SERVICE WILL MODIFY PROPOSED REGS ON USE OF LOSSES AND DEDUCTION BY CONSOLIDATED GROUPS.

Notice 91-27

This document contains information regarding Notices of Proposed Rulemaking CO-132-87 and CO-078-90, which were filed on January 29, 1991, and published in the Federal Register on February 4, 1991 (56 FR 4194 and 56 FR 4228) (the proposed regulations). The proposed regulations provide rules for the use of losses and deductions by consolidated groups, including effective dates and transitional rules for the application of those rules. Modifications will be made to the proposed rules regarding the computation of built-in gain and loss under sections 382 and 383 and to clarify the proposed rules regarding the effective date for the rules governing the consolidated net operating loss deduction. The proposed rules, together with the modifications described in this document, are still under consideration and may or may not be adopted in whole or in part as final regulations.

SECTION 382: OPERATION OF THE BUILT-IN GAIN AND LOSS RULES.

Generally, the built-in gain and loss rules of sections 382 and 383 apply with respect to ownership changes occurring after December 31, 1986. See section 621(f)(1) of the Tax Reform Act of 1986 (Pub. L. No. 99-514, 100 Stat. 2085 (1986)). Section 382 treats certain built-in losses that are recognized after an ownership change as pre- change losses which can be used to offset post-change income only to the extent of the section 382 limitation. References in this document to section 382 also apply, as the context requires, to section 383 (relating to limitations on capital losses and excess credits).

Under proposed section 1.1502-91(g), the determination whether a consolidated group has a net unrealized built-in gain or loss is generally based on the aggregate amount of the separately computed net unrealized built-in gains or losses of each member. If, however, a member (or a loss subgroup) has a net unrealized built-in loss when it joins a consolidated group (a "separately tracked member" or "separately tracked loss subgroup"), it will be separately tracked for an ownership change and its separately computed net unrealized built-in gain or loss generally is not aggregated with the net unrealized built-in gains and losses of the other members (1) until the separately tracked member (or separately tracked loss subgroup) has an ownership change in connection with, or after, joining the group, or (2) if there is not such an ownership change, until after it has been a member of the group for a period of 5 consecutive years. See proposed section 1.1502-96(a).

For this purpose, a separately tracked loss subgroup is generally comprised of two or more members that have been continuously affiliated with each other for the 5 consecutive year period ending immediately before they join a group and that have a net unrealized built-in loss determined by aggregating their separately computed net unrealized built-in gains and losses on the day they become members of the group. See proposed section 1.1502- 91(d)(2). If the members, in the aggregate, do not have a net unrealized built-in loss on the day they become members of the group, they do not compose a separately tracked loss subgroup for purposes of proposed section 1.1502-91(d)(2). Because their separately computed amounts were taken into account in determining whether they composed a loss subgroup, none of the members is a separately tracked member for purposes of proposed section 1.1502-94(a)(1)(ii).

Under proposed section 1.1502-91(j), a reference in sections 1.1502-91 through 1.1502-99 to a corporation, member, loss subgroup parent, or subsidiary includes, as the context may require, a reference to a successor or predecessor corporation. For example, the determination whether a successor satisfies the 5-year affiliation requirement for determining the composition of a loss subgroup with a net unrealized built-in loss is made by reference to its predecessor. For this purpose, a corporation may be a successor or predecessor with respect to another corporation only following (i) a transaction described in section 381(a), or (ii) a transaction in which the successor's basis in the acquired assets is determined, directly or indirectly, in whole or in part, by reference to the predecessor's basis and the amount by which basis exceeds value is, in the aggregate, material. See proposed sections 1.382-2T(f)(4) and 1.382- 2T(f)(5).

Because separately tracked members (or separately tracked loss subgroups) may be prevented from aggregating with other members under section 1.1502-91(g) for 5 years, and because corporations to which appreciated assets are transferred in a transaction not described in section 381(a) are not successors, separately tracked members (or separately tracked loss subgroups) that reorganize may lose their ability to determine their net unrealized built-in gain or loss by taking into account the appreciated assets.

Proposed section 1.1502-99(b) provides that, during the period ending January 28, 1991, a consolidated group is permitted to consistently use one of three specified methods to determine whether an ownership change occurred, and, if one did occur, its effect. One of these is a method that does not materially differ from the method provided by the proposed regulations.

The Service has determined that additional transitional relief is warranted with respect to the aggregation of the separately computed net unrealized built-in gain or loss of members. Accordingly, proposed section 1.1502-91(g) will be modified to provide that corporations that were affiliated on January 1, 1987, and continuously thereafter are deemed to have been continuously affiliated for 5 consecutive years on any date before January 1, 1992, on which the determination of net unrealized built-in gain or loss is made. Whether such corporations compose a loss subgroup will depend on their meeting the other requirements set forth in proposed section 1.1502-91(d)(2) and (g) (for example, they must bear a relationship to each other described in section 1504(a)(1) immediately after becoming members of a new consolidated group).

