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Tuesday,

May 24, 2005

Part III

Department of the
Treasury
Internal Revenue Service

26 CFR Part 1
Dual Consolidated Loss Regulations;
Proposed Rule

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29868 Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules

DEPARTMENT OF THE TREASURY Paperwork Reduction Act Estimated average annual burden
The collection of information hours per respondent and/or
Internal Revenue Service recordkeeper: 1.5 hours.
contained in this notice of proposed
Estimated number of respondents
rulemaking has been submitted to the
26 CFR Part 1 and/or recordkeepers: 1,765.
Office of Management and Budget in Estimated annual frequency of
accordance with the Paperwork responses: Annually.
[REG–102144–04]
Reduction Act of 1995 (44 U.S.C. An agency may not conduct or
3507(d)). Comments on the collection of sponsor, and a person is not required to
RIN 1545–BD10
information should be sent to the Office respond to, a collection of information
Dual Consolidated Loss Regulations of Management and Budget, Attn: Desk unless it displays a valid control
Officer for the Department of the number assigned by the Office of
AGENCY: Internal Revenue Service (IRS), Treasury, Office of Information and Management and Budget.
Treasury. Regulatory Affairs, Washington, DC Books or records relating to a
ACTION: Notice of proposed rule making 20503, with copies to the Internal collection of information must be
and notice of public hearing. Revenue Service, Attn: IRS Reports retained as long as their contents may
Clearance Officer, W:CAR:MP:FP:S become material in the administration
SUMMARY: This document contains Washington, DC 20224. Comments on of any internal revenue law. Generally,
proposed regulations under section the collection of information should be tax returns and tax return information
1503(d) of the Internal Revenue Code received by July 25, 2005. Comments are are confidential, as required by 26
(Code) regarding dual consolidated specifically requested concerning: U.S.C. 6103.
losses. Section 1503(d) generally Whether the proposed collection of
provides that a dual consolidated loss of information is necessary for the proper Background
a dual resident corporation cannot performance of the functions of the IRS, The United States taxes the
reduce the taxable income of any other including whether the information will worldwide income of domestic
member of the affiliated group unless, to have practical utility; corporations. A domestic corporation is
the extent provided in regulations, such The accuracy of the estimated burden a corporation created or organized in the
loss does not offset the income of any associated with the proposed collection United States or under the law of the
foreign corporation. Similar rules apply of information (see below); United States or of any State. The
to losses of separate units of domestic How the quality, utility, and clarity of United States allows certain domestic
corporations. The proposed regulations the information to be collected may be corporations to file consolidated returns
address various dual consolidated loss enhanced; with other affiliated domestic
issues, including exceptions to the How the burden of complying with corporations. When two or more
general prohibition against using a dual the proposed collection of information domestic corporations file a
consolidated loss to reduce the taxable may be minimized, including through consolidated return, losses that one
income of any other member of the the application of automated collection corporation incurs generally may reduce
affiliated group. techniques or other forms of information or eliminate tax on income that another
DATES: Written and electronic comments technology; and corporation earns.
and outlines of topics to be discussed at Estimates of capital or start-up costs Some countries use criteria other than
the public hearing scheduled for and costs of operation, maintenance, place of incorporation or organization to
September 7, 2005, at 10 a.m., must be and purchase of service to provide determine whether corporations are
received by August 22, 2005. information. residents for tax purposes. For example,
ADDRESSES: Send submissions to The collections of information in some countries treat corporations as
CC:PA:LPD:PR (REG–102144–04), room these proposed regulations are in residents for tax purposes if they are
5203, Internal Revenue Service, P.O. §§ (1.1503(d)–1(b)(14), 1.1503(d)– managed or controlled in that country.
Box 7604, Washington, DC 20044. 1(c)(1), 1.1503(d)–2(d), 1.1503(d)– If one of these countries determines a
Submissions may be hand delivered 4(c)(2), 1.1503(d)–4(d), 1.1503(d)– corporation to be a resident, the
between the hours of 8 a.m. and 4 p.m. 4(e)(2), 1.1503(d)–4(f)(2), 1.1503(d)–4(g), corporation is generally subject to
to CC:PA:LPD:PR (REG–102144–04), 1.1503(d)–4(h) and 1.1503(d)–4(i). The income tax of that foreign country on a
Courier’s Desk, Internal Revenue various information is required. First, it residence basis. As a result, if such a
Service, 1111 Constitution Avenue, notifies the IRS when the taxpayer corporation is a domestic corporation
NW., Washington, DC, or sent asserts that it had reasonable cause for for U.S. tax purposes, it is a dual
electronically via the IRS Internet site at failing to comply with certain filing resident corporation and is subject to
http://www.irs.gov/regs or via the requirements under the regulations. the income tax of both the foreign
Federal eRulemaking Portal at http:// Second, it indicates when the taxpayer country and the United States on a
www.regulations.gov/ (IRS and REG– attempts to rebut the amount of residence basis.
102144–04). The public hearing will be presumed tainted income. Finally, it Prior to the Tax Reform Act of 1986,
held in the Auditorium of the Internal provides the IRS various information if a corporation was a resident of both
Revenue Building, 1111 Constitution regarding exceptions to the domestic a foreign country and the United States,
Avenue, NW., Washington, DC. use limitation, including domestic use and the foreign country permitted the
elections, domestic use agreements, losses of the corporation to be used to
FOR FURTHER INFORMATION CONTACT:
triggering events and recapture. offset the income of another person (for
Concerning the proposed regulations, The collection of information is in example, as a result of consolidation),
Kathryn T. Holman, (202) 622–3840 (not certain cases required and in certain then the dual resident corporation could
a toll-free number); concerning cases voluntary. The likely respondents use any losses it generated twice: once
submissions and the hearing, Robin will be domestic corporations with to offset income that was subject to U.S.
Jones, (202) 622–3521 (not a toll-free foreign operations that generate losses. tax, but not foreign tax, and a second
number). Estimated total annual reporting and/ time to offset income subject to foreign
SUPPLEMENTARY INFORMATION: or recordkeeping burden: 2,665 hours. tax, but not U.S. tax (double-dip).

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Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules 29869

Congress was concerned that this similar rules for losses incurred by be applied by taxpayers and the
double-dip of a single economic loss separate units. Commissioner with greater certainty.
could result in an undue tax advantage In response to comments that the Finally, the IRS and Treasury believe
to certain foreign investors that made temporary regulations were that, in many cases, the current
investments in domestic corporations, unnecessarily restrictive, the IRS and regulations are administratively
and could create an undue incentive for Treasury issued final regulations under burdensome to both taxpayers and the
certain foreign corporations to acquire section 1503(d) in 1992 (TD 8434, 1992– Commissioner. Accordingly, the
domestic corporations and for domestic 2 C.B. 240). These final regulations were proposed regulations reduce, to the
corporations to acquire foreign rather updated and amended over the next 11 extent possible, the administrative
than domestic assets. Staff of Joint years (current regulations). The current burden imposed on taxpayers and the
Committee on Taxation, 99th Cong., 2nd regulations apply the section 1503(d) Commissioner.
Sess., General Explanation of the Tax limitation more narrowly than the Explanation of Provisions
Reform Act of 1986, at 1064–1065 temporary regulations. The current
(1987). Through such double-dipping, regulations adopt an actual use standard A. Structure of the Proposed
worldwide economic income could be for permitting a dual consolidated loss Regulations
rendered partially or fully exempt from to offset income of members of the The proposed regulations are set forth
current taxation. Moreover, even if the affiliated group. This standard, which in six sections. Section 1.1503(d)–1
foreign income against which the loss applies to both dual resident contains definitions and special rules
was used would eventually be subject to corporations and separate units, for filings. Section 1.1503(d)–2 sets forth
U.S. tax (upon a repatriation of requires taxpayers to certify that no operating rules, which include the
earnings), there were timing benefits of portion of the dual consolidated loss has general rule that prohibits the domestic
double dipping that the statute was been or will be used to offset the income use of a dual consolidated loss (subject
intended to prevent. Congress of any other person under the income to certain exceptions discussed below),
responded to this concern by enacting tax laws of a foreign country. If such a a rule that limits the use of dual
section 1503(d) as part of the Tax certification is made and a subsequent consolidated losses following certain
Reform Act of 1986. triggering event occurs, the dual transactions, an anti-avoidance
Section 1503(d) provides that a dual consolidated loss must be recaptured in provision that prevents dual
consolidated loss of a corporation the year of the event (plus an applicable consolidated losses from offsetting
cannot reduce the taxable income of any interest charge). income from assets acquired in certain
other member of the corporation’s nonrecognition transactions or
This document proposes amendments
affiliated group. The statute defines a contributions to capital, and rules for
to the current regulations under section
dual consolidated loss as a net operating computing foreign tax credit limitations.
1503(d). Conforming amendments are
loss of a domestic corporation that is Section 1.1503(d)–3 contains special
subject to an income tax of a foreign also proposed to related regulations
under sections 1502 and 6043. rules for accounting for dual
country on its income without regard to consolidated losses. These special rules
the source of its income, or is subject to Overview determine the amount of a dual
tax on a residence basis. The statute consolidated loss, determine the effect
authorizes the issuance of regulations In general, the proposed regulations
address three fundamental concerns that of a dual consolidated loss on domestic
permitting the use of a dual affiliates, and provide special basis
consolidated loss to offset the income of arise in connection with the current
regulations. First, the IRS and Treasury adjustments. Section 1.1503(d)–4
a domestic affiliate if the loss does not
believe that the scope of application of provides exceptions to the general rule
offset the income of a foreign
the current regulations should be that prohibits the domestic use of a dual
corporation under foreign law.
Section 1503(d) further states that, to modified. For example, the current consolidated loss, including a domestic
the extent provided in regulations, regulations may apply to certain use election. Section 1.1503(d)–5
similar rules apply to any loss of a structures where there is little contains examples that illustrate the
separate unit of a domestic corporation likelihood of a double-dip. Moreover, application of the proposed regulations.
as if such unit where a wholly owned the IRS and Treasury understand that Finally, § 1.1503(d)–6 contains the
subsidiary of the corporation. Although some taxpayers have taken the position proposed effective date of the proposed
the statute does not define the term that the current regulations do not apply regulations.
separate unit, the legislative history to to certain structures that provide In addition to the proposed regulatory
the provision refers to the loss of any taxpayers the benefits of the type of amendments under section 1503(d), the
separate and clearly identifiable unit of double-dip that section 1503(d) is proposed regulations also include
a trade or business of a taxpayer and intended to deny. Accordingly, the conforming proposed amendments to
cites as an example a foreign branch of proposed regulations are designed to § 1.1502–21 and § 1.6043–4T.
a domestic corporation. See H.R. Rep. minimize these cases of potential over- B. Definitions and Special Rules for
No. 795, 100th Cong., 2d Sess. July 26, and under-application. Filings Under Section 1503(d)—
1988) at 293. Second, the IRS and Treasury § 1.1503(d)–1
The IRS and Treasury issued recognize that there are many
temporary regulations under section unresolved issues that arise when 1. Treatment of a Separate Unit as a
1503(d) in 1989 (TD 8261, 1989–2 C.B. applying the current regulations, Domestic Corporation and a Dual
220). The temporary regulations particularly in light of the adoption of Resident Corporation
generally provided that, unless one of the entity classification regulations Section 1.1503–2(c)(3) and (4) of the
three limited exceptions applied, a dual under §§ 301.7701–1 through 301.7701– current regulations defines a separate
consolidated loss of a dual resident 3. Thus, the proposed regulations unit of a domestic corporation as a
corporation could not offset the income modernize the dual consolidated loss foreign branch, within the meaning of
of any other member of the dual regime to take into account the entity § 1.367(a)-6T(g), (foreign branch
resident corporation’s affiliated group. classification regulations and to resolve separate unit) and an interest in a
The temporary regulations contained the related issues so that the rules can partnership, trust or hybrid entity. The

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29870 Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules

current regulations also provide that any The IRS and Treasury believe that 4. Definition of a Separate Unit
separate unit of a domestic corporation such a result is inappropriate because (a) Interests in Non-Hybrid Entity
is treated as a separate domestic an S corporation cannot have a domestic Partnerships and Interests in Non-
corporation for purposes of applying the corporation as one of its shareholders Hybrid Entity Grantor Trusts
dual consolidated loss rules. Section and generally is not taxable at the entity
1.1503–2(c)(2). In addition, the current Section 1.1503–2(c)(4) of the current
level. Accordingly, the proposed
regulations provide that, unless regulations defines a separate unit to
regulations provide that for purposes of include an interest in a hybrid entity
otherwise indicated, any reference to a the dual consolidated loss rules, an S
dual resident corporation refers also to (hybrid entity separate unit). The
corporation is not treated as a domestic current regulations define a hybrid
a separate unit. As a result of these corporation. This modification clarifies
rules, certain provisions of the current entity as an entity that is not taxable as
that the dual consolidated loss an association for U.S. income tax
regulations only refer to dual resident regulations do not apply to the S
corporations, and therefore apply to purposes, but is subject to income tax in
corporation itself, or to foreign branches a foreign jurisdiction as a corporation
separate units because they are treated
or interests in certain flow-through (or otherwise at the entity level) either
as domestic corporations and dual
resident corporations. However, other entities owned by an S corporation. on its worldwide income or on a
provisions of the current regulations The IRS and Treasury request residence basis. This definition includes
refer to both dual resident corporations comments as to whether regulated an interest in such an entity that is
and separate units (for example, see investment companies (as defined in treated for U.S. tax purposes as a
partnership (hybrid entity partnership)
§ 1.1503–2(g)(2)(iii)(A)). section 851) or real estate investment
or as a grantor trust (hybrid entity
The IRS and Treasury believe that, in trusts (as defined in section 856) should
grantor trust). An interest in an entity
certain cases, treating separate units as be similarly excluded from the that is treated as a partnership or a
domestic corporations creates application of the dual consolidated loss grantor trust for both U.S. and foreign
uncertainty in applying the current rules. tax purposes (non-hybrid entity
regulations. This may occur, for partnership and non-hybrid entity
example, as a result of certain rules 3. Losses of a Foreign Insurance
Company Treated as a Domestic grantor trust, respectively) also is
applying to separate units because they treated as a separate unit under the
are treated as domestic corporations or Corporation
current regulations. § 1.1503–2(c)(3)(i).
dual resident corporations, while other Section 953(d) generally provides that The current regulations also apply to
rules apply explicitly to separate units a foreign corporation that would qualify a separate unit owned indirectly
themselves. Accordingly, the proposed through a partnership or grantor trust.
to be taxed as an insurance company if
regulations do not contain a general rule Thus, for example, if a partnership owns
it were a domestic corporation may,
that treats separate units as domestic a foreign branch within the meaning of
corporations or dual resident under certain circumstances, elect to be
treated as a domestic corporation. § 1.367(a)-6T(g), a domestic corporate
corporations for all purposes of partner’s interest in such partnership,
applying the dual consolidated loss Section 953(d)(3) provides that if a
and its indirect interest in a portion of
regulations. Instead, the proposed corporation elects to be treated as a
the foreign branch owned through the
regulations explicitly refer to dual domestic corporation pursuant to
partnership, each constitutes a separate
resident corporations and separate units section 953(d) and is treated as a
unit.
where appropriate, treat separate units member of an affiliated group, any loss Under the current regulations, an
as domestic corporations only for of such corporation is treated as a dual interest in a non-hybrid entity
limited purposes, and modify the consolidated loss for purposes of section partnership or a non-hybrid entity
operative rules where necessary to take 1503(d), without regard to section grantor trust is also treated as a separate
into account differences between dual 1503(d)(2)(B) (grant of regulatory unit, regardless of whether the
resident corporations and separate authority to exclude losses which do not partnership or grantor trust has any
units. offset the income of foreign corporations nexus with a foreign jurisdiction. This
2. Application of Section 1503(d) to S from the definition of a dual rule can result in the application of the
Corporations consolidated loss). Therefore, losses of dual consolidated loss rules when there
such corporations are treated as dual may be little opportunity for a double-
Section 1.1503–2(c)(2) of the current consolidated losses regardless of dip. For example, if two domestic
regulations provides that an S whether the corporation is subject to an corporations each own 50 percent of a
corporation, as defined in section 1361, income tax of a foreign country on its domestic partnership that generates
is not a dual resident corporation. The worldwide income or on a residence losses attributable to activities
preamble to the current regulations basis. conducted solely in the United States,
explains that S corporations are so the corporate partners would be
excluded because an S corporation The current regulations do not
technically subject to the dual
cannot have a domestic corporation as address the application of section consolidated loss rules and therefore
one of its shareholders. The current 953(d)(3). However, the definition of a would not be allowed to offset their
regulations do not, however, explicitly dual resident corporation contained in income with such losses, unless an
exclude separate units owned by an S the proposed regulations includes a exception applied. In such a case,
corporation from the definition of a dual foreign insurance company that makes however, it may be unlikely that the
resident corporation. As a result, the an election to be treated as a domestic losses would be available to offset
current regulations can be read to corporation pursuant to section 953(d) income of another person under the
provide that an S corporation, although and is a member of an affiliated group, income tax laws of a foreign country.
it cannot itself be a dual resident regardless of how such entity is taxed by The IRS and Treasury believe that
corporation, could own a separate unit the foreign country. including an interest in a non-hybrid
that would be a dual resident entity partnership and an interest in a
corporation. non-hybrid entity grantor trust in the

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Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules 29871

definition of a separate unit may not be because, as discussed above, such other resident corporations. Further, the IRS
necessary and is administratively separate units are generally treated as and Treasury request comments on the
burdensome. In such cases, it may be domestic corporations for purposes of application of the operative provisions
unlikely that deductions and losses applying the dual consolidated loss of the proposed regulations to combined
solely attributable to activities of the regulations. As a result, such foreign separate units owned by different
partnership or grantor trust, that do not branches are not treated as being owned domestic corporations (for example, the
rise to the level of a taxable presence in by a single domestic corporation. SRLY limitation under § 1.1503(d)-3(c)).
a foreign jurisdiction, can be used to The IRS and Treasury believe that the
application of the combination rule 5. Exception to the Definition of a Dual
offset income of another person under
should not be restricted to foreign Consolidated Loss
the income tax laws of a foreign
country. As a result, the proposed branch separate units. In addition, the Section 1.1503–2(c)(5)(ii)(A) of the
regulations eliminate from the IRS and Treasury believe that the current regulations provides a very
definition of a separate unit an interest combination rule should not be limited limited exception to the definition of a
in a non-hybrid entity partnership and to those cases where the domestic dual consolidated loss where the
an interest in a non-hybrid entity corporation owns the separate units income tax laws of a foreign country do
grantor trust. It should be noted, directly. Therefore, provided certain not permit the dual resident corporation
however, that the proposed regulations requirements are satisfied, the proposed to either: (1) Use its losses, expenses, or
retain the rule contained in the current regulations adopt a broader combination deductions to offset the income of any
regulations that a domestic corporation rule that combines all separate units other person in the same taxable year;
can own a separate unit indirectly that are directly or indirectly owned by or (2) carry over or carry back its losses,
through both hybrid entity and non- a single domestic corporation. expenses, or deductions to be used, by
hybrid entity partnerships, and through In order for separate units to be any means, to offset the income of any
both hybrid entity and non-hybrid combined under the proposed other person in other taxable years. This
entity grantor trusts. regulations, the losses of each separate exception only applies in rare and
unit must be made available to offset the unusual cases where the income tax
(b) Separate Unit Combination Rule income of the other separate units under laws of the foreign country do not allow
Section 1.1503–2(c)(3)(ii) of the the tax laws of a single foreign country. any portion of the dual consolidated
current regulations provides that if two In addition, if the separate unit is a loss to be used to offset income of
or more foreign branches located in the foreign branch separate unit, it must be another person under any
same foreign country are owned by a located in the foreign country that circumstances.
single domestic corporation and the allows its losses to be made available to The IRS and Treasury understand that
losses of each branch are made available offset income of each separate unit; if some taxpayers have improperly
to offset the income of the other the separate unit is a hybrid entity interpreted this provision in a manner
branches under the tax laws of the separate unit, the hybrid entity must be inconsistent with the policies of the
foreign country, then the branches are subject to tax in the foreign country that dual consolidated loss rules. As a result,
treated as one separate unit. The allows losses to be made available to the proposed regulations eliminate this
combination rule in the current each separate unit either on its exception to the definition of a dual
regulations does not apply to interests worldwide income or on a residence consolidated loss. As discussed below,
in hybrid entity separate units or to dual basis. however, the proposed regulations
resident corporations. The combination rule in the proposed contain a new exception to the general
Although a disregarded entity is regulations does not combine separate rule restricting the use of a dual
treated as a branch of its owner for units owned by different domestic consolidated loss to offset income of a
various purposes of the Code, the corporations, even if the domestic domestic affiliate. In general, this new
current regulations distinguish a hybrid corporations are included in the same exception applies when there is no
entity separate unit that is disregarded consolidated group. The IRS and possibility that any portion of the dual
as an entity separate from its owner Treasury believe this approach is consolidated loss can be double-dipped,
from a foreign branch separate unit. consistent with section 1503(d)(3), and operates in a manner that is similar
Compare § 1.1503–2(c)(3)(i)(A) and which provides that, to the extent to the manner in which the exception to
(c)(4); see also § 1.1503–2(g)(2)(vi)(C). provided in regulations, a loss of a the definition of a dual consolidated
Accordingly, the combination rule separate unit of a domestic corporation loss contained in the current regulations
under the current regulations does not is subject to the dual consolidated loss operates.
apply to an interest in a hybrid entity rules as if it were a wholly owned
separate unit, even if the hybrid entity subsidiary of such domestic 6. Partnership Special Allocations
is disregarded as an entity separate from corporation. In addition, the Section 1.1503–2(c)(5)(iii) of the
its owner. combination rule contained in the current regulations reserves on the
The combination rule in the current proposed regulations only applies to treatment of dual consolidated losses of
regulations also requires the foreign separate units and therefore does not separate units that are partnership
branches to be owned by a single apply to dual resident corporations. interests, including interests in hybrid
domestic corporation. Thus, for The IRS and Treasury, however, entities. The preamble to the current
example, the current regulations do not request comments as to whether there is regulations explains that the reservation
permit the combination of foreign authority to expand the combination was principally the result of concerns
branches owned by different domestic rule and, if so, whether the combination regarding partnership special
corporations, even if such corporations rule should be expanded to include allocations.
are members of the same consolidated separate units that are owned directly or The proposed regulations no longer
group. In addition, in some cases the indirectly by domestic corporations that reserve on the treatment of separate
current regulations do not allow the are members of the same consolidated units that are partnership interests.
combination of foreign branches that are group. Similarly, comments are However, the IRS will continue to
owned indirectly by a single domestic requested as to whether the combination challenge structures that attempt to use
corporation through other separate units rule should be extended to apply to dual special allocations in a manner that is

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29872 Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules

inconsistent with the principles of the use rule contained in the current be items of: (1) A foreign corporation; or
section 1503(d). regulations. For example, issues may (2) a direct or indirect (for example,
arise where items of income, gain, through a partnership) owner of an
7. Domestic Use of a Dual Consolidated
deduction and loss are treated as being interest in a hybrid entity, provided
Loss
generated or incurred by different such interest is not a separate unit. This
Section 1.1503–2(b)(1) of the current persons under U.S. and foreign law. condition is intended to limit a foreign
regulations states that, except as Similarly, issues may arise due to use to situations where the foreign
otherwise provided, a dual consolidated different definitions of a person under income that is (or could be) offset by the
loss cannot offset the taxable income of U.S. and foreign law. These issues have dual consolidated loss is not currently
any domestic affiliate, regardless of become more prevalent since the subject to U.S. corporate income tax. In
whether the loss offsets income of adoption of the entity classification general, if the foreign income that is
another person under the income tax regulations under §§ 301.7701–1 offset is currently subject to U.S.
laws of a foreign country, and regardless through 301.7701–3. corporate income tax, there is no
of whether the income that the loss may The IRS and Treasury also understand double-dip of the dual consolidated
offset in the foreign country is, has been, that taxpayers have taken positions loss.
or will be subject to tax in the United under the current regulations regarding
the use of a dual consolidated loss that (b) Exception to Foreign Use If No
States. Section 1.1503–2(c)(13) defines Dilution of an Interest in a Separate Unit
the term domestic affiliate to mean any are inconsistent with the policies
member of an affiliated group, without underlying section 1503(d). On the Section 1.1503–2(c)(15) of the current
regard to exceptions contained in other hand, the IRS and Treasury regulations employs a so-called actual
section 1504(b) (other than section believe that, under the current use standard for determining whether
1504(b)(3)) relating to includible regulations, a use can be deemed to there has been a use of a dual
corporations. occur in certain cases where there may consolidated loss to offset the income of
The proposed regulations retain the be little likelihood of the type of double- another person under the laws of a
general prohibition against using a dual dip that section 1503(d) was intended to foreign country. Although referred to as
consolidated loss to offset income of prevent. an actual use standard, this rule
domestic affiliates contained in the For the reasons discussed above, the provides that a use is considered to
current regulations, with modifications, proposed regulations modify the occur in the year in which a loss,
and refer to such usage as a domestic definition of use and provide a rule expense or deduction taken into account
use of a dual consolidated loss. This based on foreign use. These in computing the dual consolidated loss
general prohibition is subject to a modifications are intended to minimize is made available for such an offset,
number of exceptions, discussed below. the potential over- and under- unless an exception applies. The fact
In addition, because the proposed application of the dual consolidated loss that the other person does not have
regulations do not treat separate units as rules that can occur under the current sufficient income in that year to benefit
domestic corporations and dual resident regulations. Under the proposed from such an offset is not taken into
corporations (other than for limited regulations, the foreign use definition is account.
intended to minimize the opportunity The available component of the actual
purposes) the proposed regulations
for a double-dip. However, the new use standard was adopted because of the
expand the definition of a domestic
definition is also intended to minimize administrative complexity that would
affiliate to include separate units. This
the situations in which a foreign use result from having a use occur only
expanded definition is necessary for
will occur in cases where there may be when income is actually offset. For
purposes of applying the domestic use example, if in the year that a portion of
little likelihood of a double-dip.
limitation rule. the dual consolidated loss is made
The proposed regulations provide that
8. Foreign use of a dual consolidated a foreign use is deemed to occur only if available to be used by another person,
loss two conditions are satisfied. The first the other person itself generates a loss
condition is satisfied if any portion of a (or has a loss carryover), then in many
(a) General Rule
loss or deduction taken into account in cases the portion of the dual
Section 1.1503–2T(g)(2)(i) of the computing the dual consolidated loss is consolidated loss would become part of
current regulations provides that, in made available under the income tax the loss carryover. Such loss therefore
order to elect relief from the general laws of a foreign country to offset or would be available to be carried forward
limitation on the use of a dual reduce, directly or indirectly, any item or carried back to offset income in
consolidated loss to offset income of a that is recognized as income or gain different taxable years. Under this
domestic affiliate with respect to a dual under such laws (including items of approach, the portion of the loss
consolidated loss ((g)(2)(i) election), the income or gain generated by the dual carryforward or carryback that was
taxpayer must, among other things, resident corporation or separate unit taken into account in computing the
certify that no portion of the losses, itself), regardless of whether income or dual consolidated loss would need to be
expenses, or deductions taken into gain is actually offset, and regardless of identified and tracked, which would
account in computing the dual whether such items are recognized require detailed ordering rules for
consolidated loss has been, or will be, under U.S. tax principles. This determining when such losses were
used to offset the income of any other condition ensures that there will not be used. Timing and base differences
person under the income tax laws of a a foreign use unless all or a portion of between the U.S. and foreign
foreign country. If, contrary to this the dual consolidated loss offsets or jurisdiction would further complicate
certification, there is such a use, the reduces, or is made available to offset or such an approach.
dual consolidated loss subject to the reduce, income or gain for foreign tax Because of the administrative
(g)(2)(i) election generally must be purposes. complexities discussed above, the
recaptured and reported as gross The second condition is satisfied if foreign use definition contained in the
income. items that are (or could be) offset proposed regulations retains the
The IRS and Treasury understand that pursuant to the first condition are available for use standard. However,
issues arise involving the application of considered, under U.S. tax principles, to because the available for use standard is

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retained, there are many cases in which interest in such hybrid entity that is not Comments are specifically requested as
a foreign use of a dual consolidated loss a separate unit. to whether the dilution rules are
attributable to interests in hybrid entity The second exception to foreign use appropriate and, if so, whether a de
partnerships and hybrid entity grantor provides that, in general, no foreign use minimis exception should be provided.
trusts, and separate units owned shall be considered to occur with
respect to a dual consolidated loss 9. Mirror Legislation Rule
indirectly through partnerships and
grantor trusts, occurs, even though no attributable to or taken into account by Section 1.1503–2(c)(15)(iv) of the
portion of any item of deduction or loss a separate unit owned indirectly current regulations contains a mirror
comprising the dual consolidated loss is through a partnership or grantor trust legislation rule that addresses legislation
double-dipped. In the case of interests solely because an item of deduction or enacted by foreign jurisdictions that
in hybrid entity partnerships and hybrid loss taken into account in computing operates in a manner similar to the dual
entity grantor trusts, a portion of the such dual consolidated loss is made consolidated loss rules. This rule was
dual consolidated loss attributable to an available, under the income tax laws of designed to prevent the revenue gain
interest in such entity in many cases a foreign country, to offset or reduce, resulting from the disallowance of the
would be made available to offset directly or indirectly, any item that is double-dip benefit of a dual
income or gain of a direct or indirect recognized as income or gain under consolidated loss from inuring solely to
owner of an interest in such hybrid such laws and is considered under U.S. the foreign jurisdiction (to the detriment
entity, provided such interest is not a tax principles to be an item of a direct of the United States). Staff of the Joint
separate unit. This typically would or indirect owner of an interest in such Committee on Taxation, General
occur because under foreign law the partnership or trust. Explanation of the Tax Reform Act of
hybrid entity is taxed as a corporation Finally, the proposed regulations 1986, at 1065–66 (J. Comm. Print 1987).
(or otherwise at the entity level) and its provide a similar exception for Congress recognized that mirror
net losses may be carried forward or combined separate units that include
legislation in a foreign jurisdiction, in
carried back. A similar result may occur individual separate units to which one
conjunction with a mirror legislation
in the case of a separate unit owned of the other dilution exceptions would
rule such as that contained in the
indirectly through a non-hybrid entity apply, but for the separate unit
current regulations, could result in the
partnership or a non-hybrid entity combination rule.
The new exceptions to foreign use are disallowance of a dual consolidated loss
grantor trust because of timing and base in both the United States and in the
differences between the laws of the subject to certain limitations, however.
First, the exceptions will not apply if foreign jurisdiction. In such a case,
United States and the foreign Congress intended that Treasury pursue
jurisdiction. there has been a dilution of the interest
in the separate unit. That is, the with the appropriate authorities in the
The IRS and Treasury believe this is
exception will not apply if during any foreign jurisdiction a bilateral agreement
an inappropriate result in many cases.
taxable year the domestic owner’s that would allow the use of the loss of
For example, the IRS and Treasury
percentage interest in the separate unit, a dual resident corporation to offset
believe that if there is no dilution of the
as compared to its interest in the income of an affiliate in only one
domestic owner’s interest in the
separate unit as of the last day of the country. Staff of the Joint Committee on
separate unit, it is unlikely that any
taxable year in which such dual Taxation, General Explanation of the
portion of the dual consolidated loss
consolidated loss was incurred, is Tax Reform Act of 1986, at 1066. The
attributable to such separate unit can be
put to a foreign use (other than through reduced as a result of another person mirror rule was specifically held to be
an election to consolidate or similar acquiring through sale, exchange, valid by the Court of Appeals for the
method, discussed below). Therefore, contribution or other means an interest Federal Circuit. British Car Auctions,
the proposed regulations include three in such partnership or grantor trust, Inc. v. United States, 35 Fed. Cl. 123
new exceptions to the definition of a unless the taxpayer demonstrates, to the (1996), aff’d without op., 116 F.3d 1497
foreign use where there is no dilution of satisfaction of the Commissioner, that (Fed. Cir. 1997).
an interest in a separate unit. The new the other person that acquired the The mirror legislation rule contained
exceptions to foreign use apply to dual interest in the partnership or grantor in the current regulations provides that
consolidated losses attributable to two trust was a domestic corporation. The if the laws of a foreign country deny the
types of separate units: (1) Interests in exceptions to foreign use should not use of a loss of a dual resident
hybrid entity partnerships and interests apply when a person (other than a corporation (or separate unit) to offset
in hybrid entity grantor trusts; and (2) domestic corporation) acquires an the income of another person because
separate units owned indirectly through interest in the separate unit because the the dual resident corporation (or
partnerships and grantor trusts. dilution would typically result in an separate unit) is also subject to tax by
The first exception to foreign use actual foreign use. another country on its worldwide
provides that, in general, no foreign use Second, the exceptions do not apply income or on a residence basis, the loss
shall be considered to occur with if the availability does not arise solely is deemed to be used against the income
respect to a dual consolidated loss from the ownership in such partnership of another person in such foreign
attributable to an interest in a hybrid or trust and the allocation of the item of country such that no (g)(2)(i) election
entity partnership or a hybrid entity deduction or loss, or the offsetting by can be made with respect to such loss.
grantor trust, solely because an item of such deduction or loss, of an item of This rule is intended to prevent the
deduction or loss taken into account in income or gain of the partnership or foreign jurisdiction from enacting
computing such dual consolidated loss trust. For example, the exception does legislation that gives taxpayers no
is made available, under the income tax not apply in the case where the item of choice but to use the dual consolidated
laws of a foreign country, to offset or loss or deduction is made available loss to offset income in the United
reduce, directly or indirectly, any item through a foreign consolidation regime. States. This result is contrary to the
that is recognized as income or gain The IRS and Treasury request general policy underlying the structure
under such laws and is considered comments on the issues discussed above of the current regulations that provides
under U.S. tax principles to be an item in connection with the availability taxpayers the choice of using the dual
of the direct or indirect owner of an component of the foreign use definition. consolidated loss to either offset income

