Down payment assistance; home buyers. This ruling sets forth the applicable rules and standards for determining whether organizations that provide down payment assistance to home buyers qualify as tax-exempt charities. In addition, the ruling addresses whether assistance received for a down payment is treated as a gift and included in a home buyer’s basis.

Final regulations under section 1502 of the Code relate to intercompany transactions. Section 1.1502-13(c)(7)(ii), Example 13, illustrates the treatment of manufacturer incentive payments. This example relies, in part, upon the premise that manufacturer incentive payment is an ordinary and necessary business expense deductible under section 162. Because this treatment is now under reconsideration (see Rev. Rul. 2005-28, 2005-19 I.R.B. 997), these final regulations remove and reserve this example.

This notice announces that the Treasury Department and the Service will amend the regulations under section 883 of the Code. The regulations exclude from gross income the income derived from the international operation of a ship or ships or aircraft by a corporation organized in a foreign country that grants an equivalent exemption to U.S. corporations. To receive this benefit, a foreign corporation must also satisfy one of three ownership tests. One such test applies to a controlled foreign corporation (CFC), as defined in section 957(a). To satisfy the CFC ownership test, section 1.883-3(a) requires a CFC to meet an “income inclusion test,” as defined in section 1.883-3(b). After the repeal of section 954(a)(4) and (f) (foreign base company shipping income provisions) by the American Jobs Creation Act (AJCA), it is unclear how to apply the income inclusion test. This notice announces that Treasury and the IRS will amend section 1.883-3(b) in light of the repeal of section 954(a) and (f) and provide a new “qualified U.S. person ownership test” that is clear and simple to apply and on which taxpayers may rely until the regulations are amended.

This notice provides guidance relating to amendments made by section 415 of the American Jobs Creation Act of 2004 (AJCA), which affect the treatment of certain income and assets related to the leasing of aircraft or vessels in foreign commerce. The Treasury Department and the Service intend to amend the regulations under sections 367(a), 954, and 956 to address the amendments made by section 415 of the AJCA and this notice. Until regulations reflecting these changes are issued, taxpayers may rely upon this notice. This notice also solicits comments on whether any other changes to the regulations under sections 367, 954, and 956 are necessary to implement the purposes of section 415 of the AJCA.

Specifications are set forth for the private printing of paper and laser-printed substitutes for the January 2006 revisions of Form 941, Employer’s QUARTERLY Federal Tax Return, and Schedule B (Form 941), Report of Tax Liability for Semiweekly Schedule Depositors. This procedure will be reproduced as the next revision of Publication 4436, General Rules and Specifications for Substitute Form 941 and Schedule B (Form 941). Rev. Proc. 2005-21 superseded.

This document withdraws proposed regulations (REG-131264-04, 2004-2 C.B. 506) under section 1502 of the Code regarding intercompany transactions. The regulations provided additional examples in section 1.1502-13(c)(7)(ii), Example 13, to clarify the proper treatment of manufacturer incentive payments. One of these examples relied, in part, upon the premise that the manufacturer incentive payment is an ordinary and necessary business expense deductible under section 162. Because this treatment is now under reconsideration (see Rev. Rul. 2005-28, 2005-19 I.R.B. 997), the proposed regulations are withdrawn.

Down payment assistance; home buyers. This ruling sets forth the applicable rules and standards for determining whether organizations that provide down payment assistance to home buyers qualify as tax-exempt charities. In addition, the ruling addresses whether assistance received for a down payment is treated as a gift and included in a home buyer’s basis.

Specifications are set forth for the private printing of paper and laser-printed substitutes for the January 2006 revisions of Form 941, Employer’s QUARTERLY Federal Tax Return, and Schedule B (Form 941), Report of Tax Liability for Semiweekly Schedule Depositors. This procedure will be reproduced as the next revision of Publication 4436, General Rules and Specifications for Substitute Form 941 and Schedule B (Form 941). Rev. Proc. 2005-21 superseded.

This procedure announces the introduction of user fees for requests submitted to the U.S. competent authority for discretionary determinations under limitation on benefits provisions of U.S. income tax treaties. Rev. Proc. 2002-52 modified.

1. Whether organizations that otherwise meet the requirements of § 501(c)(3) of the Internal Revenue Code and are described in the situations below operate exclusively for charitable purposes.

2. Whether home buyers who receive down payment assistance from the organizations may exclude the amount of the assistance from their gross income as gifts under § 102.

3. Whether home buyers who receive down payment assistance from the organizations may include the amount of the assistance in the cost basis of their homes under § 1012.

Section 501 of the Code provides for the exemption from federal income tax of corporations organized and operated exclusively for charitable or educational purposes, provided that no part of the net earnings inures to the benefit of any private shareholder or individual. See § 501(c)(3).

