Disregarded Entities; Employment and Excise Taxes, 45891-45894 [E7-16078]

Agencies

• Internal Revenue Service
• DEPARTMENT OF THE TREASURY

[Federal Register Volume 72, Number 158 (Thursday, August 16, 2007)]
[Rules and Regulations]
[Pages 45891-45894]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: E7-16078]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Parts 1 and 301

[TD 9356]
RIN 1545-BE43


Disregarded Entities; Employment and Excise Taxes

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations under which qualified 
subchapter S subsidiaries and single-owner eligible entities that 
currently are disregarded as entities separate from their owners for 
Federal tax purposes will be treated as separate entities for 
employment tax and related reporting requirement purposes. This 
document also contains final regulations that treat such disregarded 
entities as separate entities for purposes of certain excise taxes 
reported on Forms 720, ``Quarterly Federal Excise Tax Return;'' 730, 
``Monthly Tax Return for Wagers;'' 2290, ``Heavy Highway Vehicle Use 
Tax Return;'' and 11-C, ``Occupation Tax and Registration Return for 
Wagering;'' excise tax refunds or payments claimed on Form 8849, 
``Claim for Refund of Excise Taxes;'' and excise tax registrations on 
Form 637, ``Application for Registration (For Certain Excise Tax 
Activities).'' These regulations affect disregarded entities and the 
owners and employees of disregarded entities with respect to the 
payment and reporting of Federal employment taxes and the reporting of 
wage payments. These regulations also affect disregarded entities and 
their owners in the payment and reporting of certain Federal excise 
taxes and in registration and claims related to certain Federal excise 
taxes.

DATES: Effective Date: These regulations are effective on August 16, 
2007.
    Applicability Dates: With respect to employment taxes, these 
regulations apply to wages paid on or after January 1, 2009. With 
respect to excise taxes, these regulations apply to liabilities imposed 
and actions first required or permitted in periods beginning on or 
after January 1, 2008.

FOR FURTHER INFORMATION CONTACT: John Richards at (202) 622-6040 (on 
the employment tax provisions) or Susan Athy at (202) 622-3130 (on the 
excise tax provisions) (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

    This document contains amendments to 26 CFR parts 1 and 301. On 
October 18, 2005, a notice of proposed rulemaking (REG-114371-05) was 
published in the Federal Register (70 FR 60475) proposing to treat 
qualified subchapter S subsidiaries (QSubs) (under section 
1361(b)(3)(B) of the Internal Revenue Code (Code)) and certain other 
single-owner eligible entities (under Sec. Sec.  301.7701-1 through 
301.7701-3 of the Procedure and Administrative Regulations) that 
currently are disregarded as entities separate from their owners 
(disregarded entities) as separate entities for purposes of employment 
tax and related reporting requirements and for purposes of certain 
excise taxes reported on Forms 720, 730, 2290, and 11-C; excise tax 
refunds or payments claimed on Form 8849; and excise tax registrations 
on Form 637. Comments addressing employment taxes were received from 
the public in response to the notice of proposed rulemaking. No 
comments were received regarding the excise tax provisions of the 
proposed regulations. No public hearing was requested or held. After 
consideration of all the comments, the proposed regulations are adopted 
as revised by this Treasury decision.

