Internal Revenue Bulletin 1999-11 (PDF rendition): IRS Revenue Rulings

Preserve advance releases and the authoritative Internal Revenue Bulletin rendition; directory timestamps are file-publication metadata, not legal effective dates. HTML bulletins begin June 2003; earlier available issues require full PDF parsing. Whole bulletin rendition: numbered items are identified below; other legal material and publisher context remain included. This is not a new standalone advance release.

INCOME TAX
Rev. Rul. 99–12, page 6.
Fringe benefits aircraft valuation formula.For purposes
of section 1.61–21(g) of the Income Tax Regulations, relat-
ing to the rule for valuing noncommercial flights on em-
ployer-provided aircraft, the Standard Industry Fare Level
(SIFL) cents-per-mile rates and terminal charges in effect for
the first half of 1999 are set forth.
REG–104072–97, page 12.
Proposed regulations under section 7701 of the Code
recharacterize, for tax purposes, financing arrangements in-
volving fast-pay stock. A public hearing is scheduled for April
8, 1999.
REG–106388–98, page 27.
Proposed regulations under section 25A of the Code relate
to the Hope Scholarship Credit and the Lifetime Learning
Credit.
REG–106905–98, page 39.
Proposed regulations under section 861 of the Code relate
to the allocation of loss recognized on the disposition of
stock and other personal property. A public hearing is
scheduled for May 26, 1999.
REG–114841–98, page 41.
Proposed regulations under section 663 of the Code provide
that substantively separate and independent shares of differ-
ent beneficiaries are to be treated as separate estates for
purposes of computing distributable net income. A public
hearing is scheduled for April 22, 1999.
Notice 99–14, page 7.
This notice withdraws guidance proposed in April 1992
under the passive foreign investment company (PFIC) rules
of section 1291 of the Code relating to a mark-to-market
election for regulated investment companies (RICs) that are
shareholders of PFICs.
EMPLOYEE PLANS
REG–209103–89, page 10.
Proposed regulations under section 79 of the Code relate to
the uniform premium rates used to calculate the cost of
group-term life insurance provided to employees. A public
hearing is scheduled for May 6, 1999.
EXEMPT ORGANIZATIONS
Announcement 99–20, page 53.
A list is given of organizations now classified as private foun-
dations.
ADMINISTRATIVE
Rev. Proc. 99–18, page 7.
Election to treat certain debt substitutions as realiza-
tion events. This procedure provides for an election that
will allow taxpayers to treat a debt substitution, in certain cir-
cumstances, as a realization event even though it does not
result in a significant modification under section 1.1001–3
of the Income Tax Regulations.
REG–114664–97, page 21.
Proposed regulations under section 42 of the Code relate to
the low-income housing credit including the procedures for
compliance monitoring by state and local housing agencies
(Agencies), the requirements for making carryover alloca-
tions, and the rules for correction of administrative errors or
omissions by Agencies. A public hearing is scheduled for
May 27, 1999.
Internal Revenue
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Bulletin No. 1999–11
March 15, 1999
HIGHLIGHTS
OF THIS ISSUE
These synopses are intended only as aids to the reader in
identifying the subject matter covered. They may not be
relied upon as authoritative interpretations.
Department of the Treasury
Internal Revenue Service
Finding Lists begin on page 58.
Announcement Relating to Court Decisions begins on page 5.
Announcement of Declaratory Judgment Proceedings Under Section 7428 begins on page 56.
Continued on page 4

Mission of the Service
Provide America’s taxpayers top quality service by help-
ing them understand and meet their tax responsibilities
and by applying the tax law with integrity and fairness to
all.
2

The Internal Revenue Bulletin is the authoritative instrument
of the Commissioner of Internal Revenue for announcing offi-
cial rulings and procedures of the Internal Revenue Service
and for publishing Treasury Decisions, Executive Orders, Tax
Conventions, legislation, court decisions, and other items of
general interest. It is published weekly and may be obtained
from the Superintendent of Documents on a subscription
basis. Bulletin contents of a permanent nature are consoli-
dated semiannually into Cumulative Bulletins, which are sold
on a single-copy basis.
It is the policy of the Service to publish in the Bulletin all sub-
stantive rulings necessary to promote a uniform application
of the tax laws, including all rulings that supersede, revoke,
modify, or amend any of those previously published in the
Bulletin. All published rulings apply retroactively unless other-
wise indicated. Procedures relating solely to matters of in-
ternal management are not published; however, statements
of internal practices and procedures that affect the rights
and duties of taxpayers are published.
Revenue rulings represent the conclusions of the Service on
the application of the law to the pivotal facts stated in the
revenue ruling. In those based on positions taken in rulings
to taxpayers or technical advice to Service field offices,
identifying details and information of a confidential nature
are deleted to prevent unwarranted invasions of privacy and
to comply with statutory requirements.
Rulings and procedures reported in the Bulletin do not have
the force and effect of Treasury Department Regulations,
but they may be used as precedents. Unpublished rulings
will not be relied on, used, or cited as precedents by Service
personnel in the disposition of other cases. In applying pub-
lished rulings and procedures, the effect of subsequent leg-
islation, regulations, court decisions, rulings, and proce-
dures must be considered, and Service personnel and oth-
ers concerned are cautioned against reaching the same con-
clusions in other cases unless the facts and circumstances
are substantially the same.
The Bulletin is divided into four parts as follows:
Part I.—1986 Code.
This part includes rulings and decisions based on provisions
of the Internal Revenue Code of 1986.
Part II.—Treaties and Tax Legislation.
This part is divided into two subparts as follows: Subpart A,
Tax Conventions, and Subpart B, Legislation and Related
Committee Reports.
Part III.—Administrative, Procedural, and Miscellaneous.
To the extent practicable, pertinent cross references to
these subjects are contained in the other Parts and Sub-
parts. Also included in this part are Bank Secrecy Act Admin-
istrative Rulings. Bank Secrecy Act Administrative Rulings
are issued by the Department of the Treasury’s Office of the
Assistant Secretary (Enforcement).
Part IV.—Items of General Interest.
With the exception of the Notice of Proposed Rulemaking
and the disbarment and suspension list included in this part,
none of these announcements are consolidated in the Cumu-
lative Bulletins.
The first Bulletin for each month includes a cumulative index
for the matters published during the preceding months.
These monthly indexes are cumulated on a quarterly and
semiannual basis, and are published in the first Bulletin of the
succeeding quarterly and semiannual period, respectively.
3
Introduction
The contents of this publication are not copyrighted and may be reprinted freely. A citation of the Internal Revenue Bulletin as the source would be appropriate.
For sale by the Superintendent of Documents, U.S. Government Printing Office, Washington, DC 20402.

HIGHLIGHTS
OF THIS ISSUE—Continued
ADMINISTRATIVE—Continued
REG–119192–98, page 45.
Proposed regulations under sections 1201 and 1204 of the
Internal Revenue Restructing and Reform Act of 1998 relate
to the adoption by the IRS of a balanced system to measure
organizational performance within the IRS. A public hearing
is scheduled for May 13, 1999.
Announcement 99–21, page 55.
This document provides notice of a public hearing on pro-
posed regulations, REG–246256–96, 1998–34 I.R.B. 9,
under section 4958 of the Code relating to the excise tax on
excess benefit transactions. The hearing is scheduled for
March 16, 1999, at 1 p.m. (EDT), and will continue on March
17, 1999, at 1 p.m., if necessary.
March 15, 199941999–11 I.R.B.

1999–11 I.R.B.5March 15, 1999
It is the policy of the Internal Revenue
Service to announce at an early date
whether it will follow the holdings in cer-
tain cases. An Action on Decision is the
document making such an announcement.
An Action on Decision will be issued at
the discretion of the Service only on un-
appealed issues decided adverse to the
government. Generally, an Action on De-
cision is issued where its guidance would
be helpful to Service personnel working
with the same or similar issues. Unlike a
Treasury Regulation or a Revenue Ruling,
an Action on Decision is not an affirma-
tive statement of Service position. It is not
intended to serve as public guidance and
may not be cited as precedent.
Actions on Decisions shall be relied
upon within the Service only as conclu-
sions applying the law to the facts in the
particular case at the time the Action on
Decision was issued. Caution should be
exercised in extending the recommenda-
tion of the Action on Decision to similar
cases where the facts are different. More-
over, the recommendation in the Action
on Decision may be superseded by new
legislation, regulations, rulings, cases, or
Actions on Decisions.
Prior to 1991, the Service published ac-
quiescence or nonacquiescence only in
certain regular Tax Court opinions. The
Service has expanded its acquiescence
program to include other civil tax cases
where guidance is determined to be help-
ful. Accordingly, the Service now may ac-
quiesce or nonacquiesce in the holdings
of memorandum Tax Court opinions, as
well as those of the United States District
Courts, Claims Court, and Circuit Courts
of Appeal. Regardless of the court decid-
ing the case, the recommendation of any
Action on Decision will be published in
the Internal Revenue Bulletin.
The recommendation in every Action
on Decision will be summarized as ac-
quiescence, acquiescence in result only,
or nonacquiescence. Both “acquies-
cence” and “acquiescence in result only”
mean that the Service accepts the holding
of the court in a case and that the Service
will follow it in disposing of cases with
the same controlling facts. However, “ac-
quiescence” indicates neither approval
nor disapproval of the reasons assigned
by the court for its conclusions; whereas,
“acquiescence in result only” indicates
disagreement or concern with some or all
of those reasons. Nonacquiescence signi-
fies that, although no further review was
sought, the Service does not agree with
the holding of the court and, generally,
will not follow the decision in disposing
of cases involving other taxpayers. In ref-
erence to an opinion of a circuit court of
appeals, a nonacquiescence indicates that
the Service will not follow the holding on
a nationwide basis. However, the Service
will recognize the precedential impact of
the opinion on cases arising within the
venue of the deciding circuit.
The announcements published in the
weekly Internal Revenue Bulletins are
consolidated semiannually and annually.
The semiannual consolidation appears in
the first Bulletin for July and in the Cu-
mulative Bulletin for the first half of the
year, and the annual consolidation ap-
pears in the first Bulletin for the follow-
ing January and in the Cumulative Bul-
letin for the last half of the year.
The Commissioner ACQUIESCES in
the following decision:
Oshkosh Truck Corporation v. United
States,
123 F.3d 1477 (Fed. Cir. 1997)
1
Announcement Relating to Court Decisions
1
Acquiescence in result only relating to whether the 12-percent excise tax imposed under I.R.C. section 4052 on the first retail sale of specially designed trucks to
the United States Army is computed by adding to the vehicle sales price a “presumed markup percentage” as decribed in subsections (b)(3) and (4) of section 4052
and Treas. Reg. Section 145.4052–1(d)(7).

Section 61.—Gross Income
Defined
26 CFR 1.61–21: Taxation of fringe benefits.
Fringe benefits aircraft valuation
formula.For purposes of section
1.61–21(g) of the Income Tax Regula-
tions, relating to the rule of valuing non-
commercial flights on employer-provided
aircraft, the Standard Industry Fare Level
(SIFL) cents-per-mile rates and terminal
charges in effect for the first half of 1999
are set forth.
Rev. Rul. 99–12
For purposes of the taxation of fringe
benefits under section 61 of the Internal
Revenue Code, section 1.61-21(g) of the
Income Tax Regulations provides a rule
for valuing noncommercial flights on em-
ployer-provided aircraft. Section 1.61-
21(g)(5) provides an aircraft valuation
formula to determine the value of such
flights. The value of a flight is deter-
mined under the base aircraft valuation
formula (also known as the Standard In-
dustry Fare Level formula or SIFL) by
multiplying the SIFL cents-per-mile rates
applicable for the period during which the
flight was taken by the appropriate air-
craft multiple provided in section 1.61-
21(g)(7) and then adding the applicable
terminal charge. The SIFL cents-per-mile
rates in the formula and the terminal
charge are calculated by the Department
of Transportation and are reviewed semi-
annually.
The following chart sets forth the ter-
minal charges and SIFL mileage rates:
March 15, 199961999–11 I.R.B.
Part I. Rulings and Decisions Under the Internal Revenue Code of 1986
Period During WhichTerminalSIFL Mileage
the Flight Was TakenChargeRates
1/1/99 – 6/30/99$32.69Up to 500 miles = $.1788 per mile
501-1500 miles = $.1364 per mile
Over 1500 miles = $.1311 per mile
DRAFTING INFORMATION
The principle author of this revenue
ruling is Kathleen Edmondson of the Of-
fice of the Associate Chief Counsel (Em-
ployee Benefits and Exempt Organiza-
tions). For further information regarding
this revenue ruling, contact Ms. Edmond-
son on (202) 622-6080 (not a toll-free
call).
Section 1001.—Determination
of Amount of and Recognition of
Gain or Loss
26 CFR 1.1001–3: Modification of debt
instruments.
The revenue procedure provides for an election
that will allow taxpayers to treat a debt substitution,
in certain circumstances, as a realization event even
though it does not result in a significant modifica-
tion under section 1.1001–3 of the Income Tax Reg-
ulations. See Rev. Proc. 99–18, page 7.
Section 1275.—Other
Definitions and Special Rules
26 CFR 1.1275–2: Special rules relating to debt
instruments.
The revenue procedure provides for an election
that will allow taxpayers to treat a debt substitution,
in certain circumstances, as a realization event even
though it does not result in a significant modifica-
tion under section 1.1001–3 of the Income Tax Reg-
ulations. See Rev. Proc. 99–18, page 7.

1999–11 I.R.B.7March 15, 1999
Withdrawal of Guidance Under
Section 1291 Relating to Mark-
to-Market Elections for RICs
Notice 99–14
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Partial withdrawal of proposed
regulations.
SUMMARY: This document withdraws
§1.1291–8 of the notice of proposed rule-
making (INTL–941–86, 1992–1 C.B.
1124) that was published in the Federal
Registeron April 1, 1992, providing
guidance under the passive foreign invest-
ment company (PFIC) rules relating to the
mark to market election for regulated in-
vestment companies (RICs) that are
shareholders of PFICs.
DATES: Section 1.1291–8 of the pro-
posed regulations published at 57 FR
11024 (April 1, 1992) is withdrawn Feb-
ruary 2, 1999.
FOR FURTHER INFORMATION CON-
TACT: Robert Laudeman of the Office of
Associate Chief Counsel (International),
Internal Revenue Service, 1111 Constitu-
tion Ave., NW, Washington, DC 20224.
Telephone (202) 622-3840, not a toll-free
number.
SUPPLEMENTARY INFORMATION:
Background
On April 1, 1992 (57 F.R. 110224), the
IRS issued proposed regulations provid-
ing, in part, an election under which cer-
tain RICs could mark to market their stock
in certain PFICs. In the Taxpayer Relief
Act of 1997 Congress enacted section
1296(e)(2) of the Internal Revenue Code,
which allows certain RICs to elect to mark
to market their PFIC stock. Accordingly,
the IRS is withdrawing proposed regula-
tions §1.1291-8. Future guidance will be
issued providing rules for all PFIC share-
holders, including RICs, on how to mark
to market certain PFIC stock.
Drafting Information
The principal author of this withdrawal
notice is Robert Laudeman, Office of the
Associate Chief Counsel (International).
However, other personnel from the IRS
and Treasury Department participated in
developing the withdrawal notice.
*****
Partial Withdrawal of Proposed
Amendments to the Regulations
Accordingly, under the authority of 26
U.S.C. 7805, §1.1291–8 of the proposed
amendments to 26 CFR part 1 published
at 57 F.R. 11024 (April 1, 1992), is with-
drawn.
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
(Filed by the Office of the Federal Register on Feb-
ruary 1, 1999, 8:45 a.m., and published in the issue
of the Federal Register for February 2, 1999, 64 F.R.
5015)
26 CFR 601.601: Rules and regulations.
(Also Part I, sections 1001; 1.1001–3, 1.1275–2.)
Rev. Proc. 99–18
SECTION 1. PURPOSE
This revenue procedure provides for an
election that will facilitate the substitution
of some or all of the debt instruments from
two or more outstanding issues of debt
with debt instruments from a new issue.
Under the election, taxpayers can treat a
substitution of debt instruments, in certain
circumstances, as a realization event for
federal income tax purposes even though
it does not result in a significant modifica-
tion under § 1.1001–3 of the Income Tax
Regulations (and, therefore, is not an ex-
change for purposes of § 1.1001–1(a)).
Under section 4 of this revenue procedure,
taxpayers do not recognize any realized
gain or loss on the date of the substitution.
Instead, the gain or loss generally is taken
into account as income or deductions over
the term of the new debt instruments.
SECTION 2. BACKGROUND
.01 Under § 1.1001–1(a), gain or loss is
realized from the exchange of property
for other property differing materially ei-
ther in kind or in extent.
.02 Section 1.1001–3 provides rules to
determine whether a modification of the
terms of a debt instrument results in an
exchange of the original debt instrument
for a modified instrument that differs ma-
terially either in kind or in extent. Under
§ 1.1001–3, a modification of a debt in-
strument results in an exchange for pur-
poses of § 1.1001–1(a) if the modifica-
tion is significant. A modification that is
not significant does not result in an ex-
change for purposes of § 1.1001–1(a).
Section 1.1001–3 applies to any modifi-
cation of a debt instrument, regardless of
the form of the modification (including
an exchange of a new instrument for an
existing instrument).
.03 Under § 1.1001–3(c), a modifica-
tion means any alteration, including any
deletion or addition, in whole or in part,
of a legal right or obligation of the issuer
or a holder of a debt instrument, whether
the alteration is evidenced by an express
agreement (oral or written), conduct of
the parties, or otherwise.
.04 In general, a modification of a debt
instrument is a significant modification
under § 1.1001–3 only if, based on all the
facts and circumstances, the legal rights
or obligations that are altered and the de-
gree to which they are altered are eco-
nomically significant. Section 1.1001–
3(e) provides rules to determine whether
certain modifications, such as a change in
yield or the timing of payments, consti-
tute significant modifications.
.05 If the terms of a debt instrument are
modified to defer one or more payments
and the modification does not result in an
exchange under § 1.1001–3, § 1.1275–
2(j) provides rules to account for the mod-
ified debt instrument. Under § 1.1275–
2(j), solely for purposes of §§ 1272 and
1273 of the Internal Revenue Code, the
debt instrument is treated as retired and
then reissued on the date of the modifica-
tion for an amount equal to the instru-
ment’s adjusted issue price on that date.
As a result, the debt instrument is retested
for original issue discount based on the
instrument’s adjusted issue price and the
remaining payments, as modified, to be
made on the instrument. If the debt in-
strument has original issue discount as a
result of the modification, both the issuer
and the holder account for the original
Part III. Administrative, Procedural, and Miscellaneous

March 15, 199981999–11 I.R.B.
issue discount over the remaining term of
the instrument. See§§ 163(e) and 1272.
.06 An issuer may want to refinance
and consolidate debt instruments (“old
debt”) from two or more outstanding is-
sues of debt into debt instruments (“new
debt”) from a single new issue. In gen-
eral, if the terms of the new debt are not
materially different from the terms of the
old debt, substituting the new debt for the
old debt does not result in a significant
modification of the old debt under
§ 1.1001–3. Therefore, the substitution of
the new debt for the old debt in the con-
solidation is not a realization event for
federal income tax purposes. However,
under § 1.1275–2(j), some or all of the
new debt may have original issue dis-
count in varying amounts, depending
upon the terms of the old debt for which
the new debt was substituted. As a result,
the new debt may not be fungible.
SECTION 3. SCOPE
This revenue procedure applies to the
substitution of new debt for old debt if all
of the following conditions are satisfied:
.01 Debt instruments from a single new
issue are being substituted for debt instru-
ments from two or more old issues of
debt. (It is not necessary, however, for
any single holder of the old debt to have
held debt instruments from more than one
of the old issues.)
.02 The substitution does not result in a
significant modification of the old debt
under § 1.1001–3 and, therefore, is not a
realization event under § 1.1001–1.
.03 The new debt and the old debt are
publicly traded (within the meaning of
§ 1.1273–2(f)).
.04 The old debt was issued at par or
with a de minimis amount of original
issue discount or premium. (For purposes
of this condition, the de minimis amount
for premium is determined using the prin-
ciples of § 1.1273–1(d).)
.05 The new debt is issued at par or
with a de minimis amount of original
issue discount or premium. (For purposes
of this condition, the issue price of the
new debt is determined under § 1.1273–2
rather than under § 1.1275–2(j), and the
de minimis amount for premium is deter-
mined using the principles of § 1.1273–
1(d).)
.06 Neither the new debt nor the old
debt is—
(1) a contingent payment debt instru-
ment (within the meaning of § 1.1275–4),
(2) a tax-exempt obligation (as de-
fined in § 1275(a)(3)), or
(3) a convertible debt instrument
(within the meaning of § 1.1272–1(e)).
.07 All payments on the old debt and
the new debt are denominated in, or deter-
mined solely by reference to, U.S. dollars,
and the functional currency of the busi-
ness unit issuing the new debt is the U.S.
dollar.
.08 The issuer and one or more holders
of the old debt make the election provided
in section 4.01 of this revenue procedure.
SECTION 4. APPLICATION
.01 Election.
(1) Manner of making the election.
The issuer and the holders make the elec-
tion under this revenue procedure by
agreeing in writing to treat the substitu-
tion as a realization event for federal in-
come tax purposes and to comply with the
provisions of this revenue procedure. The
written agreement must be entered into no
later than the last day of the month in
which the substitution occurs.
For example, the written agreement to
make the election may be evidenced by a
statement in the offering documents for
the substitution that—
(a) the issuer, by distributing the
documents, elects under this revenue pro-
cedure to treat the substitution as a real-
ization event for federal income tax pur-
poses,
(b) any holder of old debt that
tenders its old debt for new debt as part of
the substitution thereby makes the elec-
tion under this revenue procedure, and
(c) the issuer and the holders who
have tendered their old debt for the new
debt (“electing holders”) will comply
with the provisions of this revenue proce-
dure.
(2) Statement attached to return.If
an election is made under section 4.01(1)
of this revenue procedure, the issuer must
attach a signed statement to its timely
filed (including extensions) federal in-
come tax return for the taxable year in
which the substitution occurs. On the
statement, the issuer must—
(a) identify the old debt for which
new debt was substituted,
(b) identify the new debt that was
substituted for the old debt,
(c) indicate the issue price of the
new debt, and
(d) indicate that the election was
made under this revenue procedure.
.02 Treatment of substitution.If an
election is made under this revenue proce-
dure, the issuer and the electing holders
must report the substitution for federal in-
come tax purposes as a repurchase of the
old debt in exchange for the new debt in
the taxable year in which the substitution
occurs. However, the issuer must account
for this deemed exchange under the rules
described in section 4.03 of this revenue
procedure and each electing holder must
account for this deemed exchange under
the rules described in section 4.04 of this
revenue procedure.
.03 Issuer’s treatment.The issuer must
take into account over the term of the new
debt any difference between the adjusted
issue prices of the old debt and the issue
price of the new debt (as determined
under § 1.1273–2). If the aggregate issue
price of the new debt that is transferred to
electing holders as a substitute for the old
debt is greater than the aggregate adjusted
issue prices of the old debt for which it is
substituted, the issuer treats the difference
as a reduction in the aggregate issue price
of the new debt. As a result, the differ-
ence is taken into account by the issuer
over the term of the new debt as increased
original issue discount or as reduced bond
issuance premium (within the meaning of
§ 1.163–13). If the aggregate issue price
of the new debt that is transferred to elect-
ing holders as a substitute for the old debt
is less than the aggregate adjusted issue
prices of the old debt for which it is sub-
stituted, the issuer treats the difference as
an increase in the aggregate issue price of
the new debt. As a result, the difference is
taken into account by the issuer over the
term of the new debt as reduced original
issue discount or increased bond issuance
premium.
.04 Electing holder’s treatment.
(1) In general. Notwithstanding any
provision of subtitle A of the Internal
Revenue Code (including §§ 356(a) and
1276(a)), an electing holder does not rec-

1999–11 I.R.B.9March 15, 1999
ognize any gain or loss as a result of the
deemed exchange. Instead, the holder’s
basis (immediately after the substitution)
in the new debt is the same as the holder’s
adjusted basis (determined as of the date
of the substitution) in the debt instruments
for which the new debt was substituted.
In addition, the holder’s holding period
for the new debt includes the holder’s
holding period for the old debt.
(2) Market discount.
(a) In general.If the stated re-
demption price at maturity of the new
debt (as determined under § 1.1273–1(b))
is greater than the holder’s basis (immedi-
ately after the substitution) in the new
debt, the holder treats the difference as
market discount on the new debt and the
new debt as a market discount bond (un-
less the amount of the discount is a de
minimis amount within the meaning of
§ 1278(a)(2)(C)). See§§ 1276 and 1278
for the treatment of market discount.
(The issue date of the old debt rather than
the issue date of the new debt is used to
determine whether the new debt is a
short-term obligation for purposes of
§ 1278(a)(1)(B)(i).) See section
4.04(2)(b) below for the treatment of any
accrued market discount on the old debt.
(b) Accrued market discount.The
rules in this section 4.04(2)(b) apply if, as
of the date of the substitution, there is any
accrued market discount on the old debt
that has not been taken into account by
the holder as ordinary income. If, under
section 4.04(2)(a) above, there is no mar-
ket discount on the new debt or the
amount of any market discount on the
new debt is a de minimis amount, the
amount of accrued market discount on the
new debt is zero, and the accrued market
discount on the old debt is ignored. If,
under section 4.04(2)(a) above, the
amount of market discount on the new
debt is more than a de minimis amount,
the lesser of this market discount and the
accrued market discount on the old debt is
treated by the holder, as of the date of the
substitution, as accrued market discount
on the new debt. (Solely for purposes of
determining the accruals of any additional
market discount on the new debt, the
holder’s basis is increased by the amount
of the accrued market discount on the old
debt that is treated as accrued market dis-
count on the new debt.)
(3) Bond premium.If the holder’s
basis in the new debt (immediately after
the substitution) is greater than the stated
redemption price at maturity of the new
debt (as determined under § 1.1273–1(b)),
the holder treats the difference as bond
premium on the new debt. See§§ 1.171–
1 through 1.171–5 for the treatment of
bond premium.
SECTION 5. EFFECTIVE PERIOD
This revenue procedure applies to sub-
stitutions that occur between March 1,
1999, and June 30, 2000.
SECTION 6. REQUEST FOR
COMMENTS
The Internal Revenue Service requests
comments on this revenue procedure, in-
cluding comments on whether this rev-
enue procedure should be made perma-
nent. Persons that wish to comment on
this revenue procedure may submit com-
ments by May 31, 1999, to: CC:DOM:
CORP:R (RP–102721–99), room 5226,
Internal Revenue Service, POB 7604, Ben
Franklin Station, Washington, DC 20044.
Submissions may be hand delivered be-
tween the hours of 8 a.m. and 5 p.m. to:
CC:DOM:CORP:R (RP–102721–99),
Courier’s Desk, Internal Revenue Ser-
vice, 1111 Constitution Avenue, NW,
Washington DC. Alternatively, com-
ments may be submitted via the Internet
by selecting the “Tax Regs” option of the
IRS Home Page or by submitting them di-
rectly to the IRS Internet site at
http://www.irs.ustreas.gov/prod/tax_regs/
comments.html. Comments will be avail-
able for public inspection.
SECTION 7. PAPERWORK
REDUCTION ACT
The collections of information con-
tained in this revenue procedure have
been reviewed and approved by the Of-
fice of Management and Budget (OMB)
in accordance with the Paperwork Reduc-
tion Act (44 U.S.C. 3507) under control
number 1545-1647.
An agency may not conduct or sponsor,
and a person is not required to respond to,
a collection of information unless the col-
lection of information displays a valid
OMB control number.
The collections of information in this
revenue procedure are in section 4.01.
This information is required to determine
whether a taxpayer has made the election
under this revenue procedure. The collec-
tions of information are required to obtain
a benefit. The likely respondents are
business or other for-profit institutions.
The estimated total annual reporting
and/or recordkeeping burden is 75 hours.
The estimated annual burden per re-
spondent/recordkeeper varies from 1/2
hour to 1 hour, depending on individual
circumstances, with an estimated average
of 3/4 hour. The estimated number of re-
spondents is 100.
The estimated annual frequency of re-
sponses is on occasion.
Books or records relating to a collec-
tion of information must be retained as
long as their contents may become mater-
ial 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.
CONTACT PERSON
For further information regarding this
revenue procedure, contact William E.
Blanchard of the Office of Assistant Chief
Counsel (Financial Institutions and Prod-
ucts) on (202) 622-3950 (not a toll free
call).

March 15, 1999101999–11 I.R.B.
Part IV. Items of General Interest
Notice of Proposed Rulemaking
and Notice of Public Hearing
Group Term Insurance;
Uniform Premiums
REG–209103–89
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemak-
ing and notice of public hearing.
SUMMARY: This document contains
proposed regulations that revise the uni-
form premium table used to calculate the
cost of group-term life insurance cover-
age provided to an employee by an em-
ployer. These proposed regulations pro-
vide guidance to employers who must use
the uniform premium table to calculate
the cost of group-term insurance includi-
ble in the gross income of their employ-
ees. This document also provides notice
of a public hearing on these proposed reg-
ulations.
DATES: Comments must be received by
April 13, 1999. Requests to speak and
outlines of topics to be discussed at the
public hearing scheduled for May 6,
1999, must be received by April 15,
1999. The IRS requests comments on the
clarity of the proposed rule and how it
may be made easier to read.
ADDRESSES: Send submissions to:
CC:DOM:CORP:R (REG–209103–89),
room 5228, Internal Revenue Service,
POB 7604, Ben Franklin Station, Wash-
ington, DC 20044. Submissions may be
hand delivered between the hours of 8
a.m. and 5 p.m. to CC:DOM:CORP:R
(REG–209103–89), Courier’s Desk, In-
ternal Revenue Service, 1111 Constitution
Avenue, NW, Washington, DC. Alterna-
tively, 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.
The public hearing will be held in Room
2615, Internal Revenue Building, 1111
Constitution Avenue NW, Washington,
DC.
FOR FURTHER INFORMATION CON-
TACT: Concerning the regulations, Betty
J. Clary, (202) 622-6070; concerning sub-
missions and the hearing, Michael
Slaughter, (202) 622-7190 (not toll-free
numbers).
SUPPLEMENTARY INFORMATION:
Background
This document contains proposed
amendments to the Income Tax Regula-
tions under section 79 of the Internal Rev-
enue Code. These proposed regulations
revise the uniform premium rates used to
calculate the cost of group-term life insur-
ance provided to employees. Section 79
generally permits an employee to exclude
from gross income the cost of $50,000 of
group-term life insurance coverage. The
remaining cost of the group-term life in-
surance is included in the employee’s
gross income to the extent it exceeds the
amount, if any, paid by the employee for
the coverage. The cost of the group-term
insurance is determined on the basis of
five-year age brackets prescribed by regu-
lations.
The uniform premiums are set forth in
the regulations in Table I entitled “Uni-
form Premiums for $1,000 of Group-term
Life Insurance Protection.” Section 1.79–
3(d)(2). A table was initially published on
July 6, 1966 (31 F.R. 9199), and the table
was revised on December 6, 1983 (48
F.R. 54595). The December 6, 1983 revi-
sion was made to reflect changes in mor-
tality since 1966, using 1975-1979 mor-
tality experience reported by the Society
of Actuaries. The December 6, 1983 revi-
sion extrapolated the reported mortality
experience to 1982, and reflected a re-
vised gender mix and load factor. For
years after 1988, new factors were added
to the table for ages above 64, pursuant to
section 5013 of the Technical and Miscel-
laneous Revenue Act of 1988. See 57
F.R. 33635 (July 30, 1992).
The IRS and Treasury have concluded
that the section 79 table should be revised
because there has been a significant im-
provement in mortality since the 1975-
1979 period (even after taking into ac-
count the projection to 1982). This
conclusion is based on information on the
group-term life mortality experience of 13
issuers covering the 1985-1989 period, as
compiled by the Society of Actuaries, as
well as other data on mortality trends.
The IRS and Treasury contemplate con-
tinuing to monitor future changes in mor-
tality experience and would expect to
update the section 79 table when a signifi-
cant change in the cost of group-term life
insurance is evidenced.
Summary of Regulations
These proposed regulations revise the
uniform premium table used to calculate
the cost of group-term life insurance cov-
erage provided to an employee by an em-
ployer. The proposed new table has been
developed based on mortality experience
for individuals covered by group-term life
insurance during the 1985-1989 period, as
reflected in a Society of Actuaries report.
The mortality rates were adjusted for im-
provements in mortality from 1988 (the
weighted midpoint for the data used in
the1985-89 study) through 2000, based
on the same rates of mortality improve-
ment that were adopted by the Society of
Actuaries Group Annuity Valuation Table
Task Force for the period 1988-1994.
Separate mortality rates were derived for
males and females, and the section 79
table reflects a 50/50 blend of the male
and female mortality rates. The resulting
mortality projections have been adjusted
to reflect a 10 percent load factor. The
uniform premium rates under the pro-
posed revision would be lower in all age
groups than the rates under the current
section 79 regulations.
Comments are requested regarding the
proposed premium rates.
Proposed Effective Date
These regulations are proposed to be
effective July 1, 1999. A special effective
date rule applies to any policy of life in-
surance issued under a plan in existence
before the proposed general July 1, 1999
effective date if the policy would not be
treated as carried directly or indirectly by
an employer under section 1.79–0 of the
Income Tax Regulations using the current
section 79 table. In this case, if the spe-
cial rule applies, the policy would con-
tinue to be treated as not carried directly

or indirectly by an employer until the first
plan year that begins after July 1, 1999.
Because income imputed under section
79 is generally subject to FICA tax which
is withheld from the employee’s pay, and
because the withholding often is applied
periodically from payrolls during the
year, many employers will need to modify
their payroll-based withholding systems
and related information collection proce-
dures before the effective date. The pro-
posed July 1, 1999 effective date is in-
tended to provide the benefits of having
the lower income inclusions take effect as
early as possible while avoiding the addi-
tional costs that would arise if employers
did not have adequate time to implement
the changes before the effective date
(which would necessitate special adjust-
ments to correct overwithholding that
would have occurred after the effective
date and before implementation of the
new table).
Comments are requested regarding the
proposed effective date.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a signifi-
cant regulatory action as defined in EO
12866. Therefore, a regulatory assess-
ment is not required. It also has been de-
termined that section 553(b) of the Ad-
ministrative Procedure Act (5 U.S.C.
chapter 5) does not apply to these regula-
tions and, because these 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 Busi-
ness Administration for comment on its
impact on small business.
Comment and Public Hearing
Before these proposed regulations are
adopted as final regulations, considera-
tion will be given to electronic and writ-
ten comments (a signed original and eight
(8) copies) that are timely submitted to
the IRS. The IRS and Treasury specifi-
cally request comments on the clarity of
the proposed regulations and how it may
be made easier to understand. All com-
ments will be available for public inspec-
tion and copying.
A public hearing has been scheduled for
Thursday, May 6, 1999, at 10:00 a.m. in
Room 2615, Internal Revenue Building,
1111 Constitution Avenue NW, Wash-
ington, DC. Due to building security pro-
cedures, visitors must enter the 10th Street
entrance, located between Constitution
and Pennsylvania Avenues, NW. In addi-
tion, all visitors must present photo identi-
fication to enter the building. Because of
access restrictions, visitors will not be ad-
mitted beyond the immediate entrance
area more than 15 minutes before the
hearing starts. For information about hav-
ing your name placed on the building ac-
cess list to attend the hearing, see the
“FOR FURTHER INFORMATION CON-
TACT” section of this preamble.
The rules of 26 CFR 601(a)(3) apply to
the hearing. Persons who wish to present
oral comments at the hearing must submit
written comments and an outline of the
topics to be discussed and the time de-
voted to each topic (a signed original and
eight (8) copies) by April 15, 1999.
A period of 10 minutes will be allotted
to each person for making comments.
An agenda showing the scheduling of
the speakers will be prepared after the
deadline for receiving outlines has
passed. Copies of the agenda will be
available free of charge at the hearing.
Drafting Information
The principal author of these regula-
tions is Betty J. Clary, Office of the Asso-
ciate Chief Counsel (Employee Benefits
and Exempt Organizations). However,
other personnel from the IRS and the
Treasury Department participated in their
development.
*****
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is pro-
posed to be amended as follows:
PART 1–INCOME TAXES
Paragraph 1. The authority citation for
part 1 continues to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
Par. 2. Section 1.79–3 is amended as
follows:
1. Paragraph (d)(2) is revised.
2. Paragraph (e) and (f) are redesig-
nated as paragraph (f) and (g) respec-
tively.
3. New paragraph (e) is added.
The revision and addition read as fol-
lows:
§1.79–3 Determination of amount equal
to cost of group-term life insurance.
* * * * *
(d) * * *
(2) For the cost of group-term life in-
surance provided after June 30, 1999, the
following table sets forth the cost of
$1,000 of group-term life insurance pro-
vided for one month, computed on the
basis of 5-year age brackets. See 26 CFR
1.79–3(d)(2) in effect prior to [DATE
FINAL REGULATIONS ARE EFFEC-
TIVE] and contained in the 26 CFR,
part1, edition revised as of April 1, 1998,
for a table setting forth the cost of group-
term life insurance provided before July
1, 1999. For purposes of Table I, the age
of the employee is the employee’s at-
tained age on the last day of the em-
ployee’s taxable year.
TABLE I. – UNIFORM PREMIUMS
FOR $1,000 OF GROUP-TERM LIFE
INSURANCE PROTECTION
5-year age bracketCost per $1,000
of protection for
one month
Under 25 . . . . . . . . . . . . . . . . . . . . $0.05
25 to 29 . . . . . . . . . . . . . . . . . . . ..06
30 to 34 . . . . . . . . . . . . . . . . . . . ..08
35 to 39 . . . . . . . . . . . . . . . . . . . ..09
40 to 44 . . . . . . . . . . . . . . . . . . . ..10
45 to 49 . . . . . . . . . . . . . . . . . . . ..15
50 to 54 . . . . . . . . . . . . . . . . . . . ..23
55 to 59 . . . . . . . . . . . . . . . . . . . ..43
60 to 64 . . . . . . . . . . . . . . . . . . . ..66
65 to 69 . . . . . . . . . . . . . . . . . . . . 1.27
70 and above . . . . . . . . . . . . . . . . 2.06
* * * * *
(e) Effective date—(1) General effec-
tive date for table.Except as provided in
paragraph (e)(2) of this section, the table
in paragraph (d)(2) of this section is effec-
tive July 1, 1999.
(2) Effective date for table for pur-
poses of section 1.79–0.A policy of life
insurance issued under a plan in existence
on June 30, 1999, which would not be
treated as carried directly or indirectly by
an employer under §1.79–0, taking into
1999–11 I.R.B.11March 15, 1999

account the Table I in effect on that date,
shall continue to be treated as a policy
that is not carried directly or indirectly by
the employer until the first plan year be-
ginning after the general effective date in
paragraph (e)(1) of this section.
* * * * *
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
(Filed by the Office of the Federal Register on Janu-
ary 12, 1999, 8:45 a.m., and published in the issue of
the Federal Register for January 13, 1999, 64 F.R.
2164)
Notice of Proposed Rulemaking
and Notice of Public Hearing
Recharacterizing Financing
Arrangements Involving
Fast-Pay Stock
REG–104072–97
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemak-
ing and notice of public hearing.
SUMMARY: This document contains
proposed regulations that recharacterize,
for tax purposes, financing arrangements
involving fast-pay stock. The regulations
are necessary to prevent taxpayers from
using fast-pay stock to achieve inappro-
priate tax avoidance. The regulations af-
fect corporations that issue fast-pay stock,
holders of fast-pay stock, and other share-
holders that may claim tax benefits pur-
ported to result from arrangements in-
volving fast-pay stock. This document
also provides notice of a public hearing
on the proposed regulations.
DATES: Written comments must be re-
ceived by April 6, 1999. Outlines of top-
ics to be discussed at the public hearing
scheduled for April 8, 1999, at 10 a.m.
must be received by March 18, 1999.
ADDRESSES: Send submissions: to
CC:DOM:CORP:R (REG–104072–97),
room 5226, Internal Revenue Service,
POB 7604, Ben Franklin Station, Wash-
ington, DC 20044. Submissions may be
hand delivered Monday through Friday
between the hours of 8 a.m. and 5 p.m. to:
CC:DOM:CORP:R (REG–104072–97),
Courier’s Desk, Internal Revenue Ser-
vice, 1111 Constitution Avenue, NW,
Washington, DC. Alternatively, taxpayers
may submit comments via the Internet by
selecting the “Tax Regs” option of the
IRS Home Page or by submitting them di-
rectly to the IRS Internet site at
http://www.irs.ustreas.gov/prod/tax_regs/
comments.html. The public hearing will
be held in room 2615, 1111 Constitution
Avenue, NW, Washington, DC.
FOR FURTHER INFORMATION CON-
TACT: Concerning the proposed regula-
tions, Jonathan Zelnik at (202) 622-3940;
concerning submissions of comments, the
hearing, and/or to be placed on the build-
ing access list to attend the hearing,
LaNita VanDyke at (202) 622-7190 (not
toll-free numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information con-
tained in this notice of proposed rulemak-
ing has been submitted to the Office of
Management and Budgetfor review in
accordance with the Paperwork Reduc-
tion Act of 1995 (44 U.S.C. 3507(d)).
Comments on the collection of informa-
tion should be sent to the Office of Man-
agement and Budget, Attn: Desk Officer
for the Department of the Treasury, Office
of Information and Regulatory Affairs,
Washington, DC 20503, with copies to
the Internal Revenue Service,Attn: IRS
Reports Clearance Officer, OP:FS:FP,
Washington, DC 20224. Comments on
the collection of information should be re-
ceived by March 8, 1999. Comments are
specifically requested concerning:
Whether the proposed collection of in-
formation is necessary for the proper per-
formance of the functions of the Internal
Revenue Service, including whether the
collection will have a practical utility;
The accuracy of the estimated burden
associated with the proposed collection of
information (see below);
How the quality, utility, and clarity of
the information to be collected may be
enhanced;
How the burden of complying with the
proposed collection of information may
be minimized, including through the ap-
plication of automated collection tech-
niques or other forms of information tech-
nology; and
Estimates of capital or start-up costs and
costs of operation, maintenance, and pur-
chase of services to provide information.
The collection of information is in
§1.7701(l)–3(f) and §1.7701(l)–3(g). The
collection of information is mandatory.
The likely respondents are individuals,
businesses, and other organizations.
Estimated total annual burden: 50 hours
Estimated average annual burden per re-
spondent: 1 hour
Estimated number of respondents: 50
Estimated annual frequency of responses:
Annually
An agency may not conduct or sponsor,
and a person is not required to respond to,
a collection of information unless the col-
lection of information displays a valid
control number assigned by the Office of
Management and Budget.
Books or records relating to a collec-
tion of information must be retained as
long as their contents may become mater-
ial in the administration of any internal
revenue law. Generally, tax returns and
tax information are confidential, as re-
quired by 26 U.S.C. 6103.
Background
On February 27, 1997, the IRS issued
Notice 97–21, 1997–1 C.B. 407, which
relates to financing arrangements involv-
ing fast-pay stock. Among other things,
the notice informs the public that the IRS
and Treasury Department expect to issue
regulations recharacterizing these
arrangements to prevent tax avoidance.
Notice 97–21 requested comments, but
none have been received.
Explanation of Provisions
A. TAX-AVOIDANCE
ARRANGEMENTS USING
FAST-PAY STOCK
Notice 97–21 addresses two-party fi-
nancing arrangements that are structured
as multi-party arrangements to let one or
more of the parties avoid tax. Instead of
one party directly providing financing to
the other, they both acquire stock (with
different characteristics) in a conduit en-
March 15, 1999121999–11 I.R.B.

