Internal Revenue Bulletin 2012-28 (PDF rendition): IRS Revenue Procedures

Preserve advance releases and the authoritative Internal Revenue Bulletin rendition; directory timestamps are file-publication metadata, not legal effective dates. HTML bulletins begin June 2003; earlier available issues require full PDF parsing. Whole bulletin rendition: numbered items are identified below; other legal material and publisher context remain included. This is not a new standalone advance release.

Bulletin No. 201
2-28
July 9, 2012
HIGHLIGHTS
OF THIS ISSUE
These synopses are intended only as aids to the reader in
identifying the subject matter covered. They may not be
relied upon as authoritative interpretations.
INCOME TAX
Rev. Rul. 2012–19, page 16.
Dividends and dividend equivalents on restricted stock
and restricted stock units.This ruling addresses whether
dividends and dividend equivalents relating to restricted stock
and restricted stock units that are performance-based com-
pensation under section 162(m)(4)(C) of the Code must sepa-
rately satisfy the requirements under section 162(m)(4)(C) to
be treated as performance-based compensation.
T.D. 9591, page 32.
Final regulations under section 7874 of the Code provide rules
for determining whether a foreign corporation is a surrogate
foreign corporation. Specifically, the regulation explains when
there is an indirect acquisition of a domestic corporation’s prop-
erties for purposes of section 7874(a)(2)(B). In addition, the
regulation includes a rule that in certain situations, a publicly
traded partnership may be treated as a surrogate foreign cor-
poration. The regulation also provides rules for the treatment
of options of the surrogate foreign corporation for purposes of
section 7874(a)(2)(B)(ii).
T.D. 9592, page 41.
REG–107889–12, page 53.
Temporary and proposed regulations under section 7874 of
the Code provide guidance regarding whether a foreign corpo-
ration has substantial business activities in the foreign country
in which, or under the law of which, the foreign corporation is
created or organized.
Notice 2012–44, page 45.
This notice provides guidance regarding certain qualified con-
servation purposes eligible for financing with qualified energy
conservation bonds under section 54D of the Code, particu-
larly (1) how to measure reductions of energy consumption in
publicly-owned buildings by at least 20 percent, and (2) what
constitutes a “green community program.”
Rev. Proc. 2012–29, page 49.
This procedure provides sample language that may be used
(but is not required to be used) for making an election under
section 83(b) of the Code. Additionally, the procedure provides
examples of the income tax consequences of making such an
election.
EMPLOYEE PLANS
Rev. Rul. 2012–19, page 16.
Dividends and dividend equivalents on restricted stock
and restricted stock units.This ruling addresses whether
dividends and dividend equivalents relating to restricted stock
and restricted stock units that are performance-based com-
pensation under section 162(m)(4)(C) of the Code must sepa-
rately satisfy the requirements under section 162(m)(4)(C) to
be treated as performance-based compensation.
Rev. Proc. 2012–29, page 49.
This procedure provides sample language that may be used
(but is not required to be used) for making an election under
section 83(b) of the Code. Additionally, the procedure provides
examples of the income tax consequences of making such an
election.
(Continued on the next page)
Finding Lists begin on page ii.

ESTATE TAX
T.D. 9593, page 17.
REG–141832–11, page 54.
Temporary and proposed regulations under section 2010 of
the Code provide rules for determining the applicable credit
amount and applicable exclusion amount allowed to the estate
of a decedent against the gift or estate tax. In addition, the
regulations provide rules for electing portability of a deceased
spousal unused exclusion amount to the surviving spouse and
rules regarding the surviving spouse’s use of this amount. The
portability rules apply to married spouses where the death of
the first spouse to die occurs on or after January 1, 2011.
GIFT TAX
T.D. 9593, page 17.
REG–141832–11, page 54.
Temporary and proposed regulations under section 2010 of
the Code provide rules for determining the applicable credit
amount and applicable exclusion amount allowed to the estate
of a decedent against the gift or estate tax. In addition, the
regulations provide rules for electing portability of a deceased
spousal unused exclusion amount to the surviving spouse and
rules regarding the surviving spouse’s use of this amount. The
portability rules apply to married spouses where the death of
the first spouse to die occurs on or after January 1, 2011.
July 9, 20122012–28 I.R.B.

The IRS Mission
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a’s taxpayers top-quality service by helping
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nd and meet their tax responsibilities and en-
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th integrity and fairness to all.
Introduction
The Internal Revenue Bulletin is the authoritative instrument of
the Commissioner of Internal Revenue for announcing official
rulings and procedures of the Internal Revenue Service and for
publishing Treasury Decisions, Executive Orders, Tax Conven-
tions, legislation, court decisions, and other items of general
interest. It is published weekly and may be obtained from the
Superintendent of Documents on a subscription basis. Bulletin
contents are compiled semiannually into Cumulative Bulletins,
which are sold on a single-copy basis.
It is the policy of the Service to publish in the Bulletin all sub-
stantive rulings necessary to promote a uniform application of
the tax laws, including all rulings that supersede, revoke, mod-
ify, or amend any of those previously published in the Bulletin.
All published rulings apply retroactively unless otherwise indi-
cated. Procedures relating solely to matters of internal man-
agement are not published; however, statements of internal
practices and procedures that affect the rights and duties of
taxpayers are published.
Revenue rulings represent the conclusions of the Service on the
application of the law to the pivotal facts stated in the revenue
ruling. In those based on positions taken in rulings to taxpayers
or technical advice to Service field offices, identifying details
and information of a confidential nature are deleted to prevent
unwarranted invasions of privacy and to comply with statutory
requirements.
Rulings and procedures reported in the Bulletin do not have the
force and effect of Treasury Department Regulations, but they
may be used as precedents. Unpublished rulings will not be
relied on, used, or cited as precedents by Service personnel in
the disposition of other cases. In applying published rulings and
procedures, the effect of subsequent legislation, regulations,
court decisions, rulings, and procedures must be considered,
and Service personnel and others concerned are cautioned
against reaching the same conclusions in other cases unless
the facts and circumstances are substantially the same.
The Bulletin is divided into four parts as follows:
Part I.—19
86 Code.
This part i
ncludes rulings and decisions based on provisions of
the Intern
al Revenue Code of 1986.
Part II.—Treaties and Tax Legislation.
This part is divided into two subparts as follows: Subpart A,
Tax Conventions and Other Related Items, and Subpart B, Leg-
islation and Related Committee Reports.
Part III.—Administrative, Procedural, and Miscellaneous.
To the extent practicable, pertinent cross references to these
subjects are contained in the other Parts and Subparts. Also
included in this part are Bank Secrecy Act Administrative Rul-
ings. Bank Secrecy Act Administrative Rulings are issued by
the Department of the Treasury’s Office of the Assistant Secre-
tary (Enforcement).
Part IV
.—Items of General Interest.
This par
t includes notices of proposed rulemakings, disbar-
ment an
d suspension lists, and announcements.
The last Bulletin for each month includes a cumulative index
for the matters published during the preceding months. These
monthly indexes are cumulated on a semiannual basis, and are
published in the last Bulletin of each semiannual period.
The c
ontents of this publication are not copyrighted and may be reprinted freely. A citation of the Internal Revenue Bulletin as the source would be appropriate.
For sale by the Superintendent of Documents, U.S.Government Printing Office, Washington, DC 20402.
2012–28 I.R.B.July 9, 2012

July 9, 20122012–28 I.R.B.

Part I. Rulings
and Decisions Under the Internal Revenue Code
of 1986
Section 83.—P
roperty
Transferred in Connection
With Performance of
Services
The revenue procedures contains sample language
that may be used (but is not required to be used) for
making an election under section 83(b) of the Internal
Revenue Code. Additionally, the revenue procedure
provides examples of the income tax consequences
of making such an election. See Rev. Proc. 2012-29,
page 49.
Section 162.—Dividends
and Dividend Equivalents
on Restricted Stock and
Restricted Stock Units
26 CFR 1.162–27: Certain employee remuneration
in excess of $1,000,000.
Dividends and dividend equivalents
on restricted stock and restricted stock
units.This ruling addresses whether divi-
dends and dividend equivalents relating to
restricted stock and restricted stock units
that are performance-based compensation
under section 162(m)(4)(C) of the Code
must separately satisfy the requirements
under section 162(m)(4)(C) to be treated as
performance-based compensation.
Rev. Rul. 2012–19
ISSUE
Whether dividends and dividend equiv-
alents relating to restricted stock and
restricted stock units (RSUs) that are
performance-based compensation under
§ 162(m)(4)(C) of the Internal Revenue
Code must separately satisfy the require-
ments under § 162(m)(4)(C) to be treated
as performance-based compensation.
FACTS
Cor
poration X and Corporation Y
are
publicly held corporations within
the
meaning of § 162(m)(2). Both cor-
po
rations maintain plans under which
pa
rticipating employees may be granted
re
stricted common stock of the respec-
ti
ve corporation or RSUs based upon the
co
mmon stock of the respective corpo-
ra
tion. The restricted stock and RSUs
granted under
the plans of Corporations
XandYvestupo
n the attainment of cer-
tain preestab
lished, objective performance
goals and oth
erwise meet the require-
ments of § 1.1
62–27(e). Accordingly, the
compensatio
n received due to the vest-
ing of the res
tricted stock and the vesting
and payment
of the RSUs is qualified
performanc
e-based compensation that is
excluded fr
om the applicable employee
remunerati
on to which the deduction limi-
tation unde
r § 162(m) applies.
Situation 1
. Corporation X’s plan pro-
vides that
dividends and dividend equiv-
alents oth
erwise payable to an employee
during the
period from grant through vest-
ing with re
spect to performance-based
restricte
d stock and RSU awards granted
to the emp
loyee are accumulated and
become ve
sted and payable only if the
related p
erformance goals with respect to
the restr
icted stock and RSUs are satisfied.
All other
requirements of § 1.162–27(e)
are met w
ith respect to the grant of rights
to divid
ends and dividend equivalents.
Situati
on 2. Corporation Y’s plan
provide
s for payment to an employee dur-
ing the p
eriod from grant to vesting of
dividen
ds and dividend equivalents with
respec
t to performance-based restricted
stock a
nd RSU awards granted to the em-
ployee
at the same time dividends are paid
on comm
on stock of Corporation Y re-
gardle
ss of whether the performance goals
estab
lished with respect to the restricted
stock
and RSUs are satisfied.
LAW
Secti
on 162(a)(1) allows as a deduction
all th
e ordinary and necessary expenses
paid o
r incurred during the taxable year in
carry
ing on any trade or business, includ-
ing a r
easonable allowance for salaries or
othe
r compensation for personal services
actu
ally rendered.
Sect
ion 162(m)(1) provides that in the
case
of any publicly held corporation, no
dedu
ction is allowed for applicable em-
ploy
ee remuneration with respect to any
cove
red employee to the extent that the
amo
unt of the remuneration for the taxable
yea
r exceeds $1,000,000.
Section 162(m
)(3) provides that the
term “covered
employee” means any em-
ployee of the t
axpayer if (i) as of the close
of the taxabl
e year, such employee is the
chief execut
ive officer of the taxpayer or
is an individ
ual acting in such a capac-
ity, or (ii) t
he total compensation of such
employee fo
r the taxable year is required
to be report
ed to shareholders under the
Securities
Exchange Act of 1934 (Ex-
change Act)
by reason of such employee
being among
the four highest compensated
officers f
or the taxable year (other than
the chief e
xecutive officer). See Notice
2007–49, 2
007–1 C.B. 1429 (providing
changes to
the application of this provi-
sion base
d on changes in the Exchange
Act compe
nsation disclosure rules).
Section 1
62(m)(4)(A) defines “applica-
ble emplo
yee remuneration,” with respect
to any cov
ered employee for any taxable
year, gen
erally as the aggregate amount al-
lowable a
s a deduction for the taxable year
(determ
ined without regard to § 162(m))
for remu
neration for services performed
by the em
ployee (whether or not during the
taxable
year).
Section
162(m)(4)(C) provides that ap-
plicabl
e employee remuneration does not
includ
e any remuneration payable solely
on acco
unt of the attainment of one or
more pe
rformance goals, but only if (i)
the per
formance goals are determined by
a compe
nsation committee of the board of
direc
tors of the taxpayer which is com-
prise
d solely of two or more outside direc-
tors,
(ii) the material terms under which the
remun
eration is to be paid, including the
perfo
rmance goals, are disclosed to share-
hold
ers and approved by a majority of the
vote
in a separate shareholder vote before
paym
ent of such remuneration, and (iii)
befo
re any payment of such remuneration,
the c
ompensation committee certifies that
the p
erformance goals and other material
ter
ms were in fact satisfied. Rules with re-
spe
ct to these requirements are set forth in
§§ 1
.162–27(e)(2) through (e)(5).
Sec
tion 1.162–27(e)(2)(i) provides that
qua
lified performance-based compensa-
tio
n must be paid solely on account of
the
attainment of one or more preestab-
li
shed, objective performance goals. Sec-
ti
on 1.162–27–(e)(2)(ii) provides that a
2012–28 I.R.B.16July 9, 2012

preestablished performance goal must
state, in terms of an objective formula or
standard, the method for computing the
amount of compensation payable to the
employee if the goal is attained.
Section 1.162–27(e)(2)(iv) provides
that the determination of whether com-
pensation satisfies the requirements
of § 1.162–27(e)(2) generally is made
on a grant-by-grant basis.Section
1.162–27(e)(2)(iv) further provides that,
except as provided in § 1.162–27(e)(2)(vi)
(relating to stock options and stock ap-
preciation rights), whether a grant of
restricted stock or other stock-based com-
pensation satisfies the performance goal
requirements is determined without regard
to whether dividends, dividend equiva-
lents, or other similar distributions with
respect to stock, on such stock-based
compensation are payable prior to the
attainment of the performance goal. Div-
idends, dividend equivalents, or other
similar distributions with respect to stock
that are treated as separate grants un-
der § 1.162–27(e)(2)(iv) are not perfor-
mance-based compensation unless they
separately satisfy the performance goal
requirements. Such performance goals
may or may not be the same as the per-
formance goals for the related stock-based
compensation.
ANALYSIS
Under § 1.162–27(e)(2)(iv), the divi-
dends and dividend equivalents under Cor-
poration X’s plan and under Corporation
Y’s plan are grants of compensation that
are separate and apart from the related re-
stricted stock and RSU grants. Therefore,
the grants of the dividends and dividend
equivalents must separately satisfy the re-
quirements of § 1.162–27(e) to be quali-
fied performance-based compensation.
Situation 1. Under Corporation X’s
plan, participants’rights to restricted
stock and RSUs are subject to perfor-
mance goals that meet the requirements
of § 1.162–27(e) and are excluded from
applicable remuneration for purposes of
applying the § 162(m)(1) deduction limi-
tation. Under the same plan, participants’
rights to dividends and dividend equiv-
alents vest and become payable only if
the same performance goals that apply
to the related grants of restricted stock
and RSUs are satisfied. Therefore, divi-
dends and dividend equivalents under X’s
plan are also excluded from applicable
remuneration for purposes of applying the
§ 162(m)(1) deduction limitation.
Situation 2. The dividends and div-
idend equivalents under Corporation Y’s
plan fail to satisfy the requirements un-
der § 162(m)(4)(C) and § 1.162–27(e) be-
cause the rights to these amounts do not
vest and become payable solely on account
of the attainment of preestablished perfor-
mance goals. Thus, these amounts are
not qualified performance-based compen-
sation, regardless of whether the perfor-
mance goals are met with respect to the re-
lated restricted stock and RSUs.
HOLDINGS
Situation 1. With respect to Corpora-
tion X, dividends and dividend equivalents
paid under X’s plan are qualified-perfor-
mance based compensation and therefore
are excluded from applicable employee re-
muneration for purposes of applying the
$1,000,000 limitationon deductibility un-
der § 162(m)(1).
Situation 2. With respect to Corpora-
tion Y, dividends and dividend equivalents
paid under Y’s plan are not qualified-per-
formance based compensation and there-
fore are included in applicable employee
remuneration for purposes of applying the
$1,000,000 limitationon deductibility un-
der § 162(m)(1).
DRAFTING INFORMATION
This revenue ruling was prepared by
Dara Alderman of the Office of the Di-
vision Counsel/Associate Chief Counsel
(Tax Exempt & Government Entities). For
further information regarding this revenue
ruling, contact Ms. Alderman at (202)
622–6030 (not a toll-free call).
Section 2010.—Unified
Credit Against Estate Tax
26 CFR 20.2001–2T: Valuation of adjusted tax-
able gifts for purposes of determining the deceased
spousal unused exclusion amount of last deceased
spouse (temporary).
T.D. 9593
DEPARTMENT OF THE
TREASURY
Internal Revenue Service
26 CFR Parts 20, 25, and 602
Portability of a Deceased
Spousal Unused Exclusion
Amount
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Temporary regulations.
SUMMARY: This document contains tem-
porary regulations that provide guidance
on the estate and gift tax applicable ex-
clusion amount, in general, as well as on
the applicable requirements for electing
portability of a deceased spousal unused
exclusion (DSUE) amount to the surviv-
ing spouse and on the applicable rules for
the surviving spouse’s use of this DSUE
amount. The statutory provisions under-
lying the portability rules were enacted as
part of the Tax Relief, Unemployment In-
surance Reauthorization, and Job Creation
Act of 2010. The portability rules affect
married spouses where the death of the
first spouse to die occurs on or after Jan-
uary 1, 2011. The text of the temporary
regulations also serves as the text of pro-
posed regulations (REG–141832–11) set
forth in the notice of proposed rulemaking
on this subject appearing elsewhere in this
issue of the Bulletin.
DATES:Effective Date:These regulations
are effective on June 15, 2012.
Applicability Dates:Sections of
the temporary regulation relating to
portability of a deceased spousal unused
exclusion amount apply to estates of
decedents dying on or after January 1,
2011. For specific dates of applicability,
see §§20.2001–2T(b), 20.2010–1T(e),
20.2010–2T(e),20.2010–3T(f),
25.2505–1T(e), and 25.2505–2T(g).
FOR FURTHER INFORMATION
CONTACT: Karlene Lesho (202)
622–3090 (not a toll-free number).
July 9, 2012172012–28 I.R.B.

SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information contained
in these regulations has been reviewed and,
pending receipt and evaluation of public
comments, approved by the Office of Man-
agement and Budget under control num-
ber 1545–0015. Responses to this collec-
tion of information are voluntary to obtain
the benefit of being able to elect portabil-
ity or to take advantage of the special re-
porting requirements applicable to certain
assets, and, for certain estates, to opt out of
a deemed portability election.
An agency may not conduct or sponsor,
and a person is not required to respond to, a
collection of information unless the collec-
tion of information displays a valid control
number. For further information concern-
ing this collection of information, and the
address for the submission of comments on
the collection of information and the accu-
racy of the estimated burden, and sugges-
tions for reducing this burden, please re-
fer to the preamble of the cross-referencing
notice of proposed rulemaking published
in this issue of the Bulletin.
Books and records relating to a collec-
tion of information must be retained as
long as their contents may become mate-
rial in the administration of any internal
revenue law. Generally, tax returns and tax
return information are confidential, as re-
quired by 26 U.S.C. 6103.
Background
On December 17, 2010, in section
303 of the Tax Relief, Unemployment
Insurance Reauthorization, and Job Cre-
ation Act of 2010, Public Law 111–312
(124 Stat. 3296, 3302) (TRUIRJCA),
Congress amended section 2010(c) of the
Internal Revenue Code (Code) to allow
portability of the applicable exclusion
amount between spouses, and it made
conforming amendments to sections
2505(a), 2631(c), and 6018(a)(1) of the
Code. Section 303 of TRUIRJCA directs
the Secretary to issue such regulations as
may be necessary or appropriate to carry
out section 303(a) of TRUIRJCA.
This document contains amendments
to the Estate Tax Regulations (26 CFR
part 20) under sections 2001 and 2010
of the Code and to the Gift Tax Regula-
tions (26 CFR part 25) under section 2505
of the Code. The temporary regulations
address not only the amendments made
to section 2010(c) by TRUIRJCA and
the conforming amendment to section
2505(a), but also the entirety of sections
2010 and 2505 of the Code for which there
are no existing regulations. Finally, the
amendment to the Estate Tax Regulations
under section 2001 of the Code clarifies
the application of the rule in section
2010(c)(5)(B) to section 2001 of the Code.
Section303(a)ofTRUIRJCA
Section 303(a) of TRUIRJCA amends
section 2010(c) of the Code by strik-
ing paragraph (2) of section 2010(c) and
adding new paragraphs (2) through (6) of
section 2010(c). Section 2010(c)(2) now
defines the applicable exclusion amount,
used to determine the applicable credit
amount, as the sum of the basic exclu-
sion amount and, in the case of a surviv-
ing spouse, the DSUE amount. Section
2010(c)(3) provides that the basic exclu-
sion amount is $5,000,000, to be adjusted
for inflation in each year after calendar
year 2011. Section 2010(c)(4) defines the
DSUE amount to mean the lesser of (A)
the basic exclusion amount or (B) the ba-
sic exclusion amount of the last deceased
spouse of the surviving spouse, less the
amount with respect to which the tentative
tax is determined under section 2001(b)(1)
on the estate of such deceased spouse.
Section 2010(c)(5) describes special
rules relating to the portability of a DSUE
amount. Section 2010(c)(5)(A) provides
certain requirements that must be met
to allow a surviving spouse to take into
account a DSUE amount of a deceased
spouse. In particular, the executor of the
estate of the deceased spouse must file
an estate tax return, compute the DSUE
amount on such return, elect portability
of the DSUE amount on such return, and
ensure that such return is filed within the
time prescribed by law (including ex-
tensions) for filing such return. Section
2010(c)(5)(B) allows the Secretary to ex-
amine a return of the deceased spouse to
determine the DSUE amount, even after
the expiration of the time provided under
section 6501 for assessing a tax under
chapter 11 or 12.
Section 2010(c)(6) directs the Secretary
to prescribe regulations as may be nec-
essary or appropriate to carry out section
2010(c).
Notice 2011–82
On October 17, 2011, the Department
of the Treasury (Treasury) and the IRS
issued Notice 2011–82, 2011–42 I.R.B.
516, which can be found onwww.IRS.gov.
Notice 2011–82 alerts taxpayers to the
requirements for the estate of a deceased
spouse to elect portability of a DSUE
amount. In addition, Notice 2011–82
announces that the estate of a deceased
spouse will be deemed to elect portability
of the DSUE amount by timely filing a
complete and properly-prepared estate tax
return, and that such return will be deemed
to include a computation of the DSUE
amount until such time as the IRS revises
the estate tax return to expressly contain
the DSUE amount computation. Notice
2011–82 also provides guidance to the
estates of deceased spouses who choose
not to make the portability election. No-
tice 2011–82 announces that Treasury
and the IRS intend to issue regulations
to implement section 303 of TRUIRJCA.
Accordingly, Treasury and the IRS invited
comments on a number of specific issues.
Treasury and the IRS received comments
on these issues, as well as additional issues
identified by commenters. The comments
are discussed in more detail in the “Ex-
planation of Provisions” section of this
preamble.
Notice 2012–21
On March 3, 2012, Treasury and the
IRS issued Notice 2012–21, 2012–10
I.R.B. 450, which can be found on
www.IRS.gov. Notice 2012–21 grants to
qualifying estates a six-month extension of
time for filing an estate tax return to elect
portability of an unused exclusion amount
provided that the qualifying estate files
Form 4768, “Application for Extension of
Time to File a Return and/or Pay U.S. Es-
tate (and Generation-Skipping Transfer)
Taxes,” within 15 months of the decedent’s
death. A qualifying estate is the estate of
a person who died, survived by a spouse,
during the first half of calendar year 2011,
and whose gross estate has a fair market
value that does not exceed $5 million.
With the extension granted by this notice,
the estate tax return must be filed within
15 months of the decedent’s death.
2012–28 I.R.B.18July 9, 2012

Explanation of Provisions
1.Rules in Section 2010(a), (b), and (d)
of the Code
The temporary regulations in
§20.2010–1T(a) state the general rule of
section 2010(a) that an applicable credit
amount will be allowed to the estate of
every decedent against the estate tax im-
posedbysection2001. Thetemporary
regulations in §20.2010–1T(b) incorpo-
rate the rule in section 2010(b) relating
to an adjustment to the applicable credit
amount for certain gifts made before 1977.
Finally, as provided in section 2010(d), the
temporary regulations in §20.2010–1T(c)
limit the amount of the allowable credit so
that it does not exceed the amount of the
estate tax imposed by section 2001.
2.Explanation of Applicable Terms
The temporary regulations in
§20.2010–1T(d) define terms relevant to
computing the credit amount allowable
under section 2010.The relevant terms
includeapplicable credit amount,appli-
cable exclusion amount,basic exclusion
amount,DSUE amount,andlast deceased
spouse.
3.Making the Portability Election
a.Election Required on Estate Tax Return
The temporary regulations in
§20.2010–2T(a) require an executor elect-
ing portability to make that election on
a timely-filed estate tax return. The last
return filed by the due date of the return,
including extensions actually granted,
will supersede any previously-filed re-
turn. Thus, an executor may supersede
a previously-filed portability election
on a subsequent timely-filed estate tax
return if the executor satisfies the require-
ment in §20.2010–2T(a)(3)(i). But see
§20.2010–2T(a)(6) when contrary elec-
tions are made by more than one person
permitted to make the election. The tem-
porary regulations in §20.2010–2T(a)(4)
provide that a portability election is irrev-
ocable once the due date (as extended) of
the return has passed.
b.Timely Filing Required
For a valid portability election, sec-
tion 2010(c)(5) requires the executor to
make the election on an estate tax return
filed within the “time prescribed by law”
(including extensions) for filing that re-
turn. Section 6075(a) requires the filing
of an estate tax return made under section
6018(a) within 9 months of the date of the
decedent’s death. Section 6018(a) requires
an estate tax return to be filed when the
gross estate of a citizen or resident exceeds
the excess (if any) of the basic exclusion
amount in effect under section 2010(c) in
the calendar year of the decedent’s death
over the sum of the decedent’s adjusted
taxable gifts as defined in section 2001(b)
and the amount allowed to the decedent as
a specific exemption under section 2521
as in effect prior to its repeal by the Tax
Reform Act of 1976.
A commenter on Notice 2011–82 noted
that neither section 2010(c)(5)(A) nor any
other section of the Code provides a “time
prescribed by law” for filing an estate tax
return on behalf of a decedent’s estate
when the basic exclusion amount exceeds
the value of the decedent’s gross estate.
Accordingly, the commenter requested
that the regulations clarify the meaning of
“time prescribed by law” as it applies in
section 2010(c)(5)(A).
For executors who are required to file
an estate tax return under section 6018(a),
section 6075(a) requires the executor to
file the estate tax return within nine months
after the decedent’s date of death. When
an executor is not required to file an estate
taxreturnundersection6018(a),theCode
does not specify a due date for a return
filed for the purpose of making the porta-
bility election. The temporary regulations
in §20.2010–2T(a)(1) require every estate
electing portability of a decedent’s DSUE
amount to file an estate tax return within 9
months of the decedent’s date of death, un-
less an extension of time for filing has been
granted. (See Notice 2012–21 providing
for an extension of time to file an estate tax
return for the estates of certain decedents
who died in the first half of calendar year
2011.) This timing requirement for filing a
return applies to all estates electing porta-
bility regardless of the size of the gross es-
tate. The temporary regulations provide in
§20.2010–2T(a)(1) that an estate choosing
to elect portability will be considered for
purposes of Subtitle B and Subtitle F of the
Code to be required to file a return under
section 6018(a).
This rule will benefit the IRS as well
as taxpayers choosing the benefit of porta-
bility because the records required to
compute and verify the DSUE amount are
more likely to be available at the time of
the death of the first deceased spouse than
at the time of a subsequent transfer by
the surviving spouse by gift or at death,
which could occur many years later. This
rule also is consistent with the “Technical
Explanation of the Revenue Provisions
Contained in the ’Tax Relief, Unemploy-
ment Insurance Reauthorization, and Job
Creation Act of 2010’ Scheduled for Con-
sideration by the United States Senate,”
J. Comm. On Taxation, 111
th
Cong.,
JCX–55–10 (Dec. 10, 2010) (Technical
Explanation), which suggests that estates
deciding to elect portability that are not
otherwiserequiredtofileanestatetax
return under section 6018(a) are intended
to be subject to the same timely-filing re-
quirements applicable to estates required
to file an estate tax return under section
6018(a). The Technical Explanation states
that the DSUE amount is available to a
surviving spouse “only if an election is
made on a timely filed estate tax return
(including extensions) of the predeceased
spouse...regardlessofwhetherthe
predeceased spouse otherwise is required
to file an estate tax return.” JCX–55–10,
page 52; see also “General Explanation
of Tax Legislation Enacted in the 111
th
Congress,” J. Comm. On Taxation, 111
th
Cong., JCS–2–11, pages 554–555 (March
2011) (General Explanation) (incorporat-
ing the same language from the Technical
Explanation).
c.Portability Election upon Filing of
“Complete and Properly-Prepared”
Estate Tax Return
Notice 2011–82 provides that the estate
of a decedent dying after December 31,
2010, will be deemed to make the porta-
bility election upon the timely filing of a
“complete and properly-prepared” estate
tax return. The temporary regulations in
§20.2010–2T(a)(2) provide that the estate
of a decedent (survived by a spouse) makes
the portability election by timely filing a
complete and properly-prepared estate tax
return for the decedent’s estate.
Several commenters responding to No-
tice 2011–82 requested that Treasury and
the IRS define what is meant by a “com-
July 9, 2012192012–28 I.R.B.