Summary of Comments and Changes Made

    As provided in the proposed regulations, the final regulations 
provide that a disregarded entity is treated as a separate entity for 
purposes of employment taxes and related reporting requirements. The 
final regulations clarify that the separate entity is treated as a 
corporation for purposes of employment taxes and related reporting 
requirements. As provided in the proposed regulations, a disregarded 
entity continues to be disregarded for other Federal tax purposes. The 
final regulations clarify that an owner of a disregarded entity treated 
as a sole proprietorship is subject to taxes under the Self-Employment 
Contributions Act (SECA) (section 1401 et seq.). Additionally, the 
final regulations retain the example illustrating that an individual 
owner of a disregarded entity continues to be treated as self-employed 
for purposes of SECA taxes, and not as an employee of a disregarded 
entity for employment tax purposes.
    Commentators suggested that the proposed regulations not be 
finalized, and that Notice 99-6 (1999-1 CB 321) be retained. Notice 99-
6 provides that employment taxes and other employment tax obligations 
with respect to employees of a disregarded entity may be satisfied in 
one of two ways: (1) Calculation, reporting, and payment of all 
employment tax obligations with respect to employees of the disregarded 
entity by its owner (as though the employees of the disregarded entity 
are employed directly by the owner) and under the owner's name and 
taxpayer identification number; or (2) separate calculation, reporting, 
and payment of all employment tax obligations by each state law entity 
with respect to its employees under its own name and taxpayer 
identification number.
    Commentators stated that the regulations would increase 
administrative burden for taxpayers that currently choose to pay and 
report employment taxes at the owner level as permitted by Notice 99-6. 
Commentators also suggested that if the regulations were finalized, 
complications could arise for states where state employment tax filings 
are required at the owner level. No written comments were received from 
any state.

[[Page 45892]]

The IRS and the Treasury Department continue to believe that 
recognizing disregarded entities as employers for Federal employment 
taxes will improve administration of the Federal tax laws and simplify 
Federal tax compliance with respect to reporting, payment, and 
collection of employment taxes. In addition, because most states 
recognize disregarded entities as employers for reporting, payment, and 
collection of state employment taxes, these regulations will more 
closely align Federal and state reporting, payment and collection of 
employment taxes. Accordingly, this comment is not adopted.
    One commentator requested clarification of the applicability of 
section 3306(c)(8) to services performed for a disregarded entity that 
is owned by an organization described in section 501(c)(3). Section 
3306(c)(8) provides that services performed for an organization 
described in section 501(c)(3) are excepted from the definition of 
employment for Federal Unemployment Tax Act (FUTA) purposes. Even 
though a disregarded entity owned by a section 501(c)(3) organization 
will be regarded for employment tax purposes, the disregarded entity 
will continue to be considered an unincorporated branch or division of 
the section 501(c)(3) organization for other Federal tax purposes. For 
example, the disregarded entity will be considered an unincorporated 
branch or division of the section 501(c)(3) organization for purposes 
of the organization's annual information reporting requirements under 
section 6033. See Announcement 99-102 (1999-2 CB 545). Because section 
3306(c)(8) looks to the employer's status for income tax purposes to 
establish the basis for exemption from FUTA, a disregarded entity owned 
solely by a section 501(c)(3) organization is considered exempt from 
tax under section 501(c)(3) for purposes of section 3306(c)(8). Thus, a 
disregarded entity owned solely by a section 501(c)(3) organization 
will not be subject to FUTA tax on wages it pays its employees.
    One commentator requested clarification of the applicability of the 
backup withholding provisions under section 3406 to disregarded 
entities. Section 3406 requires the payor of certain ``reportable 
payments'' to withhold from such payments a tax at the rate of 28 
percent. For instance, if the payee where required to do so does not 
provide a valid taxpayer identification number (TIN) to the payor, the 
payor must backup withhold on reportable payments to the payee. 
Reportable payments are payments that must be reported to a payee on 
Form 1099, ``U.S. Information Return for Calendar Year 1971,'' such as 
certain payments for services made in the course of a trade or 
business. Wage payments are not reportable payments however, and are 
not subject to backup withholding under section 3406. These regulations 
do not apply to reportable payments under section 3406. Because the 
owner of a disregarded entity other than a QSub is required to file and 
furnish information returns with respect to non-wage reportable 
payments and that requirement is not affected by these regulations, the 
disregarded entity is not subject to the backup withholding 
requirements. Rather, the owner of the disregarded entity is 
responsible for any backup withholding that is required with respect to 
reportable payments considered made by the owner. Under section 
1361(b)(3)(E) disregarded entities that are QSubs are subject to 
information reporting requirements on non-wage payments, unless the 
Secretary provides otherwise. These regulations do not address the 
information reporting for QSubs.

