This document contains amendments to 26 CFR part 1. On May 7, 2009, the Treasury Department and IRS published temporary regulations (T.D. 9449, 2009-22 I.R.B. 1044) under section 163 of the Internal Revenue Code (Code) in the Federal Register (74 FR 21256) that explain how to allocate prepaid qualified mortgage insurance premiums to determine the amount of the prepaid premium that is treated as qualified residence interest each taxable year. On the same day, the Treasury Department and IRS published a notice of proposed rulemaking (REG-107271-08, 2009-22 I.R.B. 1051) cross-referencing the temporary regulations in the Federal Register (74 FR 21295). No public hearing was requested or held. No comments responding to the notice of proposed rulemaking were received. The proposed regulations under section 163 are adopted as amended by this Treasury decision, and the corresponding temporary regulations under section 163 are removed.

T.D. 9449 also contained temporary regulations under section 6050H(h) that require persons who receive premiums, including prepaid premiums, for mortgage insurance to make a return setting forth the amount of premiums received. A notice of proposed rulemaking (REG-107271-08) cross-referencing the temporary regulations was published in the Federal Register on the same day (74 FR 21295). Because the deduction for mortgage insurance premiums currently does not apply to amounts paid or accrued after December 31, 2011, the Treasury Department and the IRS are not taking any action at this time with respect to the temporary regulations or the proposed regulations under section 6050H(h). The temporary regulations will expire on May 4, 2012.

Section 419 of the Tax Relief and Health Care Act of 2006, Public Law 109-432 (120 Stat. 2967) (2006), added sections 163(h)(3)(E), (h)(4)(E), and (h)(4)(F) to the Code. Section 3 of the Mortgage Forgiveness Debt Relief Act of 2007, Public Law 110-142 (121 Stat. 1803) (2007), amended section 163(h)(3)(E)(iv). Section 759(a) of the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010, Public Law 111-312 (124 Stat. 3296) (2010), further amended section 163(h)(3)(E)(iv). In general, these new provisions treat certain qualified mortgage insurance premiums as qualified residence interest. This treatment only applies to certain qualified mortgage insurance premiums paid or accrued on or after January 1, 2007, and on or before December 31, 2011, on mortgage insurance contracts issued on or after January 1, 2007.

Section 163(h)(3)(E)(i) provides that premiums paid or accrued for qualified mortgage insurance in connection with acquisition indebtedness for a qualified residence are treated as qualified residence interest for purposes of section 163. Section 163(h)(4)(E) defines qualified mortgage insurance as (i) mortgage insurance provided by the Veterans Administration (VA), the Federal Housing Administration (FHA), or the Rural Housing Administration (Rural Housing),^[1] and (ii) private mortgage insurance (as defined by section 2 of the Homeowners Protection Act of 1998 (12 U.S.C. 4901) as in effect on December 20, 2006). The amount treated as qualified residence interest may be reduced or eliminated under section 163(h)(3)(E)(ii), which provides that the amount allowed as a deduction is phased out ratably by 10 percent for each $1,000 ($500 in the case of a married individual filing a separate return) (or fraction thereof) that the taxpayer’s adjusted gross income exceeds $100,000 ($50,000 in the case of a married individual filing a separate return).

Section 163(h)(4)(F) states that any amount paid by the taxpayer for qualified mortgage insurance that is properly allocable to any mortgage the payment of which extends to periods that are after the close of the taxable year in which the amount is paid shall be chargeable to capital account and shall be treated as paid in the periods to which the amount is allocated. No deduction shall be allowed for the unamortized balance of the account if the mortgage is satisfied before the end of its term. Section 163(h)(4)(F) provides that the allocation rules under section 163(h)(4)(F) do not apply to amounts paid for qualified mortgage insurance provided by the VA or Rural Housing. Additionally, section 163(h)(3)(E)(iv)(II) disallows a deduction for amounts allocable to any period after December 31, 2011.

These final regulations provide rules regarding the allocation of prepaid qualified mortgage insurance premiums to determine the amount of the prepaid premium that is treated as qualified residence interest each taxable year under section 163(h)(4)(F).

These final regulations apply to prepaid qualified mortgage insurance premiums paid or accrued on or after January 1, 2011. The treatment of mortgage insurance premiums as interest described in these final regulations is limited to prepaid qualified mortgage insurance premiums that are paid or accrued on or after January 1, 2011, and during periods to which section 163(h)(3)(E) is applicable. The temporary regulations are applicable to prepaid qualified mortgage insurance premiums paid or accrued on or after January 1, 2008, and on or before December 31, 2010.

