[Federal Register: November 16, 2007 (Volume 72, Number 221)]
[Proposed Rules]
[Page 64545-64558]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr16no07-17]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[REG-151884-03]
RIN 1545-BD81
Update and Revision of Sections 1.381(c)(4)-1 and 1.381(c)(5)-1
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking.
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SUMMARY: This document contains proposed regulations that provide
guidance under sections 381(c)(4) and (c)(5) of the Internal Revenue
Code (Code) relating to the accounting method or combination of
methods, including the inventory method, to use after certain corporate
reorganizations and tax-free liquidations. These proposed regulations
clarify and simplify the existing regulations under sections 381(c)(4)
and (c)(5). The regulations affect corporations that acquire the assets
of other corporations in transactions described in section 381(a).
DATES: Written or electronic comments and requests for a public hearing
must be received by February 14, 2008.
ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-151884-03), Room
5203, Internal Revenue Service, PO Box 7604, Ben Franklin Station,
Washington, DC 20044. Submissions may be hand-delivered Monday through
Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-
151884-03), Courier's Desk, Internal Revenue Service, 1111 Constitution
Avenue, NW., Washington, DC, or sent electronically via the Federal
eRulemaking Portal at http://www.regulations.gov/ (IRS REG-151884-03).
FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations,
Cheryl Oseekey at (202) 622-4970; concerning submissions of comments
and requests for a hearing, Kelly Banks at (202) 622-7180 (not toll-
free numbers).
SUPPLEMENTARY INFORMATION:
Background and Explanation of Provisions
Overview
Section 381 of the Code was enacted in 1954 to provide statutory
authority for determining the carryover of certain tax attributes,
including accounting methods, in certain corporate reorganizations and
tax-free liquidations. Regulations implementing section 381(c)(4) were
issued on August 5, 1964 (29 FR 11263). On August 23, 1972, the IRS
proposed to revise these regulations (37 FR 16947). On December 23,
1998, the IRS withdrew the regulations that had been proposed in 1972
(63 FR 71047). Regulations implementing section 381(c)(5) were issued
on January 15, 1975 (40 FR 2684).
Section 1.381(c)(4)-1 generally provides that after a section
381(a) transaction, the accounting method or combination of methods
used by the parties to the section 381(a) transaction prior to the
transaction will continue. However, when the accounting methods used
prior to the section 381(a) transaction cannot continue to be used
after the transaction, Sec. 1.381(c)(4)-1 identifies the accounting
method(s) to use after the transaction. Section 1.381(c)(5)-1 provides
similar rules regarding inventory accounting methods.
The IRS and the Treasury Department are aware that the current
regulations are inconsistent in the treatment of adjustments for
inventory methods and for other accounting methods, and that there is
confusion regarding the appropriate procedure for making accounting
method changes required by section 381. In a notice of proposed
rulemaking (68 FR 25310) issued on May 12, 2003, regarding sections
263A and 448, the IRS and the Treasury Department indicated that
guidance regarding the accounting method(s) to be used after a section
381(a) transaction was contemplated. This notice of proposed rulemaking
provides that guidance.
This notice of proposed rulemaking generally continues many of the
provisions of the regulations originally issued in 1964 and 1975
regarding the accounting method or combination of methods to be used by
the corporation that acquires the assets of another corporation in a
section 381(a) transaction. However, the following
[[Page 64546]]
changes to these regulations are proposed.
Consistency Between Sections 381(c)(4) and (c)(5)
Under the current regulations, there are several inconsistencies
between the rules that apply to accounting method changes made pursuant
to section 381(c)(4) and those made under section 381(c)(5). The
proposed regulations generally make the rules that apply to accounting
method changes made pursuant to section 381(c)(4) consistent with the
rules that apply to changes made under section 381(c)(5).
Determining the Method To Be Used After the Section 381(a) Transaction
In general, the current regulations under both sections 381(c)(4)
and (c)(5) provide that the accounting method to be used after a
section 381(a) transaction by the party that survives the
reorganization or liquidation (acquiring corporation) will depend on
whether (1) The parties to the section 381(a) transaction used (or did
not use) the same accounting method on the date of the section 381(a)
transaction, and (2) The businesses of the parties to the section
381(a) transaction are combined after the transaction by the party that
survives the transaction. If different methods are used and the
combined corporations are operated as a single trade or business after
the section 381(a) transaction, then the principal and special method
(including the inventory method) rules apply.
The parties to the section 381(a) transaction determine the
principal method by applying various tests under the regulations. The
applicable test depends on whether the method under consideration is
the overall accounting method, the method for a particular type of
goods for which the Code or regulations provide a special method or
methods, or an inventory method. The rules under the current
regulations also address situations in which there is no principal
method, or the principal method does not clearly reflect income.
Currently, the regulations provide that if there is no principal method
after applying the appropriate test or if that method is impermissible,
the Commissioner shall select a suitable accounting method to use after
the transaction.
The IRS and the Treasury Department believe that the various tests
in the regulations and the need for the Commissioner in some situations
to select a suitable accounting method to be used after the transaction
have caused confusion and have led to controversies between taxpayers
and the IRS. In order to eliminate the confusion and uncertainty and
provide simplicity and uniformity, the IRS and the Treasury Department
propose to provide rules that are similar to the current regulations
but have a default rule to determine the principal method.
The proposed regulations generally provide under both sections
381(c)(4) and (c)(5) that the accounting method to be used after a
section 381(a) transaction by the acquiring corporation will depend on
whether (1) The businesses of the parties to the section 381(a)
transaction are combined after the transaction by the acquiring
corporation, and (2) The method is permissible. As under the current
regulations, if the trades or businesses of the parties to the section
381(a) transaction are operated as separate trades or businesses after
the section 381(a) transaction, an accounting method used by the
parties prior to the section 381(a) transaction carries over and is
used by the acquiring corporation provided the method is permissible
(carryover method). If the trades or businesses of the parties to the
section 381(a) transaction are not operated as separate trades or
businesses after the section 381(a) transaction, then the acquiring
corporation must determine and use the principal method.
The proposed regulations provide a general rule that the principal
method generally is the accounting method used by the acquiring
corporation prior to the section 381(a) transaction. However, there are
two exceptions. First, if the acquiring corporation does not have an
accounting method for a particular item or type of goods, the principal
method is the accounting method for the item or type of goods used by
the distributor or transferor corporation prior to the section 381(a)
transaction. Second, if the distributor or transferor corporation is
larger than the acquiring corporation, the principal methods for the
overall accounting method and for the accounting method for a
particular item or type of goods are the methods used by the
distributor or transferor corporation prior to the section 381(a)
transaction. The principal method continues to be determined separately
for the overall accounting method and for any special accounting
methods, such as an accounting method used for a long-term contract.
Under the proposed regulations, whether the distributor or
transferor corporation is larger than the acquiring corporation is
determined using the test in Sec. 1.381(c)(4)-1 of the current
regulations for determining the overall principal method for methods
other than inventory. Therefore, the parties to the section 381(a)
transaction will compare their relative sizes in terms of total asset
bases and gross receipts for both the overall accounting method and for
special accounting methods. For inventory, whether the distributor or
transferor corporation is larger than the acquiring corporation will be
determined based on the value of the inventory using a test similar to
the test in Sec. 1.381(c)(5)-1 of the current regulations. The
principal method is the inventory method used by the party with the
largest fair market value of a particular type of goods. The
regulations provide a simplified election that allows the acquiring
corporation to apply the principal method test by comparing the value
of the entire inventories of the parties to the section 381(a)
transaction rather than the value of each particular type of goods.
Under the proposed regulations, if the carryover method or
principal method is an impermissible method, the acquiring corporation
generally must file a request to change to a permissible accounting
method. However, if the carryover method is impermissible solely
because only a single accounting method with respect to a particular
item may be used by the acquiring corporation on the date of the
section 381(a) transaction regardless of the number of separate and
distinct trades or businesses operated on that date, the acquiring
corporation must use the principal method as determined under Sec.
1.381(c)(4)-1(c) of the proposed regulations.
All parties to a section 381(a) transaction may request permission
to change their accounting methods for the taxable year in which the
transaction occurs or is expected to occur under section 446(e).
However, the acquiring corporation need not secure the Commissioner's
consent to continue a carryover method or use the principal method.
Additionally, there is confusion under the current regulations as
to whether an accounting method is established immediately upon use of
a carryover method or principal method if the method is impermissible,
and as to the appropriate remedy if an acquiring corporation discovers
after the deadline for filing a request to change an accounting method
for the year of the section 381(a) transaction that the carryover
method or principal method is an impermissible method. The proposed
regulations make it clear that every accounting method, whether it is a
carryover method or a principal method, and whether the method is a
permissible or impermissible method, is an established accounting
method. Therefore, if an acquiring corporation
[[Page 64547]]
discovers after the deadline for filing a request to change an
accounting method for the year of the section 381(a) transaction that
it is using an impermissible method, the acquiring corporation must
file for an accounting method change to a permissible accounting method
for the taxable year following the section 381(a) transaction.
Determining Adjustments Arising From a Change in an Accounting Method
Under Sections 381(c)(4) and (c)(5)
Under the current regulations in Sec. 1.381(c)(4)-1, once a
principal method is determined, any party to the section 381(a)
transaction that is required to change its accounting method to the
principal method must compute the adjustment necessary to reflect the
change by determining the difference between its tax liability as
reflected on its actual return computed using its old accounting
method, and the tax liability reflected on a hypothetical federal
income tax return using the new accounting method. This adjustment is
computed as if, on the date of the section 381(a) transaction, each
changing corporation initiates an accounting method change. If there is
an increase or decrease in tax liability, the acquiring corporation
takes into account the hypothetical increase or decrease in tax in the
taxable year that includes the date of the section 381(a) transaction.
The procedures are different for inventory under the current
regulations in Sec. 1.381(c)(5)-1. In lieu of the acquiring
corporation taking into account the hypothetical increase or decrease
in tax in the taxable year that includes the date of the section 381(a)
transaction, the acquiring corporation takes the increase or decrease
in income attributable to the accounting method change directly into
account.
