creation and Worker Assistance Act of 2002. These regulations permit certain acquiring consolidated groups to elect to waive the 5-year carryback period with respect to certain acquired members. The regulations apply to losses arising in taxable years ending in 2001 and 2002. Based on these considerations, it is determined that this temporary regulation will provide taxpayers with the necessary guidance and authority to ensure equitable administration of the tax laws. Because of the need for immediate guidance, notice and public procedure are impracticable and contrary to the public interest pursuant to 5 USC 553(b)(B) and delayed effective date is not required pursuant to 5 USC 553(d)(1) and (3).

Further, it has been determined that this Treasury decision is not a significant regulatory action as defined in Executive Order 12866. Therefore, a regulatory assessment is not required. Pursuant to section 7805(f) of the Internal Revenue Code, these regulations will be submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on their impact on small business.

Drafting Information

The principal author of these temporary regulations is Marie Milnes-Vasquez. However, other personnel from the IRS and Treasury Department participated in their development.

- - - -

Adoption of Amendments to the Regulations

Accordingly, 26 CFR part 1 is 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 in part as follows:

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

2002–26 I.R.B. 7 July 1, 2002

which the acquired member was previously a member and such claim is filed on or before the date the election described in this paragraph is filed. The election must be made in a separate statement entitled “THIS IS AN ELECTION UNDER SECTION 1.1502–21T(b)(3) (ii)(C)( 3 ) TO WAIVE THE PRE-[insert first day of the first taxable year for which the member (or members) was a member of the acquiring group] EXTENDED CARRYBACK PERIOD FOR THE CNOLS ATTRIBUTABLE TO THE [insert taxable year of losses] TAXABLE YEAR(S) OF [insert names and employer identification numbers of members].” Such statement must be filed as provided in paragraph (b)(3)(ii)(C)( 5 ) of this section.

( 4 ) Claim for a carryback . For purposes of paragraphs (b)(3)(ii)(C)( 2 ) and ( 3 ) of this section, a carryback is claimed with respect to a consolidated net operating loss if there is a claim for refund, an amended return, an application for a tentative carryback adjustment, or any other filing that claims the benefit of the net operating loss in a taxable year prior to the taxable year of the loss, whether or not subsequently revoked in favor of a claim based on a 5-year carryback period.

( 5 ) Time and manner for filing state- ment . A statement described in paragraph (b)(3)(ii)(C)( 2 ) or ( 3 ) of this section that relates to consolidated net operating losses attributable to a taxable year ending during 2001 must be filed with the acquiring consolidated group’s timely filed (including extensions) original or amended return for the taxable year ending during 2001, provided that such original or amended return is filed on or before October 31, 2002. A statement described in paragraph (b)(3)(ii)(C)( 2 ) or ( 3 ) of this section that relates to consolidated net operating losses attributable to a taxable year ending during 2002 must be filed with the acquiring consolidated group’s timely filed (including extensions) original or amended return for the taxable year ending during 2001 or 2002, provided that such original or amended return is filed on or before September 15, 2003. (iii) through (h) [Reserved]. For further guidance, see § 1.1502–21(b)(3)(iii) through (h).

Section 1.1502–21T also issued under 26 U.S.C. 1502. - - Par. 2. Section 1.1502–21 is amended by adding paragraph (b)(3)(ii)(C) to read as follows:

§ 1.1502–21 Net operating losses.

(b) - - (3) - - (ii) - - (C) [Reserved]. For further guidance, see § 1.1502–21T(b)(3)(ii)(C).

- - - Par. 3. Section 1.1502–21T is added to read as follows:

§ 1.1502–21T Net operating losses (temporary).

(a) through (b)(3)(ii)(B) [Reserved]. For further guidance, see § 1.1502–21(a) through (b)(3)(ii)(B).

