United States Property Held by Controlled Foreign Corporations in Transactions Involving Partnerships; Rents and Royalties Derived in the Active Conduct of a Trade or Business, 52976-52982 [2015-21574]

Agencies

• Internal Revenue Service
• DEPARTMENT OF THE TREASURY

[Federal Register Volume 80, Number 170 (Wednesday, September 2, 2015)]
[Rules and Regulations]
[Pages 52976-52982]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2015-21574]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9733]
RIN 1545-BJ49


United States Property Held by Controlled Foreign Corporations in 
Transactions Involving Partnerships; Rents and Royalties Derived in the 
Active Conduct of a Trade or Business

AGENCY: Internal Revenue Service (IRS), Treasury.

[[Page 52977]]


ACTION: Final and temporary regulations.

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SUMMARY: This document contains temporary regulations regarding the 
treatment as United States property of property held by a controlled 
foreign corporation (CFC) in connection with certain transactions 
involving partnerships. In addition, the temporary regulations provide 
rules regarding when a CFC is considered to derive rents and royalties 
in the active conduct of a trade or business for purposes of 
determining foreign personal holding company income (FPHCI). These 
regulations affect United States shareholders of CFCs. The text of the 
temporary regulations also serves as the text of the proposed 
regulations set forth in the notice of proposed rulemaking on this 
subject in the Proposed Rules section of this issue of the Federal 
Register. The final regulations revise and add cross-references to 
coordinate the application of the temporary regulations.

DATES: Effective Date: These regulations are effective on September 2, 
2015.
    Applicability Dates: For dates of applicability, see Sec. Sec.  
1.954-2T(j) and 1.956-1T(g).

FOR FURTHER INFORMATION CONTACT: Rose E. Jenkins, (202) 317-6934 (not a 
toll-free number).

SUPPLEMENTARY INFORMATION: 

Background

    This document contains amendments to 26 CFR part 1 under of the 
Internal Revenue Code (Code). Section 956 determines the amount that a 
United States shareholder (as defined in section 951(b)) of a CFC must 
include in gross income with respect to the CFC under section 
951(a)(1)(B). This amount is determined, in part, based on the average 
amount of United States property held, directly or indirectly, by the 
CFC at the close of each quarter during its taxable year. Subject to 
certain exceptions, United States property generally includes 
obligations of United States persons that are related to the CFC. 
Sections 956(c)(1)(C), 956(c)(2)(F), and 956(c)(2)(L). In general, the 
amount taken into account for section 956 purposes with respect to any 
United States property is the adjusted basis of the property, reduced 
by any liability to which the property is subject. See section 956(a) 
and Sec.  1.956-1(e).
    Section 956(e) grants the Secretary authority to prescribe such 
regulations as may be necessary to carry out the purposes of section 
956, including regulations to prevent the avoidance of section 956 
through reorganizations or otherwise. In addition, section 956(d) 
grants the Secretary authority to prescribe regulations pursuant to 
which a CFC that is a pledgor or guarantor of an obligation of a United 
States person is considered to hold the obligation.
    Section 1.956-1T(b)(4) provides in relevant part that, at the 
District Director's discretion, a CFC will be considered to hold 
indirectly investments in United States property acquired by any other 
foreign corporation that is controlled by the CFC if one of the 
principal purposes for creating, organizing, or funding (through 
capital contributions or debt) such other foreign corporation is to 
avoid the application of section 956 with respect to the CFC.
    This document also contains amendments to 26 CFR part 1 under 
section 954. Section 954 defines foreign base company income (FBCI), 
which generally is income earned by a CFC that is taken into account in 
computing the amount that a United States shareholder of the CFC must 
include in income under section 951(a)(1)(A). FBCI includes FPHCI, as 
defined in section 954(c), which, in turn, generally includes rents and 
royalties. Section 954(c)(1)(A). However, rents and royalties are 
excluded from FPHCI if they are received from a person other than a 
related person and derived in the active conduct of a trade or business 
within the meaning of section 954(c)(2)(A) and Sec.  1.954-2(c) and (d) 
(active rents and royalties exception). Temporary regulations in this 
document provide guidance on the active rents and royalties exception, 
including the treatment of cost sharing arrangements for purposes of 
the exception.

