[Federal Register Volume 75, Number 107 (Friday, June 4, 2010)]
[Proposed Rules]
[Pages 31736-31738]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2010-13492]
=======================================================================
-----------------------------------------------------------------------
DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[REG-106750-10]
RIN 1545-BJ30
Modifications of Debt Instruments
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking and notice of public hearing.
-----------------------------------------------------------------------
SUMMARY: This document contains proposed regulations relating to the
modification of debt instruments. The regulations clarify the extent to
which the deterioration in the financial condition of the issuer is
taken into account to determine whether a modified debt instrument will
be recharacterized as an instrument or property right that is not debt.
The regulations provide needed guidance to issuers and holders of debt
instruments. This document also provides notice of a public hearing on
these proposed regulations.
DATES: Written or electronic comments must be received by August 3,
2010. Outlines of topics to be discussed at the public hearing
scheduled for Wednesday, September 8, 2010, at 10 a.m. must be received
by Wednesday, August 11, 2010.
ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-106750-10), room
5205, Internal Revenue Service, P.O. Box 7604, Ben Franklin Station,
Washington, DC 20044. Submissions may be hand-delivered Monday through
Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-
106750-10), Courier's Desk, Internal Revenue Service, 1111 Constitution
Avenue, NW., Washington, DC, or sent electronically, via the Federal
eRulemaking Portal at http://www.regulations.gov (IRS and REG-106750-
10).
FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations,
Diana Imholtz, at (202) 622-3930; concerning submission of comments,
the hearing, and/or to be placed on the building access list to attend
the hearing, [email protected], at (202) 622-7180
(not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Background
Section 1.1001-3 provides rules for determining when a modification
of a debt instrument results in an exchange for purposes of Sec.
1.1001-1(a). In general, Sec. 1.1001-3 defines a modification and
provides that a modification that is significant results in a deemed
exchange of the original debt instrument for a modified debt
instrument. Section 1.1001-3 also addresses alterations to the terms of
a debt instrument that result in a modified instrument that is not
debt. Section 1.1001-3(c)(2)(ii) generally provides that a modification
to a debt instrument occurs if an alteration changes the instrument to
an instrument or property right that is not debt for Federal income tax
purposes, even if the alteration occurs by operation of the original
terms of the debt instrument. Section 1.1001-3(e)(5)(i) generally
provides that a modification of a debt instrument that results in an
instrument or property right that is not debt for Federal income tax
purposes is a significant modification. For purposes of making the
determination prescribed by Sec. 1.1001-3(e)(5)(i), the regulations
state that any deterioration in the financial condition of the issuer
between the issue date of the unmodified debt instrument and the date
of modification (as it relates to the issuer's obligation to repay the
debt instrument) is not taken into account, unless there is a
substitution of a new obligor or the addition or deletion of a co-
obligor.
In response to the proposed regulations published on December 2,
1992 (57 FR 57034), taxpayers were concerned that taking into account
the creditworthiness of a financially troubled issuer when a debt
instrument is modified would impose a significant barrier to
restructuring distressed debt instruments. The rule in Sec. 1.1001-
3(e)(5)(i) to disregard the financial condition of the issuer was
intended to address this concern. The preamble to the existing
regulations published on
[[Page 31737]]
September 24, 1996 (TD 8675; 61 FR 32926) explains that ``for purposes
of this regulation, unless there is a substitution of a new obligor,
any deterioration in the financial condition of the issuer is not
considered in determining whether the modified instrument is properly
characterized as debt.''
The language in the preamble to the existing regulations suggests
that for all purposes of Sec. 1.1001-3 the financial deterioration of
the issuer is generally not taken into account. Issuers and holders,
however, are concerned that, as the existing regulations are currently
drafted, a decline in the creditworthiness of the issuer, under certain
circumstances, may be taken into account under Sec. 1.1001-3. The
uncertainty about the proper interpretation of the existing regulations
has led taxpayers to request clarification on the circumstances in
which the credit quality of the issuer should be considered in
determining the nature of the instrument resulting from an alteration
or modification of a debt instrument. Accordingly, the IRS and the
Treasury Department believe it is appropriate to propose amendments to
Sec. 1.1001-3 to clarify this issue.
Explanation of Provisions
In general, the proposed regulations require an analysis of all of
the factors relevant to a debt determination of the modified instrument
at the time of an alteration or modification. However, in making this
determination for purposes of the regulation, any deterioration in the
financial condition of the issuer between the issue date of the debt
instrument and the date of the alteration or modification (as it
relates to the issuer's ability to repay the debt instrument) is not
taken into account, unless there is a substitution of a new obligor or
the addition or deletion of a co-obligor.
As noted in this preamble, the proposed regulations clarify that
any deterioration in the financial condition of the issuer is generally
not taken into account to determine if the modified instrument is debt.
For example, under the proposed regulations, any decrease in the fair
market value of a debt instrument (whether or not publicly traded)
between the issue date of the debt instrument and the date of the
alteration or modification is not taken into account to the extent that
the decrease in fair market value is attributable to the deterioration
in the financial condition of the issuer and not to a modification of
the terms of the instrument. Consistent with this rule in the proposed
regulations, if a debt instrument is significantly modified and the
issue price of the modified debt instrument is determined under Sec.
1.1273-2(b) or (c) (relating to a fair market value issue price for
publicly traded debt), then any increased yield on the modified debt
instrument attributable to this issue price generally is not taken into
account to determine whether the modified debt instrument is debt or
some other property right for Federal income tax purposes. However, any
portion of the increased yield that is not attributable to a
deterioration in the financial condition of the issuer, such as a
change in market interest rates, is taken into account.