It has been determined that this Treasury decision is not a significant regulatory action as defined in Executive Order 12866, as supplemented by Executive Order 13563. Therefore, a regulatory assessment is not required. It also has been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does not apply to these regulations, and because the regulations do not impose a collection of information on small entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to section 7805(f) of the Code, the notice of proposed rulemaking preceding these regulations was submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on its impact on small business, and no comments were received.

Paragraph 1. The authority citation for part 1 continues to read in part as follows:

Authority: 26 U.S.C. 7805 * * *

Par. 2. Section 1.163-11 is added to read as follows:

The text of these temporary regulations also serves as the text of the proposed regulations set forth in the notice of proposed rulemaking on this subject in this issue of the Bulletin. These temporary regulations establish an exception to the definition of U.S. property for obligations of U.S. persons arising from upfront payments made with respect to certain cleared contracts that are properly classified as NPCs. The temporary regulations provide that obligations of U.S. persons arising from such upfront payments by a CFC that is a dealer in securities or commodities (within the meaning of section 475) do not constitute U.S. property for purposes of section 956(a).

To qualify for this exception: (1) the upfront payment must be required under a contract that is cleared by a derivatives clearing organization (as such term is defined in section 1a of the Commodity Exchange Act (7 U.S.C. 1a)) or a clearing agency (as such term is defined in section 3 of the Securities Exchange Act of 1934 (15 U.S.C. 78c)) that is registered as a derivatives clearing organization under the Commodity Exchange Act or as a clearing agency under the Securities Exchange Act of 1934, respectively; (2) the CFC must make the upfront payment to or through a United States person that is a clearing member of the derivatives clearing organization or clearing agency, or directly to the derivatives clearing organization or clearing agency if the CFC is a clearing member of such derivatives clearing organization or clearing agency; (3) the upfront payment must be made, directly or indirectly, to the counterparty to the contract; (4) the counterparty to the contract must be required to make a payment in the nature of initial variation margin that is equal (before taking into account any change in the value of the contract between the time the contract is entered into and the time at which the payment is made) to the amount of the upfront payment made by the CFC; and (5) such payment in the nature of initial variation margin must be paid, directly or indirectly, to the CFC.

The IRS and the Treasury Department do not believe that an obligation of a U.S. person created by an upfront payment resulting from a cleared contract that satisfies the requirements listed in this regulation is the type of transaction intended to be covered by section 956, whether or not the payment is treated as a loan under the NPC rules under section 446. While the section 956 exception in these temporary regulations currently is limited to cleared contracts, the IRS and the Treasury Department continue to study, and request comments on, whether and under what circumstances it would be appropriate to extend the exception to contracts that are not cleared by a U.S.-registered clearinghouse, but that would otherwise meet the criteria set forth in these temporary regulations.

It has been determined that this Treasury decision is not a significant regulatory action as defined in Executive Order 12866. Therefore, a regulatory assessment is not required. It also has been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does not apply to these regulations. For the applicability of the Regulatory Flexibility Act (5 U.S.C. chapter 6), refer to the cross-reference notice of proposed rulemaking published in the proposed rules section in this issue of the Bulletin. Pursuant to section 7805(f) of the Internal Revenue Code, these regulations have been submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on their impact on small entities.

Paragraph 1. The authority citation for part 1 is amended by adding an entry in numerical order to read in part as follows:

Authority: 26 U.S.C. 7805 * * *

Section 1.956-2T(b)(1)(xi) also issued under 26 U.S.C. 956(e). * * *

Par. 2. Section 1.956-2 is amended by adding a new paragraph (b)(1)(xi) to read as follows:

The temporary regulations published in this issue of the Bulletin establish an exception to the definition of United States property (within the meaning of section 956(c)) for obligations of United States persons arising from certain upfront payments made with respect to certain contracts that are properly classified as notional principal contracts for U.S. Federal income tax purposes and that are cleared by a derivatives clearing organization or clearing agency. The text of those temporary regulations also serves as the text of these proposed regulations. The preamble to the temporary regulations explains the temporary regulations and these proposed regulations.

It has been determined that this Treasury decision is not a significant regulatory action as defined in Executive Order 12866. Therefore, a regulatory assessment is not required. It also has been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does not apply to these regulations, and because these regulations do not impose a collection of information on small entities, the Requlatory Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to section 7805(f) of the Internal Revenue Code, this notice of proposed rulemaking has been submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on its impact on small entities.