plete and properly-prepared” estate tax re-
turn. Commenters further requested that
Treasury and the IRS consider the cost and
burden associated with filing an estate tax
return and establishing and substantiating
the values reported on such return for those
estates that are not required to file a return
under section 6018(a) but are filing such
a return solely to elect portability of the
decedent’s DSUE amount.
The temporary regulations in
§20.2010–2T(a)(7)(i) provide that an es-
tate tax return prepared in accordance with
all applicable requirements is considered
a “complete and properly-prepared” estate
tax return. The temporary regulations in
§20.2010–2T(a)(7)(ii), however, provide
that executors of estates that are not oth-
erwise required to file an estate tax return
under section 6018(a) do not have to report
the value of certain property that qualifies
for the marital or charitable deduction. If
an executor chooses to make use of this
special rule in filing an estate tax return,
the executor must estimate the total value
of the gross estate (including the values
of the property that do not have to be
reported on the estate tax return under
this provision), based on a determination
made in good faith and with due diligence
regarding the value of all of the assets
includible in the gross estate. The instruc-
tions issued with respect to the estate tax
return (“Instructions for Form 706”) will
provide ranges of dollar values, and the
executor must identify on the estate tax
return the particular range within which
falls the executor’s best estimate of the to-
tal gross estate. An amount corresponding
to this range will be included on line 1,
part 2, of the estate tax return, along with
an indication of whether the line 1 total
includes an estimate under this special
rule. By signing the return, the executor
is certifying, under penalties of perjury,
that the estimate falls within the identified
range of values to the best of the execu-
tor’s knowledge and belief. The inquiry
required to determine the executor’s best
estimate is the same an executor of any
estate must make under current law to
determine whether the estate has a filing
obligation pursuant to section 6018(a);
that is, to determine whether the fair mar-
ket value of the gross estate exceeds the
excess of the basic exclusion amount over
the sum of the decedent’s adjusted taxable
gifts and the amount allowed to the dece-
dent as a specific exemption under section
2521.
d.Opting Out of Portability Election
If the executor of the estate of a dece-
dent with a surviving spouse does not wish
to make the portability election, the tempo-
rary regulations in §20.2010–2T(a)(3) re-
quire the executor to make an affirmative
statement on the estate tax return signi-
fying the decision to have the portability
election not apply. If no estate tax return
is required for that decedent’s estate un-
der section 6018(a), not filing a timely re-
turn will be considered to be an affirma-
tive statement signifying the decision not
to make a portability election.
e.Executor Responsible For Making
Portability Election
A commenter responding to Notice
2011–82 suggested that the temporary reg-
ulations allow a surviving spouse to file
an estate tax return on behalf of a dece-
dent independently of a duly-appointed
executor if the surviving spouse notifies
the executor of the intention to file and
the executor does not, in fact, file a return.
Section 2010(c)(5), however, permits only
the executor of the decedent’s estate to file
the estate tax return and make the porta-
bility election. Section 2203 defines the
term “executor” for purposes of the estate
tax to mean “the executor or administrator
of the decedent, or, if there is no executor
or administrator appointed, qualified, and
acting within the United States, then any
person in actual or constructive possession
of any property of the decedent.”
The temporary regulations in
§20.2010–2T(a)(6)(i) provide that an ex-
ecutor or administrator that is appointed,
qualified, and acting within the United
States for the decedent’s estate (an ap-
pointed executor), may file an estate tax re-
turn to elect portability or to opt to have the
portability election not apply. The tempo-
rary regulations in §20.2010–2T(a)(6)(ii)
provide that, if there is no appointed ex-
ecutor, any person in actual or constructive
possession of any property of the dece-
dent may file the estate tax return to elect
portability or to opt to have the portability
election not apply. The temporary regu-
lations in §20.2010–2T(a)(6)(ii) refer to
such a person as a “non-appointed execu-
tor” and provide that a portability election
made by a non-appointed executor cannot
be superseded by a contrary election made
by another non-appointed executor of that
same decedent’s estate.
4.Computing the DSUE Amount
a.Computation Required On Estate Tax
Return to Elect Portability
The temporary regulations in
§20.2010–2T(b)(1) require that an execu-
tor include a computation of the DSUE
amount on the estate tax return of the
decedent to allow portability of that dece-
dent’s DSUE amount. A complete and
properly-prepared return contains the
information required to compute a dece-
dent’s DSUE amount. Accordingly, in a
transitional rule consistent with Notice
2011–82, the temporary regulations in
§20.2010–2T(b)(2) provide that the IRS
will deem the required computation of the
decedent’s DSUE amount to have been
made on an estate tax return that is con-
sidered complete and properly-prepared.
The temporary regulations further clarify
that, once the IRS revises the prescribed
form for the estate tax return expressly
to include the computation of the DSUE
amount, executors thatpreviously filed
an estate tax return pursuant to the tran-
sitional rule will not be required to file a
supplemental estate tax return using the
revised form.
b.Method of Computing the DSUE
Amount
Section 2010(c)(4) defines the DSUE
amount as the lesser of (A) the basic ex-
clusion amount, or (B) the excess of (i)
the basic exclusion amount of the last
deceased spouse of the surviving spouse,
over (ii) the amount with respect to which
the tentative tax is determined under sec-
tion 2001(b)(1) on the estate of such
deceased spouse.
The temporary regulations in
§20.2010–2T(c)(1)(i) confirm that the
term “basic exclusion amount” referred to
in section 2010(c)(4)(A) means the basic
exclusion amount in effect in the year of
the death of the decedent whose DSUE
amount is being computed. Generally,
only the basic exclusion amount of the
decedent, as in effect in the year of the
decedent’s death, will be known at the
time the DSUE amount must be computed
2012–28 I.R.B.20July 9, 2012

and reported on the decedent’s estate tax
return. Because section 2010(c)(5)(A)
requires the executor of an estate elect-
ingportabilitytocomputeandreportthe
DSUE amount on a timely-filed estate tax
return, and because the basic exclusion
amount is integral to this computation, the
term “basic exclusion amount” in section
2010(c)(4)(A) necessarily refers to such
decedent’s basic exclusion amount.
In responding to Notice 2011–82, sev-
eral commenters also argued that the
reference to “basic exclusion amount”
in section 2010(c)(4)(B)(i) should be in-
terpreted to mean “applicable exclusion
amount,” citing to the computation of
the DSUE amount inExample 3on page
53 of the Technical Explanation and to
footnote 1582A that was added to the
General Explanation by the “ERRATA
— ‘General Explanation of Tax Legis-
lation Enacted in the 111
th
Congress’”
(ERRATA). JCX–20–11, at page 1.Ex-
ample 3computes the DSUE amount of
a deceased spouse who was preceded in
death by one spouse and was survived by
another spouse. The deceased spouse’s
DSUE amount is computed using the ap-
plicable exclusion amount rather than the
basic exclusion amount of the deceased
spouse (as reduced by the amount of the
deceased spouse’s taxable estate).Exam-
ple 3is reproduced verbatim in the General
Explanation. See JCS–2–11 at page 555.
The ERRATA acknowledges that section
2010(c)(4)(B)(i) uses the term basic exclu-
sion amount, but notes that “[a] technical
correction may be necessary to replace the
reference to the basic exclusion amount of
the last deceased spouse of the surviving
spouse with a reference to the applicable
exclusion amount of such last deceased
spouse, so that the statute reflects intent.”
JCX–20–11, at page 1, n. 1582A.
Treasury and the IRS have carefully
considered this issue. Construing the
language of section 2010(c)(4)(B)(i) as
referring to the same number described
in section 2010(c)(4)(A) would lead to
an illogical result because it would ef-
fectively render the use of “basic exclu-
sion amount” in section 2010(c)(4)(A)
meaningless. Specifically, the basic ex-
clusion amount (the amount referenced
in section 2010(c)(4)(A)) cannot be less
than that same number reduced by an-
other number (the amount referenced in
section 2010(c)(4)(B)). Under such an in-
terpretation, the basic exclusion amount
referenced in section 2010(c)(4)(A) could
not limit or impact the DSUE amount, and
thus it would serve no purpose as writ-
ten. Based on the principle that a statute
should not be construed in a manner that
renders a provision of that statute super-
fluous and consistent with the indicia of
legislative intent reflected in the Technical
Explanation and the General Explana-
tion, and in the exercise of the express
authority granted by Congress in sections
2010(c)(6) and 7805, Treasury and the
IRS have determined that the reference
in section 2010(c)(4)(B)(i) to the basic
exclusion amount is properly interpreted
to mean the applicable exclusion amount.
Thus, the temporary regulations adopt this
interpretation.
c.Effect of Gift Taxes Paid and Payable
on Computing the DSUE Amount
Several commenters on Notice
2011–82 suggested that, for purposes
of computing the DSUE amount under
section 2010(c)(4), the amount referred
to in section 2010(c)(4)(B)(ii), which is
the amount on which the decedent’s ten-
tative tax is determined under section
2001(b)(1), be construed to take into ac-
count gift tax paid by such decedent. The
commenters noted that, to avoid using
exclusion for amounts on which gift tax
was paid, this construction should apply
in computing the DSUE amount of such
a decedent if (1) gift tax was paid by a
decedent on transfers that caused the total
of his or her taxable transfers to exceed the
applicable exclusion amount at the time
of the transfer, and (2) the total adjusted
taxable gifts of the decedent is less than
the applicable exclusion amount on the
date of his or her death. The temporary
regulations in §20.2010–2T(c)(2) provide
that amounts on which gift taxes were paid
by a decedent are excluded from adjusted
taxable gifts for the purpose of computing
that decedent’s DSUE amount.
d.Potential Impact of Credits in Sections
2013 — 2015 on the DSUE Amount
Commenters on Notice 2011–82 asked
for clarification as to whether the DSUE
amount is determined before or after the
application of other available credits, such
as the credit for tax on prior transfers (sec-
tion 2013), the credit for foreign death
taxes (section 2014), and the credit for
death taxes on remainders (section 2015).
Theissueoftheimpactofthecreditsin
sections 2013 to 2015 on computing the
DSUE amount merits further considera-
tion. The temporary regulations reserve
§20.2010–2T(c)(3) to provide future guid-
ance on this issue. Treasury and the IRS
request comments regarding appropriate
rules to coordinate these credits with porta-
bility of the exclusion. For the manner of
submitting these comments, see the notice
of proposed rulemaking on this subject ap-
pearing elsewhere in this issue of the Bul-
letin.
5.Use of the DSUE Amount by the
Surviving Spouse
a.Date DSUE Amount May Be Taken into
Consideration by Surviving Spouse
Commenters on Notice 2011–82 asked
for clarification on when the DSUE
amount of a decedent is available to
the surviving spouse or to the surviving
spouse’s estate for use in determining
the surviving spouse’s applicable exclu-
sion amount. The temporary regulations
in §§20.2010–3T(a) and 25.2505–2T(a)
provide that, if the decedent is the last
deceased spouse of the surviving spouse
on the date of a transfer by the surviv-
ing spouse that is subject to gift or estate
tax, the surviving spouse, or the estate
of the surviving spouse, of that dece-
dent may take into account that dece-
dent’s DSUE amount in determining
the applicable exclusion amount of the
surviving spouse when computing the
surviving spouse’s gift or estate tax lia-
bility on that transfer. This rule applies
only if the decedent’s executor elected
portability. In addition, the temporary
regulations in §§20.2010–3T(c)(1) and
25.2505–2T(d)(1) provide that a porta-
bility election made by the executor of
a decedent’s estate is effective as of the
date of the decedent’s death. Thus, the
DSUE amount of a decedent survived by a
spouse may be included in determining the
applicable exclusionamountofthesur-
viving spouse under section 2010(c)(2),
subject to any applicable limitations, with
respect to all transfers occurring after the
death of the decedent, if the executor of
the decedent’s estate makes a portability
election and the election is not superseded
July 9, 2012212012–28 I.R.B.

by the executor of the decedent’s estate
before the due date of the return, including
extensions.
b.Last Deceased Spouse Limitation on
DSUE Amount Available to Surviving
Spouse
Some commenters responding to No-
tice 2011–82 suggested that the reg-
ulations clarify the scope of the last
deceased spouse limitation in section
2010(c)(4)(B)(i). The temporary regula-
tions in §20.2010–1T(d)(5) explain that
the term “last deceased spouse” referred
to in section 2010(c)(4)(B)(i) means the
most recently deceased individual who
was married to the surviving spouse at
that individual’s death, except that an in-
dividual dying before calendar year 2011
cannot be considered the last deceased
spouse of such surviving spouse. The tem-
porary regulations in §§20.2010–3T(a)(3)
and 25.2505–2T(a)(3) clarify that remar-
riage alone does not affect who will be
considered the last deceased spouse and
does not prevent the surviving spouse
from including in the surviving spouse’s
applicable exclusion amount the DSUE
amount of the deceased spouse who most
recently preceded the surviving spouse
in death. The temporary regulations fur-
ther clarify that the identity of the last
deceased spouse of the surviving spouse
for purposes of portability is not affected
by whether the estate of the last deceased
spouse elects portability of the deceased
spouse’s DSUE amount or whether the last
deceased spouse has any DSUE amount
available. This is consistent with the statu-
tory language, which refers to the “last
deceased spouse of such surviving spouse”
without further qualification, as well as
with the Technical Explanation, which
states that “[t]he last deceased spouse
limitation applies whether or not the last
deceased spouse has any unused exclusion
or the last deceased spouse’s estate makes
a timely election.” JCX–55–10, at page
52, n. 57; see also General Explanation,
JCS–2–11, at page 554, n. 1582.
For purposes of determining the ap-
plicable credit amount under section
2505(a)(1), a commenter asked Treasury
and the IRS to clarify when one determines
the identity of the last deceased spouse.
Although section 2505(a)(1) refers to the
applicable credit amount in effect under
section 2010(c) as would apply if the donor
died as of the end of the calendar year,
this does not mean that the identity of the
last deceased spouse is subject to change
for purposes of computing the surviving
spouse’s applicable exclusion amount if
the surviving spouse is preceded in death
by a subsequent spouse after the gift trans-
fer but before the end of the calendar
year. Therefore, the temporary regulations
provide in §25.2505–2T(a) that for pur-
poses of determining a surviving spouse’s
applicable exclusion amount when the
surviving spouse makes a taxable gift, the
surviving spouse’s last deceased spouse is
identified as of the date of the taxable gift.
See §20.2010–3T(a) for a comparable rule
for estate tax purposes.
c.DSUE Amount Available in Case of
Multiple Spouses and Previously-Applied
DSUE Amount
Some commenters responding to No-
tice 2011–82 requested that the regulations
clarify the outcome when a surviving
spouse is preceded in death by more than
one spouse. In particular, commenters
asked how the DSUE amount to be in-
cluded in the applicable exclusion amount
of a surviving spouse is affected when a
decedent who is currently considered the
last deceased spouse of such surviving
spouse either has no DSUE amount or
has a smaller amount of DSUE in com-
parison to a decedent who previously was
considered the last deceased spouse of
such surviving spouse. The temporary
regulations clarify that, in either situation,
the surviving spouse may not apply any
remaining DSUE amount from a prior
deceased spouse.
In addition, the temporary regula-
tions address how to compute the DSUE
amount included in the applicable exclu-
sion amount of a surviving spouse who
made gifts between the deaths of two
decedents, each of whom were at separate
times the last deceased spouse of such
surviving spouse. First, the temporary
regulations in §25.2505–2T(b) create an
ordering rule by providing that, when a
surviving spouse makes a taxable gift, the
DSUE amount of the decedent who is the
last deceased spouse of such surviving
spouse will be considered to apply against
the amount of the surviving spouse’s tax-
able gifts for that calendar year before the
surviving spouse’s own basic exclusion
amount will apply.
Second, the temporary regulations,
in §§25.2505–2T(c) and 20.2010–3T(b),
compute the DSUE amount available to
such a surviving spouse or to his or her es-
tate, respectively, as including both: (i) the
DSUE amount of the surviving spouse’s
last deceased spouse, and (ii) any DSUE
amount actually applied to taxable gifts
pursuant to the rule in §25.2505–2T(b) to
the extent the DSUE amount so applied
was from a decedent who no longer is the
last deceased spouse for purposes of sec-
tion 2010(c)(4)(B)(i). Under the rules in
§25.2505–2T, a surviving spouse may use
the DSUE amount of a predeceased spouse
as long as, for each transfer, such DSUE
amount is from the surviving spouse’s
last deceased spouse at the time of that
transfer. Thus, a spouse who has survived
multiple spouses may use each last de-
ceased spouse’s DSUE amount before the
death of that spouse’s next spouse, and
thereby may apply the DSUE amount of
multiple deceased spouses in succession.
However, this does not permit the surviv-
ing spouse to use the sum of the DSUE
amounts of those deceased spouses at one
time, and a surviving spouse may not use
the remaining DSUE amount of a prior
deceased spouse following the death of a
subsequent spouse.
6.Authority to Examine Returns of
Deceased Spouses
Section 2010(c)(5)(B) confirms the
IRS’s authority to examine returns of each
deceased spouse of the surviving spouse
to determine the allowable DSUE amount
even if the period of limitations on as-
sessment under section 6501 has expired
for the tax under chapters 11 or 12 with
respect to such returns.
Section 7602(a) provides that the IRS
may examine any books, papers, records,
or other data which may be relevant or ma-
terial to an inquiry for the purpose of ascer-
taining the accuracy of any return or deter-
mining the liability of any person for any
internal revenue tax or liability. The re-
turns of each deceased spouse whose ex-
ecutor elected portability are relevant or
material to the determination of the allow-
able DSUE amount to be applied by the
surviving spouse to a taxable transfer.
2012–28 I.R.B.22July 9, 2012

Accordingly, the temporary regu-
lations confirm in §§20.2001–2T(a),
20.2010–2T(d), 20.2010–3T(d), and
25.2505–2T(e) that, in determining the
allowable DSUE amount, the IRS may
examine any one or more returns of each
deceased spouse of the surviving spouse
whose executor elected portability. Upon
examination, the IRS may adjust or elim-
inate the DSUE amount reported on a
return; however, the IRS may make an as-
sessment of additional tax with respect to
the deceased spouse’s return only within
the period of limitations under section
6501. The ability of the IRS to examine re-
turns of a deceased spouse applies to each
transfer by the surviving spouse to which
a DSUE amount is or has been applied.
The returns and return information of a
deceased spouse may be disclosed to the
surviving spouse or the surviving spouse’s
estate as appropriate under section 6103.
A commenter to Notice 2011–82 sug-
gested that the regulations clarify whether
the IRS’s authority to examine returns
even after the period of limitations on
assessment has expired, as confirmed in
section 2010(c)(5)(B), would suspend the
substantive review and examination of
the estate tax return of a decedent with
a surviving spouse. Except to the extent
provided in section 2010(c)(5)(B) with
regard to the computation of the DSUE
amount, the limitation in section 6501
continues to apply to the estate tax return
so examination of the estate tax return will
not be suspended solely because of the
possibility of future reviews to determine
the decedent’s DSUE amount.
7.Applicability of Portability Rules to
Nonresidents Who Are Not Citizens
Several commenters requested that the
regulations clarify the applicability of
the rules in section 2010(c) to estates of
nonresidents who arenot citizens. In re-
sponse to these comments, the temporary
regulations provide in §20.2010–2T(a)(5)
that an executor of the estate of a non-
resident decedent who was not a citizen
of the United States at the time of death
may not make a portability election on
behalf of that decedent. The tempo-
rary regulations in §§20.2010–3T(e) and
25.2505–2T(f) provide that a nonresident
surviving spouse who was not a citizen
of the United States at the time of such
surviving spouse’s death may not take
into account the DSUE amount of any
deceased spouse of such surviving spouse,
except to the extent allowed under a treaty
obligation of the United States.
8.Applicability of Portability in Case of
Qualified Domestic Trusts
A commenter suggested that the regula-
tions clarify how the portability rules apply
when a qualified domestic trust (QDOT)
(defined in section 2056A(a)) is created
for the benefit of a surviving spouse who is
a not a citizen of the United States. When
property of a decedent passes to a QDOT,
the decedent’s estate is allowed a marital
deduction under section 2056(d)(2) for
the value of such property. Ultimately,
however, estate tax is imposed on such
property under section 2056A as distribu-
tions constituting taxable events are made
from the QDOT. The estate tax imposed
by section 2056A is the decedent’s estate
tax liability, and that tax generally equals
the amount of additional estate tax that
would have been imposed under section
2001 if the amount involved in the taxable
event had been included in the decedent’s
taxable estate and had not been deductible
under section 2056. See §20.2056A–5(a).
The estate tax that would have been im-
posed under section 2001 is computed
by determining the net tax under section
2001 after the allowance of any credits,
including the applicable credit amount
determined under section 2010(c). Conse-
quently, when a QDOT has been created
for the benefit of a decedent’s surviving
spouse, the executor of the decedent’s
estate will compute a DSUE amount, on
a preliminary basis, that may decrease as
distributions constituting taxable events
under section 2056A are made.
Commenters made several suggestions
for applying portability to this situation.
One proposal is to allow a decedent’s
DSUE amount to be computed and avail-
able to the surviving spouse as of the date
of death of the decedent, without regard
to the estate tax to be imposed by section
2056A. A second suggestion is to allow an
executor of such an estate to elect porta-
bility with respect to only a portion of the
DSUE amount so that an executor could
reserve a portion of the decedent’s DSUE
amount for the estate tax to be imposed
by section 2056A. A third proposal is to
allow the decedent’s applicable exclu-
sion amount and the initially-determined
DSUE amount to be applied on a chrono-
logical, or first come, first served, basis;
that is, by applying the decedent’s appli-
cable exclusion amount on the occurrence
of a taxable event subject to the estate
tax imposed by section 2056A and at the
time of a transfer by the surviving spouse
subject to the gift tax imposed by section
2501, in each case, to the extent applica-
ble exclusion amount or DSUE amount,
respectively, is available at such times.
Each of the proposals raises issues of
fairness, complexity, and administrability.
The applicable exclusion amount first and
foremost belongs to the decedent. Porta-
bility of a DSUE amount allows a surviv-
ing spouse to use a decedent’s exclusion
amount only to the extent it is not used by
that decedent. Accordingly, the temporary
regulations allow the decedent’s estate full
availability of the decedent’s applicable
exclusion amount until such time as the
final estate tax liability of the decedent
is computed. The temporary regulations
in §20.2010–2T(c)(4) provide that the
executor of a decedent’s estate claiming
a marital deduction for property passing
to a QDOT shall compute the decedent’s
DSUE amount on a preliminary basis on
the decedent’s estate tax return for the pur-
pose of electing portability, although such
amount subsequently will be reduced by
the estate tax imposed by section 2056A.
The temporary regulations further pro-
vide that the DSUE amount of such a
decedent shall be redetermined upon the
final distribution or other taxable event
on which estate tax under section 2056A
is imposed, which is generally upon the
death of the surviving spouse or the earlier
termination of all QDOTs created for that
surviving spouse. The temporary regula-
tions provide in §20.2010–3T(c)(2) that
the earliest date such a decedent’s DSUE
amount may be included in determining
the applicable exclusion amount available
to the surviving spouse or the surviving
spouse’s estate is the date of the event that
triggers the final estate tax liability of the
decedent under section 2056A. Generally,
this means that such a decedent’s DSUE
amount will be available for transfers oc-
curring by reason of the surviving spouse’s
death, but generally will not be avail-
able to the surviving spouse during life.
However, the decedent’s DSUE amount
July 9, 2012232012–28 I.R.B.

will be available to apply to the surviving
spouse’s taxable gifts made in the year
of the surviving spouse’s death, or, if the
event terminating the QDOT occurs prior
to the surviving spouse’s death, then in
the year of that terminating event and/or
any subsequent year during the surviving
spouse’s life. Treasury and the IRS request
further comments on this issue. For the
manner of submitting these comments, see
the notice of proposed rulemaking on this
subject appearing elsewhere in this issue
of the Bulletin.
Special Analyses
It has been determined that this Trea-
sury decision is not considered a signifi-
cant regulatory action as defined in Execu-
tive Order 12866, as supplemented by Ex-
ecutive Order 13563. Therefore, a regula-
tory assessment is not required. In addi-
tion, section 553(b) of the Administrative
Procedure Act (5 U.S.C. chapter 5) does
not apply to these regulations because they
are excepted from the notice and comment
requirements of section 553(b) and (c) of
the Administrative Procedure Act under
the interpretive rule and good cause ex-
ceptions provided by section 553(b)(3)(A)
and (B) of that Act. These regulations
are necessary to provide immediate guid-
ance to estates of a decedent with a surviv-
ing spouse and to spouses surviving such
a decedent on the application of the porta-
bility rules of section 2010(c), which ap-
plies to estates of decedents dying and gifts
made after December 31, 2010. These reg-
ulations provide necessary guidance to ad-
dress fundamental issues concerning the
portability election, the computation of the
DSUE amount, the identity of the last de-
ceased spouse, and the application of the
DSUE amount by the surviving spouse. In
addition, the issues addressed by the regu-
lations have been publicly noticed and sub-
ject to comment through the publication of
Notice 2011–82. For these reasons, good
cause exists for dispensing with notice and
public comment pursuant to section 553(b)
and (c) of the Administrative Procedure
Act. For the applicability of the Regula-
tory Flexibility Act (5 U.S.C. chapter 6),
please refer to the Special Analyses section
of the preamble to the cross-referenced no-
tice of proposed rulemaking published in
this issue of the Bulletin. Pursuant to sec-
tion 7805(f) of the Code, these regulations
have been submitted to the Chief Counsel
for Advocacy of the Small Business Ad-
ministration for comment on their impact
on small business.
Drafting Information
The principal author of these temporary
regulations is Karlene Lesho, Office of the
Associate Chief Counsel (Passthroughs
and Special Industries). Other personnel
from the IRS and the Treasury Department
participated in their development.
*****
Amendments to the Regulations
Accordingly, 26 CFR parts 20, 25, and
602 are amended as follows:
PART 20—ESTATE TAX; ESTATE OF
DECEDENTS DYING AFTER AUGUST
16, 1954
Paragraph 1. The authority citation for
part 20 is amended by adding entries in
numerical order to read as follows:
Authority: 26 U.S.C. 7805. * * *
Section 20.2010–0T also issued under
26 U.S.C. 2010(c)(6).
Section 20.2010–1T also issued under
26 U.S.C. 2010(c)(6).
Section 20.2010–2T also issued under
26 U.S.C. 2010(c)(6).
Section 20.2010–3T also issued under
26 U.S.C. 2010(c)(6). * * *
Par. 2. Section 20.2001–2T is added to
read as follows:
§20.2001–2T Valuation of adjusted
taxable gifts for purposes of determining
the deceased spousal unused exclusion
amount of last deceased spouse
(temporary).
(a)General rule. Notwithstanding
§20.2001–1(b), see §§20.2010–2T(d) and
20.2010–3T(d) for additional rules regard-
ing the authority of the Internal Revenue
Service to examine any gift or other tax
return(s), even if the time within which a
tax may be assessed under section 6501
has expired, for the purpose of determin-
ing the deceased spousal unused exclusion
(DSUE) amount available under section
2010(c) of the Internal Revenue Code
(Code).
(b)Effective/applicability date. Para-
graph (a) of this section applies to the
estates of decedents dying in calendar year
2011 or a subsequent year in which the ap-
plicable exclusion amount is determined
under section 2010(c) of the Code by
adding the basic exclusion amount and, in
the case of a surviving spouse, the DSUE
amount.
(c)Expiration date. The applicability
of this section expires on or before June 15,
2015.
Par. 3. Section 20.2010–0T is added to
read as follows:
§20.2010–0T Table of contents
(temporary).
This section lists the table of contents
for §§20.2010–1T through 20.2010–3T.
§20.2010–1T Unified credit against estate
tax; in general (temporary).
(a) General rule.
(b) Special rule in case of certain gifts
made before 1977.
(c) Credit limitation.
(d) Explanation of terms.
(1) Applicable credit amount.
(2) Applicable exclusion amount.
(3) Basic exclusion amount.
(4) Deceased spousal unused exclusion
(DSUE) amount.
(5) Last deceased spouse.
(e) Effective/applicability date.
(f) Expiration date.
§20.2010–2T Portability provisions
applicable to estate of a decedent survived
by a spouse (temporary).
(a) Election required for portability.
(1)Timelyfilingrequired.
(2) Portability election upon filing of
estate tax return.
(3) Portability election not made; re-
quirements for election not to apply.
(4) Election irrevocable.
(5) Estates eligible to make the election.
(6) Persons permitted to make the elec-
tion.
(7) Requirements of return.
(b) Computation required for portabil-
ity election.
(1) General rule.
(2) Transitional rule.
(c) Computation of the DSUE amount.
(1) General rule.
(2) Special rule to consider gift taxes
paid by decedent.
2012–28 I.R.B.24July 9, 2012

