SECTION 1. PURPOSE

The purpose of this revenue procedure is to facilitate the market’s transition from the London Interbank Offered Rate (LIBOR) and other interbank offered rates (IBORs) to alternative reference rates through adoption of fallback language recommended by the Alternative Reference Rates Committee (ARRC) and the International Swaps and Derivatives Association (ISDA). In support of the ARRC’s phased transition plan to assist market participants as they prepare for this transition away from IBORs, this revenue procedure provides that certain modifications to a contract with terms referencing an IBOR will not be treated as

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cash products, including newly issued cash products, refer to USD LIBOR and contain fallback provisions that do not adequately protect against the cessation of that benchmark. To support the transition from USD LIBOR, the ARRC has published recommended fallback language for inclusion in the terms of certain newly issued cash products, including floating rate notes, bilateral business loans, syndicated loans, securitizations, adjustable rate mortgages, and variable-rate private student loans. In each case, the fallback language describes the circumstances under which references to the current benchmark rate are replaced. When such a circumstance arises, the fallback language generally provides a mechanism for determining the replacement benchmark rate that supplants the current benchmark rate. The fallback language generally also provides a mechanism for determining a spread adjustment that is added to the replacement benchmark rate to account for any difference between the replacement benchmark rate and the current benchmark rate. Although the ARRC has recommended this fallback language for use in newly issued cash products, the ARRC believes that parties to outstanding cash products that refer to USD LIBOR will also modify the contracts relating to those cash products to incorporate the appropriate fallback language.

.04 ISDA and derivative contracts . The ARRC has also been actively engaged in work led by ISDA to ensure that the contractual fallback provisions in derivative contracts are sufficiently robust to prevent serious market disruptions if LIBOR is permanently discontinued. Documents published by ISDA, such as the 2002 ISDA Master Agreement and the 2006 ISDA Definitions, form the basic framework of many derivative contracts. Section 7.1 of the 2006 ISDA Definitions lists and defines the various standard floating rates from which the parties may choose in creating a derivative contract (rate options). These rate options may be combined with other elements, such as the addition of a fixed spread, to determine the overall floating rate under the derivative contract. Generally, the 2006 ISDA

Definitions define each rate option by describing the methodology for determining the value of the rate option at each reset date. In the case of rate options that refer to IBORs, the 2006 ISDA Definitions also provide fallback provisions that generally designate another rate to stand in for the relevant IBOR if the IBOR is unavailable.

(1) The ISDA Supplement . By publishing supplements to the 2006 ISDA Definitions, ISDA can amend the provisions of the 2006 ISDA Definitions to address developments in the market. ISDA posted Supplement number 70 to the 2006 ISDA Definitions on https://www.isda.org on October 9, 2020, (ISDA Supplement) to facilitate inclusion of new fallbacks for certain key IBORs in derivatives transactions entered into on or after the date the ISDA Supplement takes effect. The ISDA Supplement has a final date of October 23, 2020, and a publication and effectiveness date of January 25, 2021. Among other things, the ISDA Supplement amends the fallback provisions for rate options that refer to IBORs to provide that, upon the occurrence of certain events, a substitute rate identified in the ISDA Supplement replaces the relevant IBOR. For example, upon an official announcement or publication regarding the permanent discontinuation or unreliability of USD LIBOR, the ISDA Supplement generally provides that USD LIBOR is replaced by a rate that is the sum of tenor-adjusted SOFR and an adjustment spread based on the historical difference between USD LIBOR and tenor-adjusted SOFR. Derivative contracts entered into on or after the effective date of the ISDA Supplement will generally include the relevant terms of the 2006 ISDA Definitions as amended by the ISDA Supplement.

(2) The ISDA Protocol . Unless modified by the parties, the terms of derivative contracts entered into prior to the effective date of the ISDA Supplement (legacy derivative contracts) will not incorporate the terms of the ISDA Supplement. ISDA posted the final ISDA 2020 IBOR Fallbacks Protocol on https://www.isda.org on October 9, 2020, (ISDA Protocol) to facilitate adoption of the ISDA Supplement by parties to legacy derivative contracts. The ISDA Protocol will launch publicly and

open for adherence on October 23, 2020. If parties adhere to the ISDA Protocol, all covered derivative contracts between those parties are generally modified to incorporate the terms of the ISDA Supplement or, in some cases, to incorporate a version of the terms of the ISDA Supplement adapted to fit the existing terms of the contract.