Availability of IRS Documents

    The IRS notice and announcement cited in this preamble are 
published in the Internal Revenue Bulletin or Cumulative Bulletin and 
are available at https://www.irs.gov.

Effective Date

    The employment tax provisions of these regulations apply to wages 
paid on or after January 1, 2009. The notice of proposed rulemaking 
provided that these regulations would become effective with respect to 
wages paid on January 1 following the year of publication of these 
final regulations in the Federal Register, which would have been 
January 1, 2008. However, in order to ensure that taxpayers have 
sufficient time to make any necessary changes to their systems in 
response to these regulations, the IRS and the Treasury Department have 
determined that it is appropriate to delay the effective date of these 
regulations until January 1, 2009.
    The IRS and the Treasury Department believe that the considerations 
that support a January 1, 2009, effective date for the employment tax 
provisions do not apply to the excise tax provisions. Thus, the excise 
tax provisions of these regulations apply to liabilities imposed and 
actions required or permitted in periods beginning on or after January 
1, 2008. For periods beginning before that date, the IRS will treat 
payments made by a disregarded entity, or other actions taken by a 
disregarded entity, with respect to the excise taxes affected by these 
regulations as having been made or taken by the sole owner of that 
entity. Thus, for such periods, the owner of a disregarded entity will 
be treated as satisfying the owner's obligations with respect to the 
excise taxes affected by these regulations, provided that those 
obligations are satisfied either (1) By the owner itself or (2) by the 
disregarded entity on behalf of the owner.

Effect on Other Documents

    Disregarded entities, and the owners of such entities may continue 
to use the procedures permitted by Notice 99-6 for wages paid prior to 
January 1, 2009. Notice 99-6 provides that if the owner calculates and 
pays all employment taxes and satisfies all other employment tax 
obligations with respect to employees of the disregarded entity under 
the owner's name and taxpayer identification number (as permitted under 
method (1) of Notice 99-6) for a return period that begins on or after 
April 20, 1999, then the owner must continue to use this method unless 
and until otherwise permitted by the Commissioner. However, Notice 99-6 
is modified such that a taxpayer may switch to method (2) of Notice 99-
6 with respect to wages paid on or after August 16, 2007 and before 
January 1, 2009, without seeking permission of the Commissioner. 
Taxpayers who switch from method (1) to method (2) with respect to 
wages paid prior to January 1, 2009, may consider wages paid by the 
owner to employees of the disregarded entity during the calendar year 
of the switch as having been paid by the disregarded entity for 
purposes of determining whether wages paid to the disregarded entity's 
employees have reached the contribution and benefit base as determined 
under section 230 of the Social Security Act and for purposes of the 
wage base under section 3306. However, as provided in Notice 99-6, 
regardless of whether the owner uses method (1) or method (2), the 
owner is ultimately responsible for employment tax liabilities and 
other employment tax responsibilities with respect to all wages paid 
prior to January 1, 2009, to employees of the disregarded entity.
    Notice 99-6 is obsoleted as of January 1, 2009.

Special Analyses

    It has been determined that this Treasury decision is not a 
significant regulatory action as defined in Executive Order 12866. 
Therefore, a regulatory assessment is not required. It also has been 
determined that section 553(b) of the Administrative Procedure Act (5 
U.S.C. chapter 5) does not apply

[[Page 45893]]

to these regulations, and because the regulations do not impose a 
collection of information on small entities, the Regulatory Flexibility 
Act (5 U.S.C. chapter 6) does not apply. Pursuant to section 7805(f) of 
the Code, the proposed regulations preceding these regulations were 
submitted to the Chief Counsel for Advocacy of the Small Business 
Administration for comment on their impact on small business.