Explanation of Provisions

1. Modifications of Anti-Avoidance Rule in Sec.  1.956-1T(b)(4)

A. Modifications of Existing Rules
    These regulations modify Sec.  1.956-1T(b)(4) so that the rule can 
also apply when a foreign corporation controlled by a CFC is funded 
other than through capital contributions or debt. In addition, these 
temporary regulations add an example involving the funding of one CFC 
by another CFC that controls it to illustrate the application of the 
anti-avoidance rule when a principal purpose for funding the first CFC 
is to avoid the application of section 956 with respect to the funding 
CFC, even though there would be a section 956 inclusion with respect to 
the CFC that received the funding. This example illustrates that the 
CFCs' tax attributes associated with a section 956 inclusion (such as 
total earnings and profits, previously taxed earnings and profits, and 
foreign tax credit pools) are taken into account in determining whether 
a principal purpose of a funding was to avoid the application of 
section 956 with respect to the funding CFC. In addition, this example 
makes clear that if a CFC is considered to indirectly hold United 
States property pursuant to Sec.  1.956-1T(b)(4), then the CFC that 
actually holds the United States property will not also be considered 
to hold the property for purposes of section 956. See Example 3 in 
Sec.  1.956-1T(b)(4)(iv).
    These regulations also modify Example 1 and Example 2 of Sec.  
1.956-1T(b)(4) to more closely reflect the language of new Sec.  1.956-
1T(b)(4)(iv). The Department of the Treasury (Treasury Department) and 
the IRS do not view these modifications as a substantive change.
    Moreover, Sec.  1.956-1T(b)(4) applies if ``one of the principal 
purposes'' for the transaction is to avoid the application of section 
956 with respect to the CFC. These temporary regulations apply when ``a 
principal purpose'' for the transaction is to avoid the application of 
section 956 with respect to the CFC. The Treasury Department and the 
IRS do not view this modification as a substantive change, since both 
formulations appropriately reflect that there may be more than one 
principal purpose for a transaction. Accordingly, Sec.  1.956-1T(b)(4) 
may be applied if a principal purpose of a transaction is to avoid the 
application of section 956, even if there also were other principal 
purposes for the transaction.
    Finally, the Treasury Department and the IRS have concluded that 
Sec.  1.956-1T(b)(4) should apply without requiring the IRS to exercise 
its discretion, and, therefore, have modified the rule to be self-
executing. This modification, as well as the modification to what 
constitutes a funding, is consistent with a previous change to a 
similar rule in Sec.  1.304-4(b). See TD 9477, 74 FR 69021 (Dec. 30, 
2009).
B. New Partnership Rule
    Existing Sec.  1.956-1T(b)(4) applies only to transactions that 
involve foreign corporations that are controlled by a CFC. The Treasury 
Department and the IRS understand that taxpayers may be using 
partnerships to structure transactions that are similar to the types of 
transactions addressed by Sec.  1.956-1T(b)(4). For example, with a 
principal purpose of avoiding the application of section 956, a CFC may 
contribute cash to a partnership in exchange for an interest in the 
partnership, which in

[[Page 52978]]

turn lends the cash to a United States shareholder of the CFC. In such 
a case, a taxpayer may take the position that the CFC is not treated as 
indirectly holding the entire obligation of the United States 
shareholder but instead is treated as holding the obligation only to 
the extent of the CFC's interest in the partnership under Sec.  1.956-
2(a)(3).
    These types of partnership transactions raise concerns similar to 
those that are currently addressed by Sec.  1.956-1T(b)(4). 
Accordingly, these temporary regulations expand Sec.  1.956-1T(b)(4) to 
include transactions involving partnerships that are controlled by the 
CFC. These temporary regulations also contain a coordination rule in 
Sec.  1.956-1T(b)(4)(iii), which provides that the new partnership rule 
in Sec.  1.956-1T(b)(4)(i)(C) applies only to the extent that the 
amount of United States property that a CFC would be treated as holding 
under the rule exceeds the amount that it would be treated as holding 
under Sec.  1.956-2(a)(3).

2. New Rule Governing Foreign Partnership Distributions Funded by CFCs

    The Treasury Department and the IRS also understand that CFCs are 
engaging in transactions in which a CFC lends funds to a foreign 
partnership, which then distributes the proceeds from the borrowing to 
a U.S. partner who is related to the CFC and whose obligation would be 
United States property if it were held (or treated as held) by the CFC. 
Alternatively, the CFC could guarantee a loan to a foreign partnership, 
which then could distribute the loan proceeds to a related U.S. 
partner. Taxpayers take the position that section 956 does not apply to 
these transactions even though the CFC's earnings are effectively 
repatriated to a related U.S. partner.
    In response to these transactions, the temporary regulations add 
Sec.  1.956-1T(b)(5) to address certain cases in which a CFC funds a 
foreign partnership (or guarantees a borrowing by a foreign 
partnership) and the foreign partnership makes a distribution to a U.S. 
partner that is related to the CFC. For purposes of section 956, Sec.  
1.956-1T(b)(5) treats the partnership obligation as an obligation of 
the distributee partner to the extent of the lesser of the amount of 
the distribution that would not have been made but for the funding of 
the partnership or the amount of the foreign partnership obligation. 
For example, if a related United States shareholder of a CFC has an 
interest in a foreign partnership, the CFC lends $100 to the 
partnership, and the partnership distributes $100 to the United States 
shareholder in a distribution that would not have been made but for the 
loan from the CFC, then the entire $100 partnership obligation held by 
the CFC will be treated as an obligation of the United States 
shareholder that qualifies as United States property. Section 1.956-
1T(b)(5) generally has the same purpose and effect as proposed Sec.  
1.956-4(c)(3) contained in the notice of proposed rulemaking on this 
subject in the Proposed Rules section of this issue of the Federal 
Register (REG-155164-09) and will be removed upon the finalization of 
proposed Sec.  1.956-4(c)(3).