(3) Bilateral agreements . In some circumstances, legacy derivative contracts and other contracts may incorporate the terms of an ISDA Fallback (as defined in section 3.02 of this revenue procedure) on a transaction-by-transaction basis through an agreement between the parties to the contract (bilateral agreement) rather than through adherence to the ISDA Protocol. For example, bilateral agreements may be necessary when some aspect of the law of a non-U.S. jurisdiction prevents adherence to the ISDA Protocol.

.05 Guidance on modifications to re- place an IBOR . The Treasury Department and the Internal Revenue Service (IRS) have determined that it is appropriate to provide guidance on the tax consequences of modifying debt instruments, derivative contracts, and other contracts to replace IBORs or add fallback provisions to IBORs. The Treasury Department and the IRS published proposed regulations (84 F.R. 54068) on October 9, 2019 (Proposed Regulations). ¹ On March 12, 2020, the ARRC submitted a letter to the Treasury Department and the IRS in which the ARRC provided comments on the Proposed Regulations.

In connection with development of the ISDA Protocol, the ARRC submitted written comments to the Treasury Department and the IRS on December 9, 2019, December 20, 2019, January 30, 2020, and July 10, 2020, recommending guidance on the tax consequences of modifying a contract as provided in the ISDA Protocol. (Those written comments and the ARRC’s letter dated March 12, 2020, are collectively referred to as the “ARRC Letters.”) The ARRC also recommended similar guidance for the ARRC Fallbacks (as defined in section 3.01 of this revenue procedure). For reasons detailed in the ARRC Letters, the ARRC has recommended is

1 The preamble to the Proposed Regulations generally provides that a taxpayer may rely on the Proposed Regulations before the publication of the final regulations in the Federal Register.

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suing guidance that is separate from the Proposed Regulations and specific to the ARRC Fallbacks and the ISDA Protocol. Having reviewed the ARRC Fallbacks and the ISDA Protocol, the Treasury Department and the IRS have concluded that interim guidance in advance of finalizing the Proposed Regulations is needed to support the adoption of the ARRC Fallbacks and the ISDA Protocol. The following paragraphs of this section 2.05 describe the guidance recommended by the ARRC.

(1) Guidance recommended under sec- tion 1001 . Section 1001 of the Internal Revenue Code (Code) provides rules for determining the amount and recognition of gain or loss from the sale or other disposition of property. Section 1.1001-1(a) generally provides that gain or loss is realized upon the exchange of property for other property differing materially either in kind or in extent. In the case of a debt instrument, § 1.1001-3 provides rules for determining whether a modification of the terms of the debt instrument results in an exchange of the original debt instrument for a modified debt instrument that differs materially either in kind or in extent for purposes of § 1.1001-1(a). The ARRC Letters generally recommend guidance providing that the modification of a contract to incorporate the terms of an ARRC Fallback, an ISDA Fallback, or certain variants of an ARRC or ISDA Fallback described in section 4.02(3) of this revenue procedure does not result in an exchange under § 1.1001-1(a).

(2) Guidance recommended on inte- grated transactions . A debt instrument and one or more derivative contracts may be treated in certain circumstances as a single, integrated instrument for certain specified purposes. For example, § 1.1275-6 describes the circumstances under which a debt instrument may be integrated with a derivative contract for the purpose of determining the amount and timing of the taxpayer’s income, deduction, gain, or loss. Sections 1.148-4(h) (regarding arbitrage investment restrictions on tax-exempt bonds) and 1.988-5(a)

(regarding foreign currency transactions) also provide rules by which a debt instrument may be integrated with a derivative contract. Similarly, § 1.446-4 generally provides that the method of accounting used by a taxpayer for a derivative contract that qualifies as a hedging transaction must reasonably match the timing of income, deduction, gain, or loss from the hedging transaction with the timing of the income, deduction, gain, or loss from the item or items being hedged. The modification or termination of a derivative contract or debt instrument that is part of an integrated transaction or hedging transaction under one of the foregoing regulations may result in unfavorable tax consequences, such as accelerating the recognition of gain. The ARRC Letters recommend guidance providing that the modification of an integrated transaction or hedging transaction to incorporate the terms of an ARRC Fallback, an ISDA Fallback, or certain variants of an ARRC or ISDA Fallback described in section 4.02(3) of this revenue procedure does not result in legging out of the integrated transaction, terminating either leg of the hedging transaction, or otherwise severing the integration authorized or required by the foregoing regulations.