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29874 Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules

in the United States or income in the regulations clarify that the mere such filing if the person is able to
foreign jurisdiction (but not both). existence of mirror legislation, demonstrate, to the satisfaction of the
As a result of the consistency rule regardless of whether it applies to the Director of Field Operations having
(discussed below), the deemed use of a particular dual resident corporation, jurisdiction of the taxpayer’s tax return
dual consolidated loss pursuant to the may not result in a deemed foreign use. for the taxable year, that such failure
mirror legislation rule may also restrict For example, see § 1.1503(d)–5(c) was due to reasonable cause and not
the ability to use other dual Example 23. willful neglect. Once the person
consolidated losses to offset the income The proposed regulations also clarify becomes aware of the failure, the person
of domestic affiliates, even if such losses that the absence of an affiliate in the must make this demonstration and
are not subject to the mirror legislation. foreign jurisdiction, or the failure to comply by attaching all the necessary
Subsequent to the issuance of the make an election to enable a foreign use, filings to an amended tax return (that
current regulations, several foreign does not prevent the opportunity for a amends the tax return to which the
jurisdictions enacted various forms of foreign use. Thus, for example, the filings should have been attached), and
mirror legislation that, absent the mirror mirror legislation rule may apply even including a written statement
legislation rule, would have the effect of if there are no affiliates of the dual explaining the reasons for the failure to
forcing certain taxpayers to use dual resident corporation in the foreign comply.
consolidated losses to offset income of jurisdiction or, even where there is such In determining whether the taxpayer
domestic affiliates. an affiliate, no election is made to has reasonable cause, the Director of
Given the relevant legislative history consolidate. Field Operations shall consider whether
and British Car Auctions, the IRS and As discussed below, the consistency the taxpayer acted reasonably and in
Treasury believe that the mirror rule is intended to promote uniformity good faith. Whether the taxpayer acted
legislation rule remains necessary. This and reduce administrative burdens. The reasonably and in good faith will be
is particularly true in light of the IRS and Treasury believe that these determined after considering all the
prevalence of mirror legislation in concerns may not be significant, facts and circumstances. The Director of
foreign jurisdictions. As a result, the however, where there is only a deemed Field Operations shall notify the person
proposed regulations retain the mirror foreign use of a dual consolidated loss in writing within 120 days of the filing
legislation rule. The proposed as a result of the mirror legislation rule. if it is determined that the failure to
regulations modify the mirror legislation Accordingly, the mirror legislation rule comply was not due to reasonable
rule, however, to address its proper contained in the proposed regulations cause, or if additional time will be
application with respect to mirror provides that a deemed foreign use is needed to make such determination.
legislation enacted subsequent to the not treated as a foreign use for purposes
issuance of the current regulations, and of applying the consistency rule. C. Operating Rules—§ 1.1503(d)–2
to modify its application to better take
10. Reasonable Cause Exception 1. Application of Rules to Multiple Tiers
into account the policies underlying the
The current regulations require of Separate Units
consistency rule.
In general, the mirror legislation rule various filings to be included on a Section 1.1503–2(b)(3) of the current
contained in the proposed regulations timely filed tax return. In addition, regulations provides that if a separate
applies when the opportunity for a taxpayers that fail to include such unit of a domestic corporation is owned
foreign use is denied because: (1) The filings on a timely filed tax return must indirectly through another separate unit,
loss is incurred by a dual resident request an extension of time to file limitations on the dual consolidated
corporation that is subject to income under § 301.9100–3. losses of the separate units apply as if
taxation by another country on its The IRS and Treasury believe that the upper-tier separate unit were a
worldwide income or on a residence requiring taxpayers to request relief for subsidiary of the domestic corporation,
basis; (2) the loss may be available to an extension of time to file under and the lower-tier separate unit were a
offset income other than income of the § 301.9100–3 results in an unnecessary lower-tier subsidiary. In light of changes
dual resident corporation or separate administrative burden on both taxpayers made to other provisions of the
unit under the laws of another country; and the Commissioner. The IRS and proposed regulations, this rule is no
or (3) the deductibility of any portion of Treasury believe that a reasonable cause longer necessary. As a result, the
a loss or deduction taken into account standard, similar to that used in other proposed regulations do not contain this
in computing the dual consolidated loss international provisions of the Code provision.
depends on whether such amount is (such as sections 367(a) and 6038B), is
2. Tainted Income
deductible under the laws of another a more appropriate and less burdensome
country. means for taxpayers to cure compliance Section 1.1503–2(e) of the current
The IRS and Treasury understand that defects under section 1503(d). As a regulations prevents the dual
there may be uncertainty as to the result, the proposed regulations adopt a consolidated loss of a dual resident
application of the mirror legislation rule reasonable cause standard. Moreover, corporation that ceases being a dual
in a given case when the mirror extensions of time under § 301.9100–3 resident corporation from offsetting
legislation is limited in its application. will not be granted for filings under tainted income of such corporation.
Mirror legislation may or may not apply these proposed regulations. See Subject to certain exceptions, tainted
to a particular dual resident corporation § 301.9100–1(d). income is defined as income derived
or separate unit depending on various Under the reasonable cause standard, from assets that are acquired by a dual
factors, including the type of entity or if a person that is permitted or required resident corporation in a nonrecognition
structure that generates the loss, the to file an election, agreement, statement, transaction, or as a contribution to
ownership of the operation or entity that rebuttal, computation, or other capital, at any time during the three
generates the loss, the manner in which information under the regulations fails taxable years immediately preceding the
the operation or entity is taxed in to make such a filing in a timely tax year in which the corporation ceases
another jurisdiction, or the ability of the manner, such person shall be to be a dual resident corporation, or at
losses to be deducted in another considered to have satisfied the any time thereafter. The current
jurisdiction. As a result, the proposed timeliness requirement with respect to regulations also contain a rule that,

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absent proof to the contrary, presumes domestic corporation that is a dual income, gain, deduction and loss
an amount of income generated during resident corporation, using only those (translated into U.S. dollars) should be
a taxable year as being tainted income. items of income, expense, deduction, taken into account for purposes of
Such amount is the corporation’s and loss that are otherwise attributable calculating the dual consolidated loss of
taxable income for the year multiplied to such separate unit. a separate unit. In other words, treating
by a fraction, the numerator of which is The current regulations do not a separate unit as a separate domestic
the fair market value of the tainted provide any guidance for determining corporation does not cause items that
assets at the end of the year, and the the items of income, gain, deduction are disregarded for U.S. tax purposes
denominator of which is the fair market and loss that are otherwise attributable (for example, interest paid by a
value of the total assets owned by each to a separate unit. The IRS and Treasury disregarded entity on an obligation held
domestic corporation at the end of each understand that the absence of such by its owner) to be regarded for
year. guidance has resulted in considerable purposes of calculating a separate unit’s
The tainted income rule is intended to uncertainty. For example, commentators dual consolidated loss.
prevent taxpayers from obtaining a have questioned whether all or any The proposed regulations also clarify
double-dip with respect to a dual portion of the interest expense of a that in the case of tiered separate units,
consolidated loss by stuffing assets into domestic owner is attributable to a each separate unit must calculate its
a dual resident corporation after, or in separate unit. own dual consolidated loss and no item
certain cases before, it terminates its It is also unclear the extent to which of income, gain, deduction and loss may
status as a dual resident corporation. A a separate unit is treated as a separate be taken into account in determining the
double-dip may be obtained in such domestic corporation under this rule. taxable income or loss of more than one
case because the income that offsets the For example, commentators have separate unit. Similarly, the proposed
dual consolidated loss generally would questioned whether a transaction regulations clarify that items of one
not be subject to tax in the foreign between a separate unit and its owner separate unit cannot offset or otherwise
jurisdiction after the dual resident status that is generally disregarded for federal be taken into account by another
of the corporation terminates. tax purposes (for example, interest paid separate unit for purposes of calculating
The proposed regulations retain the by a disregarded entity on an obligation a dual consolidated loss (unless the
tainted income rule, subject to the held by its owner) can create an item of separate unit combination rule applies).
following modifications. The proposed income, gain, deduction or loss for These rules ensure that the dual
regulations clarify that tainted income purposes of calculating a dual consolidated loss calculation is
includes both income or gain recognized consolidated loss. computed separately for each separate
on the sale or other disposition of Commentators have also questioned unit, which is necessary to prevent
tainted assets and income derived as a whether each separate unit in a tiered deductions and losses from being
result of holding tainted assets. The separate unit structure (that is, where double-dipped.
proposed regulations also modify the one separate unit owns another separate
unit) must separately determine (c) Foreign Branch Separate Unit
rule defining the amount of income
presumed to be tainted income. The whether it has a dual consolidated loss, The proposed regulations provide that
proposed regulations clarify that the or whether such separate units are the asset use and business activities
presumptive rule only applies to income combined for this purpose. principles of section 864(c) apply for
derived as a result of holding tainted The proposed regulations provide purposes of determining the items of
assets; income or gain recognized on the more definitive rules for determining income, gain, deduction (other than
sale or other disposition of tainted the amount of a dual consolidated loss interest) and loss that are taken into
assets should be readily determinable (or income) of a separate unit. These account in determining the taxable
such that the presumptive rule need not rules apply solely for purposes of income or loss of a foreign branch
apply. The proposed regulations also section 1503(d) and, therefore, do not separate unit. For this purpose, the
provide that the numerator in the apply for other purposes of the Code (for trading safe harbors of section 864(b) do
presumptive income fraction is the fair example, section 987). The proposed not apply for purposes of determining
market value of tainted assets regulations first provide general rules whether a trade or business exists
determined at the time such assets were that apply for purposes of calculating within a foreign country or whether
acquired by the corporation, as opposed dual consolidated losses (or income) for income may be treated as effectively
to being determined at the end of the both foreign branch separate units and connected to a foreign branch separate
taxable year. The IRS and Treasury hybrid entity separate units. The unit. In addition, the limitations on
believe that this approach is more proposed regulations provide additional effectively connected treatment of
administrable because value should be rules for calculating the dual foreign source related-party income
more readily determinable on the consolidated losses (or income) of under section 864(c)(4)(D) do not apply.
acquisition date. In addition, this foreign branch separate units, hybrid The proposed regulations further
approach does not require tainted assets entity separate units, and separate units provide that the principles of § 1.882–5,
to be traced over time. owned indirectly through other separate as modified, apply for purposes of
units, non-hybrid entity partnerships, or determining the items of interest
D. Special Rules for Accounting for Dual non-hybrid entity grantor trusts. Finally, expense that are taken into account in
Consolidated Losses—§ 1.1503(d)–3 the proposed regulations provide determining the taxable income or loss
1. Items Attributable to a Separate Unit special rules that apply to tiered of a foreign branch separate unit. The
separate units, combined separate units, rules provide that a taxpayer must use
(a) Overview U.S. tax principles to determine both
dispositions of separate units, and the
Section 1.1503–2(d)(1)(ii) of the treatment of certain income inclusions the classification and amounts of the
current regulations provides a rule for on stock. assets and liabilities when the actual
determining whether a separate unit has worldwide ratio is used. The valuation
a dual consolidated loss. Under this (b) General Rules of assets must be determined under the
rule, the separate unit must compute its The proposed regulations clarify that same methodology the taxpayer uses
taxable income as if it were a separate only existing tax accounting items of under § 1.861–9T(g) for purposes of

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allocating and apportioning interest income, gain, deduction and loss (f) Interests in Hybrid Entity
expense under section 864(e). Further, between the domestic corporation (and Partnerships, Interests in Hybrid Entity
and solely for these purposes, the intervening entities, if any) that own the Grantor Trusts, and Separate Units
domestic owner of the foreign branch hybrid entity separate unit, and the Owned Indirectly Through Partnerships
separate unit is treated as a foreign hybrid entity separate unit, if such items and Grantor Trusts
corporation, the foreign branch separate are not properly reflected on the books The proposed regulations provide
unit is treated as a trade or business and records of the hybrid entity. rules for determining the extent to
within the United States, and assets which: (1) Items of income, gain,
other than those of the foreign branch The proposed regulations also provide
that if a hybrid entity owns an interest deduction and loss that are attributable
separate unit are treated as assets that
in either a non-hybrid entity partnership to a hybrid entity that is a partnership
are not U.S. assets. Accordingly, only
or a non-hybrid entity grantor trust, are attributable to an interest in such
the interest expense of the domestic
items of income, gain, deduction and hybrid entity partnership; and (2) items
owner of the foreign branch separate
loss that are properly reflected on the of income, gain, deduction and loss of
unit is subject to allocation for purposes
books and records of such partnership a separate unit that is owned indirectly
of computing the dual consolidated loss.
through a partnership are taken into
The IRS and Treasury believe that the or grantor trust (under the principles of
account by a partner in such
application of these principles will § 1.988–4(b)(2), as adjusted to conform
partnership. These items are taken into
better harmonize the borrowing rate and to U.S. tax principles), are treated as
effective interest costs that both the account to the extent they are includible
being properly reflected on the books in the partner’s distributive share of the
United States and the foreign country and records of the hybrid entity.
take into account in determining the partnership income, gain, deduction or
However, such items are treated as loss, as determined under the rules and
dual consolidated loss, as compared to being properly reflected on the books
the use of § 1.861–9T. principles of subchapter K, chapter 1 of
and records of the hybrid entity only to the Code.
The IRS and Treasury believe that
the extent they are taken into account by The proposed regulations also provide
taking items into account in
the hybrid entity under principles of rules for determining the extent to
determining the taxable income or loss
of a foreign branch separate unit under subchapter K, chapter 1 of the Code, or which: (1) Items of income, gain,
these standards is administrable because the principles of subpart E, subchapter deduction and loss attributable to a
of the existing guidance provided under J, chapter 1 of the Code, as the case may hybrid entity that is a grantor trust are
these provisions. In addition, the IRS be. attributable to an interest in such hybrid
and Treasury believe that this approach The IRS and Treasury believe that entity grantor trust; and (2) the items of
furthers the policy underlying section attributing items to a hybrid entity income, gain, deduction and loss of a
1503(d) because it serves as a reasonable under this standard is administrable separate unit owned indirectly through
approximation of the items that the a grantor trust are taken into account by
because it is generally consistent with
foreign jurisdiction may recognize as an owner of such grantor trust. These
the accounting treatment of the items.
being taken into account in determining items are taken into account to the
The IRS and Treasury also believe that
the taxable income or loss of a branch extent they are attributable to trust
this standard furthers the policy property that the holder of the trust
or permanent establishment of a non- underlying section 1503(d) because the
resident corporation in such interest is treated as owning under the
items that are properly reflected on the rules and principles of subpart E,
jurisdiction. Nevertheless, the IRS and
books and records of the hybrid entity subchapter J, chapter 1 of the Code.
Treasury solicit comments on these
provisions and whether other (as adjusted to conform to U.S. tax
principles) represent the best (g) Allocation of Items Between Certain
administrable approaches (that Indirectly Owned Separate Units
approximate the items taken into approximation of items that the foreign
account by the foreign jurisdiction) jurisdiction would recognize as being The proposed regulations provide
should be considered. attributable to the entity. For example, special rules for allocating items of
it is likely that a foreign jurisdiction income, gain, deduction and loss to
(d) Hybrid Entity would recognize and take into account foreign branch separate units that are
The proposed regulations provide as being attributable to a hybrid entity owned, directly or indirectly (other than
rules for attributing items of income, the interest expense properly reflected through a hybrid entity separate unit) by
gain, deduction and loss to a hybrid on the books and records of the hybrid hybrid entities. In such a case, only
entity. These rules are necessary to entity; however, it is unlikely that a items that are attributable to the hybrid
determine the items that are attributable foreign jurisdiction would recognize, entity that owns such separate unit (and
to an interest in a hybrid entity that and take into account as being intervening entities, if any, that are not
constitutes a separate unit. attributable to a hybrid entity, interest themselves separate units) are taken into
The proposed regulations provide expense of a domestic corporation that account.
that, in general, the items of income, This rule is intended to minimize the
owns an interest in the hybrid entity.
gain, deduction and loss that are items taken into account by a foreign
attributable to a hybrid entity are those (e) Interest in a Disregarded Hybrid branch separate unit that the foreign
items that are properly reflected on its Entity jurisdiction would not recognize as
books and records, as adjusted to being so taken into account. This may
conform to U.S. tax principles. The The proposed regulations provide occur in these cases because the foreign
principles of § 1.988–4(b)(2) apply for that, except to the extent otherwise jurisdiction taxes the hybrid entity as a
purposes of making this determination. provided under special rules (discussed corporation (or otherwise at the entity
These principles generally provide that below), items that are attributable to an level) and therefore likely would not
the determination is a question of fact interest in a hybrid entity that is take into account items of its owner. For
and must be consistently applied. These disregarded as an entity separate from example, if a domestic corporation
principles also provide that the its owner are those items that are indirectly owns a Country X foreign
Commissioner may allocate items of attributable to such hybrid entity itself. branch separate unit through a Country

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Y hybrid entity, Country X likely would units that compose such combined owned by a hybrid entity separate unit,
take into account items of the Country separate unit. it is not clear under the current
Y hybrid entity as being items of the regulations whether such income
(i) Gain or Loss Recognized on
Country X branch. It is unlikely, inclusion is taken into account for
Dispositions of Separate Units
however, that Country X would take purposes of calculating the dual
into account items of the domestic The current regulations do not consolidated loss of the hybrid entity
corporation as items of the Country X indicate whether items of income, gain, separate unit.
branch because Country X views the deduction and loss recognized on the The IRS and Treasury believe that,
owner of the Country X branch (the sale or disposition of a separate unit, or solely for purposes of applying the dual
Country Y hybrid entity) as a of an interest in a partnership or grantor consolidated loss rules, it is appropriate
corporation. Therefore, only the items of trust through which a separate unit is to treat income inclusions arising from
income, gain, deduction and loss of the indirectly owned, is attributable to or the ownership of stock in the same
Country Y hybrid entity (and not items taken into account by such separate unit manner that dividend income is treated.
of the domestic corporation) should be for purposes of calculating the dual Accordingly, the proposed regulations
taken into account for purposes of consolidated loss of the separate unit for provide that income inclusions are
determining the dual consolidated loss the year of the sale (or for purposes of taken into account for purposes of
of the Country X branch. reducing the amount of recapture as a calculating the dual consolidated loss of
The proposed regulations also provide result of a triggering event). a separate unit if an actual dividend
that only income and assets of such The IRS and Treasury believe that it from such foreign corporation would
hybrid entity are taken into account for is appropriate to take into account items have been so taken into account.
purposes of applying the principles of of income, gain, deduction and loss
recognized on these dispositions. Thus, (k) Section 987 Gain or Loss
section 864(c) and § 1.882–5, as
modified, in determining the items the proposed regulations provide that Section 987 provides that if a taxpayer
taken into account by the foreign branch items of income, gain, deduction and has one or more qualified business units
separate unit; thus, other income and loss recognized on the disposition of a with a functional currency other than
assets of the domestic owner, for separate unit (or an interest in a the dollar, the taxpayer must make
example, are not taken into account for partnership or grantor trust that directly proper adjustments to take into account
these purposes. This rule is also or indirectly owns a separate unit), are foreign currency gain or loss on certain
intended to ensure that the principles attributable to or taken into account by transfers of property between such
under these provisions are applied in a the separate unit to the extent of the qualified business units.
way that best approximates the items gain or loss that would have been In 1991, the IRS and Treasury issued
that the foreign jurisdiction would recognized had such separate unit sold proposed regulations under section 987
recognize as being taken into account by all its assets in a taxable exchange, that included rules for determining the
a taxable presence in such jurisdiction. immediately before the disposition of amount of foreign currency gain or loss
Finally, the proposed regulations the separate unit, for an amount equal recognized on certain transfers of
provide that items generally attributable to their fair market value. The proposed property between qualified business
to an interest in a hybrid entity are not regulations clarify that for this purpose units. On April 3, 2000, the IRS and
taken into account to the extent they are items of income and gain include loss Treasury issued Notice 2000–20 (2000–
taken into account by a foreign branch recapture income or gain under section 14 I.R.B. 851) announcing that the IRS
separate unit owned, directly or 367(a)(3)(C) or 904(f)(3). and Treasury intend to review and
indirectly (other than through a hybrid The proposed regulations also address possibly replace the proposed
entity separate unit), by the hybrid situations where more than one separate regulations issued under section 987.
entity. This rule prevents two or more unit is disposed of in the same The IRS and Treasury have opened a
separate units from taking into account transaction and items of income, gain, regulations project under section 987
the same item of income, gain, deduction and loss recognized on such and expect to issue new section 987
deduction or loss under different rules. disposition are attributable to more than regulations in the future.
one separate unit. In such a case, items The current regulations do not
(h) Combined Separate Units of income, gain, deduction and loss are provide specific rules that indicate
As discussed above, the proposed attributable to or taken into account by whether section 987 gains or losses of a
regulations combine separate units each such separate unit based on the domestic owner are attributable to, or
owned, directly or indirectly, by a single gain or loss that would have been taken into account by, a separate unit
domestic corporation, provided certain recognized by each separate unit if it for purposes of calculating the separate
requirements are satisfied. Because had sold all of its assets in a taxable unit’s dual consolidated loss. Because
different rules may apply for purposes exchange, immediately before the the IRS and Treasury have an open
of attributing items to individual disposition of the separate unit, for an regulations project under section 987
separate units that may be combined amount equal to their fair market value. and expect to issue new regulations
into a single separate unit, special rules under section 987, the IRS and Treasury
are necessary to attribute items to (j) Income Inclusion on Stock do not believe it is appropriate to
combined separate units. The current regulations do not address this issue in the proposed
The proposed regulations provide that indicate whether an amount included in regulations. The IRS and Treasury
in the case of a combined separate unit, income arising from the ownership of request comments on whether section
items are first attributable to, or stock in a foreign corporation (income 987 gains and losses of a domestic
otherwise taken into account by, the inclusion) is attributable to or taken into owner should be attributable to, or taken
individual separate units composing the account by a separate unit that owns the into account by, a separate unit,
combined separate unit, without regard stock that gave rise to the income particularly with respect to section 987
to the combination rule. The combined inclusion. For example, if a domestic gains and losses attributable to, or taken
separate unit then takes into account all corporation has a section 951(a) into account by, separate units owned
of the items attributable to, or taken into inclusion attributable to stock of a indirectly through hybrid entity
account by, the individual separate controlled foreign corporation that is separate units.

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2. Effect of a Dual Consolidated Loss limitation that is subsequently absorbed at any time; and (2) prepare a statement
Section 1.1503–2(d)(2) of the current in a carryover or carryback year. Finally, and attach it to its tax return for the
regulations provides that if a dual the rules provide that there is no basis taxable year in which the dual
resident corporation has a dual increase for recapture income consolidated loss is incurred. This
consolidated loss that is subject to the recognized as a result of a triggering statement must include an analysis, in
general rule restricting it from offsetting event. Similar rules apply to separate reasonable detail and specificity,
the income of a domestic affiliate, the units arising from ownership of an supported with an official or certified
consolidated group of which the dual interest in a partnership. These special English translation of the relevant
basis adjustment rules are generally provisions of foreign law, of the
resident corporation is a member must
intended to prevent an indirect treatment of the losses and deductions
compute its taxable income without
deduction of a dual consolidated loss. composing the dual consolidated loss,
taking into account the items of income,
The proposed regulations retain the and the reasons supporting the
gain, deduction or loss taken into
special stock basis adjustment rules, as conclusion that there cannot be a
account in computing the dual
modified, to prevent the indirect use of foreign use of the dual consolidated loss
consolidated loss. The current
a dual consolidated loss. In addition, by any means at any time.
regulations contain a similar rule for This exception is intended to replace
separate units. the proposed regulations retain the rules
addressing the effect of a dual the exception to the definition of a dual
These rules do not exclude only the consolidated loss contained in § 1.1503–
dual consolidated loss in computing consolidated loss on a partner’s adjusted
basis in its partnership interest in cases 2(c)(5)(ii)(A) of the current regulations.
taxable income, but instead provide that Thus, under the proposed regulations
none of the gross tax accounting items where the partnership interest is a
separate unit, or a separate unit is the question of foreign use is not
that compose the dual consolidated loss relevant to the definition of a dual
are taken into account. While this owned indirectly through a partnership.
These rules require the partner to adjust consolidated loss; the issue will instead
approach has the same effect on net be whether an exception to the domestic
income as would excluding only the its basis in accordance with the
principles of section 705, subject to use limitation applies. Consistent with
dual consolidated loss, removing all the exception to the definition of a dual
gross items of income, gain, deduction certain modifications.
The IRS and Treasury recognize that consolidated loss contained in the
and loss may have a distortive effect on current regulations, the IRS and
these rules may lead to harsh results,
other federal tax calculations. Treasury believe that this new exception
particularly in light of the fact that the
The IRS and Treasury believe that this to the domestic use limitation rule
indirect use of the dual consolidated
distortive effect will be minimized if contained in the proposed regulations
loss would only arise through the
only the dual consolidated loss itself is will apply only in rare and unusual
disposition of the stock of a dual
not taken into account. Accordingly, the circumstances due to the definition of
resident corporation (or a partnership
proposed regulations provide that only foreign use and general principles of
interest) that may not occur for many
a pro rata portion of each item of foreign law. For example, if the foreign
years after the dual consolidated loss is
deduction and loss taken into account jurisdiction recognizes any item of
incurred. In addition, upon such
in computing the dual consolidated loss deduction or loss composing the dual
subsequent disposition the resulting
are excluded in computing taxable consolidated loss (regardless of whether
deduction or loss would generally be
income. In addition, to the extent that recognized currently or deferred, for
capital in nature, and the definition of
a dual consolidated loss is carried over example, by being reflected in the basis
a dual consolidated loss excludes
or carried back and, subject to § 1.1502– of assets), and such item is available for
capital losses incurred by the dual
21(c) (as modified in the proposed foreign use through a form of
resident corporation or separate unit. As
regulations), is made available to offset consolidation, carryover or carryback, or
a result, the IRS and Treasury request
income generated by the dual resident a transaction (for example, a merger,
comments regarding concerns over these
corporation or separate unit, the basis carryover transaction, or entity
types of indirect uses and whether the
proposed regulations treat items classification election), then the
special basis rules should be retained.
composing the dual consolidated loss as exception will not apply.
These comments should consider
being used on a pro rata basis.
whether the policies underlying section 2. Domestic Use Election and
3. Basis Adjustments 1503(d) require basis adjustment rules Agreement
Section 1.1503–2(d)(3) of the current that differ from other basis adjustment As discussed above, the current
regulations contains special basis rules that apply to non-capital, non- regulations provide an exception to the
adjustment rules that override the deductible expenses (for example, rules general rule prohibiting the use of a
normal investment adjustment rules under sections 705 and 1367, and dual consolidated loss to offset the
under § 1.1502–32 for stock of affiliated § 1.1502–32(b)) income of a domestic affiliate if a
dual resident corporations or affiliated E. Exceptions to the Domestic Use (g)(2)(i) election is made. Under this
domestic owners owned by other Limitation Rule—§ 1.1503(d)–4 exception, the consolidated group,
members of the consolidated group. unaffiliated dual resident corporation,
These rules provide that stock basis is 1. No Possibility of Foreign Use or unaffiliated domestic owner must
reduced by a dual consolidated loss, The proposed regulations provide a enter into an agreement ((g)(2)(i)
even though such loss is subject to the new exception to the general rule agreement) certifying, among other
general limitation on the use of a dual prohibiting the domestic use of a dual things, that no portion of the deductions
consolidated loss to offset income of a consolidated loss. To qualify under this or losses taken into account in
domestic affiliate. To avoid reducing the exception, the consolidated group, computing the dual consolidated loss
stock basis a second time for the same unaffiliated dual resident corporation, have been, or will be, used to offset the
dual consolidated loss, the rules also or unaffiliated domestic owner must: (1) income of any other person under the
provide that no negative adjustment Demonstrate, to the satisfaction of the income tax laws of a foreign country.
shall be made for the amount of dual Commissioner, that there can be no The proposed regulations retain this
consolidated loss subject to the general foreign use of the dual consolidated loss elective exception, with modifications,