3. Active Rents and Royalties Exception to FPHCI

    Although rents and royalties generally are included in FPHCI under 
section 954(c)(1)(A), rents and royalties derived in the active conduct 
of a trade or business and received from a person that is not a related 
person are excluded from FPHCI under the active rents and royalties 
exception in section 954(c)(2)(A) and Sec.  1.954-2(b)(6). The section 
954 regulations provide the exclusive rules for determining whether 
rents and royalties are derived in the active conduct of a trade or 
business for purposes of section 954(c)(2)(A). Specifically, Sec.  
1.954-2(c) provides four alternative ways for rents to be derived in 
the active conduct of a trade or business, and Sec.  1.954-2(d) 
provides two alternative ways for royalties to be derived in the active 
conduct of a trade or business. One way for a CFC to derive rents and 
royalties in the active conduct of a trade or business is to satisfy an 
``active development'' test, which, among other things, requires the 
CFC to be ``regularly engaged'' either in the ``manufacture or 
production of, or in the acquisition and addition of substantial value 
to,'' certain property (Sec.  1.954-2(c)(1)(i), applicable to rents); 
or in the ``development, creation or production of, or in the 
acquisition of and addition of substantial value to,'' certain property 
(Sec.  1.954-2(d)(1)(i), applicable to royalties) (collectively, active 
development tests). Although certain of the alternative ways 
(specifically, the active management and marketing tests) in which a 
CFC can satisfy the active rents and royalties exception require that 
the relevant activities be performed by the CFC's own officers or staff 
of employees (Sec.  1.954-2(c)(1)(ii), (iv), and (d)(1)(ii)), the 
active development tests do not expressly contain this requirement. But 
see Sec.  1.954-2(d)(3) Example 5 (indicating that royalties received 
by a CFC that financed independent persons in development activities 
were not considered derived in the active conduct of a trade or 
business for purposes of section 954(c)(2)(A)).
    In addition to the active development tests, another way for a CFC 
to derive rents and royalties in the active conduct of a trade or 
business is to satisfy an ``active marketing'' test, which, among other 
things, requires the CFC to operate in a foreign country an 
organization that is regularly engaged in the business of marketing, or 
marketing and servicing, the leased or licensed property, and that is 
``substantial'' in relation to the amount of rents or royalties derived 
from the leased or licensed property. See Sec.  1.954-2(c)(1)(iv) and 
(d)(1)(ii). Pursuant to a safe harbor in the regulations, an 
organization is ``substantial'' if the active leasing or licensing 
expenses equal or exceed 25 percent of the adjusted leasing or 
licensing profits. See Sec.  1.954-2(c)(2)(ii) and (d)(2)(ii). The 
regulations generally define active leasing expenses and active 
licensing expenses to mean, subject to certain exceptions, deductions 
that are properly allocable to rental or royalty income and that would 
be allowable under section 162 if the CFC were a domestic corporation. 
See Sec.  1.954-2(c)(2)(iii) and (d)(2)(iii).
    In general, the active rents and royalties exception is intended to 
distinguish between a CFC that passively receives investment income and 
a CFC that derives income from the active conduct of a trade or 
business. See S. Rep. No. 87-1881, 87th Cong., 2d Sess., at 83 (1962). 
Accordingly, the policy underlying the active rents and royalties 
exception requires that the CFC itself actively conduct the business 
that generates the rents or royalties. The Treasury Department and the 
IRS have determined that, consistent with this policy, the CFC must 
perform the relevant activities (that is, activities related to the 
manufacturing, production, development, or creation of, or, in the case 
of an acquisition, the addition of substantial value to, the property 
at issue) through its own officers or staff of employees in order to 
satisfy the active development tests. Thus, Sec.  1.954-2T(c)(1)(i) and 
(d)(1)(i) expressly provide that the CFC lessor or licensor must 
perform the required functions through its own officers or staff of 
employees.
    The Treasury Department and the IRS also have concluded that the 
policy of the active rents and royalties exception allows the relevant 
activities undertaken by a CFC through its officers or staff of 
employees to be performed in more than one foreign country. Thus, Sec.  
1.954-2T(c)(1)(iv) and (d)(1)(ii) provide that (i) a CFC's officers or 
staff of employees may be located in one or more foreign

