Internal Revenue Bulletin 2004-28 (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.

Bulletin No. 200
4-28
July 12, 2004
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.
INCOME TAX
T.D. 9132, page 16.
Final regulations under section 168 of the Code provide guid-
ance on how to depreciate property for which the use changes
inthehandsofthesametaxpayer. Theseregulationsexplain
when a change in use occurs and how a taxpayer should de-
terminedepreciationintheyearofthechangeinuse,andin
subsequent years.
T.D. 9133
, page 25.
Final and t
emporary regulations under section 280F of the
Code excl
ude vans and trucks that are qualified nonpersonal
use vehic
les (as defined in section 1.274–5T(k)) from the
definiti
on of “passenger automobile” for purposes of section
280F(a),
including transition rules for property placed in
service p
rior to July 7, 2003.
REG–131486–03, page 36.
Proposed regulations under section 1374 of the Code provide
for an adjustment to the amount that may be subject to tax in
certain cases in which an S corporation acquires assets from
a C corporation in an acquisition to which section 1374(d)(8)
applies. These regulations provide guidance to certain S corpo-
rations that acquire assets from a C corporation in a carryover
basis transaction.
REG–117307–04, page 39.
Proposed regulations under section 864 of the Code relate to
the application of the asset-use test to stock held by foreign
insurance companies. The regulations provide that the excep-
tion to the asset-use test for stock does not apply in determin-
ing whether the income, gain, or loss from portfolio stock held
by foreign insurance companies constitutes income effectively
connected with the conduct of a trade or business within the
United States.
Notice 2004–41, page 31.
Charitable contributions and conservation easements.
This notice informs taxpayers that the Service will, in appropri-
ate cases, reduce or disallow deductions claimed by taxpayers
under section 170 of the Code for transfers in connection with
conservation easements. This notice also informs participants
in these transactions that they may be subject to other adverse
tax consequences, including penalties, excise taxes, and loss
of tax-exempt status, as appropriate.
Notice 2004–44, page 32.
Section 368(a)(1)(B).The Service is requesting public com-
ments regarding Rev. Proc. 81–70, 1981–2 C.B. 729, which
contains the guidelines for estimating the basis of stock ac-
quired in a B reorganization.
Notice 2004–45, page 33.
This notice advises taxpayers that the Service will challenge
the meritless filing position of certain U.S. citizens who claim
to be residents of the U.S. Virgin Islands and to have income
from sources in the U.S. Virgin Islands or income effectively
connected to the conduct of a trade or business in the U.S.
Virgin Islands.
(Continued on the next page)
Fi
nding Lists begin on page ii.

EMPLOYEE PLANS
Rev. Rul. 2004–67, page 28.
Group or pooled trusts; participation; tax-exempt status,
model language.This ruling provides that a governmental
section 457(b) plan may invest in a second tier group or pooled
trust as long as the criteria enumerated in the ruling are met.
In addition, the ruling sets forth model language that may be
adopted by existing group or pooled trusts so that they need
not request determination letters merely to add a provision
permitting participation by a governmental section 457(b) plan.
Rev. Rul. 81–100 clarified and modified.
EXEMPT ORGANIZATIONS
Announcement 2004–56, page 41.
This announcement is a public notice of the suspension of the
federal tax exemption under section 501(p) of the Code of a
certain organization that has been designated as supporting
or engaging in terrorist activity or supporting terrorism. Contri-
butions made to this organization during the period that the or-
ganization’s tax-exempt statusis suspended are not deductible
for federal tax purposes.
July 12, 20042004–28 I.R.B.

The IRS Mission
Provide America’s taxpayers top quality service by helping
them understand and meet their tax responsibilities and by
applying the tax law with integrity and fairness to all.
Introduction
The Internal Revenue Bulletin is the authoritative instrument of
the Commissioner of Internal Revenue for announcing official
rulings and procedures of the Internal Revenue Service and for
publishing Treasury Decisions, Executive Orders, Tax Conven-
tions, 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 are compiled 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, mod-
ify, or amend any of those previously published in the Bulletin.
All published rulings apply retroactively unless otherwise indi-
cated. Procedures relating solely to matters of internal man-
agement 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 published rulings and
procedures, the effect of subsequent legislation, regulations,
court decisions, rulings, and procedures must be considered,
and Service personnel and others concerned are cautioned
against reaching the same conclusions in other cases unless
the facts and circumstances are substantially the same.
The Bulletin is divided into four parts as follows:
Part I.—19
86 Code.
This part i
ncludes rulings and decisions based on provisions of
the Intern
al Revenue Code of 1986.
Part II.—Treaties and Tax Legislation.
This part is divided into two subparts as follows: Subpart A,
Tax Conventions and Other Related Items, and Subpart B, Leg-
islation 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 Subparts. Also
included in this part are Bank Secrecy Act Administrative Rul-
ings. Bank Secrecy Act Administrative Rulings are issued by
the Department of the Treasury’s Office of the Assistant Sec-
retary (Enforcement).
Part IV
.—Items of General Interest.
This par
t includes notices of proposed rulemakings, disbar-
ment an
d suspension lists, and announcements.
The last Bulletin for each month includes a cumulative index
for the matters published during the preceding months. These
monthly indexes are cumulated on a semiannual basis, and are
published in the last Bulletin of each semiannual period.
The c
ontents 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.
2004–28 I.R.B.July 12, 2004

Part I. Rulings and Decisions Under the Internal Revenue Code
of 1986
Section 168.—Accelerated
Cost Recovery System
26 CFR 1.168(i)–1: General asset accounts.
T.D. 9132
DEPARTMENT OF
THE TREASURY
Internal Revenue Service
26 CFR Part 1
Changes in Use Under Section
168(i)(5)
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Final and temporary regula-
tions.
SUMMARY: This document contains fi-
nal and temporary regulations relating to
the depreciation of property subject to sec-
tion 168 of the Internal Revenue Code
(MACRS property). Specifically, these
regulations provide guidance on how to
depreciate MACRS property for which the
use changes in the hands of the same tax-
payer. The regulations reflect changes to
the law made by the Tax Reform Act of
1986.
DATES:Effective Date: These regulations
are effective June 17, 2004.
Applicability Date: For dates of ap-
plicability, see §§1.168(i)–1(l)(2) and
1.168(i)–4(g).
FOR FURTHER INFORMATION
CONTACT: Sara Logan or Kathleen Reed,
(202) 622–3110 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
This document contains amendments
to 26 CFR part 1. On July 21, 2003, the
IRS and Treasury Department published a
notice of proposed rulemaking in theFed-
eral Register(REG–138499–02, 2003–37
I.R.B. 541 [68 FR 43047]), relating to a
change in the use of MACRS property in
the hands of the same taxpayer (change in
theuse)undersection168(i)(5)oftheIn-
ternal Revenue Code (Code) and relating
to a change in the use of assets in a gen-
eral asset account under section 168(i)(4).
On March 1, 2004, §§1.168(a)–1 and
1.168(b)–1 that were contained in this
notice of proposed rulemaking were with-
drawn (REG–138499–02, 2004–14 I.R.B.
704 [69 FR 9560]). No public hearing
was requested or held. Written or elec-
tronic comments responding to the notice
of proposed rulemaking were received.
After consideration of all the comments,
the proposed regulations are adopted as
amended by this Treasury decision. The
revisions are discussed below.
Explanation of Provisions
Scope
The final regulations provide the rules
for determining the annual depreciation al-
lowance under section 168 for MACRS
property as a result of a change in the use of
such property. Changes in the use include
a conversion of personal use property to a
business or income-producing use, a con-
version of MACRS property to personal
use, or a change in the use of MACRS
property that results in a different recovery
period, depreciation method, or both.
I.Conversion to Business Use
The final regulations retain the rules
contained in the proposed regulations,
providing that personal use property con-
verted to business or income-producing
use is treated as being placed in service by
the taxpayer on the date of the conversion.
Thus, the property is depreciated by using
the applicable depreciation method, re-
covery period, and convention prescribed
under section 168 for the property begin-
ning in the taxable year the change in the
use occurs (year of change). No comments
were received suggesting changes to these
rules. The final regulations, however,
clarify that these rules do not apply when
another section of the Code (or regulations
under that section) prescribes the deprecia-
tion treatment for a change to business use.
For example, if listed property (as defined
in section 280F(d)(4)) is predominantly
used by a taxpayer in a qualified business
use in a taxable year, then in a subsequent
taxable year is exclusively used by the
taxpayer for personal purposes, and then
in a later taxable year is predominantly
used by the taxpayer in a qualified busi-
ness use, section 280F(b)(2)(A) requires
that the property be depreciated under the
alternative depreciation system of section
168(g) in the later taxable year and subse-
quent taxable years.
II.Conversion to Personal Use
The final regulations retain the rule con-
tained in the proposed regulations provid-
ing that a conversion of MACRS prop-
erty from business or income-producing
use to personal use is treated as a dispo-
sition of the property. Depreciation for
the year of change is computed by tak-
ing into account the applicable conven-
tion. No gain, loss, or depreciation re-
capture is recognized upon the conversion.
A commentator questioned whether recap-
ture of excess depreciation under section
280F(b)(2) occurs upon a conversion of
listed property from business use to only
personal use. Upon this conversion, the
listed property is not predominantly used
in a qualified business use for that tax-
able year for purposes of section 280F(b)
and, consequently, section 280F(b)(2) re-
quires any excess depreciation (as defined
in section 280F(b)(2)(B)) to be included in
gross income for the taxable year in which
the listed property is converted to personal
use. Accordingly, the IRS and Treasury
Department have included a cross-refer-
ence to section 280F(b)(2) in the final reg-
ulations.
III.MACRS Property—Use Changes After
Placed-In-Service Year
The final regulations provide rules for
MACRS property if a change in the use
of the property occurs after the property’s
placed-in-service year but the property
continues to be MACRS property in the
hands of the taxpayer.
2004–28 I.R.B.16July 12, 2004

A.Determination of a change in the use
The final regulations remain unchanged
from the proposed regulations. Conse-
quently, a change in the use of MACRS
property generally occurs when the pri-
mary use of the MACRS property in the
taxable year is different from its primary
use in the immediately preceding taxable
year. However, in determining whether a
taxpayer begins or ceases to use MACRS
property predominantly outside the United
States, the predominant use, instead of the
primary use, of the MACRS property gov-
erns. A commentator questioned how this
predominant use test is applied to rolling
stock (for example, locomotives, freight
and passenger train cars) that is not de-
scribed under section 168(g)(4)(B) and
that is used within and without the United
States. This question concerns how to
trace the movement of this rolling stock to
determine its physical location, which the
IRS and Treasury Department believe is
beyond the scope of these regulations.
B.Change in the use of MACRS property
resulting in a different recovery period
and/or depreciation method
The final regulations retain the rules
contained in the proposed regulations for
determining the applicable depreciation
method, recovery period, and conven-
tion used to determine the depreciation
allowances for the MACRS property for
the year of change and subsequent taxable
years. Consequently, if a change in the use
of MACRS property results in a shorter
recovery period and/or a more acceler-
ated depreciation method (for example,
MACRS property ceases to be used pre-
dominantly outside the United States), the
adjusted depreciable basis of the MACRS
property as of the beginning of the year
of change is depreciated over the shorter
recovery period and/or by the more accel-
erated depreciation method beginning with
the year of change as though the MACRS
property is placed in service by the tax-
payer in the year of change. If a change
in the use of MACRS property results in a
longer recovery period and/or a slower de-
preciation method (for example, MACRS
property begins to be used predominantly
outside the United States), the adjusted
depreciable basis of the MACRS property
as of the beginning of the year of change
is depreciated over the longer recovery
period and/or by the slower depreciation
method beginning with the year of change
as though the taxpayer originally placed
the MACRS property in service with the
longer recovery period and/or slower de-
preciation method.
A commentator suggested that the de-
preciation allowances for all changes in
the use of MACRS property resulting in a
different recovery period and/or deprecia-
tion method be determined beginning with
the year of change by treating the new de-
preciation method and/or recovery period
as though they applied from the date the
MACRS property was originally placed
in service by the taxpayer. The commen-
tator, in effect, is requesting that the rule
contained in the proposed regulations for
a change in the use of MACRS property
that results in a longer recovery period
and/or slower depreciation method also
apply to a change in the use of MACRS
property that results in a shorter recovery
period and/or a more accelerated depre-
ciation method. The IRS and Treasury
Department continue to believe that the
rules contained in the proposed regula-
tions are reasonable because the rules
determine the depreciation allowance for
any taxable year based on the primary use
of the MACRS property by the taxpayer
during that year. Further, for a change
in the use of MACRS property that re-
sults in a shorter recovery period and/or a
more accelerated depreciation method, the
taxpayer either may determine the depre-
ciation allowances as though the MACRS
property is placed-in-service by the tax-
payer in the year of change or may elect
to disregard the change in the use and
determine the depreciation allowances as
though the change in the use had not oc-
curred. As a result, the final regulations
do not require a recovery period that is
longer than the recovery period applicable
for the MACRS property in the taxable
year immediately preceding the year of
change. Accordingly, the commentator’s
suggestion was not accepted.
Another commentator requested that
Example 4in §1.168(i)–5(d)(6) be clari-
fied by stating which optional depreciation
tables the transaction coefficient factors
are drawn from. The IRS and Treasury
Department have adopted this suggestion.
IV.Change in the Use During the
Placed-in-Service Year
The final regulations retain the rules
contained in the proposed regulations if
a change in the use of MACRS property
occurs during the taxable year the prop-
erty is placed in service and the property
continues to be MACRS property in the
hands of the taxpayer. Accordingly, if
the use of MACRS property changes dur-
ing its placed-in-service year, the depre-
ciation allowance generally is determined
by the primary use of the property dur-
ing that taxable year. However, in deter-
mining whether MACRS property is used
within or outside the United States dur-
ing the placed-in-service year, the predom-
inant use, instead of the primary use, of
the MACRS property governs. Further, in
determining whether MACRS property is
tax-exempt use property or imported prop-
erty covered by an Executive order during
the placed-in-service year, the use of the
property at the end of the placed-in-service
year governs. Moreover, MACRS prop-
erty is tax-exempt bond financed prop-
erty during the placed-in-service year if a
tax-exempt bond for the MACRS property
is issued during the placed-in-service year.
V.General Asset Accounts
Finally, the regulations amend the final
regulations under section 168(i)(4) (T.D.
8566, 1994–2 C.B. 20 [59 FR 51369]
(1994)) and the temporary regulations un-
der section 168(i)(4) (T.D. 9115, 2004–14
I.R.B. 680 [69 FR 9529] (2004)) for
property accounted for in a general asset
account for which the use of the property
changes, resulting in a different recovery
period and/or depreciation method. These
amendments are the same rules contained
in the proposed regulations.
Effective Dates
These regulations are applicable for
any change in the use of MACRS prop-
erty in a taxable year ending on or after
June 17, 2004. For any change in the use
of MACRS property after December 31,
1986, in a taxable year ending before June
17, 2004, the IRS will allow any reason-
able method of depreciating the property
under section 168 in the year of change and
the subsequent taxable years that is con-
sistently applied to the MACRS property
July 12, 2004172004–28 I.R.B.

for which the use changes in the hands of
the same taxpayer. However, a taxpayer
may choose, on a property-by-property
basis, to apply the final regulations to a
change in the use of MACRS property
after December 31, 1986, in a taxable
year ending before June 17, 2004. In this
case and consistent with Chief Counsel
Notice 2004–007, Change in Litigating
Position—Application of Section 446(e)
to Changes in Computing Depreciation
(CC–2004–007, January 28, 2004, at the
IRS Internet site atwww.irs.gov/foia), a
change to the method of accounting for de-
preciation provided in the final regulations
due to a change in the use of MACRS
property in a taxable year ending on or
after December 30, 2003, is a change in
method of accounting and a change to
the method of accounting for depreciation
provided in the final regulations due to
a change in the use of MACRS property
after December 31, 1986, in a taxable year
ending before December 30, 2003, may
be treated by the taxpayer as a change in
method of accounting.
Special Analyses
It has been determined that this Trea-
sury decision is not a significant regula-
tory action as defined in Executive Order
12866. Therefore, a regulatory assessment
is not required. It also has been determined
that section 553(b) of the Administrative
Procedure Act (5 U.S.C. chapter 5) does
not apply to these regulations and, because
these regulations do not impose on small
entities a collection of information require-
ment, the Regulatory Flexibility Act (5
U.S.C. chapter 6) does not apply to these
regulations. Therefore, a Regulatory Flex-
ibility Analysis is not required. Pursuant to
section 7805(f) of the Code, the notice of
proposed rulemaking was submitted to the
Chief Counsel for Advocacy of the Small
Business Administration for comment on
its impact on small business.
Drafting Information
The principal author of these regula-
tions is Sara Logan, Office of Associate
Chief Counsel (Passthroughs and Special
Industries). However, other personnel
from the IRS and Treasury Department
participated in their development.
*****
Adoption of Amendments to the
Regulations
Accordingly, 26 CFR part 1 is amended
as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by adding an entry in
numerical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section1.168(i)–4alsoissuedunder26
U.S.C. 168(i)(5). * * *
Par. 2. Section 1.168(i)–0 is amended
by revising the entry for §1.168(i)–1(h)(2)
and adding entries for §1.168(i)–1(h)(2)(i)
through (h)(2)(iii) to read as follows:
§1.168(i)–0 Table of contents for the
general asset account rules.
*****
§1.168(i)–1 General asset accounts.
*****
(h) * * *
(2) Change in use results in a differ-
ent recovery period and/or depreciation
method.
(i) No effect on general asset account
election.
(ii) Asset is removed from the general
asset account.
(iii) New general asset account is estab-
lished.
*****
Par. 3. Section 1.168(i)–1 is amended
by:
1. Revising paragraph (b)(1).
2. Amending paragraph (c)(2)(ii) by:
a. Removing the language “and” from
the end of paragraph (c)(2)(ii)(C).
b. Removing the period “.” from the
end of paragraph (c)(2)(ii)(D) and adding
“; and” in its place.
c. Revising paragraph (c)(2)(ii)(E).
3. Removing the language “the change
in use occurs and” from the last sentence of
paragraph (h)(1) and adding “the change in
use occurs (the year of change) and” in its
place.
4. Revising paragraph (h)(2).
5. Removing the language “(h)(1)”
from paragraph (k)(1) and adding “(h)” in
its place.
6. Revising paragraph (l).
The revisions read as follows:
§1.168(i)–1 General asset accounts.
*****
(b) * * *
(1)Unadjusted depreciable basisis the
basis of an asset for purposes of section
1011 without regard to any adjustments de-
scribed in section 1016(a)(2) and (3). This
basis reflects the reduction in basis for the
percentage of the taxpayer’s use of prop-
erty for the taxable year other than in the
taxpayer’s trade or business (or for the pro-
duction of income), for any portion of the
basis the taxpayer properly elects to treat
as an expense under section 179, and for
any adjustments to basis provided by other
provisions of the Internal Revenue Code
and the regulations under the Internal Rev-
enue Code (other than section 1016(a)(2)
and (3)) (for example, a reduction in basis
by the amount of the disabled access credit
pursuant to section 44(d)(7)). For property
subject to a lease, see section 167(c)(2).
*****
(c) * * *
(2) * * *
(ii) * * *
(E) Assets subject to paragraph
(h)(2)(iii)(A) of this section (change in
use results in a shorter recovery period
and/or a more accelerated depreciation
method) for which the depreciation al-
lowance for the year of change (as defined
in §1.168(i)–4(a)) is not determined by
using an optional depreciation table must
be grouped into a separate general asset
account.
*****
(h) * * *
(2)Changeinuseresultsinadiffer-
ent recovery period and/or depreciation
method—(i)No effect on general asset ac-
count election. A change in the use de-
scribed in §1.168(i)–4(d) (change in use
results in a different recovery period and/or
depreciation method) of an asset in a gen-
eral asset account shall not cause or permit
the revocation of the election made under
this section.
(ii)Asset is removed from the general
asset account. Upon a change in the use
described in §1.168(i)–4(d), the taxpayer
must remove the asset from the general
asset account as of the first day of the
year of change and must make the ad-
justments to the general asset account
described in paragraphs (e)(3)(iii)(C)(2)
2004–28 I.R.B.18July 12, 2004