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and refer to it as a domestic use election. country while the dual resident 5. Restrictions on Domestic Use
In addition, the proposed regulations corporation or separate unit is owned by Elections
refer to the consolidated group, the domestic owner or member of the The current regulations do not
unaffiliated dual resident corporation, consolidated group, the losses, explicitly address situations where a
or unaffiliated domestic owner, as the expenses, or deductions taken into triggering event (discussed below) with
case may be, that makes a domestic use account in computing the dual respect to a dual consolidated loss
election as an elector. In order to elect consolidated losses of other dual occurs in the year in which the dual
relief under this exception, the resident corporations or separate units consolidated loss is incurred. The
proposed regulations require the elector owned by the same consolidated group proposed regulations, however, make
to enter into a domestic use agreement, (or other separate units owned by the clear that a domestic use election cannot
which is similar to the (g)(2)(i) be made for a dual consolidated loss
unaffiliated domestic owner of the first
agreement required by the current incurred in the same year in which a
regulations. separate unit) in that year are deemed to
offset income of another person in the triggering event with respect to such
3. Certification Period same foreign country. This rule only loss occurs.
Under the current regulations, a applies, however, if such losses, The current regulations also do not
(g)(2)(i) agreement generally provides expenses, or deductions are recognized explicitly address the application of
that if there is a triggering event during in the foreign country in the same section 953(d)(3) (limiting losses of
the 15-year period following the year in taxable year. Moreover, this rule does foreign insurance companies that elect
which the dual consolidated loss was not apply if, under foreign law, the to be treated as domestic corporations).
incurred (certification period), the The proposed regulations, however,
other dual resident corporation or
taxpayer must recapture and report as provide that a foreign insurance
separate unit cannot use its losses,
income the amount of the dual company that has elected to be treated
expenses, or deductions to offset income
consolidated loss, and pay an interest as a domestic corporation pursuant to
of another person in such taxable year.
charge. See § 1.1503–2(g)(2)(iii)(A). section 953(d) may not make a domestic
Commentators have questioned The consistency rule is intended to use election. This rule is consistent with
whether under the current regulations ensure that a consolidated group or section 953(d)(3), which broadly
the 15-year certification period applies domestic owner treats uniformly all prohibits regulatory exceptions to the
only to the use triggering event, or dual consolidated losses of dual general prohibition on the domestic use
whether it applies to all triggering resident corporations or separate units of dual consolidated losses in such
events. These commentators note that, that it owns that are available for use in cases.
under this interpretation, triggering a foreign country in a given year. The
6. Triggering Events
events other than use could occur after rule is also intended to minimize the
the expiration of the certification administrative burden associated with (a) In General
period. The IRS and Treasury believe identifying the items of loss or Section 1.1503–2(g)(2)(iii) of the
that the certification period applies to deduction of a particular dual current regulations provides rules
all triggering events. Accordingly, the consolidated loss that are used to offset relating to certain events which require
proposed regulations clarify that all income of another person under the the recapture of previously allowed dual
triggering events are subject to the income tax laws of a foreign country. consolidated losses. Under these rules,
certification period and, therefore, a Commentators have questioned the if a consolidated group, unaffiliated
triggering event cannot occur after the need for the consistency rule, noting dual resident corporation, or
expiration of the certification period. that it can lead to harsh results. unaffiliated domestic owner, as the case
The IRS and Treasury also believe may be, makes a (g)(2)(i) election, the
that a 15-year certification period is not The IRS and Treasury believe that, dual resident corporation or separate
required to deter and monitor double- despite concerns raised by unit must recapture, and the
dipping of losses and deductions. commentators, the consistency rule consolidated group, unaffiliated dual
Moreover, the IRS and Treasury believe continues to be necessary to promote resident corporation or unaffiliated
that requiring taxpayers to comply with the uniform treatment of dual domestic owner must report as income
the dual consolidated loss regulations, consolidated losses of dual resident the amount of the dual consolidated loss
including the need to monitor potential corporations and separate units owned (and pay an interest charge) if a
triggering events and to comply with the by the consolidated group or domestic triggering event occurs during the
various filing requirements, for a 15- owner, and to minimize administrative certification period. Taxpayers may,
year period is unnecessarily burdens. As a result, the proposed however, rebut these triggering events
burdensome to both taxpayers and the regulations retain the consistency rule, upon making certain showings to the
Commissioner. As a result, the proposed as modified. satisfaction of the Commissioner.
regulations reduce the certification The proposed regulations generally
In addition, the proposed regulations
period from 15 years to seven years with retain the triggering event rules
clarify that the consistency rule only
respect to a domestic use election. contained in the proposed regulations,
applies to a dual consolidated loss that
as modified, if a taxpayer makes a
4. Consistency Rule is subject to a domestic use agreement domestic use election.
Section 1.1503–2(g)(2)(ii) of the (other than a new domestic use
current regulations contains a agreement). In other words, the (b) Carryover of Losses, Deductions, and
consistency rule. Under this rule, if any proposed regulations clarify that the Basis
losses, expenses, or deductions taken consistency rule does not apply to a Under the current regulations, certain
into account in computing the dual foreign use of a dual consolidated loss asset transfers by a dual resident
consolidated loss of a dual resident that occurs subsequent to a triggering corporation that result, under the laws
corporation or separate unit are used to event that terminates the domestic use of a foreign country, in a carryover of
offset the income of another person agreement filed with respect to such losses, expenses, or deductions are
under the laws of a single foreign dual consolidated loss. triggering events. The current

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regulations contain a similar rule for or dual resident corporation making (that is not a separate unit after such
such transfers by separate units. See such disposition. The IRS and Treasury transfer because it is held by a foreign
§ 1.1503–2(g)(2)(iii)(A)(4) and (5). request comments as to other assets the corporation) and therefore may result in
The proposed regulations retain these disposition of which should be a foreign use triggering event.
triggering events, as modified, and excluded from the 50 percent test under
combine them into a single triggering (e) S Corporation Conversion
this triggering event.
event. The proposed regulations also Under the current regulations, if
clarify that certain asset transfers that (d) Fifty Percent Threshold for Asset either an affiliated dual resident
result in the carryover of basis in assets Transfer Triggering Events corporation or an affiliated domestic
under the laws of a foreign country also Section 1.1503–2(g)(2)(iii)(A)(7) of the owner that has filed a (g)(2)(i) agreement
qualify as triggering events. This is the current regulations provides that a with respect to a dual consolidated loss
case because asset basis generally will, triggering event occurs if, within a 12- elects to be an S corporation pursuant
at some point in the future, be converted month period, the domestic owner of a to section 1362(a), such election results
into a loss or deduction as a result of the separate unit disposes of 50 percent or in a triggering event because it
depreciation, amortization or more (by voting power or value) of the terminates the consolidated group and
disposition of the asset. Accordingly, interest in the separate unit that was the affiliated dual resident corporation
under foreign law, a transaction that owned by the domestic owner on the or affiliated domestic owner ceases to be
results in the carryover of asset basis last day of the taxable year in which the a member of a consolidated group. See
generally has the same effect as a dual consolidated loss was incurred. As § 1.1503–2(g)(2)(iii)(A)(2). The current
transaction that results in the carryover noted above, the current regulations also regulations do not, however, address an
of losses or deductions and therefore provide that a triggering event occurs if election to be an S corporation by either
should be treated similarly. a domestic owner of a separate unit an unaffiliated dual resident corporation
transfers assets of the separate unit in a or an unaffiliated domestic owner that
(c) Disposition by a Separate Unit or transaction that results, under the laws has made a (g)(2)(i) election.
Dual Resident Corporation of an Interest of a foreign country, in a carryover of The IRS and Treasury believe that the
in a Separate Unit or Stock of a Dual the separate unit’s losses, expenses, or election by an unaffiliated dual resident
Resident Corporation deductions. Section 1.1503– corporation or unaffiliated domestic
The current regulations provide that 2(g)(2)(iii)(A)(5). Moreover, the current owner to be an S corporation should be
certain sales or other dispositions of 50 regulations deem such an asset transfer treated in the same manner as an
percent or more of the assets of a to be a triggering event if 50 percent or election by an affiliated dual resident
separate unit or dual resident more of the separate unit’s assets corporation or affiliated domestic owner
corporation are deemed to be triggering (measured by fair market value at the that is a member of a consolidated
events. See § 1.1503–2(g)(2)(iii)(A)(4) time of transfer) are disposed of within group. Accordingly, the proposed
and (5). For this purpose, an interest in a 12-month period. regulations add as a new triggering
a separate unit and stock of a dual One commentator noted that the two event the election of either an
resident corporation are treated as assets triggering events discussed above unaffiliated dual resident corporation or
of the separate unit or dual resident operate differently in that any transfer of unaffiliated domestic owner to be an S
corporation. One commentator stated assets of a separate unit may constitute corporation.
that, as a result of this rule, the a triggering event, while the transfer of
disposition of an interest in one separate an interest in a separate unit constitutes (f) Consolidated Group Remains in
unit by another separate unit may a triggering event only if a 50 percent Existence
inappropriately result in a triggering threshold is met. As stated above, and subject to
event for both separate units. The IRS and Treasury believe that exceptions, the current regulations
Accordingly, the commentator these two triggering events should provide that a triggering event occurs
suggested that the disposition of the operate in a consistent manner. As a with respect to a dual consolidated loss
interest in the lower-tier separate unit result, the proposed regulations provide of an affiliated dual resident corporation
should not result in a triggering event that both the asset transfer triggering or affiliated domestic owner if such dual
with respect to dual consolidated losses event and the separate unit interest resident corporation or affiliated
of the separate unit that disposed of transfer triggering event occur only if a domestic owner ceases to be a member
such interest. 50 percent threshold is satisfied. It of the consolidated group of which it
The IRS and Treasury believe that the should be noted, however, that transfers was a member when the dual
disposition of an interest in a lower-tier of assets of a dual resident corporation consolidated loss was incurred. The
separate unit (or the shares of a dual or separate unit, and transfers of current regulations also provide that an
resident corporation) by an upper-tier interests of separate units, in many affiliated dual resident corporation or
separate unit (or dual resident cases will subsequently result in a affiliated domestic owner is considered
corporation) typically will not result in foreign use triggering event, even to cease to be a member of a
the carryover of the dual consolidated though the 50 percent threshold for the consolidated group if the consolidated
loss of the upper-tier separate unit (or asset transfer triggering event and the group ceases to exist (group termination
dual resident corporation) under the separate unit interest transfer triggering triggering event) because, for example,
laws of the foreign jurisdiction such that event are not satisfied. For example, if the common parent is no longer in
it could be put to a foreign use. a domestic owner of an interest in a existence. Section 1.1503–
Therefore, the proposed regulations hybrid entity separate unit transfers 25 2(g)(2)(iii)(A)(2).
provide that for purposes of determining percent of its interest in the hybrid One commentator stated that language
whether 50 percent or more of the entity separate unit to a foreign contained in Revenue Procedure 2000–
separate unit’s or dual resident corporation, all or a portion of a dual 42 (2000–2 C.B. 394) may imply that
corporation’s assets is disposed of, an consolidated loss attributable to such there is a group termination triggering
interest in a separate unit and the stock separate unit in a prior year may be event if the common parent of a
of a dual resident corporation shall not available to offset subsequent income of consolidated group that made a (g)(2)(i)
be treated as assets of the separate unit the owner of the transferred interest election ceases to exist, or is a party to

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a reverse acquisition, even though the Commentators have noted that under consolidated loss could be put to a
consolidated group remains in the current regulations it may not be foreign use. Moreover, the IRS and
existence. This interpretation is contrary possible to rebut certain triggering Treasury believe that more definitive
to the principles underlying the events if the tax basis of a single asset and administrable rebuttal rules should
triggering events. Accordingly, the carries over to another person under be provided to assist taxpayers and the
proposed regulations clarify that such foreign law, even though as a result of Commissioner in determining whether
transactions do not constitute group the transaction recognized losses and the triggering event has been rebutted,
termination triggering events. See accrued deductions generally do not and to minimize situations where there
§ 1.1503(d)–5(c) Example 47. carry over to another person under is recapture of a dual consolidated loss
foreign law. This is the case because the even though it may be unlikely that a
7. Rebuttal of Triggering Events
person that receives the carryover asset significant portion of the dual
Under the current regulations, basis may at some point in the future consolidated loss could be put to a
taxpayers may rebut all but two of the enjoy the benefit of a loss or deduction foreign use. Therefore, it is anticipated
triggering events such that there is no as a result of the depreciation, that, prior to the finalization of these
dual consolidated loss recapture (or amortization or disposition of the asset. proposed regulations, a revenue
related interest charge) as a result of a As a result, the carryover of a nominal procedure will be issued that will
putative triggering event. In general, amount of asset tax basis causes the provide safe harbors whereby triggering
under the current regulations, a entire dual consolidated loss to be events will be deemed to be rebutted if
triggering event is rebutted if the recaptured. Similar issues arise in the taxpayer satisfies various
taxpayer demonstrates to the connection with assumptions of conditions. The revenue procedure may
satisfaction of the Commissioner that, liabilities that, for example, result in be issued in proposed form and then
depending on the triggering event, deductions for U.S. tax purposes on an made final contemporaneously with
either: (1) The losses, expenses or accrual basis, but are deductible under these regulations.
deductions of the dual resident the laws of the foreign jurisdiction at a It is anticipated that the conditions
corporation (or separate unit) cannot be later time when paid. This result is contained in the revenue procedure
used to offset income of another person consistent with the all or nothing would include the requirement that
under the laws of a foreign country or; principle, discussed below. taxpayers demonstrate, to the
(2) the transfer of assets did not result The IRS and Treasury recognize that satisfaction of the Commissioner, that
in a carryover under foreign law of the in some of these cases the use of a there can be no foreign use of any
losses, expenses, or deductions of the portion of a dual consolidated loss may significant portion of the dual
dual resident corporation (or separate be denied in both the United States and consolidated loss as a result of certain
unit) to the transferee of the assets. See the foreign jurisdiction. Further, enumerated transactions. It is also
§ 1.1503–2(g)(2)(iii)(A)(2) through (7). commentators have stated that denying anticipated that the revenue procedure
The policies underpinning the dual a loss or deduction from offsetting will address, and in some cases provide
consolidated loss rules do not require income in both the United States and relief for, transactions that result in a de
recapture or an interest charge in such the foreign jurisdiction generally is minimis carry over of asset basis under
cases because there is no opportunity inconsistent with the principles foreign law and are difficult or
for any portion of the dual consolidated underlying section 1503(d) because the impossible to rebut under the current
loss to be used to offset income of any statute’s purpose is to prevent the use of regulations. Finally, the revenue
other person under the income tax laws the same loss or deduction to offset procedure may provide relief for
of a foreign country. income in multiple jurisdictions. triggering events resulting from the
The rebuttal rules impose a standard The proposed regulations retain the assumption of liabilities in connection
of proof on taxpayers that in many cases rebuttal standard contained in the with the acquisition of a trade or
is difficult and burdensome to meet, current regulations, with modifications. business as a result of liabilities
even though there may be little Taxpayers may rebut a triggering event incurred in the ordinary course of
likelihood that any portion of the dual under the proposed regulations if it can business being deductible at different
consolidated loss could be used to offset be demonstrated, to the satisfaction of times under U.S. law and the law of the
the income of any other person under the Commissioner, that there can be no foreign jurisdiction.
the income tax laws of a foreign foreign use of the dual consolidated The IRS and Treasury request
country. For example, demonstrating loss. In addition, unlike the current comments regarding the transactions
that no portion of the dual consolidated regulations that have different standards that should be included in the revenue
loss can be used by another person as for different triggering events, the procedure, approaches to address basis
a result of typical loss carryover proposed regulations apply the same carryover transactions and liabilities
transactions under foreign law may not standard to all triggering events (other assumed in the ordinary course of
satisfy the burden if there is some than a foreign use triggering event, business, and other ways to minimize
potential that any portion of losses or which cannot be rebutted). the administrative burden associated
deductions composing the dual The IRS and Treasury believe that with rebutting the triggering events,
consolidated loss could be so used as a when the proposed regulations are while ensuring that there is little or no
result of a transaction that is rare, finalized the number of transactions likelihood that a significant portion of
commercially impractical, or not undertaken by taxpayers that result in the dual consolidated loss can be put to
reasonably foreseeable. In addition, triggering events will be significantly a foreign use.
because there are often significant reduced, as compared to the current
differences between U.S. and foreign regulations, because of the significant 8. Triggering Event Exception for
law, ruling out the various types of reduction in the term of the certification Acquisition by an Unaffiliated Domestic
transactions that under U.S. law would period. Nevertheless, the IRS and Corporation or a New Consolidated
allow all or a portion of the dual Treasury believe that the current Group
consolidated loss to be used by another rebuttal standard may exceed that Section 1.1503–2(g)(2)(iv)(B)(1) of the
person also may not be sufficient to required to address adequately the current regulations provides that if
rebut a triggering event. concern that all or a portion of a dual certain requirements are satisfied, the

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following events do not constitute following two instances: (1) An entering into a closing agreement.
triggering events: (1) An affiliated dual unaffiliated dual resident corporation or Therefore, the IRS will not consider
resident corporation or affiliated unaffiliated domestic owner that filed a entering into a closing agreement in
domestic owner becomes an unaffiliated (g)(2)(i) agreement becomes a member of other circumstances, even though the
domestic corporation or a member of a a consolidated group; and (2) a government’s interests may be
new consolidated group (unless such consolidated group that filed a (g)(2)(i) adequately protected in such
transaction also qualifies under another agreement ceases to exist as a result of circumstances such that recapture may
exception); (2) assets of a dual resident a transaction described in § 1.1502– not be necessary.
corporation or a separate unit are 13(j)(5)(i) (unless a member of the Although the proposed regulations
acquired by an unaffiliated domestic terminating group, or successor-in- eliminate the need for a closing
corporation or a member of a new interest of such member, is not a agreement to qualify for an exception to
consolidated group; or (3) a domestic member of the surviving group triggering events, discussed above, the
owner of a separate unit transfers its immediately after the terminating group IRS and Treasury are considering
interest in the separate unit to an ceases to exist). whether in limited cases it may be
unaffiliated domestic corporation or to a The preamble to the 2003 regulations appropriate for the Commissioner, in its
member of a new consolidated group. noted that the IRS and Treasury were sole discretion and subject to the
The first requirement necessary for continuing to consider other alternatives taxpayer satisfying conditions specified
this exception to apply is that the to further reduce the administrative and by the Commissioner, to enter into
consolidated group, unaffiliated dual compliance burdens under section closing agreements with taxpayers such
resident corporation, or unaffiliated 1503(d). After further consideration, the that certain other events would not be
domestic owner that made the (g)(2)(i) IRS and Treasury believe that, as a triggering events. Comments are
election, and the unaffiliated domestic result of various requirements contained requested as to the specific and limited
corporation or new consolidated group in the proposed regulations, there are types of triggering events that may be
must enter into a closing agreement sufficient protections, independent of a suitable for this exception, taking into
with the IRS providing that both parties closing agreement, in all cases in which account the policies underlying section
will be jointly and severally liable for a closing agreement is otherwise 1503(d), administrative burdens, and
the total amount of the recapture of the required under the current regulations. the general interests of the U.S.
dual consolidated loss and interest As a result, the proposed regulations government.
charge upon a subsequent triggering eliminate the closing agreement
10. Annual Certification Reporting
event. Second, the unaffiliated domestic requirement contained in the current
Requirement
corporation or new consolidated group regulations and provide an exception to
must agree to treat any potential triggering events in all such cases Section 1.1503–2T(g)(2)(vi)(B) of the
recapture as unrealized built-in gain for (subsequent elector events) if: (1) The current regulations provides that if a
purposes of section 384, subject to any unaffiliated domestic corporation or (g)(2)(i) election is made with respect to
applicable exceptions thereunder. new consolidated group (subsequent a dual consolidated loss of a dual
Finally, the unaffiliated domestic elector) enters into a domestic use resident corporation or a hybrid entity
corporation or new consolidated group agreement (new domestic use separate unit, the consolidated group,
must file with its timely filed income agreement); and (2) the corporation or unaffiliated dual resident corporation,
tax return for the year in which the consolidated group that filed the or unaffiliated domestic owner, as the
event occurs a (g)(2)(i) agreement (new original domestic use agreement case may be, must file with its tax return
(g)(2)(i) agreement), whereby it assumes (original elector) files a statement with an annual certification during the
the same obligations with respect to the its tax return for the year of the event. certification period. This filing certifies
dual consolidated loss as the Pursuant to the new domestic use that the losses or deductions that make
corporation or consolidated group that agreement, the subsequent elector must: up the dual consolidated loss have not
filed the original (g)(2)(i) agreement (1) Agree to assume the same obligations been used to offset the income of
with respect to that loss. with respect to the dual consolidated another person under the tax laws of a
On July 30, 2003, the IRS and loss as the original elector had pursuant foreign country. The filing also warrants
Treasury issued final regulations (2003 to its domestic use agreement; (2) agree that arrangements have been made to
regulations), published in the Federal to treat any potential recapture of the ensure that there will be no such use of
Register at 68 FR 44616, that limited the dual consolidated loss at issue as the dual consolidated loss and that the
need for closing agreements to avoid unrealized built-in gain pursuant to taxpayer will be informed if any such
triggering events to only those three section 384, subject to any applicable use were to occur. The current
transactions described above. The exceptions thereunder; (3) agree to be regulations do not, however, require
preamble to the 2003 regulations subject to the successor elector rules, annual certifications for dual
explained that in certain cases the discussed below; and (4) identify the consolidated losses of foreign branch
requirement for a closing agreement original elector (and subsequent separate units.
resulted in an unnecessary electors, if any). Pursuant to the The IRS and Treasury believe that
administrative burden because the statement filed by the original elector, annual certifications of dual
several liability imposed by § 1.1502–6, the original elector must agree to be consolidated losses improve taxpayer
in conjunction with the original (g)(2)(i) subject to the subsequent elector rules compliance with the dual consolidated
agreement and a new (g)(2)(i) agreement, and must identify the subsequent loss rules and are beneficial to the
provided for liability sufficiently elector. Commissioner in monitoring such
comparable to that imposed under a compliance. The IRS and Treasury also
closing agreement. Accordingly, the 9. Triggering Event Exception—Private believe that foreign branch separate
2003 regulations provided that if a new Letter Ruling and Closing Agreement units, hybrid entity separate units, and
(g)(2)(i) agreement is filed by the Option dual resident corporations should, to
unaffiliated domestic corporation or Under the current regulations, only the extent possible, be treated
new consolidated group, a closing specific triggering events can qualify for consistently to reduce complexity. As a
agreement is not required in the an exception as a result of the parties result, the proposed regulations expand

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the annual certification requirement to extent possible, the Commissioner and under the subsequent elector rules, the
include dual consolidated losses of taxpayers should not be required to original elector (and in the case of
foreign branch separate units. However, analyze foreign law. Moreover, multiple excepted events, any prior
the reduction in the certification period departing from the all or nothing subsequent elector) is not subject to the
from 15 years to seven years should principle would likely require detailed general recapture and interest charge
substantially reduce the overall ordering, stacking, and tracing rules to rules provided under the regulations. As
compliance burden of this requirement. determine the amount and nature of a result, only the subsequent elector that
dual consolidated losses that are owns the dual resident corporation or
11. Amount of Recapture
recaptured upon a use. Such rules separate unit at the time of the
As stated above, under the current would add considerable complexity to subsequent triggering event is subject to
regulations a triggering event (other than the regulations. As a result, the the general recapture and interest charge
a foreign use) generally can be rebutted proposed regulations retain the all or rules.
only if no portion of the dual nothing rule contained in the current The proposed regulations also provide
consolidated loss can be used by (or regulations. However, the IRS and that, upon a subsequent triggering event
carries over to) another person under Treasury request comments regarding to which no exception applies, the
foreign law. See § 1.503–2(g)(2)(iii)(A)(2) administrable alternatives to the all or subsequent elector must calculate the
through (7). Thus, if even a de minimis nothing rule that would not involve recapture tax amount with respect to the
portion of the dual consolidated loss substantial analyses of foreign law. For dual consolidated loss subject to the
can be used by (or carries over to) example, comments are requested as to new domestic use agreement and
another person, the triggering event whether a pro rata recapture rule with include it, along with an identification
cannot be rebutted. Similarly, § 1.1503– respect to dispositions of separate units of the dual consolidated losses at issue
2(g)(2)(vii)(A) of the current regulations would be consistent with the general and the original elector, on a statement
provides that if a triggering event framework of the proposed regulations attached to its tax return. The
occurs, the entire dual consolidated loss and would be administrable. subsequent elector calculates the
subject to the (g)(2)(i) agreement recapture tax amount based on a with
(reduced by income earned 12. Subsequent Elector Rules and without calculation. The recapture
subsequently by the dual resident Neither the current regulations nor tax amount equals the excess (if any) of
corporation or separate unit) is Rev. Proc. 2000–42 (2000–2 C.B. 394) the income tax liability of the
recaptured and reported as income, explicitly address the consequences subsequent elector for the taxable year
regardless of the amount of the dual resulting from a triggering event (to of the subsequent triggering event, over
consolidated loss used by the other which no exception applies) with the income tax liability of the
person. Thus, even a de minimis foreign respect to a dual consolidated loss that subsequent elector for such taxable year
use will cause the entire amount of the was not recaptured due to an earlier computed by excluding the amount of
dual consolidated loss to be recaptured triggering event as a result of the parties recapture and related interest charge
and reported as income. entering into a closing agreement. In with respect to the dual consolidated
This so-called all or nothing principle such a case, both parties are jointly and losses at issue.
is included in the current regulations severally liable for the total amount of In addition, the proposed regulations
primarily due to administrative the recapture of the dual consolidated provide rules regarding tax assessment
concerns. In many cases, the exact loss and interest charge resulting from and collection procedures. The
amount of the dual consolidated loss such a subsequent triggering event. proposed regulations provide that an
that is used by another person cannot be However, it is unclear which taxpayer assessment identifying an income tax
readily determined. This inability is must report the recapture income (and liability of the subsequent elector is
due, in part, to differences between U.S. related interest charge) on its tax return considered an assessment of the
and foreign law. For example, there may upon the subsequent triggering event. In recapture tax amount where such
be temporary and permanent differences addition, there is little or no procedural amount is part of the income tax
in the treatment of items of income, guidance outlining how, pursuant to a liability being assessed and the
gain, deduction and loss. There may closing agreement, the IRS would recapture tax amount is reflected in the
also be differences in loss carryover collect recapture tax and the related statement attached to the subsequent
provisions. These concerns are interest charge from the parties to the elector’s tax return. The recapture tax
exacerbated by the principle that certain closing agreement. amount is considered to be properly
deductions are fungible and, therefore, Accordingly, the proposed regulations assessed as an income tax liability of the
cannot easily be traced to a particular contain rules regarding subsequent original elector, and each prior
loss incurred in a particular year. electors. These rules apply when, subsequent elector, if any, on the same
Commentators have noted that in subsequent to an event that is not a date the income tax liability of the
some cases the all or nothing principle triggering event because the unaffiliated subsequent elector was properly
results in a disallowance of deductions domestic corporation or new assessed. This liability is joint and
in both the United States and the foreign consolidated group enters into a new several.
jurisdiction. Nevertheless, the IRS and domestic use agreement and satisfies The proposed regulations also provide
Treasury believe that making a precise other requirements (excepted event), a procedures pursuant to which any
determination as to the amount of the triggering event occurs, and no unpaid balance of the recapture tax
dual consolidated loss put to a foreign exception applies to such event amount may be collected from the
use would require the Commissioner (subsequent triggering event). The original elector and the prior subsequent
and taxpayers to analyze foreign law in proposed regulations also provide rules elector, if any. Such amounts may be
great detail and, in some cases, compare that apply in the case of multiple collected from the original elector, and/
the treatment of items under foreign law subsequent electors (when subsequent or any prior subsequent elector, if each
with their treatment under U.S. law. to an excepted event, another excepted of the following conditions is satisfied:
Such an analysis, however, is event occurs). (1) The Commissioner has properly
inconsistent with the principle The proposed regulations first provide assessed the recapture amount; (2) the
underlying the regulations that, to the that, except to the extent provided Commissioner has issued a notice and

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29884 Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules

demand for payment of the recapture consolidated loss should be identified other applicable penalty provisions in
tax amount to the subsequent elector; (3) during the year in which they are appropriate circumstances; for example,
the subsequent elector has failed to pay incurred, rather than the year in which the Commissioner may consider
all of the recapture tax amount by the they are ultimately used to offset applying the accuracy-related penalty of
date specified in such notice and income or gain. This approach attempts section 6662. In addition, the IRS and
demand; and (4) the Commissioner has to simplify the rules and make them Treasury will continue to consider
issued a notice and demand for payment more administrable, rather than whether a penalty provision, similar to
of the unpaid portion of the recapture providing comprehensive stacking, the one contained in the current
tax amount to the original elector and ordering, and tracing rules that track the regulations, is appropriate, especially in
prior subsequent electors, if any. If the ultimate use of such items, which cases of repeated non-compliance.
subsequent elector’s income tax liability would be complex.
for a taxable period includes a recapture F. Effective Date—§ 1.1503(d)–6
14. Failure To Comply With Recapture
amount, and if such income tax liability
Provisions The proposed regulations are
is satisfied in part by payment, credit,
or offset, such amount shall be allocated Under the current regulations, if the proposed to apply to dual consolidated
first to that portion of the income tax taxpayer fails to comply with the losses incurred in taxable years
liability that is not attributable to the recapture provisions upon the beginning after the date that these
recapture tax amount, and then to that occurrence of a triggering event, the proposed regulations are published as
portion of the income tax liability that dual resident corporation or separate final regulations in the Federal Register.
is attributable to the recapture tax unit that incurred the dual consolidated The IRS and Treasury request
amount. loss (or successor-in-interest) is not comments on the application of the
Finally, the proposed regulations eligible to enter into a (g)(2)(i) regulations, including comments as to
contain rules regarding the refund of an agreement with respect to any dual whether the proposed regulations, when
income tax liability that includes a consolidated losses incurred in the five finalized, should contain an election
recapture tax amount. taxable years beginning with the taxable that would allow taxpayers to apply all
year in which recapture is required. The or a portion of the regulations
13. Character and Source of Recapture current regulations contain two
Income retroactively. In addition, comments are
exceptions to this rule that apply unless
Section 1.1503–2(g)(2)(vii)(D) of the requested as to possible transition rules
the triggering event is an actual use of
current regulations provides that that may apply, including the
the dual consolidated loss. Under the
recapture income is treated as ordinary first exception, the rule does not apply application of the proposed regulations,
income having the same source and if the failure to comply is due to when finalized, to existing (g)(2)(i)
falling within the same separate reasonable cause. Under the second agreements.
category under section 904 as the dual exception, the rule does not apply if the Effect on Other Documents
consolidated loss being recaptured. The taxpayer unsuccessfully attempted to
current regulations do not, however, rebut the triggering event by timely When these proposed regulations are
provide an explicit rule to identify the filing a rebuttal statement with its tax adopted as final regulations, Rev. Proc.
items that compose the dual return. 2000–42 (2000–2 C.B. 394), will be
consolidated loss. As a result, it is This provision is intended to obsolete with respect to dual
unclear under the current regulations encourage taxpayers to carefully consolidated losses incurred in taxable
how to determine the source and monitor potential triggering events and years beginning after the date that these
separate category of recapture income. properly comply with the recapture proposed regulations are published as
In addition, the current regulations do provisions upon the occurrence of a final regulations in the Federal Register.
not explicitly state how the recapture triggering event.
income is treated for purposes of the The IRS and Treasury believe that the Special Analyses
Code other than section 904. failure to comply penalty contained in
The proposed regulations clarify that the current regulations often does not It has been determined that this notice
the character (to the extent consistent operate in a manner that encourages of proposed rule making is not a
with the recapture income being compliance with the dual consolidated significant regulatory action as defined
ordinary income in all cases) and source loss regulations. For example, if a in Executive Order 12866. Therefore, a
of the recapture income is determined taxpayer sells a dual resident regulatory assessment is not required. It
based on the character and source of a corporation to a third party that is is hereby certified that these regulations
pro rata portion of the deductions that treated as a triggering event, but the will not have a significant economic
were taken into account in calculating taxpayer fails to comply with the impact on a substantial number of small
the dual consolidated loss. As discussed recapture rules, the rule contained in entities. This certification is based on
above, the dual consolidated loss is the current regulations prevents the the fact that these regulations will
composed of a pro rata portion of all purchaser of the dual resident primarily affect affiliated groups of
items of deduction and loss that are corporation from entering into a (g)(2)(i) corporations that also have a foreign
taken into account in computing such agreement with respect to dual affiliate, which tend to be larger
dual consolidated loss. Moreover, the consolidated losses of the dual resident businesses. Moreover, the number of
proposed regulations clarify that the corporation for five years; it does not taxpayers affected and the average
determination of the character and adversely affect the taxpayer that failed burden are minimal. Therefore, a
source of such income is not limited to to properly comply with the recapture Regulatory Flexibility Analysis is not
section 904, but applies for all purposes provisions. As a result, the proposed required. Pursuant to section 7805(f) of
of the Code (for example, section regulations do not include this penalty the Code, these regulations will be
856(c)(2) and (3)). provision. submitted to the Chief Counsel for
Under the proposed regulations, the Although the proposed regulations do Advocacy of the Small Business
character and source of losses and not retain this penalty provision, the Administration for comment on their
deductions composing the dual Commissioner may consider applying impact on small business.