[[Page 52979]]

countries; and (ii) an organization that meets the requirements of the 
active marketing test can be maintained and operated by the officers or 
staff of employees either in a single foreign country or in multiple 
foreign countries collectively. Similarly, Sec.  1.954-2T(c)(2)(ii) and 
(d)(2)(ii) indicate that an organization can be in a single foreign 
country or in multiple foreign countries collectively for purposes of 
determining the substantiality of the foreign organization.
    In applying the active development tests and active marketing 
tests, questions have arisen as to the treatment of cost sharing 
arrangements under which a person other than the CFC actually conducts 
relevant activities. Consistent with the policy underlying the active 
rents and royalties exception that requires the CFC itself to conduct 
the relevant activities, Sec.  1.954-2T(c)(2)(viii) and (d)(2)(v) 
clarify that CST Payments and PCT Payments (as defined in Sec.  1.482-
7(b)(1)) made by a CFC will not cause the CFC's officers and employees 
to be treated as undertaking the activities of the controlled 
participant to which the payments are made. This clarification applies 
for purposes of the active development tests and the active marketing 
tests, including for purposes of determining whether an organization 
that engages in marketing is substantial. Similarly, Sec.  1.954-
2T(c)(2)(iii)(E) and (d)(2)(iii)(E) provide that deductions for CST 
Payments and PCT Payments are excluded from the definition of active 
leasing expenses and active licensing expenses, respectively. Thus, CST 
Payments and PCT Payments are not active leasing expenses or active 
licensing expenses for purposes of determining whether an organization 
is ``substantial'' under the safe harbor test.

4. Effective/Applicability Dates

    The rules in Sec.  1.956-1T(b)(4) described in Part 1 of this 
preamble apply to taxable years of CFCs ending on or after September 1, 
2015, and to taxable years of United States shareholders in which or 
with which such taxable years end, with respect to property acquired, 
including property treated as acquired as the result of a deemed 
exchange of property pursuant to section 1001, on or after September 1, 
2015. The rule in Sec.  1.956-1T(b)(5) described in Part 2 of this 
preamble applies to taxable years of CFCs ending on or after September 
1, 2015, and to taxable years of United States shareholders in which or 
with which such taxable years end, in the case of distributions made on 
or after September 1, 2015. The rules regarding the active development 
test in Sec. Sec.  1.954-2T(c)(1)(i) and (d)(1)(i) described in Part 3 
of this preamble apply to rents or royalties, as applicable, received 
or accrued during taxable years of CFCs ending on or after September 1, 
2015, and to taxable years of United States shareholders in which or 
with which such taxable years end, but only with respect to property 
manufactured, produced, developed, or created, or, in the case of 
acquired property, property to which substantial value has been added, 
on or after September 1, 2015. The rules regarding the active marketing 
test in Sec. Sec.  1.954-2T(c)(1)(iv), (c)(2)(ii), (d)(1)(ii), and 
(d)(2)(ii) described in Part 3 of this preamble, as well as the rules 
regarding cost-sharing arrangements in Sec. Sec.  1.954-
2T(c)(2)(iii)(E), (c)(2)(viii), (d)(2)(iii)(E), and (d)(2)(v) also 
described in Part 3 of this preamble, apply to rents or royalties, as 
applicable, received or accrued during taxable years of CFCs ending on 
or after September 1, 2015, and to taxable years of United States 
shareholders in which or with which such taxable years end, to the 
extent that such rents or royalties that are received or accrued on or 
after September 1, 2015. No inference is intended as to the application 
of the provisions amended by these temporary regulations under current 
law. The IRS may, where appropriate, challenge transactions, including 
those described in these temporary regulations and this preamble, under 
currently applicable Code or regulatory provisions or judicial 
doctrines.

Special Analyses

    Certain IRS regulations, including this one, are exempt from the 
requirements of Executive Order 12866, as supplemented and reaffirmed 
by Executive Order 13563. Therefore, a regulatory assessment is not 
required. It has been determined that sections 553(b) and (d) of the 
Administrative Procedure Act (5 U.S.C. chapter 5) do not apply to these 
regulations. For applicability of the Regulatory Flexibility Act (5 
U.S.C. chapter 6), refer to the cross-referenced notice of proposed 
rulemaking published elsewhere in this issue of the Federal Register. 
Pursuant to section 7805(f) of the Internal Revenue Code, these 
regulations have been submitted to the Chief Counsel for Advocacy of 
the Small Business Administration for comment on its impact on small 
business.

Drafting Information

    The principal authors of these regulations are Barbara E. Rasch and 
Rose E. Jenkins of the Office of Associate Chief Counsel 
(International). However, other personnel from the Treasury Department 
and the IRS participated in their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

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 is amended by adding 
entries in numerical order to read in part as follows:

    Authority: 26 U.S.C. 7805 * * *
* * * * *
    Section 1.956-1T also issued under 26 U.S.C. 956(d) and 956(e).
* * * * *

0
Par. 2. Section 1.954-2 is amended by:
0
a. Revising paragraphs (c)(1)(i), (c)(1)(iv), and (c)(2)(ii);
0
b. Adding paragraphs (c)(2)(iii)(E) and (c)(2)(viii);
0
c. Revising paragraphs (d)(1)(i) and (ii) and (d)(2)(ii); and
0
d. Adding paragraphs (d)(2)(iii)(E), (d)(2)(v), and (j).
    The revisions and additions read as follows:


Sec.  1.954-2  Foreign personal holding company income.