through (4) of this section. If, however,
the result of the change in use is described
in §1.168(i)–4(d)(3) (change in use re-
sults in a shorter recovery period and/or
a more accelerated depreciation method)
and the taxpayer elects to treat the asset
as though the change in use had not oc-
curred pursuant to §1.168(i)–4(d)(3)(ii),
no adjustment is made to the general asset
account upon the change in use.
(iii)New general asset account is es-
tablished—(A)Change in use results in a
shorter recovery period and/or a more ac-
celerated depreciation method.Ifthere-
sult of the change in use is described in
§1.168(i)–4(d)(3) (change in use results in
a shorter recovery period and/or a more
accelerated depreciation method) and ad-
justments to the general asset account are
made pursuant to paragraph (h)(2)(ii) of
this section, the taxpayer must establish a
new general asset account for the asset in
the year of change in accordance with the
rules in paragraph (c) of this section, ex-
cept that the adjusted depreciable basis of
the asset as of the first day of the year of
change is included in the general asset ac-
count. For purposes of paragraph (c)(2)
of this section, the applicable depreciation
method, recovery period, and convention
are determined under §1.168(i)–4(d)(3)(i).
(B)Change in use results in a longer
recovery period and/or a slower depreci-
ation method. If the result of the change
in use is described in §1.168(i)–4(d)(4)
(change in use results in a longer recov-
ery period and/or a slower depreciation
method), the taxpayer must establish a sep-
arate general asset account for the asset in
the year of change in accordance with the
rules in paragraph (c) of this section, ex-
cept that the unadjusted depreciable basis
of the asset, and the greater of the depre-
ciation of the asset allowed or allowable
in accordance with section 1016(a)(2), as
of the first day of the year of change are
included in the newly established general
asset account. Consequently, this general
asset account as of the first day of the
year of change will have a beginning bal-
ance for both the unadjusted depreciable
basis and the depreciation reserve of the
general asset account. For purposes of
paragraph (c)(2) of this section, the appli-
cable depreciation method, recovery pe-
riod, and convention are determined under
§1.168(i)–4(d)(4)(ii).
*****
(l)Effective dates—(1) [Reserved]. For
further guidance, see §1.168(i)–1T(l)(1).
(2)Exceptions—(i)In general—(A)
Paragraph (b)(1) of this section applies on
or after June 17, 2004. For the applica-
bility of §1.168(i)–1(b)(1) before June 17,
2004, see §1.168(i)–1(b)(1) in effect prior
to June 17, 2004 (§1.168(i)–1(b)(1) as
contained in 26 CFR part 1 edition revised
as of April 1, 2004).
(B) Paragraphs (c)(2)(ii)(E) and (h)(2)
of this section apply to any change in
the use of depreciable assets pursuant to
§1.168(i)–4(d) in a taxable year ending on
or after June 17, 2004. For any change
in the use of depreciable assets as de-
scribed in §1.168(i)–4(d) after December
31, 1986, in a taxable year ending before
June 17, 2004, the Internal Revenue Ser-
vice will allow any reasonable method that
is consistently applied to the taxpayer’s
general asset accounts or the taxpayer may
choose, on an asset-by-asset basis, to ap-
ply paragraphs (c)(2)(ii)(E) and (h)(2) of
this section.
(ii)Change in method of account-
ing—(A)In general. If a taxpayer adopted
a method of accounting for general as-
set account treatment due to a change
in the use of depreciable assets pursuant
to §1.168(i)–4(d) in a taxable year end-
ing on or after December 30, 2003, and
the method adopted is not in accordance
with the method of accounting provided
in paragraphs (c)(2)(ii)(E) and (h)(2)
of this section, a change to the method
of accounting provided in paragraphs
(c)(2)(ii)(E) and (h)(2) of this section is a
change in method ofaccounting to which
the provisions of section 446(e) and the
regulations under section 446(e) apply.
However, if a taxpayer adopted a method
of accounting for general asset account
treatment due to a change in the use of de-
preciable assets pursuant to §1.168(i)–4(d)
after December 31, 1986, in a taxable year
ending before December 30, 2003, and
the method adopted is not in accordance
with the method of accounting provided in
paragraphs (c)(2)(ii)(E) and (h)(2) of this
section, the taxpayer may treat the change
to the method of accounting provided in
paragraphs (c)(2)(ii)(E) and (h)(2) of this
section as a change in method of account-
ing to which the provisions of section
446(e) and the regulations under section
446(e) apply.
(B)Automatic consent to change
method of accounting. A taxpayer chang-
ing its method of accounting in accordance
with this paragraph (l)(2)(ii) must follow
the applicable administrative procedures
issued under §1.446–1(e)(3)(ii) for ob-
taining the Commissioner’s automatic
consent to a change in method of account-
ing (for further guidance, for example, see
Rev. Proc. 2002–9, 2002–1 C.B. 327, as
modified by Rev. Proc. 2004–11, 2004–3
I.R.B. 311 (see §601.601(d)(2)(ii)(b)of
this chapter)). Because this change does
not change the adjusted depreciable basis
of the asset, the method change is made
on a cut-off basis and, therefore, no ad-
justment under section 481(a) is required
or allowed. For purposes of Form 3115,
Application for Change in Accounting
Method, the designated number for the
automatic accounting method change au-
thorized by this paragraph (l)(2)(ii) is
“87.” If Form 3115 is revised or renum-
bered, any reference in this section to that
form is treated as a reference to the revised
or renumbered form.
(3) [Reserved]. For further guidance,
see §1.168(i)–1T(l)(3).
Par. 4. Section 1.168(i)–1T is amended
by:
1. Revising paragraphs (c)(2)(ii)(E)
and (l)(2).
2. Removing the language “(h)(1) (con-
version to personal use)” from paragraphs
(d)(2) and (i) and adding “(h) (changes in
use)” in its place.
3. Removing the language “(h)(1)”
from paragraph (j) and adding “(h)” in its
place.
The revisions read as follows:
§1.168(i)–1T General asset accounts
(temporary).
*****
(c) * * *
(2) * * *
(ii) * * *
(E) [Reserved]. For further guidance,
see §1.168(i)–1(c)(2)(ii)(E).
*****
(l) * * *
(2) [Reserved]. For further guidance,
see §1.168(i)–1(l)(2).
*****
Par. 5. Section 1.168(i)–4 is added to
read as follows:
July 12, 2004192004–28 I.R.B.

§1.168(i)–4 Changes in use.
(a)Scope. This section provides the
rules for determining the depreciation al-
lowance for MACRS property (as defined
in §1.168(b)–1T(a)(2)) for which the use
changes in the hands of the same taxpayer
(change in the use). The allowance for
depreciation under this section constitutes
the amount of depreciation allowable un-
der section 167(a) for the year of change
and any subsequent taxable year. For pur-
poses of this section, the year of change is
the taxable year in which a change in the
use occurs.
(b)Conversion to business or in-
come-producing use—(1)Depreciation
deduction allowable. This paragraph
(b) applies to property that is converted
from personal use to use in a taxpayer’s
trade or business, or for the production
of income, during a taxable year. This
conversion includes property that was
previously used by the taxpayer for per-
sonal purposes, including real property
(other than land) that is acquired before
1987 and converted from personal use to
business or income-producing use after
1986, and depreciable property that was
previously used by a tax-exempt entity
before the entity changed to a taxable
entity. Except as otherwise provided by
the Internal Revenue Code or regulations
under the Internal Revenue Code, upon
a conversion to business or income-pro-
ducing use, the depreciation allowance
for the year of change and any subse-
quent taxable year is determined as though
the property is placed in service by the
taxpayer on the date on which the con-
version occurs. Thus, except as otherwise
provided by the Internal Revenue Code
or regulations under the Internal Rev-
enue Code, the taxpayer must use any
applicable depreciation method, recovery
period, and convention prescribed under
section 168 for the property in the year
of change, consistent with any election
made under section 168 by the taxpayer
for that year (see, for example, section
168(b)(5)). See §§1.168(k)–1T(f)(6)(iii)
and 1.1400L(b)–1T(f)(6) for the additional
first year depreciation deduction rules ap-
plicable to a conversion to business or
income-producing use. The depreciable
basis of the property for the year of change
is the lesser of its fair market value or its
adjusted depreciable basis (as defined in
§1.168(b)–1T(a)(4)), as applicable, at the
time of the conversion to business or in-
come-producing use.
(2)Example. The application of this
paragraph (b) is illustrated by the follow-
ing example:
Example.A, a calendar-year taxpayer, purchases
a house in 1985 that she occupies as her principal
residence. In February 2004,Aceases to occupy
the house and converts it to residential rental prop-
erty. At the time of the conversion to residential
rental property, the house’s fair market value (ex-
cluding land) is $130,000 and adjusted depreciable
basis attributable to the house (excluding land) is
$150,000. Pursuant to this paragraph (b),Ais con-
sidered to have placed in service residential rental
property in February 2004 with a depreciable basis
of $130,000.Adepreciates the residential rental
property under the general depreciation system by
using the straight-line method, a 27.5-year recovery
period, and the mid-month convention. Pursuant to
§§1.168(k)–1T(f)(6)(iii)(B) or 1.1400L(b)–1T(f)(6),
this property is not eligible for the additional first
year depreciation deduction provided by section
168(k) or section 1400L(b). Thus, the deprecia-
tion allowance for the house for 2004 is $4,137,
after taking into account the mid-month convention
(($130,000 adjusted depreciable basis multiplied by
the applicable depreciation rate of 3.636% (1/27.5))
multiplied by the mid-month convention fraction
of 10.5/12). The amount of depreciation computed
under section 168, however, may be limited under
other provisions of the Internal Revenue Code, such
as, section 280A.
(c)Conversion to personal use.The
conversion of MACRS property from
business or income-producing use to per-
sonal use during a taxable year is treated
as a disposition of the property in that tax-
able year. The depreciation allowance for
MACRS property for the year of change
in which the property is treated as being
disposed of is determined by first mul-
tiplying the adjusted depreciable basis
of the property as of the first day of the
year of change by the applicable depreci-
ation rate for that taxable year (for further
guidance, for example, see section 6 of
Rev. Proc. 87–57, 1987–2 C. B. 687, 692
(see §601.601(d)(2)(ii)(b) of this chap-
ter)). This amount is then multiplied by
a fraction, the numerator of which is the
number of months (including fractions
of months) the property is deemed to be
placed in service during the year of change
(taking into account the applicable con-
vention) and the denominator of which
is 12. No depreciation deduction is al-
lowable for MACRS property placed in
service and disposed of in the same tax-
able year. See §§1.168(k)–1T(f)(6)(ii) and
1.1400L(b)–1T(f)(6) for the additional
first year depreciation deduction rules
applicable to property placed in service
and converted to personal use in the same
taxable year. Upon the conversion to per-
sonal use, no gain, loss, or depreciation
recapture under section 1245 or section
1250 is recognized. However, the pro-
visions of section 1245 or section 1250
apply to any disposition of the converted
property by the taxpayer at a later date.
For listed property (as defined in section
280F(d)(4)), see section 280F(b)(2) for
the recapture of excess depreciation upon
the conversion to personal use.
(d)Change in the use results in a differ-
ent recovery period and/or depreciation
method—(1)In general. This paragraph
(d) applies to a change in the use of
MACRS property during a taxable year
subsequent to the placed-in-service year,
if the property continues to be MACRS
property owned by the same taxpayer and,
as a result of the change in the use, has
a different recovery period, a different
depreciation method,or both. For exam-
ple, this paragraph (d) applies to MACRS
property that—
(i) Begins or ceases to be used predom-
inantly outside the United States;
(ii) Results in a reclassification of the
property under section 168(e) due to a
change in the use of the property; or
(iii) Begins or ceases to be tax-exempt
use property (as defined in section 168(h)).
(2)Determination of change in the
use—(i)In general. Except as provided
in paragraph (d)(2)(ii) of this section, a
change in the use of MACRS property oc-
curs when the primary use of the MACRS
property in the taxable year is different
from its primary use in the immediately
preceding taxable year. The primary use
of MACRS property may be determined
in any reasonable manner that is consis-
tently applied to the taxpayer’s MACRS
property.
(ii)Alternative depreciation system
property—(A)Property used within or
outside the United States. A change in the
use of MACRS property occurs when a
taxpayer begins or ceases to use MACRS
property predominantly outside the United
States during the taxable year. The deter-
mination of whether MACRS property
is used predominantly outside the United
States is made in accordance with the test
in §1.48–1(g)(1)(i) for determining pre-
dominant use.
2004–28 I.R.B.20July 12, 2004

(B)Tax-exempt bond financed property.
A change in the use of MACRS property
occurs when the property changes to
tax-exempt bond financed property, as de-
scribedinsection168(g)(1)(C)and(g)(5),
during the taxable year. For purposes
of this paragraph (d), MACRS property
changes to tax-exempt bond financed
property when a tax-exempt bond is first
issued after the MACRS property is placed
in service. MACRS property continues
to be tax-exempt bond financed property
in the hands of the taxpayer even if the
tax-exempt bond (including any refund-
ing issue) is no longer outstanding or is
redeemed.
(C)Other mandatory alternative de-
preciation system property. A change in
the use of MACRS property occurs when
the property changes to, or changes from,
property described in section 168(g)(1)(B)
(tax-exempt use property) or (D) (im-
ported property covered by an Executive
order) during the taxable year.
(iii)Change in the use deemed to oc-
cur on first day of the year of change.Ifa
change in the use of MACRS property oc-
curs under this paragraph (d)(2), the depre-
ciation allowance for that MACRS prop-
erty for the year of change is determined
as though the use of the MACRS prop-
erty changed on the first day of the year
of change.
(3)Change in the use results in a
shorter recovery period and/or a more
accelerated depreciation method—(i)
Treated as placed in service in the year of
change—(A)In general. If a change in the
use results in the MACRS property chang-
ing to a shorter recovery period and/or a
depreciation method that is more acceler-
ated than the method used for the MACRS
property before the change in the use, the
depreciation allowances beginning in the
year of change are determined as though
the MACRS property is placed in service
by the taxpayer in the year of change.
(B)Computation of depreciation al-
lowance. The depreciation allowances for
the MACRS property for any 12-month
taxable year beginning with the year of
change are determined by multiplying the
adjusted depreciable basis of the MACRS
property as of the first day of each taxable
year by the applicabledepreciation rate
for each taxable year. In determining the
applicable depreciation rate for the year of
change and subsequent taxable years, the
taxpayer must use any applicable depre-
ciation method and recovery period pre-
scribed under section 168 for the MACRS
property in the year of change, consistent
with any election made under section 168
by the taxpayer for that year (see, for ex-
ample, section 168(b)(5)). If there is a
change in the use of MACRS property, the
applicable convention that applies to the
MACRS property is the same as the con-
vention that applied before the change in
the use of the MACRS property. However,
the depreciation allowance for the year of
change for the MACRS property is de-
termined without applying the applicable
convention, unless the MACRS property
is disposed of during the year of change.
See paragraph (d)(5) of this section for
the rules relating to the computation of the
depreciation allowance under the optional
depreciation tables. If the year of change
or any subsequent taxable year is less than
12 months, the depreciation allowance
determined under this paragraph (d)(3)(i)
must be adjusted for a short taxable year
(for further guidance, for example, see
Rev. Proc. 89–15, 1989–1 C.B. 816 (see
§601.601(d)(2)(ii)(b) of this chapter)).
(C)Special rules. MACRS prop-
erty affected by this paragraph (d)(3)(i)
is not eligible in the year of change
for the election provided under section
168(f)(1), 179, or 1400L(f), or for the
additional first year depreciation de-
ductionprovidedinsection168(k)or
1400L(b). See §§1.168(k)–1T(f)(6)(iv)
and 1.1400L(b)–1T(f)(6) for other addi-
tional first year depreciation deduction
rules applicable to a change in the use
of MACRS property subsequent to its
placed-in-service year. For purposes of
determining whether the mid-quarter con-
vention applies to other MACRS property
placed in service during the year of change,
the unadjusted depreciable basis (as de-
fined in §1.168(b)–1T(a)(3)) or the ad-
justed depreciable basis of MACRS prop-
erty affected by this paragraph (d)(3)(i) is
not taken into account.
(ii)Option to disregard the change in
the use. In lieu of applying paragraph
(d)(3)(i) of this section, the taxpayer may
elect to determine the depreciation al-
lowance as though the change in the use
had not occurred. The taxpayer elects
this option by claiming on the taxpayer’s
timely filed (including extensions) Federal
income tax return for the year of change
the depreciation allowance for the prop-
erty as though the change in the use had
not occurred. See paragraph (g)(2) of this
section for the manner for revoking this
election.
(4)Change in the use results in a longer
recovery period and/or a slower depre-
ciation method—(i)Treated as originally
placed in service with longer recovery pe-
riod and/or slower depreciation method.
If a change in the use results in a longer
recovery period and/or a depreciation
method for the MACRS property that is
less accelerated than the method used for
the MACRS property before the change
in the use, the depreciation allowances
beginning with the year of change are
determined as though the MACRS prop-
erty had been originally placed in service
by the taxpayer with the longer recov-
ery period and/or the slower depreciation
method. MACRS property affected by
this paragraph (d)(4) is not eligible in the
year of change for the election provided
under section 168(f)(1), 179, or 1400L(f),
or for the additional first year depreciation
deduction provided in section 168(k) or
1400L(b). See §§1.168(k)–1T(f)(6)(iv)
and 1.1400L(b)–1T(f)(6) for other addi-
tional first year depreciation deduction
rules applicable to a change in the use
of MACRS property subsequent to its
placed-in-service year.
(ii)Computation of the depreciation al-
lowance. The depreciation allowances for
the MACRS property for any 12-month
taxable year beginning with the year of
change are determined by multiplying the
adjusted depreciable basis of the MACRS
property as of the first day of each tax-
able year by the applicable depreciation
rate for each taxable year. If there is a
change in the use of MACRS property, the
applicable convention that applies to the
MACRS property is the same as the con-
vention that applied before the change in
the use of the MACRS property. If the
year of change or any subsequent taxable
year is less than 12 months, the deprecia-
tion allowance determined under this para-
graph (d)(4)(ii) must be adjusted for a short
taxable year (for further guidance, for ex-
ample, see Rev. Proc. 89–15, 1989–1
C.B. 816 (see §601.601(d)(2)(ii)(b)ofthis
chapter)). See paragraph (d)(5) of this sec-
tion for the rules relating to the computa-
tion of the depreciation allowance under
the optional depreciation tables. In deter-
July 12, 2004212004–28 I.R.B.