The IRS and the Treasury Department believe that the procedures for
implementing changes to a principal method under the current
regulations have been inconsistently applied and are another source of
confusion. The proposed regulations modify Sec. 1.381(c)(4)-1 and
generally apply the adjustment methodology used under section 446(e)
and Sec. 1.381(c)(5)-1 of the current regulations. The proposed
regulations generally make accounting method changes to a principal
method and the resulting section 481(a) adjustment, if any,
procedurally consistent with accounting method changes made pursuant to
section 446(e). Accordingly, the acquiring corporation computes the
section 481(a) adjustment necessary to reflect the accounting method
change, if any, as if it had initiated an accounting method change for
the trade or business required to implement the principal method. The
acquiring corporation takes into account the appropriate amount of the
section 481(a) adjustment, if any, computed as of the date of the
section 381(a) transaction, from the accounting method change as an
increase or decrease to its taxable income on the date of the section
381(a) transaction.
Furthermore, to simplify the procedures under section 381(a) for
accounting method changes, the proposed regulations provide that the
rules governing accounting method changes under section 446(e) apply to
determine (1) Whether the section 381(a) accounting method change is
implemented with a section 481(a) adjustment or on a cut-off basis, (2)
The computation of the section 481(a) adjustment, and (3) The
appropriate period of taxable years over which the adjustment is
included in taxable income. These rules are contained in applicable
administrative published procedures that govern voluntary accounting
method changes under section 446(e). (See, for example, Rev. Proc.
2002-9 (2002-1 CB 327) (see Sec. 601.601(d)(2)(ii)(b) of this
chapter), as modified and clarified by Announcement 2002-17 (2002-1 CB
561), modified and amplified by Rev. Proc. 2002-19 (2002-1 CB 696) (see
Sec. 601.601(d)(2)(ii)(b) of this chapter), and amplified, clarified
and modified by Rev. Proc. 2002-54 (2002-2 CB 432), and Rev. Proc. 97-
27 (1997-1 CB 680) (see Sec. 601.601(d)(2)(ii)(b) of this chapter), as
modified and amplified by Rev. Proc. 2002-19, as amplified and
clarified by Rev. Proc. 2002-54). For example, if the current
administrative procedures allow a section 481(a) adjustment to be taken
into account over a period of four years for a particular accounting
method change, an acquiring corporation will take into account one-
fourth of the section 481(a) adjustment in the taxable year that
includes the section 381(a) transaction, and one-fourth of the section
481(a) adjustment in each of the subsequent three years.
Time and Manner of Requesting Permission To Change an Accounting Method
Under Sec. 1.381(c)(4)-1 or Sec. 1.381(c)(5)-1
Under the current regulations, if the acquiring corporation cannot
use a principal method because it is impermissible, that is, it does
not clearly reflect income or it conflicts with a closing agreement, or
the acquiring corporation does not want to use the principal method
even though it is permissible, there is confusion as to the manner in
which a taxpayer requests the Commissioner's permission to use a
different accounting method. Specifically, it is unclear whether an
acquiring corporation may file a Form 3115, Application for Change in
Accounting Method, to request the Commissioner's permission or whether
the acquiring corporation must file a request for a private letter
ruling. The proposed regulations make it clear that a taxpayer must
request an accounting method change consistent with the manner in which
accounting method changes are requested pursuant to section 446(e),
that is, on a Form 3115.
The regulations under section 446(e) currently allow taxpayers to
request an accounting method change at any time during the taxable
year. See Sec. 1.446-1(e)(3)(i). Under Sec. Sec. 1.381(c)(4)-1(d) and
1.381(c)(5)-1(d) of the current regulations, the time for filing a
request for an accounting method change is inconsistent with the
section 446(e) regulations. Although the times for filing under these
two regulations were consistent when the regulations were initially
published, the section 446(e) regulations were subsequently amended
without making conforming changes to Sec. Sec. 1.381(c)(4)-1(d) and
1.381(c)(5)-1(d) of the current regulations. This inconsistency also
has caused confusion. Rev. Proc. 2005-63 (2005-2 CB 491) (see Sec.
601.601(d)(2)(ii)(b) of this chapter) was issued to address the
problem. The revenue procedure extends the time to file a request to
change an accounting method to the later of (1) The last day of the
taxable year in which the distribution or transfer occurred, or (2) The
earlier of (a) the day that is 180 days after the section 381(a)
transaction date, or (b) the day on which the acquiring corporation
files its tax return for the taxable year in which the distribution or
transfer occurred.
The proposed regulations generally incorporate the time provided in
Rev. Proc. 2005-63 for requesting the Commissioner's consent to change
an accounting method. The IRS and the Treasury Department intend by
this revision generally to conform the due dates for requesting an
accounting method change under sections 381(c)(4) and (c)(5) to the due
dates for requesting other accounting method changes under section
446(e), while providing sufficient time to request the Commissioner's
consent if the section 381(a) transaction occurs at or near the end of
a taxable year.
[[Page 64548]]
Changing Accounting Methods in the Taxable Year of the Section 381(a)
Transaction
The existing regulations under sections 381(c)(4) and (c)(5)
require certain adjustments attributable to an accounting method change
to be taken into account entirely in one taxable year. The adjustment
required of the acquiring corporation under the existing section
381(c)(4) regulations is to take into account the hypothetical tax
increase due to the accounting method change rather than a section
481(a) adjustment. The administrative procedures applicable to
voluntary accounting method changes historically have required a
section 481(a) adjustment to be taken into account over a period of
taxable years. This discrepancy in when the adjustments are taken into
account produced an incentive for taxpayers to request a voluntary
accounting method change in the year in which the section 381(a)
transaction occurred for changes that would result in a positive
adjustment while making changes that would result in a negative
adjustment under the rules in Sec. 1.381(c)(4)-1 or Sec. 1.381(c)(5)-
1 of the current regulations. The IRS generally declined to entertain
requests for an accounting method change that otherwise would be
effected pursuant to sections 381(c)(4) and (c)(5). More recently,
however, the administrative procedures that apply to voluntary
accounting method changes have provided for taking positive section
481(a) adjustments into account over a period of taxable years while
allowing negative section 481(a) adjustments to be taken into account
in the year in which the method change is effected, which lessens the
incentive to make an accounting method change under section 446(e) in
lieu of section 381(a).
Generally, the proposed regulations provide that the acquiring
corporation will be permitted to request an accounting method change
for the taxable year in which the section 381(a) transaction occurs.
The proposed regulations also provide that the other parties to a
section 381(a) transaction will be allowed to request accounting method
changes for the taxable year that ends with the section 381(a)
transaction. For trades or businesses that will not operate as separate
trades or businesses after the section 381(a) transaction, an
accounting method change will be granted only if the requested method
is the method that will continue to be used after the section 381(a)
transaction. For example, an acquiring corporation will be granted
permission to change an accounting method only if the proposed method
will be the principal method on the date of the section 381(a)
transaction. The IRS generally will not grant an accounting method
change to a distributor or transferor corporation for the taxable year
that ends with the section 381(a) transaction if that method must
change to a different method under the principal method rules of
Sec. Sec. 1.381(c)(4)-1(c) and 1.381(c)(5)-1(c) of the proposed
regulations. Similarly, the IRS generally will not grant an accounting
method change to an acquiring corporation in the taxable year that
includes the section 381(a) transaction if that method must change to a
different method under the principal method rules of Sec. Sec.
1.381(c)(4)-1(c) and 1.381(c)(5)-1(c) of the proposed regulations. If
and when the proposed regulations are finalized, the IRS and the
Treasury Department intend to make changes to the administrative
procedures applicable to voluntary accounting methods to generally
allow changes during the year of a section 381(a) transaction as
previously described and will change relevant terms and conditions, as
needed, particularly for taxpayers who are under exam or in appeals.
Audit Protection
Changes to the principal method under Sec. Sec. 1.381(c)(4)-1 and
1.381(c)(5)-1 of the current regulations are made without audit
protection. The IRS and the Treasury Department believe that audit
protection is not warranted when either the carryover method or
principal method, as applicable, is used in the context of voluntary
compliance under sections 381(c)(4) and (c)(5). Unlike accounting
method changes under section 446(e) for which a taxpayer must disclose
its use of an improper accounting method as part of the accounting
method change process, changes to a principal method pursuant to
Sec. Sec. 1.381(c)(4)-1 and 1.381(c)(5)-1 of the current regulations
are made by the taxpayer on the tax return without disclosing the
change on a Form 3115, Application for Change in Accounting Method.
The IRS and the Treasury Department, however, believe that audit
protection is warranted when an accounting method other than the
carryover method or principal method is used in the context of
voluntary compliance under sections 381(c)(4) and (c)(5). Under the
proposed regulations, a taxpayer using an improper accounting method
may request permission to change the method at any time before the end
of its taxable year. Thus, if the acquiring corporation is using an
improper accounting method or would be required to use an improper
accounting method because of the application of Sec. 1.381(c)(4)-1 or
Sec. 1.381(c)(5)-1 of the proposed regulations, it can request consent
to change to a proper accounting method. That change will be accorded
the usual audit protection procedures provided in guidance issued under
section 446(e) for the requested change. Similarly, if another party to
the section 381(a) transaction is using an improper accounting method,
it may request consent to change to a proper accounting method at any
time prior to the section 381(a) transaction. That change also will be
accorded the usual audit protection procedures provided in guidance
issued under section 446(e) for the requested change.
Proposed Effective/Applicability Date
These regulations are proposed to apply to corporate
reorganizations and tax-free liquidations described in section 381(a)
that occur on or after the date these regulations are published as
final regulations in the Federal Register.
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory assessment is not required. It is hereby
certified that these regulations will not have a significant economic
impact on a substantial number of small entities. Therefore, a
regulatory flexibility analysis under the Regulatory Flexibility Act (5
U.S.C. chapter 6) is not required. Although there is a lack of
available data regarding the extent to which small entities engage in
the corporate reorganizations and tax-free liquidations described in
section 381(a), this certification is based on the belief of the IRS
and the Treasury Department that these transactions generally involve
larger entities. Notwithstanding this certification that only large
entities are affected, these proposed regulations will not have a
significant economic impact on large or small taxpayers. These proposed
regulations will reduce burden on taxpayers by clarifying existing
rules and simplifying the procedures for requesting changes in
accounting methods to methods other than the carryover or principal
methods. Additionally, these proposed regulations make the
implementation rules more consistent with the general rules for changes
in accounting methods. Therefore, because these proposed regulations
would generally clarify and simplify existing rules, these regulations
will not have a significant economic impact on a substantial number of
small entities. The IRS and
[[Page 64549]]
the Treasury Department specifically solicit comment from any party,
particularly affected small entities, on the accuracy of this
certification. 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.