tity. The arrangement is structured so that
the party providing the financing has a de-
creasing claim on the conduit entity (and
its assets) while the party receiving the fi-
nancing has an increasing claim on the
conduit entity (and its assets). Economi-
cally, both parties benefit from the con-
duit entity’s income. For tax purposes,
however, the entity’s income is allocated
almost entirely to the party providing the
financing, allowing the other party to
claim unwarranted tax benefits.
Notice 97–21 describes in detail a typi-
cal fast-pay stock financing arrangement.
The parties to the arrangement include:
(1) a person seeking financing (the spon-
sor), (2) investors who are willing to pro-
vide financing and typically are not sub-
ject to federal income tax (the investors),
and (3) a corporation that is generally
subject to tax only at the shareholder level
(a conduit entity). The conduit entity is-
sues a class of self-amortizing stock (the
fast-pay stock) to the investors and a class
of other stock (the benefited stock) to the
sponsor. The fast-pay stock is structured
so that during an initial period, the divi-
dends made with respect to the stock are
substantial and relatively certain while the
dividends made with respect to the bene-
fited stock are insignificant. After the ini-
tial period, the dividend rate of the fast-
pay stock, the stock’s effective
redemption value, or both, decline.
Economically, the fast-pay stock is
self-amortizing because the distributions
made with respect to the fast-pay stock
are in part a return on the investors’ invest-
ment and in part a return of their invest-
ment. For tax purposes, however, the par-
ties characterize the fast-pay stock
distributions entirely as dividends (that is,
entirely as a return on the investment).
Consequently, the investors’ reported tax-
able income—overstated dividend income
followed by an overstated capital loss on
disposition of the fast-pay stock— fails to
clearly reflect their economic income.
(Investors that are tax-exempt suffer no
disadvantage from this arrangement.)
Characterizing the distributions made
with respect to the fast-pay stock solely as
dividends has the corresponding effect of
understating the taxable income on the
benefited stock (the stock held by the
sponsor) during the initial period. Instead
of receiving dividends attributable to its
share of the conduit entity’s income, the
sponsor’s economic income takes the form
of an increasing ownership interest in the
conduit entity. Because the fast-pay stock
is economically self-amortizing, each dis-
tribution reduces the investors’ claim on
the conduit entity (and its assets) and in-
creases the sponsor’s claim. By treating a
fast-pay arrangement according to its
form, the sponsor reports taxable income
that fails to clearly reflect its economic in-
come. An individual sponsor, for exam-
ple, reports little or no dividend income.
Instead, the individual reports gain on dis-
posing of its benefited stock; thus, defer-
ring tax on its economic income and con-
verting that income from ordinary to
capital. A corporate sponsor not only re-
ports little or no dividend income, but can
avoid reporting gain on the disposition of
its benefited stock, thereby entirely elimi-
nating tax on its economic income. (If a
corporate sponsor has a sufficient interest
in the conduit entity, the sponsor may suc-
ceed to the conduit entity’s assets tax-free
by liquidating or reorganizing the conduit
entity; thus, avoiding a taxable disposition
of the benefited stock).
In substance, the investors (the fast-pay
shareholders) are financing the sponsor’s
investment in the conduit entity. Al-
though nominally shareholders in the con-
duit entity, the investors have a limited,
diminishing claim to the entity (and its as-
sets). The sponsor’s claim, by contrast, is
residual and long-term. Thus, a fast-pay
arrangement is effectively a leveraged
arrangement in which the sponsor uses
untaxed income from the conduit entity to
repay the investors.
B. THE PROPOSED REGULATIONS
1. In General
To prevent the avoidance of tax, the
Secretary may issue regulations under
section 7701(l) recharacterizing any mul-
tiple-party financing transaction as a
transaction directly among any two or
more of the parties. The proposed regula-
tions exercise this authority by recharac-
terizing certain fast-pay arrangements. A
fast-pay arrangement is any financing
arrangement in which a corporation has
outstanding two or more classes of stock,
one of which is fast-pay stock. The regu-
lations identify fast-pay arrangements and
recharacterize certain of them as arrange-
ments directly between the holders of the
fast-pay stock and the other shareholders
(the benefited shareholders) in the corpo-
ration. The regulations also impose re-
porting requirements on certain corpora-
tions with outstanding fast-pay stock and
on certain shareholders that participate in
fast-pay arrangements. These reporting
requirements apply to all fast-pay
arrangements, whether or not they are
subject to recharacterization.
Notice 97–21 describes specific models
for recharacterizing fast-pay arrange-
ments. For purposes of determining the
income of the shareholders of a corpora-
tion with outstanding fast-pay stock, these
models ignore the separate existence of
the corporation and treat the fast-pay
shareholders and benefited shareholders
as owning the corporation’s underlying
assets. Although this approach prevents
tax avoidance, the IRS and Treasury De-
partment have concluded that it may not
best reflect the financing relationship be-
tween the fast-pay shareholders and the
benefited shareholders. In addition, the
approach of the notice may be difficult for
taxpayers to apply if the corporation has a
complex capital structure, multiple assets
(including active businesses), or both.
To address these concerns, the proposed
regulations treat the fast-pay shareholders
as acquiring instruments issued by the ben-
efited shareholders instead of acquiring in-
terests in the assets of the corporation.
This approach better reflects the financing
relationship between the fast-pay share-
holders and the benefited shareholders. It
also removes the burden of determining
each party’s ownership interest in the as-
sets of the corporation. Thus, the regula-
tions provide an approach that is easier to
apply and more narrowly tailored than the
models described in Notice 97–21.
2. Fast-Pay Stock and Benefited Stock
Under the proposed regulations, stock
is fast-pay stock if it is structured to pro-
vide for dividends that economically rep-
resent a return (in whole or in part) of the
holder’s investment rather than only a re-
turn on the holder’s investment. Stock is
presumed to be fast-pay stock if it has, by
design, a dividend rate that is reasonably
expected to decline, or an issue price that
exceeds the amount at which the holder
can be compelled to dispose of the stock.
A taxpayer may rebut these presumptions
1999–11 I.R.B.13March 15, 1999

only by clearly showing that no dividend
represents an economic return (in whole
or in part) of the holder’s investment.
Generally, whether stock is fast-pay
stock must be determined based on all the
facts and circumstances, including any re-
lated agreements such as options or for-
ward contracts. A related agreement is
any direct or indirect, oral or written,
agreement between the holder of the stock
and the issuing corporation, or between
the holder of the stock and one or more
other shareholders in the corporation.
The determination that stock is fast-pay
stock is made when the stock is issued,
and whenever there is a significant modi-
fication in the terms of the stock or the re-
lated agreements, or a significant change
in the relevant facts and circumstances.
The proposed regulations define bene-
fited stock by reference to fast-pay stock.
With respect to a class of fast-pay stock,
all other stock in the corporation (includ-
ing any other class of fast-pay stock) is
benefited stock. For fast-pay arrange-
ments in which there is more than one
class of benefited stock, the parties must
apply the general recharacterization rules
among the different classes as appropriate
to match the arrangement’s economic sub-
stance.
3. Fast-Pay Arrangements Subject to
Recharacterization
Under the proposed regulations, if the
corporation with outstanding fast-pay
stock is either a regulated investment
company (RIC) or a real estate investment
trust (REIT), the fast-pay arrangement is
automatically recharacterized. If the cor-
poration is neither a RIC nor a REIT, the
Commissioner may (at the Commis-
sioner’s discretion) recharacterize the
fast-pay arrangement in cases where the
Commissioner determines that a principal
purpose for the structure of the fast-pay
arrangement is the avoidance of tax. This
rule applies to all parties to a fast-pay
arrangement, without regard to whether
such parties acquired their interests as
part of an initial offering or later (by pur-
chase or other transfer).
By not automatically recharacterizing
all fast-pay arrangements, the regulations
prevent taxpayers from using the rechar-
acterization rules for other tax avoidance
purposes. For example, shareholders of a
controlled foreign corporation cannot cir-
cumvent the purposes of United States tax
law (including treaties) by using the
recharacterization rules to exploit incon-
sistencies between the treatment of a fast-
pay arrangement by the United States and
foreign jurisdictions. It is expected that
the Commissioner will closely scrutinize
fast-pay arrangements in which the corpo-
ration with outstanding fast-pay stock is a
foreign corporation.
4. Model for Recharacterizing Fast-Pay
Arrangements
a. In General
The proposed regulations treat the fast-
pay shareholders as holding financing in-
struments issued by the benefited share-
holders rather than as holding fast-pay
stock in the corporation. The corporation
is the paying agent on the financing in-
struments but has no other relationship to
the fast-pay shareholders.
Under the proposed regulations, the fi-
nancing instruments have the same pay-
ment terms as the fast-pay stock. The
timing and amount of payments made
with respect to the financing instruments,
therefore, match the timing and amount of
distributions made with respect to the
fast-pay stock. Nothing in the regulations
characterizes the financing instruments.
The character of the financing instru-
ments (for example, stock or debt) must
be determined under general tax princi-
ples and depends on all the facts and cir-
cumstances.
The benefited shareholders are treated
as first issuing the financing instruments
in exchange for cash equal to the fair mar-
ket value of the fast-pay stock (taking into
account any related agreements), and then
as contributing the cash to the corporation
(thereby increasing their basis in the ben-
efited stock). Distributions made with re-
spect to the fast-pay stock are treated as
first made with respect to the benefited
stock, and then as used by the benefited
shareholders to make payments on the fi-
nancing instruments.
b. Rule for Multiple Classes of Benefited
Stock
The proposed regulations do not de-
scribe detailed rules for fast-pay arrange-
ments in which there is more than one
class of benefited shareholders. Instead,
as mentioned before, the regulations pro-
vide a general rule that requires recharac-
terization among the different classes as
appropriate to match the economic sub-
stance of the fast-pay arrangement.
c. Rules for Disposition of Benefited
Stock
The proposed regulations provide spe-
cial rules for dispositions of benefited
stock. On the sale of benefited stock, in
addition to any consideration actually re-
ceived, the seller is treated as receiving
the amount necessary to terminate its po-
sition with respect to the financing instru-
ments at fair market value. Similarly, the
buyer is treated as paying that amount and
as issuing new financing instruments to
the fast-pay shareholders.
d. Rule Preserving Pre-effective Date
Gain
The proposed regulations provide a
special basis adjustment rule to ensure
that unrealized gain on benefited stock is
not inappropriately eliminated. Because
the regulations do not apply to amounts
accrued or paid in taxable years ending
before February 27, 1997 (pre-effective
years), a benefited shareholder will have
economic income, but not taxable in-
come, attributable to pre-effective years if
the form of a fast-pay arrangement is re-
spected for those years. This economic
income is reflected as unrealized gain in
the benefited stock.
Absent a special basis adjustment rule,
the general recharacterization rule would
eliminate this unrealized gain. Although
the regulations do not apply to amounts
accrued or paid in pre-effective years, the
regulations recharacterize fast-pay
arrangements from their inception. Thus,
in cases in which the fast-pay arrange-
ment was entered into in a pre-effective
year, the general recharacterization rule
increases a benefited shareholder’s basis
in its stock as of the inception of the trans-
action, even though the regulations do not
require the benefited shareholder to in-
clude deemed dividend distributions at-
tributable to the pre-effective years. Con-
sequently, this increase in basis without
corresponding dividend income elimi-
nates the unrealized gain from the pre-ef-
fective years.
March 15, 1999141999–11 I.R.B.

To preserve the unrealized gain result-
ing from the economic income attribut-
able to pre-effective years, the proposed
regulations provide a special basis adjust-
ment rule. After taking into account any
basis increase under the general rule, a
benefited shareholder must decrease its
basis in its benefited stock by the amount
(if any) that (1) its taxable income attrib-
utable to the fast-pay arrangement for pre-
effective years, computed by recharacter-
izing the fast-pay arrangement under the
regulations, exceeds (2) its taxable in-
come attributable to the fast-pay arrange-
ment for pre-effective years, computed
without applying the recharacterization
rules of the regulations. In this way, a
benefited shareholder’s economic income
attributable to taxable years before the ef-
fective date of the regulations is not elim-
inated by the basis provisions of the gen-
eral recharacterization rules and may be
realized when the benefited shareholder
disposes of its benefited stock.
e. Rule Prohibiting the Affirmative Use
of These Regulations to Avoid Tax
Imposed by the Code
The proposed regulations prohibit a
taxpayer from affirmatively using the au-
tomatic recharacterization rules if a prin-
cipal purpose for using such rules is the
avoidance of any tax imposed by the
Code. With respect to such a taxpayer,
the Commissioner may depart from the
automatic recharacterization rules and
treat (for all purposes of the Code) the
fast-pay arrangement in accordance with
its form or its economic substance. This
anti-abuse rule applies on a taxpayer-by-
taxpayer basis. For example, if a foreign
person acquires fast-pay stock in a REIT
and a principal purpose for acquiring such
stock is to reduce United States withhold-
ing taxes by applying the automatic
recharacterization rules, the Commis-
sioner may, for purposes of determining
the foreign person’s United States tax
consequences (namely, withholding tax),
depart from the automatic recharacteriza-
tion rules and treat the foreign person as
holding fast-pay stock in the REIT.
5. Withholding
A corporation that issues fast-pay stock
is a withholding agent for payments made
(or deemed made) under a fast-pay
arrangement. Generally, if a fast-pay
arrangement is recharacterized under the
automatic recharacterization rules, a with-
holding agent must withhold in accor-
dance with the transaction as recharacter-
ized. A different rule applies, however, if
the withholding agent knows or has rea-
son to know that any taxpayer entered
into the fast-pay arrangement with a prin-
cipal purpose of using the recharacteriza-
tion rules to avoid tax under section
871(a) or section 881. In that case, for
each payment made (or deemed made) to
such taxpayer under the arrangement, the
withholding agent must withhold under
section 1441 or section 1442 the higher of
(1) the amount of withholding that applies
to such payment determined under the
form of the arrangement, or (2) the
amount of withholding that applies to
such payment determined under the auto-
matic recharacterization rules. Also,
when the withholding agent knows or has
reason to know that the Commissioner
has exercised the discretion to depart
from the automatic recharacterization
rules for a taxpayer, the withholding agent
must withhold on payments made (or
deemed made) to that taxpayer in accor-
dance with the characterization of the
fast-pay arrangement imposed by the
Commissioner.
The withholding agent’s liability to
withhold on payments to foreign individ-
uals is described in new proposed
§1.1441–7(g). The same rules apply to
payments (or deemed payments) to for-
eign corporations under §1.1442–1.
6. Reporting Requirements
In general, a corporation that has fast-
pay stock outstanding at any time during
the taxable year must attach a statement to
its federal income tax return. This rule
does not apply to a corporation that is a
controlled foreign corporation (CFC) as
defined in section 957, a foreign personal
holding company (FPHC) as defined in
section 552, or a passive foreign invest-
ment company (PFIC) as defined in sec-
tion 1297. Instead, certain shareholders
(and officers and directors of FPHCs) of
those corporations must attach a state-
ment to their returns.
The statement must identify the corpo-
ration that has outstanding fast-pay stock
and must recite the terms of the fast-pay
stock and the date on which the fast-pay
stock was issued. In addition, to the ex-
tent the filing person knows or has reason
to know such information, the statement
must contain the names and the taxpayer
identification numbers of the shareholders
of any class of stock that is not traded on
an established securities market as de-
scribed in §1.7704-1(b).
7. Election to Limit Taxable Income
Attributable to a Recharacterized
Fast-Pay Arrangement for Taxable
Years Ending After February 26,
1997, and Before the Date These
Regulations Are Published as Final
Regulations in the Federal Register.
The regulations are proposed to be ef-
fective February 27, 1997, and to cover
all taxable years ending after February 26,
1997. Thus, the regulations will apply to
all amounts accrued or paid on or after the
first day of the first taxable year ending
after February 26, 1997.
Because the proposed effective date re-
lates to the date Notice 97–21 was issued
to the public, and because the regulations
adopt different recharacterization rules
from the ones described in the notice, the
regulations permit a shareholder of a
recharacterized fast-pay arrangement to
limit its taxable income attributable to the
arrangement for certain taxable years.
Specifically, for taxable years ending
after February 26, 1997, and before the
date these regulations are finalized, a
shareholder may limit its taxable income
attributable to a fast-pay arrangement
recharacterized under the regulations, to
the taxable income that would result if the
fast-pay arrangement were recharacter-
ized under Notice 97–21. Any amount
excluded under the limit must be included
as an adjustment to taxable income in the
shareholder’s first taxable year that in-
cludes the date the regulations are final-
ized. Under the regulations, a shareholder
that has elected to apply the limit must in-
clude a statement in its books and records
identifying each fast-pay arrangement for
which the election was made, and the
amount excluded from taxable income
under the election for each fast-pay
arrangement.
Shareholders who take advantage of
the limit enjoy only a deferral of taxable
1999–11 I.R.B.15March 15, 1999

income: Any amount excluded under the
limit is later included as an adjustment.
Thus, the sole benefit of making the elec-
tion is a timing difference. This result is
appropriate because over the life of a fast-
pay arrangement a shareholder has the
same amount of taxable income whether
the fast-pay arrangement is recharacter-
ized under Notice 97–21 or under the reg-
ulations. The IRS and Treasury Depart-
ment invite comments concerning the
limit and whether there are fast-pay
arrangements in which any difference be-
tween a shareholder’s taxable income de-
termined under Notice 97–21 and the
shareholder’s taxable income determined
under the regulations is other than a tim-
ing difference.
Notice 97–21 describes two types of
fast-pay arrangements. Hence, calculat-
ing the limit requires appropriately
recharacterizing the fast-pay arrangement
under the notice. In the first type of fast-
pay arrangement that the notice describes,
the corporation with outstanding fast-pay
stock holds income-producing assets is-
sued by a third party. Notice 97–21 treats
the benefited shareholders (one of which
is called the “sponsor” in the notice) as
acquiring the assets of the corporation di-
rectly from the sellers of those assets.
The notice treats the fast-pay shareholders
(called “investors” in the notice) as ac-
quiring the assets of the corporation either
from the sellers of those assets or from the
benefited shareholders in an income
“stripping” transaction. Thus, both the
fast-pay shareholders and benefited share-
holders are regarded as owning directly
the corporation’s assets.
In the second type of fast-pay arrange-
ment that Notice 97–21 describes, the
corporation with outstanding fast-pay
stock holds a debt instrument issued by
the sponsor (a benefited shareholder). In
this situation, the notice treats the sponsor
as having issued one or more instruments
directly to the holders of the fast-pay
stock. Thus, for purposes of determining
the sponsor’s taxable income, the spon-
sor’s obligation under any asset held by
the corporation is ignored.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a signifi-
cant regulatory action as defined in E.O.
12866. Therefore, a regulatory assess-
ment is not required. It is hereby certified
that these regulations will not have a sig-
nificant economic impact on a substantial
number of small entities. This certifica-
tion is based on the understanding of the
IRS and Treasury Department that the
total number of fast-pay arrangements is
fewer than 100, that the number of enti-
ties engaging in transactions affected by
these regulations is not substantial and, of
those entities, few or none are small enti-
ties within the meaning of the Regulatory
Flexibility Act (5 U.S.C. chapter 6).
Therefore, a Regulatory Flexibility
Analysis is not required. Pursuant to sec-
tion 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 Admin-
istration for comments on its impact on
small businesses.
Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, considera-
tion will be given to any written com-
ments (a signed original and eight (8)
copies) that are submitted timely to the
IRS. All comments will be available for
public inspection and copying. The IRS
and Treasury Department specifically re-
quest comments on the clarity of the pro-
posed rule and how it may be made easier
to understand.
A public hearing has been scheduled
for April 8, 1999, beginning at 10 a.m. in
room 2615 of the Internal Revenue
Building, 1111 Constitution Avenue, NW,
Washington, DC. Due to building secu-
rity procedures, visitors must enter at the
10th Street entrance, located between
Constitution and Pennsylvania Avenues,
NW. In addition, all visitors must present
photo identification to enter the building.
Because of access restrictions, visitors
will not be admitted beyond the immedi-
ate entrance area more than 15 minutes
before the hearing starts. For informa-
tion about having your name placed on
the building access list to attend the hear-
ing, see the “FOR FURTHER INFOR-
MATION CONTACT” section of this
preamble.
The rules of 26 CFR 601.601(a)(3)
apply to the hearing. Persons that wish to
present oral comments at the hearing must
submit written comments by April 6,
1999, and submit an outline of the topics
to be discussed and the time to be devoted
to each topic (a signed original and eight
(8) copies) by March 18, 1999.
A period of 10 minutes will be allotted
to each person for making comments.
An agenda showing the scheduling of
the speakers will be prepared after the
deadline for receiving outlines has
passed. Copies of the agenda will be
available free of charge at the hearing.
Proposed Effective Date
These regulations are proposed to be
effective February 27, 1997, and apply to
taxable years ending after February 26,
1997. Thus, all amounts accrued or paid
on or after the first day of the first taxable
year ending after February 26, 1997, will
be subject to the regulations, regardless of
when a particular share of the stock or a
particular debt instrument was issued.
The statement required under
§1.7701(l)–3(f) is proposed to apply to
taxable years (of the taxpayer required to
file the statement) ending after the date
the regulations are published as final reg-
ulations in the Federal Register.
Drafting Information
The principal authors of these regula-
tions are Jonathan Zelnik and Marshall
Feiring of the Office of the Assistant
Chief Counsel (Financial Institutions &
Products). However, other personnel
from the IRS and Treasury Department
participated in their development.
*****
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is pro-
posed 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 * * *
Section 1.7701(l)–3 also issued under
26 U.S.C. 7701(l). * * *
Par. 2. Section 1.1441–7 is amended as
follows:
March 15, 1999161999–11 I.R.B.

1. Paragraph (g) is redesignated as
paragraph (h) and is revised.
2. New paragraph (g) is added.
The addition and revision read as fol-
lows:
§1.1441–7 General provisions relating
to withholding agents.
* * * * *
(g) Fast-pay arrangements—(1) In
general.A corporation that issues fast-
pay stock in a fast-pay arrangement de-
scribed in §1.7701(l)–3(b)(1) is a with-
holding agent with respect to fast-pay
dividends paid under the arrangement and
any deemed payments with respect to the
arrangement under the recharacterization
rules of §1.7701(l)–3(c). Except as pro-
vided in this paragraph (g)(1) or in para-
graph (g)(2) of this section, the withhold-
ing tax rules under section 1441 and
section 1442 apply with respect to a fast-
pay arrangement described in §1.7701(l)–
3(c)(1)(i) in accordance with the rechar-
acterization rules provided in §1.7701(l)–
3(c). In all cases, notwithstanding para-
graph (g)(2) of this section, if at any time
the withholding agent knows or has rea-
son to know that the Commissioner has
exercised the discretion under
§1.7701(l)–3(d) to depart from the rechar-
acterization rules of §1.7701(l)–3(c) for a
taxpayer, the withholding agent must
withhold on payments made (or deemed
made) to that taxpayer in accordance with
the characterization of the fast-pay
arrangement imposed by the Commis-
sioner under §1.7701(l)–3(d).
(2) Exception. If at any time the with-
holding agent knows or has reason to
know that any taxpayer entered into a
fast-pay arrangement with a principal pur-
pose of applying the recharacterization
rules of §1.7701(l)–3(c) to avoid tax
under section 871(a) or section 881, then
for each payment made or deemed made
to such taxpayer under the arrangement,
the withholding agent must withhold,
under section 1441 or section 1442, the
higher of—
(i) The amount of withholding that
would apply to such payment determined
under the form of the arrangement; or
(ii) The amount of withholding that
would apply to deemed payments deter-
mined under the recharacterization rules
of §1.7701(l)–3(c).
(3) Liability.Any person required to
deduct and withhold tax under this para-
graph (g) is made liable for that tax by
section 1461, and is also liable for applic-
able penalties and interest for failing to
comply with section 1461.
(4) Examples.The following examples
illustrate the rules of this paragraph (g):
Example 1.REIT W issues shares of fast-pay
stock to foreign individual A, a resident of Country
C. United States source dividends paid to residents
of C are subject to a 30 percent withholding tax. W
issues all shares of benefited stock to foreign indi-
viduals who are residents of Country D. D’s income
tax convention with the United States reduces the
United States withholding tax on dividends to 15
percent. Under §1.7701(l)–3(c), the dividends paid
by W to A are deemed to be paid by W to the bene-
fited shareholders. W has reason to know that A en-
tered into the fast-pay arrangement with a principal
purpose of using the recharacterization rules of
§1.7701(l)–3(c) to reduce United States withholding
tax. W must withhold at the 30 percent rate on the
dividends deemed paid to its benefited shareholders
because the amount of withholding that applies to
such payments determined under the form of the
arrangement is higher than the amount of withhold-
ing that applies to such payments determined under
§1.7701(l)–3(c).
Example 2.The facts are the same as in Example
1of this paragraph (g)(4) except that W does not
know, or have reason to know, that A entered the
arrangement with a principal purpose of using the
recharacterization rules of §1.7701(l)–3(c) to reduce
United States withholding tax. Further, the Com-
missioner has not exercised the discretion under
§1.7701(l)–3(d) to depart from the recharacteriza-
tion rules of §1.7701(l)–3(c). Accordingly, W must
withhold tax at a 15 percent rate on the dividends
deemed paid to the benefited shareholders.
(5) Effective date. This paragraph (g)
applies to payments made (or deemed
made) on or after January 6, 1999.
(h) Effective date.Except as otherwise
provided in paragraph (f)(3) or (g)(5) of
this section, this section applies to pay-
ments made after December 31, 1999.
Par. 3. Section 1.7701(l)–3 is added to
read as follows:
§1.7701(l)–3 Recharacterizing financing
arrangements involving fast-pay stock.
(a) Purpose and scope.This section is
intended to prevent the avoidance of tax
by persons participating in fast-pay ar-
rangements (as defined in paragraph (b)(1)
of this section) and should be interpreted
in a manner consistent with this purpose.
This section applies to all fast-pay
arrangements. Paragraph (c) of this sec-
tion recharacterizes certain fast-pay
arrangements to ensure the participants are
taxed in a manner reflecting the economic
substance of the arrangements. Paragraph
(f) of this section imposes reporting re-
quirements on certain participants.
(b) Definitions—(1) Fast-pay arrange-
ment. A fast-pay arrangement is any
arrangement in which a corporation has
outstanding for any part of its taxable year
two or more classes of stock, at least one
of which is fast-pay stock.
(2) Fast-pay stock—(i) Defined.Stock
is fast-pay stock if it is structured so that
dividends (as defined in section 316) paid
by the corporation with respect to the
stock are economically (in whole or in
part) a return of the holder’s investment
(as opposed to only a return on the
holder’s investment). Unless clearly
demonstrated otherwise, stock is pre-
sumed to be fast-pay stock if—
(A) It is structured to have a dividend
rate that is reasonably expected to decline
(as opposed to a dividend rate that is rea-
sonably expected to fluctuate or remain
constant); or
(B) It is issued for an amount that ex-
ceeds (by more than a de minimis amount,
as determined under the principles of
§1.1273–1(d)) the amount at which the
holder can be compelled to dispose of the
stock.
(ii) Determination. The determination
of whether stock is fast-pay stock is based
on all the facts and circumstances, includ-
ing any related agreements such as op-
tions or forward contracts. A related
agreement is any direct or indirect agree-
ment or understanding, oral or written,
between the holder of the stock and the is-
suing corporation, or between the holder
of the stock and one or more other share-
holders in the corporation. The determi-
nation is made when the stock is issued
and whenever there is a significant modi-
fication in the terms of the stock or the re-
lated agreements, or a significant change
in the relevant facts and circumstances.
(3) Benefited stock defined. With re-
spect to a class of fast-pay stock, all other
stock in the corporation (including any
other class of fast-pay stock) is benefited
stock.
(c) Recharacterization of certain fast-
pay arrangements—(1) Scope.This para-
graph (c) applies to any fast-pay arrange-
ment—
1999–11 I.R.B.17March 15, 1999

(i) In which the corporation that has
outstanding fast-pay stock is a regulated
investment company (RIC) (as defined in
section 851) or a real estate investment
trust (REIT) (as defined in section 856);
or
(ii) If the Commissioner determines
that a principal purpose for the structure
of the fast-pay arrangement is the avoid-
ance of any tax imposed by the Code.
Application of this paragraph (c)(1)(ii) is
at the Commissioner’s discretion, and a
determination under this paragraph
(c)(1)(ii) applies to all parties to the fast-
pay arrangement, including transferees.
(2) Recharacterization. A fast-pay
arrangement described in paragraph (c)(1)
of this section is recharacterized as an
arrangement directly between the bene-
fited shareholders and the fast-pay share-
holders. The inception and resulting rela-
tionships of the recharacterized
arrangement are deemed to be as follows:
(i) Relationship between benefited
shareholders and fast-pay shareholders.
The benefited shareholders issue financial
instruments (the financing instruments)
directly to the fast-pay shareholders in ex-
change for cash equal to the fair market
value of the fast-pay stock at the time of
issuance (taking into account any related
agreements). The financing instruments
have the same payment terms as the fast-
pay stock. Thus, the timing and amount
of the payments made with respect to the
financing instruments always match the
timing and amount of the distributions
made with respect to the fast-pay stock.
(ii) Relationship between benefited
shareholders and corporation. The bene-
fited shareholders contribute to the corpo-
ration the cash they receive for issuing the
financing instruments. Distributions
made with respect to the fast-pay stock
are distributions made by the corporation
with respect to the benefited sharehold-
ers’ benefited stock.
(iii) Relationship between fast-pay
shareholders and corporation.For pur-
poses of determining the relationship be-
tween the fast-pay shareholders and the
corporation, the fast- pay stock is ignored.
The corporation is the paying agent of the
benefited shareholders with respect to the
financing instruments.
(3) Other rules—(i) Character of the
financing instruments.The character of a
financing instrument (for example, stock
or debt) is determined under general tax
principles and depends on all the facts and
circumstances.
(ii) Multiple classes of benefited stock.
If there is more than one class of bene-
fited stock, the recharacterization rules of
this paragraph (c) apply among the differ-
ent classes as appropriate to match the
economic substance of the fast-pay
arrangement.
(iii) Sale of benefited stock.If one per-
son sells benefited stock to another—
(A) In addition to any consideration ac-
tually paid and received for the benefited
stock, the buyer is deemed to pay and the
seller is deemed to receive the amount
necessary to terminate the seller’s posi-
tion in the financing instruments at fair
market value; and
(B) The buyer is deemed to issue fi-
nancing instruments to the fast-pay share-
holders in exchange for the amount neces-
sary to terminate the seller’s position in
the financing instruments.
(iv) Adjustment to basis for amounts
accrued or paid in taxable years ending
before February 27, 1997. In the case of
a fast-pay arrangement involving amounts
accrued or paid in taxable years ending
before February 27, 1997, and recharac-
terized under this paragraph (c), a bene-
fited shareholder must decrease its basis
in any benefited stock (as determined
under paragraph (c)(2)(ii) of this section)
by the amount (if any) that—
(A) Its income attributable to the bene-
fited stock (reduced by deductions attrib-
utable to financing instruments) for tax-
able years ending before February 27,
1997, computed by recharacterizing the
fast-pay arrangement under this para-
graph (c); exceeds
(B) Its income attributable to such
stock for taxable years ending before Feb-
ruary 27, 1997, computed without apply-
ing the rules of this paragraph (c).
(d) Prohibition against affirmative use
of recharacterization by taxpayers.A tax-
payer may not use the rules of paragraph
(c) of this section if a principal purpose
for using such rules is the avoidance of
any tax imposed by the Code. Thus, with
respect to such taxpayer, the Commis-
sioner may depart from the rules of this
section and recharacterize (for all pur-
poses of the Code) the fast-pay arrange-
ment in accordance with its form or its
economic substance. For example, if a
foreign person acquires fast-pay stock in a
REIT and a principal purpose for acquir-
ing such stock is to reduce United States
withholding taxes by applying the rules of
paragraph (c) of this section, the Commis-
sioner may, for purposes of determining
the foreign person’s United States tax
consequences (namely, withholding tax),
depart from the rules of paragraph (c) of
this section and treat the foreign person as
holding fast-pay stock in the REIT.
(e) Examples. The following examples
illustrate the rules of paragraph (c) of this
section:
Example 1. Decline in dividend rate.(i) Facts.
Corporation X issues 100 shares of A Stock and 100
shares of B Stock for $1,000 per share. By its terms,
a share of B Stock is reasonably expected to pay a
$110 dividend in years 1 through 10 and a $30 divi-
dend each year thereafter. If X liquidates, the holder
of a share of B Stock is entitled to a preference equal
to the share’s issue price. Otherwise, the B Stock
cannot be redeemed at either X’s or the share-
holder’s option.
(ii) Analysis.When issued, the B Stock has a
dividend rate that is reasonably expected to decline
from an annual rate of 11 percent of its issue price to
an annual rate of 3 percent of its issue price. Since
the B Stock is structured to have a declining divi-
dend rate, the B Stock is fast-pay stock, and the A
Stock is benefited stock.
Example 2. Issued at a premium. (i) Facts.The
facts are the same as in Example 1 of this paragraph
(e) except that a share of B Stock is reasonably ex-
pected to pay an annual $110 dividend as long as it
is outstanding, and Corporation X has the right to re-
deem the B Stock for $400 a share at the end of year
10.
(ii) Analysis.The B Stock is structured so that
the issue price of the B Stock ($1,000) exceeds (by
more than a de minimis amount) the price at which
the holder can be compelled to dispose of the stock
($400). Thus, the B Stock is fast-pay stock, and the
A Stock is benefited stock.
Example 3. Recharacterization illustrated.(i)
Facts.On formation, REIT Y issues 100 shares of C
Stock and 100 shares of D Stock for $1,000 per
share. By its terms, a share of D Stock is reasonably
expected to pay a $110 dividend in years 1 through
10 and a $30 dividend each year thereafter. In years
1 through 10, persons holding a majority of the D
Stock must consent before Y may take any action
that would result in Y liquidating or dissolving,
merging or consolidating, losing its REIT status, or
selling substantially all of its assets. Thereafter, Y
may take these actions without consent so long as
the D Stock shareholders receive $400 in exchange
for their D Stock.
(ii) Analysis.When issued, the D Stock has a
dividend rate that is reasonably expected to decline
from an annual rate of 11 percent of its issue price to
an annual rate of 3 percent of its issue price. In addi-
tion, the $1,000 issue price of a share of D Stock ex-
March 15, 1999181999–11 I.R.B.

