Modifications to Treatment of Aircraft and Vessel Leasing Income, 26178-26181 [2011-11164]

Agencies

• Internal Revenue Service
• DEPARTMENT OF THE TREASURY

[Federal Register Volume 76, Number 88 (Friday, May 6, 2011)]
[Rules and Regulations]
[Pages 26178-26181]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2011-11164]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9525]
RIN 1545-BG98


Modifications to Treatment of Aircraft and Vessel Leasing Income

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations and removal of temporary regulations.

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SUMMARY: This document contains final regulations addressing the 
treatment of certain income and assets related to the leasing of 
aircraft or vessels in foreign commerce. The regulations reflect 
statutory changes made by the American Jobs Creation Act of 2004. In 
general, the regulations will affect United States shareholders of 
controlled foreign corporations that derive income from the leasing of 
aircraft or vessels in foreign commerce and U.S. persons that transfer 
property subject to these leases to a foreign corporation.

DATES: Effective Date: These regulations are effective on May 6, 2011.
    Applicability Dates: For dates of applicability, see Sec. Sec.  
1.367(a)-2(e)(2), 1.367(a)-4(i), 1.367(a)-5(f)(3)(ii), 1.954-2(i) and 
1.956-2(e).

FOR FURTHER INFORMATION CONTACT: Concerning the final regulations under 
section 367, Ronald M. Gootzeit at (202) 622-3860; concerning the final 
regulations under section 954 or 956, Kristine A. Crabtree at (202) 
622-3840; (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

In General

    This document contains amendments to 26 CFR Part 1 under sections 
367, 954 and 956 of the Internal Revenue Code (Code). Final and 
temporary regulations (TD 9406, 73 FR 38113) (the temporary 
regulations) and a cross-reference notice of proposed rulemaking (REG-
138355-07, 73 FR 38162) were published in the Federal Register on July 
3, 2008 (the proposed regulations). On July 29, 2008, corrections to 
the final regulations (73 FR 43863) were published in the Federal 
Register. No public hearing was requested or held with respect to the 
proposed regulations. After consideration of the comments received, the 
proposed regulations are adopted, as amended by this Treasury decision.

Explanation of Provisions

    Section 415(a) of the American Jobs Creation Act of 2004, Public 
Law 108-357 (118 Stat. 1418) (Jobs Act), repealed section 954(a)(4) and 
(f), the foreign base company shipping income provisions of subpart F. 
As a result of the repeal of these provisions, rents derived from 
leasing an aircraft or vessel in foreign commerce are included in 
subpart F income only if the rents are described in another category of 
subpart F income, such as foreign personal holding company income 
(FPHCI) as defined in section 954(c). Rents are generally included in 
FPHCI under section 954(c)(1)(A), subject to certain exceptions. One 
such exception is for rents received from unrelated persons and derived 
in the active conduct of a trade or business. See section 954(c)(2)(A).
    For this purpose, rents derived by a controlled foreign corporation 
(CFC) are considered derived in the active conduct of a trade or 
business in certain circumstances, including circumstances whereby the 
rents are derived as a result of the performance of marketing functions 
by the lessor CFC with respect to the leased property (the marketing 
exception). Sec.  1.954-2(c)(1)(iv). Specifically, a lessor satisfies 
the marketing exception if the lessor, through its own officers or 
staff of employees located in a foreign country, maintains and operates 
an organization in the foreign country that is regularly engaged in the 
business of marketing, or of marketing and servicing, the leased 
property and that is substantial in relation to the amount of rents 
derived from leasing the property. For this purpose, whether an 
organization in a foreign country is substantial in relation to the 
amount of rents is determined based on all facts and circumstances; 
however, such an organization will be considered substantial if active 
leasing expenses equal or exceed 25 percent of the adjusted leasing 
profit (as defined in Sec.  1.954-2(c)(2)(iv)). Sec.  1.954-
2T(c)(2)(ii).
    The Jobs Act amended section 954(c)(2)(A) to expand the marketing 
exception with respect to rents derived from leasing an aircraft or 
vessel in foreign commerce. In particular, section 954(c)(2)(A) now 
provides that ``rents derived from leasing an aircraft or vessel in 
foreign commerce shall not fail to be treated as derived in the active 
conduct of a trade or business if, as determined under regulations 
prescribed by the Secretary, the active leasing expenses are not less 
than 10 percent of the profit on the lease.'' In addition, the 
legislative history to this provision states that the Secretary of the 
Treasury will make ``conforming changes to existing regulations, 
including guidance that aircraft or vessel leasing activity that 
satisfies the requirements of section 954(c)(2)(A) shall also satisfy 
the requirements for avoiding income inclusion under section 956 and 
section 367(a).'' H.R. Conf. Rep. No. 755, 108th Cong., 2d Sess. 402 
(2004).
    On July 3, 2008, the Treasury Department and the IRS published the 
proposed regulations providing guidance with respect to the treatment 
of certain income and assets related to the leasing of aircraft or 
vessels in foreign commerce under sections 367, 954, and 956 of the 
Code in light of the Jobs Act changes. These final regulations adopt 
the proposed regulations with the modifications described herein.