mining the applicable depreciation rate for
the year of change and any subsequent tax-
able year—
(A) The applicable depreciation method
is the depreciation method that would ap-
ply in the year of change and any subse-
quent taxable year for the MACRS prop-
erty had the taxpayer used the longer re-
covery period and/or the slower deprecia-
tion method in the placed-in-service year
of the property. If the 200- or 150-per-
cent declining balance method would have
applied in the placed-in-service year but
the method would have switched to the
straight line method in the year of change
or any prior taxable year, the applicable de-
preciation method beginning with the year
of change is the straight line method; and
(B) The applicable recovery period is
either—
(1) The longer recovery period result-
ing from the change in the use if the ap-
plicable depreciation method is the 200- or
150-percent declining balance method (as
determined under paragraph (d)(4)(ii)(A)
of this section) unless the recovery period
did not change as a result of the change in
the use, in which case the applicable recov-
ery period is the same recovery period that
applied before the change in the use; or
(2) The number of years remaining as
of the beginning of each taxable year (tak-
ing into account the applicable conven-
tion) had the taxpayer used the longer re-
covery period in the placed-in-service year
of the property if theapplicable deprecia-
tion method is the straight line method (as
determined under paragraph (d)(4)(ii)(A)
of this section) unless the recovery period
did not change as a result of the change in
the use, in which case the applicable re-
covery period is the number of years re-
maining as of the beginning of each tax-
able year (taking into account the applica-
ble convention) based on the recovery pe-
riod that applied before the change in the
use.
(5)Using optional depreciation ta-
bles—(i)Taxpayer not bound by prior use
of table. If a taxpayer used an optional de-
preciation table for the MACRS property
before a change in the use, the taxpayer
is not bound to use the appropriate new
table for that MACRS property begin-
ning in the year of change (for further
guidance, for example, see section 8 of
Rev. Proc. 87–57, 1987–2 C.B. 687, 693
(see §601.601(d)(2)(ii)(b) of this chap-
ter)). If a taxpayer did not use an optional
depreciation tablefor MACRS property
before a change in the use and the change
in the use results in a shorter recovery
period and/or a moreaccelerated depreci-
ation method (as described in paragraph
(d)(3)(i) of this section), the taxpayer may
use the appropriate new table for that
MACRS property beginning in the year
of change. If a taxpayer chooses not to
use the optional depreciation table, the
depreciation allowances for the MACRS
property beginning in the year of change
are determined under paragraph (d)(3)(i)
or (4) of this section, as applicable.
(ii)Taxpayer chooses to use optional
depreciation table after a change in the
use. If a taxpayer chooses to use an op-
tional depreciation table for the MACRS
property after a change in the use, the
depreciation allowances for the MACRS
property for any 12-month taxable year be-
ginning with the year of change are deter-
mined as follows:
(A)Change in the use results in a
shorter recovery period and/or a more
accelerated depreciation method.Ifa
change in the use results in a shorter
recovery period and/or a more acceler-
ated depreciation method (as described
in paragraph (d)(3)(i) of this section), the
depreciation allowances for the MACRS
property for any 12-month taxable year
beginning with the year of change are
determined by multiplying the adjusted
depreciable basis of the MACRS property
as of the first day of the year of change
by the annual depreciation rate for each
recovery year (expressed as a decimal
equivalent) specified in the appropriate
optional depreciation table. The appro-
priate optional depreciation table for the
MACRS property is based on the de-
preciation system, depreciation method,
recovery period, and convention applica-
bletotheMACRSpropertyintheyear
of change as determined under paragraph
(d)(3)(i) of this section. The depreciation
allowance for the year of change for the
MACRS property is determined by taking
into account the applicable convention
(which is already factored into the op-
tional depreciation tables). If the year of
change or any subsequent taxable year is
less than 12 months, the depreciation al-
lowance determined under this paragraph
(d)(5)(ii)(A) must be adjusted for a short
taxable year (for further guidance, for
example, see Rev. Proc. 89–15, 1989–1
C.B. 816 (see §601.601(d)(2)(ii)(b)ofthis
chapter)).
(B)Change in the use results in a longer
recovery period and/or a slower depreci-
ation method—(1)Determination of the
appropriate optional depreciation table.
If a change in the use results in a longer
recovery period and/or a slower depreci-
ation method (as described in paragraph
(d)(4)(i) of this section), the deprecia-
tion allowances for the MACRS property
for any 12-month taxable year beginning
with the year of change are determined
by choosing the optional depreciation ta-
ble that corresponds to the depreciation
system, depreciation method, recovery
period, and convention that would have
appliedtotheMACRSpropertyinthe
placed-in-service year had that property
been originally placed in service by the
taxpayer with the longer recovery period
and/or the slower depreciation method. If
there is a change in the use of MACRS
property, the applicable convention that
appliestotheMACRSpropertyisthe
same as the convention that applied be-
fore the change in the use of the MACRS
property. If the year of change or any
subsequent taxable year is less than 12
months, the depreciation allowance deter-
mined under this paragraph (d)(5)(ii)(B)
must be adjusted for a short taxable year
(for further guidance, for example, see
Rev. Proc. 89–15, 1989–1 C.B. 816 (see
§601.601(d)(2)(ii)(b)ofthischapter)).
(2)Computation of the depreciation al-
lowance. The depreciation allowances for
the MACRS property for any 12-month
taxable year beginning with the year of
change are computed by first determining
the appropriate recovery year in the table
identified under paragraph (d)(5)(ii)(B)(1)
of this section. The appropriate recovery
year for the year of change is the year that
corresponds to the year of change. For ex-
ample, if the recovery year for the year of
change would have been Year 4 in the ta-
ble that applied before the change in the
use of the MACRS property, then the re-
covery year for the year of change is Year
4 in the table identified under paragraph
(d)(5)(ii)(B)(1) of this section. Next, the
annual depreciation rate (expressed as a
decimal equivalent) for each recovery year
is multiplied by a transaction coefficient.
The transaction coefficient is the formula
(1 / (1 - x)) where x equals the sum of
2004–28 I.R.B.22July 12, 2004

the annual depreciation rates from the table
identified under paragraph (d)(5)(ii)(B)(1)
of this section (expressed as a decimal
equivalent) for the taxable years begin-
ning with the placed-in-service year of the
MACRS property through the taxable year
immediately prior to the year of change.
The product of the annual depreciation rate
and the transaction coefficient is multi-
plied by the adjusted depreciable basis of
the MACRS property as of the beginning
of the year of change.
(6)Examples. The application of this
paragraph (d) is illustrated by the follow-
ing examples:
Example 1.Change in the use results in a shorter
recovery period and/or a more accelerated depreci-
ation method and optional depreciation table is not
used—(i)X, a calendar-year corporation, places in
service in 1999 equipment at a cost of $100,000 and
uses this equipment from 1999 through 2003 primar-
ilyinitsAbusiness.Xdepreciates the equipment
for 1999 through 2003 under the general deprecia-
tion system as 7-year property by using the 200-per-
cent declining balance method (which switched to the
straight-line method in 2003), a 7-year recovery pe-
riod, and a half-year convention. Beginning in 2004,
Xprimarily uses the equipment in itsBbusiness. As a
result, the classification of the equipment under sec-
tion 168(e) changes from 7-year property to 5-year
property and the recovery period of the equipment
under the general depreciation system changes from
7 years to 5 years. The depreciation method does not
change. On January 1, 2004, the adjusted deprecia-
ble basis of the equipment is $22,311.Xdepreciates
its 5-year recovery property placed in service in 2004
under the general depreciation system by using the
200-percent declining balance method and a 5-year
recovery period.Xdoes not use the optional depreci-
ation tables.
(ii) Under paragraph (d)(3)(i) of this section,X’s
allowable depreciation deduction for the equipment
for 2004 and subsequent taxable years is determined
as thoughXplaced the equipment in service in 2004
for use primarily in itsBbusiness. The deprecia-
ble basis of the equipment as of January 1, 2004, is
$22,311 (the adjusted depreciable basis at January 1,
2004). BecauseXdoes not use the optional depreci-
ation tables, the depreciation allowance for 2004 (the
deemed placed-in-service year) for this equipment
only is computed without taking into account the half-
year convention. Pursuant to paragraph (d)(3)(i)(C)
of this section, this equipment is not eligible for the
additional first year depreciation deduction provided
by section 168(k) or section 1400L(b). Thus,X’s al-
lowable depreciation deduction for the equipment for
2004 is $8,924 ($22,311 adjusted depreciable basis
at January 1, 2004, multiplied by the applicable de-
preciation rate of 40% (200/5)).X’s allowable de-
preciation deduction for the equipment for 2005 is
$5,355 ($13,387 adjusted depreciable basis at Jan-
uary 1, 2005, multiplied by the applicable depreci-
ation rate of 40% (200/5)).
(iii) Alternatively, under paragraph (d)(3)(ii) of
this section,Xmay elect to disregard the change in the
use and, as a result, may continue to treat the equip-
ment as though it is used primarily in itsAbusiness.
If the election is made,X’s allowable depreciation de-
duction for the equipment for 2004 is $8,924 ($22,311
adjusted depreciable basis at January 1, 2004, mul-
tiplied by the applicable depreciation rate of 40%
(1/2.5 years remaining at January 1, 2004)).X’s al-
lowable depreciation deduction for the equipment for
2005 is $8,925 ($13,387 adjusted depreciable basis
at January 1, 2005, multiplied by the applicable de-
preciation rate of 66.67% (1/1.5 years remaining at
January 1, 2005)).
Example 2.Change in the use results in a shorter
recovery period and/or a more accelerated depre-
ciation method and optional depreciation table is
used—(i) Same facts as inExample 1, except thatX
used the optional depreciation tables for computing
depreciation for 1999 through 2003. Pursuant to
paragraph (d)(5) of this section,Xchooses to con-
tinue to use the optional depreciation table for the
equipment.Xdoes not make the election provided in
paragraph (d)(3)(ii) of this section to disregard the
change in use.
(ii) In accordance with paragraph (d)(5)(ii)(A) of
this section,Xmust first identify the appropriate op-
tional depreciation table for the equipment. This table
is table 1 in Rev. Proc. 87–57 because the equipment
will be depreciated in the year of change (2004) under
the general depreciation system using the 200-percent
declining balance method, a 5-year recovery period,
and the half-year convention (which is the convention
that applied to the equipment in 1999). Pursuant to
paragraph (d)(3)(i)(C) of this section, this equipment
is not eligible for the additional first year deprecia-
tion deduction provided by section 168(k) or section
1400L(b). For 2004,Xmultiplies its adjusted depre-
ciable basis in the equipment as of January 1, 2004, of
$22,311, by the annual depreciation rate in table 1 for
recovery year 1 for a 5-year recovery period (.20), to
determine the depreciation allowance of $4,462. For
2005,Xmultiplies its adjusted depreciable basis in
the equipment as of January 1, 2004, of $22,311, by
the annual depreciation rate in table 1 for recovery
year 2 for a 5-year recovery period (.32), to determine
the depreciation allowance of $7,140.
Example 3.Change in the use results in a
longer recovery period and/or a slower depreciation
method—(i)Y, a calendar-year corporation, places
in service in January 2002, equipment at a cost of
$100,000 and uses this equipment in 2002 and 2003
only within the United States.Yelects not to deduct
the additional first year depreciation under section
168(k).Ydepreciates the equipment for 2002 and
2003 under the general depreciation system by using
the 200-percent declining balancemethod, a 5-year
recovery period, and a half-year convention. Begin-
ning in 2004,Yuses the equipment predominantly
outside the United States. As a result of this change
in the use, the equipment is subject to the alternative
depreciation system beginning in 2004. Under the
alternative depreciation system, the equipment is
depreciated by using the straight line method and a
9-year recovery period. The adjusted depreciable
basis of the equipment at January 1, 2004, is $48,000.
(ii) Pursuant to paragraph (d)(4) of this section,
Y’s allowable depreciation deduction for 2004 and
subsequent taxable years is determined as though
the equipment had been placed in service in Jan-
uary 2002, as property used predominantly outside
the United States. Further, pursuant to paragraph
(d)(4)(i) of this section, the equipment is not eligible
in 2004 for the additional first year depreciation
deduction provided by section 168(k) or section
1400L(b). In determining the applicable deprecia-
tion rate for 2004, the applicable depreciation method
is the straight line method and the applicable recov-
ery period is 7.5 years, which is the number of years
remaining at January 1, 2004, for property placed in
service in 2002 with a 9-year recovery period (taking
into account the half-year convention). Thus, the
depreciation allowance for 2004 is $6,398 ($48,000
adjusted depreciable basis at January 1, 2004, multi-
plied by the applicable depreciation rate of 13.33%
(1/7.5 years)). The depreciation allowance for 2005
is $6,398 ($41,602 adjusted depreciable basis at
January 1, 2005, multiplied by the applicable de-
preciation rate of 15.38% (1/6.5 years remaining at
January 1, 2005)).
Example 4.Change in the use results in a longer
recovery period and/or a slower depreciation method
and optional depreciation table is used—(i) Same
facts as inExample 3, except thatYused the op-
tional depreciation tables for computing depreciation
in 2002 and 2003. Pursuant to paragraph (d)(5) of this
section,Ychooses to continue to use the optional de-
preciation table for the equipment. Further, pursuant
to paragraph (d)(4)(i) of this section, the equipment is
not eligible in 2004 for the additional first year depre-
ciation deduction provided by section 168(k) or sec-
tion 1400L(b).
(ii) In accordance with paragraph (d)(5)(ii)(B)
of this section,Ymust first determine the appro-
priate optional depreciation table for the equipment
pursuant to paragraph (d)(5)(ii)(B)(1)ofthissec-
tion. This table is table 8 in Rev. Proc. 87–57,
which corresponds to the alternative depreciation
system, the straight line method, a 9-year recovery
period, and the half-year convention (becauseYde-
preciated 5-year property in 2002 using a half-year
convention). Next,Ymust determine the appropriate
recovery year in table 8. Because the year of change
is 2004, the depreciation allowance for the equipment
for 2004 is determined using recovery year 3 of table
8. For 2004,Ymultiplies its adjusted depreciable
basis in the equipment as of January 1, 2004, of
$48,000, by the product of the annual depreciation
rate in table 8 for recovery year 3 for a 9-year recov-
ery period (.1111) and the transaction coefficient of
1.200 [1/(1–(.0556 (table 8 for recovery year 1 for a
9-year recovery period) +.1111 (table 8 for recovery
year 2 for a 9-year recovery period)))], to determine
the depreciation allowance of $6,399. For 2005,
Ymultiplies its adjusted depreciable basis in the
equipment as of January 1, 2004, of $48,000, by the
product of the annual depreciation rate in table 8 for
recovery year 4 for a 9-year recovery period (.1111)
and the transaction coefficient (1.200), to determine
the depreciation allowance of $6,399.
(e)Change in the use of MACRS
property during the placed-in-service
year—(1)In general. Except as provided
in paragraph (e)(2) of this section, if a
change in the use of MACRS property
occurs during the placed-in-service year
and the property continues to be MACRS
property owned by the same taxpayer, the
depreciation allowance for that property
July 12, 2004232004–28 I.R.B.

for the placed-in-service year is deter-
mined by its primary use during that year.
TheprimaryuseofMACRSpropertymay
be determined in any reasonable manner
that is consistently applied to the tax-
payer’s MACRS property. For purposes
of this paragraph (e), the determination
of whether the mid-quarter convention
applies to any MACRS property placed in
service during the year of change is made
in accordance with §1.168(d)–1.
(2)Alternative depreciation system
property—(i)Property used within and
outside the United States. The deprecia-
tion allowance for the placed-in-service
year for MACRS property that is used
within and outside the United States is
determined by its predominant use during
that year. The determination of whether
MACRS property is used predominantly
outside the United States during the
placed-in-service year shall be made in ac-
cordance with the test in §1.48–1(g)(1)(i)
for determining predominant use.
(ii)Tax-exempt bond financed prop-
erty. The depreciation allowance for the
placed-in-service year for MACRS prop-
erty that changes to tax-exempt bond
financed property, as described in sec-
tion 168(g)(1)(C) and (g)(5), during that
taxable year is determined under the alter-
native depreciation system. For purposes
of this paragraph (e), MACRS property
changes to tax-exempt bond financed
property when a tax-exempt bond is first
issued after the MACRS property is placed
in service. MACRS property continues
to be tax-exempt bond financed property
in the hands of the taxpayer even if the
tax-exempt bond (including any refunding
issue) is not outstanding at, or is redeemed
by, the end of the placed-in-service year.
(iii)Other mandatory alternative de-
preciation system property. The depreci-
ation allowance for the placed-in-service
year for MACRS property that changes to,
or changes from, property described in sec-
tion 168(g)(1)(B) (tax-exempt use prop-
erty) or (D) (imported property covered
by an Executive order) during that taxable
year is determined under—
(A) The alternative depreciation system
if the MACRS property is described in sec-
tion 168(g)(1)(B) or (D) at the end of the
placed-in-service year; or
(B) The general depreciation system
if the MACRS property is not described
in section 168(g)(1)(B) or (D) at the end
of the placed-in-service year, unless other
provisions of the Internal Revenue Code
or regulations under the Internal Revenue
Code require the depreciation allowance
for that MACRS property to be determined
under the alternative depreciation system
(for example, section 168(g)(7)).
(3)Examples. The application of this
paragraph (e) is illustrated by the follow-
ing examples:
Example 1.(i)Z, a utility and calendar-year cor-
poration, acquires and places in service on January 1,
2004, equipment at a cost of $100,000.Zuses this
equipment in its combustion turbine production plant
for 4 months and then uses the equipment in its steam
production plant for the remainder of 2004.Z’s com-
bustion turbine production plant assets are classified
as 15-year property and are depreciated byZunder
the general depreciation system using a 15-year re-
covery period and the 150-percent declining balance
method of depreciation.Z’s steam production plant
assets are classified as 20-year property and are de-
preciated byZunder the general depreciation system
using a 20-year recovery period and the 150-percent
declining balance method of depreciation.Zuses
the optional depreciation tables. The equipment is
50-percent bonus depreciation property for purposes
of section 168(k).
(ii) Pursuant to this paragraph (e),Zmust deter-
mine depreciation based on the primary use of the
equipment during the placed-in-service year.Zhas
consistently determined the primary use of all of its
MACRS properties by comparing the number of full
months in the taxable year during which a MACRS
property is used in one manner with the number of
full months in that taxable year during which that
MACRS property is used in another manner. Apply-
ing this approach,Zdetermines the depreciation al-
lowance for the equipment for 2004 is based on the
equipment being classified as 20-year property be-
cause the equipment was used byZin its steam pro-
duction plant for 8 months in 2004. If the half-year
convention applies in 2004, the appropriate optional
depreciation table is table 1 in Rev. Proc. 87–57,
which is the table for MACRS property subject to
the general depreciation system, the 150-percent de-
clining balance method, a20-year recovery period,
and the half-year convention. Thus, the deprecia-
tion allowance for the equipment for 2004 is $51,875,
which is the total of $50,000 for the 50-percent ad-
ditional first year depreciation deduction allowable
(the unadjusted depreciable basis of $100,000 mul-
tiplied by .50), plus $1,875 for the 2004 depreciation
allowance on the remaining adjusted depreciable ba-
sis of $50,000 [(the unadjusted depreciable basis of
$100,000 less the additional first year depreciation
deduction of $50,000) multiplied by the annual de-
preciation rate of .0375 in table 1 for recovery year 1
for a 20-year recovery period].
Example 2.T, a calendar year corporation, places
in service on January 1, 2004, several computers
at a total cost of $100,000.Tuses these comput-
ers within the United States for 3 months in 2004
and then moves and uses the computers outside the
United States for the remainder of 2004. Pursuant
to §1.48–1(g)(1)(i), the computers are considered
as used predominantly outside the United States
in 2004. As a result, for 2004, the computers are
required to be depreciated under the alternative de-
preciation system of section 168(g) with a recovery
period of 5 years pursuant to section 168(g)(3)(C).T
uses the optional depreciation tables. If the half-year
convention applies in 2004, the appropriate optional
depreciation table is table 8 in Rev. Proc. 87–57,
which is the table for MACRS property subject to
the alternative depreciation system, the straight line
method, a 5-year recovery period, and the half-year
convention. Thus, the depreciation allowance for
the computers for 2004 is $10,000, which is equal
to the unadjusted depreciable basis of $100,000
multiplied by the annual depreciation rate of .10 in
table 8 for recovery year 1 for a 5-year recovery
period. Because the computers are required to be
depreciated under the alternative depreciation system
in their placed-in-service year, pursuant to section
168(k)(2)(C)(i) and §1.168(k)–1T(b)(2)(ii), the com-
puters are not eligible for the additional first year
depreciationdeductionprovidedbysection168(k).
(f)No change in accounting method.
A change in computing the depreciation
allowance in the year of change for prop-
erty subject to this section is not a change
in method of accounting under section
446(e). See §1.446–1T(e)(2)(ii)(d)(3)(ii).
(g)Effective dates—(1)In general.
This section applies to any change in the
use of MACRS property in a taxable year
ending on or after June 17, 2004. For any
change in the use of MACRS property
after December 31, 1986, in a taxable year
ending before June 17, 2004, the Internal
Revenue Service will allow any reason-
able method of depreciating the property
under section 168 in the year of change
and the subsequent taxable years that is
consistently applied to any property for
which the use changes in the hands of the
same taxpayer or the taxpayer may choose,
on a property-by-property basis, to apply
the provisions of this section.
(2)Change in method of account-
ing—(i)In general. If a taxpayer adopted
a method of accounting for depreciation
due to a change in the use of MACRS
property in a taxable year ending on or
after December 30, 2003, and the method
adopted is not in accordance with the
method of accounting for depreciation
provided in this section, a change to the
method of accounting for depreciation
provided in this section is a change in
method of accounting to which the provi-
sions of sections 446(e) and 481 and the
regulations under sections 446(e) and 481
apply. Also, a revocation of the election
provided in paragraph (d)(3)(ii) of this
section to disregard a change in the use
is a change in method of accounting to
2004–28 I.R.B.24July 12, 2004