ceeds the price at which the shareholder can be com-
pelled to dispose of the stock ($400). Thus, the D
Stock is fast-pay stock, and the C Stock is benefited
stock. Because Y is a REIT, the fast-pay arrange-
ment is recharacterized under paragraph (c) of this
section.
(iii) Recharacterization.The fast-pay arrange-
ment is recharacterized as follows:
(A) Under paragraph (c)(2)(i) of this section, the
C Stock shareholders are treated as issuing financing
instruments to the D Stock shareholders in exchange
for $100,000 ($1,000, the fair market value of each
share of D Stock, multiplied by 100, the number of
shares).
(B) Under paragraph (c)(2)(ii) of this section, the
C Stock shareholders are treated as contributing
$200,000 to Y (the $100,000 received for the financ-
ing instruments, plus the $100,000 actually paid for
the C Stock) in exchange for the C Stock.
(C) Under paragraph (c)(2)(ii) of this section,
each distribution with respect to the D Stock is
treated as a distribution with respect to the C Stock.
(D) Under paragraph (c)(2)(iii) of this section,
the C Stock shareholders are treated as making pay-
ments with respect to the financing instruments, and
Y is treated as the paying agent of the financing in-
struments for the C Stock shareholders.
Example 4. Transfer of benefited stock illus-
trated.(i) Facts.The facts are the same as in Exam-
ple 3of this paragraph (e). Near the end of year 5, a
person holding one share of C Stock sells it for
$1,300. The buyer is unrelated to REIT Y or to any
of the D Stock shareholders. At the time of the sale,
the amount needed to terminate the seller’s position
in the financing instruments at fair market value is
$747.
(ii) Benefited shareholder’s treatment on sale.
Under paragraph (c)(3)(iii)(A) of this section, the
seller’s amount realized is $2,047 ($1,300, the
amount actually received, plus $747, the amount
necessary to terminate the seller’s position in the fi-
nancing instruments at fair market value). The
seller’s gain on the sale of the common stock is $47
($2,047, the amount realized, minus $2,000, the
seller’s basis in the common stock). The seller has
no income or deduction with respect to terminating
its position in the financing instruments.
(iii) Buyer’s treatment on purchase.Under para-
graph (c)(3)(iii)(A) of this section, the buyer’s basis
in the share of D Stock is $2,047 ($1,300, the
amount actually paid, plus $747, the amount needed
to terminate the seller’s position in the financing in-
struments at fair market value). Under paragraph
(c)(3)(iii)(B) of this section, simultaneous with the
sale, the buyer is treated as issuing financing instru-
ments to the fast-pay shareholders in exchange for
$747, the amount necessary to terminate the seller’s
position in the financing instruments at fair market
value.
Example 5. Fast-pay arrangement involving
amounts accrued or paid in a taxable year ending
before February 27, 1997.(i) Facts. Y is a calendar
year taxpayer. In June 1996, Y acquires shares of
REIT T benefited stock for $15,000. In December
1996, Y receives dividends of $100. Under the
recharacterization rules of paragraph (c)(2) of this
section, Y’s 1996 income attributable to the bene-
fited stock is $1,200, Y’s 1996 deduction attribut-
able to financing instruments is $500, and Y’s basis
in the benefited stock is $25,000.
(ii) Analysis.Under paragraph (c)(3)(iv) of this
section, Y’s basis in the benefited stock is reduced
by $600. This is the amount by which Y’s 1996 in-
come from the fast-pay arrangement as recharacter-
ized under this section ($1,200 of income attribut-
able to the benefited stock less $500 of deductions
attributable to the financing instruments), exceeds
Y’s 1996 income from the fast-pay arrangement as
not recharacterized under this section ($100 of in-
come attributable to the benefited stock). Thus, in
1997 when the fast-pay arrangement is recharacter-
ized, Y’s basis in the benefited stock is $24,400.
(f) Reporting requirement—(1) Filing
requirements—(i) In general.A corpora-
tion that has fast-pay stock outstanding at
any time during the taxable year must at-
tach the statement described in paragraph
(f)(2) of this section to its federal income
tax return for such taxable year. This
paragraph (f)(1)(i) does not apply to a
corporation described in paragraphs
(f)(1)(ii), (iii), or (iv) of this section.
(ii) Controlled foreign corporation.In
the case of a controlled foreign corpora-
tion (CFC), as defined in section 957, that
has fast-pay stock outstanding at any time
during its taxable year (during which time
it was a CFC), each controlling United
States shareholder (within the meaning of
§1.964–1(c)(5)) must attach the statement
described in paragraph (f)(2) of this sec-
tion to the shareholder’s Form 5471 for
the CFC’s taxable year. The provisions of
section 6038 and the regulations under
section 6038 apply to any statement re-
quired by this paragraph (f)(1)(ii).
(iii) Foreign personal holding com-
pany.In the case of a foreign personal
holding company (FPHC), as defined in
section 552, that has fast-pay stock out-
standing at any time during its taxable
year (during which time it was a FPHC),
each United States citizen or resident who
is an officer, director, or 10-percent share-
holder (within the meaning of section
6035(e)(1)) of such FPHC must attach the
statement described in paragraph (f)(2) of
this section to his or her Form 5471 for
the FPHC’s taxable year. The provisions
of sections 6035 and 6679 and the regula-
tions under sections 6035 and 6679 apply
to any statement required by this para-
graph (f)(1)(iii).
(iv) Passive foreign investment com-
pany. In the case of a passive foreign in-
vestment company (PFIC), as defined in
section 1297, that has fast-pay stock out-
standing at any time during its taxable
year (during which time it was a PFIC),
each shareholder that has elected (under
section 1295) to treat the PFIC as a quali-
fied electing fund and knows or has rea-
son to know that the PFIC has outstanding
fast-pay stock must attach the statement
described in paragraph (f)(2) of this sec-
tion to the shareholder’s Form 8621 for
the PFIC’s taxable year. Each share-
holder owning 10 percent or more of the
shares of the PFIC (by vote or value) is
presumed to know that the PFIC has is-
sued fast-pay stock. The provisions of
sections 1295(a)(2) and 1298(f) and the
regulations under those sections (includ-
ing §1.1295–1T(f)(2)) apply to any state-
ment required by this paragraph (f)(1)(iv).
(2) Statement.The statement required
under this paragraph (f) must say, “This
fast-pay stock disclosure statement is re-
quired by §1.7701(l)–3(f) of the income
tax regulations.” The statement must also
identify the corporation that has outstand-
ing fast-pay stock and must contain the
date on which the fast-pay stock was is-
sued, the terms of the fast-pay stock, and
(to the extent the filing person knows or
has reason to know such information) the
names and taxpayer identification num-
bers of the shareholders of any class of
stock that is not traded on an established
securities market (as described in
§1.7704–1(b)).
(g) Effective date—(1) In general.Ex-
cept as provided in paragraph (g)(4) of
this section (relating to reporting require-
ments), this section applies to taxable
years ending after February 26, 1997.
Thus, all amounts accrued or paid during
the first taxable year ending after Febru-
ary 26, 1997, are subject to this section.
(2) Election to limit taxable income at-
tributable to a recharacterized fast-pay
arrangement for taxable years ending
after February 26, 1997, and before the
date these regulations are published as
final regulations in the Federal
Register—(i) Limit and adjustment.For
taxable years ending after February 26,
1997, and before the date these regula-
tions are published as final regulations in
the Federal Register, a shareholder may
limit its taxable income attributable to a
fast-pay arrangement recharacterized
under paragraph (c) of this section, to the
1999–11 I.R.B.19March 15, 1999

taxable income that would result if the
fast-pay arrangement were recharacter-
ized under Notice 97–21, 1997–1 C.B.
407, see §601.601(d)(2) of this chapter.
Any amount a shareholder excludes from
taxable income under this paragraph
(g)(2)(i) must be included as an adjust-
ment to taxable income in the share-
holder’s first taxable year that includes
the date these regulations are published as
final regulations in the Federal Register.
A shareholder that has elected to limit its
taxable income under this paragraph
(g)(2)(i) must include a statement in its
books and records identifying each fast-
pay arrangement to which the limit was
applied and providing the amount ex-
cluded from taxable income for each such
fast-pay arrangement.
(ii) The following examples illustrate
the rules of this paragraph (g)(2). For
purposes of these examples, assume that
the last year a shareholder may limit its
taxable income under this paragraph
(g)(2) is 1998.
Example 1. Fast-pay arrangement recharacter-
ized under Notice 97-21; REIT holds third-party
debt. (i) Facts.
(A) REIT Y is formed on January 1, 1998, at
which time it issues 1,000 shares of fast-pay stock
and 1,000 shares of benefited stock for $100 per
share. Y and all of its shareholders have calendar
taxable years. All shareholders of Y have elected to
accrue market discount based on a constant interest
rate, to include the market discount in income as it
accrues, and to amortize bond premium.
(B) For years 1 through 5, the fast-pay stock has
an annual dividend rate of $17 per share ($17,000
for the class); in later years, the fast-pay stock has an
annual dividend rate of $1 per share ($1,000 for the
class). At the end of year 5, and thereafter, a share
of fast-pay stock can be acquired by Y in exchange
for $50 ($50,000 for the class).
(C) On the day Y is formed, it acquires a five-
year mortgage note (the note) issued by an unrelated
third party for $200,000. The note provides for an-
nual interest payments on December 31 of $18,000
(a coupon interest rate of 9.0 percent, compounded
annually), and one payment of principal at the end of
5 years. The note can be prepaid, in whole or in
part, at any time.
(ii) Recharacterization under Notice 97–21.(A)
In general. One way to recharacterize the fast-pay
arrangement under Notice 97–21 is to treat the fast-
pay shareholders and the benefited shareholders as if
they jointly purchased the note from the issuer with
the understanding that over the five-year term of the
note the benefited shareholders would use their
share of the interest to buy (on a dollar-for-dollar
basis) the fast-pay shareholders’ portion of the note.
The benefited shareholders’ and the fast-pay share-
holders’ yearly taxable income under Notice 97–21
can then be calculated after determining their initial
portions of the note and whether those initial por-
tions are purchased at a discount or premium.
(B) Determining initial portions of the debt in-
strument. The fast-pay shareholders’ and the bene-
fited shareholders’ initial portions of the note can be
determined by comparing the present values of their
expected cash flows. As a class, the fast-pay share-
holders expect to receive cash flows of $135,000 (five
annual payments of $17,000, plus a final payment of
$50,000). As a class, the benefited shareholders ex-
pect to receive cash flows of $155,000 (five annual
payments of $1,000, plus a final payment of
$150,000). Using a discount rate equal to the yield to
maturity (as determined under §1.1272–1(b)(1)(i)) of
the mortgage note (9.0 percent, compounded annu-
ally), the present value of the fast-pay shareholders’
cash flows is $98,620, and the present value of the
benefited shareholders’ cash flows is $101,380. Thus,
the fast-pay shareholders initially acquire 49 percent
of the note at a $1,380 premium (that is, they paid
$100,000 for $98,620 of principal in the note). The
benefited shareholders initially acquire 51 percent of
the note at a $1,380 discount (that is, they paid
$100,000 for $101,380 of principal in the note).
Under section 171, the fast-pay shareholders’ pre-
mium is amortizable based on their yield in their ini-
tial portion of the note (8.57 percent, compounded an-
nually). The benefited shareholders’ discount accrues
based on the yield in their initial portion of the note
(9.35 percent, compounded annually).
(C) Taxable income under Notice 97–21. Under
Notice 97-21, the fast-pay shareholders’ 1998 tax-
able income attributable to the fast-pay arrangement
is $8,574 ($8.57 per $100 invested), computed by
subtracting the amortizable premium ($302) from
the interest income from their portion of the note
($8,876). The benefited shareholders’ 1998 taxable
income attributable to the fast-pay arrangement is
$9,353 ($9.35 per $100 invested), computed by
adding the accrued discount ($229) to the interest in-
come from their portion of the note ($9,124).
(iii) Taxable income under the recharacterization
of this section.Assume the financing instruments
are debt instruments. Under the recharacterization
rules of paragraph (c) of this section, the fast-pay
shareholders’ 1998 taxable income attributable to
the fast-pay arrangement is $8,574 ($8.57 per $100
invested), which is the interest income from the fi-
nancing instruments. The benefited shareholders’
1998 taxable income attributable to the fast-pay
arrangement is $9,426 ($9.43 per share of benefited
stock), computed by subtracting the interest income
accrued on the financing instruments ($8,574) from
the dividend income actually and deemed paid on
the benefited stock ($18,000).
(iv) Limit on taxable income under this para-
graph (g)(2).(A) Fast-pay shareholders. For 1998,
the fast-pay shareholders have the same taxable in-
come under the recharacterization of Notice 97–21
($8,574) as they have under the recharacterization of
paragraph (c) of this section ($8,574). Thus, the
limit under paragraph (g)(2)(i) of this section is un-
available to the fast-pay shareholders.
(B) Benefited shareholders.For 1998, the bene-
fited shareholders have taxable income attributable
to the fast-pay arrangement of $9,353 ($9.35 per
$100 invested) under the recharacterization of No-
tice 97–21, and taxable income of $9,426 ($9.43 per
share of benefited stock) under the recharacteriza-
tion of paragraph (c) of this section. Thus, under
paragraph (g)(2)(i) of this section, a benefited share-
holder may elect to limit its taxable income attribut-
able to the fast-pay arrangement to $9.35 for each
share of benefited stock. Any amount an electing
shareholder excludes from taxable income($0.08 per
share of benefited stock) must later be included as
an adjustment. (If all benefited shareholders elect
the limit, then as a class the later adjustment to tax-
able income is $73.)
Example 2. REIT holds debt issued by a benefited
shareholder.(i) Facts.The facts are the same as in
Example 1of this paragraph (g)(2) except that cor-
poration Z holds 800 shares (80 percent) of the ben-
efited stock, and Z, instead of a third party, issues
the mortgage note acquired by Y.
(ii) Recharacterization under Notice 97–21.Be-
cause Y holds a debt instrument issued by Z, the
fast-pay arrangement is recharacterized under No-
tice 97–21 as an arrangement in which Z issued one
or more instruments directly to the fast-pay share-
holders and the other benefited shareholders. Con-
sistent with this recharacterization, Z is treated as is-
suing a debt instrument to the fast-pay shareholders
for $100,000. The debt instrument provides for five
annual payments of $17,000 and an additional pay-
ment of $50,000 in year five. Thus, the debt instru-
ment’s yield to maturity is 8.57 percent per annum,
compounded annually. Z is also treated as issuing a
debt instrument to the other benefited shareholders
for $20,000 (200 shares multiplied by $100, or 20
percent of the $100,000 paid to Y by the benefited
shareholders as a class). This debt instrument pro-
vides for five annual payments of $200 and an addi-
tional payment of $30,000 in year five. The debt in-
strument’s yield to maturity is 9.30 percent per
annum, compounded annually. For 1998, Z’s inter-
est expense is $10,435 ($8,574 attributable to the
debt instruments held by the fast-pay shareholders,
and $1,861 attributable to the debt instruments held
by the other benefited shareholders).
(iii) Recharacterization under this section. As-
sume the financing instruments are debt instruments.
Under the recharacterization rules of paragraph (c)
of this section, for 1998, Z has dividend income of
$14,400 (800 shares multiplied by $18, or 80 per-
cent of $18,000), and total interest expense of
$24,859 ($18,000 of interest accrued on the note
held by Y, and $6,859 of interest accrued on the fi-
nancing instruments).
(iv) Limit on taxable income under this para-
graph (g)(2).For 1998, Z has a taxable loss attribut-
able to the fast-pay arrangement of $10,435 under
the recharacterization of Notice 97-21, and a taxable
loss of $10,459 ($14,400 of dividends, minus
$24,859 of total interest expense) under the recharac-
terization of paragraph (c) of this section. Thus, for
1998, Z’s taxable loss attributable to the fast-pay
arrangement is $10,459 (the amount determined
under paragraph (c) of this section), and the limit of
paragraph (g)(2)(i) of this section is unavailable to Z.
(3) Rule to comply with this section.
To comply with this section for each tax-
able year in which it failed to do so, a tax-
March 15, 1999201999–11 I.R.B.

payer should file an amended return. For
taxable years ending before the date these
regulations are published as final regula-
tions, a taxpayer that has complied with
Notice 97–21, 1997–1 C.B. 407, (see
§601.601(d)(2) of this chapter) is consid-
ered to have complied with this section.
(4) Reporting requirements. The re-
porting requirements of paragraph (f) of
this section apply to taxable years (of the
person required to file the statement) end-
ing after the date these regulations are
published as final regulations in the Fed-
eral Register.
John Dalrymple,
Deputy Commissioner of
Internal Revenue.
(Filed by the Office of the Federal Register on Janu-
ary 5, 1999, 8:45 a.m., and published in the issue of
the Federal Register for January 6, 1999, 64 F.R.
805)
Notice of Proposed Rulemaking
and Notice of Public Hearing
Compliance Monitoring and
Miscellaneous Issues Relating to
the Low-Income Housing Credit
REG–114664–97
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemak-
ing and notice of public hearing.
SUMMARY: This document contains
proposed amendments to various existing
final regulations concerning the low-in-
come housing tax credit including the
procedures for compliance monitoring by
state and local housing agencies (Agen-
cies), the requirements for making carry-
over allocations, and the rules for Agen-
cies’ correction of administrative errors or
omissions. In addition, regulations are
being proposed involving the independent
verification of information on sources and
uses of funds submitted by taxpayers to
Agencies. These amendments and pro-
posed regulations affect owners of low-
income housing projects who have
claimed the credit and the Agencies who
administer the credit. This document also
provides notice of a public hearing on
these proposed regulations.
DATES: Written and electronic com-
ments must be received by May 6, 1999.
Outlines of topics to be discussed at the
public hearing scheduled for May 27,
1999, must be received by April 8, 1999.
ADDRESSES: Send submissions to:
CC:DOM:CORP:R (REG–114664–97),
room 5226, Internal Revenue Service,
POB 7604, Ben Franklin Station, Wash-
ington, DC 20044. Submissions may be
hand-delivered Monday through Friday
between the hours of 8 a.m. and 5 p.m. to:
CC:DOM:CORP:R (REG–114664–97),
Courier’s Desk, Internal Revenue Ser-
vice, 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 sub-
mitting comments directly to the IRS In-
ternet site at http://www.irs.ustreas.gov/
prod/tax_regs/comments. html. The pub-
lic hearing will be held in room 2615, In-
ternal Revenue Building, 1111 Constitu-
tion Avenue, NW, Washington, DC.
FOR FURTHER INFORMATION CON-
TACT: Concerning the regulations, Paul
Handleman, (202) 622-3040; concerning
submissions, the hearing, and/or to be
placed on the building access list to attend
the hearing, LaNita Van Dyke, (202) 622-
7180 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collections of information con-
tained in §§1.42–5 and 1.42–13 previ-
ously have been reviewed and approved
by the Office of Management and Budget
for review under control numbers 1545-
1291 and 1545-1357, respectively; all of
these paperwork requirements will be
consolidated under control number 1545-
1357. The new collections of information
contained in this notice of proposed rule-
making have been submitted to the Of-
fice of Management and Budget for re-
view in accordance with the Paperwork
Reduction Act of 1995 (44 U.S.C.
3507(d)).
Comments on the collections of infor-
mation should be sent to the Office of
Management and Budget,Attn: Desk
Officer for the Department of the Trea-
sury, Office of Information and Regula-
tory Affairs, Washington, DC 20503, with
copies to the Internal Revenue Service,
Attn: IRS Reports Clearance Officer,
OP:FS:FP, Washington, DC 20224. Com-
ments on the collections of information
should be received by March 9, 1999.
Comments are specifically requested con-
cerning:
Whether the proposed collection of infor-
mation is necessary for the proper perfor-
mance of the functions of the IRS, includ-
ing whether the information will have
practical utility;
The accuracy of the estimated burden as-
sociated with the proposed collection of
information (see below);
How the quality, utility, and clarity of the
information to be collected may be en-
hanced;
How the burden of complying with the
proposed collection of information may
be minimized, including through the ap-
plication of automated collection tech-
niques or other forms of information tech-
nology; and
Estimates of capital or start-up costs and
costs of operation, maintenance, and pur-
chase of services to provide information.
The requirement for the collections of
information in this notice of proposed
rulemaking is in §§1.42–5, 1.42–13, and
1.42–17. The information is required by
the IRS to verify compliance with the re-
quirements of section 42. The collections
of information are mandatory. The likely
respondents/recordkeepers are individu-
als, state and local governments, busi-
nesses or other for-profit institutions, non-
profit institutions, and small businesses or
organizations.
Estimated total annual reporting and
recordkeeping burden for §1.42–5:
102,500 hours.
For §1.42–5, the estimated annual burden
per respondent varies from .5 hour to 3
hours for taxpayers and 250 to 5,000
hours for Agencies, with an estimated av-
erage of 1 hour for taxpayers and 1,500
hours for Agencies.
Estimated number of respondents for
§1.42–5 : 20,000 taxpayers and 55 Agen-
cies.
Estimated total annual reporting and
recordkeeping burden for §1.42–13: 289
hours.
For §1.42–13, the estimated annual bur-
den per respondent varies from .5 hour to
1999–11 I.R.B.21March 15, 1999

10 hours for taxpayers and Agencies, with
an estimated average of 3.5 hours for tax-
payers and 3 hours for Agencies.
Estimated number of respondents for
§1.42–13: 43 taxpayers and 43 Agencies.
Estimated total annual reporting and
recordkeeping burden for §1.42–17:
2,110 hours.
For §1.42–17, the estimated annual bur-
den per respondent varies from .5 hour to
2 hours for taxpayers and .5 hour to 5
hours for Agencies, with an estimated av-
erage of 1 hour for taxpayers and 2 hours
for Agencies.
Estimated number of respondents for
§1.42–17: 2,000 taxpayers and 55 Agen-
cies.
Estimated annual frequency of responses:
once a year.
An agency may not conduct or sponsor,
and a person is not required to respond to,
a collection of information unless the col-
lection of information unless it displays a
valid control number assigned by the Of-
fice of Management and Budget.
Books or records relating to a collec-
tion of information must be retained as
long as their contents may become mater-
ial 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 28, 1997, the General Ac-
counting Office (GAO) submitted a report
to Congress, “Tax Credits: Opportunities
to Improve Oversight of the Low-Income
Housing Program,” (GAO/GGD/RCED-
97–55), recommending certain revisions
to existing Agency procedures for compli-
ance with the low-income housing credit
and requirements under qualified alloca-
tion plans for verifying taxpayers’ sources
and uses of funds for low-income housing
projects. Consistent with these proposals,
the proposed regulations amend existing
regulation §1.42–5 to require Agencies: (i)
to report annually their compliance moni-
toring activities to the IRS; (ii) to conduct
on-site habitability inspections of low-in-
come housing projects; and (iii) to review
local government reports on building code
violations. In addition, the proposed regu-
lations provide that qualified allocation
plans require taxpayers to submit indepen-
dent verification on sources and uses of
funds for low-income projects.
The proposed regulations also contain
amendments to the Income Tax Regula-
tions (26 CFR part 1) including §1.42–6
(carryover allocations), §1.42–11 (provi-
sion of services), §1.42–12 (effective
dates and transitional rules), and
§1.42–13 (correction of administrative er-
rors and omissions) that are issued under
the authority granted by section 42(n).
Explanation of Provisions
Compliance Monitoring
Section 42(m)(1)(B)(iii) provides that
an allocation plan is not qualified unless it
contains a procedure that the Agency (or
an agent of, or private contractor hired by,
the Agency) will follow in monitoring
compliance with the provisions of section
42. The Agency is to notify the IRS of
any noncompliance of which the Agency
becomes aware.
Section 42(m)(1)(B)(iii) is effective on
January 1, 1992, and applies to all build-
ings for which the low-income housing
credit determined under section 42 is, or
has been, allowable at any time. Alloca-
tion plans must have complied with the
requirements of §1.42–5 by June 30,
1993. Section 42(m)(1)(B)(iii) and
§1.42–5 do not require monitoring for
whether a low-income housing project is
in compliance with the requirements of
section 42 prior to January 1, 1992. How-
ever, if an Agency becomes aware of non-
compliance that occurred prior to January
1, 1992, the Agency is required to notify
the IRS of that noncompliance.
The current compliance monitoring
regulations require an Agency, at a mini-
mum, to review tenant income certifica-
tions and rent charges of projects using
one of the following three monitoring op-
tions: (1) review the owners’ annual in-
come certifications, including the docu-
mentation supporting the certifications for
at least 50 percent of the Agency’s low-in-
come projects, and tenant rent records in
at least 20 percent of the low-income units
in these projects; (2) make annual on-site
inspections of at least 20 percent of the
projects, and review the low-income certi-
fication, the documentation supporting the
certification, and rent record for each ten-
ant in at least 20 percent of the low-in-
come units in those projects; or (3) obtain
from all project owners tenant income and
rent records for each low-income unit and,
for at least 20 percent of the projects, re-
view the annual tenant income certifica-
tion, backup income documentation, and
rent record for each low-income tenant in
at least 20 percent of the low-income units
in those projects.
The GAO report recommended that an
Agency conduct regular on-site inspec-
tions of projects and obtain building code
inspection reports performed by the local
government unit. The GAO found that
desk audits (monitoring options 1 and 3
above) failed to detect violations involv-
ing the physical condition of buildings.
In addition, site visits allow an Agency to
directly assess the compliance status of
projects and the physical condition of
buildings. Consistent with these propos-
als, the proposed regulations remove the
three monitoring options and require, at
least once every three (3) years, that each
Agency conduct on-site inspections of all
buildings in each low-income housing
project and, for each tenant in at least 20
percent of the project’s low-income units
selected by the Agency, review the low-
income certification, the documentation
supporting such certification, and the rent
record. The proposed regulations also re-
quire, at a minimum, by the end of the
calendar year following the year the last
building in a project is placed in service,
that the Agency conduct on-site inspec-
tions of the projects and review the low-
income certification, the documentation
supporting such certification, and the rent
record for each tenant in the project. As
part of the inspection requirements, the
proposed regulations also require the
Agency to determine whether the project
is suitable for occupancy, taking into ac-
count local health, safety, and building
codes. Agencies may delegate this deter-
mination only to a state or local govern-
ment unit responsible for making building
code inspections. The three-year inspec-
tion requirement is proposed to be effec-
tive on the date the final regulations are
published in the Federal Register.The
placed-in-service year inspection require-
ment is proposed to be effective for build-
ings placed in service on or after the date
March 15, 1999221999–11 I.R.B.

the final regulations are published in the
Federal Register.
The current compliance monitoring
regulations require the owner of a project,
at a minimum, to certify annually that for
the preceding 12-month period each
building in the project was suitable for oc-
cupancy, taking into account local health,
safety, and building codes. Based on the
GAO recommendation, the proposed reg-
ulations revise this certification by also
requiring the owner of the project to cer-
tify that for the preceding 12-month pe-
riod the state or local government unit re-
sponsible for making building code
inspections did not issue a report of a vio-
lation for the project. If the governmental
unit issued a report of a violation, the
owner will be required to attach a copy of
the report of the violation to the annual
certification submitted to the Agency.
The proposed regulations also adopt
the GAO recommendation that Agencies
report annually to the IRS on compliance
monitoring activities. It is anticipated
Form 8610, “Annual Low-Income Hous-
ing Credit Agencies Report,” will be re-
vised to require an Agency to confirm an-
nually that it has satisfied the new
compliance monitoring requirements in-
volving: (1) the once every three-year on-
site inspections and review of the low-in-
come certification, the documentation
supporting such certification, and the rent
record for each tenant in at least 20 per-
cent of the low-income units selected by
the Agency; and (2) the on-site inspec-
tions relating to the placed-in-service year
and review of the low-income certifica-
tion, the documentation supporting such
certification, and the rent record for each
low-income tenant in the project.
The current compliance monitoring
regulations require Agencies to report a
correction of noncompliance or failure to
certify if the correction occurs within the
correction period defined in §1.42–
5(e)(4). The proposed regulations clarify
that the Agency is required to file Form
8823, “Low-Income Housing Credit
Agencies Report of Noncompliance,”
with the IRS reporting the correction of
the noncompliance or failure to certify re-
gardless of when the correction occurs
during the compliance period. This re-
quirement is proposed to be effective on
the date the final regulations are pub-
lished in the Federal Register.
Sources and Uses of Funds
The GAO report recommended that
IRS regulations be amended to establish
clear requirements to ensure independent
verification of taxpayer’s key information
on sources and uses of funds submitted to
an Agency. Without assurance of reliable
and complete cost and financing informa-
tion, Agencies are vulnerable to providing
more (or fewer) tax credits to projects
than are actually needed. Under section
42(m)(2)(A), the housing credit dollar
amount allocated to a project should not
exceed the amount the Agency determines
is necessary for the financial feasibility of
the project and its viability as a qualified
low-income housing project throughout
the credit period. In making this determi-
nation, section 42(m)(2)(B) requires that
the Agency must consider: (i) the sources
and uses of funds and the total financing
planned for the project, (ii) any proceeds
or receipts expected to be generated by
reason of tax benefits, (iii) the percentage
of the housing credit dollar amount used
for project costs other than the costs of in-
termediaries, and (iv) the reasonableness
of the developmental and operational
costs of the project. The requirement in
section 42(m)(2)(B)(iii) is not to be ap-
plied so as to impede the development of
projects in hard-to-develop areas.
In its report, the GAO determined that
an Agency must make three critical judg-
ments in awarding credits: (1) the reason-
ableness of developer costs because the
Agency is to award no more credits to a
project than a specified percentage of cer-
tain Agency-approved project develop-
ment costs; (2) the reasonableness of the
financing arrangements for the project be-
cause the Agency is required to base an
award of credit on the financial need of a
project subject to the limit computed on
Agency-approved development costs; and
(3) criteria for pricing the credit (for ex-
ample, use of an appropriate rate to con-
vert credits into an equity investment
amount).
So that an Agency may more accurately
determine the amount of credits to be
awarded, the GAO proposed three alter-
native recommendations: (1) an examina-
tion or audit, which would provide a rea-
sonable basis for an independent public
accountant to issue an opinion on the
overall reliability of a project’s financial
information taken as a whole; (2) a re-
view, which would consist of inquiries
and application of analytical procedures
that might bring to the accountant’s atten-
tion significant matters affecting a pro-
ject’s financial information but would not
provide assurance that the accountant
would become aware of all significant
matters that would be disclosed in an
audit; or (3) agreed-upon procedures,
which would provide an accountant with
a basis to issue a report of findings based
on the specified procedures but not a basis
to issue an opinion on the reliability of the
financial information.
Because the first alternative provides
the most reliable independent verification
on sources and uses of funds, the pro-
posed regulations require that a taxpayer
must obtain an opinion by a certified pub-
lic accountant, based upon the accoun-
tant’s audit or examination, on the finan-
cial determinations and certifications
provided by the taxpayer to the Agency,
including the costs that may qualify for
inclusion in eligible basis under section
42(d) and the amount of the credit under
section 42. This opinion must be submit-
ted to the Agency before the Agency is-
sues the Form 8609, “Low-Income Hous-
ing Credit Allocation Certification.” This
requirement is proposed to be effective on
the date the final regulations are pub-
lished in the Federal Register.
Buildings Qualifying for Carryover
Allocations
The proposed regulations amend the
carryover allocation regulations by re-
quiring the Agency to file a form (to be
prescribed by the IRS) that summarizes
the carryover allocation document de-
scribed in §1.42–6(d)(2) with the
Agency’s Form 8610 for the year the allo-
cation is made. The new form will be
filed with the Form 8610 in lieu of the
original carryover allocation document.
Taxpayers must continue to file a copy of
the carryover allocation document with
the Form 8609 for the building for the
first year the credit is claimed.
Correction of Administrative Errors and
Omissions
Housing credit agencies may correct
administrative errors and omissions with
respect to allocations and recordkeeping
1999–11 I.R.B.23March 15, 1999

if the correction occurs within a reason-
able period of time after discovery of the
error or omission. The current adminis-
trative error and omission regulations de-
fine an administrative error or omission as
a mistake that results in a document that
inaccurately reflects the intent of the
Agency at the time the document is origi-
nally completed or, if the mistake affects
a taxpayer, a document that inaccurately
reflects the intent of the Agency and the
affected taxpayer at the time the docu-
ment is originally completed. However,
an administrative error or omission does
not include a misinterpretation of the ap-
plicable rules and regulations under sec-
tion 42. Agencies must obtain prior ap-
proval from the Secretary to correct an
administrative error or omission if the
correction is not made before the close of
the calendar year of the error or omission
and the correction: (1) is a numerical
change to the housing credit dollar
amount allocated for the building or pro-
ject; (2) affects the determination of any
component of the state’s housing credit
ceiling under section 42(h)(3)(C); or (3)
affects the state’s unused housing credit
carryover that is assigned to the Secretary
under section 42(h)(3)(D).
The proposed regulations would pro-
vide automatic approval for correcting an
administrative error or omission in an al-
location document (a Form 8609, or a car-
ryover allocation document under the re-
quirements of section 42(h)(1)(E) or (F)
and §1.42–6(d)(2)) that either did not ac-
curately reflect the number of buildings
constructed by the affected taxpayer, or
transposed the information for one or
more buildings with other buildings in a
project.
If the automatic approval provision ap-
plies to the administrative error or omis-
sion, the proposed regulations require the
Agency to amend the allocation docu-
ment. If correcting the administrative
error or omission requires adding a Build-
ing Identification Number (B.I.N.) to the
amended allocation document, the pro-
posed regulations require that the Agency
must include any B.I.N.(s) already exist-
ing for the buildings in the document and,
if possible, number the additional
B.I.N.(s) sequentially from the existing
B.I.N.(s). In addition, the Agency must
file the amended allocation document
with an amended Form 8610. This provi-
sion is proposed to be effective on the
date the final regulations are published in
the Federal Register.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a signifi-
cant regulatory action as defined in EO
12866. Therefore, a regulatory assess-
ment is not required. It also has been de-
termined that section 553(b) of the Ad-
ministrative Procedure Act (5 U.S.C.
chapter 5) does not apply to these regula-
tions. It is hereby certified that the collec-
tions of information in these regulations
will not have a significant economic im-
pact on a substantial number of small en-
tities. This certification is based upon the
fact that any burden on taxpayers is mini-
mal. Furthermore, an Agency is not a
“small entity” for purposes of the Regula-
tory Flexibility Act (5 U.S.C. chapter 6).
Accordingly, a Regulatory Flexibility
Analysis under the Regulatory Flexibility
Act 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 Advo-
cacy of the Small Business Administra-
tion for comment on its impact on small
business.
Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, considera-
tion will be given to any written com-
ments (a signed original and eight (8)
copies) that are submitted timely to the
IRS. The IRS and Treasury specifically
request comments on the clarity of the
proposed rule and how it may be made
easier to understand. All comments will
be available for public inspection and
copying.
A public hearing has been scheduled
for Thursday, May 27, 1999, at 10 a.m. in
room 2615, Internal Revenue Building,
1111 Constitution Avenue, NW, Washing-
ton DC. Due to building security proce-
dures, visitors must enter at the 10th
Street entrance, located between Consti-
tution and Pennsylvania Avenues, NW. In
addition, all visitors must present photo
identification to enter the building. Be-
cause of access restrictions, visitors will
not be admitted beyond the immediate en-
trance area more than 15 minutes before
the hearing starts. For information about
having your name placed on the building
access list to attend the hearing, see the
“FOR FURTHER INFORMATION
CONTACT” section of this preamble.
The rules of 26 CFR 601.601(a)(3)
apply to the hearing.
Persons that wish to present oral com-
ments at the hearing must submit written
and electronic comments and an outline
of the topics to be discussed and the time
to be devoted to each topic (signed origi-
nal and eight (8) copies) by April 8, 1999.
A period of 10 minutes will be allotted
to each person for making comments.
An agenda showing the scheduling of
the speakers will be prepared after the
deadline for receiving outlines has
passed. Copies of the agenda will be
available free of charge at the hearing.
Drafting Information
The principal author of these regula-
tions is Paul F. Handleman, Office of the
Assistant Chief Counsel (Passthroughs
and Special Industries), IRS. However,
other personnel from the IRS and Trea-
sury Department participated in their de-
velopment.
*****
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is pro-
posed to be amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 continues to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.42–17 also issued under 26
U.S.C. 42(n); * * *
Par. 2. Section 1.42-5 is amended by:
1. Revising paragraphs (c)(1)(v),
(c)(1)(vi) and (c)(2)(ii).
2. Removing the language “If a moni-
toring procedure includes the review pro-
vision described in paragraph (c)(2)(ii)(B)
of this section, the” from the second sen-
tence in paragraph (c)(2)(iii) and adding
“The” in its place.
3. Removing the language “paragraph
(c)(2)(ii)(A), (B), and (C) of this section”
from the first sentence in paragraph
(c)(4)(i) and adding “paragraph (c)(2)(ii)
of this section” in its place.
March 15, 1999241999–11 I.R.B.