Comments and Requests for Public Hearing
Before these proposed regulations are adopted as final regulations,
consideration will be given to any written (a signed original and 8
copies) or electronic comments that are submitted timely to the IRS.
The IRS and the Treasury Department want to provide clear, consistent,
and administrable rules that will reduce the uncertainty and
controversy in this area. Thus, the IRS and the Treasury Department
request comments on the clarity of the proposed rules and how they can
be made easier to understand. Topics on which comments are requested
include: (1) In determining the relative sizes of the parties to a
section 381(a) transaction, is it appropriate to calculate the gross
receipts for a representative period by examining the gross receipts
that are properly recognized under the acquiring corporation's and the
distributor or transferor corporation's accounting method used for that
period for federal income tax purposes, and (2) For a taxpayer using
the last-in, first-out (LIFO) inventory method, should the principal
method be applied at the level of each particular type of goods, or to
pools of goods? All comments will be made available for public
inspection and copying. A public hearing will be scheduled if requested
in writing by any person that timely submits written comments. If a
public hearing is scheduled, notice of the date, time, and place for
the public hearing will be published in the Federal Register.
Drafting Information
The principal author of these regulations is Cheryl Oseekey, Office
of Associate Chief Counsel (Income Tax and Accounting). However, other
personnel from the IRS and the Treasury Department participated in
their development.
List of Subjects in 26 CFR 1
Income taxes, Reporting and recordkeeping requirements.
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is proposed to be amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 continues to read in
part as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.381(c)(4)-1 also issued under 26 U.S.C. 381(c)(4). * *
*
Section 1.381(c)(5)-1 also issued under 26 U.S.C. 381(c)(5). * *
*
Par. 2. In Sec. 1.381(a)-1, paragraph (b)(1)(i) is revised and
paragraph (e) is added to read as follows:
Sec. 1.381(a)-1 General rule relating to carryovers in certain
corporate acquisitions.
* * * * *
(b) * * *
(1) * * * (i) The complete liquidation of a subsidiary corporation
upon which no gain or loss is recognized in accordance with the
provisions of section 332;
* * * * *
(e) Effective/applicability date. The rules of paragraph (b)(1)(i)
of this section apply to corporate reorganizations and tax-free
liquidations described in section 381(a) that occur on or after the
date of publication of the Treasury decision adopting these rules as
final regulations in the Federal Register.
Par. 3. Section1.381(c)(4)-1 is revised to read as follows:
Sec. 1.381(c)(4)-1 Accounting method.
(a) Introduction--(1) Purpose. This section provides guidance
regarding the accounting method or combination of methods (other than
inventory and depreciation accounting methods) an acquiring corporation
must use following a distribution or transfer to which sections 381(a)
and (c)(4) apply and how to implement any associated accounting method
changes. See Sec. 1.381(c)(5)-1 for guidance regarding the inventory
accounting methods an acquiring corporation must use following a
distribution or transfer to which sections 381(a) and (c)(5) apply. See
Sec. 1.381(c)(6)-1 for guidance regarding the depreciation accounting
methods an acquiring corporation must use following a distribution or
transfer to which sections 381(a) and (c)(6) apply.
(2) Carryover requirement--(i) In general. In a transaction to
which section 381(a) applies, if an acquiring corporation operates the
trades or businesses of the parties to the section 381(a) transaction
as separate and distinct trades or businesses after the date of
distribution or transfer, then the acquiring corporation generally must
use the same accounting method(s) used by the distributor or transferor
corporation(s) on the date of distribution or transfer for the acquired
trade or business (carryover method). If an acquiring corporation does
not operate the trades or businesses of the parties to the section
381(a) transaction as separate and distinct trades or businesses after
the date of distribution or transfer, then the acquiring corporation
must use a principal method as determined under paragraph (c) of this
section and must take into account any section 481(a) adjustment, if
applicable, as required under paragraph (d)(1) of this section. The
acquiring corporation need not secure the Commissioner's consent to
continue or to use a permissible carryover method or principal method.
(ii) Carryover method or principal method not permissible. In
general, if a carryover method or principal method is an impermissible
accounting method, the acquiring corporation must secure the
Commissioner's consent to change to a different accounting method as
provided in paragraph (d)(2) of this section. If, however, a carryover
method is impermissible solely because only a single accounting method
with respect to a particular item may be used by the acquiring
corporation after the date of the section 381(a) transaction regardless
of the number of separate and distinct trades or businesses operated on
that date, the acquiring corporation must use a principal method as
determined under paragraph (c) of this section.
(iii) Voluntary change. All parties to a section 381(a) transaction
may request permission under section 446(e) to change an accounting
method for the taxable year in which the transaction occurs or is
expected to occur. For trades or businesses that will not operate as
separate trades or businesses after the section 381(a) transaction, an
accounting method change will be granted only if the requested method
is the method that the acquiring corporation must use after the date of
the distribution or transfer in the taxable year that includes the
section 381(a) transaction. The time and manner of obtaining the
Commissioner's consent to change to a different accounting method is
described in paragraph (d)(2) of this section.
(iv) Examples. The following examples illustrate the rules of this
paragraph (a):
Example 1. Separate and distinct trades or businesses after the
date of the distribution
[[Page 64550]]
or transfer--(i) Facts. X Corporation operates an employment agency
that uses the overall cash receipts and disbursements accounting
method. T Corporation operates an educational institution that uses
an overall accrual method. X Corporation acquires the assets of T
Corporation in a transaction to which section 381(a) applies. X
Corporation operates the employment agency and educational
institution as separate and distinct trades or businesses after the
date of the section 381(a) transaction.
(ii) Conclusion. After the section 381(a) transaction, X
Corporation will use the cash receipts and disbursements method for
the employment agency and an accrual method for the educational
institution. X Corporation need not secure the Commissioner's
consent to continue either accounting method.
Example 2. Carryover of special accounting method--(i) Facts. X
Corporation provides personal grooming consulting and T Corporation
provides weight management consulting. Both X Corporation and T
Corporation use an overall accrual method. X Corporation acquires
all of the assets of T Corporation in a transaction to which section
381(a) applies. X Corporation operates the personal grooming and
weight management consulting businesses as separate and distinct
trades or businesses after the date of the section 381(a)
transaction. X Corporation has made an election to use the recurring
item exception under Sec. 1.461-4(h). T Corporation has not.
(ii) Conclusion. After the section 381(a) transaction, X
Corporation will use an overall accrual method for both the personal
grooming consulting business and the weight management consulting
business. X Corporation must continue to use the recurring item
exception under Sec. 1.461-4(h) for the personal grooming
consulting business. X Corporation need not secure the
Commissioner's consent to continue its overall accrual method and
the recurring item exception under Sec. 1.461-4(h) for the personal
grooming consulting business.
Example 3. One accounting method allowed--(i) Facts. X
Corporation is an engineering firm that uses the overall cash
receipts and disbursements accounting method and has elected under
section 171 to amortize bond premium with respect to its taxable
bonds acquired at a premium. T Corporation is a manufacturer that
uses an overall accrual accounting method and has not made a section
171 election to amortize bond premium with respect to its taxable
bonds acquired at a premium. X Corporation acquires the assets of T
Corporation in a transaction to which section 381(a) applies. X
Corporation operates the engineering firm and manufacturing
operations as separate and distinct trades or businesses after the
date of the section 381(a) transaction.
(ii) Conclusion. After the section 381(a) transaction, X
Corporation will use the cash receipts and disbursements method for
the engineering firm and an overall accrual method for the
manufacturing operations. X Corporation may not continue separate
accounting methods for amortizable bond premium, notwithstanding
that it has two separate and distinct trades or businesses, because
a taxpayer is permitted only one accounting method for amortizable
bond premium. For both trades or businesses, X Corporation must use
the principal method for bond premium as determined under paragraph
(c) of this section. X Corporation will make the necessary changes
to this principal method using the procedures described in paragraph
(d)(1) of this section. Further, if the principal method is not to
amortize bond premium, X Corporation may make an election to
amortize bond premium to the extent permitted by section 171. See
paragraph (e)(2) of this section.
Example 4. Voluntary change--(i) Facts. The facts are the same
as in Example 1 except that X Corporation wants to cease using an
overall accrual method for the educational institution and change to
the cash receipts and disbursements method.
(ii) Conclusion. X Corporation must secure the Commissioner's
consent to use the cash receipts and disbursements method for the
educational institution by filing a Form 3115, Application for
Change in Accounting Method, as described in paragraph (d)(2) of
this section.
(b) Definitions--(1) Accounting method has the same meaning as
provided in section 446 and any applicable regulations.
(2) Special accounting method is a method expressly permitted or
required by the Code, Income Tax Regulations, or administrative
guidance published in the Internal Revenue Bulletin that deviates from
the normal application of the cash receipts and disbursements method or
an accrual method. For example, the installment method under section
453 and the mark-to-market method under section 475 are special
accounting methods. See Sec. 1.446-1(c)(1)(iii).
(3) Principal method is an accounting method that is determined
under paragraph (c) of this section.
(4) Adopting an accounting method has the same meaning as provided
in Sec. 1.446-1(e)(1).
(5) Changing an accounting method has the same meaning as provided
in Sec. 1.446-1(e)(2).
(6) Acquiring corporation has the same meaning as provided in Sec.
1.381(a)-1(b)(2).
(7) Distributor corporation means the corporation, foreign or
domestic, that distributes its assets to another corporation described
in section 332(b) in a distribution to which section 332 (relating to
liquidations of subsidiaries) applies.
(8) Transferor corporation means the corporation, foreign or
domestic, that transfers its assets to another corporation in a
transfer to which section 361 (relating to nonrecognition of gain or
loss to corporations) applies, but only if--
(i) The transfer is in connection with a reorganization described
in section 368(a)(1)(A), (C), or (F), or
(ii) The transfer is in connection with a reorganization described
in section 368(a)(1)(D) or (G), provided the requirements of section
354(b) are met.
