Internal Revenue Bulletin 2007-41 (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
7-41
October 9, 2007
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
Rev. Rul. 2007–62, page 767.
Low-income housing credit; satisfactory bond; “bond
factor” amounts for the period January through De-
cember 2007.This ruling provides the monthly bond factor
amounts to be used by taxpayers who dispose of qualified
low-income buildings or interests therein during the period
January through December 2007.
Rev. Rul.
2007–63, page 778.
Federal ra
tes; adjusted federal rates; adjusted federal
long-ter
mrateandthelong-termexemptrate.For pur-
poses of s
ections 382, 642, 1274, 1288, and other sections
of the Cod
e, tables set forth the rates for October 2007.
T.D. 9354, page 759.
Final regulations under section 21 of the Code conform the
rules relating to the child and dependent care credit to statu-
tory changes, including amendments under the Working Fam-
ilies Tax Relief Act of 2004, and address significant issues
that have arisen administratively. The regulations are renum-
bered to conform to the renumbering of the statute. Rev. Ruls.
76–278 and 76–288 obsoleted.
T.D. 9357, page 773.
Final regulations under section 853 of the Code generally elim-
inate country-by-country reporting, by a regulated investment
company (RIC) to its shareholders, of foreign source income
that the RIC takes into account and foreign taxes that it pays.
T.D. 93
58, page 769.
Final r
egulations under section 338 of the Code permit taxpay-
ers to e
lect to modify the application of the ADSP and AGUB
alloca
tion rules of regulations section 1.338–6 as regards nu-
clear decommissioning funds that do not qualify under section
468A. The election is available in both section 338 and 1060
transactions (in a section 1060 transaction, the election affects
allocation of amount realized and basis rather than ADSP and
AGUB).
REG–143397–05, page 790.
Proposed regulations contain rules on the application of section
704(c)(1)(B) and 737 of the Code to distributions of property
after two partnerships engage in an assets-over merger. The
regulations provide that section 704(c)(1)(B) applies to newly
created section 704(c) gain or loss in property contributed by
the transferor partnership to the continuing partnership in an
assets-over merger, but does not apply to newly created re-
verse section 704(c) gain or loss resulting from a revaluation
of property in the continuing partnership. They also provide
that for purposes of section 737(b), net precontribution gain
includes newly created section 704(c) gain or loss in property
contributed by the transferor partnership to the continuing part-
nershipinanasset-overmerger,butdoesnotincludenewly
created reverse section 704(c) gain or loss resulting from a
revaluation of property in the continuing partnership. A public
hearing is scheduled for December 5, 2007.
Notice 2007–78, page 780.
This notice provides transition relief and additional guidance on
the application of section 409A of the Code to nonqualified de-
ferred compensation plans. The notice generally extends to
December 31, 2008, the deadline to adopt documents that
comply with section 409A, subject to limited requirements re-
garding the timely written designation of a time and form of pay-
ment. The notice also provides guidance addressing certain is-
sues raised by the application to employment agreements and
cashout features of section 409A and the final regulations, and
the application of section 409A(b) to certain trusts and other
arrangements to pay for nonqualified deferred compensation.
(Continued on the next page)
Fi
nding Lists begin on page ii.

EMPLOYEE PLANS
Notice 2007–78, page 780.
This notice provides transition relief and additional guidance on
the application of section 409A of the Code to nonqualified de-
ferred compensation plans. The notice generally extends to
December 31, 2008, the deadline to adopt documents that
comply with section 409A, subject to limited requirements re-
garding the timely written designation of a time and form of pay-
ment. The notice also provides guidance addressing certain is-
sues raised by the application to employment agreements and
cashout features of section 409A and the final regulations, and
the application of section 409A(b) to certain trusts and other
arrangements to pay for nonqualified deferred compensation.
EXEMPT ORGANIZATIONS
Announcement 2007–89, page 798.
The IRS has revoked its determination that Vietnam Chinese Mu-
tual Aid & Friendship Association of San Francisco, CA; Fairdale
Athletic Club, Inc., of Louisville, KY; and Good Schools For All
of San Francisco, CA, qualify as organizations described in sec-
tions 501(c)(3) and 170(c)(2) of the Code.
ADMINISTR
ATIVE
Rev. Proc.
2007–62, page 786.
This proce
dure supplements Rev. Proc. 2003–43 and Rev.
Proc. 2004
–48 and provides an additional simplified method
for certa
in eligible entities to request relief for late S corpo-
ration el
ections and late entity classification elections. Rev.
Procs. 20
03–43 and 2004–48 supplemented.
Announcement 2007–84, page 797.
This document contains corrections to final and temporary reg-
ulations (T.D. 9332, 2007–32 I.R.B. 300) that relate to the ex-
clusion from gross income of income derived by certain foreign
corporations engaged in the international operation of ships or
aircraft.
October 9, 20072007–41 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.
2007–41 I.R.B.October 9, 2007

October 9, 20072007–41 I.R.B.

Part I. Rulings and Decisions Under the Internal Revenue Code
of 1986
Section 21.—Expenses for
Household and Dependent
Care Services Necessary
for Gainful Employment
26 CFR 1.21–1: Expenses for household and depen-
dent care services necessary for gainful employment.
T.D. 9354
DEPARTMENT OF
THE TREASURY
Internal Revenue Service
26 CFR Parts 1 and 602
Expenses for Household and
Dependent Care Services
Necessary for Gainful
Employment
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Final regulations.
SUMMARY: This document contains fi-
nal regulations regarding the credit for ex-
penses for household and dependent care
services necessary for gainful employ-
ment. The regulations reflect statutory
amendments under the Deficit Reduction
Act of 1984, the Tax Reform Act of 1986,
the Omnibus Budget Reconciliation Act
of 1987, the Family Support Act of 1988,
the Small Business Job Protection Act
of 1996, the Economic Growth and Tax
Relief Reconciliation Act of 2001, the Job
Creation and Worker Assistance Act of
2002, the Working Families Tax Relief
Act of 2004, and the Gulf Opportunity
Zone Act of 2005. The regulations affect
taxpayers who claim the credit for ex-
penses for household and dependent care
services, and dependent care providers.
DATES:Effective Date:These regulations
are effective August 14, 2007.
Applicability Date:For date of applica-
bility, see §1.21–1(l).
FOR FURTHER INFORMATION
CONTACT: Amy Pfalzgraf, (202)
622–4960 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
This document contains final amend-
ments to the Income Tax Regulations, 26
CFR part 1, relating to the credit for ex-
penses for household and dependent care
services necessary for gainful employment
(the credit) under section21oftheInternal
Revenue Code (Code).
On May 24, 2006, a notice of proposed
rulemaking (REG–139059–02, 2006–1
C.B. 1052) regarding the credit was pub-
lished in theFederal Register(71 FR
29847). Written and electronic comments
responding to the notice of proposed rule-
making were received. No public hearing
was requested or held. After consider-
ation of all the comments, the proposed
regulations are adopted as amended by
this Treasury decision. The comments and
revisions are discussed in the preamble.
Explanation of Provisions and
Summary of Comments
1.Time of Payment and Performance of
Services
Section 21(b)(2) provides, in part, that
employment-related expenses are amounts
paid to enable a taxpayer to be gainfully
employed for a period for which there are
one or more qualifying individuals with re-
spect to a taxpayer. The proposed regula-
tions provide that a taxpayer may take ex-
penses into account under section 21 only
in the later of the taxable year the services
are performed or the taxable year the ex-
penses are paid. The proposed regulations
also provide that the status of an individual
as a qualifying individual is determined on
a daily basis, that a taxpayer may take into
account only expenses that qualify before a
disqualifying event, such as a child turning
13, and that the requirements of section 21
and the regulations are applied at the time
the services are performed, regardless of
when the expenses are paid.
A verbal comment inquired whether, to
be creditable, expenses must be paid and
services must be performed before a dis-
qualifying event.
The determination of whether expenses
qualify as employment-related expenses,
including whether an individual is a quali-
fying individual, can be made only at the
time services are performed. Only ex-
penses for the care of a qualifying individ-
ual that are for the purpose of enabling the
taxpayer to be gainfully employed qualify
for the credit. Therefore, services must be
performed prior to a disqualifying event
and at a time when the purpose is to enable
the taxpayer to be gainfully employed. For
purposes of determining whether expenses
are employment-related expenses, the time
of payment is irrelevant, although payment
must be made before the credit is claimed.
The final regulations provide examples to
illustrate these rules.
2.Care of Qualifying Individual and
Household Services
Under section 21(b)(2)(A), expenses
are employment-related only if the ex-
penses are primarily for household ser-
vices or for the care of a qualifying indi-
vidual. The proposed regulations provide
that the primary purpose of expenses for
the care of a qualifying individual must be
to assure that individual’s well-being and
protection.
a.Costs for education
The proposed regulations provide that
expenses for a child in nursery school, pre-
school, or similar programs for children
below the kindergarten level are for the
care of a qualifying individual and may be
employment-related expenses. Expenses
for a child in kindergarten or a higher grade
are not for care and therefore, are not em-
ployment-related expenses. However, ex-
penses for before- or after-school care of a
child in kindergarten or a higher grade may
be for care.
Commentators noted that some public
school systems offer only half-day kinder-
garten, and that some parents send their
children to private kindergarten because it
offers a full-day program. Under the pro-
posed regulations, a parent whose child
attends a half-day kindergarten may claim
the credit for the cost of an afternoon af-
ter-school program. However, a parent
2007–41 I.R.B.759October 9, 2007

whose child attends a full-day private
kindergarten may not claim the credit for
the cost of services performed in the after-
noon, because the services are part of the
kindergarten program and not after-school
care. Commentators suggested that tax-
payers who send their children to full-day
private kindergarten should be allowed
some apportionment of expenses for the
afternoon portion of the kindergarten.
The final regulations do not adopt this
comment. Kindergarten programs are pri-
marily educational. See, for example, sec-
tion 62(d)(1) (definitions of eligible edu-
cator and school) and section 530(b)(3)(B)
(definition of school). Although nursery
school and other programs below the level
of kindergarten also may include signifi-
cant educational elements, for administra-
tive convenience the proposed regulations
treat these programs as for care. The final
regulations retain these rules for greater
ease of administration.
A commentator suggested that amounts
paid for sending a child to a private school
by a taxpayer living overseas should be an
employment-related expense if public ed-
ucation is not available. The final regula-
tions do not adopt this comment. Employ-
ment-related expenses must be for the care
of a qualifying individual and may not be
for other services such as education.
b.Specialty day camps
The proposed regulations provide that
the full amount paid for a day camp or
similar program may be for the care of
a qualifying individual although the camp
specializes in a particular activity, such
as soccer or computers. For administra-
tive convenience, no allocation is required
in this situation between the cost of care
and amounts paid for learning a special-
ized skill.
A verbal comment requested that the
regulations clarify that summer school is
not day camp and that the cost of summer
school is not creditable. Another commen-
tator commended the proposed regulations
for allowing the credit for the cost of “ed-
ucation day camps” that focus on reading,
math, writing, and study skills.
The final regulations retain the rule
that no allocation is required for the cost
of a specialty day camp, but clarify that
expenses for summer school and tutor-
ing programs are not creditable. Summer
school and tutoring programs are indistin-
guishable from school and are education,
not care. The final regulations provide
examples to illustrate these rules.
Section 21(b)(2)(C) provides, in part,
that the cost of services performed by a
dependent care center are employment-re-
lated expenses only if the dependent care
center complies with the applicable laws
of the state and local government. A com-
mentator requested that the regulations
clarify whether a day camp is a depen-
dent care center and must comply with
this requirement. The final regulations
clarify that the requirements of section
21(b)(2)(C) apply to day camps that meet
the definition of dependent care center in
section 21(b)(2)(D).
c.Sick child centers
A commentator asserted that sick child
centers that provide care for children with
illnesses who cannot be cared for by the
primary care provider primarily provide
dependent care and that any medical care
provided is incidental. The commentator
suggested that these costs may be employ-
ment-related expenses.
The final regulations do not adopt
this comment. A taxpayer may take an
amount into account as either an employ-
ment-related expense under section 21 or
an expense for medical care under section
213 (but not both). See section 213(e).
Whether the care provided at a sick child
center assures a child’s well-being and
protection or constitutes medical care is a
factual matter that must be determined on
a case-by-case basis.
d.Boarding school
The proposed regulations provide that
an allocation must be made between ex-
penses for the care of a qualifying individ-
ual and expenses for other goods or ser-
vices, unless the other goods or services
are incidental to and inseparably a part of
the care. Specifically, amounts paid for
food, lodging, clothing, or education are
not for the care of a qualifying individual.
The proposed regulations provide an ex-
ample requiring a taxpayer to allocate the
costs of a boarding school between care
and education, meals, and housing.
A commentator stated that the exam-
ple does not provide clear guidance for
determining which expenses are for care
and whether lodging and meals could be
considered incidental and therefore, part
of care. The commentator suggested that
meals and lodging at a boarding school are
incidental to and inseparably a part of the
care provided.
The final regulations do not adopt this
comment. The example and the regula-
tions clearly distinguish care from food,
lodging, and education provided by a
boarding school, which are not for the
care of a qualifying individual, or inci-
dental to or inseparably a part of the care
provided.
e.Expenses for room and board of a
caregiver
The proposed regulations provide that
the additional cost of providing room and
board for a caregiver over usual house-
hold expenses may be an employment-re-
lated expense. This rule is based on Rev.
Rul. 76–288, 1976–2 C.B. 83, which holds
that under the predecessor to section 21,
a taxpayer furnishing meals and lodging
to a housekeeper who provides care may
deduct the allocable expenses attributable
to the housekeeper that are in addition to
normal household expenses. The ruling
provides an example allowing a taxpayer
to take into account the additional cost of
rent for an apartment with an additional
bedroom to accommodate the housekeeper
and additional utilities attributable to the
housekeeper.
The proposed regulations provide that
the general substantiation rules of section
6001 and the implementing regulations
apply to taxpayers claiming the credit. A
commentator stated that the regulations
should clarify whether an increase in utili-
ties (such as electric, water, and gas) may
be employment-related expenses and what
constitutes acceptable proof of costs.
The final regulations adopt the first
of these comments and include an exam-
ple similar to the example in Rev. Rul.
76–288. However, the final regulations
do not provide special substantiation rules
for these costs. These rules encompass
substantiation of allocations by taxpayers
claiming the credit with respect to the ad-
ditional cost of providing room and board
for a caregiver.
October 9, 20077602007–41 I.R.B.

f.Cost of overnight camp
A commentator suggested that the
credit should be allowed for a portion of
the cost of overnight camp allocable to
time when parents work. The final regu-
lations do not adopt this comment. Under
section 21(b)(2), the cost of overnight
camp is not an employment-related ex-
pense.
3.Expenses Enabling a Taxpayer to Be
Gainfully Employed
Under section 21(b)(2)(A), expenses
are employment-related only if the tax-
payer’s purpose in obtaining the services
is to enable the taxpayer to be gainfully
employed. The expenses must be for peri-
ods during which the taxpayer is gainfully
employed or is in active search of gainful
employment.
a.Short, temporary absence exception
The proposed regulations provide that a
taxpayer must allocate the cost of care on
a daily basis if expenses are paid for a pe-
riod during only part of which the taxpayer
is employed or in active search of gain-
ful employment. The proposed regulations
provide an exception to the allocation re-
quirement for a short, temporary absence
from work for a taxpayer paying for depen-
dent care on a weekly, monthly, or annual
basis. Whether an absence is a short, tem-
porary absence is determined based on all
the facts and circumstances. The proposed
regulations requested comments on an ap-
propriate period to constitute a temporary
absence safe harbor.
A commentator suggested that the ex-
ception for short, temporary absences
should not be limited to taxpayers who
pay employment-related expenses on a
weekly, monthly, or annual basis. The
commentator stated that regardless of pay-
ment schedule, taxpayers who take their
children out of care due to a short illness
or vacation typically must pay for that care
when absent or risk losing it.
The final regulations adopt this com-
ment and delete the provision that the
temporary absence exception applies only
to taxpayers who must pay for care on a
weekly, monthly, or annual basis. The fi-
nal regulations clarify, however, that only
those costs that the taxpayer is required
to pay during the absence qualify for the
exception. The final regulations provide
examples to illustrate these rules.
A commentator suggested that a length
of absence that is less than a taxpayer’s
pay period should be deemed to be a short,
temporary absence for that taxpayer, up to
a maximum of 2 weeks. For example, the
maximum short, temporary absence period
of a taxpayer with a 1-week pay period
would be 4 days. The final regulations
do not adopt this comment, which would
result in disparate treatment of taxpayers
basedonlengthofpayperiod.
A commentator suggested that the fi-
nal regulations should adopt 12 weeks
as a temporary absence safe harbor. The
commentator based this suggestion on
the Family Medical Leave Act (FMLA),
which guarantees workers a maximum of
12 weeks of unpaid leave for the birth or
adoption of a child and other purposes.
The final regulations do not adopt this
comment. Different policies underlie the
FMLA and the dependent care credit. An
absence of 12 weeks is not a short, tempo-
rary absence for purposes of claiming the
credit.
Thefinalregulationsincludeasafehar-
bor that treats an absence of no more than
2 consecutive calendarweeksasashort,
temporary absence, and modify the exam-
ples to illustrate this rule.
b.Other costs
A commentator suggested that the final
regulations should clarify that expenses
maybepaidtoenableataxpayertobe
gainfully employed and may be employ-
ment-related expenses if one parent works
during the day and the other parent works
at night, and the expenses are for care
while one parent is working and the other
is sleeping. Another commentator sug-
gested that the cost of overnight care (not
overnight camp) should be an employ-
ment-related expense for a taxpayer who
works at night. The final regulations in-
clude examples illustrating that expenses
may be employment-related expenses in
these situations.
Commentators suggested that the cost
of care should be treated as an employ-
ment-related expense for any period that a
taxpayer is on short- or long-term disabil-
ity, leave under the FMLA, paid medical
leave, or paid maternity leave. The final
regulations do not adopt these comments
as these rules would be inconsistent with
the statutory requirement that expenses are
employment-related expenses only if paid
to enable the taxpayer to be gainfully em-
ployed.
4.Limitations on Amount Creditable
a.Dollar limit
Commentators suggested that the dol-
lar limit on employment-related expenses
should be increased from $3,000 for one
qualifying child and $6,000 for two or
more qualifying children, to $5,000 for
each qualifying child. The final regula-
tions do not adopt these comments as they
are inconsistent with the statutory limita-
tions.
b.Student at an educational organization
For purposes of the deemed earned
income of a spouse who is a full-time
student, section 21(e)(7) and (8) defines
studentas an individual who, during each
of 5 calendar months during the taxable
year, is a full-time student at an educa-
tional organization described in section
170(b)(1)(A)(ii). Section 170(b)(1)(A)(ii)
provides that an educational organization
normally maintains a regular faculty and
curriculum and normally has a regularly
enrolled body of pupils or students in at-
tendance at the place where its educational
activities are regularly carried on.
A commentator suggested that a
full-time student in an on-line degree
program is a full-time student at an educa-
tional organization. The final regulations
do not adopt this comment. A degree
program offered by an organization that
provides instruction exclusively over the
internet (as opposed to an organization
that provides courses on-line as well as
traditional classroom instruction) does not
have students in attendance at the place
where its educational activities are regu-
larly carried on and is not an educational
organization within the meaning of sec-
tion 170(b)(1)(A)(ii). Accordingly, an
individual enrolledin a program provided
by an organization that offers only on-line
instruction is not a student for purposes of
the deemed earned income rule. However,
an individual who takes on-line courses
at an organization that has traditional
classroom instruction as well as on-line
2007–41 I.R.B.761October 9, 2007

courses, and that otherwise meets the def-
inition of educational organization under
section 170(b)(1)(A)(ii), may be a student
for purposes of the deemed earned income
rule.
The final regulations delete the cross-
reference in the proposed regulations to the
definition of student in section 152(f)(2)
(for taxable years beginning after Decem-
ber 31, 2004) or section 151(c)(4) (for
taxable years beginning before January 1,
2005), and the regulations thereunder, as
that term is defined in section 21(e)(7) and
(8) and these regulations.
5.Substantiation
The proposed regulations provide that
taxpayers claiming a credit for employ-
ment-related expenses must maintain ade-
quate records or other sufficient evidence
to substantiate the expenses in accordance
with section 6001 and the regulations
thereunder.
A commentator suggested that de-
pendent care assistance program admin-
istrators should be able to rely on the
representations of plan participants, with-
out additional documentation, to establish
that indirect expenses are required and are
subject to forfeiture, the proper expense
allocation for part-time employees, and
whether expenses are paid on a weekly or
monthly basis. The final regulations do
not adopt this comment as these situations
do not present unusual substantiation is-
sues.
6.Conforming Changes
The final regulations incorporate sev-
eral changes to conform to amendments
to the statute. The final regulations re-
flect that the special dependency rule of
section 21(e)(5) applies to children of par-
ents who live apart at all times during the
last 6 months of the calendar year as well
as to the children of separated or divorced
parents. The final regulations reflect the
changes made to the definitions ofqualify-
ing individualandcustodial parentby the
Gulf Opportunity Zone Act of 2005 (Pub-
lic Law No. 109–135, 119 Stat. 2577).
Finally, the final regulations clarify that,
for taxable years beginning after Decem-
ber 31, 2004, costs for care outside the tax-
payer’s household of a qualifying individ-
ual who is a dependent or spouse incapable
of self-care who regularly spends at least 8
hours each day in the taxpayer’s household
may continue to qualify for the credit.
7.Effective Date
The final regulations apply to taxable
years ending after August 14, 2007.
Effect on Other Documents
Rev. Rul. 76–278, 1976–2 C.B. 84, and
Rev. Rul. 76–288, 1976–2 C.B. 83, are
obsoleted as of August 14, 2007.
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. Section 553(b) of the Ad-
ministrative Procedure Act (5 U.S.C. chap-
ter 5) does not apply to these regulations.
Because the regulations do not impose a
collection of information on small entities,
the Regulatory Flexibility Act (5 U.S.C.
chapter 6) does not apply. Pursuant to sec-
tion 7805(f) of the Code, the notice of pro-
posed rulemaking that preceded these fi-
nal regulations was submitted to the Chief
Counsel for Advocacy of the Small Busi-
ness Administration for comment on its
impact on small business.
Drafting Information
The principal author of these regula-
tions is Amy Pfalzgraf of the Office of
Associate Chief Counsel (Income Tax and
Accounting). However, other personnel
from the IRS and Department of the Trea-
sury participated in their development.
*****
Amendments to the Regulations
Accordingly, 26 CFR parts 1 and 602
are amended as follows:
PART I — INCOME TAXES
Paragraph 1. The authority citation for
part 1 continues to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.21–1 also issued under 26
U.S.C. 21(f).
Section 1.21–2 also issued under 26
U.S.C. 21(f).
Section 1.21–3 also issued under 26
U.S.C. 21(f).
Section1.21–4alsoissuedunder26
U.S.C. 21(f) * * *
§1.21–1 [Redesignated as §1.15–1]
Par. 2. Section 1.21–1 is redesignated
§1.15–1.
Par. 3. New §§1.21–1, 1.21–2, 1.21–3,
and 1.21–4 are added to read as follows:
§1.21–1 Expenses for household and
dependent care services necessary for
gainful employment.
(a)In general. (1)Section21allows
a credit to a taxpayer against the tax im-
posed by chapter 1 for employment-related
expenses for household services and care
(as defined in paragraph (d) of this section)
of a qualifying individual (as defined in
paragraph (b) of this section). The purpose
of the expenses must be to enable the tax-
payer to be gainfully employed (as defined
in paragraph (c) of this section). For tax-
able years beginning after December 31,
2004, a qualifying individual must have
the same principal place of abode (as de-
fined in paragraph (g) of this section) as
the taxpayer for more than one-half of the
taxable year. For taxable years beginning
before January 1, 2005, the taxpayer must
maintain a household (as defined in para-
graph (h) of this section) that includes one
or more qualifying individuals.
(2) The amount of the credit is equal to
the applicable percentage of the employ-
ment-related expenses that may be taken
into account by the taxpayer during the
taxable year (but subject to the limits pre-
scribed in §1.21–2).Applicable percent-
agemeans 35 percent reduced by 1 per-
centage point for each $2,000 (or fraction
thereof) by which thetaxpayer’s adjusted
gross income for the taxable year exceeds
$15,000, but not less than 20 percent. For
example, if a taxpayer’s adjusted gross in-
come is $31,850, the applicable percentage
is 26 percent.
(3) Expenses may be taken as a credit
under section 21, regardless of the tax-
payer’s method of accounting, only in the
taxable year the services are performed
or the taxable year theexpensesarepaid,
whichever is later.
(4) The requirements of section 21 and
§§1.21–1 through 1.21–4 are applied at the
time the services are performed, regardless
of when the expenses are paid.
October 9, 20077622007–41 I.R.B.