4. Removing the language “An
Agency chooses the review requirement
of paragraph (c)(2)(ii)(A) of this section
and some of the buildings selected for re-
view are” from the first sentence in the
example in paragraph (c)(4)(iii) and
adding “An Agency selects for review” in
its place.
5. Adding paragraph (c)(5).
6. Revising the last sentence in para-
graph (d).
7. Removing the language “(c)(2)-
(ii)(A), (B), or (C) of this section (which-
ever is applicable)” from paragraph (e)(2)
and adding the language “(c)(2)(ii) of this
section” in its place.
8. Adding a sentence at the end of
paragraph (e)(3)(i).
9. Removing the language “paragraph
(e)(3) of this section” in the third sentence
in paragraph (f)(1)(i) and adding “para-
graphs (c)(5) and (e)(3) of this section” in
its place.
10. Adding two sentences at the end of
paragraph (h).
The revisions and additions read as fol-
lows:
§1.42–5 Monitoring compliance with
low-income housing credit requirements.
* * * * *
(c) * * *
(1) * * *
(v) All units in the project were for use
by the general public (as defined in
§1.42–9) and used on a nontransient basis
(except for transitional housing for the
homeless provided under section 42(i)-
(3)(B)(iii) or single-room-occupancy
units rented on a month-by-month basis
under section 42(i)(3)(B)(iv));
(vi) Each building in the project was
suitable for occupancy, taking into ac-
count local health, safety, and building
codes, and the State or local government
unit responsible for making building code
inspections did not issue a report of a vio-
lation for any building in the project. If a
report of a violation was issued by the
governmental unit, the owner must attach
a copy of the report of the violation to the
annual certification submitted to the
Agency under paragraph (c)(1) of this
section;
(2) * * *
(ii) Require that with respect to each
low-income housing project—
(A) The Agency conduct on-site in-
spections of all buildings in the project by
the end of the calendar year following the
year the last building in the project is
placed in service and review the low-in-
come certification, the documentation
supporting such certification, and the rent
record for each low-income tenant; and
(B) At least once every three (3) years,
the Agency conduct on-site inspections of
all buildings in the project, and, for each
tenant in at least 20 percent of the pro-
ject’s low-income units selected by the
Agency, review the low-income certifica-
tion, the documentation supporting such
certification, and the rent record; and
* * * * *
(5) Agency reports of compliance mon-
itoring activities.The Agency must re-
port its compliance monitoring activities
annually on Form 8610, “Annual Low-In-
come Housing Credit Agencies Report.”
(d) * * * In addition, in connection with
the on-site inspections required by para-
graph (c)(2)(ii) of this section, the Agency
must determine whether the project is
suitable for occupancy, taking into ac-
count local health, safety, and building
codes. Notwithstanding paragraph (f) of
this section, this determination may be
delegated only to a State or local govern-
ment unit responsible for making building
code inspections.
(e) * * *
(3) * * *
(i) * * * For noncompliance or failure
to certify that is corrected after the end of
the correction period, the Agency is re-
quired to file Form 8823 with the Service
reporting the correction of the noncompli-
ance or failure to certify regardless of
when the correction occurs during the 15-
year compliance period under section
42(i)(1).
* * * * *
(h) * * * In addition, the requirement in
paragraph (c)(2)(ii)(A) of this section (in-
volving on-site inspections relating to the
placed-in-service year and review of the
low-income certifications, the documen-
tation supporting such certifications, and
the rent records) is effective for buildings
placed in service on or after the date the
final regulations are published in the Fed-
eral Register.The requirements in para-
graph (c)(1)(vi) of this section (involving
whether a State or local government unit
responsible for making building code in-
spections issued a report or a violation for
the project), paragraph (c)(2)(ii)(B) of
this section (the low-income certifica-
tions, the documentation supporting such
certifications, and the rent records), para-
graph (c)(5) of this section (involving the
requirement to report the Agency’s com-
pliance monitoring activities to the Ser-
vice), paragraph (d) of this section (in-
volving habitability requirements), and
paragraph (e)(3) of this section (involving
the requirement to report corrected non-
compliance or failure to certify after the
end of the correction period) are effective
on the date the final regulations are pub-
lished in the Federal Register.
Par. 3. Section 1.42-6 is amended by
removing the first sentence in paragraph
(d)(4)(ii) and adding two sentences in its
place to read as follows:
§1.42–6 Buildings qualifying for
carryover allocations.
* * * * *
(d) * * *
(4) * * *
(ii) Agency.The Agency must retain
the original carryover allocation docu-
ment made under paragraph (d)(2) of this
section and file the form (to be prescribed
by the IRS) that summarizes the carryover
allocation document. This form is filed
with the Agency’s Form 8610 that ac-
counts for the year the allocation is made.
* * *
* * * * *
Par. 4. Section 1.42–11 is amended by
revising the last sentence in paragraph
(b)(3)(ii)(A) to read as follows:
§1.42–11 Provision of services.
* * * * *
(b) * * *
(3) * * *
(ii) * * * (A) * * * For a building de-
scribed in section 42(i)(3)(B)(iii) (relating
to transitional housing for the homeless)
or section 42(i)(3)(B)(iv) (relating to sin-
gle room occupancy), a supportive ser-
vice includes any service provided to as-
sist tenants in locating and retaining
permanent housing.
1999–11 I.R.B.25March 15, 1999

* * * * *
Par. 5. Section 1.42–12 is amended by
adding paragraph (c) to read as follows:
§1.42–12 Effective dates and transitional
rules.
* * * * *
(c) The rule set forth in §1.42–
6(d)(4)(ii) relating to the requirement that
state and local housing agencies file the
form to be prescribed by the Internal Rev-
enue Service that summarizes the carry-
over allocation document is effective for
forms the due date of which are on or
after March 8, 1999.
Par. 6. Section 1.42–13 is amended by:
1. Revising the introductory text of
paragraph (b)(3)(iii).
2. Adding paragraphs (b)(3)(vi),
(b)(3)(vii), and (b)(3)(viii).
3. Adding a sentence at the end of
paragraph (d).
The revisions and additions read as fol-
lows:
§1.42–13 Rules necessary and
appropriate; housing credit agencies’
correction of administrative errors and
omissions.
* * * * *
(b) * * *
(3) * * *
(iii) Secretary’s prior approval re-
quired. Except as provided in paragraph
(b)(3)(vi) of this section, an Agency must
obtain the Secretary’s prior approval to
correct an administrative error or omis-
sion, as described in paragraph (b)(2) of
this section, if the correction is not made
before the close of the calendar year of
the error or omission and the correction—
* * * * *
(vi) Secretary’s automatic approval.
The Secretary grants automatic approval
to correct an administrative error or omis-
sion described in paragraph (b)(2) of this
section if—
(A) The correction is not made before
the close of the calendar year of the error
or omission and the correction is a numer-
ical change to the housing credit dollar
amount allocated for the building or mul-
tiple-building project;
(B) The administrative error or omis-
sion resulted in an allocation document
(the Form 8609, “Low-Income Housing
Credit Allocation Certification,” or the al-
location document under the requirements
of section 42(h)(1)(E) or (F) and §1.42–
6(d)(2)) that either did not accurately re-
flect the number of buildings constructed
by the affected taxpayer (for example, the
affected taxpayer built 10 buildings instead
of 8 buildings having the same total num-
ber of units), or transposed the information
for one or more buildings with other build-
ings in the multiple-building project;
(C) The administrative error or omis-
sion does not affect the Agency’s ranking
of the building(s) or project and the total
amount of credit the Agency allocated to
the building(s) or project;
(D) The Agency corrects the adminis-
trative error or omission no later than one
year after the building(s) were placed in
service by the affected taxpayer; and
(E) The Agency corrects the adminis-
trative error or omission by following the
procedures described in paragraph
(b)(3)(vii) of this section.
(vii) How Agency corrects errors or
omissions subject to automatic approval.
An Agency corrects an administrative
error or omission described in paragraph
(b)(3)(vi) of this section by—
(A) Amending the allocation document
described in paragraph (b)(3)(vi)(B) of
this section to correct the administrative
error or omission. The Agency will indi-
cate on the amended allocation document
that it is making the “correction under
§1.42–13(b)(3)(vii)”. If correcting the al-
location document requires including any
additional B.I.N.(s) in the document, the
document must include any B.I.N.(s) al-
ready existing for the buildings. If possi-
ble, the additional B.I.N.(s) should be se-
quentially numbered from the existing
B.I.N.(s);
(B) Amending, if applicable, the form
to be prescribed by the Service that sum-
marizes the allocation document (see
§1.42–6 (d)(4)(ii)) and attaching a copy
of this form to an amended Form 8610,
“Annual Low-Income Housing Credit
Agencies Report,” for the year the alloca-
tion was made. The Agency will indicate
on the forms that it is making the “correc-
tion under §1.42–13(b)(3)(vii)”;
(C) Amending, if applicable, the Form
8609 and attaching the original of this
amended form to an amended Form 8610
for either the year the allocation was
made or the year the building was placed
in service by the affected taxpayer. The
Agency will indicate on the forms that it
is making the “correction under §1.42–
13(b)(3)(vii)”;
(D) Filing the amended Form 8610
with the Service. When completing the
amended Form 8610, the Agency should
follow the specific instructions for the
Form 8610 under the heading “Amended
Report”; and
(E) Mailing a copy of any amended al-
location document and any amended Form
8609 to the affected taxpayer.
(viii) Other approval procedures.The
Secretary may grant automatic approval to
correct other administrative errors or
omissions as designated in one or more
documents published either in the Federal
Registeror in the Internal Revenue Bul-
letin (see § 601.601(d)(2) of this chapter).
* * * * *
(d) * * * Paragraphs (b)(3)(vi), (vii),
and (viii) of this section are effective on
the date the final regulations are pub-
lished in the Federal Register.
Par. 7. Section 1.42–17 is added to
read as follows:
§1.42–17 Qualified Allocation Plan.
(a) Requirements—(1) In general.
[Reserved]
(2) Selection criteria.[Reserved]
(3) Agency evaluation.Section
42(m)(2)(A) requires that the housing
credit dollar amount allocated to a project
should not exceed the amount the Agency
determines is necessary for the financial
feasibility of the project and its viability
as a qualified low-income housing project
throughout the credit period. In making
this determination, the Agency must con-
sider—
(i) The sources and uses of funds and
the total financing planned for the project.
The taxpayer must certify to the Agency
the full extent of all federal, state, and
local subsidies that apply (or which the
taxpayer expects to apply) to the project.
The taxpayer must also certify to the
Agency all other sources of funds and all
development costs for the project. The
taxpayer’s certification should be suffi-
ciently detailed to enable the Agency to
ascertain the nature of the costs that will
March 15, 1999261999–11 I.R.B.

comprise the total financing package, in-
cluding subsidies and the anticipated syn-
dication or placement proceeds to be
raised. Development cost information,
whether or not includible in eligible basis
under section 42(d), that should be pro-
vided to the Agency includes, but is not
limited to, site acquisition costs, construc-
tion contingency, general contractor’s
overhead and profit, architect and engi-
neer’s fees, permit and survey fees, insur-
ance premiums, real estate taxes during
construction, title and recording fees, con-
struction period interest, financing fees,
organizational costs, rent-up and market-
ing costs, accounting and auditing costs,
working capital and operating deficit re-
serves, syndication and legal fees, devel-
oper fees, and other costs;
(ii) Any proceeds or receipts expected
to be generated by reason of tax benefits;
(iii) The percentage of the housing
credit dollar amount used for project costs
other than the costs of intermediaries.
This requirement should not be applied so
as to impede the development of projects
in hard-to-develop areas under section
42(d)(5)(C); and
(iv) The reasonableness of the develop-
mental and operational costs of the pro-
ject.
(4) Timing of Agency evaluation.The
financial determinations and certifications
required under paragraph (a)(3) of this
section must be made at each of the fol-
lowing times:
(i) The time of the application for the
housing credit dollar amount.
(ii) The time of the allocation of the
housing credit dollar amount.
(iii) The date the building is placed in
service.
(iv) After the building is placed in ser-
vice, and before the Agency issues the
Form 8609, “Low-Income Housing
Credit Allocation Certification.”
(5) Special rule for final determina-
tions and certifications.For the Agency’s
evaluation under paragraph (a)(4)(iv) of
this section, the taxpayer must obtain an
opinion by a certified public accountant,
based upon the accountant’s audit or ex-
amination, on the financial determina-
tions and certifications in paragraphs
(a)(3)(i) through (iii) of this section, in-
cluding the costs that may qualify for in-
clusion in eligible basis under section
42(d) and amount of the credit under sec-
tion 42.
(6) Bond financed projects.A project
qualifying under section 42(h)(4) is not
entitled to any credit unless the govern-
mental unit that issued the bonds (or on
behalf of which the bonds were issued),
or the Agency responsible for issuing the
Form(s) 8609 to the project, makes deter-
minations under rules similar to the rules
in paragraphs (a)(3), (4), and (5) of this
section.
(b) Effective date.This section is ef-
fective on the date final regulations are
published in the Federal Register.
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
(Filed by the Office of the Federal Register on Janu-
ary 7, 1999, 8:45 a.m., and published in the issue of
the Federal Register for January 8, 1999, 64 F.R.
1143)
Notice of Proposed Rulemaking
and Notice of Public Hearing
Education Tax Credits
REG–106388–98
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemak-
ing and requests to hold a videoconfer-
ence public hearing.
SUMMARY: This document contains
proposed regulations relating to the Hope
Scholarship Credit and the Lifetime
Learning Credit in section 25A of the In-
ternal Revenue Code. These proposed
regulations provide guidance to individu-
als who may claim the Hope Scholarship
Credit or the Lifetime Learning Credit for
certain postsecondary educational ex-
penses. This document also announces
that a public hearing will be held on the
proposed regulations upon request and
that persons outside the Washington, DC,
area who wish to testify at the hearing
may request that the IRS videoconference
the hearing to their sites.
DATES: Written or electronically gener-
ated comments must be received by April
6, 1999. Requests to videoconference the
hearing to other sites must be received by
March 8, 1999.
ADDRESSES: Send submissions to:
CC:DOM:CORP:R (REG–106388–98),
room 5226, Internal Revenue Service,
POB 7604, Ben Franklin Station, Wash-
ington, DC 20044. Submissions may be
hand delivered Monday through Friday
between the hours of 8 a.m. and 5 p.m. to:
CC:DOM:CORP:R (REG–106388–98),
Courier’s Desk, Internal Revenue Ser-
vice, 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 sub-
mitting comments directly to the IRS in-
ternet site at http://www.irs.ustreas.gov/
prod/tax_regs/comments.html. The IRS
will publish the time and date of the pub-
lic hearing and the locations of any video-
conferencing sites in the Federal Regis-
ter.
FOR FURTHER INFORMATION CON-
TACT: Concerning the regulations,
Donna Welch, (202) 622-4910; concern-
ing submissions of comments, the hear-
ing, and/or to be placed on the building
access list to attend the hearing, contact
Michael L. Slaughter, (202) 622-7190
(not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information con-
tained in this notice of proposed rulemak-
ing has been submitted to the Office of
Management and Budget for review in ac-
cordance with the Paperwork Reduction
Act of 1995 (44 U.S.C. 3507(d)). Com-
ments on the collection of information
should be sent to the Office of Manage-
ment and Budget,Attn: Desk Officer for
the Department of the Treasury, Office of
Information and Regulatory Affairs,
Washington, DC 20503, with copies to
the Internal Revenue Service,Attn: IRS
Reports Clearance Officer, OP:FS:FP,
Washington, DC 20224. Comments on
the collection of information should be re-
ceived by March 8, 1999. Comments are
specifically requested concerning:
1999–11 I.R.B.27March 15, 1999

Whether the proposed collection of in-
formation is necessary for the proper per-
formance of the functions of the Internal
Revenue Service, including whether the
information will have practical utility;
The accuracy of the estimated burden
associated with the proposed collection of
information (see below);
How the quality, utility, and clarity of
the information to be collected may be en-
hanced;
How the burden of complying with the
proposed collection of information may
be minimized, including through the
application of automated collection tech-
niques or other forms of information tech-
nology; and
Estimates of capital or start-up costs and
costs of operation, maintenance, and pur-
chase of services to provide information.
The collection of information in this
proposed regulation is in §1.25A–1(d)
and (f). Taxpayers must elect to claim an
education credit by attaching Form 8863,
“Education Credits (Hope and Lifetime
Learning Credits),” to a timely filed (in-
cluding extensions) federal income tax re-
turn for the taxable year in which a credit
is claimed. This collection of information
is required in order for a taxpayer to elect
to claim an education credit. This infor-
mation will be used to carry out the inter-
nal revenue laws. The likely respondents
are individuals.
The reporting burden contained in
§1.25A–1(d) and (f) is reflected in the
burden of Form 8863, “Education Credits
(Hope and Lifetime Learning Credits),”
and Form 1040, “U.S. Individual Income
Tax Return.”
An agency may not conduct or sponsor,
and a person is not required to respond to,
a collection of information unless it dis-
plays a valid control number assigned by
the Office of Management and Budget.
Books or records relating to a collec-
tion of information must be retained as
long as their contents may become
material in the administration of any in-
ternal revenue law. Generally, tax returns
and tax return information are confiden-
tial, as required by 26 U.S.C. 6103.
Background
The Taxpayer Relief Act of 1997 (Pub-
lic Law 105-34 (111 Stat. 788) (TRA
’97)) added section 25A to the Internal
Revenue Code to provide the Hope Schol-
arship Credit and the Lifetime Learning
Credit (education credits). In general, the
Hope Scholarship Credit and the Lifetime
Learning Credit allow taxpayers to claim
a nonrefundable credit against their fed-
eral income taxes for certain postsec-
ondary educational expenses. On No-
vember 17, 1997, the IRS published
Notice 97–60 (1997–46 I.R.B. 8) to pro-
vide general guidance on the higher edu-
cation tax incentives enacted by TRA ’97,
including the Hope Scholarship Credit
and the Lifetime Learning Credit. This
document contains proposed amendments
to the Income Tax Regulations (26 CFR
part 1) to provide detailed guidance on the
education credits in section 25A.
TRA ’97 also added section 6050S to
the Code, which requires eligible educa-
tional institutions to file information re-
turns to assist taxpayer and the IRS in de-
termining the education credit that
taxpayers may claim under section 25A.
The IRS has published several notices out-
lining the limited information returns that
are required for 1998 and 1999. On De-
cember 22, 1997, the IRS published No-
tice 97–73 (1997–51 I.R.B. 16), which de-
scribes the information that must be
reported for 1998. On September 8, 1998,
the IRS published Notice 98–46 (1998–36
I.R.B. 21), which extends the application
of Notice 97–73 to information returns re-
quired under section 6050S for 1999. Fi-
nally, on December 7, 1998, the IRS pub-
lished Notice 98–59 (1998–49 I.R.B. 16),
which modified the two prior Notices by
providing that an eligible educational in-
stitution is not required to file information
returns under section 6050S for 1998 or
1999 with respect to either: (1) students
who are enrolled during the year only in
courses for which the student receives no
academic credit from the educational insti-
tution; or (2) nonresident alien students,
unless requested to do so by the student.
The IRS and the Treasury Department in-
tend to issue separate regulations on the
information reporting required under sec-
tion 6050S for years after 1999.
Explanation of Provisions
1. Calculation of Education Credit and
General Eligibility Requirements
Under the proposed regulations, a tax-
payer may claim a nonrefundable educa-
tion credit equal to the total of the Hope
Scholarship Credit and the Lifetime
Learning Credit allowed for the taxpayer,
the taxpayer’s spouse, and any claimed
dependents. An education credit in ex-
cess of a taxpayer’s tax liability for the
taxable year can not be refunded. As with
other personal credits, section 25A does
not allow a carryforward of an unused ed-
ucation credit or a carryforward of excess
qualified expenses.
The proposed regulations provide rules
for the coordination of the Hope Scholar-
ship Credit and the Lifetime Learning
Credit. The proposed regulations provide
that, in the same taxable year, a taxpayer
may claim a Hope Scholarship Credit for
each eligible student’s qualified tuition
and related expenses and a Lifetime
Learning Credit for one or more other stu-
dents’ qualified tuition and related ex-
penses. The regulations provide that a
taxpayer may claim either the Hope
Scholarship Credit or the Lifetime Learn-
ing Credit, but not both, for the qualified
tuition and related expenses of the same
student in the same taxable year. A Hope
Scholarship Credit may be claimed for the
qualified tuition and related expenses (up
to a specified limit described below) of
each eligible student. The Lifetime
Learning Credit may be claimed for the
aggregate amount of qualified tuition and
related expenses (up to a specified limit
described below) of those students for
whom no Hope Scholarship Credit is
claimed.
Consistent with the income limitations
in section 25A(d), the proposed regula-
tions provide that the education credit al-
lowed is phased out for taxpayers with
modified adjusted gross income between
$40,000 and $50,000 ($80,000 and
$100,000 for taxpayers filing a joint re-
turn) for the taxable year. For taxable
years beginning after 2001, these amounts
will be adjusted for inflation. Based on
the definition in section 25A(d)(3), the
regulations define modified adjusted
gross incomeas the adjusted gross in-
come (as defined in section 62) of the tax-
payer for the taxable year increased by
any amount excluded from gross income
under section 911, 931, or 933 (relating to
income earned abroad or from certain
U.S. possessions or Puerto Rico). The
amount of an otherwise allowable educa-
March 15, 1999281999–11 I.R.B.

tion credit for a taxable year that is re-
duced solely by reason of the modified
adjusted gross income limitation can not
be carried forward and claimed in a sub-
sequent taxable year.
Consistent with the requirements in
section 25A(e)(1), the proposed regula-
tions provide that a taxpayer must elect to
claim the education credit. The election
must be made by attaching Form 8863,
“Education Credits (Hope and Lifetime
Learning Credits),” to the taxpayer’s fed-
eral income tax return for the taxable year
in which the credit is claimed. Consistent
with the identification requirements in
section 25A(g)(1), the regulations provide
that a taxpayer must include on the fed-
eral income tax return the name and tax-
payer identification number of each stu-
dent for whom the credit is claimed.
Consistent with the requirements in
section 25A(e)(2), the proposed regula-
tions provide that no education credit is
allowed for a taxable year for the quali-
fied tuition and related expenses of a stu-
dent if: (1) during the taxable year, a dis-
tribution is made to, or on behalf of, the
student from an education individual re-
tirement account described in section
530(b); and (2) any portion of the distrib-
ution is excluded from gross income
under section 530(d)(2).
The proposed regulations provide guid-
ance on the rules for claiming an educa-
tion credit in the case of a dependent. The
regulations provide that, if the student is a
claimed dependent of another taxpayer,
only that taxpayer may claim the educa-
tion credit for the student’s qualified tu-
ition and related expenses. The regula-
tions explain that, if the taxpayer is
eligible to, but does not, claim the student
as a dependent, only the student may
claim the education credit for the student’s
qualified tuition and related expenses.
2. Definitions
The proposed regulations provide that a
claimed dependentis a dependent (as de-
fined in section 152) for whom a deduc-
tion under section 151 is allowed on the
taxpayer’s federal income tax return for
the taxable year in which the credit is
claimed.
Based on the requirements of section
25A(f)(2), the proposed regulations pro-
vide that an eligible educational institu-
tionmeans a college, university, voca-
tional school, or other postsecondary edu-
cational institution that: (1) is described
in section 481 of the Higher Education
Act of 1965 (HEA) (20 U.S.C. 1088) as in
effect on August 5, 1997 (generally all ac-
credited public, nonprofit, and proprietary
postsecondary institutions); and (2) par-
ticipates in a federal student financial aid
program under title IV of the HEA (20
U.S.C. 1070 et seq.) or is certified by the
Department of Education as eligible to
participate in such a program but chooses
not to participate.
The proposed regulations provide that
academic periodmeans a quarter, semes-
ter, trimester, or other period of study
(such as a summer school session) as rea-
sonably determined by the eligible educa-
tional institution. Neither section 25A nor
its legislative history defines the term
academic period.Additionally, the De-
partment of Education does not have a
recognized definition of academic period.
The definition in the regulation is in-
tended to include institutions that use tra-
ditional academic terms and institutions
that do not use academic terms, but for
example use clock hours or credit hours.
The IRS and Treasury invite comments on
this definition of academic periodas well
as suggestions on alternative definitions.
Based on the definition in section
25A(f)(1), the proposed regulations de-
fine qualified tuition and related expenses
as the tuition and fees required for the en-
rollment or attendance of a student for
courses of instruction at an eligible educa-
tional institution. This definition is gen-
erally consistent with the definition of tu-
ition and fees contained in section 472(1)
of the HEA (20 U.S.C. 1087ll(1)). See
H.R. Conf. Rep. No. 599, 105th Cong., 2d
Sess., at p. 321 (1998). The regulations
provide that, in general, the test for deter-
mining whether a fee is treated as a quali-
fied tuition and related expense is whether
the fee is required to be paid to the eligi-
ble educational institution by students as a
condition of the students’ enrollment or
attendance at the institution. The regula-
tions specifically provide that qualified
tuition and related expenses include fees
for books, supplies, and equipment used
in a course of study only if the fees must
be paid to the eligible educational institu-
tion for the enrollment or attendance of
the student at the institution. Similarly,
the regulations provide that, in general,
qualified tuition and related expenses in-
clude nonacademic fees (fees charged by
an eligible educational institution that are
not used directly for, or allocated to, an
academic course of study) only if the fees
must be paid to the eligible educational
institution for the enrollment or atten-
dance of the student at the institution.
However, based on the legislative his-
tory to section 25A, the proposed regula-
tions provide that qualified tuition and re-
lated expenses do not include the costs of
room and board, insurance, medical ex-
penses (such as student health fees), trans-
portation, and similar personal, living, or
family expenses, regardless of whether the
fees must be paid to the eligible educa-
tional institution for the enrollment or at-
tendance of the student at the institution.
See H.R. Conf. Rep. No. 220, 105th
Cong., 1st Sess., at p. 343, 346 (1997).
Further, based on the limitations in section
25A(f)(1)(B) and (c)(2)(B), the regula-
tions provide that qualified tuition and re-
lated expenses do not include expenses
that relate to any course of instruction or
other education that involves sports,
games, hobbies, or any noncredit course,
unless the course is part of the student’s
degree program or, in the case of the Life-
time Learning Credit, is taken by the stu-
dent to acquire or improve job skills.
3. Hope Scholarship Credit
The Hope Scholarship Credit is a per
student credit that may be claimed for
each eligible student. Consistent with the
provisions of section 25A(b)(1), the pro-
posed regulations provide that for taxable
years beginning before 2002 the maxi-
mum Hope Scholarship Credit amount is
$1,500 (100 percent of the first $1,000 of
the qualified tuition and related expenses
paid during the taxable year for education
furnished to an eligible student during any
academic period beginning in the taxable
year or treated as beginning in the taxable
year, plus 50 percent of the next $1,000 of
such expenses paid with respect to that
student). For taxable years beginning
after 2001, the $1,000 amounts will be ad-
justed for inflation. Consistent with the
provisions of section 25A(b)(2)(A), the
regulations provide that the Hope Schol-
arship Credit is allowed for only two tax-
able years for each eligible student.
1999–11 I.R.B.29March 15, 1999

Based on the requirements in section
25A(b)(2) and (3), the proposed regula-
tions define an eligible studentfor pur-
poses of the Hope Scholarship Credit as a
student who meets all of the following re-
quirements: (1) for at least one academic
period during the taxable year, the student
enrolls at an eligible educational institu-
tion in a program leading toward a post-
secondary degree, certificate, or other rec-
ognized postsecondary educational
credential (degree requirement); (2) for at
least one academic period during the tax-
able year, the student enrolls for at least
half of the normal full-time work load for
the course of study the student is pursuing
(work load requirement); (3) as of the be-
ginning of the taxable year, the student
has not completed the first two years of
postsecondary education at an eligible ed-
ucational institution (year of study re-
quirement); and (4) the student has not
been convicted of a federal or state felony
offense for the possession or distribution
of a controlled substance as of the end of
the taxable for which the credit is claimed
(felony drug conviction restriction).
The proposed regulations explain that
the student meets the work load require-
mentif the student is enrolled for at least
half of the normal full-time work load, as
determined by the eligible educational in-
stitution. The regulations provide that the
educational institution’s standards for a
half-time work load must equal or exceed
the standards established by the Depart-
ment of Education under the HEA and set
forth in 34 CFR 674.2(b) for a half-time
undergraduate student.
The proposed regulations explain that
whether a student has completed the first
two years of postsecondary education as
of the beginning of the taxable year is
based on whether the eligible educational
institution the student is enrolled in
awards the student two years of academic
credit for postsecondary course work
completed by the student prior to the be-
ginning of the taxable year. However, the
regulations provide that any academic
credit awarded by the educational institu-
tion solely on the basis of the student’s
performance on proficiency examinations
is not taken into account.
The proposed regulations provide that
the Hope Scholarship Credit is effective
for expenses paid after December 31,
1997, for education furnished in academic
periods beginning after that date.
4. Lifetime Learning Credit
The Lifetime Learning Credit is a per
taxpayer credit, rather than a per student
credit. For taxable years beginning be-
fore 2003, the maximum Lifetime Learn-
ing Credit amount is $1,000 (20 percent
of up to $5,000 of the aggregate qualified
tuition and related expenses paid during
the taxable year for education furnished to
the taxpayer, the taxpayer’s spouse, and
any claimed dependent during any acade-
mic period beginning in the taxable year
or treated as beginning in the taxable
year). For taxable years beginning on or
after 2003, the maximum credit amount is
$2,000 (20 percent of up to $10,000 of the
aggregate qualified tuition and related ex-
penses paid during the taxable year for
education furnished to the taxpayer, the
taxpayer’s spouse, and any claimed de-
pendent during any academic period be-
ginning in the taxable year or treated as
beginning in the taxable year).
In contrast to the Hope Scholarship
Credit, the Lifetime Learning Credit is al-
lowed for an unlimited number of years
for each student and does not have a de-
gree requirement, year of study require-
ment, work load requirement, or a felony
drug conviction restriction. See H.R.
Conf. Rep. No. 220, 105th Cong., 1st
Sess., at p. 346–347 (1997). Therefore, a
taxpayer may claim a Lifetime Learning
Credit for a student’s qualified tuition and
related expenses even if the taxpayer
could not claim a Hope Scholarship
Credit for those expenses.
Based on the provisions of section
25A(c)(2)(B) and the legislative history to
section 25A, the proposed regulations
provide that, for purposes of claiming a
Lifetime Learning Credit, amounts that a
taxpayer is required to pay for a course at
an eligible educational institution are
qualified tuition and related expenses if
the course is either part of a postsec-
ondary degree program or is part of a non-
degree program that is taken by the stu-
dent to acquire or improve job skills. The
legislative history explains that the Life-
time Learning Credit is available with re-
spect to any course of instruction at any
eligible educational institution (whether
the student is enrolled on a full-time, half-
time, or less than half-time basis) to ac-
quire or improve job skills of the student.
See H.R. Conf. Rep. No. 220, 105th
Cong., 1st Sess., at p. 346–347 (1997).
The proposed regulations provide that
the Lifetime Learning Credit is effective
for expenses paid after June 30, 1998, for
education furnished in academic periods
beginning after that date.
5. Special Rules Relating to
Characterization and Timing of
Payments
The proposed regulations provide guid-
ance on qualified tuition and related ex-
penses paid by a third party. The regula-
tions provide that, solely for purposes of
section 25A, if a third party makes a pay-
ment directly to an eligible educational
institution to pay for a student’s qualified
tuition and related expenses, the student is
treated as receiving the payment from the
third party, and, in turn, paying the quali-
fied tuition and related expenses to the in-
stitution.
Consistent with the provisions of sec-
tion 25A(g)(3), the proposed regulations
provide that qualified tuition and related
expenses paid by a student are treated as
paid by the taxpayer if the student is a
claimed dependent of the taxpayer.
The proposed regulations provide rules
for adjustments to qualified tuition and re-
lated expenses for certain excludable edu-
cational assistance. Consistent with the
provisions of section 25A(g)(2) and the
legislative history, the regulations provide
that the amount of otherwise allowable
qualified tuition and related expenses paid
during a taxable year must be reduced by
the following amounts paid to, or on be-
half of, a student during the taxable year:
(1) a qualified scholarship that is exclud-
able from gross income under section
117; (2) a veterans’ or member of the
armed forces’ educational assistance al-
lowance under chapter 30, 31, 32, 34, or
35 of title 38, U.S.C., or chapter 1606 of
title 10, U.S.C.; (3) employer-provided
educational assistance that is excludable
from gross income under section 127; and
(4) any other educational assistance that is
excludable from gross income (other than
as a gift, bequest, devise, or inheritance
within the meaning of section 102(a)).
See H.R. Conf. Rep. No. 220, 105th
Cong., 1st Sess., at p. 343, 347 (1997).
March 15, 1999301999–11 I.R.B.

The proposed regulations provide rules
for allocating scholarships and fellowship
grants among expenses. The regulations
provide that a scholarship or fellowship
grant is treated as a qualified scholarship
excludable from income under section
117 (and thereby reduces the amount of
qualified tuition and related expenses that
a taxpayer may otherwise include in
claiming an education credit) unless ei-
ther: (1) the student reports the grant as
income on the student’s federal income
tax return; or (2) the grant must be ap-
plied, by its terms, to expenses other than
qualified tuition and related expenses
within the meaning of section 117(b)(2),
such as room and board.
The proposed regulations provide guid-
ance on the timing rules for claiming an
education credit. Consistent with the gen-
eral rule in section 25A(b)(1) and (c)(1),
the regulations provide that an education
credit generally is allowed only for pay-
ments of qualified tuition and related ex-
penses that cover an academic period be-
ginning in the same taxable year as the
year the payment is made. However, con-
sistent with the specific prepayment rule
in section 25A(g)(4), the regulations pro-
vide that, if qualified tuition and related
expenses are paid during a taxable year to
cover an academic period that begins dur-
ing the first three months of the tax-
payer’s next taxable year, an education
credit is allowed only in the taxable year
in which the expenses are paid. Note,
however, that because the Hope Scholar-
ship Credit does not apply to expenses
paid before January 1, 1998, and the Life-
time Learning Credit does not apply to
expenses paid before July 1, 1998, the
prepayment rule does not apply for tuition
paid in 1997 to cover an academic period
beginning in 1998.
Consistent with the legislative history
to section 25A, the proposed regulations
provide that an education credit may be
claimed for the qualified tuition and re-
lated expenses paid with the proceeds of a
loan only in the taxable year in which the
expenses are paid, and not in the taxable
year in which the loan is repaid. See H.R.
Conf. Rep. No. 220, 105th Cong., 1st
Sess., at p. 342, 346 (1997). In order to
provide taxpayers with a date certain for
payment, the regulations provide that loan
proceeds disbursed directly to an educa-
tional institution are treated as paid on the
date of the disbursement. However, if the
taxpayer does not know the date of the
disbursement, the taxpayer must treat
qualified tuition and related expenses as
paid on the last date prescribed for pay-
ment by the educational institution.
Consistent with the directive in section
25A(i), the proposed regulations provide
rules for refunds of qualified tuition and
related expenses. The regulations provide
that, if a payment and a refund of quali-
fied tuition and related expenses occur in
the same taxable year, the amount of qual-
ified tuition and related expenses for the
taxable year is calculated by adding all
qualified tuition and related expenses paid
for the taxable year, and subtracting any
refund of the expenses received from the
eligible educational institution during the
same taxable year.
The proposed regulations provide that,
if, in a taxable year, a taxpayer (or the tax-
payer’s spouse or a claimed dependent)
receives a refund from an eligible educa-
tional institution of qualified tuition and
related expenses paid in a prior taxable
year and the refund is received before the
taxpayer files a federal income tax return
for the prior taxable year, the amount of
the qualified tuition and related expenses
for the prior taxable year must be reduced
by the amount of the refund.
Similar to the tax benefit rule, the pro-
posed regulations provide that, if, in a tax-
able year, a taxpayer (or the taxpayer’s
spouse or a claimed dependent) receives a
refund of qualified tuition and related ex-
penses for which the taxpayer claimed an
education credit in a prior taxable year,
the tax for the subsequent taxable year is
increased by the recapture amount. The
recapture amount is the difference be-
tween the credit claimed in the prior tax-
able year and the redetermined credit.
The redetermined credit is computed by
reducing the amount of the qualified tu-
ition and related expenses for which a
credit was claimed in the prior taxable
year by the amount of the refund of the
qualified tuition and related expenses (re-
determined qualified expenses), and com-
puting the credit using the redetermined
qualified expenses and the relevant facts
and circumstance of the prior taxable
year, such as modified adjusted gross
income.
The proposed regulations provide that,
if, in a taxable year, any excludable edu-
cational assistance is received for the
qualified tuition and related expenses paid
during a prior taxable year, the educa-
tional assistance is treated as a refund of
qualified tuition and related expenses. In
this situation, if a taxpayer (or the tax-
payer’s spouse or a claimed dependent)
receives any excludable educational assis-
tance before the taxpayer files a federal
income tax return for the prior taxable
year, the amount of the qualified tuition
and related expenses for the prior taxable
year is reduced by the amount of the ex-
cludable educational assistance. How-
ever, if a taxpayer (or the taxpayer’s
spouse or claimed dependent) receives
excludable educational assistance after
the taxpayer has filed a federal income tax
return for the prior taxable year, any edu-
cation credit claimed for the prior taxable
year is subject to recapture.
6. Proposed Effective Date
These regulations are proposed to be
effective on the date they are published in
theFederal Registeras final regulations.
Taxpayers may rely on these proposed
regulations for guidance pending the is-
suance of final regulations. If, and to the
extent, future guidance is more restrictive
than the guidance in the proposed regula-
tions, the future guidance will be applied
without retroactive effect.
Special Analyses
It has been determined that these pro-
posed regulations are 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 Pro-
cedure 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 Reg-
ulatory Flexibility Act (5 U.S.C. chapter
6) does not apply. Pursuant to section
7805(f), this notice of proposed rulemak-
ing will be submitted to the Chief Counsel
for Advocacy of the Small Business Ad-
ministration for comment on their impact
on small business.
1999–11 I.R.B.31March 15, 1999

Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, considera-
tion will be given to any written and elec-
tronic comments that are submitted timely
to the IRS. The IRS and Treasury specifi-
cally request comments on the clarity of
the proposed regulations and how they
can be made easier to understand. All
comments will be available for public in-
spection and copying.
A public hearing will be scheduled in
the Internal Revenue Building, 1111 Con-
stitution Avenue, NW, Washington, DC.
The IRS recognizes that persons outside
the Washington, DC, area may also wish
to testify at the public hearing through
videoconferencing. Requests to include
videoconferencing sites must be received
by March 8, 1999. If the IRS receives
sufficient indications of interest to war-
rant videoconferencing to a particular
city, and if the IRS has videoconferencing
facilities available in that city on the date
the public hearing is to be scheduled, the
IRS will try to accommodate the requests.
The IRS will publish the time and date
of the public hearing and the locations of
any videoconferencing sites in an an-
nouncement in the Federal Register.
Drafting Information
The principal author of the regulations
is Donna Welch, Office of Assistant Chief
Counsel (Income Tax and Accounting).
However, other personnel from the IRS
and the Treasury Department participated
in the development of the regulations.
*****
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is pro-
posed to be amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by adding entries in nu-
merical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.25A–0 also issued under sec-
tion 26 U.S.C. 25A(i).
Section 1.25A–1 also issued under sec-
tion 26 U.S.C. 25A(i).
Section 1.25A–2 also issued under sec-
tion 26 U.S.C. 25A(i).
Section 1.25A–3 also issued under sec-
tion 26 U.S.C. 25A(i).
Section 1.25A–4 also issued under sec-
tion 26 U.S.C. 25A(i).
Section 1.25A–5 also issued under sec-
tion 26 U.S.C. 25A(i). * * *
Par. 2. Sections 1.25A–0 through
1.25A–5 are added to read as follows:
§1.25A–0 Table of contents.
This section lists captions contained in
§§1.25A–1, 1.25A–2, 1.25A–3, 1.25A–4,
and 1.25A–5.
§1.25A–1 Calculation of education credit
and general eligibility requirements.
(a) Amount of education credit.
(b) Coordination of Hope Scholarship
Credit and Lifetime Learning Credit.
(1) In general.
(2) Hope Scholarship Credit.
(3) Lifetime Learning Credit.
(4) Examples.
(c) Limitation based on modified ad-
justed gross income.
(1) In general.
(2) Modified adjusted gross income de-
fined.
(3) Inflation adjustment.
(d) Election.
(e) Coordination with Education IRA.
(f) Identification requirement.
(g) Claiming the credit in the case of a
dependent.
(1) In general.
(2) Examples.
(h) Married taxpayers.
(i) Nonresident alien taxpayers and de-
pendents.
§1.25A–2 Definitions.
(a) Claimed dependent.
(b) Eligible educational institution.
(1) In general.
(2) Rules on federal financial aid pro-
grams.
(c) Academic period.
(d) Qualified tuition and related ex-
penses.
(1) In general.
(2) Required fees.
(i) In general.
(ii) Books, supplies, and equipment.
(iii) Nonacademic fees.
(3) Personal expenses.
(4) Treatment of comprehensive fees.
(5) Hobby courses.
(6) Examples.
§1.25A–3 Hope Scholarship Credit.
(a) Amount of the credit.
(1) In general.
(2) Maximum credit.
(b) Per student credit.
(1) In general.
(2) Example.
(c) Credit allowed for only two taxable
years.
(d) Eligible student.
(1) Eligible student defined.
(i) Degree requirement.
(ii) Work load requirement.
(iii) Year of study requirement.
(iv) No felony drug conviction.
(2) Examples.
(e) Academic period for prepayments.
(1) In general.
(2) Example.
(f) Effective date.
§1.25A–4 Lifetime Learning Credit.
(a) Amount of the credit.
(1) Taxable years beginning before Jan-
uary 1, 2003.
(2) Taxable years beginning after De-
cember 31, 2002.
(3) Coordination with the Hope Scholar-
ship Credit.
(4) Examples.
(b) Credit allowed for unlimited number
of taxable years.
(c) Both degree and nondegree courses
are eligible for the credit.
(1) In general.
(2) Examples.
(d) Effective date.
§1.25A–5 Special rules relating to
characterization and timing of payments.
(a) Payments of educational expenses
by a third party.
(1) In general.
(2) Example.
(b) Expenses paid by dependent.
(1) In general.
(2) Example.
(c) Adjustment to qualified tuition and
related expenses for certain exclud-
able educational assistance.
(1) In general.
(2) No adjustment for excludable educa-
tional assistance attributable to ex-
penses paid in a prior year.
March 15, 1999321999–11 I.R.B.