Section 954 Regulations

    Under current regulations, to satisfy the marketing exception, the 
lessor must, among other things, maintain an organization that is 
regularly engaged in the business of marketing, or of marketing and 
servicing, the leased property and that is ``substantial in relation to 
the rents derived.'' Sec.  1.954-2(c)(1)(iv). The proposed regulations 
added a new marketing safe harbor for purposes of determining whether 
an organization is substantial in relation to rents derived from 
leasing aircraft or vessels (including component parts, such as 
engines, that are leased separately from an aircraft or vessel) in 
foreign commerce. This safe harbor provides that an organization will 
be considered substantial for purposes of Sec.  1.954-2(c)(1)(iv) if 
active leasing expenses equal or exceed 10 percent of the adjusted 
leasing profit. For this purpose, the rules in the current regulations 
for computing active leasing expense and adjusted leasing profit 
continue to apply. The proposed regulations also included a definition 
of when an aircraft or vessel is leased in foreign commerce, including 
defining when property is used predominantly outside the United States, 
that is consistent with the legislative history to the Jobs Act. See 
H.R. Rep. No. 108-548, pt. 1, at 210 (2004); H.R. Conf. Rep. No. 108-
755, at 402 (2004). Finally, the proposed regulations also clarified 
that rents derived from certain finance leases and acquired leases are 
eligible for the active rents exclusion.

[[Page 26179]]

    One commentator expressed concern that Sec.  1.954-2T(c)(2)(vii), 
which addresses finance leases, could be interpreted to limit the 
application of the marketing exception solely to finance leases. In 
response to this comment, the final regulations clarify that the 
marketing exception can apply to both operating leases and finance 
leases.
    The same commentator also suggested that, for purposes of applying 
Sec.  1.954-2T(c)(2)(vi), the regulations should clarify that 
``remarketing functions'' include remarketing for purposes of selling 
the leased property. The final regulations adopt this change.
    In addition to these changes, the final regulations clarify that an 
aircraft or vessel is considered to be leased in foreign commerce if it 
is used in foreign commerce, and is used predominantly outside the 
United States. Finally, the language of Sec.  1.954-2T(c)(3) Example 6 
has been modified to make it consistent with the other examples in 
Sec.  1.954-2(c)(3).