Drafting Information

    The principal authors of these regulations are Susan Athy, Office 
of Associate Chief Counsel (Passthroughs and Special Industries), and 
John Richards, Office of Associate Chief Counsel (Tax Exempt and 
Government Entities). However, other personnel from the IRS and the 
Treasury Department participated in their development.

List of Subjects

26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

26 CFR Part 301

    Employment taxes, Estate taxes, Excise taxes, Gift taxes, Income 
taxes, Penalties, Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations

0
Accordingly, 26 CFR parts 1 and 301 are amended as follows:

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 continues to read in 
part as follows:

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


0
Par. 2. Section 1.34-1 is revised to read as follows:


Sec.  1.34-1  Special rule for owners of certain business entities.

    Amounts payable under sections 6420, 6421, and 6427 to a business 
entity that is treated as separate from its owner under Sec.  1.1361-
4(a)(8) (relating to certain qualified subchapter S subsidiaries) or 
Sec.  301.7701-2(c)(2)(v) of this chapter (relating to certain wholly-
owned entities) are, for purposes of section 34, treated as payable to 
the owner of that entity.


Sec. Sec.  1.34-2, 1.34-3, 1.34-4, 1.34-5, and 1.34-6  [Removed]

0
Par. 3. Sections 1.34-2, 1.34-3, 1.34-4, 1.34-5, and 1.34-6 are 
removed.


0
Par. 4. Section 1.1361-4 is amended as follows:
0
1. In paragraph (a)(1) introductory text, the language ``Except as 
otherwise provided in paragraphs (a)(3) and (a)(6)'' is removed, and 
the language ``Except as otherwise provided in paragraphs (a)(3), 
(a)(6), (a)(7), and (a)(8)'' is added in its place.
0
2. Paragraphs (a)(7) and (a)(8) are added.
    The additions read as follows:


Sec.  1.1361-4  Effect of QSub election.

    (a) * * *
    (7) Treatment of QSubs for purposes of employment taxes--(i) In 
general. A QSub is treated as a separate corporation for purposes of 
Subtitle C--Employment Taxes and Collection of Income Tax (Chapters 21, 
22, 23, 23A, 24, and 25 of the Internal Revenue Code).
    (ii) Effective/applicability date. This paragraph (a)(7) applies 
with respect to wages paid on or after January 1, 2009.
    (8) Treatment of QSubs for purposes of certain excise taxes--(i) In 
general. A QSub is treated as a separate corporation for purposes of--
    (A) Federal tax liabilities imposed by Chapters 31, 32 (other than 
section 4181), 33, 34, 35, 36 (other than section 4461), and 38 of the 
Internal Revenue Code, or any floor stocks tax imposed on articles 
subject to any of these taxes;
    (B) Collection of tax imposed by Chapter 33 of the Internal Revenue 
Code;
    (C) Registration under sections 4101, 4222, and 4412; and
    (D) Claims of a credit (other than a credit under section 34), 
refund, or payment related to a tax described in paragraph (a)(8)(i)(A) 
of this section or under section 6426 or 6427.
    (ii) Effective/applicability date. This paragraph (a)(8) applies to 
liabilities imposed and actions first required or permitted in periods 
beginning on or after January 1, 2008.


Sec.  1.1361-6  [Amended]


0
Par 5. Section 1.1361-6 is amended by removing the language ``Except as 
provided in Sec. Sec.  1.1361-4(a)(3)(iii), 1.1361-4(a)(5)(i), and 
1.1361-5(c)(2)'' and by adding the language ``Except as provided in 
Sec. Sec.  1.1361-4(a)(3)(iii), 1.1361-4(a)(5)(i), 1.1361-4(a)(6)(iii), 
1.1361-4(a)(7)(ii), 1.1361-4(a)(8)(ii), and 1.1361-5(c)(2)'' in its 
place.