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Comments and Public Hearing Par. 3. New §§ 1.1503(d)–0 through (iii) Acquisition of a separate unit by a
1.1503(d)–6 are added to read as domestic corporation.
A public hearing has been scheduled follows: (d) Special rule denying the use of a dual
for September 7, 2005, at 10 a.m., in the consolidated loss to offset tainted income.
Auditorium of the Internal Revenue § 1.1503(d)–0 Table of contents. (1) In general.
Building, 1111 Constitution Avenue, This section lists the captions (2) Tainted income.
NW., Washington, DC. Because of access contained in §§ 1.1503(d)–1 through (i) Definition.
restrictions, visitors must enter at the 1.1503(d)–6. (ii) Income presumed to be derived from
main entrance, located at 1111 holding tainted assets.
§ 1.1503(d)–1 Definitions and special rules (3) Tainted assets defined.
Constitution Avenue, NW. All visitors
for filings under section 1503(d). (4) Exceptions.
must present photo identification to
(a) In general. (e) Computation of foreign tax credit
enter the building. Because of access
(b) Definitions. limitation.
restrictions, visitors will not be (1) Domestic corporation.
admitted beyond the immediate (2) Dual resident corporation. § 1.1503(d)–3 Special rules for accounting
entrance more than 30 minutes before (3) Hybrid entity. for dual consolidated losses.
the hearing starts. For information about (4) Separate unit. (a) In general.
having your name placed on the (i) In general. (b) Determination of amount of dual
building access list to attend hearing, (ii) Separate unit combination rule. consolidated loss.
see the FOR FURTHER INFORMATION (iii) Indirectly. (1) Affiliated dual resident corporation.
CONTACT portion of this preamble. (5) Dual consolidated loss. (2) Separate unit.
(6) Subject to tax. (i) General rules.
The rules of 26 CFR 601.601(a)(3) (7) Foreign country. (ii) Foreign branch separate unit.
apply to the hearing. Persons who wish (8) Consolidated group. (A) In general.
to present oral comments must submit (9) Domestic owner. (B) Principles of § 1.882–5.
written or electronic comments and an (10) Affiliated dual resident corporation (iii) Hybrid entity.
outline of the topic to be discussed and and affiliated domestic owner. (A) General rule.
time to be devoted to each topic (11) Unaffiliated dual resident corporation,
(B) Interest in a non-hybrid partnership
(preferably a signed original and eight unaffiliated domestic corporation, and
and a non-hybrid grantor trust.
unaffiliated domestic owner.
(8) copies) by August 22, 2005. A period (12) Domestic affiliate. (iv) Interest in a disregarded hybrid entity.
of 10 minutes will be allotted to each (13) Domestic use. (v) Items attributable to an interest in a
person for making comments. An (14) Foreign use. hybrid entity partnership and a separate unit
agenda showing the scheduling of the (i) In general. owned indirectly through a partnership.
speakers will be prepared after the (ii) Available for use. (vi) Items attributable to an interest in a
deadline for receiving outlines has (iii) Exceptions. hybrid entity grantor trust and a separate unit
(A) No election to enable foreign use. owned indirectly through a grantor trust.
passed. Copies of the agenda will be
(B) Presumed use where no foreign country (vii) Special rules.
available free of charge at the hearing. (A) Allocation of items between certain
rule for determining use.
Drafting Information (C) No dilution of an interest in a separate tiered separate units.
unit. (B) Combined separate unit.
The principal author of these (1) General rules. (C) Gain or loss on the direct or indirect
regulations is Kathryn T. Holman of the (i) Interest in a hybrid entity partnership or disposition of a separate unit.
Office of Associate Chief Counsel hybrid entity grantor trust. (D) Income inclusion on stock.
(International). However, other (ii) Indirectly owned separate units. (3) Foreign tax treatment disregarded.
personnel from the IRS and Treasury (iii) Combined separate unit. (4) Items generated or incurred while a
Department participated in their (2) Exceptions. dual resident corporation or a separate unit.
(i) Dilution of an interest in a separate unit. (c) Effect of a dual consolidated loss on a
development. (ii) Consolidation and other prohibited domestic affiliate.
List of Subjects in 26 CFR Part 1 uses. (1) Dual resident corporation.
(iv) Ordering rules for determining the (2) Separate unit.
Income taxes, reporting and foreign use of losses. (3) SRLY limitation.
recordkeeping requirements. (v) Mirror legislation rule. (4) Items of a dual consolidated loss used
(15) Grantor trust. in other taxable years.
Proposed Amendments to the (c) Special rules for filings under section (d) Special basis adjustments.
Regulations 1503(d). (1) Affiliated dual resident corporation or
(1) Reasonable cause exception.
Accordingly, 26 CFR part 1 is affiliated domestic owner.
(2) Signature requirement.
proposed to be amended as follows: (i) Dual consolidated loss subject to
§ 1.1503(d)–2 Operating rules. domestic use limitation.
PART 1—INCOME TAXES (a) In general. (ii) Dual consolidated loss absorbed in
(b) Limitation on domestic use of a dual carryover or carryback year.
Paragraph 1. The authority citation consolidated loss. (iii) Recapture income.
for part 1 is amended by adding an entry (c) Elimination of a dual consolidated loss (2) Interests in hybrid entities that are
in numerical order to read in part as after certain transactions. partnerships or interests in partnerships
follows: (1) General rules. through which a separate unit is owned
(i) Dual resident corporation. indirectly.
Authority: 26 U.S.C. 7805 * * * (ii) Separate unit. (i) Scope.
§ 1.1503(d) also issued under 26 U.S.C. (A) General rule. (ii) Determination of basis of partner’s
953(d) and 26 U.S.C. 1502. (B) Combined separate unit. interest.
(2) Exceptions. (A) Dual consolidated loss subject to
Par. 2. In § 1.1502–21, paragraph (i) Certain section 368(a)(1)(F) domestic use limitation.
(c)(2)(v) is amended by removing the reorganizations. (B) Dual consolidated loss absorbed in
language ‘‘§ 1.1503–2’’ and adding (ii) Acquisition of a dual resident carryover or carryback year.
‘‘§§ 1.1503(d)–1 through 1.1503(d)–6’’ in corporation by another dual resident (C) Recapture income.
its place. corporation. (3) Examples.

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29886 Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules

§ 1.1503(d)–4 Exceptions to the domestic (ii) Rebuttal of presumptive rule. as an association for U.S. income tax
use limitation rule. (5) Character and source of recapture purposes but is subject to an income tax
(a) In general. income. of a foreign country as a corporation (or
(b) Elective agreement in place between the (6) Reconstituted net operating loss.
(i) Termination of domestic use agreement
otherwise at the entity level) either on
United States and a foreign country. its worldwide income or on a residence
(c) No possibility of foreign use. and annual certifications.
(1) Rebuttal of triggering event. basis.
(1) In general.
(2) Statement. (2) Exception to triggering event. (4) Separate unit—(i) In general. The
(d) Domestic use election. (3) Recapture of dual consolidated loss. term separate unit means either of the
(1) In general. (4) Termination of ability for foreign use. following that is owned, directly or
(i) In general. indirectly, by a domestic corporation—
(2) Consistency rule.
(ii) Statement.
(3) Restrictions on domestic use election. (A) A foreign branch, as defined in
(i) Triggering event in year of dual § 1.1503(d)–5 Examples. § 1.367(a)–6T(g) (foreign branch separate
consolidated loss. (a) In general. unit); or
(ii) Losses of a foreign insurance company (b) Presumed facts for examples. (B) An interest in a hybrid entity
treated as a domestic corporation. (c) Examples.
(e) Triggering events requiring the (hybrid entity separate unit).
recapture of a dual consolidated loss. § 1.1503(d)–6 Effective date. (ii) Separate unit combination rule. If
(1) Events. two or more separate units (individual
(i) Foreign use. § 1.1503(d)–1 Definitions and special rules separate units) are owned, directly or
(ii) Disaffiliation. for filings under section 1503(d). indirectly, by a single domestic
(iii) Affiliation. (a) In general. This section and corporation, and the losses of each
(iv) Transfer of assets. §§ 1.1503(d)–2 through 1.1503(d)–6 individual separate unit are made
(v) Transfer of an interest in a separate provide general rules concerning the available to offset the income of the
unit. determination and use of dual
(vi) Conversion to a foreign corporation. other individual separate units under
consolidated losses pursuant to section the income tax laws of a single foreign
(vii) Conversion to an S corporation.
(viii) Failure to certify.
1503(d). This section provides country, then such individual separate
(2) Rebuttal. definitions that apply for purposes of units shall be treated as one separate
(f) Exceptions. this section and §§ 1.1503(d)–2 through unit (combined separate unit), provided
(1) Acquisition by a member of the 1.1503(d)–6. This section also provides that—
consolidated group. a reasonable cause exception and a (A) If the individual separate unit is
(2) Acquisition by an unaffiliated domestic signature requirement for filings under a foreign branch separate unit, it is
corporation or a new consolidated group. this section and §§ 1.1503(d)–2 through
(i) Subsequent elector events. located in such foreign country; and
1.1503(d)–4. (B) If the individual separate unit is
(ii) Non-subsequent elector events. (b) Definitions. The following
(iii) Requirements. a hybrid entity separate unit, the hybrid
definitions apply for purposes of this
(A) New domestic use agreement. entity (an interest in which is the hybrid
(B) Statement filed by original elector. section and §§ 1.1503(d)–2 through
entity separate unit) is subject to an
(3) Subsequent triggering events. 1.1503(d)–6:
(1) Domestic corporation. The term income tax of such foreign country
(g) Annual certification reporting either on its worldwide income or on a
requirement. domestic corporation means an entity
classified as a domestic corporation residence basis. See § 1.1503(d)–5(c)
(h) Recapture of dual consolidated loss and
interest charge. under section 7701(a)(3) and (4) or Example 1.
(1) Presumptive rules. otherwise treated as a domestic (iii) Indirectly. The term indirectly,
(i) Amount of recapture. corporation by the Internal Revenue when used in reference to ownership of
(ii) Interest charge. Code, including, but not limited to, a separate unit, means ownership
(2) Reduction of presumptive recapture through a separate unit, through an
amount and presumptive interest charge.
sections 269B, 953(d), and 1504(d).
However, solely for purposes of Section entity classified as a partnership under
(i) Amount of recapture. §§ 301.7701–1 through –3 of this
(ii) Interest charge. 1503(d), the term domestic corporation
does not include an S corporation, as chapter, or through a grantor trust (as
(3) Rules regarding subsequent electors.
(i) In general. defined in section 1361. defined in paragraph (b)(15) of this
(ii) Original elector and prior subsequent (2) Dual resident corporation. The section), regardless of whether the
electors not subject to recapture or interest term dual resident corporation means a partnership or grantor trust is a U.S.
charge. domestic corporation that is subject to person.
(iii) Recapture tax amount and required an income tax of a foreign country on (5) Dual consolidated loss. The term
statement. its worldwide income or on a residence dual consolidated loss means—
(A) In general. (i) In the case of a dual resident
basis. A corporation is taxed on a
(B) Recapture tax amount. corporation, the net operating loss (as
(iv) Tax assessment and collection residence basis if it is taxed as a resident
procedures. under the laws of the foreign country. defined in section 172(c) and the
(A) In general. The term dual resident corporation also regulations thereunder) incurred in a
(1) Subsequent elector. means a foreign insurance company that year in which the corporation is a dual
(2) Original elector and prior subsequent makes an election to be treated as a resident corporation; and
electors. domestic corporation pursuant to (ii) In the case of a separate unit, the
(B) Collection from original elector and section 953(d) and is treated as a net loss attributable to, or taken into
prior subsequent electors; joint and several member of an affiliated group for account by, the separate unit under
liability. purposes of chapter 6, even if such § 1.1503(d)–3(b)(2).
(C) Allocation of partial payments of tax. (6) Subject to tax. For purposes of
(D) Refund.
company is not subject to an income tax
(v) Definition of income tax liability. of a foreign country on its worldwide determining whether a domestic
(vi) Example. income or on a residence basis. See corporation or hybrid entity is subject to
(4) Computation of taxable income in year section 953(d)(3). an income tax of a foreign country on
of recapture. (3) Hybrid entity. The term hybrid its income, the fact that it has no actual
(i) Presumptive rule. entity means an entity that is not taxable income tax liability to the foreign

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country for a particular taxable year (14) Foreign use—(i) In general. A because an item of deduction or loss
shall not be taken into account. foreign use of a dual consolidated loss taken into account in computing such
(7) Foreign country. The term foreign shall be deemed to occur when any dual consolidated loss is made
country includes any possession of the portion of a loss or deduction taken into available, under the income tax laws of
United States. account in computing the dual a foreign country, to offset or reduce,
(8) Consolidated group. The term consolidated loss is made available directly or indirectly, any item that is
consolidated group means a under the income tax laws of a foreign recognized as income or gain under
consolidated group, as defined in country to offset or reduce, directly or such laws and, that is considered under
§ 1.1502–1(h), that includes either a indirectly, any item that is recognized as U.S. tax principles, to be an item of the
dual resident corporation or a domestic income or gain under such laws and direct or indirect owner of an interest in
owner. that is considered under U.S. tax such hybrid entity that is not a separate
(9) Domestic owner. The term principles to be an item of— unit. See § 1.1503(d)–5(c) Examples 8
domestic owner means a domestic (A) A foreign corporation as defined and 14 through 16.
corporation that owns, directly or in section 7701(a)(3) and (a)(5); or (ii) Indirectly owned separate units.
indirectly, one or more separate units. (B) A direct or indirect owner of an Except as provided in paragraph
(10) Affiliated dual resident interest in a hybrid entity, provided (b)(14)(iii)(C)(2) of this section, no
corporation and affiliated domestic such interest is not a separate unit. See foreign use shall be considered to occur
owner. The terms affiliated dual § 1.1503(d)–5(c) Examples 6 through 11. with respect to a dual consolidated loss
resident corporation and affiliated (ii) Available for use. A foreign use attributable to or taken into account by
domestic owner mean a dual resident shall be deemed to occur in the year in a separate unit owned indirectly
corporation and a domestic owner, which any portion of a loss or deduction through a partnership or grantor trust
respectively, that is a member of a taken into account in computing the solely because an item of deduction or
consolidated group. dual consolidated loss is made available loss taken into account in computing
(11) Unaffiliated dual resident for an offset described in paragraph such dual consolidated loss is made
corporation, unaffiliated domestic (b)(14)(i) of this section, regardless of available, under the income tax laws of
corporation, and unaffiliated domestic whether it actually offsets or reduces a foreign country, to offset or reduce,
owner. The terms unaffiliated dual any items of income or gain under the directly or indirectly, any item that is
resident corporation, unaffiliated income tax laws of the foreign country recognized as income or gain under
domestic corporation, and unaffiliated in such year and regardless of whether such laws, and that is considered under
domestic owner mean a dual resident any of the items that may be so offset U.S. tax principles, to be an item of a
corporation, domestic corporation, and or reduced are regarded as income direct or indirect owner of an interest in
domestic owner, respectively, that is not under U.S. tax principles. such partnership or trust. See
a member of a consolidated group. (iii) Exceptions—(A) No election to § 1.1503(d)–5(c) Examples 17 and 18.
(12) Domestic affiliate. The term enable foreign use. Where the laws of a (iii) Combined separate unit. This
domestic affiliate means— foreign country provide an election that paragraph (b)(14)(iii)(C)(1)(iii) applies to
(i) A member of an affiliated group, would enable a foreign use, a foreign a dual consolidated loss attributable to
without regard to the exceptions use shall be considered to occur only if or taken into account by a combined
contained in section 1504(b) (other than the election is made. separate unit that includes an
section 1504(b)(3)) relating to includible (B) Presumed use where no foreign individual separate unit to which
corporations; country rule for determining use. If the paragraph (b)(14)(iii)(C)(1)(i) or (ii) of
(ii) A domestic owner; or losses or deductions composing the dual this section would apply, but for the
(iii) A separate unit. consolidated loss are made available application of the separate unit
(13) Domestic use. A domestic use of under the laws of a foreign country both combination rule provided under
a dual consolidated loss shall be to offset income that would constitute a § 1.1503(d)–1(b)(4)(ii). Except as
deemed to occur when the dual foreign use and to offset income that provided in paragraph (b)(14)(iii)(C)(2)
consolidated loss is made available to would not constitute a foreign use, and of this section, paragraph
offset, directly or indirectly, the taxable the laws of the foreign country do not (b)(14)(iii)(C)(1)(i) or (ii), as applicable,
income of any domestic affiliate of the provide applicable rules for determining shall apply to the portion of the dual
dual resident corporation or separate which income is offset by the losses or consolidated loss of such combined
unit (that incurred the dual deductions, then for purposes of separate unit that is attributable, as
consolidated loss) in the taxable year in paragraph (b)(14) of this section, the provided under § 1.1503(d)–
which the dual consolidated loss is losses or deductions shall be deemed to 3(b)(2)(vii)(B)(1), to the individual
recognized, or in any other taxable year, be made available to offset income that separate unit (otherwise described in
regardless of whether the dual does not constitute a foreign use, to the paragraph (b)(14)(iii)(C)(1)(i) or (ii) of
consolidated loss offsets income under extent of such income, before being this section) that is a component of the
the income tax laws of a foreign country considered to be made available to offset combined separate unit. See
and regardless of whether any income the income that does constitute a foreign § 1.1503(d)–5(c) Example 19.
that the dual consolidated loss may use. See § 1.1503(d)–5(c) Examples 12 (2) Exceptions—(i) Dilution of an
offset in the foreign country is, has been, and 14. interest in a separate unit. Paragraph
or will be subject to tax in the United (C) No dilution of an interest in a (b)(14)(iii)(C)(1) of this section shall not
States. A domestic use shall be deemed separate unit—(1) General rules—(i) apply with respect to any item of
to occur in the year the dual Interest in a hybrid entity partnership or deduction or loss that is taken into
consolidated loss is included in the hybrid entity grantor trust. Except as account in computing a dual
computation of the taxable income of a provided in paragraph (b)(14)(iii)(C)(2) consolidated loss attributable to or taken
consolidated group or an unaffiliated of this section, no foreign use shall be into account by a separate unit if during
domestic owner, even if no tax benefit considered to occur with respect to a any taxable year the domestic owner’s
results from such inclusion in that year. dual consolidated loss attributable to an percentage interest in such separate
See § 1.1503(d)–5(c) Examples 2 interest in a hybrid entity partnership or unit, as compared to its interest in the
through 5. a hybrid entity grantor trust, solely separate unit as of the last day of the

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taxable year in which such dual deemed to be used on a pro rata basis. circumstances. The Director of Field
consolidated loss was incurred, is See § 1.1503(d)–5(c) Example 13. Operations shall notify the person in
reduced as a result of another person (v) Mirror legislation rule. Except to writing within 120 days of the filing if
acquiring through sale, exchange, the extent § 1.1503(d)–4(b) applies, and it is determined that the failure to
contribution or other means, an interest other than for purposes of the comply was not due to reasonable
in the partnership or grantor trust. The consistency rule under § 1.1503(d)– cause, or if additional time will be
previous sentence shall not apply, 4(d)(2), a foreign use shall be deemed to needed to make such determination.
however, if the unaffiliated domestic occur if and when the income tax laws (2) Signature requirement. When an
owner or consolidated group, as the case of a foreign country deny any election, agreement, statement, rebuttal,
may be, demonstrates, to the satisfaction opportunity for the foreign use of the computation, or other information is
of the Commissioner, that the other dual consolidated loss for any of the required under this section or
person that acquired the interest in the following reasons— §§ 1.1503(d)–2 through 1.1503(d)–4 to
partnership or grantor trust was a (A) The loss is incurred by a dual be attached to and filed by the due date
domestic corporation. Such resident corporation or separate unit (including extensions) of a U.S. tax
demonstration must be made on a that is subject to income taxation by return and signed under penalties of
statement that is attached to, and filed another country on its worldwide perjury by the person who signs the
by the due date (including extensions) income or on a residence basis; return, the attachment and filing of an
of, its U.S. income tax return for the (B) The loss may be available to offset unsigned copy is considered to satisfy
taxable year in which the ownership income (other than income of the dual such requirement, provided the
interest of the domestic owner is resident corporation or separate unit) taxpayer retains the original in its
reduced. See § 1.1503(d)–5(c) Examples under the laws of another country; or records in the manner specified by
14 through 16 and 19. (C) The deductibility of any portion of § 1.6001–1(e).
(ii) Consolidation and other a loss or deduction taken into account
prohibited uses. Paragraph in computing the dual consolidated loss § 1.1503(d)–2 Operating rules.
(b)(14)(iii)(C)(1) of this section shall not depends on whether such amount is (a) In general. This section provides
apply if the availability described in deductible under the laws of another operating rules relating to dual
such section does not arise solely from country. See § 1.1503(d)–5(c) Examples consolidated losses, including a general
the ownership in such partnership or 20 through 23. rule prohibiting the domestic use of a
grantor trust and the allocation of the (15) Grantor trust. The term grantor dual consolidated loss, a rule that
item of deduction or loss, or the trust means a trust, any portion of eliminates a dual consolidated loss
offsetting by such deduction or loss, of which is treated as being owned by the following certain transactions, an anti-
an item of income or gain of the grantor or another person under subpart abuse rule for tainted income, and rules
partnership or trust. For example, E of subchapter J of this chapter. for computing foreign tax credit
paragraph (b)(14)(iii)(C)(1) of this (c) Special rules for filings under limitations.
section shall not apply in the case section 1503(d)—(1) Reasonable cause (b) Limitation on domestic use of a
where the item of loss or deduction is exception. If a person that is permitted dual consolidated loss. Except as
made available through a foreign or required to file an election, provided in § 1.1503(d)–4, the domestic
consolidation regime. See § 1.1503(d)– agreement, statement, rebuttal, use of a dual consolidated loss is not
5(c) Examples 17 and 18. computation, or other information permitted. See § 1.1503(d)–5(c)
(iv) Ordering rules for determining the under the provisions of this section or Examples 2 through 4 and 5.
foreign use of losses. If the laws of a §§ 1.1503(d)–2 through 1.1503(d)–4 and (c) Elimination of a dual consolidated
foreign country provide for the foreign that fails to make such filing in a timely loss after certain transactions—(1)
use of a dual consolidated loss, but do manner, shall be considered to have General rules—(i) Dual resident
not provide applicable rules for satisfied the timeliness requirement corporation. Except as provided in
determining the order in which such with respect to such filing if the person paragraph (c)(2) of this section, a dual
losses are used in a taxable year, the is able to demonstrate, to the Director of consolidated loss of a dual resident
following rules shall govern— Field operations having jurisdiction of corporation shall not carry over to
(A) Any net loss, or net income, that the taxpayer’s tax return for the taxable another corporation in a transaction
the dual resident corporation or separate year, that such failure was due to described in section 381(a) and, as a
unit has in a taxable year shall first be reasonable cause and not willful result, shall be eliminated. See
used to offset net income, or loss, neglect. The previous sentence shall § 1.1503(d)–5(c) Example 24.
recognized by its affiliates in the same only apply if, once the person becomes (ii) Separate unit—(A) General rule.
taxable year before any carryover of its aware of the failure, the person attaches Except as provided in paragraph (c)(2)
losses is considered to be used to offset all documents that should have been of this section, a dual consolidated loss
any income from the taxable year; filed previously, as well as a written of a separate unit shall not carry over as
(B) If under the laws of the foreign statement setting forth the reasons for a result of a transaction in which the
country the dual resident corporation or the failure to timely comply, to an separate unit ceases to be a separate unit
separate unit has losses from different amended income tax return that amends of its domestic owner (for example, as
taxable years, it shall be deemed to use the return to which the documents a result of a termination, dissolution,
first the losses from the earliest taxable should have been attached under the liquidation, sale or other disposition of
year from which a loss may be carried rules of this section or §§ 1.1503(d)–2 the separate unit) and, as a result, shall
forward or back for foreign law through 1.1503(d)–4. In determining be eliminated.
purposes; and whether the taxpayer has reasonable (B) Combined separate unit. This
(C) Where different losses or cause, the Director of Field Operations paragraph (c)(1)(ii)(B) applies to an
deductions (for example, capital losses shall consider whether the taxpayer individual separate unit that is a
and ordinary losses) of a dual resident acted reasonably and in good faith. component of a combined separate unit
corporation or separate unit incurred in Whether the taxpayer acted reasonably that would, but for the separate unit
the same taxable year are available for and in good faith will be determined combination rule, cease to be a separate
foreign use, the different losses shall be after considering all the facts and unit of its domestic owner. In such a

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case, and except as provided in of § 1.1503(d)–3(c) applied as if the limitation described in paragraph (d)(1)
paragraph (c)(2) of this section, the combined separate unit of the transferee of this section, if—
portion of the dual consolidated loss of generated the dual consolidated loss. (i) For the taxable year in which the
the combined separate unit that is See § 1.1503(d)–5(c) Example 25. assets were acquired, the corporation
attributable to, or taken into account by, (d) Special rule denying the use of a did not have a dual consolidated loss (or
as provided under § 1.1503(d)– dual consolidated loss to offset tainted a carryforward of a dual consolidated
3(b)(2)(vii)(B)(1), such individual income—(1) In general. Dual loss to such year); or
separate unit shall not carry over and, consolidated losses incurred by a dual (ii) The assets were acquired as
as a result, shall be eliminated. resident corporation shall not be used to replacement property in the ordinary
(2) Exceptions—(i) Certain section offset income it earns after it ceases to course of business.
368(a)(1)(F) reorganizations. Paragraph be a dual resident corporation to the (e) Computation of foreign tax credit
(c)(1)(i) of this section shall not apply to extent that such income is tainted limitation. If a dual resident corporation
a reorganization described in section income. or separate unit is subject to
368(a)(1)(F) in which the resulting (2) Tainted income—(i) Definition. § 1.1503(d)–3(c) (addressing the effect of
corporation is a domestic corporation. For purposes of paragraph (d)(1) of this a dual consolidated loss on a domestic
(ii) Acquisition of a dual resident section, the term tainted income affiliate), the consolidated group or
corporation by another dual resident means— unaffiliated domestic owner shall
corporation. If a dual resident (A) Income or gain recognized on the compute its foreign tax credit limitation
corporation transfers its assets to sale or other disposition of tainted by applying the limitations of
another dual resident corporation in a assets; and § 1.1503(d)–3(c). Thus, the items
transaction described in section 381(a), (B) Income derived as a result of constituting the dual consolidated loss
and the transferee corporation is a holding tainted assets. are not taken into account until the year
resident of (or is taxed on its worldwide (ii) Income presumed to be derived in which such items are absorbed.
income by) the same foreign country of from holding tainted assets. In the
which the transferor was a resident (or absence of evidence establishing the § 1.1503(d)–3 Special rules for accounting
was taxed on its worldwide income), actual amount of income that is for dual consolidated losses.
then income generated by the transferee attributable to holding tainted assets, (a) In general. This section provides
may be offset by the carryover dual the portion of a corporation’s income in special rules for determining the
consolidated losses of the transferor, a particular taxable year that is treated amount of income or loss of a dual
subject to the limitations of § 1.1503(d)– as tainted income derived as a result of resident corporation or separate unit for
3(c) applied as if the transferee holding tainted assets shall be an purposes of section 1503(d). In addition,
generated the dual consolidated loss. amount equal to the corporation’s this section provides rules for
Dual consolidated losses of the taxable income for the year (other than determining the effect of a dual
transferor may not, however, be used to income described in paragraph consolidated loss on domestic affiliates
offset income of separate units owned (d)(2)(i)(A) of this section) multiplied by and for making special basis
by the transferee because such separate a fraction, the numerator of which is the adjustments.
units constitute domestic affiliates of fair market value of all tainted assets (b) Determination of amount of dual
the transferee as provided under acquired by the corporation (determined consolidated loss—(1) Affiliated dual
§ 1.1503(d)–1(b)(12)(iii). at the time such assets were so acquired) resident corporation. For purposes of
(iii) Acquisition of a separate unit by and the denominator of which is the fair determining whether an affiliated dual
a domestic corporation. If a domestic market value of the total assets owned resident corporation has a dual
owner transfers ownership of a separate by the corporation at the end of such consolidated loss for the taxable year,
unit to a domestic corporation in a taxable year. To establish the actual the dual resident corporation shall
transaction described in section 381(a), amount of income that is attributable to compute its taxable income (or loss) in
and the transferee is a domestic owner holding tainted assets, documentation accordance with the rules set forth in
of the separate unit immediately must be attached to, and filed by the the regulations under section 1502
following the transfer, then income due date (including extensions) of, the governing the computation of
generated by the separate unit following domestic corporation’s tax return or the consolidated taxable income, taking into
the transfer may be offset by the consolidated tax return of an affiliated account only the dual resident
carryover dual consolidated losses of group of which it is a member, as the corporation’s items of income, gain,
the separate unit, subject to the case may be, for the taxable year in deduction, and loss for the year.
limitations of § 1.1503(d)–3(c) applied which the income is generated. See However, for purposes of this
as if the separate unit of the transferee § 1.1503(d)–5(c) Example 26. computation, the following items shall
generated the dual consolidated loss. In (3) Tainted assets defined. For not be taken into account—
addition, if a domestic owner transfers purposes of paragraph (d)(2) of this (i) Any net capital loss of the dual
ownership of a separate unit to a section, tainted assets are any assets resident corporation; and
domestic corporation in a transaction acquired by a domestic corporation in a (ii) Any carryover or carryback losses.
described in section 381(a), the nonrecognition transaction, as defined (2) Separate unit—(i) General rules.
transferee is a domestic owner of the in section 7701(a)(45), or any assets Paragraph (b)(2) of this section applies
separate unit immediately following the otherwise transferred to the corporation for purposes of determining whether a
transfer, and the transferred separate as a contribution to capital, at any time separate unit has a dual consolidated
unit is combined with another separate during the three taxable years loss for the taxable year. The taxable
unit of the transferee immediately after immediately preceding the taxable year income (or loss) in U.S. dollars of a
the transfer as provided under in which the corporation ceases to be a separate unit shall be computed as if it
§ 1.1503(d)–1(b)(4)(ii), then income dual resident corporation or at any time were a separate domestic corporation
generated by the combined separate unit thereafter. and a dual resident corporation in
may be offset by the carryover dual (4) Exceptions. Income derived from accordance with the provisions of
consolidated losses of the transferred assets acquired by a domestic paragraph (b)(1) of this section, using
separate unit, subject to the limitations corporation shall not be subject to the only those existing items of income,