Section 1.501(c)(3)-1(c)(1) of the Income Tax Regulations provides that an organization operates exclusively for exempt purposes only if it engages primarily in activities that accomplish exempt purposes specified in § 501(c)(3). An organization must not engage in substantial activities that fail to further an exempt purpose. In Better Business Bureau of Washington, D.C. v. U.S., 326 U.S. 279, 283 (1945), the Supreme Court held that the “presence of a single . . . [nonexempt] purpose, if substantial in nature, will destroy the exemption regardless of the number or importance of truly . . . [exempt] purposes.”

Section 1.501(c)(3)-1(d)(1)(ii) provides that an organization is not organized or operated exclusively for exempt purposes unless it serves a public rather than a private interest. To meet this requirement it is necessary for an organization to establish that it is not organized or operated for the benefit of private interests.

Section 1.501(c)(3)-1(d)(2) defines the term “charitable” as used in § 501(c)(3) as including the relief of the poor and distressed or of the underprivileged, and the promotion of social welfare by organizations designed to lessen neighborhood tensions, to eliminate prejudice and discrimination, or to combat community deterioration. The term “charitable” also includes the advancement of education.

Section 1.501(c)(3)-1(d)(3)(i) provides, in part, that the term “educational” as used in § 501(c)(3) relates to the instruction of the public on subjects useful to the individual and beneficial to the community.

Section 1.501(c)(3)-1(e) provides that an organization that operates a trade or business as a substantial part of its activities may meet the requirements of § 501(c)(3) if the trade or business furthers an exempt purpose, and if the organization’s primary purpose does not consist of carrying on an unrelated trade or business.

In Easter House v. U.S., 12 Cl. Ct. 476, 486 (1987), aff’d, 846 F.2d 78 (Fed. Cir. 1988), the U.S. Court of Federal Claims considered whether an organization that provided adoption and related health services to pregnant women who agreed to place their newborns for adoption through the organization qualified for exemption under § 501(c)(3). The court concluded that the organization did not qualify for exemption under § 501(c)(3) because its primary activity was placing children for adoption in a manner indistinguishable from that of a commercial adoption agency. The court rejected the organization’s argument that the adoption services merely complemented the health-related services to unwed mothers and their children. Rather, the court found that the health-related services were merely incident to the organization’s operation of an adoption service, which, in and of itself, did not serve an exempt purpose. The organization did not provide health-related services to unwed mothers who wished to keep their children or who arranged for an adoption independent of the organization. The organization’s sole source of support was the fees it charged adoptive parents, rather than contributions from the public. The court also found that the organization competed with for-profit adoption agencies, engaged in substantial advertising, and accumulated substantial profits. Accordingly, the court found that the “business purpose, and not the advancement of educational and charitable activities purpose, of plaintiff’s adoption service is its primary goal” and held that the organization was not operated exclusively for purposes described in § 501(c)(3). Easter House, 12 Cl. Ct. at 485-86.

In American Campaign Academy v. Commissioner, 92 T.C. 1053 (1989), the court held that an organization that operated a school to train individuals for careers as political campaign professionals, but that could not establish that it operated on a nonpartisan basis, did not exclusively serve purposes described in § 501(c)(3) because it also served private interests more than incidentally. The court found that the organization was created and funded by persons affiliated with a particular political party and that most of the organization’s graduates worked in campaigns for the party’s candidates. Consequently, the court concluded that the organization conducted its educational activities with the objective of benefiting the party’s candidates and entities. Although the candidates and entities benefited were not organization “insiders,” the court stated that the conferral of benefits on disinterested persons who are not members of a charitable class may cause an organization to serve a private interest within the meaning of § 1.501(c)(3)-1(d)(1)(ii). The court concluded by stating that even if the political party’s candidates and entities did “comprise a charitable class, [the organization] would bear the burden of proving that its activities benefited members of the class in a non-select manner.” American Campaign Academy, 92 T.C. at 1077.

In Columbia Park and Recreation Association v. Commissioner, 88 T.C. 1 (1987), aff’d without published opinion, 838 F.2d 465 (4th Cir. 1988), the court held that an association formed in a private real estate development to operate parks, swimming pools, boat docks, and other recreational facilities did not qualify as a § 501(c)(3) organization. Although the organization provided some benefit to the general public, the primary intended beneficiaries were the residents and property owners of the private development. Thus, the organization operated for a substantial non-exempt purpose rather than for exclusively charitable purposes.

Rev. Rul. 67-138, 1967-1 C.B. 129, held that helping low-income persons obtain adequate and affordable housing is “charitable” because it relieves the poor and distressed or underprivileged. In Rev. Rul. 67-138, the organization carried on several activities directed to assisting low-income families in obtaining improved housing, including (1) conducting a training course relative to various aspects of homebuilding and homeownership, (2) coordinating and supervising joint construction projects, (3) purchasing building sites for resale at cost, and (4) lending aid in obtaining home construction loans.