which the provisions of sections 446(e)
and 481 and the regulations under sections
446(e) and 481 apply. However, if a tax-
payer adopted a method of accounting for
depreciation due to a change in the use
of MACRS property after December 31,
1986, in a taxable year ending before De-
cember 30, 2003, and the method adopted
is not in accordance with the method of
accounting for depreciation provided in
this section, the taxpayer may treat the
change to the method of accounting for
depreciation provided in this section as a
change in method of accounting to which
the provisions of sections 446(e) and 481
and the regulations under sections 446(e)
and 481 apply.
(ii)Automatic consent to change
method of accounting.A taxpayer chang-
ing its method of accounting in accordance
with this paragraph (g)(2) must follow
the applicable administrative procedures
issued under §1.446–1(e)(3)(ii) for ob-
taining the Commissioner’s automatic
consent to a change in method of account-
ing (for further guidance, for example, see
Rev. Proc. 2002–9, 2002–1 C.B. 327, as
modified by Rev. Proc. 2004–11, 2004–3
I.R.B. 311 (see §601.601(d)(2)(ii)(b)of
this chapter)). Any change in method of
accounting made under this paragraph
(g)(2) must be made using an adjustment
under section 481(a). For purposes of
Form 3115,Application for Change in
Accounting Method, the designated num-
ber for the automatic accounting method
change authorized by this paragraph (g)(2)
is “88.” If Form 3115 is revised or renum-
bered, any reference in this section to that
form is treated as a reference to the revised
or renumbered form.
Mark E. Matthews,
Deputy Commissioner for
Services and Enforcement.
Approved June 7, 2004.
Gregory F. Jenner,
Acting Assistant Secretary of the
Treasury (Tax Policy).
(Filed by the Office of the Federal Register on June 16, 2004,
8:45 a.m., and published in the issue of the Federal Register
for June 17, 2004, 69 F.R. 33840)
Section 280F.—Limitation
on Depreciation for Luxury
Automobiles; Limitation
Where Certain Property
Used for Personal Purposes
26 CFR 1.280F–1T: Limitations on investment tax
credit and recovery deductions under section 168 for
passenger automobiles and certain other listed prop-
erty; overview of regulations (temporary).
T.D. 9133
DEPARTMENT OF
THE TREASURY
Internal Revenue Service
26 CFR Part 1
Depreciation of Vans and Light
Trucks
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Final and temporary regula-
tions.
SUMMARY: This document contains reg-
ulations relating to the definition of pas-
senger automobile for purposes of the dol-
lar limits on depreciation deductions for
passenger automobiles. These regulations
affect certain taxpayers that use vans and
light trucks in their trade or business.
DATES:Effective Date: These regulations
areeffectiveJune25,2004.
Applicability Dates: These regula-
tions apply to property placed in service
by a taxpayer on or after July 7, 2003.
For regulations applicable to property
placed in service before July 7, 2003,
see §1.280F–6T as in effect prior to July
7, 2003 (§1.280F–6T as contained in
26 CFR part 1, revised as of April 1,
2003). Taxpayers may choose to apply
§1.280F–6(c)(3)(iii) to property placed
in service prior to July 7, 2003, and if
necessary may either amend returns for
open taxable years or file a Form 3115 in
order to apply §1.280F–6(c)(3)(iii) to such
property.
FOR FURTHER INFORMATION
CONTACT: Bernard P. Harvey, (202)
622–3110 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
On July 7, 2003, the IRS published tem-
porary regulations (T.D. 9069, 2003–37
I.R.B. 525) in theFederal Register(68 FR
40129) containing amendments to 26 CFR
part 1 under section 280F of the Internal
Revenue Code of 1986 (Code), including
the addition of §1.280F–6T(c)(3)(iii). On
the same date, the IRS published proposed
regulations (REG–138495–02, 2003–37
I.R.B. 541) in theFederal Register(68
FR 40224) inviting comments under sec-
tion 280F and inviting requests to hold a
public hearing. Several comments were
received, but no requests to hold a public
hearing. After consideration of all the
comments, the rules in T.D. 9069 and the
proposed regulations are made retroac-
tive for taxpayers that choose to apply
the rules to property placed in service
before the proposed effective date and
are adopted as final regulations. In addi-
tion, a conforming amendment is made to
§1.280F–6T, and §1.280F–6T is redesig-
nated as §1.280F–6.
Explanation of Provisions
Section 280F(a) of the Code imposes
annual dollar limits on the depreciation de-
duction allowable with respect to passen-
ger automobiles. T.D. 9069 and the pro-
posed regulations provide that a truck or
van is not subject to these limits if it is
aqualified nonpersonal use vehicleas de-
fined in §1.274–5T(k). This rule applies to
vehicles placed in service on or after July
7, 2003.
Commentators suggested that the rule
announced by T.D. 9069 and the proposed
regulations be made available retroac-
tively to owners of qualified nonpersonal
use vehicles placed in service during the
period beginning January 1, 2003, and
ending July 6, 2003, and that taxpayers
who have filed fiscal-year returns be al-
lowed to amend those returns to claim
additional deductions for such vehicles.
Commentators have also requested that
we give some measure of audit protection
to taxpayers who placed qualified nonper-
sonal use vehicles in service prior to 2003
and depreciated the vehicles in a manner
consistent with T.D. 9069 and the pro-
posed regulations. We have amended the
effective date provision to allow taxpayers
July 12, 2004252004–28 I.R.B.

to use the exclusion for qualified nonper-
sonal use vehicles for vehicles placed in
service prior to July 7, 2003, and to permit
taxpayers either to amend tax returns for
open taxable years, or to treat the change
as a change in method of accounting by fil-
ing a Form 3115, “Application for Change
in Accounting Method”.
Comments received from the funeral
services industry requested amendments to
the definition ofqualified nonpersonal use
vehiclesin the temporary regulations un-
der section 274 to clarify that certain ve-
hicles used in the funeral services indus-
try are qualified nonpersonal use vehicles
for purposes of the substantiation require-
ments under that section. We believe that
such an amendment is beyond the scope
of these regulations, which are specific to
section 280F(a).
Another commentator indicated that the
relief afforded by T.D. 9069 and the pro-
posed regulations is too narrow, and re-
quested that we amend the regulations to
establish a use-based test that would ex-
clude more trucks and vans from section
280F(a). The comment suggested a test
that would exclude all trucks and vans for
which the taxpayer could demonstrate a
specific business need, and which are used
for a valid business purpose. We believe
that the proposed test is inherently subjec-
tive and would cause administrative diffi-
culty of the type that the proposed regu-
lations were designed to avoid. We con-
tinue to encourage suggestions for objec-
tive use-based tests that could serve as the
basis for future guidance.
We were asked by the Office of Advo-
cacy of the U.S. Small Business Admin-
istration (Advocacy) to perform a regu-
latory flexibility analysis because Advo-
cacy believes that T.D. 9069 and the pro-
posed regulations constitute a legislative
rule as defined in the Regulatory Flexi-
bility Act. A Regulatory Flexibility Act
(RFA) analysis must be performed for leg-
islative rules having a significant impact
on small business, but not for interpretive
rules or for legislative rules with no signif-
icant impact on small businesses. It is the
position of the IRS and Treasury that T.D.
9069 and the proposed regulations consti-
tute an interpretive rule for which no reg-
ulatory flexibility analysis is necessary. In
any event, the rule proposed in the regula-
tions is in all cases beneficial to taxpayers
and does not have a significant impact on
small business for purposes of the Regula-
tory Flexibility Act.
Special Analyses
It has been determined that this Trea-
sury decision is not a significant regula-
tory action as defined in Executive Order
12866. Therefore, a regulatory assessment
is not required. It also has been determined
that section 553(b) of the Administrative
Procedure Act (5 U.S.C. chapter 5) does
not apply to these regulations, and because
the regulations do not impose a collection
of information on small entities, the Regu-
latory Flexibility Act (5 U.S.C. chapter 6)
does not apply. Pursuant to section 7805(f)
of the Code, the notice of proposed rule-
making was submitted to the Chief Coun-
sel for Advocacy of the Small Business
Administration for comment on its impact
on small business.
Drafting Information
The principal author of these regula-
tionsisBernardP.Harvey,OfficeofAs-
sociate Chief Counsel (Passthroughs and
Special Industries). However, other per-
sonnel from the IRS and Treasury Depart-
ment participated in their development.
*****
Amendments to the Regulations
Accordingly, 26 CFR part 1 is amended
by adopting the rules of section 1.280F–6T
as final regulations, by making conform-
ing amendments to sections 1.280F–1T
through 1.280F–7, and by updating the
authority citation as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by removing the entry
for “Section 1.280F–6T” and adding an en-
try in numerical order to read as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.280F–6 also issued under 26
U.S.C. 280F. * * *
§1.280F–1T [Amended]
Par. 2 Section 1.280F–1T is amended
as follows:
1. Theheadinginthefifthcolumn
of the table of paragraph (b) is amended
by removing “§1.280F–6T” and adding
“§1.280F–6” in its place.
2. The first sentence in paragraph (c)(1)
is amended by removing “1.280F–6T” and
adding “1.280F–6” in its place.
3. The first sentence in paragraph (c)(2)
is amended by removing “1.280F–6T” and
adding “1.280F–6” in its place.
§1.280F–2T [Amended]
Par. 3 Section 1.280F–2T is amended
as follows:
The first sentence in para-
graph (i) is amended by remov-
ing “§1.280F–6T(d)(3)” and adding
“§1.280F–6(d)(3)” in its place.
§1.280F–3T [Amended]
Par. 4 Section 1.280F–3T is amended
as follows:
1. The first sentence in paragraph (a)
is amended by removing “§1.280F–6T(b)”
and adding “§1.280F–6(b)” in its place.
2. The last sentence in paragraph (a)
is amended by removing “§1.280F–6T(d)”
and adding “§1.280F–6(d)” in its place.
3.The first sentence in para-
graph (b)(1) is amended by remov-
ing “§1.280F–6T(d)(1)” and adding
“§1.280F–6(d)(1)” in its place.
4.The third sentence in para-
graph (b)(1) is amended by remov-
ing “§1.280F–6T(d)(3)” and adding
“§1.280F–6(d)(3)” in its place, and by re-
moving “§1.280F–6T(d)(2)(i)” and adding
“§1.280F–6(d)(2)(i)” in its place.
5.The first sentence in para-
graph (b)(2) is amended by remov-
ing “§1.280F–6T(d)(3)” and adding
“§1.280F–6(d)(3)” in its place.
6.The third sentence in para-
graph (b)(2) is amended by remov-
ing “§1.280F–6T(d)(1)” and adding
“§1.280F–6(d)(1)” in its place.
7. The first sentence in paragraph (c)(1)
is amended by removing “§1.280F–6T(b)”
and adding “§1.280F–6(b)” in its place,
and by removing “§1.280F–6T(d)(4)” and
adding “§1.280F–6(d)(4)” in its place.
8.The first sentence in para-
graph (c)(2) is amended by remov-
ing “§1.280F–6T(d)(4)” and adding
“§1.280F–6(d)(4)” in its place.
9. Paragraph (d)(1) is amended by re-
moving “§1.280F–6T(d)(4)” and adding
“§1.280F–6(d)(4)” in its place.
2004–28 I.R.B.26July 12, 2004

§1.280F–4T [Amended]
Par. 5 Section 1.280F–4T is amended
as follows:
The fifth sentence in paragraph
(a)(1) is amended by removing
“§1.280F–6T(d)(2)”andadding
“§1.280F–6(d)(2)” in its place.
§1.280F–5T [Amended]
Par. 6 Section 1.280F–5T is amended
as follows:
The first sentence in paragraph
(d)(1) is amended by removing
“§1.280F–6T(d)(3)(i)” and adding
“§1.280F–6(d)(3)(i)” in its place.
§1.280F–6T [Redesignated as §1.280F–6
and amended]
Par. 7 Section 1.280F–6T is redesig-
nated as §1.280F–6 and the word “(tem-
porary)” is removed from the section
heading. Newly-designated §1.280F–6 is
amended as follows:
1. Paragraph (b)(1)(iv) is amended
by removing “section 168(j)(5)(D)” and
adding “section 168(i)(2)(B)” in its place.
2. Paragraph (f) is added.
The addition reads as follows:
§1.280F–6 Special rules and definitions.
*****
(f)Effective date—(1)In general.Ex-
cept as provided in paragraph (f)(2) of this
section, this section applies to property
placed in service by a taxpayer on or af-
ter July 7, 2003. For regulations applicable
to property placed in service before July 7,
2003, see §1.280F–6T as in effect prior to
July 7, 2003 (§1.280F–6T as contained in
26 CFR part 1, revised as of April 1, 2003).
(2)Property placed in service before
July 7, 2003. The following rules apply
to property that is described in paragraph
(c)(3)(iii) of this section, was placed in ser-
vice by the taxpayer before July 7, 2003,
and was treated by the taxpayer as a pas-
senger automobile under §1.280F–6T as in
effect prior to July 7, 2003 (pre-effective
date vehicle):
(i) Except as provided in paragraphs
(f)(2)(ii), (iii), and (iv) of this section, a
pre-effective date vehicle will be treated
as a passenger automobile to which section
280F(a) applies.
(ii) A pre-effective date vehicle will
be treated as property to which section
280F(a) does not apply if the taxpayer
adopts that treatment in determining de-
preciation deductions on the taxpayer’s
original return for the year in which the
vehicle is placed in service.
(iii) A pre-effective date vehicle will
be treated, to the extent provided in this
paragraph (f)(2)(iii), as property to which
section 280F(a) does not apply if the tax-
payer adopts that treatment on an amended
Federal tax return in accordance with
this paragraph (f)(2)(iii). This paragraph
(f)(2)(iii) applies only if, on or before
December 31, 2004, the taxpayer files,
for all applicable taxable years, amended
Federal tax returns (or qualified amended
returns, if applicable (for further guidance,
see Rev. Proc. 94–69, 1994–2 C.B. 804,
and §601.601(d)(2)(ii)(b)ofthischapter))
treating the vehicle as property to which
section 280F(a) does not apply. The ap-
plicable taxable years for this purpose are
the taxable year in which the vehicle was
placed in service by the taxpayer (or, if the
period of limitation for assessment under
section 6501 has expired for such year
or any subsequent year (a closed year),
the first taxable year following the most
recent closed year) and all subsequent
taxable years in which the vehicle was
treated on the taxpayer’s return as prop-
erty to which section 280F(a) applies. If
the earliest applicable taxable year is not
the year in which the vehicle was placed
in service, the adjusted depreciable basis
of the property as of the beginning of the
first applicable taxable year is recovered
over the remaining recovery period. If the
remaining recovery period as of the be-
ginning of the first applicable taxable year
is less than 12 months, the entire adjusted
depreciable basis of the property as of the
beginning of the first applicable taxable
year is recovered in that year.
(iv) A pre-effective date vehicle will
be treated, to the extent provided in this
paragraph (f)(2)(iv), as property to which
section 280F(a) does not apply if the tax-
payer adopts that treatment on Form 3115,
Application for Change in Accounting
Method, in accordance with this para-
graph (f)(2)(iv). The taxpayer must follow
the applicable administrative procedures
issued under §1.446–1(e)(3)(ii) for ob-
taining the Commissioner’s automatic
consent to a change in method of account-
ing (for further guidance, for example, see
Rev. Proc. 2002–9, 2002–1 C.B. 327,
and §601.601(d)(2)(ii)(b) of this chap-
ter). If the taxpayer files a Form 3115
treating the vehicle as property to which
section 280F(a) does not apply, the tax-
payer will be permitted to treat the change
as a change in method of accounting under
section 446(e) of the Internal Revenue
Code and to take into account the section
481 adjustment resulting from the method
change. For purposes of Form 3115, the
designated number for the automatic ac-
counting method change authorized for
this paragraph (f)(2)(iv) is 89.
§1.280F–7 [Amended]
Par. 8 Section 1.280F–7 is amended as
follows:
1. Paragraph (a)(2)(iii) is amended
by removing “§1.280F–6T(d)(3)(i)” and
adding “§1.280F–6(d)(3)(i)” in its place.
2. The second sentence in para-
graph (b)(1) is amended by remov-
ing “§1.280F–6T(d)(1)” and adding
“§1.280F–6(d)(1)” in its place.
3. Paragraph (b)(2)(i)(B) is amended
by removing “§1.280F–6T(d)(3)(i)” and
adding “§1.280F–6(d)(3)(i)” in its place,
and by removing “§1.280F–6T(d)(1)” and
adding “§1.280F–6(d)(1)” in its place.
Mark E. Matthews,
Deputy Commissioner for
Services and Enforcement.
Approved June 17, 2004.
Gregory F. Jenner,
Acting Assistant Secretary of the Treasury.
(Filed by the Office of the Federal Register on June 24, 2004,
8:45 a.m., and published in the issue of the Federal Register
for June 25, 2004, 69 F.R. 35513)
Section 457.—Deferred
Compensation Plans
of State and Local
Governments and
Tax-Exempt Organizations
26 CFR 1.457–8: Funding rules for eligible plans.
Whether a governmental plan described in
§ 457(b) of the Code may invest in a group trust. See
Rev. Rul. 2004-67, page 28.
July 12, 2004272004–28 I.R.B.