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gain, deduction, and loss (translated owner shall be taken into account in the election made pursuant to § 301.7701–
into U.S. dollars) that are attributable to § 1.882–5 formula; 3(c) of this chapter), those items
or taken into account by such separate (2) Except as provided under described in paragraph (b)(2)(iii) of this
unit. Treating a separate unit as a paragraph (b)(2)(ii)(B)(3) of this section, section shall be taken into account. See
separate domestic corporation of the a taxpayer may use the alternative tax § 1.1503(d)–5(c) Example 30.
domestic owner under this paragraph book value method under § 1.861–9T(i) (v) Items attributable to an interest in
shall not cause items of income, gain, for purposes of determining the value of a hybrid entity partnership and a
deduction and loss that are otherwise its U.S. assets pursuant to § 1.882– separate unit owned indirectly through
disregarded for U.S. Federal tax 5(b)(2) and its worldwide assets a partnership—(A) This paragraph
purposes to be regarded for purposes of pursuant to § 1.882–5(c)(2); (b)(2)(v) applies for purposes of
calculating a dual consolidated loss. (3) For purposes of determining the determining—
Paragraph (b)(2) of this section shall value of a U.S. asset pursuant to (1) The extent to which the items of
apply separately to each separate unit § 1.882–5(b)(2), and worldwide assets income, gain, deduction and loss
and an item of income, gain, deduction, pursuant to § 1.882–5(c)(2), the taxpayer attributable to a hybrid entity that is a
or loss shall not be considered must use the same methodology under partnership (as provided in paragraph
attributable to or taken into account by § 1.861–9T(g) (that is, tax book value, (b)(2)(iii) of this section) are attributable
more than one separate unit. Items of alternative tax book value, or fair market to an interest in such hybrid entity
income, gain, deduction, and loss of one value) that the taxpayer uses for partnership; and
separate unit shall not offset items of purposes of allocating and apportioning (2) The extent to which items of
income, gain, deduction, and loss, or interest expense for the taxable year income, gain, deduction and loss of a
otherwise be taken into account by, under section 864(e); separate unit that is owned indirectly
another separate unit for purposes of (4) Asset values shall be determined through a partnership are taken into
calculating a dual consolidated loss. But pursuant to § 1.861–9T(g)(2); and account by a partner in such
(5) For purposes of determining the partnership.
see the separate unit combination rule
step-two U.S. connected liabilities, the (B) Items of income, gain, deduction
in § 1.1503(d)–1(b)(4)(ii). See also
amounts of worldwide assets and and loss are taken into account by the
§ 1.1503(d)–5(c) Example 27.
liabilities under § 1.882–5(c)(2)(iii) and owner of such interest, or separate unit,
(ii) Foreign branch separate unit—(A) (iv), must be determined in accordance
In general. For purposes of determining to the extent such items are includible
with U.S. tax principles rather than in the owner’s distributive share of the
the items of income, gain, deduction substantially in accordance with U.S.
(other than interest), and loss that are partnership income, gain, deduction
tax principles. and loss, as determined under the rules
taken into account in determining the (iii) Hybrid entity—(A) General rule.
taxable income or loss of a foreign and principles of subchapter K of this
The items of income, gain, deduction chapter. See § 1.1503(d)–5(c) Example
branch separate unit, the principles of and loss attributable to a hybrid entity
section 864(c)(2) and (c)(4) as set forth 30.
are those items that are properly (vi) Items attributable to an interest in
in § 1.864–4(c) and § 1.864–6 shall reflected on its books and records under a hybrid entity grantor trust and a
apply. The principles apply without the principles of § 1.988–4(b)(2), to the separate unit owned indirectly through
regard to limitations imposed on the extent consistent with U.S. tax a grantor trust—(A) This paragraph
effectively connected treatment of principles. See § 1.1503(d)–5(c) (b)(2)(vi) applies for purposes of
income, gain or loss under the trade or Example 28. determining—
business safe harbors in section 864(b) (B) Interest in a non-hybrid (1) The extent to which items of
and the limitations for treating foreign partnership and a non-hybrid grantor income, gain, deduction and loss
source income as effectively connected trust. If a hybrid entity owns, directly or attributable to a hybrid entity that is a
under section 864(c)(4)(D). For purposes indirectly (other than through a hybrid grantor trust (as provided in paragraph
of determining the interest expense that entity separate unit), an interest in (b)(2)(iii) of this section) are attributable
is taken into account in determining the either a partnership that is not a hybrid to an interest in such grantor trust; and
taxable income or loss of a foreign entity or a grantor trust that is not a (2) The extent to which the items of
branch separate unit, the principles of hybrid entity, items of income, gain, income, gain, deduction and loss of a
§ 1.882–5, subject to paragraph deduction or loss that are properly separate unit owned indirectly through
(b)(2)(ii)(B) of this section, shall apply. reflected on the books and records of a grantor trust are taken into account by
When applying the principles of section such partnership or grantor trust (under an owner of such grantor trust.
864(c) and § 1.882–5 (subject to the principles of § 1.988–4(b)(2), to the (B) Items of income, gain, deduction
paragraph (b)(2)(ii)(B) of this section), extent consistent with U.S. tax and loss are taken into account to the
the domestic corporation that owns, principles), to the extent provided extent such items are attributable to
directly or indirectly, the foreign branch under paragraphs (b)(2)(v) or (b)(2)(vi) of trust property that the holder of the trust
separate unit shall be treated as a this section, respectively, shall be interest is treated as owning under the
foreign corporation, the foreign branch treated as being properly reflected on rules and principles of subpart E of
separate unit shall be treated as a trade the books and records of the hybrid subchapter J of this chapter.
or business within the United States, entity for purposes of paragraph (vii) Special rules. The following
and the other assets of the domestic (b)(2)(iii)(A) of this section. See special rules shall apply for purposes of
corporation shall be treated as assets § 1.1503(d)–5(c) Example 30. attributing items under paragraphs
that are not U.S. assets. (iv) Interest in a disregarded hybrid (b)(2)(i) through (vi) of this section:
(B) Principles of § 1.882–5. For entity. Except as provided in paragraph (A) Allocation of items between
purposes of paragraph (b)(2)(ii)(A) of (b)(2)(vii) of this section, for purposes of certain tiered separate units—(1) When
this section, the principles of § 1.882–5 determining the items of income, gain, a hybrid entity owns, directly or
shall be applied subject to the following: deduction and loss that are attributable indirectly (other than through a hybrid
(1) Except as otherwise provided in to an interest in a hybrid entity that is entity separate unit), a foreign branch
this section, only the assets, liabilities disregarded as an entity separate from separate unit, for purposes of
and interest expense of the domestic its owner (for example, as a result of an determining items of income, gain,

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deduction and loss that are taken into trust that owns, directly or indirectly, a 2(b) applies, the following rules shall
account in determining the taxable separate unit), are attributable to or apply:
income or loss of such foreign branch taken into account by the separate unit (1) Dual resident corporation. If the
separate unit, only items of income, to the extent of the gain or loss that dual resident corporation is a member of
gain, deduction and loss that are would have been recognized had such a consolidated group, the group shall
attributable to the hybrid entity as separate unit sold all its assets in a compute its consolidated taxable
provided in paragraph (b)(2)(iii) of this taxable exchange, immediately before income (or loss) by taking into account
section (and intervening entities, if any, the disposition of the separate unit, for the dual resident corporation’s items of
that are not themselves separate units) an amount equal to their fair market gross income, gain, deduction, or loss
shall be taken into account. Items of the value. If, as a result of the sale, exchange taken into account in computing the
hybrid entity (including assets and or other disposition of a separate unit dual consolidated loss, other than those
liabilities) are taken into account for (or interest in a partnership or grantor items of deduction and loss that
purposes of determining the taxable trust) more than one separate unit is, compose the dual resident corporation’s
income or loss of the foreign branch directly or indirectly, disposed of, items dual consolidated loss. The dual
separate unit pursuant to paragraph of income, gain, deduction, and loss consolidated loss shall be treated as
(b)(2)(ii) of this section. See § 1.1503(d)– recognized on such disposition are composed of a pro rata portion of each
5(c) Example 30. attributable to or taken into account by item of deduction and loss of the dual
(2) For purposes of determining items each such separate unit (under the rules resident corporation taken into account
of income, gain, deduction and loss that of this paragraph (b)(2)(vii)(C)) based on in calculating the dual consolidated
are attributable to an interest in the the gain or loss that would have been loss. The dual consolidated loss is
hybrid entity described in paragraph recognized by each separate unit if it subject to the limitations on its use
(b)(2)(vii)(A)(1) of this section, the items had sold all of its assets in a taxable contained in paragraph (c)(3) of this
attributable to the hybrid entity in exchange, immediately before the section and, subject to such limitation,
paragraph (b)(2)(iii) of this section shall disposition of the separate unit, for an may be carried over or back for use in
not be taken into account to the extent amount equal to their fair market value. other taxable years as a separate net
they are also taken into account in See § 1.1503(d)–5(c) Examples 31 operating loss carryover or carryback of
determining, under the rules of through 34. the dual resident corporation arising in
paragraph (b)(2)(ii) of this section, the (D) Income inclusion on stock. Any the year incurred.
taxable income or loss of a foreign (2) Separate unit. The unaffiliated
amount included in income of a U.S.
branch separate unit that is owned, domestic owner of a separate unit, or
person arising from ownership of stock
directly or indirectly (other than the consolidated group of an affiliated
in a foreign corporation (for example,
through a hybrid entity separate unit), domestic owner of a separate unit, shall
under section 951) through a separate
by the hybrid entity separate unit. See compute its taxable income (or loss) by
unit shall be taken into account for
§ 1.1503(d)–5(c) Example 30. taking into account the separate unit’s
purposes of calculating the dual
(B) Combined separate unit. If two or items of gross income, gain, deduction
consolidated loss of the separate unit if
more separate units defined in and loss taken into account in
an actual dividend from such foreign
§ 1.1503(d)–1(b)(4)(i) are treated as one computing the dual consolidated loss,
combined separate unit pursuant to corporation would have been so taken other than those items of deduction and
§ 1.1503(d)–1(b)(4)(ii), the items of into account. See § 1.1503(d)–5(c) loss that compose the separate unit’s
income, gain, deduction and loss that Example 29. dual consolidated loss. The dual
are attributable to or taken into account (3) Foreign tax treatment disregarded. consolidated loss shall be treated as
in determining the taxable income of the The fact that a particular item taken into composed of a pro rata portion of each
combined separate unit shall be account in computing a dual resident item of deduction and loss of the
determined as follows— corporation’s net operating loss, or a separate unit taken into account in
(1) Items of income, gain, deduction separate unit’s loss, is not taken into calculating the dual consolidated loss.
and loss are first attributed to, or taken account in computing income subject to The dual consolidated loss is subject to
into account by, each individual a foreign country’s income tax shall not the limitations contained in paragraph
separate unit, as defined in § 1.1503(d)– cause such item to be excluded from the (c)(3) of this section as if the separate
1(b)(4)(i) without regard to § 1.1503(d)– calculation of the dual consolidated unit that generated the dual
1(b)(4)(ii), pursuant to the rules of loss. consolidated loss were a separate
paragraph (b)(2) of this section; and (4) Items generated or incurred while domestic corporation that filed a
(2) The combined separate unit then a dual resident corporation or a consolidated return with its unaffiliated
takes into account all of the items of separate unit. For purposes of domestic owner or with the
income, gain, deduction and loss determining the amount of the dual consolidated group of its affiliated
attributable to, or taken into account by, consolidated loss of a dual resident domestic owner. Subject to such
the individual separate units pursuant corporation or a separate unit for the limitation, the dual consolidated loss
to paragraph (b)(2)(vii)(B)(1) of this taxable year, only the items of income, may be carried over or back for use in
section. See § 1.1503(d)–5(c) Example gain, deduction and loss generated or other taxable years as a separate net
30. incurred during the period the dual operating loss carryover or carryback of
(C) Gain or loss on the direct or resident corporation or separate unit the separate unit arising in the year
indirect disposition of a separate unit. qualified as such shall be taken into incurred.
For purposes of calculating a dual account. The allocation of items to such (3) SRLY limitation. The dual
consolidated loss of a separate unit, period shall be made under the consolidated loss shall be treated as a
items of income or gain (including loss principles of § 1.1502–76(b). loss incurred by the dual resident
recapture income or gain under section (c) Effect of a dual consolidated loss corporation or separate unit in a
367(a)(3)(C) or 904(f)(3)), deduction and on a domestic affiliate. For any taxable separate return limitation year and shall
loss recognized on the sale, exchange or year in which a dual resident be subject to all of the limitations of
other disposition of a separate unit (or corporation or separate unit has a dual § 1.1502–21(c) (SRLY limitation),
an interest in a partnership or grantor consolidated loss to which § 1.1503(d)– subject to the following:

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(i) Notwithstanding § 1.1502–1(f)(2)(i), § 1.1502–32(b)(2) for the amount of a United States pursuant to an agreement
the SRLY limitation is applied to any dual consolidated loss of the dual entered into between the United States
dual consolidated loss of a common resident corporation (or, in the case of and a foreign country that puts into
parent; a domestic owner, of separate units of place an elective procedure through
(ii) The SRLY limitation is applied such domestic owner) subject to which losses offset income in only one
without regard to § 1.1502–21(c)(2) §§ 1.1503(d)–2(b) and 1.1503(d)–3(c) country.
(SRLY subgroup limitation) and 1.1502– that is absorbed in a carryover or (c) No possibility of foreign use—(1) In
21(g) (overlap with section 382); carryback taxable year. general. The domestic use limitation
(iii) For purposes of calculating the (iii) Recapture income. There shall be rule of § 1.1503(d)–2(b) shall not apply
general SRLY limitation under § 1.1502– no positive adjustment under § 1.1502– to a dual consolidated loss if the
21(c)(1)(i), the calculation of aggregate 32(b)(2) for any amount included in consolidated group, unaffiliated dual
consolidated taxable income shall only income by the dual resident corporation resident corporation, or unaffiliated
include items of income, gain, or domestic owner pursuant to domestic owner, as the case may be—
deduction or loss generated— § 1.1503(d)–4(h). (i) Demonstrates, to the satisfaction of
(A) In the case of a dual resident (2) Interests in hybrid entities that are the Commissioner, that no foreign use of
corporation or hybrid entity separate partnerships or interests in partnerships the dual consolidated loss occurred in
unit, in years in which the dual resident through which a separate unit is owned the year in which it was incurred, and
corporation or hybrid entity (whose indirectly—(i) Scope. This paragraph no such use can occur in any other year
interest constitutes the separate unit) is (d)(2) applies for purposes of by any means; and
resident (or is taxed on its worldwide determining the adjusted basis of an (ii) Prepares a statement described in
income) in the same foreign country in interest in: paragraph (c)(2) of this section that is
which it was resident (or was taxed on (A) A hybrid entity that is a attached to, and filed by the due date
its worldwide income) during the year partnership; and (including extensions) of, its U.S.
in which the dual consolidated loss was (B) A partnership through which a income tax return for the taxable year in
generated; and domestic owner indirectly owns a which the dual consolidated loss is
(B) In the case of a foreign branch separate unit. incurred. See § 1.1503(d)–5(c) Examples
separate unit, items of income, gain, (ii) Determination of basis of partner’s 38 through 40.
deduction or loss generated in years in interest. The adjusted basis of an (2) Statement. The statement
which the foreign branch qualified as a interest in a hybrid entity that is a described in this section must be signed
separate unit; and partnership, or a partnership through
(iv) For purposes of calculating the under penalties of perjury by the person
which a domestic owner indirectly who signs the tax return. The statement
general SRLY limitation under § 1.1502– owns a separate unit, shall be adjusted
21(c)(1)(i), the calculation of aggregate must be labeled No Possibility of
in accordance with section 705 of this Foreign Use of Dual Consolidated Loss
consolidated taxable income shall not chapter, except as otherwise provided in
include any amount included in income Statement at the top of the page and
this paragraph (d)(2)(ii). must include the following items, in
pursuant to § 1.1503(d)–4(h) (relating to (A) Dual consolidated loss subject to
the recapture of a dual consolidated paragraphs labeled to correspond with
domestic use limitation. The adjusted the items set forth in paragraphs (c)(2)(i)
loss). basis shall be decreased for any amount
(4) Items of a dual consolidated loss through (iv) of this section:
of the dual consolidated loss that is not (i) A statement that the document is
used in other taxable years. A pro rata absorbed as a result of the application
portion of each item of deduction or loss submitted under the provisions of
of §§ 1.1503(d)–2(b) and 1.1503(d)–3(c). § 1.1503(d)–4(c);
that composes the dual consolidated (B) Dual consolidated loss absorbed in
loss shall be considered to be used (ii) The name, address, tax
carryover or carryback year. The
when the dual consolidated loss is used identification number, and place and
adjusted basis shall not be decreased for
in other taxable years. See § 1.1503(d)– date of incorporation of the dual
the amount of a dual consolidated loss
5(c) Example 35. resident corporation, and the country or
subject to §§ 1.1503(d)–2(b) and
(d) Special basis adjustments—(1) countries that tax the dual resident
1.1503(d)–3(c) that is absorbed in a
Affiliated dual resident corporation or corporation on its worldwide income or
carryover or carryback taxable year.
affiliated domestic owner. If a dual on a residence basis, or, in the case of
(C) Recapture income. The adjusted
resident corporation or domestic owner a separate unit, identification of the
basis shall not be increased for any
is a member of a consolidated group, separate unit, including the name under
amount included in income pursuant to
each other member owning stock in the which it conducts business, its principal
§ 1.1503(d)–4(h).
dual resident corporation or domestic (3) Examples. See § 1.1503(d)–5(c) activity, and the country in which its
owner shall adjust the basis of the stock Examples 36 and 37. principal place of business is located;
in accordance with the principles of (iii) A statement of the amount of the
§ 1.1502–32(b), subject to the following: § 1.1503(d)–4 Exceptions to the domestic dual consolidated loss at issue; and
(i) Dual consolidated loss subject to use limitation rule. (iv) An analysis, in reasonable detail
domestic use limitation. There shall be (a) In general. This section provides and specificity, supported with official
a negative adjustment under § 1.1502– certain exceptions to the domestic use or certified English translations of the
32(b)(2) for any amount of a dual limitation rule of § 1.1503(d)–2(b). relevant provisions of foreign law, of the
consolidated loss of the dual resident (b) Elective agreement in place treatment of the losses and deductions
corporation (or, in the case of a between the United States and a foreign composing the dual consolidated loss
domestic owner, of separate units of country. The domestic use limitation under the laws of the foreign
such domestic owner) that is not rule of § 1.1503(d)–2(b) shall not apply jurisdiction and the reasons supporting
absorbed as a result of the application to a dual consolidated loss to the extent the conclusion that no foreign use of the
of §§ 1.1503(d)–2(b) and 3(c). the consolidated group, unaffiliated dual consolidated loss occurred in the
(ii) Dual consolidated loss absorbed in dual resident corporation, or year in which it was incurred, and no
carryover or carryback year. There shall unaffiliated domestic owner, as the case such use can occur in any other year by
be no negative adjustment under may be, elects to deduct the loss in the any means.

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(d) Domestic use election—(1) In under paragraph (d) of this section was corporation or separate unit incurs a
general. The domestic use limitation incurred (certification period); dual consolidated loss (including a dual
rule of § 1.1503(d)–2(b) shall not apply (vi) A certification that arrangements consolidated loss resulting, in whole or
to a dual consolidated loss if an election have been made to ensure that there will in part, from the occurrence of the
to be bound by the provisions of this be no foreign use of the dual triggering event itself), the consolidated
paragraph (d) of this section (domestic consolidated loss during the group, unaffiliated dual resident
use election) is made by the certification period, and that the elector corporation, or unaffiliated domestic
consolidated group, unaffiliated dual will be informed of any such foreign use owner, as the case may be, may not
resident corporation, or unaffiliated of the dual consolidated loss during make a domestic use election with
domestic owner, as the case may be such period; respect to the dual consolidated loss
(elector). In order to elect relief under (vii) If applicable, a notification that and such loss therefore is subject to the
this paragraph (d) of this section, an an excepted triggering event under domestic use limitation rule of
agreement described in this paragraph paragraph (f)(2)(i) of this section has § 1.1503(d)–2(b). See § 1.1503(d)–5(c)
(d)(1) of this section (domestic use occurred with respect to the dual Example 32. See also § 1.1503(d)–2(c)
agreement) must be attached to, and consolidated loss within the taxable for rules that eliminate a dual
filed by the due date (including year covered by the elector’s tax return consolidated loss after certain
extensions) of, the U.S. income tax and providing the name, taxpayer transactions.
return of the elector for the taxable year identification number, and address of (ii) Losses of a foreign insurance
in which the dual consolidated loss is the subsequent elector (within the company treated as a domestic
incurred. The domestic use agreement meaning of paragraph (f)(2)(iii)(A) of corporation. A foreign insurance
must be signed under penalties of this section) that will be filing future company that has elected to be treated
perjury by the person who signs the certifications with respect to such dual as a domestic corporation pursuant to
return. If dual consolidated losses of consolidated loss. section 953(d) may not make a domestic
more than one dual resident corporation (2) Consistency rule. If under the laws use election. See section 953(d)(3).
of a particular foreign country there is (e) Triggering events requiring the
or separate unit are subject to the rules
a foreign use of a dual consolidated loss recapture of a dual consolidated loss—
of this paragraph (d) which requires the
of a dual resident corporation or (1) Events. The elector must agree that,
filing of domestic use agreements by the
separate unit that is subject to a except as provided under paragraphs
same elector, the agreements may be
domestic use agreement (but not a new (e)(2) and (f) of this section, if there is
combined in a single document, but the
domestic use agreement, defined in a triggering event described in this
information required by paragraphs
paragraph (f)(2)(iii)(A) of this paragraph (e) during the certification
(d)(1)(ii) and (iv) of this section must be
paragraph), then a foreign use shall be period, the elector will recapture and
provided separately with respect to each
deemed to occur for the following other report as income the amount of the dual
dual consolidated loss. The domestic
dual consolidated losses (if any), but consolidated loss as provided in
use agreement must be labeled Domestic only if the income tax laws of the paragraph (h) of this section on its tax
Use Election and Agreement at the top foreign country permit a foreign use of return for the taxable year in which the
of the page and must include the such other dual consolidated losses in triggering event occurs (or, when the
following items, in paragraphs labeled the same taxable year— triggering event is a foreign use of the
to correspond with the following: (i) Any dual consolidated loss of a dual consolidated loss, the taxable year
(i) A statement that the document dual resident corporation that is a that includes the last day of the foreign
submitted is an election and an member of the same consolidated group tax year during which such use occurs).
agreement under the provisions of of which the first dual resident In addition, the elector must pay any
§ 1.1503(d)–4(d); corporation or domestic owner is a applicable interest charge required by
(ii) The name, address, tax member, if any deduction or loss taken paragraph (h) of this section. For
identification number, and place and into account in computing such dual purposes of this section, except as
date of incorporation of the dual consolidated loss is recognized under provided under paragraphs (e)(2) and (f)
resident corporation, and the country or the income tax laws of such foreign of this section, any of the following
countries that tax the dual resident country in the same taxable year; and events shall constitute a triggering
corporation on its worldwide income or (ii) Any dual consolidated loss of a event:
on a residence basis, or, in the case of separate unit that is owned directly or (i) Foreign use. A foreign use of the
a separate unit, identification of the indirectly by the same domestic owner dual consolidated loss (including a
separate unit, including the name under that owns the first separate unit, or that deemed foreign use pursuant to the
which it conducts business, its principal is owned directly or indirectly by any mirror legislation rule set forth in
activity, and the country in which its member of the same consolidated group § 1.1503(d)–1(b)(13)(ii)(D) or the
principal place of business is located; of which the first dual resident consistency rule set forth in paragraph
(iii) An agreement by the elector to corporation or domestic owner is a (d)(2) of this section).
comply with all of the provisions of member, if any deduction or loss taken (ii) Disaffiliation. An affiliated dual
paragraphs (d) through (h) of this into account in computing such dual resident corporation or affiliated
section, as applicable; consolidated loss is recognized under domestic owner ceases to be a member
(iv) A statement of the amount of the the income tax laws of such foreign of the consolidated group that made the
dual consolidated loss covered by the country in the same taxable year. See domestic use election. For purposes of
agreement; § 1.1503(d)–5(c) Examples 41 and 42. this paragraph (e)(1)(ii), a dual resident
(v) A certification that there has not (3) Restrictions on domestic use corporation or domestic owner shall be
been, and will not be, a foreign use of election—(i) Triggering event in year of considered to cease to be a member of
the dual consolidated loss in any dual consolidated loss. Except as the consolidated group if it is no longer
taxable year up to and including the otherwise provided in this section, if an a member of the group within the
seventh taxable year following the year event described in paragraphs (e)(1)(i) meaning of § 1.1502–1(b), or if the group
in which the dual consolidated loss that through (vii) of this section occurs ceases to exist (for example, when the
is the subject of the agreement filed during the year in which a dual resident group no longer files a consolidated

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return). See § 1.1503(d)–5(c) Example there can be no foreign use of the dual domestic owner, or by members of its
47. consolidated loss at any time during the consolidated group.
(iii) Affiliation. An unaffiliated dual remaining certification period. The (2) Acquisition by an unaffiliated
resident corporation or unaffiliated elector must prepare a statement, domestic corporation or a new
domestic owner becomes a member of a labeled Rebuttal of Triggering Event at consolidated group—(i) Subsequent
consolidated group. Any consequences the top of the page, that indicates that elector events. If all the requirements of
resulting from this triggering event (for it is submitted under the provisions of paragraph (f)(2)(iii) of this section are
example, recapture of a dual this section § 1.1503(d)–4(e)(2). The met, the following events shall not
consolidated loss) shall be taken into statement must set forth an analysis, in constitute triggering events requiring the
account in the tax return of the reasonable detail and specificity, recapture of the dual consolidated loss
unaffiliated dual resident corporation or supported with official or certified under paragraph (h) of this section—
unaffiliated domestic owner for the English translations of the relevant (A) An affiliated dual resident
taxable year that ends immediately provisions of foreign law, of the corporation or affiliated domestic owner
before the taxable year in which the treatment of the losses and deductions becomes an unaffiliated domestic
unaffiliated dual resident corporation or composing the dual consolidated loss corporation or a member of a new
unaffiliated domestic owner becomes a under the facts of the event in question. consolidated group (other than in a
member of the consolidated group. The statement must be attached to, and transaction described in paragraph
(iv) Transfer of assets. Fifty percent or filed by the due date (including (f)(2)(ii)(B) of this section);
more of the dual resident corporation’s extensions) of, the elector’s income tax (B) Assets of a dual resident
or separate unit’s gross assets (measured return for the taxable year in which the corporation or a separate unit are
by the fair market value of the assets at presumed triggering event occurs. See acquired by—
the time of such transfer (or for multiple § 1.1503(d)–5(c) Examples 43 through (1) An unaffiliated domestic
transactions, at the time of the first 45. corporation;
transfer)) are sold or otherwise disposed (f) Exceptions—(1) Acquisition by a (2) One or more members of a new
of in either a single transaction or a member of the consolidated group. The consolidated group; or
series of transactions within a twelve- following events shall not constitute (3) A partnership, a grantor trust, or
month period. For purposes of this triggering events, requiring the a hybrid entity, but only if 100 percent
paragraph, the interest in a separate unit recapture of the dual consolidated loss of such entity’s interests are owned,
and the shares of a dual resident under paragraph (h) of this section— directly or indirectly, by members of a
corporation shall not be treated as assets new consolidated group.
(i) An affiliated dual resident
of a dual resident corporation or a (C) The interest of a hybrid entity
corporation or affiliated domestic owner
separate unit. separate unit, or an indirectly owned
ceases to be a member of a consolidated
(v) Transfer of an interest in a separate unit, owned by a domestic
group solely by reason of a transaction
separate unit. Fifty percent or more of owner is transferred to—
in which a member of the same
the interest in a separate unit (measured (1) An unaffiliated domestic
consolidated group succeeds to the tax
by voting power or value) owned corporation;
attributes of the dual resident (2) One or more members of a new
directly or indirectly by the domestic
corporation or domestic owner under consolidated group; or
owner on the last day of the taxable year
the provisions of section 381. (3) A partnership, a grantor trust, or
in which the dual consolidated loss was
incurred is sold or otherwise disposed (ii) Assets of an affiliated dual a hybrid entity, but only if 100 percent
of either in a single transaction or a resident corporation or assets of a of such entity’s interests is owned,
series of transactions within a twelve- separate unit owned by an affiliated directly or indirectly, by members of a
month period. domestic owner are acquired in any new consolidated group.
(vi) Conversion to a foreign other transaction by— (ii) Non-subsequent elector events. If
corporation. An unaffiliated dual (A) One or more members of its the requirements of paragraph
resident corporation, unaffiliated consolidated group; or (f)(2)(iii)(A) of this section are met, the
domestic owner, or hybrid entity an (B) A partnership, a grantor trust, or following events also shall not
interest in which is a separate unit, a hybrid entity, but only if 100 percent constitute triggering events requiring the
becomes a foreign corporation by means of such entity’s interests are owned, recapture of the dual consolidated loss
of a transaction (for example, a directly or indirectly, by such affiliated under paragraph (h) of this section—
reorganization, or an election to be dual resident corporation or affiliated (A) An unaffiliated dual resident
classified as a corporation under domestic owner, as the case may be, or corporation or unaffiliated domestic
§ 301.7701–3(c) of this chapter) that, for by members of its consolidated group. owner becomes a member of a
foreign tax purposes, is not treated as (iii) Assets of a separate unit are consolidated group; or
involving a transfer of assets (and acquired in any other transaction by its (B) A consolidated group that filed a
carryover of losses) to a new entity. domestic owner or by a hybrid entity or domestic use agreement ceases to exist
(vii) Conversion to an S corporation. grantor trust, but only if 100 percent of as a result of a transaction described in
An unaffiliated dual resident such entity’s interest is owned by the § 1.1502–13(j)(5)(i) (other than a
corporation or unaffiliated domestic domestic owner. transaction in which any member of the
owner elects to be an S corporation (iv) The interest of a hybrid entity terminating group, or the successor-in-
pursuant to section 1362(a). separate unit, or an indirectly owned interest of such member, is not a
(viii) Failure to certify. The elector separate unit, owned by an affiliated member of the surviving group
fails to file a certification required under domestic owner, is transferred to— immediately after the terminating group
paragraph (g) of this section. (A) A member of its consolidated ceases to exist). See § 1.1503(d)–5(c)
(2) Rebuttal. An event described in group; or Example 46.
paragraphs (e)(1)(ii) through (viii) of this (B) A partnership, a grantor trust, or (iii) Requirements—(A) New domestic
section shall not constitute a triggering a hybrid entity, but only if 100 percent use agreement. The unaffiliated
event if the elector demonstrates, to the of such entity’s interests are owned, domestic corporation or new
satisfaction of the Commissioner, that directly or indirectly, by such affiliated consolidated group (subsequent elector)

