SECTION 2. BACKGROUND

Section 1297(a) provides that a PFIC is any foreign corporation if 75 percent or more of its gross income for the taxable year is passive income or the average percentage of assets held by the corporation during the taxable year which produce passive income or which are held for the production of passive income is at least 50 percent. Section 1297(b)(1) provides that passive income means any income which is of a kind which would be foreign personal holding company income as defined in section 954(c), subject to the exceptions of section 1297(b)(2). Under section 1297(b)(2)(A), the term “passive income” does not include any income derived in the active conduct of a banking business by an institution licensed to do business as a bank in the United States or, to the extent provided in regulations, by any other corporation (active banking exception).

In Notice 89–81, 1989–2 C.B. 399, the Internal Revenue Service (IRS) and the Department of the Treasury (Treasury Department) described rules that would expand the active banking exception to certain foreign corporations not licensed

to do business as a bank in the United States, and identified the types of banking activities that produce income excluded from passive income under the active banking exception. In 1995, the IRS and the Treasury Department issued proposed regulations on the active banking exception. Prop. Reg. § 1.1296–4.