Section 501.—Exemption
From Tax on Corporations,
Certain Trusts, etc.
26 CFR 1.501(a)–1: Exemption from taxation.
(Also, §§ 457; 1.457–8.)
Group or pooled trusts; participa-
tion; tax-exempt status, model lan-
guage.This ruling provides that a gov-
ernmental section 457(b) plan may invest
in a second tier group or pooled trust as
long as the criteria enumerated in the rul-
ing are met. In addition, the ruling sets
forth model language that may be adopted
by existing group or pooled trusts so that
they need not request determination let-
ters merely to add a provision permitting
participation by a governmental section
457(b) plan. Rev. Rul. 81–100 clarified
and modified.
Rev. Rul. 2004–67
PURPOSE
This revenue ruling extends the ability
to participate in group trusts described in
Rev. Rul. 81–100, 1981–1 C.B. 326, to el-
igible governmental plans under § 457(b)
of the Internal Revenue Code and clari-
fies the ability of Roth individual retire-
ment accounts described in § 408A and
deemed individual retirement accounts de-
scribed in § 408(q) to participate in these
group trusts. In addition, this revenue rul-
ing provides related model language for el-
igible governmental plans under § 457(b).
ISSUE
Whether the assets of eligible govern-
mental plan trusts described in § 457(b)
maybepooledwiththeassetsofagroup
trust described in Rev. Rul. 81–100, with-
out affecting the tax status of the eligible
governmental plan trust or the group trust
(including its current participants).
LAW AND ANALYSIS
Section 501(a) provides, in part, that a
trust described in § 401(a) is exempt from
income tax.
Section 401(a)(1) provides that a trust
or trusts created or organized in the United
States and forming a part of a stock bonus,
pension, or profit-sharing plan of an em-
ployer for the exclusive benefit of its
employees or their beneficiaries is qual-
ified under § 401(a) if contributions are
made to the trust or trusts by the applicable
employer, or employees, or both for the
purpose of distributing to such employ-
ees or their beneficiaries the corpus and
income of the fund accumulated in accor-
dance with such plan. Section 401(a)(2)
provides, in part, that under each trust
instrument it must be impossible, at any
time prior to the satisfaction of all liabil-
ities with respect to employees and their
beneficiaries under the plan and the trust
or trusts, for any part of the corpus or in-
come of the trust, to be used for or diverted
to purposes other than for the exclusive
benefit of the employees or their benefi-
ciaries.
Section 401(a)(24) provides that any
group trust that otherwise meets the re-
quirements of § 401(a) will not fail to sat-
isfy such requirements due to the participa-
tion or inclusion of a plan or governmental
unit described in § 818(a)(6) in the group
trust. Section 818(a)(6) provides, in part,
that for these purposes the trust of a pen-
sion plan contract includes a governmental
plan within the meaning of § 414(d) and an
eligible deferred compensation plan within
the meaning of § 457(b).
Section 401(f) provides that a custo-
dial account, an annuity contract and cer-
tain other contracts issued by an insurance
company will be treatedas a qualified trust
if the custodial account or contract would,
except for the fact that it is not a trust, con-
stitute a qualified trust under § 401, and,
if the assets in any such custodial account
are held by a bank or another person who
demonstrates that he will hold the assets in
a manner consistent with the requirements
of § 401.
Section 408(e) provides for the exemp-
tion from taxation of an individual retire-
ment account that meets the requirements
of § 408. Section 408(a)(5) provides that
the assets of an individual retirement ac-
count may not be commingled with other
property except in a common trust fund or
common investment fund.
Section 408A provides that, except as
otherwise provided in § 408A, a Roth
IRA is treated for purposes of the Code
as an individual retirement plan, which
includes an individual retirement account
that meets the requirement of § 408. Con-
sequently, a Roth IRA that is an individual
retirement account is exempt from tax
under § 408(e).
Section 408(q) provides, in part, that if
a qualified employer plan, as defined in
§ 408(q)(3)(A), elects to allow employees
to make voluntary employee contributions
to a separate account established under the
plan and, under the terms of the qualified
employer plan, the account meets the re-
quirements of § 408 or 408A for an in-
dividual retirement account, then that ac-
count is treated as an individual retirement
account (deemed individual retirement ac-
count), and not as a qualified employer
plan. An individual retirement account de-
scribed in § 408(q) is exempt from taxation
under § 408(e).
Rev. Rul. 81–100 holds that if certain
requirements are satisfied, a group trust
is exempt from taxation under § 501(a)
with respect to its funds that equitably be-
long to participating trusts described in
§ 401(a) and also is exempt from taxation
under § 408(e) with respect to its funds that
equitably belong to individual retirement
accounts that satisfy the requirements of
§ 408. Also, the status of individual trusts
as qualified under § 401(a), or as meeting
the requirements of § 408 and as being ex-
empt from tax under § 501(a) or § 408(e),
are not affected by the pooling of their
funds in a group trust.
Section 457 providesthat compensation
deferred under an eligible deferred com-
pensation plan of an eligible employer that
is a State or political subdivision, agency,
or instrumentality thereof (an eligible gov-
ernmental plan) and any income attribut-
able to the amounts deferred, is includi-
ble in gross income only in the taxable
year in which it is paid to the plan par-
ticipant or beneficiary. Section 457(g)(1)
requires an eligible governmental plan un-
der § 457(b) to hold all assets and in-
come of the plan in a trust for the exclu-
sive benefit of participants and their ben-
eficiaries. Section 457(g)(2) provides, in
part, that a trust described in § 457(g)(1)
is treated as an organization exempt from
federal income tax under § 501(a). Sec-
tion 457(g)(3) provides that custodial ac-
count and contracts described in § 401(f)
are treated as trusts under rules similar to
the rules under § 401(f).
This revenue ruling extends the holding
of Rev. Rul. 81–100 to eligible govern-
mental plans described in § 457(b). There-
fore, if the requirements below are satis-
fied, the funds from qualified plan trusts,
individual retirement accounts (including
2004–28 I.R.B.28July 12, 2004

a Roth individual retirement account de-
scribed in § 408A and a deemed individual
retirement account described in § 408(q))
that are tax-exempt under § 408(e), and eli-
gible governmental plan trusts described in
§ 457(b) and § 457(g) may be pooled with-
out adversely affecting the tax status of the
group trust or the tax status of the separate
trusts.
HOLDING
The assets of eligible governmental
plan trusts described in § 457(b) may be
pooled with the assets of a group trust
described in Rev. Rul. 81–100 without
affecting the tax status of the eligible gov-
ernmental plan trust or the group trust
(including its current participants).
Accordingly, under Rev. Rul. 81–100
and this revenue ruling, if the five crite-
ria below are satisfied, a trust that is part
of a qualified retirement plan, an individ-
ual retirement account (including a Roth
individual retirement account described in
§ 408A and a deemed individual retire-
ment account described in § 408(q)) that is
exempt from taxation under § 408(e), or an
eligible governmental plan under § 457(b)
may pool its assets in a group trust with-
out adversely affecting the tax status of any
of the separate trusts or the group trust.
For this purpose, a trust includes a custo-
dial account that is treated as a trust un-
der § 401(f), under § 408(h), or under
§ 457(g)(3).
1. The group trust is adopted as a part
of each adopting employer’s plan or
each adopting individual retirement
account.
2. The group trust instrument ex-
pressly limits participation to pen-
sion, profit-sharing, and stock bonus
trusts or custodial accounts qualify-
ing under § 401(a) that are exempt
under § 501(a); individual retire-
ment accounts that are exempt under
§ 408(e); and eligible governmental
plan trusts or custodial accounts un-
der § 457(b) that are exempt under
§ 457(g) (adopting entities).
3. The group trust instrument prohibits
any part of its corpus or income that
equitably belongs to any adopting en-
tity from being used for or diverted
to any purpose other than for the ex-
clusive benefit of the employees (and
the individual for whom an individual
retirement account is maintained) and
their beneficiaries who are entitled to
benefits under such adopting entity.
4. The group trust instrument prohibits
assignment by an adopting entity of
any part of its equity or interest in the
group trust.
5. The group trust is created or organized
in the United States and is maintained
at all times as a domestic trust in the
United States.
MODEL AMENDMENTS
There are two model amendments set
forth below. One is for those group trusts
that have received favorable determination
letters from the Service that the group trust
satisfies Rev. Rul. 81–100. The other is
for those trusts of eligible governmental
plans under § 457(b) that have received
a letter ruling from the Service (in each
instance issued prior to July 12, 2004).
AMENDMENT 1—FOR GROUP
TRUST
A sponsor of a group trust that satisfies
Rev. Rul. 81–100 may amend its group
trust to include the model language below
to reflect this revenue ruling:
“This group trust is operated or main-
tained exclusively for the commingling
and collective investment of funds from
other trusts that it holds. Notwithstand-
ing any contrary provision in this group
trust, the trustee of this group trust is
permitted, unless restricted in writing
by the named fiduciary, to hold in this
group trust funds that consist exclu-
sively of trust assets held under plans
qualified under Code section 401(a),
individual retirement accounts that are
exempt under Code section 408(e),
and eligible governmental plans that
meet the requirements of Code section
457(b). For this purpose, a trust in-
cludes a custodial account that is treated
as a trust under Code section 401(f) or
under Code section 457(g)(3).”
“For purposes of valuation, the value
of the interest maintained by the fund
with respect to any plan or account in
such group trust shall be the fair market
value of the portion of the fund held
for that plan or account, determined in
accordance with generally recognized
valuation procedures.”
RELIANCE BY TRUSTEES WITH
PRIOR DETERMINATION LETTER
A trustee entitled to rely on a favor-
able determination letter issued to it prior
to July 12, 2004, regarding eligibility of its
group trust under Rev. Rul. 81–100 will
not lose its right to rely on its determina-
tion letter merely because it adopts Model
Amendment 1 set forth above in this rev-
enue ruling on a word-for-word basis (or
adopts an amendment that is substantially
similar in all material respects). The group
trust sponsor may adopt Model Amend-
ment 1 on a word-for-word basis (or adopt
an amendment that is substantially simi-
lar in all material respects) and continue
to rely on the previously issued determina-
tion letter regarding its group trust without
filing another request with the Service for
a new determination letter.
A sponsor that satisfies the above re-
quirements and amends its group trust to
include Model Amendment 1 on a word-
for-word basis (or adopts an amendment
that is substantially similar in all material
respects) will also not lose its right to rely
on its prior determination letter merely be-
cause it becomes necessary, as a result of
the adoption of such model amendment (or
an amendment that is substantially sim-
ilar in all material respects), to delete a
prior provision that is inconsistent with
the model amendment so adopted (or an
amendment that is substantially similar in
all material respects that is so adopted).
Generally, the group trust instrument
will provide that amendments to the group
trust will automatically pass through to the
trusts of qualified plans under § 401(a); in-
dividual retirement accounts that are ex-
empt under § 408(e); and trusts of eligi-
ble governmental plans under § 457(b).
However, a group trust that has received a
favorable determination letter under Rev.
Proc. 2004–6, 2004–1 I.R.B. 204, (or its
predecessors) that does not contain such
a pass-through provision may not adopt
Model Amendment 1 and automatically
continue to rely on its determination letter.
In addition, further guidance will be issued
July 12, 2004292004–28 I.R.B.

to address the transition necessary to bring
into compliance a group trust that has re-
ceived a favorable determination letter un-
der Rev. Proc. 2004–6, 2004–1 I.R.B. 204,
(or its predecessors) that does not comply
with this revenue ruling.
AMENDMENT 2 — FOR ELIGIBLE
GOVERNMENTAL PLAN UNDER
§457(b)
A plan sponsor of a trust that funds an
eligible governmental plan under § 457(b)
may amend the trust agreement to include
the model language below to reflect this
revenue ruling:
“Notwithstanding any contrary provi-
sion in the instrument governing the
[NAME OF ELIGIBLE GOVERN-
MENTAL PLAN UNDER § 457(b)],
the plan trustee may, unless restricted in
writing by the named fiduciary, transfer
assets of the plan to a group trust that is
operated or maintained exclusively for
the commingling and collective invest-
ment of monies provided that the funds
in the group trust consist exclusively of
trust assets held under plans qualified
under Code section 401(a), individual
retirement accounts that are exempt
under Code section 408(e), and eligible
governmental plans that meets the re-
quirements of Code section 457(b). For
this purpose, a trust includes a custodial
account that is treated as a trust under
Code section 401(f) or under Code sec-
tion 457(g)(3).”
“For purposes of valuation, the value of
the interest maintained by the [NAME
OF ELIGIBLE GOVERNMENTAL
PLAN UNDER §457] in such group
trust shall be the fair market value of
the portion of the group trust held for
the [NAME OF ELIGIBLE GOVERN-
MENTAL PLAN UNDER § 457(b)],
determined in accordance with gener-
ally recognized valuation procedures.”
RELIANCE BY EMPLOYER ON
PRIOR § 457(b) RULING
An employer described in section
457(e)(1)(A) entitled to rely on a favor-
able private letter ruling issued to it prior
to July 12, 2004, regarding the eligibility
of its plan under § 457(b) will not lose
its right to rely on its letter ruling merely
because it adopts Model Amendment 2 set
forth above on a word-for-word basis (or
adopts an amendment that is substantially
similar in all material respects). Such an
employer may adopt Model Amendment
2 on a word-for-word basis (or adopt an
amendment that is substantially similar
in all material respects) and continue to
rely on the previously issued letter ruling
regarding its § 457(b) plan without filing
another request with the Service for a new
letter ruling.
Anemployerdescribedin
§ 457(e)(1)(A) that satisfies the above
requirements and amends the trust of
its eligible governmental plan under
§ 457(b) to include Model Amendment 2
on a word-for-word basis (or adopts an
amendment that is substantially similar in
all material respects)will not lose its right
to rely on its prior letter ruling merely
because it becomes necessary as a result
of the adoption of such model amendment
(or an amendment that is substantially
similar in all material respects), to delete
a prior provision that is inconsistent with
the model amendment so adopted.
EFFECT ON OTHER DOCUMENTS
Rev. Rul. 81–100 is clarified and mod-
ified.
DRAFTING INFORMATION
The principal author of this revenue
ruling is Dana A. Barry of the Employee
Plans, Tax Exempt and Government Enti-
ties Division. For further information re-
garding this revenue ruling, please contact
the Employee Plans’ taxpayer assistance
telephone service at 1–877–829–5500
(a toll-free number) between the hours
of 8:00 a.m. and 6:30 p.m. Eastern
Time, Monday through Friday (a toll-free
call). Ms. Barry may be reached at (202)
283–9888 (not a toll-free call).
2004–28 I.R.B.30July 12, 2004

Part III. Administrative, Procedural, and Miscellaneous
Charitable Contributions and
Conservation Easements
Notice 2004–41
The Internal Revenue Service is aware
that taxpayers who (1) transfer an ease-
ment on real property to a charitable
organization, or (2) make payments to a
charitable organization in connection with
a purchase of real property from the char-
itable organization, may be improperly
claiming charitablecontribution deduc-
tions under § 170 of the Internal Revenue
Code. The purpose of this notice is to
advise participants in these transactions
that, in appropriate cases, the Service in-
tends to disallow such deductions and may
impose penalties and excise taxes. Fur-
thermore, the Service may, in appropriate
cases, challenge the tax-exempt status of
a charitable organization that participates
in these transactions. In addition, this no-
tice advises promoters and appraisers that
the Service intends to review promotions
of transactions involving these improper
deductions, and that the promoters and
appraisers may be subject to penalties.
Contributions of Conservation Easements
Section 170(a)(1) allows as a deduc-
tion, subject to certainlimitations and re-
strictions, any charitable contribution (as
defined in § 170(c)) that is made within the
taxable year. Generally, to be deductible
as a charitable contribution under § 170, a
transfer to a charitable organization must
be a gift of money or property without re-
ceipt or expectation of receipt of adequate
consideration, made with charitable intent.
See U.S. v. American Bar Endowment,477
U.S. 105, 117–18 (1986);Hernandez v.
Commissioner, 490 U.S. 680, 690 (1989);
see also§ 1.170A–1(h)(1) and (2) of the
Income Tax Regulations.
Section 170(f)(3) provides generally
that no charitable contribution deduc-
tion is allowed for a transfer to a char-
itable organization of less than the tax-
payer’s entire interest in property. Section
170(f)(3)(B)(iii) provides an exception to
this rule in the case of a qualified conser-
vation contribution.
A qualified conservation contribution
is a contribution of a qualified real prop-
erty interest to a qualified organization
exclusively for certain conservation pur-
poses. Section 170(h)(1), (2), (3), and (4);
§ 1.170A–14(a). A qualified real property
interest includes a restriction (granted in
perpetuity) on the use that may be made
of the real property. Section 170(h)(2)(C);
see also§ 1.170A–14(b)(2). For purposes
of this notice, qualified real property in-
terests described in § 170(h)(2)(C) are
referred to as conservation easements.
One of the permitted conservation
purposes listed in § 170(h)(4) is the pro-
tection of a relatively natural habitat of
fish, wildlife, or plants, or similar ecosys-
tem. Section 170(h)(4)(A)(ii);see also
§ 1.170A–14(d)(1)(ii) and (3). Another of
the permitted conservation purposes is the
preservation of open space (“open space
easement”), including farmland and forest
land, for the scenic enjoyment of the gen-
eral public or pursuant to a clearly delin-
eated governmental conservation policy.
However, if the public benefit of an open
space easement is not significant, the char-
itable contribution deduction will be dis-
allowed.See§ 170(h)(4)(A)(iii);see also
§ 1.170A–14(d)(1)(iii) and (4)(iv), (v),
and (vi). Section 170(h) and § 1.170A–14
contain many other requirements that
must be satisfied for a contribution of a
conservation easement to be allowed as a
deduction.
A charitable contribution is allowed as
a deduction only if substantiated in accor-
dance with regulations prescribed by the
Secretary. Section 170(a)(1) and (f)(8).
Under § 170(f)(8), a taxpayer must sub-
stantiate its contributions of $250 or more
by obtaining from the charitable organi-
zation a statement that includes (1) a de-
scription of any return benefit provided by
the charitable organization, and (2) a good
faith estimate of the benefit’s fair market
value.See§ 1.170A–13 for additional sub-
stantiation requirements. In appropriate
cases, the Service will disallow deductions
for conservation easement transfers if the
taxpayer fails to comply with the substanti-
ation requirements. The Service is consid-
ering changes to forms to facilitate compli-
ance with and enforcement of the substan-
tiation requirements.
If all requirements of § 170 are satisfied
and a deduction is allowed, the amount of
the deduction may not exceed the fair
market value of the contributed property
(in this case, the contributed easement)
on the date of the contribution (reduced
by the fair market value of any consid-
eration received by the taxpayer).See
§ 1.170A–1(c)(1), (h)(1) and (2). Fair
market value is the price at which the
contributed property would change hands
between a willing buyer and a willing
seller, neither being under any compulsion
to buy or sell, and each having reason-
able knowledge of relevant facts. Section
1.170A–1(c)(2).See§ 1.170A–14(h)(3)
and (4) for a discussion of valuation.
If the donor (or a related person) rea-
sonably can expect to receive financial or
economic benefits greater than those that
will inure to the general public as a re-
sult of the donation of a conservation ease-
ment, no deduction is allowable. Section
1.170A–14(h)(3)(i). If the donation of a
conservation easement has no material ef-
fect on the value of real property, or en-
hances rather than reduces the value of real
property, no deduction is allowable. Sec-
tion 1.170A–14(h)(3)(ii).
Purchases of Real Property from
Charitable Organizations
Some taxpayers are claiming inappro-
priate charitable contribution deductions
under § 170 for cash payments or ease-
ment transfers to charitable organizations
in connection with the taxpayers’ pur-
chases of real property.
In some of these questionable cases,
the charitable organization purchases the
property and places a conservation ease-
ment on the property. Then, the charita-
ble organization sells the property subject
to the easement to a buyer for a price that
is substantially less than the price paid by
the charitable organization for the prop-
erty. As part of the sale, the buyer makes a
second payment, designated as a “charita-
ble contribution,” to the charitable organi-
zation. The total of the payments from the
buyer to the charitable organization fully
reimburses the charitable organization for
the cost of the property.
In appropriate cases, the Service will
treat these transactions in accordance with
their substance, rather than their form.
Thus, the Service may treat the total of the
July 12, 2004312004–28 I.R.B.