* * * * *
    (c) * * *
    (1) * * *
    (i) [Reserved]. For further guidance, see Sec.  1.954-2T(c)(1)(i).
* * * * *
    (iv) [Reserved]. For further guidance, see Sec.  1.954-
2T(c)(1)(iv).
    (2) * * *
    (ii) [Reserved]. For further guidance, see Sec.  1.954-
2T(c)(2)(ii).
    (iii) * * *
    (E) [Reserved]. For further guidance, see Sec.  1.954-
2T(c)(2)(iii)(E).
* * * * *
    (viii) [Reserved]. For further guidance, see Sec.  1.954-
2T(c)(2)(viii).
* * * * *
    (d) * * *
    (1) * * *
    (i) [Reserved]. For further guidance, see Sec.  1.954-2T(d)(1)(i).
    (ii) [Reserved]. For further guidance, see Sec.  1.954-
2T(d)(1)(ii).
    (2) * * *
    (ii) [Reserved]. For further guidance, see Sec.  1.954-
2T(d)(2)(ii).
    (iii) * * *
    (E) [Reserved]. For further guidance, see Sec.  1.954-
2T(d)(2)(iii)(E).
* * * * *

[[Page 52980]]

    (v) [Reserved]. For further guidance, see Sec.  1.954-2T(d)(2)(v).
* * * * *
    (j) [Reserved]. For further guidance, see Sec.  1.954-2T(j).


0
Par. 3. Section 1.954-2T is added to read as follows:


Sec.  1.954-2T  Foreign personal holding company income (temporary).

    (a)(1) through (c)(1) introductory text [Reserved]. For further 
guidance, see Sec.  1.954-2(a)(1) through (c)(1).
    (i) Property that the lessor, through its own officers or staff of 
employees, has manufactured or produced, or property that the lessor 
has acquired and, through its own officers or staff of employees, added 
substantial value to, but only if the lessor, through its officers or 
staff of employees, is regularly engaged in the manufacture or 
production of, or in the acquisition and addition of substantial value 
to, property of such kind;
    (c)(1)(ii) and (iii) [Reserved]. For further guidance, see Sec.  
1.954-2(c)(1)(ii) and (c)(1)(iii).
    (iv) Property that is leased as a result of the performance of 
marketing functions by such lessor through its own officers or staff of 
employees located in a foreign country or countries, if the lessor, 
through its officers or staff of employees, maintains and operates an 
organization either in such country or in such countries 
(collectively), as applicable, 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 the leasing of such property.
    (c)(2)(i) [Reserved]. For further guidance, see Sec.  1.954-
2(c)(2)(i).
    (ii) Substantiality of foreign organization. For purposes of 
paragraph (c)(1)(iv) of this section, whether an organization either in 
a foreign country or in foreign countries (collectively) is substantial 
in relation to the amount of rents is determined based on all the 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.
    (c)(2)(iii) introductory text through (c)(2)(iii)(D) [Reserved]. 
For further guidance, see Sec.  1.954-2(c)(2)(iii) through 
(c)(2)(iii)(D).
    (E) Deductions for CST Payments or PCT Payments (as defined in 
Sec.  1.482-7(b)).
    (c)(2)(iv) through (c)(2)(vii) [Reserved]. For further guidance, 
see Sec.  1.954-2(c)(2)(iv) through (c)(2)(vii).
    (viii) Cost sharing arrangements (CSAs). For purposes of paragraphs 
(c)(1)(i) and (iv) of this section, CST Payments or PCT Payments (as 
defined in Sec.  1.482-7(b)(1)) made by the lessor to another 
controlled participant (as defined in Sec.  1.482-7(j)(1)(i)) pursuant 
to a CSA (as defined in Sec.  1.482-7(a)) do not cause the activities 
undertaken by that other controlled participant to be considered to be 
undertaken by the lessor's own officers or staff of employees.
    (c)(3) and (d)(1) introductory text [Reserved]. For further 
guidance, see Sec.  1.954-2(c)(3) and (d)(1).
    (i) Property that the licensor, through its own officers or staff 
of employees, has developed, created, or produced, or property that the 
licensor has acquired and, through its own officers or staff of 
employees, added substantial value to, but only so long as the 
licensor, through its officers or staff of employees, is regularly 
engaged in the development, creation, or production of, or in the 
acquisition and addition of substantial value to, property of such 
kind; or
    (ii) Property that is licensed as a result of the performance of 
marketing functions by such licensor through its own officers or staff 
of employees located in a foreign country or countries, if the 
licensor, through its officers or staff of employees, maintains and 
operates an organization either in such foreign country or in such 
foreign countries (collectively), as applicable, that is regularly 
engaged in the business of marketing, or of marketing and servicing, 
the licensed property and that is substantial in relation to the amount 
of royalties derived from the licensing of such property.
    (d)(2)(i) [Reserved]. For further guidance, see Sec.  1.954-
2(d)(2)(i).
    (ii) Substantiality of foreign organization. For purposes of 
paragraph (d)(1)(ii) of this section, whether an organization either in 
a foreign country or in foreign countries (collectively) is substantial 
in relation to the amount of royalties is determined based on all of 
the facts and circumstances. However, such an organization will be 
considered substantial in relation to the amount of royalties if active 
licensing expenses, as defined in paragraph (d)(2)(iii) of this 
section, equal or exceed 25 percent of the adjusted licensing profit, 
as defined in paragraph (d)(2)(iv) of this section.
    (d)(2)(iii) introductory text through (d)(2)(iii)(D) [Reserved]. 
For further guidance, see Sec.  1.954-2(d)(2)(iii) through 
(d)(2)(iii)(D).
    (E) Deductions for CST Payments or PCT Payments (as defined in 
Sec.  1.482-7(b)).
    (d)(2)(iv) [Reserved]. For further guidance, see Sec.  1.954-
2(d)(2)(iv).
    (v) Cost sharing arrangements (CSAs). For purposes of paragraphs 
(d)(1)(i) and (ii) of this section, CST Payments or PCT Payments (as 
defined in Sec.  1.482-7(b)(1)) made by the licensor to another 
controlled participant (as defined in Sec.  1.482-7(j)(1)(i)) pursuant 
to a CSA (as defined in Sec.  1.482-7(a)) do not cause the activities 
undertaken by that other controlled participant to be considered to be 
undertaken by the licensor's own officers or staff of employees.
    (d)(3) through (i) [Reserved]. For further guidance, see Sec.  
1.954-2(d)(3) through (i).
    (j) Effective/applicability date. Paragraphs (c)(1)(i) and 
(d)(1)(i) of this section apply to rents or royalties, as applicable, 
received or accrued during taxable years of controlled foreign 
corporations ending on or after September 1, 2015, and to taxable years 
of United States shareholders in which or with which such taxable years 
end, but only with respect to property manufactured, produced, 
developed, or created, or in the case of acquired property, property to 
which substantial value has been added, on or after September 1, 2015. 
Paragraphs (c)(1)(iv), (c)(2)(ii), (c)(2)(iii)(E), (c)(2)(viii), 
(d)(1)(ii), (d)(2)(ii), (d)(2)(iii)(E), and (d)(2)(v) of this section 
apply to rents or royalties, as applicable, received or accrued during 
taxable years of controlled foreign corporations ending on or after 
September 1, 2015, and to taxable years of United States shareholders 
in which or with which such taxable years end, to the extent that such 
rents or royalties are received or accrued on or after September 1, 
2015. See Sec. Sec.  1.954-2(c)(1)(i), (c)(1)(iv), (c)(2)(ii), 
(c)(2)(iii), (d)(1)(i), (d)(1)(ii), (d)(2)(ii), and (d)(2)(iii), as 
contained in 26 CFR part 1 revised as of April 1, 2015, for rules 
applicable to rents or royalties, as applicable, received or accrued 
before September 1, 2015.
    (k) Expiration date. The applicability of paragraphs (c)(1)(i), 
(c)(1)(iv), (c)(2)(ii), (c)(2)(iii)(E), (c)(2)(viii),