(5)Examples. The provisions of this
paragraph (a) are illustrated by the follow-
ing examples.
Example 1. In December 2007, B pays for the
care of her child for January 2008. Under paragraph
(a)(3) of this section, B may claim the credit in 2008,
the later of the years in which the expenses are paid
and the services are performed.
Example 2. ThefactsarethesameasinExam-
ple 1, except that B’s child turns 13 on February
1, 2008, and B pays for the care provided in Jan-
uary 2008 on February 3, 2008. Under paragraph
(a)(4) of this section, the determination of whether the
expenses are employment-related expenses is made
when the services are performed. Assuming other re-
quirements are met, the amount B pays will be an em-
ployment-related expense under section 21, because
B’s child is a qualifying individual when the services
are performed, even though the child is not a qualify-
ing individual when B pays the expenses.
(b)Qualifying individual—(1)In gen-
eral. For taxable years beginning after De-
cember 31, 2004, a qualifying individual
is—
(i) The taxpayer’s dependent (who is
a qualifying child within the meaning of
section 152) who has not attained age 13;
(ii) The taxpayer’s dependent (as de-
fined in section 152, determined without
regard to subsections (b)(1), (b)(2), and
(d)(1)(B)) who is physically or mentally
incapable of self-care and who has the
same principal place of abode as the tax-
payer for more than one-half of the taxable
year; or
(iii) The taxpayer’s spouse who is phys-
ically or mentally incapable of self-care
and who has the same principal place of
abode as the taxpayer for more than one-
half of the taxable year.
(2)Taxable years beginning before Jan-
uary 1, 2005. For taxable years beginning
before January 1, 2005, a qualifying indi-
vidual is—
(i) The taxpayer’s dependent for whom
the taxpayer is entitled to a deduction for
a personal exemption under section 151(c)
and who is under age 13;
(ii) The taxpayer’s dependent who is
physically or mentally incapable of self-
care; or
(iii) The taxpayer’s spouse who is phys-
ically or mentally incapable of self-care.
(3)Qualification on a daily basis.The
status of an individual as a qualifying indi-
vidual is determined on a daily basis. An
individual is not a qualifying individual on
the day the status terminates.
(4)Physical or mental incapacity.An
individual is physically or mentally inca-
pable of self-care if, as a result of a physi-
cal or mental defect, the individual is inca-
pable of caring for the individual’s hygiene
or nutritional needs, or requires full-time
attention of another person for the individ-
ual’s own safety or the safety of others.
The inability of an individual to engage in
any substantial gainful activity or to per-
form the normal household functions of a
homemaker or care for minor children by
reason of a physical or mental condition
does not of itself establish that the individ-
ual is physically or mentally incapable of
self-care.
(5)Special test for divorced or sepa-
rated parents or parents living apart—(i)
Scope. This paragraph (b)(5) applies to
a child (as defined insection 152(f)(1)
for taxable years beginning after Decem-
ber 31, 2004, and in section 151(c)(3) for
taxable years beginning before January 1,
2005) who—
(A) Is under age 13 or is physically or
mentally incapable of self-care;
(B) Receives over one-half of his or her
support during the calendar year from one
or both parents who are divorced or legally
separated under a decree of divorce or sep-
arate maintenance, are separated under a
written separation agreement, or live apart
at all times during the last 6 months of the
calendar year; and
(C) Is in the custody of one or both par-
ents for more than one-half of the calendar
year.
(ii)Custodial parent allowed the credit.
A child to whom this paragraph (b)(5)
applies is the qualifying individual of only
one parent in any taxable year and is the
qualifying child of the custodial parent
even if the noncustodial parent may claim
the dependency exemption for that child
for that taxable year. See section 21(e)(5).
The custodial parent is the parent having
custody for the greater portion of the cal-
endar year. See section 152(e)(4)(A).
(6)Example. The provisions of this
paragraph (b) are illustrated by the follow-
ing examples.
Example. C pays $420 for the care of her child, a
qualifying individual, to be provided from January 2
through January 31, 2008 (21 days of care). On Jan-
uary 20, 2008, C’s child turns 13 years old. Under
paragraph (b)(3) of this section, C’s child is a quali-
fying individual from January 2 through January 19,
2008 (13 days of care). C may take into account $260,
thepro rataamount C pays for the care of her child
for 13 days, under section 21. See §1.21–2(a)(4).
(c)Gainful employment—(1)In gen-
eral. Expenses are employment-related
expenses only if they are for the purpose of
enabling the taxpayer to be gainfully em-
ployed. The expenses must be for the care
of a qualifying individual or household ser-
vices performed during periods in which
the taxpayer is gainfully employed or is in
active search of gainful employment. Em-
ployment may consist of service within or
outside the taxpayer’s home and includes
self-employment. An expense is not em-
ployment-related merely because it is paid
or incurred while the taxpayer is gainfully
employed. The purpose of the expense
must be to enable the taxpayer to be gain-
fully employed. Whether the purpose of
an expense is to enable the taxpayer to be
gainfully employed depends on the facts
and circumstances of the particular case.
Work as a volunteer or for a nominal con-
sideration is not gainful employment.
(2)Determination of period of employ-
ment on a daily basis—(i)In general.Ex-
penses paid for a period during only part of
which the taxpayer is gainfully employed
or in active search of gainful employment
must be allocated on a daily basis.
(ii)Exception for short, temporary ab-
sences. A taxpayer who is gainfully em-
ployed is not required to allocate expenses
during a short, temporary absence from
work, such as for vacation or minor illness,
provided that the care-giving arrangement
requires the taxpayer to pay for care during
the absence. An absence of 2 consecutive
calendar weeks is a short, temporary ab-
sence. Whether an absence longer than 2
consecutive calendar weeks is a short, tem-
porary absence is determined based on all
the facts and circumstances.
(iii)Part-time employment. A taxpayer
who is employed part-time generally must
allocate expenses for dependent care be-
tween days worked and days not worked.
However, if a taxpayer employed part-time
is required to pay for dependent care on a
periodic basis (such as weekly or monthly)
that includes both days worked and days
not worked, the taxpayer is not required to
allocate the expenses. A day on which the
taxpayer works at least 1 hour is a day of
work.
(3)Examples. The provisions of this
paragraph (c) are illustrated by the follow-
ing examples:
Example 1. D works during the day and her hus-
band, E, works at night and sleeps during the day. D
and E pay for care for a qualifying individual during
the hours when D is working and E is sleeping. Un-
der paragraph (c)(1) of this section, the amount paid
2007–41 I.R.B.763October 9, 2007

by D and E for care may be for the purpose of allow-
ing D and E to be gainfully employed and may be an
employment-related expense under section 21.
Example 2. F works at night and pays for care
for a qualifying individual during the hours when F is
working. Under paragraph (c)(1) of this section, the
amount paid by F for care may be for the purpose of
allowing F to be gainfully employed and may be an
employment-related expense under section 21.
Example 3. G, the custodial parent of two chil-
dren who are qualifying individuals, hires a house-
keeper for a monthly salary to care for the children
while G is gainfully employed. G becomes ill and as a
result is absent from work for 4 months. G continues
to pay the housekeeper to care for the children while
G is absent from work. During this 4-month period, G
performs no employment services, but receives pay-
ments under her employer’s wage continuation plan.
Although G may be considered to be gainfully em-
ployed during her absence from work, the absence is
not a short, temporary absence within the meaning of
paragraph (c)(2)(ii) of this section, and her payments
for household and dependent care services during the
period of illness are not for the purpose of enabling
her to be gainfully employed. G’s expenses are not
employment-related expenses, and she may not take
the expenses into account under section 21.
Example 4. To be gainfully employed, H sends
his child to a dependent care center that complies with
all state and local requirements. The dependent care
center requires payment for days when a child is ab-
sent from the center. H takes 8 days off from work as
vacation days. Because the absence is less than 2 con-
secutive calendar weeks, under paragraph (c)(2)(ii)
of this section, H’s absence is a short, temporary ab-
sence. H is not required to allocate expenses between
days worked and days not worked. The entire fee for
the period that includes the 8 vacation days may be
an employment-related expense under section 21.
Example 5. J works 3 days per week and her child
attends a dependent care center (that complies with
all state and local requirements) to enable her to be
gainfully employed. The dependent care center al-
lows payment for any 3 days per week for $150 or
5 days per week for $250. J enrolls her child for 5
days per week, and her child attends the care center
for 5 days per week. Under paragraph (c)(2)(iii) of
this section, J must allocate her expenses for depen-
dent care between days worked and days not worked.
Three-fifths of the $250, or $150 per week, may be
an employment-related expense under section 21.
Example 6. The facts are the same as inExample
5, except that the dependent care center does not offer
a 3-day option. The entire $250 weekly fee may be
an employment-related expense under section 21.
(d)Care of qualifying individual and
household services—(1)In general.To
qualify for the dependent care credit, ex-
penses must be for the care of a qualifying
individual. Expenses are for the care of a
qualifying individual if the primary func-
tion is to assure the individual’s well-being
and protection. Not allexpenses relating to
a qualifying individual are for the individ-
ual’s care. Amounts paid for food, lodg-
ing, clothing, or education are not for the
care of a qualifying individual. If, how-
ever, the care is provided in such a man-
ner that the expenses cover other goods or
services that are incidental to and insepa-
rably a part of the care, the full amount is
for care.
(2)Allocation of expenses.Ifanex-
pense is partly for household services or
for the care of a qualifying individual and
partly for other goods or services, a rea-
sonable allocation must be made. Only so
much of the expense that is allocable to
the household services or care of a quali-
fying individual is an employment-related
expense. An allocation must be made if a
housekeeper or other domestic employee
performs household duties and cares for
the qualifying children of the taxpayer and
also performs other services for the tax-
payer. No allocation is required, however,
if the expense for the other purpose is min-
imal or insignificant or if an expense is
partly attributable tothe care of a qualify-
ing individual and partly to household ser-
vices.
(3)Household services. Expenses for
household services may be employment-
related expenses if the services are per-
formed in connection with the care of a
qualifying individual. The household ser-
vices must be the performance in and about
the taxpayer’s home of ordinary and usual
services necessary to the maintenance of
the household and attributable to the care
of the qualifying individual. Services of a
housekeeper are household services within
the meaning of this paragraph (d)(3) if the
services are provided, at least in part, to
the qualifying individual. Such services as
are performed by chauffeurs, bartenders,
or gardeners are not household services.
(4)Manner of providing care.The
manner of providing care need not be the
least expensive alternative available to the
taxpayer. The cost of a paid caregiver may
be an expense for the care of a qualifying
individual even if another caregiver is
available at no cost.
(5)School or similar program.Ex-
penses for a child in nursery school, pre-
school, or similar programs for children
below the level of kindergarten are for the
care of a qualifying individual and may be
employment-related expenses. Expenses
for a child in kindergarten or a higher grade
are not for the care of a qualifying individ-
ual. However, expenses for before- or af-
ter-school care of a child in kindergarten
orahighergrademaybeforthecareofa
qualifying individual.
(6)Overnight camps.Expensesfor
overnight camps are not employment-re-
lated expenses.
(7)Day camps.(i)Thecostofaday
camp or similar program may be for the
care of a qualifying individual and an em-
ployment-related expense, without alloca-
tion under paragraph (d)(2) of this section,
even if the day camp specializes in a partic-
ular activity. Summer school and tutoring
programs are not for the care of a quali-
fying individual and the costs are not em-
ployment-related expenses.
(ii) A day camp that meets the defini-
tion ofdependent care centerin section
21(b)(2)(D) and paragraph (e)(2) of this
section must comply with the require-
ments of section 21(b)(2)(C) and para-
graph (e)(2) of this section.
(8)Transportation. The cost of trans-
portation by a dependent care provider of
a qualifying individual to or from a place
where care of that qualifying individual is
provided may be for the care of the qualify-
ing individual. The cost of transportation
not provided by a dependent care provider
is not for the care of the qualifying individ-
ual.
(9)Employment taxes. Taxes under sec-
tions 3111 (relating to the Federal Insur-
ance Contributions Act) and 3301 (relat-
ing to the Federal Unemployment Tax Act)
and similar state payroll taxes are employ-
ment-related expenses if paid in respect
of wages that are employment-related ex-
penses.
(10)Room and board. The additional
cost of providing room and board for a
caregiver over usual household expendi-
tures may be an employment-related ex-
pense.
(11)Indirect expenses. Expenses that
relate to, but are not directly for, the care
of a qualifying individual, such as applica-
tion fees, agency fees, and deposits, may
be for the care of a qualifying individual
and may be employment-related expenses
if the taxpayer is required to pay the ex-
penses to obtain the related care. However,
forfeited deposits and other payments are
not for the care of a qualifying individual
if care is not provided.
(12)Examples. The provisions of this
paragraph (d) are illustrated by the follow-
ing examples:
October 9, 20077642007–41 I.R.B.

Example 1. To be gainfully employed, K sends
his 3-year old child to a pre-school. The pre-school
provides lunch and snacks.Under paragraph (d)(1)
of this section, K is not required to allocate expenses
between care and the lunchand snacks, because the
lunch and snacks are incidental to and inseparably
a part of the care. Therefore, K may treat the full
amount paid to the pre-school as for the care of his
child.
Example 2. L, a member of the armed forces, is
ordered to a combat zone. To be able to comply with
the orders, L places her 10-year old child in boarding
school. The school provides education, meals, and
housing to L’s child in addition to care. Under para-
graph (d)(2) of this section, L must allocate the cost
of the boarding school between expenses for care and
expenses for education and other services not consti-
tuting care. Only the part of the cost of the boarding
school that is for the care of L’s child is an employ-
ment-related expense under section 21.
Example 3. To be gainfully employed, M em-
ploys a full-time housekeeper to care for M’s two
children, aged 9 and 13 years. The housekeeper reg-
ularly performs household services of cleaning and
cooking and drives M to and from M’s place of em-
ployment, a trip of 15 minutes each way. Under para-
graph (d)(3) of this section, the chauffeur services are
not household services. M is not required to allo-
cate a portion of the expense of the housekeeper to
the chauffeur services under paragraph (d)(2) of this
section, however, because the chauffeur services are
minimal and insignificant. Further, no allocation un-
der paragraph (d)(2) of this section is required to de-
termine the portion of the expenses attributable to the
care of the 13-year old child (not a qualifying individ-
ual) because the household expenses are in part attrib-
utable to the care of the 9-year old child. Accordingly,
the entire expense of employing the housekeeper is
an employment-related expense. The amount that M
may take into account as an employment-related ex-
pense under section 21, however, is limited to the
amount allowable for one qualifying individual.
Example 4. To be gainfully employed, N sends
her 9-year old child to a summer day camp that offers
computer activities and recreational activities such
as swimming and arts and crafts. Under paragraph
(d)(7)(i) of this section, the full cost of the summer
day camp may be for care.
Example 5. To be gainfully employed, O sends
her 9-year old child to a math tutoring program for
two hours per day during the summer. Under para-
graph (d)(7)(i) of this section, the cost of the tutoring
program is not for care.
Example 6. To be gainfully employed, P hires a
full-time housekeeper to care for her 8-year old child.
In order to accommodate the housekeeper, P moves
from a 2-bedroom apartment to a 3-bedroom apart-
ment that otherwise is comparable to the 2-bedroom
apartment. Under paragraph (d)(10) of this section,
the additional cost to rent the 3-bedroom apartment
over the cost of the 2-bedroom apartment and any ad-
ditional utilities attributable to the housekeeper’s res-
idence in the household may be employment-related
expenses under section 21.
Example 7. Q pays a fee to an agency to obtain the
services of an au pair to care for Q’s children, qual-
ifying individuals, to enable Q to be gainfully em-
ployed. An au pair from the agency subsequently pro-
vides care for Q’s children. Under paragraph (d)(11)
of this section, the fee may be an employment-related
expense.
Example 8. R places a deposit with a pre-school
to reserve a place for her child. R sends the child to
a different pre-school and forfeits the deposit. Under
paragraph (d)(11) of this section, the forfeited deposit
is not an employment-related expense.
(e)Services outside the taxpayer’s
household—(1)In general. The credit is
allowable for expenses for services per-
formed outside the taxpayer’s household
only if the care is for one or more qualify-
ing individuals who are described in this
section at—
(i) Paragraph (b)(1)(i) or (b)(2)(i); or
(ii) Paragraph (b)(1)(ii), (b)(2)(ii),
(b)(1)(iii), or (b)(2)(iii) and regularly
spend at least 8 hours each day in the tax-
payer’s household.
(2)Dependent care centers—(i)In gen-
eral. The credit is allowable for services
performed by a dependent care center only
if—
(A) The center complies with all ap-
plicable laws and regulations, if any, of a
state or local government, such as state or
local licensing requirements and building
and fire code regulations; and
(B) The requirements provided in this
paragraph (e) are met.
(ii)Definition.Thetermdependent
care centermeans any facility that pro-
vides full-time or part-time care for more
than six individuals (other than individu-
als who reside at the facility) on a regular
basis during the taxpayer’s taxable year,
and receives a fee, payment, or grant for
providing services for the individuals (re-
gardless of whether the facility is operated
for profit). For purposes of the preceding
sentence, a facility is presumed to provide
full-time or part-time care for six or fewer
individuals on a regular basis during the
taxpayer’s taxable year if the facility has
six or fewer individuals (including the
taxpayer’s qualifying individual) enrolled
for full-time or part-time care on the day
the qualifying individual is enrolled in the
facility (or on the first day of the taxable
year the qualifying individual attends the
facility if the qualifying individual was
enrolled in the facility in the preceding
taxable year) unless the Internal Revenue
Service demonstrates that the facility pro-
vides full-time or part-time care for more
than six individuals on a regular basis dur-
ing the taxpayer’s taxable year.
(f)Reimbursed expenses. Employment-
related expenses for which the taxpayer
is reimbursed (for example, under a de-
pendent care assistance program) may not
be taken into account for purposes of the
credit.
(g)Principal place of abode.Forpur-
poses of this section, the termprincipal
place of abodehas the same meaning as in
section 152.
(h)Maintenance of a household—(1)In
general. For taxable years beginning be-
fore January 1, 2005, the credit is avail-
able only to a taxpayer who maintains a
household that includes one or more qual-
ifying individuals. A taxpayer maintains
a household for the taxable year (or lesser
period) only if the taxpayer (and spouse,
if applicable) occupies the household and
furnishesoverone-halfofthecostforthe
taxable year (or lesser period) of maintain-
ing the household. The household must be
the principal place of abode for the taxable
year of the taxpayer and the qualifying in-
dividual or individuals.
(2)Cost of maintaining a household.(i)
Except as provided in paragraph (h)(2)(ii)
of this section, for purposes of this section,
the termcost of maintaining a household
has the same meaning as in §1.2–2(d) with-
out regard to the last sentence thereof.
(ii) The cost of maintaining a household
does not include the value of services per-
formed in the household by the taxpayer
or by a qualifying individual described in
paragraph (b) of this section or any ex-
pense paid or reimbursed by another per-
son.
(3)Monthly proration of annual costs.
In determining the cost of maintaining a
household for a period of less than a tax-
able year, the cost for the entire taxable
year must be prorated on the basis of the
number of calendar months within that pe-
riod. A period of less than a calendar
month is treated as a full calendar month.
(4)Two or more families.Iftwoor
more families occupy living quarters in
common, each of the families is treated
as maintaining a separate household. A
taxpayer is maintaining a household if the
taxpayer provides more than one-half of
the cost of maintaining the separate house-
hold. For example, if two unrelated tax-
payers with their respective children oc-
cupy living quarters in common and each
taxpayer pays more than one-half of the
household costs for each respective fam-
ily, each taxpayer is treated as maintaining
ahousehold.
2007–41 I.R.B.765October 9, 2007

(i) Reserved.
(j)Expenses qualifying as medical ex-
penses—(1)In general. A taxpayer may
nottakeanamountintoaccountasboth
an employment-related expense under sec-
tion 21 and an expense for medical care un-
der section 213.
(2)Examples. The provisions of this
paragraph (j) are illustrated by the follow-
ing examples:
Example 1. S has $6,500 of employment-related
expenses for the care of his child who is physically
incapable of self-care. The expenses are for services
performed in S’s household that also qualify as ex-
penses for medical care under section 213. Of the
total expenses, S may take into account $3,000 under
section 21. S may deduct the balance of the expenses,
or $3,500, as expenses for medical care under section
213 to the extent the expenses exceed 7.5 percent of
S’s adjusted gross income.
Example 2. ThefactsarethesameasinExam-
ple 1, however, S first takes into account the $6,500
of expenses under section 213. S deducts $500 as
an expense for medical care, which is the amount by
which the expenses exceed 7.5 percent of his adjusted
gross income. S may not take into account the $6,000
balance as employment-related expenses under sec-
tion 21, because he has taken the full amount of the
expenses into account in computing the amount de-
ductible under section 213.
(k)Substantiation. A taxpayer claiming
a credit for employment-related expenses
must maintain adequate records or other
sufficient evidence to substantiate the ex-
penses in accordance with section 6001
and the regulations thereunder.
(l)Effective/applicability date.This
section and §§1.21–2 through 1.21–4 ap-
ply to taxable years ending after August
14, 2007.
§1.21–2 Limitations on amount creditable.
(a)Annual dollar limitation.(1)The
amount of employment-related expenses
that may be taken into account under
§1.21–1(a) for any taxable year cannot
exceed—
(i) $2,400 ($3,000 for taxable years be-
ginning after December 31, 2002, and be-
fore January 1, 2011) if there is one qual-
ifying individual with respect to the tax-
payer at any time during the taxable year;
or
(ii) $4,800 ($6,000 for taxable years be-
ginning after December 31, 2002, and be-
fore January 1, 2011) if there are two or
more qualifying individuals with respect to
the taxpayer at any time during the taxable
year.
(2) The amount determined under para-
graph (a)(1) of this section is reduced by
the aggregate amount excludable from
gross income under section 129 for the
taxable year.
(3) A taxpayer may take into account
the total amount of employment-related
expenses that do not exceed the annual
dollar limitation although the amount of
employment-related expenses attributable
to one qualifying individual is dispropor-
tionate to the total employment-related ex-
penses. For example, a taxpayer with ex-
penses in 2007 of $4,000 for one quali-
fying individual and $1,500 for a second
qualifying individual may take into ac-
count the full $5,500.
(4) A taxpayer is not required to prorate
the annual dollar limitation if a qualify-
ing individual ceasesto qualify (for exam-
ple, by turning age 13) during the taxable
year. However, the taxpayer may take into
account only amounts that qualify as em-
ployment-related expenses before the dis-
qualifying event. See also §1.21–1(b)(6).
(b)Earned income limitation—(1)In
general. The amount of employment-re-
lated expenses that may be taken into ac-
count under section 21 for any taxable year
cannot exceed—
(i) For a taxpayer who is not married at
the close of the taxable year, the taxpayer’s
earned income for the taxable year; or
(ii) For a taxpayer who is married at
the close of the taxable year, the lesser of
the taxpayer’s earned income or the earned
income of the taxpayer’s spouse for the
taxable year.
(2)Determination of spouse. For pur-
poses of this paragraph (b), a taxpayer
must take into account only the earned in-
come of a spouse to whom the taxpayer
is married at the close of the taxable year.
The spouse’s earned income for the entire
taxable year is taken into account, how-
ever, even though the taxpayer and the
spouse were married for only part of the
taxable year. The taxpayer is not required
to take into account the earned income of a
spouse who died or was divorced or sepa-
rated from the taxpayer during the taxable
year. See §1.21–3(b) for rules providing
that certain married taxpayers legally sep-
arated or living apart are treated as not mar-
ried.
(3)Definition of earned income.For
purposes of this section, the termearned
incomehas the same meaning as in section
32(c)(2) and the regulations thereunder.
(4)Attribution of earned income to stu-
dent or incapacitated spouse.(i)Forpur-
poses of this section, a spouse is deemed,
for each month during which the spouse
is a full-time student or is a qualifying in-
dividual described in §1.21–1(b)(1)(iii) or
(b)(2)(iii), to be gainfully employed and to
have earned income of not less than—
(A) $200 ($250 for taxable years begin-
ning after December 31, 2002, and before
January 1, 2011) if there is one qualifying
individual with respect to the taxpayer at
any time during the taxable year; or
(B) $400 ($500 for taxable years be-
ginning after December 31, 2002, and be-
fore January 1, 2011) if there are two or
more qualifying individuals with respect to
the taxpayer at any time during the taxable
year.
(ii) For purposes of this paragraph
(b)(4), a full-time student is an individual
who, during each of 5 calendar months
of the taxpayer’s taxable year, is enrolled
as a student for the number of course
hours considered to be a full-time course
of study at an educational organization as
defined in section 170(b)(1)(A)(ii). The
enrollment for 5 calendar months need not
be consecutive.
(iii) Earned income may be attributed
under this paragraph (b)(4), in the case of
any husband and wife, to only one spouse
in any month.
(c)Examples. The provisions of this
section are illustrated by the following ex-
amples:
Example 1. In 2007, T, who is married to U, pays
employment-related expenses of $5,000 for the care
of one qualifying individual. T’s earned income for
the taxable year is $40,000 and her husband’s earned
income is $2,000. T did not exclude any dependent
care assistance under section 129. Under paragraph
(b)(1) of this section, T may take into account under
section 21 only the amount of employment-related
expenses that does not exceed the lesser of her earned
income or the earned income of U, or $2,000.
Example 2. ThefactsarethesameasinExam-
ple 1except that U is a full-time student at an edu-
cational organization within the meaning of section
170(b)(1)(A)(ii) for 9 months of the taxable year and
has no earned income. Under paragraph (b)(4) of
this section, U is deemed to have earned income of
$2,250. T may take into account $2,250 of employ-
ment-related expenses under section 21.
Example 3. For all of 2007, V is a full-time stu-
dent and W, V’s husband, is an individual who is in-
capable of self-care (as defined in §1.21–1(b)(1)(iii)).
V and W have no earned income and pay expenses
of $5,000 for W’s care. Under paragraph (b)(4) of
this section, either V or W may be deemed to have
$3,000 of earned income. However, earned income
may be attributed to only one spouse under paragraph
October 9, 20077662007–41 I.R.B.

(b)(4)(iii) of this section. Under the limitation in
paragraph (b)(1)(ii) of this section, the lesser of V’s
and W’s earned income is zero. V and W may not
take the expenses into account under section 21.
(d)Cross-reference. For an additional
limitation on the credit under section 21,
see section 26.
§1.21–3 Special rules applicable to
married taxpayers.
(a)Joint return requirement.Nocredit
is allowed under section 21 for taxpayers
who are married (within the meaning of
section 7703 and the regulations thereun-
der) at the close of the taxable year unless
the taxpayer and spouse file a joint return
for the taxable year. See section 6013 and
the regulations thereunder relating to joint
returns of income tax by husband and wife.
(b)Taxpayers treated as not married.
The requirements of paragraph (a) of this
section do not apply to a taxpayer who is
legally separated under a decree of divorce
or separate maintenance or who is treated
as not married under section 7703(b) and
the regulations thereunder (relating to cer-
tain married taxpayers living apart). A tax-
payer who is treated as not married un-
der this paragraph (b) is not required to
take into account the earned income of the
taxpayer’s spouse for purposes of apply-
ing the earned income limitation on the
amount of employment-related expenses
under §1.21–2(b).
(c)Death of married taxpayer.Ifamar-
ried taxpayer dies during the taxable year
and the survivor may make a joint return
with respect to the deceased spouse under
section 6013(a)(3), the credit is allowed for
the year only if a joint return is made. If,
however, the surviving spouse remarries
before the end of the taxable year in which
the deceased spouse dies, a credit may be
allowed on the decedent spouse’s separate
return.
§1.21–4 Payments to certain related
individuals.
(a)In general. A credit is not allowed
under section 21 for any amount paid by
the taxpayer to an individual—
(1) For whom a deduction under sec-
tion 151(c) (relating to deductions for per-
sonal exemptions for dependents) is allow-
able either to the taxpayer or the taxpayer’s
spouse for the taxable year;
(2) Who is a child of the taxpayer
(within the meaning of section 152(f)(1)
for taxable years beginning after Decem-
ber 31, 2004, and section 151(c)(3) for
taxable years beginning before January 1,
2005) and is under age 19 at the close of
the taxable year;
(3) Who is the spouse of the taxpayer at
any time during the taxable year; or
(4) Who is the parent of the taxpayer’s
child who is a qualifying individual de-
scribed in §1.21–1(b)(1)(i) or (b)(2)(i).
(b)Payments to partnerships or other
entities. In general, paragraph (a) of this
section does not apply to services per-
formed by partnerships or other entities.
If, however, the partnership or other en-
tity is established or maintained primarily
to avoid the application of paragraph (a)
of this section to permit the taxpayer to
claim the credit, for purposes of section
21, the payments of employment-related
expenses are treated as made directly to
each partner or owner in proportion to that
partner’s or owner’s ownership interest.
Whether a partnership or other entity is
established or maintained to avoid the ap-
plication of paragraph (a) of this section is
determined based on the facts and circum-
stances, including whether the partnership
or other entity is established for the pri-
mary purpose of caring for the taxpayer’s
qualifying individual or providing house-
hold services to the taxpayer.
(c)Examples. The provisions of this
section are illustrated by the following ex-
amples:
Example 1. During 2007, X pays $5,000 to her
mother for the care of X’s 5-year old child who is a
qualifying individual. The expenses otherwise qual-
ify as employment-related expenses. X’s mother is
not her dependent. X may take into account under
section 21 the amounts paid to her mother for the care
of X’s child.
Example 2. Y is divorced and has custody of his
5-year old child, who is a qualifying individual. Y
pays $6,000 during 2007 to Z, who is his ex-wife and
the child’s mother, for the care of the child. The ex-
penses otherwise qualify as employment-related ex-
penses. Under paragraph (a)(4) of this section, Y may
not take into account under section 21 the amounts
paid to Z because Z is the child’s mother.
Example 3. The facts are the same as inExample
2, except that Z is not the mother of Y’s child. Y may
take into account under section 21 the amounts paid
to Z.
§§1.44A–1 through 1.44A–4 [Removed]
Par. 4. Sections 1.44A–1, 1.44A–2,
1.44A–3, and 1.44A–4 are removed.
§1.214–1 [Removed]
Par. 5. Section 1.214–1 is removed.
§§1.214A–1 through 1.214A–5
[Removed]
Par. 6. Sections 1.214A–1, 1.214A–2,
1.214A–3, 1.214A–4, and 1.214A–5 are
removed.
PART 602—OMB CONTROL
NUMBERS UNDER THE PAPERWORK
REDUCTION ACT
Par. 7. The authority citation for part
602 continues to read as follows:
Authority: 26 U.S.C. 7805.
Par. 8. In §602.101, paragraph (b) is
amended to remove entries 1.44A–1 and
1.44A–3.
Kevin M. Brown,
Deputy Commissioner for
Services and Enforcement.
Approved August 2, 2007.
Eric Solomon,
Assistant Secretary of
theTreasury(TaxPolicy).
(Filed by the Office of the Federal Register on August 13,
2007, 8:45 a.m., and published in the issue of the Federal
Register for August 14, 2007, 72 F.R. 45338)
Section 42.—Low-Income
Housing Credit
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
Low-income housing credit; satisfac-
tory bond; “bond factor” amounts for
the period January through December
2007.This ruling provides the monthly
bond factor amounts to be used by taxpay-
ers who dispose of qualified low-income
buildings or interests therein during the pe-
riod January through December 2007.
Rev. Rul. 2007–62
In Rev. Rul. 90–60, 1990–2 C.B.
3, the Internal Revenue Service provided
guidance to taxpayers concerning the gen-
eral methodology used by the Treasury
Department in computing the bond factor
amounts used in calculating the amount of
2007–41 I.R.B.767October 9, 2007

bond considered satisfactory by the Secre-
tary under § 42(j)(6) of the Internal Rev-
enue Code. It further announced that the
Secretary would publishintheInternal
Revenue Bulletin a table of bond factor
amounts for dispositions occurring during
each calendar month.
Rev. Proc. 99–11, 1999–1 C.B. 275,
established a collateral program as an al-
ternative to providing a surety bond for
taxpayers to avoid or defer recapture of
the low-income housing tax credits under
§ 42(j)(6). Under this program, taxpayers
may establish a Treasury Direct Account
and pledge certain United States Treasury
securities to the Internal Revenue Service
as security.
This revenue ruling provides in Table
1 the bond factor amounts for calculat-
ing the amount of bond considered satis-
factory under § 42(j)(6) or the amount of
United States Treasury securities to pledge
in a Treasury Direct Account under Rev.
Proc. 99–11 for dispositions of qualified
low-income buildings or interests therein
during the period January through Decem-
ber 2007.
Table 1
Rev. Rul. 2007–62
Monthly Bond Factor Amounts for Dispositions Expressed
As a Percentage of Total Credits
Calendar Year Building Placed in Service
or, if Section 42(f)(1) Election Was Made,
the Succeeding Calendar Year
Month of
Disposition
19931994199519961997199819992000200120022003
Jan ’0717.3932.4445.5256.9766.9569.2371.8674.7478.0981.8285.82
Feb ’0717.3932.4445.5256.9766.9569.0871.7074.5677.8981.6085.57
Mar ’0717.3932.4445.5256.9766.9568.9271.5374.3977.7181.4085.33
Apr ’0717.3932.4445.5256.9766.9568.7771.3774.2277.5281.1985.11
May ’0717.3932.4445.5256.9766.9568.6271.2274.0577.3581.0084.89
Jun ’0717.3932.4445.5256.9766.9568.4771.0673.8977.1780.8184.68
Jul ’0717.3932.4445.5256.9766.9568.3270.9173.7477.0180.6384.47
Aug ’0717.3932.4445.5256.9766.9568.1870.7673.5876.8480.4584.28
Sep ’0717.3932.4445.5256.9766.9568.0470.6273.4376.6880.2784.09
Oct ’0717.3932.4445.5256.9766.9567.9070.4873.2876.5380.1183.90
Nov ’0717.3932.4445.5256.9766.9567.7770.3473.1476.3779.9483.73
Dec ’0717.3932.4445.5256.9766.9567.6370.2073.0076.2279.7883.56
Table 1 (cont’d)
Rev. Rul. 2007–62
Monthly Bond Factor Amounts for Dispositions Expressed
As a Percentage of Total Credits
Calendar Year Building Placed in Service
or, if Section 42(f)(1) Election Was Made,
the Succeeding Calendar Year
Month o
f
Dispo
sition
2004200520062007
Jan ’0789.7993.4196.7097.21
Feb ’0789.5093.0796.2797.21
Mar ’
07
89.2
2
92.7
5
95.8
9
97.2
1
Apr ’0788.9692.4695.5797.21
May ’0788.7292.1895.2897.21
Jun ’0788.4891.9395.0297.21
Jul ’0788.2591.6994.7997.21
Aug ’0788.0491.4694.5897.21
Se
p’07
87
.83
91
.25
94
.39
97
.21
October 9, 20077682007–41 I.R.B.