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must file an agreement described in and that itself does not fall within the be considered to have arisen in a taxable
paragraph (d)(1) of this section (new exceptions provided in paragraph (f)(1) year in which such losses or deductions
domestic use agreement). The new or (2) of this section, shall require reduced U.S. taxable income. See
domestic use agreement must be labeled recapture under paragraph (h) of this § 1.1503(d)–5(c) Example 51.
New Domestic Use Agreement at the top section. (2) Reduction of presumptive
of the page, and must be attached to and (g) Annual certification reporting recapture amount and presumptive
filed by the due date (including requirement. Except as provided in interest charge—(i) Amount of
extensions) of, the subsequent elector’s paragraph (i) of this section, the elector recapture. The amount of dual
income tax return for the taxable year in must file a certification, labeled consolidated loss that must be
which the event described in paragraph Certification of Dual Consolidated Loss recaptured under paragraph (h) of this
(f)(2)(i) or (f)(2)(ii) of this section occurs. at the top of the page, that is attached section may be reduced if the elector
The new domestic use agreement must to, and filed by the due date (including demonstrates, to the satisfaction of the
be signed under penalties of perjury by extensions) of, its income tax return for Commissioner, the offset permitted by
the person who signs the return and each taxable year during the this paragraph (h)(2)(i). The reduction in
must include the following items— certification period. The certification the amount of recapture is the amount
(1) A statement that the document must certify that there has been no by which the dual consolidated loss
submitted is an election and agreement foreign use of such dual consolidated would have offset other taxable income
under the provisions of § 1.1503(d)– loss. The certification must identify the reported on a timely filed U.S. income
4(f)(2); dual consolidated loss to which it tax return for any taxable year up to and
(2) An agreement to assume the same pertains by setting forth the elector’s
including the taxable year of the
obligations with respect to the dual year in which the loss was incurred and
triggering event if such loss had been
consolidated loss as the corporation or the amount of such loss. In addition, the
subject to the restrictions of § 1.1503(d)–
consolidated group that filed the certification must warrant that
2(b) (and therefore subject to the
original domestic use agreement arrangements have been made to ensure
limitation under § 1.1503(d)–3(c)(3)). In
(original elector) with respect to that that there will be no foreign use of the
the case of a separate unit, the prior
loss; dual consolidated loss and that the
sentence is applied as if the separate
(3) An agreement to treat any elector will be informed of any such
unit were a separate domestic
potential recapture amount under foreign use. If dual consolidated losses
corporation that filed a consolidated
paragraph (h) of this section with of more than one taxable year are
subject to the rules of this paragraph (g) return with its unaffiliated domestic
respect to the dual consolidated loss as owner or with the consolidated group of
unrealized built-in gain for purposes of of this section, the certification for those
years may be combined in a single its affiliated domestic owner. For
section 384(a), subject to any applicable purposes of determining the reduction
exceptions thereunder; document but each dual consolidated
loss must be separately identified. in the amount of recapture pursuant to
(4) An agreement to be subject to the
(h) Recapture of dual consolidated this paragraph, the rules under
successor elector rules as provided in
loss and interest charge—(1) § 1.1503(d)–3(b) shall apply. Any
paragraph (h)(3) of this section; and
(5) The name, U.S. taxpayer Presumptive rules—(i) Amount of reduction to recapture pursuant to this
identification number, and address of recapture. Except as otherwise provided paragraph that is attributable to income
the original elector and prior subsequent in this section, upon the occurrence of generated in taxable years prior to the
electors with respect to the dual a triggering event described in year in which the dual consolidated loss
consolidated losses, if any. paragraph (e)(1) of this section that falls was generated, subject to the restrictions
(B) Statement filed by original elector. outside the exceptions provided in of § 1.1503(d)–2(b) (and therefore
The original elector must file a paragraph (f)(1) or (2) of this section, the subject to the limitation under
statement that is attached to and filed by dual resident corporation or separate § 1.1503(d)–3(c)(3)), shall be permitted
the due date (including extensions) of unit shall recapture, and the elector only if the elector demonstrates to the
its income tax return for the taxable year shall report, as gross income the total satisfaction of the Commissioner that
in which the event described in amount of the dual consolidated loss to the dual resident corporation or separate
paragraph (f)(2)(i) of this section occurs. which the triggering event applies on its unit, as the case may be, qualified as
The statement must be labeled Original income tax return for the taxable year in such (with respect to the same foreign
Elector Statement at the top of the page, which the triggering event occurs (or, country in which the dual consolidated
must be signed under penalties of when the triggering event is a foreign loss was generated) in the taxable years
perjury by the person who signs the tax use of the dual consolidated loss, the such income was generated. An elector
return, and must include the following taxable year that includes the last day of utilizing this rebuttal rule must prepare
items— the foreign tax year during which such a separate accounting showing that the
(1) A statement that the document foreign use occurs). income for each year that offsets the
submitted is an election and agreement (ii) Interest charge. In connection with dual resident corporation or separate
under the provisions of § 1.1503(d)– the recapture, the elector shall pay an unit’s recapture amount is attributable
4(f)(2); interest charge. Except as otherwise only to the dual resident corporation or
(2) An agreement to be subject to the provided in this section, such interest separate unit. The separate accounting
successor elector rules as provided in shall be determined under the rules of must be signed under penalties of
paragraph (h)(3) of this section; and section 6601(a) as if the additional tax perjury by the person who signs the
(3) The name, U.S. taxpayer owed as a result of the recapture had elector’s tax return, must be labeled
identification number, and address of accrued and been due and owing for the Reduction of Recapture Amount at the
the subsequent elector. taxable year in which the losses or top of the page, and must indicate that
(3) Subsequent triggering events. Any deductions taken into account in it is submitted under the provisions of
triggering event described in paragraph computing the dual consolidated loss paragraph (h)(2)(i) of this section. The
(e) of this section that occurs subsequent gave rise to a tax benefit for U.S. income accounting must be attached to, and
to one of the transactions described in tax purposes. For purposes of this filed by the due date (including
paragraph (f)(1) or (2) of this section, paragraph (h)(1)(ii), a tax benefit shall extensions) of, the elector’s income tax

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return for the taxable year in which the (B) In the case of a dual consolidated assessment of the recapture tax amount
triggering event occurs. loss with respect to which multiple where the recapture tax amount is part
(ii) Interest charge. The interest excepted events have occurred, only the of the income tax liability being
charge imposed under this section may subsequent elector that owns the dual assessed and the recapture tax amount
be appropriately reduced if the elector resident corporation or separate unit at is reflected in a statement attached to
demonstrates, to the satisfaction of the the time of the subsequent triggering the subsequent elector’s income tax
Commissioner, that the net interest event shall be subject to the recapture return as provided under paragraph
owed would have been less than that rules of paragraph (h) of this section. (h)(3)(iii) of this section.
provided in paragraph (h)(1)(ii) of this For purposes of paragraph (h) of this (2) Original elector and prior
section if the elector had filed an section, the term prior subsequent subsequent electors. The assessment of
amended return for the taxable year in elector refers to all other subsequent the recapture tax amount as set forth in
which the loss was incurred, and for electors. paragraph (h)(3)(iv)(A)(1) of this section
any other affected taxable years up to (iii) Recapture tax amount and shall be considered as having been
and including the taxable year of required statement—(A) In general. If a properly assessed as an income tax
recapture, treating the dual consolidated subsequent triggering event occurs, the liability of the original elector and of
loss as a loss subject to the restrictions subsequent elector must prepare a each prior subsequent elector, if any.
of § 1.1503(d)–2(b) (and therefore statement that computes the recapture The date of such assessment shall be the
subject to the limitations under tax amount, as provided under date the income tax liability of the
§ 1.1503(d)–3(c)(3)). In the case of a paragraph (h)(3)(iii)(B) of this section, subsequent elector was properly
separate unit, the prior sentence is with respect to the dual consolidated assessed. The Commissioner may collect
applied as if the separate unit were a loss subject to the new domestic use all or a portion of such recapture tax
separate domestic corporation that filed agreement. This statement must be amount from the original elector and/or
a consolidated return with its attached to, and filed by the due date the prior subsequent electors under the
unaffiliated domestic owner. An elector (including extensions) of, the circumstances set forth in paragraph
utilizing this rebuttal rule must prepare subsequent elector’s income tax return (h)(3)(iv)(B) of this section.
for the taxable year in which the (B) Collection from original elector
a computation demonstrating the
subsequent triggering event occurs. The and prior subsequent electors; joint and
reduction in the net interest owed as a
statement must be signed under several liability. If the subsequent
result of treating the dual consolidated
penalties of perjury by the person who elector does not pay in full any of the
loss as a loss subject to the restrictions
signs the return. The statement must be income tax liability that includes a
of § 1.1503(d)–2(b) (and therefore
labeled Statement Identifying Secondary recapture tax amount, the Commissioner
subject to the limitations under
Liability at the top and, in addition to may collect that portion of the unpaid
§ 1.1503(d)–3(c)(3)). The computation
the calculation of the recapture tax balance of such income tax liability
must be labeled Reduction of Interest
amount, must include the following attributable to the recapture tax amount
Charge at the top of the page and must
items, in paragraphs labeled to in full or in part from the original
indicate that it is submitted under the
correspond with the items set forth in elector and/or from any prior
provisions of paragraph (h)(2)(ii) of this
paragraphs (h)(3)(iii)(A)(1) through (3) subsequent elector, provided that the
section. The computation must be
of this section: following conditions are satisfied with
signed under penalties of perjury by the
(1) A statement that the document is respect to such elector—
person who signs the elector’s tax (1) The Commissioner properly has
return, and must be attached to, and submitted under the provisions of
§ 1.1503(d)–4(h)(3)(iii); assessed the recapture tax amount
filed by the due date (including pursuant to paragraph (h)(3)(iv)(A)(1) of
(2) A statement identifying the
extensions) of, the elector’s income tax this section;
amount of the dual consolidated losses
return for the taxable year in which the (2) The Commissioner has issued a
at issue and the taxable year in which
triggering event occurs. See § 1.1503(d)– notice and demand for payment of the
they were used;
5(c) Examples 51 and 52. (3) The name, address, and tax recapture tax amount to the subsequent
(3) Rules regarding subsequent identification number of the original elector in accordance with § 301.6303–
electors—(i) In general. The rules of this elector and all prior subsequent electors. 1 of this chapter;
paragraph (h)(3) apply when, (B) Recapture tax amount. The (3) The subsequent elector has failed
subsequent to an event described in recapture tax amount equals the excess to pay all of the recapture tax amount
paragraph (e)(1) of this section with (if any) of— by the date specified in such notice and
respect to which the requirements of (1) The income tax liability of the demand; and
paragraph (f)(2)(i) of this section were subsequent elector for the taxable year (4) The Commissioner has issued a
met (excepted event), a triggering event of the subsequent triggering event; over notice and demand for payment of the
under paragraph (e) of this section (2) The income tax liability of the unpaid portion of the recapture tax
occurs, and no exception applies to subsequent elector for the taxable year amount to the original elector, or prior
such triggering event under paragraph of the subsequent triggering event, subsequent elector (as the case may be),
(f) of this section (subsequent triggering computed by excluding the amount of in accordance with § 301.6303–1 of this
event). recapture and related interest charge chapter. The liability imposed under
(ii) Original elector and prior with respect to the dual consolidated this paragraph (h)(3)(iv)(B) on the
subsequent electors not subject to losses that are recaptured as a result of original elector and each prior
recapture or interest charge—(A) Except the subsequent triggering event, as subsequent elector shall be joint and
to the extent provided in paragraph provided under paragraphs (h)(1) and several.
(h)(3) of this section, neither the original (h)(2) of this section. (C) Allocation of partial payments of
elector nor any prior subsequent elector (iv) Tax assessment and collection tax. If the subsequent elector’s income
shall be subject to the rules of paragraph procedures—(A) In general—(1) tax liability for a taxable period includes
(h) of this section with respect to dual Subsequent elector. An assessment a recapture tax amount, and if such
consolidated losses subject to the identifying an income tax liability of the income tax liability is satisfied in part
original domestic use agreement. subsequent elector is considered an by payment, credit, or offset, such

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payment, credit or offset shall be paragraph (h)(4)(ii) of section, may have no further effect. See § 1.1503(d)–
allocated first to that portion of the absorb the recapture amount included 5(c) Example 43.
income tax liability that is not in gross income. Such computation (2) Exception to triggering event. If an
attributable to the recapture tax amount, must be signed under penalties of event described in paragraph (e)(1) of
and then to that portion of the income perjury and attached to and filed by the this section is not a triggering event as
tax liability that is attributable to the due date (including extensions) of, the a result of the application of paragraph
recapture tax amount. income tax return for the taxable year in (f)(2)(i) or (ii) of this section, then the
(D) Refund. If the Commissioner which the triggering event occurs. domestic use agreement filed with
makes a refund of any income tax (5) Character and source of recapture respect to any dual consolidated losses
liability that includes a recapture tax income. The amount recaptured under that would have been recaptured as a
amount, the Commissioner shall paragraph (h) of this section shall be result of the event, but for the
allocate and pay the refund to each treated as ordinary income. Except as application of paragraph (f)(2)(i) or
elector who paid a portion of such provided in the prior sentence, such (f)(2)(ii) of this section, shall terminate
income tax liability as follows: income shall be treated, as applicable, and have no further effect. See
(1) The Commissioner shall first as income from the same source, having § 1.1503(d)–5(c) Examples 46 and 49.
determine the total amount of recapture the same character, and falling within (3) Recapture of dual consolidated
tax paid by and/or collected from the the same separate category, for all loss. If a dual consolidated loss is
original elector and from any prior purposes of the Internal Revenue Code, recaptured pursuant to paragraph (h) of
subsequent elector(s). The including sections 856(c)(2) and (3), this section, then the domestic use
Commissioner shall then allocate and 904(d), and 907, to which the items of agreement filed with respect to such
pay such refund to the original elector deduction or loss composing the dual recaptured dual consolidated loss shall
and prior subsequent elector(s), with consolidated loss were allocated and terminate and have no further effect. See
each such elector receiving an amount apportioned, as provided under sections § 1.1503(d)–5(c) Examples 49 through
of such refund on a pro rata basis, not 861(b), 862(b), 863(a), 864(e), 865 and 52.
to exceed the amount of recapture tax the regulations thereunder. See (4) Termination of ability for foreign
paid by and/or collected from such § 1.1503(d)–5(c) Example 50. use—(i) In general. A domestic use
elector. (6) Reconstituted net operating loss. agreement filed with respect to a dual
(2) The Commissioner shall pay any Commencing in the taxable year consolidated loss shall terminate and
balance of such refund, if any, to the immediately following the year in have no further effect as of the end of
subsequent elector. which the dual consolidated loss is a taxable year if the elector—
(v) Definition of income tax liability. recaptured, the dual resident (A) Demonstrates, to the satisfaction
Solely for purposes of paragraph (h)(3) corporation or separate unit (but only if of the Commissioner, that as of the end
of this section, the term income tax such separate unit is owned, directly or of such taxable year no foreign use of
liability means the income tax liability indirectly, by a domestic corporation) the dual consolidated loss can occur in
imposed on a domestic corporation shall be treated as having a net any year by any means; and
under Title 26 of the United States Code operating loss in an amount equal to the (B) Prepares a statement described in
for a taxable year, including additions to amount actually recaptured under paragraph (i)(4)(ii) of this section that is
tax, additional amounts, penalties, and paragraph (h) of this section. This attached to, and filed by the due date
any interest charge related to such reconstituted net operating loss shall be (including extensions) of, its U.S.
income tax liability. subject to the restrictions of § 1.1503(d)– income tax return for such taxable year.
(vi) Example. See § 1.1503(d)–5(c) 2(b) (and therefore, the restrictions of (ii) Statement. The statement
Example 49. § 1.1503(d)–3(c)(3)), without regard to described in this paragraph (i)(4)(ii)
(4) Computation of taxable income in the exceptions contained in paragraphs must be signed under penalties of
year of recapture—(i) Presumptive rule. (b) through (d) of this section. The net perjury by the person who signs the
Except to the extent provided in operating loss shall be available only for return. The statement must be labeled
paragraph (h)(4)(ii) of this section, for carryover, under section 172(b), to Termination of Ability for Foreign Use
purposes of computing the taxable taxable years following the taxable year at the top of the page and must include
income for the year of recapture, no of recapture. For purposes of the following items, in paragraphs
current, carryover or carryback losses of determining the remaining carryover labeled to correspond with the
the dual resident corporation or separate period, the loss shall be treated as if it following:
unit, of other members of the had been recognized in the taxable year (A) A statement that the document is
consolidated group, or of the domestic in which the dual consolidated loss that submitted under the provisions of
owner that are not attributable to the is the basis of the recapture amount was § 1.1503(d)–4(i)(4).
separate unit, may offset and absorb the incurred. See § 1.1503(d)–5(c) Example (B) The name, address, tax
recapture amount. 52. identification number, and place and
(ii) Rebuttal of presumptive rule. The (i) Termination of domestic use date of incorporation of the dual
recapture amount included in gross agreement and annual certifications— resident corporation, and the country or
income may be offset and absorbed by (1) Rebuttal of triggering event. If, countries that tax the dual resident
that portion of the elector’s pursuant to paragraph (e)(2) of this corporation on its worldwide income or
(consolidated or separate) net operating section, an elector is able to rebut the on a residence basis, or, in the case of
loss carryover that is attributable to the presumption of a triggering event a separate unit, identification of the
dual consolidated loss being recaptured, described in paragraphs (e)(1)(ii) separate unit, including the name under
if the elector demonstrates, to the through (ix) of this section, including which it conducts business, its principal
satisfaction of the Commissioner, the complying with the related reporting activity, and the country in which its
amount of such portion of the carryover. requirements, then the domestic use principal place of business is located.
An elector utilizing this rebuttal rule agreement filed with respect to any dual (C) A statement of the amount of the
must prepare a computation consolidated losses that would have dual consolidated loss at issue and the
demonstrating the amount of net been recaptured as a result of the event, year in which such dual consolidated
operating loss carryover that, under but for the rebuttal, shall terminate and loss was incurred.

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(D) An analysis, in reasonable detail (ii) Allows the losses of members of Country X foreign branch separate unit, or
and specificity, supported with official consolidated groups to offset income of income from any other domestic affiliate of
or certified English translations of the other members. such foreign branch separate unit.
relevant provisions of foreign law, of the (9) There is no mirror legislation, Example 3. Domestic use limitation—no
treatment of the losses and deductions within the meaning of § 1.1503(d)– foreign consolidation regime. (i) Facts. The
1(b)(14)(v), in the applicable foreign facts are the same as in Example 2, except
composing the dual consolidated loss that Country X does not have a consolidation
under the laws of the foreign jurisdiction. regime that includes as members of
jurisdiction and the reasons supporting (10) There is no elective agreement consolidated groups Country X branches or
the conclusion that no foreign use of the described in § 1.1503(d)–4(b) between permanent establishments.
dual consolidated loss can occur in any the United States and the applicable (ii) Result. The result is the same as
year by any means. foreign jurisdiction. Example 2. The dual consolidated loss rules
(11) If a domestic use election, within apply even in the absence of a consolidation
§ 1.1503(d)–5 Examples. the meaning of § 1.1503(d)–4(d), is regime in the foreign country because it is
(a) In general. This section provides made, all the necessary filings related to possible that all or a portion of a dual
such election are properly completed on consolidated loss can be put to a foreign use
examples that illustrate the application
a timely basis. by other means, such as through an
of §§ 1.1503(d)–1 through 1.1503(d)–4. acquisition or similar transaction.
This section also provides facts that are (12) If there is a triggering event
requiring recapture of a dual Example 4. Domestic use limitation—
presumed for such examples. foreign branch separate unit owned through
(b) Presumed facts for examples. For consolidated loss, the amount of
a partnership. (i) Facts. P and S organize a
purposes of the examples in this recapture is not reduced pursuant to partnership, PRSX, under the laws of Country
section, unless otherwise indicated, the § 1.1503(d)–4(h)(2). X. PRSX is treated as a partnership for both
(c) Examples. The following examples U.S. and Country X income tax purposes.
following facts are presumed:
illustrate the application of PRSX owns FBX. PRSX earns U.S. source
(1) Each entity has only a single class §§ 1.1503(d)–1 through 1.1503(d)–4: income that is unconnected with its FBX
of equity outstanding, all of which is branch operations and such income,
held by a single owner. Example 1. Separate unit combination
rule. (i) Facts. P owns DE3Y which, in turn, therefore, is not subject to tax by Country X.
(2) P, a domestic corporation and the owns DE1X. DE1X owns FBX. Domestic (ii) Result. Under § 1.1503(d)–1(b)(4)(i), P’s
common parent of the P consolidated partnership PRS, owned 50% by P and 50% and S’s shares of FBX owned indirectly
group, owns S, a domestic corporation by an unrelated foreign person, conducts through their interests in PRSX are foreign
and a member of the P consolidated operations in Country X that constitute a branch separate units. Unless an exception
group. foreign branch within the meaning of under § 1.1503(d)–4 applies, any dual
§ 1.367(a)–6T(g). S owns DE2X. consolidated loss incurred by FBX cannot
(3) DRCX, a domestic corporation, is offset income of P or S (other than income
(ii) Result. Pursuant to § 1.1503(d)–
subject to Country X tax on its attributable to FBX), including their
1(b)(4)(ii), the interest in DE1X, FBX, and P’s
worldwide income or on a residence share of the Country X branch owned by PRS, distributive share of the U.S. source income
basis, and is a dual resident corporation. which is owned by P indirectly through its earned through their interests in PRSX, or
(4) DE1X and DE2X are both Country interest in PRS, are combined and treated as income of any other domestic affiliates of
X entities, subject to Country X tax on one separate unit owned by P. P’s interest in FBX.
their worldwide income or on a DE3Y, however, is another separate unit Example 5. Domestic use limitation—
residence basis, and disregarded as because it is subject to tax in Country Y, interest in hybrid entity partnership and
entities separate from their owners for rather than Country X. S’s interest in DE2X indirectly owned foreign branch separate
also is another separate unit because it is unit. (i) Facts. HPSX is a Country X entity
U.S. tax purposes. DE3Y is a Country Y owned by S, a different domestic corporation. that is subject to Country X tax on its
entity, subject to Country Y tax on its worldwide income. HPSX is classified as a
Example 2. Domestic use limitation—
worldwide income or on a residence foreign branch separate unit. (i) Facts. P partnership for U.S. tax purposes. P, S, and
basis, and disregarded as an entity conducts operations in Country X that FX, an unrelated Country X corporation, are
separate from its owner for U.S. tax constitute a permanent establishment under the sole partners of HPSX. For U.S. tax
purposes. The interests in DE1X, DE2X, the Country X income tax laws. In Year 1, P’s purposes, P, S, and FX each has an equal
and DE3Y constitute hybrid entity Country X permanent establishment has a interest in each item of HPSX’s profit or loss.
separate units. loss, as determined under § 1.1503(d)–3(b)(2). HPSX conduct operations in Country Y that,
(ii) Result. Under § 1.1503(d)–1(b)(4)(i) and if carried on by a U.S. person, would
(5) FBX is a foreign branch, as defined constitute a foreign branch within the
§ 1.367(a)–6T(g)(1), P’s Country X permanent
in § 1.367(a)–6T(g), and is a Country X meaning of § 1.367(a)–6T(g).
establishment constitutes a foreign branch
foreign branch separate unit. separate unit. Therefore, the Year 1 loss of (ii) Result. Under § 1.1503(d)–1(b)(4)(i), the
(6) Neither the assets nor the activities the foreign branch separate unit constitutes a partnership interests in HPSX held by P and
of an entity constitutes a foreign branch dual consolidated loss pursuant to S are hybrid entity separate units. In
separate unit. § 1.1503(d)–1(b)(5)(ii). The dual consolidated addition, P’s and S’s share of the Country Y
loss rules apply even though there is no branch owned indirectly through their
(7) FSX is a Country X entity that is interests in HPSX are foreign branch separate
subject to Country X tax on its affiliate of the foreign branch separate unit in
Country X because it is still possible that all units. Unless an exception under
worldwide income or on a residence or a portion of the dual consolidated loss can § 1.1503(d)–4 applies, dual consolidated
basis and is classified as a foreign be put to a foreign use. For example, there losses attributable to P’s and S’s interests in
corporation for U.S. tax purposes. may be a foreign use with respect to an HPSX can only be used to offset income
(8) The applicable foreign jurisdiction affiliate acquired in a year subsequent to the attributable to their respective interests in
has a consolidation regime that— year in which the dual consolidated loss was HPSX (other than income of HPSX’s Country
generated. Accordingly, unless an exception Y foreign branch separate unit). Similarly,
(i) Includes as members of a dual consolidated losses of P’s and S’s
consolidated group any commonly under § 1.1503(d)–4 applies (such as a
domestic use election), the Year 1 dual interests in the Country Y branch of HPSX
controlled branches and permanent consolidated loss of P’s Country X permanent can only be used to offset income attributable
establishments in such jurisdiction, and establishment is subject to the domestic use to their respective interests in the Country Y
entities that are subject to tax in such limitation rule of § 1.1503(d)–2(b). As a branch.
jurisdiction on their worldwide income result, the Year 1 dual consolidated loss Example 6. Foreign use—general rule. (i)
or on a residence basis; and cannot offset income of P that is not from its Facts. P owns DE1X. DE1X owns FSX. In Year

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1, DE1X incurs a $100x net operating loss for offsets income recognized under Country X the laws of Country X. Pursuant to
both U.S. and Country X tax purposes. The law and under U.S. tax principles the income § 1.1503(d)–1(b)(14)(i), the offset constitutes a
$100x Year 1 loss of DE1X is attributable to is considered to be income of FRHX, a foreign foreign use because the items constituting
P’s interest in DE1X and is a dual corporation. Accordingly, pursuant to such income are considered under U.S. tax
consolidated loss. FSX earns $200x of income § 1.1503(d)–1(b)(14)(i), there is a foreign use principles to be items of a foreign
in Year 1 for Country X tax purposes. DE1X of the dual consolidated loss. In addition, the corporation. This is the case even though the
and FSX file a Country X consolidated tax exception to foreign use under § 1.1503(d)– United States does not recognize such items
return. For Country X purposes, the Year 1 1(b)(14)(iii)(C)(1)(i) does not apply because as income in Year 1. Therefore, DRCX cannot
$100x loss of DE1X is used to offset $100x of the foreign use is not solely the result of the make a domestic use election with respect to
Year 1 income generated by FSX. dual consolidated loss being made available its Year 1 dual consolidated loss pursuant to
(ii) Result. DE1X’s $100x loss offsets FSX’s under Country X laws to offset an item of § 1.1503(d)–4(d)(3)(i). As a result, such loss
income under the laws of Country X. In income or gain recognized under Country X will be subject to the domestic use limitation
addition, under U.S. tax principles, such laws that is considered, under U.S. tax rule of § 1.1503(d)–2(b).
income is an item of FSX, a foreign principles, to be an item of FX. Instead, the Example 11. Foreign use—parent hybrid
corporation. As a result, under § 1.1503(d)– income that is offset is, under U.S. tax entity. (i) Facts. The facts are the same as
1(b)(14)(i), there has been a foreign use of the principles, income of FRHX, a foreign
Example 10, except that FPX is classified as
Year 1 dual consolidated loss attributable to corporation. Therefore, P cannot make a
a partnership for U.S. tax purposes.
P’s interest in DE1X. Therefore, P cannot domestic use election with respect to the
make a domestic use election with respect to Year 1 dual consolidated loss attributable to (ii) Result. The dual consolidated loss of
the Year 1 dual consolidated loss of DE1X as its interest in HPSX, and such loss will be DRCX offsets the income of FPX under the
provided under § 1.1503(d)–4(d)(3)(i), and subject to the domestic use limitation rule of laws of Country X. Pursuant to § 1.1503(d)–
such loss will be subject to the domestic use § 1.1503(d)–2(b). 1(b)(14)(i), such offset constitutes a foreign
limitation rule of § 1.1503(d)–2(b). The result Example 9. Foreign use—dual resident use because the items constituting such
would be the same even if FSX, under corporation with hybrid entity joint venture. income are considered under U.S. tax
Country X laws, had no income against (i) Facts. P owns DRCX, a member of the P principles to be items of F1 and F2, the
which the dual consolidated loss of DE1X consolidated group. DRCX owns 80% of owners of interests in FPX (a hybrid entity),
could be offset (unless FSX’s ability to use the HPSX, a Country X entity that is subject to that are not separate units. Therefore, DRCX
loss under Country X laws require an Country X tax on its worldwide income. cannot make a domestic use election with
election, and no such election is made). HPSX is classified as a partnership for U.S. respect to its Year 1 dual consolidated loss
Example 7. Foreign use—foreign reverse tax purposes. FX, an unrelated foreign pursuant to § 1.1503(d)–4(d)(3)(i). As a result,
hybrid structure. (i) Facts. P owns DE1X. corporation, owns the remaining 20% of such loss will be subject to the domestic use
DE1X owns 99% and S owns 1% of FRHX, HPSX. In Year 1, DRCX generates a $100x net limitation rule of § 1.1503(d)–2(b). The result
a Country X partnership that elected to be operating loss. Also in Year 1, HPSX would be the same if F1 and F2 owned their
treated as a corporation for U.S. tax purposes. generates $100x of income for Country X tax interests in FPX indirectly through another
FRHX conducts an active business in Country purposes. DRCX and HPSX file a consolidated partnership.
X. The 99% interest in FRHX is the only asset tax return for Country X tax purposes, and Example 12. No foreign use—absence of
owned by DE1X. DE1X’s sole item of income, HPSX offsets its $100x of income with the foreign loss allocation rules. (i) Facts. P owns
gain, deduction, or loss in Year 1 for $100x loss generated by DRCX. DE1X and DRCX. DRCX is a member of the P
purposes of calculating a dual consolidated (ii) Result. The $100x Year 1 net operating consolidated group and owns FSX. In Year 1,
loss attributable to P’s interest in DE1X is loss incurred by DRCX is a dual consolidated DRCX incurs a $200x net operating loss for
interest expense incurred on a loan from an loss. In addition, HPSX is a hybrid entity and both U.S. and Country X tax purposes, while
unrelated party. DE1X’s Year 1 interest DRCX’s interest in HPSX is a hybrid entity DE1X recognizes $200x of income in Year 1
expense constitutes a dual consolidated loss. separate unit; however, there is no dual under the tax laws of each country. The
In Year 1, for Country X income tax consolidated loss attributable to such $200x loss of DRCX is a dual consolidated
purposes, DE1X took into account its separate unit in Year 1. DRC X’s Year 1 dual loss. FSX also earns $200x of income in Year
distributive share of income generated by consolidated loss offsets $100x of income for 1 for Country X tax purposes. DRCX, DE1X,
FRHX and offset such income with its interest Country X purposes, and $20x of such and FSX file a Country X consolidated tax
expense. amount is (under U.S. tax principles) income return. However, Country X has no
(ii) Result. In year 1, the dual consolidated of FX, which owns an interest in HPSX that applicable rules for determining which
loss attributable to P’s interest in DE1X, is not a separate unit. As a result, pursuant income is offset by DRCX’s Year 1 $200x loss.
offsets income recognized in Country X and to § 1.1503(d)–1(b)(14)(i), there is a foreign
(ii) Result. Under § 1.1503(d)–
under U.S. tax principles the income is use of the Year 1 dual consolidated loss of
1(b)(14)(iii)(B), DRCX’s $200x loss shall be
considered to be income of FRHX, a foreign DRCX, and P cannot make a domestic use
treated as having been made available to
corporation. Accordingly, pursuant to election with respect to such loss pursuant to
offset DE1X’s $200x of income. DE1X is not,
§ 1.1503(d)–1(b)(14)(i), there is a foreign use § 1.1503(d)–4(d)(3)(i). Therefore, such loss
of the dual consolidated loss. Therefore, P will be subject to the domestic use limitation under U.S. tax principles, a foreign
cannot make a domestic use election with rule of § 1.1503(d)–2(b). corporation, and there is no interest in DE1X
respect to DE1X’s Year 1 dual consolidated that is not a separate unit. As a result, DRCX’s
Example 10. Foreign use—foreign parent loss being made available to offset the
loss, as provided under § 1.1503(d)–4(d)(3)(i), corporation. (i) Facts. F1 and F2, nonresident
and such loss will be subject to the domestic income of DE1X is not considered a foreign
alien individuals, each own 50% of FPX, a use of such loss. Therefore, P can make a
use limitation rule of § 1.1503(d)–2(b). Country X entity that is subject to Country X
domestic use election with respect to DRCX’s
Example 8. Foreign use—inapplicability of tax on its worldwide income. FPX is
Year 1 dual consolidated loss.
no dilution exception to foreign reverse classified as a corporation for U.S. tax
hybrid structure. (i) Facts. The facts are the purposes. FPX owns DRCX. DRCX is the Example 13. No foreign use—absence of
same as in Example 7, except as follows. parent of a consolidated group that includes foreign loss usage ordering rules. (i) Facts.
Instead of owning DE1X, P owns 75% of as a member DS, a domestic corporation. In (A) P owns DRCX, a member of the P
HPSX, a Country X entity subject to Country Year 1, DRCX generates a dual consolidated consolidated group. DRCX owns FSX. Under
X tax on its worldwide income. FX, an loss of $100x and, for Country X tax the Country X consolidation regime, a
unrelated foreign corporation, owns the purposes, FPX generates $100x of income. In consolidated group may elect in any given
remaining 25% of HPSX. HPSX is classified Year 1, FPX elects to consolidate with DRCX, year to use all or a portion of the losses of
as a partnership for U.S. income tax and the $100x Year 1 loss of DRCX is used one consolidated group member to offset
purposes. HPSX owns 99% and S owns 1% to offset the income of FPX under the laws income of other consolidated group
of FRHX. HPSX incurs the Year 1 interest of Country X. For U.S. tax purposes, the members. If no such election is made in a
expense and P’s interest in HPSX, therefore, items of FPX do not constitute items of year in which losses are generated by a
has a dual consolidated loss in Year 1. income in Year 1. consolidated member, such losses carry
(ii) Result. In year 1, the dual consolidated (ii) Result. The Year 1 dual consolidated forward and are available, at the election of
loss attributable to P’s interest in HPSX loss of DRCX offsets the income of FPX under the consolidated group, to offset income of