(C) Partial waiver of carryback period for 2001 and 2002 losses —(1) Applica- tion . The acquiring group may make the elections described in paragraphs (b)(3)(ii)(C)( 2 ) and ( 3 ) of this section with respect to an acquired member or members only if it did not file a valid election described in § 1.1502–21(b)(3) (ii)(B) with respect to such acquired member or members on or before May 31, 2002. ( 2 ) Partial waiver of entire pre- acquisition carryback period . If one or more members of a consolidated group become members of another consolidated group after June 25, 1999, then, with respect to all consolidated net operating losses attributable to the member for the taxable year ending during either 2001 or 2002, or both, the acquiring group may make an irrevocable election to relinquish the portion of the carryback period for such losses for which the corporation was a member of another group, provided that any other corporation joining the acquiring group that was affiliated with the member immediately before it joined the acquiring group is also included in the waiver and that the conditions of this paragraph are satisfied. The acquiring group cannot make the election described in this paragraph with respect to any con

solidated net operating losses arising in a particular taxable year if any carryback is claimed, as provided in paragraph (b)(3)(ii)(C)( 4 ) of this section, with respect to any such losses on a return or other filing by a group of which the acquired member was previously a member and such claim is filed on or before the date the election described in this paragraph is filed. The election must be made in a separate statement entitled “THIS IS AN ELECTION UNDER SECTION 1.1502–21T(b)(3)(ii)(C)( 2 ) TO WAIVE THE PRE-[insert first day of the first taxable year for which the member (or members) was a member of the acquiring group] CARRYBACK PERIOD FOR THE CNOLS ATTRIBUTABLE TO THE [insert taxable year of losses] TAXABLE YEAR(S) OF [insert names and employer identification numbers of members].” Such statement must be filed as provided in paragraph (b)(3)(ii)(C)( 5 ) of this section.

( 3 ) Partial waiver of pre-acquisition extended carryback period . If one or more members of a consolidated group become members of another consolidated group, then, with respect to all consolidated net operating losses attributable to the member for the taxable year ending during either 2001 or 2002, or both, the acquiring group may make an irrevocable election to relinquish the portion of the carryback period for such losses for which the corporation was a member of another group to the extent that such carryback period includes one or more taxable years that are prior to the taxable year that is 2 taxable years preceding the taxable year of the loss, provided that any other corporation joining the acquiring group that was affiliated with the member immediately before it joined the acquiring group is also included in the waiver and that the conditions of this paragraph are satisfied. The acquiring group cannot make the election described in this paragraph with respect to any consolidated net operating losses arising in a particular taxable year if a carryback to one or more taxable years that are prior to the taxable year that is 2 taxable years preceding the taxable year of the loss is claimed, as provided in paragraph (b)(3)(ii)(C)( 4 ) of this section, with respect to any such losses on a return or other filing by a group of

July 1, 2002 8 2002–26 I.R.B.

PART 602—OMB CONTROL NUMBERS UNDER THE PAPERWORK REDUCTION ACT

Par. 4. The authority citation for part 602 continues to read as follows:

CFR part or section where identified and described

Authority: 26 U.S.C. 7805. Par. 5. In § 602.101, paragraph (b) is amended by adding an entry to the table in numerical order to read as follows:

§ 602.101 OMB Control numbers.

- - - (b) - -

Current OMB control No.

1.1502–21T .............................................................................................................................................................. 1545–1790

David A. Mader, Acting Deputy Commissioner

of Internal Revenue .

Approved May 20, 2002.

Pamela F. Olson, Acting Assistant Secretary

of the Treasury .

(Filed by the Office of the Federal Register on May 30, 2002, 8:45 a.m., and published in the issue of the Federal Register for May 31, 2002, 67 F.R. 38000)

Section 7123.—Appeals Dispute Resolution Procedures

The revenue procedure formally establishes the Appeals Mediation Procedure, and modifies and expands the availability of mediation for cases that are already in the Appeals administrative process. See section 7123(b)(1) and Rev. Proc. 2002–44, page 10.

The announcement extends the test of the arbitration procedures set forth in Announcement 2000–4, 2000–1 C.B. 317, for an additional oneyear period. See section 7123(b)(2) and Announcement 2002–60, page 28.

2002–26 I.R.B. 9 July 1, 2002