(3) Allocation of scholarships and fel-
lowship grants.
(4) Examples.
(d) No double benefit.
(e) Timing rules.
(1) In general.
(2) Prepayment rule.
(i) In general.
(ii) Example.
(3) Expenses paid with loan proceeds.
(f) Refund of qualified tuition and re-
lated expenses.
(1) Payment and refund of qualified tu-
ition and related expenses in the
same taxable year.
(2) Payment of qualified tuition and re-
lated expenses in one taxable year
and refund in subsequent taxable
year before return filed for prior tax-
able year.
(3) Payment of qualified tuition and re-
lated expenses in one taxable year
and refund in subsequent taxable
year.
(i) In general.
(ii) Recapture amount.
(4) Excludable educational assistance
received in a subsequent taxable year
treated as refund.
(5) Examples.
§1.25A–1 Calculation of education credit
and general eligibility requirements.
(a) Amount of education credit.An in-
dividual taxpayer is allowed a nonrefund-
able education credit against income tax
imposed by chapter 1 of the Internal Rev-
enue Code for the taxable year. The
amount of the education credit is the total
of the Hope Scholarship Credit (as de-
scribed in §1.25A–3) plus the Lifetime
Learning Credit (as described in §1.25A–
4). For limitations on the credits allowed
by subpart A of part IV of subchapter A of
chapter 1, see section 26.
(b) Coordination of Hope Scholarship
Credit and Lifetime Learning Credit—(1)
In general.In the same taxable year, a
taxpayer may claim a Hope Scholarship
Credit for each eligible student’s qualified
tuition and related expenses (as defined in
§1.25A-2(d)) and a Lifetime Learning
Credit for one or more other students’
qualified tuition and related expenses.
However, a taxpayer may not claim both a
Hope Scholarship Credit and a Lifetime
Learning Credit with respect to the same
student in the same taxable year.
(2) Hope Scholarship Credit.Subject
to certain limitations, a Hope Scholarship
Credit may be claimed for the qualified
tuition and related expenses paid during a
taxable year with respect to each eligible
student (as defined in §1.25A–3(d)).
Qualified tuition and related expenses
paid during a taxable year with respect to
any student for whom a Hope Scholarship
Credit is claimed may not be taken into
account in computing the amount of the
Hope Scholarship Credit with respect to
any other student or the Lifetime Learn-
ing Credit.
(3) Lifetime Learning Credit.Subject
to certain limitations, a Lifetime Learning
Credit may be claimed for the aggregate
amount of qualified tuition and related ex-
penses paid during a taxable year with re-
spect to students for whom no Hope
Scholarship Credit is claimed.
(4) Examples.The following examples
illustrate the rules of this paragraph (b):
Example 1. In 1999, Taxpayer A pays qualified
tuition and related expenses for his dependent, B, to
attend College Y during 1999. Assuming all other
relevant requirements are met, Taxpayer A may
claim either a Hope Scholarship Credit or a Lifetime
Learning Credit with respect to dependent B, but not
both. See §1.25A–3(a) and §1.25A–4(a).
Example 2.In 1999, Taxpayer C pays $2,000 in
qualified tuition and related expenses for her depen-
dent, D, to attend College Z during 1999. In 1999,
Taxpayer C also pays $500 in qualified tuition and
related expenses to attend a computer course during
1999 to improve Taxpayer C’s job skills. Assuming
all other relevant requirements are met, Taxpayer C
may claim a Hope Scholarship Credit for the $2,000
of qualified tuition and related expenses attributable
to dependent D (see §1.25A–3(a)) and a Lifetime
Learning Credit for the $500 of qualified tuition and
related expenses incurred to improve her job skills.
Example 3.The facts are the same as in Example
2,except that Taxpayer C pays $3,000 in qualified
tuition and related expenses for her dependent, D, to
attend College Z during 1999. Although a Hope
Scholarship Credit is available only with respect to
the first $2,000 of qualified tuition and related ex-
penses paid with respect to D (see §1.25A–3(a)),
Taxpayer C may not add the $1,000 of excess ex-
penses to her $500 of qualified tuition and related
expenses in computing the amount of the Lifetime
Learning Credit.
(c) Limitation based on modified ad-
justed gross income—(1) In general. The
education credit that a taxpayer may oth-
erwise claim is phased out ratably for tax-
payers with modified adjusted gross in-
come between $40,000 and $50,000
($80,000 and $100,000 for married indi-
viduals who file a joint return). Thus, tax-
payers with modified adjusted gross in-
come above $50,000 (or $100,000 for
joint filers) may not claim an education
credit.
(2) Modified adjusted gross income de-
fined. The term modified adjusted gross
incomemeans the adjusted gross income
(as defined in section 62) of the taxpayer
for the taxable year increased by any
amount excluded from gross income
under section 911, 931, or 933 (relating to
income earned abroad or from certain
U.S. possessions or Puerto Rico).
(3) Inflation adjustment.For taxable
years beginning after 2001, the amounts
in paragraph (c)(1) of this section will be
increased for inflation occurring after
2000 in accordance with section 1(f)(3).
If any amount adjusted under this para-
graph (c)(3) is not a multiple of $1,000,
the amount will be rounded to the next
lowest multiple of $1,000.
(d) Election.No education credit is al-
lowed unless a taxpayer elects to claim
the credit on the taxpayer’s timely filed
(including extensions) federal income tax
return for the taxable year in which the
credit is claimed. The election is made by
attaching Form 8863, “Education Credits
(Hope and Lifetime Learning Credits),”
(or its successor) to that federal income
tax return.
(e) Coordination with Education IRA.
No education credit is allowed for a tax-
able year for the qualified tuition and re-
lated expenses of a student if—
(1) During the taxable year, a distribu-
tion is made to, or on behalf of, the stu-
dent from an education individual retire-
ment account described in section 530(b)
(Education IRA); and
(2) Any portion of the distribution is
excluded from gross income under sec-
tion 530(d)(2).
(f) Identification requirement.No edu-
cation credit is allowed unless a taxpayer
includes on the federal income tax return
claiming the credit the name and the tax-
payer identification number of the student
for whom the credit is claimed. For rules
relating to assessment for an omission of
a correct taxpayer identification number,
see section 6213(b) and (g)(2)(J).
(g) Claiming the credit in the case of a
dependent—(1) In general.If a student is
a claimed dependent of another taxpayer,
only that taxpayer may claim the educa-
tion credit for the student’s qualified tu-
ition and related expenses. However, if
1999–11 I.R.B.33March 15, 1999

the taxpayer is eligible to, but does not,
claim the student as a dependent, only the
student may claim the education credit for
the student’s qualified tuition and related
expenses.
(2) Examples.The following examples
illustrate the rules of this paragraph (g):
Example 1.In 1999, Taxpayer A pays qualified
tuition and related expenses for his dependent, B, to
attend University Y during 1999. Taxpayer A claims
B as a dependent on his federal income tax return.
Therefore, assuming all other relevant requirements
are met, Taxpayer A is allowed an education credit
on his federal income tax return, and B is not al-
lowed an education credit on B’s federal income tax
return. The result would be the same if B paid the
qualified tuition and related expenses. See §1.25A–
5(b).
Example 2.In 1999, Taxpayer C has one depen-
dent, D. In 1999, D pays qualified tuition and re-
lated expenses to attend University Z during 1999.
Although Taxpayer C is eligible to claim D as a de-
pendent on her federal income tax return, she does
not do so. Therefore, assuming all other relevant re-
quirements are met, D is allowed an education credit
on D’s federal income tax return, and Taxpayer C is
not allowed an education credit on her federal in-
come tax return, with respect to D’s education ex-
penses. The result would be the same if C paid the
qualified tuition and related expenses on behalf of
D. See §1.25A–5(a).
(h) Married taxpayers.If a taxpayer is
married (within the meaning of section
7703), no education credit is allowed un-
less the taxpayer and the taxpayer’s
spouse file a joint federal income tax re-
turn for the taxable year.
(i) Nonresident alien taxpayers and de-
pendents.If a taxpayer or the taxpayer’s
spouse is a nonresident alien for any por-
tion of the taxable year, no education
credit is allowed unless the nonresident
alien is treated as a resident alien by rea-
son of an election under section 6013(g)
or (h). In addition, if a student is a nonres-
ident alien, a taxpayer may not claim an
education credit with respect to the quali-
fied tuition and related expenses of the
student unless the student is a dependent
as defined in section 152. Among other
requirements under section 152, the non-
resident alien student must be a resident of
a country contiguous to the United States
in order to be treated as a dependent.
§1.25A–2 Definitions.
(a) Claimed dependent.Aclaimed de-
pendent means a dependent (as defined in
section 152) for whom a deduction under
section 151 is allowed on a taxpayer’s
federal income tax return for the taxable
year.
(b) Eligible educational institution—
(1) In general.In general, an eligible ed-
ucational institutionmeans a college, uni-
versity, vocational school, or other
postsecondary educational institution that
is—
(i) Described in section 481 of the
Higher Education Act of 1965 (20 U.S.C.
1088) as in effect on August 5, 1997,
(generally all accredited public, nonprofit,
and proprietary postsecondary institu-
tions); and
(ii) Participating in a federal financial
aid program under title IV of the Higher
Education Act of 1965 (20 U.S.C. 1070 et
seq.) or is certified by the Department of
Education as eligible to participate in such
a program but chooses not to participate.
(2) Rules on federal financial aid pro-
grams.For rules governing an educa-
tional institution’s eligibility to participate
in federal financial aid programs, see 20
U.S.C. 1070 et seq.; 20 U.S.C. 1094; and
34 CFR 600 and 668.
(c) Academic period. Academic period
means a quarter, semester, trimester, or
other period of study (such as a summer
school session) as reasonably determined
by an eligible educational institution.
(d) Qualified tuition and related ex-
penses—(1) In general. Qualified tuition
and related expensesmeans tuition and
fees required for the enrollment or atten-
dance of a student for courses of instruc-
tion at an eligible educational institution.
(2) Required fees—(i) In general. Ex-
cept as provided in paragraph (d)(3) of
this section, the test for determining
whether any fee is a qualified tuition and
related expense is whether the fee is re-
quired to be paid to the eligible educa-
tional institution as a condition of the stu-
dent’s enrollment or attendance at the
institution.
(ii) Books, supplies, and equipment.
Qualified tuition and related expenses in-
clude fees for books, supplies, and equip-
ment used in a course of study only if the
fee must be paid to the eligible educa-
tional institution for the enrollment or at-
tendance of the student at the institution.
(iii) Nonacademic fees.Except as pro-
vided in paragraph (d)(3) of this section,
qualified tuition and related expenses in-
clude fees charged by an eligible educa-
tional institution that are not used directly
for, or allocated to, an academic course of
instruction only if the fee must be paid to
the eligible educational institution for the
enrollment or attendance of the student at
the institution.
(3) Personal expenses.Qualified tu-
ition and related expenses do not include
the costs of room and board, insurance,
medical expenses, transportation, and
similar personal, living, or family ex-
penses, regardless of whether the fee must
be paid to the eligible educational institu-
tion for the enrollment or attendance of
the student at the institution.
(4) Treatment of comprehensive fees. If
a student is required to pay a comprehen-
sive fee to an eligible educational institu-
tion that includes charges for tuition, fees,
and personal expenses described in para-
graph (d)(3) of this section, the portion of
the comprehensive fee that is allocable to
personal expenses is not a qualified tu-
ition and related expense. The allocation
must be made by the institution using a
reasonable method.
(5) Hobby courses. Qualified tuition
and related expenses do not include ex-
penses that relate to any course of instruc-
tion or other education that involves
sports, games, or hobbies, or any non-
credit course, unless the course or other
education is part of the student’s degree
program or, in the case of the Lifetime
Learning Credit, is taken by the student to
acquire or improve job skills.
(6) Examples.The following examples
illustrate the rules of this paragraph (d).
In each example, assume that all other rel-
evant requirements to claim an education
credit are met. The examples are as fol-
lows:
Example 1.University V offers a degree pro-
gram in dentistry. In addition to tuition, all students
enrolled in the program are required to pay a fee to
University V for the rental of dental equipment. Be-
cause the equipment rental fee must be paid to Uni-
versity V for enrollment and attendance, the tuition
and the equipment rental fee are qualified tuition
and related expenses.
Example 2. First-year students at College W are
required to obtain books and other reading materials
used in its mandatory first-year curriculum. The
books and other reading materials are not required to
be purchased from College W and may be borrowed
from other students or purchased from off-campus
bookstores, as well as from College W’s bookstore.
College W bills students for any books and materials
purchased from College W’s bookstore. The fee that
College W charges for the first-year books and mate-
March 15, 1999341999–11 I.R.B.

rials purchased at its bookstore is not a qualified tu-
ition and related expense because the books and ma-
terials are not required to be purchased from College
W for enrollment or attendance at the institution.
Example 3.All students who attend College X
are required to pay a separate student activity fee in
addition to their tuition. The student activity fee is
used solely to fund on-campus organizations and ac-
tivities run by students, such as the student newspa-
per and the student government (no portion of the
fee covers personal expenses). Although labeled as
a student activity fee, the fee is required for enroll-
ment or attendance at College X. Therefore, the fee
is a qualified tuition and related expense.
Example 4. The facts are the same as in Example
3,except that College X offers an optional athletic
fee that students may pay to receive discounted tick-
ets to sports events. The athletic fee is not required
for enrollment or attendance at College X. There-
fore, the fee is not a qualified tuition and related ex-
pense.
Example 5.College Y requires all students to
live on campus. It charges a single comprehensive
fee to cover tuition, required fees not allocable to
personal expenses, and room and board. Based on
College Y’s reasonable allocation, sixty percent of
the comprehensive fee is allocable to tuition and
other required fees not allocable to personal ex-
penses, and the remaining forty percent of the com-
prehensive fee is allocable to charges for room and
board. Therefore, only sixty percent of College Y’s
comprehensive fee is a qualified tuition and related
expense.
Example 6.As a degree student at College Z,
Student A is required to take a certain number of
courses outside of her chosen major in Economics.
To fulfill this requirement, Student A enrolls in a
square dancing class offered by the Physical Educa-
tion Department. Because Student A receives credit
toward her degree program for the square dancing
class, the tuition for the square dancing class is in-
cluded in qualified tuition and related expenses.
§1.25A–3 Hope Scholarship Credit.
(a) Amount of the credit—(1) In gen-
eral.Subject to the phase out of the edu-
cation credit described in §1.25A–1(c),
the Hope Scholarship Credit amount is
the total of—
(i) 100 percent of the first $1,000 of
qualified tuition and related expenses paid
during the taxable year for education fur-
nished to an eligible student (as defined in
paragraph (d) of this section) who is the
taxpayer, the taxpayer’s spouse, or any
claimed dependent during any academic
period beginning in the taxable year (or
treated as beginning in the taxable year,
see §1.25A–5(e)(2)); plus
(ii) 50 percent of the next $1,000 of
such expenses paid with respect to that
student.
(2) Maximum credit.For taxable years
beginning before 2002, the maximum
Hope Scholarship Credit allowed for each
eligible student is $1,500. For taxable
years beginning after 2001, the amounts
in paragraph (a)(1) of this section to de-
termine the maximum credit will be in-
creased for inflation occurring after 2000
in accordance with section 1(f)(3). If any
amount adjusted under this paragraph
(a)(2) is not a multiple of $100, the
amount will be rounded to the next lowest
multiple of $100.
(b) Per student credit—(1) In general.
A Hope Scholarship Credit may be
claimed for the qualified tuition and re-
lated expenses of each eligible student (as
defined in paragraph (d) of this section).
(2) Example.The following example
illustrates the rule of this paragraph (b).
In the example, assume that all the re-
quirements to claim an education credit
are met. The example is as follows:
Example.In 1999, Taxpayer A has two depen-
dents, B and C, both of whom are eligible students.
Taxpayer A pays $1,600 in qualified tuition and re-
lated expenses for dependent B to attend a commu-
nity college. Taxpayer A pays $5,000 in qualified
tuition and related expenses for dependent C to at-
tend University X. Taxpayer A may claim a Hope
Scholarship Credit of $1,300 ($1,000 + (.50 3
$600)) for dependent B, and the maximum $1,500
Hope Scholarship Credit for dependent C, for a total
Hope Scholarship Credit of $2,800.
(c) Credit allowed for only two taxable
years.For each eligible student, the Hope
Scholarship Credit may be claimed for no
more than two taxable years.
(d) Eligible student—(1) Eligible stu-
dent defined.For purposes of the Hope
Scholarship Credit, the term eligible stu-
dentmeans a student who satisfies all of
the following requirements—
(i) Degree requirement. For at least
one academic period that begins during
the taxable year, the student enrolls at an
eligible educational institution in a pro-
gram leading toward a postsecondary de-
gree, certificate, or other recognized post-
secondary educational credential;
(ii) Work load requirement.For at least
one academic period that begins during
the taxable year, the student enrolls for at
least half of the normal full-time work
load for the course of study the student is
pursuing. The standard for what is half of
the normal full-time work load is deter-
mined by each eligible educational insti-
tution. However, the standard for half-
time may not be lower than standards for
half-time established by the Department
of Education under the Higher Education
Act of 1965 and set forth in 34 CFR
674.2(b) for a half-time undergraduate
student;
(iii) Year of study requirement.As of
the beginning of the taxable year, the stu-
dent has not completed the first two years
of postsecondary education at an eligible
educational institution. Whether a student
has completed the first two years of post-
secondary education at an eligible educa-
tional institution as of the beginning of a
taxable year is determined based on
whether the institution in which the stu-
dent is enrolled in a degree program (as
described in paragraph (d)(1)(i) of this
section) awards the student two years of
academic credit at that institution for
postsecondary course work completed by
the student prior to the beginning of the
taxable year. Any academic credit
awarded by the eligible educational insti-
tution solely on the basis of the student’s
performance on proficiency examinations
is disregarded in determining whether the
student has completed two years of post-
secondary education; and
(iv) No felony drug conviction.The
student has not been convicted of a fed-
eral or state felony offense for possession
or distribution of a controlled substance
as of the end of the taxable year for which
the credit is claimed.
(2) Examples.The following examples
illustrate the rules of this paragraph (d).
In each example, assume that the student
has not been convicted of a felony drug
offense, that the institution is an eligible
educational institution unless otherwise
stated, that the qualified tuition and re-
lated expenses are paid during the same
taxable year that the academic period be-
gins, and that a Hope Scholarship Credit
has not previously been claimed for the
student (see paragraph (c) of this section).
The examples are as follows:
Example 1.Student A graduates from high
school in June 1998 and enrolls full-time in an un-
dergraduate degree program at College U for the
1998 Fall semester. For the 1999 Spring semester,
Student A again enrolls at College U on a full-time
basis. For the 1999 Fall semester, Student A enrolls
in less than half the normal full-time course work for
her degree program. Because Student A is enrolled
in an undergraduate degree program on at least a
half-time basis for at least one academic period that
1999–11 I.R.B.35March 15, 1999

begins during 1998 and at least one academic period
that begins during 1999, Student A is an eligible stu-
dent for taxable years 1998 and 1999 (including the
1999 Fall semester when Student A enrolls at Col-
lege U on less than a half-time basis).
Example 2.Prior to 1998, Student B attended
college for several years on a full-time basis. Stu-
dent B transfers to College V for the 1998 Spring se-
mester. College V awards Student B credit for some
(but not all) of the courses he previously completed,
and College V classifies Student B as a first-semes-
ter sophomore. During both the Spring and Fall se-
mesters of 1998, Student B enrolls in half the normal
full-time work load for his degree program. Be-
cause College V does not classify Student B as hav-
ing completed the first two years of postsecondary
education as of the beginning of 1998, Student B is
an eligible student for taxable year 1998.
Example 3. The facts are the same as in Example
2.After taking classes on a half-time basis for the
1998 Spring and Fall semesters, Student B enrolls in
a full-time work load at College V for the 1999
Spring semester. College V classifies Student B as a
second-semester sophomore for the 1999 Spring se-
mester and as a first-semester junior for the 1999
Fall semester. Because College V does not classify
Student B as having completed the first two years of
postsecondary education as of the beginning of
1999, Student B is an eligible student for taxable
year 1999.
Example 4.At the time that Student C enrolls in
a degree program at College W for the 1998 Fall se-
mester, Student C takes examinations to demon-
strate her proficiency in several subjects. On the
basis of Student C’s performance on these examina-
tions, College W classifies Student C as a second-se-
mester sophomore as of the beginning of the 1998
Fall semester. Student C takes a full-time work load
during the 1998 Fall semester and during the 1999
Spring and Fall semesters. Because Student C was
not enrolled in a college or other eligible educational
institution prior to 1998 (but rather was classified as
a second-semester sophomore by College W as of
the start of the 1998 Fall semester solely because of
proficiency examinations), Student C is not treated
as having completed the first two years of postsec-
ondary education at an eligible educational institu-
tion as of the beginning of 1998 or as of the begin-
ning of 1999. Therefore, Student C is an eligible
student for both taxable years 1998 and 1999.
Example 5. During the 1998 Fall semester, Stu-
dent D is a high school student who takes classes on
a half-time basis at College X. Student D is not en-
rolled as part of a degree program at College X be-
cause College X does not admit students to a degree
program unless the student has a high school
diploma or equivalent. Because Student D is not en-
rolled in a degree program at College X during
1998, Student D is not an eligible student for taxable
year 1998.
Example 6.The facts are the same as in Example
5.During the 1999 Spring semester, Student D
again attends College X but not as part of a degree
program. Student D graduates from high school in
June 1999. For the 1999 Fall semester, Student D
enrolls in College X as part of a degree program, and
College X awards Student D credit for her prior
course work at College X. During the 1999 Fall se-
mester, Student D takes more than half the normal
full-time work load of courses for her degree pro-
gram at College X. Because Student D is enrolled in
a degree program at College X for the 1999 Fall
term on more than a half-time basis, Student D is an
eligible student for all of taxable year 1999. There-
fore, the qualified tuition and required fees paid for
classes taken at College X during both the 1999
Spring semester (during which Student D was not
enrolled in a degree program) and the 1999 Fall se-
mester are taken into account in computing any
Hope Scholarship Credit.
Example 7.Student E completed two years of un-
dergraduate study at College S located in Country S.
College S is not an eligible educational institution for
purposes of the education credits. At the end of
1998, Student E moves to the United States and en-
rolls in an undergraduate degree program at College
Z on a full-time basis for the 1999 Spring semester.
College Z awards Student E two years of academic
credit for his previous course work at College S and
classifies Student E as a first-semester junior for the
1999 Spring semester. Student E is treated as having
completed the first two years of postsecondary edu-
cation at an eligible educational institution as of the
beginning of 1999. Therefore, Student E is not an el-
igible student for taxable year 1999.
Example 8. Student F was born and raised in
Country R, and she received a degree in 1998 from
College R located in Country R. College R is not an
eligible educational institution for purposes of the
education credits. During 1999, Student F moves to
the United States and enrolls for the 1999 Fall se-
mester on a full-time basis in a graduate-degree pro-
gram at College Y. By admitting Student F to its
graduate degree program, College Y treats Student F
as having completed the first two years of postsec-
ondary education as of the beginning of 1999.
Therefore, Student F is not an eligible student for
taxable year 1999.
(e) Academic period for prepay-
ments—(1) In general.For purposes of
determining whether a student meets the
requirements in paragraph (d) of this sec-
tion for a taxable year, if qualified tuition
and related expenses are paid during one
taxable year for an academic period that
begins during January, February or March
of the next taxable year (for taxpayers on
a fiscal taxable year, use the first three
months of the next taxable year), the aca-
demic period is treated as beginning dur-
ing the taxable year in which the payment
is made.
(2) Example.The following example
illustrates the rule of this paragraph (e).
In the example, assume that all the re-
quirements to claim a Hope Scholarship
Credit are met. The example is as fol-
lows:
Example.Student G graduates from high school
in June 1998. After graduation, Student G works
full-time for several months to earn money for col-
lege. Student G enrolls full-time in an undergradu-
ate degree program at University W, an eligible edu-
cational institution, for the 1999 Spring semester,
which begins in January 1999. Student G pays tu-
ition to University W for the 1999 Spring semester
in December 1998. Because the tuition paid by Stu-
dent G in 1998 relates to an academic period that be-
gins during the first three months of 1999, Student
G’s eligibility to claim a Hope Scholarship Credit in
1998 is determined as if the 1999 Spring semester
began in 1998. Thus, assuming Student G has not
been convicted of a felony drug offense as of De-
cember 31, 1998, Student G is an eligible student for
1998.
(f) Effective date.The Hope Scholar-
ship Credit is applicable for qualified tu-
ition and related expenses paid after De-
cember 31, 1997, for education furnished
in academic periods beginning after De-
cember 31, 1997.
§1.25A–4 Lifetime Learning Credit.
(a) Amount of the credit—(1) Taxable
years beginning before January 1, 2003.
Subject to the phase out of the education
credit described in §1.25A–1(c), for tax-
able years beginning before 2003, the
Lifetime Learning Credit amount is 20
percent of up to $5,000 of qualified tu-
ition and related expenses paid during the
taxable year for education furnished to the
taxpayer, the taxpayer’s spouse, and any
claimed dependent during any academic
period beginning in the taxable year (or
treated as beginning in the taxable year,
see §1.25A–5(e)(2)).
(2) Taxable years beginning after De-
cember 31, 2002.Subject to the phase out
of the education credit described in
§1.25A–1(c), for taxable years beginning
after 2002, the Lifetime Learning Credit
amount is 20 percent of up to $10,000 of
qualified tuition and related expenses paid
during the taxable year for education fur-
nished to the taxpayer, the taxpayer’s
spouse, and any claimed dependent dur-
ing any academic period beginning in the
taxable year (or treated as beginning in
the taxable year, see §1.25A–5(e)(2)).
(3) Coordination with the Hope Schol-
arship Credit. Expenses paid with respect
to a student for whom the Hope Scholar-
ship Credit is claimed are not eligible for
the Lifetime Learning Credit.
(4) Examples. The following examples
illustrate the rules of this paragraph (a).
In each example, assume that all the re-
quirements to claim a Lifetime Learning
March 15, 1999361999–11 I.R.B.

Credit or a Hope Scholarship Credit, as
applicable, are met. The examples are as
follows:
Example 1.In 1999, Taxpayer A pays qualified
tuition and related expenses of $3,000 for dependent
B to attend an eligible educational institution, and he
pays qualified tuition and related expenses of $4,000
for dependent C to attend an eligible educational in-
stitution. Taxpayer A does not claim a Hope Schol-
arship Credit with respect to either B or C. Although
Taxpayer A paid $7,000 of qualified tuition and re-
lated expenses during the taxable year, Taxpayer A
may claim the Lifetime Learning Credit with respect
to only $5,000 of such expenses. Therefore, the
maximum Lifetime Learning Credit Taxpayer A may
claim for 1999 is $1,000 (.20 x $5,000).
Example 2. In 1999, Taxpayer D pays $6,000 of
qualified tuition and related expenses for dependent
E, and $2,000 of qualified tuition and related ex-
penses for dependent F, to attend eligible educa-
tional institutions. Dependent F has already com-
pleted the first two years of postsecondary
education. For 1999, Taxpayer D claims the maxi-
mum $1,500 Hope Scholarship Credit with respect
to dependent E. In computing the amount of the
Lifetime Learning Credit, Taxpayer D may not in-
clude any of the $6,000 of qualified tuition and re-
lated expenses paid on behalf of dependent E but
may include the $2,000 of qualified tuition and re-
lated expenses of dependent F.
(b) Credit allowed for unlimited num-
ber of taxable years. There is no limit to
the number of taxable years that a tax-
payer may claim a Lifetime Learning
Credit with respect to any student.
(c) Both degree and nondegree courses
are eligible for the credit—(1) In general.
For purposes of the Lifetime Learning
Credit, amounts paid for a course at an el-
igible educational institution are qualified
tuition and related expenses if the course
is either part of a postsecondary degree
program or is not part of a postsecondary
degree program but is taken by the stu-
dent to acquire or improve job skills.
(2) Examples.The following examples
illustrate the rule of this paragraph (c). In
each example, assume that all the require-
ments to claim a Lifetime Learning Credit
are met. The examples are as follows:
Example 1.Taxpayer A, a professional photogra-
pher, enrolls in an advanced photography course at a
local community college. Although the course is not
part of a degree program, Taxpayer A enrolls in the
course to improve her job skills. The course fee paid
by Taxpayer A is a qualified tuition and related ex-
pense for purposes of the Lifetime Learning Credit.
Example 2.Taxpayer B, a stockbroker, plans to
travel abroad on a “photo-safari” for his next vaca-
tion. In preparation for the trip, Taxpayer B enrolls
in a noncredit photography class at a local commu-
nity college. Because Taxpayer B is not taking the
photography course as part of a degree program or
to acquire or improve his job skills, amounts paid by
Taxpayer B for the course are not qualified tuition
and related expenses for purposes of the Lifetime
Learning Credit.
(d) Effective date. The Lifetime Learn-
ing Credit is applicable for qualified tu-
ition and related expenses paid after June
30, 1998, for education furnished in acad-
emic periods beginning after June 30,
1998.
§1.25A–5 Special rules relating to
characterization and timing of payments.
(a) Payments of educational expenses
by a third party—(1) In general.Solely
for purposes of section 25A, if a third
party (someone other than the taxpayer,
the taxpayer’s spouse, or a claimed de-
pendent) makes a payment directly to an
eligible educational institution to pay for
a student’s qualified tuition and related
expenses, the student is treated as receiv-
ing the payment from the third party, and,
in turn, paying the qualified tuition and
related expenses to the institution.
(2) Example.The following example
illustrates the rule of this paragraph (a).
In the example, assume that all the re-
quirements to claim an education credit
are met. The example is as follows:
Example.Grandparent D makes a direct pay-
ment to an eligible educational institution for Stu-
dent E’s qualified tuition and related expenses. Stu-
dent E is not a claimed dependent in 1999. For
purposes of claiming an education credit, Student E
is treated as receiving the money from her grandpar-
ent and, in turn, paying her qualified tuition and re-
lated expenses.
(b) Expenses paid by dependent—(1)
In general.Qualified tuition and related
expenses paid by a student are treated as
paid by a taxpayer if the student is a
claimed dependent of the taxpayer for the
taxable year in which the expenses are
paid.
(2) Example.The following example
illustrates the rule of this paragraph (b).
In the example, assume that all the re-
quirements to claim an education credit
are met. The example is as follows:
Example. Under a court-approved divorce de-
cree, Parent A is required to pay Student C’s college
tuition. Parent A makes a direct payment to an eligi-
ble educational institution for Student C’s 1999 tu-
ition. Under paragraph (a) of this section, Student C
is treated as receiving the money from Parent A and,
in turn, paying his qualified tuition and related ex-
penses. Under the divorce decree, Parent B has cus-
tody of Student C for 1999. Parent B properly
claims Student C as a dependent on Parent B’s 1999
federal income tax return. Parent B may claim an
education credit for the qualified tuition and related
expenses paid directly to the institution by Parent A.
(c) Adjustment to qualified tuition and
related expenses for certain excludable
educational assistance—(1) In general.
In determining the amount of an educa-
tion credit, qualified tuition and related
expenses paid during the taxable year
must be reduced by any amount paid to,
or on behalf of, a student during the tax-
able year with respect to attendance at an
eligible educational institution during an
academic period beginning in that taxable
year that is—
(i) A qualified scholarship that is ex-
cludable from income under section 117;
(ii) A veterans’ or member of the armed
forces’ educational assistance allowance
under chapter 30, 31, 32, 34 or 35 of title
38, United States Code, or under chapter
1606 of title 10, United States Code;
(iii) Employer-provided educational as-
sistance that is excludable from income
under section 127; or
(iv) Any other educational assistance
that is excludable from gross income
(other than as a gift, bequest, devise, or
inheritance within the meaning of section
102(a)).
(2)No adjustment for excludable edu-
cational assistance attributable to ex-
penses paid in a prior year. A reduction is
not required under paragraph (c)(1) of this
section if the amount of excludable edu-
cational assistance received during the
taxable year is treated as a refund of qual-
ified tuition and related expenses paid in a
prior taxable year. See paragraph (f)(4) of
this section.
(3) Allocation of scholarships and fel-
lowship grants.For purposes of para-
graph (c)(1) of this section, a scholarship
or fellowship grant is treated as a quali-
fied scholarship excludable from income
under section 117 unless—
(i) The student reports the grant as in-
come on the student’s federal income tax
return; or
(ii) The grant must be applied, by its
terms, to expenses other than qualified tu-
ition and related expenses within the
meaning of section 117(b)(2), such as
room and board.
1999–11 I.R.B.37March 15, 1999