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consolidated group members in subsequent Example 14. No foreign use—no dilution of Example 15. Foreign use—dilution of an
tax years. Country X law does not provide an interest in a separate unit. (i) Facts. (A) interest in a separate unit. (i) Facts. The facts
ordering rules for determining when a loss P owns 50% of HPSX, a Country X entity are the same as Example 14, except that at
from a particular tax year is used because, subject to Country X tax on its worldwide the beginning of Year 2, FX contributes cash
under Country X law, losses never expire. income. FX, an unrelated foreign corporation, to HPSX in exchange for additional equity of
Similarly, Country X law does not provide owns the remaining 50% of HPSX. HPSX is HPSX. As a result of the contribution, FX’s
ordering rules for determining when a classified as a partnership for U.S. income interest in HPSX increases from 50% to 60%,
particular type of loss (for example, capital tax purposes. and P’s interest in HPSX decreases from 50%
or ordinary) is used. The United States and (B) The United States and Country X to 40%.
Country X recognize the same items of recognize the same items of income, gain, (ii) Result. At the beginning of Year 2, P’s
income, gain, deduction and loss in each deduction and loss in Years 1 and 2. In Year interest in HPSX has been reduced as a result
year. In addition, neither DRCX nor FSX has 1, HPSX incurs a loss of $100x. Under of a person other than a domestic corporation
items of income or loss for the taxable year § 1.1503(d)–1(b)(4)(i)(B), P’s interest in HPSX acquiring an interest in HPSX. Accordingly,
other than those stated below. is a separate unit and P’s interest in HPSX has pursuant to § 1.1503(d)–1(b)(14)(iii)(C)(2)(i),
(B) In Year 1, DRCX incurs a capital loss a dual consolidated loss of $50x in Year 1. the exception to foreign use provided under
of $80x which, under § 1.1503(d)–3(b)(1), is P makes a domestic use election with respect § 1.1503(d)–1(b)(14)(iii)(C)(1)(i) does not
not a dual consolidated loss. DRCX also to such dual consolidated loss. In Year 2, apply. Therefore, in Year 2 there is a foreign
incurs a net operating loss of $80x in Year HPSX generates $50x of income. Under use of the $50x Year 1 dual consolidated loss
1. FSX generates $60x of capital gain in Year Country X income tax laws, the $100x of attributable to P’s interest in HPSX. Such
1 which, for Country X purposes, can be Year 1 loss incurred by HPSX is carried foreign use constitutes a triggering event and
offset by capital losses and net operating forward and offsets the $50x of income the $50x Year 1 dual consolidated loss is
losses. DRCX elects to use $60x of its total generated by HPSX in Year 2; the remaining recaptured.
Year 1 loss of $160x to offset the $60x of $50x of loss is carried forward and is Example 16. No foreign use—dilution by a
capital gain generated by FSX in Year 1; the available to offset income generated by HPSX domestic corporation. (i) Facts. The facts are
remaining $100x of Year 1 loss carries in subsequent years. P and FX maintain their the same as Example 14, except that at the
forward. In Year 2, DRCX incurs a net 50% ownership interests in HPSX throughout beginning of Year 2, instead of FX
operating loss of $100x, while FSX incurs a Years 1 and 2. contributing cash to HPSX, S purchases 20%
net operating loss of $50x. DRCX’s $100x loss (ii) Result. In Year 2, under the laws of of P’s interest in HPSX. As a result of the
is a dual consolidated loss. Because DRCX Country X, the $100x of Year 1 loss, which purchase, P’s interest in HPSX decreases from
does not elect under the laws of Country X includes the $50x dual consolidated loss 50% to 40%.
to use all or a portion of its Year 2 net attributable to P’s interest in HPSX, is made (ii) Result. At the beginning of Year 2, P’s
operating loss of $100x to offset the income available to offset income of HPSX. Such interest in HPSX has been reduced as a result
of other members of the Country X income would be attributable to P’s interest of a person acquiring an interest in HPSX.
consolidated group, P is permitted to make in HPSX, which is a separate unit. Such Accordingly, § 1.1503(d)–1(b)(14)(iii)(C)(1)(i)
(and in fact does make) a domestic use income would also be income of FX, an generally does not apply, and there would be
election with respect to the Year 2 dual owner of an interest in HPSX, which is not a foreign use of the $50x Year 1 dual
consolidated loss of DRCX. In Year 3, DRCX a separate unit. Under § 1.1503(d)– consolidated loss attributable to P’s interest
has a net operating loss of $10x and FSX 1(b)(14)(iii)(B), because Country X does not in HPSX. However, if P demonstrates, to the
generates $60x of capital gains. Country X have applicable rules for determining which satisfaction of the Commissioner, that S is a
law permits, upon an election, FSX’s $60x of Year 2 income of HPSX is offset by the $100x domestic corporation in a statement attached
capital gain generated in Year 3 to be offset loss carried forward from year 1, the $50x to, and filed by the due date (including
by losses (including carryover losses from dual consolidated loss is deemed to first have extensions) of P’s U.S. income tax return for
prior years) of other group members. been made available to offset the $25x of the taxable year in which the ownership
Accordingly, in Year 3, DRCX elects to use income attributable to P’s interest in HPSX. interest of P was reduced, the exception to
$60x of its accumulated losses to offset the However, because only $25x of income is foreign use under § 1.1503–
$60x of Year 3 capital gain generated by FSX. attributable to P’s interest in HPSX, a portion 1(b)(14)(iii)(C)(1)(i) will apply. In such a case,
(ii) Result. (A) DRCX’s $80x Year 1 net of the remaining $25x of the dual there will be no foreign use of the $50x Year
operating loss is a dual consolidated loss. consolidated loss is made available (under 1 dual consolidated loss attributable to P’s
Under the ordering rules of § 1.1503(d)– U.S. tax principles) to offset income of FX. As interest in HPSX. The result would be the
1(b)(14)(iv)(C), a pro rata amount of DRCX’s a result, a portion of the $50x dual same if S were unrelated to P, or if S acquired
Year 1 net operating loss ($30x) and capital consolidated loss is made available to offset its interest in HPSX through the contribution
loss ($30x) is considered to be used to offset income of the owner of an interest in a of property to HPSX in exchange for equity
FSX’s Year 1 $60x capital gain. As a result, hybrid entity that is not a separate unit and, (rather than as a purchase of a portion of P’s
P will not be able to make a domestic use under the general rule of § 1.1503(d)– interest).
election with respect to DRCX’s Year 1 $80x 1(b)(14)(i), there would be a foreign use of P’s Example 17. Foreign use—foreign
dual consolidated loss. $50x Year 1 dual consolidated loss (there consolidation. (i) Facts. (A) P and FX, an
(B) DRCX’s $10x Year 3 net operating loss would also be a foreign use in this case unrelated Country X corporation, organize
is also a dual consolidated loss. Under the because FX is a foreign corporation). HPSY. P owns 20% of HPSY and FX owns
ordering rules of § 1.1503(d)–1(b)(14)(iv)(A), However, pursuant to the exception to 80% of HPSY. HPSY is classified as a
such loss is considered to be used to offset foreign use under § 1.1503(d)– partnership for U.S. income tax purposes and
$10x of FSX’s Year 3 $60x capital gain. 1(b)(14)(iii)(C)(1)(i), there is no foreign use of is a Country Y entity subject to Country Y tax
Consequently, P will not be able to make a the Year 1 dual consolidated loss in Year 2. on its worldwide income. HPSY conducts
domestic use election with respect to such In addition, the exceptions under operations in Country X that, if carried on by
loss. Under the ordering rules of § 1.1503(d)– § 1.1503(d)–1(b)(14)(iii)(C)(2) do not apply a U.S. person, would constitute a foreign
1(b)(14)(iv)(B), $50x of loss carryover from because P’s interest in HPSX as of the end of branch within the meaning of § 1.367(a)–
Year 1 will be considered to offset the Year 1 has not been reduced, and the portion 6T(g).
remaining $50x of Year 3 income because the of the $50x dual consolidated loss was made (B) In Year 1, the Country X branch of
income is deemed to have been offset by available for a foreign use in Year 2 solely as HPSY has a loss of $100x as determined
losses from the earliest taxable year from a result of FX’s ownership in HPSX and by under § 1.1503(d)–3(b)(2). Under § 1.1503(d)–
which a loss can be carried forward or back the offsetting of income attributable to HPSX, 1(b)(4)(i), P’s interest in HPSY is a separate
for foreign law purposes. Thus, none of the partnership in which FX holds an unit, and P’s indirect interest in a portion of
DRCX’s $100x Year 2 net operating loss will interest. Therefore, there is no foreign use of the Country X branch of HPSY is also a
be deemed to offset FSX’s remaining $50x of the Year 1 dual consolidated loss in Year 2. separate unit. As a result, P has a dual
Year 3 income. As a result, such offset will The result would be the same if FX owned consolidated loss of $20x in Year 1
not constitute a foreign use of DRCX’s Year its interest in HPSX indirectly through a attributable to its interest in the Country X
2 dual consolidated loss. partnership. branch owned indirectly through HPSY.

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HPSY conducts no other activities in Year 1 attributable to P’s indirect interest in DEY other than for purposes of the consistency
and has no other items of income, gain, plus $200x loss of FBY). In Year 2, DEY rule under § 1.1503(d)–4(d)(2), be a deemed
deduction or loss. Accordingly, there is no generates no income or loss. foreign use of FBX’s Year 1 dual consolidated
dual consolidated loss attributable to P’s (ii) Result. Under Country Y law, the $100x loss. This is the result even though P has no
interest in HPSY. Under Country X income of Year 1 loss incurred by DEY is carried Country X affiliates. Therefore, P cannot
tax laws, FX elects to consolidate with the forward and is available to offset income of make a domestic use election with respect to
Country X branch of HPSY. As a result, the DEY in Year 2. As a result, a portion of such the Year 1 dual consolidated loss of FBX
$100x Year 1 loss of the Country X branch loss will be available to offset income of DEY pursuant to § 1.1503(d)–4(d)(3)(i).
of HPSY is available to offset the income of that is attributable to P’s interest in DEY Example 22. Mirror legislation rule—
FX under the laws of Country X through owned indirectly through PRSX. A portion of absence of election to file consolidated return
consolidation. such loss will also be available to offset under local law. (i) Facts. The facts are the
(ii) Result. Pursuant to § 1.1503(d)– income of DEY that is attributable to FX’s same as in Example 21, except that P also
1(b)(14)(iii)(C)(1)(ii), P’s Year 1 $20x dual indirect ownership of DEY. Accordingly, owns FSX and no election is made under
consolidated loss attributable to its indirect under § 1.1503(d)–1(b)(14)(i), there would be Country X law to consolidate FBX and FSX.
ownership of the Country X branch of HPSY a foreign use of a portion of P’s $250x Year (ii) Result. The result is the same as
would not generally be considered to be 1 dual consolidated loss because it is Example 21, even though FBX has a Country
made available, under the laws of Country X, available to offset an item of income of the X affiliate and no election is made under
to reduce or offset an item of income or gain owner of an interest in a hybrid entity, which Country X law to consolidate FBX and FSX.
that is considered under U.S. tax principles is not a separate unit (there would also be a
Example 23. Mirror legislation rule—
to be income of FX. However, FX elected to foreign use in this case because FX is a
consolidate with the Country X branch under foreign corporation). However, under inapplicability to particular dual resident
Country X law such that the $20x dual § 1.1503(d)–1(b)(14)(iii)(C)(1)(ii) and (iii), and corporation or separate unit. (i) Facts. The
consolidated loss attributable to P’s interest because there has been no dilution of P’s facts are the same as in Example 21, except
in such separate unit is available to offset interest in DEY (and no consolidation of as follows. Rather than conducting
income under the laws of Country X as DEY), no foreign use occurs as a result of the operations in Country X through a foreign
described in § 1.1503(d)–1(b)(14)(iii)(C)(2)(ii). carryforward. branch, P owns DE1X. In Year 1, DE1X incurs
As a result, the exception under § 1.1503(d)– a loss of $100x and also generates a loss for
Example 20. Mirror legislation rule—dual Country X tax purposes. The $100x Year 1
1(b)(14)(iii)(C)(1)(ii) shall not apply and there resident corporation. (i) Facts. P owns DRCX,
is a foreign use of the $20x Year 1 dual loss of DE1X is a dual consolidated loss
a member of the P consolidated group. DRCX attributable to P’s interest in DE1X.
consolidated loss attributable to P’s interest owns FSX. In Year 1, DRCX generates a $100x
in the Country X branch of HPSY. (ii) Result. The Country X mirror
net operating loss that is a dual consolidated
legislation only applies to Country X
Example 18. No foreign use—no election to loss. To prevent corporations like DRCX from
branches owned by non-resident
consolidate under foreign law. (i) Facts. The offsetting losses both against income of
corporations and therefore does not apply to
facts are the same as in Example 17, except affiliates in Country X and against income of
losses generated by DE1X. Thus, if DE1X had
that FX does not elect under Country X law foreign affiliates under the tax laws of
a Country X affiliate, it would be permitted
to consolidate with the Country X branch of another country, Country X mirror legislation
under the laws of Country X to use its loss
HPSY. prevents a corporation that is subject to the
to offset income of such affiliate,
(ii) Result. Because FX does not elect to income tax of another country on its
notwithstanding the Country X mirror
consolidate under foreign law, P’s dual worldwide income or on a residence basis
legislation. As a result, the mirror legislation
consolidated loss of $20x is not made from using the Country X form of
available to offset FX’s income, other than as consolidation. Accordingly, the Country X rule under § 1.1503(d)–1(b)(14)(v) does not
a result of FX’s ownership of HPSY. mirror legislation prevents the loss of DRCX apply with respect to the Year 1 dual
Accordingly, because there has been no from being made available to offset income consolidated loss of P’s interest in DE1X.
dilution of P’s interest in the Country X of FSX. Therefore, a domestic use election can be
branch of HPSY, there has been no foreign (ii) Result. Under § 1.1503(d)–1(b)(14)(v), made with respect to such loss (provided the
use of P’s $20x Year 1 dual consolidated loss because the losses of DRCX are subject to conditions for such an election are otherwise
pursuant § 1.1503(d)–1(b)(14)(iii)(C)(1)(ii). Country X’s mirror legislation, there shall, satisfied).
Example 19. No foreign use—combination other than for purposes of the consistency Example 24. Dual consolidated loss
rule. (i) Facts. (A) P and FX, an unrelated rule under § 1.1503(d)–4(d)(2), be a deemed limitation after section 381 transaction—
foreign corporation, form PRSX. P and FX foreign use of DRCX’s Year 1 dual disposition of assets and subsequent
each own 50 percent of PRSX throughout consolidated loss. Therefore, P will not be liquidation of dual resident corporation. (i)
Years 1 and 2. PRSX is treated as a able to make a domestic use election with Facts. P owns DRCX, a member of the P
partnership for both U.S. and Country X respect to DRCX’s Year 1 dual consolidated consolidated group. In Year 1, DRCX incurs
income tax purposes. PRSX owns DEY. DEY loss pursuant to § 1.1503(d)–4(d)(3)(i). a dual consolidated loss and P does not make
is a Country Y entity subject to Country Y tax Example 21. Mirror legislation rule— a domestic use election with respect to such
on its worldwide income and disregarded as standalone foreign branch separate unit. (i) loss. Under § 1.1503(d)–2(b), DRCX’s Year 1
an entity separate from its owner for U.S. tax Facts. P owns FBX. In Year 1, FBX incurs a dual consolidated loss may not be used to
purposes. PRSX does not have any items of dual consolidated loss of $100x. Under offset the income of P or S (or the income of
income, gain, deduction, or loss from sources Country X tax laws, FBX also generates a loss. any other domestic affiliate of DRCX) on the
other than DEY. P also owns FBY, a Country Country X enacted mirror legislation to group’s consolidated U.S. income tax return.
Y foreign branch separate unit. Pursuant to prevent Country X branches of nonresident At the beginning of Year 2, DRCX sells all of
Country Y law, the losses of DEY are corporations from offsetting losses both its assets and discontinues its business
available to offset the income of FBY, and against income of Country X affiliates and operations. DRCX is then liquidated into P
vice versa. Under § 1.1503(d)–1(b)(4)(i), P’s against other income of its owner (or foreign pursuant to section 332.
interest in DEY, owned indirectly through affiliate thereof) under the tax laws of (ii) Result. Typically, under section 381, P
PRSX, is a hybrid entity separate unit. In another country. The Country X mirror would succeed to, and be permitted to
addition, under § 1.1503(d)–1(b)(4)(ii), FBY legislation prevents a Country X branch of a utilize, DRCX’s net operating loss carryover.
and P’s indirect interest in DEY are treated as nonresident corporation from offsetting its However, § 1.1503(d)–2(c)(1)(i) prohibits the
a combined separate unit. losses against the income of Country X dual consolidated loss of DRCX from carrying
(B) The United States and Country Y affiliates if such losses may be deductible over to P. Therefore, DRCX’s Year 1 net
recognize the same items of income, gain, against income (other than income of the operating loss carryover is eliminated.
deduction and loss in Years 1 and 2. In year Country X branch) under the laws of another Example 25. Dual consolidated loss
1, DEY incurs a $100x loss and FBY incurs country. limitation after section 381 transaction—
a $200x loss. Under § 1.1503(d)–3(b)(vii)(B), (ii) Result. Under § 1.1503(d)–1(b)(14)(v), liquidation of dual resident corporation. (i)
the dual consolidated loss attributable to P’s because the losses of FBX are subject to Facts. The facts are the same as in Example
combined separate unit is $250x ($50x loss Country X’s mirror legislation, there shall, 24, except as follows. DRCX’s activities

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constitute a foreign branch within the $150x Year 5 income of DRCZ constitutes Year 1 is not reduced by the amount of
meaning of § 1.367(a)–6T(g) and therefore are tainted income and may not be offset by the dividend income attributable to the interest
a foreign branch separate unit. In addition, Year 1 dual consolidated loss of DRCZ; in DE3Y.
DRCX’s foreign branch separate unit incurs however, the remaining $75x of Year 5 Example 30. Items attributable to a
the Year 1 dual consolidated loss, rather than income of DRCZ may be offset by such dual combined separate unit. (i) Facts. P owns
DRCX itself. Finally, DRCX does not sell its consolidated loss. DE1X. DE1X owns a 50% interest in PRSZ, a
assets and, following the liquidation of Example 27. Treatment of disregarded Country Z entity that is classified as a
DRCX, P continues to operate DRCX’s item. (i) Facts. P owns DE1X. In Year 1, DE1X partnership both for Country Z tax purposes
business as a foreign branch separate unit. incurs interest expense attributable to a loan and for U.S. tax purposes. FZ, a Country Z
(ii) Result. Pursuant to § 1.1503(d)– made from P to DE1X. DE1X has no other corporation unrelated to P, owns the
2(c)(2)(iii), DRCX’s Year 1 loss carryover is items of income, gain, deduction, or loss in remaining 50% interest in PRSZ. PRSZ
available to offset P’s income generated by Year 1. Because DE1X is disregarded as an conducts operations in Country X that, if
the foreign branch separate unit previously entity separate from its owner, however, the owned by a U.S. person, would constitute a
owned by DRCX (and now owned by P), interest expense is disregarded for federal tax foreign branch as defined in § 1.367(a)–6T(g).
subject to the limitations of § 1.1503(d)–3(c) purposes. Therefore, P’s share of the Country X branch
applied as if the separate unit of P generated (ii) Result. Even though DE1X is treated as owned by PRSZ constitutes a foreign branch
the dual consolidated loss. a separate domestic corporation for purposes separate unit. PRSZ also owns assets that do
Example 26. Tainted income. (i) Facts. P of determining the amount of dual not constitute a part of its Country X branch.
owns 100% of DRCZ, a domestic corporation consolidated loss pursuant to § 1.1503(d)–3 (ii) Result. (A) Pursuant to § 1.1503(d)–
that is included as a member of the P (b)(2)(i), such treatment does not cause the 1(b)(4)(ii), P’s interest in DE1X, and P’s
consolidated group. The P consolidated interest expense incurred on the loan from P indirect ownership of a portion of the
group uses the calendar year as its taxable to DE1X that is disregarded for federal tax Country X branch of PRSZ, are combined and
year. During Year 1, DRCZ was managed and purposes to be regarded for purposes of treated as one Country X separate unit.
controlled in Country Z and therefore was calculating the Year 1 dual consolidated loss, Pursuant to § 1.1503(d)–3(b)(2)(vii)(B)(1), for
subject to tax as a resident of Country Z and if any, of DE1X. Therefore, P’s interest in purposes of determining P’s items of income,
was a dual resident corporation. In Year 1, DE1X does not have a dual consolidated loss gain, deduction and loss taken into account
DRCZ generated a dual consolidated loss of in Year 1. by its combined separate unit, the items of
$200x, and P did not make a domestic use Example 28. Hybrid entity books and P are first attributed to each separate unit that
election with respect to such loss. As a result, records. (i) Facts. P owns DE1X. In Year 1, P compose the combined Country X separate
such loss is subject to the domestic use incurs interest expense attributable to a loan unit.
limitation rule of § 1.1503(d)–2(b). At the end from a third party. The third party loan and (B) Pursuant to § 1.1503(d)–3(b)(2)(ii)(A),
of Year 1, DRCZ moved its management and related interest expense are properly the principles of section 864(c)(2), as
control from Country Z to the United States recorded on the books and records of P (and modified, apply for purposes of determining
and therefore ceased being a dual resident not on the books and records of DE1X). P’s items of income, gain, deduction (other
corporation. At the beginning of Year 2, P (ii) Result. The interest expense on P’s loan than interest expense) and loss that are taken
transferred asset A, a non-depreciable asset, from the third party is not properly recorded into account in determining the taxable
to DRCZ in exchange for common stock in a on the books and records of DE1X. No portion income or loss of P’s indirect interest in the
transaction that qualified for nonrecognition of the interest expense on such loan is Country X foreign branch owned by PRSZ.
under section 351. At the time of the transfer, attributable to DE1X pursuant to § 1.1503(d)– For purposes of determining interest expense
P’s tax basis in asset A equaled $50x and the 3(b)(2)(iii) and (iv). Therefore, no portion of taken into account in determining the taxable
fair market value of asset A equaled $100x. the interest expense is taken into account for income or loss of P’s indirect interest in the
The tax basis of asset A in the hands of DRCZ purposes of calculating the Year 1 dual Country X foreign branch owned by PRSZ,
immediately after the transfer equaled $50x consolidated loss, if any, attributable to P’s the principles of § 1.882–5, subject to
pursuant to section 362. Asset A did not interest in DE1X pursuant to § 1.1503(d)– §1.1503(d)–3(b)(2)(ii)(B), shall apply. For
constitute replacement property acquired in 3(b)(2). purposes of applying the principles of
the ordinary course of business. DRCZ did Example 29. Dividend income attributable section 864(c) and § 1.882–5, P is treated as
not generate income or gain during Years 2, to a separate unit. (i) Facts. P owns DE1X. a foreign corporation, the Country X branch
3 or 4. On June 30, Year 5, DRCZ sold asset DE1X owns DE3Y. DE3Y owns CFC, a of PRSZ is treated as a trade or business
A to a third party for $100x, its fair market controlled foreign corporation. P’s interest in within the United States, and the assets of P
value at the time of the sale, and recognized DE1X would otherwise have a dual (other than those of FBX) are treated as assets
$50x of income on such sale. In addition to consolidated loss of $75x (without regard to that are not U.S. assets. In addition, pursuant
the $50x income generated on the sale of Year 1 dividend income or section 78 gross- to § 1.1503(d)–3(b)(2)(vii)(A)(1), only the
asset A, DRCZ generated $100x of operating up received from CFC) in Year 1. In Year 1, items of DE1X and PRSZ are taken into
income in Year 5. At the end of Year 5, the CFC distributes $50x to DE3Y that is taxable account for purposes of this determination.
fair market value of all the assets of DRCZ as a dividend. DE3Y distributes the same (C) For purposes of determining the items
was $400x. amount to DE1X. P computes foreign taxes of income, gain, deduction and loss that are
(ii) Result. DRCZ ceased being a dual deemed paid on the dividend under section attributable to DE1X and, therefore,
resident corporation at the end of Year 1. 902 of $25x and includes that amount in attributable to P’s interest in DE1X, only
Therefore, its Year 1 dual consolidated loss gross income under section 78 as a dividend. those items that are properly reflected on the
cannot be offset by tainted income. Asset A (ii) Result. The $75x of dividend income books and records of DE1X, as adjusted to
is a tainted asset because it was acquired in ($50x distribution plus $25x section 78 gross- conform to U.S. tax principles, are taken into
a nonrecognition transaction after DRCZ up) is properly recorded on the books and account. For this purpose, DE1X’s
ceased being a dual resident corporation (and records of DE3Y, as adjusted to conform to distributive share of the items of income,
was not replacement property acquired in the U.S. tax principles. Accordingly, for gain, deduction and loss that are properly
ordinary course of business). As a result, the purposes of determining whether the interest reflected on the books and records of PRSZ,
$50x of income recognized by DRCZ on the in DE3Y has a dual consolidated loss, the as adjusted to conform to U.S. tax principles,
disposition of asset A is tainted income and $75x dividend income from CFC is an item are treated as being reflected on the books
cannot be offset by the Year 1 dual of income attributable to DE3Y, a disregarded and records of DE1X, except to the extent
consolidated loss of DRCZ. In addition, entity, and therefore is an item attributable to such items are taken into account by the
absent evidence establishing the actual the interest in DE3Y. The distribution of $50x Country X branch of PRSZ, as provided
amount of tainted income, $25x of the $100x from DE3Y to DE1X is generally not regarded above.
Year 5 operating income of DRCZ (($100x/ for tax purposes and therefore does not give (D) Pursuant to § 1.1503(d)–
$400x) × $100x) also is treated as tainted rise to an item that is taken into account for 3(b)(2)(vii)(B)(2), the combined Country X
income and cannot be offset by the Year 1 purposes of calculating a dual consolidated separate unit of P calculates its dual
dual consolidated loss of DRCZ under loss. As a result, the dual consolidated loss consolidated loss by taking into account all
§ 1.1503(d)–2(d)(2)(ii). Therefore, $75x of the of $75x attributable to P’s interest in DE1X in the items of income, gain deduction and loss

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that were separately taken into account by P’s a result, such items will be taken into a loss incurred by a separate corporation and
interest in DE1X and the Country X branch account in determining whether an interest is subject to the limitations under
of PRSZ owned indirectly by P. in either entity has a dual consolidated loss § 1.1503(d)–3(c)(3).
Example 31. Sale of branch by domestic in the year of the sale and for purposes of (ii) Result. (A) P must compute its taxable
owner. (i) Facts. P owns FBX. FBX has a rebutting the amount of recapture of any dual income for Year 1 without taking into
$100x dual consolidated loss in Year 1. P consolidated loss (for which a domestic use account the $50x dual consolidated loss
makes a domestic use election with respect election was made) of DE1X from a prior year, attributable to P’s interest in DE1X. Such
to such dual consolidated loss. In Year 2, P if any, pursuant to § 1.1503(d)–4(h)(2)(i). amount consists of a pro rata portion of the
sells FBX and recognizes $75x of gain as a Example 34. Gain on sale of tiered separate expenses that were taken into account by
result of such sale. The sale is a triggering units. (i) Facts. P owns 75% of HPSX, a DE1X in calculating its Year 1 dual
event of the Year 1 dual consolidated loss Country X entity subject to Country X tax on consolidated loss. Thus, the items of the dual
under § 1.1503(d)–4(e)(1). its worldwide income. FX, a an unrelated consolidated loss that are not taken into
(ii) Result. Pursuant to § 1.1503(d)– foreign corporation, owns the remaining 25% account by P in computing its taxable income
3(b)(2)(vii)(C), the gain on the sale of FBX is of HPSX. HPSX is classified as a partnership are as follows: $25x of salary expense ($75x/
attributable to FBX for purposes of for U.S. income tax purposes. HPSX owns $150x × $50x); $16.67x of research and
calculating the Year 2 dual consolidated loss operations in Country Y that, if owned by a experimental expense ($50x/$150x × $50x);
(if any) of FBX, and for purposes of U.S. person, would constitute a foreign and $8.33x of interest expense ($25x/$150x
determining FBX’s Year 2 taxable income for branch within the meaning of § 1.367(a)– × $50x). The remaining amounts of each of
purposes of rebutting the amount of the Year 6T(g). HPSX also owns assets that do not these items, together with the $100x of sales
1 dual consolidated loss to be recaptured constitute a part of its Country Y branch. P’s income, are taken into account by P in
pursuant to § 1.1503(d)–4(h)(2)(i). Assuming indirect interest in the Country Y branch computing its taxable income for Year 1 as
FBX has no other items of income, gain, owned by HPSX, and P’s interest in HPSX, are follows: $50x of salary expense ($75x¥$25x);
deduction and loss in Year 2, only $25x of each separate units. P sells its interest in $33.33x of research and experimental
the Year 1 dual consolidated loss must be HPSX and recognizes a gain of $150x on such expense ($50x¥$16.67x); and $16.67x of
recaptured. sale. Immediately prior to P’s sale of its interest expense ($25x¥$8.33x).
Example 32. Sale of separate unit by interest in HPSX, P’s indirect interest in (B) Subject to the limitations provided
another separate unit. (i) Facts. P owns DE1X. HPSX’s Country Y branch had a net built-in under § 1.1503(d)–3(c)(3), the $50x dual
DE1X owns DE3Y. DE1X sells its interest in gain of $200x, and P’s pro rata portion of consolidated loss generated by DE1X in Year
DE3Y at the end of Year 1 to an unrelated HPSX’s other assets had a net built-in gain of 1 is carried forward and is available to offset
third party. The sale resulted in an ordinary $100x. the $10x of income generated by DE1X in
loss of $30x. Without regard to the sale of (ii) Result. Pursuant to § 1.1503(d)– Year 2. A pro rata portion of each item of
DE3Y, no items of income, gain, deduction or 3(b)(2)(vii)(C), $100x of the total $150x of deduction or loss included in such dual
loss are attributable to the interest of DE3Y gain recognized ($200x/$300x × $150x) is consolidated loss is considered to be used to
in Year 1. taken into account for purposes of offset the $10x of income, as follows: $5x of
(ii) Result. Pursuant to § 1.1503(d)– determining the taxable income of P’s salary expense ($25x/$50x × $10x); $3.33x of
3(b)(2)(vii)(C), the $30x loss recognized on indirect interest in its share of the Country research and experimental expense ($16.67x/
the sale is attributable to the interest in DE3Y, Y branch owned by HPSX. Thus, such $50x × $10x); and $1.67x of interest expense
and not the interest in DE1X. In addition, the amount will be taken into account in ($8.33x/$50x × $10x). The remaining amount
loss attributable to the sale creates a Year 1 determining whether it has a dual of each item shall continue to be subject to
dual consolidated loss attributable to the consolidated loss in the year of the sale and the limitations under § 1.1503(d)–3(c)(3).
interest in DE3Y. Pursuant to § 1.1503(d)– for purposes of rebutting the amount of dual Example 36. Basis adjustment rule—year
4(d)(3)(i), P cannot make a domestic use consolidated loss recapture, if any, pursuant of dual consolidated loss. (i) Facts. (A) In
election with respect to the Year 1 dual to § 1.1503(d)–4(h)(2)(i). Similarly, $50x of addition to S, P owns S1, a domestic
consolidated loss attributable to the interest such gain ($100x/$300x × $150x) is corporation. S owns DRCX and DRCX, in turn,
in DE3Y because the sale of the interest in attributable to P’s interest in HPSX and will owns FSX. S, S1 and DRCX are each members
DE3Y is described in § 1.1503(d)–4(e)(1). As be taken into account in determining whether of the P consolidated group. W and Y are
a result, although the Year 1 dual it has a dual consolidated loss in the year of unrelated corporations that are not members
consolidated loss would otherwise be subject sale, and for purposes of rebutting the of the P consolidated group.
to the domestic use limitation rule of amount of recapture, if any, pursuant to (B) At the beginning of Year 1, P has a basis
§ 1.1503(d)–2(b), it is eliminated pursuant to § 1.1503(d)–4(h)(2)(i). of $1,000x in the stock of S. S has a $500x
§ 1.1503(d)–2(c)(1)(ii). Example 35. Effect on domestic affiliate. (i) basis in the stock of DRCX.
Example 33. Gain and loss on sale of tiered Facts. (A) P owns DE1X. In Years 1 and 2, the (C) In Year 1, DRCX incurs interest expense
separate units. (i) Facts. P owns DE1X. DE1X items of income, gain, deduction, and loss in the amount of $100x. In addition, DRCX
owns DE3Y. P sells its interest in DE1X to an that are attributable to P’s interest in DE1X for sells a noncapital asset, u, in which it has a
unrelated third party. As a result of this sale, purposes of determining whether such basis of $10x, to S1 for $50x. DRCX also sells
P recognizes $25x of net gain, consisting of interest has a dual consolidated loss for each a noncapital asset, v, in which it has a basis
$75 of income and $50 of loss. If DE1X sold year, pursuant to § 1.1503(d)–3(b)(2), are as of $200x, to S1 for $100x. The sales of u and
its assets in a taxable transaction follows: v are intercompany transactions described in
immediately before the sale of P’s interest in § 1.1502–13. DRCX also sells a capital asset,
DE1X, DE1X would have recognized $75x of Item Year 1 Year 2 z, in which it has a basis of $180x, to Y for
income. In addition, if DE3Y had sold its $90x. In Year 1, S1 earns $200x of separate
assets in a taxable transaction immediately Sales income ............ $100x $160x taxable income, calculated in accordance
before the sale of P’s interest in DE1X, DE3Y Salary expense ......... (75x) (75x) with § 1.1502–12, as well as $90x of capital
would have recognized a $50x loss. Research and experi- gain from a sale of an asset to W. P and S
(ii) Result. Pursuant to sect; 1.1503(d)– mental expense ..... (50x) (50x) have no items of income, gain, deduction or
3(b)(2)(vii)(C), the $75x of income and $50x Interest expense ....... (25x) (25x) loss for Year 1.
of loss must be allocated to the interests of (D) In Year 1, DRCX has a dual
DE1X and DE3Y based on the amount of gain Income/(dual consolidated loss of $100x (attributable to its
or loss that would be recognized if such consolidated interest expense). The sale of non-capital
entities sold their assets in a taxable loss) ............... (50x) 10x assets u and v to S1, which are intercompany
exchange for an amount equal to their fair transactions, are not taken into account in
market value immediately before P sold its (B) P does not make a domestic use calculating DRCX’s dual consolidated loss.
interest in DE1X. Therefore, $75x of gain and election with respect to DE1X’s Year 1 dual Pursuant to § 1.1503(d)–3(b)(1), DRCX’s $90x
$50x of loss recognized by P on the sale of consolidated loss. Pursuant to §§ 1.1503(d)– capital loss also is not included in the
its interest DE1X are attributable to the 2(b) and 1.1503(d)–3(c)(2), DE1X’s Year 1 computation of the dual consolidated loss.
interests in DE1X and DE3Y, respectively. As dual consolidated loss of $50x is treated as Instead, DRCX’s capital loss is included in