buyer’s payments to the charitable organ-
ization as the purchase price paid by the
buyer for the property.
Penalties, Excise Taxes, and Tax-Exempt
Status
Taxpayers are advised that the Service
intends to disallow all or part of any im-
proper deductions and may impose penal-
ties under § 6662.
The Service intends to assess excise
taxes under § 4958 against any disquali-
fied person who receives an excess benefit
from a conservation easement transaction,
and against any organization manager who
knowingly participates in the transaction.
In appropriate cases, the Service may chal-
lenge the tax-exempt status of the organi-
zation, based on the organization’s opera-
tion for a substantial nonexempt purpose
or impermissible private benefit.
In addition, the Service intends to re-
view promotions of transactions involving
improper deductions for conservation
easements. Promoters, appraisers, and
other persons involved in these transac-
tions may be subject to penalties under
§§ 6700, 6701, and 6694.
DRAFTING INFORMATION
The principal author of this notice is
Patricia M. Zweibel of the Office of As-
sociate Chief Counsel (Income Tax & Ac-
counting). For further information regard-
ing this notice, contact Ms. Zweibel at
(202) 622–5020 (not a toll-free call).
Request For Comments
Regarding Rev. Proc. 81–70,
1981–2 C.B. 729
Notice 2004–44
Section 368(a)(1)(B) of the Internal
Revenue Code defines as a reorganization
the acquisition by one corporation, in ex-
change solely for all or part of its voting
stock (or in exchange solely for all or a part
of the voting stock of a corporation which
is in control of the acquiring corporation),
of stock of another corporation if, imme-
diately after the acquisition, the acquiring
corporation has control of such other cor-
poration (whether or not such acquiring
corporation had control immediately be-
fore the acquisition) (a B reorganization).
Section 362(b) generally provides that the
basis of property acquired by a corporation
in connection with a reorganization shall
bethesameasitwouldbeinthehands
of the transferor. Therefore, the acquiring
corporation’s basisin the stock acquired
in a B reorganization is determined by
reference to the basis of the former share-
holdersinsuchstock.
In Rev. Proc. 81–70, 1981–2 C.B.
729, the Internal Revenue Service set forth
guidelines for estimating the basis of stock
acquired by an acquiring corporation in a
B reorganization. That revenue procedure
permits the acquiring corporation in a B
reorganization to apply certain statistical
sampling techniques to determine its ba-
sis in the acquired stock. The guidelines
reflect the recognition that the information
needed by the acquiring corporation to es-
tablish the basis of the acquired corpora-
tion’s stock is in the possession of the for-
mer shareholders of the acquired corpo-
ration, who may not respond to basis in-
quiries. They also reflect the recognition
that, in certain cases, it may be time con-
suming, burdensome and costly for the ac-
quiring corporation to contact each former
shareholder of the acquired corporation.
The Service is concerned that changes
in the marketplace since Rev. Proc. 81–70
was issued may have rendered compliance
with its requirements for statistical sam-
pling unduly burdensome or impossible
and that, therefore, taxpayers are not com-
plying with those requirements. For exam-
ple, the Service understands that the way
stock is held today may prevent or hin-
der access to the information necessary to
determine the shareholder’s basis in such
stock.
A number of commentators have sug-
gested that the Service revise Rev. Proc.
81–70. The Service requests comments
regarding problems taxpayers are encoun-
tering in their effort to comply with the
requirements of Rev. Proc. 81–70 and
whether it should be modified.
The Service particularly seeks com-
ments from those who perform basis
studies that are intended to comply with
the requirements of Rev. Proc. 81–70,
those engaged in providing services and
information to the investment community
(including those who maintain custodial
information that may be used in such stud-
ies, such as broker/dealers, banks, and
similar organizations), and other inter-
ested parties.
In addition, from those that perform ba-
sis studies that are intended to comply with
the requirements of Rev. Proc. 81–70,
the following information is specifically
requested: (i) descriptions of the sources
of information, both historic and recent,
available for use in performing basis stud-
ies; and (ii) descriptions of the methodolo-
gies utilized to determine the basis of stock
held by persons that do not respond to re-
quests for basis information.
From record keepers, the following in-
formation is specifically requested: (i) de-
scriptions of the kinds of information that
are maintained that may be used to per-
form basis studies and of the sources of
this information; (ii) statements describ-
ing the length of time that this information
is generally maintained and available for
use; and (iii) descriptions of confidential-
ity concerns, if any, that may impair or de-
lay a response to a basis inquiry.
Please submit all comments by Septem-
ber 30, 2004. Written comments should be
sent to:
Internal Revenue Service
Attn: CC:PA:LPD:PR
(Notice 2004–44)
Room 5203
P. O. Box 7604
Ben Franklin Station
Washington, DC 20044
Or hand delivered between the hours of
8a.m.and4p.m.to:
Courier’s Desk
Internal Revenue Service
Attn: CC:PA:LPD:PR
(Notice 2004–44)
1111 Constitution Avenue, N.W.
Washington, D.C. 20224
Alternatively,comments may
be submitted electronically via
e-mail to the following address:
Notice.Comments@irscounsel.treas.gov.
Please include “Notice 2004–44” in the
subject line. All comments will be avail-
able for public inspection and copying in
their entirety.
FOR FURTHER INFORMATION
For information regarding estimates
and sampling techniques, please con-
2004–28 I.R.B.32July 12, 2004

tact Edward Cohen at (212) 719–6693
(not a toll-free call). For further in-
formation regarding this notice gener-
ally, please contact George Johnson or
Reginald Mombrun at (202) 622–7930
(not a toll-free call).
Meritless Filing Position Based
on Sections 932(c) and 934(b)
Notice 2004–45
The Internal Revenue Service is aware
that certain promoters are advising tax-
payers to take highly questionable, and in
most cases meritless, positions described
below in order to avoid U.S. taxation and
claim a tax benefit under the laws of the
United States Virgin Islands (USVI). Pro-
moters may also be advising taxpayers to
take similar positions with respect to other
U.S. possessions. This notice alerts tax-
payers that the Service intends to challenge
these positions in appropriate cases. The
Service may impose civil penalties on tax-
payers or persons who participated in the
promotion or reporting of these positions.
In addition to being subject to other penal-
ties, any person who willfully attempts to
evade or defeat tax by means of an arrange-
ment such as the one described in this no-
tice, or who willfully counsels or advises
such evasion or defeat, may be guilty of a
criminal offense under federal law.
Background
Section 934, which was enacted in
1960, provides that the USVI may re-
duce its territorial income tax only in
certain limited cases. The USVI may not,
however, reduce the tax liability of U.S.
citizens or residents who are notbona fide
residents of the USVI. In the case of U.S.
citizens or residents who arebona fideres-
idents of the USVI, it may reduce their tax
liability only with respect to income from
sources in the USVI or income effectively
connected with the conduct of a trade or
business within the USVI.
The legislative history of § 934 indi-
cates that the statute was enacted in part
because of concerns that certain local in-
come tax programs, which were intended
to provide incentives to corporations and
USVI residents that made new investments
in the USVI, were having the effect of
reducing the tax liability attributable not
only to income from sources within the
USVI but also to income from sources
within the United States. While recogniz-
ing the goal of encouraging economic de-
velopment in the USVI through appropri-
ate income tax reductions, the legislative
history to § 934 indicates that
in no case should this [goal] be attained
by granting windfall gains to taxpayers
with respect to income derived from in-
vestments in corporations in the con-
tinental United States, or with respect
to income in any other manner derived
from sources outside of the Virgin Is-
lands.
S. Rep. No. 1767, 86
th
Cong., 2nd Sess. 4
(1960).
Typical Promotion
The highly questionable positions de-
scribed in this notice may be promoted to
taxpayers in a variety of forms. The Ser-
vice is aware, however, that they have fre-
quently been promoted in the following
manner:
Promoters typically approach a tax-
payer (Taxpayer) living and working in
the United States and advise Taxpayer to
(i) purport to become a USVI resident
by establishing certain contacts with the
USVI, (ii) purport to terminate his or her
existing employment relationship with his
or her employer (Employer) and (iii) pur-
port to become a partner of a Virgin Islands
limited liability partnership (“V.I.LLP”)
that is treated as a partnership for U.S. tax
purposes. V.I.LLP then purports to enter
into a contract with Employer to provide
Employer with substantially the same ser-
vices that were provided by Taxpayer prior
to the creation of this arrangement. Typi-
cally, after entering into the arrangement,
Taxpayer continues to provide substan-
tially the same services for Employer that
he or she provided before entering into the
arrangement, but Taxpayer is nominally a
partner of V.I.LLP instead of an employee
of Employer.
Under this arrangement, Employer
makes payments to V.I.LLP for Taxpayer’s
services and no longer treats the payments
as wages paid to Taxpayer subject to the
withholding and payment of employment
taxes and reporting on Taxpayer’s Form
W–2. V.I.LLP, in turn, makes payments
to Taxpayer for his or her services to
Employer. V.I.LLP typically treats these
payments for tax accounting purposes ei-
ther as guaranteed payments for services
or as distributions of Taxpayer’s alloca-
ble share of partnership income. Under
this arrangement, the promoter may be a
general partner in V.I.LLP and may retain
a percentage of the fees received from
Employer.
V.I.LLP either has or secures a reduc-
tion, up to 90 percent, in USVI income
tax liability under the Economic Develop-
ment Program (EDP) of the USVI. Tax-
payer takes the position that the EDP ben-
efits granted to V.I.LLP provide a corre-
sponding reduction in the income tax lia-
bility that Taxpayer reports on his or her
USVI income tax return with respect to
guaranteed paymentsfrom the partnership
or distributive shares of the partnership’s
net income, or both. Taxpayer pays tax
to the USVI in an amount approximately
equal to 10% of the U.S. income tax lia-
bility that otherwise would be imposed on
Taxpayer’s income from performing the
services. Taxpayer claims that, for pur-
poses of computing his or her U.S. income
tax liability, gross income does not in-
clude guaranteed payments received from
V.I.LLP or Taxpayer’s distributive share,
if any, of the partnership’s net income, or
both.
Positions Promoted
In situations such as those described
above, as well as in other situations, the
following highly questionable positions
are being promoted:
—“You can continue to live and
work in the United States and, nev-
ertheless, be abona fideresident of
the USVI.”The concept of a “bona
fideresident of the Virgin Islands” was
an integral part of the predecessor to
§ 934(b), and as such, its meaning has
been well established.See§934(c)as
enacted by P.L. 86–779, §4(a) (1960).
When Congress enacted the current ver-
sions of §§ 932 and 934(b), it retained
this concept, butnoted that Treasury
has the authority to modify its mean-
ing when necessary to prevent abuse.
SeeH.R. Rep. No. 99–426 (1985)
and General Explanation of the Tax Re-
form Act of 1986, JCS–10–87 (1987)
(“Similarly, where appropriate, the Sec-
retary may treat an individual as not
July 12, 2004332004–28 I.R.B.

abona fideresident of the Virgin Is-
lands.”) The determination of whether
an individual is abona fideresident of
the USVI turns on the facts and cir-
cumstances and, specifically, on an in-
dividual’s intentions with respect to the
length and nature of his or her stay in the
USVI.See§ 1.934–1(c)(2) (generally
applying the principles of §§ 1.871–2
through –5). Promoters typically repre-
sent that a taxpayer need not make ma-
jor lifestyle changes in order to become
abona fideresident of the USVI, and
may represent that the taxpayer need
only spend a few weeks or less out of
the year in the USVI to become a res-
ident for income tax purposes. These
representations, however, have no basis
in the well-established meaning of the
term “bona fideresident of the Virgin
Islands.” Accordingly, a claim of USVI
residency for income tax purposes may
be considered without merit or fraudu-
lent when the taxpayer continues to live
and work in the United States.
—“USVI source income includes
income from services performed in
the United States.”The principles that
generally apply for determining gross
and taxable income from sources within
and without the United States (in par-
ticular, the rules of §§ 1.861–1 through
1.863–5) also generally apply in deter-
mining gross and taxable income from
sources within and without a possession
of the United States.See§ 1.863–6 and
Francisco v. Commissioner,119T.C.
317 (2002)aff’d, No. 03–1210 (D.C.
Cir. June 18, 2004). With certain lim-
ited exceptions, compensation for la-
bor or personal services performed in
the United States is gross income from
sources within the United States.See
§ 861(a)(3) and § 1.861–4(a)(1). The
result does not change if the compensa-
tion is received in the form of a guaran-
teed payment from a partnership rather
than in the form of a fee for services
under an employment contract.See
Miller v. Commissioner,52T.C.752
(1969),acq.1972–2 C.B. 2. Promot-
ers typically claim that taxpayers are
free to argue, under a variety of the-
ories, that income from services per-
formed in the United States constitutes
income from USVI sources because “no
rules exist under section 934” for deter-
mining whether income is from USVI
sources. Based on the foregoing dis-
cussion, however, such arguments are
without merit.
—“For purposes of determining
the source of income, USVI includes
the United States.”Section 932 pro-
vides coordination rules for filing of
returns for U.S. and USVI income
taxes bybona fideresidents of the
USVI and U.S. citizens and residents
who have income derived from sources
within the USVI or income effectively
connected with the conduct of a trade
or business within the USVI. To fa-
cilitate this coordination, § 932(c)(3)
states that the USVI includes the United
States for certain tax purposes. Section
932(c)(3) was modeled after § 935(c),
which was enacted fourteen years ear-
lier and which provides an equivalent
rule with respect to Guam. For an
illustration of the types of purposes
for which these provisions apply,see
§ 1.935–1(c)(1)(ii). Notably, these pro-
visions do not apply for purposes of
determining the source of income.See
H.R. Rep. No. 92–1479, 92d Cong., 2d
Sess. 5 (Oct. 2, 1972) (“In determin-
ing the source of income for purposes
of the special tax system provided
in the bill (new code sec. 935), the
principles contained in secs. 861–863
are to be applied without reference
to sec. 935(c).”) Based on an incor-
rect reading of § 932(c)(3), promoters
may claim that compensation for ser-
vices performed in the United States
is considered for tax purposes to be
compensation for services performed
in the USVI. This claim is without
merit. Section 932 does not apply to
determine the source of income on
which the USVI tax liability ofbona
fideresidents may be reduced under
§ 934(b)(1). Thus, § 932(c)(3) does
not operate to transform compensation
from the performance of personal ser-
vices in the United States into income
from sources in the USVI.
—“Non-USVI source income can
be treated as effectively connected
with the conduct of a trade or busi-
ness within the USVI even if, under
equivalent circumstances, such in-
come would not be considered effec-
tively connected with the conduct of
a trade or business within the United
States.”As noted above, § 934(b)(1)
grants limited authority to the USVI
to reduce the USVI tax liability with
respect to income from USVI sources
or income effectively connected with a
trade or business within the USVI. The
use of the term “effectively connected
with the conduct of a trade or business”
in § 934 indicates that Congress gener-
ally intended for the rules under § 934
to follow the well-established rules
that apply for purposes of determin-
ing the taxation of nonresidents, such
as the definition of effectively con-
nected income under § 864(c). Section
934(b)(4), however, provides Treasury
with the authority to issue regulations
providing an alternative definition of
the term. The legislative history of
§ 934 makes clear that this grant of reg-
ulatory authority was for the purpose
of preventing abuse, and that Congress
anticipated that it would be used to
provide further limitations on the type
of income that would be treated as
from USVI sources or as effectively
connected with the conduct of a trade
or business within the USVI. S. Rep.
No. 99–313, at 484, 1986–3 C.B. (vol.
3) 484. Taxpayers have no legal basis
for claiming that the scope of the term
“income effectively connected with
the conduct of a trade or business” is
broader under § 934 than it is under
§ 864. In particular, taxpayers have no
legal basis for disregarding the rules
of § 864(c)(4), which generally limit
the amount of foreign source income
that is treated as effectively connected
with a U.S. trade or business to certain,
very narrow categories of income. Ac-
cordingly, with the exception of those
narrow categories, and in the absence
of regulations to the contrary, income,
gain, or loss from sources without
the USVI cannot be treated as effec-
tively connected with the conduct of
a trade or business within the USVI
for purposes of § 934. For example,
income from the performance of per-
sonal services without the USVI cannot
under any circumstances be treated as
effectively connected with the con-
duct of a trade or business within the
USVI. Promoters typically interpret the
phrase “effectively connected to the
conduct of a trade or business within
the USVI” broadly, and inconsistently
with § 864(c)(4), in order to claim a
2004–28 I.R.B.34July 12, 2004

tax reduction with respect to income
from non-USVI sources. As indicated
above, however, these interpretations
have no merit.
The IRS intends to challenge these po-
sitions and other similar claims that dis-
regard the statutory and regulatory provi-
sions concerning the limitations on the re-
duction of USVI income tax. Where tax-
payers in order to make these claims en-
ter into arrangements such as the one de-
scribed in this notice, the Internal Revenue
Service may disregard such arrangements
on the grounds that they lack economic
substance or that they have no purpose
other than tax avoidance or evasion. The
Service also may assert that the arrange-
ment does not serve to terminate the em-
ployment relationship between a taxpayer
and Employer for federal employment tax
purposes, with the result that Employer re-
mains liable for employment taxes and ap-
plicable penalties and interest.
In addition to liability for tax due plus
statutory interest, taxpayers that claim to
have no requirement to file a federal in-
come tax return or pay federal income tax
liability based on the positions described
herein may be subject to penalties includ-
ing, but not limited to, the accuracy-re-
lated penalty under § 6662, failure to file
or pay penalties under § 6651 and civil
fraud penalties under §6663. Further, per-
sons who participate in the promoting or
reporting of these positions may be sub-
ject to aiding and abetting penalties under
§ 6701. In addition to other penalties, any
person who willfully attempts to evade or
defeat tax by taking the positions described
in this notice, or who willfully counsels
or advises such evasion or defeat, may be
guilty of a criminal offense under §§ 7201,
7203, 7206, or 7212(a) or other provisions
of federal law. Promoters and others who
assist taxpayers in taking these positions
also may be enjoined from doing so under
§ 7408.
The principal author of this notice is
W. Edward Williams of the Office of
Associate Chief Counsel (International).
For further information regarding this no-
tice, contact W. Edward Williams at (202)
622–3295 (not a toll-free call).
July 12, 2004352004–28 I.R.B.