(3) [Reserved]
(4) Special rule in case of property pass-
ingtoqualifieddomestictrust.
(5) Examples.
(d) Authority to examine returns of
decedent.
(e) Effective/applicability date.
(f) Expiration date.
§20.2010–3T Portability provisions
applicable to the surviving spouse’s estate
(temporary).
(a) Surviving spouse’s estate limited to
DSUE amount of last deceased spouse.
(1) In general.
(2) No DSUE amount available from
last deceased spouse.
(3) Identity of last deceased spouse
unchanged by subsequent marriage or di-
vorce.
(b) Special rule in case of multiple de-
ceased spouses and a previously-applied
DSUE amount.
(1) In general.
(2) Example.
(c) Date DSUE amount taken into con-
sideration by surviving spouse’s estate.
(1) General rule.
(2) Special rule when property passes
to surviving spouse in a qualified domestic
trust.
(d) Authority to examine returns of de-
ceased spouses.
(e) Availability of DSUE amount for es-
tates of nonresidents who are not citizens.
(f) Effective/applicability date.
(g) Expiration date.
Par. 4. Section 20.2010–1T is added to
read as follows:
§20.2010–1T Unified credit against estate
tax; in general (temporary).
(a)General rule. Section 2010(a) al-
lows the estate of every decedent a credit
against the estate tax imposed by section
2001. The allowable credit is the applica-
ble credit amount. See paragraph (d)(1) of
this section for an explanation of the term
applicable credit amount.
(b)Special rule in case of certain gifts
made before 1977. The applicable credit
amount allowable under paragraph (a) of
this section must be reduced by an amount
equal to 20 percent of the aggregate
amount allowed as a specific exemption
under section 2521 (as in effect before its
repeal by the Tax Reform Act of 1976) for
gifts made by the decedent after Septem-
ber 8, 1976, and before January 1, 1977.
(c)Credit limitation. The applicable
credit amount allowed under paragraph (a)
of this section cannot exceed the amount
of the estate tax imposed by section 2001.
(d)Explanation of terms. The expla-
nation of terms in this section applies to
this section and to §§20.2010–2T and
20.2010–3T.
(1)Applicable credit amount.Theterm
applicable credit amountrefers to the al-
lowable credit against estate tax imposed
by section 2001 and gift tax imposed
by section 2501. The applicable credit
amount equals the amount of the tentative
tax that would be determined under sec-
tion 2001(c) if the amount on which such
tentative tax is to be computed were equal
to the applicable exclusion amount. The
applicable credit amount is determined by
applying the unified rate schedule in sec-
tion 2001(c) to the applicable exclusion
amount.
(2)Applicable exclusion amount.The
applicable exclusion amountequals the
sum of the basic exclusion amount and,
in the case of a surviving spouse, the de-
ceased spousal unused exclusion (DSUE)
amount.
(3)Basic exclusion amount.Thebasic
exclusion amountis the sum of—
(i) For any decedent dying in calendar
year 2011, $5,000,000; and
(ii) For any decedent dying after calen-
dar year 2011, $5,000,000 multiplied by
the cost-of-living adjustment determined
under section 1(f)(3) for that calendar year
by substituting “calendar year 2010” for
“calendar year 1992” in section 1(f)(3)(B)
and by rounding to the nearest multiple of
$10,000.
(4)Deceased spousal unused exclusion
(DSUE) amount.ThetermDSUE amount
refers, generally, to the unused portion of
a decedent’s applicable exclusion amount
to the extent this amount does not ex-
ceed the basic exclusion amount in effect
in the year of the decedent’s death. For
rules on computing the DSUE amount, see
§§20.2010–2T(c) and 20.2010–3T(b).
(5)Last deceased spouse.Thetermlast
deceased spousemeans the most recently
deceased individualwho, at that indi-
vidual’s death after December 31, 2010,
was married to the surviving spouse. See
§§20.2010–3T(a) and 25.2505–2T(a) of
this chapter for additional rules pertaining
to the identity of the last deceased spouse
for purposes of determining the applicable
exclusion amount of the surviving spouse.
(e)Effective/applicability date. Para-
graphs (d)(2), (d)(3), (d)(4), and (d)(5) of
this section apply to the estates of dece-
dents dying in calendar year 2011 or a sub-
sequent year in which the applicable exclu-
sion amount is determined under section
2010(c) of the Internal Revenue Code by
adding the basic exclusion amount and, in
the case of a surviving spouse, the DSUE
amount. Paragraphs (a), (b), (c), and (d)(1)
of this section apply to the estates of dece-
dents dying on or after June 15, 2012.
(f)Expiration date. The applicability of
this section expires on or before June 15,
2015.
Par. 5. Section 20.2010–2T is added to
read as follows:
§20.2010–2T Portability provisions
applicable to estate of a decedent survived
by a spouse (temporary).
(a)Election required for portability.
To allow a decedent’s surviving spouse to
take into account that decedent’s deceased
spousal unused exclusion (DSUE) amount,
the executor of the decedent’s estate must
elect portability of the DSUE amount on
a timely-filed Form 706, “United States
Estate (and Generation-Skipping Trans-
fer) Tax Return” (estate tax return). This
election is referred to in this section and in
§20.2010–3T as the portability election.
(1)Timely filing required.Anestate
that elects portability will be considered,
for purposes of Subtitle B and Subtitle F
of the Internal Revenue Code (Code), to
be required to file a return under section
6018(a). Accordingly, the due date of an
estate tax return required to elect portabil-
ity is 9 months after the decedent’s date
of death or the last day of the period cov-
ered by an extension (if an extension of
time for filing has been obtained). See
§§20.6075–1 and 20.6081–1 for additional
rules relating to the time for filing estate
tax returns.
(2)Portability election upon filing of
estate tax return. Upon the timely filing
of a complete and properly-prepared estate
tax return, an executor of an estate of a
decedent (survived by a spouse) will have
elected portability of the decedent’s DSUE
amount unless the executor chooses not to
July 9, 2012252012–28 I.R.B.

elect portability and satisfies the require-
ment in paragraph (a)(3)(i) of this section.
See paragraph (a)(7) of this section for the
return requirements related to the portabil-
ity election.
(3)Portability election not made; re-
quirements for election not to apply.The
executor of the estate of a decedent (sur-
vived by a spouse) will not make or be con-
sidered to make the portability election if
either of the following applies:
(i) The executor states affirmatively on
a timely-filed estate tax return, or in an at-
tachment to that estate tax return, that the
estate is not electing portability under sec-
tion 2010(c)(5). The manner in which the
executor may make this affirmative state-
ment on the estate tax return will be as
set forth in the instructions issued with re-
spect to such form (“Instructions for Form
706”).
(ii) The executor does not timely file an
estate tax return in accordance with para-
graph (a)(1) of this section.
(4)Election irrevocable. An execu-
tor of the estate of a decedent (survived
by a spouse) who timely files an estate
tax return may make and may supersede a
portability election previously made, pro-
vided that the estate tax return reporting
the decision not to make a portability elec-
tion is filed on or before the due date of
the return, including extensions actually
granted. However, see paragraph (a)(6)
of this section when contrary elections are
made by more than one person permitted
to make the election. The portability elec-
tion, once made, becomes irrevocable once
theduedateoftheestatetaxreturn,in-
cluding extensions actually granted, has
passed.
(5)Estates eligible to make the election.
An executor may elect portability on be-
half of the estate of a decedent (survived by
a spouse) if the decedent dies in calendar
year 2011 or during a subsequent period in
which portability of a DSUE amount is in
effect. However, an executor of the estate
of a nonresident decedent who was not a
citizen of the United States at the time of
death may not elect portability on behalf of
that decedent, and the timely filing of such
a decedent’s estate tax return will not con-
stitute the making of a portability election.
(6)Persons permitted to make the elec-
tion—(i)Appointed executor. An execu-
tor or administrator of the estate of a dece-
dent (survived by a spouse) that is ap-
pointed, qualified, and acting within the
United States, within the meaning of sec-
tion 2203 (an appointed executor), may
file the estate tax return on behalf of the
estate of the decedent and, in so doing,
elect portability of the decedent’s DSUE
amount. An appointed executor also may
elect not to have portability apply pursuant
to paragraph (a)(3) of this section.
(ii)Non-appointed executor.Ifthere
is no appointed executor, any person in
actual or constructive possession of any
property of the decedent (a non-appointed
executor) may file the estate tax return on
behalf of the estate of the decedent and, in
so doing, elect portability of the decedent’s
DSUE amount, or, by complying with
paragraph (a)(3) of this section, may elect
not to have portability apply. A portability
election made by a non-appointed execu-
tor cannot be superseded by a contrary
election made by another non-appointed
executor of that same decedent’s estate
(unless such other non-appointed execu-
tor is the successor of the non-appointed
executor who made the election). See
§20.6018–2 for additional rules relating
to persons permitted to file the estate tax
return.
(7)Requirements of return—(i)Gen-
eral rule. An estate tax return will be
considered completeand properly-pre-
pared for purposes of this section if it
is prepared in accordance with the in-
structions issued for the estate tax return
(Instructions for Form 706) and if the re-
quirements of §§20.6018–2, 20.6018–3,
and 20.6018–4 are satisfied. However,
see paragraph (a)(7)(ii) of this section for
reduced requirementsapplicable to certain
property of certain estates.
(ii)Reporting of value not required
for certain property—(A)In general.A
special rule applies with respect to certain
property of estates in which the executor
is not required to file an estate tax re-
turn under section 6018(a), as determined
without regard to paragraph (a)(1) of this
section. With respect to such an estate, for
bequests, devises, or transfers of property
included in the gross estate, the value of
which is deductible under section 2056
or 2056A (marital deduction property) or
under section 2055(a) (charitable deduc-
tion property), an executor is not required
to report a value for such property on
the estate tax return (except to the extent
provided in this paragraph (a)(7)(ii)(A))
and will be required to report only the de-
scription, ownership, and/or beneficiary of
such property, along with all other infor-
mation necessary to establish the right of
the estate to the deduction in accordance
with §§20.2056(a)–1(b)(i) through (iii)
and 20.2055–1(c), as applicable. How-
ever, this rule does not apply to marital
deduction property or charitable deduction
property if—
(1) The value of such property relates
to, affects, or is needed to determine, the
value passing from the decedent to another
recipient;
(2) The value of such property is needed
to determine the estate’s eligibility for the
provisions of sections 2032, 2032A, 6166,
or another provision of the Code;
(3) Less than the entire value of an inter-
est in property includible in the decedent’s
gross estate is marital deduction property
or charitable deduction property; or
(4) A partial disclaimer or partial qual-
ified terminable interest property (QTIP)
election is made with respect to a bequest,
devise, or transfer of property includible in
the gross estate, part of which is marital
deduction property or charitable deduction
property.
(B)Statement required on the return.
Paragraph (a)(7)(ii)(A) of this section ap-
plies only if the executor exercises due
diligence to estimate the fair market value
of the gross estate, including the property
described in paragraph (a)(7)(ii)(A) of this
section. The Instructions for Form 706
will provide ranges of dollar values, and
the executor must identify on the estate tax
return an amount corresponding to the par-
ticular range within which falls the execu-
tor’s best estimate of the total gross es-
tate. Until such time as the prescribed form
for the estate tax return expressly includes
this estimate in the manner described in the
preceding sentence, the executor must in-
clude the executor’s best estimate, rounded
to the nearest $250,000, on or attached to
the estate tax return, signed under penalties
of perjury.
(C)Examples. The following exam-
ples illustrate the application of paragraph
(a)(7)(ii) of this section. In each example,
assume that Husband (H) dies in 2011, sur-
vived by his wife (W), that both H and W
are US citizens, that H’s gross estate does
not exceed the excess of the applicable ex-
clusion amount for the year of his death
over the total amount of H’s adjusted tax-
2012–28 I.R.B.26July 9, 2012

able gifts and any specific exemption un-
der section 2521, and that H’s executor (E)
timely files Form 706 solely to make the
portability election.
Example 1.(i)Facts. The assets includible in
H’s gross estate consist of a parcel of real property
and bank accounts held jointly with W with rights
of survivorship, a life insurance policy payable to W,
and a survivor annuity payable to W for her life. H
made no taxable gifts during his lifetime.
(ii)Application. E files an estate tax return on
which these assets are identified on the proper sched-
ule, but E provides no information on the return with
regard to the date of death value of these assets in ac-
cordance with paragraph (a)(7)(ii)(A) of this section.
To establish the estate’s entitlement to the marital de-
duction in accordance with §20.2056(a)–1(b) (except
with regard to establishing the value of the property)
and the instructions for the estate tax return, E in-
cludes with the estate tax return evidence to verify
the title of each jointly held asset, to confirm that W
is the sole beneficiary of both the life insurance policy
and the survivor annuity, and to verify that the annuity
is exclusively for W’s life. Finally, E certifies on the
estate return E’s best estimate, determined by exercis-
ing due diligence, of the fair market value of the gross
estate in accordance with paragraph (a)(7)(ii)(B) of
this section. The estate tax return is considered com-
plete and properly prepared and E has elected porta-
bility.
Example 2.(i)Facts. H’s will, duly admitted to
probate and not subject to any proceeding to chal-
lenge its validity, provides that H’s entire estate is to
be distributed to a QTIP trust for W. The non-pro-
bate assets includible in H’s gross estate consist of a
life insurance policy payable to H’s children from a
prior marriage, and H’s individual retirement account
(IRA) payable to W. H made no taxable gifts during
his lifetime.
(ii)Application. E files an estate tax return on
which all of the assets includible in the gross estate
are identified on the proper schedule. In the case
of the probate assets and the IRA, no information is
provided with regard to date of death value in ac-
cordance with paragraph (a)(7)(ii)(A) of this section.
However, E makes a QTIP election and attaches a
copy of H’s will creating the QTIP, and describes
each such asset and its ownership to establish the es-
tate’s entitlement to the marital deduction in accor-
dance with the instructions for the estate tax return
and §20.2056(a)–1(b) (except with regard to estab-
lishing the value of the property). In the case of the
life insurance policy payable to H’s children, all of
the regular return requirements, including reporting
and establishing the fair market value of such asset,
apply. Finally, E certifies on the estate return E’s best
estimate, determined by exercising due diligence, of
the fair market value of the gross estate in accordance
with paragraph (a)(7)(ii)(B) of this section. The es-
tate tax return is considered complete and properly
prepared and E has elected portability.
(iii)Variation. The facts are the same except that
there are no non-probate assets, and E elects to make
only a partial QTIP election. In this case, the regu-
lar return requirements apply to all of the property in-
cludible in the gross estate and the provisions of para-
graph (a)(7)(ii) of this section do not apply.
Example 3.(i)Facts. H’s will, duly admitted to
probate and not subject to any proceeding to chal-
lenge its validity, provides that 50 percent of the prop-
erty passing under the terms of H’s will is to be paid
to a marital trust for W and 50 percent is to be paid to
a trust for W and their descendants.
(ii)Application. The amount passing to the non-
marital trust cannot be verified without knowledge
of the full value of the property passing under the
will. Therefore, the value of the property of the mar-
ital trust relates to or affects the value passing to the
trust for W and the descendants of H and W. Accord-
ingly, the general return requirements apply to all of
the property includible in the gross estate and the pro-
visions of paragraph (a)(7)(ii) of this section do not
apply.
(b)Computation required for portabil-
ity election—(1)General rule. In addi-
tion to the requirements described in para-
graph (a) of this section, an executor of a
decedent’s estate must include a compu-
tation of the DSUE amount on the estate
tax return to elect portability and thereby
allow the decedent’s surviving spouse to
take into account that decedent’s DSUE
amount. See paragraph (b)(2) of this sec-
tion for a transitional rule when the es-
tatetaxreturnformprescribedbytheInter-
nal Revenue Service (IRS) does not show
expressly the computation of the DSUE
amount. See paragraph (c) of this section
for rules on computing the DSUE amount.
(2)Transitional rule. Until such time as
theprescribedformfortheestatetaxreturn
expressly includes a computation of the
DSUE amount, a complete and properly-
prepared estate tax return will be deemed
to include the computation of the DSUE
amount. See paragraph (a)(7) of this sec-
tion for the requirements for a return to
be considered complete and properly-pre-
pared. Once the IRS revises the prescribed
form for the estate tax return to include
expressly the computation of the DSUE
amount, executors that previously filed an
estate tax return pursuant to this transi-
tional rule will not be required to file a
supplemental estate tax return using the re-
vised form.
(c)Computation of the DSUE
amount—(1)General rule. Subject to
paragraphs (c)(2) through (c)(4) of this
section, the DSUE amount of a decedent
with a surviving spouse is the lesser of the
following amounts—
(i) The basic exclusion amount in effect
in the year of the death of the decedent; or
(ii) The excess of—
(A) The decedent’s applicable exclu-
sion amount; over
(B) The sum of the amount of the tax-
able estate and the amount of the adjusted
taxable gifts of the decedent, which to-
gether is the amount on which the tentative
tax on the decedent’s estate is determined
under section 2001(b)(1).
(2)Special rule to consider gift taxes
paid by decedent. Solely for purposes of
computing the decedent’s DSUE amount,
the amount of the adjusted taxable gifts
of the decedent referred to in paragraph
(c)(1)(ii)(B) of this section is reduced by
the amount, if any, on which gift taxes
were paid for the calendar year of the
gift(s).
(3) [Reserved]
(4)Special rule in case of property
passing to qualified domestic trust.When
property passes for the benefit of a sur-
viving spouse in a qualified domestic trust
(QDOT), as defined in section 2056A(a),
the DSUE amount of the decedent is
computed on the decedent’s estate tax
return for the purpose of electing porta-
bility in the same manner as this amount
is computed under paragraph (c)(1) of
this section, but this DSUE amount is
subject to subsequent adjustments. The
DSUE amount of the decedent must be
redetermined upon the occurrence of the
final distribution or other event (gener-
ally the death of the surviving spouse or
the earlier termination of all QDOTs for
that surviving spouse) on which estate
tax is imposed under section 2056A. See
§20.2056A–6 for rules on determining
theestatetaxunder section 2056A. See
§20.2010–3T(c)(2) regarding the timing
of the availability of the decedent’s DSUE
amount to the surviving spouse.
(5)Examples. The following examples
illustrate the application of this paragraph
(c):
Example 1.Computation of DSUE amount.
(i)Facts. In 2002, having made no prior taxable
gift, Husband (H) makes a taxable gift valued at
$1,000,000 and reports the gift on a timely-filed gift
tax return. Because the amount of the gift is equal
to the applicable exclusion amount for that year
($1,000,000), $345,800 is allowed as a credit against
the tax, reducing the gift tax liability to zero. H dies
on September 29, 2011, survived by Wife (W). H and
W are US citizens and neither has any prior marriage.
H’s taxable estate is $1,000,000. The executor of
H’s estate timely files H’s estate tax return and elects
portability, thereby allowing W to benefit from H’s
DSUE amount.
(ii)Application. The executor of H’s estate com-
putes H’s DSUE amount to be $3,000,000 (the lesser
of the $5,000,000 basic exclusion amount in 2011,
or the excess of H’s $5,000,000 applicable exclusion
July 9, 2012272012–28 I.R.B.

amount over the sum of the $1,000,000 taxable estate
and the $1,000,000 amount of adjusted taxable gifts).
Example 2.Computation of DSUE amount when
gift tax paid.(i)Facts. The facts are the same as in
Example 1except that the value of H’s taxable gift in
2002 is $2,000,000. After application of the applica-
ble credit amount, H owes gift tax on $1,000,000, the
amount of the gift in excess of the applicable exclu-
sion amount for that year. H pays the gift tax owed
on the transfer in 2002.
(ii)Application. On H’s death, the executor of H’s
estate computes the DSUE amount to be $3,000,000
(the lesser of the $5,000,000 basic exclusion amount
in 2011, or the excess of H’s $5,000,000 applica-
ble exclusion amount over the sum of the $1,000,000
taxable estate and $1,000,000 adjusted taxable gifts).
H’s adjusted taxable gifts of $2,000,000 were reduced
for purposes of this computation by $1,000,000, the
amount of taxable gifts on which gift taxes were paid.
Example 3.Computation of DSUE amount when
QDOT created.(i)Facts. Husband (H), a US citi-
zen, makes his first taxable gift in 2002, valued at
$1,000,000, and reports the gift on a timely-filed gift
tax return. No gift tax is due because the applicable
exclusion amount for that year ($1,000,000) equals
the fair market value of the gift. H dies in 2011 with
a gross estate of $2,000,000. H’s wife (W) is a US
resident but not a citizen of the United States and,
under H’s will, a pecuniary bequest of $1,500,000
passes to a QDOT for the benefit of W. H’s ex-
ecutor timely files an estate tax return and makes
the QDOT election for the property passing to the
QDOT, and H’s estate is allowed a marital deduction
of $1,500,000 under section 2056(d) for the value
of that property. H’s taxable estate is $500,000. On
H’s estate tax return, H’s executor computes H’s
preliminary DSUE amount to be $3,500,000 (the
lesser of the $5,000,000 basic exclusion amount in
2011, or the excess of H’s $5,000,000 applicable ex-
clusion amount over the sum of the $500,000 taxable
estate and the $1,000,000 adjusted taxable gifts). No
taxable events within the meaning of section 2056A
occur during W’s lifetime with respect to the QDOT,
and W makes no taxable gifts. In 2012, W dies and
the value of the assets of the QDOT is $1,800,000.
(ii)Application. H’s DSUE amount is redeter-
mined to be $1,700,000 (the lesser of the $5,000,000
basic exclusion amount in 2011, or the excess of
H’s $5,000,000 applicable exclusion amount over
$3,300,000 (the sum of the $500,000 taxable estate
augmented by the $1,800,000 of QDOT assets and
the $1,000,000 adjusted taxable gifts)).
(d)Authority to examine returns of
decedent. The IRS may examine returns of
a decedent in determining the decedent’s
DSUE amount, regardless of whether the
period of limitations on assessment has ex-
pired for that return. See §20.2010–3T(d)
for additional rules relating to the IRS’s
authority to examine returns. See also
section 7602 for the IRS’s authority, when
ascertaining the correctness of any return,
to examine any returns that may be rele-
vant or material to such inquiry.
(e)Effective/applicability date.This
section applies to the estates of decedents
dying in calendar year 2011 or a subse-
quent year in which the applicable exclu-
sion amount is determined under section
2010(c) of the Code by adding the basic
exclusion amount and, in the case of a sur-
viving spouse, the DSUE amount.
(f)Expiration date. The applicability of
this section expires on or before June 15,
2015.
Par. 6. Section 20.2010–3T is added to
read as follows:
§20.2010–3T Portability provisions
applicable to the surviving spouse’s estate
(temporary).
(a)Surviving spouse’s estate lim-
ited to DSUE amount of last deceased
spouse—(1)In general. A deceased
spousal unused exclusion (DSUE)
amount of a decedent, computed under
§20.2010–2T(c), is included in determin-
ing a surviving spouse’s applicable ex-
clusion amount under section 2010(c)(2),
provided—
(i) Such decedent is the last deceased
spouse of such surviving spouse within the
meaning of §20.2010–1T(d)(5) on the date
of the death of the surviving spouse; and
(ii) The executor of the dece-
dent’s estate elected portability (see
§20.2010–2T(a) and (b) for applicable
requirements).
(2)No DSUE amount available from
last deceased spouse. If the last deceased
spouse of such surviving spouse had no
DSUE amount, or if the executor of such
a decedent’s estate did not make a porta-
bility election, the surviving spouse’s es-
tate has no DSUE amount (except as pro-
vided in paragraph (b)(1)(ii) of this sec-
tion) to be included in determining the
applicable exclusion amount, even if the
surviving spouse previously had a DSUE
amount available from another decedent
who, prior to the death of the last deceased
spouse, was the last deceased spouse of
such surviving spouse. See paragraph (b)
of this section for a special rule in the case
of multiple deceased spouses and a previ-
ously-applied DSUE amount.
(3)Identity of last deceased spouse un-
changed by subsequent marriage or di-
vorce. A decedent is the last deceased
spouse (as defined in §20.2010–1T(d)(5))
of a surviving spouse even if, on the date of
the death of the surviving spouse, the sur-
viving spouse is married to another (then-
living) individual. If a surviving spouse
marries again and that marriage ends in
divorce or an annulment, the subsequent
death of the divorced spouse does not end
the status of the prior deceased spouse as
the last deceased spouse of the surviving
spouse. The divorced spouse, not being
married to the surviving spouse at death,
is not the last deceased spouse as that term
is defined in §20.2010–1T(d)(5).
(b)Special rule in case of multiple
deceased spouses and previously-applied
DSUE amount—(1)In general.Aspe-
cial rule applies to compute the DSUE
amount included in the applicable exclu-
sion amount of a surviving spouse who
previously has applied the DSUE amount
of one or more deceased spouses to taxable
gifts in accordance with §25.2505–2T(b)
and (c) of this chapter. If a surviving
spouse has applied the DSUE amount
of one or more last deceased spouses to
the surviving spouse’s transfers during
life, and if any of those last deceased
spouses is different from the surviving
spouse’s last deceased spouse as defined
in §20.2010–1T(d)(5) at the time of the
surviving spouse’s death, then the DSUE
amount to be included in determining the
applicable exclusionamountofthesur-
viving spouse at the time of the surviving
spouse’s death is the sum of—
(i) The DSUE amount of the surviving
spouse’s last deceased spouse as described
in paragraph (a)(1) of this section; and
(ii) The DSUE amount of each other de-
ceased spouse of the surviving spouse, to
the extent that such amount was applied to
one or more taxable gifts of the surviving
spouse.
(2)Example. The following example,
in which all described individuals are US
citizens, illustrates the application of this
paragraph (b):
Example.(i)Facts. Husband 1 (H1) dies on Jan-
uary 15, 2011, survived by Wife (W). Neither has
made any taxable gifts during H1’s lifetime. H1’s ex-
ecutor elects portability of H1’s DSUE amount. The
DSUE amount of H1 as computed on the estate tax
return filed on behalf of H1’s estate is $5,000,000.
On December 31, 2011, W makes taxable gifts to her
children valued at $2,000,000. W reports the gifts
on a timely-filed gift tax return. W is considered
to have applied $2,000,000 of H1’s DSUE amount
to the amount of taxable gifts, in accordance with
§25.2505–2T(c), and, therefore, W owes no gift tax.
W has an applicable exclusion amount remaining in
the amount of $8,000,000 ($3,000,000 of H1’s re-
maining DSUE amount plus W’s own $5,000,000 ba-
sic exclusion amount). After the death of H1, W mar-
2012–28 I.R.B.28July 9, 2012

ries Husband 2 (H2). H2 dies in June 2012. H2’s
executor elects portability of H2’s DSUE amount,
which is properly computed on H2’s estate tax return
to be $2,000,000. W dies in October 2012.
(ii)Application. The DSUE amount to be in-
cluded in determining the applicable exclusion
amount available to W’s estate is $4,000,000, deter-
mined by adding the $2,000,000 DSUE amount of
H2 and the $2,000,000 DSUE amount of H1 that was
applied by W to W’s 2011 taxable gifts. Thus, W’s
applicable exclusion amount is $9,000,000.
(c)Date DSUE amount taken into
consideration by surviving spouse’s es-
tate—(1)General rule. A portability
election made by an executor of a dece-
dent’s estate (see §20.2010–2T(a) and (b)
for applicable requirements) applies as of
the date of the decedent’s death. Thus,
the decedent’s DSUE amount is included
in the applicable exclusion amount of the
decedent’s surviving spouse under section
2010(c)(2) and will be applicable to trans-
fers made by the surviving spouse after
the decedent’s death. However, such dece-
dent’s DSUE amount will not be included
in the applicable exclusion amount of the
surviving spouse, even if the surviving
spouse had made a transfer in reliance
on the availability or computation of the
decedent’s DSUE amount:
(i) If the executor of the decedent’s es-
tate supersedes the portability election by
filing a subsequent estate tax return in ac-
cordance with §20.2010–2T(a)(4);
(ii) To the extent that the DSUE amount
subsequently is reduced by a valuation ad-
justment or the correction of an error in
calculation; or
(iii) To the extent that the surviving
spouse cannot substantiate the DSUE
amount claimed on the surviving spouse’s
return.
(2)Special rule when property passes
to surviving spouse in a qualified domestic
trust. When property passes from a dece-
dent for the benefit of a surviving spouse
in one or more qualified domestic trusts
(QDOT) as defined in section 2056A(a)
and the decedent’s executor elects porta-
bility, the DSUE amount available to
be included in the applicable exclusion
amount of the surviving spouse under sec-
tion 2010(c)(2) is the DSUE amount of the
decedent as redetermined in accordance
with §20.2010–2T(c)(4). The earliest date
on which the decedent’s DSUE amount
may be included in the applicable exclu-
sion amount of the surviving spouse under
section 2010(c)(2) is the date of the oc-
currence of the final QDOT distribution
or final other event (generally, the death
of the surviving spouse or the earlier ter-
mination of all QDOTs for that surviving
spouse) on which tax under section 2056A
is imposed. However, the decedent’s
DSUE amount as redetermined in accor-
dance with §20.2010–2T(c)(4) may be
applied to certain taxable gifts of the sur-
viving spouse. See §25.2505–2T(d)(2)(i)
of this chapter.
(d)Authority to examine returns of de-
ceased spouses. For the purpose of deter-
mining the DSUE amount to be included in
the applicable exclusion amount of the sur-
viving spouse, the Internal Revenue Ser-
vice (IRS) may examine returns of each
of the surviving spouse’s deceased spouses
whose DSUE amount is claimed to be in-
cluded in the surviving spouse’s applicable
exclusion amount, regardless of whether
the period of limitations on assessment has
expired for any such return. The IRS’s au-
thority to examine returns of a deceased
spouse applies with respect to each transfer
by the surviving spouse to which a DSUE
amount is or has been applied. Upon ex-
amination, the IRS may adjust or eliminate
the DSUE amount reported on such a re-
turn; however, the IRS may assess addi-
tional tax on that return only if that tax is
assessed within the period of limitations on
assessment under section 6501 applicable
to the tax shown on that return. See also
section 7602 for the IRS’s authority, when
ascertaining the correctness of any return,
to examine any returns that may be rele-
vant or material to such inquiry. For pur-
poses of these examinations to determine
the DSUE amount, the surviving spouse
is considered to have a material interest
that is affected by the return information
of the deceased spouse within the meaning
of section 6103(e)(3).
(e)Availability of DSUE amount for
estates of nonresidents who are not cit-
izens. The estate of a nonresident sur-
viving spouse who is not a citizen of the
United States at the time of such surviving
spouse’s death shall not take into account
the DSUE amount of any deceased spouse
of such surviving spouse within the mean-
ing of §20.2010–1T(d)(5) except to the ex-
tent allowed under any applicable treaty
obligation of the United States. See sec-
tion 2102(b)(3).
(f)Effective/applicability date.This
section applies to the estates of decedents
dying in calendar year 2011 or a subse-
quent year in which the applicable exclu-
sion amount is determined under section
2010(c) of the Code by adding the basic
exclusion amount and, in the case of a sur-
viving spouse, the DSUE amount.
(g)Expiration date. The applicability
of this section expires on or before June 15,
2015.
PART 25—GIFT TAX; GIFTS MADE
AFTER DECEMBER 31, 1954
Par. 7. The authority citation for part
25isamendedbyaddinganentryinnu-
merical order to read as follows:
Authority: 26 U.S.C. 7805. * * *
Section 25.2505–2T also issued under
26 U.S.C. 2010(c)(6). * * *
Par. 8. Section 25.2505–0T is added to
read as follows:
§25.2505–0T Table of contents
(temporary).
This section lists the table of contents
for §§25.2505–1T and 25.2505–2T.
§25.2505–1T Unified credit against gift
tax; in general (temporary).
(a) General rule.
(b) Applicable rate of tax.
(c) Special rule in case of certain gifts
made before 1977.
(d) Credit limitation.
(e) Effective/applicability date.
(f) Expiration date.
§25.2505–2T Gifts made by a surviving
spouse having a DSUE amount available
(temporary).
(a) Donor who is surviving spouse is
limited to DSUE amount of last deceased
spouse.
(1) In general.
(2) No DSUE amount available from
last deceased spouse.
(3) Identity of last deceased spouse
unchanged by subsequent marriage or di-
vorce.
(b) Manner in which DSUE amount is
applied.
(c) Special rule in case of multiple
deceased spouses and previously-applied
DSUE amount.
(1) In general.
(2) Example.
July 9, 2012292012–28 I.R.B.