[[Page 52981]]

(d)(1)(i), (d)(1)(ii), (d)(2)(ii), (d)(2)(iii)(E), and (d)(2)(v) of 
this section expires on or before August 31, 2018.


0
Par. 4. Section 1.956-1 is amended by:
0
1. Adding paragraphs (b)(4), (b)(5), (f), and (g)(1) through (3).
0
2. Redesignating paragraph (e)(6)(vii) as paragraph (g)(4) and revising 
it.
    The additions and revisions read as follows:


Sec.  1.956-1  Shareholder's pro rata share of a controlled foreign 
corporation's increase in earnings invested in United States property.

* * * * *
    (b) * * *
    (4) [Reserved]. For further guidance, see Sec.  1.956-1T(b)(4).
    (5) [Reserved]. For further guidance, see Sec.  1.956-1T(b)(5).
* * * * *
    (f) [Reserved]. For further guidance, see Sec.  1.956-1T(f).
    (g) introductory text through (g)(3) [Reserved]. For further 
guidance, see Sec.  1.956-1T(g) through (g)(3).
    (4) Paragraph (e)(6) of this section applies to property acquired 
in exchanges occurring on or after June 24, 2011. For transactions that 
occur prior to June 24, 2011, see Sec.  1.956-1T(e)(6) as contained in 
26 CFR part 1 revised as of April 1, 2011.


0
Par. 5. Section 1.956-1T is amended by revising paragraph (b)(4), and 
adding paragraphs (b)(5), (e)(6), (g), and (h) to read as follows:


Sec.  1.956-1T  Shareholder's pro rata share of a controlled foreign 
corporation's increase in earnings invested in United States property 
(temporary).