(9) Parties to the section 381(a) transaction means the acquiring
corporation and the distributor or transferor corporation(s) that
participate in a transaction to which section 381(a) applies.
(10) Date of distribution or transfer has the same meaning as
provided in section 381(b)(2) and Sec. 1.381(b)-(1)(b).
(11) Separate and distinct trades or businesses has the same
meaning as provided in Sec. 1.446-1(d).
(12) Gross receipts means all the receipts in the appropriate
period that must be recognized under the acquiring corporation's and
the distributor or transferor corporation's accounting method actually
used in that period (determined without regard to this section) for
federal income tax purposes. For example, gross receipts includes
income from investments, amounts received for services, rents, total
sales (net of returns and allowances) and interest.
(13) Audit protection means that the IRS will not require the
corporation required to change its accounting method under this section
to change its method for the same item for a taxable year prior to the
taxable year of the section 381(a) transaction requiring the change in
accounting method.
(14) Section 481(a) adjustment means an adjustment that must be
taken into account as required under section 481(a) to prevent amounts
from being duplicated or omitted when the taxable income of a taxpayer
is computed under an accounting method different from the method used
to compute taxable income for the preceding taxable year.
(15) Cut-off basis means an accounting method change made without a
section 481(a) adjustment and under which only the items arising on or
after the date the accounting method change is made are accounted for
under the new accounting method.
(16) Adjustment period means the number of taxable years for taking
into account the section 481(a) adjustment required as a result of an
accounting method change.
(c) Principal method--(1) In general. The principal methods for the
overall accounting method and for all accounting methods for particular
items generally are the accounting methods used by the acquiring
corporation immediately prior to the date of the section 381(a)
transaction (acquiring
[[Page 64551]]
corporation's carryover method(s)). If, however, the acquiring
corporation does not have an accounting method for a particular item or
if the distributor or transferor corporation is larger, the principal
methods are the methods used by the distributor or transferor
corporation immediately prior to the date of the transaction
(distributor or transferor corporation's carryover method). The
distributor or transferor corporation is larger if the--
(i) Adjusted bases of the distributor or transferor corporation's
assets (determined under section 1011 and the regulations thereunder)
exceed the adjusted bases of the acquiring corporation's assets
immediately prior to the date of distribution or transfer, and
(ii) The distributor or transferor corporation's gross receipts for
a representative period (generally the most recent period of 12
consecutive calendar months ending on the date of distribution or
transfer) exceed the acquiring corporation's gross receipts for the
same period.
(2) Examples. The following examples illustrate the rules of this
paragraph (c):
Example 1. Principal method is the acquiring corporation's
carryover method--(i) Facts. X Corporation and T Corporation operate
employment agencies. X Corporation uses the overall cash receipts
and disbursements accounting method while T Corporation uses an
overall accrual method. X Corporation acquires the assets of T
Corporation in a transaction to which section 381(a) applies. The
adjusted bases of X Corporation's assets immediately prior to the
transaction exceed the adjusted bases of T Corporation's assets and
X Corporation's gross receipts for the representative period are
more than T Corporation's gross receipts for the period. The
employment agencies are not operated as separate and distinct trades
or businesses after the date of the distribution or transfer.
(ii) Conclusion. Because the adjusted bases of the assets and
the gross receipts of X Corporation exceed the adjusted bases of the
assets and the gross receipts of T Corporation, the accounting
method used by X Corporation immediately prior to the date of the
section 381(a) transaction is the principal method. After the
section 381(a) transaction, X Corporation uses the cash receipts and
disbursements method for the employment agency business operated by
X Corporation prior to the section 381(a) transaction. X Corporation
need not secure the Commissioner's consent to use this method.
However, X Corporation must change the accounting method for the
employment agency business acquired from T Corporation to the cash
receipts and disbursements method and take into account the
applicable section 481(a) adjustment as provided in paragraph (d)(1)
of this section.
Example 2. Principal method is the acquiring corporation's
carryover method--(i) Facts. The facts are the same as in Example 1
except that T Corporation's gross receipts for the representative
period exceed X Corporation's gross receipts.
(ii) Conclusion. Because the gross receipts of T Corporation
exceed the gross receipts of X Corporation but the adjusted bases of
the assets of T Corporation do not exceed the adjusted bases of the
assets of X Corporation, the accounting method used by X Corporation
immediately prior to the date of the section 381(a) transaction is
the principal method. After the section 381(a) transaction, X
Corporation will use the cash receipts and disbursements method for
the employment agency business operated by X Corporation prior to
the section 381(a) transaction. X Corporation need not secure the
Commissioner's consent to use this method. However, X Corporation
must change the accounting method for the employment agency business
acquired from T Corporation to the cash receipts and disbursements
method and take into account the applicable section 481(a)
adjustment as provided in paragraph (d)(1) of this section.
Example 3. Principal method is the distributor or transferor
corporation's carryover method--(i) Facts. The facts are the same as
in Example 1 except that the adjusted bases of T Corporation's
assets immediately prior to the section 381(a) transaction exceed
the adjusted bases of Corporation X's assets and T Corporation's
gross receipts for the representative period are more than X
Corporation's gross receipts for the period.
(ii) Conclusion. Because the adjusted bases of the assets and
the gross receipts of T Corporation exceed the adjusted bases of the
assets and the gross receipts of X Corporation, the accounting
method used by T Corporation immediately prior to the date of the
section 381(a) transaction is the principal method. After the
section 381(a) transaction, X Corporation uses an overall accrual
method for the employment agency business operated by T Corporation
prior to the section 381(a) transaction. X Corporation need not
secure the Commissioner's consent to use this method. However, X
Corporation must change the accounting method for the employment
agency business operated by X Corporation prior to the section
381(a) transaction to an overall accrual method and take into
account the applicable section 481(a) adjustment as provided in
paragraph (d)(1) of this section. If X Corporation chooses, it may
request the Commissioner's consent to change to the cash receipts
and disbursements method, if permissible, or some other permissible
method as provided in paragraph (d)(2) of this section.
Example 4. Impermissible method--(i) Facts. The facts are the
same as in Example 1 except that X Corporation is prohibited under
section 448 from using the cash receipts and disbursements method
after the date of the section 381(a) transaction.
(ii) Conclusion. Because X Corporation is not permitted under
section 448 to use the cash receipts and disbursements method, X
Corporation must request permission to change to a permissible
method as provided in paragraph (d)(2) of this section.
Example 5. Principal method is the acquiring corporation's
carryover method with a special accounting method--(i) Facts. X
Corporation and T Corporation publish magazines. X Corporation
acquires the assets of T Corporation in a transaction to which
section 381(a) applies. Both X Corporation and T Corporation use an
overall accrual method. X Corporation has elected to defer income
from its subscription sales under section 455. T Corporation has not
elected to defer income from its subscription sales under section
455 and instead has recognized the income from these sales in
accordance with section 451. The adjusted bases of X Corporation's
assets immediately prior to the section 381(a) transaction exceed
the adjusted bases of T Corporation's assets and X Corporation's
gross receipts for the representative period are more than T
Corporation's gross receipts for the period. The publication
businesses are not operated as separate and distinct trades or
businesses after the date of the distribution or transfer.
(ii) Conclusion. Because the adjusted bases of the assets and
the gross receipts of X Corporation exceed the adjusted bases of the
assets and the gross receipts of T Corporation, the accounting
method used by X Corporation immediately prior to the date of the
section 381(a) transaction is the principal method. After the
section 381(a) transaction, X Corporation will continue to use its
overall accrual method and the section 455 deferral method. X
Corporation need not secure the Commissioner's consent to continue
to use its overall accrual method and the section 455 deferral
method. However, under paragraph (d)(1) of this section X
Corporation must change its accounting method for the magazine
business acquired from T Corporation to the section 455 deferral
method using a cut-off basis.
Example 6. Principal method is the acquiring corporation's
carryover method with a special accounting method--(i) Facts. The
facts are the same as in Example 5 except that T Corporation's gross
receipts for the representative period exceed X Corporation's gross
receipts for the period.
(ii) Conclusion. Because the gross receipts of T Corporation
exceed the gross receipts of X Corporation but the adjusted bases of
the assets of T Corporation do not exceed the adjusted bases of the
assets of X Corporation, the accounting method used by X Corporation
immediately prior to the date of the section 381(a) transaction is
the principal method. After the section 381(a) transaction, X
Corporation continues to use an overall accrual method and the
section 455 deferral method. X Corporation need not secure the
Commissioner's consent to continue to use an overall accrual method
and the section 455 deferral method. However, under paragraph (d)(1)
of this section X Corporation must change its accounting method for
the magazine business acquired from T Corporation to the section 455
deferral method using a cut-off basis.
(d) Procedures for changing accounting methods--(1) Change made to
principal method--(i) Section 481(a) adjustment--(A) In general. The
acquiring corporation does not need to secure the Commissioner's
consent to use a principal method. To the extent
[[Page 64552]]
use of a principal method constitutes a change in an accounting method,
the change in accounting method is treated as a change initiated by the
acquiring corporation for purposes of section 481(a)(2). Any change to
a principal method under paragraph (c)(1) of this section, whether the
change relates to the trade or business of the acquiring corporation or
the trade or business of the distributor or transferor corporation,
must be reflected on the acquiring corporation's federal income tax
return for the taxable year that includes the date of distribution or
transfer. The amount of the section 481(a) adjustment and the
adjustment period, if any, necessary to implement this accounting
method change are determined under Sec. 1.446-1(e) and the applicable
administrative procedures that govern voluntary changes in accounting
methods under section 446(e). The appropriate section 481(a) adjustment
as determined above is included in the taxable income of the acquiring
corporation for the taxable year that includes the date of distribution
or transfer and subsequent taxable year(s), as necessary. Thus, if the
administrative procedures require that an accounting method change be
implemented on a cut-off basis, the acquiring corporation must
implement the change, on a cut-off basis as of the date of distribution
or transfer, on its federal income tax return for the taxable year that
includes the date of distribution or transfer. If the administrative
procedures require a section 481(a) adjustment, the acquiring
corporation must determine the section 481(a) adjustment and include
the appropriate amount of the section 481(a) adjustment on its federal
income tax return for the taxable year that includes the date of
distribution or transfer and subsequent taxable year(s), as necessary.