Before these proposed regulations are adopted as final regulations, consideration will be given to any comments that are submitted timely to the IRS as prescribed in this preamble under "Addresses.” In addition to the specific requests for comments made elsewhere in this preamble or the preamble to the temporary regulations, the IRS and the Treasury Department request comments on all aspects of the proposed rules. All comments will be available at www.regulations.gov or upon request. A public hearing will be scheduled if requested in writing by any person who timely submitted written comments. If a public hearing is scheduled, notice of the date, time, and place of the hearing will be published in the Federal Register.

Paragraph 1. The authority citation for part 1 is amended by adding an entry in numerical order to read in part as follows:

Authority: 26 U.S.C. 7805 * * *

Section 1.956-2(b)(1)(xi) also issued under 26 U.S.C. 956(e).* * *

Par. 2. Section 1.956-2 is amended by adding new paragraphs (b)(1)(xi) and (f) to read as follows:

Beginning in 2014, under the Patient Protection and Affordable Care Act, Public Law 111-148 (124 Stat. 119 (2010)), and the Health Care and Education Reconciliation Act of 2010, Public Law 111-152 (124 Stat. 1029 (2010)) (collectively, the Affordable Care Act), Affordable Insurance Exchanges (Exchanges) will provide competitive marketplaces for individuals and small employers to directly compare available private health insurance options (qualified health plans, or QHPs) on the basis of price, quality, and other factors, and to purchase such coverage. A Federally-facilitated Exchange will operate on behalf of States electing not to pursue a State-based Exchange. In general, a QHP is a health plan offered by a health insurance issuer that meets minimum standards in the law and set by an Exchange.

Qualified individuals and small employers will be able to purchase private health insurance through Exchanges. Certain individuals who choose to obtain coverage through an Exchange will be eligible to qualify for a new premium tax credit and/or cost-sharing reductions established to help make the purchase of insurance more affordable.

Section 1401 of the Affordable Care Act amended the Internal Revenue Code to add section 36B, providing for the premium tax credit to help eligible individuals and families afford health insurance coverage. Section 1402 of the Affordable Care Act provides reduced cost-sharing for certain individuals enrolled in qualified health plans through the Exchange, decreasing the individual’s out-of-pocket limits, deductibles, co-insurance, and co-payments in certain situations.

Section 1411(a) of the Affordable Care Act directs the Secretary of the Department of Health and Human Services (HHS) to establish a program under which Exchanges will determine whether individuals are eligible to enroll in QHPs through the Exchange, and whether they are eligible for advance payments of the premium tax credit and cost-sharing reductions. Section 1412 of the Affordable Care Act directs the Secretary of HHS to establish a program for determining eligibility for advance payments of the premium tax credit and cost-sharing reductions that may be paid directly to an insurance company on behalf of a taxpayer. Eligibility for advance payments, like eligibility for the premium tax credit itself, is based in part on the household income of the individual who will claim the credit. Household income is defined in section 36B(d)(2) as the total of the modified adjusted gross incomes (MAGI) of the taxpayer claiming the premium tax credit and those other individuals for whom the taxpayer was allowed a deduction under section 151 and who were required to file a tax return.

Section 1413(a) of the Affordable Care Act directs the Secretary of HHS to establish a system under which an individual may submit a single, streamlined application to apply for specified insurance affordability programs (that is, the premium tax credit under section 36B, cost-sharing reductions under section 1402 of the Affordable Care Act, Medicaid, the Children’s Health Insurance Program (CHIP), and a State’s basic health program, if applicable, under section 1331 of the Affordable Care Act). The system must be compatible with the processes set up to determine eligibility for advance payments of the premium tax credit and cost-sharing reductions. Where an individual seeking eligibility for any of these insurance affordability programs is found to be eligible for Medicaid or CHIP, the individual is enrolled in that program. If an individual is not eligible for one of these programs, the Exchange will make the determination (or provide for HHS to make the determination) as to the individual’s eligibility for advance payments of the premium tax credit under section 36B and for cost-sharing reductions, and the amount of any advance payments. Under section 1412(c)(2) of the Affordable Care Act, advance payments are made monthly (or on another periodic basis as HHS may provide) directly to the issuer of the qualified health plan in which the individual enrolls.

Section 1411(b)(3) of the Affordable Care Act requires that individuals seeking an eligibility determination for advance payments of the premium tax credit or for cost-sharing reductions provide the Exchange with information regarding their household income and family size to demonstrate that they meet the income-based eligibility requirements. However, section 1411(c)(4)(B) of the Affordable Care Act grants the Secretary of HHS authority to modify the methods used for the verification of information if the Secretary of HHS determines those modifications would reduce the administrative costs and burdens on individuals seeking coverage through an Exchange. The section explicitly gives the Secretary of HHS authority to change the manner in which Exchanges determine eligibility for advance payments of the premium tax credit or for cost-sharing reductions, so long as any applicable requirements under section 6103 of the Internal Revenue Code with respect to the confidentiality, disclosure, maintenance and use of return information would still be met. Section 1411(g) of the Affordable Care Act further provides that individuals will be required to provide only the minimum amount of information needed to authenticate an individual’s identity and to determine the individual’s eligibility for, and amount of, advance payments of the premium tax credit or cost-sharing reductions.