* * * * *
    (b) * * *
    (4) Certain indirectly held United States property--(i) General 
rule. For purposes of section 956, United States property held 
indirectly by a controlled foreign corporation includes--
    (A) United States property held on behalf of the controlled foreign 
corporation by a trustee or a nominee;
    (B) United States property acquired by any other foreign 
corporation that is controlled by the controlled foreign corporation if 
a principal purpose of creating, organizing, or funding by any means 
(including through capital contributions or debt) the other foreign 
corporation is to avoid the application of section 956 with respect to 
the controlled foreign corporation; and
    (C) Property acquired by a partnership that is controlled by the 
controlled foreign corporation if the property would be United States 
property if held directly by the controlled foreign corporation, and a 
principal purpose of creating, organizing, or funding by any means 
(including through capital contributions or debt) the partnership is to 
avoid the application of section 956 with respect to the controlled 
foreign corporation.
    (ii) Control. For purposes of paragraphs (b)(4)(i)(B) and (C) of 
this section, a controlled foreign corporation controls a foreign 
corporation or partnership if the controlled foreign corporation and 
the other foreign corporation or partnership are related within the 
meaning of or section 707(b). For this purpose, in determining whether 
two corporations are members of the same controlled group under, a 
person is considered to own stock owned directly by such person, stock 
owned for the purposes of, and stock owned with the application of 
section 267(c).
    (iii) Coordination rule. Paragraph (b)(4)(i)(C) of this section 
applies only to the extent that the amount of United States property 
that is treated as held indirectly by a controlled foreign corporation 
under that paragraph exceeds the amount of United States property that 
is treated as held by the controlled foreign corporation under Sec.  
1.956-2(a)(3).
    (iv) Examples. The following examples illustrate the rules of this 
paragraph (b)(4). In each example, unless otherwise provided, P is a 
domestic corporation that wholly owns two controlled foreign 
corporations, FS1 and FS2.

    Example 1.  (i) Facts. FS1 sells inventory to FS2 in exchange 
for trade receivables due in 60 days. Avoiding the application of 
section 956 with respect to FS1 was not a principal purpose of 
establishing the trade receivables. FS2 has no earnings and profits 
and FS1 has substantial accumulated earnings and profits. FS2 makes 
a loan to P equal to the amount it owes FS1 under the trade 
receivables. FS2 pays the trade receivables according to their 
terms.
    (ii) Result. FS1 will not be considered to indirectly hold 
United States property under this paragraph (b)(4) because the 
funding of FS2 through the sale of inventory in exchange for the 
establishment of trade receivables was not undertaken with a 
principal purpose of avoiding the application of section 956 with 
respect to FS1.
    Example 2.  (i) Facts. The facts are the same as in Example 1, 
except that, with a principal purpose of avoiding the application of 
section 956 with respect to FS1, FS1 and FS2 agree to defer FS2's 
payment obligation, and FS2 does not timely pay the receivables.
    (ii) Result. FS1 is considered to hold indirectly United States 
property under this paragraph (b)(4), because there was a funding of 
FS2, a principal purpose of which was to avoid the application of 
section 956 with respect to FS1.
    Example 3.  (i) Facts. FS1 has $100x of post-1986 undistributed 
earnings and profits and $100 post-1986 foreign income taxes, but 
does not have any cash. FS2 has earnings and profits of at least 
$100x, no post-1986 foreign income taxes, and substantial cash. 
Neither FS1 nor FS2 has earnings and profits described in section 
959(c)(1) or section 959(c)(2). FS2 loans $100x to FS1. FS1 then 
loans $100x to P. An income inclusion by P of $100x under sections 
951(a)(1)(B) and 956 with respect to FS1 would result in foreign 
income taxes deemed paid by P under section 960. A principal purpose 
of funding FS1 through the loan from FS2 is to avoid the application 
of section 956 with respect to FS2.
    (ii) Result. Under paragraph (b)(4)(i)(B) of this section, FS2 
is considered to indirectly hold the $100x obligation of P that is 
held by FS1. As a result, P has an income inclusion of $100x under 
sections 951(a)(1)(B) and 956 with respect to FS2, and the foreign 
income taxes deemed paid by P under section 960 is $0. P does not 
have an income inclusion under sections 951(a)(1)(B) and 956 with 
respect to FS1 related to the $100x loan from FS1 to P.
    Example 4.  (i) Facts. FS1 has substantial earnings and profits. 
P and FS1 are the only partners in a foreign partnership, FPRS. FS1 
contributes $600x cash to FPRS in exchange for a 60% interest in the 
partnership, and P contributes real estate located outside the 
United States ($400x value) to FPRS in exchange for a 40% interest 
in the partnership. There are no special allocations in the FPRS 
partnership agreement. FPRS lends $100x to P. Under Sec.  1.956-
2(a)(3), FS1 is treated as holding United States property of $60x 
(60% x $100x) as a result of the FPRS loan to P. A principal purpose 
of creating, organizing, or funding FPRS is to avoid the application 
of section 956 with respect to FS1.
    (ii) Result. Before taking into account paragraph (b)(4)(iii) of 
this section, because FS1 controls FPRS and a principal purpose of 
creating, organizing, or funding FPRS was to avoid the application 
of section 956 with respect to FS1, FS1 is considered under 
paragraph (b)(4)(i)(C) of this section to indirectly hold the $100x 
obligation of P that would be United States property if held 
directly by FS1. However, under paragraph (b)(4)(iii) of this 
section, FS1 is treated as holding United States property under 
paragraph (b)(4)(i)(C) only to the extent the amount held indirectly 
under paragraph (b)(4)(i)(C) of this section exceeds the amount of 
United States property that FS1 is treated as holding under Sec.  
1.956-2(a)(3). The amount of United States property that FS1 is 
treated as indirectly holding under paragraph (b)(4)(i)(C) of this 
section ($100x) exceeds the amount determined under Sec.  1.956-
2(a)(3) ($60x) by $40x. Thus, FS1 is considered to hold United 
States property within the meaning of section 956(c) in the amount 
of $100x ($60x under Sec.  1.956-2(a)(3) and $40x under paragraphs 
(b)(4)(i)(C) and (b)(4)(iii) of this section).