Table 1 (cont’d)
Rev. Rul. 2007–62
Monthly Bond Factor Amounts for Dispositions Expressed
As a Percentage of Total Credits
Calendar Year Building Placed in Service
or, if Section 42(f)(1) Election Was Made,
the Succeeding Calendar Year
Month of
Disposition
2004200520062007
Oct ’0787.6491.0594.2297.21
Nov ’0787.4590.8794.0797.21
Dec ’0787.2790.6993.9297.21
For a list of bond factor amounts ap-
plicable to dispositions occurring during
other calendar years, see: Rev. Rul. 98–3,
1998–1 C.B. 248; Rev. Rul. 2001–2,
2001–1 C.B. 255; Rev. Rul. 2001–53,
2001–2 C.B. 488; Rev. Rul. 2002–72,
2002–2 C.B. 759; Rev. Rul. 2003–117,
2003–2 C.B. 1051; Rev. Rul. 2004–100,
2004–2 C.B. 718; Rev. Rul. 2005–67,
2005–2 C.B. 771; and Rev. Rul. 2006–51,
2006–2 C.B. 632.
DRAFTING INFORMATION
The principal author of this revenue
ruling is David McDonnell of the Office
of Associate Chief Counsel (Passthroughs
and Special Industries). For further in-
formation regarding this revenue ruling,
contact Mr. McDonnell at (202) 622–3040
(not a toll-free call).
Section 280G.—Golden
Parachute Payments
Federal short-term, mid-term, and long-term rates
are set forth for the month of October 2007. See Rev.
Rul. 2007-63, page 778.
Section 338.—Certain
Stock Purchases Treated
as Asset Acquisitions
26 CFR 1.338–6: Allocation of ADSP and AGUB
among target assets.
T.D. 9358
DEPARTMENT OF
THE TREASURY
Internal Revenue Service
26 CFR Part 1
Treatment of Certain Nuclear
Decommissioning Funds
for Purposes of Allocating
Purchase Price in Certain
Deemed and Actual Asset
Acquisitions
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Final regulations.
SUMMARY: This document contains fi-
nal regulations relating to the allocation of
purchase price in certain deemed and ac-
tual asset acquisitions under sections 338
and 1060. These regulations affect sellers
and purchasers of nuclear power plants or
of the stock of corporations that own nu-
clear power plants.
DATES:Effective Date:These regulations
are effective September 11, 2007.
Applicability Date:For dates of ap-
plicability, see §§1.338–6(c)(5)(vi) and
1.1060–1(e)(1)(ii)(C)(4).
FOR FURTHER INFORMATION
CONTACT: Richard Starke at (202)
622–7790 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
On September 16, 2004, the IRS and
Treasury Department issued a notice of
proposed rulemaking (REG–169135–03,
2004–2 C.B. 697) and temporary reg-
ulations (T.D. 9158, 2004–2 C.B. 665)
in theFederal Register(69 FR 55740),
modifying regulations under sections 338
and 1060 of the Internal Revenue Code
(Code). The text of the temporary reg-
ulations was identical to the text of the
proposed regulations.
Sections 338 and 1060 and the regula-
tions thereunder provide a methodology by
which the purchase or sales price in cer-
tain actual and deemed asset acquisitions
is computed and allocated among the as-
sets acquired or treated as acquired. The
regime employs a residual method of allo-
cation that divides assets into seven classes
and allocates the consideration to each of
the first six classes in turn, up to the fair
market value of the assets in the class. The
residual amount is allocated to assets in the
last class.
The purchase price generally includes
liabilities of the seller that are assumed by
the purchaser. Those liabilities, however,
must be treated as having been incurred by
the purchaser. In order to be treated as hav-
ing been incurred by the purchaser, in addi-
tion to other requirements, economic per-
formance must have occurred with respect
to the liability.
In connection with the sale of a nuclear
power plant, the assets sold by the seller
and purchased by the purchaser may in-
2007–41 I.R.B.769October 9, 2007

clude the plant, equipment, operating as-
sets, and one or more funds holding assets
that have been set aside for the purpose
of satisfying the owner’s responsibility to
decommission the nuclear power plant af-
ter the conclusion of its useful life (the
decommissioning liability), and the pur-
chaser may have agreed to satisfy the de-
commissioning liability. One or more of
such funds may not be a fund described
in section 468A. Such other funds are re-
ferred to as nonqualified funds. Contri-
butions to nonqualified funds do not give
rise to a deduction in the year of contribu-
tion. In addition, the assets of a nonqual-
ified fund continue to be treated as assets
of the contributor.
The preamble to the proposed and tem-
porary regulations concluded that the de-
commissioning liability will not satisfy the
economic performance test until decom-
missioning occurs, and therefore that, as
of the purchase date, it is not included in
the purchase price that the purchaser allo-
cates to the acquired assets. As a result,
as of the purchase date, the purchase price
to be allocated by the purchaser among
the acquired assets may be significantly
less than the fair market value of those as-
sets. This situation will generally persist
until economic performance with respect
to the decommissioning liability is satis-
fied through decommissioning.
Generally under the residual method,
the purchase price is allocated to the non-
qualified fund’s assets, which are typically
Class I and Class II assets, before it is al-
located to the plant, equipment, and other
operating assets, which are typically Class
V assets. Because the purchase price does
not reflect the decommissioning liability
and is first allocated to the assets of the
nonqualified fund, the purchase price al-
located to the plant, equipment, and other
operating assets may be less than their fair
market value. To the extent the purchase
price allocated to the plant, equipment, and
other operating assets is less than their fair
market value, the purchaser will not re-
cover a tax benefit (that is, a depreciation
deduction) for the decommissioning liabil-
ity until economic performance occurs on
decommissioning.
To mitigate the tax effect of these de-
commissioning liabilities’ not satisfying
the statutory requirements for economic
performance as to the purchaser, the tem-
porary regulations added §1.338–6T. That
regulation provides that, for purposes of
allocating purchase or sales price among
the acquisition date assets of a target, a
taxpayer may irrevocably elect to treat a
nonqualified fund as if such fund were an
entity classified as a corporation the stock
of which were among the acquisition date
assets of the target and a Class V asset.
In these cases, for allocation purposes,
the hypothetical subsidiary corporation is
treated as bearing the responsibility for
decommissioning to the extent assets of
the fund are expected to be used for that
purpose. A section 338(h)(10) election is
treated as made for the hypothetical sub-
sidiary corporation (regardless of whether
the requirements for a section 338(h)(10)
election are otherwise satisfied).
The election converts the assets of the
nonqualified fund from primarily Class I
and Class II assets into stock of a hypo-
thetical subsidiary corporation which is a
Class V asset and allows the present cost
of the decommissioning liability funded
by the nonqualified fund, which otherwise
cannot be taken into account for income
tax purposes, to be netted against the fund
assets for the sole purpose of valuing the
stock of the hypothetical subsidiary corpo-
ration. Therefore, if the election is made,
it is expected that a larger amount of the
initial purchase price would be available
to be allocated to the plant and other op-
erating assets than if no such election had
been made. However, in such a case, a
much smaller amount of the initial pur-
chase price would be available to be allo-
cated to the assets of the nonqualified fund.
Accordingly, a disposition of the nonqual-
ified fund assets would likely result in cur-
rent gain recognition.
Explanation of Provisions and
Summary of Comments
A number of comments on the proposed
regulations were received, the most signif-
icant of which are discussed below. No
public hearing was requested nor held.
Economic Performance Test
The preamble to the proposed and tem-
porary regulations discussed application of
the economic performance test of section
461 to the assumption of decommission-
ing liabilities by the purchaser. Various
commentators requested that, with respect
to the purchaser of a nuclear power plant,
the economic performance rules outlined
in the proposed and temporary regulations
be modified to provide that economic per-
formance with respect to an assumed de-
commissioning liability be deemed to oc-
cur at the time of purchase rather than
upon performance of the decommission-
ing activities. Specifically, commentators
pointed out that the election in the pro-
posed and temporary regulations will typ-
ically result in the purchaser holding the
assets of the nonqualified fund with lit-
tle or no tax basis, and subsequent invest-
ment reallocations undertaken during the
course of portfolio management will result
in gain recognition and a current tax liabil-
ity. Further, the commentators noted that
nonqualified trust agreements related to
nuclear decommissioning obligations of-
ten require the trustees to remit to the pur-
chasers, out of trust assets, the monies nec-
essary to pay the purchasers’ taxes result-
ing from the trusts’ sales of assets. The
commentators expressed concern that this
requirement will result in fewer assets in
the trust to be used to decommission the
nuclear power plant because trustees will
be required to either remit taxes from the
fund or restrict changes in the fund’s in-
vestment portfolio.
The IRS and Treasury Department rec-
ognize that requiring the purchaser to sat-
isfy the economic performance of a liabil-
ity assumed in a purchase transaction can
result in the deferral of the basis of the ac-
quired assets in the hands of the purchaser.
However, this result is not unique to the
assumption of decommissioning liabilities
and therefore, the economic performance
concerns raised by commentators extend
beyond the scope of these regulations. The
final regulations adopt the rules provided
in the proposed and temporary regulations
which are consistent with the application
of economic performance rules of section
461 to liabilities assumed by a purchaser.
The Deemed Section 338(h)(10) Election
Several of the commentators urge that,
if the IRS and Treasury Department de-
cline to change the position on economic
performance, then the final regulations
should eliminate the particular result of
the §1.338–6T(c)(5) election set forth
in §1.338–6T(c)(5)(i)(E). That provision
deems a section 338(h)(10) election to
be made with respect to the hypothetical
October 9, 20077702007–41 I.R.B.

subsidiary corporation that results from
making the §1.338–6T(c)(5) election. The
deemed section 338(h)(10) election op-
erates to eliminate any carryover of the
historic basis in the assets in the non-
qualified decommissioning fund from
the seller to the buyer. The commenta-
tors maintain that, as a substitute for the
§1.338–6T(c)(5) election, the parties to
the transaction could preserve the historic
basis in the assets in the nonqualified fund
by having the seller incorporate the non-
qualified fund in a new subsidiary with
the subsidiary assuming the appropriate
portion of the decommissioning obligation
long before the sale of the nuclear power
plant.
However, simply eliminating the
deemed section 338(h)(10) election that
results from making the §1.338–6T(c)(5)
election would not necessarily result in
the same tax consequences to the par-
ties as a transaction in which the seller
incorporated the nonqualified fund in a
new subsidiary prior to the sale of the
nuclear power plant. The purchase of a
subsidiary as opposed to an assumption
of the decommissioning liability generally
would result in tax accounting differ-
ences not only to the buyer but also the
seller. Eliminating the deemed section
338(h)(10) election that results from mak-
ing the §1.338–6T(c)(5) election would
have the effect of essentially accelerat-
ing economic performance with respect
to an assumed nuclear decommissioning
liability in a manner inconsistent with
the economic performance rules of other
assumed liabilities. Therefore, the fi-
nal regulations adopt the deemed section
338(h)(10) election rule as provided in
§1.338–6T(c)(5)(i)(E).
Another group of commentators urge
that the §1.338–6T(c)(5) election be made
retroactively available prior to Septem-
ber 15, 2004. The allocation rules ap-
plicable under sections 338 and 1060
prior to September 15, 2004, however,
were comprehensive, and the manner in
which they operated was well known to
participants in the nuclear power indus-
try. Section 1.338–6T(c)(5) originally
was proposed with a prospective effec-
tive date, and, while the members of
the nuclear power industry at that time
urged that §1.338–6T(c)(5) be made avail-
able retroactively,the IRS and Treasury
Department declined to do so because
transactions negotiated prior to Septem-
ber 15, 2004, would have been based on
the rules of §1.338–6 without inclusion
of §1.338–6T(c)(5). Although the com-
mentators state that the nuclear power
industry is very competitive and that some
purchasers who purchased nuclear power
plants prior to September 15, 2004, might
be at a disadvantage relative to those who
purchased on or after September 15, 2004,
these final regulations are only applicable
prospectively so as not to retroactively
alter the tax consequences of prior trans-
actions.
Finally, one commentator notes that
§1.338–6T(c)(5)(i)(D) treats the hypo-
thetical subsidiary corporation as bearing
responsibility for decommissioning only
to the extent that assets of the fund are
expected to be used for that purpose (the
expected use standard). The commentator
argues that proving the expected use of
the nonqualified assets might be a con-
tentious issue and prove difficult. The
commentator proposes that, for purposes
of clarity, the hypothetical subsidiary cor-
poration should be treated as bearing the
responsibility for decommissioning in an
amount equal to the fair market value of
the nonqualified fund assets at the time
of the closing of the transaction (causing
the stock of the hypothetical subsidiary
corporation to be assigned a zero value).
The commentator suggests that such an
approach would eliminate the uncertainty
contained in the expected use standard
and ensure that no portion of the purchase
price is allocated to the nonqualified as-
sets.
The IRS and Treasury Department be-
lieve, however, that the implementation of
an approach that does not establish a con-
nection between the fund assets and their
expected use may lead to the over fund-
ing of nonqualified funds in certain cir-
cumstances and inappropriate allocations
of basis. Accordingly, the final regulations
retain the expected use standard.
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 has also been determined
that section 553(b) of the Administrative
Procedure Act (5 U.S.C. chapter 5) does
not apply to these regulations and pursuant
to 5 U.S.C. 553(d)(3) it has been deter-
mined that a delayed effective date is un-
necessary because this rule finalizes cur-
rently effective temporary rules regarding
the treatment of certain nuclear decommis-
sioning funds for purposes of allocating
purchase price in certain acquisitions with-
out substantive change. It is hereby certi-
fied that these regulations will not have a
significant economic impact on a substan-
tial number of small entities. This certifi-
cation is based on the fact that these regu-
lations will affect sellers and purchasers of
nuclear power plants or the stock of cor-
porations that own nuclear power plants in
qualified stock purchases, which tend to be
larger businesses. Therefore, a regulatory
flexibility analysis is not required. Pur-
suant to section 7805(f) of the Code, the
notice of proposed rulemaking preceding
these final regulations 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 Richard Starke, Office of the As-
sociate Chief Counsel (Corporate).
*****
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 removing the entries
for sections 1.338–6T and 1.1060–1T.
Authority: 26 U.S.C. 7805. * * *
Par. 2. Section 1.338–0 is amended by
removing the entry in the list of captions
for §1.338–6T and by revising the entry in
the list of captions for paragraph (c)(5) of
§1.338–6 to read as follows:
§1.338–0 Outline of topics.
*****
§1.338–6 Allocation of ADSP and AGUB
among target assets.
*****
(c) * * *
2007–41 I.R.B.771October 9, 2007

(5) Allocation to certain nuclear decom-
missioning funds.
*****
Par. 3. Paragraph (c)(5) of §1.338–6 is
amended to read as follows:
§1.338–6 Alloca
tion of ADSP and AGUB
among target ass
ets.
*****
(c) * * *
(5)Allocation to certain nuclear de-
commissioning funds—(i)General rule.
For purposes of allocating ADSP or
AGUB among the acquisition date as-
sets of a target (and for no other purpose),
a taxpayer may elect to treat a nonqualified
nuclear decommissioning fund (as defined
in paragraph (c)(5)(ii) of this section) of
the target as if—
(A) Such fund were an entity classified
as a corporation;
(B) The stock of the corporation were
among the acquisition date assets of the
target and a Class V asset;
(C) The corporation owned the assets of
the fund;
(D) The corporation bore the respon-
sibility for decommissioning one or more
nuclear power plants to the extent assets of
the fund are expected to be used for that
purpose; and
(E) A section 338(h)(10) election were
made for the corporation (regardless of
whether the requirements for a section
338(h)(10) election are otherwise satis-
fied).
(ii)Definition of nonqualified nuclear
decommissioning fund.Anonqualified nu-
clear decommissioning fundmeans a trust,
escrow account, Government fund or other
type of agreement—
(A) That is established in writing by the
owner or licensee of a nuclear generating
unit for the exclusive purpose of funding
the decommissioning of one or more nu-
clear power plants;
(B) That is described to the Nuclear
Regulatory Commission in a report de-
scribed in 10 CFR 50.75(b) as providing
assurance that funds will be available for
decommissioning;
(C) That is not a Nuclear Decommis-
sioning Reserve Fund, as described in sec-
tion 468A;
(D) That is maintained at all times in the
United States; and
(E) The assets of which are to be used
only as permitted by 10 CFR 50.82(a)(8).
(iii)Availability of election.Pmay
make the election described in this para-
graph (c)(5) regardless of whether the sell-
ing consolidated group (or the selling affil-
iate or the S corporation shareholders) also
makes the election. In addition, the sell-
ing consolidated group (or the selling affil-
iate or the S corporation shareholders) may
make the election regardless of whether P
also makes the election. If T is an S corpo-
ration, all of the S corporation sharehold-
ers, including those that do not sell their
stock, must consent to the election for the
election to be effective as to any S corpo-
ration shareholder.
(iv)Time and manner of making elec-
tion. The election described in this para-
graph (c)(5) is made by taking a position
on an original or amended tax return for
the taxable year of the qualified stock pur-
chase that is consistent with having made
the election. Such tax return must be filed
no later than the later of 30 days after the
date on which the section 338 election is
due or the day the original tax return for
the taxable year of the qualified stock pur-
chase is due (with extensions).
(v)Irrevocability of election. An elec-
tion made pursuant to this paragraph (c)(5)
is irrevocable.
(vi)Effective/applicability date.This
paragraph (c)(5) applies to qualified stock
purchases occurring on or after September
11, 2007. For qualified stock purchases
occurring before September 11, 2007
and on or after September 15, 2004, see
§1.338–6T as contained in 26 CFR Part 1
in effect on April 1, 2007. For qualified
stock purchases occurring before Septem-
ber 15, 2004, see §1.338–6 as contained in
26 CFR Part 1 in effect on April 1, 2004.
§1.338–6T [Removed]
Par. 4. Section 1.338–6T is removed.
Par. 5. Section 1.1060–1 is amended
by:
1. Revising in theOutline of Topicsin
paragraph (a)(3), the entry for paragraph
(e)(1)(ii)(C).
2. Removing the last sentence of
paragraph (c)(3) and adding four new sen-
tences in its place.
3. Revising paragraph (e)(1)(ii)(C).
The revisions read as follows:
§1.1060–1 Special allocation rules for
certain asset acquisitions.
(a) * * *
(3) * * *
*****
(e) * * *
(1) * * *
(ii) * * *
(C)Electiondescribedin
§1.338–6(c)(5).
*****
(c) * * *
(3)Certain costs. * * * If an elec-
tion described in §1.338–6(c)(5) is made
with respect to an applicable asset acqui-
sition, any allocation of costs pursuant to
this paragraph (c)(3) shall be made as if
such election had not been made. The pre-
ceding sentence applies to applicable asset
acquisitions occurring on or after Septem-
ber 11, 2007. For applicable asset acquisi-
tions occurring before September 11, 2007
and on or after September 15, 2004, see
§1.1060–1T as contained in 26 CFR Part
1 in effect on April 1, 2007. For appli-
cable asset acquisitions occurring before
September 15, 2004, see §§1.338–6 and
1.1060–1 as contained in 26 CFR Part 1 in
effect on April 1, 2004.
*****
(e) * * *
(1) * * *
(ii) * * *
(C)Electiondescribedin
§1.338–6(c)(5)—(1
)Availability.The
election described in §1.338–6(c)(5) is
available in respect of an applicable asset
acquisition provided that the requirements
of that section are satisfied. Such election
may be made by the seller, regardless
of whether the purchaser also makes
the election, and may be made by the
purchaser, regardless of whether the seller
also makes the election.
(2)Time and manner of making
election. The election described in
§1.338–6(c)(5) is made by taking a po-
sition on a timely filed original tax return
for the taxable year of the applicable asset
acquisition that is consistent with having
made the election.
(3)Irrevocability of election. The elec-
tion described in §1.338–6(c)(5) is irrevo-
cable.
(4)Effective/applicability date.This
paragraph (e)(1)(ii)(C) applies to applica-
October 9, 20077722007–41 I.R.B.

ble asset acquisitions occurring on or af-
ter September 11, 2007. For applicable as-
set acquisitions occurring before Septem-
ber 11, 2007 and on or after September 15,
2004, see §1.1060–1T as contained in 26
CFR Part 1 in effect on April 1, 2007. For
applicable asset acquisitions occurring be-
fore September 15, 2004, see §§1.338–6
and 1.1060–1 as contained in 26 CFR Part
1ineffectonApril1,2004.
*****
§1.1060–1T [Removed]
Par. 6. Section 1.1060–1T is removed.
Kevin M. Brown,
Deputy Commissioner for
Services and Enforcement.
Approved August 31, 2007.
Eric Solomon,
Assistant Secretary of
theTreasury(TaxPolicy).
(Filed by the Office of the Federal Register on September
10, 2007, 8:45 a.m., and published in the issue of the Federal
Register for September 11, 2007, 72 F.R. 51703)
Section 382.—Limitation
on Net Operating Loss
Carryforwards and Certain
Built-In
Losses Following
Ownership Change
The adjusted applicable federal long-term rate is
set forth for the month of October 2007. See Rev.
Rul. 2007-63, page 778.
Section 412.—Minimum
Funding Standards
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
Section 467.—Certain
Payments for the Use of
Property or Services
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
Section 468.—Special
Rules for Mining and Solid
Waste Reclamation and
Closing Costs
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
Section 482.—Allocation
of Income and Deductions
Among Taxpayers
Federal short-term, mid-term, and long-term rates
are set forth for the month of October 2007. See Rev.
Rul. 2007-63, page 778.
Section 483.—Interest on
Certain Deferred Payments
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
Section 642.—Special
Rules for C
redits and
Deductio
ns
Federal s
hort-term, mid-term, and long-term rates
are set fo
rth for the month of October 2007. See Rev.
Rul. 2007
-63, page 778.
Section 807.—Rules for
Certain Reserves
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
Section 846.—Discounted
Unpaid Losses Defined
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
Section 853.—Foreign
Tax Credit Allowed to
Shareholders
26 CFR 1.853–1: Foreign tax credit allowed to share-
holders.
T.D. 9357
DEPARTMENT OF
THE TREASURY
Internal Revenue Service
26 CFR Parts 1 and 602
Elimination of
Country-by-Country Reporting
to Shareholders of Foreign
Taxes Paid by Regulated
Investment Companies
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Final regulations.
SUMMARY: This document contains final
regulations that generally eliminate coun-
try-by-country reporting by a regulated in-
vestment company (RIC) to its sharehold-
ers of foreign source income that the RIC
takes into account and foreign taxes that it
pays. This change is necessary to conform
the regulations to changes in the tax law
relating to the foreign tax credit. These fi-
nal regulations will affect certain RICs that
pay foreign taxes and the shareholders of
those RICs.
DATES:Effective Date:These regulations
are effective on August 24, 2007.
Applicability Date:These regulations
are applicable for RIC taxable years end-
ing on or after December 31, 2007. For
reporting purposes, however, a taxpayer
may rely on the current regulations for a
taxable year ending on or after December
31, 2007, and beginning before August 24,
2007.
FOR FURTHER INFORMATION
CONTACT: Richard C. LaFalce, (202)
622–3930 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information con-
tained in these final regulations has been
2007–41 I.R.B.773October 9, 2007

reviewed and approved by the Office of
Management and Budget in accordance
with the Paperwork Reduction Act of
1995 (44 U.S.C. 3507(d)) under control
number 1545–2035. Comments on the
accuracy of the estimated burden and sug-
gestions for reducing the burden should
be sent to theInternal Revenue Service,
Attn: IRS Reports Clearance Officer,
SE:W:CAR:MP:T:T:SP, Washington, DC
20224.
The collection of information in these
final regulations is in §1.853–4(c) and (d).
A RIC is required to notify the IRS of
amounts of income received from sources
within foreign countries and possessions
of the United States and taxes paid to each
such foreign country or possession in or-
der that the IRS may monitor shareholder
compliance with the foreign tax credit pro-
visions. The collection of information is
required if a RIC elects to pass through
the benefits of the foreign tax credit to its
shareholders.
Estimated total annual recordkeeping
burden: 80 hours.
Estimated average annual burden per
recordkeeper: 2 hours.
Estimated number of recordkeepers:
40.
Estimated frequency of recordkeeping:
Annually.
An agency may not conduct or sponsor,
and a person is not required to respond to, a
collection of information unless it displays
a valid control number.
Books or records relating to a collection
of information must be retained as long
as their contents may become material in
the administration of any internal revenue
law. Generally, tax returns and tax return
information are confidential, as required
by 26 U.S.C. 6103.
Background
This document contains amendments
to 26 CFR part 1 under section 853 of
the Internal Revenue Code (Code). On
September 18, 2006, a notice of proposed
rulemaking (REG–105248–04, 2006–43
I.R.B. 787) was published in theFederal
Register(71 FR 54598). Comments were
specifically requested with respect to the
effective date of the final regulations. In
response, a trade association sent a letter
requesting that RICs be allowed to rely on
the proposed regulations for 2006. This
request was not granted. No public hear-
ing was requested or held.
The proposed regulations are adopted
by this Treasury decision with minor
modifications. The applicability date for
these regulations as adopted, balances the
industry’s desire promptly to eliminate un-
needed RIC reporting with the IRS’s need
for time in which to update its forms and
instructions, thereby reducing potential
taxpayer confusion that may arise from
the new reporting requirements.
Section 853 provides a foreign tax
credit or deduction to shareholders of a
RIC that makes an election under, and
that meets the requirements set forth in,
that section. A RIC more than 50 percent
of the value of whose total assets at the
close of a taxable year consists of stock
or securities in foreign corporations may
make an election under section 853 (a
“foreign tax passthrough election”). If the
RIC makes this election for that taxable
year, it forgoes a deduction or credit for
certain taxes paid to foreign countries and
possessions of the United States (collec-
tively, “foreign taxes”) (but the amount
of the foreign taxes is allowed as an addi-
tion to the RIC’s deduction for dividends
paid for the year). Instead, the RIC passes
through to its shareholders a credit or de-
duction for the foreign taxes it has paid
during its taxable year. If the RIC makes
this election, each shareholder includes
the shareholder’s proportionate share of
these foreign taxes in gross income and
treats this proportionate share as paid by
the shareholder. Each shareholder of an
electing RIC further treats as gross income
from sources within foreign countries
and possessions of the United States the
sum of the shareholder’s proportionate
share of these taxes and the portion of
anydividendpaidbytheRICthatrepre-
sents income derived from sources within
foreign countries and possessions of the
United States. Each shareholder may then
deduct, or claim a credit for the payment
of, a proportionate share of these taxes.
A RIC electing this treatment must pro-
vide information to its shareholders and
to the IRS. First, under section 853(c) of
the Code, the RIC must designate, in a
written notice mailed to shareholders not
later than 60 days after the close of its
taxable year, each shareholder’s propor-
tionate share of foreign taxes paid by the
RIC and each shareholder’s proportionate
share of the RIC’s gross income derived
from sources within any foreign country or
possession of the United States. Section
1.853–3(a) of the current Income Tax Reg-
ulations requires that this notice designate
the shareholder’s portion of foreign taxes
paid to each such foreign country or pos-
session of the United States and the por-
tion of the dividend that represents income
derived from sources within each foreign
country or possession of the United States.
Second, under current §1.853–4(a), the
RIC must file with Form 1099–DIV, “Div-
idends and Distributions,” and Form 1096,
“Annual Summary and Transmittal of U.S.
Information Returns,” a statement as part
of its income tax return (Form 1120–RIC
or its successor) that sets forth the total
amount of income received from sources
within foreign countries and possessions
of the United States; the total amount of
foreign taxes paid; the date, form, and con-
tents of the notice to its shareholders; and
the proportionate share of this income re-
ceived and these taxes paid during the tax-
able year attributable to one share of its
stock. The RIC must also file as part of
its return for the taxable year a Form 1118,
“Foreign Tax Credit—Corporations,” that
has been modified so that it is a state-
ment in support of the RIC’s foreign tax
passthrough election.
The requirement of current §1.853–3(a)
that an electing RIC provide country-by-
country information to its shareholders on
foreign-source income received and for-
eign taxes paid was adopted at a time when
many shareholders generally needed the
information to apply a per-country limi-
tation on the foreign tax credit. Because
of changes to the foreign tax credit provi-
sions of the Code, shareholders generally
no longer need country-by-country infor-
mation on the amounts of foreign-source
income and foreign taxes paid.
The Treasury Department and the IRS
have received comments suggesting that
the section 853 regulations should be
amended to eliminate per-country report-
ing to shareholders and that Form 1116,
“Foreign Tax Credit (Individual, Estate
or Trust),” should be modified to indicate
that distributions from RICs are exempt
from per-country shareholder reporting.
According to these comments, eliminating
the reporting of this information not only
would reduce the time and expense re-
quired of RICs to compile and disseminate
October 9, 20077742007–41 I.R.B.