(d) Date DSUE amount taken into con-
sideration by donor who is a surviving
spouse.
(1) General rule.
(2) Special rule when property passes
to surviving spouse in a qualified domestic
trust.
(e) Authority to examine returns of de-
ceased spouses.
(f) Availability of DSUE amount for
nonresidents who are not citizens.
(g) Effective/applicability date.
(h) Expiration date.
Par. 9. Section 25.2505–1T is added to
read as follows:
§25.2505–1T Unified credit against gift
tax; in general (temporary).
(a)General rule. Section 2505(a) al-
lows a citizen or resident of the United
States a credit against the tax imposed by
section 2501 for each calendar year. The
allowable credit is the applicable credit
amount in effect under section 2010(c) that
would apply if the donor died as of the end
of the calendar year, reduced by the sum of
the amounts allowable as a credit against
the gift tax due for all preceding calendar
periods. See §§25.2505–2T, 20.2010–1T,
and 20.2010–2T of this chapter for addi-
tional rules and definitions related to de-
termining the applicable credit amount in
effect under section 2010(c).
(b)Applicable rate of tax. In deter-
mining the amounts allowable as a credit
against the gift tax due for all preceding
calendar periods, the unified rate sched-
ule under section 2001(c) in effect for such
calendar year applies instead of the rates
of tax actually in effect for preceding cal-
endar periods. See sections 2505(a) and
2502(a)(2).
(c)Special rule in case of certain gifts
made before 1977. The applicable credit
amount allowable under paragraph (a) of
this section must be reduced by an amount
equal to 20 percent of the aggregate
amount allowed as a specific exemption
under section 2521 (as in effect before its
repeal by the Tax Reform Act of 1976) for
gifts made by the decedent after Septem-
ber 8, 1976, and before January 1, 1977.
(d)Credit limitation. The applicable
credit amount allowed under paragraph (a)
of this section for any calendar year shall
not exceed the amount of the tax imposed
by section 2501 for such calendar year.
(e)Effective/applicability date. Para-
graph (a) of this section applies to gifts
made on or after January 1, 2011. Para-
graphs (b), (c), and (d) of this section ap-
ply to gifts made on or after June 15, 2012.
(f)Expiration date. The applicability of
this section expires on or before June 15,
2015.
Par. 10. Section 25.2505–2T is added
to read as follows:
§25.2505–2T Gifts made by a surviving
spouse having a DSUE amount available
(temporary).
(a)Donor who is surviving spouse is
limited to DSUE amount of last deceased
spouse—(1)In general. In computing a
surviving spouse’s gift tax liability with re-
gard to a transfer subject to the tax im-
posed by section 2501 (taxable gift), a de-
ceased spousal unused exclusion (DSUE)
amount of a decedent, computed under
§20.2010–2T(c) of this chapter, is included
in determining the surviving spouse’s ap-
plicable exclusion amount under section
2010(c)(2), provided:
(i) Such decedent is the last deceased
spouse of such surviving spouse within
the meaning of §20.2010–1T(d)(5) of
this chapter at the time of the surviving
spouse’s taxable gift; and
(ii) The executor of the dece-
dent’s estate elected portability (see
§20.2010–2T(a) and (b) of this chapter for
applicable requirements).
(2)No DSUE amount available from
last deceased spouse. If on the date of
the surviving spouse’s taxable gift the last
deceased spouse of such surviving spouse
hadnoDSUEamountoriftheexecutorof
the estate of such last deceased spouse did
not elect portability, the surviving spouse
has no DSUE amount (except as and to the
extent provided in paragraph (c)(1)(ii) of
this section) to be included in determin-
ing his or her applicable exclusion amount,
even if the surviving spouse previously
had a DSUE amount available from an-
other decedent who, prior to the death of
the last deceased spouse, was the last de-
ceased spouse of such surviving spouse.
See paragraph (c) of this section for a spe-
cial rule in the case of multiple deceased
spouses.
(3)Identity of last deceased spouse
unchanged by subsequent marriage or
divorce. A decedent is the last deceased
spouse (as defined in §20.2010–1T(d)(5)
of this chapter) of a surviving spouse even
if, on the date of the surviving spouse’s
taxable gift, the surviving spouse is mar-
ried to another (then-living) individual.
If a surviving spouse marries again and
that marriage ends in divorce or an annul-
ment, the subsequent death of the divorced
spouse does not end the status of the
prior deceased spouse as the last deceased
spouse of the surviving spouse. The di-
vorced spouse, not being married to the
surviving spouse at death, is not the last
deceased spouse as that term is defined in
§20.2010–1T(d)(5) of this chapter.
(b)Manner in which DSUE amount
is applied. If a donor who is a surviving
spouse makes a taxable gift and a DSUE
amount is included in determining the
surviving spouse’s applicable exclusion
amount under section 2010(c)(2), such
surviving spouse will be considered to ap-
ply such DSUE amount to the taxable gift
before the surviving spouse’s own basic
exclusion amount.
(c)Special rule in case of multiple
deceased spouses and previously-applied
DSUE amount—(1)In general.Aspe-
cial rule applies to compute the DSUE
amount included in the applicable exclu-
sion amount of a surviving spouse who
previously has applied the DSUE amount
of one or more deceased spouses. If a sur-
viving spouse applied the DSUE amount
of one or more last deceased spouses to
the surviving spouse’s previous lifetime
transfers, and if any of those last deceased
spouses is different from the surviving
spouse’s last deceased spouse as defined
in §20.2010–1T(d)(5) of this chapter at the
time of the current taxable gift by the sur-
viving spouse, then the DSUE amount to
be included in determining the applicable
exclusion amount of the surviving spouse
that will be applicable at the time of the
current taxable gift is the sum of—
(i) The DSUE amount of the surviving
spouse’s last deceased spouse as described
in paragraph (a)(1) of this section; and
(ii) The DSUE amount of each other
deceased spouse of the surviving spouse to
the extent that such amount was applied to
one or more previous taxable gifts of the
surviving spouse.
(2)Example. The following example,
in which all described individuals are US
citizens, illustrates the application of this
paragraph (c):
2012–28 I.R.B.30July 9, 2012

Example.(i)Facts. Husband 1 (H1) dies on
January 15, 2011, survived by Wife (W). Neither
has made any taxable gifts during H1’s lifetime.
H1’s executor elects portability of H1’s deceased
spousal unused exclusion (DSUE) amount. The
DSUE amount of H1 as computed on the estate tax
return filed on behalf of H1’s estate is $5,000,000.
On December 31, 2011, W makes taxable gifts to her
children valued at $2,000,000. W reports the gifts
on a timely-filed gift tax return. W is considered to
have applied $2,000,000 of H1’s DSUE amount to
the 2011 taxable gifts, inaccordance with paragraph
(b) of this section, and, therefore, W owes no gift
tax. W is considered to have an applicable exclusion
amount remaining in the amount of $8,000,000
($3,000,000 of H1’s remaining DSUE amount plus
W’s own $5,000,000 basic exclusion amount). After
the death of H1, W marries Husband 2 (H2). H2 dies
on June 30, 2012. H2’s executor elects portability of
H2’s DSUE amount, which is properly computed on
H2’s estate tax return to be $2,000,000.
(ii)Application. The DSUE amount to be in-
cluded in determining the applicable exclusion
amount available to W for gifts during the second
half of 2012 is $4,000,000, determined by adding the
$2,000,000 DSUE amount of H2 and the $2,000,000
DSUE amount of H1 that was applied by W to W’s
2011 taxable gifts. Thus, W’s applicable exclusion
amount during the balance of 2012 is $9,000,000.
(d)Date DSUE amount taken into con-
sideration by donor who is a surviving
spouse—(1)General rule.Aportabil-
ity election made by an executor of a
decedent’s estate (see §20.2010–2T(a)
and (b) of this chapter for applicable re-
quirements) applies as of the date of the
decedent’s death. Thus, the decedent’s
DSUE amount is included in the appli-
cable exclusion amount of the decedent’s
surviving spouse under section 2010(c)(2)
and will be applicableto transfers made by
the surviving spouse after the decedent’s
death. However, such decedent’s DSUE
amount will not be included in the appli-
cable exclusion amountofthesurviving
spouse, even if the surviving spouse had
made a taxable gift in reliance on the avail-
ability or computation of the decedent’s
DSUE amount:
(i) If the executor of the decedent’s es-
tate supersedes the portability election by
filing a subsequent estate tax return in ac-
cordance with §20.2010–2T(a)(4) of this
chapter;
(ii) To the extent that the DSUE amount
subsequently is reduced by a valuation ad-
justment or the correction of an error in
calculation; or
(iii) To the extent that the DSUE
amount claimed on the decedent’s return
cannot be determined.
(2)Special rule when property passes
to surviving spouse in a qualified domes-
tic trust—(i)In general. When property
passes from a decedent for the benefit of
a surviving spouse in one or more quali-
fied domestic trusts (QDOT) as defined in
section 2056A(a) and the decedent’s ex-
ecutor elects portability, the DSUE amount
available to be included in the applicable
exclusion amount of the surviving spouse
under section 2010(c)(2) is the DSUE
amount of the decedent as redetermined
in accordance with §20.2010–2T(c)(4) of
this chapter. The earliest date on which
the decedent’s DSUE amount may be in-
cluded in the applicable exclusion amount
of the surviving spouse under section
2010(c)(2) is the date of the occurrence
of the final QDOT distribution or final
other event (generally, the death of the
surviving spouse or the earlier termination
of all QDOTs for that surviving spouse)
on which tax under section 2056A is im-
posed. However, the decedent’s DSUE
amount as redetermined in accordance
with §20.2010–2T(c)(4) of this chapter
may be applied to the surviving spouse’s
taxable gifts made in the year of the
surviving spouse’s death, or if the termi-
nating event occurs prior to the surviving
spouse’s death, then in the year of that
terminating event and/or any subsequent
year during the surviving spouse’s life.
(ii)Example. The following example
illustrates the application of this paragraph
(d)(2):
Example.(i)Facts. Husband (H), a US citizen,
dies in January 2011 having made no taxable gifts
during his lifetime. H’s gross estate is $3,000,000.
H’s wife (W) is a US resident but not a citizen of the
United States and, under H’s will, a pecuniary bequest
of $2,000,000 passes to a QDOT for the benefit of
W. H’s executor timely files an estate tax return and
makes the QDOT election for the property passing to
the QDOT, and H’s estate is allowed a marital deduc-
tion of $2,000,000 under section 2056(d) for the value
of that property. H’s taxable estate is $1,000,000. On
H’s estate tax return, H’s executor computes H’s pre-
liminary DSUE amount to be $4,000,000. No tax-
able events within the meaning of section 2056A oc-
cur during W’s lifetime with respect to the QDOT. W
makes a taxable gift of $1,000,000 to X in December
2011 and a taxable gift of $1,000,000 to Y in January
2012. W dies in September 2012, not having married
again, when the value of the assets of the QDOT is
$2,200,000.
(ii)Application. H’s DSUE amount is redeter-
mined to be $1,800,000 (the lesser of the $5,000,000
basic exclusion amount in 2011, or the excess of
H’s $5,000,000 applicable exclusion amount over
$3,200,000 (the sum of the $1,000,000 taxable estate
augmented by the $2,200,000 of QDOT assets)). On
W’s gift tax return filed for 2011, W cannot apply
any DSUE amount to the gift made to X. However,
because W’s gift to Y was made in the year that
W died, W’s executor will apply $1,000,000 of H’s
redetermined DSUE amount to the gift on W’s gift
tax return filed for 2012. The remaining $800,000 of
H’s redetermined DSUE amount is included in W’s
applicable exclusion amount to be used in computing
W’s estate tax liability.
(e)Authority to examine returns of de-
ceased spouses. For the purpose of deter-
mining the DSUE amount to be included in
the applicable exclusion amount of the sur-
viving spouse, the Internal Revenue Ser-
vice (IRS) may examine returns of each
of the surviving spouse’s deceased spouses
whose DSUE amount is claimed to be in-
cluded in the surviving spouse’s applicable
exclusion amount, regardless of whether
the period of limitations on assessment has
expired for any such return. The IRS’s au-
thority to examine returns of a deceased
spouse applies with respect to each transfer
by the surviving spouse to which a DSUE
amount is or has been applied. Upon ex-
amination, the IRS may adjust or eliminate
the DSUE amount reported on such a re-
turn; however, the IRS may assess addi-
tional tax on that return only if that tax is
assessed within the period of limitations on
assessment under section 6501 applicable
to the tax shown on that return. See also
section 7602 for the IRS’s authority, when
ascertaining the correctness of any return,
to examine any returns that may be rele-
vant or material to such inquiry.
(f)Availability of DSUE amount for
nonresidents who are not citizens. A non-
resident surviving spouse who was not
a citizen of the United States at the time
of making a transfer subject to tax under
chapter 12 of the Internal Revenue Code
shall not take into account the DSUE
amount of any deceased spouse except to
the extent allowed under any applicable
treaty obligation of the United States. See
section 2102(b)(3).
(g)Effective/applicability date.This
section applies to gifts made in calendar
year 2011 or in a subsequent year in which
the applicable exclusion amount is deter-
mined under section 2010(c) of the Code
by adding the basic exclusion amount
and, in the case of a surviving spouse, the
DSUE amount.
(h)Expiration date. The applicability
of this section expires on or before June 15,
2015.
July 9, 2012312012–28 I.R.B.

PART 602—OMB CONTROL
NUMBERS UNDER THE PAPERWORK
REDUCTION ACT
Par. 11. The authority citation for part
602 continues to read as follows:
Authority: 26 U.S.C. 7805.
Par. 12. In §602.101, paragraph (b)
is amended by adding the following entry
in numerical order to the table to read as
follows:
§602.101 OMB Control numbers.
*****
(b) * * *
CFR part or section where
identified and described
Current OMB
Control No.
*****
20.2010–2T...........................................................
1545–0015
*****
Steven T. Miller,
Deputy Commissioner for
Services and Enforcement.
Approved June 12, 2012.
Emily S. McMahon,
Acting Assistant Secretary
oftheTreasury(TaxPolicy).
(Filed by the Office of the Federal Register on June 15, 2012,
8:45 a.m., and published in the issue of the Federal Register
for June 18, 2012, 77 F.R. 36150)
Section 7874.—Rules
Relating to Expatriated
Entities and Their Foreign
Parents
26 CFR 1.7874–2: Surrogate foreign corporations.
T.D. 9591
DEPARTMENT OF THE
TREASURY
Internal Revenue Service
26 CFR Part 1
Surrogate Foreign
Corporations
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Final regulations.
SUMMARY: This document contains
final regulations regarding whether a for-
eign corporation is treated as a surrogate
foreign corporation. The final regulations
affect certain domestic corporations and
partnerships (and certain parties related
thereto), and foreign corporations that
acquire substantially all of the properties
of such domestic corporations or partner-
ships.
DATES:Effective Date:These regulations
are effective on June 12, 2012.
Applicability Dates:For dates of
applicability, see §§1.7874–1(g) and
1.7874–2(l).
FOR FURTHER INFORMATION
CONTACT: Milton M. Cahn, (202)
622–3860 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
On June 6, 2006, temporary regula-
tions under section 7874 of the Internal
Revenue Code (Code) (T.D. 9265, 2006–2
C.B. 1) were published in theFederal
Register(71 FR 32437) concerning the
treatment of a foreign corporation as
a surrogate foreign corporation (2006
temporary regulations). A notice of pro-
posed rulemaking (REG–112994–06,
2006–2 C.B. 47) cross-referencing the
2006 temporary regulations was published
inthesameissueoftheFederal Regis-
ter(71 FR 32495). On July 28, 2006,
Notice 2006–70, 2006–2 C.B. 252, was
published, announcing a modification
to the effective date contained in the
2006 temporary regulations.See
§601.601(d)(2)(ii)(b). On June 12, 2009,
the 2006 temporary regulations and the
related notice of proposed rulemaking
were withdrawn and replaced with new
temporary regulations (2009 temporary
regulations), which generally applied to
acquisitions completed on or after June 9,
2009. T.D. 9453, 2009–28 I.R.B. 114
(74 FR 27920). A notice of proposed
rulemaking (REG–112994–06, 2009–28
I.R.B. 144) cross-referencing the 2009
temporary regulations was published in
thesameissueoftheFederal Register
(74 FR 27947). No public hearing was
requested or held; however, comments
were received. All comments are available
atwww.regulations.govor upon request.
After consideration of the comments, the
2009 proposed regulations are adopted as
final regulations with the modifications
described in this preamble. The 2009
temporary regulations are removed.
As discussed in paragraph A. of this
preamble, new temporary regulations
under section 7874 regarding whether
a foreign corporation has substantial
business activities in a foreign country,
and a corresponding notice of proposed
rulemaking, are published elsewhere in
this issue of the Bulletin.
S
ummary of Comments and
E
xplanation of Revisions
A.Substantial Business Activities
A foreign corporation is generally
treated as a surrogate foreign corporation
under section 7874(a)(2)(B) if pursuant to
a plan (or a series of related transactions):
(i) the foreign corporation completes after
March 4, 2003, the direct or indirect acqui-
sition of substantially all of the properties
held directly or indirectly by a domestic
corporation; (ii) after the acquisition at
least 60 percent of the stock (by vote or
value) of the foreign corporation is held
by former shareholders of the domestic
corporation by reason of holding stock in
the domestic corporation; and (iii) after the
acquisition, the expanded affiliated group
that includes the foreign corporation does
not have substantial business activities
in the foreign country (relevant foreign
country) in which, or under the law of
2012–28 I.R.B.32July 9, 2012

which, the foreign corporation is created
or organized, when compared to the total
business activities of the expanded affili-
ated group. Similar provisions apply if a
foreign corporation acquires substantially
all of the properties constituting a trade or
business of a domestic partnership.
The 2006 temporary regulations pro-
vided that the determination of whether the
expanded affiliated group has substantial
business activities in the relevant foreign
country is based on all the facts and cir-
cumstances. The 2006 temporary regula-
tions also provided a safe harbor, which
generally was satisfied if at least ten per-
cent of the employees, assets, and sales of
the expanded affiliated group were in the
relevant foreign country. The 2009 tem-
porary regulations retained the facts and
circumstances general rule provided in the
2006 temporary regulations, with certain
modifications, but removed the safe har-
bor.
Comments were received regarding the
determination as to whether an expanded
affiliated group has substantial business
activities in a foreign country. These
comments are discussed in the preamble
to temporary regulations, published else-
where in this issue of the Bulletin, that
provide guidance on the substantial busi-
ness activities test.
B.Options
1.General approach
The 2009 temporary regulations gen-
erally provide that, for purposes of sec-
tion 7874, an option or similar interest (to-
gether, an “option”) with respect to a cor-
poration is treated as stock of the corpo-
ration with a value equal to the holder’s
claim on the equity of the corporation. For
this purpose, the equity of the corporation
does not include the value of any prop-
erty the holder of the option would be re-
quired to provide to the corporation pur-
suant to the terms of the option if such op-
tion were exercised. The 2009 temporary
regulations provide similar rules for an op-
tion with respect to a partnership.
A comment suggested that, subject to
an anti-abuse rule, options should be ig-
nored for purposes of section 7874. The
comment asserts that this approach, con-
sistent with the treatment of options un-
der other Code sections, would be more
administrable; the comment recognized,
however, that unlike the approach taken in
the 2009 temporary regulations, this ap-
proach does not properly take into account
the economic interest of an option holder.
Alternatively, the comment suggested that
if the approach taken in the 2009 tempo-
rary regulations is retained, certain types
of options (for example, publicly traded
options and customary compensatory op-
tions) should be excluded from the general
rule.
The Internal RevenueService (IRS) and
the Department of the Treasury (Treasury
Department) believe that the claim-on-eq-
uity approach in the 2009 temporary
regulations is preferable to disregarding
options subject to an anti-avoidance rule.
The IRS and the Treasury Department be-
lieve this approach most properly reflects
the economics of the transaction and is not
easily manipulated. Moreover, the IRS
and the Treasury Department believe that
the simplicity of uniformly treating all
types of options outweighs the benefits of
excluding, or providing other special rules
for, certain types of options. Accordingly,
the claim-on-equity approach provided in
the 2009 temporary regulations is retained,
with certain modifications, in these final
regulations.
2.Voting power
Certain portions of section 7874 also
look to the voting power of stock. For ex-
ample, one of the requirements for a for-
eign corporation to be treated as a surro-
gate foreign corporation is that, after the
acquisition, at least 60 percent of the stock
(byvoteorvalue)oftheentityisheld,in
the case of an acquisition with respect to
a domestic corporation, by former share-
holders of the domestic corporation by rea-
son of holding stock in the domestic corpo-
ration. Section 7874(a)(2)(B)(ii). As dis-
cussed in section B.1. of this preamble,
however, the 2009 temporary regulations
only address options with respect to the
amount of stock treated as held by value;
they do not address the effect of options on
voting power.
A comment suggested that if the general
approach of the 2009 temporary regula-
tions is retained, the effect options have on
voting power, if any, should be addressed.
Specifically, the comment suggested that
options could be treated as: (i) not hav-
ing voting power; (ii) having voting power
corresponding to thenumber of shares the
value of which equals the claim on equity;
or (iii) having voting power corresponding
to the number of shares that would be ob-
tained upon exercise of the option.
In response to this comment, the final
regulations provide that for purposes of de-
termining the voting power of stock un-
der section 7874, an option will be treated
as exercised if a principal purpose of the
issuance or acquisition of the option is
to avoid treating the foreign corporation
as a surrogate foreign corporation. In all
other cases, options are not taken into ac-
count for purposes of determining the vot-
ing power of stock under section 7874.
3.Effect of options on equity holders
A comment requested clarification that
if an option is treated as stock under the
claim-on-equity approach, then the own-
ership percentages of shareholders are re-
duced. The IRS and the Treasury Depart-
ment believe that the value of stock inher-
ently reflects the existence of options that
have a claim on equity. Therefore, no ad-
justment to the value of stock under the
regulations is necessary. For example, if
the stock of a foreign corporation has an
aggregate value of $100x (which reflects
the existence of options) and there is a sin-
gle option outstanding with a claim on eq-
uity of $10x with respect to the foreign cor-
poration, then under the regulations the to-
tal value of the stock of the foreign corpo-
ration is treated as $110x for purposes of
section 7874. An example in the regula-
tions is modified to clarify this result.
4.Other rules
The 2009 temporary regulations pro-
vide that, with respect to a foreign corpo-
ration, the general option rule does not ap-
ply if a principal purpose of the issuance
or acquisition of the option is to avoid the
foreign corporation being treated as a sur-
rogate foreign corporation. The 2009 tem-
porary regulations do not contain a similar
rule with respect to domestic corporations
or domestic partnerships.
A comment questioned why the anti-
abuse rule only applies to foreign corpo-
rations and noted that avoidance concerns
may equally be present with options in do-
mestic corporations or partnerships. Ac-
cordingly, the comment suggested that the
July 9, 2012332012–28 I.R.B.

anti-abuse rule be extended to apply to op-
tions with respect to domestic corporations
and domestic partnerships. The IRS and
the Treasury Department agree with this
comment. As a result, the final regulations
modify the anti-abuse rule such that it ap-
plies to options with respect to all corpo-
rations and partnerships, domestic or for-
eign.
Another comment suggested that the
regulations include special rules to take
into account certain types of options, such
as options subject to vesting and nontrans-
ferable options. In response to this com-
ment, the final regulations provide that the
claim-on-equity approach does not apply
if, at the time of the acquisition, the prob-
ability that the option will be exercised is
remote.
The final regulations clarify that the
rules addressing options also apply for pur-
poses of determining the membership of
an expanded affiliated group under section
7874(c)(1). In addition, the text of the fi-
nal regulations is clarified to provide that
a claim on equity equals the value of the
stock or partnership interest that may be
acquired pursuant to the option, less the ex-
ercise price (but in no case is a claim on
equity less than zero).
C.Insolvent Entities
The 2009 temporary regulations pro-
vide that, for purposes of section 7874, if
immediately prior to the first date proper-
ties are acquired as part of an acquisition
described in section 7874(a)(2)(B)(i), a do-
mestic corporation is in a title 11 or simi-
lar case (as defined in section 368(a)(3)),
or the liabilities of the domestic corpora-
tion exceed the value of its assets, then any
claim by a creditor against the domestic
corporation shall be treated as stock of the
domestic corporation. A similar rule ap-
plies with respect to a domestic partner-
ship, or a foreign partnership that owns
stock of a domestic corporation.
A comment was received stating that,
in certain cases, the creditors should be
viewed as purchasers of the insolvent en-
tity’s assets and, as a result, the transaction
should not be subject to section 7874. The
comment further stated that applying sec-
tion 7874 to such creditors could provide
third-party bidders for the entity’s assets
an undue advantage over existing creditors
because such bidders would not be subject
to section 7874. Accordingly, the com-
ment suggested that the insolvency rule be
modified to only apply where creditors ac-
quire the insolvent entity’s debt pursuant to
a plan to acquire its stock or assets.
The IRS and the Treasury Department
believe that, for purposes of section 7874,
the creditors of an insolvent entity should
be considered the equity holders of the en-
tity. Furthermore, the IRS and the Trea-
sury Department do not believe that insol-
vent entities should be treated more favor-
ably than other entities under section 7874.
Accordingly, this comment is not adopted.
D.Acquisitions of Multiple Domestic
Entities and Disregard of Affiliate-Owned
Stock
The 2009 temporary regulations gen-
erally provide that if, pursuant to a
plan (or series of related transactions),
a foreign corporation completes two
or more acquisitions described in sec-
tion 7874(a)(2)(B)(i) involving domestic
corporations or partnerships (domestic
entities) then, for purposes of section
7874(a)(2)(B)(ii), the acquisitions are
treated as a single acquisition and the
domestic entities are treated as a single
domestic entity.
Section 7874(c)(2)(A) and §1.7874–1
provide special rules for determining own-
ership under section 7874(a)(2)(B)(ii) for
stock held by members of the expanded
affiliated group that includes the foreign
corporation. Section 7874(c)(2)(B) pro-
vides that stock of the foreign corpora-
tion that is sold in a public offering re-
lated to the acquisition described in section
7874(a)(2)(B)(i) is not taken into account
for purposes of determining ownership un-
der section 7874(a)(2)(B)(ii).
A comment requested clarification as
to the application of section 7874(c)(2)(A)
and §1.7874–1 when acquisitions of two
or more domestic entities are treated as
asingledomesticentityunderthe2009
temporary regulations. The IRS and
the Treasury Department are studying
the manner in which §1.7874–1 should
interact with various rules under sec-
tion 7874, including the rules in section
7874(c)(2)(B), §1.7874–2(e), and Notice
2009–78, 2009–40 I.R.B. 452 (determina-
tion of the ownership fraction when stock
is issued in exchange for certain types
of property). See §601.601(d)(2)(ii)(b).
Accordingly, no change has been made
to this regulation, but the IRS and the
Treasury Department request comments
regarding the interaction of §1.7874–1 and
other rules under section 7874 related to
the ownership fraction.
E.Downstream Transactions
The final regulations clarify that an ac-
quisition by a corporation of its stock from
another corporation or a partnership is an
acquisition of the transferor’s properties
for purposes of section 7874(a)(2)(B)(i).
This rule applies even though, for Fed-
eral tax purposes, the acquired stock no
longer exists after the transaction. Thus,
for example, if a domestic corporation
that holds stock in a foreign corporation
merges into the foreign corporation, the
foreign corporation is, for purposes of sec-
tion 7874(a)(2)(B)(i), treated as acquiring
properties of the domestic corporation in
the form of the foreign corporation’s stock.
Effective/Applicability Dates
These final regulations apply to acqui-
sitions completed on or after June 7, 2012.
Special Analyses
It has been determined that this Trea-
sury decision is not asignificant regula-
tory 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 this regulation and because
the regulation does not impose a collec-
tion of information on small entities, the
requirements of the Regulatory Flexibility
Act (5 U.S.C. 601et seq.) do not apply.
Pursuant to section 7805(f) of the Inter-
nal Revenue Code, the notice of proposed
rulemaking preceding this regulation was
submitted to the Chief Counsel for Advo-
cacy of the Small Business Administration
for comment on its impact on small busi-
ness.
Drafting Information
The principal author of these regula-
tions is Milton M. Cahn of the Office of
Associate Chief Counsel (International).
However, other personnel from the IRS
and the Treasury Department participated
in their development.
2012–28 I.R.B.34July 9, 2012

*****
Adoption of Amendments to the
Regulations
Accordingly, 26 CFR part 1 is amended
as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 continues to read in part as follows:
Authority:26USC7805***
Sections 1.7874–1 and 1.7874–2 also
issued under 26 U.S.C. 7874(c)(6) and (g).
***
Par. 2 Section 1.7874–1 is amended by:
1. Revising paragraph (e).
2. Adding two sentences at the end of
paragraph (g).
The revision and addition read as fol-
lows:
§1.7874–1 Disregard of affiliate-owned
stock.
*****
(e)Stock held by a partnership.For
purposes of this section, each partner in a
partnership shall be treated as holding its
proportionate share of stock held by the
partnership, as determined under the rules
and principles of sections 701 through 777.
*****
(g) * * * Paragraph (e) of this section
shall apply to acquisitions completed on or
after June 7, 2012. See §1.7874–1T(e), as
contained in 26 CFR part 1 revised as of
April 1, 2012, for acquisitions completed
before June 7, 2012.
§1.7874–1T [Removed]
Par. 3. Section 1.7874–1T is removed.
Par. 4. Section 1.7874–2 is added to
read as follows:
§1.7874–2 Surrogate foreign corporation.
(a)Scope. This section provides rules
for determining whether a foreign corpora-
tion is treated as a surrogate foreign corpo-
ration under section 7874(a)(2)(B). Para-
graph (b) of this section provides defini-
tions and special rules. Paragraph (c) of
this section provides rules to determine
whether a foreign corporation has acquired
properties held by a domestic corporation
(or a partnership). Paragraph (d) of this
section provides rules that apply when two
or more foreign corporations complete, in
the aggregate, an acquisition described in
section 7874(a)(2)(B)(i). Paragraph (e)
of this section provides rules that apply
when a single foreign corporation com-
pletes more than one acquisition described
in section 7874(a)(2)(B)(i). Paragraph (f)
of this section provides rules to identify
the stock of a foreign corporation that is
held by reason of holding stock in a domes-
tic corporation (or an interest in a domes-
tic partnership). Paragraph (g) of this sec-
tion provides rules that treat certain pub-
licly traded foreign partnerships as foreign
corporations for purposes of section 7874.
Paragraph (h) of this section provides rules
concerning the treatment of certain options
(or similar interests) for purposes of sec-
tion 7874. Paragraph (i) of this section
provides rules that treat certain interests
(including debt, stock, or a partnership in-
terest) as stock of a foreign corporation for
purposes of section 7874. Paragraph (j) of
this section provides rules concerning the
conversion of a foreign corporation to a
domestic corporation by reason of section
7874(b). Paragraph (k) of this section pro-
vides examples that illustrate the rules of
this section. Paragraph (l) of this section
provides the effective/applicability date of
this section.
(b)Definitions and special rules.Ex-
cept as otherwise indicated, the following
definitions and special rules apply for pur-
posesofthissection.
(1) The rules of this section are subject
to section 7874(c)(4).
(2) Aformer shareholderof a domes-
tic corporation is any person that held
stock in the domestic corporation be-
fore the acquisition described in section
7874(a)(2)(B)(i), including any person
that holds stock in the domestic corpora-
tion both before and after the acquisition.
(3) Aformer partnerof a domestic
partnership is any person that held an
interest in the domestic partnership be-
fore the acquisition described in section
7874(a)(2)(B)(i), including any person
that holds an interest in the domestic
partnership both before and after the ac-
quisition.
(4) Aninterest in a partnershipincludes
a capital or profits interest.
(5) References toproperties heldby
a domestic corporation include properties
held directly or indirectly by the domestic
corporation.
(6) The rules and principles of sec-
tions 701 through 777 shall be applied for
purposes of determining a proportionate
amount (or share) of properties held by a
partnership (such as stock).
(7) Any reference to the acquisition of
properties held by a domestic corporation
(or a partnership) includes a direct or indi-
rect acquisition of such properties.
(8) In the case of an acquisition of stock
of a domestic corporation or an interest in
a partnership, the proportionate amount of
properties held by the domestic corpora-
tion (or the partnership) that is treated as
indirectly acquired shall, as applicable, be
determined at the time of the acquisition
based on the relative value of—
(i)Thestockacquiredcomparedtoall
outstanding stock of the domestic corpora-
tion; or
(ii) The interest acquired compared to
all interests in the partnership.
(9) The determination of whether a
foreign corporation is a surrogate foreign
corporation is made after the acquisition
described in section 7874(a)(2)(B)(i). A
foreign corporation that is treated as a
surrogate foreign corporation (including a
surrogate foreign corporation treated as a
domestic corporation described in section
7874(b)) shall continue to be treated as a
surrogate foreign corporation (or a domes-
tic corporation), even if the conditions of
section 7874(a)(2)(B)(ii) and (iii) are not
satisfied at a later date.
(c)Acquisition of properties—(1)In-
direct acquisition of properties.For
purposes of section 7874(a)(2)(B)(i), an
indirect acquisition of properties held by
a domestic corporation (or a partnership)
includes, but is not limited to, the acqui-
sitions described in paragraphs (c)(1)(i)
through (iv) of this section. An acquisition
of less than all of the stock of a domestic
corporation (or interests in a partnership)
shall constitute an indirect acquisition of
a proportionate amount of the properties
held by the domestic corporation or the
partnership. See paragraph (b)(8) of this
section for rules determining the propor-
tionate amount of properties indirectly
acquired.
(i) An acquisition of stock of a domestic
corporation. SeeExample 1of paragraph
(k) of this section for an illustration of the
rules of this paragraph (c)(1)(i).
(ii) An acquisition of an interest in a
partnership. SeeExample 2of paragraph
July 9, 2012352012–28 I.R.B.