(4) Examples.The following examples
illustrate the rules of this paragraph (c).
In each example, assume that all the re-
quirements to claim an education credit
are met. The examples are as follows:
Example 1.University X charges Student A, who
lives on X’s campus, $3,000 for tuition and $5,000 for
room and board. University X awards a $2,000
scholarship to Student A, which University X applies
against Student A’s $8,000 total bill. The terms of the
scholarship permit it to be used to pay any of a stu-
dent’s costs of attendance at University X, including
tuition and room and board. Student A pays the
$6,000 balance of her bill from University X with a
combination of savings and amounts she earns from a
summer job. University X does not require A to pay
any additional fees beyond the $3,000 in tuition in
order to enroll in classes. Student A does not report
any portion of the scholarship as income on Student
A’s federal income tax return. The scholarship is a
qualified scholarship that is excludable from Student
A’s income under section 117 and is allocable first to
Student A’s qualified tuition and related expenses.
Therefore, for purposes of calculating an education
credit, Student A is treated as having paid only $1,000
($3,000 tuition – $2,000 scholarship) in qualified tu-
ition and related expenses to University X.
Example 2. The facts are the same as in Example
1,except that in addition to the scholarship that Uni-
versity X awards to Student A, University X also
provides Student A with a student loan and pays Stu-
dent A for working in a work/study job in the cam-
pus dining hall. The loan is not excludable educa-
tional assistance. In addition, wages paid to a
student who is performing services for the payor are
neither a qualified scholarship nor otherwise exclud-
able from gross income. Therefore, Student A is not
required to reduce her qualified tuition and related
expenses by the amounts she receives from the stu-
dent loan or as wages from her work/study job.
Example 3. In 1999, Student B pays University
Y $1,000 in tuition for the 1999 Spring semester.
University Y does not require Student B to pay any
additional fees beyond the $1,000 in tuition in order
to enroll in classes. Student B is an employee of
Company Z. At the end of the academic period and
during the same taxable year that Student B paid tu-
ition to University Y, Student B provides Company
Z with proof that he has satisfactorily completed his
courses at University Y. Pursuant to an educational
assistance program described in section 127(b),
Company Z reimburses Student B for all of the tu-
ition paid to University Y. Because the reimburse-
ment from Company Z is employer-provided educa-
tional assistance that is excludable from Student B’s
gross income under section 127, the reimbursement
reduces Student B’s qualified tuition and related ex-
penses. Therefore, for purposes of calculating an
education credit, Student B is treated as having paid
no qualified tuition and related expenses to Univer-
sity Y during 1999.
Example 4.The facts are the same as in Example
3,except that the reimbursement from Company Z is
not pursuant to an educational assistance program
described in section 127(b), is not otherwise exclud-
able from Student B’s gross income, and is taxed as
additional wages to Student B. Because the reim-
bursement is not excludable employer-provided edu-
cational assistance, Student B is not required to re-
duce his qualified tuition and related expenses by
the $1,000 reimbursement he received from his em-
ployer. Therefore, for purposes of calculating an ed-
ucation credit, Student B is treated as paying $1,000
in qualified tuition and related expenses to Univer-
sity Y during 1999.
(d) No double benefit.Qualified tuition
and related expenses do not include any
expense for which a deduction is allowed
under section 162 or any other provision
of chapter 1 of the Internal Revenue
Code.
(e) Timing rules—(1) In general.Ex-
cept as provided in paragraph (e)(2) of
this section, an education credit is al-
lowed only for payments of qualified tu-
ition and related expenses for an acade-
mic period beginning in the same taxable
year as the year the payment is made. Ex-
cept for certain individuals who do not
use the cash receipts and disbursements
method of accounting, qualified tuition
and related expenses are treated as paid in
the year in which the expenses are actu-
ally paid. See §1.461–1(a)(1).
(2) Prepayment rule—(i) In general.If
qualified tuition and related expenses are
paid during one taxable year for an acade-
mic period that begins during the first
three months of the taxpayer’s next tax-
able year (i.e., in January, February, or
March of the next taxable year for calen-
dar year taxpayers), an education credit is
allowed with respect to the qualified tu-
ition and related expenses only in the tax-
able year in which the expenses are paid.
(ii) Example.The following example
illustrates the rule of this paragraph
(e)(2). In the example, assume that all the
requirements to claim an education credit
are met. The example is as follows:
Example. In December 1998, Taxpayer A, a cal-
endar year taxpayer, pays College Z $1,000 in quali-
fied tuition and related expenses to attend the 1999
Spring semester, which begins in January 1999.
Taxpayer A may claim an education credit only in
1998 for payments made in 1998 for the 1999
Spring semester.
(3) Expenses paid with loan proceeds.
An education credit may be claimed for
the qualified tuition and related expenses
paid with the proceeds of a loan only in
the taxable year in which the expenses are
paid, and may not be claimed in the tax-
able year in which the loan is repaid.
Loan proceeds disbursed directly to an el-
igible educational institution will be
treated as paid on the date of disburse-
ment. If a taxpayer does not know the
date of disbursement, the taxpayer must
treat the qualified tuition and related ex-
penses as paid on the last date for pay-
ment prescribed by the institution.
(f) Refund of qualified tuition and re-
lated expenses—(1) Payment and refund
of qualified tuition and related expenses
in the same taxable year.With respect to
any student, the amount of qualified tu-
ition and related expenses for a taxable
year is calculated by adding all qualified
tuition and related expenses paid for the
taxable year, and subtracting any refund
of such expenses received from the eligi-
ble educational institution during the
same taxable year.
(2) Payment of qualified tuition and re-
lated expenses in one taxable year and re-
fund in subsequent taxable year before re-
turn filed for prior taxable year. If, in a
taxable year, a taxpayer, (or the taxpayer’s
spouse or a claimed dependent) receives a
refund from an eligible educational insti-
tution of qualified tuition and related ex-
penses paid in a prior taxable year and the
refund is received before the taxpayer
files a federal income tax return for the
prior taxable year, the amount of the qual-
ified tuition and related expenses for the
prior taxable year is reduced by the
amount of the refund.
(3) Payment of qualified tuition and re-
lated expenses in one taxable year and re-
fund in subsequent taxable year—(i) In
general.If, in a taxable year (refund
year), a taxpayer (or the taxpayer’s spouse
or a claimed dependent) receives a refund
of qualified tuition and related expenses
for which the taxpayer claimed an educa-
tion credit in a prior taxable year, the tax
imposed by chapter 1 of the Internal Rev-
enue Code for the refund year is increased
by the recapture amount.
(ii) Recapture amount.The recapture
amount is the difference between the
credit claimed in the prior taxable year
and the redetermined credit. The redeter-
mined credit is computed by reducing the
amount of the qualified tuition and related
expenses for which a credit was claimed
in the prior taxable year by the amount of
the refund of the qualified tuition and re-
lated expenses (redetermined qualified
expenses), and computing the credit using
March 15, 1999381999–11 I.R.B.

the redetermined qualified expenses and
the relevant facts and circumstances of
the prior taxable year, such as modified
adjusted gross income (redetermined
credit). Any redetermination of the tax li-
ability for the prior taxable year (by audit
or amended return) will be taken into ac-
count in computing the redetermined
credit.
(4) Excludable educational assistance
received in a subsequent taxable year
treated as a refund.If, in a taxable year,
any excludable educational assistance
(described in paragraph (c)(1) of this sec-
tion) is received for the qualified tuition
and related expenses paid during a prior
taxable year (or attributable to enrollment
at an eligible educational institution dur-
ing a prior taxable year), the educational
assistance is treated as a refund of quali-
fied tuition and related expenses for pur-
poses of paragraphs (f)(2) and (3) of this
section. If a taxpayer (or the taxpayer’s
spouse or a claimed dependent) receives
any excludable educational assistance be-
fore the taxpayer files a federal income
tax return for the prior taxable year, the
amount of the qualified tuition and related
expenses for the prior taxable year is re-
duced by the amount of the excludable
educational assistance as provided in
paragraph (f)(2) of this section. If a tax-
payer (or the taxpayer’s spouse or a
claimed dependent) receives excludable
educational assistance after the taxpayer
has filed a federal income tax return for
the prior taxable year, any education
credit claimed for the prior taxable year is
subject to recapture as provided in para-
graph (f)(3) of this section.
(5) Examples.The following examples
illustrate the rules of this paragraph (f).
In each example, assume that all the re-
quirements to claim an education credit
are met. The examples are as follows:
Example 1. In January 1998, Student A, a full-
time freshman at University X, pays $2,000 for
qualified tuition and related expenses for a 16-hour
work load for the 1998 Spring semester. Prior to be-
ginning classes, Student A withdraws from 6 course
hours. On February 15, 1998, Student A receives an
$800 refund from University X. In September 1998,
Student A pays University X $1,000 to enroll half-
time for the 1998 Fall semester. Prior to beginning
classes, Student A withdraws from a 2-hour course,
and she receives a $200 refund in October 1998.
Student A computes the amount of qualified tuition
and related expenses she may claim for 1998 by:
(i) Adding all qualified expenses paid during the
taxable year ($2,000 + 1,000 = $3,000);
(ii) Adding all refunds of qualified tuition and re-
lated expenses received during the taxable year
($800 + $200 = $1,000); and, then
(iii) Subtracting (ii) from (i) ($3,000 – $1,000 =
$2,000). Therefore, Student A’s qualified tuition and
related expenses for 1998 are $2,000.
Example 2.(i) In December 1998, Student B, a
senior at College Y, pays $2,000 for qualified tuition
and related expenses for a 16-hour work load for the
1999 Spring semester. Prior to beginning classes,
Student B withdraws from a 4-hour course. On Jan-
uary 15, 1999, Student B files her 1998 income tax
return and claims a $400 Lifetime Learning Credit
for the $2,000 qualified expenses paid in 1998.
(ii) She calculates the increase in tax for 1999 by:
(A) Calculating the redetermined qualified ex-
penses ($2,000 – $500 = $1,500);
(B) Calculating the redetermined credit for the
redetermined qualified expenses ($1,500 3.20 =
$300); and
(C) Subtracting the redetermined credit from the
credit claimed in 1998 ($400 – $300 = $100).
(iii) Therefore, Student B must increase the tax
on her 1999 federal income tax return by $100.
Example 3.In September 1998, Student C pays
College Z $1,200 in qualified tuition and related ex-
penses to attend evening classes during the 1998
Fall semester. Student C is an employee of Com-
pany R. On January 15, 1999, Student C files a fed-
eral income tax return for 1998 claiming a Lifetime
Learning Credit of $240 (.20 3$1,200). Pursuant to
an educational assistance program described in sec-
tion 127(b), Company R reimburses Student C in
February 1999 for the $1,200 of qualified tuition and
related expenses paid by Student C in 1998. The
$240 education credit claimed by Student C for
1998 is subject to recapture. Because Student C
paid no net qualified tuition and related expenses in
1998, the redetermined credit for 1998 is zero. Stu-
dent C must increase the amount of Student C’s
1999 taxes by the recapture amount, which is $240
(the education credit claimed for 1998 ($240) minus
the redetermined credit for 1998 ($0)). Because the
$1,200 reimbursement is taken into account in cal-
culating the $240 recapture amount for 1999, the re-
imbursement does not reduce the amount of any
qualified tuition and related expenses that Student C
paid in 1999.
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
(Filed by the Office of the Federal Register on Janu-
ary 5, 1999, 8:45 a.m., and published in the issue of
the Federal Register for January 6, 1999, 64 F.R.
794)
Notice of Proposed Rulemaking
and Notice of Public Hearing
Allocation of Loss With Respect
to the Distributions of Stock and
Other Personal Property
REG–106905–98
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Partial withdrawal of notice of
proposed rulemaking; notice of proposed
rulemaking by cross-reference to tempo-
rary regulations; and notice of public
hearing
SUMMARY: This document contains
proposed Income Tax Regulations relat-
ing to the allocation of loss recognized on
the disposition of stock and other personal
property. The loss allocation regulations
primarily will affect taxpayers that claim
the foreign tax credit and that incur losses
with respect to personal property and are
necessary to modify existing guidance.
Prior proposed regulations are withdrawn.
This document also provides notice of
a public hearing on these proposed
regulations.
DATES: Written comments must be re-
ceived by May 5, 1999. Outlines of oral
comments to be discussed at the public
hearing scheduled for May 26, 1999, must
be received by May 5, 1999.
ADDRESSES: Send submissions to
CC:DOM:CORP:R (REG–106905–98),
room 5226, Internal Revenue Service,
POB 7604, Ben Franklin Station, Wash-
ington, DC 20044. Submissions may be
hand delivered Monday through Friday
between the hours of 8 a.m. and 5 p.m. to:
CC:DOM:CORP:R (REG–106905–98),
Courier’s Desk, Internal Revenue Ser-
vice, 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 sub-
mitting comments directly to the IRS In-
ternet site at http://www.irs.ustreas. gov/
prod/tax_regs/comments.html. The pub-
lic hearing will be held in room 2615, In-
ternal Revenue Building, 1111 Constitu-
tion Avenue, NW, Washington, DC. FOR
FURTHER INFORMATION CONTACT:
Concerning the regulations in general,
Seth B. Goldstein of the Office of Associ-
ate Chief Counsel (International), (202)
622-3810; concerning submissions of
comments, the hearing, and/or to be
placed on the building access list to attend
the hearing, Michael Slaughter, (202)
622-7190 (not toll-free numbers).
1999–11 I.R.B.39March 15, 1999

SUPPLEMENTARY INFORMATION:
Background
Temporary regulations published in
T.D. 8805, 1999–5 I.R.B. 14, provide
guidance concerning the allocation of loss
with respect to personal property. The text
of those temporary regulations also serves
as the text of these proposed regulations.
The preamble to the temporary regulations
explains the proposed regulations. Pro-
posed §1.865–1, published on July 8, 1996
(REG–209750–95 [formerly INTL–4– 95,
1996–2 C.B. 484], 61 F.R. 35696), is with-
drawn.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a signifi-
cant regulatory action as defined in Exec-
utive Order 12866. Therefore, a regula-
tory impact analysis is not required.
An initial regulatory flexibility analysis
has been prepared for this notice of pro-
posed rulemaking under 5 U.S.C.
§ 603. A summary of the analysis is set
forth below under the heading ‘Summary
of Initial Regulatory Flexibility Analysis.’
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 Busi-
ness Administration for comment on its
impact on small businesses.
Summary of Initial Regulatory Flexibility
Analysis
These proposed regulations under sec-
tions 861 and 865 of the Internal Revenue
Code address the allocation of loss with
respect to personal property and are nec-
essary for the proper computation of the
foreign tax credit limitation under section
904 of the Internal Revenue Code. These
regulations are promulgated under sec-
tions 861, 865(j)(1) and 7805 of the Inter-
nal Revenue Code. If adopted, these pro-
posed regulations will affect small entities
such as small businesses but not other
small entities such as government or tax
exempt organizations, which do not pay
taxes. The IRS and Treasury Department
are not aware of any federal rules that du-
plicate, overlap or conflict with these reg-
ulations. None of the significant alterna-
tives considered in drafting these
regulations would have significantly al-
tered the economic impact of these regu-
lations on small entities. There are no al-
ternative rules that are less burdensome to
small entities but that accomplish the pur-
pose of the statute. The IRS and Treasury
Department request comments from small
entities concerning this analysis.
Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, considera-
tion will be given to any written com-
ments that are submitted timely to the IRS
(a signed original and eight (8) copies).
In particular, the IRS requests comments
on the clarity of the proposed regulations
and how they may be made easier to un-
derstand. All comments will be available
for public inspection and copying.
A public hearing has been scheduled for
May 26, 1999, beginning at 10 a.m. in
room 2615 of the Internal Revenue Build-
ing, 1111 Constitution Avenue, NW,
Washington, DC. Due to building security
procedures, visitors must enter at the 10th
Street entrance, located between Constitu-
tion and Pennsylvania Avenues, NW. In
addition, all visitors must present photo
identification to enter the building. Be-
cause of access restrictions, visitors will
not be admitted beyond the immediate en-
trance area more than 15 minutes before
the hearing starts. For information about
having your name placed on the building
access list to attend the hearing, see the
“FOR FURTHER INFORMATION CON-
TACT” section of this preamble.
The rules of 26 CFR 601.601(a)(3)
apply to the hearing. Persons who wish to
present oral comments at the hearing must
submit written comments and an outline
of the topics to be discussed and the time
to be devoted to each topic (signed origi-
nal and eight (8) copies) by May 5, 1999.
A period of 10 minutes will be allotted to
each person for making comments. An
agenda showing the scheduling of the
speakers will be prepared after the dead-
line for receiving outlines has passed.
Copies of the agenda will be available
free of charge at the hearing.
Drafting Information
The principal author of these regula-
tions is Seth B. Goldstein, of the Office of
the Associate Chief Counsel (Interna-
tional), IRS. However, other personnel
from the IRS and Treasury Department
participated in their development.
*****
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is pro-
posed 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 * * *
Section 1.865–1 also issued under 26
U.S.C. 865. * * *
Par. 2. Section 1.861–8 is amended by
revising paragraph (e)(8) to read as fol-
lows:
§1.861–8 Computation of taxable
income from sources within the United
States and from other sources and
activities.
* * * * *
(e) * * *
(8) [The text of this proposed para-
graph (e)(8) is the same as the text of
§1.861–8T(e)(8) published in T.D. 8805.]
* * * * *
Par. 3. Section 1.865–1 is added imme-
diately following §1.864–8T, to read as
follows:
§1.865–1 Loss with respect to personal
property other than stock.[The text of
this proposed §1.865–1 is the same as the
text of §1.865–1T published in T.D.
8805.]
Par. 4. Section 1.865–2 is amended by
adding paragraphs (b)(4)(iii) and
(b)(4)(iv) Example 3through Example 6
to read as follows:
§1.865–2 Loss with respect to stock.
* * * * *
(b) * * *
(4) * * *
(iii) [The text of this proposed para-
graph (b)(4)(iii) is the same as the text of
§1.865–2T(b)(4)(iii) published in T.D.
8805.]
(iv) * * *
Example 3through Example 6[The text
of this proposed paragraph (b)(4)(iv) Ex-
ample 3through Example 6is the same as
March 15, 1999401999–11 I.R.B.

the text of §1.865–2T(b)(4)(iv) Example 3
through Example 6 published in T.D.
8805.]
* * * * *
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
(Filed by the Office of the Federal Register on Janu-
ary 8, 1999, 8:45 a.m., and published in the issue of
the Federal Register for January 11, 1999, 64 F.R.
1571)
Notice of Proposed Rulemaking
and Notice of Public Hearing
Separate Share Rules
Applicable to Estates
REG–114841–98
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemak-
ing and notice of public hearing.
SUMMARY: This document contains
proposed regulations that provide that
substantively separate and independent
shares of different beneficiaries are to be
treated as separate estates for purposes of
computing the distributable net income.
These proposed regulations also provide
that a surviving spouse’s statutory elec-
tive share of a decedent’s estate is a sepa-
rate share. Further, a revocable trust that
elects to be treated as part of a decedent’s
estate is a separate share. Section 1307 of
the Taxpayer Relief Act of 1997 amended
section 663 of the Internal Revenue Code
by extending the separate share rules to
estates. These proposed regulations affect
estates of decedents. This document also
provides notice of a public hearing on
these proposed regulations.
DATES: Written and electronic comments
must be received by April 6, 1999. Out-
lines of topics to be discussed at the public
hearing scheduled for April 22, 1999, at 10
a.m. must be received by April 1, 1999.
ADDRESSES: Send submissions to:
CC:DOM:CORP:R (REG–114841–98),
room 5226, Internal Revenue Service,
POB 7604, Ben Franklin Station, Wash-
ington, DC 20044. Submissions may be
hand delivered Monday through Friday
between the hours of 8 a.m. and 5 p.m. to:
CC:DOM:CORP:R (REG–114841–98),
Courier’s Desk, Internal Revenue Ser-
vice, 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 sub-
mitting comments directly to the IRS in-
ternet site at http://www.irs.ustreas.gov/
prod/tax_regs/comments.html. The pub-
lic hearing will be held in room 2615, In-
ternal Revenue Building, 1111 Constitu-
tion Avenue, NW, Washington, DC.
FOR FURTHER INFORMATION CON-
TACT: Concerning the regulations, Laura
Howell, (202) 622-3060; concerning sub-
missions of comments, the hearing,
and/or to be placed on the building access
list to attend the hearing, Michael L.
Slaughter, Jr., (202) 622-7190 (not toll-
free numbers).
SUPPLEMENTARY INFORMATION:
Background
Prior to amendment by Section 1307 of
the Taxpayer Relief Act of 1997, Public
Law 105–34, August 5, 1997, (TRA
1997), section 663(c) of the Internal Rev-
enue Code (Code) provided that, for the
purpose of determining the amount of dis-
tributable net income in the application of
sections 661 and 662, in the case of a sin-
gle trust having more than one benefi-
ciary, substantially separate and indepen-
dent shares of different beneficiaries (or
classes of beneficiaries) of the trust shall
be treated as separate trusts. The applica-
tion of the separate share rule is manda-
tory where separate shares exist. Section
1.663(c)–1(d) and H.R. Conf. Rep. No.
2014, 105th Cong. 1st Sess. 712–13 and
fn. 18.
Section 1307 of TRA 1997 amended
section 663(c) of the Code by extending
the separate share rule to estates. Prior to
this amendment, a distribution to an estate
beneficiary in the ordinary course of ad-
ministration often resulted in the benefi-
ciary being taxed on a disproportionate
share of the estate’s income. The exten-
sion of the separate share rule to estates
promotes fairness by more rationally allo-
cating the income of the estate among the
estate and its beneficiaries thereby reduc-
ing the distortion that may occur when a
disproportionate distribution of estate as-
sets is made to one or more estate benefi-
ciaries in a year when an estate has dis-
tributable net income. Under the separate
share rule, a beneficiary is taxed only on
the amount of income that belongs to that
beneficiary’s separate share.
In addition, section 1305 of TRA 1997
added section 645 to the Code (originally
enacted as section 646 and redesignated
as section 645 by the Internal Revenue
Service Restructuring and Reform Act of
1998). Under section 645, both the ex-
ecutor (if any) of an estate and the trustee
of a qualified revocable trust may elect to
treat the revocable trust as part of the
decedent’s probate estate for income tax
purposes. The legislative history for sec-
tion 1305 provides that the separate share
rule applicable to estates will apply when
a qualified revocable trust elects to be
treated as part of the decedent’s estate.
Explanation of Provisions
The proposed regulations conform the
current regulations to the statutory
changes. In addition, the proposed regu-
lations address two specific matters in-
volving separate share treatment of inter-
ests in estates: the treatment of the
spousal elective share and the treatment
of an electing revocable trust under sec-
tion 645 of the Code.
General Separate Share Rule
If an estate has multiple beneficiaries,
substantially separate and independent
shares of different beneficiaries (or
classes of beneficiaries) are to be treated
as separate estates only for purposes of
computing distributable net income.
There are separate shares in an estate
when the governing instrument of the es-
tate and applicable local law create sepa-
rate economic interests in one beneficiary
or class of beneficiaries such that the eco-
nomic interests of those beneficiaries
(e.g., rights to income or gains from spec-
ified items of property) are not affected
by the economic interests accruing to an-
other separate beneficiary or class of ben-
eficiaries. Thus, there are separate shares
in an estate when a beneficiary or class of
1999–11 I.R.B.41March 15, 1999

beneficiaries has an interest in a dece-
dent’s estate (whether corpus or income,
or both) that no other beneficiary or class
of beneficiaries has in the decedent’s es-
tate. The application of the separate share
rule to estates is mandatory where sepa-
rate shares exist. The separate share rule
requires that the estate’s income and de-
ductions be allocated among the separate
shares as if they were separate estates.
The section 661 deduction to the estate
and the section 662 inclusion in the gross
income of the beneficiary are limited by
the distributable net income allocable to
each separate share.
These proposed regulations do not
change the rules involving specific gifts
and bequests described in section 663(a).
Surviving Spouse’s Elective Share
Most non-community property states
have some form of elective share statute
which replaces common law dower and
curtesy (the common law protection for
surviving spouses). Generally, an elective
share statute gives the surviving spouse
the right to claim a share of the deceased
spouse’s estate if the surviving spouse is
disinherited or dissatisfied with what the
spouse would have received under the
will or otherwise. In most states the elec-
tive share consists of a fraction, ranging
from one-fourth to one-half of the dece-
dent’s estate. Elective share statutes vary
as to when the share vests and whether the
share includes a portion of the estate in-
come, as well as whether the share partic-
ipates in the appreciation or depreciation
of the estate’s assets.
Rev. Rul. 64–101 (1964–1 C.B. 77) ad-
dresses the Florida statutory dower inter-
est which, at the time of the revenue rul-
ing, entitled the widow to the dower
interest and mesne profits thereon. The
ruling holds that the value of assets trans-
ferred to the widow as dower is not a dis-
tribution to a beneficiary subject to sec-
tions 661(a) and 662(a) of the Code.
Instead, the transfer of assets is governed
by section 102.
Rev. Rul. 71–167 (1971–1 C.B. 163)
modifies Rev. Rul. 64–101 by holding
that the amount distributed to the widow
representing mesne profits is subject to
sections 661(a) and 662(a) of the Code.
Therefore, an amount corresponding to
the allowable deduction to the estate
under section 661(a) is includible in the
gross income of the widow under section
662(a).
Recently, two cases, Deutsch v. Com-
missioner,TCM 1997-470, and Brigham
v. United States,983 F. Supp. 46, (D.
Mass. 1997), have addressed how to treat
payments to the surviving spouse in satis-
faction of the spouse’s elective share
amount. In Deutsch,the surviving spouse
elected to take against the decedent’s will
as provided by the Florida elective share
statute. Under the statute, the surviving
spouse was entitled to 30 percent of the
net estate based upon date of death val-
ues, but was not entitled to any income of
the estate, and did not participate in ap-
preciation or depreciation of the estate as-
sets. The Tax Court, noting Rev. Rul. 64–
101, held that payments to the surviving
spouse in satisfaction of her elective share
amount were not subject to sections
661(a) and 662(a). Rather, the payments
were governed by section 102.
In Brigham,the surviving spouse
elected to take against the decedent’s will
as provided by the New Hampshire elec-
tive share statute. Under the statute, the
surviving spouse was entitled to one-third
of the personalty and one-third of the real
estate. The court held that the payments
made to the surviving spouse in satisfac-
tion of her elective share amount were
subject to sections 661(a) and 662(a).
Thus, the court held that all of the estate’s
distributable net income was taxable to
the surviving spouse because she was the
only beneficiary to receive a distribution
for the year in question and her distribu-
tion exceeded the amount of the estate’s
distributable net income.
In light of the uncertainty concerning
the proper treatment of payments in satis-
faction of a surviving spouse’s elective
share, and also given that Rev. Ruls. 64–
101 and 71–167 are outdated because
dower has been replaced by elective share
statutes in most states, the Internal Rev-
enue Service and Treasury have con-
cluded that regulatory guidance is needed
to provide uniform treatment.
These proposed regulations provide
that the surviving spouse’s elective share
constitutes a separate share of the estate
for the sole purpose of determining the
amount of distributable net income in ap-
plication of sections 661(a) and 662(a).
Therefore, only the income that is (1) al-
locable to the surviving spouse’s separate
share for a taxable year, and (2) distrib-
uted to the surviving spouse in satisfac-
tion of the elective share will be treated as
a distribution subject to sections 661(a)
and 662(a). This approach results in the
surviving spouse being taxed on the es-
tate’s income earned during administra-
tion only to the extent of the surviving
spouse’s right to share in the estate’s in-
come under state law. Comments are re-
quested on whether there are situations in
which an elective share or dower interest
would not be a separate share under the
separate economic interest test set forth in
the proposed regulations.
Electing Revocable Trust To Be a
Part Of Estate
These proposed regulations provide
that a qualified revocable trust that elects
to be treated as part of the decedent’s es-
tate constitutes a separate share for the
sole purpose of determining the amount
of distributable net income in the applica-
tion of sections 661 and 662. A separate
proposed regulation project will provide
further guidance concerning qualified re-
vocable trusts that are treated as part of an
estate.
Proposed Effective Date
These regulations apply to estates of
decedents dying after the date that the
Treasury decision adopting these rules as
final regulations is published in the Fed-
eral Register.
Effect on Other Documents
When these regulations are finalized,
Rev. Rul. 64–101 (1964–1 C.B. 77) and
Rev. Rul. 71–167 (1971–1 C.B. 163) will
be obsolete.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a signifi-
cant regulatory action as defined in EO
12886. Therefore, a regulatory assess-
ment is not required. It also has been de-
termined that section 553(b) of the Ad-
ministrative Procedure Act (5 U.S.C.
March 15, 1999421999–11 I.R.B.

chapter 5) does not apply to these regula-
tions, 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 Code,
this notice of proposed rulemaking will be
submitted to the Chief Counsel for Advo-
cacy of the Small Business Administra-
tion for comment on its impact on small
business.
Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, considera-
tion will be given to any electronic and
written comments (a signed original and
eight (8) copies) that are submitted timely
to the IRS. The IRS and Treasury specifi-
cally request comments on the clarity of
the proposed regulation and how it may
be made easier to understand. All com-
ments will be available for public inspec-
tion and copying. We especially request
comments concerning the treatment of pe-
cuniary bequests (including formula pe-
cuniary bequests) as separate shares.
A public hearing has been scheduled
for April 22, 1999, beginning at 10 a.m.
The hearing will be held in room 2615,
Internal Revenue Building, 1111 Consti-
tution Avenue, NW, Washington, DC.
Due to building security procedures, visi-
tors must enter at the 10th Street entrance,
located between Constitution and Penn-
sylvania Avenues, NW. In addition, all
visitors must present photo identification
to enter the building. Because of access
restrictions, visitors will not be admitted
beyond the immediate entrance area more
than 15 minutes before the hearing starts.
For information about having your name
placed on the building access list to attend
the hearing, see the “FOR FURTHER IN-
FORMATION CONTACT” section of
this preamble.
The rules of 26 CFR 601.601(a)(3)
apply to the hearing. Persons who wish to
present oral comments at the hearing must
submit written or electronic comments by
April 6, 1999, and submit an outline of
topics to be discussed and the time to be
devoted to each topic (a signed original
and eight (8) copies) by April 1, 1999.
A period of 10 minutes will be allotted
to each person for making comments.
An agenda showing the scheduling of
the speakers will be prepared after the
deadline for receiving outlines has
passed. Copies of the agenda will be
available free of charge at the hearing.
Drafting Information
The principal author of these regula-
tions is Laura Howell of the Office of As-
sistant Chief Counsel (Passthroughs and
Special Industries). However, other per-
sonnel from the IRS and Treasury Depart-
ment participated in their development.
*****
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is pro-
posed to be amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by adding entries in nu-
merical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.663(c)–1 also issued under 26
U.S.C. 663(c).
Section 1.663(c)–2 also issued under 26
U.S.C. 663(c).
Section 1.663(c)–3 also issued under 26
U.S.C. 663(c).
Section 1.663(c)–4 also issued under 26
U.S.C. 663(c).
Section 1.663(c)–5 also issued under 26
U.S.C. 663(c).
Section 1.663(c)–6 also issued under 26
U.S.C. 663(c). * * *
Par. 2. Section 1.663(c)–1 is amended
as follows:
1. The section heading is revised.
2. The first sentence of paragraph (a) is
amended by removing the language
“trust” and adding the language “trust (or
estate)” in its place and removing the lan-
guage “trusts” and adding the language
“trusts (or estates)” in its place. The sec-
ond sentence of paragraph (a) is amended
by removing the language “trusts” and
adding the language “trusts (or estates)”
in its place.
3. Paragraph (b)(2) is removed.
4. Paragraphs (b)(3) and (b)(4) are re-
designated as paragraphs (b)(2) and
(b)(3).
5. Paragraph (b) introductory text, is
amended by removing the language
“trusts” and adding the language “trusts
(or estates)” each place it appears.
6. Paragraph (c) and the last sentence
of paragraph (d) are amended by remov-
ing the language “trust” and adding the
language “trust (or estate)” in its place.
The revision reads as follows:
§1.663(c)–1 Separate shares treated as
separate trusts or as separate estates; in
general.
* * * * *
Par. 3. Section 1.663(c)–2 is revised to
read as follows:
§1.663(c)–2 Computation of distributable
net income.
The amount of distributable net income
for any share under section 663(c) is com-
puted for each share as if each share con-
stituted a separate trust or estate. Accord-
ingly, any deduction or any loss which is
applicable solely to one separate share of
the trust or estate is not available to any
other share of the same trust or estate.
Par. 4. Section 1.663(c)–3 is amended
by revising the section heading and re-
moving paragraph (f) to read as follows:
§1.663(c)–3 Applicability of separate
share rule to trusts.
* * * * *
§1.663(c)–4 [Redesignated as
§1.663(c)–5]
Par. 5. Section 1.663(c)–4 is redesig-
nated as §1.663(c)–5 and a new
§1.663(c)–4 is added to read as follows:
§1.663(c)–4 Applicability of separate
share rule to estates.
(a) General rule.The applicability of
the separate share rule to estates provided
by section 663(c) will generally depend
upon whether the governing instrument
and applicable local law create separate
economic interests in one beneficiary or
class of beneficiaries of the decedent’s es-
tate such that the economic interests of
the beneficiary or class of beneficiaries
are not affected by economic interests ac-
cruing to another beneficiary or class of
beneficiaries. A separate share should be
allocated only the share of the estate’s in-
come and deductions that the beneficiary
(or beneficiaries) of such separate share is
(or are) entitled to (if any) under the terms
of the governing instrument or local law.
1999–11 I.R.B.43March 15, 1999

The separate share rule does not affect
rules under section 663(a) concerning
specific gifts and bequests.
(b) Examples of separate shares.Sepa-
rate shares include—
(1) A surviving spouse’s elective share;
(2) A revocable trust that elects to be
part of the decedent’s estate under section
645;
(3) The residuary estate, or some por-
tion of the residuary estate, if the require-
ments of paragraph (a) of this section are
met; and
(4) A gift or bequest of a specific sum
of money or of specific property that is
paid or credited in more than three install-
ments, if the requirements of paragraph
(a) of this section are met.
(c) Shares with multiple beneficiaries
and beneficiaries of multiple shares.A
share may be considered as separate even
though more than one beneficiary has an
interest in it. For example, two beneficia-
ries may have equal, disproportionate, or
indeterminate interests in one share which
is economically separate and independent
from another share in which one or more
beneficiaries have an interest. Moreover,
the same person may be a beneficiary of
more than one separate share.
Par. 6. Newly designated §1.663(c)–5
is amended by:
1. Revising the section heading and in-
troductory text.
2. Redesignating the “Example.” as
“Example 1.” and redesignating para-
graphs (a), (b), (c), (d), and (e) in newly
designated Example 1as paragraphs (i),
(ii), (iii), (iv), and (v).
3. Adding Example 2, Example 3,and
Example 4.
The revisions and addition read as fol-
lows:
§1.663(c)-–5 Examples.
Section 663(c) may be illustrated by
the following examples:
Example 1.* * *
Example 2.(i) Facts.(A) Testator died domi-
ciled in State X on January 30, 1999, leaving an es-
tate of $40,000,000 after debts, expenses, and estate
taxes, and survived by a spouse and three adult chil-
dren from a previous marriage. Testator’s will di-
rected the executrix to pay the surviving spouse
$1,000,000 in cash and divide the residue, after pay-
ment of debts, expenses, and estate taxes, equally
among Testator’s three children.
(B) The surviving spouse filed an election under
State X’s elective share statute. The court deter-
mined that the surviving spouse’s election was valid
and ordered the executrix to pay the elective share.
Under State X’s elective share statute, a surviving
spouse is entitled to one-fourth of a decedent’s estate
after debts, expenses, and estate taxes if the dece-
dent had children. Further, the surviving spouse is
entitled to a proportional amount of the estate net in-
come and participates proportionally in appreciation
or depreciation of the estate’s assets.
(C) The executrix elected the calendar year for
the estate. On June 30, 1999, the executrix distrib-
uted $5,000,000 to the surviving spouse in partial
satisfaction of the elective share. During the 1999
taxable year, the estate received dividend income of
$2,000,000 and paid expenses of $50,000. For the
1999 taxable year, the value of the estate neither ap-
preciated nor depreciated. The executrix made no
other distributions during the 1999 taxable year.
(ii) Holding.Separate share treatment applies to
each of the three residuary bequests, and to the sur-
viving spouse’s elective share.
(iii) Application.(A) After determining the in-
come and expenses for the estate, the executrix allo-
cated a portion of the income and expenses to each
separate share based upon each share’s percentage
of the estate. Thus, while the surviving spouse’s
elective share initially constituted 25% of the estate,
after the partial distribution of $5,000,000 made on
June 30, 1999, the elective share constituted a
smaller percentage of the estate. Accordingly, the
percentage of the estate’s income and expenses allo-
cated to the elective share after June 30, 1999, was
correspondingly reduced in accordance with the ex-
ecutrix’s determination of the proper allocation of
income and expenses to the elective share.
(B) For the 1999 taxable year, the estate is
treated as having distributed to the surviving spouse
the distributable net income that was allocated to the
elective share. In accordance with section 662, the
surviving spouse must include in gross income for
the 1999 taxable year an amount equal to the distrib-
utable net income allocated to the surviving spouse’s
separate share and distributed to the surviving
spouse for the 1999 taxable year. The estate will,
accordingly, be allowed a deduction under section
661 for the amount of distributable net income allo-
cated to the elective share and distributed to the sur-
viving spouse.
Example 3.(i) Facts.(A) Assume the same
facts as in Example 2except that Testator died domi-
ciled in State Y leaving an estate of $60,000,000
after debts, expenses, and estate taxes. Under State
Y’s elective share statute, the surviving spouse is en-
titled to the date of death value of one-third of the
decedent’s estate after debts, expenses, and taxes.
The statute also provides that the surviving spouse is
not entitled to any of the estate’s income and does
not participate in appreciation or depreciation of the
estate’s assets. Further, under the statute, the surviv-
ing spouse is entitled to interest on the elective share
from the date of the court order directing the ex-
ecutrix to make payments.
(B) The executrix elected the calendar year for
the estate. During the 1999 taxable year, the estate
received dividend income of $3,000,000, and paid
administration expenses of $60,000 and paid the sur-
viving spouse $1,000,000 of interest payments on
the elective share. Also, during the 1999 taxable
year, the executrix distributed $5,000,000 to the sur-
viving spouse in partial satisfaction of the elective
share. The executrix made no other distributions
during the 1999 taxable year.
(ii) Holding.Separate share treatment applies to
each of the three residuary bequests and to the sur-
viving spouse’s elective share.
(iii) Application.The distributable net income of
each child’s residuary bequest is $980,000 (a
33.33% share of estate income less a 33.33% share
of estate expenses). Because the surviving spouse
was not entitled to any estate income under state
law, no income is allocated to the spouse’s separate
share. The distribution in satisfaction of the
spouse’s elective share does not consist of any dis-
tributable net income and is not included in the
spouse’s gross income under section 662. The
$1,000,000 of interest payment to the surviving
spouse must be included in gross income of the
spouse under section 61. Therefore, the estate is
treated as having distributed to the surviving spouse
$5,000,000 of amounts other than 1999 estate in-
come. Accordingly, the estate is not allowed a de-
duction under section 661 for the distribution made
to the surviving spouse. The taxable income of the
estate for the 1999 taxable year is $2,939,400
($3,000,000 (dividend income) minus $60,000 (ex-
penses) and $600 (personal exemption)). The
$1,000,000 interest payment is a nondeductible per-
sonal interest expense described in section 163(h).
Example 4.(i) Facts. (A) Testator died domi-
ciled in State Z on February 14, 1999, survived by a
spouse and two children. Testator’s will contains a
nonproportional funding fractional formula marital
bequest for the surviving spouse with a residuary
credit shelter trust for the lifetime benefit of the sur-
viving spouse, and remainder to the two children on
the surviving spouse’s death. The date of death
value of the estate is $1,650,000.
(B) The executrix elected the calendar year for
the estate. Under the fractional formula, the marital
bequest constitutes 60% of the estate and the credit
shelter trust constitutes 40% of the estate. Accord-
ingly, the executrix claims a marital deduction of
$990,000 on the estate tax return for the amount
passing to the spouse under the fractional formula.
On December 31, 1999, the executrix made a partial
proportionate distribution of $1,000,0000, $600,000
to the surviving spouse outright and $400,000 to the
credit shelter trust. As of December 31, 1999, prior
to the distribution, the value of Testator’s estate had
appreciated to $2,000,000.
(C) During the 1999 taxable year, the estate
made no other distributions, received dividend in-
come of $20,000, and paid expenses of $8,000.
(ii) Holding.Separate share treatment applies to
the fractional formula marital bequest and the credit
shelter trust.
(iii)Application.(A) Because Testator provided
for a fractional formula marital bequest in the will,
the income and any appreciation in the value of the
estate assets is proportionately allocated between the
marital bequest share and the credit shelter trust
share. Therefore, the distributable net income must
be allocated 60% for the marital separate share and
40% for the credit shelter separate share.
March 15, 1999441999–11 I.R.B.