Section 956 Regulations

    Section 956(c)(1)(A) provides that the term United States property 
(``U.S. property'') generally includes tangible property located in the 
United States. Section 956(c)(2) provides exceptions to the general 
definition of U.S. property, including any aircraft, railroad rolling 
stock, vessel, motor vehicle, or container used in the transportation 
of persons or property in foreign commerce and used predominantly 
outside the United States. See section 956(c)(2)(D). Prior to issuance 
of the temporary regulations, Sec.  1.956-2(b)(1)(vi) provided that, as 
a general rule, such transportation property will be considered to be 
used predominantly outside the United States if 70 percent or more of 
the miles traversed (during the taxable year at the close of which a 
determination is made under section 956(a)(2)) in the use of such 
property are traversed outside the United States or if such property is 
located outside the United States 70 percent of the time during such 
taxable year.
    In Notice 2006-48 (2006-1 CB 922) the IRS and Treasury Department 
announced that regulations would be issued providing that an aircraft 
or vessel used in the transportation of persons or property in foreign 
commerce is excluded from U.S. property under Sec.  1.956-2(b)(1)(vi) 
if rents derived from leasing such aircraft or vessel are excluded from 
FPHCI under section 954(c)(2)(A) and such property is considered to be 
used predominantly outside the United States under Sec.  1.954-
2(b)(1)(vi), determined by substituting ``more than 50 percent'' for 
the phrases ``70 percent or more'' and ``70 percent.'' The proposed 
regulations amended Sec.  1.956-2(b)(1)(vi) to provide that an aircraft 
or vessel is excluded from U.S. property if rents derived from leasing 
such aircraft or vessel are excluded from FPHCI under section 
954(c)(2)(A) but inadvertently omitted the language from Notice 2006-48 
concerning its use in the transportation of persons or property in 
foreign commerce and its predominant use outside the United States. 
Consistent with section 956(c)(2)(D), the legislative history of 
section 954(c)(2)(A), and Notice 2006-48, the final regulations modify 
the proposed regulations to clarify that an aircraft or vessel is 
excepted from the definition of U.S. property under section 
956(c)(2)(D) only if the aircraft or vessel is leased in foreign 
commerce as that term is defined in Sec.  1.954-2(c)(2)(v), and the 
rents from the aircraft or vessel qualify for the exception to FPHCI 
under section 954(c)(2)(A). See Sec.  601.601(d)(2).
    No comments were received and no changes other than the change 
described herein have been made to the section 956 provisions of the 
proposed regulations.

Section 367 Regulations

    No written comments were received and no changes have been made to 
the section 367 provisions of the proposed regulations.

Request for Comments

    The Treasury Department and IRS continue to study and request 
comments on how to determine whether an aircraft or vessel is used 
predominantly outside the United States during a particular month for 
purposes of calculating depreciation recapture under section 367. Until 
further guidance is issued, taxpayers may continue to use any 
reasonable method to make this determination.

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 has also been 
determined that section 553(b) of the Administrative Procedure Act (5 
U.S.C. chapter 5) does not apply to these regulations, and because the 
regulations do not impose a collection of information on small 
entities, the Regulatory Flexibility Act (5 U.S.C. Ch. 6) does not 
apply. Pursuant to section 7805(f) of the Code, this regulation has 
been submitted to the Chief Counsel for Advocacy of the Small Business 
Administration for comment on its impact on small business.

Drafting Information

    The principal authors of these regulations are Ronald M. Gootzeit 
and Kristine A. Crabtree, Office of Associate Chief Counsel 
(International). However, other personnel from the IRS and Treasury 
Department participated in their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations

    Accordingly, 26 CFR part 1 is 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 1.367(a)-2 is added to read as follows:


Sec.  1.367(a)-2  Exception for transfers of property for use in the 
active conduct of a trade or business.

    (a) through (d) [Reserved]. For further guidance, see Sec.  
1.367(a)-2T(a) through (d).
    (e) Special rules for certain transfers occurring on or after May 
2, 2006-- (1) General rule. Whether a trade or business that produces 
rents or royalties is actively conducted shall be determined under the 
principles of section 954(c)(2)(A) and the regulations thereunder (but 
without regard to whether the rents or royalties are received from an 
unrelated party). See Sec.  1.954-2(c) and (d).
    (2) Effective/applicability date. The rules of this paragraph (e) 
apply to transfers occurring on or after May 2, 2006. However, if the 
transferor makes the election to apply the provisions of Sec.  
1.367(a)-4(c)(3) for transfers occurring on or after October 22, 2004, 
then paragraph (e)(1) of this section will also apply to the transfers 
occurring on or after October 22, 2004.