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the computation of the consolidated group’s (C) Since DRCX does not have a dual Country X tax purposes, DE1X also generates
capital gain net income under § 1.1502–22(c) consolidated loss for Year 2, the group’s $75x of sales income in Year 1, but the $100x
and is used to offset S1’s $90x capital gain. consolidated taxable income for the year is of depreciation expense is not deductible in
(E) For Country X tax purposes, DRCX’s calculated in accordance with the general Year 1. Instead, for Country X tax purposes
$100x loss is available to offset the income rule of § 1.1502–11, and not in accordance the $100x of depreciation expense is
of FSX, a foreign corporation, and therefore with § 1.1503(d)–3(c). In addition, DRCX is deductible in Year 2. P does not make a
constitutes a foreign use. As a result, DRCX the only member of the consolidated group domestic use election with respect to the
is not eligible to make a domestic use that has any income or loss for the taxable Year 1 dual consolidated loss attributable to
election pursuant to § 1.1503(d)–4(d), and the year. Thus, the consolidated taxable income P’s interest in DE1X.
$100x Year 1 dual consolidated loss of DRCX of the group, computed without regard to (ii) Result. The Year 1 $25x net loss of
is subject to the domestic use limitation rule DRCX’s dual consolidated loss carryover, is DE1X constitutes a dual consolidated loss
of § 1.1503(d)–2(b). $40x. attributable to P’s interest in DE1X. In
(ii) Result. (A) Because DRCX has a dual (ii) Result. (A) As provided under addition, even though DE1X has positive
consolidated loss for the year, the § 1.1503(d)–3(c), the portion of the $100x income in Year 1 for Country X tax purposes,
consolidated taxable income of the dual consolidated loss arising in Year 1 that P cannot demonstrate that there is no
consolidated group is calculated without is included in the group’s consolidated net possibility of foreign use of its dual
regard to DRCX’s items of loss or deduction operating loss deduction for Year 2 is $40x. consolidated loss as provided under
taken into account in computing its dual Thus, the P group has no consolidated § 1.1503(d)–4(c)(1)(i). P cannot make such a
consolidated loss (that is, the $100x of taxable income for the year. demonstration because the depreciation
interest expense). Therefore, the consolidated (B) Pursuant to § 1.1503(d)–3(d)(1)(ii), S expense, an item composing the Year 1 dual
taxable income of the consolidated group is does not make a negative adjustment to its consolidated loss, is deductible (in a later
$200x (the sum of $200x of separate taxable basis in DRCX stock for the $40x of Year 1 year) for Country X tax purposes and,
income earned by S1, plus $90x of capital dual consolidated loss that is absorbed in therefore, may be available to offset or reduce
gain earned by S1, minus $90x of capital loss Year 2. However, pursuant to § 1.1502–32(b), income for Country X purposes that would
incurred by DRCX). The $40x gain of DRCX S does make a $40x net positive adjustment constitute a foreign use. For example, if DE1X
upon the sale of item u to S1, and the $100x to its basis in DRCX stock, increasing its basis elected to be classified as a corporation
loss of DRCX upon the sale of item v to S1, from $310x to $350x. In addition, as pursuant to § 301.7701–3(c) of this chapter
are deferred pursuant to § 1.1502–13(c). provided in § 1.1502–32(a)(3)(iii), the effective as of the end of Year 1, and the
(B) Pursuant to § 1.1503(d)–3(d)(1)(i), S adjustments in the DRCX stock made by S are deferred depreciation expense were available
must make a negative adjustment under taken into account in determining P’s basis for Country X tax purposes to offset Year 2
§ 1.1502–32(b)(2) to its basis in the stock of in its S stock. Since S has no other items of income of DE1X, an entity treated as a foreign
DRCX for the $100x dual consolidated loss income, gain, deduction or loss for the corporation in Year 2 for U.S. tax purposes,
incurred by DRCX. In addition, S must make taxable year, P must only make a positive there would be a foreign use. P could,
a negative adjustment under § 1.1502– adjustment to its basis in the stock of S for however, make a domestic use election
32(b)(2) in the basis of the DRCX stock for to account for the tiering-up of adjustments pursuant to § 1.1503(d)–4(d) with respect to
DRCX’s $90x capital loss because the loss has for the taxable year pursuant to § 1.1502– the Year 1 dual consolidated loss.
been absorbed by the consolidated group. 32(a)(3)(iii). Thus, P must make a $40x net Example 40. No exception to domestic use
Thus, S must make a $190x net negative positive adjustment to its basis in S stock, limitation—inability to demonstrate no
adjustment to its basis in the stock of DRCX, increasing its basis from $810x to $850x. possibility of foreign use because items are
reducing its basis from $500x to $310x. As Example 38. Exception to domestic use deferred and not deducted or capitalized
provided in § 1.1502–32(a)(3)(iii), the under foreign law. (i) Facts. P owns DE1X. In
limitation—no possibility of foreign use
adjustments in the DRCX stock made by S are Year 1, the sole items of income, gain,
because items are not deducted or
taken into account in determining P’s basis deduction or loss attributable to P’s interest
capitalized under foreign law. (i) Facts. P
in its S stock. Since S has no items of in DE1X as provided in § 1.1503(d)–3(b)(2)
owns DE1X. In Year 1, the sole item of
income, gain, deduction or loss for the are $75x of sales income, $100x of interest
income, gain, deduction or loss attributable
taxable year, P must only make a negative expense and $25x of depreciation expense.
to P’s interest in DE1X as provided under
adjustment to its basis in the stock of S to For Country X tax purposes, DE1X generates
§ 1.1503(d)–3(b)(2) is $100x of interest
account for the tiering-up of adjustments for $75x of sales income in Year 1, but the $100x
expense. For Country X tax purposes, the
the taxable year pursuant to § 1.1502– interest expense is treated as a repayment of
$100x interest expense attributable to P’s
32(a)(3)(iii). Thus, P must make a $190x net principal and therefore cannot be deducted
interest in DE1X in Year 1 is treated as a (at any time) or capitalized. In addition, for
negative adjustment to its basis in S stock, repayment of principal and therefore cannot
reducing its basis from $1,000x to $810x. Country X tax purposes the $25x of
be deducted (at any time) or capitalized. depreciation expense is not deductible in
Example 37. Basis adjustment rule— (ii) Result. The $100x of interest expense Year 1, but is deductible in Year 2.
subsequent income of dual resident attributable to P’s interest in DE1X constitutes (ii) Result. The Year 1 $50x net loss of
corporation. (i) Facts. (A) The facts are the a dual consolidated loss. However, because DE1X constitutes a dual consolidated loss
same as in Example 36, except as follows. In the sole item constituting the dual attributable to P’s interest in DE1X. Even
Year 2, S1 sells items u and v to W for no consolidated loss cannot be deducted or though the $100x interest expense, a
gain or loss. The disposition of items u and capitalized for Country X tax purposes, P can nondeductible and noncapital item for
v outside of the P consolidated group causes demonstrate that there can be no foreign use Country X tax purposes, exceeds the $50x
the intercompany gain and loss of DRCX of the dual consolidated loss at any time. As Year 1 dual consolidated loss of DE1X, P
attributable to u and v to be taken into a result, pursuant to § 1.1503(d)–4(c)(1), if P cannot demonstrate that there is no
account pursuant to § 1.1502–13(c). DRCX prepares a statement described in possibility of foreign use of the dual
also incurs $100x of interest expense in Year § 1.1503(d)–4(c)(2) and attaches it to its consolidated loss as provided under
2. In addition, DRCX sells a noncapital asset, timely filed tax return, the Year 1 dual § 1.1503(d)–4(c)(1)(i). P cannot make such a
r, in which it has a basis of $100x, to Y for consolidated loss of DE1X will not be subject demonstration because the $25x depreciation
$300x. P and S have no items of income, loss, to the domestic use limitation rule of expense, an item of deduction or loss
or deduction for Year 2. § 1.1503(d)–2(b). composing the Year 1 dual consolidated loss,
(B) DRCX has $40x of separate taxable Example 39. No exception to domestic use is deductible under Country X law (in Year
income in Year 2, computed as follows: limitation—inability to demonstrate no 2) and, therefore, may be available to offset
possibility of foreign use because items are or reduce income for Country X purposes
Interest Expense ........................... ($100x) deferred under foreign law. (i) Facts. P owns that would constitute a foreign use. P could,
Sale of Item v to S1 ..................... (100x) DE1X. In Year 1, the sole items of income, however, make a domestic use election
Sale of Item u to S1 ..................... 40x gain, deduction or loss attributable to P’s pursuant to § 1.1503(d)–4(d) with respect to
Sale of Item r to Y ....................... 200x interest in DE1X as provided under the Year 1 dual consolidated loss.
§ 1.1503(d)–3(b)(2) are $75x of sales income Example 41. Consistency rule—deemed
Net Income/(Loss) ................. 40x and $100x of depreciation expense. For foreign use. (i) Facts. P owns DRCX, a

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member of the P consolidated group, FBX, liabilities. For U.S. tax purposes, DE1X’s tax not be required to recapture the Year 1 dual
and FSX. In Year 1, DRCX incurs a dual basis in A at the beginning of Year 1 is $100x consolidated loss. Pursuant to § 1.1503(d)–
consolidated loss, which is used to offset the and DE1X’s sole item of income, gain, 4(i)(1), if such a demonstration is made, the
income of FSX under the Country X form of deduction and loss for Year 1 is a $20x domestic use agreement filed by the P
consolidation. FBX also incurs a dual depreciation deduction attributable to A. As consolidated group with respect to the Year
consolidated loss in Year 1. However, P a result, DE1X’s Year 1 $20x depreciation 1 dual consolidated loss of DE1X is
elects not to use the FBX loss on a Country deduction constitutes a dual consolidated terminated pursuant to § 1.1503(d)–4(i)(1)
X consolidated return to offset the income of loss attributable to P’s interest in DE1X. P and has no further effect (absent a rebuttal,
Country X affiliates. makes a domestic use election with respect the domestic use agreement would terminate
(ii) Result. The use of DRCX’s dual to DE1X’s Year 1 dual consolidated loss. pursuant to § 1.1503(d)–4(i)(3)).
consolidated loss to offset the income of FSX (B) For Country X tax purposes, DE1X has Example 46. Termination of consolidated
for Country X purposes constitutes a foreign a $100x tax basis in A at the beginning of group not a triggering event if acquirer files
use. Pursuant to § 1.1503(d)–4(d)(2), this Year 1, but A is not a depreciable asset. As a new domestic use agreement. (i) Facts. P
foreign use results in a foreign use of the dual a result, DE1X does not have any items of owns DRCX, a member of the P consolidated
consolidated loss of FBX. Therefore, the dual income, gain, deduction or loss in Year 1 for group. The P consolidated group uses the
consolidated loss attributable to FBX is Country X tax purposes. calendar year as its taxable year. In Year 1,
subject to the domestic use limitation rule of (C) At the beginning of Year 2, P sells its DRCX incurs a dual consolidated loss and P
§ 1.1503(d)–2(b), and P cannot make a interest in DE1X to F, an unrelated foreign makes a domestic use election with respect
domestic use election with respect to such person, for $80x. P’s disposition of its to such loss. No member of the P
loss. interest in DE1X constitutes a presumptive consolidated group incurs a dual
Example 42. Consistency rule—no foreign triggering event under § 1.1503(d)–4(e)(1) consolidated loss in Year 2. On December 31,
use permitted. (i) Facts. The facts are the requiring the recapture of the $20x dual Year 2, T, the parent of the T consolidated
same as in Example 41, except that the consolidated loss (plus the applicable group acquires all the stock of P, and all the
income tax laws of Country X do not permit interest charge). For Country X tax purposes, members of the P group, including DRCX,
Country X branches of foreign corporations to DE1X retains its tax basis of $100x in A become members of a consolidated group of
file consolidated income tax returns with following the sale. which T is the common parent.
Country X affiliates. (ii) Result. The Year 1 dual consolidated (ii) Result. (A) Under § 1.1503(d)–
(ii) Result. The consistency rule does not loss is a result of the $20x depreciation 4(f)(2)(ii)(B), the acquisition by T of the P
apply with respect to the dual consolidated deduction attributable to A. Although no consolidated group is not an event described
loss of FBX because the income tax laws of item of loss or deduction was recognized by in § 1.1503(d)–4(e)(1) requiring the recapture
Country X do not permit a foreign use for DE1X by the time of the sale for Country X of the Year 1 dual consolidated loss of DRCX
such dual consolidated loss. Therefore, P tax purposes, the deduction composing the (and the payment of an interest charge),
may make a domestic use election for the dual consolidated loss was retained by DE1X provided that the T consolidated group files
dual consolidated loss attributable to FBX. after the sale in the form of tax basis in A. a new domestic use agreement described in
Example 43. Triggering event rebuttal— As a result, a portion of the dual consolidated § 1.1503(d)–4(f)(2)(iii)(A). If a new domestic
expiration of losses in foreign country. (i) loss may offset income for Country X use agreement is filed, then pursuant to
Facts. P owns DRCX, a member of the P purposes in a manner that would constitute § 1.1503(d)–4(i)(2), the domestic use
consolidated group. In Year 1, DRCX incurs a foreign use. For example, if DE1X were to agreement filed by the P consolidated group
a dual consolidated loss of $100x. P makes dispose of A, the amount of gain recognized with respect to the Year 1 dual consolidated
a domestic use election with respect to by DE1X would be reduced and, therefore, an loss of DRCX is terminated and has no further
DRCX’s Year 1 dual consolidated loss and item composing the dual consolidated loss effect.
such loss therefore is included in the would reduce foreign income of an owner of (iii) If a triggering event occurs on
computation of the P group’s consolidated an interest in a hybrid entity that is not a December 31, Year 3, the T consolidated
taxable income. DRCX has no income or loss separate unit. Thus, P cannot demonstrate group must recapture the dual consolidated
in Year 2 through Year 6. In Year 7, P sells pursuant to § 1.1503(d)–4(e)(2) that there can loss that DRCX incurred in Year 1 (and pay
the stock of DRCX to an unrelated party. At be no foreign use of the Year 1 dual an interest charge), as provided in
the time of the sale of the stock of DRCX, all consolidated loss following the triggering § 1.1503(d)–4(h). Each member of the T
of the losses and deductions that were event and must recapture the Year 1 dual consolidated group, including DRCX and any
included in the computation of the Year 1 consolidated loss. Pursuant to § 1.1503(d)– former members of the P consolidated group,
dual consolidated loss of DRCX had expired 4(i)(3), the domestic use agreement filed by is severally liable for the additional tax (and
for Country X purposes because the laws of the P consolidated group with respect to the the interest charge) due upon the recapture
Country X only provide for a five year Year 1 dual consolidated loss of DE1X is of the dual consolidated loss of DRCX. In
carryover period of such items. terminated and has no further effect. addition, pursuant to § 1.1503(d)–4(i)(3), the
(ii) Result. The sale of DRCX to the Example 45. Ability to rebut triggering new domestic use agreement filed by the T
unrelated party generally would be a event—taxable asset sale. (i) Facts. The facts group with respect to the Year 1 dual
triggering event under § 1.1503(d)–4(e)(1)(ii), are the same as Example 44, except that consolidated loss of DRCX is terminated and
which would require the recapture of the instead of P selling its interests in DE1X to has no further effect.
Year 1 dual consolidated loss (and an F, DE1X sells asset A to F for $80x. Such sale Example 47. No triggering event if
applicable interest charge). However, upon constitutes a presumptive triggering event consolidated group remains in existence in
adequate documentation that the losses and under § 1.1503(d)–4(e)(1). For Country X tax connection with a reverse acquisition. (i)
deductions have expired for Country X purposes, F’s tax basis in A is $80x. Facts. S owns FBX. FBX incurs a dual
purposes, P can rebut the presumption that (ii) Result. The Year 1 dual consolidated consolidated loss of $100x in Year 1 and P
a triggering event has occurred pursuant to loss attributable to P’s interest in DE1X is a makes a domestic use election with respect
§ 1.1503(d)–4(e)(2). Pursuant to § 1.1503(d)– result of the $20x depreciation deduction to such loss. At the end of Year 2, P merges
4(i)(1), if the triggering event presumption is attributable to A. For Country X tax purposes, into T, the common parent of the T
rebutted, the domestic use agreement filed by however, F’s tax basis in A was not consolidated group, which includes U as a
the P consolidated group with respect to the determined, in whole or in part, by reference member. The shareholders of P immediately
Year 1 dual consolidated loss of DRCX is to the basis of A in the hands of DE1X. As before the merger, as a result of owning stock
terminated and has no further effect (absent a result, the deduction composing the dual in P, own 60% of the fair market value of T’s
a rebuttal, the domestic use agreement would consolidated loss will not give rise to an item stock immediately after the merger.
terminate pursuant to § 1.1503(d)–4(i)(3)). of deduction or loss in the form of tax basis (ii) Result. The P group is treated as
Example 44. Inability to rebut triggering for Country X purposes (for example, when continuing in existence under § 1.1502–
event—tax basis carryover transaction. (i) F disposes of A). Therefore, P may be able 75(d)(3) with T and U being added as
Facts. (A) P owns DE1X. DE1X’s sole asset is to demonstrate pursuant to § 1.1503(d)– members of the P group, and T taking the
A, which it acquired at the beginning of Year 4(e)(2) that there can be no foreign use of the place of P as the common parent. The merger
1 for $100x. DE1X does not have any Year 1 dual consolidated loss and, thus, may of P into T does not constitute a triggering

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29906 Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules

event with respect to the dual consolidated Pursuant to § 1.1503(d)–4(h)(3)(iv)(A), the sourced as follows: $4x of domestic source
loss in Year 1 pursuant to § 1.1503(d)– recapture tax amount is assessed as an income (($25x/$125x) x $20x); $14.4x of
4(e)(1)(ii) because the P consolidated group, income tax liability of the T consolidated foreign source general limitation income
which owned FBX, continues to exist. group and is considered as having been (($75x+$15x)/$125x)x$20x); and $1.6x of
Example 48. Triggering event exception— properly assessed as an income tax liability foreign source passive income (($10x/$125x)
acquisition of assets by domestic owner. (i) of the P consolidated group. If the T × $20x). Pursuant to § 1.1503(d)–4(i)(3), the
Facts. P owns DE1X. In Year 1, DE1X incurs consolidated group does not pay in full the domestic use agreement filed by the P
a loss of $100x and, as a result, P’s interest income tax liability attributable to the consolidated group with respect to the Year
in DE1X has a Year 1 dual consolidated loss recapture tax amount, the unpaid balance of 1 dual consolidated of DE1X is terminated
of $100x. P makes a domestic use election such recapture tax amount may be collected and has no further effect.
with respect to the Year 1 dual consolidated from the P consolidated group in accordance Example 51. Interest charge without
loss and such loss therefore is included in with the provisions of § 1.1503(d)– recapture. (i) Facts. P owns DE1X. In Year 1,
the computation of the P group’s 4(h)(3)(iv)(B). Pursuant to § 1.1503(d)–4(i)(3), a dual consolidated loss of $100x is
consolidated taxable income. In Year 3, DE1X the new domestic use agreement filed by the attributable to P’s interest in DE1X. P makes
dissolves and surrenders its Country X T consolidated group is terminated and has a domestic use election with respect to the
corporate charter. Pursuant to its dissolution, no further effect. Year 1 dual consolidated loss and uses the
DE1X distributes its assets and liabilities to Example 50. Character and source of loss to offset the P group’s consolidated
P and the shares of DE1X are cancelled. recapture income. (i) Facts. (A) P owns DE1X. taxable income. DE1X earns income of $100x
(ii) Result. The disposition of the assets of In Year 1, the items of income, gain, in Year 2. At the end of Year 2, DE1X
DE1X (and the disposition of P’s interest in deduction, and loss that are attributable to undergoes a triggering event within the
DE1X) as a result of the dissolution generally P’s interest in DE1X for purposes of meaning of § 1.1503(d)–4(e)(1). P
would be a triggering event under determining whether such interest has a dual demonstrates, to the satisfaction of the
§ 1.1503(d)–4(e)(1). However, because the consolidated loss are as follows: Commissioner, that taking into the limitation
assets of DE1X are acquired by P, its domestic of § 1.1503(d)–3(c)(3) (modified SRLY
owner, as a result of the dissolution, the Sales income ................................ $100x limitation), the Year 1 $100x dual
dissolution does not constitute a triggering Salary expense ............................. (75x) consolidated loss would have been offset by
event under § 1.1503(d)–4(f)(1). Interest expense ........................... (50x) the $100x Year 2 income.
Example 49. Subsequent elector rules. (i) (ii) Result. There is no recapture of the
Facts. P owns DRCX, a member of the P Dual consolidated loss .. (25x) Year 1 dual consolidated loss attributable to
consolidated group. The P consolidated (B) P makes a domestic use election with P’s interest in DE1 because it is reduced to
group uses the calendar year as its taxable respect to the Year 1 dual consolidated loss zero under § 1.1503(d)–4(h)(2)(i). However, P
year. In Year 1, DRCX incurs a dual attributable to P’s interest in DE1X and, thus, is liable for one year of interest charge under
consolidated loss and P makes a domestic the $25x dual consolidated loss is included § 1.1503(d)–4(h)(1)(ii), even though P’s
use election with respect to such loss. No in the computation of P’s taxable income. recapture amount is zero. Pursuant to
member of the P consolidated group incurs (C) Pursuant to § 1.861–8, the $75x of § 1.1503(d)–4(i)(3), the domestic use
a dual consolidated loss in Year 2. On salary expense incurred by DE1X is allocated agreement filed by the P consolidated group
December 31, Year 2, T, the parent of the T and apportioned entirely to foreign source with respect to the Year 1 dual consolidated
consolidated group that also uses the general limitation income. Pursuant to of DE1X is terminated and has no further
calendar year as its taxable year, acquires all § 1.861–9T, $25x of the $50x interest expense effect.
the stock of DRCX for cash. attributable to DE1X is allocated and Example 52. Reduced recapture and
(ii) Result. (A) Under § 1.1503(d)– apportioned to domestic source income, $15x interest charge, and reconstituted dual
4(f)(2)(i)(A), the acquisition by T of DRCX is of such interest expense is allocated and consolidated loss. (i) Facts. P owns DRCX, a
not an event described in § 1.1503(d)–4(e)(1) apportioned to foreign source general member of the P consolidated group. In Year
requiring the recapture of the Year 1 dual limitation income, and the remaining $10x of 1, DRCX incurs a dual consolidated loss of
consolidated loss of DRCX (and the payment such interest expense is allocated and $100x and P earns $100x. P makes a domestic
of an interest charge), provided: (1) the T apportioned to foreign source passive use election with respect to DRCX’s Year 1
consolidated group files a new domestic use income. dual consolidated loss. Therefore, the
agreement described in § 1.1503(d)–4 (D) During Year 2, DE1X generates $5x of consolidated group is permitted to offset P’s
(f)(2)(iii)(A) with respect to the Year 1 dual income, an amount which the $25x dual $100x of income with DRCX’s $100x loss. In
consolidated loss of DRCX; and (2) the P consolidated loss generated by DE1X in Year Year 2, DRCX earns $30x, which is
consolidated group files a statement 1 would have offset if such loss had been completely offset by a $30x net operating loss
described in § 1.1503(d)–4(f)(2)(iii)(B) with subject to the separate return limitation year incurred by P in Year 2. In Year 3, DRCX
respect to the Year 1 dual consolidated loss restrictions as provided under § 1.1503(d)– earns income of $25x, while P recognizes no
of DRCX. If these requirements are satisfied, 3(c)(3). income or loss. In addition, there is a
then pursuant to § 1.1503(d)–4(i)(2) the (E) At the beginning of Year 3, DE1X triggering event at the end of Year 3.
domestic use agreement filed by the P undergoes a triggering event within the (ii) Result. (A) Under the presumptive rule
consolidated group with respect to the Year meaning of § 1.1503(d)–4(e)(1). Pursuant to of § 1.1503(d)–4(h)(1)(i), DRCX must
1 dual consolidated loss of DRCX is § 1.1503(d)–4(h)(2)(i), P demonstrates, to the recapture $100x. However, the $100x
terminated and has no further effect (if such satisfaction of the Commissioner, that the $5x recapture amount may be reduced by the
requirements are not satisfied, the domestic generated by DE1X in Year 2 qualifies to amount by which the dual consolidated loss
use agreement would terminate pursuant to reduce the amount that P must recapture as would have offset other taxable income if it
§ 1.1503(d)–4(i)(3). a result of the triggering event. had been subject to the limitation under
(B) Assume a triggering event occurs on (ii) Result. P must recapture and report as § 1.1503(d)–3(c)(3), upon adequate
December 31, Year 3, that requires recapture income $20x ($25x¥$5x) of DE1X’s Year 1 documentation of such offset under
by the T consolidated group of the dual dual consolidated loss, plus applicable § 1.1503(d)–4(h)(2)(i).
consolidated loss that DRCX incurred in Year interest, on its Year 3 tax return. Pursuant to (B) Although DRCX earned $30x of income
1, as well as the payment of an interest § 1.1503(d)–4(h)(5), the recapture income is in Year 2, there was no consolidated taxable
charge, as provided in § 1.1503(d)–4(h). In treated as ordinary income whose source and income in such year. As a result, the $100x
that case, each member of the T consolidated character (including section 904 separate of recapture income cannot be reduced by the
group, including DRCX, is severally liable for limitation character) is determined by $30x earned in Year 2, but such amount can
the additional tax (and the interest charge) reference to the manner in which the be carried forward to subsequent taxable
due upon the recapture of the Year 1 dual recaptured items of expense or loss taken years and be used to the extent of
consolidated loss of DRCX. The T into account in calculating the dual consolidated taxable income generated in
consolidated group must prepare a statement consolidated loss were allocated and such years. In Year 3, DRCX earns $25x of
that computes the recapture tax amount as apportioned. Accordingly, P’s $20x of income and the P consolidated group has $25
provided under § 1.1503(d)–4(h)(3)(iii). recapture income is characterized and of consolidated taxable income in such year.

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Federal Register / Vol. 70, No. 99 / Tuesday, May 24, 2005 / Proposed Rules 29907

As a result, the $100x of recapture income will start from Year 1, when the dual regulations are published as final
can be reduced by the $25x. The $30x consolidated loss was incurred. Pursuant to regulations in the Federal Register.
generated in Year 2 cannot be used in Year § 1.1503(d)–4(i)(3), the domestic use
agreement filed by the P consolidated group Par. 4. In § 1.6043–4T, paragraph
3 because there is insufficient consolidated
taxable income in such year. with respect to the Year 1 dual consolidated (a)(1)(iii) is amended by removing the
(C) Commencing in Year 4, the $75x of DE1X is terminated and has no further language ‘‘§ 1.1503–2(c)(2)’’ and adding
recapture amount ($100x¥$25x) is effect. ‘‘§ 1.1503(d)–1(b)(2)’’ in its place.
reconstituted and treated as a loss incurred Mark E. Matthews,
§ 1.1503(d)–6 Effective date.
by DRCX in a separate return limitation year,
subject to the limitation under § 1.1503(d)– Sections 1.1503(d)–1 through Deputy Commissioner for Services and
2(b) (and therefore subject to the restrictions 1.1503(d)–5 shall apply to dual Enforcement.
of § 1.1503(d)–3(c)(3)). The carryover period consolidated losses incurred in taxable [FR Doc. 05–10160 Filed 5–19–05; 9:47 am]
of the loss, for purposes of section 172(b), years beginning after the date that these BILLING CODE 4830–01–P

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