Part IV. Items of General Interest
Notice of Proposed
Rulemaking
Adjustment to Net Unrealized
Built-in Gain
REG–131486–03
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemaking.
SUMMARY: This document contains p
ro-
posed regulations under section 1
374 that
provide for an adjustment to the a
mount
that may be subject to tax under se
ction
1374 in certain cases in which an S
cor-
poration acquires assets from a C
corpo-
ration in an acquisition to which
section
1374(d)(8) applies. These prop
osed reg-
ulations provide guidance to ce
rtain S cor-
porations that acquire assets
from a C cor-
poration in a carryover basis t
ransaction.
DATES: Written or electronic comments
must be received by September 23, 2004.
ADDRESSES: Send submissions to:
CC:PA:LPD:PR (REG–131486–03), room
5203, Internal Revenue Service, PO Box
7604, Ben Franklin Station, Washing-
ton, DC 20044. Submissions may be
hand-delivered Monday through Friday
between the hours of 8 a.m. and 4 p.m.
to CC:PA:LPD:PR (REG–131486–03),
Courier’s Desk, Internal Revenue Service,
1111 Constitution Avenue, NW, Wash-
ington, DC, or sent electronically, via
the IRS Internet site atwww.irs.gov/regs
or via the Federal eRulemaking Por-
tal atwww.regulations.gov(IRS —
REG–131486–03). The public hearing
will be held in the IRS Auditorium, Inter-
nal Revenue Building, 1111 Constitution
Avenue, NW, Washington, DC.
FOR FURTHER INFORMATION
CONTACT: Concerning the proposed reg-
ulations, Jennifer Sledge, (202) 622–7750;
concerning submissions of comments,
Treena Garrett, (202) 622–7180 (not
toll-free numbers).
SUPPLEMENTARY INFORMATION:
Background and Explanation of
Provisions
Section 1374 of the Internal Revenue
Code of 1986 (Code) generally imposes a
corporate level tax on the income or gain of
an S corporation that formerly was a C cor-
poration to the extent the income or gain
is attributable to the period during which
the corporation was a C corporation. Con-
gress amended section 1374 to provide this
rule as part of the Tax Reform Act of 1986,
which repealed theGeneral Utilitiesdoc-
trine. Under theGeneral Utilitiesdoctrine,
a C corporation, in certain cases, could dis-
tribute appreciated assets to its sharehold-
ers, or sell appreciated assets and distrib-
ute the sale proceeds in connection with
a complete liquidation to its shareholders,
without recognizing gain. Section 1374
prevents a corporation from circumvent-
ingGeneral Utilitiesrepeal by converting
to S corporation status before distributing
its appreciated assets to its shareholders, or
selling its appreciated assets and distribut-
ing the sale proceeds in connection with a
complete liquidation to its shareholders.
Specifically, section 1374 imposes a
taxonanScorporation’s net recognized
built-in gain attributable to assets that it
held on the date it converted from a C
corporation to an S corporation for the
10-year recognition period beginning on
the first day the corporation is an S cor-
poration. Under section 1374, the total
amount subject to tax is limited to the S
corporation’s net unrealized built-in gain
(NUBIG), which is the “aggregate net
built-in gain of the corporation at the time
of conversion to S corporation status.” See
H.R. Conf. Rep. No. 99–841, at II–203
(1986). Section 1374 also imposes a tax on
an S corporation’s net recognized built-in
gain attributable to assets that it acquired
in a carryover basis transaction from a C
corporation for the 10-year recognition pe-
riod beginning on the day of the carryover
basis transaction. The legislative history
of section 1374 provides that each acqui-
sition of assets from a C corporation is
subject to a separate determination of the
amount of net unrealized built-in gain and
is subject to a separate 10-year recognition
period. See H.R. Rep. No. 100–795, at 63
(1988).
Sections 337(d) and 1374(e) authorize
the Secretary of the Treasury to prescribe
regulations as necessary to carry out the
purposes ofGeneral Utilitiesrepeal gen-
erally and section 1374 specifically. The
Treasury Department and the IRS have
promulgated regulations consistent with
these provisions. See,e.g., §§1.337(d)–4
through 1.337(d)–7, 1.1374–1 through
1.1374–10.
Under §1.1374–3, an S corporation’s
NUBIG generally is the amount of gain
the S corporation would recognize on the
conversion date if it sold all of its assets
at fair market value to an unrelated party
that assumed all of its liabilities on that
date. Consistent with the legislative his-
tory of section 1374, section 1374(d)(8)
and §1.1374–8 require a separate determi-
nation of the amount subject to tax under
section 1374 for the pool of assets the S
corporation held on the date it converted to
C status and each pool of assets acquired in
a carryover basis transaction from a C cor-
poration.
Under the current rules, therefore, if X,
a C corporation, elects to be an S corpora-
tion when it owns all of the stock of Y, a
C corporation, X’s NUBIG will reflect the
built-in gain or built-in loss in the Y stock.
That built-in gain or built-in loss may be
duplicative of the built-in gain or built-in
loss in Y’s assets. If Y later transfers its as-
sets to X in a liquidation to which sections
332 and 337(a) apply, the built-in gain and
built-in loss in Y’s assets may be reflected
twice: once in the NUBIG attributable to
the assets X owned on the date of its con-
version (including the stock of Y) and a
second time in the NUBIG attributable to
Y’s former assets acquired by X in the liq-
uidation of Y. A similar result would obtain
if, on the date of its conversion to an S cor-
poration, X owned less than 80 percent of
the stock of Y and later acquired the assets
of Y in a reorganization to which section
368(a) applies. These results are inconsis-
tent with the fact that a liquidation to which
2004–28 I.R.B.36July 12, 2004

sections 332 and 337(a) apply, and the
acquisition of the assets of a corporation
some or all of the stock of which is owned
by the acquiring corporation in a reorgani-
zation under section 368(a), generally have
the effect of eliminating the built-in gain or
built-in loss in the redeemed or canceled
stock of the liquidated or target corpora-
tion.
In the course of developing these pro-
posed regulations, the Treasury Depart-
ment and the IRS considered a number
of approaches to address the issue raised
by the situations described above. In par-
ticular, the Treasury Department and the
IRS considered adopting an approach that
would provide for a single determination
of NUBIG for all of the assets of an S cor-
poration and, thus, a single determination
of the amount subject to tax under section
1374. While this approach may have pro-
duced results similar to those that would
have been produced had the S corporation
remained a C corporation and acquired the
assets of another C corporation, it was re-
jected because such an approach appears to
be inconsistent with the legislative history
of section 1374, which seems to mandate a
separate determination of tax for each pool
of assets. See H.R. Rep. No. 100–795, at
63.
Instead, these regulations adopt an ap-
proach that adjusts (increases or decreases)
the NUBIG of the pool of assets that in-
cluded the stock of the liquidated or ac-
quired C corporation to reflect the extent to
which the built-in gain or built-in loss in-
herent in the redeemed or canceled C cor-
poration stock at the time the pool of assets
became subject to the tax under section
1374 has been eliminated from the corpo-
rate tax system in the liquidation or re-
organization. These proposed regulations
provide that, if section 1374(d)(8) applies
to an S corporation’s acquisition of assets,
some or all of the stock of the C corpora-
tion from which such assets were acquired
was taken into account in the computation
of NUBIG for a pool of assets of the S cor-
poration, and some or all of such stock is
redeemed or canceled in such transaction,
subject to certain limitations, the NUBIG
of the pool of assets that included the C
corporation stock redeemed or canceled in
the transaction (other than stock with re-
spect to which a loss under section 165 is
claimed) is adjusted to eliminate any ef-
fect any built-in gain or built-in loss in the
redeemed or canceled C corporation stock
had on the initial computation of NUBIG
for that pool of assets. For this purpose,
stock that has an adjusted basis that is de-
termined (in whole or in part) by refer-
ence to the adjusted basis of any other as-
set held by the S corporation as of the first
dayoftherecognitionperiod(i.e.,stock
described in section 1374(d)(6)) is treated
as taken into account in the computation of
the NUBIG for the pool of assets of the S
corporation.
Adjustments to NUBIG under these
proposed regulations, however, are sub-
ject to two limitations. First, the NUBIG
is only adjusted to reflect the amount of
the built-in gain or built-in loss that was
inherent in the redeemed or canceled stock
at the time the pool of assets became sub-
ject to tax under section 1374 that has
not resulted in recognized built-in gain
or recognized built-in loss at any time
during the recognition period, including
on the date of the acquisition to which
section 1374(d)(8) applies. For example,
suppose that on the date X, a C corpo-
ration, converts to S corporation status,
it owns the stock of Y, which has a ba-
sis of $0 and a value of $100. The gain
inherent in the Y stock contributes $100
to X’s NUBIG. During the recognition
period and prior to the liquidation of Y,
Y distributes $20 to X in a distribution
to which section 301(c)(3) applies. That
amount is recognized built-in gain under
section 1374(d)(3). If Y later distributes
its assets to X in a distribution to which
sections 332 and 337(a) apply, pursuant to
these regulations, X must adjust its orig-
inal NUBIG to reflect the elimination of
the Y stock. X will reduce that NUBIG
by $80, the original built-in gain in such
stock ($100) minus the recognized built-in
gain with respect to such stock during the
recognition period ($20).
Second, an adjustment cannot be made
if it is duplicative of another adjustment to
the NUBIG for a pool of assets. This rule
is intended to prevent more than one ad-
justment to the NUBIG of a pool of assets
for the same built-in gain or built-in loss
stock.
Any adjustment to NUBIG under these
proposed rules will only affect computa-
tions of the amount subject to tax under
section 1374 for taxable years that end on
or after the date of the liquidation or reor-
ganization. It will notaffect computations
of the amount subject to tax under section
1374 for taxable years that end before the
date of the liquidation or reorganization.
The Treasury Department and IRS re-
quest comments regarding whether the
rule proposed in these regulations should
be expanded to apply in other cases in
which the stock basis that was taken into
account in the computation of NUBIG is
eliminated. This may occur, for example,
where an S corporation owns stock of a C
corporation on the date of its conversion to
an S corporation and later distributes the
stock of the C corporation in a distribution
to which section 355 applies. In addition,
the Treasury Department and IRS request
comments concerning whether there are
any situations other than those identified
in these proposed regulations in which
adjustments to NUBIG should be less than
the built-in gain or the built-in loss in the
redeemed or canceled stock as of the be-
ginning of the recognition period.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a significant
regulatory action as defined in Executive
Order 12866. Therefore, a regulatory as-
sessment is not required. It also has been
determined that section 553(b) of the Ad-
ministrative Procedure Act (5 U.S.C. chap-
ter 5) does not apply to these regulations
and, because the regulations do not im-
pose a collection of information on small
entities, the Regulatory Flexibility Act (5
U.S.C. chapter 6) does not apply. There-
fore, a Regulatory Flexibility Analysis is
not required. Pursuant to section 7805(f)
of the Code, these proposed regulations
will be submitted to the Chief Counsel for
Advocacy of the Small Business Admin-
istration for comment on their impact on
small business.
Public Comment
Before these proposed regulations are
adopted as final regulations, consideration
will be given to any written comments
(a signed original and eight (8) copies)
or electronic comments that are submitted
timely to the IRS. All comments will be
made available for public inspection and
copying. A public hearing may be sched-
uled. If a public hearing is scheduled, no-
tice of the date, time,and place for the pub-
July 12, 2004372004–28 I.R.B.

lic hearing will be published in theFederal
Register.
Drafting Information
The principal author of these regula-
tions is Marie Byrne of the Office of As-
sociate Chief Counsel(Corporate). Other
personnel from Treasury and the IRS par-
ticipated in their development.
*****
Proposed Amendments to the
Regulations
Accordingly, 26 CFR part 1 is proposed
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 1.1374–3 is amended
by:
1. Revising paragraph (b).
2. Adding paragraph (c).
The revision and addition read as fol-
lows:
§1.1374–3 Net unrealized built-in gain.
*****
(b)Adjustment to net unrealized
built-in gain—(1)In general. If sec-
tion 1374(d)(8) applies to an S corpora-
tion’s acquisition of assets, some or all of
the stock of the corporation from which
such assets were acquired was taken into
account in the computation of the net un-
realized built-in gain for a pool of assets
of the S corporation, and some or all of
such stock is redeemed or canceled in such
transaction, then, subject to the limitations
of paragraph (b)(2) of this section, such
net unrealized built-gain is adjusted to
eliminate any effect any built-in gain or
built-in loss in the redeemed or canceled
stock (other than stock with respect to
which a loss under section 165 is claimed)
had on the initial computation of net unre-
alized built-in gain for that pool of assets.
For purposes of this paragraph, stock
described in section 1374(d)(6) shall be
treated as taken into account in the com-
putation of the net unrealized built-in gain
for a pool of assets of the S corporation.
(2)Limitations on adjustment—(i)
Recognized built-in gain or loss.Net
unrealized built-in gain for a pool of as-
sets of the S corporation is only adjusted
under paragraph (b)(1) of this section to
reflect built-in gain or built-in loss in the
redeemed or canceled stock that has not
resulted in recognized built-in gain or
recognized built-in loss during the recog-
nition period.
(ii)Anti-duplication rule. Paragraph
(b)(1) of this section shall not be applied
to duplicate an adjustment to the net un-
realized built-in gain for a pool of assets
made pursuant to paragraph (b)(1) of this
section.
(3)Effect of adjustment.Anyadjust-
ment to the net unrealized built-in gain
made pursuant to this paragraph (b) only
affects computations of the amount subject
to tax under section 1374 for taxable years
that end on or after the date of the acquisi-
tion to which section 1374(d)(8) applies.
(4)Pool of assets. For purposes of this
section, a pool of assets means —
(i) The assets held by the corporation on
the first day it became an S corporation, if
the corporation was previously a C corpo-
ration; or
(ii) The assets the S corporation ac-
quired from a C corporationinasection
1374(d)(8) transaction.
(c)Examples. The following examples
illustrate the rules of this section:
Example 1.Computation of net unrealized
built-in gain. (i)(A) X, a calendar year C corporation
using the cash method, elects to become an S corpo-
ration on January 1, 1996. On December 31, 1995,
X has assets and liabilities as follows:
AssetsFMVBasis
Factory
$500,000$900,000
Accounts Receivable300,0000
Goodwill
250,000
0
Total
1,050,000
900,000
LiabilitiesAmount
Mortgage
$200,000
Accounts Payable100,000
Total300,000
(B) Further, X must include a total of $60,000 in
taxable income in 1996, 1997, and 1998 under section
481(a).
(ii) If, on December 31, 1995, X sold all its assets
to a third party that assumed all its liabilities, X’s
amount realized would be $1,050,000 ($750,000
cash received + $300,000 liabilities assumed =
$1,050,000). Thus, X’s net unrealized built-in gain
is determined as follows:
Amount realized
$1,050,000
Deduction allowed(100,000)
Basis of X’s assets(900,000)
Section 481 adjustments60,000
Net unrealized built-in gain110,000
Example 2.Adjustment to net unrealized built-in
gain for built-in gain in eliminated C corporation
stock. (i) X, a calendar year C corporation, elects to
become an S corporation effective January 1, 2005.
On that date, X’s assets (the first pool of assets) have
a net unrealized built-in gain of $15,000. Among the
2004–28 I.R.B.38July 12, 2004

assets in the first pool of assets is all of the outstand-
ing stock of Y, a C corporation, with a fair market
value of $33,000 and an adjusted basis of $18,000.
On March 1, 2009, X sells an asset that it owned on
January 1, 2005, and as a result has $10,000 of rec-
ognized built-in gain. X has had no other recognized
built-in gain or built-in loss. X’s taxable income lim-
itation for 2009 is $50,000. Effective June 1, 2009, X
elects under section 1362 to treat Y as a qualified sub-
chapter S subsidiary (QSub). The election is treated
as a transfer of Y’s assets to X in a liquidation to
which sections 332 and 337(a) apply.
(ii) Under paragraph (b) of this section, the net
unrealized built in-gain of the first pool of assets is
adjusted to account for the elimination of the Y stock
in the liquidation. The net unrealized built-in gain
of the first pool of assets, therefore, is decreased by
$15,000, the amount by which the fair market value of
the Y stock exceeded its adjusted basis as of January
1, 2005. Accordingly, for taxable years ending after
June 1, 2009, the net unrealized built-in gain of the
firstpoolofassetsis$0.
(iii) Under §1.1374–2(a), X’s net recognized
built-in gain for any taxable year equals the least
of X’s pre-limitation amount, taxable income lim-
itation, and net unrealized built-in gain limitation.
In 2009, X’s pre-limitation amount is $10,000, X’s
taxable income limitation is $50,000, and X’s net
unrealized built-in gain limitation is $0. Because
the net unrealized built-in gain of the first pool of
assets has been adjusted to $0, despite the $10,000
of recognized built-in gain in 2009, X has $0 net
recognized built-in gain for the taxable year ending
on December 31, 2009.
Example 3.Adjustment to net unrealized built-in
gain for built-in loss in eliminated C corporation
stock. (i) X, a calendar year C corporation, elects to
become an S corporation effective January 1, 2005.
On that date, X’s assets (the first pool of assets) have
a net unrealized built-in gain of negative $5,000.
Among the assets in the first pool of assets is 10 per-
cent of the outstanding stock of Y, a C corporation,
with a fair market value of $18,000 and an adjusted
basis of $33,000. On March 1, 2009, X sells an asset
that it owned on January 1, 2005, resulting in $8,000
of recognized built-in gain. X has had no other rec-
ognized built-in gains or built-in losses. X’s taxable
income limitation for 2009 is $50,000. On June 1,
2009, Y transfers its assetsto X in a reorganization
under section 368(a)(1)(C).
(ii) Under paragraph (b) of this section, the net
unrealized built in-gain of the first pool of assets is
adjusted to account for the elimination of the Y stock
in the reorganization. The net unrealized built-in gain
of the first pool of assets, therefore, is increased by
$15,000, the amount by which the adjusted basis of
the Y stock exceeded its fair market value as of Jan-
uary 1, 2005. Accordingly, for taxable years ending
after June 1, 2009, the net unrealized built-in gain of
the first pool of assets is $10,000.
(iii) Under §1.1374–2(a), X’s net recognized
built-in gain for any taxable year equals the least of
X’s pre-limitation amount, taxable income limitation,
and net unrealized built-in gain limitation. In 2009,
X’s pre-limitation amount is $8,000 and X’s taxable
income limitation is $50,000. The net unrealized
built-in gain of the first pool of assets has been ad-
justed to $10,000, so X’s net unrealized built-in gain
limitation is $10,000. X, therefore, has $8,000 net
recognized built-in gain for the taxable year ending
on December 31, 2009. X’s net unrealized built-in
gain limitation for 2010 is $2,000.
Example 4.Adjustment to net unrealized built-in
gain in case of prior gain recognition.(i)X,acal-
endar year C corporation, elects to become an S cor-
poration effective January 1, 2005. On that date, X’s
assets (the first pool of assets) have a net unrealized
built-in gain of $30,000. Among the assets in the first
pool of assets is all of the outstanding stock of Y, a C
corporation, with a fair market value of $45,000 and
an adjusted basis of $10,000. Y has no current or ac-
cumulated earnings and profits. On April 1, 2007, Y
distributes $18,000 to X, $8,000 of which is treated
as gain to X from the sale or exchange of property
under section 301(c)(3). That $8,000 is recognized
built-in gain to X under section 1374(d)(3), and re-
sults in $8,000 of net recognized built-in gain to X
for 2007. X’s net unrealized built-in gain limitation
for 2008 is $22,000. On June 1, 2009, Y transfers its
assets to X in a liquidation to which sections 332 and
337(a) apply.
(ii) Under paragraph (b) of this section, the net
unrealized built in-gain of the first pool of assets is
adjusted to account for the elimination of the Y stock
in the liquidation. The net unrealized built-in gain of
that pool of assets, however, can only be adjusted to
reflect the amount of built-in gain that was inherent in
the Y stock on January 1, 2005, that has not resulted
in recognized built-in gain during the recognition pe-
riod. In this case, therefore, the net unrealized built-in
gain of the first pool of assets cannot be reduced by
more than $27,000 ($35,000, the amount by which
the fair market value of the Y stock exceeded its ad-
justed basis as of January 1, 2005, minus $8,000, the
recognized built-in gain with respect to the stock dur-
ing the recognition period). Accordingly, for taxable
years ending after June 1,2009, the net unrealized
built-in gain of the first pool of assets is $3,000. The
net unrealized built-in gain limitation for 2009 is $0.
Par. 3. Paragraph (a) of §1.1374–10 is
revised to read as follows:
§1.1374–10 Effective date and additional
rules.
(a)In general. Sections 1.1374–1
through 1.1374–9,other than
§1.1374–3(b) and (c)Examples 2
through4, apply for taxable years ending
on or after December 27, 1994, but only
in cases where the S corporation’s return
for the taxable year is filed pursuant to an
S election or a section 1374(d)(8) transac-
tion occurring on or after December 27,
1994. Section 1.1374–3(b) and (c)Exam-
ples 2through4apply for taxable years
beginning after the date these regulations
are published as final regulations in the
Federal Register.
*****
Mark E. Matthews,
Deputy Commissioner for
Services and Enforcement.
(Filed by the Office of the Federal Register on June 24, 2004,
8:45 a.m., and published in the issue of the Federal Register
for June 25, 2004, 69 F.R. 35544)
Notice of Proposed
Rulemaking
Stock Held by Foreign
Insurance Companies
REG–117307–04
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemaking.
SUMMARY: This document contains a
proposed regulation relating to the deter-
mination of income of foreign insurance
companies that is effectively connected
with the conduct of a trade or business
within the United States. The regulation
provides that the exception to the asset-use
test for stock shall not apply in determin-
ing whether the income, gain, or loss from
portfolio stock held by foreign insurance
companies constitutes effectively con-
nected income.
DATES: Written or electronic comments
and requests for a public hearing must be
received by September 23, 2004.
ADDRESSES: Send submissions to:
CC:PA:LPD:PR (REG–117307–04), room
5203, Internal Revenue Service, PO Box
7604, Ben Franklin Station, Washing-
ton, DC 20044. Submissions may be
hand-delivered Monday through Friday
between the hours of 8 a.m. and 4 p.m.
to CC:PA:LPD:PR (REG–117307–04),
Courier’s Desk, Internal Revenue Service,
1111 Constitution Avenue, NW, Washing-
ton, DC, or sent electronically, via the IRS
Internet site atwww.irs.gov/regsor via the
Federal eRulemaking Portal atwww.regu-
lations.gov(IRS and REG–117307–04).
FOR FURTHER INFORMATION
CONTACT: Concerning the regulations,
Sheila Ramaswamy, at (202) 622–3870;
concerning submissions and delivery of
comments, Robin Jones, 202–622–7180
(not toll-free numbers).
July 12, 2004392004–28 I.R.B.