0
Par. 3. Section 1.367(a)-2T is amended by removing and reserving 
paragraph (e) to read as follows:


Sec.  1.367(a)-2T  Exception for transfers of property for the use in 
the active conduct of a trade or business (temporary).

* * * * *
    (e) [Reserved]. For further guidance see Sec.  1.367(a)-2(e).

0
Par. 4. Section 1.367(a)-4 is added to read as follows:

[[Page 26180]]

Sec.  1.367(a)-4  Special rules applicable to specified transfers of 
property.

    (a) through (c)(2) [Reserved]. For further guidance, see Sec.  
1.367(a)-4T(a) through (c)(2).
    (3) Aircraft and vessels leased in foreign commerce. For purposes 
of satisfying Sec.  1.367-4T(c)(1), aircraft or vessels, including 
component parts such as engines leased separately from aircraft or 
vessels, transferred to a foreign corporation and leased to other 
persons by the foreign corporation shall be considered to be 
transferred for use in the active conduct of a trade or business if--
    (i) The employees of the foreign corporation perform substantial 
managerial and operational activities of leasing aircraft or vessels 
outside the United States; and
    (ii) The leased tangible personal property is predominantly used 
outside the United States, as determined under Sec.  1.954-2(c)(2)(v).
    (d) through (h) [Reserved]. For further guidance, see Sec.  1.367-
4T(d) through (h).
    (i) Effective/applicability date. The rules of paragraph (c)(3) of 
this section apply for transfers of property occurring on or after May 
2, 2006. Transferors may elect to apply these provisions to transfers 
occurring on or after October 22, 2004, by citing the provisions of 
paragraph (c)(3) of this section in the documentation for such 
transfers required by Sec.  1.6038B-1T(c)(4)(i) and (iv).

0
Par. 5. Section 1.367(a)-4T is amended by removing and reserving 
paragraphs (c)(3) and (i) to read as follows:


Sec.  1.367(a)-4T  Special rules applicable to specified transfers of 
property (temporary).

* * * * *
    (c) * * *
    (3) [Reserved]. For further guidance see Sec.  1.367(a)-4(c)(3).
* * * * *
    (i) [Reserved]. For further guidance see Sec.  1.367(a)-4(i).

0
Par. 6. Section Sec.  1.367(a)-5 is added to read as follows:


Sec.  1.367(a)-5  Property subject to section 367(a)(1) regardless of 
use in a trade or business.

    (a) through (f)(2) [Reserved]. For further guidance, see Sec.  
1.367(a)-5T(a) through (f)(2).
    (3)(i) With respect to vessels and aircraft, including their 
component parts, that will be leased by the transferee to third 
persons, the transferee satisfies the conditions set forth in Sec.  
1.367(a)-4(c)(3).
    (ii) Effective/applicability date. The rules of this paragraph 
(f)(3) apply to transfers of property occurring on or after May 2, 
2006. If the transferor makes the election to apply the provisions of 
Sec.  1.367(a)-4(c)(3) to transfers occurring on or after October 22, 
2004, then paragraph (f)(3)(i) of this section will also apply to 
transfers affected by that election.

0
Par. 7. Section Sec.  1.367(a)-5T is amended by removing and reserving 
paragraph (f)(3) to read as follows:


Sec.  1.367(a)-5T  Property subject to section 367(a)(1) regardless of 
use in trade or business (temporary).

* * * * *
    (f) * * *
    (3) [Reserved]. For further guidance see Sec.  1.367(a)-5(f)(3).

0
Par. 8. Section 1.954-2 is amended by revising paragraphs (c)(2)(ii), 
(c)(2)(v), (c)(2)(vi), (c)(2)(vii), and (c)(3) Example 6 and paragraph 
(i) to read as follows:


Sec.  1.954-2  Foreign personal holding company income.