This adjustment is determined by the acquiring corporation as of the
beginning of the day that is immediately after the day on which the
section 381(a) transaction occurs.
(B) Example. The following example illustrates the rules of this
paragraph (d)(1)(i):
Example. X Corporation uses the overall cash receipts and
disbursements accounting method while T Corporation uses an overall
accrual method. X Corporation acquires the assets of T Corporation
in a transaction to which section 381(a) applies. X Corporation
determines that under the rules of paragraph (c)(1) of this section,
X Corporation must change the accounting method for the business
acquired from T Corporation to the cash receipts and disbursements
method. X Corporation will determine the section 481(a) adjustment
pertaining to the change to the cash receipts and disbursements
method by consolidating the adjustments (whether the amounts thereof
represent increases or decreases in items of income or deductions)
arising with respect to balances in the various accounts, such as
accounts receivable, as of the beginning of the day that immediately
follows the day on which X Corporation acquires the assets of T
Corporation. This adjustment, or an appropriate part thereof, will
be reflected on the federal income tax return filed by X Corporation
for the taxable year that includes this section 381(a) transaction.
(ii) Audit protection. Notwithstanding any other provision in any
other regulation or administrative procedure, no audit protection is
provided for any change in accounting method under paragraph (d)(1)(i)
of this section.
(iii) Other terms and conditions. Except as otherwise provided in
this section, other terms and conditions provided in Sec. 1.446-1(e)
and the applicable administrative procedures that govern voluntary
accounting method changes under section 446(e) apply to a change in
accounting method under this section. Thus, for example, if the
administrative procedures that govern a particular accounting method
change have a term and condition that provides for the acceleration of
the section 481(a) adjustment period, this term and condition applies
to changes made under this paragraph (d)(1). Similarly, if the
administrative procedures provide as a term and condition that an
identical accounting method change is barred for a period of years,
this term and condition applies to changes made under this paragraph
(d)(1) to bar future changes of that accounting method, if identical,
for the same period, but not changes to the principal method under this
section.
(2) Change made to an accounting method other than the principal
method or a carryover method. A party to a section 381(a) transaction
that desires to change to an accounting method other than the principal
method as determined under paragraph (c) of this section, or a
carryover method within the meaning of paragraph (a)(2)(i) of this
section, must follow the provisions of Sec. 1.446-(1)(e) that govern
the accounting method change, except that for an accounting method
change requiring advance consent--
(i) Under the authority of Sec. 1.446-1(e)(3)(ii), the application
for accounting method change (for example, Form 3115) must be filed
with the IRS on or before the later of--
(A) The due date for filing a Form 3115 as specified in Sec.
1.446-1(e), for example, the last day of the taxable year in which the
distribution or transfer occurred, or
(B) The earlier of--
(1) The day that is 180 days after the date of the distribution or
transfer, or
(2) The day on which the acquiring corporation files its federal
income tax return for the taxable year in which the distribution or
transfer occurred; and
(3) An application on Form 3115 filed with the IRS should be
labeled ``Filed under section 381(c)(4)'' at the top.
(e) Rules and procedures--(1) No accounting method. If a party to a
section 381(a) transaction is not using an accounting method, does not
have an accounting method for a particular item, or came into existence
as a result of the transaction, the party will not be treated as having
an accounting method different from that used by the other parties to
the section 381(a) transaction.
(2) Elections and adoptions allowed. An acquiring corporation is
not precluded by section 381(c)(4) or these regulations from making any
election for the taxable year that includes the date of distribution or
transfer that does not require the Commissioner's consent and that is
otherwise permissible. Similarly, an acquiring corporation may adopt
any accounting method in that year that is otherwise permissible.
(3) Elections continue after section 381(a) transaction--(i)
General rule. The acquiring corporation is not required to renew any
election previously made by it or by a distributor or transferor
corporation with respect to a carryover method or principal method if
the acquiring corporation uses the method after a section 381(a)
transaction. Furthermore, an election previously made by an acquiring
corporation or by a distributor or transferor corporation with respect
to a method that is in effect immediately prior to the date of
distribution or transfer continues to the same extent as though the
distribution or transfer had not occurred.
(ii) Examples. The following examples illustrate the rules of this
paragraph (e)(3):
Example 1. Election continues. The acquiring corporation, X
Corporation, has previously elected to treat animals purchased for
dairy purposes as property used in its trade or business subject to
depreciation after maturity while otherwise using the unit-
livestock-price method. X Corporation's accounting method continues
after its merger with T Corporation in a transaction to which
section 381(a) applies. X Corporation is not required to renew its
election, and is bound by it, after the section 381(a) transaction.
Example 2. Election continues. The acquiring corporation, X
Corporation, has previously elected under section 171 to amortize
bond premium with respect to taxable bonds. X Corporation's method
for bond premium continues after T Corporation merges with X
Corporation in a transaction to which section 381(a) applies. X
[[Page 64553]]
Corporation is not required to renew its election, and is bound by
it, after the section 381(a) transaction.
(4) Appropriate times for determining the method used and trade or
business character--(i) Determining the accounting method. The
accounting method existing at the time of a section 381(a) transaction
is the method used immediately prior to the distribution or transfer by
the parties to the transaction.
(ii) Determining whether there are separate trades or businesses
after a section 381(a) transaction. Whether an acquiring corporation
will operate the trades or businesses of the parties to a section
381(a) transaction as separate and distinct trades or businesses after
the distribution or transfer will be determined as of the time of the
transaction based upon the facts and circumstances. Intent to combine
books and records of the trades or businesses may be demonstrated by
contemporaneous records and documents or by other objective evidence
that reflects the acquiring corporation's ultimate plan of operation,
even though the actual combination of the books and records may extend
beyond the end of the taxable year in which the section 381(a)
transaction occurs.
(5) Representative period for accumulating gross receipts. If a
party to the section 381(a) transaction was not in existence for the 12
consecutive months immediately prior to the date of distribution or
transfer, then all parties to the section 381(a) transaction will
compare their gross receipts for the period that the party was in
existence. For example, if the acquiring corporation was formed in
August and the section 381(a) transaction occurred in December of the
same year, the gross receipts for those five months will be compared
with the gross receipts of the other parties to the section 381(a)
transaction for the same period.
(6) Establishing an accounting method. Notwithstanding any other
provision in any other regulation or administrative procedure, an
accounting method used by the distributor or transferor corporation
immediately prior to the date of distribution or transfer that
continues to be used by the acquiring corporation in the taxable year
that includes the date of distribution or transfer is an established
method of accounting for purposes of section 446(e).
(7) Other applicable provisions. Section 381(c)(4) and these
regulations do not preempt any other section of the Code or regulations
that is applicable to the acquiring corporation's circumstances. For
example, income, deductions, credits, allowances, and exclusions may be
allocated among the parties to a section 381(a) transaction and other
taxpayers under sections 269 and 482, if appropriate. Similarly,
transfers of contracts accounted for using a long-term contract
accounting method are governed by the rules provided in Sec. 1.460-
4(k). Further, if other paragraphs of section 381(c) apply for purposes
of determining accounting methods that carryover in a section 381(a)
transaction, section 381(c)(4) and this Sec. 1.381(c)(4)-1 will not
apply to the tax treatment of the items. For example, section 381(c)(4)
and these regulations do not apply to inventories that an acquiring
corporation obtains in a transaction to which section 381(a) applies.
Instead, the rules of section 381(c)(5) and Sec. 1.381(c)(5)-1 govern
the inventory method to be used by the acquiring corporation after the
distribution or transfer. Similarly, if the acquiring corporation
assumes an obligation of the distributor or transferor corporation that
gives rise to a liability, within the meaning of Sec. 1.381(c)(16)-
1(a)(4), the deductibility of the item is determined under section
381(c)(4) and these regulations only after the rules of section
381(c)(16) and its regulations are applied.
(8) Character of items of income and deduction. Items of income and
deduction have the same character in the hands of the acquiring
corporation as they would have had in the hands of the distributor or
transferor corporation if no distribution or transfer had occurred.
(9) Accounting method selected by project or job. If other sections
of the Code or regulations permit an acquiring corporation to elect an
accounting method on a project-by-project, job-by-job, or other similar
basis, the method elected with respect to each project or job is the
established method only for that project or job. For example, the
election under section 460 to classify a ``hybrid contract,'' that is,
a contract to perform both manufacturing and construction activities,
as a long-term construction contract if at least 95 percent of the
estimated total allocable contract costs are reasonably allocated to
the construction activities is made on a contract-by-contract basis.
Accordingly, the accounting method previously elected for a project or
job generally continues after the section 381(a) transaction. However,
if the trades or businesses of the parties to a section 381(a)
transaction are not operated as separate and distinct trades or
businesses after the date of distribution or transfer, and two or more
of the parties to the section 381(a) transaction previously worked on
the same project or job and used different accounting methods for the
project or job immediately before the distribution or transfer, then
the acquiring corporation must determine the method to use after the
section 381(a) transaction as provided in paragraph (c) of this
section.
(10) Prohibited accounting methods. An acquiring corporation may
not use the accounting method determined under paragraph (a)(2) of this
section if the method fails to reflect clearly the acquiring
corporation's income within the meaning of section 446(b). Thus,
section 381(c)(4) and these regulations do not limit, restrict, or
otherwise prevent the Commissioner from requiring the use of another
accounting method.
(f) Effective/applicability date. The rules of this section apply
to corporate reorganizations and tax-free liquidations described in
section 381(a) that occur on or after the date of publication of the
Treasury decision adopting these rules as final regulations in the
Federal Register.
Par. 4. Section 1.381(c)(5)-1 is revised to read as follows:
Sec. 1.381(c)(5)-1 Inventory method.