SUPPLEMENTARY INFORMATION:
Background
In 1992, the Treasury Department
and the IRS published proposed regula-
tions under section 864 providing that
stock is not treated as an asset used in,
or held for use in, the conduct of a trade
or business in the United States. Pro-
posed §1.864–4(c)(2)(ii)(C). The notice of
proposed rulemaking solicited comments
regarding the appropriate treatment of
income from portfolio stock investments
of insurance companies. The Treasury
Department and the IRS published final
regulations in 1996 which adopted the
general rule in the proposed regulations
that stock is not treated as an asset used
in, or held for use in, the conduct of a U.S.
trade or business. T.D. 8657, 1996–1 C.B.
153. The final regulations reserved on the
treatment of stock held by a foreign in-
surance company. §1.864–4(c)(2)(iii)(b).
This proposed regulation sets forth cir-
cumstances in which stock held by a for-
eign insurance company is not subject to
the general rule in §1.864–4(c)(2)(iii)(a),
which provides that stock is not an asset
used in a U.S. trade or business.
Explanation of Provisions
In the case of a foreign corporation
engaged in a trade or business within the
United States during the taxable year, sec-
tion 864(c)(2) generally provides rules for
determining whether certain fixed or deter-
minable, annual or periodical income from
sources within the United States or gain or
loss from sources within the United States
from sale or exchange of capital assets
is income effectively connected with the
conduct of a trade or business in the United
States. Section 864(c)(2). In making this
determination, the factors taken into ac-
count include whether (a) the income,
gain or loss is derived from assets used
in or held for use in the conduct of such
trade or business (the asset-use test), or
(b) the activities of such trade or business
were a material factor in the realization
of such income, gain or loss. Section
864(c)(2). Section 1.864–4(c)(2)(iii)(a)
generally provides that stock of a corpora-
tion (whether domestic or foreign) is not an
assetusedinorheldforuseintheconduct
of a trade or business in the United States
except as provided in (c)(2)(iii)(b). Sec-
tion 1.864–4(c)(2)(iii)(b) entitled “Stock
Held by Foreign Insurance Companies” is
reserved.
Insurance companies hold investment
assets, such as stocks and bonds, to fund
their obligations to policyholders and to
meet their surplus (capital) requirements.
Thus, stock held in an investment portfolio
maybeanassetheldforuseinthetradeor
business of a foreign insurance company.
By contrast, stock of a subsidiary generally
is not held for the purpose of meeting an
insurance company’s business needs.
This proposed regulation provides that
the general rule excluding stock from the
asset-use test does not apply to stock held
by a foreign insurance company unless
such company owns directly, indirectly, or
constructively 10 percent or more of the
vote or value of the company’s stock. The
10-percent threshold is intended to distin-
guishportfoliostockheldtofundpoli-
cyholder obligations and surplus require-
ments from investments in a subsidiary.
Comments are requested as to whether this
10-percent threshold provides an appropri-
ate standard for determining whether stock
is a portfolio investment for these pur-
poses.
Proposed Effective Date
This regulation is proposed to apply to
taxable periods beginning on or after the
date of publication of a Treasury decision
adopting this rule as a final regulation in
theFederal Register.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a significant
regulatory action as defined in Executive
Order 12866. Therefore, a regulatory as-
sessment is not required. It has also been
determined that section 553(b) of the Ad-
ministrative Procedure Act (5 U.S.C. chap-
ter 5) does not apply to these regulations,
and because these regulations do not im-
pose a collection of information on small
entities, the provisions of the Regulatory
Flexibility Act (5 U.S.C. chapter 6) do not
apply. Pursuant to section 7805(f) of the
Internal Revenue Code, this notice of pro-
posed rulemaking will be submitted to the
Chief Counsel for Advocacy of the Small
Business Administration for comment on
its impact on small business.
Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, considera-
tion will be given to any written (a signed
original and eight (8) copies) or electronic
comments that are submitted timely to
the IRS. The IRS and Treasury Depart-
ment request comments on the clarity of
the proposed rules and how they can be
made easier to understand. All comments
will be available for public inspection and
copying. A public hearing may be sched-
uled if requested in writing by any person
that timely submits written comments. If a
public hearing is scheduled, notice of the
date, time, and place for a public hearing
will be published in theFederal Register.
Drafting Information
The principal author of these proposed
regulations is Sheila Ramaswamy, Office
of Associate Chief Counsel (Interna-
tional). However, other personnel from
the IRS and Treasury Department partici-
pated in their development.
*****
Proposed Amendment to the
Regulations
Accordingly, 26 CFR part 1 is proposed
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. In §1.864–4, paragraph
(c)(2)(iii)(b) is revised to read as follows:
§1.864–4 U.S. source income effectively
connected with U.S. business.
*****
(c) * * *
(2) * * *
(iii) * * *
(b) Paragraph (c)(2)(iii) of this section
shall not apply to stock of a corporation
(whether domestic or foreign) held by a
foreign insurance company unless the for-
eign insurance company owns 10 percent
or more of the total voting power or value
of all classes of stock of such corpora-
tion. For purposes of this section, sec-
tion 318(a) shall be applied in determin-
2004–28 I.R.B.40July 12, 2004

ing ownership, except that in applying sec-
tion 318(a)(2)(C), the phrase “10 percent”
is used instead of the phrase “50 percent.”
*****
Mark E. Matthews,
Deputy Commissioner for
Services and Enforcement.
(Filed by the Office of the Federal Register on June 24, 2004,
8:45 a.m., and published in the issue of the Federal Register
for June 25, 2004, 69 F.R. 35543)
Suspension of Tax-Exempt
Status of an Organization
Identified With Terrorism
Announcement 2004–56
I. Purpose
This announcement is a public notice of
the suspension under section 501(p) of the
Internal Revenue Code of the federal tax
exemption of a certain organization that
has been designated as supporting or en-
gaging in terrorist activity or supporting
terrorism. Contributions made to an organ-
ization during the period that the organiza-
tion’s tax-exempt status is suspended are
not deductible for federal tax purposes.
II. Background
The federal government has designated
a number of organizations as supporting or
engaging in terrorist activity or supporting
terrorism under the Immigration and Na-
tionality Act, the International Emergency
Economic Powers Act, and the United Na-
tions Participation Act of 1945. Federal
law prohibits most contributions to orga-
nizations that have been so designated.
Section 501(p) of the Code was enacted
as part of the Military Family Tax Relief
Act of 2003 (P.L. 108–121), effective
November 11, 2003. Section 501(p)(1)
suspends the exemption from tax un-
der section 501(a) of any organization
describedinsection501(p)(2).Anorgan-
ization is described in section 501(p)(2)
if the organization is designated or oth-
erwise individuallyidentified (1) under
certain provisions of the Immigration and
Nationality Act as a terrorist organization
or foreign terrorist organization; (2) in or
pursuant to an Executive Order which is
related to terrorism and issued under the
authority of the International Emergency
Economic Powers Act or section 5 of the
United Nations Participation Act of 1945
for the purpose of imposing on such or-
ganization an economic or other sanction;
or (3) in or pursuant to an Executive Order
issued under the authority of any federal
law, if the organization is designated or
otherwise individually identified in or pur-
suant to the Executive Order as supporting
or engaging in terrorist activity (as de-
fined in the Immigration and Nationality
Act) or supporting terrorism (as defined in
the Foreign Relations Authorization Act)
and the Executive Order refers to section
501(p)(2).
Under section 501(p)(3) of the Code,
suspension of an organization’s tax ex-
emption begins on the date of the first pub-
lication of a designation or identification
with respect to the organization, as de-
scribed above, or the date on which section
501(p) was enacted, whichever is later.
This suspension continues until all desig-
nations and identifications of the organiza-
tion are rescinded under the law or Exec-
utive Order under which such designation
or identification was made.
Under section 501(p)(4) of the Code,
no deduction is allowed under any pro-
vision of the Internal Revenue Code for
any contribution to an organization during
any period in which the organization’s
tax exemption is suspended under section
501(p). Thus, for example, no charitable
contribution deduction is allowed under
section 170 (relating to the income tax),
section 545(b)(2) (relating to undistributed
personal holding company income), sec-
tion 556(b)(2) (relating to undistributed
foreign personal holding company in-
come), section 642(c) (relating to chari-
table set asides), section 2055 (relating to
the estate tax), section 2106(a)(2) (relating
to the estate tax for nonresident aliens)
andsection2522(relatingtothegifttax)
for contributions made to the organization
during the suspension period.
Prior to the effective date of suspen-
sion of exemption under section 501(p),
the organization listed below was desig-
nated under Executive Order 13224, en-
titled “Blocking Property and Prohibiting
Transactions With Persons Who Commit,
Threaten To Commit, or Support Terror-
ism.” Contributions made to this organi-
zation in violation of the Executive Or-
der prior to this suspension are not tax de-
ductible under the Internal Revenue Code.
III. Notice of Suspension and
Nondeductibility of Contributions
The organization whose tax exemption
has been suspended under section 501(p)
and the effective date of such suspension
is listed below. Contributions made to this
organization during the period of suspen-
sion are not deductible for federal tax pur-
poses.
Rabbi Meir Kahana Memorial Fund
Cedarhurst, New York
Effective Date: November 11, 2003
IV. Federal Tax Filings
An organization whose exempt status
has been suspended under section 501(p)
does not file Form 990 and is required to
file the appropriate Federal income tax re-
turns for the taxable periods beginning on
the date of the suspension. The organi-
zation must continue to file all other ap-
propriate federal tax returns, including em-
ployment tax returns, and may also have to
file federal unemployment tax returns.
V. Contact Information
For additional information regarding
the designation or identification of an or-
ganization described in section 501(p)(2),
contact the Compliance Division at the Of-
fice of Foreign Assets Control of the U.S.
Treasury Department at 202–622–2490.
Additional information is also avail-
able for download from the Office’s
Internet Home Page atwww.treas.gov/
offices/eotffc/ofac/index.html
For additional information regarding
the suspension of the federal tax exemp-
tion of an organization under section
501(p), contact Ward L. Thomas at (202)
283–8913 at the Internal Revenue Service.
July 12, 2004412004–28 I.R.B.

Definition of Terms
Revenue rulings and revenue procedures
(hereinafter referred to as “rulings”) that
have an effect on previous rulings use the
following defined terms to describe the ef-
fect:
Amplifieddescribes a situation where
no change is being made in a prior pub-
lished position, but the prior position is be-
ingextendedtoapplytoavariationofthe
fact situation set forth therein. Thus, if
an earlier ruling held that a principle ap-
plied to A, and the new ruling holds that the
same principle also applies to B, the earlier
ruling is amplified. (Compare withmodi-
fied,below).
Clarifiedis used in those instances
where the language in a prior ruling is be-
ing made clear because the language has
caused, or may cause, some confusion.
It is not used where a position in a prior
ruling is being changed.
Distinguisheddescribes a situation
where a ruling mentions a previously pub-
lished ruling and points out an essential
difference between them.
Modifiedis 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 applies to both A
and B, the prior ruling is modified because
it corrects a published position. (Compare
withamplifiedandclarified, above).
Obsoleteddescribes 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 rul-
ings that are obsoleted because of changes
in laws or regulations. A ruling may also
be obsoleted because the substance has
been included in regulations subsequently
adopted.
Revokeddescribes situations where the
position in the previously published ruling
is not correct and the correct position is
beingstatedinanewruling.
Supersededdescribes a situation where
the new ruling does nothing more than re-
state the substance and situation of a previ-
ously published ruling (or rulings). Thus,
the term is used to republish under the
1986 Code and regulations the same po-
sition published under the 1939 Code and
regulations. The term is also used when
it is desired to republish in a single rul-
ing a series of situations, names, etc., that
were previously published over a period of
time in separate rulings. If the new rul-
ing does more than restate the substance
of a prior ruling, a combination of terms
is used. For example,modifiedandsu-
persededdescribes a situation where the
substance of a previously published 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 pub-
lished ruling is first modified and then, as
modified, is superseded.
Supplementedis 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 rul-
ing has been supplemented several times, a
new ruling may be published that includes
the list in the original ruling and the ad-
ditions, and supersedes all prior rulings in
the series.
Suspendedis used in rare situations
to show that the previous published rul-
ings 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 fol
lowing abbreviations in current use
and for
merly used will appear in material
publis
hedintheBulletin.
A—Individual.
Acq.—A
cquiescence.
B—Individual.
BE—Beneficiary.
BK—Bank
.
B.T.A.—Board of Tax Appeals.
C—Individual.
C.B.—Cu
mulative Bulletin.
CFR—Code of Federal Regulations.
CI—City.
COOP—Coo
perative.
Ct.D.—Court Decision.
CY—County.
D—Decede
nt.
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—Emp
loyer.
ERISA—Employee Retirement Income Security Act.
EX—Executor.
F—Fiduc
iary.
FC—Foreign Country.
FICA—Federal Insurance Contributions Act.
FISC—Fo
reign International Sales Company.
FPH—Foreign Personal Holding Company.
F.R.—Federal Register.
FUTA—Fed
eral Unemployment Tax Act.
FX—Foreign corporation.
G.C.M.—Chief Counsel’s Memorandum.
GE—Grante
e.
GP—General Partner.
GR—Grantor.
IC—Insura
nce Company.
I.R.B.—Internal Revenue Bulletin.
LE—Lessee.
LP—Limited
Partner.
LR—Lessor.
M—Minor.
Nonacq.—No
nacquiescence.
O—Organization.
P—Parent Corporation.
PHC—Persona
l Holding Company.
PO—Possession of the U.S.
PR—Partner.
PRS—Pa
rtnership.
PTE—Prohibited Transaction Exemption.
Pub. L.—Public Law.
REIT—Re
al Estate Investment Trust.
Rev. Proc.—Revenue Procedure.
Rev. Rul.—Revenue Ruling.
S—Subsi
diary.
S.P.R.—Statement of Procedural Rules.
Stat.—Statutes at Large.
T—Target
Corporation.
T.C.—Tax Court.
T.D.—Treasury Decision.
TFE—Trans
feree.
TFR—Transferor.
T.I.R.—Technical Information Release.
TP—Taxpay
er.
TR—Trust.
TT—Trustee.
U.S.C.—Uni
ted States Code.
X—Corporation.
Y—Corporation.
Z—Corporat
ion.
2004–28 I.R.B.iJuly 12, 2004

Numerical Finding List
1
Bulletins 2004–27 through 2004–28
Announcements:
2004-55, 2004-27 I.R.B.15
2004-56, 2004-28 I.R.B.41
2004-57, 2004-27 I.R.B.15
Notices:
2004-41, 2004-28 I.R.B.31
2004-43, 2004-27 I.R.B.10
2004-44, 2004-28 I.R.B.32
2004-45, 2004-28 I.R.B.33
Proposed Regulations:
REG-131486-03, 2004-28 I.R.B.36
REG-117307-04, 2004-28 I.R.B.39
Revenue Procedures:
2004-38, 2004-27 I.R.B.10
Revenue Rulings:
2004-63, 2004-27 I.R.B.6
2004-64, 2004-27 I.R.B.7
2004-65, 2004-27 I.R.B.1
2004-66, 2004-27 I.R.B.4
2004-67, 2004-28 I.R.B.28
Treasury Decisions:
9131, 2004-27 I.R.B.2
9132, 2004-28 I.R.B.16
9133, 2004-28 I.R.B.25
1
A cumulative list of all revenue rulings, revenueprocedures, Treasury decisions, etc., publishedin Internal Revenue Bulletins 2004–1 through 2004–26 is in Internal Revenue Bulletin
2004–26, dated June 28, 2004.
July 12, 2004ii2004–28 I.R.B.

Findings List of Current Actions on
Previously Published Items
1
Bulletins 2004–27 through 2004–28
Revenue Procedures:
94-64
Superseded by
Rev. Proc. 2004-38, 2004-27 I.R.B.10
Revenue Rulings:
81-100
Clarified and modified by
Rev. Rul. 2004-67, 2004-28 I.R.B.28
1
A cumulative list of current actions on previously published items in Internal Revenue Bulletins 2004–1 through 2004–26 is in Internal Revenue Bulletin 2004–26, dated June 28, 2004.
2004–28 I.R.B.iiiJuly 12, 2004
*U.S. Government Printing Office: 2004—304–778/60143