As additional transition relief to determine whether a corporation is deemed to have been continuously affiliated for 5 consecutive years with another corporation, the principles of proposed section 1.1502-91(j) (and proposed sections 1.382-2T(f)(4) and (f)(5) as they relate to proposed section 1.1502-91(j)) will be extended, as the context requires, to a corporation that has transferred or received assets which, in the aggregate, have a value in excess of basis. For example, if a corporation that has been a member of a consolidated group continuously since January 1, 1987, contributed certain of its assets to a newly-formed, wholly-owned subsidiary on January 1, 1989, the unrealized amounts with respect to the assets of the member and the subsidiary will be aggregated under proposed section 1.1502-91(g) (to the extent that the amounts would have been aggregated had the contribution not occurred) with the net unrealized built-in gains and losses of the other members to determine the group's aggregate net unrealized built-in gain or loss. In contrast, if a member receives assets in a transaction described in section 368(a)(1)(A) from a member whose separately computed gain or loss would not be included in the computation of the group's net unrealized built-in gain or loss, the transferee member's continuous affiliation with the group on and after January 1, 1987, would not cause the transferor's assets to be included in the computation of the transferee member's net unrealized built-in gain or loss.

Proposed section 1.1502-15 applies the principles of proposed section 1.1502-91(g) with appropriate adjustments. Proposed section 1.1502-15 will also be modified to provide for similar transitional relief.

No inference is intended as to whether other rules under section 382 or the principles of the proposed regulations, including section 382(h)(9) and proposed section 1.1502-91(g)(3) (relating to assets acquired with a principal purpose of affecting the amount of net unrealized built-in gain or loss), apply to a consolidated group or its members during the period ending January 28, 1991. For this purpose, however, the acquisition of an asset before May 6, 1986, will be deemed not to have a principal purpose of affecting a corporation's net unrealized built-in gain or loss.

COORDINATION OF EFFECTIVE DATES FOR BASIC RULES GOVERNING THE CONSOLIDATED NET OPERATING LOSS DEDUCTION.

Proposed section 1.1502-21 combines and revises all of the rules relating to net operating losses of a consolidated group that are contained in current sections 1.1502-21 and 1.1502-79(a). The current provisions are redesignated as sections 1.1502-21A and 1.1502-79A(a). Similar amendments are proposed for built-in deductions and capital losses. See proposed sections 1.1502-15, 1.1502-22, and 1.1502- 79A(b).

The proposed regulations will be modified to clarify the interaction of the current and proposed rules. Except as provided below, proposed section 1.1502-21 will apply to consolidated return years ending after January 28, 1991, without regard to the year in which the losses arose and without regard to whether the losses are subject to the SRLY rules. An exception to the general effective date rules is made for the SRLY rules in proposed section 1.1502-21(c) (and proposed section 1.1502-15) which generally will apply only to losses and deductions of corporations that become members (and acquisitions occurring) after January 28, 1991, without regard to when they arose.

For example, assume that a corporation is acquired on January 1, 1992, by a calendar year consolidated group, and that the corporation has net operating losses that arose in 1990 and 1991 and that are carried to the acquiring group. Because the acquiring group's consolidated return year that includes the date of the acquisition ends after January 28, 1991, the group determines its consolidated net operating loss deduction under the general rules of proposed section 1.1502-21. Because the acquired corporation joined the acquiring group after January 28, 1991, the SRLY rules of proposed section 1.1502-21(c) also apply to its loss carryforwards. However, if the acquisition had occurred before January 29, 1991, all of the loss carryforwards would be subject to the general rules of proposed section 1.1502-21, but would not be subject to the SRLY rules of proposed section 1.1502-21(c) (and proposed section 1.1502-15). Instead, the loss carryforwards would be subject to the rules of existing section 1.1502-21(c) (and existing section 1.1502-15).

Because the revised general effective date of the proposed regulations applies the proposed rules without regard to the year in which losses arise, different rules may apply to the same loss. For example, losses determined under the rules of proposed section 1.1502-21 may be carried back to a year subject to inconsistent rules under existing section 1.1502-21. Comments are requested as to issues that may arise as a result of the application of the different sets of rules to the same loss, and as to how the issues should be resolved.

FOR FURTHER INFORMATION

For further information, contact David P. Madden of the Office of the Assistant Chief Counsel (Corporate), Internal Revenue Service, at (202) 566-3205 (not a toll-free number).