(k) of this section for an illustration of the
rules of this paragraph (c)(1)(ii).
(iii) An acquisition by a corporation
(acquiring corporation) of properties held
by a domestic corporation (or a partner-
ship) in exchange for stock of a foreign
corporation (foreign issuing corporation)
that is part of the expanded affiliated group
that includes the acquiring corporation af-
ter the acquisition shall be treated as an
acquisition by the foreign issuing corpora-
tion. SeeExample 3of paragraph (k) of
this section for an illustration of the rules
of this paragraph (c)(1)(iii).
(iv) An acquisition bya partnership (ac-
quiring partnership) of properties held by a
domestic corporation (or a partnership) in
exchange for stock of a foreign corporation
that is part of the expanded affiliated group
that would include the acquiring partner-
ship after the acquisition (if the partnership
were a corporation) shall be treated as an
acquisition by the foreign issuing corpora-
tion.
(2)Acquisition of stock of a foreign cor-
poration. An acquisition of stock of a for-
eign corporation that owns directly or indi-
rectly stock of a domestic corporation (or
an interest in a partnership) shall not con-
stitute an indirect acquisition of any prop-
erties held by the domestic corporation (or
the partnership). SeeExample 4of para-
graph (k) of this section for an illustration
of the rules of this paragraph (c)(2).
(3)Downstream transactions. An ac-
quisition by a corporation of its stock
from another corporation or a partnership
(for example, as a result of a downstream
merger) is an acquisition of the other cor-
poration’s or partnership’s properties for
purposes of section 7874(a)(2)(B)(i).
(d)Acquisitions by multiple foreign cor-
porations. If, pursuant to a plan (or a se-
ries of related transactions), two or more
foreign corporations complete, in the ag-
gregate, an acquisition described in sec-
tion 7874(a)(2)(B)(i), then each foreign
corporation shall betreated as completing
the acquisition for purposes of determining
whether such foreign corporation is treated
as a surrogate foreign corporation. SeeEx-
amples 5and6of paragraph (k) of this
section for illustrations of the rules of this
paragraph (d).
(e)Acquisitions of multiple domestic
entities. If, pursuant to a plan (or a series of
related transactions), a foreign corporation
completes two or more acquisitions de-
scribed in section 7874(a)(2)(B)(i) involv-
ing domestic corporations and/or domestic
partnerships (domestic entities), then, for
purposes of section 7874(a)(2)(B)(ii), the
acquisitions shall betreated as a single ac-
quisition and the domestic entities shall be
treated as a single domestic entity. If the
transaction involves one or more domes-
tic corporations and one or more domestic
partnerships, the stock of the foreign cor-
poration held by former shareholders and
former partners by reason of holding stock
or a partnership interest in the domestic en-
tities shall be aggregated for purposes of
determining whether the ownership condi-
tion of section 7874(a)(2)(B)(ii) is satis-
fied. SeeExample 7of paragraph (k) of
this section for an illustration of the rules
of this paragraph (e).
(f)Stock held by reason of holding
stock in a domestic corporation or an
interest in a domestic partnership—(1)
Specified transactions. For purposes of
section 7874(a)(2)(B)(ii), stock of a for-
eign corporation that is held by reason of
holding stock in a domestic corporation
(or an interest in a domestic partnership)
includes, but is not limited to, the stock
described in paragraphs (f)(1)(i) through
(iii) of this section.
(i) Stock of a foreign corporation re-
ceived in exchange for, or with respect to,
stock of a domestic corporation.
(ii) Stock of a foreign corporation re-
ceived in exchange for, or with respect to,
an interest in a domestic partnership.
(iii) To the extent that paragraph
(f)(1)(ii) of this section does not apply,
stock of a foreign corporation received by
a domestic partnership in exchange for all
or part of its properties. In such a case,
each partner in the domestic partnership
shall be treated as holding its proportionate
share of the stock of the foreign corpora-
tion by reason of holding an interest in the
domestic partnership.
(2)Transactions involving other prop-
erty—(i)Stock of a domestic corporation.
If, pursuant to the same transaction, stock
of a foreign corporation is received in ex-
change for, or with respect to, stock of a
domestic corporation and other property,
the stock of the foreign corporation that
was received in exchange for, or with re-
spect to, the stock of the domestic corpora-
tion shall be determined based on the rela-
tive value of the stock of the domestic cor-
poration compared tothe aggregate value
of such stock and the other property.
(ii)Interest in a domestic partnership.
If, pursuant to the same transaction, stock
of a foreign corporation is received in ex-
change for, or with respect to, an interest
in a domestic partnership and other prop-
erty, the stock of the foreign corporation
that was received in exchange for, or with
respect to, the interest in the domestic part-
nership shall be determined based on the
relative value of the interest in the domes-
tic partnership compared to the aggregate
value of such interest and the other prop-
erty.
(3) SeeExamples 8through10of para-
graph (k) of this section for illustrations of
the rules of this paragraph (f).
(g)Publicly traded foreign partner-
ships—(1)Treatment as a foreign cor-
poration. For purposes of section 7874,
a publicly traded foreign partnership de-
scribed in paragraph (g)(2) of this section
shall be treated as a foreign corporation
that is organized in the foreign country
in which, or under the law of which, the
publicly traded foreign partnership was
created or organized, and the partnership
interests in the publicly traded foreign
partnership shall be treated as stock of the
foreign corporation. For purposes of de-
termining whether the foreign corporation
shall be treated as a surrogate foreign cor-
poration, a deemed acquisition of assets
and liabilities by reason of §1.708–1(b)(4)
shall not constitute an acquisition de-
scribed in section 7874(a)(2)(B)(i).
(2)Publicly traded foreign partnership.
A publicly traded foreign partnership de-
scribed in this paragraph (g)(2) is any for-
eign partnership that would, but for section
7704(c), be treated as a corporation under
section 7704(a)—
(i) At the time of the acquisition de-
scribedinsection7874(a)(2)(B)(i);or
(ii) At any time after the acquisition
pursuant to a plan that existed at the time
of the acquisition. For this purpose, a plan
shall be deemed to exist at the time of
the acquisition if the foreign partnership
would, but for section 7704(c), be treated
as a corporation under section 7704(a) at
any time during the two-year period fol-
lowing the completion of the acquisition.
(3)Surrogate foreign corporation to
which section 7874(b) applies. If para-
graph (g)(1) of this section applies to a
publicly traded foreign partnership and
2012–28 I.R.B.36July 9, 2012

the foreign corporation is a surrogate for-
eign corporation to which section 7874(b)
applies, the publicly traded foreign part-
nership shall be treated as a domestic
corporation for purposes of the Internal
Revenue Code (Code). See paragraph
(g)(6) of this section for the timing and
treatment of the conversion of the publicly
traded foreign partnership to a domestic
corporation. SeeExample 11of paragraph
(k) of this section for an illustration of the
rulesofthisparagraph(g)(3).
(4)Surrogate foreign corporation to
which section 7874(b) does not apply.If
paragraph (g)(1) of this section applies to
a publicly traded foreign partnership and
the foreign corporation is a surrogate for-
eign corporation to which section 7874(b)
does not apply, the publicly traded foreign
partnership shall continue to be treated
as a foreign partnership for purposes of
the Code, but section 7874(a)(1) shall ap-
ply to any expatriated entity (as defined
in section 7874(a)(2)(A)). SeeExample
13of paragraph (k) of this section for an
illustration of the rules of this paragraph
(g)(4).
(5)Foreign corporation not treated as
a surrogate foreign corporation. If para-
graph (g)(1) of this section applies to a
publicly traded foreign partnership and the
foreign corporation is not treated as a sur-
rogate foreign corporation, the status of
the publicly traded foreign partnership as
a foreign partnership shall not be affected
by section 7874. SeeExample 12of para-
graph (k) of this section for an illustration
of the rules of this paragraph (g)(5).
(6)Conversion to a domestic corpora-
tion. Except for purposes of determin-
ing whether the publicly traded foreign
partnership is a surrogate foreign corpora-
tion, if paragraph (g)(1) of this section ap-
plies to a publicly traded foreign partner-
ship and the foreign corporation is a sur-
rogate foreign corporation to which sec-
tion 7874(b) applies, then at the later of
the end of the day immediately preced-
ing the first date properties are acquired
as part of the acquisition described in sec-
tion 7874(a)(2)(B)(i) or immediately after
the formation of the publicly traded for-
eign partnership, the publicly traded for-
eign partnership shall be treated as trans-
ferring all of its assets and liabilities to
a newly formed domestic corporation in
exchange solely for stock of the domes-
tic corporation, and then distributing such
stock to its partners in proportion to their
partnership interestsin liquidation of the
partnership. The treatment of the transfer
of assets and liabilities to the domestic cor-
poration and the distribution of the stock of
the domestic corporation to the partners in
liquidation of the partnership shall be de-
termined under all relevant provisions of
the Code and general tax principles.
(h)Options—(1)Value. Except to the
extent otherwise provided in this para-
graph (h), for purposes of section 7874,
including for purposes of determining
the membership of an expanded affiliated
group under section 7874(c)(1), an option
with respect to a corporation or partnership
will be treated as stock in the corporation,
or an interest in the partnership, as appli-
cable, with a value equal to the holder’s
claim on the equity of the corporation or
partnership. For this purpose, claim on
the equity equals the value of the stock or
partnership interest that may be acquired
pursuant to the option, less the exercise
price (but in no case is a claim on the eq-
uity less than zero). Also for this purpose,
the equity of the corporation or partner-
ship shall not include the amount of any
property the holder of the option would be
required to provide to the corporation or
partnership under the terms of the option if
such option were exercised. SeeExample
14andExample 16of paragraph (k) of this
section for illustrations of the rules of this
paragraph (h)(1).
(2)Voting power. Except to the ex-
tent otherwise provided in this paragraph
(h), for purposes of determining the voting
power of a foreign corporation under sec-
tion 7874, including for purposes of deter-
mining the membership of an expanded af-
filiated group under section 7874(c)(1), an
option will be treated as exercised only if a
principal purpose of the issuance or trans-
fer of the option is to avoid the foreign cor-
poration being treated as a surrogate for-
eign corporation.
(3)Timing. For purposes of this para-
graph (h), the value of the holder’s claim
on the equity is determined—
(i) In the case of a domestic corporation
or a domestic partnership, immediately be-
fore the acquisition described in section
7874(a)(2)(B)(i).
(ii) In the case of a foreign corpora-
tion or foreign partnership, immediately
after the acquisition described in section
7874(a)(2)(B)(i).
(4)Certain options disregarded.The
rules of paragraph (h)(1) of this section
shall not apply to an option if—
(i) A principal purpose of the issuance
or acquisition of the option is to avoid the
foreign corporation being treated as a sur-
rogate foreign corporation, or
(ii) At the time of the acquisition de-
scribed in section 7874(a)(2)(B)(i), the
probability of the option being exercised
is remote.
(5)Options and interests similar to an
option. For purposes of this paragraph (h),
an option includes an interest similar to an
option. Examples of options (including in-
terests similar to options) include, but are
not limited to, a warrant, a convertible debt
instrument, an instrument other than debt
that is convertible into stock or a partner-
ship interest, a put, stock or a partnership
interest subject to risk of forfeiture, a con-
tract to acquire or sell stock or a partner-
ship interest, and an exchangeable share or
exchangeable partnership interest.
(6)Multiple claims on equity. Para-
graph (h)(1) of this section shall not ap-
ply to an option to the extent treating the
option as stock or a partnership interest
would duplicate a shareholder’s or part-
ner’s claim on the equity of the corpora-
tion or partnership by reason of holding
stock in the corporation or an interest in the
partnership. SeeExample 15of paragraph
(k) of this section for an illustration of the
rules of this paragraph (h)(6).
(i)Interests treated as stock of a for-
eign corporation—(1)Stock or other in-
terests. If the conditions of paragraphs
(i)(1)(i) and (ii) of this section are satis-
fied, then, for purposes of section 7874,
any interest (including stock or a partner-
ship interest) that is not otherwise treated
as stock of a foreign corporation (including
under paragraph (h) of this section) shall
be treated as stock of the foreign corpo-
ration. SeeExamples 17and18of para-
graph (k) of this section for illustrations of
the rules of this paragraph (i)(1).
(i) The interest provides the holder dis-
tribution rights that are substantially simi-
lar in all material respects to the distribu-
tion rights provided by stock in the foreign
corporation. For this purpose, distribution
rights include rights to dividends (or part-
nership distributions), distributions in re-
demption of the interest (in whole or in
part), distributions in liquidation, or other
similar distributions that represent a return
July 9, 2012372012–28 I.R.B.

on, or of, the holder’s investment in the in-
terest.
(ii) Treating the interest as stock of
the foreign corporation has the effect of
treating the foreign corporation as a sur-
rogate foreign corporation under section
7874(a)(2)(B).
(2)Creditor claims—(i)Domestic cor-
poration. For purposes of section 7874, if,
immediately prior to the first date proper-
ties are acquired as part of an acquisition
described in section 7874(a)(2)(B)(i), a do-
mestic corporation is in a title 11 or similar
case (as defined in section 368(a)(3)), or
the liabilities of the domestic corporation
exceed the value of its assets, then each
creditor of the domestic corporation shall
be treated as a shareholder of the domestic
corporation and any claim of the creditor
against the domestic corporation shall be
treated as stock of the domestic corpora-
tion. SeeExample 19of paragraph (k) of
this section for an illustration of the rules
of this paragraph (i)(2)(i).
(ii)Domestic or foreign partnership.
For purposes of section 7874, if, immedi-
ately prior to the first date properties are
acquired as part of an acquisition described
in section 7874(a)(2)(B)(i), a partnership
(foreign or domestic) is in a title 11 or sim-
ilar case (as defined in section 368(a)(3)),
or the liabilities of the partnership exceed
the value of its assets, then each creditor of
the partnership shall be treated as a part-
ner in the partnership and any claim of
the creditor against the partnership shall be
treated as an interest in the partnership.
(iii)Treatment of creditor as share-
holder or partner. A creditor that is treated
as a shareholder or partner under para-
graph (i)(2)(i) or (ii) of this section shall
be treated as a shareholder or partner for
all purposes of section 7874. See, for ex-
ample, §1.7874–1(c) and paragraph (f) of
this section. SeeExample 19of paragraph
(k) of this section for an illustration of the
rules of this paragraph (i)(2)(iii).
(j)Application of section 7874(b)—(1)
Conversion to a domestic corporation.Ex-
cept for purposes of determining whether
a foreign corporation is treated as a surro-
gate foreign corporation, the conversion
of a foreign corporation to a domestic
corporation by reason of section 7874(b)
shall constitute a reorganization described
in section 368(a)(1)(F) that occurs at the
later of the end of the day immediately
preceding the first date properties are ac-
quired as part of the acquisition described
in section 7874(a)(2)(B)(i) or immediately
after the formation of the foreign corpo-
ration. See, for example, §§1.367(b)–2
and 1.367(b)–3 for certain consequences
of the reorganization. The treatment of all
other aspects of the conversion shall be
determined under the relevant provisions
of the Code and general tax principles.
SeeExample 20of paragraph (k) of this
section for an illustration of the rules of
this paragraph (j)(1).
(2)Entity classification. A foreign cor-
poration that is treated as a domestic cor-
poration under section 7874(b) is not an el-
igible entity as defined in §301.7701–3(a),
and therefore may not elect to be classified
as other than an association (and thus can-
not be treated as other than a corporation)
for Federal tax purposes.
(3)Application of section 367.Ifa
foreign corporation is treated as a domes-
tic corporation under section 7874(b), sec-
tion 367 shall not apply to any transfer of
property by a United States person to such
foreign corporation as part of the acquisi-
tion described in section 7874(a)(2)(B)(i).
However, section 367 shall apply to the
conversion of the foreign corporation to a
domestic corporation. See paragraph (j)(1)
of this section. SeeExample 20of para-
graph (k) of this section for an illustration
of the rules of this paragraph (j)(3).
(k)Examples—(1)Assumed facts.Ex-
cept as otherwise stated, assume the fol-
lowing for purposes of the examples in-
cluded in paragraph (k)(2) of this section.
(i) DC1 and DC2 are domestic corpora-
tions.
(ii) FA, FP, F1, F2, F3, and F4 are for-
eign corporations organized in Country A.
(iii) DPS is a domestic partnership that
conducts a trade or business.
(iv) FPS is a foreign partnership that is
not publicly traded.
(v) Under the terms of the partnership
agreements of DPS and FPS, each part-
ner’s share in the partnership’s items of
income, gain, deduction, and loss is de-
termined in accordance with the partner’s
partnership interest percentage in the part-
nership, as stated in the examples.
(vi) A, B, and C are unrelated individu-
als.
(vii) Each entity has a single class of
equity outstanding and is unrelated to all
other entities.
(viii) All transactions are completed
pursuant to a plan.
(ix) All acquisitions of properties are
completed after March 4, 2003.
(x) Section 7874(c)(4) does not apply,
and no option is issued or acquired with a
principal purpose to avoid a foreign corpo-
ration being treated as a surrogate foreign
corporation.
(2)Examples. The following examples
illustrate the rules of this section.
Example 1.Acquisition of stock of a domestic cor-
poration.(i)Facts. FA acquires 25% of the outstand-
ing stock of DC1.
(ii)Analysis. Under paragraph (c)(1)(i) of this
section, for purposes of section 7874(a)(2)(B)(i), FA
is treated as acquiring 25% of the properties held by
DC1 on the date of the stock acquisition.
Example 2.Acquisition of a partnership interest.
(i)Facts. DPS wholly owns DC1. FA acquires a 40%
interest in DPS.
(ii)Analysis. Under paragraph (c)(1)(ii) of this
section, for purposes of section 7874(a)(2)(B)(i), FA
is treated as acquiring 40 percent of the DC1 stock
held by DPS on the date of the acquisition of the part-
nership interest. Further, under paragraph (c)(1)(i) of
this section, for purposes of section 7874(a)(2)(B)(i),
FA is treated as acquiring 40% of the properties held
by DC1 on the date of the acquisition of the partner-
ship interest.
Example 3.Acquisition of stock by a subsidiary.
(i)Facts. FP wholly owns FA. FA acquires all the
outstanding stock of DC1 in exchange solely for FP
stock. FP and FA are members of the same expanded
affiliated group after the acquisition.
(ii)Analysis. Under paragraph (c)(1)(i) of this
section, for purposes of section 7874(a)(2)(B)(i), FA
is treated as acquiring 100% of the properties held by
DC1 on the date of the stock acquisition. Further, un-
der paragraph (c)(1)(iii) of this section, for purposes
of section 7874(a)(2)(B)(i), FP is also treated as ac-
quiring 100% of the properties held by DC1 on the
date of the stock acquisition. The result would be the
same if instead FA had directly acquired all the prop-
erties held by DC1 in exchange for FP stock.
Example 4.Acquisition of stock of a foreign cor-
poration.(i)Facts. FP wholly owns DC1. FA ac-
quires all of the outstanding stock of FP.
(ii)Analysis. Under paragraph (c)(2) of this sec-
tion, for purposes of section 7874(a)(2)(B)(i), FA is
not treated as acquiring anypropertiesheldbyDC1
on the date of the acquisition of the FP stock.
Example 5.Acquisition of stock by multiple for-
eign corporations.(i)Facts. Pursuant to the same
plan, the shareholders of DC1 transfer all of their DC1
stock equally to F1, F2, F3, and F4 in exchange solely
for stock of each foreign corporation.
(ii)Analysis. Under paragraph (c)(1)(i) of this
section, in the aggregate F1, F2, F3, and F4 are treated
as acquiring substantially all of the properties held
by DC1. Because the acquisition was pursuant to the
same plan, under paragraph (d) of this section, F1, F2,
F3, and F4 are each treatedas acquiring substantially
all of the properties held by DC1 for purposes of de-
termining whether each foreign corporation shall be
treated as a surrogate foreign corporation.
2012–28 I.R.B.38July 9, 2012

Example 6.Acquisition of assets by multiple for-
eign corporations.(i)Facts. Individual A wholly
owns DC1. DC1 forms F1, F2, F3, and F4, and trans-
fers an equal portion of its properties to each corpora-
tion in exchange solely for stock of the corporation.
Pursuant to the same plan DC1 then distributes the
stock of each foreign corporation to individual A.
(ii)Analysis. Because pursuant to the same plan
F1, F2, F3, and F4 acquired, in the aggregate, sub-
stantially all of the properties held by DC1, under
paragraph (d) of this section, F1, F2, F3, and F4
are each treated as acquiring substantially all of the
properties held by DC1 for purposes of determining
whether each foreign corporation shall be treated as a
surrogate foreign corporation.
Example 7.Acquisition of multiple domestic cor-
porations.(i)Facts. Individual A wholly owns DC1,
and individual B wholly owns DC2. Pursuant to the
same plan, individuals A and B transfer all of their
DC1 stock and DC2 stock to FA, a newly formed cor-
poration, in exchange solely for all 100 shares of FA
stock outstanding.
(ii)Analysis. Under paragraph (c)(1)(i) of this
section, for purposes of section 7874(a)(2)(B)(i), FA
is treated as acquiring all of the properties held by
DC1 and DC2 on the date of the stock acquisition.
Under paragraph (e) of this section, because pursuant
to the same plan FA acquired substantially all of the
properties held by DC1 and DC2, for purposes of de-
termining whether FA shall be treated as a surrogate
foreign corporation, DC1 and DC2 shall be treated as
a single domestic corporation, of which individuals
A and B are former shareholders. Thus, individuals
A and B are treated as holding all 100 shares of the
FA stock by reason of holding stock of such domestic
corporation, and the ownership fraction under section
7874(a)(2)(B)(ii) is 100/100, or 100%.
Example 8.Exchange of stock and other prop-
erty.(i)Facts. Individual A wholly owns DC1 and
F1. DC1 has a $40x value and F1 has a $60x value.
Individual A transfers all of the DC1 stock and F1
stock to FA, a newly formed corporation, in exchange
solely for FA stock.
(ii)Analysis. Under paragraphs (f)(1)(i) and
(f)(2)(i) of this section, for purposes of section
7874(a)(2)(B)(ii), individual A is considered to hold
40% of the FA stock by reason of holding stock in
DC1 ($100x FA stock multiplied by $40x/$100x, the
relative value of the DC1 stock to all the property
transferred by A to FA).
Example 9.Stock received as a distribution.
(i)Facts. Pursuant to a divisive reorganization de-
scribed in section 368(a)(1)(D), DC1 contributes
substantially all of its properties to FA, a newly
formed corporation, in exchange solely for FA stock
and then distributes the FA stock to its shareholders
in a transaction qualifying under section 355.
(ii)Analysis. Under paragraph (f)(1)(i) of this
section, for purposes of section 7874(a)(2)(B)(ii), the
FA stock received by the DC1 shareholders as a dis-
tribution with respect to the DC1 stock is considered
held by reason of holding stock in DC1. The result
would be the same if the transaction did not qualify
as a reorganization (for example, if the distribution
were subject to sections 301 and 311(b)).
Example 10.Incorporation of a partnership trade
or business.(i)Facts. Individuals A and B equally
own DPS. DPS transfers substantially all of its prop-
erties constituting a trade or business to FA, a newly
formed corporation, solelyin exchange for FA stock.
DPS retains the FA stock after the transaction.
(ii)Analysis. Under paragraph (f)(1)(iii) of this
section, for purposes of section 7874(a)(2)(B)(ii), in-
dividuals A and B are treated as holding a proportion-
ate amount (that is, an equal amount) of the FA stock
held by DPS by reason of holding an interest in DPS.
Example 11.Publicly traded foreign partnership
treated as domestic corporation.(i)Facts. Pursuant
to a plan, DC1 and individual B organize a limited li-
ability company (HPS) under the law of Country A.
DC1 owns 90% of the membership interests in HPS,
and B owns 10% of the membership interests in HPS.
HPS is a foreign eligible entity under §301.7701–2,
and DC1 and B make an election under §301.7701–3
to treat HPS as a partnership for Federal tax pur-
poses as of the date of the formation of HPS. HPS
forms DC2. One day after the formation of HPS, DC2
merges with and into DC1. Pursuant to the merger
agreement, the DC1 shareholders exchange their DC1
stock solely for membership interests in HPS. After
the merger HPS wholly owns DC1, and the former
shareholders of DC1 own a greater than 80% inter-
est in HPS by reason of holding stock of DC1. Public
trading of the HPS ownership interests begins the day
after the date on which the merger is completed. HPS
is not treated as a corporation under section 7704(a)
by reason of section 7704(c). If HPS were a cor-
poration, the condition of section 7874(a)(2)(B)(iii)
would be satisfied.
(ii)Analysis. HPS is a publicly traded foreign
partnership that is described in paragraph (g)(2) of
this section. Therefore, under paragraph (g)(1) of this
section, for purposes of section 7874, HPS is treated
as a foreign corporation organized under the law of
Country A and the membership interests in HPS are
treated as stock of the foreign corporation. The for-
eign corporation is treated as a surrogate foreign cor-
poration under section 7874(a)(2)(B) because, pur-
suant to the merger, HPS acquired substantially all of
the properties held by DC1, the former shareholders
of DC1 hold at least 60% of the stock of the foreign
corporation by reason of holding stock of DC1, and
the expanded affiliated group that includes the foreign
corporation does not have substantial business activi-
ties in Country A when compared to the total business
activities of the expanded affiliated group. Further,
because the former shareholders of DC1 hold at least
80% of the stock of the foreign corporation by reason
of holding stock of DC1, section 7874(b) applies to
the surrogate foreign corporation, and therefore HPS
is treated as a domestic corporation for purposes of
the Code. Under paragraph (g)(6) of this section, ex-
cept for purposes of determining whether HPS is a
surrogate foreign corporation, at the end of the day
immediately preceding the date of the merger of DC2
with and into DC1, HPS is treated as transferring all
of its assets and liabilities to a new domestic corpora-
tion in exchange solely for stock of the domestic cor-
poration. HPS is then treated as proportionately dis-
tributing such stock to its membership interest hold-
ers in liquidation of the partnership. In addition, as
aresultofthemergerofDC2withandintoDC1,the
former shareholders of DC1 shall be treated as receiv-
ing stock of a domestic corporation in exchange for
their DC1 stock.
Example 12.Publicly traded foreign partnership
not treated as a surrogate foreign corporation.(i)
Facts. The facts are the same as inExample 11of
this section, except that, after the acquisition, the ex-
panded affiliated group that includes HPS (treated as
a foreign corporation for this purpose) has substan-
tial business activities in Country A when compared
to the total business activities of the expanded affili-
ated group.
(ii)Analysis. Under paragraph (g)(1) of this sec-
tion, for purposes of section 7874, HPS is treated
as a foreign corporation and the membership inter-
ests in HPS are treated as stock of the foreign cor-
poration. However, the foreign corporation is not
treated as a surrogate foreign corporation under sec-
tion 7874(a)(2)(B)because, after the acquisition, the
expanded affiliated group that includes HPS has sub-
stantial business activities in Country A when com-
pared to the total business activities of the expanded
affiliated group. Therefore, under paragraph (g)(5) of
this section, section 7874 does not apply and the sta-
tus of HPS as a foreign partnership is not affected. In
addition, DC1 is not treated as an expatriated entity
under section 7874(a) by reason of the acquisition.
Example 13.Publicly traded foreign partnership
treated as a surrogate foreign corporation but not as
a domestic corporation.(i)Facts. FPS is a pub-
licly traded foreign partnership organized in Country
A that, by reason of section 7704(c), is not treated as
a corporation under section 7704(a). FPS acquires all
the stock of DC1 in exchange for partnership interests
in FPS. After the acquisition, the former shareholders
of DC1 hold a 75%-interest in FPS by reason of hold-
ing DC1 stock. After the acquisition, the expanded
affiliated group that includes FPS (treated as a foreign
corporation for this purpose) does not have substan-
tial business activities in Country A when compared
to the total business activities of the expanded affili-
ated group.
(ii)Analysis. Under paragraph (g)(1) of this sec-
tion, for purposes of section 7874, FPS is treated as
a foreign corporation and the partnership interests in
FPS are treated as stock of the foreign corporation.
FPS is treated as a surrogate foreign corporation be-
cause the conditions of section 7874(a)(2)(B) are sat-
isfied. However, because the former shareholders of
DC1holdlessthanan80%-interestinFPSbyreason
of holding DC1 stock, section 7874(b) does not apply
to FPS. Therefore, under paragraph (g)(4) of this sec-
tion FPS continues to be treated as a foreign partner-
ship for purposes of the Code, but section 7874(a)(1)
applies to DC1 and any other expatriated entity.
Example 14.Warrant to acquire stock from the
foreign corporation.(i)Facts. Individual A wholly
owns DC1. DC1 has a $200x value. Individual B
wholly owns FA. The value of B’s FA stock is $400x.
Individual C holds a warrant to acquire FA stock from
FA at an exercise price of $20x. Individual A trans-
fers all of its DC1 stock to FA in exchange solely for
FA stock with a value of $200x. At the time of the
transfer, the FA stock that individual C can acquire
pursuant to the warrant has a $70x value.
(ii)Analysis. Under paragraphs (h)(1) of this sec-
tion, for purposes of section 7874, individual C is
treated as owning FA stock with a $50x value. This
amount represents individual C’s claim on the equity
of FA after the acquisition ($70x value of FA stock
that may be acquired pursuant to the warrant, less the
$20x exercise price), without taking into account the
$20x individual C would be required to provide to FA
upon the exercise of the warrant. Thus, for purposes
of section 7874, the value of the stock of FA imme-
July 9, 2012392012–28 I.R.B.