PART 301--PROCEDURE AND ADMINISTRATION

0
Par. 6. The authority citation for part 301 continues to read in part 
as follows:

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


0
Par. 7. Section 301.7701-2 is amended as follows:
0
1. A sentence is added at the end of paragraph (a).
0
2. Paragraph (c)(2)(i) is revised.
0
3. Paragraphs (c)(2)(iv), (c)(2)(v), (e)(5), and (e)(6) are added.
    The additions read as follows:


Sec.  301.7701-2  Business entities; definitions.

    (a) * * * But see paragraphs (c)(2)(iv) and (v) of this section for 
special employment and excise tax rules that apply to an eligible 
entity that is otherwise disregarded as an entity separate from its 
owner.
* * * * *
    (c) * * *
    (2) Wholly owned entities--(i) In general. Except as otherwise 
provided in this paragraph (c), a business entity that has a single 
owner and is not a corporation under paragraph (b) of this section is 
disregarded as an entity separate from its owner.
* * * * *
    (iv) Special rule for employment tax purposes--(A) In general. 
Paragraph (c)(2)(i) of this section (relating to certain wholly owned 
entities) does not apply to taxes imposed under Subtitle C--Employment 
Taxes and Collection of Income Tax (Chapters 21, 22, 23, 23A, 24, and 
25 of the Internal Revenue Code). Paragraph (c)(2)(i) of this section 
does apply to taxes imposed under Subtitle A, including Chapter 2--Tax 
on Self-Employment Income. The owner of an entity that is treated in 
the same manner as a sole proprietorship under paragraph (a) of this 
section will be subject to the tax on self-employment income.
    (B) Treatment of entity. An entity that is otherwise disregarded as 
an entity separate from its owner but for paragraph (c)(2)(iv)(A) of 
this section is treated as a corporation with respect to taxes imposed 
under Subtitle C--Employment Taxes and Collection of Income Tax 
(Chapters 21, 22, 23, 23A, 24, and 25 of the Internal Revenue Code).
    (C) Example. The following example illustrates the application of 
paragraph (c)(2)(iv) of this section:

    Example. (i) LLCA is an eligible entity owned by individual A 
and is generally disregarded as an entity separate from its owner 
for Federal tax purposes. However, LLCA is treated as an entity 
separate from its owner for purposes of subtitle C of the Internal 
Revenue Code. LLCA has employees and pays wages as defined in 
sections 3121(a), 3306(b), and 3401(a).
    (ii) LLCA is subject to the provisions of subtitle C of the 
Internal Revenue Code and related provisions under 26 CFR subchapter 
C, Employment Taxes and Collection of Income Tax at Source, parts 31 
through 39. Accordingly, LLCA is required to perform

[[Page 45894]]

such acts as are required of an employer under those provisions of 
the Internal Revenue Code and regulations thereunder that apply. All 
provisions of law (including penalties) and the regulations 
prescribed in pursuance of law applicable to employers in respect of 
such acts are applicable to LLCA. Thus, for example, LLCA is liable 
for income tax withholding, Federal Insurance Contributions Act 
(FICA) taxes, and Federal Unemployment Tax Act (FUTA) taxes. See 
sections 3402 and 3403 (relating to income tax withholding); 3102(b) 
and 3111 (relating to FICA taxes), and 3301 (relating to FUTA 
taxes). In addition, LLCA must file under its name and EIN the 
applicable Forms in the 94X series, for example, Form 941, 
``Employer's Quarterly Employment Tax Return,'' Form 940, 
``Employer's Annual Federal Unemployment Tax Return;'' file with the 
Social Security Administration and furnish to LLCA's employees 
statements on Forms W-2, ``Wage and Tax Statement;'' and make timely 
employment tax deposits. See Sec. Sec.  31.6011(a)-1, 31.6011(a)-3, 
31.6051-1, 31.6051-2, and 31.6302-1 of this chapter.
    (iii) A is self-employed for purposes of subtitle A, chapter 2, 
Tax on Self-Employment Income, of the Internal Revenue Code. Thus, A 
is subject to tax under section 1401 on A's net earnings from self-
employment with respect to LLCA's activities. A is not an employee 
of LLCA for purposes of subtitle C of the Internal Revenue Code. 
Because LLCA is treated as a sole proprietorship of A for income tax 
purposes, A is entitled to deduct trade or business expenses paid or 
incurred with respect to activities carried on through LLCA, 
including the employer's share of employment taxes imposed under 
sections 3111 and 3301, on A's Form 1040, Schedule C, ``Profit or 
Loss for Business (Sole Proprietorship).''