* * * * *
    (c) * * *
    (2) * * *
    (ii) Substantiality of foreign organization. For purposes of 
paragraph (c)(1)(iv) of this section, whether an organization in a 
foreign country is substantial in relation to the amount of rents is 
determined based on all facts and circumstances. However, such an 
organization will be considered substantial in relation to the amount 
of rents if active leasing expenses, as defined in paragraph 
(c)(2)(iii) of this section, equal or exceed 25 percent of the adjusted 
leasing profit, as defined in paragraph (c)(2)(iv) of this section. In 
addition, for purposes of aircraft or vessels leased in foreign 
commerce, an organization will be considered substantial if active 
leasing expenses, as defined in paragraph (c)(2)(iii) of this section, 
equal or exceed 10 percent of the adjusted leasing profit, as defined 
in paragraph (c)(2)(iv) of this section. For purposes of paragraphs 
(c)(1)(iv) and (c)(2) of this section and Sec.  1.956-2(b)(1)(vi), the 
term aircraft or vessels includes component parts, such as engines that 
are leased separately from an aircraft or vessel.
* * * * *
    (v) Leased in foreign commerce. For purposes of paragraphs 
(c)(1)(iv) and (c)(2)(ii) of this section, an aircraft or vessel is 
considered to be leased in foreign commerce if the aircraft or vessel 
is used in foreign commerce and is used predominantly outside the 
United States. An aircraft or vessel is considered to be used in 
foreign commerce if it is used for the transportation of property or 
passengers between a port (or airport) in the United States and a port 
(or airport) in a foreign country or between foreign ports (or 
airports). An aircraft or vessel will be considered to be used 
predominantly outside the United States if more than 50 percent of the 
miles traversed during the taxable year in the use of the aircraft or 
vessel are traversed outside the United States or if the aircraft or 
vessel is located outside the United States more than 50 percent of the 
time during the taxable year.
    (vi) Leases acquired by the CFC lessor. Except as provided in this 
paragraph (c)(2)(vi), the exception in paragraph (c)(1)(iv) of this 
section will also apply to rents from leases acquired from any person, 
if following the acquisition the lessor performs active and substantial 
management, operational, and remarketing (including remarketing for 
purposes of re-leasing or selling the property) functions with respect 
to the leased property. However, if any person is claiming a benefit 
with respect to an acquired lease pursuant to section 921 or 114 of the 
Internal Revenue Code or section 101(d) of the American Jobs Creation 
Act of 2004, (Pub. L. 108-357 (118 Stat. 1418) (2004)), the rents from 
such lease, notwithstanding paragraphs (b)(6) and (c) of this section, 
are ineligible for the exception in section 954(c)(2)(A).
    (vii) Marketing of leases. Paragraph (c)(1)(iv) of this section can 
apply whether a lessor is engaged in the marketing of leases as a form 
of financing or is engaged in marketing the property as such, and 
regardless of whether the lease is classified as a finance lease or an 
operating lease for financial accounting purposes, so long as such 
lease is treated as a lease for Federal income tax purposes.
    (3) * * *

    Example 6. The facts are the same as in Example 2, except that 
controlled foreign corporation D purchases aircraft which it leases 
to others. If Corporation D incurs active leasing expenses, as 
defined in paragraph (c)(2)(iii) of this section, equal to or in 
excess of 10 percent of its adjusted leasing profit, as defined in 
paragraph (c)(2)(iv) of this section, the organization maintained 
and operated by Corporation D in country X is substantial in 
relation to the amount of rents Corporation D receives from leasing 
the aircraft. Therefore, under paragraph (c)(1)(iv) of this section, 
such rents are derived in the active conduct of a trade or business 
for purposes of section 954(c)(2)(A). If a particular aircraft 
subject to lease was not leased by the lessee corporation in foreign 
commerce, for example, because 50 percent or less of the miles 
during the taxable year were traversed outside the United States and 
the aircraft was located in the United States for 50 percent or more 
of the taxable year, Corporation D is not prevented from