In proposing regulations in the Federal Register on August 17, 2011, the Secretary of HHS concluded that a less burdensome and more reasonable eligibility process would not require an individual to provide an Exchange with specific income-related information, such as the individual’s MAGI (76 FR 51202 at 51214). Accordingly, the Secretary of HHS promulgated final regulations published in the Federal Register on March 27, 2012 (77 FR 18310), limiting the information an individual needs to provide to an Exchange for purposes of income verification and allowing the Exchange to solicit information from the IRS through HHS with respect to the individual and his family members whose names and social security numbers, or adoption taxpayer identification numbers, are provided. The regulations also provide guidance on the eligibility determination process for enrollment in a QHP, advance payments of the premium tax credit and cost-sharing reductions, and other insurance affordability programs. Additionally, the Secretary of HHS promulgated final regulations published in the Federal Register on March 23, 2012 (77 FR 17144) that provide revised eligibility rules for Medicaid. The Treasury Department and the IRS proposed regulations in the Federal Register on August 17, 2011 (76 FR 51202) to implement the new premium tax credit.

Section 6103(l)(21) permits the disclosure of return information to assist Exchanges in performing certain functions set forth in section 1311 of the Affordable Care Act for which income verification is required (including determinations of eligibility for the insurance affordability programs described in the Affordable Care Act), as well as to assist State agencies administering a State Medicaid program under title XIX of the Social Security Act, CHIP under title XXI of the Social Security Act, or a basic health program under section 1331 of the Affordable Care Act (if applicable). Section 6103(l)(21) identifies specific items of return information that will be disclosed and permits the disclosure of such other items prescribed by regulation that might indicate whether an individual is eligible for the premium tax credit under section 36B or cost-sharing reductions under section 1402, and the amount thereof. After an individual submits an application for financial assistance in obtaining health coverage provided pursuant to Title I, subtitle E, of the Affordable Care Act (“the application”) to an Exchange or State agency, the IRS will disclose the available items of return information described under section 6103(l)(21)(A) to HHS. Pursuant to section 6103(l)(21)(B), HHS will then disclose the information to the Exchange or State agency that is processing the application.

As a condition for receiving return information under section 6103(l)(21)(A) and (B), each receiving entity (that is, HHS, the Exchanges, and State agencies that administer Medicaid, CHIP, or basic health plans, and their respective contractors) is required to adhere to the safeguards established under section 6103(p)(4). Final HHS regulations published in the Federal Register on March 27, 2012 (77 FR at 18446, 18450) state that to be certified by HHS an Exchange must demonstrate readiness to meet the section 6103 confidentiality requirements with respect to the items of return information the Exchange will receive. As described in section 6103(l)(21)(C), each receiving entity may then use the return information received under sections 6103(l)(21)(A) and (B) only for the purposes of, and to the extent necessary in, establishing eligibility for participation in the Exchange, verifying the appropriate amount of any advance payments of the premium tax credit or cost-sharing reductions, and determining eligibility for participation in a State Medicaid program, CHIP, or basic health program under section 1331 of the Affordable Care Act.

Under section 6103(l)(21)(A), the IRS will disclose to HHS (including its contractor(s)) certain items of return information, as enumerated in the statute or by regulation, for any relevant taxpayer. For purposes of these regulations, a relevant taxpayer is defined to be any individual listed, by name and social security number or adoption taxpayer identification number (“taxpayer identity information”), on the application whose income may bear upon a determination of the eligibility of an individual for an insurance affordability program. For each relevant taxpayer, section 6103(l)(21) explicitly authorizes the disclosure of the following items of return information from the reference tax year: taxpayer identity information, filing status, the number of individuals for which a deduction under section 151 was allowed (“family size”), MAGI, and the taxable year to which any such information relates or, alternatively, that such information is not available. The “reference tax year” is the first calendar year or, where no return information is available in that year the second calendar year, prior to the submission of the application. MAGI is defined under section 36B as the taxpayer’s adjusted gross income defined under section 62, increased by three components: (1) any amount excluded from gross income under section 911, (2) any amount of interest received or accrued by the taxpayer during the taxable year that is exempt from tax, and (3) the amount of social security benefits of the taxpayer excluded from gross income under section 86 for the tax year.

