rr-04-107.pdf

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Part I

Section 1274A.--Special Rules for Certain Transactions Where Stated Principal Amount
Does Not Exceed $2,800,000.

(Also §§ 1274, 483; 1.1274A-1, 1.483-1.)

Rev. Rul. 2004-107

This revenue ruling provides the dollar amounts, increased by the 2005 inflation
adjustment, for § 1274A of the Internal Revenue Code.

BACKGROUND

In general, §§ 483 and 1274 determine the principal amount of a debt instrument
given in consideration for the sale or exchange of nonpublicly traded property. In
addition, any interest on a debt instrument subject to § 1274 is taken into account under
the original issue discount provisions of the Code. Section 1274A, however, modifies
the rules under §§ 483 and 1274 for certain types of debt instruments.

In the case of a "qualified debt instrument," the discount rate used for purposes
of §§ 483 and 1274 may not exceed 9 percent, compounded semiannually. Section
1274A(b) defines a qualified debt instrument as any debt instrument given in
consideration for the sale or exchange of property (other than new § 38 property within
the meaning of § 48(b), as in effect on the day before the date of enactment of the
Revenue Reconciliation Act of 1990) if the stated principal amount of the instrument
does not exceed the amount specified in § 1274A(b). For debt instruments arising out
of sales or exchanges before January 1, 1990, this amount is $2,800,000.

In the case of a "cash method debt instrument," as defined in § 1274A(c), the
borrower and lender may elect to use the cash receipts and disbursements method of
accounting. In particular, for any cash method debt instrument, § 1274 does not apply,
and interest on the instrument is accounted for by both the borrower and the lender
under the cash method of accounting. A cash method debt instrument is a qualified
debt instrument that meets the following additional requirements: (A) In the case of
instruments arising out of sales or exchanges before January 1, 1990, the stated
principal amount does not exceed $2,000,000; (B) the lender does not use an accrual
method of accounting and is not a dealer with respect to the property sold or
exchanged; (C) § 1274 would have applied to the debt instrument but for an election
under § 1274A(c); and (D) an election under § 1274A(c) is jointly made with respect to
the debt instrument by the borrower and lender. Section 1.1274A-1(c)(1) of the Income
Tax Regulations provides rules concerning the time for, and manner of, making this
election.

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Section 1274A(d)(2) provides that, for any debt instrument arising out of a sale or
exchange during any calendar year after 1989, the dollar amounts stated in § 1274A(b)
and § 1274A(c)(2)(A) are increased by the inflation adjustment for the calendar year.
Any increase due to the inflation adjustment is rounded to the nearest multiple of $100
(or, if the increase is a multiple of $50 and not of $100, the increase is increased to the
nearest multiple of $100). The inflation adjustment for any calendar year is the
percentage (if any) by which the CPI for the preceding calendar year exceeds the CPI
for calendar year 1988. Section 1274A(d)(2)(B) defines the CPI for any calendar year
as the average of the Consumer Price Index as of the close of the 12-month period
ending on September 30 of that calendar year.

INFLATION-ADJUSTED AMOUNTS

For debt instruments arising out of sales or exchanges after December 31, 1989,
the inflation-adjusted amounts under § 1274A are shown in Table 1.

Rev. Rul. 2004 - 107
Table 1
Inflation-Adjusted Amounts Under § 1274A

Calendar Year 1274A(b) Amount 1274A(c)(2)(A) Amount
of Sale (qualified debt (cash method debt
or Exchange instrument) instrument)
1990 $2,933,200 $2,095,100
1991 $3,079,600 $2,199,700
1992 $3,234,900 $2,310,600
1993 $3,332,400 $2,380,300
1994 $3,433,500 $2,452,500
1995 $3,523,600 $2,516,900
1996 $3,622,500 $2,587,500
1997 $3,723,800 $2,659,900
1998 $3,823,100 $2,730,800
1999 $3,885,500 $2,775,400
2000 $3,960,100 $2,828,700
2001 $4,085,900 $2,918,500
2002 $4,217,500 $3,012,500
2003 $4,280,800 $3,057,700
2004 $4,381,300 $3,129,500
2005 $4,483,000 $3,202,100
Note: These inflation adjustments were computed using the
All-Urban, Consumer Price Index, 1982-1984 base, published
by the Bureau of Labor Statistics.

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EFFECT ON OTHER DOCUMENTS

Rev. Rul. 2003-119, 2003-47 I.R.B. 1094, is supplemented and superseded.

DRAFTING INFORMATION

The author of this revenue ruling is Avital Grunhaus of the Office of the Associate
Chief Counsel (Financial Institutions and Products). For further information regarding
this revenue ruling please contact Mrs. Grunhaus on (202) 622-3930 (not a toll-free
call).