[[Page 26181]]

otherwise showing that it actively carries on a trade or business 
with regard to the rents derived from that aircraft under paragraph 
(c)(2)(ii) of this section, based on its facts and circumstances or 
a showing that active leasing expenses equal or exceed 25 percent of 
the adjusted leasing profit.
* * * * *
    (i) Effective/applicability date. The last two sentences of 
paragraph (c)(2)(ii), and paragraphs (c)(2)(v) through (vii) and (c)(3) 
Example 6 of this section apply to taxable years of controlled foreign 
corporations beginning on or after May 2, 2006, and for taxable years 
of United States shareholders with or within which such taxable years 
of the controlled foreign corporations end. Taxpayers may elect to 
apply the last two sentences of paragraph (c)(2)(ii) and paragraphs 
(c)(2)(v) through (vii) to taxable years of controlled foreign 
corporations beginning after December 31, 2004, and for taxable years 
of United States shareholders with or within which such taxable years 
of the controlled foreign corporations end. If an election is made to 
apply Sec.  1.956-2(b)(1)(vi) to taxable years beginning after December 
31, 2004, then the election must also be made for paragraphs (c)(2)(ii) 
and (c)(2)(v) through (vii) of this section.


Sec.  1.954-2T  [Removed].

0
Par. 9. Section 1.954-2T is removed.
0
Par. 10. Section 1.956-2 is amended by revising paragraphs (b)(1)(vi) 
and (e) to read as follows:


Sec.  1.956-2  Definition of United States property.

* * * * *
    (b)* * *
    (1)* * *
    (vi) Any aircraft, railroad rolling stock, vessel, motor vehicle, 
or container used in the transportation of persons or property in 
foreign commerce and used predominantly outside the United States. 
Whether transportation property described in this paragraph (b)(1)(vi) 
is used in foreign commerce and predominantly outside the United States 
is to be determined from all the facts and circumstances of each case. 
As a general rule, such transportation property will be considered to 
be used predominantly outside the United States if 70 percent or more 
of the miles traversed (during the taxable year at the close of which a 
determination is made under section 956(a)(2)) in the use of such 
property are traversed outside the United States or if such property is 
located outside the United States 70 percent of the time during such 
taxable year. Notwithstanding the above, an aircraft or vessel, 
including component parts, is excluded from United States property if 
the aircraft or vessel is leased in foreign commerce (as the term is 
defined in Sec.  1.954-2(c)(2)(v)) and rents derived from leasing such 
aircraft or vessel are excluded from foreign personal holding company 
income under section 954(c)(2)(A).
* * * * *
    (e) Effective/applicability date. The last sentence of paragraph 
(b)(1)(vi) of this section applies to taxable years of controlled 
foreign corporations beginning on or after May 2, 2006, and for taxable 
years of United States shareholders with or within which such taxable 
years of the controlled foreign corporations end. Taxpayers may elect 
to apply the rule of the last sentence of paragraph (b)(1)(vi) of this 
section to taxable years of controlled foreign corporations beginning 
after December 31, 2004, and for taxable years of United States 
shareholders with or within which such taxable years of the controlled 
foreign corporations end. If an election is made to apply the last two 
sentences of Sec.  1.954-2(c)(2)(ii) and Sec.  1.954-2(c)(2)(v) through 
(vii) to taxable years of a controlled foreign corporation beginning 
after December 31, 2004, then the election must also be made for the 
last sentence of paragraph (b)(1)(vi) of this section.
0
Par. 11. Section 1.956-2T is amended by removing and reserving 
paragraphs (b)(1)(vi) and (e) to read as follows:


Sec.  1.956-2T  Definition of United States property (temporary).

* * * * *
    (b)* * *
    (1)* * *
    (vi) [Reserved]. For further guidance see Sec.  1.956-2(b)(1)(vi).
* * * * *
    (e) [Reserved]. For further guidance see Sec.  1.956-2(e).

Steven T. Miller,
Deputy Commissioner for Services and Enforcement.
     Approved: March 30, 2011.
 Michael Mundaca,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2011-11164 Filed 5-5-11; 8:45 am]
BILLING CODE 4830-01-P