this tax information but also would reduce
the confusion that their shareholders expe-
rience upon receipt of the extensive tables
used to report this per-country informa-
tion.
Even though the section 904 foreign
tax credit limitation has been applied on
a separate-category-of-income basis, in-
stead of on a per-country basis, since
1976, the Treasury Department and the
IRS have continued to require the report-
ing of per-country information by RICs.
This per-country information remains rel-
evant to the IRS’s monitoring compliance
with the section 901 rules that disallow
credits for refundable and noncompulsory
payments and for taxes paid to certain
countries. See §1.901–2(e)(2) and (5),
providing that credit is not allowed for
amounts that are in excess of final liabil-
ity under foreign law for tax, and section
901(j), denying credit for tax paid to coun-
tries described in section 901(j)(2)(A) and
subjecting income from sources in those
countries to separate foreign tax credit
limitations.
Although per-country information with
respect to foreign income and foreign taxes
is needed for the IRS to monitor compli-
ance, the Treasury Department and the IRS
believe that taxpayer burden can be re-
duced by continuing to require this infor-
mation to be supplied with the RIC’s tax
return but generally not requiring it to be
reported to the RIC’s shareholders as well.
Accordingly, the final regulations revise
§1.853–3 and §1.853–4 to require that a
RIC provide aggregate per-country infor-
mation on a statement filed with its tax re-
turn and require that only summary for-
eign income and foreign tax amounts be
reported to its shareholders. The instruc-
tions to Forms 1116 and 1118 will be mod-
ified to permit summary reporting at the
shareholder level similar to the summary
reporting currently permitted with respect
to “section 863(b) income” on Forms 1116
and 1118.
Explanation of Provisions
The final regulations update §1.853–1
to reflect statutory amendments providing
that the foreign tax passthrough election is
not applicable to taxes for which the RIC
would not be allowed a credit by reason
of section 901(j) (denying credit for taxes
paid to certain countries, including those
with which the United States does not have
diplomatic relations), section 901(k) and
(l) (denying credit for withholding taxes
paid on certain income where certain hold-
ing period requirements are not met), or
any similar provision.
The final regulations change in two
ways the regulations that set forth require-
ments for a RIC seeking to make and
to notify shareholders of a foreign tax
passthrough election:
First, references in §1.853–3(a) and (b)
to required statements to shareholders of
dollar amounts of taxes paid to specific
countries, and to dollar amounts of in-
come considered as received from specific
countries, are changed to require that a
RIC (or a shareholder of record of the RIC
who is a nominee acting as a custodian of
a unit investment trust) state only the total
amount of the RIC’s shareholder’s (or the
record shareholder nominee’s principal’s)
proportionate share of creditable foreign
taxes paid, income from sources within
countries described in section 901(j), if
any, and income derived from sources
within other foreign countries or posses-
sions of the United States.
Second, the final regulations extend
various deadlines in §1.853–3(b) to reflect
statutory changes since the regulations
were issued. Thus the number of days
following the close of its taxable year by
which a RIC must notify its shareholders
in writing of the making of a foreign tax
passthrough election is increased to 60.
References to the number of days follow-
ing the close of the taxable year by which
a nominee acting as a custodian of a unit
investment trust must notify holders of
interests in the unit investment trust is
increased to 70. Similarly, references to
the number of days following the close of
a RIC’s taxable year by which a statement
that holders of interests in unit investment
trusts have been directly notified by the
RIC (or a statement that the RIC has failed
or is unable to notify these holders of in-
terests) must be filed with the IRS and
transmitted to a nominee is increased to
60.
Section1.853–4ismodifiedtocreate
more flexibility in the references to spe-
cific forms. The current regulations re-
quire a RIC to file statements with Form
1099 and Form 1096 and to file, as a part
of its return for the taxable year, a Form
1118, modified so that it becomes a state-
ment in support of the election made by
a RIC to pass through taxes paid to a for-
eign country or a possession of the United
States. The first of these requirements, the
requirement to file statements with Forms
1099 and 1096, is eliminated. The final
regulations retain the general requirement
that a RIC must file as part of its return a
statement that elects the application of sec-
tion 853 for the taxable year.
Section 1.853–4(a) also requires that
a RIC agree to provide certain informa-
tion on foreign-source income received
and foreign taxes paid. The information
requiredtobeprovidedissetforthin
§1.853–4(c). Section 1.853–4(d) contin-
ues to provide that this required informa-
tion is to be provided on or with a modified
Form 1118 but adds that it may instead be
provided in such other form or manner as
may be prescribed by the Commissioner.
This change facilitates future changes in
administrative practice if, for example,
forms are renumbered or become obso-
lete.
Special Analyses
It has been determined that this Trea-
sury decision is not asignificant regula-
tory action as defined in Executive Order
12866. Therefore, a regulatory assessment
is not required. It has also been deter-
mined that section 553(b) of the Adminis-
trative Procedure Act (5 U.S.C. chapter 5)
does not apply to these regulations because
these regulations do not impose a collec-
tion of information on small entities.
Pursuant to section 605(b) of the Reg-
ulatory Flexibility Act, 5 U.S.C. §605(b),
it has also been determined that the Reg-
ulatory Flexibility Act (5 U.S.C. chapter
6) does not apply to these regulations be-
cause these regulations do not have a sig-
nificant economic impact on a substantial
number of small entities. According to the
Small Business Administration definition
of a “small business,” 13 C.F.R. 121.201,
a RIC is classified as a Portfolio Manage-
ment company, NAICS code 523920, and
is considered a small entity if it accumu-
lates less than 6.5 million dollars in annual
receipts. It has been determined that RICs
affected by these regulations generally will
have greater than 6.5 million dollars in an-
nual receipts and therefore will not gener-
ally be classified as small business entities.
2007–41 I.R.B.775October 9, 2007

Because the summary reporting of the
foreign tax credit information provided by
these regulations is universally less bur-
densome than the reporting of country-by-
country information previously required, it
is also clear that these regulations do not
have a significant economic impact on af-
fected RICs. Pursuant to section 7805(f)
of the Internal Revenue Code, the pro-
posed regulations preceding these regula-
tions were submitted to the Chief Counsel
for Advocacy of the Small Business Ad-
ministration for comment on their impact
on small business.
Drafting Information
The principal author of this regulation is
Richard C. LaFalce of the Office of Asso-
ciate Chief Counsel (Financial Institutions
and Products).
*****
Adoption of Amendments to the
Regulations
Accordingly, 26 CFR parts 1 and 602
are amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by adding entries in nu-
merical order to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.853–1 also issued under 26
U.S.C. 901(j).
Section 1.853–2 also issued under 26
U.S.C. 901(j).
Section 1.853–3 also issued under 26
U.S.C. 901(j).
Section 1.853–4 also issued under 26
U.S.C. 901(j) and 26 U.S.C. 6011. * * *
Par. 2. Section 1.853–1 is amended by
adding a sentence at the end of paragraph
(a) and adding paragraph (c) to read as
follows:
§1.853–1 Foreign tax credit allowed to
shareholders.
(a)In general. * * * In addition, the
election is not applicable to any tax with
respect to which the regulated investment
company is not allowed a credit by reason
of any provision of the Internal Revenue
Code other than section 853(b)(1), includ-
ing, but not limited to, section 901(j), sec-
tion 901(k), or section 901(l).
*****
(c)Effective/applicability date.Thefi-
nal sentence of paragraph (a) of this sec-
tion is applicable for RIC taxable years
ending on or after December 31, 2007.
Par. 3. Section 1.853–2 is amended
by revising paragraph (d) and adding para-
graph (e) to read as follows:
§1.853–2 Effect of election.
*****
(d)Example. This section is illustrated
by the following example:
Example.(i)Facts. X Corporation, a regu-
lated investment company with 250,000 shares of
common stock outstanding, has total assets, at the
close of the taxable year, of $10 million ($4 million
invested in domestic corporations, $3.5 million in
Foreign Country A corporations, and $2.5 million
in Foreign Country B corporations). X Corporation
received dividend income of $800,000 from the
following sources: $300,000 from domestic cor-
porations, $250,000 from Country A corporations,
and $250,000 from Country B corporations. All
dividends from Country A corporations and from
Country B corporations were properly characterized
as income from sources without the United States.
The dividends from Country A corporations were
subject to a 10 percent withholding tax ($25,000)
and the dividends from Country B corporations were
subject to a 20 percent withholding tax ($50,000).
X Corporation’s only expenses for the taxable year
were $80,000 of operation and management expenses
related to both its U.S. and foreign investments. In
this case, Corporation X properly apportioned the
$80,000 expense based on the relative amounts of
its U.S. and foreign source gross income. Thus,
$50,000 in expense was apportioned to foreign
source income ($80,000 × $500,000/$800,000, to-
tal expense times the fraction of foreign dividend
income over total dividend income) and $30,000
in expense was apportioned to U.S. source income
($80,000 × $300,000/$800,000, total expense times
the fraction of U.S. source dividend income over
total dividend income). During the taxable year, X
Corporation distributed to its shareholders the entire
$645,000 income that was available for distribution
($800,000, less $80,000 in expenses, less $75,000 in
foreign taxes withheld).
(ii)Section 853 election. X Corporation meets
the requirements of section 851 to be considered a
RIC for the taxable year and the requirements of sec-
tion 852(a) for part 1 of subchapter M to apply for
the taxable year. X Corporation notifies each share-
holder by mail, within the time prescribed by section
853(c), that by reason of the election the sharehold-
ers are to treat as foreign taxes paid $0.30 per share
of stock ($75,000 of foreign taxes paid, divided by
the 250,000 shares of stock outstanding). The share-
holders must report as income $2.88 per share ($2.58
of dividends actually received plus the $0.30 repre-
senting foreign taxes paid). Of the $2.88 per share,
$1.80 per share ($450,000 of foreign source taxable
income divided by 250,000 shares) is to be consid-
ered as received from foreign sources. The $1.80 con-
sists of $0.30, the foreign taxes treated as paid by the
shareholder and $1.50, the portion of the dividends
received by the shareholder from the RIC that repre-
sents income of the RIC treated as derived from for-
eign sources ($500,000 of foreign source income, less
$50,000 of expense apportioned to foreign source in-
come, less $75,000 of foreign tax withheld, which is
$375,000, divided by 250,000 shares).
(e)Effective/applicability date. Para-
graph (d) of this section is applicable for
RIC taxable years ending on or after De-
cember 31, 2007. Notwithstanding the
preceding sentence, for a taxable year that
ends on or after December 31, 2007, and
begins before August 24, 2007, a taxpayer
may rely on this section as it was in effect
on August 23, 2007.
Par. 4. Section 1.853–3 is amended by:
1. Revising paragraph (a).
2. Removing the number “55
th
”and
adding the number “70
th
” in its place in the
first sentence of paragraph (b).
3. Revising the second sentence of
paragraph (b).
4. Removing the number “45” and
adding the number “60” in its place in each
place in which it appears in the fifth sen-
tence of paragraph (b).
5. Adding paragraph (c).
The revisions and addition read as fol-
lows:
§1.853–3 Notice to shareholders.
(a)General rule. If a regulated invest-
ment company makes an election under
section 853(a), in the manner provided
in §1.853–4, the regulated investment
company is required under section 853(c)
to furnish its shareholders with a written
notice mailed not later than 60 days after
the close of its taxable year. The notice
must designate the shareholder’s portion
of creditable foreign taxes paid to foreign
countries or possessions of the United
States and the portion of the dividend that
represents income derived from sources
within each country that is attributable
to a period during which section 901(j)
applies to such country, if any, and the
portion of the dividend that represents
income derived from other foreign coun-
tries and possessions of the United States.
For purposes of section 853(b)(2) and
§1.853–2(b), the amount that a share-
holder may treat as the shareholder’s
proportionate share of foreign taxes paid
and the amount to be included as gross
income derived from any foreign coun-
try that is attributable to a period during
October 9, 20077762007–41 I.R.B.

which section 901(j) applies to such coun-
try or gross income from sources within
other foreign countries or possessions of
the United States shall not exceed the
amount so designated by the regulated in-
vestmentcompanyinsuchwrittennotice.
If, however, the amount designated by
the regulated investment company in the
notice exceeds the shareholder’s proper
proportionate share of foreign taxes or
gross income from sources within foreign
countries or possessions of the United
States, the shareholder is limited to the
amount correctlyascertained.
(b)***Thenoticeshalldesignate
the holder’s proportionate share of the
amounts of creditable foreign taxes paid
to foreign countries or possessions of the
United States and the holder’s proportion-
ate share of the dividend that represents
income derived from sources within each
country that is attributable to a period
during which section 901(j) applies to
such country, if any, and the holder’s
proportionate share of the dividend that
represents income derived from other for-
eign countries or possessions of the United
States shown on the notice received by the
nominee pursuant to paragraph (a) of this
section. * * *
(c)Effective/applicability date.This
section is applicable for RIC taxable years
ending on or after December 31, 2007.
Notwithstanding the preceding sentence,
for a taxable year that ends on or after De-
cember 31, 2007, and begins before Au-
gust 24, 2007, a taxpayer may rely on this
section as it was in effect on August 23,
2007.
Par. 5. Section 1.853–4 is revised to
read as follows:
§1.853–4 Manner of making election.
(a)General rule. To make an elec-
tion under section 853 for a taxable year,
a regulated investment company must file
a statement of election as part of its Fed-
eral income tax return for the taxable year.
The statement of election must state that
the regulated investment company elects
the application of section 853 for the tax-
able year and agrees to provide the infor-
mation required by paragraph (c) of this
section.
(b)Irrevocability of the election.The
election shall be made with respect to all
foreign taxes described in paragraph (c)(2)
of this section, and must be made not later
than the time prescribed for filing the re-
turn (including extensions). This election,
if made, shall be irrevocable with respect
to the dividend (or portion thereof), and the
foreign taxes paid with respect thereto, to
which the election applies.
(c)Required information.Aregulated
investment company making an election
under section 853 must provide the follow-
ing information:
(1) The total amount of taxable income
received in the taxable year from sources
within foreign countries and possessions
of the United States and the amount of tax-
able income received in the taxable year
from sources within each such foreign
country or possession.
(2)Thetotalamountofincome,war
profits, or excess profits taxes (described
in section 901(b)(1)) to which the election
applies that were paid in the taxable year to
such foreign countries or possessions and
the amount of such taxes paid to each such
foreign country or possession.
(3) The amount of income, war prof-
its, or excess profits taxes paid during the
taxable year to which the election does
not apply by reason of any provision of
the Internal Revenue Code other than sec-
tion 853(b), including, but not limited to,
section 901(j), section 901(k), or section
901(l).
(4) The date, form, and contents of the
notice to its shareholders.
(5) The proportionate share of cred-
itable foreign taxes paid to each such
foreign country or possession during the
taxable year and foreign income received
from sources within each such foreign
country or possession during the taxable
year attributable to one share of stock of
the regulated investment company.
(d)Time and manner of providing in-
formation. The information specified in
paragraph (c) of this section must be pro-
vided at the time and in the manner pre-
scribed by the Commissioner and, unless
otherwise prescribed, must be provided on
or with a modified Form 1118 “Foreign Tax
Credit—Corporations” filed as part of the
RIC’s timely filed Federal income tax re-
turn for the taxable year.
(e)Effective/applicability date.This
section is applicable for RIC taxable years
ending on or after December 31, 2007.
Notwithstanding the preceding sentence,
for a taxable year that ends on or after De-
cember 31, 2007, and begins before Au-
gust 24, 2007, a taxpayer may rely on this
section as it was in effect on August 23,
2007.
PART 602—OMB CONTROL
NUMBERS UNDER THE PAPERWORK
REDUCTION ACT
Par. 6. The authority citation for part
602 continues to read as follows:
Authority: 26 U.S.C. 7805.
Par. 7. In §602.101, paragraph (b)
is amended by revising the entries for
1.853–3 and 1.853–4 to read as follows:
§602.101 OMB Control numbers.
*****
(b) * * *
CFR part or section where
identified or described
Current OMB
control No.
***
**
1.853–3........................................................... 1545–2035
1.853–4........................................................... 1545–2035
*****
Kevin M. Brown,
Deputy Commissioner for
Services and Enforcement.
Approved August 9, 2007.Karen G. Sowell,
Deputy Assistant Secretary
oftheTreasury(TaxPolicy).
2007–41 I.R.B.777October 9, 2007

(Filed by the Office of the Federal Register on August 23,
2007, 8:45 a.m., and published in the issue of the Federal
Register for August 24, 2007, 72 F.R. 48551)
Section 1274.—Determi-
nation of Issue Price in the
Case of Certain Debt Instru-
ments Issued for Property
(Also Sections 42, 280G, 382, 412, 467, 468, 482,
483, 642, 807, 846, 1288, 7520, 7872.)
Federal rates; adjusted federal rates;
adjusted federal long-term rate and the
long-term exempt rate.For purposes of
sections 382, 642, 1274, 1288, and other
sections of the Code, tables set forth the
rates for October 2007.
Rev. Rul. 2007–63
This revenue ruling provides various
prescribed rates for federal income tax
purposes for October 2007 (the current
month). Table 1 contains the short-term,
mid-term, and long-term applicable fed-
eral rates (AFR) for the current month
for purposes of section 1274(d) of the
Internal Revenue Code. Table 2 contains
the short-term, mid-term, and long-term
adjusted applicable federal rates (adjusted
AFR) for the current month for purposes
of section 1288(b). Table 3 sets forth the
adjusted federal long-term rate and the
long-term tax-exempt rate described in
section 382(f). Table 4 contains the ap-
propriate percentages for determining the
low-income housing credit described in
section 42(b)(2) for buildings placed in
service during the current month. Finally,
Table 5 contains the federal rate for deter-
mining the present value of an annuity, an
interest for life or for a term of years, or
a remainder or a reversionary interest for
purposes of section 7520.
REV. RUL. 2
007–63 TABLE 1
Applicable Federal Rates (AFR) for October 2007
Period for Compounding
AnnualSemiannu
al
Quarterl
y
Monthly
Short-term
AFR4.19%4.15%4.13%4.11%
110% AFR4.62%4.57%4.54%4.53%
120% AFR5.04%4.98%4.95%4.93%
130% AFR5.47%5.40%5.36%5.34%
Mid-te
rm
AFR4.35%4.30%4.28%4.26%
110% AF
R
4.79%4.73%4.70%4.68%
120% AFR5.23%5.16%5.13%5.11%
130% AFR5.67%5.59%5.55%5.53%
150% A
FR
6.55%6.45%6.40%6.36%
175% AFR7.67%7.53%7.46%7.41%
Long
-term
AFR4.88%4.82%4.79%4.77%
110%
AFR
5.37
%
5.30
%
5.27
%
5.24
%
120% AFR5.86%5.78%5.74%5.71%
130% AFR6.37%6.27%6.22%6.19%
October 9, 20077782007–41 I.R.B.

REV. RUL. 2007–
63 TABLE 2
Adjusted AFR for October 2007
Period for Compounding
AnnualSemiannualQuarterlyMonthly
Short-term adjusted
AFR
3.60%3.57%3.55%3.54%
Mid-term adjusted AFR3.79%3.75%3.73%3.72%
Long-term ad
justed
AFR
4.49%4.44%4.42%4.40%
REV. RUL. 2007–63 TABLE 3
Rates Under Section 382 for October 2007
Adjusted federal long-term rate for the current month4.49%
Long-term tax-exempt rate for ownership changes during the current month (the highest of the adjusted
federal long-term rates for the current month and the prior two months.)4.50%
REV. RUL. 2007–63 TABLE 4
Appropriate Percentages Under Section 42(b)(2) for October 2007
Appropriate percentage for the 70% present value low-income housing credit8.07%
Appropriate percentage for the 30% present value low-income housing credit3.46%
REV. RU
L. 2007–63 TABLE 5
Rate Under Section 7520 for October 2007
Applicable federal rate for determining the present value of an annuity, an interest for life or a term of years,
or a remainder or reversionary interest5.2%
Section 1288.—Treatment
of Original Issue Discount
on Tax-Exempt Obligations
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
Section 7520.—Valuation
Tables
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
Section 7872.—Treatment
of Loans With Below-Market
Interest Rates
The adjusted applicable federal short-term, mid-
term, and long-term rates are set forth for the month
of October 2007. See Rev. Rul. 2007-63, page 778.
2007–41 I.R.B.779October 9, 2007

Part III. Administrative, Procedural, and Miscellaneous
2008 Transition Relief and
Additional Guidance on
the Application of § 409A
to Nonqualified Deferred
Compensation Plans
Notice 2007–78
I. PURPOSE
This notice provides transition
relief
and additional guidance on the ap
plication
of § 409A of the Internal Revenue C
ode
to nonqualified deferred compe
nsation
plans. This transition relief a
nd additional
guidance includes:
•Extension to December 31, 2008, of
the deadline to adopt documents that
comply with § 409A, subject to lim-
ited requirements regarding the timely
written designation of a time and form
of payment.
•Guidance and additional relief ad-
dressing certain issues raised by the
application to employment agreements
and cashout features of § 409A and the
final regulations.
•Announcement that the Treasury De-
partment and the IRS anticipate is-
suing guidance containing a limited
voluntary compliance program that
will permit taxpayers to correct certain
unintentional operational violations of
§ 409A and thereby limit the amount
of additional taxes due under § 409A.
•Announcement that the relief from the
application of § 409A(b) (which pro-
hibits the use of certain types of ar-
rangements to pay for nonqualified de-
ferred compensation) provided in No-
tice 2006–33, 2006–1 C.B. 754, with
respect to certain “grace period assets”,
which expires December 31, 2007, is
not being extended, so that after De-
cember 31, 2007, taxpayers must com-
ply with a reasonable, good faith in-
terpretation of § 409A(b) with respect
to all assets in arrangements subject to
§409A(b).
II. BACKGROUND
Section 409A provides certain require-
ments applicable to nonqualified deferred
compensation plans. If a plan does not
meet those requirements, participants in
the plan are required to immediately in-
clude amounts deferred under the plan in
income and pay additional taxes on such
income.
The Treasury Department and the IRS
issued final regulations under § 409A in
April 2007 (T.D. 9321, 2007–19 I.R.B.
1123 [72 Fed. Reg. 19234] (April 17,
2007)). The final regulations apply to tax-
able years beginning on or after January
1, 2008. In general, the final regulations
require that the material terms of a non-
qualified deferred compensation plan be
in writing. See § 1.409A–1(c). Com-
mentators stated that taxpayers anticipate
difficulties in formally amending existing
plans to comply with the final regulations
by the January 1, 2008 deadline. In ad-
dition, a number of commentators have
raised questions regarding the application
of the final regulations to certain types of
plans. This notice is issued in response to
these comments and questions.
III. 2008 TRANSITION RELIEF
A. In General
Section 409A generally applies to
amounts deferred under a nonqualified
deferred compensation plan to the extent
the amounts deferred under the plan were
not earned and vested before January 1,
2005. The final regulations are applicable
for taxable years beginning on or after
January 1, 2008, and a nonqualified de-
ferred compensation plan must meet the
requirements set forth in the final regu-
lations as of the first day of the taxable
year. This section provides certain limited
transition relief, until December 31, 2008,
with respect to the plan document require-
ments. The transition relief in this notice
is not an extension of any of the transition
relief provided in Notice 2005–1, 2005–1
C.B. 274, the preamble to the proposed
regulations under § 409A, 70 Fed. Reg.
57930 (REG–158080–04, 2005–2 C.B.
786) (Oct. 4, 2005), or Notice 2006–79,
2006–43 I.R.B. 763. Accordingly, except
where otherwise provided in the section of
the preamble to the final regulations en-
titled “Effect on Other Documents,” tax-
payers may not rely upon Notice 2005–1,
the proposed regulations, or a reasonable,
good faith interpretation of the statute for
taxable years beginning on or after Jan-
uary 1, 2008. In addition, after December
31, 2007, taxpayers may not change the
time and form of payment except as per-
mitted under the final regulations and this
notice, and no change in the time and form
of payment after December 31, 2007, may
result in an amount that was deferred as
of December 31, 2007, qualifying for an
exclusion from the definition of deferred
compensation under the final regulations.
See § 1.409A–1(a)(1).
B. Retroactive Amendment Period
The written provisions of a plan may
fail to meet the requirements of § 409A,
the final regulations, and any other appli-
cable guidance, because the plan includes
a provision that causes the plan to fail to
satisfy the requirements of § 409A, or be-
cause the plan fails to include a written
provision that is required to satisfy the re-
quirements of § 409A. (For purpose of this
notice, § 409A, the final regulations, and
any other guidance applicable to a plan
or a deferred amount is referred to collec-
tively as “the § 409A guidance”.) How-
ever, under the transition relief provided in
this notice, except as otherwise provided in
section III.C of this notice addressing the
designation of the time and form of pay-
ment of deferred amounts, a nonqualified
deferred compensation plan will not vio-
late the requirements of § 409A on or be-
fore December 31, 2008 merely because
the written provisions of the plan fail to
meet the requirements of the § 409A guid-
ance, provided that the plan is operated in
accordance with the requirements of the
§409Aguidanceandisamendedonorbe-
fore December 31, 2008 to comply with
the § 409A guidance retroactively to Jan-
uary 1, 2008.
A plan is treated as having been
amended to comply with the § 409A
guidance retroactively to January 1, 2008,
only if the written plan, as amended, con-
tains all of the written provisions required
by the final regulations and accurately
reflects the operation of the plan on and
after January 1, 2008, through the date of
the amendment, including the terms and
conditions under which any initial deferral
elections or subsequent deferral elections
October 9, 20077802007–41 I.R.B.