Rev. Rul. 70-585, 1970-2 C.B. 115, discussed four situations of organizations providing housing and analyzed whether each organization qualified as charitable within the meaning of § 501(c)(3). Situation 1 described an organization formed to construct new homes and renovate existing homes for sale to low-income families who could not obtain financing through conventional channels. The organization also provided financial aid to low-income families eligible for loans under a Federal housing program who did not have the necessary down payment. The organization made rehabilitated homes available to families who could not qualify for any type of mortgage. When possible, the organization recovered the cost of the homes through very small periodic payments, but its operating funds were obtained from federal loans and contributions from the general public. The revenue ruling held that by providing homes for low-income families who otherwise could not afford them, the organization relieved the poor and distressed.

Situation 2 described an organization formed to ameliorate the housing needs of minority groups by building housing units for sale to persons of low and moderate-income on an open-occupancy basis. The housing was made available to members of minority groups who were unable to obtain adequate housing because of local discrimination. The housing units were located to help reduce racial and ethnic imbalances in the community. As the activities were designed to eliminate prejudice and discrimination and to lessen neighborhood tensions, the revenue ruling held that the organization was engaged in charitable activities within the meaning of § 501(c)(3).

Situation 3 described an organization formed to formulate plans for the renewal and rehabilitation of a particular area in a city as a residential community. The median income level in the area was lower than in other sections of the city and the housing in the area generally was old and badly deteriorated. The organization developed an overall plan for the rehabilitation of the area, sponsored a renewal project, and involved residents in the area renewal plan. The organization also purchased an apartment building that it rehabilitated and rented at cost to low and moderate-income families with a preference given to residents of the area. The revenue ruling held that the organization was described in § 501(c)(3) because its purposes and activities combated community deterioration.

Situation 4 described an organization formed to alleviate a shortage of housing for moderate-income families in a particular community. The organization planned to build housing to be rented at cost to moderate-income families. The Service held that the organization failed to qualify for exemption under § 501(c)(3) because the organization’s program was not designed to provide relief to the poor or further any other charitable purpose within the meaning of § 501(c)(3) and the regulations.

Rev. Rul. 72-147, 1972-1 C.B. 147, held that an organization that provided housing to low-income families did not qualify for exemption under § 501(c)(3) because it gave preference to employees of a business operated by the individual who also controlled the organization. Although providing housing for low-income families furthers charitable purposes, doing so in a manner that gives preference to employees of the founder’s business primarily serves the private interest of the founder rather than a public interest.

Rev. Rul. 72-559, 1972-2 C.B. 247, held that an organization that subsidized recent law graduates during the first three years of their practice to enable them to establish legal practices in economically depressed communities that have a shortage of available legal services, and to provide free legal services to needy members of the community, qualified for exemption under § 501(c)(3). Although the recipients of the subsidies were not themselves members of a charitable class, the resulting benefit to them did not detract from charitable purposes. Rather, the young lawyers were merely the instruments by which the organization accomplished the charitable purpose of providing free legal services for those unable to pay for, or obtain, such services.

Rev. Rul. 74-587, 1974-2 C.B. 162, held that an organization providing low-cost or long-term loans to, or equity investments in, businesses operating in economically depressed areas qualified for exemption under § 501(c)(3). The organization provided financial assistance only to businesses that were unable to obtain funds from conventional sources, and gave preference to businesses that would provide training and employment opportunities for unemployed or under-employed area residents. Although some of the individual business owners receiving financial assistance from the organization were not themselves members of a charitable class, the benefit to them did not detract from the charitable character of the organization’s program. As in Rev. Rul. 72-559, the recipients of aid were instruments for accomplishing the organization’s charitable purposes.

Rev. Rul. 76-419, 1976-2 C.B. 146, held that an organization that converts blighted land in an economically depressed community to an industrial park and leases space on favorable terms to businesses that agree to hire a significant number of unemployed area residents and train them in needed skills qualifies for exemption under § 501(c)(3). The organization furthered charitable purposes by improving economic conditions for the poor and distressed and combating community deterioration. The organization offered inducements to businesses solely for the purpose of advancing charitable goals.

Section 61 provides that, except as otherwise provided in subtitle A (relating to income taxes), gross income means all income from whatever source derived.

Section 1012 provides, generally, that the basis of property shall be its cost to the taxpayer.

Section 1016(a)(1) provides that proper adjustment shall be made to the basis of property for expenditures, receipts, losses, or other items properly chargeable to capital account.

Section 1001(a) provides that the gain from the sale or other disposition of property is the excess of the amount realized over the adjusted basis for determining gain provided in § 1011. Section 1011(a) provides generally that the adjusted basis for determining gain from the sale or other disposition of property is the basis determined under § 1012, adjusted as provided in § 1016.