Proposed Effective Date
The regulations, as proposed, apply to alterations of the terms of
a debt instrument on or after the date of publication of the Treasury
decision adopting these rules as final regulation in the Federal
Register. A taxpayer, however, may rely on these amendments for
alterations of the terms of a debt instrument occurring before that
date.
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory assessment is not required. It also has
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 regulation does 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 Internal Revenue Code, this
notice of proposed rulemaking has been submitted to the Chief Counsel
for Advocacy of the Small Business Administration for comment on its
impact on small business.
Comments and Public Hearing
Before these proposed regulations are adopted as final regulations,
consideration will be given to any written comments (a signed original
and eight (8) copies) or electronic comments that are submitted timely
to the IRS. The IRS and the Treasury Department request comments on the
clarity of the proposed rules and how they can be made easier to
understand. All comments will be available for public inspection and
copying.
A public hearing has been scheduled for Wednesday, September 8,
2010, beginning at 10 a.m. in Auditorium, Internal Revenue Building,
1111 Constitution Avenue, NW., Washington, DC. Due to building security
procedures, visitors must enter at the Constitution Avenue entrance. In
addition, all visitors must present photo identification to enter the
building. Because of access restrictions, visitors will not be admitted
beyond the immediate entrance area more than 30 minutes before the
hearing starts. For information about having your name placed on the
building access list to attend the hearing, see the FOR FURTHER
INFORMATION CONTACT section of this preamble.
The rules of 26 CFR 601.601(a)(3) apply to the hearing. Persons who
wish to present oral comments at the hearing must submit electronic or
written comments and an outline of the topics to be discussed and the
time to be devoted to each topic (signed original and eight (8) copies)
by Wednesday, August 11, 2010. A period of 10 minutes will be allotted
to each person for making comments. An agenda showing the scheduling of
the speakers will be prepared after the deadline for receiving outlines
has passed. Copies of the agenda will be available free of charge at
the hearing.
Drafting Information
The principal author of these regulations is Diana Imholtz, Office
of Associate Chief Counsel (Financial Institutions & Products).
However, other personnel from the IRS and the Treasury Department
participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is proposed to be amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 continues to read in
part as follows:
Authority: 26 U.S.C. 7805 * * *
Par. 2. Section 1.1001-3 is amended by revising paragraphs
(c)(2)(ii), (e)(5)(i) and (h) and adding paragraph (f)(7) to read as
follows:
Sec. 1.1001-3 Modifications of debt instruments.
* * * * *
(c) * * *
(2) * * *
(ii) Property that is not debt. An alteration that results in an
instrument or property right that is not debt for Federal income tax
purposes is a
[[Page 31738]]
modification unless the alteration occurs pursuant to a holder's option
under the terms of the instrument to convert the instrument into equity
of the issuer (notwithstanding paragraph (c)(2)(iii) of this section).
The rules of paragraph (f)(7) of this section apply to determine
whether an alteration or modification results in an instrument or
property right that is not debt.
* * * * *
(e) * * *
(5) Changes in the nature of a debt instrument--(i) Property that
is not debt. A modification of a debt instrument that results in an
instrument or property right that is not debt for Federal income tax
purposes is a significant modification. The rules of paragraph (f)(7)
of this section apply to determine whether a modification results in an
instrument or property right that is not debt.
* * * * *
(f) * * *
(7) Rules for determining whether an alteration or modification
results in an instrument or property right that is not debt--(i) In
general. Except as provided in paragraph (f)(7)(ii) of this section,
the determination of whether an instrument resulting from an alteration
or modification of a debt instrument will be recharacterized as an
instrument or property right that is not debt for Federal income tax
purposes shall take into account all of the factors relevant to such a
determination.
(ii) Financial condition of the obligor--(A) Deterioration in
financial condition of the obligor generally disregarded. Except as
provided in paragraph (f)(7)(ii)(B) of this section, in making a
determination as to whether an instrument resulting from an alteration
or modification of a debt instrument will be recharacterized as an
instrument or property right that is not debt under this section, any
deterioration in the financial condition of the obligor between the
issue date of the debt instrument and the date of the alteration or
modification (as it relates to the obligor's ability to repay the debt
instrument) is not taken into account. For example, any decrease in the
fair market value of a debt instrument (whether or not the debt
instrument is publicly traded) between the issue date of the debt
instrument and the date of the alteration or modification is not taken
into account to the extent that the decrease in fair market value is
attributable to the deterioration in the financial condition of the
obligor and not to a modification of the terms of the instrument.
(B) Substitution of a new obligor; addition or deletion of co-
obligor. If there is a substitution of a new obligor or the addition or
deletion of a co-obligor, the rules in paragraph (f)(7)(ii)(A) of this
section do not apply.
* * * * *
(h) Effective/applicability date--(1) In general. Except as
otherwise provided in paragraph (h)(2) of this section, this section
applies to alterations of the terms of a debt instrument on or after
September 24, 1996. Taxpayers, however, may rely on this section for
alterations of the terms of a debt instrument after December 2, 1992,
and before September 24, 1996.
(2) Exception. Paragraph (f)(7) of this section applies to an
alteration of the terms of a debt instrument on or after the date of
publication of the Treasury decision adopting these rules as final
regulation in the Federal Register. A taxpayer, however, may rely on
paragraph (f)(7) of this section for alterations of the terms of a debt
instrument occurring before that date.
Steven T. Miller,
Deputy Commissioner for Services and Enforcement.
[FR Doc. 2010-13492 Filed 6-3-10; 8:45 am]
BILLING CODE 4830-01-P