were permitted, and how the operation
of such plan met the requirements of the
§ 409A guidance on and after January
1, 2008, through the date of the amend-
ment. For additional guidance related to
the adoption of new plans, or the adoption
of an amendment to an existing plan in-
creasing amounts deferred under the plan,
see § 1.409A–1(c)(3)(i) and (vi).
C. Transition Relief — Designation of a
Compliant Time and Form of Payment
This section provides guidelines under
which, for periods on or before December
31, 2008, a nonqualified deferred compen-
sation plan will be treated as meeting the
requirement to timely designate a time and
form of payment of an amount deferred un-
der the plan. Nothing in this section al-
ters the requirement that the plan be oper-
ated in accordance with the requirements
of the § 409A guidance (including this no-
tice) on and after January 1, 2008, and be
amended on or before December 31, 2008,
to comply with § 409A and the applicable
guidance retroactively to January 1, 2008.
For example, nothing in this notice alters
the taxpayer’s burden to demonstrate that
any initial deferral election or subsequent
deferral election was made in a manner
that complied in operation with the § 409A
guidance. In addition, nothing in this sec-
tion alters the restrictions on changes in the
time and form of payment on or before De-
cember 31, 2007 under the transition rules
set forth in Notice 2005–1, the preamble to
the proposed regulations, Notice 2006–79,
and the preamble to the final regulations.
1. How to Designate the Time and Form
of Payment
Unless a later date is permitted under
the final regulations, if there have been
deferrals of compensation under a plan
as of January 1, 2008, but the deferred
compensation has not been paid, the plan
will not comply with § 409A after De-
cember 31, 2007, unless the plan desig-
nates in writing before January 1, 2008,
a compliant time and form of payment of
such deferred compensation. Amounts de-
ferred after December 31, 2007, and be-
fore January 1, 2009, will not comply with
§ 409A unless the plan designates in writ-
ing a compliant time and form of payment
of such amounts on or before the appli-
cable deadline under the final regulations
(See § 1.409A–2(a) for the rules governing
initial deferral elections). For purposes of
this section, a plan will designate a compli-
ant time and form of payment of an amount
if the written plan terms, disregarding any
written plan provisions that do not com-
ply with the § 409A guidance (including
this section), provide a compliant time and
form of payment as described in section
III.C.2ofthisnotice. Forexample,ifa
plan provides for a payment upon a sepa-
ration from service, but permits the service
provider to elect an immediate lump sum
payment subject to a forfeiture of a speci-
fied portion of the deferred amount (a hair-
cut provision), the haircut provision may
be disregarded and the plan will be treated
as providing for a payment upon a sepa-
ration from service, provided the haircut
provision is not utilized, and that the hair-
cut provision is removed and the time and
form of payment is otherwise fully com-
pliant with the regulations by December
31, 2008. Also, for purposes of this sec-
tion, a separate written document may be
adopted that provides a time and form of
payment for amounts deferred under ar-
rangements that are specifically identified
(for example, amounts deferred under the
Company X Salary Deferral Plan), or that
provides a time and form of payment for
amounts deferred under arrangements that
are not specifically identified (for exam-
ple, amounts deferred under any arrange-
ment with the service recipient providing
the service provider deferred compensa-
tion subject to § 409A), or a combina-
tion (for example specifying a time and
form of payment for amounts deferred un-
der the Company X Salary Deferral Plan,
and another time and form of payment for
amounts deferred under all other arrange-
ments with the service recipient provid-
ing the service provider deferred compen-
sation subject to § 409A), provided that
the deferred amounts to which each des-
ignated time and form of payment applies
are objectively determinable.
2.HowtoDesignateaCompliantTime
and Form of Payment
For purposes of this section III.C, a plan
will only provide for a compliant time and
form of payment for a deferred amount if
the plan provides for an objectively deter-
minable form of payment payable upon:
(1) A separation from service;
(2) A change in control event;
(3) An unforeseeable emergency;
(4) A specified date or fixed schedule of
payments;
(5) Death; or
(6) Disability.
For example, a plan may provide that an
amount deferred under the plan will be
paid in the form of a life annuity commenc-
ing on the later of the service provider’s
separation from service or attaining age
65. However, a plan may not provide that
an amount deferred under the plan will
be paid during the three years following
the service provider’s separation from ser-
vice (with the exact timing of the pay-
ment during the three-year period deter-
mined at the discretion of the service re-
cipient), because that plan term would not
provide a compliant time and form of pay-
ment. Similarly, a stock option that is sub-
ject to § 409A could not provide the ser-
vice provider the discretion to exercise the
stock option over more than one taxable
year, because that plan term would not pro-
vide a compliant time of payment. See
§ 1.409A–3(c) for rules on when a plan
may designate alternative specified dates
or payment schedules with respect to par-
ticular payment events.
If the objectively determinable form
of payment is a series of installment pay-
ments, as defined in § 1.409A–2(b)(2)(iii),
the series of installment payments is
treated as a single payment unless the
plan designates in writing on or before the
deadline by which the time and form of
payment must be set forth in writing under
section III.C.1 of this notice (the section
III.C.1 deadline), that the series of install-
ment payments is to be treated as a right to
a series of separate payments. On and after
the section III.C.1 deadline, the treatment
of a series of installment payments as a
single payment or as a series of separate
payments may not be modified except as
permitted under the final regulations.
The plan may specify any combination
of payment events that is permissible un-
der the final regulations, including that a
deferred amount is to be paid upon the ear-
liest of these events or the latest of these
events. However, if a payment event is not
specified in writing as a potential payment
event on or before the section III.C.1 dead-
line, the addition of that payment event
as a potential payment event is subject
to the anti-acceleration provisions under
2007–41 I.R.B.781October 9, 2007

§ 1.409A–3(j) and the subsequent deferral
election provisions under § 1.409A–2(b).
For example, a plan providing for the pay-
ment of an amount upon the earliest of
a service provider’s death, disability, or
separation from service would provide for
a compliant time and form of payment.
However, the modification of the provi-
sion after the section III.C.1 deadline to
provide for the payment of the amount
upon the earliest of a service provider’s
death, disability, or separation from ser-
vice, or a change in control event, would
be an impermissible acceleration of the
payment. Similarly, if a payment event is
specified in writing on the section III.C.1
deadline as a potential payment event, the
removal of the payment event after the
applicable deadline as a potential payment
event is subject to the anti-acceleration
provisions under § 1.409A–3(j) and the
subsequent deferral election provisions
under § 1.409A–2(b).
3. Retroactive Adoption of Permissible
Payment Event Definitions
For purposes of this section,separa-
tion from servicemeans any event that
may qualify as a separation from service
under § 1.409A–1(h),change in control
eventmeans any event that may qual-
ify as a change in control event under
§ 1.409A–3(i)(5),unforeseeable emer-
gencymeans any event that may qualify
as an unforeseeable emergency under
§ 1.409A–3(i)(3), anddisabilitymeans
any event that may qualify as a disability
under § 1.409A–3(i)(4). For example, a
plan providing only that a payment will be
made upon a separation from service (or
similar term such as termination of em-
ployment) may be treated as providing for
a payment upon a separation from service
as defined in § 1.409A–1(h). However, the
plan must be operated in accordance with
the final regulations, so that a payment
due upon the service provider’s separation
from service could only be made upon an
event that met the requirements of the def-
inition of separation from service set forth
in §1.409A–1(h), and the plan must be
amended by December 31, 2008 to accu-
rately reflect the application of the provi-
sions during 2008 and to fully comply with
the requirements of the final regulations.
Similarly, a plan providing that a payment
will be made upon the service provider’s
disability may be treated as providing for
a payment upon a disability as defined in
§ 1.409A–3(i)(4). However, the plan must
be operated in accordance with the final
regulations, so that a payment due upon
the service provider’s disability could only
be made upon a disability that met the re-
quirements of the definition of disability
set forth in § 1.409A–3(i)(4), and the plan
must be amended by December 31, 2008
to accurately reflect the application of the
provision during 2008 and to fully comply
with the requirements of the final regula-
tions.
For a deferred amount, a plan will not
be treated as failing to meet the require-
ments of § 409A and the final regulations
merely because the plan fails to specify in
writing the definition of a payment event
that is a separation from service, a change
in control event, disability, or unforesee-
able emergency, applied under the plan on
or before December 31, 2008, provided
that the definition applied is permissible
under the final regulations and the plan is
amended on or before December 31, 2008,
to accurately reflect the application of the
provision during 2008 and to fully comply
with the requirements of the final regula-
tions. For example, § 1.409A–1(h)(1)(ii)
provides that whether a termination of em-
ployment that is a separation from ser-
vice has occurred is determined based on
whether the facts and circumstances indi-
cate that the employer and employee rea-
sonably anticipated that no further services
would be performed after a certain date
or that the level ofbona fideservices the
employee would perform after such date
(whether as an employee or as an indepen-
dent contractor) would permanently de-
crease to no more than 20 percent of the av-
erage level ofbona fideservices performed
(whether as an employee or an indepen-
dent contractor) over the immediately pre-
ceding 36-month period (or the full pe-
riod of services to the employer if the em-
ployee has been providing services to the
employer for less than 36 months). Section
1.409A–1(h)(1)(ii) further provides that a
plan may treat another level of reason-
ably anticipated permanent reduction in
the level ofbona fideservices as a sepa-
ration from service, provided that the level
of reduction required must be designated
in writing as a specific percentage, and
the reasonably anticipated reduced level
ofbona fideservices must be greater than
20% but less than 50% of the average level
ofbona fideservices provided in the im-
mediately preceding 36 months. A plan
isnotrequiredtosetforthinwritingas
of January 1, 2008 whether this alterna-
tive definition has been adopted, and may
provide that a payment is to be made upon
a separation from service of an employee
without designating whether the required
reduction in the level of services is 20%,
50%, or some other reduction in the level
of services available under the final regu-
lations. However, not later than Decem-
ber 31, 2008, the written terms of the plan,
including the designation of the payment
date, must be both fully compliant with
the final regulations and consistent with
the application of such designated pay-
ment event on and after January 1, 2008.
If a payment event that is a separation
from service, a change in control event, an
unforeseeable emergency, or a disability,
has been timely designated, a later adop-
tion of an alternative definition of the des-
ignated payment event, as applicable (or if
an alternative definition has been adopted,
an adoption of the default definition or an-
other alternative definition), on or before
December 31, 2008, will not be treated
as a change in the time or form of pay-
ment, regardless of whether the adoption
of the alternative definition would result in
a payment being made at an earlier or later
date than under the default definition or the
previously designated definition (for ex-
ample, an alternative definition is adopted
during 2007, and a new alternative defini-
tion is adopted during 2008). Solely for
purposes of effecting the relief provided
in this section III.C.3, the availability of a
payment to a service provider had the ser-
vice recipient not been permitted to adopt
an alternative definition will not be treated
as causing the amount to be includible in
income under § 451 or the doctrine of con-
structive receipt. However, once an event
has occurred in 2008 and been treated as
a payment event (or as not qualifying as a
payment event), the service recipient and
service provider may not retroactively al-
ter the definition of the payment event ap-
plicable to such deferred amount.
For example, assume that as of Decem-
ber 31, 2007, a plan provided for a deferred
amount to be paid as a lump sum payment
on or before the 30
th
day following an em-
ployee’s separation of service whose level
of services for the past 3 years has been 40
October 9, 20077822007–41 I.R.B.

hours per week. Assume further that on
April 1, 2008, the participating employee
(who is not a specified employee) perma-
nently reduces his level of services from
40 hours per week to 10 hours per week.
If the amount is paid on or before Decem-
ber 31, 2008, the payment would be con-
sistent with the adoption of a definition of
separation from service that is consistent
with the requirements of the final regula-
tions for a separation from service, which
in this case would be a permanent reduc-
tion in the level of services to a level at or
below 25% of the level of services previ-
ously provided. As of December 31, 2008,
the plan would be required to be amended
retroactively with respect to that deferred
amount to reflect a definition of separa-
tion from service consistent with that treat-
ment. In contrast, if the amount is not paid
on or before December 31, 2008, the fail-
ure to make a payment would be consistent
with a definition of separation from service
that did not include a reduction in the level
of services to a level at or above 25% of
the level of services previously provided.
As of December 31, 2008, the plan either
would be required to apply the default def-
inition of separation from service in the
final regulations or would be required to
be amended retroactively to reflect a def-
inition of separation from service consis-
tent with that treatment, and any change
in the definition of separation from service
with respect to such deferred amount af-
ter the participating employee’s permanent
reduction in the level of services on April
1, 2008, would be subject to the anti-ac-
celeration provisions of § 1.409A–3(j) and
the subsequent deferral election provisions
of § 1.409A–2(b).
4. How to Designate a Specified
Payment Date or a Fixed Schedule of
Payments
For purposes of section III.C.1, the des-
ignation of a specified payment date or a
fixed schedule of payments, including the
use of a specified payment date or a fixed
schedule of payments after a permissible
payment event or the lapse of a substantial
risk of forfeiture, must meet the require-
ments of § 1.409A–3(i)(1). Accordingly,
the plan must meet the requirements of
§ 1.409A–3(i)(1) by December 31, 2007,
for any amount that will be paid in accor-
dance with:
(1) § 1.409A–3(i)(1)(i) (specified time
or fixed schedule in general);
(2) § 1.409A–3(i)(1)(ii) (payment
schedules with formula and fixed limi-
tations);
(3) § 1.409A–3(i)(1)(iii) (payment
schedules determined by timing of pay-
ments received by the service recipient);
(4) § 1.409A–3(i)(1)(iv) (reimburse-
ment or in-kind benefit plans); and
(5) § 1.409A–3(i)(1)(v) (tax gross-up
payments)
However, a payment schedule that
would otherwise qualify as a fixed sched-
ule of payments under § 1.409A–3(i)(1)(v)
(tax gross-up payments), except that the
arrangement does not require that the pay-
ment be made by the end of the service
provider’s taxable year next following the
service provider’s taxable year in which
the service provider remits the related
taxes, will be treated as designating a
fixed schedule of payments if the plan is
amended on or before December 31, 2008
to provide for such a requirement, and the
plan is operated in compliance with such
requirement for periods after December
31, 2007 through the date of the amend-
ment.
In addition, for a specified payment
date or a fixed schedule of payments,
the addition or deletion of a desig-
nated payment provision that meets
the requirements of § 1.409A–3(b) or
§ 1.409A–3(i)(1)(i), as applicable, and
does not affect the taxable year in which
the payment will be made, is not treated as
a change in the time and form of payment
if the addition or deletion is made on or
before December 31, 2008. For example,
if a plan provides for an immediate lump
sum payment upon death, the addition of a
plan provision on or before December 31,
2008, providing that the payment will be
made on or before the end of the service
provider’s taxable year in which the event
occurs will not be treated as a change in the
time and form of payment. The addition,
deletion or modification of a provision
that provides that a payment (including a
paymentthatispartofaschedule)isto
be made during a designated period objec-
tively determinable and nondiscretionary
at the time the payment event occurs if
the designated period is not more than 90
days and the service provider does not
have a right to designate the taxable year
of the payment (other than an election
that complies with the subsequent deferral
election rules of § 1.409A–2(b)), also will
notbetreatedasachangeinthetimeand
form of payment. For example, if a plan
provides that a payment will be made in a
lump sum payment upon separation from
service, a modification of the plan on or
before December 31, 2008, to provide that
the payment will be made on or before
the 90
th
day following the separation from
service, determined atthe sole discretion
of the service recipient, is not treated as a
change in the time and form of payment.
However, plan provisions designating the
time and form of payment must be fully
compliant with the final regulations as of
December 31, 2008.
5. Retroactive Amendments and the
Six-Month Delay on Payments to
Specified Employees
Section 1.409A–3(i)(2) provides that
in the case of any service provider who
is a specified employee (as defined in
§ 1.409A–1(i)) as of the date of a sepa-
ration from service, the requirements of
§ 1.409A–1(a)(1) permitting a payment
upon a separation from service are satis-
fied only if payments may not be made
before the date that is six months after
the date of separation from service (or,
if earlier than the end of the six-month
period, the date of death of the specified
employee). Section 1.409A–1(c)(3)(v)
generally requires that the delay require-
ment be a written provision of any plan
providing for a payment upon separation
from service to a specified employee.
Provided that such payments are delayed
in accordance with § 1.409A–1(a)(1), a
plan will not be treated as failing to meet
the requirements of § 1.409A–1(c)(3)(v)
provided that the plan is amended on
or before December 31, 2008, retroac-
tively to January 1, 2008, to contain the
requirement, and the written plan provi-
sion accurately reflects the operation of
the plan through the date of the amend-
ment. Taxpayers must demonstrate that
the required delay was applied to affected
payments. Accordingly, if the service re-
cipient has used any provisions other than
the default provisions of § 1.409A–1(i) to
identify specified employees, taxpayers
must demonstrate the method by which the
service recipient identified any specified
employees, and that such method of iden-
2007–41 I.R.B.783October 9, 2007

tifying specified employees was applied
consistently to all plans and all service
providers.
IV. APPLICATION OF FINAL
REGULATIONS AND ADDITIONAL
RELIEF
A. Employment Agreements — Good
Reason Provisions
Whether a separation from service is in-
voluntary generally isimportant for the ap-
plication of the exception from the defini-
tion of deferred compensation contained in
§ 1.409A–1(b)(4) (the short-term deferral
rule). Under the short-term deferral rule,
an arrangement that provides for a pay-
ment within certain limited periods follow-
ing the lapse of a substantial risk of forfei-
ture may not constitute deferred compen-
sation. Section 1.409A–1(d) provides that
if a service provider’s entitlement to an
amount is conditioned on the occurrence of
the service provider’s involuntary separa-
tion from service without cause, the right
is subject to a substantial risk of forfeiture
if the possibility of forfeiture is substantial.
Whether a separation from service is in-
voluntary is also important for the applica-
tion of the exclusion for certain separation
pay arrangements under § 1.409A–1(b)(9).
That provision excludes from deferred
compensation a rightto certain amounts
that are payable within a limited period of
time following an involuntary separation
from service, and is available only if the
amounts are payable upon an involuntary
separation from service (often referred to
as the “two-year, two-time rule”).
Section 1.409A–1(n) provides a defini-
tion of an involuntary separation from ser-
vice. Section 1.409A–1(n)(2)(i) provides
that as a general rule a service provider’s
voluntary separation from service will be
treated as an involuntary separation from
service if the separation from service oc-
curs under certain limitedbona fidecondi-
tions, where the avoidance of the require-
ments of § 409A is not a purpose of the in-
clusion of these conditions in the plan or of
the actions by the service recipient in con-
nection with the satisfaction of these con-
ditions, and a voluntary separation from
service under such conditions effectively
constitutes an involuntary separation from
service. Section 1.409A–1(n)(2)(ii) con-
tains a safe harbor setting forth a set of con-
ditions often referred to as the “safe harbor
good reason conditions”. The safe harbor
states that if a plan provides that a volun-
tary separation from service will be treated
as an involuntary separation from service
if the separation from service occurs un-
der certain express conditions, a separation
from service satisfying the conditions set
forth in the plan will be treated as an invol-
untary separation from service if the neces-
sary conditions (or set of conditions) sat-
isfy the requirements of the regulations.
Commentators have stated that to en-
sure qualification for one or both of the
short-term deferral rule or the two-year,
two-time rule, taxpayers have considered
modifying employment arrangements that
currently provide for a payment upon
a voluntary separation from service un-
der certain conditions (often referred to
as “good reason conditions”), including
modifying the good reason conditions un-
der which an employee could voluntarily
terminate employment and receive pay-
ments. Some taxpayers want to replace
the existing good reason conditions in
their agreements with a set of safe harbor
good reason conditions qualifying under
§ 1.409A–1(n)(2)(ii). Other taxpayers
want to add only some of the safe har-
bor good reason conditions (for example,
adding a requirement that the employee
provide notice to the employer that the
good reason condition has been satisfied).
Other taxpayers have proposed removing
a condition from an existing agreement,
because the condition is not a condition
found in the good reason safe harbor.
The modification of these arrangements
raises issues regarding whether a substan-
tial risk of forfeiture condition has been
added or modified in a manner that would
not be respected under Notice 2005–1,
Q&A–10, proposed § 1.409A–1(d) or
final § 1.409A–1(d). Notice 2005–1,
Q&A–10 provides that any addition of
a substantial risk of forfeiture after the
beginning of the service period to which
the compensation relates, or any extension
of a period during which compensation
is subject to a substantial risk of forfei-
ture, in either case whether elected by
the service provider, service recipient or
other person (or by agreement of two or
more of such persons), is disregarded for
purposes of determining whether such
compensation is subject to a substantial
risk of forfeiture. See also proposed and
final § 1.409A–1(d).
The Treasury Department and the IRS
understand that taxpayers may desire to
conform existing good reason conditions
to the requirements of the definition of an
involuntary separation from service under
the regulations. Accordingly, to the extent
that a right to a payment subject to an ex-
isting good reason condition is subject to
a substantial risk of forfeiture, the modifi-
cation of the good reason condition on or
before December 31, 2007 to conform to
some or all of the conditions set forth in
§ 1.409A–1(n)(2) will not be treated as an
extension of the substantial risk of forfei-
ture. However, if the right to a payment
subject to existing good reason conditions
is not subject to a substantial risk of for-
feiture, the modification of such condition
to include one or more of the conditions
set forth in § 1.409A–1(n)(2)(ii), or to re-
move one or more of the existing good rea-
son conditions, will not cause the amount
to be treated as subject to a substantial risk
of forfeiture.
As provided by Notice 2006–79, for
amounts subject to § 409A, a plan may pro-
vide, or be amended to provide, for new
payment elections on or before December
31, 2007, with respect to both the time and
form of payment of such amounts and the
election or amendment will not be treated
asachangeinthetimeorformofpayment
under § 409A(a)(4)or an acceleration of
a payment under § 409A(a)(3), provided
that the plan is so amended and elections
are made on or before December 31, 2007.
With respect to an election or amendment
to change a time and form of payment
made on or after January 1, 2007, and on
or before December 31, 2007, the election
or amendment may apply only to amounts
that would not otherwise be payable in
2007 and may not cause an amount to be
paid in 2007 that would not otherwise be
payable in 2007. An election of a new time
and form of payment under these transi-
tion rules may cause an amount to be ex-
cluded from coverage under § 409A. In the
case of a right to a payment of deferred
compensation, the modification of the time
and form of the payment such that the pay-
ment will only be made upon an involun-
tary separation from service may result in
the exclusion of such right, or a portion of
such right, from the definition of deferred
compensation under § 1.409A–1(b)(9) (the
October 9, 20077842007–41 I.R.B.

two-year, two-time rule), to the extent the
amended arrangement otherwise met the
requirements for the exclusion. In mod-
ifying the arrangement, however, taxpay-
ers should ensure that the amendment does
not affect amounts that otherwise would
be payable in 2007 (for example, because
a separation from service occurred during
2007).
B. Employment Agreements —
Application of Substitution Rule
Commentators have asked about the
conditions under which rights to deferred
compensation under an extension of an
employment agreement, or a negotiation
of a new employment agreement, will
constitute a new legally binding right
to compensation rather than a substitu-
tion for rights to deferred compensation
contained under a previous agreement.
Until further guidance, if a right to de-
ferred compensation payable only upon
an involuntary separation from service
(as defined under § 1.409A–1(n)) at all
times under an employment agreement
would automatically be forfeited at the
end of the term of the employment agree-
ment, then the grant of a right to deferred
compensation in an extended, renewed
or renegotiated employment agreement
will not be treated as a substitute for the
rightthatwasforfeitedatthetermination
of the prior employment agreement. For
example, if an employment agreement
at all times provides that an employee
has a right to deferred compensation if
the employee is involuntarily separated
from service without cause during the
three-year term of the employment agree-
ment, but that deferred compensation will
become payable at the end of the original
three-year term of the employment agree-
ment if the employee is available to per-
form services and the employer does not
extend, renew, or replace the employment
agreement, and at the end of the three-year
term of the employment agreement the
employee has not been involuntarily sep-
arated, the right to deferred compensation
in a renewed, extended or renegotiated
employment agreement may be viewed
as a substitute for the right to deferred
compensation in the original agreement.
However, if the employment agreement
had not provided that any deferred com-
pensation would become payable at the
end of the original three-year term of the
employment agreement if the employee
had been available to perform services and
the employer had not extended, renewed
or replaced the employment agreement,
and the employee had not been involuntar-
ily separated during the three-year term of
the employment agreement, then a right to
deferred compensation under an employ-
ment agreement covering services after
the end of the original three-year term
would not be treated as a substitute for the
right to the deferred compensation upon
an involuntary separation from service
during the original three-year term.
C. Predetermined Cashouts
Section 1.409A–2(b)(2)(iii) provides a
limited ability to provide for the cashout of
all remaining installments under an install-
ment payment provision when the present
value of the remaining payments falls be-
low the predetermined threshold. Section
1.409A–2(b)(2)(ii) provides a similar rule
with respect to annuity payments.
Commentators asked whether a plan
may provide for a lump sum payment at
the payment date only if the present value
of the payments at that date is below a pre-
determined amount, but continue to make
any properly elected installment payments
or annuity payments if the present value
of the payments at the original payment
date is above the predetermined amount,
even if the present value of the remaining
payments falls below the predetermined
amount at a future date. In other words,
the cashout threshold would apply only at
the time of the original payment date, and
notatanyfuturedate.
Section 1.409A–2(b)(2)(ii) and (iii)
does not provide for this type of pay-
ment. However, commentators have asked
whether such a provision would be treated
as an objective, nondiscretionary payment
formula for purposes of § 1.409A–3(b).
Section 1.409A–3(b) provides that a plan
may provide that a payment upon a qual-
ifying payment event is to be made in
accordance with a schedule that is objec-
tively determinable and nondiscretionary
based on the date the event occurs and that
would qualify as a fixed schedule under
§ 1.409A–2(i)(1) if the payment event
were instead a fixed date, provided that
the schedule must be fixed at the time the
permissible payment event is designated.
The use of this type of a cashout pro-
vision may, in certain circumstances, be
subject to manipulation, so that this type
of provision is not an objectively deter-
minable and nondiscretionary schedule of
payments. However, until further guid-
ance, a taxpayer may treat such a provision
as part of an objectively determinable and
nondiscretionary payment schedule if the
payment schedule would otherwise meet
the requirements of the regulations, includ-
ing that the cashout threshhold be fixed at
the time the permissible payment event is
designated, and if the taxpayer can demon-
strate that the provision operated in an ob-
jective, nondiscretionary manner and did
not operate so as to provide either the ser-
vice provider or the service recipient with
rights having substantially the effect of a
right to a late election as to the time and
form of payment. Any subsequent change
in a cashout threshold applicable to a de-
ferred amount is subject to the rules gov-
erning subsequent deferral elections and
the acceleration of payments.
If such a provision is used in con-
junction with an installment payment
or annuity, the payment schedule gen-
erally would not meet the definition of
an installment payment or annuity under
§ 1.409A–2(b)(2)(ii) and (iii), because the
payment schedule would not necessarily
provide for substantially equal payments
over the service provider’s lifetime or
other predetermined period of time, but
instead a lump sum payment if the thresh-
old were not met and periodic payments
if the threshold were met. However, un-
til further guidance, the classification of
the resulting schedule of payments if the
cashout threshold is exceeded at the ap-
plicable payment date, whether or not
such schedule of payments is intended
to be an installment payment or life an-
nuity, is determined as if the lump sum
payment cashout threshold were not avail-
able. Accordingly, the resulting sched-
ule of payments if the threshold is met
must otherwise meet the requirements of
§ 1.409A–3, and if the resulting schedule
of payments qualifies as a life annuity
under § 1.409A–2(b)(ii), or as a series of
installment payments treated as a single
payment under § 1.409A–2(b)(2)(iii), the
schedule of payments will be treated as a
single payment for purposes of the subse-
quent deferral rules.
2007–41 I.R.B.785October 9, 2007

V. ANTICIPATED LIMITED
VOLUNTARY COMPLIANCE
PROGRAM
The Treasury Department and the IRS
anticipate issuing guidance in the near fu-
ture establishing a limited voluntary com-
pliance program that will apply to certain
unintentional operational failures to com-
ply with § 409A. The Treasury Department
and the IRS anticipate that such guidance
will provide methods by which certain un-
intentional operational failures may be cor-
rected in the same taxable year in which
the operational failure occurred to avoid
application of § 409A, and other methods
by which certain unintentional operational
failures may result in only limited amounts
becoming includiblein income and subject
to additional taxes under § 409A.
VI. APPLICATION OF
§ 409A(b) (RESTRICTIONS ON
CERTAIN TRUSTS AND OTHER
ARRANGEMENTS)
Section 409A(b)(1) and (2) generally
prohibits the use of offshore trusts in con-
nection with amounts payable under a non-
qualified deferred compensation plan, and
also prohibits the use of restrictions on as-
sets to protect the payment of benefits un-
der a nonqualified deferred compensation
plan in connection with a change in the
service recipient’s financial health. Sec-
tion 409A(b)(3) generally also prohibits
the transfer of assets to a trust or other
arrangement for purposes of paying non-
qualified deferred compensation to an ap-
plicable covered employee during, or the
use of restrictions on assets to protect the
payment of benefits under a nonqualified
deferred compensation plan in connection
with, a restricted period with respect to a
single-employer defined benefit plan. For
this purpose, a restricted period with re-
spect to a single-employer defined bene-
fit plan generally means any period during
which the plan is in at-risk status (as de-
finedin§430(i),whichwasaddedbythe
Pension Protection Act of 2006), any pe-
riod the plan sponsor is a debtor in a bank-
ruptcy filing, and the 12-month period be-
ginning on the date which is 6 months be-
fore the termination of the defined benefit
plan if, as of the termination date, the plan
is underfunded. Section 409A(b) provides
generally that if these requirements are not
met, the assets are treated for purposes of
§ 83 as property transferred in connection
with the performance of services whether
or not such assets are available to satisfy
claims of general creditors, and that the
taxpayer is liable for the additional § 409A
taxes on the resulting income inclusion.
Notice 2006–33 provides that until fur-
ther guidance is issued, taxpayers may rely
upon a reasonable, good faith interpreta-
tion of § 409A(b) to determine whether the
use of a trust or other arrangement causes
an amount to be included in income under
§ 409A(b). The Treasury Department and
the IRS intend to issue further guidance re-
garding the application of § 409A(b). Un-
til such guidance is issued, taxpayers may
continue to rely upon a reasonable, good
faith interpretation of § 409A(b) to deter-
mine whether the use of a trust or other
arrangement causes an amount to be in-
cluded in income under § 409A(b), in-
cluding the application of § 409A(b)(3) to
transfers of assets during restricted peri-
ods.
Notice 2006–33 also provides that with
respect to assets set aside, transferred or
restricted on or before March 21, 2006
so as to be subject to inclusion under
§ 409A(b)(1) or 409A(b)(2) (grace pe-
riod assets), taxpayers will be treated as
not having triggered the inclusion or ad-
ditional tax provisions of § 409A(b) if
the nonqualified deferred compensation
plan comes into conformity on or before
December 31, 2007, with the require-
ments of § 409A(b) and any guidance
issued before such date. Nothing in this
section curtails this relief; however, this
relief is not extended beyond December
31, 2007. Accordingly, for grace period
assets, a taxpayer will trigger the income
inclusion and additional tax provisions
of § 409A(b) if the nonqualified deferred
compensation plan is not in conformity
with a reasonable, good faith interpreta-
tion of § 409A(b) on or after December
31, 2007. If with respect to grace period
assets the nonqualified deferred compen-
sation plan is not in conformity with a
reasonable, good faith interpretation of
§ 409A(b) on December 31, 2007, the
taxpayer will trigger the income inclusion
and additional tax provisions of § 409A(b)
on January 1, 2008.
VII. DRAFTING INFORMATION
The principal author of this notice is
Stephen Tackney of the Office of Division
Counsel/Associate Chief Counsel (Tax Ex-
empt and Government Entities). However,
other personnel from the Treasury Depart-
ment and the IRS participated in its devel-
opment. For further information regard-
ing this notice, contact Stephen Tackney at
(202) 927–9639 (not a toll-free call).
26 CFR 601.105: Examination of returns and claims
for refund, credit or abatement; determination of cor-
rect tax liability.
(Also Part I, §§ 1361, 1362; 1.1361–1, 1.1361–3,
1.1362–4, 1.1362–6, 301.9100–1, 301.9100–3.)
Rev. Proc. 2007–62
SECTION 1. PURPOSE
This revenue procedure provides an
additional simplified method for taxpay-
ers to request relief for late S corporation
elections and supplements Rev. Proc.
2003–43, 2003–1 C.B. 998. In addition,
this revenue procedure provides a simpli-
fied method for taxpayers to request relief
for a late S corporation election and a late
corporate classification election intended
to be effective on the same date that the
S corporation election was intended to
be effective and supplements Rev. Proc.
2004–48, 2004–2, C.B. 172. Generally,
this revenue procedure provides that cer-
tain eligible entities may be granted relief
if the entity satisfies the requirements of
sections 4 or 5 (as applicable) of this rev-
enue procedure.
SECTION 2. BACKGROUND
.01S Corporation Elections.
(1)In General. Section 1361(a)(1) of
the Internal Revenue Code (Code) pro-
vides that the term “S corporation” means,
with respect to any taxable year, a small
business corporation for which an election
under § 1362(a) is in effect for that year.
Section 1362(b)(1) provides that a
small business corporation may make an
election to be an S corporation for any
taxable year (A) at any time during the
preceding taxable year, or (B) at any time
during the taxable year and on or before
the 15th day of the 3rd month of the tax-
able year. Section 1.1362–6(a)(2) of the
October 9, 20077862007–41 I.R.B.