(B) The distributable net income allocable to the
marital share is $7,200 (60% of estate income less
60% of estate expenses). Correspondingly, the dis-
tributable net income allocable to the credit shelter
share is $4,800 (40% of estate income less 40% of
estate expenses). Because the $600,000 amount dis-
tributed in partial satisfaction of the marital bequest
exceeds the distributable net income of $7,200 allo-
cated to the marital share, the estate is treated as
having distributed to the surviving spouse $7,200 of
1999 distributable net income and $592,800 of other
amounts. Similarly, because the $400,000 distrib-
uted in partial satisfaction of the amount payable to
the credit shelter trust exceeds the distributable net
income of $4,800 allocated to the credit shelter trust
share, the estate is treated as having distributed to
the credit shelter trust $4,800 of 1999 distributable
net income and $395,200 of other amounts. Accord-
ingly, the estate is allowed a deduction of $12,000
under section 661 for the 1999 taxable year. The
taxable income of the estate is $0, computed as fol-
lows:
Dividends . . . . . . . . . . . . . . . . . . . . . . . . . $20,000
Deductions:
Distribution to surviving spouse share $7,200
Distribution to credit shelter trust share 4,800
Expenses . . . . . . . . . . . . . . . . . . . . . . . . 8,000
Personal exemption . . . . . . . . . . . . . . . .600
20,600
(600)
(C) In accordance with section 662, the surviving
spouse must include in gross income for the 1999
taxable year an amount equal to the distributable net
income of the marital bequest share ($7,200) that
was distributed to the surviving spouse. The credit
shelter trust must include in gross income for the
1999 taxable year an amount equal to the distrib-
utable net income of the credit shelter trust share
($4,800) that was distributed to the credit shelter
trust.
Par. 7. Section 1.663(c)–6 is added to
read as follows:
§1.663(c)–6 Effective date.
Sections 1.663(c)–1 through 1.663(c)–
5 concerning the application of the sepa-
rate share rules to estates apply to estates
of decedents dying after the final regula-
tions are published in the Federal Regis-
ter.
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
(Filed by the Office of the Federal Register on Janu-
ary 5, 1999, 8:45 a.m., and published in the issue of
the Federal Register for January 6, 1999, 64 F.R.
790)
Notice of Proposed Rulemaking
and Notice of Public Hearing
Establishment of a Balanced
Measurement System
REG–119192–98
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemak-
ing and notice of public hearing.
SUMMARY: This document contains
proposed regulations relating to the adop-
tion by the IRS of a balanced system to
measure organizational performance
within the IRS. These proposed regula-
tions further implement a requirement that
all employees be evaluated on whether
they provided fair and equitable treatment
to taxpayers and bar use of records of tax
enforcement results to evaluate or to im-
pose or suggest goals for any employee of
the IRS. These regulations implement
sections 1201 and 1204 of the Internal
Revenue Restructuring and Reform Act of
1998. These regulations affect internal
operations of the IRS and the systems that
agency employs to evaluate the perfor-
mance of organizations within IRS and in-
dividuals employed by IRS. This docu-
ment also provides notice of public
hearing on these proposed regulations.
DATES: Written comments and elec-
tronic comments must be received by
March 5, 1999. Outlines of oral com-
ments to be presented at the public hear-
ing scheduled for Thursday, May 13,
1999 at 10 a.m. must be received by
Thursday, April 22, 1999.
ADDRESSES: Send submissions to:
CC:DOM:CORP:R (REG–119192–98),
room 5226, Internal Revenue Service,
POB 7604, Ben Franklin Station, Wash-
ington, DC 20044. Submissions may be
hand delivered Monday through Friday
between the hours of 8 a.m. and 5 p.m. to:
CC:DOM:CORP:R (REG–119192–98),
Courier’s Desk, Internal Revenue Ser-
vice, 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 sub-
mitting comments directly to the IRS In-
ternet site at http://www.irs.ustreas.gov/
prod/tax_regs/comments.html. The pub-
lic hearing will be held in room 2615, at
10 a.m., Internal Revenue Building, 1111
Constitution Avenue, NW, Washington,
DC.
FOR FURTHER INFORMATION CON-
TACT: Concerning the proposed regula-
tions, Julie Barry (202) 401-4013; con-
cerning submission of comments, the
hearing, or to be placed on the building
access list to attend the hearing, the Regu-
lations Unit, (202) 622-7180 (not toll-free
numbers).
SUPPLEMENTARY INFORMATION:
Background
This document contains proposed regu-
lations to establish a Balanced System for
Measuring Organizational and Individual
Performance Within the Internal Revenue
Service (26 CFR Part 801).
Section 1201 of the Internal Revenue
Service Restructuring and Reform Act of
1998 (RRA), Public Law No. 105–206
(112 Stat. 685, 713 et seq.(1998)), re-
quires the Internal Revenue Service to es-
tablish a performance management sys-
tem for those employees covered by 5
U.S.C § 4302 that, inter alia,establishes
“goals or objectives for individual, group,
or organizational performance (or any
combination thereof), consistent with the
Internal Revenue Service’s performance
planning procedures, including those es-
tablished under the Government Perfor-
mance and Results Act of 1993, division
E of the Clinger-Cohen Act of 1966 ...,
Revenue Procedure 64-22 ..., and tax-
payer service surveys.” It further requires
the IRS to use “such goals and objectives
to make performance distinctions among
employees or groups of employees,” and
to use “performance assessments as a
basis for granting employee awards, ad-
justing an employee’s rate of basic pay,
and other appropriate personnel ac-
tions. . . .” Finally, section 1201 expressly
requires that any performance manage-
ment system adopted by the IRS conform
1999–11 I.R.B.45March 15, 1999

to the requirements of section 1204 of
RRA.
Section 1204 of RRA provides that the
IRS shall not use “records of tax enforce-
ment results” in the evaluation of IRS em-
ployees or to suggest or impose produc-
tion goals for such employees. It further
provides that the IRS shall use the “fair
and equitable treatment of taxpayers by
employees as one of the standards for
evaluating employee performance.” Fi-
nally, section 1204 requires that “each ap-
propriate supervisor” certify quarterly in a
letter to the Commissioner “whether or
not tax enforcement results are being used
in a manner prohibited by” that section.
Antecedents to Sections 1201 and 1204
Until the recent change, the Mission
Statement for the IRS had provided, in
part: “The purpose of the Internal Rev-
enue Service is to collect the proper
amount of tax revenue at the least
cost....” Consistent with this Mission
Statement, the IRS has long adhered to
the principle that all IRS officials with
discretion to make decisions regarding
enforcement matters in individual cases
should do so only on the basis of the cor-
rect application of the law to the facts of
each individual case. It has also sought to
give the taxpayers maximum efficiencies
in its day-to-day operations and has ap-
plied many modern management tech-
niques to measure and encourage such ef-
ficiencies.
In order to achieve these dual goals, the
IRS has adopted a number of systems by
which it sets goals for and measures the
success of its various operating units, and
directs the activities of its employees.
The ultimate objective of these measure-
ment systems is to help the IRS achieve
its overall mission.
Measuring Organizational Performance
In General.The Government Perfor-
mance and Results Act of 1993, Public
Law No. 103–62 (107 Stat. 285 (Aug. 3,
1993)) (GPRA), requires the IRS and
other federal agencies to establish a hier-
archy of performance measures and goals
applicable to various organizational units
within their agencies. These performance
measures and goals should be expressed
in objective, quantifiable and measurable
forms to define the level of performance
to be achieved by a program activity.
As indicated by the General Account-
ing Office (“Executive Guide: Effec-
tively Implementing the Government
Performance and Results Act,”
(GAO/GGD–96–118 at 24)):
[L]eading organizations . . . strive to
align their activities and resources to
achieve mission-related goals[;] they
also seek to establish clear hierarchies
of performance goals and measures.
Under these hierarchies, the organiza-
tions try to link the goals and perfor-
mance measures for each organiza-
tional level to successive levels and
ultimately to the organization’s strate-
gic goals. They have recognized that
without clear, hierarchically linked per-
formance measures, managers and staff
throughout the organization will lack
straightforward roadmaps showing
how their daily activities can contribute
to attaining organizationwide strategic
goals and mission.
The legislative history underlying pas-
sage of GPRA indicates that not only
must performance goals be established on
an hierarchal basis throughout an organi-
zation, but those goals must reflect the
full range of the organization’s objectives.
As the Senate Report accompanying the
Act indicates (S. Rep. No. 103–58, 103d
Cong., 1st Sess. at 29 (1993)):
The Committee believes agencies
should develop a range of related per-
formance indicators, such as quantity,
quality, timeliness, cost, and outcome.
A range is important because most pro-
gram activities require managers to bal-
ance their priorities among several sub-
goals.....Reliance on any single one
of these measures could create a per-
verse incentive for managers to achieve
one subgoal at the expense of the
others.
As a government agency responsible
for collecting 95 percent of the nation’s
revenues, the IRS adopted, pursuant to
GPRA and other statutes
1
, a number of
performance measures that focus on the
amount of adjustments proposed by exam-
ination units or the dollars collected by
collection offices. For example, the bud-
gets submitted by the IRS since the mid-
1990’s have contained performance mea-
sures that were heavily focused upon
enforcement revenue collected or pro-
tected. The two performance measures for
field examination units contained in the
FY 1997 budget request were examination
dollars recommended and examination
dollars recommended per employee
(FTE). A similarly enforcement-focused
set of measures applied to field collection
functions: dollars collected, dollars col-
lected per FTE, and average cycles per
TDA/TDI (tax delinquency account/tax
delinquency investigation) disposition.
Measures of Special Compliance
Programs.
The IRS, apart from requirements im-
posed upon it by statutes and regulations
of general applicability, has periodically
been required by Congress to establish
and to report on other performance mea-
sures. For example, in connection with
expected additional funding promised for
FY 1995 through FY 1999 pursuant to a
Compliance Initiative, the IRS made a
commitment to generate $9.179 billion in
additional enforcement revenues. It was
expected both to track how those addi-
tional funds were employed and to pro-
vide “quarterly reports . . . identifying the
progress being made through these en-
hanced activities to collect taxes due.” S.
Rep. No. 103–286, 103d Cong., 2d Sess.
at 40 (1994); see H. R. Rep. No. 103–534,
103d Cong., 2d Sess. at 33 (1994); “IRS
FY 1995 Compliance Initiatives Final Re-
port,” Document 9383 (Rev. 1-96), Cata-
log Number 21508R.
More recently, the appropriation for the
IRS for FY 1998 provided additional
monies for “funding essential earned in-
come tax credit compliance and error re-
duction initiatives.” The Conference Re-
port accompanying that appropriation bill
stated (H. R. Conf. Rep. No. 105–284,
105th Cong.,1st Sess. at 64 (1997)) that
“the IRS should establish a method to
track the expenditure of funds and mea-
sure the impact [of the additional funding]
on compliance. The IRS shall submit
quarterly reports to the Committee on Ap-
propriations which identify the expendi-
tures and the change in the rates of com-
pliance.” In the absence of accurate
information regarding compliance rates,
the IRS has attempted to comply with this
congressional requirement by reporting,
inter alia, on amounts of revenue pro-
March 15, 1999461999–11 I.R.B.

tected or collected by various EITC com-
pliance programs. See, e.g.,“IRS Track-
ing Earned Income Tax Credit Appropria-
tion,” Document 9383 (Rev. 6–98),
Catalog Number 21508R.
Measuring the Performance of
Employees
The IRS also must comply with a vari-
ety of government-wide mandates to mea-
sure the performance of individual em-
ployees. The civil service rules require
that the IRS evaluate the performance of
employees on an annual basis. Perfor-
mance evaluations also figure in recom-
mendations for awards, incentives, al-
lowances or bonuses, an assessment of an
employee’s qualifications for promotion,
reassignment or other change in duties, and
the ranking of other than full-time perma-
nent personnel for purposes of release/re-
call schedules. While these individual per-
formance ratings are based upon the
elements set forth in various workplans
and job elements, a manager’s success in
achieving organizational goals will in-
evitably play an important role in any eval-
uation of his or her performance. Other
employees’ performance with respect to
items set forth in their job elements will be
viewed in light of these goals.
Past Criticisms
Over the years, the IRS has been re-
peatedly criticized for placing too much
reliance upon tax enforcement measures it
has adopted. The critics have charged
that front-line personnel have felt pres-
sured by performance measures that were
focused on tax enforcement outcomes,
such as dollars assessed per FTE or dol-
lars collected per FTE, to take inappropri-
ate enforcement actions in order to
achieve perceived enforcement goals.
The bulk of this criticism has focused on
the impact such tax enforcement mea-
sures have had upon field personnel in the
examination and collection functions.
For example, in 1955, a report by an
advisory group appointed by the Chair-
man of the Joint Committee on Internal
Revenue Taxation (The Internal Revenue
Service: Its Reorganization and Adminis-
tration,July 25, 1955, at 6) describes a
1954 initiative by the IRS to “establish
specific office standards of production
[for examination personnel in regional
and district offices], so that both supervi-
sors and employees know what is consid-
ered normal.” This advisory group re-
ported that imposition of these standards
“appears to have caused a worsening of
the enforcement picture.”
[U]nder the established production
quota system proper standards of indi-
vidual performance and proper stan-
dards of examination are ignored in
favor of number of returns examined.
The established production quota pro-
cedure has too frequently reduced the
agent’s investigation to a cursory ex-
amination of readily available records
and a quick look for a few obvious
items on which a change can be made
so as to close the case and meet the
quota set.
In 1957 and again in 1959, questions
were raised during hearings before the
House Ways and Means Committee re-
garding IRS production quotas. “Reorga-
nization and Administration of the Inter-
nal Revenue Service,” Hearings before
the Subcommittee on Internal Revenue
Taxation of the Committee of Ways and
Means, 85th Cong., 1st Sess., at 118–119
(1957); “Income Tax Revision, Panel Dis-
cussions before the Committee on Ways
and Means, House of Representatives,”
86th Cong., 1st Sess. at 805, 808 (1959);
“Compendium of Papers on Broadening
the Tax Base Submitted to the Committee
of Ways and Means,” 86th Cong., 1st
Sess. at 1527, 1533 (1959).
In November of 1959, the IRS issued a
revised policy statement that provided, in
part:
If the duties of the position require the
exercise of judgment based on detailed
knowledge of laws and regulations or
involve material factors of technical or
professional judgment, performance
must be evaluated in the light of the ac-
tual cases or other assignments han-
dled, and no quantitative measurement
may be utilized which does not take
such differences into account. Dollar
production shall not be used as the
measurement of any individual’s per-
formance.
Policy Statement P–1200–9, approved
Nov. 24, 1959
Questions regarding “the rating of rev-
enue agents on the basis of numbers of
examinations made and amounts of addi-
tional tax recommended” were again
raised during the 1961 confirmation hear-
ings held for Commissioner-designate
Caplin. Hearings Before the Committee
on Finance, United States Senate, 87th
Cong., 1st Sess., at 14–15 (1961). Fol-
lowing his confirmation, Commissioner
Caplin announced in July of 1961 that the
IRS was embarking on a “New Direc-
tion,” which was designed to counter
what he described as the “undue empha-
sis” placed upon production statistics and
the “adverse effect” the perception that
production statistics formed the “main
basis” for evaluation of offices and indi-
viduals had upon examination quality.
Under this “New Direction,” production
goals and statistics would be de-empha-
sized, statistical data would be given
more limited circulation and qualitative
measures of performance would be
adopted. “New Audit Program Concepts:
Views of Commissioner Caplin on Evalu-
ation of Individuals, Programs and Of-
fices in the Audit Activity.”
The following year, Commissioner
Caplin issued a Special Message to All
Audit Personnel, discussing some misun-
derstandings that had arisen regarding the
new audit program. The Commissioner
indicated that while supervisors were not
allowed to evaluate performance on the
basis of statistics or to pressure agents to
produce deficiencies at the cost of inade-
quate audits or inequities to the taxpayer,
nothing in the new audit program prohib-
ited supervisors from keeping track of the
quality and amount of work produced by
agents. Indeed, “this is exactly what the
supervisor of a group of agents is ex-
pected to do.” The Message went on to
state “Special Message from the Commis-
sioner,” dated September 7, 1962, at 2:
More serious than these misunder-
standings, is the fact that enforcement
results have fallen off very substan-
tially. Despite having 1,022 more
agents and office auditors in FY 62
than in FY 61, the number of returns
1999–11 I.R.B.47March 15, 1999
1
Both the Chief Financial Officers Act of 1990,
Pub. L. No. 101-576, 104 Stat. 2838 (1990), and Di-
vision E, National Defense Authorization Act for
Fiscal Year 1996 (the Clinger-Cohen Act of 1996),
Pub. L. No. 104-106, 110 Stat. 186, 679 (1996), also
contain requirements that federal agencies establish
performance measurement systems.

examined decreased by 13,000, while
additional taxes and penalties recom-
mended decreased by $66 million.
You can readily see how this drop-
off endangers our Long Range Plan for
gradually increasing our manpower and
doing our work more effectively.
Under this plan, we have been allowed
almost 10,000 additional people over
the last three years, and it calls for the
addition of about 24,000 more by 1968.
Yet, when a substantial increase in staff
is followed by this kind of a drop in our
enforcement results, the appropriating
authorities naturally begin to wonder
about the wisdom of financing the rest
of our proposed expansion.
Issues regarding the IRS’ use of pro-
duction statistics also came up during
Commissioner Alexander’s 1973 confir-
mation hearings before the Senate Fi-
nance Committee. When questioned
about his opinion toward production quo-
tas, Commissioner Alexander responded
that he was completely opposed to their
use. Hearings Before the Committee on
Finance, United States Senate, 93d Cong.,
1st Sess., at 4–5 (1973).
In November of 1973, the IRS adopted
the current version of Policy Statement
P–1–20, revising its policies regarding
the use of records of tax enforcement re-
sults and prohibiting absolutely the use of
enforcement statistics to evaluate the per-
formance of enforcement personnel; this
statement permitted the accumulation
and use of enforcement statistics only for
“long-range planning, financial planning,
allocation of resources, work planning
and control, effective functional manage-
ment, or other related staffing utilization
systems and plans.” In an accompanying
Special Message to all Enforcement Per-
sonnel, Commissioner Alexander stated
that this prohibition was applicable to all
personnel who exercised judgment in de-
termining tax liability or the ability to
pay. Commissioner Alexander further
declared, “[i]ndividual case or dollar
goals–formal, informal, or implied–are
not permitted and will not be tolerated.”
During 1974, Senate Appropriations
Committee hearings again focused on al-
legations that taxpayers were being mis-
treated as a result of production quotas
(both case closings and dollar amounts).
A number of witnesses and the Commit-
tee chairman expressed concerns that in-
dividual production statistics were being
used to evaluate field employees,
notwithstanding the existing policy. Tes-
timony during those hearings also indi-
cated that pressure to increase the number
of cases closed in Collection directly led
to inappropriate seizures. Hearings Be-
fore the Subcommittee on the Department
of the Treasury, U.S. Postal Service, and
General Government Appropriations of
the Committee on Appropriations, United
States Senate, 93d Cong., 2d Sess., at 2–
25, 520, 543–546, 574–584, 586–601,
653–670 (1974); see also, “Taxpayer As-
sistance and Compliance Programs,”
Hearings before the Senate Committee on
Appropriations, 93d Cong., 1st Sess. at
41–46, 568–569, 642–643, 680–681
(1974).
In 1988, the Senate Appropriations
Committee held hearings focusing again
on allegations that the IRS’ use of en-
forcement statistics to evaluate programs
and personnel had led to inappropriate en-
forcement actions. Treasury, Postal Ser-
vice and General Government Appropria-
tions, Fiscal Year 1989, Before the
Committee on Appropriations, 100th
Cong., 2d Sess. at 588–590 (1988). On
November 10, 1988, the Technical and
Miscellaneous Revenue Act of 1988, Pub-
lic Law No. 100–647 (102 Stat. 3734
(1988)) (TBOR 1) was enacted. Section
6231 of that measure prohibits the use of
records of tax enforcement results:
1) to evaluate employees directly in-
volved in collection activities and their
immediate supervisors, or
2) to impose or suggest production
quotas or goals [for such employees
and supervisors].
During the appropriation hearings for
FY 1989, Commissioner Gibbs testified
about the TBOR 1 prohibition (Treasury,
Postal Service and General Government
Appropriations, Fiscal Year 1989, Before
the Senate Committee on Appropriations,
100th Cong., 2d Sess. at 589 (1988)):
The problem that I have with our
policy statement—that policy state-
ment, by the way, being in the taxpayer
bill of rights—is that it tells our people
what not to do. It says, “Don’t use en-
forcement statistics.” ... I don’t think
that this helps someone on the front line
very much to tell them what not to do.
What we have started, within the
last 18 months that I have been the
Commissioner, is to begin to develop at
the working level criteria as to what
constitutes a quality collection action,
what constitutes a quality examination
action. It is an entirely different ap-
proach to collection and examination,
trying to train the people as to how to
approach what they are doing so that if
they do it the right way, the numbers
will flow. The idea is to get away from
simply dollar amounts, comparing one
another in terms of how they are doing
with respect to collections, or seizures,
or anything like that.
The General Accounting Office has ex-
pressed a somewhat different view of the
appropriate use of enforcement results to
measure IRS performance. Its December
10, 1991, report on “IRS’ Implementation
of the 1988 Taxpayer Bill of Rights”
stated (GAO/GGD–92-23 at 14–15):
In an October 1987 letter to the Chair-
men of the House Committee on Ways
and Means and the Senate Committee
on Finance, we commented on various
proposals to prohibit the use of collec-
tion statistics in performance evalua-
tions. Our position then and now is
that collection statistics should not be
the only indicator of performance but,
along with other factors, could very
well be a useful tool in evaluating em-
ployees. We pointed out that relying on
a single factor can place more emphasis
on that factor than on overall perfor-
mance. We said that it is not totally in-
appropriate to generally consider the
amount of revenues collected as part of
an employee’s evaluation if that con-
sideration is only one of several factors
under review. We added that setting ar-
bitrary quotas for amounts collected,
property seized, or cases closed cannot
be justified in evaluating performance,
particularly because of the negative im-
pact that trying to achieve those quotas
can have on taxpayers.
In its May 11, 1993, report on “Tax Ad-
ministration: New Delinquent Tax Col-
lection Methods for IRS” (GAO/
GGD093–67 at 9), GAO reiterated this
view:
March 15, 1999481999–11 I.R.B.

As we have stated in the past, IRS
should be able to use collection perfor-
mance as a criterion in determining
compensation and rewards for individ-
ual collectors. We believe that infor-
mation such as taxes collected is a rea-
sonable basis on which to judge the
performance of employees whose job it
is to collect taxes as long as other crite-
ria, such as fair and courteous treat-
ment of taxpayers, are also evaluated.
In a similar vein, a December 23, 1993,
report by the GAO on the offer in com-
promise program (“Tax Administration:
Changes Needed to Cope with Growth in
Offer in Compromise Program”
(GAO/GGD-94–47 at 24) indicated:
The Commissioner of Internal Revenue
should develop the indicators necessary
to evaluate the Offer in Compromise
Program as a collection and compli-
ance tool. The indicators should be
based on accurate data and include (1)
the yield of the program in terms of
costs expended and amounts collected,
(2) the amount of revenues collected
that would not have been collected
through other collection means ....
In September 1997, the Senate Finance
Committee held three days of widely-
publicized oversight hearings on the In-
ternal Revenue Service. During these
hearings, several IRS employees testified
that IRS’ performance measurement sys-
tem was creating an environment in
which they felt pressured to achieve cer-
tain quantitative goals for tax enforce-
ment results (such as dollars recom-
mended or collected). In his testimony at
the conclusion of these hearings, the Act-
ing Commissioner responded to the con-
cerns that had been raised about the nega-
tive impact of the IRS performance
measurement system by announcing a
number of immediate changes in the sys-
tem. In particular, he announced that IRS
would suspend the comparative ranking
of its 33 district offices and suspend dis-
tribution of any goals related to revenue
production to field offices. “Practices and
Procedures of the Internal Revenue Ser-
vice,” Hearings before the Committee on
Finance, United States Senate, 105th
Cong., 1st Sess., at 3, 105–106, 123–128,
153, 155– 156, 162–163, 206–209,
212–213, 303– 304, 310, 317–318,
320–322, 325–326, 330, 333, 351–356.
Following these hearings, the IRS Of-
fice of Chief Inspector undertook three
management audits to determine how en-
forcement statistics were then being used
as part of the IRS performance measure-
ment system. See, “Review of the Use of
Statistics and the Protection of Taxpayer
Rights in the Arkansas-Oklahoma District
Collection Field Function,” Internal Audit
Reference Number 380402 (December 5,
1997); “Use of Enforcement Statistics in
the Collection Field Function,” Internal
Audit Reference Number 081904 (Janu-
ary 12, 1998); “Examination Division’s
Use of Performance Measures and Statis-
tics,” Internal Audit Reference Number
084303 (July 7, 1998). These three in-
quiries generally confirmed that IRS per-
formance measures were focused largely
on enforcement goals and productivity as
defined by statistics relating to dollars
recommended, assessed or collected, or
other enforcement actions taken. They
found a lack of corresponding emphasis
on quality casework, adherence to law,
and protection of taxpayer rights.
In order to deal with specific allega-
tions of misconduct made during the Sep-
tember hearings, or discovered in the
course of the management audits de-
scribed above, the IRS Office of Chief In-
spector also undertook a number of indi-
vidual investigations. The Commissioner
then established a Special Review Panel
of career executives from outside the IRS
to review the evidence and to recommend
appropriate personnel actions. The Spe-
cial Review Panel issued a Report to the
Commissioner in August 1998. In its Re-
port, the Special Review Panel agreed
with earlier conclusions that IRS had re-
sponded to external pressures to close the
revenue gap through improved productiv-
ity by shifting management emphasis to
goals and measures that placed a heavy
emphasis on use of enforcement statistics.
See also“IRS Personnel Administration:
Use of Enforcement Statistics in Em-
ployee Evaluations” (GAO/GGD-99-11,
November 39, 1998).
Internal Revenue Service Restructuring
and Reform Act of 1998
Sections 1201 and 1204 of the Internal
Revenue Service Restructuring and Re-
form Act of 1998 (RRA) represent the
most recent legislative action regarding
performance measures used by the IRS.
Section 1201 directs the IRS, consistent
with its current performance planning pro-
cedures, including those established under
the GPRA, to establish a performance
management system that will establish
“goals or objectives for individual, group,
or organizational performance.” The IRS
is directed to use this performance system
in the evaluation of employees or groups
of employees, in determining salary ad-
justments and awards, and in other person-
nel matters. The Conference Report ac-
companying RRA (H. R. Conf. Rep. No.
105–599, 105th Cong., 2d Sess., at 228
(June 24, 1998) indicates that “in no event
would performance measures be used
which rank employees or groups of em-
ployees based solely on enforcement re-
sults, establish dollar goals for assess-
ments or collections, or otherwise
undermine fair treatment of taxpayers.”
Section 1204 of RRA repealed section
6231 of TBOR 1 and replaced TBOR 1’s
prohibition on the use of “records of tax
enforcement results” to evaluate or to im-
pose or suggest goals for personnel di-
rectly involved in collection activity with
a prohibition against using such records
of tax enforcement results to evaluate, or
to impose or suggest production quotas or
goals for, any IRS “employee.”
Explanation of Provisions
Proposed Effective Date
These regulations are proposed to be
effective thirty days after the date of pub-
lication in the Federal Registerof the
final regulations.
Balanced Measurement System
These proposed regulations provide
guidance and direction for the establish-
ment of a balanced performance measure-
ment system for the Internal Revenue Ser-
vice. They also provide guidance for
implementing the restrictions on the use
of “records of tax enforcement results” in
evaluating, or imposing or suggesting
goals for employees and for establishing
“fair and equitable treatment of taxpay-
ers” as one of the standards for evaluating
employees.
These proposed regulations establish a
new balanced system for measuring the
performance of and establishing perfor-
1999–11 I.R.B.49March 15, 1999

mance goals for various operational units
within the Internal Revenue Service. The
three elements of this balanced measure-
ment system are (1) Customer Satisfac-
tion Measures, (2) Employee Satisfaction
Measures and (3) Business Results Mea-
sures. These measures will, consistent
with GPRA, be based on “quantifiable
and measurable” data, and will be numer-
ically scored.
The proposed regulations do not pro-
vide procedures for certifying whether or
not records of tax enforcement results
have been used in a manner prohibited by
section 1204. Subsequent guidance will
provide that information.
a. Customer Satisfaction
To measure customer satisfaction, the
IRS will develop data from customer sat-
isfaction surveys it receives from a statis-
tically valid sample of taxpayers with
whom it has dealt. Among other things,
taxpayers will be asked to provide infor-
mation regarding whether they were
treated courteously and professionally,
whether they were informed of their
rights and whether they were given an op-
portunity to voice their concerns and ade-
quate time to respond to IRS requests.
Using data derived from these surveys,
the IRS will derive quantitative indices of
customer satisfaction which will be used
to measure progress in achieving cus-
tomer satisfaction goals.
b. Employee Satisfaction
To measure employee satisfaction, the
IRS will utilize an employee survey that
permits employees to provide, on an
anonymous basis, their assessment of the
wide variety of factors that determine
whether employees believe that the work
environment permits them to perform
their duties in a professional manner.
Among other items included in the em-
ployee survey, the questionnaires should
elicit information regarding employees’
assessment of the quality of supervision
and the adequacy of training and support
services. As in the case of the Customer
Satisfaction measures, the goals and the
accomplishments of units subject to the
balanced measurement system will be ex-
pressed in quantified form.
c. Business Results
The IRS will employ two parallel av-
enues to measure business results.
1. Quality Measures
The first of these approaches will focus
on the quality of the work done in a sam-
ple of cases that were worked on by em-
ployees. Such reviews will be conducted
of a statistically valid sample of cases
worked on by units designated by the
Commissioner, such as a collection or ex-
amination unit. A staff of personnel spe-
cially dedicated to the task will review
and numerically score the quality of work
done by IRS personnel. These reviews
will focus on such factors as whether IRS
personnel provided proper and timely ser-
vice to the taxpayer, properly analyzed
the facts, correctly applied the law, pro-
tected taxpayer rights by following ap-
plicable IRS policies and procedures, de-
voted an appropriate amount of time to
the case, made appropriate judgments re-
garding liability for tax and ability to pay
and provided accurate answers to tax law
or account questions posed by callers.
2. Quantity Measures
The quantity measures element of the
business results measure will focus exclu-
sively on outcome-neutral production
data. Accordingly, as described in the reg-
ulation, data concerning the enforcement
outcome in cases, such as the dollar
amount of audit adjustments, the numbers
of liens filed or levies served, and the
number of referrals for criminal investiga-
tion, would be excluded from the produc-
tion data used in the quantity measures.
On the other hand, outcome-neutral pro-
duction data, such as cases closed, time
per closing or cycle time, which do not re-
flect the outcome produced by any IRS of-
ficial’s exercise of judgment in determin-
ing liability for tax or the collection
mechanism to be employed may be used
in determining the production element of
the business results measures. The IRS
has determined, however, that as a matter
of policy such outcome-neutral production
data may not be used to set goals for or for
evaluating any non-supervisory employee
with tax enforcement responsibilities.
Further, an organization with enforce-
ment responsibilities may not be given a
goal or an evaluation based on enforce-
ment-neutral production data regarding
matters calling for the exercise of judg-
ment with respect to tax enforcement re-
sults unless that goal or evaluation consti-
tutes only one element in a set of goals or
one element in an evaluation based also
upon the balanced measurement system.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a signifi-
cant regulatory action as defined in EO
12866. Therefore, a regulatory assess-
ment is not required. It also has been de-
termined that section 553(b) of the Ad-
ministrative Procedure Act (5 U.S.C.
chapter 5) does not apply to these regula-
tions and, because these regulations do
not impose on small entities a collection
of information requirement, the Regula-
tory Flexibility Act (5 U.S.C. chapter 6)
does not apply. Therefore, a Regulatory
Flexibility Analysis is not required. Pur-
suant 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 Busi-
ness 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, considera-
tion will be given to any electronic and
written (a signed original and eight (8)
copies) comments that are submitted
timely to the IRS. the IRS and Treasury
specifically request comments on the clar-
ity of the proposed regulations and how
they may be easier to understand. All
comments will be available for public in-
spection and copying.
A public hearing has been scheduled for
Thursday, May 13, 1999, beginning at 10
a.m. in room 2615 of the Internal Revenue
Building, 1111 Constitution Avenue NW,
Washington, DC. Due to building security
procedures, visitors must enter at the 10th
Street entrance, located between Constitu-
tion and Pennsylvania Avenues, NW. In
addition, all visitors must present photo
identification to enter the building. Be-
cause of access restrictions, visitors will
not be admitted beyond the immediate en-
trance area more than 15 minutes before
the hearing starts. For information about
having your name placed on the building
access list to attend the hearing, see the
March 15, 1999501999–11 I.R.B.