(a) Introduction--(1) Purpose. This section provides guidance
regarding the inventory accounting method an acquiring corporation must
use following a distribution or transfer to which sections 381(a) and
(c)(5) apply and how to implement any associated accounting method
changes. See Sec. 1.381(c)(4)-1 for guidance regarding the accounting
method or combination of methods (other than inventory and depreciation
accounting methods) an acquiring corporation must use following a
distribution or transfer to which sections 381(a) and (c)(4) apply. See
Sec. 1.381(c)(6)-1 for guidance regarding the depreciation accounting
methods an acquiring corporation must use following a distribution or
transfer to which sections 381(a) and (c)(6) apply.
(2) Carryover requirement--(i) In general. In a transaction to
which section 381(a) applies, if the acquiring corporation operates the
trades or businesses of the parties to the section 381(a) transaction
as separate and distinct trades or businesses after the date of the
distribution or transfer, then the acquiring corporation generally must
use the same accounting method(s) for inventory used by the distributor
or transferor corporation(s) on the date of the section 381(a)
transaction (carryover method). If the acquiring corporation does not
operate the trades or
[[Page 64554]]
businesses of the parties to the section 381(a) transaction as separate
and distinct trades or businesses after the date of distribution or
transfer, then the acquiring corporation must use a principal method as
determined under paragraph (c) of this section and must take into
account any section 481(a) adjustment, if applicable, as required under
paragraph (d)(1) of this section. The acquiring corporation need not
secure the Commissioner's consent to continue or to use a permissible
carryover method or principal method.
(ii) Carryover method or principal method not permissible. In
general, if a carryover method or principal method is an impermissible
accounting method, the acquiring corporation must secure the
Commissioner's consent to change to a different accounting method as
provided in paragraph (d)(2) of this section. If, however, a carryover
method is impermissible solely because only a single inventory method
with respect to a particular type of goods may be used by the acquiring
corporation after the date of the section 381(a) transaction regardless
of the number of separate and distinct trades or businesses operated on
that date, the acquiring corporation must use a principal method as
determined under paragraph (c) of this section.
(iii) Voluntary change. All parties to a section 381(a) transaction
may request permission under section 446(e) to change an inventory
accounting method for the taxable year in which the transaction occurs
or is expected to occur. For trades or businesses that will not operate
as separate trades or businesses after the section 381(a) transaction,
an accounting method change will be granted only if the requested
change is the method that the acquiring corporation must use after the
date of the distribution or transfer in the taxable year that includes
the section 381(a) transaction. The time and manner of obtaining the
Commissioner's consent to change to a different inventory accounting
method is described in paragraph (d)(2) of this section.
(iv) Examples. The following examples illustrate the rules of this
paragraph (a):
Example 1. Separate and distinct trades or businesses after the
date of the distribution or transfer--(i) Facts. X Corporation
manufactures radios and television sets. X Corporation uses the
first-in, first-out (FIFO) inventory method to identify its
inventory goods, values the goods at cost, and capitalizes costs
under section 263A. T Corporation manufactures washing machines and
dryers. T Corporation uses the last-in, first-out (LIFO) inventory
method to identify its inventory goods, values the goods at cost,
and capitalizes costs under section 263A using methods other than
those used by X Corporation. X Corporation acquires the inventory of
T Corporation in a transaction to which section 381(a) applies. X
Corporation operates the two manufacturing operations as separate
and distinct trades or businesses after the date of the section
381(a) transaction.
(ii) Conclusion. After the section 381(a) transaction, for the
business of manufacturing radios and television sets X Corporation
will use the same FIFO inventory method to identify its inventory
goods, value the goods at cost, and capitalize costs under section
263A using the methods it had previously used. For the business of
manufacturing washing machines and dryers X Corporation will use the
same LIFO inventory method to identify its inventory goods, value
the goods at cost, and capitalize costs under section 263A using the
methods previously used by T Corporation. X Corporation need not
secure the Commissioner's consent to continue the inventory methods.
Example 2. Impermissible method--(i) Facts. X Corporation
manufactures food and beverages. X Corporation uses the FIFO
inventory method to identify its inventory goods, values the goods
at cost, and capitalizes costs under section 263A. T Corporation
sells sporting equipment. T Corporation uses the FIFO inventory
method to identify its inventory goods, and values the goods at
cost. T Corporation did not capitalize costs under section 263A
because it met the small reseller exception under section 263A. X
Corporation acquires the inventory of T Corporation in a transaction
to which section 381(a) applies. X Corporation operates the food and
beverage business and the sporting goods business as separate trades
or businesses after the date of the section 381(a) transaction.
After the section 381(a) transaction, X Corporation does not qualify
for the small reseller exception under section 263A for its sporting
equipment business.
(ii) Conclusion. After the section 381(a) transaction, X
Corporation will continue to identify its food and beverage
inventory goods by using the FIFO inventory method, value the
inventory at cost, and use its previously selected cost
capitalization methods under section 263A as provided in paragraph
(a)(2)(i) of this section. X Corporation will continue to identify
its sporting equipment inventory goods by using the FIFO inventory
method and value the inventory at cost in the same manner as T
Corporation did prior to the section 381(a) transaction. X
Corporation need not secure the Commissioner's consent to continue
these inventory methods. Because X Corporation does not qualify for
the small reseller exception under section 263A for its sporting
equipment business, X Corporation must secure the Commissioner's
consent to change to a permissible cost capitalization method under
section 263A for the sporting equipment business. X Corporation must
request this consent by filing a Form 3115, Application for Change
in Accounting Method, using the procedures in paragraph (d)(2) of
this section.
Example 3. Voluntary change--(i) Facts. The facts are the same
as in Example 1 except that X Corporation wants to cease valuing the
radios and television sets at cost and change to the cost or market,
whichever is lower, method.
(ii) Conclusion. X Corporation must secure the Commissioner's
consent to use the cost or market, whichever is lower, method and
must do so by filing a Form 3115 as described in paragraph (d)(2) of
this section.
(b) Definitions--(1) Inventory method is a method used to account
for merchandise on hand (including finished goods, work in process, and
raw materials) at the beginning of a year for purposes of computing
taxable income for that year. The term includes not only the method for
identifying inventory, for example, the FIFO inventory method or the
LIFO inventory method, but also all other methods necessary to account
for merchandise.
(2) Principal method is an accounting method that is determined
under paragraph (c) of this section.
(3) Adopting an accounting method has the same meaning as provided
in Sec. 1.446-1(e)(1).
(4) Changing an accounting method has the same meaning as provided
in Sec. 1.446-1(e)(2).
(5) Acquiring corporation has the same meaning as provided in Sec.
1.381(a)-1(b)(2).
(6) Distributor corporation means the corporation, foreign or
domestic, that distributes its assets to another corporation described
in section 332(b) in a distribution to which section 332 (relating to
liquidations of subsidiaries) applies.
(7) Transferor corporation means the corporation, foreign or
domestic, that transfers its assets to another corporation in a
transfer to which section 361 (relating to nonrecognition of gain or
loss to corporations) applies, but only if--
(i) The transfer is in connection with a reorganization described
in section 368(a)(1)(A), (C), or (F), or
(ii) The transfer is in connection with a reorganization described
in section 368(a)(1)(D) or (G), provided the requirements of section
354(b) are met.
(8) Parties to the section 381(a) transaction means the acquiring
corporation and the distributor or transferor corporation(s) involved
in the transaction to which section 381(a) applies.
(9) Date of distribution or transfer has the same meaning as
provided in section 381(b)(2) and Sec. 1.381(b)-1(b).
(10) Separate and distinct trades or businesses has the same
meaning as provided in Sec. 1.446-1(d).
(11) Audit protection means that the IRS will not require the
corporation
[[Page 64555]]
required to change its accounting method under this section to change
its method for the same item for a taxable year prior to the taxable
year of the section 381(a) transaction requiring the change in
accounting method.
(12) Section 481(a) adjustment means an adjustment that must be
taken into account as required under section 481(a) to prevent amounts
from being duplicated or omitted when the taxable income of a taxpayer
is computed under an accounting method different from the method used
to compute taxable income for the preceding taxable year.
(13) Cut-off basis means an accounting method change made without a
section 481(a) adjustment and under which only the goods arising on or
after the date the accounting method change is made are accounted for
under the new accounting method.
(14) Adjustment period means the number of taxable years for taking
into account the section 481(a) adjustment required as a result of an
accounting method change.
(c) Principal method--(1) In general. The principal method for a
particular type of goods generally is the method used by the acquiring
corporation for that type of goods immediately prior to the date of the
section 381(a) transaction (acquiring corporation's carryover method).
If, however, the acquiring corporation does not have an inventory
accounting method for a particular type of goods or if the distributor
or transferor corporation holds more inventory of that type of goods,
the principal method for that type of goods is the method used by the
distributor or transferor corporation for that type of goods
immediately prior to the date of the transaction (distributor or
transferor corporation's carryover method). The distributor or
transferor corporation holds more inventory if, for a particular type
of goods, the fair market value of the goods held by the distributor or
transferor corporation exceeds the fair market value of the goods held
by the acquiring corporation immediately prior to the date of
distribution or transfer. Alternatively, as a simplifying convention,
the acquiring corporation may elect to apply the preceding sentence to
the value of the entire inventories of the distributor or transferor
corporation and the acquiring corporation rather than to each
particular type of goods.
(2) Examples. The following examples illustrate the rules of this
paragraph (c):
Example 1. Principal method is the acquiring corporation's
carryover method--(i) Facts. X Corporation and T Corporation are
manufacturers of tennis equipment. Both X Corporation and T
Corporation value their inventories at cost but use different
methods to capitalize costs under section 263A. X Corporation uses
the simplified production method without the historic absorption
ratio election provided in Sec. 1.263A-2(b)(3). T Corporation uses
the simplified production method with the historic absorption ratio
election provided in Sec. 1.263A-2(b)(4). Furthermore, X
Corporation identifies its inventory using the FIFO inventory
method, while T Corporation identifies its inventory using the LIFO
inventory method.
X Corporation acquires the inventory of T Corporation in a
transaction to which section 381(a) applies. The manufacturing
businesses are not operated as separate and distinct trades or
businesses after the date of the distribution or transfer.
Immediately prior to the acquisition, the fair market value of each
particular type of goods in X Corporation's inventory exceeds the
fair market value of each particular type of goods in T
Corporation's inventory.