Section 102 provides that the value of property acquired by gift is excluded from gross income. A gift “proceeds from a ‘detached and disinterested generosity,’. . . ‘out of affection, respect, admiration, charity or like impulses.’” Commissioner v. Duberstein, 363 U.S. 278, 285 (1960). Payments that proceed from “the constraining force of any moral or legal duty,” or from “‘the incentive of anticipated benefit’ of an economic nature,” are not gifts. Duberstein, 363 U.S. at 285. Thus, payments attendant to ordinary business or commercial transactions, or that proceed primarily from the moral or legal obligations attendant such transactions, are not gifts. However, a payment made to an individual that responds to the individual’s needs, that is made without economic or other consideration being received by the donor, and that does not proceed from any moral or legal duty, is motivated by detached and disinterested generosity, and may be excluded from gross income as a gift under § 102. See, e.g., Rev. Rul. 99-44, 1999-2 C.B. 549.

In Situation 1, X’s purposes and activities relieve the poor, distressed and underprivileged by enabling low-income individuals and families to obtain decent, safe and sanitary homes. The way X conducts its down payment assistance program establishes that X’s primary purpose is to address the needs of its low-income grantees. See Rev. Rul. 70-585, Sit. 1. As a condition of providing assistance, X requires a home inspection to ensure that the house the applicant intends to buy will be habitable. X’s financial counseling seminars and other educational programs help to prepare potential home buyers for the responsibility of home ownership. See Rev. Rul. 67-138. X conducts a broad based fundraising program, and X receives support from a wide array of sources. X’s policies of ensuring that its grantmaking staff does not know the identity or contributor status of the party selling the home to the grant applicant (or any other party who may receive a financial benefit from the sale), and of not accepting contributions contingent on the sale of any particular properties, ensure that X is not beholden to any particular donors or other supporters whose interest may conflict with that of the low-income buyers X is working to help.

X’s grantmaking procedures combined with its efforts to educate home buyers ensure that X is operated primarily to benefit the low-income beneficiaries of its downpayment assistance. The low-income beneficiaries constitute a charitable class. Any benefit to other parties (such as home sellers, real estate agents, or developers) who participate in the transactions does not detract from the charitable purpose of relieving the poor and distressed. See Rev. Ruls. 72-559, 74-587, 76-419. Because X is operated exclusively for charitable purposes, X qualifies for exemption from federal taxation as an organization described in § 501(c)(3).

By contrast, in Situation 2, Y does not qualify as an organization described in § 501(c)(3). To finance its down payment assistance activities, Y relies on sellers and other real-estate related businesses that stand to benefit from the transactions Y facilitates. Furthermore, in deciding whether to provide assistance to a low-income applicant, Y’s grantmaking staff knows the identity of the home seller and may also know the identities of other interested parties and is able to take into account whether the home seller or another interested party is willing to make a payment to Y. Y’s receipt of a payment from the home seller corresponding to the amount of the down payment assistance in substantially all of the transactions, and Y’s reliance on these payments for most of its funding indicate that the benefit to the home seller is a critical aspect of Y’s operations. In this respect, Y is like the organization considered in Easter House, which received all of its support from fees charged to adoptive parents, so that the business purpose of the adoption service became its primary goal and overshadowed any educational or charitable purpose. Like the organization considered in American Campaign Academy, Y is structured and operated to assist private parties who are affiliated with its funders. Like the organizations considered in American Campaign Academy, Easter House, and Columbia Park Recreation Association, Y also serves an exempt purpose, but because Y is not operated exclusively for exempt purposes, Y does not qualify for exemption from federal income tax as an organization described in § 501(c)(3).

In Situation 3, although Z does not limit its down payment assistance program to low-income recipients, Z’s down payment assistance program still serves a charitable purpose described in § 501(c)(3) because it combats community deterioration in a specific, economically depressed area that has suffered a major loss of population and jobs. Through a combination of counseling and financial assistance, Z helps low and moderate-income families in that area to acquire decent, safe and sanitary housing and to prepare for the responsibilities of home ownership. In this respect, Z is like the organization described in Situation 3 of Rev. Rul. 70-585. Because Z is operated exclusively for charitable purposes, Z qualifies for exemption from federal taxation as an organization described in § 501(c)(3).

Down payment assistance payments for home buyers in Situations 1 and 3 are made by those organizations out of a detached and disinterested generosity and from charitable or like impulse, rather than to fulfill any moral or legal duty, and thus qualify for exclusion from such home buyers’ gross incomes as “gifts” under § 102. The benefits provided to the home buyers in these circumstances are sufficiently removed from the interests of any home sellers or sales agents that they proceed from a detached and disinterested generosity on the part of the donor organization, and such grants lack the indicia of a rebate, price adjustment, or quid pro quo incident to a sale. Favorable treatment under § 102 is thus appropriate. The home buyer’s payment of such amount toward the purchase of the residence will be included in his or her cost basis under § 1012.

In Situation 2, in substantially all of the cases in which Y provides down payment assistance to a home buyer, Y receives a payment from the home seller that directly correlates to the amount of the down payment assistance Y provides to the home buyer. In those cases, the payments received by the home buyers do not qualify for exclusion from gross income as gifts under § 102. The payments do not proceed from detached and disinterested generosity, but rather are in response to an anticipated economic benefit, namely facilitating the sale of a seller’s home. Under Duberstein, supra, such payments are not gifts for purposes of § 102. Unlike in Situations 1 and 3, in Situation 2, the down payment assistance received by those home buyers represents a rebate or purchase price reduction. As a rebate or purchase price reduction, the down payment assistance is not includible in a home buyer’s gross income under § 61 and the amount of the down payment assistance is not included in the home buyer’s cost basis under § 1012, as adjusted under § 1016.