“FOR FURTHER INFORMATION CON-
TACT” section of this preamble.
The rules of 26 CFR 601.601 (a) (3)
apply to the hearing. Persons who wish to
present oral comments at the hearing must
submit comments and an outline of the
topics to be discussed and the time to be
devoted to each topic by Thursday, April
22, 1999. A period of 10 minutes will be
allotted to each person for making com-
ments. An agenda showing the schedul-
ing of the speakers will be prepared after
the deadline for receiving outlines has
passed. Copies of the agenda will be
available free of charge at the hearing.
Drafting Information
The principal author of these regula-
tions is Julie A. Barry, Office of Assistant
Chief Counsel (General Legal Services).
However, other personnel from the IRS
and Treasury Department participated in
their development.
*****
Proposed Amendments to the Regulations
Accordingly, 26 CFR Chapter I is pro-
posed to be a mended by adding part 801
to Subchapter H to read as follows:
PART 801—BALANCED SYSTEM
FOR MEASURING
ORGANIZATIONAL AND
INDIVIDUAL PERFORMANCE
WITHIN THE INTERNAL REVENUE
SERVICE
Sec.
801.0–1 Balanced performance measure-
ment system; in general.
801.0–2 Balanced performance measure-
ment system
801.0–3 Customer satisfaction measures
801.0–4 Employee satisfaction measures
801.0–5 Business results measures
Authority: §§ 1201 and 1204, Public
Law No. 105–206 (112 Stat. 685, 715–
716, 722 (July 22, 1998)).
§801.0–1 Balanced performance
measurement system; in general.
(a) In general.The regulations in this
part 801 implement the provisions of sec-
tions 1201 and 1204 of the Internal Rev-
enue Service Restructuring and Reform
Act of 1998 and provide rules relating to
the establishment by the Internal Revenue
Service of a balanced performance mea-
surement system.
(b) Effective date.This part 801 is ef-
fective thirty days after the date these reg-
ulations are published as final regulations
in the Federal Register.
§801.0–2 Balanced performance
measurement system.
(a) In general.Modern management
practice and various statutory and regula-
tory provisions require the IRS to set per-
formance goals for organizational units
and to measure the results achieved by
those organizations with respect to those
goals. To fulfill these requirements, the
IRS has established a balanced perfor-
mance measurement system, composed of
three elements: Customer Satisfaction
Measures; Employee Satisfaction Mea-
sures; and Business Results Measures.
The IRS is likewise required to establish a
performance evaluation system for indi-
vidual employees.
(b) Measuring organizational perfor-
mance—(1) In general.The performance
measures that comprise the balanced mea-
surement system will, to the maximum
extent possible, be stated in objective,
quantifiable and measurable terms and,
subject to the limitation set forth in para-
graph 2, will be used to measure the over-
all performance of various operational
units within the IRS. In addition to im-
plementing the requirements of the Inter-
nal Revenue Service Restructuring and
Reform Act of 1998, Pub. L. No. 105–
206, 112 Stat. 685 (1998), the measures
described here will, where appropriate, be
used in performance goals and perfor-
mance evaluations established, inter alia,
under Division E, National Defense Au-
thorization Act for Fiscal Year 1996 (the
Clinger-Cohen Act of 1996), Pub. L. No.
104–106, 110 Stat. 186, 679 (1996); the
Government Performance and Results Act
of 1993, Pub. L. No. 103–62, 107 Stat.
285 (1993); and the Chief Financial Offi-
cers Act of 1990, Pub. L. No. 101–576,
108 Stat. 2838 (1990).
(2) Limitation—Quantity Measures(as
described in § 801.0–5) will not be used
to evaluate the performance of or to im-
pose or suggest production goals for any
organizational unit with employees who
are responsible for exercising judgment
with respect to tax enforcement results (as
defined in § 801.0–5) except in conjunc-
tion with an evaluation or goals based
also upon Customer Satisfaction Mea-
sures, Employee Satisfaction Measures,
and Quality Measures.
(c) Measuring individual performance.
All employees of the IRS will be evalu-
ated according to the critical elements and
standards or other performance criteria es-
tablished for their positions. In accor-
dance with the requirements of
§§ 4312 and 9508 of 5 U.S.C. and §1201
of the Internal Revenue Service Restruc-
turing and Reform Act of 1998, Pub. L.
No. 105–206, 112 Stat. 685 (1998), (as is
appropriate to the employee’s position),
the performance criteria for each position
will be composed of elements that support
the organizational measures of Customer
Satisfaction, Employee Satisfaction and
Business Results; however, such organiza-
tional measures will not directly determine
the evaluation of individual employees.
(1) Fair and equitable treatment of
taxpayers. In addition to all other criteria
required to be used in the evaluation of
employee performance, all employees of
the IRS will be evaluated on whether they
provided fair and equitable treatment to
taxpayers.
(2) Senior Executive Service and
special positions.Employees in the Se-
nior Executive Service will be rated in ac-
cordance with the requirements of 5
U.S.C. § 4312 and employees selected to
fill positions under 5 U.S.C. § 9503 will
be evaluated pursuant to workplans, em-
ployment agreements, performance
agreements or similar documents entered
into between the Internal Revenue Ser-
vice and the employee.
(3) General Workforce.The perfor-
mance evaluation system for all other em-
ployees will:
(i) Establish one or more retention stan-
dards for each employee related to the
work of the employee and expressed in
terms of individual performance; and
(A) require periodic determinations of
whether each employee meets or does not
meet the employee’s established retention
standards; and
(B) require that action be taken, in ac-
cordance with applicable laws and regula-
tions, with respect to employees whose
performance does not meet the estab-
lished retention standards.
(ii) Establish goals or objectives for in-
1999–11 I.R.B.51March 15, 1999

dividual performance consistent with the
IRS’s performance planning procedures;
and
(A) use such goals and objectives to
make performance distinctions among
employees or groups of employees; and
(B) use performance assessments as a
basis for granting employee awards, ad-
justing an employee’s rate of basic pay,
and other appropriate personnel actions,
in accordance with applicable laws and
regulations.
(4) Limitations—(i) No employee of
the IRS may use records of tax enforce-
ment results (as defined in § 801.0-5) to
evaluate any other employee or to impose
or suggest production quotas or goals for
any employee.
(A) For purposes of the limitation con-
tained in this paragraph (c)(4), employee
has the meaning as defined in 5 U.S.C.
§ 2105(a).
(B) For purposes of the limitation con-
tained in this paragraph (c)(4), evaluate
includes any process used to appraise or
measure an employee’s performance for
purposes of providing the following:
(1) Any required or requested perfor-
mance rating.
(2) A recommendation for an award
covered by Chapter 45 of Title 5; 5 U.S.C.
§ 5384; or section 1201(a) of the Internal
Revenue Service Restructuring and Re-
form Act of 1998, Pub. L. No. 105–206,
112 Stat. 685, 713–716 (1998).
(3) An assessment of an employee’s
qualifications for promotion, reassign-
ment or other change in duties.
(4) An assessment of an employee’s eli-
gibility for incentives, allowances or
bonuses.
(5) Ranking of employees for
release/recall and reductions in force.
(ii) Employees who are responsible for
exercising judgment with respect to tax
enforcement results (as defined in
§ 801.0–5) in cases concerning one or
more taxpayers may be evaluated with re-
spect to work done on such cases only on
the basis of information derived from a
review of the work done on the taxpayer
cases handled by such employee.
(iii) Performance measures based in
whole or in part on Quantity Measures(as
described in § 801.0–5) will not be used
to evaluate the performance of or to im-
pose or suggest goals for any non-super-
visory employee who is responsible for
exercising judgment with respect to tax
enforcement results (as defined in
§ 801.0–5).
§ 801.0–3 Customer satisfaction
measures.
The customer satisfaction goals and ac-
complishments of operating units will be
determined on the basis of data derived
from questionnaires, surveys and other
types of information gathering mecha-
nisms. Surveys designed to measure cus-
tomer satisfaction for a particular work
unit will be distributed to a statistically
valid sample of the taxpayers served by
that operating unit and will be used to
measure whether those taxpayers believe
that they received courteous, timely and
professional treatment by the IRS person-
nel with whom they dealt. Taxpayers will
be permitted to provide information re-
quested for these purposes under condi-
tions that guarantee them anonymity.
§ 801.0–4 Employee satisfaction
measures.
The numerical ratings to be given oper-
ating units within the IRS for employee
satisfaction will be determined on the
basis of information derived from a ques-
tionnaire which will be distributed to all
employees of the operating unit; the em-
ployees will be permitted to provide infor-
mation on an anonymous basis. Data from
these surveys will measure, among other
factors bearing upon employee satisfac-
tion, the quality of supervision and the ad-
equacy of training and support services.
§ 801.0–5 Business results measures.
(a) In general.The business results
measures will consist of numerical scores
determined under the Quality Measures
and the Quantity Measures described
below.
(b) Quality measures. The quality
measure will be determined on the basis
of a review by a specially dedicated staff
within the IRS of a statistically valid sam-
ple of work items handled by certain
functions or organizational units deter-
mined by the Commissioner or his dele-
gate such as the following:
(1) Examination and collection units
and Automated Collection System units
(ACS).The quality review of the handling
of cases involving particular taxpayers
will focus on such factors as whether IRS
personnel devoted an appropriate amount
of time to a matter, properly analyzed the
issues presented, developed the facts re-
garding those issues, correctly applied the
law to the facts, and complied with statu-
tory, regulatory and IRS procedures, in-
cluding timeliness, adequacy of notifica-
tions and required contacts with taxpayers.
(2) Toll-free telephone sites.The qual-
ity review of telephone services will focus
on such factors as whether IRS personnel
provided accurate tax law and account in-
formation.
(3) Other workunits.The quality re-
view of other workunits will be deter-
mined according to criteria prescribed by
the Commissioner or his delegate.
(c) Quantity measures. The quantity
measures will consist of outcome-neutral
production and resource data, such as the
number of cases closed, work items com-
pleted, hours expended and similar inven-
tory, workload and staffing information,
that does not contain information regard-
ing the tax enforcement result reached in
any case involving particular taxpayers.
(d) Definitions—(1) Tax enforcement
result.A tax enforcement result is the out-
come produced by an IRS employee’s ex-
ercise of judgment recommending or de-
termining whether or how the IRS should
pursue enforcement of the tax law with re-
spect to any assessed or unassessed tax.
(i) Examples of data containing infor-
mation regarding tax enforcement results.
The following are examples of data con-
taining information regarding tax enforce-
ment results: number of liens filed; num-
ber of levies served; number of seizures
executed; dollars assessed; dollars col-
lected; full pay rate; no change rate; and
number of fraud referrals.
(ii) Examples of data that do not con-
tain information regarding tax enforce-
ment results.The following are examples
of data that do not contain information re-
garding tax enforcement results: number
of cases closed; time per case; direct ex-
amination time/out of office time; cycle
time; number or percentage of overage
cases; inventory information; toll-free
level of access; talk time; and data derived
from a quality review or from a review of
an employee’s or a workunit’s work on a
case, such as the number or percentage of
March 15, 1999521999–11 I.R.B.

cases in which correct examination adjust-
ments were proposed or appropriate lien
determinations were made.
(iii) Records of tax enforcement results.
Records of tax enforcement results are
data, statistics, compilations of informa-
tion or other numerical or quantitative
recordations of the tax enforcement results
reached in one or more cases, but does not
include information, including the tax en-
forcement result, regarding an individual
case to the extent the information is de-
rived from a review of an employee’s or a
workunit’s work on individual cases.
(e) Permitted Uses of Records of Tax
Enforcement Results. Records of tax en-
forcement results may be used for pur-
poses such as forecasting, financial plan-
ning, resource management, and the
formulation of case selection criteria.
(f) Examples.The following examples
illustrate the rules of this section:
Example 1. In conducting a performance evalua-
tion, a supervisor may take into consideration infor-
mation showing that the employee had failed to pro-
pose an appropriate adjustment to tax liability in one
of the cases the employee examined, provided that
information is derived from a review of the work
done on the case. All information derived from such
a review of individual cases handled by an employee,
including time expended, issues raised, and enforce-
ment outcomes reached may be considered in setting
goals or evaluating the employee.
Example 2. A supervisor may not establish a goal
for proposed adjustments in a future examination,
even though the goal was derived from analyses of
previously-handled cases, because such enforcement
goals are not based upon an analysis of the newly-
assigned case.
Example 3. A headquarters unit may use records
of tax enforcement results to develop methodologies
and algorithms for use in selecting tax returns to
audit.
Charles O. Rossotti,
Commissioner of
Internal Revenue.
(Filed by the Office of the Federal Register on Janu-
ary 4, 1999, 8:45 a.m., and published in the issue of
the Federal Register for January 5, 1999, 64 F.R.
457)
Foundations Status of Certain
Organizations
Announcement 99–20
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 des-
ignations in the Cumulative List of Orga-
nizations (Publication 78), or on the pre-
sumption arising from the filing of notices
under section 508(b) of the Code. This
listing does notindicate that the organiza-
tions have lost their status as organiza-
tions described in section 501(c)(3), eligi-
ble to receive deductible contributions.
Former Public Charities.The following
organizations (which have been treated as
organizations that are not private founda-
tions described in section 509(a) of the
Code) are now classified as private foun-
dations:
Abbas-E-Alamdar, Inc., Houston, TX
The Alliance of Black Churches Inc.,
Louisa, VA
Alpha House, Inc., Chicago, IL
American to Fellow Miskito, Houston,
TX
Amos Agency, Homewood, IL
Animal Shelter Fund Inc., Boca Raton,
FL
Animated Education, Inc., Chatsworth,
CA
Bad Girls Inc., Bend, OR
Beverly Hills – Acapulco Sister City
Committee Incorporated, Beverly
Hills, CA
Bergum Group Homes Inc., Costa Mesa,
CA
Big Brother – Big Sister of Lapeer
County Incorporated, Lapeer, MI
Birthright of La Grande, La Grande, OR
BWICA Educational Fund, Inc.,
Brooklyn, NY
Bridges of America the Lauderhill
Bridge, Inc., Orlando, FL
Brothers in Christ Foundation Ministries,
San Antonio, TX
The Campbell Institute, Portland, OR
Camp Council Inc., Jenkintown, PA
Central Commercial Teachers
Association, Inc., Madison, WI
Central Erie County Paramedic
Association, McKean, PA
Children’s Education Fund, Inc.,
Lincolndale, NY
Church of God Evening Light Mission
Trust Inc., McFarland, CA
Circle C Ranch Inc., Stockton, CA
Clergy Care Inc., Joplin, MO
Coachella Public School Transportation
Foundation, Coachella, CA
1st Coast Learning Success Skills Center
Inc., Jax Beach, FL
Comites of San Francisco, San Francisco,
CA
Daystar Ministries, Gladstone, OR
Drs Vinod & Tarlika Thakkar
Foundation, Inc., Avon Park, FL
Economic Development & Information
Center for Africa, New York, NY
Education Foundation of Millburn –
Short Mills, Inc., Short Hills, NJ
Education Through Art a Nonprofit
Corporation, Seattle, WA
Educational Music Theatre Inc., Redondo
Beach, CA
El Capitain Aquatics Boosters Inc.,
Lakeside, CA
ESC Foundation of America,
Washington, DC
The Eye Tech Foundation, New York,
NY
Fairlee Senior Housing Group, Fairlee,
VT
Feneta Tutoring Center, Kinston, NC
Filipino American Association of USA
Inc., Panorama City, CA
The Fisherman, Inc., Kingston, MA
FISST USA Inc., West Hartford, CT
Focus Re-Direction, New York, NY
Foster Grandparent Foundation, Salem,
OR
Foundation for Interventional Cardiology
Inc., New York, NY
Glen View Corporation, Shreveport, LA
God Rules Ministry, Baton Rouge, LA
Grant Ministries, Inc., Moore, OK
Gutherie Community Bootstrap
Corporation, Gutherie, OK
Harlem Development Corporation, New
York, NY
Herbertsville First Aid Squad, Inc., Brick,
NJ
Heritage Place of Fayetteville, Inc.,
Fayetteville, NC
Hope Breeds Citizens Thru Counseling,
Arts, Recreation and Education,
Oberlin, OH
Iglesia en Marcha, Lubbock, TX
Indiana Civic and Cultural Association,
Incorporated, Indiana, PA
Institute for Men and Mens Studies Inc.,
Greensboro, NC
International Foundation, Broken Arrow,
OK
Italian Cultural Society of Northwest
Florida Inc., Pensacola, FL
J B C Development Corporation,
Duquesne, PA
J Cooper International Academy Tennis
Foundation, Houston, TX
1999–11 I.R.B.53March 15, 1999

J U T E Inc., Orlando, FL
J2M Productions, San Rafael, CA
Jackson County Economic Development
Corporation Inc., Black River Falls,
WI
Jacksonville Florida Depressive and
Manic-Depressive Association Inc.,
Atlantic Beach, FL
Jacksonville School of Ministry Inc.,
Jacksonville, FL
Jacobs Blessing, Staten Island, NY
JACPAT Ministries Inc., Cascade, ID
Jaggers Terrace Community Association
Inc., Columbia, SC
Jail Chaplaincy Ministry, Houston, TX
Jamaica Mission Inc., Grapevine, TX
Jambalaya Incorporated, Columbia, MD
James D McDonald Charitable Trust Inc.,
Boynton Beach, FL
James E Clyburn Scholarship and
Research Foundation, Columbia, SC
James F Patten Jr Memorial Foundation
Inc., Newburyport, MA
Janai Cante Foundation, Tacoma, WA
Jason P Davis Memorial Scholarship
Fund Inc., Somerset, KY
Jay Stewart Ministries Inc., Concord, NC
Jaycee Valley Housing Inc., Uhrichsville,
OH
Jean Baptiste Pointe Dusable Memorial
Statue Committee, Chicago, IL
Jeanette Neill Dance Scholarship Fund,
Boston, MA
Jefferson County Tennis Association Inc.,
Pine Bluff, AR
Jefferson County Youth Football Inc.,
Charlestown, WV
Jefferson Legacy Foundation,
Middlebury, VT
Jefferson Park Youth Scholarship Fund,
New York, NY
Jeffrey Grossman 9-1-1 Award
Foundation Inc., Winchester, MA
Jenkins Creek Environmental Research
Center Inc., Crisfield, MD
Jennifer Ann Hines Memorial
Scholarship Foundation Charitable,
Tampa, FL
Jennifer Turner Cancer Research
Foundation, Tarrytown, NY
Jerry Lisker Scholarship Fund,
Massapequa, NY
Jesse Jennette Ministries Inc., Franklin,
TN
Jesus Christ Apostolic Church
International, Chicago, IL
Jesus Christ King of Kings – Global
Ministries Inc., Houston, TX
Jesus Ministries Inc., Oklahoma City, OK
Jesus Streetwise Ministries Incorporated,
Excelsior Springs, MO
Jewish Action International Corp.,
New York, NY
Jewish International Service Corps.,
Highland Park, IL
Jewish Theater Group of the Berkshires,
Lenox, MA
Jewish Womens Center of Pittsburgh,
Pittsburgh, PA
Jim Wilson Unity in Christ Crusade Inc.,
Elizabeth, IN
Jimmy Johnson Foundation for Childrens
Charities, Dallas, TX
JMR Funding Inc., Blue Springs, MO
Jobs and Environment Campaign, Inc.,
Cambridge, MA
Jobs for Teens, San Jose, CA
Jogging for Jesus Inc., Duncanville, TX
John B and Mary Bell Pirtle Endowment
Fund, Louisville, KY
John J McMahon Jr Memorial Roller
Hockey Club Inc., Deer Park, NY
John W Nixon Cultural Arts Foundation
Inc., Birmingham, AL
Johnson County Community Concert
Association, Buffalo, WY
Johnsons Island Preservation Society Inc.,
Marblehead, OH
Joint Education Housing Partnership
Program HEHPP Inc., Gulfport, MS
Joplin Area Evangelical Association,
Joplin, MO
Joseph Mission Corporation, Dryden, NY
Journey Publications, Lincolnshire, IL
Journey Toward Wholeness Ltd., Kildeer,
IL
Joy of Athletics Foundation Inc., Miami
Lakes, FL
Juan de Fuca Festival of the Arts, Port
Angeles, WA
Juaneno Band of Mission Indians, San
Juan Capistrano, CA
Jubilee Agriculture Ministries Inc., Tempe,
AZ
Jubilee Center Inc., Concord, MA
Judah Broadcasting Network Inc.,
Pascagoula, MS
Judah Youth Ministries, Tinton Falls, NJ
Judean Development Project, New York,
NY
Julie A Rodick Memorial Foundation Inc.,
Weymouth, MA
Juneau Pioneers Home Foundation,
Juneau, AK
Junior Urban Mentor Programs,
Washington, DC
Jus Care, Houston, TX
Justice Works, Newtown, PA
Juvenile Foster Parents Association of
Dallas County, Murphy, TX
Juvenile Justice Institute, Baton Rouge,
LA
K-12 Educational Foundation, Greenwich,
CT
K-12 Foundation, Lafayette, CO
K Edward Popleon Foundation, Baton
Rouge, LA
K E E P Incorporation, Chicago, IL
K Hop Institute of Business and Pedology
Inc., Kansas City, MO
Kaiserhof, Tomball, TX
Kaleidosart Inc., Hamden, CT
Kandu Corporation, West Chester, PA
Kanine Kandystripers Inc., Brentwood,
TN
Kansas Area Transit District 9
Coordinating Council Inc., Louisburg,
KS
Kansas City Athletic Advisory Council,
Kansas City, MO
Kansas City Jazz International, Kansas
City, MO
Kansas City Legends Soccer Club,
Leawood, KS
Kansas Intelligence Association, Topeka,
KS
Kansas Partners in Progress Inc., Topeka,
KS
Kappa Alpha PSI Bklyn-Li Alumni
Scholarship Foundation Inc., Elmont,
NY
Karate Helping Kids, Canton, OH
Kare, Canton, IL
Karnes County Mental Health Clinic
Advisory Board Inc., Karnes City, TX
Kauwahi Anaina Hawaii Hawaiian Civic
Club, Orem, UT
Keep America Free Corp., Brooklyn, NY
Keep Graham Beautiful Inc., Graham, TX
Keith Mason Ministries Incorporated,
Terry, MS
Kelloway Foundation TR., Reading, MA
Kennedale Youth Association, Kennedale,
TX
Kent County Hispanic Resource Center
Inc., Grand Rapids, MI
Kern River Valley Health Connection,
Inc., Kernville, CA
Kesan, Incorporated, Summersville, WV
Key Inc., Hays, KS
Keys of Hope Inc., Washington, DC
Kezias House Inc., Columbus, OH
Khal Brothers Inc., Lindsey, CA
Kid Mit Ment Foundation, Plymouth, MN
March 15, 1999541999–11 I.R.B.

Kidney Research Fund USA, Bryn Mawr,
PA
Kids Against Drugs, Shaker Heights, OH
Kids for Kids Theatre Inc., Ballwin, MO
Kids Hope USA, Spring Lake, MI
Kids Kampus Metropolitan Park Inc.,
Jacksonville, FL
Kids Korner-We Care Latch Key Program
of Sumner Iowa, Sumner, IA
Kids Playce Inc., Lexington, VA
Kids Space Inc., Huntsville, AL
Kidsercise Inc., Midvale, UT
Kidspace Child Care Association, Yellow
Springs, OH
Kidspeace National Centers for Kids in
Crisis of North America, Orefield, PA
Kidwise, Birmingham, AL
Kimberly International Inc., Schoolcraft,
MI
Kimbro Kidds, Portland, OR
Kingdom Business Ministries Inc.,
Paterson, NJ
Kingdom of God Ministries Inc.,
Nashville, TN
Kings Kids Outreach Ministries, Abilene,
TX
Kinzua Bridge Foundation Inc., Mt.
Jewett, PA
Kirk Homes Inc., Inkster, MI
Kitsap Youth Services Association,
Bremerton, WA
Kiwanis Club of Northeast Wichita
Foundation Inc., Wichita, KS
The Kiwanis Club of Parkschester The
Bronx Foundation, Inc., Bronx, NY
Kiwanis Club of Tyler-Rose City
Foundation Inc., Tyler, TX
Kiwanis Law Enforcement Camp
Incorporated, McMinnville, OR
Klaire Research Foundation, Carlsbad, CA
Klingon Language Institute, Flourtown,
PA
Knappa Svensen Brownsmead Burnside
Youth Program, Astoria, OR
Knoxville Home Child Care Association,
Knoxville, TN
Koala Inc., Brevard, NC
Ko-Am World Mission, Torrance, CA
Korean American Liquor Market
Association, Huntington Beach, CA
Korean Senior Association of Colorado,
Aurora, CO
Korean Senior Citizens Association Inc.,
Madison, TN
Korean War Veterans Memorial
Committee Inc., Louisville, KY
Kroger Community Foundation Inc.,
Atlanta, GA
KS Nutritional-Neighborhood Services
KNS, Houston, TX
Kweisi Mfume Community and
Scholarship Fund Inc., Baltimore, MD
Kyoin Educational Foundation,
Washington, DC
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 de-
termination letter with the revised classi-
fication as to foundation status. Grantors
and contributors may thereafter rely upon
such ruling or determination letter as pro-
vided in section 1.509(a)–7 of the Income
Tax Regulations. It is not the practice of
the Service to announce such revised clas-
sification of foundation status in the Inter-
nal Revenue Bulletin.
Failure by Certain Charitable
Organizations to Meet Certain
Qualification Requirements;
Taxes on Excess Benefit
Transactions; Hearing
Announcement 99–21
ACTION: Notice of public hearing on
previously published proposed regula-
tions.
SUMMARY: This document provides
notice of a public hearing on proposed
regulations relating to the excise taxes on
excess benefit transactions under section
4958 of the Internal Revenue Code
(Code). In addition, this document an-
nounces that persons wishing to testify in
the Los Angeles, California, area will be
able to make their presentations at an IRS
remote videoconference site.
DATES: The public hearing will be held
on Tuesday, March 16, 1999, at 1 p.m.
(EDT), and will continue Wednesday,
March 17, 1999, at 1 p.m., if necessary.
Requests to speak and outlines of oral
comments must be received by Wednes-
day, February 24, 1999.
ADDRESSES: The public hearing will
be held in the auditorium of the New Car-
rollton Federal Building (Building A),
5000 Ellin Street, New Carrollton, Mary-
land. The videoconference site for per-
sons testifying in Los Angeles is room
5003 in the Federal Building, 300 N. Los
Angeles Street, Los Angeles, California.
Mail requests to speak and outlines to:
CC:DOM:CORP:R (REG–246256–96),
room 5226, P.O. Box 7604, Ben Franklin
Station, Washington, DC 20044. Hand
deliver outlines Monday through Friday
between the hours of 8 a.m. and 5 p.m. to
CC:DOM:CORP:R (REG–246256–96),
Courier’s Desk, Internal Revenue Ser-
vice, 1111 Constitution Avenue, NW,
Washington, DC. Submit outlines elec-
tronically via the Internet by selecting the
“Tax Regs”option on the IRS Home Page,
or by submitting them directly to the IRS
Internet site at http://www.irs.ustreas.gov/
prod/tax_regs/comments.html.
FOR FURTHER INFORMATION CON-
TACT: Concerning submissions of com-
ments, the hearing, and/or to be placed on
the building access list to attend the hear-
ing, LaNita Van Dyke, (202) 622-7180
(not a toll-free number).
SUPPLEMENTARY INFORMATION:
The subject of the public hearing is
proposed regulations issued under section
4958 of the Code. These regulations
(REG–246256–96) appeared in the Fed-
eral Register(63 F.R. 41486), August 4,
1998, and in the Internal Revenue Bul-
letin (1998–34 IRB 9), August 24, 1998.
No hearing was scheduled at the time of
publication of the proposed regulations.
The rules of § 601.601(a)(3) of the
“Statement of Procedural Rules” (26 CFR
part 601) shall apply with respect to the
public hearing, except that persons who
did not file written comments within the
time prescribed by the notice of proposed
rulemaking (i.e.,November 2, 1998) will
be permitted to make oral comments at
the public hearing by submitting their re-
quests to speak and outlines in a timely
manner. Any persons who wish to present
oral comments at the hearing on the pro-
posed regulations should submit an out-
line of the oral comments/testimony to be
presented at the hearing, as well as the
time they wish to devote to each subject
(signed original and eight (8) copies).
Submissions must be received no later
than February 24, 1999.
Each speaker (or group of speakers rep-
1999–11 I.R.B.55March 15, 1999

resenting a single entity) will be limited to
10 minutes for an oral presentation, ex-
clusive of the time consumed by the gov-
ernment panel in asking questions of the
speaker and answers to those questions.
Because of controlled access restric-
tions, attendees cannot be admitted be-
yond the lobby of the Federal Building
more than 15 minutes before the hearing
starts. Hearing times at the Los Angeles,
California, videoconference site will be
concurrent with the hearing in New Car-
rollton, Maryland (i.e., 10 a.m. PDT).
Due to a limited seating capacity at the
Los Angeles site, no more than 12 people
may be accommodated at any one time in
the videoconference room. Seating in the
videoconference room will be made avail-
able based on the order of presentations.
IRS personnel will be available at the Los
Angeles videoconference site to assist
speakers in using the videoconference
equipment.
The IRS will prepare and provide at the
hearing, free of charge, an agenda show-
ing the scheduling of speakers. Testi-
mony will begin with the speakers at the
Los Angeles videoconference site and
conclude with presentations by the speak-
ers in New Carrollton.
Cynthia Grigsby,
Chief, Regulations Unit,
Assistant Chief Counsel (Corporate).
(Filed by the Office of the Federal Register on Feb-
ruary 4, 1999, 8:45 a.m., and published in the issue
of the Federal Register for February 5, 1999, 64 F.R.
5727)
Section 7428(c) Validation of
Certain Contributions Made
During Pendency of Declaratory
Judgment Proceedings
This announcement serves notice to po-
tential donors that the organization listed
below has recently filed a timely declara-
tory judgment suit under section 7428 of
the Code, challenging revocation of its
status as an eligible donee under section
170(c)(2).
Protection under section 7428(c) of the
Code begins on the date that the notice of
revocation is published in the Internal
Revenue Bulletin and ends on the date on
which a court first determines that an or-
ganization is not described in section
170(c)(2), as more particularly set forth in
section 7428(c)(1). In the case of individ-
ual contributors, the maximum amount of
contributions protected during this period
is limited to $1,000.00, with a husband
and wife being treated as one contributor.
This protection is not extended to any in-
dividual who was responsible, in whole or
in part, for the acts or omissions of the or-
ganization that were the basis for the re-
vocation. This protection also applies
(but without limitation as to amount) to
organizations described in section
170(c)(2) which are exempt from tax
under section 501(a). If the organization
ultimately prevails in its declaratory judg-
ment suit, deductibility of contributions
would be subject to the normal limitations
set forth under section 170.
Lenox Institute of Water Technology, Inc.
Lenox, MA
March 15, 1999561999–11 I.R.B.

1999–11 I.R.B.57March 15, 1999
Revenue rulings and revenue procedures
(hereinafter referred to as “rulings”)
that have an effect on previous rulings
use the following defined terms to de-
scribe the effect:
Amplified describes a situation where
no change is being made in a prior pub-
lished position, but the prior position is
being extended to apply to a variation of
the fact situation set forth therein. Thus,
if an earlier ruling held that a principle
applied to A, and the new ruling holds
that the same principle also applies to B,
the earlier ruling is amplified. (Compare
with modified, below).
Clarified is used in those instances
where the language in a prior ruling is
being made clear because the language
has caused, or may cause, some confu-
sion. It is not used where a position in a
prior ruling is being changed.
Distinguisheddescribes a situation
where a ruling mentions a previously
published ruling and points out an essen-
tial difference between them.
Modified is used where the substance
of a previously published position is
being changed. Thus, if a prior ruling
held that a principle applied to A but not
to B, and the new ruling holds that it ap-
plies to both A and B, the prior ruling is
modified because it corrects a published
position. (Compare with amplified and
clarified, above).
Obsoleted describes a previously pub-
lished ruling that is not considered deter-
minative with respect to future transac-
tions. This term is most commonly used
in a ruling that lists previously published
rulings that are obsoleted because of
changes in law or regulations. A ruling
may also be obsoleted because the sub-
stance has been included in regulations
subsequently adopted.
Revoked describes situations where the
position in the previously published rul-
ing is not correct and the correct position
is being stated in the new ruling.
Superseded describes a situation where
the new ruling does nothing more than
restate the substance and situation of a
previously published ruling (or rulings).
Thus, the term is used to republish under
the 1986 Code and regulations the same
position published under the 1939 Code
and regulations. The term is also used
when it is desired to republish in a single
ruling a series of situations, names, etc.,
that were previously published over a pe-
riod of time in separate rulings. If the
new ruling does more than restate the
substance of a prior ruling, a combination
of terms is used. For example, modified
and superseded describes a situation
where the substance of a previously pub-
lished ruling is being changed in part and
is continued without change in part and it
is desired to restate the valid portion of
the previously published ruling in a new
ruling that is self contained. In this case
the previously published ruling is first
modified and then, as modified, is super-
seded.
Supplemented is used in situations in
which a list, such as a list of the names of
countries, is published in a ruling and
that list is expanded by adding further
names in subsequent rulings. After the
original ruling has been supplemented
several times, a new ruling may be pub-
lished that includes the list in the original
ruling and the additions, and supersedes
all prior rulings in the series.
Suspended is used in rare situations to
show that the previous published rulings
will not be applied pending some future
action such as the issuance of new or
amended regulations, the outcome of
cases in litigation, or the outcome of a
Service study.
Abbreviations
The following abbreviations in current use and for-
merly used will appear in material published in the
Bulletin.
A—Individual.
Acq.—Acquiescence.
B—Individual.
BE—Beneficiary.
BK—Bank.
B.T.A.—Board of Tax Appeals.
C.—Individual.
C.B.—Cumulative Bulletin.
CFR—Code of Federal Regulations.
CI—City.
COOP—Cooperative.
Ct.D.—Court Decision.
CY—County.
D—Decedent.
DC—Dummy Corporation.
DE—Donee.
Del. Order—Delegation Order.
DISC—Domestic International Sales Corporation.
DR—Donor.
E—Estate.
EE—Employee.
E.O.—Executive Order.
ER—Employer.
ERISA—Employee Retirement Income Security Act.
EX—Executor.
F—Fiduciary.
FC—Foreign Country.
FICA—Federal Insurance Contribution Act.
FISC—Foreign International Sales Company.
FPH—Foreign Personal Holding Company.
F.R.—Federal Register.
FUTA—Federal Unemployment Tax Act.
FX—Foreign Corporation.
G.C.M.—Chief Counsel’s Memorandum.
GE—Grantee.
GP—General Partner.
GR—Grantor.
IC—Insurance Company.
I.R.B.—Internal Revenue Bulletin.
LE—Lessee.
LP—Limited Partner.
LR—Lessor.
M—Minor.
Nonacq.—Nonacquiescence.
O—Organization.
P—Parent Corporation.
PHC—Personal Holding Company.
PO—Possession of the U.S.
PR—Partner.
PRS—Partnership.
PTE—Prohibited Transaction Exemption.
Pub. L.—Public Law.
REIT—Real Estate Investment Trust.
Rev. Proc.—Revenue Procedure.
Rev. Rul.—Revenue Ruling.
S—Subsidiary.
S.P.R.—Statements of Procedral Rules.
Stat.—Statutes at Large.
T—Target Corporation.
T.C.—Tax Court.
T.D.—Treasury Decision.
TFE—Transferee.
TFR—Transferor.
T.I.R.—Technical Information Release.
TP—Taxpayer.
TR—Trust.
TT—Trustee.
U.S.C.—United States Code.
X—Corporation.
Y—Corporation.
Z—Corporation.
Definition of Terms

March 15, 1999581999–11 I.R.B.
1
A cumulative list of all revenue rulings, revenue
procedures, Treasury decisions, etc., published in
Internal Revenue Bulletins 1998–1 through 1998–52
will be found in Internal Revenue Bulletin 1999–1,
dated January 4, 1999.
Numerical Finding List
1
Bulletins 1999–1 through 1999–10
Announcements:
99–1, 1999–2 I.R.B. 41
99–2, 1999–2 I.R.B. 44
99–3, 1999–3 I.R.B. 15
99–4, 1999–3 I.R.B. 15
99–5, 1999–3 I.R.B. 16
99–6, 1999–4 I.R.B.24
99–7, 1999–2 I.R.B. 45
99–8, 1999–4 I.R.B.24
99–9, 1999–4 I.R.B. 24
99–10, 1999–5 I.R.B. 63
99–11, 1999–5 I.R.B. 64
99–12, 1999–5 I.R.B. 65
99–13, 1999–6 I.R.B. 18
99–14, 1999–7 I.R.B.60
99–15, 1999–8 I.R.B.78
99–16, 1999–8 I.R.B. 80
99–17, 1999–9 I.R.B. 59
99–19, 1999–10 I.R.B. 63
Notices:
99–1, 1999–2 I.R.B. 8
99–2, 1999–2 I.R.B. 8
99–3, 1999–2 I.R.B. 10
99–4, 1999–3 I.R.B. 9
99–5, 1999–3 I.R.B. 10
99–6, 1999–3 I.R.B. 12
99–7, 1999–4 I.R.B.23
99–8, 1999–5 I.R.B. 26
99–9, 1999–4 I.R.B. 23
99–10, 1999–6 I.R.B. 14
99–11, 1999–8 I.R.B.56
99–12, 1999–9 I.R.B. 44
99–13, 1999–10 I.R.B. 26
Proposed Regulations:
REG–209619–93, 1999–10 I.R.B. 28
REG–245562–96, 1999–9 I.R.B. 45
REG–114663–97, 1999–6 I.R.B. 15
REG–116826–97, 1999–10 I.R.B. 40
REG–118620–97, 1999–9 I.R.B. 46
REG–121806–97, 1999–10 I.R.B. 46
REG–104924–98, 1999–10 I.R.B.47
REG–106219–98, 1999–9 I.R.B. 51
REG–106564–98, 1999–10 I.R.B.53
REG–106902–98, 1999–8 I.R.B. 57
REG–110524–98, 1999–10 I.R.B. 55
REG–111435–98, 1999–7 I.R.B. 55
REG–113694–98, 1999–7 I.R.B. 56
REG–113744–98, 1999–10 I.R.B. 59
REG–115433–98, 1999–9 I.R.B. 54
REG–116824–98, 1999–7 I.R.B.57
REG–117620–98, 1999–7 I.R.B. 59
REG–121865–98, 1999–8 I.R.B.63
Revenue Procedures:
99–1, 1999–1 I.R.B. 6
99–2, 1999–1 I.R.B. 73
99–3, 1999–1 I.R.B. 103
99–4, 1999–1 I.R.B. 115
99–5, 1999–1 I.R.B. 158
99–6, 1999–1 I.R.B. 187
99–7, 1999–1 I.R.B. 226
99–8, 1999–1 I.R.B. 229
99–9, 1999–2 I.R.B. 17
99–10, 1999–2 I.R.B. 11
99–11, 1999–2 I.R.B. 14
99–12, 1999–3 I.R.B. 13
Revenue Procedures—Continued
99–13, 1999–5 I.R.B. 52
99–14, 1999–5 I.R.B. 56
99–15, 1999–7 I.R.B. 42
99–16, 1999–7 I.R.B. 50
99–17, 1999–7 I.R.B. 52
Revenue Rulings:
99–1, 1999–2 I.R.B. 4
99–2, 1999–2 I.R.B. 5
99–3, 1999–3 I.R.B. 4
99–4, 1999–4 I.R.B.19
99–5, 1999–6 I.R.B.8
99–6, 1999–6 I.R.B. 6
99–7, 1999–5 I.R.B. 4
99–8, 1999–6 I.R.B.8
99–9, 1999–7 I.R.B.14
99–10, 1999–10 I.R.B. 10
99–11, 1999–10 I.R.B. 18
99–13, 1999–10 I.R.B. 4
Treasury Decisions:
8789, 1999–3 I.R.B. 5
8791, 1999–5 I.R.B. 7
8792, 1999–7 I.R.B.36
8793, 1999–7 I.R.B.15
8794, 1999–7 I.R.B.4
8795, 1999–7 I.R.B.8
8796, 1999–4 I.R.B. 16
8797, 1999–5 I.R.B. 5
8799, 1999–6 I.R.B. 10
8800, 1999–4 I.R.B. 20
8801, 1999–4 I.R.B. 5
8802, 1999–4 I.R.B. 10
8805, 1999–5 I.R.B. 14
8806, 1999–6 I.R.B.4
8807, 1999–9 I.R.B. 33
8808, 1999–10 I.R.B. 21
8809, 1999–7 I.R.B.27
8810, 1999–7 I.R.B.19
8811, 1999–10 I.R.B. 19
8812, 1998–8 I.R.B. 19
8816, 1998–8 I.R.B. 4
8817, 1998–8 I.R.B. 51

1999–11 I.R.B.59March 15, 1999
Finding List of Current Action on
Previously Published Items
1
Bulletins 1999–1 through 1999–10
Revenue Procedures:
78–10
Obsoleted by
99–12, 1999–3 I.R.B. 13
94–56
Superseded by
99–9, 1999–2 I.R.B. 17
97–23
Superseded by
99–3, 1999–1 I.R.B. 103
98–1
Superseded by
99–1, 1999–1 I.R.B. 6
98–2
Superseded by
99–2, 1999–1 I.R.B. 73
98–3
Superseded by
99–3, 1999–1 I.R.B. 103
98–4
Superseded by
99–4, 1999–1 I.R.B. 115
98–5
Superseded by
99–5, 1999–1 I.R.B. 158
98–6
Superseded by
99–6, 1999–1 I.R.B. 187
98–7
Superseded by
99–7, 1999–1 I.R.B. 226
98–8
Superseded by
99–8, 1999–1 I.R.B. 229
98–22
Modified and amplified by
99–13, 1999–5 I.R.B. 52
98–56
Superseded by
99–3, 1999–1 I.R.B. 103
98–63
Modified by announcement
99–7, 1999–2 I.R.B. 45
1
A cumulative finding list for previously published
items mentioned in Internal Revenue Bulletins
1998–1 through 1998–52 will be found in Internal
Revenue Bulletin 1999–1, dated January 4, 1999.

March 15, 1999601999–11 I.R.B.
Notes

1999–11 I.R.B.61March 15, 1999
Notes

March 15, 1999621999–11 I.R.B.
Notes

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