diately after the transaction is $650x ($600x of FA
stock, plus C’s $50x claim on the equity of FA). C’s
warrant is not taken into account for purposes of de-
termining the voting power of FA under section 7874.
Example 15.Optiontoacquirestockfroman-
other shareholder.(i)Facts. The facts are the same as
inExample 14except that, instead of holding a war-
rant issued by FA, individual C holds an option to ac-
quire FA stock from individual B for an exercise price
of $20x. At the time of the acquisition, the FA stock
that individual C can acquire under the option has a
$70x value.
(ii)Analysis. Under paragraph (h)(6) of this sec-
tion, for purposes of section 7874, individual C is not
treated as owning FA stock by reason of holding the
option because treating theoption as FA stock would
have the effect of partially duplicating individual B’s
claim on the equity of FA at the time of the acquisi-
tion by reason of holding FA stock. However, all of
the FA stock owned by individual B will be taken into
account for purposes of section 7874. C’s warrant is
not taken into account for purposes of determining
voting power of FA under section 7874.
Example 16.Warrant to acquire stock from the
domestic corporation.(i)Facts.ADC1employee
holds a warrant to acquire DC1 stock from DC1. In
connection with the acquisition by FA of substantially
all of the properties held by DC1, the DC1 employee
receives a warrant from FA to acquire 15 shares of
FA stock in exchange for the warrant to acquire DC1
stock.
(ii)Analysis. Under paragraphs (h)(1) of this sec-
tion, for purposes of section 7874, the warrant held
by the DC1 employee is treated as DC1 stock with
a value equal to the employee’s claim on the equity
of DC1 immediately before the acquisition. Further,
for purposes of section 7874, the DC1 employee is
treated as holding FA stock with a value equal to the
employee’s claim on the equity of FA after the ac-
quisition by reason of holding the warrant to acquire
DC1 stock (treated as DC1 stock for this purpose).
The option held by the DC1 employee is not taken
into account for purposes of determining the voting
power of FA under section 7874.
Example 17.Stock in a subsidiary treated as stock
of a foreign parent corporation.(i)Facts.(A)In-
dividuals A and B equally own DC1. FA, a newly
formed corporation, issues stock in a public offering
for cash. FA contributes part of the cash from the
public offering to DC2, a newly formed corporation,
in exchange for all the stock of DC2. DC2 merges
with and into DC1 with DC1 surviving. Pursuant to
the merger agreement, individuals A and B exchange
their DC1 stock for cash and shares of class B stock
of DC1. Following the merger FA owns all the class
A stock of DC1. FA does not hold significant assets
other than the class A stock of DC1. Individuals A
and B own all the class B stock of DC1. DC1 has no
other class of stock outstanding.
(B) The class B stock entitles individuals A and
B to dividend distributions approximately equal to
any dividend distributions made by FA with respect
to its publicly traded stock. In certain circumstances,
the class B stock also permits individuals A and B to
require DC1 to redeem the stock at fair market value.
The class B stock does not provide individuals A and
B voting rights with respect to FA.
(ii)Analysis. The dividend rights provided by the
class B stock are substantially similar in all material
respects to the dividend rights provided by the FA
stock. In addition, because FA does not hold signif-
icant assets other than the class A stock, the value
of the class B stock held by individuals A and B is
approximately equal to the value of a corresponding
amount of publicly traded FA stock. The distribution
rights on liquidation (or redemption) provided by the
class B stock, therefore, are substantially similar in
all material respects to the distribution rights on liq-
uidation (or redemption) provided by the FA stock.
As a result, the distribution rights provided by the
class B stock are substantially similar in all material
respects to the distribution rights provided by the pub-
licly traded FA stock. Thus, if treating the class B
stock as FA stock would have the effect of treating FA
as a surrogate foreign corporation, under paragraph
(i)(1) of this section the class B stock will be treated
as FA stock for purposes of section 7874.
Example 18.Partnership interest treated as stock
of foreign acquiring corporation.(i)Facts.(A)In-
dividuals A and B equally own DC1. FA, a newly
formed corporation, issues stock in a public offering
for cash. Individuals A and B and FA organize FPS.
FA transfers part of the cash from the public offering
to FPS in exchange for a class A partnership inter-
est. FA does not hold any significant assets other than
the class A partnership interest. Individuals A and B
transfer their DC1 stock to FPS in exchange for class
B partnership interests.
(B) The class B partnership interests entitle indi-
viduals A and B to cash distributions from FPS ap-
proximately equal to any dividend distributions made
by FA with respect to its publicly traded stock. In cer-
tain circumstances, the class B partnership interests
also permit individuals A and B to require FPS to re-
deem the interests in exchange for cash equal to the
value of an amount of FA stock as determined on the
redemption date. The class B partnership interests do
not provide individuals A or B voting rights with re-
spect to FA.
(ii)Analysis. The non-liquidating distribution
rights provided by the class B partnership interests
are substantially similar in all material respects to the
dividend rights provided by the FA stock. Because
FA does not hold any significant assets other than
the class A partnership interest, the value of the class
B partnership interests held by individuals A and B
is approximately equal to a corresponding amount
of FA stock. The distribution rights on liquidation
(or redemption) provided by the class B partnership
interests, therefore, are substantially similar in all
material respects to distribution rights on liquidation
(or redemption) provided by the FA stock. Thus, the
distribution rights provided by the class B partner-
ship interests are substantially similar in all material
respects to the distribution rights provided by the
publicly traded FA stock. As a result, if treating
the class B partnership interests as FA stock would
have the effect of treating FA as a surrogate foreign
corporation, under paragraph (i)(1) of this section
the class B partnership interests will be treated as FA
stock for purposes of section 7874.
Example 19.Creditor treated as a shareholder.
(i)Facts. Individuals A and B equally own DC1. The
liabilities of DC1 exceed the value of its assets. Pur-
suant to a plan, FA, a newlyformed corporation, ac-
quires substantially all of the properties held by DC1
in exchange solely for FA stock. Pursuant to the plan,
the DC1 stock held by individuals A and B is can-
celled, and the creditors of DC1 receive all the FA
stock in exchange for their claims against DC1.
(ii)Analysis. Because immediately before the
first date on which properties are acquired as part of
the acquisition described in section 7874(a)(2)(B)(i)
the liabilities of DC1 exceed the value of its assets,
under paragraph (i)(2)(i) of this section, for purposes
of section 7874, the creditors of DC1 are treated
as shareholders of DC1 and the creditors’ claims
against DC1 are treated as DC1 stock. Therefore, for
purposes of section 7874(a)(2)(B)(ii), the FA stock
received by the creditors of DC1 by reason of their
claims against DC1 is considered held by former
shareholders of DC1 by reason of holding DC1 stock.
Example 20.Conversion to a domestic corpora-
tion and application of section 367.(i)Facts. Indi-
viduals A and B are United States persons and equally
own DC1. Pursuant to a plan, individuals A and B
transfer their DC1 stock to FA in exchange solely for
80% of the outstanding FA stock. After the acquisi-
tion, the expanded affiliated group that includes FA
does not have substantial business activities in Coun-
try A when compared to the total business activities
of the expanded affiliated group.
(ii)Analysis. Under paragraph (c)(1)(i) of this
section, for purposes of section 7874(a)(2)(B)(i), FA
is treated as acquiring all of the properties held by
DC1 on the date of the stock acquisition. After the
acquisition, the former shareholders of DC1 own
80% of the stock of FA by reason of holding DC1
stock. Therefore, FA is a surrogate foreign corpora-
tion that is treated as a domestic corporation under
section 7874(b). Under paragraph (j)(1) of this sec-
tion, except for purposes of determining whether FA
is treated as a surrogate foreign corporation, the con-
version of FA to a domestic corporation constitutes a
reorganization described in section 368(a)(1)(F) that
occurs at the end of the day immediately preceding
the date of the stock acquisition. Section 367 applies
to the conversion of FA to a domestic corporation.
See, for example, §§1.367(b)–2 and 1.367(b)–3 for
the consequences of the conversion. Under para-
graph (j)(3) of this section, section 367 does not
apply to the transfers of DC1 stock by individuals A
and B to FA.
(l)Effective/applicability date.This
section applies to acquisitions completed
on or after June 7, 2012. For acquisi-
tions completed prior to June 7, 2012, see
§1.7874–2T(o), as contained in 26 CFR
part 1, revised as of April 1, 2012.
§1.7874–2T [Removed]
Par. 5. Section 1.7874–2T is removed.
Steven T. Miller,
Deputy Commissioner for
Services and Enforcement.
Approved June 4, 2012.
Emily S. McMahon,
Acting Assistant Secretary
oftheTreasury(TaxPolicy).
2012–28 I.R.B.40July 9, 2012

(Filed by the Office of the Federal Register on June 7, 2012,
4:15 p.m., and published in the issue of the Federal Register
for June 12, 2012, 77 F.R. 34788)
26 CFR 1.7874–3T: Substantial business activities
(temporary).
T.D. 9592
DEPARTMENT OF THE
TREASURY
Internal Revenue Service
26 CFR Part 1
Substantial Business Activities
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Temporary Regulations.
SUMMARY: This document contains tem-
porary regulations regarding whether a for-
eign corporation has substantial business
activities in a foreign country. These reg-
ulations affect certain domestic corpora-
tions and partnerships (and certain parties
related thereto), and foreign corporations
that acquire substantially all of the proper-
ties of such domestic corporations or part-
nerships. The text of these temporary reg-
ulations serves as the text of the proposed
regulations (REG–107889–12) set forth in
the notice of proposed rulemaking on this
subject also published in this issue of the
Bulletin.
DATES:Effective Date:These regulations
are effective on June 12, 2012.
Applicability Date:For date of applica-
bility, see §1.7874–3T(f).
FOR FURTHER INFORMATION
CONTACT: Mary W. Lyons, (202)
622–3860 and David A. Levine, (202)
622–3860 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
On June 6, 2006, temporary regu-
lations under section 7874 (T.D. 9265,
2006–2 C.B. 1) were published in the
Federal Register(71 FR 32437) con-
cerning the treatment of a foreign corpo-
ration as a surrogate foreign corporation
(2006 temporary regulations). A notice of
proposed rulemaking (REG–112994–06,
2006–2 C.B. 47) cross-referencing the
2006 temporary regulations was pub-
lished in the same issue of theFederal
Register(71 FR 32495). On July 28,
2006, Notice 2006–70, 2006–2 C.B. 252,
was published, announcing a modifica-
tion to the effective date contained in
the 2006 temporary regulations. See
§601.601(d)(2)(ii)(b). On June 12, 2009,
the 2006 temporary regulations and the
related notice of proposed rulemaking
were withdrawn and replaced with new
temporary regulations (2009 temporary
regulations), which generally applied to
acquisitions completed on or after June 9,
2009. T.D. 9453 (74 FR 27920, 2009–28
I.R.B. 114). A notice of proposed rule-
making cross-referencing the 2009 tem-
porary regulations was published in the
same issue of theFederal Register(74 FR
27947, 2009–28 I.R.B. 144). No public
hearing was requested or held; however,
comments were received. All comments
are available atwww.regulations.govor
upon request. After consideration of the
comments received regarding whether a
foreign corporation has substantial busi-
ness activities in a foreign country, the
Internal Revenue Service (IRS) and the
Department of the Treasury (Treasury
Department) have decided to issue new
temporary regulations under §1.7874–3T
(2012 temporary regulations) and a new
notice of proposed rulemaking that pro-
vide guidance regarding this determi-
nation. The other portions of the 2009
temporary regulations are finalized in
a separate Treasury Decision published
elsewhere in this issue of the Bulletin.
Explanation of Provisions
A.General Approach
A foreign corporation is generally
treated as a surrogate foreign corporation
under section 7874(a)(2)(B) if pursuant to
a plan (or a series of related transactions):
(i) the foreign corporation completes after
March 4, 2003, the direct or indirect acqui-
sition of substantially all of the properties
held directly or indirectly by a domestic
corporation; (ii) after the acquisition at
least 60 percent of the stock (by vote or
value) of the foreign corporation is held
by former shareholders of the domestic
corporation by reason of holding stock in
the domestic corporation; and (iii) after the
acquisition, the expanded affiliated group
that includes the foreign corporation does
not have substantial business activities
in the foreign country (relevant foreign
country) in which, or under the law of
which, the foreign corporation is created
or organized, when compared to the total
business activities of the expanded affili-
ated group. Similar provisions apply if a
foreign corporation acquires substantially
all of the properties constituting a trade or
business of a domestic partnership.
The 2006 temporary regulations pro-
vided that the determination of whether the
expanded affiliated group has substantial
business activities in the relevant foreign
country is based on all the facts and cir-
cumstances. The 2006temporary regula-
tions also provided a safe harbor, which
generally was satisfied if at least ten per-
cent of the employees, assets, and sales of
the expanded affiliated group were in the
relevant foreign country. The 2009 tem-
porary regulations retained the facts and
circumstances general rule provided in the
2006 temporary regulations, with certain
modifications, but removed the safe har-
bor.
The IRS and the Treasury Department
received comments requesting additional
guidance on the level ofbusiness activities
necessary for an expanded affiliated group
to have substantial business activities in
the relevant foreign country. One com-
ment suggested providing a new safe har-
bor, which would require a higher percent-
age of business activities in the relevant
foreign country than was required under
the safe harbor included in the 2006 tem-
porary regulations. The comment also rec-
ommended different safe harbors depend-
ing on the extent of the expanded affiliated
group’s business activities in the United
States.
After consideration of the comments
and the underlying policies of section
7874, the IRS and the Treasury Depart-
ment believe the facts and circumstances
test of the 2009 temporary regulations
should be replaced with a bright-line rule
describing the threshold of activities re-
quired for an expanded affiliated group to
have substantial business activities in the
relevant foreign country. The IRS and the
Treasury Department believe that such a
rule will provide more certainty in apply-
ing section 7874 to particular transactions
than the 2009 temporary regulations and
July 9, 2012412012–28 I.R.B.

will improve the administrability of this
provision.
B.Threshold of Business Activities
The 2012 temporary regulations pro-
vide that an expanded affiliated group will
have substantial business activities in the
relevant foreign country only if at least 25
percent of the group employees, group as-
sets, and group income are located or de-
rived in the relevant foreign country, deter-
mined as follows:
1.Group employees
The 2012 temporary regulations set
forth two tests, each of which must be
satisfied, based on employees of members
of the expanded affiliated group (group
employees). The first test is calculated as
the number of group employees based in
the relevant foreign country divided by the
total number of group employees deter-
mined on the applicable date discussed in
section B.4. of this preamble. The second
test is calculated as employee compen-
sation with respect to group employees
based in the relevant foreign country di-
vided by the total employee compensation
with respect to all group employees deter-
mined during the one-year testing period.
2.Group assets
The group assets test is calculated as the
value of the group assets located in the rel-
evant foreign country divided by the to-
tal value of all group assets determined on
the applicable date. The term group assets
generally means tangible personal prop-
erty or real property used or held for use
in the active conduct of a trade or busi-
ness by members of the expanded affili-
ated group. For this purpose, group assets
include certain property rented by mem-
bers of the expanded affiliated group, with
the value of such rented property being
deemed to be eight times the net annual
rent paid or accrued with respect to such
property. The IRS and the Treasury De-
partment believe that using an eight-times
multiple for this purpose is administrable
and consistent with the treatment of rented
property for other purposes. See, for ex-
ample, Uniform Division of Income for
Tax Purposes Act, §§10 and 11. In order to
constitute group assets, such rented prop-
erty must satisfy the other applicable re-
quirements for group assets, including that
thepropertyisusedorheldforuseinthe
active conduct of a trade or business.
3.Group income
The group income test is calculated as
the group income derived in the relevant
foreign country divided by the total group
income determined during the one-year
testing period. The term group income
means gross income of members of the ex-
panded affiliated group from transactions
occurring in the ordinary course of busi-
ness with customers that are not related
persons. Group income is considered to
be derived in a foreign country only if the
customer is located in such country.
4.Applicable date
Section 7874(a)(2)(B)(iii) provides that
the determination of whether the expanded
affiliated group has substantial business
activities is made after the acquisition.
However, the IRS and the Treasury De-
partment believe that when the acquisition
occurs other than at the end of a month the
factors used to determine whether the sub-
stantial business activities test is satisfied
may not be readily determinable in some
cases. Accordingly, the 2012 temporary
regulations provide that the number of
group employees and the value of group
assets can be measured as of the applicable
date, which is either the date on which the
acquisition is completed or the last day
of the month immediately preceding the
month in which the acquisition is com-
pleted. The applicable date is also used to
determine the testing period, which is used
in computing group income and employee
compensation. When the applicable date
is the last day of the month immediately
preceding the month in which the acqui-
sition is completed, group employees,
employee compensation, group assets,
and group income consist of those items
or amounts of members that comprise the
expanded affiliated group determined at
the close of the acquisition date.
C.Attribution from a Partnership
The 2009 temporary regulations pro-
vided that for purposes of the substantial
business activities test, a member of an ex-
panded affiliated group that holds at least a
ten-percent capital andprofits interest in a
partnership takes into account its propor-
tionate share of all items of the partner-
ship. The IRS and the Treasury Depart-
ment believe that the policies of section
7874 are better advanced if the treatment
of partnerships is made consistent with that
of corporations for purposes of applying
the substantial business activities test on a
group basis. Accordingly, the 2012 tem-
porary regulations provide that the items
of a partnership should be taken into ac-
count for this purpose only if one or more
members of the expanded affiliated group
holds, in the aggregate, more than 50 per-
cent (by value) of the interests in the part-
nership. The IRS and the Treasury Depart-
ment further believe that, consistent with
the treatment of corporations, if this own-
ership requirement is satisfied, then all the
items of the partnership should be taken
into account for this purpose.
D.Effective Date
Subject to a transition rule, the 2012
temporary regulations apply to acquisi-
tions completed on or after June 7, 2012.
Special Analyses
It has been determined that that these
temporary regulations are not a significant
regulatory action as defined in Executive
Order 12866. Therefore, a regulatory as-
sessment is not required. It also has been
determined that section 553(b) of the Ad-
ministrative Procedure Act (5 U.S.C. chap-
ter 5) does not apply to the 2012 temporary
regulations and because the regulations do
not impose a collection of information on
small entities, the requirements of the Reg-
ulatory Flexibility Act (5 U.S.C. chapter
6) do not apply. Accordingly, a regu-
latory flexibility analysis is not required.
Pursuant to section 7805(f) of the Code,
the 2012 temporary regulations have been
submitted to the Chief Counsel for Advo-
cacy of the Small Business Administration
for comment on their impact on small busi-
ness.
Requests for Comments
The IRS and the Treasury Department
are considering to what extent partners of
a partnership should be treated as if they
were employees solely for purposes of the
two tests based on group employees, and
2012–28 I.R.B.42July 9, 2012

specifically request comments on these is-
sues. For information on how to submit
comments or request a public hearing, see
the section ’’Comments and Requests for a
Public Hearing’’ set forth in the notice of
proposed rulemaking published elsewhere
in this issue of the Bulletin.
Drafting Information
The principal authors of the 2012 tem-
porary regulations are Mary W. Lyons and
David A. Levine of the Office of Associate
Chief Counsel (International). However,
other personnel from the IRS and the
Treasury Department participated in their
development.
*****
Amendments to the Regulations
Accordingly, 26 CFR part 1 is amended
as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 continues to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.7874–3T is also issued under
26 U.S.C. 7874(c)(6) and (g).* * *
Par. 2. Section 1.7874–3T is added to
read as follows:
§1.7874–3T Substantial business activities
(temporary).
(a)Scope. This section provides rules
regarding whether a foreign corporation
has substantial business activities in the
relevant foreign country when compared
to the total business activities of the ex-
panded affiliated group for purposes of
section 7874(a)(2)(B)(iii). Paragraph (b)
of this section sets forth the threshold of
business activities that constitute substan-
tial business activities. Paragraph (c) of
this section describes certain items not to
be taken into account as located or derived
in the relevant foreign country. Paragraph
(d) of this section provides definitions and
certain rules of application. Paragraph (e)
of this section provides rules regarding the
treatment of a partnership in which one or
more members of an expanded affiliated
group own an interest. Paragraph (f) of this
section provides the dates of applicability
and expiration.
(b)Threshold of business activities.
The expanded affiliated group will have
substantial business activities in the rele-
vant foreign country after the acquisition
when compared to the total business activ-
ities of the expanded affiliated group only
if, subject to paragraph (c) of this section,
each of the tests described in paragraphs
(b)(1) through (b)(3) of this section is sat-
isfied.
(1)Group employees—(i)Number of
employees. The number of group employ-
ees based in the relevant foreign country is
at least 25 percent of the total number of
group employees on the applicable date.
(ii)Employee compensation.Theem-
ployee compensationincurred with respect
to group employees based in the relevant
foreign country is at least 25 percent of
the total employee compensation incurred
with respect to all group employees during
the testing period.
(2)Group assets. The value of the
group assets located inthe relevant foreign
country is at least 25 percent of the total
value of all group assets on the applicable
date.
(3)Group income. The group income
derived in the relevant foreign country is at
least 25 percent of the total group income
during the testing period.
(c)Items not to be considered.Thefol-
lowing items are not taken into account in
the numerator, but are taken into account
in the denominator, for each of the tests de-
scribed in paragraphs (b)(1) through (b)(3)
of this section:
(1) Any group assets, group employees,
or group income attributable to business
activities that are associated with proper-
ties or liabilities the transfer of which is
disregarded under section 7874(c)(4).
(2) Any group assets or group employ-
ees located in, or group income derived in,
the relevant foreign country as part of a
plan with a principal purpose of avoiding
the purposes of section 7874.
(3) Any group assets or group employ-
ees located in, or group income derived in,
the relevant foreign country if such group
assets or group employees, or the business
activities to which such group income is at-
tributable, are subsequently transferred to
another country in connection with a plan
that existed at the time of the acquisition
describedinsection7874(a)(2)(B)(i).
(d)Definitions and application of rules.
The following definitions and rules apply
for purposes of this section:
(1) The termacquisition datemeans the
date on which the acquisition described in
section 7874(a)(2)(B)(i) is completed.
(2) The termapplicable datemeans ei-
ther of the following dates, applied consis-
tently for all purposes of this section:
(i) The acquisition date; or
(ii) The last day of the month imme-
diately preceding the month in which
the acquisition described in section
7874(a)(2)(B)(i) is completed.
(3) The termemployee compensation
means all amounts incurred by members of
the expanded affiliated group that directly
relate to services performed by group em-
ployees (including, for example, wages,
salaries, deferred compensation, employee
benefits, and employer payroll taxes). Em-
ployee compensation is determined in U.S.
dollars translated, if necessary, using the
weighted average exchange rate (as de-
fined in §1.989(b)–1) for the testing pe-
riod.
(4) The termexpanded affiliated group
means the affiliated group defined in sec-
tion 7874(c)(1) determined at the close of
the acquisition date. The termmember
of the expanded affiliated groupmeans an
entity included in the expanded affiliated
group. A reference to a member of the ex-
panded affiliated group includes a prede-
cessor with respect to such member.
(5) The termgroup assetsmeans tan-
gible personal property or real property
used or held for use in the active conduct
of a trade or business by members of the
expanded affiliated group, provided such
property is owned by members of the ex-
panded affiliated group at the close of the
acquisition date. A group asset is con-
sidered to be located in the relevant for-
eign country only if the asset was physi-
cally present in such country at the close of
the acquisition date and for more time than
in any other country during the testing pe-
riod. All group assets must be valued con-
sistently and on a gross basis (that is, not
reduced by liabilities) using either the ad-
justed tax basis or fair market value deter-
mined in U.S. dollars translated, if neces-
sary, at the spot rate determined under the
principles of §1.988–1(d)(1), (2), and (4).
Tangible personal property or real property
that is rented by members of the expanded
affiliated group from a person other than
July 9, 2012432012–28 I.R.B.

a member of the expanded affiliated group
is also treated as a group asset, provided
such property is used in the active conduct
of a trade or business and is being rented by
members of the expanded affiliated group
at the close of the acquisition date. For pur-
poses of this section, a group asset that is
rented is valued at eight times the net an-
nual rent paid or accrued with respect to
the property by members of the expanded
affiliated group.
(6) The termgroup employeesmeans
employees of members of the expanded af-
filiated group. A group employee is con-
sidered to be based in the relevant foreign
country only if the employee spent more
time providing services in such country
than in any other single country during the
testing period.
(7) The termgroup incomemeans gross
income of members of the expanded affil-
iated group from transactions occurring in
the ordinary course of business with cus-
tomers that are not related persons. Group
income is translated into U.S. dollars, if
necessary, using the weighted average ex-
change rate (as defined in §1.989(b)–1)
for the testing period. Group income is
considered derived in the relevant foreign
country only if it is derived from a transac-
tion with a customer located in such coun-
try.
(8) The termnet annual rentmeans the
annual rent paid or accrued with respect
to property, less any payments received or
accrued from subleasing such property (or
other similar arrangement).
(9) The termrelated personhas the
meaning specified insection 954(d)(3),
except that section 954(d)(3) is applied
by substituting “one or more members
of the expanded affiliated group” for “a
controlled foreign corporation” and “the
controlled foreign corporation” each place
they appear.
(10) The termrelevant foreign country
means the foreign country in which, or un-
der the law of which, the foreign corpora-
tion was created or organized.
(11) The termtesting periodmeans the
one-year period ending on the applicable
date.
(e)Treatment of partnerships. For pur-
poses of this section, if one or more mem-
bers of the expanded affiliated group own,
in the aggregate, more than 50 percent (by
value) of the interests in a partnership, such
partnership will be treated as a corporation
that is a member of the expanded affiliated
group. Thus, all items of such a partner-
ship are taken into account for purposes of
this section. No items of a partnership are
taken into account for purposes of this sec-
tion unless the partnership is treated as a
member of the expanded affiliated group
pursuant to this paragraph.
(f)Effective/applicability and expira-
tion dates. Except as otherwise provided
in this paragraph, this section shall apply
to acquisitions that are completed on or af-
ter June 7, 2012. For acquisitions com-
pleted on or after June 7, 2012, that were
either described in a filing with the Se-
curities and Exchange Commission on or
before June 7, 2012, or that were subject
to a written agreement that was binding
on June 7, 2012, and at all times there-
after, taxpayers may apply either the rules
in §1.7874–2T(g), as contained in 26 CFR
part 1 revised as of April 12, 2012, or the
rules set forth in this section. The appli-
cability of this section expires on June 5,
2015.
Steven T. Miller,
Deputy Commissioner for
Services and Enforcement.
Approved June 4, 2012.
Emily S. McMahon,
Acting Assistant Secretary
oftheTreasury(TaxPolicy).
(Filed by the Office of the Federal Register on June 7, 2012,
4:15 p.m., and published in the issue of the Federal Register
for June 12, 2012, 77 F.R. 34785)
2012–28 I.R.B.44July 9, 2012