1. In Situations 1 and 3, the organization is operated exclusively for charitable purposes and qualifies for exemption from federal income tax as an organization described in § 501(c)(3). In Situation 2, the organization is not operated exclusively for charitable purposes, and consequently, does not qualify for exemption from federal income tax as an organization described in § 501(c)(3).

2. In Situations 1 and 3, the home buyers may exclude the down payment assistance from their gross income as gifts under § 102. In Situation 2, the home buyers may not exclude the down payment assistance as gifts under § 102. However, in Situation 2, the down payment assistance is excluded from the gross income of home buyers because it represents a rebate or purchase price reduction.

3. In Situations 1 and 3, the home buyers may include the down payment assistance in the cost basis of their homes under § 1012. In Situation 2, the home buyers may not include the amount of the down payment assistance in the cost basis of their homes under § 1012. Rather, the amount of the down payment assistance represents a rebate or purchase price reduction that is excluded from the home buyer’s cost basis under § 1012.

The principal author of this revenue ruling is Elizabeth C. Kastenberg of Exempt Organizations, Tax Exempt and Government Entities Division. For further information regarding this revenue ruling, contact Elizabeth C. Kastenberg at (202) 283-9468 (not a toll-free call).

Internal Revenue Service (IRS), Treasury.

Final regulations.

This document contains final regulations under section 1502 of the Internal Revenue Code. Example 13 of the intercompany transaction regulations illustrates the treatment of manufacturer incentive payments. Because a premise underlying the example is under reconsideration, these final regulations remove and reserve this example. The regulations will affect corporations filing consolidated returns.

Effective Date: These regulations are effective on May 8, 2006.

Frances Kelly, (202) 622-7770 (not a toll-free number).

Accordingly, 26 CFR part 1 is amended as follows:

The principal author of these regulations is Frances Kelly of the Office of the Associate Chief Counsel (Corporate). However, other personnel from the IRS and Treasury Department participated in their development.

* * * * *

This notice announces that the Treasury Department (Treasury) and the Internal Revenue Service (IRS) will amend the regulations under section 883 of the Internal Revenue Code (Code) to provide guidance regarding the proper interpretation of §1.883-3(b) in light of the repeal of section 954(a)(4) and (f) (foreign base company shipping provisions) by section 415 of the American Jobs Creation Act of 2004, Pub. L. No. 108-357, 118 Stat. 1418 (2004) (“AJCA”). Until such regulations are issued, taxpayers may rely on the rules set forth in this notice.

Treasury and the IRS have considered the comments received in response to T.D. 9218. Treasury and the IRS continue to believe that residents of countries that do not provide a reciprocal exemption to U.S. corporations on their income from the international operation of their ships or aircraft might attempt to use the CFC exception to circumvent the rules of section 883(c)(1) by owning more than 50 percent of the value of a foreign corporation through a U.S. fiscally transparent entity, such as a U.S. partnership. Treasury and the IRS continue to believe that this is contrary to the Congressional intent to ensure that the exclusion provided in section 883(a)(1) and (2) is provided only to foreign corporations that are owned by residents of foreign countries that provide a reciprocal exemption to U.S. corporations. See S. Rep. No. 313, 99^th Cong., 2^nd Sess. 340-41 (1986); see also Joint Committee on Taxation, General Explanation of the Tax Reform Act of 1986, at 927-928. In addition, Treasury and the IRS continue to believe this result is also contrary to the Conference report accompanying the legislation that added the CFC exception, which states that: “corporations are not considered residents of countries that exempt U.S. persons unless 50 percent or more of the ultimate individual owners are U.S. shareholders of controlled foreign corporations.” H.R. Conf. Rep. No. 841, 99th Cong., 2d Sess. 598 (1986).

However, Treasury and the IRS agree that the income inclusion test, as it was interpreted in T.D. 9218, is overly complex and unnecessary. As a result, based on the comments received and Congressional intent to increase the competitiveness of U.S. shippers through the elimination of foreign base company shipping income as a type of subpart F income, Treasury and the IRS intend to amend §1.883-3 to replace the income inclusion test with a new ownership based test. Under the new test, a foreign corporation will satisfy the stock ownership test of §1.883-1(c)(2) if it meets a “qualified U.S. person ownership test” and satisfies the substantiation and reporting requirements of paragraphs (c) and (d), respectively, of § 1.883-3.

A foreign corporation shall satisfy the “qualified U.S. person ownership test” if, for more than half the days of the corporation’s taxable year: (i) it is a CFC, and (ii) more than 50 percent of the total value of all the outstanding stock of the CFC is owned (within the meaning of section 958(a), as modified for purposes of applying this notice) by one or more “qualified U.S. persons.”