Income Tax Regulations provides that
a small business corporation makes an
election to be an S corporation by filing a
completed Form 2553,Election by a Small
Business Corporation.
Under § 1362(b)(3), if an S corporation
election is made after the 15th day of the
3rd month of the taxable year and on or be-
fore the 15th day of the 3rd month of the
following taxable year, then the S corpora-
tion election is treated as made for the fol-
lowing taxable year.
(2)Late S Corporation Elections. Sec-
tion 1362(b)(5) provides that if (A) an
election under § 1362(a) is made for any
taxable year (determined without regard
to § 1362(b)(3)) after the date prescribed
by § 1362(b) for making the election for
the taxable year or no election is made for
any taxable year, and (B) the Secretary de-
termines that there was reasonable cause
for the failure to timely make the elec-
tion, the Secretary may treat the election
as timely made for the taxable year (and
§ 1362(b)(3) shall not apply).
Rev. Proc. 97–48, 1997–2 C.B. 521
provides special procedures to obtain au-
tomatic relief for certain late S corporation
elections. Generally, relief is available in
situations in which a corporation intends to
be an S corporation, the corporation and its
shareholders reported their income consis-
tent with S corporation status for the tax-
able year the S corporation election should
have been made and for every subsequent
year, and the corporation did not receive
notification from the Internal Revenue Ser-
vice regarding any problem with the S cor-
poration status within 6 months of the date
on which the Form 1120S,U.S. Income Tax
Return for an S Corporation,forthefirst
year was timely filed.
Rev. Proc. 2003–43 provides, in part,
asimplifiedmethodforataxpayertore-
quest relief for a late S corporation elec-
tion where the entity fails to qualify as an
S corporation solely because of the failure
to file the election timely with the applica-
ble campus. Under the revenue procedure,
certain entities may be granted relief for
failing to file the elections in a timely man-
ner if the request for relief is filed within 24
months of the due date of the election.
.02Entity Classification Elections.
(1)In General. Section 301.7701–2(a)
of the Procedure and Administration Reg-
ulations defines a “business entity” as any
entity recognized for federal tax purposes
that is not properly classified as a trust un-
der § 301.7701–4 or otherwise subject to
special treatment under the Code.
Section 301.7701–3(a) provides that a
business entity that is not classified as a
corporation under § 301.7701–2(b)(1), (3),
(4), (5), (6), (7), or (8) (an “eligible entity”)
can elect its classification for federal tax
purposes.
Section 301.7701–3(b)(1) provides
that, except as otherwise provided in para-
graph (b)(3) of the section, unless the
entity elects otherwise, a domestic eligible
entity is (i) a partnership if it has two or
more members; or (ii) disregarded as an
entity separate from its owner if it has a
single owner.
Section301.7701–3(c)(1)pro-
vides that, except as provided in
§ 301.7701–3(c)(1)(iv) and (v), an el-
igible entity may elect to be classified
other than as provided in § 301.7701–3(b)
by filing Form 8832,Entity Classification
Election, with the campus designated on
Form 8832.
Section 301.7701–3(c)(iii) provides
that the entity classification election will
be effective on the date specified by the
entity on the Form 8832 or on the date filed
if no date is specified on the election form.
The effective date specified on Form 8832
can not be more than 75 days prior to the
date on which the election is filed and
can not be more than 12 months after the
date on which the election is filed. If an
election specifies an effective date more
than 75 days prior to the date on which
the election is filed, the election will be
effective 75 days prior to the date it was
filed. If an election specifies an effective
date more than 12 months from the date
on which the election is filed, the election
will be effective 12 months after the date
the election was filed.
(2)Late Entity Classification Elections.
Under § 301.9100–1(c), the Commissioner
may grant a reasonable extension of time
under the rules set forth in §§ 301.9100–2
and 301.9100–3 to make a regulatory elec-
tion, or a statutory election (but no more
than 6 months except in the case of a tax-
payer who is abroad), under all subtitles of
the Code, except subtitles E, G, H, and I.
Section 301.9100–1(b) defines the term
“regulatory election” as an election whose
due date is prescribed by a regulation pub-
lished in the Federal Register, or a revenue
ruling, revenue procedure, notice, or an-
nouncement published in the Internal Rev-
enue Bulletin.
Requests for relief under § 301.9100–3
will be granted when the taxpayer provides
the evidence to establish to the satisfac-
tion of the Commissioner that the taxpayer
acted reasonably and in good faith, and the
grant of relief will not prejudice the inter-
ests of the Government.
Rev. Proc. 2002–59, 2002–2 C.B.
615, provides guidance for an entity newly
formed under local law that requests relief
for a late initial classification election filed
by the due date of the entity’s first federal
income tax return (excluding extensions).
Under § 301.7701–3(c)(1)(v)(C), an
eligible entity that timely elects to be an
S corporation under § 1362(a)(1) is treated
as having made an election to be classi-
fied as an association, provided that (as
of the effective date of the election under
§ 1362(a)(1)) the entity meets all other
requirements to qualify as a small busi-
ness corporation under § 1361(b). Section
301.7701–3(c)(1)(v)(C) further provides
that, subject to § 301.7701–3(c)(1)(iv),
the deemed election to be classified as
an association generally will apply as of
the effective date of the S corporation
election and will remain in effect until
the entity makes a valid election under
§ 301.7701–3(c)(1)(i), to be classified as
other than an association.
Rev. Proc. 2004–48 provides a sim-
plified method for taxpayers to request re-
lief for a late S corporation election and a
late corporate classification election which
was intended to be effective on the same
date the S corporation election was in-
tended to be effective. Under Rev. Proc.
2004–48, generally, certain eligible enti-
ties may be granted relief if the require-
ments of section 4 of the revenue proce-
dure are satisfied. To obtain relief under
Rev. Proc. 2004–48, the entity must file
a properly completed Form 2553 with the
applicable campus within 6 months after
the due date for the tax return, excluding
extensions, for the first taxable year the en-
tity intended to be an S corporation. At-
tached to the Form 2553 must be a state-
ment explaining the reason for the failure
to file timely the S corporation election and
a statement explaining the reason for the
failure to file timely the entity classifica-
tion election.
2007–41 I.R.B.787October 9, 2007

SECTION 3. SCOPE
.01In General. This revenue proce-
dure supplements Rev. Proc. 2003–43 and
provides an additional simplified method
for obtaining relief for a late S corporation
election, provided thatthe requirements of
section 4 of this revenue procedure are sat-
isfied. This revenue procedure also sup-
plements Rev. Proc. 2004–48 and pro-
vides an additional simplified method for
obtaining relief for a late S corporation
election and a late corporate classification
election, provided thatthe requirements of
section 5 of this revenue procedure are sat-
isfied.
Section 4.01 of this revenue procedure
provides the eligibility requirements for
relief for a late S corporation election, and
section 4.02 of this revenue procedure pro-
vides the proceduralrequirements for re-
lief. Section 5.01 of this revenue proce-
dure provides the eligibility requirements
for relief for a late S corporation election
and a late corporate classification election,
and section 5.02 of this revenue procedure
provides the procedural requirements for
relief.
This revenue procedure provides pro-
cedures in lieu of the letter ruling process
ordinarily used to obtain relief for a late
S corporation election and a late cor-
porate classification election filed pur-
suant to § 1362(b)(5), § 301.9100–1 and
§ 301.9100–3. Accordingly, user fees do
not apply to corrective actions under this
revenue procedure.
.02Entities That Fail to Qualify for Re-
lief Under This Revenue Procedure.
(1)Rev. Procs. 97–48, 2003–43, and
2004–48. An entity that does not meet
the requirements for relief under this rev-
enue procedure may request relief for a late
S corporation election following the proce-
dures of Rev. Proc. 97–48, or Rev. Proc.
2003–43, or, for relief for a late S corpo-
ration election and a late corporate classi-
fication election following the procedures
of Rev. Proc. 2004–48.
(2)Letter Rulings. If an entity does not
qualify for relief for a late S corporation
election, or relief for a late S corporation
election and a late corporate classification
election, under Rev. Proc. 97–48, Rev.
Proc. 2003–43, or Rev. Proc. 2004–48, as
appropriate, the entity may request relief
by requesting a letter ruling. The Service
will not ordinarily issue a letter ruling if the
period of limitations on assessment under
§ 6501(a) has lapsed for any taxable year
for which an election should have been
made or any taxable year that would have
been affected by the election had it been
timely made. The procedural requirements
for requesting a letter ruling are described
in Rev. Proc. 2007–1, 2007–1 I.R.B. 1 (or
its successor).
SECTION 4. RELIEF FOR LATE
S CORPORATION ELECTION UNDER
THIS REVENUE PROCEDURE
.01Eligibility for Relief. An entity may
request relief under this revenue procedure
if the following requirements are met:
(1) The entity fails to qualify for its in-
tended status as an S corporation on the
first day that status was desired solely be-
cause of the failure to file a timely Form
2553 with the applicable campus;
(2) The entity has reasonable cause for
its failure to file a timely Form 2553;
(3) The entity seeking to make the
S corporation election has not filed a tax
return for the first taxable year in which
the election was intended;
(4) The application for relief is filed un-
der this revenue procedure no later than 6
months after the due date of the tax return
(excluding extensions) of the entity seek-
ing to make the election for the first taxable
year in which the election was intended;
and
(5) No taxpayer whose tax liability or
tax return would be affected by the S cor-
poration election (including all sharehold-
ers of the S corporation) has reported in-
consistently with the S corporation elec-
tion, on any affected return for the year the
S corporation election was intended.
.02Procedural Requirements for Relief.
An entity may request relief for a late
S corporation election by filing with the
applicable campus a properly completed
Form 2553 (seeForm 2553 and Instruc-
tions) with a Form 1120S for the first
taxable year the entity intended to be
an S corporation. A properly completed
Form 2553 includes a statement estab-
lishing reasonable cause for the failure
to file the S corporation election timely.
The Form 2553 will be modified to al-
low for the inclusion of such statement.
The forms must be filed together no later
than 6 months after the due date of the
tax return (excluding extensions) of the
entity for the first taxable year in which
the S corporation election was intended.
These items constitute the application re-
questing relief.
.03Relief for Late S Corporation Elec-
tion. Upon receipt of a completed ap-
plication requesting relief under section
4.02 of this revenue procedure, the Service
will determine whether the requirements
for granting relief for the late S corpora-
tion election have been satisfied.
SECTION 5. RELIEF FOR LATE
S CORPORATION ELECTION AND
LATE CORPORATE CLASSIFICATION
ELECTION UNDER THIS REVENUE
PROCEDURE
.01Eligibility for Relief.Anentitymay
request relief under this revenue procedure
if the following requirements are met:
(1) The entity is an eligible entity as
defined in § 301.7701–3(a);
(2) The entity intended to be classified
as a corporation as of the intended effective
date of the S corporation status;
(3) The entity fails to qualify as a corpo-
ration solely because Form 8832 was not
timely filed under § 301.7701–3(c)(1)(i),
or Form 8832 was not deemed to have been
filed under § 301.7701–3(c)(1)(v)(C);
(4)Inadditiontosection5.01(3)of
this section, the entity fails to qualify as
an S corporation on the intended effective
date of the S corporation status solely be-
cause the S corporation election was not
timely filed pursuant to § 1362(b);
(5) The entity has reasonable cause for
its failure to file a timely Form 2553 and a
timely Form 8832;
(6) The entity seeking to make the
S corporation election has not filed a tax
return for the first taxable year in which
the election was intended;
(7) The application for relief is filed un-
der this revenue procedure no later than 6
months after the due date of the S corpo-
ration return (excluding extensions) of the
entity seeking to make the election for the
first taxable year in which the election was
intended, and
(8) No taxpayer whose tax liability or
tax return would be affected by the S cor-
poration election (including all sharehold-
ers of the S corporation) has reported in-
consistently with the S corporation elec-
tion, on any affected return for the year the
S corporation election was intended.
October 9, 20077882007–41 I.R.B.

.02Procedural Requirements for Relief.
An entity may request relief for a late
S corporation election and a late corporate
classification electionbyfilingaproperly
completed Form 2553 (seeForm 2553 and
Instructions) with a Form 1120S for the
first taxable year the entity intended to be
an S corporation. A properly completed
Form 2553 includes a statement explain-
ing the reason for the failure to file the
S corporation election timely and a state-
ment explaining the reason for the fail-
ure to file the entity classification election
timely. The Form 2553 will be modified
to allow for the inclusion of such state-
ments. The forms must be filed together
no later than 6 months after the due date
of the tax return (excluding extensions) of
the entity for the first taxable year in which
the S corporation election was intended.
These items constitute the application re-
questing relief.
.03Relief for Late S Corporation Elec-
tion and Late Corporate Classification
Election. Upon receipt of a completed
application requesting relief under section
5.02 of this revenue procedure, the Service
will determine whether the requirements
for granting relief for the late S corporation
election and late corporate classification
election have been satisfied. An entity
receiving relief under this revenue proce-
dure is treated as having made an election
to be classified as an association taxable
as a corporation under § 301.7701–3(c) as
of the effective date of the S corporation
election.
SECTION 6. EFFECT ON OTHER
DOCUMENTS
This revenue procedure supplements
Rev. Procs. 2003–43 and 2004–48.
SECTION 7. EFFECTIVE DATE
This revenue procedure is effective for
S corporation elections and corporate clas-
sification elections intended to be effective
for taxable years that end on or after De-
cember 31, 2007.
SECTION 8. DRAFTING
INFORMATION
The principal author of this revenue
procedure is Jian H. Grant of the Of-
fice of the Associate Chief Counsel
(Passthroughs and Special Industries).
For further information regarding this
revenue procedure, contact Ms. Grant at
(202) 622–3050 (not a toll-free call).
2007–41 I.R.B.789October 9, 2007

Part IV. Items of General Interest
Notice of Proposed
Regulations and Notice of
Public Hearing
Partner’s Distributive Share
REG–143397–05
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed regulations
and notice of public hearing.
SUMMARY: This document contains
regulations that provide rules concerning
the application of sections 704(c)(1)(B)
and 737 to distributions of property after
two partnerships engage in an assets-over
merger. The proposed regulations affect
partnerships and their partners. This doc-
ument also provides a notice of public
hearing on these proposed regulations.
DATES: Written or electronic comments
must be received by November 20, 2007.
Outlinesofthetopictobediscussedat
the public hearing scheduled for December
5, 2007 at 10 a.m. must be received by
November 21, 2007.
ADDRESSES: Send submissions to:
CC:PA:LPD:PR (REG–143397–05), room
5203, Internal Revenue Service, PO Box
7604, Ben Franklin Station, Washington
DC 20044. Submissions may be hand
delivered Monday through Friday, be-
tween the hours of 8 a.m. and 4 p.m.
to CC:PA:LPD:PR (REG–143397–05),
Courier’s Desk, Internal Revenue Ser-
vice, 1111 Constitution Avenue, NW,
Washington, DC or sent electroni-
cally via the Federal eRulemaking Por-
tal athttp://www.regulations.gov(IRS
REG–143397–05). The public hearing
will be held in the Auditorium, Internal
Revenue Building, 1111 Constitution Av-
enue, NW, Washington, DC.
FOR FURTHER INFORMATION
CONTACT: Concerning the proposed reg-
ulations, Jason Smyczek or Laura Fields
(202) 622–3050, concerning submis-
sions of comments, the hearing, and/or
to be placed on the building access list
to attend the hearing, Richard Hurst,
Richard.A.Hurst@irscounsel.treas.gov,
(202) 622–7180 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Background
Section 704(c)(1)(B) provides that a
partner that contributes section 704(c)
property to a partnership must recognize
gain or loss on the distribution of such
property to another partner within seven
years of its contribution to the partnership
in an amount equal to the gain or loss that
would have been allocated to such part-
ner under section 704(c) if the distributed
property had been sold by the partnership
to the distributee partner for its fair market
value at the time of the distribution.
Section 737(a) provides that a partner
that contributes section 704(c) property to
the partnership and then receives a dis-
tribution of property (other than money)
within seven years of its contribution must
recognize gain in an amount equal to the
lesser of (1) the excess (if any) of (A) the
fair market value of property (other than
money) received in the distribution over
(B) the adjusted basis of the partner’s in-
terest in the partnership immediately be-
fore the distribution reduced (but not be-
low zero) by the amount of money re-
ceived in the distribution, or (2) the net pre-
contribution gain of the partner.
Section 737(b) provides that for pur-
poses of section 737, the term “net pre-
contribution gain” means the net gain (if
any) which would have been recognized
by the distributee partner under section
704(c)(1)(B) if all property which (1) had
been contributed to the partnership by the
distributee partner within seven years of
the distribution, and (2) is held by the part-
nership immediately before the distribu-
tion, had been distributed by the partner-
ship to another partner.
Rev. Rul. 2004–43, 2004–1 C.B. 842,
(see §601.601(d)(2) of this chapter) issued
on April 12, 2004, addressed the applica-
tion of sections 704(c)(1)(B) and 737 in an
assets-over partnership merger described
in §1.708–1(c)(3). Rev. Rul. 2004–43
held that section 704(c)(1)(B) applies to
newly created section 704(c) gain or loss in
property contributed by the transferor part-
nership to the transferee partnership in an
assets-over partnership merger. The rev-
enue ruling also held that for purposes of
section 737(b), net precontribution gain in-
cludes newly created section 704(c) gain
or loss in property contributed by the trans-
feror partnership to the transferee partner-
ship in an assets-over partnership merger.
In addition, the revenue ruling held that
section 704(c)(1)(B) will not apply to, and,
for purposes of section 737, net precontri-
bution gain will not include, reverse sec-
tion 704(c) gain or loss resulting from a
revaluation of property of the transferee
partnership.
Some commentators argued that Rev.
Rul. 2004–43 was not consistent with
the existing regulations under sections
704(c)(1)(B) and 737, and that the con-
clusions contained in the ruling should
not be applied retroactively. In response
to these comments, the Treasury Depart-
ment and the IRS issued Notice 2005–15,
2005–1 C.B. 527, (see §601.601(d)(2) of
this chapter) indicating their intent to issue
regulations under sections 704(c)(1)(B)
and 737 implementing the principles of
the ruling, and issued Rev. Rul. 2005–10,
2005–1 C.B. 492, (see §601.601(d)(2) of
this chapter) officially revoking Rev. Rul.
2004–43. The notice provided that any
such regulations would be effective for
distributions made after January 19, 2005.
Explanation of Provisions
A. Assets-Over Partnership Mergers
These proposed regulations implement
the principles articulated in Rev. Rul.
2004–43. The proposed regulations under
§1.704–4(c)(4) and §1.737–2(b) provide
that in an assets-over merger, sections
704(c)(1)(B) and 737 do not apply to the
transfer by a partnership (the transferor
partnership) of all of its assets and liabili-
ties to another partnership (the transferee
partnership), followed by a distribution of
the interests in the transferee partnership
in liquidation of the transferor partnership
as part of the same plan or arrangement.
The proposed regulations, however,
provide that section 704(c)(1)(B) ap-
plies to a subsequent distribution by the
transferee partnership of section 704(c)
property contributed in the assets-over
merger by the transferor partnership to
October 9, 20077902007–41 I.R.B.

the transferee partnership. The proposed
regulations also provide that section 737
applies when a partner of the transferor
partnership receives a subsequent distribu-
tion of property (other than money) from
the transferee partnership.
The proposed regulations provide that
for property contributed to the transferor
partnership (original contribution), the
amount of original section 704(c) gain or
loss is the difference between the prop-
erty’s fair market value and the contribut-
ing partner’s adjusted basis at the time of
contribution to the extent such difference
has not been eliminated by section 704(c)
allocations, prior revaluations, or in con-
nection with the merger. In the case of
property contributed with original section
704(c) loss, section 704(c)(1)(C) which
was added by the American Jobs Cre-
ation Act of 2004 provides special rules
for determining the basis of the property
contributed. The Treasury Department
and IRS are currently developing guid-
ance that will implement the provisions of
section 704(c)(1)(C). Thus, the proposed
regulations do not address the impact of
section704(c)(1)(C)inapplyingthese
rules. However, when finalized, these
regulations will clarify the application of
section 704(c)(1)(C) to these rules.
The proposed regulations provide that
the seven year period will not restart with
respect to the original section 704(c) gain
or loss as a result of the merger. Accord-
ingly, a subsequent distribution by the
transferee partnership of property with
original section 704(c) gain or loss is sub-
ject to sections 704(c)(1)(B) and 737 if
the distribution occurs within seven years
of the contribution of the property to the
transferor partnership (original contri-
bution). However, with respect to new
section 704(c) gain or loss, the regula-
tions provide that the seven-year period
in sections 704(c)(1)(B) and 737 begins
on the date of merger. Thus, a subsequent
distribution by the transferee partnership
of property with new section 704(c) gain
or loss is subject to sections 704(c)(1)(B)
and 737 if the distribution occurs within
seven years of the merger.
The regulations further provide that no
original section 704(c) gain or loss will be
recognized under section 704(c)(1)(B) or
section 737 if property that was originally
contributed to the transferor partnership is
distributed to the original contributor. If
property has new section 704(c) gain or
loss, then a subsequent distribution of such
property within seven years of the merger
to one of the former partners of the trans-
feror partnership (former partner) is sub-
ject to section 704(c)(1)(B) only to the ex-
tent of the other former partners’ shares of
such gain or loss.
New section 704(c) gain or loss shall be
allocated among the partners of the trans-
feror partnership in a manner consistent
with the principles of §§1.704–3(a)(7) and
newly designated 1.704–3(a)(10) (previ-
ously §1.704–3(a)(9)). In addition, the
partners of the transferor partnership are
deemed to have contributed an undivided
interest in the assets of the partnership.
The proposed regulations provide that the
determination of the partners’ undivided
interest for this purpose shall be made by
the transferor partnership using any rea-
sonable method. The Treasury Depart-
ment and the IRS request comments on
methods that should be considered reason-
able for this purpose.
The proposed regulations also provide
that if less than all of a section 704(c)
property is distributed, then a proportion-
ate amount of original and new section
704(c) gain or loss must be recognized un-
der section 704(c)(1)(B). Similarly, if gain
is required to be recognized under section
737, a proportionate amount of original
and new section 704(c) gain must be rec-
ognized under section 737. Each partner
must recognize its respective proportion-
ate share of gain or loss required to be rec-
ognized.
The proposed regulations further pro-
vide a subsequent merger rule. This rule
provides that if the transferee partnership
is subsequently merged (a subsequent
merger) the new section 704(c) gain or
loss that resulted from the original merger
shall be subject to section 704(c)(1)(B)
for seven years from the time of the orig-
inal merger and the new section 704(c)
gain or loss that resulted from the sub-
sequent merger will be subject to section
704(c)(1)(B) for seven years from the time
of the subsequent merger.
In addition, the proposed regulations
provide an identical ownership and ade
minimischange in ownership exception to
sections 704(c)(1)(B) and 737 with regard
to assets-over partnership mergers. Under
the identical ownership exception, section
704(c)(1)(B) will not apply to, and section
737 net precontribution gain will not in-
clude, new section 704(c) gain or loss in
any property contributed in an assets-over
partnership merger where the ownership
of both partnerships is identical. In order
for merging partnerships to qualify for the
identical ownership exception, each part-
ner must own identical interests in book
capital and in each item of income, gain,
loss, deductions and credit, and identi-
cal shares of distributions and liabilities
in each of the transferor and transferee
partnerships. Where ownership of both
partnerships is identical, the merger more
accurately represents a change in form,
and should have no substantive tax conse-
quences. The same principles apply where
the change in ownership isde minimis.
Forpurposesofthede minimisexception,
a difference in ownership isde minimis
if ninety seven percent of the interests in
book capital, items of income, gain, loss,
deduction and credit and share of distri-
butions and liabilities of the transferor
partnership and transferee partnership are
owned by the same owners in the same
proportions.
Proposedregulationsunder
§1.704–3(c)(4)(iii) provide that taxpayers
may distinguish between the original and
new portions of section 704(c) gain or loss.
The proposed regulations provide that the
transferee partnership may continue to
use the section 704(c) allocation method
adopted by the transferor partnership with
respect to original section 704(c) property,
or it may adopt another reasonable section
704(c) method. In addition, the transferee
partnership may adopt any reasonable
section 704(c) method with respect to
new section 704(c) gain or loss. With
respect to both the original and the new
section 704(c) gain or loss, the transferee
partnership must use a reasonable method
that is consistent with the purpose of
sections 704(b) and 704(c).
B. Miscellaneous Provisions
As part of this proposed regulation,
the Treasury Department and the IRS are
also making certain regulatory changes to
reflect statutory changes that occurred as
part of the Taxpayer Relief Act of 1997
(Public Law 105–34). Effective June 8,
1997, Congress lengthened the period
of time from five years to seven for ac-
counting for section 704(c) gain or loss
2007–41 I.R.B.791October 9, 2007

with respect to distributions. Consistent
with the statutory changes, various provi-
sions in §1.704–4 and §1.737–1 have been
amended.
Effective Dates
Except as otherwise provided, these
proposed regulations will be effective for
any distributions of property after January
19, 2005, if such property was contributed
in an assets-over merger after May 3,
2004. Provisions relating to the change in
the regulations in §1.704–4 and §1.737–1
from the previous five-year rule to the
seven-year rule will be effective August
22, 2007.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a signifi-
cant regulatory action as defined in Exec-
utive Order 12866. Therefore, a regula-
tory assessment is not required. It has also
been determined thatsection 553(b) of the
Administrative Procedure Act (5 U.S.C.
chapter 5) does not apply to these regu-
lations, and because the regulation does
not impose a collection of information on
small entities, the Regulatory Flexibility
Act (5 U.S.C. chapter 6) does not apply.
Pursuant to section 7805(f) of the Code,
this notice of proposed rulemaking will be
submitted to the Chief Counsel for Advo-
cacy of the Small Business Administration
for comment on its impact on small busi-
ness.
Comments and Public Hearing
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 submit-
tedtimelytotheIRS.TheTreasuryDe-
partment and IRS request comments on the
clarity of the proposed rules and how they
may be made easier to understand. All
comments will be available for public in-
spection and copying.
A public hearing has been scheduled for
December 5, 2007, 10 a.m. in the Audi-
torium, Internal Revenue Building, 1111
Constitution Avenue, N.W., Washington,
DC. Due to building security procedures,
visitors must enter at the Constitution Av-
enue entrance. In addition, all visitors
must present photo identification to enter
the building. Because of access restric-
tions, visitors will not be admitted beyond
the immediate entrance area more than 15
minutes before the hearing starts. For in-
formation about having your name placed
on the building access list to attend the
hearing, see the “FOR FURTHER INFOR-
MATION CONTACT” section of this pre-
amble.
The rules of 26 CFR 601.601(a)(3) ap-
ply to the hearing. Persons who wish to
present oral comments at the hearing must
submit written or electronic comments by
November 20, 2007, and an outline of
the topics to be discussed and time to be
devoted to each topic (a signed original
and eight (8) copies) by November 21,
2007. A period of 10 minutes will be
allotted to each person for making com-
ments. An agenda showing the scheduling
of the speakers will be prepared after the
deadline for receiving outlines has passed.
Copies of the agenda will be available free
of charge at the hearing.
Drafting Information
The principal authors of these pro-
posed regulations are Jason Smyczek and
Laura Fields, Office of the Associate Chief
Counsel (Passthroughs and Special Indus-
tries), IRS. However, other personnel from
the IRS and the Treasury Department par-
ticipated in their development.
*****
Proposed Amendments to the
Regulations
Accordingly, 26 CFR part 1 is proposed
to be amended as follows:
PART—INCOME TAXES
Paragraph 1. The authority citation for
part 1 continues to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.704–3 also issued under 26
U.S.C. 704. * * *
Par. 2. Section 1.704–3 is amended as
follows:
1. Paragraphs (a)(9) through (a)(12) are
redesignated as paragraphs (a)(10) through
(a)(13), respectively.
2. New paragraph (a)(9) is added.
3. Paragraph (f) is amended by revis-
ing the paragraph heading and adding one
additional sentence at the end of the para-
graph.
The revisions and additions read as fol-
lows:
§1.704–3 Contributed Property.
(a)***
(9)Section 704(c) property transferred
in an assets-over merger. Assets trans-
ferred to a transferee partnership from the
transferor partnership in an assets-over
merger as defined in §1.708–1(c)(3) (the
transferor partnership being the partner-
ship considered to have been terminated
under §1.708–1(c)(1) and the transferee
partnership being the partnership con-
sideredtobetheresultingpartnership
under §1.708–1(c)(1)) may have both
original section 704(c) gain or loss (see
§1.704–4(c)(4)(ii)(A) for the definition of
original section 704(c) gain or loss) and
new section 704(c) gain or loss. The trans-
feree partnership may continue to use the
section 704(c) allocation method adopted
by the transferor partnership with respect
to section 704(c) property originally con-
tributed to the transferor partnership or
it may adopt another reasonable section
704(c) method. Also, the transferee part-
nership may continue to use the section
704(c) allocation method adopted by the
transferor partnership with respect to new
section 704(c) gain or loss to account
for differences between book value and
adjusted tax basis as a result of a prior
revaluation. In addition, the transferee
partnership may adopt any reasonable sec-
tion 704(c) method with respect to new
section 704(c) gain or loss in excess of
the amount of new section 704(c) gain or
loss described in the prior sentence. With
respect to both original and new section
704(c) gain or loss, the transferee partner-
ship must use a reasonable method that
is consistent with the purpose of sections
704(b) and 704(c).
***
(f)Effective/applicability date.***
Paragraph (a)(9) is effective for any dis-
tribution of property after January 19,
2005, if such property was contributed in
a merger using the assets-over form after
May 3, 2004.
Par. 3. Section 1.704–4 is amended as
follows:
October 9, 20077922007–41 I.R.B.