(ii) Conclusion. After the section 381(a) transaction, X
Corporation will continue to identify its inventory using the FIFO
inventory method, value its inventory at cost, and use the
simplified production method without the historic absorption ratio
election because the FIFO inventory method is the principal method
for identifying inventory, cost is the principal method for valuing
inventories, and the simplified production method without the
historic absorption ratio election is the principal method for
allocating costs to ending inventory under section 263A. X
Corporation need not secure the Commissioner's consent to use these
methods. However, with respect to the inventory acquired from T
Corporation, X Corporation will change the method of identifying
inventory to the FIFO inventory method, use the simplified
production method without the historic absorption ratio election,
and take into account the applicable section 481(a) adjustment as
provided in paragraph (d)(1) of this section. If X Corporation
chooses, it may request the Commissioner's consent to change to
another permissible method as provided in paragraph (d)(2) of this
section.
Example 2. Principal method is the distributor or transferor
corporation's carryover method--(i) Facts. The facts are the same as
in Example 1 except that the fair market value of each particular
type of goods in T Corporation's inventory is in excess of the fair
market value of each particular type of goods in X Corporation's
inventory.
(ii) Conclusion. After the section 381(a) transaction, X
Corporation will identify its inventory using the LIFO inventory
method used by T Corporation, value its inventories at cost, and use
the simplified production method with the historic absorption ratio
election, because the LIFO inventory method used by T Corporation is
the principal method for identifying inventory, cost is the
principal method for valuing inventories, and the simplified
production method with the historic absorption ratio election is the
principal method for allocating costs to ending inventory under
section 263A. X Corporation need not secure the consent of the
Commissioner to use these methods. However, with respect to the
inventory manufactured by X Corporation prior to the section 381(a)
transaction, X Corporation will change its methods as needed by
using the procedures of paragraph (d)(1) of this section.
Specifically, X Corporation will change its method of identifying
inventory to the LIFO inventory method using a cut-off basis and
change its cost capitalization method to the simplified production
method with the historic absorption ratio election by taking into
account the applicable section 481(a) adjustment. If X Corporation
chooses, it may request the Commissioner's consent to change to
another permissible method as provided in paragraph (d)(2) of this
section.
Example 3. Principal method is the acquiring corporation's
carryover method--(i) Facts. The facts are the same as in Example 1
except that the fair market values of the inventories of X
Corporation and T Corporation are identical.
(ii) Conclusion. After the section 381(a) transaction, X
Corporation will continue to identify its inventory using the FIFO
inventory method, value its inventory at cost, and use the
simplified production method without the historic absorption ratio
election because the FIFO inventory method is the principal method
for identifying inventory, cost is the principal method for valuing
inventories, and the simplified production method without the
historic absorption ratio election is the principal method for
allocating costs to ending inventory under section 263A. X
Corporation need not secure the Commissioner's consent to use these
methods. However, with respect to the inventory acquired from T
Corporation, X Corporation will change the method of identifying
inventory to the FIFO inventory method, use the simplified
production method without the historic absorption ratio election,
and take into account the applicable section 481(a) adjustment as
provided in paragraph (d)(1) of this section. If X Corporation
chooses, it may request the Commissioner's consent to change to
another permissible method as provided in paragraph (d)(2) of this
section.
Example 4. Inventory convention elected--(i) Facts. X
Corporation manufactures planes and T Corporation manufactures
planes and pool tables. X Corporation identifies its inventory using
the FIFO inventory method and values it at cost or market, whichever
is lower, while T Corporation identifies its inventory using the
LIFO inventory method and values it at cost. Both X Corporation and
T Corporation use the same method to capitalize costs under section
263A.
X Corporation acquires the inventory of T Corporation in a
transaction to which section 381(a) applies. The manufacturing
businesses are not operated as separate and distinct trades or
businesses after the date of the distribution or transfer. In lieu
of determining the fair market value of each particular type of
goods held on the date of distribution or transfer, X Corporation
elects to value the entire inventories held by itself and T
Corporation. Immediately prior to the acquisition, the fair market
value of T Corporation's inventory exceeds the fair market value of
X Corporation's inventory.
(ii) Conclusion. After the section 381(a) transaction, X
Corporation will identify its
[[Page 64556]]
inventory using the LIFO inventory method used by T Corporation and
value this inventory at cost because the LIFO inventory method used
by T Corporation is the principal method for identifying inventory
and cost is the principal method for valuing inventories. X
Corporation need not secure the consent of the Commissioner to use
these methods. However, with respect to the inventory manufactured
by X Corporation prior to the section 381(a) transaction, X
Corporation will change the method of identifying inventory to the
LIFO inventory method on a cut-off basis as provided in paragraph
(d)(1) of this section. The method used prior to the section 381(a)
transaction to capitalize costs under section 263A continues after
the transaction. If X Corporation chooses, it may request the
Commissioner's consent to change to another permissible method as
provided in paragraph (d)(2) of this section.
(d) Procedures for changing accounting methods--(1) Change made to
principal method--(i) Section 481(a) adjustment--(A) In general. The
acquiring corporation does not need to secure the Commissioner's
consent to use a principal method. To the extent use of a principal
method constitutes a change in an accounting method, the change in
accounting method is treated as a change initiated by the acquiring
corporation for purposes of section 481(a)(2). Any change to a
principal method under paragraph (c) of this section, whether the
change relates to the trade or business of the acquiring corporation or
the trade or business of the distributor or transferor corporation,
must be reflected on the acquiring corporation's federal income tax
return for the taxable year that includes the date of distribution or
transfer. The amount of the section 481(a) adjustment and the
adjustment period, if any, necessary to implement this accounting
method change are determined under Sec. 1.446-1(e) and the applicable
administrative procedures that govern voluntary changes in accounting
methods under section 446(e). The appropriate section 481(a) adjustment
as determined above is included in the taxable income of the acquiring
corporation for the taxable year that includes the date of distribution
or transfer and subsequent taxable year(s), as necessary. Thus, if the
administrative procedures require that an accounting method change be
implemented on a cut-off basis, the acquiring corporation must
implement the change, on a cut-off basis as of the date of distribution
or transfer, on its federal income tax return for the taxable year that
includes the date of distribution or transfer. If the administrative
procedures require a section 481(a) adjustment, the acquiring
corporation must determine the section 481(a) adjustment and include
the appropriate amount of the section 481(a) adjustment on its federal
income tax return for the taxable year that includes the section 381(a)
transaction and subsequent taxable year(s), as necessary. This
adjustment is determined by the acquiring corporation as of the
beginning of the day that is immediately after the day on which the
section 381(a) transaction occurs.
(B) Example. The following example illustrates the rules of this
paragraph (d)(1)(i):
Example. X Corporation uses the FIFO inventory method while T
Corporation uses the LIFO inventory method. X Corporation acquires
the assets of T Corporation in a transaction to which section 381(a)
applies on July 15th. X Corporation determines that under the rules
of paragraph (c)(1) of this section, X Corporation must change the
inventory method for the business acquired from T Corporation to the
FIFO inventory method. X Corporation will determine the section
481(a) adjustment pertaining to the change to the FIFO inventory
method (whether the amounts thereof represent increases or decreases
in income) as of the beginning of July 16th. This adjustment, or an
appropriate part thereof, will be included in X Corporation's
federal income tax return for the taxable year that includes July
15th.
(ii) Audit protection. Notwithstanding any other provision in any
other regulation or administrative procedure, no audit protection is
provided for any change in accounting method under paragraph (d)(1)(i)
of this section.
(iii) Other terms and conditions. Except as otherwise provided in
this section, other terms and conditions provided in Sec. 1.446-1(e)
and the applicable administrative procedures that govern voluntary
changes in accounting methods under section 446(e) apply to a change in
accounting method under this section. Thus, for example, if the
administrative procedures that govern a particular accounting method
change have a term and condition that provides for the acceleration of
the section 481(a) adjustment period, this term and condition applies
to changes made under this paragraph (d)(1). Similarly, if the
administrative procedures provide as a term and condition that an
identical accounting method change is barred for a period of years,
this term and condition applies to changes made under this paragraph
(d)(1) to bar future changes of that accounting method, if identical,
for the same period, but not changes to the principal method under this
section.
(2) Change made to an accounting method other than the principal
method or a carryover method. A party to a section 381(a) transaction
that desires to change to an accounting method other than the principal
method as determined under paragraph (c) of this section, or a
carryover method within the meaning of paragraph (a)(2)(i) of this
section, must follow the provisions of Sec. 1.446-(1)(e) that govern
the accounting method change, except that for an accounting method
change requiring advance consent--
(i) Under the authority of Sec. 1.446-1(e)(3)(ii), the application
for accounting method change (for example, Form 3115) must be filed
with the IRS on or before the later of--
(A) The due date for filing a Form 3115 as specified in Sec.
1.446-1(e), for example, the last day of the taxable year in which the
distribution or transfer occurred, or
(B) The earlier of--
(1) The day that is 180 days after the date of the distribution or
transfer, or
(2) The day on which the acquiring corporation files its federal
income tax return for the taxable year in which the distribution or
transfer occurred; and
(ii) An application on Form 3115 filed with the IRS should be
labeled ``Filed under section 381(c)(5)'' at the top.
(e) Rules and procedures--(1) Inventory method selected for a
particular type of goods. If other sections of the Code or Income Tax
Regulations allow a taxpayer to elect an inventory method for a
particular type of goods, the method elected with respect to those
goods is the established inventory method only for those goods. For
example, an election to use the LIFO inventory method to identify
specified goods in inventory, such as certain products in finished
goods, is the inventory method only for those products.
(2) No accounting method. If a party to a section 381(a)
transaction is not using an inventory method, does not have a
particular type of goods immediately prior to the date of distribution
or transfer, or came into existence as a result of the transaction, the
party will not be treated as having an inventory accounting method
different from that used by the other parties to the section 381(a)
transaction.
(3) Elections and adoptions allowed. An acquiring corporation is
not precluded by section 381(c)(5) or these regulations from making any
election for the taxable year that includes the date of distribution or
transfer that does not require the Commissioner's consent and that is
otherwise permissible. Similarly, an acquiring corporation may adopt
any accounting method in that year that is otherwise permissible. For
example, an acquiring corporation may elect to identify its inventory
using the LIFO
[[Page 64557]]
inventory method in the year of the distribution or transfer.