A “qualified U.S. person” is a U.S. person (as defined in section 7701(a)(30)) that is a U.S. citizen, resident alien, or a domestic corporation. For purposes of applying the “qualified U.S. person ownership test,” the value of the stock in the CFC that is owned (directly or indirectly) through bearer shares shall not be considered in the numerator or denominator of the ownership fraction. In addition, for purposes of applying this test, stock owned by a domestic partnership, domestic trust or domestic estate, shall be treated as owned by its partners, beneficiaries or owners, respectively, applying the rules of section 958(a) as if such domestic entity were a foreign partnership, foreign trust, or foreign estate, respectively.

Regulations to be issued incorporating the guidance set forth in this notice will apply for taxable years beginning after the May 2, 2006. Taxpayers also may apply the provisions of this notice to taxable years beginning before May 2, 2006, but after December 31, 2004. Taxpayers applying this notice, however, must do so consistently for all taxable years for which this notice is applied and for which it is in effect.

Treasury and the IRS request further comments from interested persons on the rules announced in this notice. Written comments may be submitted to CC:INTL:Br1 (Notice 2006-43), room 4607, Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, Washington, DC 20224. Submissions may be hand delivered Monday through Friday between the hours of 8 a.m. and 5 p.m. to: CC:INTL:Br1 (Notice 2006-43) Courier’s desk, Internal Revenue Service, 1111 Constitution Avenue, NW, Washington, DC 20224. Alternatively, taxpayers may submit comments electronically via the following e-mail address: Notice.Comments@irscounsel.treas.gov. Please include “Notice 2006-43” in the subject line of any electronic communications.

The principal author of this notice is Patricia A. Bray of the Office of Associate Chief Counsel (International). However, other personnel from Treasury and the IRS participated in its development. For further information regarding this notice, contact Patricia A. Bray at (202) 622-3880 (not a toll-free call).

This notice provides guidance relating to amendments made by section 415 of the American Jobs Creation Act of 2004 (Public Law 108-357) (October 24, 2004) (AJCA), which affect the treatment of certain income and assets related to the leasing of aircraft or vessels in foreign commerce. The Treasury Department (Treasury) and the Internal Revenue Service (IRS) intend to amend the regulations under sections 367(a), 954, and 956 of the Internal Revenue Code (Code) to address the amendments made by section 415 of the AJCA and this notice. Until regulations reflecting these changes are issued, taxpayers may rely upon this notice. This notice also solicits comments on whether any other changes to the regulations under sections 367, 954, and 956 are necessary to implement the purposes of section 415 of the AJCA.

Future guidance will amend the regulations under section 954 to address the determination of whether rents derived from leasing an aircraft or vessel in foreign commerce will be treated as derived in the active conduct of a trade or business under section 954(c)(2)(A), as amended by section 415 of the AJCA. Comments are requested on whether there are issues with regard to this determination that require clarification.

In addition, future guidance will clarify that an aircraft or vessel will be considered to be leased in foreign commerce, for purposes of section 954(c)(2)(A), only if the aircraft or vessel is used in foreign commerce, within the meaning of § 1.954-6(b)(3), and is used predominately outside the United States. For this purpose, an aircraft or vessel will be treated as used predominately outside the United States if it would be so treated under § 1.956-2(b)(1)(vi) with the phrase “more than 50 percent” substituted for the phrases “70 percent or more” or “70 percent.”

Future guidance will provide that, for purposes of applying § 1.956-2(b)(1)(vi), an aircraft or vessel used in the transportation of persons or property in foreign commerce is excluded from U.S. property under § 1.956-2(b)(1)(vi) if rents derived from leasing such aircraft or vessel are excluded from foreign personal holding company income under section 954(c)(2)(A) and such property is considered to be used predominately outside the United States under § 1.956-2(b)(1)(vi), determined by substituting the phrase “more than 50 percent” for the phrases “70 percent or more” or “70 percent.” For purposes of determining whether an aircraft or vessel is used in foreign commerce, the definition of “foreign commerce” contained in § 1.954-6(b)(3) shall continue to apply.

The future regulations described in this notice will be effective beginning on or after May 2, 2006. Until those regulations are issued, taxpayers may rely upon the provisions of this notice as of May 2, 2006. In addition, taxpayers may elect to apply sections 3 and 4 of this notice retroactively to tax years of foreign corporations beginning after December 31, 2004, and for tax years of United States shareholders with or within which such tax years of foreign corporations end. Taxpayers may elect to apply section 5 of this notice retroactively to transfers of aircraft or vessels occurring on or after October 22, 2004. This election is made by providing the description of the transfer under § 1.6038B-1T(c) as specified in section 5.01 of this notice. No relief under § 301.9100-1 is necessary for this election. Taxpayers electing to apply sections 3 through 5 of this notice retroactively must do so consistently for all transactions.