1. Paragraph (a)(1) is amended by re-
moving the phrase “five years” and adding
in its place the phrase “seven years.”
2. Paragraph (a)(4)(i) is amended by re-
moving the phrase “five-year” and adding
in its place the phrase “seven-year.”
3. Paragraph (a)(4)(ii) is amended
by removing the phrase “five-year” and
adding in its place the phrase “seven-year.”
4. Paragraphs (c)(4)(i) and (c)(4)(ii) are
added.
5. Paragraph (c)(7) is redesignated as
paragraph (c)(8).
6. A new paragraph (c)(7) is added.
7. Paragraphs (f)(2), Examples (1) and
(2) are amended by removing the language
“five-year” and replacing it with the lan-
guage “seven-year” wherever it appears
throughout both examples.
8. Paragraph (g) is amended by revis-
ing the paragraph heading and adding two
sentences at the end of the paragraph.
The revisions and additions read as fol-
lows:
§1.704–4 Distribution of contributed
property.
*****
(c) * * *
(4)Complete transfer to another part-
nership (Assets-Over Merger).(i)In gen-
eral. Section 704(c)(1)(B) and this section
do not apply to the transfer in an assets-
over merger as defined in §1.708–1(c)(3)
by a partnership (the transferor partner-
ship, which is considered to be the termi-
nated partnership as a result of the merger)
of all of its assets and liabilities to an-
other partnership (the transferee partner-
ship, which is considered to be the re-
sulting partnership after the merger), fol-
lowed by a distribution of the interest in the
transferee partnership in liquidation of the
transferor partnership as part of the same
plan or arrangement.
(ii)Subsequent distributions. Except
as provided in paragraph (c)(4)(E) below,
section 704(c)(1)(B) and this section apply
to the subsequent distribution by the trans-
feree partnership of section 704(c) prop-
erty contributed by the transferor partner-
ship to the transferee partnership in an
assets-over merger, as provided in para-
graphs (c)(4)(ii)(A) through (D) of this
section.
(A)Original section 704(c) gain or
loss. The seven-year period in section
704(c)(1)(B) does not restart with respect
to original section 704(c) gain or loss as a
result of the transfer of the section 704(c)
property to the transferee partnership. For
purposes of this paragraph (c)(4)(ii)(A),
the amount of original section 704(c)
gain or loss is the difference between
the property’s fair market value and the
contributing partner’sadjusted tax basis,
at the time of contribution, to the extent
such difference has not been eliminated
by section 704(c) allocations, prior reval-
uations, or in connection with the merger.
See §§1.704–4(a) and (b) for post-merger
distributions of property contributed to the
transferee partnership prior to the merger.
A subsequent distribution by the transferee
partnership of property with original sec-
tion 704(c) gain or loss to a partner other
than the partner that contributed such prop-
erty to the transferor partnership is subject
to section 704(c)(1)(B) if the distribution
occurs within seven years of the contri-
bution of the property to the transferor
partnership. See §1.704–4(c)(4)(ii)(B) for
rules relating to the distribution of prop-
erty with new section 704(c) gain or loss.
See §1.737–2(b)(1)(ii)(A) for a similar
rule in the context of section 737.
(B)New section 704(c) gain or loss.A
subsequent distribution of property with
newsection704(c)gainorlossbythe
transferee partnership to a partner other
than the contributing partner is subject to
section 704(c)(1)(B) if the distribution oc-
curs within seven years of the contribution
of the property to the transferee partner-
ship by the transferor partnership. For
these purposes, a partner of the transferor
partnership is deemed to have contributed
to the transferee partnership an undivided
interest in the property of the transferor
partnership. The determination of the
partners’ undivided interest for this pur-
pose shall be determinedbythetransferor
partnership using any reasonable method.
New section 704(c) gain or loss shall be
allocated among the partners of the trans-
feror partnership in a manner consistent
with the principles of §§1.704–3(a)(7) and
1.704–3(a)(10). See §1.737–2(d)(4) for a
similar rule in the context of section 737.
(C)Ordering Rule.(1)Post-merger
revaluation. Revaluations after a merger
that reflect a reduction in the amount of
built-in gain or loss inherent in property
will reduce new section 704(c) gain or loss
prior to reducing original section 704(c)
gain or loss.
(2)Post-merger partial recognition.
For purposes of this section, if less than all
of a section 704(c) property is distributed,
then a proportionate amount of original
and new section 704(c) gain or loss must
be recognized.
(D)Subsequent Mergers.Ifthetrans-
feree partnership (first transferee partner-
ship) is subsequently merged into another
partnership (new transferee partnership)
the new section 704(c) gain or loss that
resulted from the merger of the trans-
feror partnership into the first transferee
partnership shall be subject to section
704(c)(1)(B) for seven years from the time
of the contribution by the transferor part-
nership to the first transferee partnership
(original merger) and new section 704(c)
gain or loss that resulted from the merger
of the first transferee into the new trans-
feree (subsequent merger) shall be subject
to section 704(c)(1)(B) for seven years
from the time of the subsequent merger.
See §1.737–2(b)(1)(ii)(D) for a similar
rule in the context of section 737.
(E)Identical Ownership or De Minimis
Change in Ownership Exception. Section
704(c)(1)(B) and this section do not apply
to new section 704(c) gain or loss in prop-
erty transferred by the transferor partner-
ship to the transferee partnership if both
the transferor partnership and the trans-
feree partnership are owned by the same
owners in the same proportions or the dif-
ference in ownership isde minimis.The
transferor partnership and the transferee
partnership are owned by the same own-
ers in the same proportions if each part-
ner owns identical interests in book capi-
tal and in each item of income, gain, loss,
deduction, and credit, and identical shares
of distributions and liabilities in each of
the transferor and transferee partnerships.
A difference in ownership isde minimis
if ninety seven percent of the interests in
book capital and in each item of income,
gain, loss, deduction and credit and shares
of distributions, and liabilities of the trans-
feror partnership and transferee partner-
ship are owned by the same owners in the
same proportions.
(F)Examples. The following examples
illustrate the rules of paragraph (c)(4)(ii) of
this section.
Example (1). New section 704(c) gain. (i)Facts.
On January 1, 2005, A contributes Asset 1, with a
2007–41 I.R.B.793October 9, 2007

basis of $200x and a fair market value of $300x, to
partnership PRS1 in exchange for a 50 percent inter-
est. On the same date, B contributes $300x of cash to
PRS1 in exchange for a 50 percent interest. Also on
January 1, 2005, C contributes Asset 2, with a basis of
$100x and a fair market value of $200x, to partnership
PRS2 in exchange for a 50 percent interest. D con-
tributes $200x of cash to PRS2 in exchange for a 50
percent interest. On January 1, 2008, PRS1 and PRS2
undertake an assets-over partnership merger in which
PRS1 is the continuing partnership and PRS2 is the
terminating partnership for both state law and fed-
eral tax purposes. At the time of the merger, PRS1’s
only assets are Asset 1, with a fair market value of
$900x, and $300x in cash. PRS2’s only assets are As-
set 2, with a fair market value of $600x, and $200x in
cash. After the merger, the partners have book capital
and profits interests in PRS1 as follows: A, 30 per-
cent; B, 30 percent; C, 20 percent; and D, 20 percent.
PRS1andPRS2bothhaveprovisionsintheirrespec-
tive partnership agreements requiring the revaluation
of partnership property upon entry of a new partner.
PRS1 would not be treated as an investment company
(within the meaning of section 351) if it were incor-
porated. Neither partnership holds any unrealized re-
ceivables or inventory for purposes of section 751. In
addition, neither partnership has a section 754 elec-
tion in place. Asset 1 and Asset 2 are nondeprecia-
ble capital assets. On January 1, 2013, PRS1 has the
same assets that it had after the merger. Each asset has
the same value that it had at the time of the merger.
On this date, PRS1 distributes Asset 2 to A in liqui-
dation of A’s interest.
(ii)Analysis. On the date of the merger of PRS2
into PRS1, the fair market value of Asset 2 ($600x)
exceeded its adjusted tax basis ($100x). Thus, pur-
suant to §1.704–4(c)(4)(ii)(A), when Asset 2 was
contributed to PRS1 in the merger, it was section
704(c) gain property. The total amount of the section
704(c) gain was $500x ($600x (fair market value)
- $100x (adjusted basis)). The amount of original
section 704(c) gain attributable to Asset 2 equals
$100x, the difference between its fair market value
($200x) and adjusted tax basis ($100x) upon con-
tributiontoPRS2byC.Theamountofnewsection
704(c) gain attributable to Asset 2 equals $400x, the
total amount of section 704(c) gain ($500x) less the
amount of the original section 704(c) gain ($100x).
The distribution of Asset 2 to A occurs more than
seven years after the contribution by C of Asset 2 to
PRS2. Therefore, pursuant to §1.704–4(c)(4)(ii)(A),
section 704(c)(1)(B) does not apply to the $100x
of original section 704(c) gain. The distribution of
Asset 2 to A, however, occurs within seven years of
the contribution in the merger of Asset 2 to PRS1
by PRS2. Pursuant to §1.704–4(c)(4)(ii)(B), sec-
tion 704(c)(1)(B) applies to the new section 704(c)
gain. As the transferees of PRS2’s partnership in-
terest in PRS1, C and D succeed to one-half of the
$400x of the new section 704(c) gain created by the
merger. Thus, as a result of the distribution of Asset
2 to A within seven years of the merger, C and D
are required to recognize $200x of gain each. See
§1.737–2(b)(1)(ii)(F),Example (1)foranalysisofa
similar example under section 737.
Example (2). Revaluation gain and merger gain.
(i)Facts.The facts are the same asExample (1),ex-
cept that during 2005, PRS2 admitted E as a new part-
ner in PRS2 at a time when the fair market value of
Asset 2 was $300x and PRS2’s only other asset was
cash of $200x. In exchange for a contribution of cash
of $250x, E was admitted as a one-third partner in
PRS2. In accordance with the terms of PRS2’s part-
nership agreement, the partnership revalued its assets
pursuant to §1.704–1(b)(2)(iv)(f) upon admission of
E so that the unrealized gain of $100x attributable to
Asset 2 was allocated equally between C and D, or
$50x each. On January 1, 2008, PRS2 merges into
PRS1. At the time of the merger, PRS1’s only as-
sets are Asset 1, with a fair market value of $550x,
and $300x in cash. PRS2’s only assets are Asset 2,
with a fair market value of $400x, and $450x in cash.
After the merger, the partners have book capital and
profits and loss interests in PRS1 as follows: A, 25%;
B, 25%; C, 16.67%; D, 16.67% and E, 16.67%. On
January 1, 2011, Asset 2 is distributed to A when its
value is still $400x.
(ii) Analysis. On the date of the merger of PRS2
into PRS1, the fair market value of Asset 2 ($400x)
exceeded its adjusted tax basis ($100x). Thus, when
Asset 2 was contributed to PRS1 in the merger, it
was section 704(c) gain property. The total amount
of the section 704(c) gain was $300x ($400x (fair
market value) - $100x (adjusted basis)). The amount
of the original section 704(c) gain attributable to
Asset 2 equals $100x, the difference between its fair
market value of $200x and adjusted tax basis $100x
upon contribution to PRS2 by C. The amount of
the new section 704(c) gain attributable to Asset 2
equals $200x, the total section 704(c) gain ($300x)
less the amount of the original section 704(c) gain
($100x). The distribution of Asset 2 to A occurs
within seven years after the contribution by C to
PRS2. Therefore, pursuant to §1.704–4(c)(4)(ii)(A),
section 704(c)(1)(B) applies to the original section
704(c) gain. The distribution of Asset 2 to A also oc-
curs within seven years of the contribution of Asset 2
to PRS1 by PRS2. Pursuant to §1.704–4(c)(4)(ii)(B),
section 704(c)(1)(B) applies to the new section
704(c) gain. As the transferees of PRS2’s partner-
ship interest in PRS1, C and D each succeed to $50x
of new section 704(c) gain as a result of the reval-
uation of Asset 2 upon admission of E as a partner.
Moreover, C, D and E each succeed to $33.33x of
new section 704(c) gain as a result of the merger.
C also has $100 of original section 704(c) gain as a
result of the original contribution of Asset 2 to PRS2.
Thus, as a result of the distribution of Asset 2 to A
within seven years of the merger, C, D and E are each
required to recognize gain. C will recognize a total
of $183.33x of gain ($100x of original section 704(c)
gain and $83.33x of new section 704(c) gain). D will
recognize a total of $83.33x of gain (all new section
704(c) gain) and E will recognize $33.33x of gain (all
new section 704(c) gain). See §1.737–2(b)(1)(ii)(F),
Example (2)for a similar example under section 737.
Example (3). Revaluation loss and merger gain.
(i)Facts. The facts are the same as
Example (1)ex-
cept that during 2005, PRS2 admitted E as a new part-
ner in PRS2 at a time when the fair market value of
Asset 2 was $150x and PRS2’s only other asset was
cash of $200x. In exchange for a contribution of cash
of $175x, E was admitted as a one-third partner in
PRS2. In accordance with the terms of PRS2’s part-
nership agreement, the partnership revalued its assets
upon admission of E so that the unrealized loss of
$50x attributable to Asset 2 was allocated equally be-
tween C and D, or $25x each. On January 1, 2008,
PRS 2 merges into PRS1. At the time of the merger,
PRS1’s only assets are Asset 1, with a fair market
value of $900x, and $300x in cash. PRS2’s only as-
sets are Asset 2, with a fair market value of $600x,
and $375x in cash. After the merger, the partners have
book capital and profits and loss interests in PRS1 as
follows: A, 27.5%; B, 27.5%; C, 15%; D, 15% and
E, 15%. On January 1, 2013, Asset 2 is distributed to
A when its value is still $600.
(ii)Analysis. On the date of the merger of PRS2
into PRS1, the fair market value of Asset 2 ($600x)
exceeded its adjusted tax basis ($100x). Thus, when
Asset 2 was contributed to PRS1 in the merger, it
was section 704(c) gain property. The total amount
of the section 704(c) gain was $500x ($600x (fair
market value) - 100x (adjusted basis)). The amount
of the original section 704(c) gain attributable to
Asset 2 equals $50x, the difference between its fair
market value ($200x) and adjusted tax basis ($100x)
uponcontributiontoPRS2byC,lesstheunrealized
loss ($50X) attributable to the revaluation of PRS2
on the admission of E as a partner in PRS2. The
amount of the new section 704(c) gain attributable to
Asset 2 equals $450x, the total section 704(c) gain
($500x) less the amount of the original section 704(c)
gain ($50x). The distribution of Asset 2 to A occurs
more than seven years after the contribution by C to
PRS2. Therefore, pursuant to §1.704–4(c)(4)(ii)(A),
section 704(c)(1)(B) does not apply to the original
section 704(c) gain. The distribution of Asset 2 to
A, however, occurs within seven years of the con-
tribution of Asset 2 to PRS1 and PRS2. Pursuant to
§1.704–4(c)(4)(ii)(B), section 704(c)(1)(B) applies
to the new section 704(c) gain. As the transferees
of PRS2’s partnership interest in PRS1, C, D and
E each succeed to $150 of new section 704(c) gain.
Thus, as a result of the distribution of Asset 2 to A
within seven years of the merger, C, D and E are each
required to recognize $150 of gain.
Example (4). Reverse section 704(c) gain. (i)
Facts. The facts are the same asExample (1), except
that on January 1, 2013, PRS1 distributes Asset 1 to
C in liquidation of C’s interest in PRS1.
(ii)Analysis. The distribution of Asset 1 to
C occurs more than seven years after the con-
tribution of Asset 1 to PRS1. Thus, pursuant to
§1.704–4(c)(4)(ii)(A), section 704(c)(1)(B) does not
apply to the original section 704(c) gain. Pursuant to
§1.704–4(c)(7), section 704(c)(1)(B) does not apply
to reverse section 704(c) gain in Asset 1 resulting
from a revaluation of PRS1’s partnership property
at the time of the merger. Accordingly, neither A
nor B will recognize gainunder section 704(c)(1)(B)
as a result of the distribution of Asset 1 to C. See
§1.737–2(b)(1)(ii)(F),Example (4)forasimilarex-
ample under section 737.
Example (5). Identical ownership exception. (i)
Facts. In 1990, A, an individual, and B, a subchapter
C corporation, formed PRS1, a partnership. A owned
75 percent of the interests in the book capital (as de-
termined for purposes of §1.704–1(b)(2)(iv)), prof-
its, losses, distributions, and liabilities (under section
752) of PRS1. B owned the remaining 25 percent in-
terest in the book capital, profits, losses, distributions,
and liabilities of PRS1. In the same year, A and B also
formed another partnership, PRS2, with A owning
75 percent of the interests in the book capital, prof-
its, losses, distributions, and liabilities of PRS2 and
B owning the remaining 25 percent of the book capi-
October 9, 20077942007–41 I.R.B.

tal, profits, losses, distributions, and liabilities. Upon
formation of the partnerships, A contributed the As-
set X to PRS1 and Asset Y to PRS2 and B contributed
cash. Both Assets X and Y had section 704(c) built-in
gain at the time of contribution to the partnerships.
(ii) In January 2005, PRS1 is merged into PRS2
in an assets-over merger in which PRS1 is the termi-
nating partnership and PRS2 as the continuing part-
nership for both state law and federal income tax pur-
poses. At the time of the merger, both Asset X and Y
had increased in value from the time they were con-
tributed to PRS1 and PRS2, respectively. As a re-
sult, a new layer of section 704(c) gain was created
with respect to Asset X in PRS1, and reverse section
704(c) gain was created with respect to Asset Y in
PRS2. After the merger, A had a 75 percent inter-
est in PRS2’s capital, profits, losses, distributions, li-
abilities, and all other items. B held the remaining
25 percent interest in PRS2’s capital, profits, losses,
distributions, liabilities, and all other items. In 2006,
PRS2 distributes all of Asset X to A.
(iii)Analysis. The 2006 distribution of Asset X
occurs more than seven years after the formation
of the partnerships and the original contribution of
both Assets X and Y to the partnerships. There-
fore, the original layer of built-in gain created on
the original contribution of Asset X to PRS1 is not
takenintoaccountinapplyingsection704(c)(1)(B)
to the proposed distribution. In addition, paragraph
(c)(4)(ii)(E) of this section provides that section
704(c)(1)(B) and paragraph (c)(4)(ii)(B) of this sec-
tion do not apply to new section 704(c) gain or loss in
property transferred by the transferor partnership to
the transferee partnership if both the transferor part-
nership and the transferee partnership are owned by
the same owners in the same proportions. The trans-
feror partnership and the transferee partnership are
owned by the same owners in the same proportions
if each partner’s percentage interest in the transferor
partnership’s book capital, profits, losses, distribu-
tions, and liabilities, is the same as the partner’s
percentage interest in those items of the transferee
partnership. In this case, A owned 75 percent and B
owned 25 percent of the interests in the book capital,
and in each item of income, gain, loss and credit,
and share of distributions and liabilities of PRS1
and PRS2 prior to the merger and 75 percent and 25
percent, respectively, of PRS2 after the merger. As
a result, the requirements of the identical ownership
exception of paragraph (c)(4)(ii)(E) of this section
are satisfied. Thus, the new built-in gain created
upon contribution of Asset X in connection with the
partnership merger will not be taken into account
in applying section 704(c)(1)(B) to the proposed
distribution. See §1.737–2(b)(1)(ii)(F),Example (5)
for a similar example under section 737.
***
(7)Reverse section 704(c) gain or loss.
Section 704(c)(1)(B) and this section do
not apply to reverse section 704(c) gain or
loss as described in §1.704–3(a)(6)(i).
*****
(g)Effective/applicability date. ***
Paragraphs (a)(1), (a)(4)(i), (a)(4)(ii), and
(f)(2),Examples (1) and (2),are effective
August 20, 2007. Paragraphs (c)(4) and
(c)(7) are effective for any distributions of
property after January 19, 2005, if such
property was contributed in a merger using
the assets-over form after May 3, 2004.
Par. 4. Section 1.737–1(c)(1) is
amended by removing the phrase “five
years” and adding in its place the phrase
“seven years.”
Par. 5. Section 1.737–2 is amended as
follows:
1. Paragraph (b) is revised.
2. Paragraph (e) is redesignated as para-
graph (f).
3. New paragraph (e) is added.
The additions and revisions read as fol-
lows:
§1.737–2 Exceptions and special rules.
*****
(b)Transfers to another partnership.
(1)Complete transfer to another partner-
ship (Assets-over merger).(i)In General.
Section 737 and this section do not apply
to a transfer in an assets-over merger as
defined in §1.708–1(c)(3) by a partnership
(the transferor partnership, which is con-
sidered to be the terminated partnership
as a result of the merger) of all of its as-
sets and liabilities to another partnership
(the transferee partnership, which is con-
sidered to be the resulting partnership af-
ter the merger) followed by a distribution
of the interest in the transferee partnership
in liquidation of the transferor partnership
as part of the same plan or arrangement.
(ii)Subsequent distributions.(A)Orig-
inal section 704(c) gain.If,immedi-
ately before the assets-over merger, the
transferor partnership holds property that
has original built-in gain (as defined in
§1.704–4(c)(4)(ii)(A)), the seven year
period in section 737(b) does not restart
with respect to such gain as a result of the
transfer of such section 704(c) property
to the transferee partnership. A subse-
quent distribution of other property by the
transferee partnership to the partner who
contributed the original section 704(c)
gain property to the transferor partner-
ship is only subject to section 737 with
respect to the original section 704(c) gain
if the distribution occurs within seven
years of the time such property was con-
tributed to the transferor partnership. See
§1.704–4(c)(4)(ii)(A) for a similar pro-
vision in the context of section 704. See
§1.737–1 for post-merger distribution of
property contributed to the transferee part-
nership prior to the merger.
(B)New section 704(c) gain. Except as
provided in paragraph (b)(1)(ii)(E) of this
section, if new built-in gain is created upon
the contribution of assets by the transferor
partnership to the transferee partnership, a
subsequent distribution by the transferee
partnership of property to a partner of the
transferee partnership (other than property
deemed contributed by such partner) is
subject to section 737, if such distribu-
tion occurs within seven years of the con-
tribution by the transferor partnership to
the transferee partnership. For these pur-
poses, a partner of the transferor partner-
ship is deemed to have contributed to the
transferee partnership an undivided inter-
est in the property of the transferor part-
nership. The determination of the part-
ner’s undivided interest for this purpose
shall be determined by the transferor part-
nership using any reasonable method. See
§1.704–4(c)(4)(ii)(B)forasimilarprovi-
sion in the context of section 704.
(C)Ordering Rule. For purposes of this
section, if a partner is required to recognize
gain under this section, the partner shall
recognize a proportionate amount of orig-
inal and new section 704(c) gain.
(D)Subsequent Mergers.Ifthetrans-
feree partnership (first transferee partner-
ship) is subsequently merged into another
partnership (new transferee partnership)
the section 704(c) gain that resulted from
the merger of the transferor partnership
into the first transferee partnership shall
be subject to section 737 for seven years
from the time of the contribution by the
transferor partnership to the first transferee
partnership (original merger) and section
704(c) gain that resulted from the merger
of the first transferee partnership into the
new transferee partnership shall be subject
to section 737 for seven years from the
time of the contribution by the first trans-
feree partnership to the new transferee
partnership (subsequent merger). See
§1.704–4(c)(4)(ii)(D) for a similar rule in
the context of section 704.
(E)Identical Ownership or De Minimis
Change In Ownership. For purposes of
section 737(b) and this section, net pre-
contribution gain does not include new
section 704(c) gain in property transferred
by the transferor partnership to the trans-
feree partnership if both the transferor
partnership and the transferee partnership
2007–41 I.R.B.795October 9, 2007