Part III. Administrative, Procedural, and Miscellaneous
Qualifi
ed Energy Conservation
Bonds
Notice
2012–44
PURPOS
E
This no
tice provides guidance concern-
ing qua
lified energy conservation bonds
under §
54D of the Internal Revenue Code
(Quali
fied Energy Conservation Bonds).
This no
tice addresses questions regarding
quali
fied conservation purposes eligible
for fi
nancing with these bonds, particu-
larly
(1) how to measure reductions of
energ
y consumption in publicly-owned
build
ings by at least 20 percent under
§54D
(f)(1)(A)(i) and (2) what consti-
tute
s a “green community program” under
§54D
(f)(1)(A)(ii).
BACK
GROUND
Sect
ion 301(a) of Title III of Division
B, th
e Energy Improvement and Extension
Act o
f 2008, Pub. L. 110–343, 122 Stat.
136
5 (2008) (the “2008 Energy Act”),
add
ed new § 54D, which contains program
pro
visions specific to Qualified Energy
Con
servation Bonds effective for obliga-
tio
ns issued after October 3, 2008.
Sec
tion 54D(a) provides that the term
Qua
lified Energy Conservation Bond
me
ans any bond issued as part of an issue
if
: (1) 100 percent of the available project
pr
oceeds of such issue are to be used for
on
e or more “qualified conservation pur-
po
ses;”(2)thebondisissuedbyaStateor
l
ocal government; and (3) the issuer des-
i
gnates such bond for purposes of § 54D.
S
ection 54D(f) defines the term “qualified
c
onservation purpose” to include, among
o
ther purposes, capital expenditures in-
c
urred for purposes of (i) reducing energy
consumption in publicly-owned buildings
by at least 20 percent, or (ii) implementing
green community programs (including the
use of loans, grants, or other repayment
mechanisms to implement such programs).
Section 54D(d) originally authorized a
national bond volume cap of $800 million
for Qualified Energy Conservation Bonds,
and § 54D(e) generally provides rules for
how this volume cap is to be allocated
among the States.
Section
1112 of Division B of the
America
n Recovery and Reinvestment
Act of 20
09, Pub. L. No. 111–5, 123
Stat. 1
15 (2009) (“ARRA”), amended
§54Din
several respects. ARRA in-
crease
d the national bond volume cap for
Qualif
ied Energy Conservation Bonds
from $
800 million to $3.2 billion. ARRA
also a
mended the provision on “green
commu
nity programs” to what is in the
statu
te today to clarify that these programs
may in
clude the use of loans, grants, or
othe
r repayment mechanisms to imple-
ment
such programs. In addition, ARRA
adde
d § 54D(e)(4), which provides gen-
eral
ly that bonds issued to provide loans,
gran
ts, or other repayment mechanisms for
cap
ital expenditures to implement green
com
munity programs are not treated as
pri
vate activity bonds for purposes of the
res
triction under § 54D(e)(3) against using
mor
e than 30 percent of the bond volume
ca
p for private activity bonds.
In N
otice 2009–29, 2009–16 I.R.B. 849
(A
pril 6, 2009), the Treasury Department
an
d the IRS allocated the national bond
vo
lume cap for Qualified Energy Con-
se
rvation Bonds to States, the District of
Co
lumbia, and possessions of the United
S
tates in proportion to population. Notice
2
009–29 also provided interim guidance
o
n certain general program requirements
u
nder § 54D.
S
ection 179D also provides tax benefits
f
or reductions in energy consumption in
g
overnment-owned buildings. Because of
t
he difference in the rules and standards for
determining the deduction for energy-effi-
cient commercial buildings under § 179D
as compared to the rules and standards for
determining whether bonds are Qualified
Energy Conservation Bonds under § 54D,
this notice, including the rules for measur-
ing the reduction of energy consumption in
publicly-owned buildings, does not apply
for purposes of § 179D. For guidance on
§ 179D, see Notice 2006–52, 2006–1 C.B.
1175, Notice 2008–40, 2008–1 C.B. 725,
and Notice 2012–26, 2012–17 I.R.B. 847.
LEGISLATIVE HISTORY
The legislative history of the 2008 En-
ergy Act includes the House of Represen-
tatives version of the 2008 Energy Act in
a bill entitled the “Renewable Energy and
Job Crea
tion Act of 2008,” H.R. 6049,
110
th
Co
ng. (2008) (H.R. 6049). The text
of the Ho
use Bill is identical, in pertinent
part, t
o the text of the statute that was en-
acted.
House of Representatives Report
No. 110
–658 accompanied H.R. 6049 and
indica
tes that the House intended the Qual-
ified
Energy Conservation Bond rules to
be int
erpreted broadly to give State and lo-
cal go
vernments wide discretion on meth-
ods to
conserve energy that may be fi-
nance
d with Qualified Energy Conserva-
tion
Bonds. The House Report states the
foll
owing reasons for enacting the Quali-
fied
Energy Conservation Bond provision:
Reasons for Change
The Committee believes that it is
important to encourage energy conser-
vation. The Committee believes that
State and local governments often are in
the best position to assess community
needs and recognizes there are a number
of approaches to energy conservation
that State and local governments may
wish to encourage. For example, the
Committee recognizes that State and
local governments may wish to encour-
age the development of combined heat
and power systems, facilities that use
thermal energy produced from renew-
able resources, smart electrical grids,
the use of solar panels, mass transit,
bicycle paths, or residential property
that reduces peak-use of energy. In
addition to these approaches, the Com-
mittee believes that State and local
governments will develop numerous
other approaches to energy conser-
vation. Furthermore, the Committee
recognizes that there is great potential
for energy conservation in urban areas
and the Committee believes that local
officials should have the flexibility to
develop their own approaches to energy
conservation. Therefore, the Com-
mittee believes that it is appropriate
to empower State and local govern-
ments by providing them with access
to subsidized financing to help promote
energy-efficient policies tailored to the
needs of local communities.
H. R. Rep. No. 110–658, at 94 (2008).
The legislative history of ARRA gives
further indication of the broad discretion
July 9, 2012452012–28 I.R.B.

Congress intended to give State and lo-
cal governments issuing Qualified Energy
Conservation Bonds. The Conference Re-
port, H. R. Rep. No. 111–16 (2009), pro-
vides:
Conference Agreement
In general
The provision expands the present-
law qualified energy conservation bond
program. . . . Also, the provision
clarifies that capital expenditures to
implement green community programs
includes grants, loans and other repay-
ment mechanisms to implement such
programs. For example, this expan-
sion will enable States to issue these
tax credit bonds to finance retrofits of
existing private buildings through loans
and/or grants to individual homeowners
or businesses, or through other repay-
ment mechanisms. Other repayment
mechanisms can include periodic fees
assessed on a government bill or util-
ity bill that approximates the energy
savings of energy efficiency or conser-
vation retrofits. Retrofits can include
heating, cooling, lighting, water-saving,
storm water-reducing, or other effi-
ciency measures.
H. R. Rep. No. 111–16, at 627 (2009).
QUESTIONS AND ANSWERS
Numerou
s questions have arisen re-
lating t
oQualifiedEnergyConserva-
tion Bo
nds, particularly how to measure
whethe
r there have been reductions of
energy
consumption in publicly-owned
buildi
ngs by at least 20 percent under
§ 54D(f
)(1)(A)(i) and what constitutes
a“gre
en community program” under
§54D(
f)(1)(A)(ii). Set forth below are
quest
ions and answers regarding certain
of the
se interpretative issues. Issuers may
rely u
pon these answers until further guid-
ance,
if any, is provided.
CAPITAL EXPENDITURES
FOR CERTAIN QUALIFIED
CONSERVATION PURPOSES
Q.–1. What are “capital expenditures”
forpurposesof§54D(f)(1)(A),which
provides in relevant part that qualified
energy conservationpurposes include,
among other purposes, capital expendi-
tures incurred for purposes of (i) reducing
energy consumption in publicly-owned
buildings by at least 20 percent, or (ii)
implementing green community programs
(including the use of loans, grants, or other
repayment mechanisms to implement such
programs)?
A–1. For purposes of the capital expen-
ditures requirement in § 54D(f)(1)(A), the
definition of a “capital expenditure” appli-
cable to State and local governments for
tax-exempt bond purposes in § 1.150–1(b)
of the Income Tax Regulations applies.
This definition provides that a “capital
expenditure” means any cost of a type
that is properly chargeable to capital ac-
count (or would be so chargeable with a
proper election or with the application of
the definition of placed in service under
§ 1.150–2(c)) under general Federal in-
come tax principles. The determination
of whether a particular expenditure is a
capital expenditure is made when the ex-
penditure is paid or incurred and future
changes in law do not affect this determi-
nation.
20% REDUCTION IN
ENERGY CONSUMPTION IN
PUBLICLY-OWNED BUILDINGS
Q–2. What does the term “pub-
licly-owned buildings” mean under
§ 54D(f)(1)(A)(i)?
A–2. The term “publicly-owned build-
ings” under § 54D(f)(1)(A)(i) means a
building or buildings that are owned by a
State or local government (as defined in
§ 1.103–1) or any instrumentality thereof
for Federal tax purposes. If the “measure-
ment unit” (as defined in Q&A 4 below)
used to measure reductions in energy con-
sumption is a unit other than a building
or buildings, such as a building system
component, the building or buildings en-
compassing the measurement unit must be
a publicly-owned building or buildings.
Q–3. What standard applies to deter-
mine that available project proceeds are
to be used to finance capital expenditures
for the purpose of reducing energy con-
sumption in publicly-owned buildings by
at least 20 percent under § 54D(f)(1)(A)(i)
(the “20 percent test”)?
A–3. In general, a reasonable expecta-
tions standard (as defined for tax-exempt
bond purposes under § 1.148–1(b)) applies
for purposes of determining reductions in
energy consumption under the 20 percent
test. In particular, an issuer may determine
that its available project proceeds are to
be used in a manner that meets the 20
percent test if, as of the issue date of the
issue of Qualified Energy Conservation
Bonds, the issuer has reasonable expec-
tations (as defined in § 1.148–1(b)) that
the capital expenditures to be financed
with the bond proceeds will result in a
20 percent or greater reduction in energy
consumption for the selected building,
buildings, or building system compo-
nent(s) comprising the measurement unit
for the selected measurement time period,
and using a common energy unit. See Q
& A 4 (regarding measurement units), Q
& A 5 (regarding measurement methods),
Q & A 6 (regarding measurement time
periods), Q & A 7 (regarding reliance on
certifications of independent experts), Q
& A 8 (regarding certain available tools
for measuring energy reductions), and Q
&A9(regardingcommonenergyunits)
below.
Q–4. What is the unit for which the
issuer measures reductions in energy con-
sumption for purposes of satisfying the 20
percent test?
A–4. For purposes of the 20 percent
test, the issuer may measure the reduc-
tion in energy consumption using one of
the following measurement units: (i) a
single publicly-owned building, (ii) multi-
ple publicly-owned buildings; (iii) one or
more building system components of one
or more publicly-owned buildings, or (iv)
a combination of (i) or (ii) and (iii) above
(the “measurement unit”), provided that
measurement unit includes the publicly-
owned building or buildings, or building
system component or components, with
respect to which the capital expenditures
financed with Qualified Energy Conser-
vation Bond proceeds are incurred. For
this purpose, a building system includes
a system that serves one of the follow-
ing functions: heating, ventilation, and air
conditioning (“HVAC”): hot water sys-
tem; lighting; building envelope (e.g.,win-
dows, roof, walls, insulation); or electric-
ity “plug load” (e.g., items plugged into
electric outlets, such as computers and re-
frigerators).
Q–5. What methods may be used to
measure energy savings attributable to
capital expenditures with respect to a
measurement unit for purposes of the 20
percent test?
2012–28 I.R.B.46July 9, 2012

A–5. A reasonable and consistently ap-
pliedmethodmustbeusedtomeasureen-
ergy savings attributable to capital expen-
ditures with respect to a measurement unit
for purposes of the 20 percent test.
Q–6. What time periods may an issuer
use to measure reductions in energy con-
sumption to meet the 20 percent test?
A–6. For purposes of the 20 percent
test, the issuer may consider actual and
expected energy consumption in the mea-
surement unit during any reasonable and
consistent time periods of not less than one
year (the measurement time periods), with
one such period ending immediately be-
fore, and one such period beginning imme-
diately after, all capital expenditures to be
financed by the Qualified Energy Conser-
vation Bond proceeds in the measurement
unit are to be incurred, using a consistent
method of measuring energy use. For ex-
ample, if the issuer selects measurement
time periods of two years, the issuer must
determine its energy consumption in the
measurement unit during the two years im-
mediately before the capital expenditures
are to be incurred and compare it to the
energy consumption in the measurement
unit during the two years immediately after
the capital expenditures are to be incurred
(energy consumption during the construc-
tion period is not considered), using the
same method for measuring energy con-
sumption, to determine if it meets the 20
percent test.
Q–7. May an issuer rely on a certifica-
tion of an independent expert to establish
its reasonable expectations to meet the 20
percent test?
A–7. Anissuermayrelyonaninde-
pendent expert to establish that it reason-
ably expects to meet the 20 percent test,
if, no earlier than 60 days before the issue
date of the issue, an independent, licensed
professional engineer or other independent
expert certifies under penalty of perjury
that the capital expenditures to be incurred
with respect to the measurement unit are
reasonably expected to result in the reduc-
tion of energy consumption by 20 percent
or greater in the measurement unit during
the measurement time period. An issuer
mayrelyonthiscertificationonlyifthe
actual capital expenditures from the bond
proceeds are substantially the same as the
expected capital expenditures of such pro-
ceeds on which the certification was based.
An example of an engineer’s certifica-
tion for this purpose is attached as Appen-
dix A to this Notice.
Q–8. What tools are available to es-
timate the energy savings attributable to
capital expenditures for purposes of estab-
lishing that the issuer had reasonable ex-
pectations as of the issue date of the issue
that the capital expenditures will result in
reduction of energy consumption in pub-
licly-owned buildings by at least 20 per-
cent?
A–8. An issuer or an independent
expert on whom an issuer relies may ob-
tain energy savings estimates through an
ASHRAE level 3 audit or through build-
ing energy use simulation techniques and
estimating software, including the DOE
(Department of Energy) 2 based Quick En-
ergy Simulation Tool (eQUEST) or other
qualified computer software for calculat-
ing commercial building energy and power
cost savings that meet federal tax incentive
requirements as listed by Department of
Energy’s Building Technology Program
at:http://apps1.eere.energy.gov/build-
ings/tools_directory/. Further, an issuer or
independent expert may rely on other tools
to estimate energy savings, using reason-
able and consistently applied methods.
An issuer is not required to subse-
quently measure the energy savings, but
is encouraged to employ energy man-
agement and monitoring practices, such
as use of the ENERGY STAR Portfo-
lio Manager software to establish energy
baselines and track whole building en-
ergy performance.See http://www.ener-
gystar.gov/index.cfm?c=evaluate_perfor-
mance.bus_portfoliomanager.
Q–9. How does the issuer determine
the reduction of energy consumed in the
chosen measurement unit if more than one
energy source affects the measurement
unit and the energy reduction is computed
with respect to different types of energy
sources, such as electricity and natural
gas?
A–9. If more than one energy source
affects the measurement unit and thus is
taken into account in computing the reduc-
tion in energy consumption, the amount of
the consumed energy from each source be-
fore and after incurring the capital expen-
ditures must be converted into a common
energy unit such as, for example, a MMBtu
(one million British thermal Units). In this
circumstance, for purposes of the 20 per-
cent test, the percentage reduction in en-
ergy consumption is based on the percent-
age reduction for the aggregate of the en-
ergy sources, using the common energy
unit.
GREEN COMMUNITY PROGRAM
Q–10. What is a “green community
program” under § 54D(f)(1)(A)(ii) for
which capital expenditures may be in-
curred as one of the qualified conservation
purposes eligible for financing with Qual-
ified Energy Conservation Bonds?
A–10. In general, the term “green com-
munity program” means a program that
meets the following two requirements:
(1)Program Purpose. The purpose
of a green community program is to pro-
mote one or more of the purposes of
energy conservation, energy efficiency,
or environmental conservation initiatives
relating to energy consumption, broadly
construed. Eligible program purposes in-
clude, among others, promotion of energy
savings through retrofitting initiatives for
heating, cooling, lighting, water-saving,
storm-water reducing, or other efficiency
measures; distributed generation initia-
tives; or transportation initiatives that
conserve energy and/or support alternative
fuel infrastructure (which may include, for
example, improvements to public bicycle
paths or mass transit systems).
(2)General Public Use or Broad Public
Availability. A green community program
must: (i) involve property that is avail-
able for general public use (using stan-
dards similar to standards for distinguish-
ing general public use from private busi-
ness use under § 1.141–3(c)); or (ii) in-
volve a loan (or other repayment mech-
anism) or grant program that is broadly
available to members of the general pub-
lic, including individuals or businesses. A
green community program need not af-
fect the entire geographical area or all the
residents and businesses within the juris-
diction of the State or local governmen-
tal unit that implements the program, pro-
vided that the program broadly benefits
the general public, residents, or businesses
in the affected area of the State or local
governmental unit. Examples of programs
that are available for general public use in-
clude programs to make improvements to
public infrastructure that enhances prox-
imity and connectivity between commu-
July 9, 2012472012–28 I.R.B.

nity assets and public transit in order to
reduce motor vehicle use and promote en-
ergy conservation. An example of a loan
or grant program that is broadly available
to the general public would be a program
for residential housing or private building
energy efficiency initiatives that provides
grants or loans that are broadly available
for homeowners or businesses.
Q–11. What is an example of a green
community program?
A–11. The following example illus-
trates the implementation of a green com-
munity program withproceeds of Quali-
fied Energy Conservation Bonds. City, a
large local government, plans a program to
finance capital expenditures to replace ex-
isting public street lights located through-
out the City with more energy-efficient
lights within a 3-year period. City rec-
ognizes the program as a green commu-
nity program and designates the bonds to
finance the program as Qualified Energy
Conservation Bonds under § 54D(a)(3).
Specifically, City plans to use the bond
proceeds to replace existing high-pressure
luminaries with light emitting diode lumi-
naries that consume substantially less elec-
tricity. City’s independent experts esti-
mate that the new streetlights will have a
useful life of approximately 15 years. As
of the issue date of the bonds, City expects
that the program will result in substantial
energy savings. City’s program qualifies
as a green community program that meets
§ 54D(f)(1)(A)(ii) for the following rea-
sons:
1. The program furthers a qualified
conservation purpose because it promotes
energy conservation. The program calls
for the replacement of existing street lights
with more efficient street lights.
2. The program involves public street-
lights that are available for general public
use.
3. The proceeds of the bond will be
used for capital expenditures within the
meaning of § 1.150–1(b) to replace the
street lights.
FURTHER INFORMATION
For further information regarding this
notice, contact Zoran Stojanovic at (202)
622–3980 (not a toll-free call).
2012–28 I.R.B.48July 9, 2012

APPENDIX A
Qualified Energy Conservation Bonds Statement of Expected Savings and Signatures
Qualified Professional Engineer certifying reasonable expectation of 20% or greater savings using based on an ASHRAE
Level 3 audit or through use of DOE-approved software tool.
Name:
Address:
Phone:
I certify that the expected percentage of energy savings from the capital expenditures financed with Qualified Energy Conservation
Bonds for the measurement unit and measurementtime specified by the issuer is at least 20 percent.
Address of the building(s) (and description of component(s), if applicable) to which the certification applies:
Qualified Professional Engineer must initial and complete one or more of the following statements:
(1) I conducted an ASHRAE level 3 energy audit to estimate theexpected savings from planned improvements that will be
financed through the qualified energy conservation bond.
(2) I used a qualified computer software for calculating commercial building energy and power cost savings that meet
federal tax incentive requirements as listed by Department of Energy’s Building Technology Program to estimate the expected
savings from planned improvements that will be financed through the qualified energy conservation bond. The name and
version of the software is:
Penalty of perjury statement to be signed by the Qualified Professional Engineer that performs field inspections and
generates certification form using qualified computer software.
Under penalties of perjury, I declare that I have examined this certification, including supporting documents, and to the best of my
knowledge and belief, the facts presented in support of this certification are true, correct, and complete.
Professional Engineer License # and State:
Signature of Professional Engineer:
Date Signed:
26 CFR 1.83–2: Election to include in gross income
in year of transfer.
Rev. Proc. 2012–29
S
ECTION 1. PURPOSE
This revenue procedure contains sam-
ple language that may be used (but is not
required to be used) for making an elec-
tion under § 83(b) of the Internal Revenue
Code. Additionally, this revenue proce-
dure provides examples of the income tax
consequences of making such an election.
SECTION 2. BACKGROUND
.01 Section 83(a) provides generally
that if, in connection with the performance
of services, property is transferred to any
person other than the person for whom
such services are performed, the excess
of the fair market value of the property
(determined without regard to any restric-
tion other than a restriction which by its
terms will never lapse) as of the first time
that the transferee’s rights in the property
are transferable or are not subject to a
substantial risk of forfeiture, whichever
occurs earlier, over the amount (if any)
paid for the property is included in the
service provider’s gross income for the
taxable year which includes such time.
.02 Under § 1.83–3(f) of the Income
Tax Regulations, property is transferred
in connection with the performance of
services if it is transferred to an employee
or independent contractor (or beneficiary
thereof) in recognition of the performance
of services, or refraining from perfor-
mance of services. The existence of other
personsentitledtobuystockonthesame
terms and conditions as an employee,
whether pursuant to a public or private of-
fering may, however, indicate that in such
circumstance a transfer to the employee
is not in recognition of the performance
of, or refraining from performance of, ser-
vices. The transfer of property is subject
to § 83 whether such transfer is in respect
of past, present, or future services.
.03 Section 83(b) and § 1.83–2(a) per-
mit the service provider to elect to include
in gross income the excess (if any) of the
fair market value of the property at the time
of transfer over the amount (if any) paid for
the property, as compensation for services.
.04 Under § 83(e)(3) and § 1.83–7(b),
§ 83 does not apply to the transfer of an
option without a readily ascertainable fair
market value at the time the option is
granted. As a result, a § 83(b) election
may only be made with respect to the
transfer of an option that has a readily
ascertainable fair market value (as defined
in § 1.83–7(b)), at the time the option is
granted and that is substantially nonvested
July 9, 2012492012–28 I.R.B.

(as defined in § 1.83–3(b)). If substan-
tially nonvested property is received upon
exercise of an option without a readily
ascertainable fair market value at grant,
a service provider is permitted to make a
§ 83(b) election with respect to the transfer
of such property upon the exercise of the
option.
.05 Under § 83(b)(2), an election made
under § 83(b) must be made in accordance
with the regulations thereunder and must
be filed with the Internal Revenue Service
no later than 30 days after the date that
the property is transferred to the service
provider. In accordance with § 7503, if
the thirtieth day following the transfer of
property falls on a Saturday, Sunday or le-
gal holiday, the election will be considered
timely filed if it is postmarked by the next
business day.
.06 Under § 1.83–2(c), an election un-
der § 83(b) is made by filing a copy of
a written statement with the Internal Rev-
enue Service office with which the per-
son who performed the service files his
return. In addition, the person who per-
formed the services is required to submit
a copy of such statement with his or her
income tax return for the taxable year in
which such property was transferred. Sec-
tion 1.83–2(d) requires that the person who
performed the services also submit a copy
of the § 83(b) election to the person for
whom the services were performed.
.07 Under § 1.83–2(e), the statement
must be signed by the person making the
election and must indicate the election is
being made under § 83(b). The state-
ment must include the following informa-
tion: the name, address and taxpayer iden-
tification number of the taxpayer; a de-
scription of each property with respect to
which the election is being made; the date
or dates on which the property was trans-
ferred and the taxable year for which such
election is being made; the nature of the re-
striction or restrictions to which the prop-
erty is subject; the fair market value at the
time of transfer (determined without re-
gard to any lapse restrictions, as defined
in § 1.83–3(i)) of eachproperty with re-
spect to which the election is being made;
the amount, if any, paid for such property;
and a statement to the effect that copies
have been furnished to other persons as
provided in § 1.83–2(d).
.08 Under § 1.83–2(f), an election un-
der § 83(b) may not be revoked except
with the consent of the Commissioner. The
regulations also provide that such consent
will only be granted where the person fil-
ing the election is under a mistake of fact
as to the underlying transaction and must
berequestedwithin60daysofthedate
on which the mistake of fact first became
known to the person who made the elec-
tion. Neither a mistake as to the value (or
decline in the value) of the property for
which the election was made nor the fail-
ure of anyone to perform an act that was
contemplated at the time of transfer of the
property constitutes a mistake of fact for
this purpose. See Rev. Proc. 2006–31,
2006–2 C.B. 32, for additional guidance
with respect to revoking an election under
§ 83(b).
SECTION 3. SCOPE
This revenue procedure applies to
taxpayers who receive substantially non-
vested property in connection with the
performance of services and wish to file
an election under § 83(b).
SECTION 4. CONSEQUENCES OF
ELECTIONS UNDER § 83(b)
.01 Under § 1.83–2(a), if property is
transferred in connection with the perfor-
mance of services, the person performing
such services may elect to include in gross
income under § 83(b) the excess (if any)
of the fair market value of the property at
the time of transfer (determined without
regard to any lapse restriction, as defined
in § 1.83–3(i)) over the amount (if any)
paid for such property, as compensation for
services. If this election is made, the sub-
stantial vesting rules of § 83(a) and the reg-
ulations thereunder do not apply with re-
spect to such property, and except as oth-
erwise provided in § 83(d)(2) and the reg-
ulations thereunder (relating to the cancel-
lation of a nonlapse restriction), any subse-
quent appreciation in the value of the prop-
erty is not taxable as compensation to the
person who performed the services. Thus,
the value of property with respect to which
this election is made is included in gross
income as of the time of transfer, even
though such property is substantially non-
vested (as defined in § 1.83–3(b)) at the
time of transfer, and no compensation will
be includible in gross income when such
property becomes substantially vested.
.02 In computing the gain or loss from
a subsequent sale or exchange of prop-
erty for which a § 83(b)election was filed,
§ 1.83–2(a) provides that the basis of such
property shall be the amount paid for the
property (if any) increased by the amount
included in gross income under § 83(b).
.03 If property for which a § 83(b) elec-
tion was filed is forfeited while substan-
tially nonvested, § 83(b)(1) provides that
no deduction shall be allowed with respect
to such forfeiture. Section 1.83–2(a) fur-
ther provides that suchforfeiture shall be
treated as a sale or exchange upon which
there is realized a loss equal to the excess
(if any) of (1) the amount paid (if any) for
such property, over (2) the amount realized
(if any) upon such forfeiture. If such prop-
erty is a capital asset in the hands of the
taxpayer, such loss shall be a capital loss.
SECTION 5. EXAMPLES
The following examples illustrate the
tax results that may occur depending on
whether or not a § 83(b) election is made
following the transfer of substantially non-
vested stock in connection with the per-
formance of services. The tax results in
the examples do not depend on whether or
not the stock transferred to the employee is
traded on an established securities market.
Example 1. Company A is a privately held corpo-
ration and no stock in Company A is traded on an es-
tablished securities market. On April 1, 2012, in con-
nection with the performance of services, Company A
transfers to E, its employee, 25,000 shares of substan-
tially nonvested stock in Company A. In exchange
for the stock, E pays Company A $25,000, represent-
ing the fair market value of the shares at the time of
the transfer. The restricted stock agreement provides
that if E ceases to provide services to Company A
as an employee prior to April 1, 2014, Company A
will repurchase the stock from E for the lesser of the
then current fair market value or the original purchase
price of $25,000. E’s ownership of the 25,000 shares
of stock will not be treated as substantially vested
until April 1, 2014 and will only be treated as sub-
stantially vested if E continues to provide services
to Company A as an employee until April 1, 2014.
On April 1, 2012, E makes a valid election under
§ 83(b) with respect to the 25,000 shares of Company
A stock. Because the excess of the fair market value
of the property ($25,000) over the amount E paid for
the property ($25,000) is $0, E includes $0 in gross in-
come for 2012 as a result of the stock transfer and re-
lated § 83(b) election. The 25,000 shares of stock be-
come substantially vested on April 1, 2014 when the
fair market value of the shares is $40,000. No com-
pensation is includible in E’s gross income when the
shares become substantially vested on April 1, 2014.
In 2015, E sells the stock for $60,000. As a result
2012–28 I.R.B.50July 9, 2012

of the sale, E realizes $35,000 ($60,000 sale price -
$25,000 basis) of gain, which is a capital gain.
Example 2.ThefactsarethesameasinExam-
ple 1above, except that E does not make an election
under § 83(b). Under § 83(a), E includes $0 in gross
income in 2012 as a result of the transfer of stock from
Company A because the stock is not substantially
vested. When the shares become substantially vested
on April 1, 2014, E includes $15,000 ($40,000 fair
market value less $25,000 purchase price) of com-
pensation in gross income. E’s basis in the stock as of
April 1, 2014 is $40,000 ($25,000 paid for the stock
and $15,000 included in income under § 83(a)). As
a result of the 2015 sale of the stock for $60,000, E
realizes $20,000 ($60,000 sale price - $40,000 basis)
of gain, which is a capital gain.
Example 3.ThefactsarethesameasinExample
1above, except that E terminates employment with
Company A on August 1, 2013 before the shares be-
come substantially vested. Because the excess of the
fair market value of the property ($25,000) over the
amount E paid for the property ($25,000) is $0, E in-
cludes $0 in gross income for 2012 as a result of the
stock transfer and related § 83(b) election. When E
terminates employment on August 1, 2013, the fair
market value of the stock is $30,000 but Company
A purchases the stock from E for $25,000 pursuant
to the terms of the restricted stock agreement. As a
result of the 2013 sale of the stock for $25,000, E re-
alizes $0 in gain ($25,000 sale price - $25,000 basis).
Example 4.Company B is a publicly held corpo-
rationandCompanyBstockistradedonanestab-
lished securities market. On April 1, 2012, in con-
nection with the performance of services, Company B
transfers to F, its employee, 25,000 shares of substan-
tially nonvested stock in Company B. At the time of
the transfer, the shares have an aggregate fair market
value of $25,000. F is not required to pay Company
B any consideration in exchange for the stock. The
restricted stock agreement provides that if F ceases
to provide services to Company B as an employee
prior to April 1, 2014, F will forfeit the stock back
to Company B. F’s ownership of the 25,000 shares
of stock will not be treated as substantially vested
until April 1, 2014 and will only be treated as sub-
stantially vested if F continues to provide services
to Company B as an employee until April 1, 2014.
On April 1, 2012, F makes a valid election under
§ 83(b) with respect to the 25,000 shares of Company
B stock. Because the excess of the fair market value
of the property ($25,000) over the amount F paid for
the property ($0) is $25,000, F includes $25,000 of
compensation in gross income for 2012 as a result of
the stock transfer and related § 83(b) election. The
25,000 shares of stock become substantially vested on
April 1, 2014 when the fair market value of the shares
is $40,000. No compensation is includible in F’s
gross income when the shares become substantially
vested on April 1, 2014. In 2015, F sells the stock for
$60,000. As a result of the sale, F realizes $35,000
($60,000 sale price - $25,000 basis) in gain, which is
a capital gain.
Example 5.The facts are the same as inExample
4above, except that F does not make an election un-
der § 83(b). Under § 83(a), F includes $0 in gross
income in 2012 as a result of the transfer of stock
from Company B because the stock is not substan-
tially vested. When the shares become substantially
vested on April 1, 2014, F includes $40,000 ($40,000
fair market value less $0 purchase price) of compen-
sation in gross income. F’s basis in the stock as of
April 1, 2014 is $40,000 ($0 paid for the stock and
$40,000 included in income under § 83(a)). As a re-
sult of the 2015 sale of the stock for $60,000, F real-
izes $20,000 ($60,000 sale price - $40,000 basis) of
gain, which is a capital gain.
Example 6.The facts are the same as inExample
4above, except that F terminates employment with
Company B on August 1, 2013 and forfeits the shares
before the shares become substantially vested. Be-
cause the excess of the fair market value of the prop-
erty ($25,000) over the amount F paid for the property
($0) is $25,000, F includes $25,000 of compensation
in gross income for 2012 as a result of the stock trans-
fer and related § 83(b) election. In the year F termi-
nates employment, F forfeits the 25,000 shares back
to Company B and such forfeiture is treated as a sale
of the shares in exchange for no consideration. Pur-
suant to § 1.83–2(a), F realizes no loss as the result of
such sale. F is not entitled to a deduction or credit for
taxes paid as the result of filing the § 83(b) election
or the subsequent forfeiture of the property.
SECTION 6. SAMPLE ELECTION
.01 The sample election in this section,
if properly completed and executed by an
individual taxpayer, would satisfy the re-
quirements of § 1.83–2 regarding the re-
quired content of a § 83(b) election with
respect to shares of common stock subject
to a substantial risk of forfeiture. For the
election to be valid, the service provider
must in addition satisfy all other applicable
requirements, including the requirements
discussed above relating to the time for fil-
ing the election, filing the election with the
Internal Revenue Service, attaching a copy
of the election to the tax return, and pro-
viding a copy to the service recipient. An
election under § 83(b) must contain all the
information required by § 1.83–2(e), but
need not use the exact format or language
of the sample election set forth below. In
the sample election below, bracketed items
and blanks should be replaced with the ap-
plicable information for the taxpayer. An
election with respect toproperty other than
common stock should include an appropri-
ate description of the property in item 2
and modifications to items 5 and 6 as nec-
essary.
.02 The text of the sample election fol-
lows.
July 9, 2012512012–28 I.R.B.