Comments are requested on whether any other changes to the regulations under sections 367, 954, and 956 are necessary to implement the purposes of section 415 of the AJCA. Specifically, Treasury and the IRS are considering clarifying how the depreciation recapture rules apply to aircraft and vessels that were used both in and outside the United States. Treasury and the IRS request comments on how the depreciation recapture rules under section 367(a) should apply to leased aircraft and vessels.

Written comments on the issues addressed in this notice may be submitted to the Office of Associate Chief Counsel International, Attention: Jason Kleinman (Notice 2006-48), room 4710, CC:INTL:B2, Internal Revenue Service, 1111 Constitution Avenue, NW, Washington, D.C., 20224. Alternatively, taxpayers may submit comments electronically to Notice.comments@ml.irscounsel.treas.gov. Comments will be available for public inspection and copying.

The principal authors of this notice are Jason Kleinman and Daniel McCall of the Office of Associate Chief Counsel (International). For comments or questions regarding sections 954 or 956, contact Mr. Kleinman at (202) 622-3840. For comments or questions regarding section 367, contact Mr. McCall at (202) 622-3860.

.01 The purpose of this publication is to provide general rules and specifications from the Internal Revenue Service (IRS) for paper and computer-generated substitutes for the January 2006 revision of Form 941, Employer’s QUARTERLY Federal Tax Return, and Schedule B (Form 941), Report of Tax Liability for Semiweekly Schedule Depositors.

.02 This publication provides measurements and printing specifications for substitute Form 941 and Schedule B (Form 941). If you need more in-depth information on who must complete the forms and how to complete them, see the Instructions for Form 941 and Publication 15 (Circular E), Employer’s Tax Guide, or visit the IRS website at www.irs.gov.

.03 Forms should not be submitted to the IRS for specific approval. If you are uncertain of any specification and want clarification, do the following.

Note. Allow at least 30 days for the IRS to respond.

.04 However, software developers and form producers should send a blank copy of their substitute Form 941 and Schedule B (Form 941) in pdf format to Victor.V.Martin@irs.gov. The purpose is not specifically for approval but to assist the IRS in preparing to scan these forms. Submitters will only receive comments if a significant problem is discovered through this process. Submitters are not expected to delay marketing their forms in order to receive feedback. In no case should submitters include “live” taxpayer data.

.01 The 2006 revisions of Form 941 and Schedule B (Form 941) have six-digit Form ID codes instead of the four-digit codes used in 2005.

.02 The 2006 revision of Schedule B (Form 941) now includes a calendar year designation area near the top of the form.

.03 There are new 6x10 grid layouts for the 2006 revisions.

.01 Do not submit substitute Form 941 and Schedule B (Form 941) to the IRS for approval. Substitute Form 941 and Schedule B (Form 941) that completely conform to the specifications contained in this revenue procedure do not require prior approval from the IRS. Substitute forms filed with the IRS that do not conform may be returned.

.02 Print the form on paper that is 8.5 inches wide by 11 inches deep.

.03 Use white paper that meets generally-accepted weight, color, and quality standards (minimum 20 lb. white bond paper).

.04 The IRS prefers printing Form 941 on both sides of a single sheet of paper, but it is acceptable to print on one side of each of two separate sheets of paper.

.05 Make substitute paper forms as identical to the official IRS-printed forms as possible.

.06 Print using nonreflective black inks.

.07 Use typefaces that are substantially identical in size and shape to the official forms and use rules and shading that are substantially identical to those on the official forms.

.08 Print the six-digit form ID codes in the upper right-hand corner of each form using nonreflective black, carbon-based, 12-point (minimum 10-point required) OCR-A font. Use the official paper over-the-counter IRS forms to develop your substitute paper forms. Print “950106” on page 1 of Form 941, “950206” on page 2 of Form 941, and “950306” on Schedule B (Form 941) of substitute paper forms. See Section 4 for form ID codes for software-generated forms.

.09 Print the OMB number in the same location as on the official forms.

.10 Print all entry boxes and checkboxes exactly as shown on the official forms.

.11 Print your IRS-issued three-letter substitute form printer source code in the middle at the bottom of page 1 of Form 941.

.12 Print “For Privacy Act and Paperwork Reduction Act Notice, see the back of the Payment Voucher” at the bottom of page 1 of Form 941.

.13 Print “For Paperwork Reduction Act Notice, see separate instructions” at the bottom of Schedule B (Form 941).

.14 Do not print the form catalog number (“Cat. No.”) at the bottom of the forms or instructions.

.15 Do not print the Government Printing Office (GPO) symbol at the bottom of the forms or instructions.

.16 See Exhibits A and B in Section 8.

.01 You may use the 6x10 grid exhibits (C and D) at the end of this document to develop a software version of Form 941 and Schedule B (Form 941). Please follow the specifications exactly to develop the fields.

.02 If you are developing software that is designed using the 6x10 grid in the exhibits, you may make the following modifications. See Exhibits C and D in Section 8.