are owned by the same owners in the
same proportions or if the difference in
ownership isde minimis. The transferor
partnership and the transferee partnership
are owned by the same owners in the same
proportions if each partner owns identical
interests in book capital and each item of
income, gain, loss, deduction, and credit,
and identical shares of distributions and
liabilities in each of the transferor and
transferee partnerships. A difference in
ownership isde minimisif ninety seven
percent of interests in book capital and
each item of income, gain, loss, deduction
and credit and shares in distributions and
liabilities of the transferor partnership and
transferee partnership are owned by the
same owners in the same proportions. See
§1.704–4(c)(4)(ii)(E) for a similar provi-
sion in the context of section 704.
(F)Examples. The following examples
illustrate the rules of paragraph (b)(3) of
this section.
Example (1). No net precontribution gain. (i)
Facts. On January 1, 2005, A contributes Asset 1,
with a basis of $200x and a fair market value of
$300x, to partnership PRS1 in exchange for a 50
percent interest. On the same date, B contributes
$300x of cash to PRS1 in exchange for a 50 percent
interest. Also on January 1, 2005, C contributes
Asset 2, with a basis of $100x and a fair market value
of $200x, to partnership PRS2 in exchange for a 50
percent interest. D contributes $200x of cash to PRS2
in exchange for a 50 percent interest. On January
1, 2008, PRS1 and PRS2 undertake an assets-over
partnership merger in which PRS1 is the continuing
partnership and PRS2 is the terminating partnership
for both state law and federal tax purposes. At the
time of the merger, PRS1’s only assets are Asset
1, with a fair market value of $900x, and $300x in
cash. PRS2’s only assets are Asset 2, with a fair
market value of $600x and $200x in cash. After the
merger, the partners have capital and profits interests
in PRS1 as follows: A, 30 percent; B, 30 percent;
C, 20 percent; and D, 20 percent. PRS1 and PRS2
both have provisions in their respective partnership
agreements requiring the revaluation of partnership
property upon entry of a new partner. PRS1 would
not be treated as an investment company (within
the meaning of section 351) if it were incorporated.
Neither partnership holds any unrealized receivables
or inventory for purposes of section 751. In addition,
neither partnership has a section 754 election in
place. Asset 1 and Asset 2 are nondepreciable capital
assets. On January 1, 2013,PRS1 has the same assets
that it had after the merger. Each asset has the same
value that it had at the time of the merger. On this
date, PRS1 distributes Asset 2 to A in liquidation of
A’s interest.
(ii)Analysis. Section 737(a) requires A to recog-
nize gain when it receives a distribution of property
in an amount equal to the lesser of the excess distri-
bution or the partner’s net precontribution gain. The
distribution of Asset 2 to A results in an excess dis-
tribution of $400x ($600x fair market value of As-
set 2 - $200x adjusted basis in A’s partnership inter-
est). However, the distribution of Asset 2 to A oc-
curs more than seven years after the contribution by
A of Asset 1 to PRS1 and A made no subsequent con-
tributions to PRS1. Therefore, A’s net precontribu-
tion gain for purposes of section 737(b) at the time of
the distribution is zero. The $600x of reverse section
704(c) gain in Asset 1, resulting from a revaluation of
PRS1’s partnership property at the time of the merger,
is not net precontribution gain (See §1.737–2(e)). Ac-
cordingly, A will not recognize gain under section
737 as a result of the distribution of Asset 2. See
§1.704–4(c)(4)(ii)(F),Example (1)forasimilarex-
ample under section 704.
Example (2). Revaluation gain and merger gain.
(i)Facts. The facts are the same asExample (1),
except that on January 1, 2007, E joins PRS2 as a
one-third partner for $250x in cash. At the time E
joins the partnership, Asset 2 has a fair market value
of $300x. On January 1, 2008, PRS2 merges into
PRS1. At the time of the merger, Asset 1 and Asset 2
both have a fair market value of $400x. On January
1, 2011, Asset 1 is distributed to C when its value is
$275x.
(ii)Analysis. Section 737(a) requires A to recog-
nize gain when it receives a distribution of property
in an amount equal to the lesser of the excess distri-
bution or the partner’s net precontribution gain. The
distribution of Asset 1 to C results in an excess distri-
bution of $175x ($275x fair market value of Asset 1 -
$100x adjusted basis in C’s partnership interest). The
distribution of Asset 1 to C occurs within seven years
of the original contribution of Asset 2 by C to PRS2.
Therefore, C’s net precontribution gain at the time of
the distribution is $183.33x, which includes C’s orig-
inal section 704(c) gain from the contribution of As-
set 2 to PRS2 of $100x plus C’s share of new sec-
tion 704(c) gain of $83.33x ($50x of reverse section
704(c) gain upon the admission of E, plus $33.33x of
additional section 704(c) gain upon merger). C’s ex-
cess distribution is less than C’s net precontribution
gain. Thus, C will recognize $175x of gain upon re-
ceipt of Asset 1 in accordance with section 737(a).
See §1.704–4(c)(4)(ii)(F),Example (2)for a similar
example under section 704.
Example (3). Fluctuations in the value of an asset.
(i)Facts. The facts are the same asExample (1),ex-
cept that on January 1, 2011, Asset 1 is distributed to
C when its fair market value is $300x. Immediately
prior to the distribution, PRS1 revalues its property
in accordance with §1.704–1(b)(2)(iv)(f).
(ii)Analysis. The distribution of Asset 1 to C oc-
curs within seven years of the original contribution of
Asset 2 by C to PRS2 and within seven years of the
date of the merger. Therefore, C’s net precontribu-
tion gain at the time of the distribution equals $300x
($100x of original section 704(c) gain from the con-
tribution of Asset 2 to PRS2 and $200x of new section
704(c) gain). The distribution of Asset 1 to C results
in an excess distribution of $200x ($300x fair market
value of Asset 1 - $100x adjusted basis in C’s partner-
ship interest). Accordingly, in accordance with sec-
tion 737(a), C will recognize gain of $200x upon re-
ceipt of Asset 1.
Example (4). Reverse section 704(c) gain. (i)
Facts. The facts are the same asExample (1), except
that on January 1, 2011, PRS1 distributes Asset 2 to
A in liquidation of A’s interest in PRS1. At the time
of the distribution, Asset 2 has a value of $600x.
(ii)Analysis. Section 737(a) requires A to recog-
nize gain when it receives a distribution of property
in an amount equal to the lesser of the excess distri-
bution or the partner’s net precontribution gain. The
distribution of Asset 2 to A results in an excess distri-
bution of $400x ($600x fair market value - 200x ad-
justed basis in A’s partnership interest). The distribu-
tion of Asset 2 to A occurs within seven years after the
contribution of Asset 1 to PRS1 by A. Thus, A’s net
precontribution gain for purposes of section 737(b)
at the time of the distribution is $100x (A’s original
section 704(c) gain from the contribution of Asset 1
to PRS1). Under §1.737–2(e), A’s net precontribu-
tion gain does not include A’s reverse section 704(c)
gain upon the revaluation of the Assets of PRS1 prior
to the merger. Accordingly, A will recognize $100x
of gain (the lesser of the excess distribution or net
precontribution gain) under section 737 as a result of
the distribution of Asset 2. See §1.704–4(c)(4)(ii)(F),
Example (4) for a similar example under section 704.
Example (5). Identical ownership exception. (i)
Facts. In 1990, A, an individual, and B, a subchapter
C corporation, formed PRS1, a partnership. A owned
75 percent of the interests in the book capital, prof-
its, losses, distributions, and liabilities of PRS1. B
owned the remaining 25 percent interest in the book
capital, profits, losses, distributions, and liabilities of
PRS1. In the same year, A and B also formed an-
other partnership, PRS2, with A owning 75 percent of
the interests in PRS2 and B owning the remaining 25
percent. Upon formation of the partnerships, A con-
tributed Asset X to PRS1 and Asset Y to PRS2 and
B contributed cash. Both Assets X and Y had section
704(c) built-in gain at the time of contribution to the
partnerships.
(ii) In January 2005, PRS1 is merged into PRS2
in an assets-over merger in which PRS1 is the termi-
nating partnership and PRS2 as the continuing part-
nership for both state law and federal income tax pur-
poses. At the time of the merger, both Assets X and Y
had increased in value from the time they were con-
tributed to PRS1 and PRS2, respectively. As a result,
a new layer of section 704(c) gain was created with
respect to Asset X in PRS1. After the merger, A had
a 75 percent interest in PRS2’s book capital, profits,
losses, distributions, and liabilities. B held the re-
maining 25 percent interest in PRS2’s book capital,
profits, losses, distributions, and liabilities. In 2006,
PRS2 distributes all of Asset X to A.
(iii)Analysis. The 2006 distribution by PRS2 oc-
curs more than seven years after the formation of the
partnerships and the original contribution of Asset X
to the partnerships. Therefore, the original layer of
built-in gain created on the original contribution of
Asset X to the partnerships should not be taken into
account in applying section 737 to the proposed liq-
uidation. In addition, paragraph (b)(1)(ii)(E) of this
section provides that section 737(a) does not apply to
newly created section 704(c) gain in property trans-
ferred by the transferor partnership to the transferee
partnership if both the transferor partnership and the
transferee partnership are owned by the same owners
in the same proportions. The transferor partnership
and the transferee partnership are owned by the same
owners in the same proportions if each partner’s per-
centage interest in the transferor partnership’s book
capital, profits, losses, distributions, and liabilities is
the same as the partner’s percentage interest in those
items of the transferee partnership. In this case, A
October 9, 20077962007–41 I.R.B.

owned 75 percent and B owned 25 percent of the in-
terests in the book capital, profits, losses, distribu-
tions, and liabilities of PRS1 and PRS2 prior to the
merger and 75 percent and 25 percent, respectively,
of PRS2 after the merger. As a result, the require-
ments of the identical ownership exception of para-
graph (b)(1)(ii)(E) of this section are satisfied. Thus,
the new built-in gain created upon contribution of As-
set X in connection with the partnership merger will
not be taken into account in applying section 737 to
the proposed distribution. See §1.704–4(c)(4)(ii)(F),
Example (5)for a similar example under section 704.
(2)Certain divisive transactions.(i)
In general. Section 737 and this section
do not apply to a transfer by a partner-
ship (transferor partnership) of all of the
section 704(c) property contributed by a
partner to a second partnership (transferee
partnership) in an exchange described in
section 721, followed by a distribution as
part of the same plan or arrangement of an
interest in the transferee partnership (and
no other property) in complete liquidation
of the interest of the partner that originally
contributed the section 704(c) property to
the transferor partnership (divisive trans-
actions).
(ii)Subsequent distributions.Aftera
divisive transaction referred to in para-
graph (b)(2)(i) of thissection, a subsequent
distributionofpropertybythetransferee
partnership to a partner of the transferee
partnership that was formerly a partner of
the transferor partnership is subject to sec-
tion 737 to the same extent that a distribu-
tion from the transferor partnership would
have been subject to section 737.
*****
(f)Reverse section 704(c) gain.For
purposes of section 737(b), net pre-
contribution gain does not include re-
verse section 704(c) gain as described in
§1.704–3(a)(6)(i).
Par. 6. Section 1.737–5 is amended
by revising the section heading and adding
two additional sentences at the end of the
paragraph to read as follows:
§1.737–5Effective applicability date.
* * * Section 1.737–1(c) is effective as of
August 22, 2007. Section 1.737–2(b)(1)
is effective for any distribution of prop-
erty after January 19, 2005, if such prop-
erty was contributed in a merger using the
assets-over form after May 3, 2004.
Kevin M. Brown,
Deputy Commissioner for
Service and Enforcement.
(Filed by the Office of the Federal Register on August 21,
2007, 8:45 a.m., and published in the issue of the Federal
Register for August 22, 2007, 72 F.R. 46932)
Exclusions From Gross Income
of Foreign Corporations;
Correction
Announcement 2007–84
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Correction to final and tempo-
rary regulations.
SUMMARY: This document contains cor-
rections to final and temporary regulations
(T.D. 9332, 2007–32 I.R.B. 300) that were
published in theFederal Registeron
Monday, June 25, 2007 (72 FR 34600)
relating to the exclusion from gross in-
come of income derived by certain foreign
corporations engaged in the international
operation of ships or aircraft.
DATES: The correction is effective August
13, 2007.
FOR FURTHER INFORMATION
CONTACT: Patricia A. Bray, (202)
622–3880 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
The final and temporary regulations
that are the subject of this correction are
under section 883 of the Internal Revenue
Code.
Need for Correction
As published, final and temporary regu-
lations (T.D. 9332) contain errors that may
prove to be misleading and are in need of
clarification.
Correction of Publication
Accordingly, the publication of the
final and temporary regulations (T.D.
9332), which were the subject of FR Doc.
E7–12039, is corrected as follows:
1. On page 34601, column 3, in the
preamble, under the paragraph heading
“2. Elimination of Foreign Base Com-
pany Shipping Income”, line 3, the lan-
guage “(118 Stat. 1418) (AJCA) repealed
section” is corrected to read “(118 Stat.
1418)) (AJCA) repealed section”.
2. On page 34602, column 3, in the
preamble, under the paragraph heading “C.
Reporting requirements related to quali-
fied shareholder stock ownership test”, last
line, the language “at the office of that such
practitioner.” is corrected to read “at the of-
fice of that practitioner.”.
3. On page 34603, column 1, in the
preamble, under the paragraph heading “2.
Activities Incidental to the International
Operation of Ships or Aircraft”, line 7 from
the bottom of the paragraph, the language
“to the international operation of a ship”
is corrected to read “to the international
operation of ships”.
4. On page 34603, column 3, in the
preamble, under the paragraph heading
“4. Countries that Provide an Exemp-
tion Through an Income Tax Convention
and by Other Means”, lines 5 through 10,
the language “exemption under section
883 through a diplomatic note, domestic
statutory law, or by generally imposing
no income tax on foreign corporations
engaged in the international operation of
ships or aircraft will continue to have the
choice” is corrected to read “exemption
under section 883 (through a diplomatic
note, domestic statutory law, or because
income tax is generally not imposed on
foreign corporations engaged in the inter-
national operation of ships or aircraft) will
continue to have the choice”.
5. On page 34604, column 1, in the
preamble, under the paragraph heading “5.
Reporting Requirements Related to Qual-
ified Shareholder Stock Ownership Test”,
first paragraph of the column, line 9, the
language “addresses of shareholders in” is
corrected to read “addresses of sharehold-
ers of”.
6. On page 34604, column 2, in the pre-
amble, under the paragraph heading “Ef-
fective Dates”, line 1, the language “See
§ 1.883–5T(d) for effective date of” is cor-
rected to read “See § 1.883–5T(d) for the
effective date of”.
LaNita Van Dyke,
Chief, Publications and
Regulations Branch,
Legal Processing Division,
Associate Chief Counsel
(Procedure and Administration).
2007–41 I.R.B.797October 9, 2007

(Filed by the Office of the Federal Register on August 10,
2007, 8:45 a.m., and published in the issue of the Federal
Register for August 13, 2007, 72 F.R. 45159)
Deletions From Cumulative
List of Organizations
Contributions to Which
are Deductible Under Section
170 of the Code
Announcement 2007–89
The names of organizations that no
longer qualify as organizations described
in section 170(c)(2) of the Internal Rev-
enue Code of 1986 are listed below.
Generally, the Service will not disallow
deductions for contributions made to a
listed organization on or before the date
of announcement in the Internal Revenue
Bulletin that an organization no longer
qualifies. However, the Service is not
precluded from disallowing a deduction
for any contributions made after an or-
ganization ceases to qualify under section
170(c)(2) if the organization has not timely
filed a suit for declaratory judgment under
section 7428 and if the contributor (1) had
knowledge of the revocation of the ruling
or determination letter, (2) was aware that
such revocation was imminent, or (3) was
in part responsible for or was aware of the
activities or omissions of the organization
that brought about this revocation.
If on the other hand a suit for declara-
tory judgment has been timely filed, con-
tributions from individuals and organiza-
tions described in section 170(c)(2) that
are otherwise allowable will continue to
be deductible. Protection under section
7428(c) would begin on October 9, 2007,
and would end on the date the court first
determines that the organization is not de-
scribed in section 170(c)(2) as more partic-
ularly set forth in section 7428(c)(1). For
individual contributors, the maximum de-
duction protected is $1,000, with a hus-
band and wife treated as one contributor.
This benefit is not extended to any indi-
vidual, in whole or in part, for the acts or
omissions of the organization that were the
basis for revocation.
Vietnam Chinese Mutual Aid
& Friendship Association
San Francisco, CA
Fairdale Athletic Club, Inc.
Louisville, KY
Good Schools For All
San Francisco, CA
October 9, 20077982007–41 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.
2007–41 I.R.B.iOctober 9, 2007

Numerical Finding List
1
Bulletins 2007–27 through 2007–41
Announcements:
2007-61, 2007-28 I.R.B.84
2007-62, 2007-29 I.R.B.115
2007-63, 2007-30 I.R.B.236
2007-64, 2007-29 I.R.B.125
2007-65, 2007-30 I.R.B.236
2007-66, 2007-31 I.R.B.296
2007-67, 2007-32 I.R.B.345
2007-68, 2007-32 I.R.B.348
2007-69, 2007-33 I.R.B.371
2007-70, 2007-33 I.R.B.371
2007-71, 2007-33 I.R.B.372
2007-72, 2007-33 I.R.B.373
2007-73, 2007-34 I.R.B.435
2007-74, 2007-35 I.R.B.483
2007-75, 2007-36 I.R.B.540
2007-76, 2007-36 I.R.B.560
2007-77, 2007-38 I.R.B.662
2007-78, 2007-38 I.R.B.663
2007-79, 2007-40 I.R.B.749
2007-80, 2007-38 I.R.B.667
2007-81, 2007-38 I.R.B.667
2007-82, 2007-40 I.R.B.749
2007-83, 2007-40 I.R.B.752
2007-84, 2007-41 I.R.B.797
2007-85, 2007-39 I.R.B.719
2007-86, 2007-39 I.R.B.719
2007-87, 2007-40 I.R.B.753
2007-89, 2007-41 I.R.B.798
Notices:
2007-54, 2007-27 I.R.B.12
2007-55, 2007-27 I.R.B.13
2007-56, 2007-27 I.R.B.15
2007-57, 2007-29 I.R.B.87
2007-58, 2007-29 I.R.B.88
2007-59, 2007-30 I.R.B.135
2007-60, 2007-35 I.R.B.466
2007-61, 2007-30 I.R.B.140
2007-62, 2007-32 I.R.B.331
2007-63, 2007-33 I.R.B.353
2007-64, 2007-34 I.R.B.385
2007-65, 2007-34 I.R.B.386
2007-66, 2007-34 I.R.B.387
2007-67, 2007-35 I.R.B.467
2007-68, 2007-35 I.R.B.468
2007-69, 2007-35 I.R.B.468
2007-70, 2007-40 I.R.B.735
2007-71, 2007-35 I.R.B.472
2007-72, 2007-36 I.R.B.544
2007-73, 2007-36 I.R.B.545
2007-74, 2007-37 I.R.B.585
Notices— Continued:
2007-75, 2007-39 I.R.B.679
2007-76, 2007-40 I.R.B.735
2007-77, 2007-40 I.R.B.735
2007-78, 2007-41 I.R.B.780
Proposed Regulations:
REG-121475-03, 2007-35 I.R.B.474
REG-128274-03, 2007-33 I.R.B.356
REG-114084-04, 2007-33 I.R.B.359
REG-149036-04, 2007-33 I.R.B.365
REG-149036-04, 2007-34 I.R.B.411
REG-101001-05, 2007-36 I.R.B.548
REG-119097-05, 2007-28 I.R.B.74
REG-128843-05, 2007-37 I.R.B.587
REG-142695-05, 2007-39 I.R.B.681
REG-143397-05, 2007-41 I.R.B.790
REG-147171-05, 2007-32 I.R.B.334
REG-148951-05, 2007-36 I.R.B.550
REG-163195-05, 2007-33 I.R.B.366
REG-118886-06, 2007-37 I.R.B.591
REG-128224-06, 2007-36 I.R.B.551
REG-138707-06, 2007-32 I.R.B.342
REG-139268-06, 2007-34 I.R.B.415
REG-142039-06, 2007-34 I.R.B.415
REG-144540-06, 2007-31 I.R.B.296
REG-148393-06, 2007-39 I.R.B.714
REG-103842-07, 2007-28 I.R.B.79
REG-116215-07, 2007-38 I.R.B.659
REG-118719-07, 2007-37 I.R.B.593
Revenue Procedures:
2007-42, 2007-27 I.R.B.15
2007-43, 2007-27 I.R.B.26
2007-44, 2007-28 I.R.B.54
2007-45, 2007-29 I.R.B.89
2007-46, 2007-29 I.R.B.102
2007-47, 2007-29 I.R.B.108
2007-48, 2007-29 I.R.B.110
2007-49, 2007-30 I.R.B.141
2007-50, 2007-31 I.R.B.244
2007-51, 2007-30 I.R.B.143
2007-52, 2007-30 I.R.B.222
2007-53, 2007-30 I.R.B.233
2007-54, 2007-31 I.R.B.293
2007-55, 2007-33 I.R.B.354
2007-56, 2007-34 I.R.B.388
2007-57, 2007-36 I.R.B.547
2007-58, 2007-37 I.R.B.585
2007-59, 2007-40 I.R.B.745
2007-60, 2007-39 I.R.B.679
2007-61, 2007-40 I.R.B.747
2007-62, 2007-41 I.R.B.786
Revenue Rulings:
2007-42, 2007-28 I.R.B.44
Revenue Rulings— Continued:
2007-43, 2007-28 I.R.B.45
2007-44, 2007-28 I.R.B.47
2007-45, 2007-28 I.R.B.49
2007-46, 2007-30 I.R.B.126
2007-47, 2007-30 I.R.B.127
2007-48, 2007-30 I.R.B.129
2007-49, 2007-31 I.R.B.237
2007-50, 2007-32 I.R.B.311
2007-51, 2007-37 I.R.B.573
2007-52, 2007-37 I.R.B.575
2007-53, 2007-37 I.R.B.577
2007-54, 2007-38 I.R.B.604
2007-55, 2007-38 I.R.B.604
2007-56, 2007-39 I.R.B.668
2007-57, 2007-36 I.R.B.531
2007-58, 2007-37 I.R.B.562
2007-59, 2007-37 I.R.B.582
2007-60, 2007-38 I.R.B.606
2007-62, 2007-41 I.R.B.767
2007-63, 2007-41 I.R.B.778
Tax Conventions:
2007-75, 2007-36 I.R.B.540
Treasury Decisions:
9326, 2007-31 I.R.B.242
9327, 2007-28 I.R.B.50
9328, 2007-27 I.R.B.1
9329, 2007-32 I.R.B.312
9330, 2007-31 I.R.B.239
9331, 2007-32 I.R.B.298
9332, 2007-32 I.R.B.300
9333, 2007-33 I.R.B.350
9334, 2007-34 I.R.B.382
9335, 2007-34 I.R.B.380
9336, 2007-35 I.R.B.461
9337, 2007-35 I.R.B.455
9338, 2007-35 I.R.B.463
9339, 2007-35 I.R.B.437
9340, 2007-36 I.R.B.487
9341, 2007-35 I.R.B.449
9342, 2007-35 I.R.B.451
9343, 2007-36 I.R.B.533
9344, 2007-36 I.R.B.535
9345, 2007-36 I.R.B.523
9346, 2007-37 I.R.B.570
9347, 2007-38 I.R.B.624
9348, 2007-37 I.R.B.563
9349, 2007-39 I.R.B.668
9350, 2007-38 I.R.B.607
9351, 2007-38 I.R.B.616
9352, 2007-38 I.R.B.621
9353, 2007-40 I.R.B.721
9354, 2007-41 I.R.B.759
9355, 2007-37 I.R.B.577
1
A cumulative list of all revenue rulings, revenueprocedures, Treasury decisions, etc., publishedin Internal Revenue Bulletins 2007–1 through 2007–26 is in Internal Revenue Bulletin
2007–26, dated June 25, 2007.
October 9, 2007ii2007–41 I.R.B.

Treasury Decisions— Continued:
9356, 2007-39 I.R.B.675
9357, 2007-41 I.R.B.773
9358, 2007-41 I.R.B.769
2007–41 I.R.B.iiiOctober 9, 2007

Finding List of Current Actions on
Previously Published Items
1
Bulletins 2007–27 through 2007–41
Announcements:
84-26
Obsoleted by
T.D. 9336, 2007-35 I.R.B.461
84-37
Obsoleted by
T.D. 9336, 2007-35 I.R.B.461
Notices:
89-110
Modified by
REG-142695-05, 2007-39 I.R.B.681
99-6
Obsoleted as of January 1, 2009 by
T.D. 9356, 2007-39 I.R.B.675
2002-45
Modified by
REG-142695-05, 2007-39 I.R.B.681
2003-81
Modified and supplemented by
Notice 2007-71, 2007-35 I.R.B.472
2006-1
Modified by
Notice 2007-70, 2007-40 I.R.B.735
2006-43
Modified by
T.D. 9332, 2007-32 I.R.B.300
2006-56
Clarified by
Notice 2007-74, 2007-37 I.R.B.585
2006-89
Modified by
Notice 2007-67, 2007-35 I.R.B.467
2007-3
Modified by
Notice 2007-69, 2007-35 I.R.B.468
2007-26
Modified by
Notice 2007-56, 2007-27 I.R.B.15
Proposed Regulations:
EE-16-79
Withdrawn by
REG-142695-05, 2007-39 I.R.B.681
EE-130-86
Withdrawn by
REG-142695-05, 2007-39 I.R.B.681
Proposed Regulations— Continued:
REG-243025-96
Withdrawn by
REG-142695-05, 2007-39 I.R.B.681
REG-117162-99
Withdrawn by
REG-142695-05, 2007-39 I.R.B.681
REG-157711-02
Corrected by
Ann. 2007-74, 2007-35 I.R.B.483
REG-119097-05
Hearing location change by
Ann. 2007-81, 2007-38 I.R.B.667
REG-109367-06
Hearing scheduled by
Ann. 2007-66, 2007-31 I.R.B.296
REG-138707-06
Corrected by
Ann. 2007-79, 2007-40 I.R.B.749
REG-143601-06
Corrected by
Ann. 2007-71, 2007-33 I.R.B.372
REG-143797-06
Cancellation of hearing by
Ann. 2007-85, 2007-39 I.R.B.719
REG-103842-07
Corrected by
Ann. 2007-77, 2007-38 I.R.B.662
Revenue Procedures:
90-27
Superseded by
Rev. Proc. 2007-52, 2007-30 I.R.B.222
95-28
Superseded by
Rev. Proc. 2007-54, 2007-31 I.R.B.293
97-14
Modified and superseded by
Rev. Proc. 2007-47, 2007-29 I.R.B.108
98-48
Modified by
T.D. 9353, 2007-40 I.R.B.721
2002-9
Modified and amplified by
Rev. Proc. 2007-48, 2007-29 I.R.B.110
Rev. Proc. 2007-53, 2007-30 I.R.B.233
2003-43
Supplemented by
Rev. Proc. 2007-62, 2007-41 I.R.B.786
2004-42
Superseded by
Notice 2007-59, 2007-30 I.R.B.135
Revenue Procedures— Continued:
2004-48
Supplemented by
Rev. Proc. 2007-62, 2007-41 I.R.B.786
2005-16
Modified by
Rev. Proc. 2007-44, 2007-28 I.R.B.54
2005-27
Superseded by
Rev. Proc. 2007-56, 2007-34 I.R.B.388
2005-66
Clarified, modified, and superseded by
Rev. Proc. 2007-44, 2007-28 I.R.B.54
2006-25
Superseded by
Rev. Proc. 2007-42, 2007-27 I.R.B.15
2006-27
Modified by
Rev. Proc. 2007-49, 2007-30 I.R.B.141
2006-33
Superseded by
Rev. Proc. 2007-51, 2007-30 I.R.B.143
2006-53
Modified by
Rev. Proc. 2007-60, 2007-39 I.R.B.679
2006-55
Superseded by
Rev. Proc. 2007-43, 2007-27 I.R.B.26
2007-4
Modified by
Notice 2007-69, 2007-35 I.R.B.468
2007-15
Superseded by
Rev. Proc. 2007-50, 2007-31 I.R.B.244
Revenue Rulings:
54-378
Clarified by
Rev. Rul. 2007-51, 2007-37 I.R.B.573
67-93
Obsoleted by
T.D. 9347, 2007-38 I.R.B.624
69-141
Modified by
REG-142695-05, 2007-39 I.R.B.681
74-299
Amplified by
Rev. Rul. 2007-48, 2007-30 I.R.B.129
75-425
Obsoleted by
Rev. Rul. 2007-60, 2007-38 I.R.B.606
1
A cumulative list of current actions on previously published items in Internal Revenue Bulletins 2007–1 through 2007–26 is in Internal Revenue Bulletin 2007–26, dated June 25, 2007.
October 9, 2007iv2007–41 I.R.B.

Revenue Rulings— Continued:
76-278
Obsoleted by
T.D. 9354, 2007-41 I.R.B.759
76-288
Obsoleted by
T.D. 9354, 2007-41 I.R.B.759
76-450
Obsoleted by
T.D. 9347, 2007-38 I.R.B.624
78-257
Obsoleted by
T.D. 9347, 2007-38 I.R.B.624
78-369
Revoked by
Rev. Rul. 2007-53, 2007-37 I.R.B.577
89-96
Amplified by
Rev. Rul. 2007-47, 2007-30 I.R.B.127
92-17
Modified by
Rev. Rul. 2007-42, 2007-28 I.R.B.44
94-62
Supplemented by
Rev. Rul. 2007-58, 2007-37 I.R.B.562
2001-48
Modified by
T.D. 9332, 2007-32 I.R.B.300
2002-41
Modified by
REG-142695-05, 2007-39 I.R.B.681
2003-102
Modified by
REG-142695-05, 2007-39 I.R.B.681
2005-24
Modified by
REG-142695-05, 2007-39 I.R.B.681
2006-36
Modified by
REG-142695-05, 2007-39 I.R.B.681
2006-57
Modified by
Notice 2007-76, 2007-40 I.R.B.735
2007-59
Amplified by
Notice 2007-74, 2007-37 I.R.B.585
Treasury Decisions:
8073
Removed by
T.D. 9349, 2007-39 I.R.B.668
Treasury Decisions— Continued:
9321
Corrected by
Ann. 2007-68, 2007-32 I.R.B.348
Ann. 2007-78, 2007-38 I.R.B.663
9330
Corrected by
Ann. 2007-80, 2007-38 I.R.B.667
9332
Corrected by
Ann. 2007-83, 2007-40 I.R.B.752
Ann. 2007-84, 2007-41 I.R.B.797
2007–41 I.R.B.vOctober 9, 2007

October 9, 20072007–41 I.R.B.

INTERNAL REVENUE BULLETIN
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