Section 83(b) Election
The undersigned taxpayer hereby elects, pursuant to § 83(b) of the Internal Revenue Code of 1986, as amended, to include in
gross income as compensation for services the excess (if any)of the fair market value of the shares described below over
the amount paid for those shares.
1. The name, taxpayer identification number, address of the undersigned, and the taxable year for which this election
is being made are:
TAXPAYER’S NAME:
TAXPAYER’S SOCIAL SECURITY NUMBER:
ADDRESS:
TAXABLE YEAR:
Calendar Year 20
2. The property w
hich is the subject of this election is
shares of common stock of.
3. Thepropertyw
as transferred to the undersigned on[DATE].
4.
The property is subject to the following restrictions:[Describe applicable restrictions here.]
5. The fair market value of the property at the time of transfer(determinedwithoutregardtoanyrestrictionotherthana
nonlapse restriction as defined in § 1.83–3(h) of the Income Tax Regulations) is: $
per sharex
shares = $.
6.
For the property transferred, the undersigned paid $
per sharexshares = $.
7.
The amount to
include in gross income is $
.[The result of the amount reported in Item 5 minus the amount
reported in I
tem 6.]
The undersig
ned taxpayer will file this election with the Internal Revenue Service office with which taxpayer files his or her annual
income tax re
turn not later than 30 days after the date of transfer of theproperty. A copy of the election also will be furnished to
the person f
or whom the services were performed. Additionally, the undersigned will include a copy of the election with his or
her income t
ax return for the taxable year in which the property is transferred. The undersigned is the person performing the
services in
connection with which the property was transferred.
Dated:
Taxpayer
SECTION 7: PAPERWORK
REDUCTION ACT
.01 The collection of information con-
tained in this revenue procedure has been
reviewed and approved by the Office
of Management and Budget in accor-
dance with the Paperwork Reduction Act
(44 U.S.C. 3507) under control number
1545–2018. An agency may not conduct
or sponsor, and a person is not required to
respond to, a collection of information un-
less the collection of information displays
a valid OMB control number.
.02 The collection of information in this
revenue procedure is in Section 6. The
use of the sample election language pro-
vided under Section 6 is voluntary, how-
ever, this information is required in order
for a taxpayer to make a valid election un-
der § 83(b) of the Code. This information
on the § 83(b) elections filed by the taxpay-
ers with the IRS will be used by the IRS
for matching with the income tax returns
filed by the taxpayers. The likely respon-
dents are individuals and business or other
for-profit institutions.
.03 The estimated total annual report-
ing and/or recordkeeping burden is 33,000
hours.
.04 The estimated annual burden per re-
spondent/recordkeeper varies from 10 to
30 minutes, depending on individual cir-
cumstances, with an estimated average of
20 minutes.
.05 The estimated number of respon-
dents and/or recordkeepers is 100,000.
.06 The estimated frequency of re-
sponses (used for reporting requirements
only) is on occasion.
.07 Books or records relating to a col-
lection of information must be retained as
long as their contents may become mate-
rial in the administration of any internal
revenue law. Generally, tax returns and tax
return information are confidential, as re-
quired by 26 U.S.C. 6103.
SECTION 8. EFFECTIVE DATE
This revenue procedure is effective
June 25, 2012.
SECTION 9. DRAFTING
INFORMATION
The principal author of this revenue
procedure is Michael Hughes of the
Office of Associate Chief Counsel (Tax
Exempt & Government Entities). For
further information regarding this revenue
procedure contact Thomas Scholz or
Michael Hughes at (202) 622–6030 (not a
toll-free call).
2012–28 I.R.B.52July 9, 2012

Part IV. Items o
fGeneralInterest
Notice of Prop
osed
Rulemaking by
Cross-Refere
nce to
Temporary Re
gulations
Substantial
Business Activities
REG–107889–12
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemaking
by cross-reference to temporary regula-
tions.
SUMMARY: In this issue of the Bulletin,
the IRS and the Treasury Department are
issuing temporary regulations (T.D. 9592)
regarding whether a foreign corporation
has substantial business activities in a
foreign country. These regulations affect
certain domestic corporations and partner-
ships (and certain parties related thereto),
and foreign corporations that acquire sub-
stantially all of the properties of such
domestic corporations or partnerships.
The text of the temporary regulations also
serves as the text of these proposed reg-
ulations. The preamble to the temporary
regulations explains the temporary regula-
tions and these proposed regulations.
DATES: Written or electronic comments
and requests for a public hearing must be
received by September 10, 2012.
ADDRESSES: Send submissions to:
CC:PA:LPD:PR (REG–107889–12), room
5203, Internal Revenue Service, PO Box
7604, Ben Franklin Station, Washing-
ton, 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–107889–12),
Courier’s Desk, Internal Revenue
Service, 1111 Constitution Avenue NW,
Washington, DC, or sent electronically
via the Federal eRulemaking Portal
atwww.regulations.gov(IRS and
REG–107889–12).
FOR FURTHER INFORMATION
CONTACT: Concerning the proposed
regulations,
Mary W. Lyons, (202)
622–3860 and D
avid A. Levine, (202)
622–3860; con
cerning submissions of
comments or re
quests for a public hearing,
Oluwafunmila
yo (Funmi) Taylor, (202)
622–7180 (no
t toll-free numbers).
SUPPLEMENTARY INFORMATION:
Background and Explanation of
Provisions
Temporary regu
lations in this issue of
the Bulletin am
end the Income Tax Regu-
lations (26 CFR
part 1) relating to section
7874 of the Cod
e. The temporary regula-
tions provide
guidance regarding whether
a foreign corp
oration has substantial busi-
ness activiti
es in a foreign country for pur-
poses of wheth
er a foreign corporation is
treated as a s
urrogate foreign corporation
under sectio
n 7874(a)(2)(B). The text of
those regula
tions also serves as the text of
these propos
ed regulations. The preamble
to the tempo
rary regulations explains these
amendments
.
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 as-
sessment is not required. It has also been
determined that 5 U.S.C. 553(b) does not
apply to these regulations. These regula-
tions do not impose a collection of infor-
mation. Pursuant to the Regulatory Flexi-
bility Act (5 U.S.C. chapter 6), it is hereby
certified that this regulation will not have a
significant economic impact on a substan-
tial number of small entities. The com-
plexity and cost of a transaction to which
section 7874 may apply make it unlikely
that a substantial number of small entities
will engage in such a transaction. In ad-
dition, any economic impact to entities af-
fected by section 7874, large or small, is
derived from the operation of the statute or
its intended application, and not from the
temporary regulations. Pursuant to section
7805(f) of the Code, these regulations have
been submitted to the Chief Counsel for
Advocacy of the Small Business Adminis-
tration for comment on its impact on small
business.
Comments and R
equests for a Public
Hearing
Before these p
roposed regulations are
adopted as fin
al regulations, consideration
will be given t
o any written comments
(a signed orig
inal and eight (8) copies)
or electroni
c comments that are submitted
timely to the
IRS. The IRS and the Trea-
sury Departm
ent specifically request com-
ments on the c
larity of the proposed rules
and how they
can be made easier to un-
derstand. A
ll comments will be available
for public i
nspection and copying. A pub-
lic hearing
will be scheduled if requested
in writing
by any person who timely sub-
mits writt
en comments. If a public hearing
is schedul
ed, notice of the date, time, and
place for t
he public hearing will be pub-
lished in t
heFederal Register.
Drafting
Information
The princi
pal authors of these pro-
posed reg
ulations are Mary W. Lyons and
David A. L
evine of the Office of Associate
Chief Cou
nsel (International). However,
other per
sonnel from the IRS and the
Treasur
y Department participated in their
develop
ment.
*****
Proposed Amendments to the
Regulations
Accordingly, 26 CFR part 1 is proposed
to be amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 continues to read in part as follows:
Authority: 26 U.S.C. 7805* * *
Section 1.7874–3 is also issued under
26 U.S.C. 7874(c)(6) and (g).* * *
Par. 2. Section 1.7874–3 is added to
read as follows:
§1.7874–3 Substantial Business Activities.
[The text of proposed §1.7874–3 is the
same as the text of §1.7874–3T published
elsewhere in this issue of the Bulletin].
Steven T. Miller,
Deputy Commissioner for
Services and Enforcement.
July 9, 2012532012–28 I.R.B.

(Filed by the Office of the Federal Register on June 7, 2012,
4:15 p.m., and published in the issue of the Federal Register
for June 12, 2012, 77 F.R. 34887)
Notice of Proposed
Rulemaking by
Cross-Reference to
Temporary Regulations
and Notice of Public Hearing
Portability of a Deceased
Spousal Unused Exclusion
Amount
REG–141832–11
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemaking
by cross-reference to temporary regula-
tions and notice of public hearing.
SUMMARY: In this issue of the Bulletin,
the IRS is issuing temporary regulations
(T.D. 9593) that provide guidance on the
estate and gift tax applicable exclusion
amount, in general, as well as on the appli-
cable requirements for electing portability
of a deceased spousal unused exclusion
(DSUE) amount to the surviving spouse
and on the applicable rules for the surviv-
ing spouse’s use of this DSUE amount.
The text of the temporary regulations also
serves as the text of the proposed regula-
tions set forth in this notice of proposed
rulemaking. This document also provides
a notice of public hearing on these pro-
posed regulations.
DATES: Written or electronic comments
must be received by September 17, 2012.
Outlines of topics to be discussed at the
public hearing scheduled for October 18,
2012, at 10 a.m., must be received by
September 27, 2012.
ADDRESSES: Send submissions to
CC:PA:LPD:PR(REG–141832–11),
Room 5205, Internal Revenue Service,
PO Box 7604, Ben Franklin Station,
Washington, DC 20044. Submissions may
be hand-delivered Monday through Friday
between the hours of 8 a.m. and 4 p.m.
to CC:PA:LPD:PR (REG–141832–11),
Courier’s Desk, Internal Revenue
Service, 1111 Constitution Avenue, N.W.,
Washington, DC; or sent electronically
viatheFederaleRulemaking
Portal athttp://www.regulations.gov
(IRS-REG–141832–11).The public
hearing will be held in the IRS Auditorium,
Internal Revenue Building, 1111
Constitution Avenue, N.W., Washington,
DC.
FOR FURTHER INFORMATION
CONTACT: Concerning the proposed
regulations, Karlene Lesho at (202)
622–3090; concerning the submission of
comments, the hearing, or to be placed
on the building access list to attend the
hearing, Oluwafunmilayo Taylor at (202)
622–7180 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information con-
tained in this notice of proposed rule-
making has been approved by the Of-
fice of Management and Budget, in
accordance with the Paperwork Reduc-
tion Act of 1995 (44 U.S.C. 3507(d)),
under Form 706, “United States Estate
(and Generation-Skipping Transfer) Tax
Return,” and assigned control number
1545–0015.
Comments on the collection of infor-
mation should be sent to the Office of
Management and Budget, Attn: Desk
Officer for the Department of the Trea-
sury, Office of Information and Regu-
latory Affairs, Washington, DC 20503,
with copies to the Internal Revenue Ser-
vice, Attn: IRS Reports Clearance Offi-
cer, SE:W:CAR:MP:T:M:S, Washington,
DC 20224. Comments on the collec-
tion of information should be received
by August 17, 2012. Comments are
specifically requested concerning:
Whether the proposed collection of in-
formation is necessary for the proper per-
formance of the functions of the IRS, in-
cluding whether the information will have
practical utility;
The accuracy of the estimated burden
associated with the proposed collection of
information;
How the quality, utility, and clarity of
the information to be collected may be en-
hanced;
How the burden of complying with the
proposed collections of information may
be minimized, including through the appli-
cation of automated collection techniques
or other forms of information technology;
and
Estimates of capital or start-up costs of
operation, maintenance, and purchase of
service to provide information.
The collection of informa-
tion in this proposed regulation
is in proposed §§20.2010–2(a),
20.2010–2(a)(1),20.2010–2(a)(3)(i),
20.2010–2(a)(7)(ii)(B), and 20.2010–2(b).
The information in §§20.2010–2(a),
20.2010–2(a)(1), and 20.2010–2(b) as
it affects estates not otherwise required
to file an estate tax return under section
6018(a) is necessary in order for an
executor of a decedent’s estate to elect
portability of a DSUE amount to the
surviving spouse. The information in
§20.2010–2(a)(3)(i) is necessary in order
for an executor of a decedent’s estate
to signify that the estate is not electing
portability of a DSUE amount to the
surviving spouse. The information in
§20.2010–2(a)(7)(ii)(B) is necessary
in order to evaluate whether an estate
qualifies for a special rule relating to
applicable estate tax return requirements.
The collection of information is voluntary
to obtain a benefit. The likely respondents
are executors of estates of decedents
having a date of death in 2011 or 2012 or
any subsequent period in which portability
of a DSUE amount is in effect.
An agency may not conduct or sponsor,
and a person is not required to respond
to, a collection of information unless the
collection of information displays a valid
control number assigned by the Office of
Management and Budget.
Books or records relating to a collection
of information must be retained as long
as their contents may become material in
the administration of any internal revenue
law. Generally, tax returns and tax return
information are confidential, as required
by 26 U.S.C. 6103.
Background
The temporary regulations in this issue
of the Bulletin make additions to the Es-
tate Tax Regulations (26 CFR part 20) un-
der sections 2001 and 2010 of the Inter-
nal Revenue Code (Code) and Gift Tax
Regulations (26 CFR part 25) under sec-
tion 2505 of the Code. The temporary
2012–28 I.R.B.54July 9, 2012

regulations provide guidance on the estate
and gift tax applicable credit amount un-
der sections 2010 and 2505 of the Code.
In addition, the temporary regulations pro-
vide guidance on the portability of a de-
ceased spousal unused exclusion (DSUE)
amount under section 2010(c) of the Code,
including the applicable requirements for
electing portability of a DSUE amount to
the surviving spouse, for computing the
deceased spouse’s DSUE amount, and for
the surviving spouse’s use of the DSUE
amount. The text of those regulations also
serves as the text of these regulations. The
preamble to the temporary regulations ex-
plains the temporary regulations and these
proposed regulations.
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 as-
sessment is not required. It also has been
determined that section 553(b) of the Ad-
ministrative Procedure Act (5 U.S.C. chap-
ter 5) does not apply to the regulations, and
because the regulations do not impose a
collection of information on small entities,
the requirements of the Regulatory Flexi-
bility Act (5 U.S.C. chapter 6) do not ap-
ply. Accordingly, a regulatory flexibility
analysis is not required. Pursuant to sec-
tion 7805(f) of the Code, the regulations
have been submitted to the Chief Counsel
for Advocacy of the Small Business Ad-
ministration for comment on their 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 as prescribed in this pre-
amble under theADDRESSESheading.
The IRS and the Treasury Department re-
quest comments on all aspects of the pro-
posed rules. All comments will be avail-
able atwww.regulations.govor for public
inspection and copying.
A public hearing has been scheduled
for October 18, 2012, in the IRS audi-
torium, Internal Revenue Building, 1111
Constitution Avenue, N.W., Washington,
DC. Due to building security procedures,
visitors must enter at the Constitution Av-
enue entrance. In addition, all visitors
must present photo identification to enter
the building. Because of access restric-
tions, visitors will not be admitted beyond
the immediate entrance more than 30 min-
utes before the hearing starts. For infor-
mation about having your name placed on
the building access list to attend the hear-
ing, see theFOR FURTHER INFOR-
MATION CONTACTsection of this pre-
amble.
The rules of 26 CFR 601.601(a)(3) ap-
ply to the hearing. Persons who wish to
present oral comments at the hearing must
submit electronic or written comments (a
signed original and eight (8) copies) and
an outline of the topics to be discussed
and the time to be devoted to each topic
by September 27, 2012. A period of 10
minutes will be allotted to each person for
making comments. An agenda showing
the scheduling of the speakers will be pre-
pared after the deadline for receiving out-
lines has passed. Copies of the agenda will
be available free of charge at the hearing.
Draftin
g Information
The principal author of these regula-
tions is Karlene Lesho, Office of the As-
sociate Chief Counsel (Passthroughs and
Special Industries). Other personnel from
the IRS and the Treasury Department par-
ticipated in their development.
*****
Proposed Amendments to the
Regulations
Accordingly, 26 CFR parts 20 and 25
are proposed to be amended as follows:
PART 20—ESTATE TAX; ESTATE
OF DECEDENTS DYING AFTER
AUGUST 16, 1954
Paragraph 1. The authority citation for
part 20 is amended by adding entries in
numerical order to read as follows:
Authority: 26 U.S.C. 7805. * * *
Section 20.2010–0 also issued under
26 U.S.C. 2010(c)(6).
Section 20.2010–1 also issued under
26 U.S.C. 2010(c)(6).
Section 20.2010–2 also issued under
26 U.S.C. 2010(c)(6).
Section 20.2010–3 also issued under
26 U.S.C. 2010(c)(6). * * *
Par. 2. Section 20.2001–2 is added to
read as follows:
§20.2001–2 Valuation of adjusted taxable
gifts for purposes of determining the
deceased spousal unused exclusion
amount of last deceased spouse.
[The text of the proposed amendments
to §20.2001–2(a) and (b) is the same as the
text of §20.2001–2T(a) and (b) published
elsewhere in this issue of the Bulletin].
Par. 3. Section 20.2010–0 is added to
read as follows:
§20.2010–0 Table of contents.
[The entries in the table of contents for
the proposed amendments to §20.2010–0
are the same as the entries in the table of
contents for §20.2010–0T published else-
whereinthisissueoftheBulletin].
Par. 4. Section 20.2010–1 is added to
read as follows:
§20.2010–1 Unified credit against estate
tax; in general.
[The text of the proposed amendments
to §20.2010–1(a) through (e) is the same
as the text of §20.2010–1T(a) through (e)
published elsewhere in this issue of the
Bulletin].
Par. 5. Section 20.2010–2 is added to
read as follows:
§20.2010–2 Portability provisions
applicable to estate of a decedent survived
by a spouse.
[The text of the proposed amendments
to §20.2010–2(a) through (e) is the same
as the text of §20.2010–2T(a) through (e)
published elsewhere in this issue of the
Bulletin].
Par. 6. Section 20.2010–3 is added to
read as follows:
§20.2010–3 Portability provisions
applicable to the surviving spouse’s
estate.
[The text of the proposed amendments
to §20.2010–3(a) through (f) is the same
as the text of §20.2010–3T(a) through (f)
published elsewhere in this issue of the
Bulletin].
July 9, 2012552012–28 I.R.B.

PART 25—GIFT TAX; GIFTS MADE
AFTER DECEMBER 31, 1954
Par. 7. The authority citation for part
25isamendedbyaddinganentryinnu-
merical order to read as follows:
Authority: 26 U.S.C. 7805.
Section 25.2505–2T also issued under
26 U.S.C. 2010(c)(6). * * *
Par. 8. Section 25.2505–0 is added to
read as follows:
§25.2505–0 Table of contents.
[The entries in the table of contents for
the proposed amendments to §25.2505–0
are the same as the entries in the table of
contents for §25.2505–0T published else-
whereinthisissueoftheBuletin].
Par. 9. Section 25.2505–1 is added to
read as follows:
§25.2505–1 Unified credit against gift
tax; in general.
[The text of the proposed amendments
to §25.2505–1(a) through (e) is the same
as the text of §25.2505–1T(a) through (e)
published elsewhere in this issue of the
Bulletin].
Par. 10. Section 25.2505–2 is added to
read as follows:
§25.2505–2 Gifts made by a surviving
spouse having a DSUE amount available.
[The text of the proposed amendments
to §25.2505–2(a) through (g) is the same
as the text of §25.2505–2T(a) through (g)
published elsewhere in this issue of the
Bulletin].
Steven T. Miller,
Deputy Commissioner for
Services and Enforcement.
(Filed by the Office of the Federal Register on June 15, 2012,
8:45 a.m., and published in the issue of the Federal Register
for June 18, 2012, 77 F.R. 36229)
2012–28 I.R.B.56July 9, 2012

Definition of Terms
Revenue rulings and revenue procedures
(hereinafter referred to as “rulings”) that
have an effect on previous rulings use the
following defined terms to describe the ef-
fect:
Amplifieddescribes a situation where
no change is being made in a prior pub-
lished position, but the prior position is be-
ingextendedtoapplytoavariationofthe
fact situation set forth therein. Thus, if
an earlier ruling held that a principle ap-
plied to A, and the new ruling holds that the
same principle also applies to B, the earlier
ruling is amplified. (Compare withmodi-
fied,below).
Clarifiedis used in those instances
where the language in a prior ruling is be-
ing made clear because the language has
caused, or may cause, some confusion.
It is not used where a position in a prior
ruling is being changed.
Distinguisheddescribes a situation
where a ruling mentions a previously pub-
lished ruling and points out an essential
difference between them.
Modifiedis used where the substance
of a previously published position is being
changed. Thus, if a prior ruling held that a
principle applied to A but not to B, and the
new ruling holds that it applies to both A
and B, the prior ruling is modified because
it corrects a published position. (Compare
withamplifiedandclarified, above).
Obsoleteddescribes a previously pub-
lished ruling that is not considered deter-
minative with respect to future transac-
tions. This term is most commonly used in
a ruling that lists previously published rul-
ings that are obsoleted because of changes
in laws or regulations. A ruling may also
be obsoleted because the substance has
been included in regulations subsequently
adopted.
Revokeddescribes situations where the
position in the previously published ruling
is not correct and the correct position is
beingstatedinanewruling.
Supersededdescribes a situation where
the new ruling does nothing more than re-
state the substance and situation of a previ-
ously published ruling (or rulings). Thus,
the term is used to republish under the
1986 Code and regulations the same po-
sition published under the 1939 Code and
regulations. The term is also used when
it is desired to republish in a single rul-
ing a series of situations, names, etc., that
were previously published over a period of
time in separate rulings. If the new rul-
ing does more than restate the substance
of a prior ruling, a combination of terms
is used. For example,modifiedandsu-
persededdescribes a situation where the
substance of a previously published ruling
is being changed in part and is continued
without change in part and it is desired to
restate the valid portion of the previously
published ruling in a new ruling that is self
contained. In this case, the previously pub-
lished ruling is first modified and then, as
modified, is superseded.
Supplementedis used in situations in
which a list, such as a list of the names of
countries, is published in a ruling and that
list is expanded by adding further names in
subsequent rulings. After the original rul-
ing has been supplemented several times, a
new ruling may be published that includes
the list in the original ruling and the ad-
ditions, and supersedes all prior rulings in
the series.
Suspendedis used in rare situations to
show that the previous published rulings
will not be applied pending some future
action such as the issuance of new or
amended regulations, the outcome of cases
in litigation, or the outcome of a Service
study.
Abbreviations
The fol
lowing abbreviations in current use
and for
merly used will appear in material
publis
hedintheBulletin.
A—Individual.
Acq.—A
cquiescence.
B—Individual.
BE—Beneficiary.
BK—Bank
.
B.T.A.—Board of Tax Appeals.
C—Individual.
C.B.—Cu
mulative Bulletin.
CFR—Code of Federal Regulations.
CI—City.
COOP—Coo
perative.
Ct.D.—Court Decision.
CY—County.
D—Decede
nt.
DC—Dummy Corporation.
DE—Donee.
Del. Order
—Delegation Order.
DISC—Domestic International Sales Corporation.
DR—Donor.
E—Estate.
EE—Employee.
E.O.—Executive Order.
ER—Emp
loyer.
ERISA—Employee Retirement Income Security Act.
EX—Executor.
F—Fiduc
iary.
FC—Foreign Country.
FICA—Federal Insurance Contributions Act.
FISC—Fo
reign International Sales Company.
FPH—Foreign Personal Holding Company.
F.R.—Federal Register.
FUTA—Fed
eral Unemployment Tax Act.
FX—Foreign corporation.
G.C.M.—Chief Counsel’s Memorandum.
GE—Grante
e.
GP—General Partner.
GR—Grantor.
IC—Insura
nce Company.
I.R.B.—Internal Revenue Bulletin.
LE—Lessee.
LP—Limited
Partner.
LR—Lessor.
M—Minor.
Nonacq.—No
nacquiescence.
O—Organization.
P—Parent Corporation.
PHC—Persona
l Holding Company.
PO—Possession of the U.S.
PR—Partner.
PRS—Pa
rtnership.
PTE—Prohibited Transaction Exemption.
Pub. L.—Public Law.
REIT—Re
al Estate Investment Trust.
Rev. Proc.—Revenue Procedure.
Rev. Rul.—Revenue Ruling.
S—Subsi
diary.
S.P.R.—Statement of Procedural Rules.
Stat.—Statutes at Large.
T—Target
Corporation.
T.C.—Tax Court.
T.D.—Treasury Decision.
TFE—Trans
feree.
TFR—Transferor.
T.I.R.—Technical Information Release.
TP—Taxpay
er.
TR—Trust.
TT—Trustee.
U.S.C.—Uni
ted States Code.
X—Corporation.
Y—Corporation.
Z—Corporat
ion.
July 9, 2012i2012–28 I.R.B.

Numerical Finding List
1
Bulletins 2012–27 through 2012–28
Announcements:
2012-26, 2012-27 I.R.B.8
2012-27, 2012-27 I.R.B.10
2012-28, 2012-27 I.R.B.10
Notices:
2012-44, 2012-28 I.R.B.45
Proposed Regulations:
REG-134042-07, 2012-27 I.R.B.5
REG-141832-11, 2012-28 I.R.B.54
REG-107889-12, 2012-28 I.R.B.53
Revenue Procedures:
2012-28, 2012-27 I.R.B.4
2012-29, 2012-28 I.R.B.49
Revenue Rulings:
2012-19, 2012-28 I.R.B.16
2012-20, 2012-27 I.R.B.1
Treasury Decisions:
9591, 2012-28 I.R.B.32
9592, 2012-28 I.R.B.41
9593, 2012-28 I.R.B.17
1
A cumulative list of all revenue rulings, revenueprocedures, Treasury decisions, etc., publishedin Internal Revenue Bulletins 2012–1 through 2012–26 is in Internal Revenue Bulletin
2012–26, dated June 25, 2012.
2012–28 I.R.B.iiJuly 9, 2012

Finding List of Current Actions on
Previously Published Items
1
Bulletins 2012–27 through 2012–28
Proposed Regulations:
REG-100276-97
Withdrawn by
Ann. 2012-27, 2012-27 I.R.B.10
1
A cumulative list of current actions on previously published items in Internal Revenue Bulletins 2012–1 through 2012–26 is in Internal Revenue Bulletin 2012–26, dated June 25, 2012.
July 9, 2012iii2012–28 I.R.B.

2012–28 I.R.B.July 9, 2012

July 9, 20122012–28 I.R.B.

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