.03 If producing both the form and the data or the form only, print your three-letter IRS-issued form printer source code in Row 63, Columns 49-51 on page 1 of Form 941. See Section 3.11.

.04 If producing only the data on the form, print your four-digit software industry form code in Row 4, Columns 58-61 on page 1 of Form 941. See the National Association of Computerized Tax Processors (NACTP) website at www.nactp.org for information on these codes.

.05 Print “For Privacy Act and Paperwork Reduction Act Notice, see the Payment Voucher” at the bottom of page 1 of Form 941.

.06 Print “For Paperwork Reduction Act Notice, see separate instructions” at the bottom of Schedule B (Form 941).

.07 Do not print the form catalog number (“Cat. No.”) at the bottom of the forms or instructions.

.08 Do not print the Government Printing Office (GPO) symbol at the bottom of the forms or instructions.

.09 To enable accurate scanning and processing, enter data on Form 941 and Schedule B (Form 941) as follows:

.01 The Paperwork Reduction Act (the Act) of 1995 (Public Law 104-13) requires the following.

.02 This information must be provided to any users of official or substitute IRS forms or instructions.

.03 The OMB requirements for substitute IRS forms are the following.

.04 If no instructions are provided to users on your forms, you must furnish to them the exact text of the Privacy Act and Paperwork Reduction Act Notice.

.01 You can order official IRS forms and information copies of federal tax materials at local IRS offices or by calling the IRS National Distribution Center at 1-800-829-3676. Other ways to get federal tax material include the following.

.02 The IRS also offers an alternative to downloading electronic files and provides current and prior year access to tax forms and instructions through its Federal Tax Forms CD-ROM. Order Publication 1796, IRS Federal Tax Products CD-ROM, by using the IRS website at www.irs.gov/cdorders or by calling 1-877-CDFORMS (1-877-233-6767).

.01 Revenue Procedure 2005-21, 2005-1 C.B. 899 (reproduced as Publication 4436, Rev. 4-2005) is superseded.

.01 Please follow the specifications indicated in the following exhibits to produce substitute Form 941 and Schedule B (Form 941).

.02 These forms are subject to review and possible change as required. Therefore, employers are cautioned against overstocking supplies of privately-printed substitutes.

.03 Do not submit substitute Form 941 and Schedule B (Form 941) to the IRS for approval. Substitute Form 941 and Schedule B (Form 941) that completely conform to the specifications contained in this revenue procedure may be privately printed without prior approval from the IRS. Substitute forms filed with the IRS that do not conform may be returned. See Section 3 of this publication.

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The purpose of this revenue procedure is to announce the introduction of user fees for requests submitted to the U.S. competent authority for discretionary determinations under limitation on benefits provisions of U.S. income tax treaties. This revenue procedure modifies section 14 (Fees) of Rev. Proc. 2002-52, 2002-2 C.B. 242, and will be effective for such requests submitted on or after May 4, 2006.

Almost all U.S. income tax treaties contain a limitation on benefits article. A resident of a Contracting State must satisfy one of the enumerated tests set forth in that article to be entitled to U.S. treaty benefits with respect to an item of income, profit or gain. The U.S. competent authority will not make a determination on whether or not a resident of a Contracting State meets the conditions of one of these enumerated tests. However, if a resident of a Contracting State does not meet one of the tests, most limitation on benefits articles authorize the U.S. competent authority to make a discretionary determination that the resident be entitled to some or all of the benefits of the income tax treaty. Rev. Proc. 2002-52, Procedures for Obtaining Competent Authority Assistance, currently sets forth rules for requesting a discretionary determination under a limitation on benefits provision of an income tax treaty. Section 3.08 of Rev. Proc. 2002-52.

Section 14 of Rev. Proc. 2002-52 currently provides that user fees are not required as a condition to requesting competent authority assistance, including requests for a discretionary determination pursuant to section 3.08. The Internal Revenue Service has recently determined that user fees are appropriate for this limited type of request for competent authority assistance. The rules for these user fees are set forth below and will be incorporated into the next update of Rev. Proc. 2002-52.

Section 14 of Rev. Proc. 2002-52, 2002-2 C.B. 242, is modified accordingly.

This revenue procedure is effective May 4, 2006.

The principal author of this revenue procedure is Quyen P. Huynh of the Office of Associate Chief Counsel (International). For further information regarding this revenue procedure, contact Quyen P. Huynh at (202) 622-3880 (not a toll-free call).

Internal Revenue Service (IRS), Treasury.

Withdrawal of notice of proposed rulemaking.

This document withdraws a notice of proposed rulemaking (REG-131264-04, 2004-38 I.R.B. 506) regarding the treatment of manufacturer incentive payments. The proposed regulations were published in the Federal Register on August 13, 2004 (69 FR 50112). After consideration of additional issues, the IRS and Treasury Department have decided to withdraw the proposed regulations.

These proposed regulations are withdrawn on May 8, 2006.

Frances Kelly, (202) 622-7770 (not a toll-free number).