(4) Elections continue after section 381(a) transaction. The
acquiring corporation is not required to renew any election previously
made by it or by a distributor or transferor corporation with respect
to a carryover method or principal method if the acquiring corporation
uses the method after a section 381(a) transaction. Furthermore, an
election previously made by an acquiring corporation or by a
distributor or transferor corporation with respect to a method that is
in effect immediately prior to the date of distribution or transfer
continues to the same extent as though the distribution or transfer had
not occurred. For example, when the acquiring corporation has elected
to use the LIFO inventory method under section 472 prior to the date of
the section 381(a) transaction and the method continues after the
transaction, the acquiring corporation need not renew this inventory
election and is bound by it after the date of the transaction.
(5) Adopting the LIFO inventory method. A party to a section 381(a)
transaction will be deemed to be using the LIFO inventory method with
respect to a particular type of goods on the date of distribution or
transfer if such party elects under section 472 to adopt that inventory
method with respect to those goods for its taxable year within which
the date of distribution or transfer occurs. See section 472 for the
requirements to adopt the LIFO inventory method.
(6) Inventory layers treatment--(i) Adjustments required after a
section 381(a) transaction. An acquiring corporation that determines
the principal method of taking an inventory after a section 381(a)
transaction under paragraph (c) of this section may need to integrate
inventories and make appropriate adjustments as provided in paragraphs
(e)(6)(ii) and (iii) of this section.
(ii) LIFO inventory method used after the section 381(a)
transaction--(A) LIFO inventory method used by the distributor or
transferor corporation--(1) Dollar-value method. If an acquiring
corporation is required to use the LIFO dollar-value method of pricing
inventories (dollar-value method) for a particular type of goods for
its taxable year that includes the date of the section 381(a)
transaction, and immediately prior to the distribution or transfer the
distributor or transferor corporation used the specific goods method of
pricing inventories for that particular type of goods, the inventory of
the distributor or transferor corporation shall be placed on the
dollar-value method as provided in Sec. 1.472-8(f), and then the
inventory shall be integrated with the inventory of the acquiring
corporation. If pools of each corporation are required to be combined,
the pools shall be combined as provided in Sec. 1.472-8(g)(2). For
purposes of combining pools, all base-year inventories or layers of
increment that occur in taxable years including the same December 31
shall be combined. A base-year inventory or layer of increment
occurring in any short taxable year not including a December 31, or in
the final taxable year of a distributor or transferor corporation,
shall be merged with and considered a layer of increment of its
immediately preceding taxable year.
(2) Specific goods method. If an acquiring corporation is required
to use the specific goods method of pricing inventories for a
particular type of goods for its taxable year that includes the date of
the section 381(a) transaction, and immediately prior to the
distribution or transfer the distributor or transferor corporation used
the LIFO inventory method for that particular type of goods, the
inventory shall be treated by the acquiring corporation as having the
acquisition dates and costs of the distributor or transferor
corporation.
(B) LIFO inventory method not used by the distributor or transferor
corporation. If an acquiring corporation is required to use the LIFO
inventory method for a particular type of goods for its taxable year
that includes the date of the section 381(a) transaction, and
immediately prior to the distribution or transfer the distributor or
transferor corporation did not use the LIFO inventory method for that
particular type of goods, the inventory shall be treated by the
acquiring corporation as having been acquired at average unit cost in a
single transaction on the date of the distribution or transfer. Thus,
if an inventory of a particular type of goods is combined in an
existing dollar-value pool, the goods shall be treated as if they were
purchased by the acquiring corporation at the average unit cost on the
date of the distribution or transfer with respect to such pool.
Alternatively, if the goods are not combined in an existing pool, the
goods will be treated as if they were purchased by the acquiring
corporation at the average unit cost on the date of the distribution or
transfer with respect to a new pool, with the base year being the year
of the section 381(a) transaction. Adjustments resulting from a
restoration to cost of any write-down to market value of the
inventories of a distributor or transferor corporation shall be taken
into account by the distributor or transferor corporation in its final
taxable year ending on the date of the distribution or transfer. See
section 472(d).
(iii) FIFO inventory method used after the section 381(a)
transaction--(A) FIFO inventory method used by the distributor or
transferor corporation. If an acquiring corporation is required to use
the FIFO inventory method for a particular type of goods for its
taxable year that includes the date of the section 381(a) transaction,
and immediately prior to the distribution or transfer the distributor
or transferor corporation used the FIFO inventory method for that
particular type of goods, the inventory of that type of goods shall be
treated by the acquiring corporation as having the same acquisition
dates and costs as the distributor or transferor corporation. However,
if the acquiring corporation values its inventories at cost or market,
whichever is lower, the acquiring corporation shall treat the
inventories of the distributor or transferor corporation as having been
acquired at cost or market, whichever is lower.
(B) FIFO inventory method not used by the distributor or transferor
corporation. If an acquiring corporation is required to use the FIFO
inventory method for a particular type of goods for its taxable year
that includes the date of the section 381(a) transaction, and
immediately prior to the distribution or transfer the distributor or
transferor corporation did not use the FIFO inventory method for that
particular type of goods, the inventory of the distributor or
transferor corporation shall be treated by the acquiring corporation as
having the same acquisition dates and costs that the inventory would
have had if the distributor or transferor corporation had been using
the FIFO inventory method for its taxable year ending on the date of
distribution or transfer. However, if the acquiring corporation values
its inventories at cost or market, whichever is lower, the acquiring
corporation shall treat the acquired inventories as having been
acquired at cost or market, whichever is lower.
(7) Appropriate times for determining the method used and trade or
business character--(i) Determining the accounting method. The
accounting method existing at the time of a section 381(a) transaction
is the method used immediately prior to the date of distribution or
transfer by the parties to the transaction.
(ii) Determining whether there are separate trades or businesses
after a section 381(a) transaction. Whether an acquiring corporation
will operate the trades or businesses of the parties to a
[[Page 64558]]
section 381(a) transaction as separate and distinct trades or
businesses after the distribution or transfer will be determined at the
time of the transaction based upon the facts and circumstances. Intent
to combine books and records of the trades or businesses may be
demonstrated by contemporaneous records and documents or by other
objective evidence that reflects the acquiring corporation's ultimate
plan of operation, even though the actual combination of the books and
records may extend beyond the end of the taxable year in which the
section 381(a) transaction occurs.
(8) Establishing an accounting method for taking an inventory.
Notwithstanding any other provision in any other regulation or
administrative procedure, an accounting method used by the distributor
or transferor corporation immediately prior to the date of distribution
or transfer that continues to be used by the acquiring corporation in
the taxable year that includes the date of distribution or transfer is
an established method of accounting for purposes of section 446(e).
(9) Other applicable provisions. Section 381(c)(5) and these
regulations do not preempt any other section of the Code or regulations
that is applicable to the acquiring corporation's circumstances.
Section 381(c)(5) and this Sec. 1.381(c)(5)-1 determine only the
inventory method to be used after a section 381(a) transaction.
Specifically, section 381(c)(5) and this Sec. 1.381(c)(5)-1 do not
apply to assets other than inventory that an acquiring corporation
obtains in a transaction to which section 381(a) applies.
(10) Use of the cash receipts and disbursements method. If a party
to a section 381(a) transaction uses the cash receipts and
disbursements method within the meaning of section 446(c)(1) and Sec.
1.446-1(c)(1)(i), or is not required to use inventory accounting
methods for its goods, immediately prior to the date of distribution or
transfer, section 381(c)(5) and Sec. 1.381(c)(5)-1 do not apply.
Section 381(c)(4) and Sec. 1.381(c)(4)-1 must be applied to determine
the accounting methods that continue after the transaction.
(11) Character of items of income and deduction. Items of income
and deduction have the same character in the hands of the acquiring
corporation as they would have had in the hands of the distributor or
transferor corporation if no distribution or transfer had occurred.
(12) Prohibited methods. An acquiring corporation may not use the
accounting method determined under paragraph (a)(2) of this section if
the method fails to reflect clearly the acquiring corporation's income
within the meaning of section 446(b). Thus, section 381(c)(5) and these
regulations do not limit, restrict, or otherwise prevent the
Commissioner from requiring the use of another accounting method.
(f) Effective/applicability date. The rules of this section apply
to corporate reorganizations and tax-free liquidations described in
section 381(a) that occur on or after the date of publication of the
Treasury decision adopting these rules as final regulations in the
Federal Register.
Par. 5. Section 1.446-1 is amended by:
1. Revising the first sentence in paragraph (e)(3)(i) and adding a
new second sentence.
2. Revising the first sentence in paragraph (e)(4)(i).
3. Adding paragraph (e)(4)(iii).
The revisions and addition read as follows:
Sec. 1.446-1 General rule for methods of accounting.
* * * * *
(e) * * *
(3) * * * (i) Except as otherwise provided under the authority of
paragraph (e)(3)(ii) of this section, to secure the Commissioner's
consent to a taxpayer's change in method of accounting, the taxpayer
generally must file an application on Form 3115 with the Commissioner
during the taxable year in which the taxpayer desires to make the
change in method of accounting. See Sec. Sec. 1.381(c)(4)-1(d)(2) and
1.381(c)(5)-1(d)(2) for rules allowing additional time, in some
circumstances, for the filing of an application on Form 3115 with
respect to a transaction to which section 381(a) applies.
* * * * *
(4) * * * (i) In general. Except as provided in paragraphs
(e)(3)(iii), (e)(4)(ii) and (e)(4)(iii) of this section, paragraph (e)
of this section applies on or after December 30, 2003.
* * * * *
(iii) Effective/applicability date for paragraph (e)(3)(i). The
rules of paragraph (e)(3)(i) of this section apply to corporate
reorganizations and tax-free liquidations described in section 381(a)
that occur on or after the date of publication of the Treasury decision
adopting these rules as final regulations in the Federal Register.
Linda E. Stiff,
Deputy Commissioner for Services and Enforcement.
[FR Doc. E7-22411 Filed 11-15-07; 8:45 am]
BILLING CODE 4830-01-P