    (5) Certain foreign partnership distributions funded by CFCs--(i) 
General rule. For purposes of section

[[Page 52982]]

956, an obligation of a foreign partnership that is held (or that would 
be treated as held under Sec.  1.956-2(c) if the obligation were an 
obligation of a United States person) by a controlled foreign 
corporation is treated as a separate obligation of a partner in the 
partnership when--
    (A) The foreign partnership distributes an amount of money or 
property to the partner;
    (B) The foreign partnership would not have made the distribution 
but for a funding of the partnership through the obligation; and
    (C) The partner is related to the controlled foreign corporation 
within the meaning of section 954(d)(3).
    (ii) Amount of obligation. Notwithstanding Sec.  1.956-1(e), the 
amount that is treated as an obligation of the distributee partner 
pursuant to paragraph (b)(5)(i) of this section is equal to the lesser 
of the amount of the partnership distribution that would not have been 
made but for the funding of the partnership or the amount (as 
determined under Sec.  1.956-1(e)) of the obligation of the foreign 
partnership that is held (or that would be treated as held under Sec.  
1.956-2(c) if the obligation were an obligation of a United States 
person) by the controlled foreign corporation.

    (iii) Example. (A) Facts. P, a domestic corporation, wholly owns 
FS, a controlled foreign corporation. P owns a 70% interest in FPRS, 
a foreign partnership. A domestic corporation that is unrelated to P 
and FS owns the remaining 30% interest in FPRS. FPRS borrows $100x 
from FS, and distributes $80x to P. FPRS would not have made the 
distribution to P but for the funding by FS.
    (B) Result. Under paragraph (b)(5)(i) of this section, a portion 
of the obligation of FPRS that FS holds is treated as an obligation 
of P, which constitutes United States property, because FPRS made a 
distribution to P that FPRS would not have made but for the funding 
of FPRS through the obligation held by FS. Under paragraph 
(b)(5)(ii) of this section, the amount that is treated as an 
obligation of P is the lesser of the amount of the distribution, 
$80x, or the amount of the entire obligation of FPRS held by FS, 
$100x. For purposes of section 956, therefore, on the date the loan 
to FPRS is made, FS is considered to hold United States property of 
$80x.
* * * * *
    (e)(6) [Reserved]. For further guidance, see Sec.  1.956-1(e)(6).
* * * * *
    (g) Effective/applicability date. (1) Paragraph (b)(4) of this 
section applies to taxable years of controlled foreign corporations 
ending on or after September 1, 2015, and to taxable years of United 
States shareholders in which or with which such taxable years end, with 
respect to property acquired on or after September 1, 2015. See 
paragraph (b)(4) of Sec.  1.956-1T, as contained in 26 CFR part 1 
revised as of April 1, 2015, for the rules applicable to taxable years 
of controlled foreign corporations ending before September 1, 2015 and 
property acquired before September 1, 2015. For purposes of this 
paragraph (g)(1), a deemed exchange of property pursuant to section 
1001 on or after September 1, 2015 constitutes an acquisition of the 
property on or after that date.
    (2) Paragraph (b)(5) of this section applies to taxable years of 
controlled foreign corporations ending on or after September 1, 2015, 
and to taxable years of United States shareholders in which or with 
which such taxable years end, in the case of distributions made on or 
after September 1, 2015.
    (3) [Reserved].
    (4) [Reserved]. For further guidance, see Sec.  1.956-1(g)(4).
    (h) Expiration date. The applicability of paragraphs (b)(4) and 
(b)(5) of this section expires on or before August 31, 2018.

     Approved: July 30, 2015.
 John Dalrymple,
Deputy Commissioner for Services and Enforcement.
Mark J. Mazur,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2015-21574 Filed 9-1-15; 8:45 am]
 BILLING CODE 4830-01-P