    (v) Special rule for certain excise tax purposes--(A) In general. 
Paragraph (c)(2)(i) of this section (relating to certain wholly owned 
entities) does not apply for purposes of--
    (1) Federal tax liabilities imposed by Chapters 31, 32 (other than 
section 4181), 33, 34, 35, 36 (other than section 4461), and 38 of the 
Internal Revenue Code, or any floor stocks tax imposed on articles 
subject to any of these taxes;
    (2) Collection of tax imposed by Chapter 33 of the Internal Revenue 
Code;
    (3) Registration under sections 4101, 4222, and 4412; and
    (4) Claims of a credit (other than a credit under section 34), 
refund, or payment related to a tax described in paragraph 
(c)(2)(v)(A)(1) of this section or under section 6426 or 6427.
    (B) Example. The following example illustrates the provisions of 
this paragraph (c)(2)(v):

    Example. (i) LLCB is an eligible entity that has a single owner, 
B. LLCB is generally disregarded as an entity separate from its 
owner. However, under paragraph (c)(2)(v) of this section, LLCB is 
treated as an entity separate from its owner for certain purposes 
relating to excise taxes.
    (ii) LLCB mines coal from a coal mine located in the United 
States. Section 4121 of chapter 32 of the Internal Revenue Code 
imposes a tax on the producer's sale of such coal. Section 48.4121-
1(a) of this chapter defines a ``producer'' generally as the person 
in whom is vested ownership of the coal under state law immediately 
after the coal is severed from the ground. LLCB is the person that 
owns the coal under state law immediately after it is severed from 
the ground. Under paragraph (c)(2)(v)(A)(1) of this section, LLCB is 
the producer of the coal and is liable for tax on its sale of such 
coal under chapter 32 of the Internal Revenue Code. LLCB must report 
and pay tax on Form 720, ``Quarterly Federal Excise Tax Return,'' 
under its own name and taxpayer identification number.
    (iii) LLCB uses undyed diesel fuel in an earthmover that is not 
registered or required to be registered for highway use. Such use is 
an off-highway business use of the fuel. Under section 6427(l), the 
ultimate purchaser is allowed to claim an income tax credit or 
payment related to the tax imposed on diesel fuel used in an off-
highway business use. Under paragraph (c)(2)(v) of this section, for 
purposes of the credit or payment allowed under section 6427(l), 
LLCB is the person that could claim the amount on its Form 720 or on 
a Form 8849, ``Claim for Refund of Excise Taxes.'' Alternatively, if 
LLCB did not claim a payment during the time prescribed in section 
6427(i)(2) for making a claim under section 6427, Sec.  1.34-1 of 
this chapter provides that B, the owner of LLCB, could claim the 
income tax credit allowed under section 34 for the nontaxable use of 
diesel fuel by LLCB.
* * * * *
    (e) * * *
    (5) Paragraph (c)(2)(iv) of this section applies with respect to 
wages paid on or after January 1, 2009.
    (6) Paragraph (c)(2)(v) of this section applies to liabilities 
imposed and actions first required or permitted in periods beginning on 
or after January 1, 2008.

Kevin M. Brown,
Deputy Commissioner for Services and Enforcement.
    Approved: July 25, 2007.
Eric Solomon,
Assistant Secretary of the Treasury (Tax Policy).
 [FR Doc. E7-16078 Filed 8-15-07; 8:45 am]
BILLING CODE 4830-01-P