In some situations, the IRS will be unable to calculate MAGI. While uncommon, for certain relevant taxpayers who receive nontaxable social security benefits, the IRS may not have complete information from which to determine the amount of those benefits. If the IRS has information indicating that a relevant taxpayer received nontaxable social security benefits, but is unable to determine the amount of those benefits, the IRS will provide the aggregate amount of the other components used to calculate the relevant taxpayer’s MAGI, as well as information indicating that the amount of nontaxable social security benefits must still be taken into account to determine MAGI. Similarly, where MAGI is not available, the IRS will disclose the adjusted gross income, as well as information indicating that the other components of MAGI must still be taken into account to determine MAGI. Because the Affordable Care Act and HHS’s final regulations (77 FR at 18456-18458) require that Exchanges use alternative means to verify income where information is not available from the IRS, these explanatory items may assist an Exchange in determining an individual’s eligibility for, and amount of, any advance payment of the premium tax credit or cost-sharing reductions.

The proposed regulations further provide that, in certain instances, where some or all of the items of return information prescribed by statute or regulation is unavailable, the IRS will provide information indicating why the particular item of return information is not available. Where an individual jointly filed with a spouse who is not a relevant taxpayer (that is, that spouse is not included on the application), the IRS will not disclose MAGI from the joint return because it cannot be appropriately allocated between the two spouses. Instead, the IRS will disclose that a joint return had been filed. This additional information may help individuals correct any errors or understand why they need to pursue alternative routes to verify their income. This information, therefore, also can assist Exchanges in determining whether an individual is eligible for advance payments of the premium tax credit or cost-sharing reductions.

Additionally, the IRS may have information in its records indicating that a relevant taxpayer had been a victim of identity theft or that a relevant taxpayer has been reported as deceased. The proposed regulations provide that the IRS will disclose that, although a return for that taxpayer is on file, the information described under section 6103(l)(21) is not being provided because IRS records suggest that the Exchange should take additional steps to authenticate the identities of the relevant taxpayers and may need to use alternate means for income verification.

Where an individual who is listed as a dependent on the application (for the tax year in which the premium tax credit will be claimed) filed a return in the reference tax year but did not have a tax filing requirement for that year (based upon the return filed), the IRS will provide information indicating the dependent listed did not have a filing requirement because the information is relevant to the Exchange’s computation of household income.

The final regulations issued by HHS provide that advance payments of the premium tax credit will not be permitted where the relevant taxpayer has received advance payments in the reference tax year and failed to file a return reconciling the advance payments with the actual premium tax credit. (77 FR at 18453). Therefore, these proposed regulations provide that the IRS will disclose to HHS that a relevant taxpayer who received an advance payment of a premium tax credit in the reference tax year did not file a return reconciling the advance payments with any premium tax credit available.

It has been determined that this Notice of Proposed RuleMaking is not a significant regulatory action as defined in Executive Order 12866, as supplemented by Executive Order 13563. Therefore, a regulatory assessment is not required. It has also been determined that, because the regulations proposed do not impose a collection of information on small entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to section 7805(f) of the Code, this notice of proposed rulemaking will be submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on its impact on small business.

The Treasury Department and the IRS request comments on all aspects of the proposed rules. A public hearing has been scheduled for August 31, 2012, at 10:00 a.m., in the IRS Auditorium, Internal Revenue Building, 1111 Constitution Avenue, NW, Washington, DC. Due to building security procedures, visitors must enter at the Constitution Avenue entrance. In addition, all visitors must present photo identification to enter the building. Because of access restrictions, visitors will not be admitted beyond the immediate entrance area more than 30 minutes before the hearing starts. For information about having your name placed on the building access list to attend the hearing, see the “FOR FURTHER INFORMATION CONTACT” section of this preamble.

The rules of 26 CFR 601.601(a)(3) apply to the hearing. Persons who wish to present oral comments at the hearing must submit written or electronic comments and an outline of the topics to be discussed and the time to be devoted to each topic (a signed original and eight (8) copies) by July 30, 2012. A period of 10 minutes will be allotted to each person for making comments. An agenda showing the scheduling of the speakers will be prepared after the deadline for receiving outlines has passed. Copies of the agenda will be available free of charge at the hearing.

Paragraph 1. The authority citation for part 301 is amended by adding the entry for §301.6103(l)(21) to read in part as follows:

Authority: 26 U.S.C. 7805 * * *

Section 301.6103(l)(21)-(1) also issued under 26 U.S.C. 6103(l)(21) and 6103(q).

* * * * *

Par. 2. Add §301.6103(l)(21)-1 to read as follows: