Internal Revenue Bulletin 2002-7 (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.

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
T.D. 8981, page 496.
REG–107100–00, page 529.
Final, temporary and proposed regulations under sections 874
and 882 of the Code relate to the disallowance of deductions
and credits for nonresident alien individuals and foreign corpo-
rations that fail to file a timely U.S. income tax return unless the
Commissioner waives the filing deadlines. The temporary regu-
lations revise the waiver standard. A public hearing on the pro-
posed regulations is scheduled for June 3, 2002.
REG–115054–01, page 530.
Proposed regulations under section 66 of the Code relate to
the treatment of community income for certain married indi-
viduals in community property states who do not file joint indi-
vidual federal income tax returns. The regulations also reflect
changes in the law made by the Internal Revenue Service
Restructuring and Reform Act of 1998.
Notice 2002–11, page 526.
Loss disallowance.This notice sets forth the Service’s new
position with regard to consolidated return loss disallowance
rules.
Rev. Proc. 2002–11, page 526.
Dealer in securities futures contracts.This procedure pro-
vides guidelines for an exchange to follow in order to obtain a
letter ruling regarding whether certain persons trading on that
exchange qualify as “dealers” in securities futures contracts (or
options on such contracts) for purposes of section 1256(g)(9)
of the Code. Also, after issuance of a specific letter ruling
determining dealer status, the Service expects to publish the
same conclusion in a revenue ruling.
Announcement 2002–13, page 540.
This announcement contains a correction to Table 6 of Rev.
Rul. 2002–2 (2002–2 I.R.B. 271), the January 2002 Applicable
Federal Rates. Table 6 contains the “Deemed Rate for Trans-
fers to New Pooled Income Funds During 2002.” under section
642(c)(5) of the Code.
EXEMPT ORGANIZATIONS
T.D. 8978, page 500.
Final regulations under section 4958 of the Code relate to
excise taxes on excess benefit transactions and explain the
rules and definitions contained in section 4958, such as rules
for when organization managers are liable for a tax and the
definitions of “applicable tax-exempt organization” and “dis-
qualified person.”
Announcement 2002–16, page 541.
A list is provided of organizations now classified as private
foundations.
EXCISE TAX
T.D. 8978, page 500.
Final regulations under section 4958 of the Code relate to
excise taxes on excess benefit transactions and explain the
rules and definitions contained in section 4958, such as rules
for when organization managers are liable for a tax and the
definitions of “applicable tax-exempt organization” and “dis-
qualified person.”
(Continued on the next page)
Actions Relating to Court Decisions is on the page following the Introduction.
Announcements of Declaratory Judgment Proceedings Under Section 7428 begin on page 542.
Finding Lists begin on page ii.
Bulletin No. 2002–7
February 19, 2002

Announcement 2002–10, page 539.
The Service announces the availability of new Form 720X,
Amended Quarterly Federal Excise Tax Return.This form is
used to make adjustments to liability reported on Forms 720
filed for previous quarters.
ADMINISTRATIVE
Notice 2002–12, page 526.
Patriots’Day 2002 in Massachusetts and Maine. Because
Patriots’Day falls on April 15, this notice provides individual
taxpayers residing in Massachusetts, Michigan, New York (all
counties except Nassau, Rockland, Suffolk, Westchester, and
New York City), Rhode Island, and Maine an additional day to
file their federal income tax returns and make their payments
(until April 16, 2002). This includes the payment of the first
installment of estimated tax for 2002.
Announcement 2002–9, page 536.
Deduction and capitalization of expenditures.The Service
invites comments from the public on issues that the IRS
expects to address in proposed regulations (REG–125638–01)
relating to rules and standards that the IRS and Treasury
Department expect to propose that will clarify the application
of section 263(a) of the Code to expenditures incurred in
acquiring, creating, or enhancing certain intangible assets or
benefits.
Announcement 2002–14, page 540.
This document contains corrections to final regulations (T.D.
8973, 2002–4 I.R.B. 391) relating to the allocation of loss with
respect to stock and other personal property under sections
861 and 865 of the Code.
Announcement 2002–15, page 540.
This document contains corrections to proposed regulations
(REGs–142299–01 and 209135–88, 2002–4 I.R.B. 418) that
apply to certain transactions or events that result in a Regu-
lated Investment Company (RIC) or a Real Estate Investment
Trust (REIT) owning property that has a basis determined by
reference to a C corporation’s basis in the property.
February 19, 20022002–7 I.R.B.

The IRS Mission
Provide America’s taxpayers top quality service by helping
them understand and meet their tax responsibilities and by
applying the tax law with 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 consolidated semiannually into Cumulative Bulle-
tins, 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,
modify, or amend any of those previously published in the Bul-
letin. All published rulings apply retroactively unless otherwise
indicated. Procedures relating solely to matters of internal
management are not published; however, statements of inter-
nal 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 rev-
enue ruling. In those based on positions taken in rulings to tax-
payers 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.—1986 Code.
This part includes rulings and decisions based on provisions of
the Internal 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, Legisla-
tion 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 part includes notices of proposed rulemakings, disbar-
ment and suspension lists, and announcements.
The first 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 first Bulletin of the succeeding semiannual
period, respectively.
The contents 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.
2002–7 I.R.B.February 19, 2002

Actions Relating to Decisions of the Tax Court
It is the policy of the Internal Revenue
Service to announce at an early date
whether it will follow the holdings in cer-
tain cases. An Action on Decision is the
document making such an announcement.
An Action on Decision will be issued at
the discretion of the Service only on
unappealed issues decided adverse to the
government. Generally, an Action on
Decision is issued where its guidance
would be helpful to Service personnel
working with the same or similar issues.
Unlike a Treasury Regulation or a Rev-
enue Ruling, an Action on Decision is not
an affirmative statement of Service posi-
tion. It is not intended to serve as public
guidance and may not be cited as prece-
dent.
Actions on Decisions shall be relied
upon within the Service only as conclu-
sions applying the law to the facts in the
particular case at the time the Action on
Decision was issued. Caution should be
exercised in extending the recommenda-
tion of the Action on Decision to similar
cases where the facts are different. More-
over, the recommendation in the Action
on Decision may be superseded by new
legislation, regulations, rulings, cases, or
Actions on Decisions.
Prior to 1991, the Service published
acquiescence or nonacquiescence only in
certain regular Tax Court opinions. The
Service has expanded its acquiescence
program to include other civil tax cases
where guidance is determined to be help-
ful. Accordingly, the Service now may
acquiesce or nonacquiesce in the holdings
of memorandum Tax Court opinions, as
well as those of the United States District
Courts, Claims Court, and Circuit Courts
of Appeal. Regardless of the court decid-
ing the case, the recommendation of any
Action on Decision will be published in
the Internal Revenue Bulletin.
The recommendation in every Action
on Decision will be summarized as acqui-
escence, acquiescence in result only, or
nonacquiescence. Both “acquiescence”
and “acquiescence in result only” mean
that the Service accepts the holding of the
court in a case and that the Service will
follow it in disposing of cases with the
same controlling facts. However, “ac-
quiescence” indicates neither approval
nor disapproval of the reasons assigned
by the court for its conclusions; whereas,
“acquiescence in result only” indicates
disagreement or concern with some or all
of those reasons. “Nonacquiescence” sig-
nifies that, although no further review
was sought, the Service does not agree
with the holding of the court and, gener-
ally, will not follow the decision in dis-
posing of cases involving other taxpay-
ers. In reference to an opinion of a circuit
court of appeals, a “nonacquiescence”
indicates that the Service will not follow
the holding on a nationwide basis. How-
ever, the Service will recognize the prece-
dential impact of the opinion on cases
arising within the venue of the deciding
circuit.
The Actions on Decisions published in
the weekly Internal Revenue Bulletin are
consolidated semiannually and appear in
the first Bulletin for July and the Cumu-
lative Bulletin for the first half of the
year. A semiannual consolidation also
appears in the first Bulletin for the fol-
lowing January and in the Cumulative
Bulletin for the last half of the year.
The Commissioner ACQUIESCES in
the following decision:
Ridge and Marjory Harlan v.
Commissioner,
1
116 T.C. 31 (2001)
T.C. Dkt. Nos. 21214–92; 24609–92
1
Acquiescence relating to whether, in determining the applicability of the 6-year period of limitations provided by section 6501(e)(1)(A), second-tier partnership
information returns are taken into account in computing the amount of gross income stated in the return.
February 19, 20022002–7 I.R.B.

Part I. Rulings and Decisions Under the Internal Revenue Code of 1986
Section 162.—Trade or
Business Expenses
What rules and standards should be applied to
determine whether expenditures incurred in acquir-
ing, creating, or enhancing certain intangible assets
or benefits must be deducted or capitalized. Public
comments are requested. See Ann. 2002-9 on page
536.
Section 874.—Allowance of
Deductions and Credits
26 CFR 1.874–1: Allowance of deductions and cred-
its to nonresident alien individuals.
T.D. 8981
DEPARTMENT OF THE
TREASURY
Internal Revenue Service
26 CFR Part 1
Disallowance of Deductions
and Credits for Failure to File
Timely Return
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Final and temporary regula-
tions.
SUMMARY: This document contains
regulations relating to the disallowance of
deductions and credits for nonresident
alien individuals and foreign corporations
that fail to file a timely U.S. income tax
return. The current regulations permit
nonresident aliens and foreign corpora-
tions the benefit of deductions and credits
only if they timely file a U.S. income tax
return in accordance with subtitle F of the
Internal Revenue Code, unless the Com-
missioner waives the filing deadlines. The
temporary regulations revise the waiver
standard. The text of these temporary
regulations also serves as the text of the
proposed regulations set forth in the
notice of proposed rulemaking on this
subject in the Proposed Rules section of
this issue of theFederal Register.
DATES:Effective Date: These regula-
tions are effective January 29, 2002.
Applicability Date: For dates of appli-
cability, see§§1.874–1T(b)(4) and
1.882–4T(a)(3)(iv) of these regulations.
FOR FURTHER INFORMATION CON-
TACT: Nina E. Chowdhry (202) 622–
3880 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
Section 871(b)(1) provides that a non-
resident alien individual engaged in a
trade or business within the United States
shall be taxed on income effectively con-
nected with the conduct of the trade or
business within the United States. Like-
wise, under section 882(a)(1), a foreign
corporation engaged in a trade or business
within the United States shall be taxed on
its income effectively connected with the
conduct of the trade or business within
the United States. In determining the
amount of effectively connected taxable
income, both the nonresident alien indi-
vidual and the foreign corporation (col-
lectively, foreign taxpayers) generally
may deduct from effectively connected
gross income expenses that are properly
allocated and apportioned to that gross
income. However, under sections
874(a)(1) and 882(c)(2), a foreign tax-
payer generally is entitled to those deduc-
tions, and to allowable credits, only if it
files a true and accurate U.S. income tax
return in the manner prescribed in subtitle
F of the Internal Revenue Code (Code),
including on the return all the information
necessary for the calculation of the
deductions and credits.
Sections 1.874–1(b)(1) and 1.882–
4(a)(3)(i) provide filing deadlines beyond
which a return entitling the foreign tax-
payer to deductions and credits may not
be filed. Under§§1.874–1(b)(2) and
1.882–4(a)(3)(ii), as currently in effect,
the Commissioner may waive the filing
deadlines prescribed in§§1.874–1(b)(1)
and 1.882–4(a)(3)(i) in rare and unusual
circumstances if good cause for such
waiver, based on the facts and circum-
stances, is established by a foreign tax-
payer who does not file a return (a non-
filer). When these regulations were
promulgated in 1990, Treasury and the
IRS intended that the waiver standard bal-
ance the legislative intent to establish
strong compliance measures with respect
to required income tax return filing by
foreign taxpayers with a means to
grant relief from the filing deadlines in
appropriate cases. In practice, the IRS
has found that the standard currently in
§§1.874–1(b)(2) and 1.882–4(a)(3)(ii)
(the waiver standard) is too restrictive and
does not achieve this balance.
Explanation of Provisions
The temporary regulations in this
document revise the waiver standard con-
tained in§§1.874–1(b)(2) and 1.882–
4(a)(3)(ii) and provide examples of the
application of the revised standard. The
revised waiver standard provides that the
filing deadlines may be waived by the
Commissioner or his or her delegate if the
non-filer establishes that, based on the
facts and circumstances, the non-filer
acted reasonably and in good faith in fail-
ing to file a U.S. income tax return
(including a protective return). For this
purpose, a non-filer is not considered to
have acted reasonably and in good faith if
the non-filer knew that it was required to
file the return but chose not to file the
return. In addition, a non-filer shall not be
granted a waiver unless the non-filer
cooperates in determining the non-filer’s
U.S. tax liability for the taxable year for
which the return was not filed. The fol-
lowing factors will be considered by the
IRS in determining whether a non-filer,
based on the facts and circumstances,
acted reasonably and in good faith in fail-
ing to file a U.S. income tax return:
whether the non-filer voluntarily identi-
fies itself to the IRS as having failed to
file a U.S. income tax return before the
IRS discovers the failure to file; whether
the non-filer did not become aware of the
non-filer’s ability to file a protective
return by the deadline for filing the pro-
tective return; whether the non-filer had
not previously filed a U.S. income tax
return; whether the non-filer failed to file
a U.S. income tax return because, after
exercising reasonable diligence (taking
into account relevant experience and level
of sophistication), the non-filer was
unaware of the necessity for filing the
return; whether the non-filer failed to file
2002–7 I.R.B.496February 19, 2002

a U.S. income tax return because of inter-
vening events beyond the non-filer’s con-
trol; and whether other mitigating or
exacerbating circumstances existed.
Effective Date
These regulations apply to open years
for which requests for waivers of applica-
tion of sections 874(a) and 882(c) are
filed on or after January 29, 2002.
Special Analyses
It has been determined that these tem-
porary regulations are not a significant
regulatory action as defined in Executive
Order 12866. Therefore, a regulatory
assessment is not required. It has also
been determined that section 553(b) of
the Administrative Procedure Act (5
U.S.C. chapter 5) does not apply to these
regulations and, because no notice of pro-
posed rulemaking is required, the Regula-
tory Flexibility Act (5 U.S.C. chapter 6)
does not apply. Pursuant to section
7805(f) of the Code, these temporary
regulations will be submitted to the Chief
Counsel for Advocacy of the Small Busi-
ness Administration for comment on their
impact on small businesses.
Drafting Information
The principal author of these regula-
tions is Nina Chowdhry of the Office of
Associate Chief Counsel (International).
However, other personnel from the IRS
and 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 is amended by adding entries in
numerical order to read in part as follows:
Authority: 26 U.S.C. 7805***
Section 1.874–1T also issued under 26
U.S.C. 874.***
Section 1.882–4T also issued under 26
U.S.C. 882(c).***
Par. 2. Section 1.874–1 is amended by:
1. Revising paragraph (b)(2).
2. Paragraphs (b)(3) and (b)(4) are
redesignated as paragraphs (b)(5) and
(b)(6), respectively.
3. New paragraphs (b)(3) and (b)(4)
are added.
The revision and additions read as fol-
lows:
§1.874–1 Allowance of deductions and
credits to nonresident alien individuals.
*****
(b)(2) through (4) For further guid-
ance, see§1.874–1T(b)(2) through (4).
*****
Par. 3. Section 1.874–1T is added to
read as follows:
§1.874–1T Allowance of deductions and
credits to nonresident alien individuals
(temporary).
(a) through (b)(1) For further guid-
ance, see§1.874–1(a) through (b)(1).
(b)(2)Waiver. The filing deadlines set
forth in paragraph (b)(1) of this section
may be waived if the nonresident alien
individual establishes to the satisfaction
of the Commissioner or his or her del-
egate that the individual, based on the
facts and circumstances, acted reasonably
and in good faith in failing to file a U.S.
income tax return (including a protective
return (as described in§1.874–1(b)(6))).
For this purpose, a nonresident alien indi-
vidual shall not be considered to have
acted reasonably and in good faith if the
individual knew that he or she was
required to file the return and chose not to
file the return. In addition, a nonresident
alien individual shall not be granted a
waiver unless the individual cooperates in
determining his or her U.S. income tax
liability for the taxable year for which the
return was not filed. The Commissioner
or his or her delegate shall consider the
following factors in determining whether
the nonresident alien individual, based on
the facts and circumstances, acted reason-
ably and in good faith in failing to file a
U.S. income tax return:
(i) Whether the individual voluntarily
identifies himself or herself to the Internal
Revenue Service as having failed to file a
U.S. income tax return before the Internal
Revenue Service discovers the failure to
file;
(ii) Whether the individual did not
become aware of his or her ability to
file a protective return (as described in
§1.874–1(b)(6)) by the deadline for filing
the protective return;
(iii) Whether the individual had not
previously filed a U.S. income tax return;
(iv) Whether the individual failed to
file a U.S. income tax return because,
after exercising reasonable diligence (tak-
ing into account his or her relevant expe-
rience and level of sophistication), the
individual was unaware of the necessity
for filing the return;
(v) Whether the individual failed to
file a U.S. income tax return because of
intervening events beyond the individu-
al’s control; and
(vi) Whether other mitigating or exac-
erbating factors existed.
(3)Examples. The following examples
illustrate the provisions of this paragraph
(b). In all examples, A is a nonresident
alien individual and uses the calendar
year as A’s taxable year. The examples are
as follows:
Example 1.Nonresident alien individual dis-
closes own failure to file. In Year 1, A became a
limited partner with a passive investment in a U.S.
limited partnership that was engaged in a U.S. trade
or business. During Year 1 through Year 4, A
incurred losses with respect to A’s U.S. partnership
interest. A’s foreign tax advisor incorrectly con-
cluded that because A was a limited partner and had
only losses from A’s partnership interest, A was not
required to file a U.S. income tax return. A was
aware neither of A’s obligation to file a U.S. income
tax return for those years nor of A’s ability to file a
protective return for those years. A had never filed a
U.S. income tax return before. In Year 5, A began
realizing a profit, rather than a loss, with respect to
the partnership interest, and, for this reason,
engaged a U.S. tax advisor to handle A’s responsi-
bility to file U.S. income tax returns. In preparing
A’s U.S. income tax return for Year 5, A’s U.S. tax
advisor discovered that returns were not filed for
Year 1 through Year 4. Therefore, with respect to
those years for which applicable filing deadlines in
§1.874–1(b)(1) were not met, A would be barred by
§1.874–1(a) from claiming any deductions that oth-
erwise would have given rise to net operating losses
on returns for these years, and would have been
available as loss carryforwards in subsequent years.
At A’s direction, A’s U.S. tax advisor promptly con-
tacted the appropriate examining personnel and
cooperated with the Internal Revenue Service in
determining A’s income tax liability, for example, by
preparing and filing the appropriate income tax
returns for Year 1 through Year 4 and by making A’s
books and records available to an Internal Revenue
Service examiner. A has met the standard described
February 19, 20024972002–7 I.R.B.

in paragraph (b)(2) of this section for waiver of any
applicable filing deadlines in§1.874–1(b)(1).
Example 2.Nonresident alien individual refuses
to cooperate. Same facts as inExample 1, except
that while A’s U.S. tax advisor contacted the appro-
priate examining personnel and filed the appropriate
income tax returns for Year 1 through Year 4, A
refused all requests by the Internal Revenue Service
to provide supporting information (for example,
books and records) with respect to those returns.
Because A did not cooperate in determining A’s U.S.
tax liability for the taxable years for which an
income tax return was not timely filed, A is not
granted a waiver as described in paragraph (b)(2) of
this section of any applicable filing deadlines in
§1.874–1(b)(1).
Example 3.Nonresident alien individual fails to
file a protective return. Same facts as inExample 1,
except that in Year 1 through Year 4, A also con-
sulted a U.S. tax advisor, who advised A that it was
uncertain whether U.S. income tax returns were nec-
essary for those years and that A could protect its
right subsequently to claim the loss carryforwards
by filing protective returns under§1.874–1(b)(6). A
did not file U.S. income tax returns or protective
returns for those years. A did not present evidence
that intervening events beyond A’s control prevented
A from filing an income tax return, and there were
no other mitigating factors. A has not met the stan-
dard described in paragraph (b)(2) of this section for
waiver of any applicable filing deadlines in§1.874–
1(b)(1).
Example 4.Nonresident alien with effectively
connected income. In Year 1, A, a computer pro-
grammer, opened an office in the United States to
market and sell a software program that A had
developed outside the United States. A had minimal
business or tax experience internationally, and no
such experience in the United States. Through A’s
personal efforts, U.S. sales of the software produced
income effectively connected with a U.S. trade or
business. A, however, did not file U.S. income tax
returns for Year 1 or Year 2. A was aware neither of
A’s obligation to file a U.S. income tax return for
those years, nor of A’s ability to file a protective
return for those years. A had never filed a U.S.
income tax return before. In November of Year 3, A
engaged U.S. counsel in connection with licensing
software to an unrelated U.S. company. U.S. coun-
sel reviewed A’s U.S. activities and advised A that A
should have filed U.S. income tax returns for Year 1
and Year 2. A immediately engaged a U.S. tax advi-
sor who, at A’s direction, promptly contacted the
appropriate examining personnel and cooperated
with the Internal Revenue Service in determining
A’s income tax liability, for example, by preparing
and filing the appropriate income tax returns for
Year 1 and Year 2 and by making A’s books and
records available to an Internal Revenue Service
examiner. A has met the standard described in para-
graph (b)(2) of this section for waiver of any appli-
cable filing deadlines in§1.874–1(b)(1).
Example 5.IRS discovers nonresident alien’s
failure to file. In Year 1, A, a computer programmer,
opened an office in the United States to market and
sell a software program that A had developed out-
side the United States. Through A’s personal efforts,
U.S. sales of the software produced income effec-
tively connected with a U.S. trade or business. A
had extensive experience conducting similar busi-
ness activities in other countries, including making
the appropriate tax filings. However, A was aware
neither of A’s obligation to file a U.S. income tax
return for those years, nor of A’s ability to file a
protective return for those years. A had never filed a
U.S. income tax return before. Despite A’s extensive
experience conducting similar business activities in
other countries, A made no effort to seek advice in
connection with A’s U.S. tax obligations. A failed to
file either U.S. income tax returns or protective
returns for Year 1 and Year 2. In November of Year
3, an Internal Revenue Service examiner asked A for
an explanation of A’s failure to file U.S. income tax
returns. A immediately engaged X, a U.S. tax advi-
sor, and cooperated with the Internal Revenue Ser-
vice in determining A’s income tax liability, for
example, by preparing and filing the appropriate
income tax returns for Year 1 and Year 2 and by
making A’s books and records available to the
examiner. A did not present evidence that interven-
ing events beyond A’s control prevented A from fil-
ing a return, and there were no other mitigating fac-
tors. A has not met the standard described in
paragraph (b)(2) of this section for waiver of any
applicable filing deadlines in§1.874–1(b)(1).
Example 6.Nonresident alien with prior filing
history. A began a U.S. trade or business in Year 1
as a sole proprietorship. A’s tax advisor filed the
appropriate U.S. income tax returns for Year 1
through Year 6, reporting income effectively con-
nected with A’s U.S. trade or business. In Year 7, A
replaced its tax advisor with a tax advisor unfamil-
iar with U.S. tax law. A did not file a U.S. income
tax return for any year from Year 7 through Year 10,
although A had effectively connected income for
those years. A was aware of A’s ability to file a pro-
tective return for those years. In Year 11, an Internal
Revenue Service examiner contacted A and asked
for an explanation of A’s failure to file income tax
returns after Year 6. A immediately engaged a U.S.
tax advisor and cooperated with the Internal Rev-
enue Service in determining A’s income tax liability,
for example, by preparing and filing the appropriate
income tax returns for Year 7 through Year 10 and
by making A’s books and records available to the
examiner. A did not present evidence that interven-
ing events beyond A’s control prevented A from fil-
ing a return, and there were no other mitigating fac-
tors. A has not met the standard described in
paragraph (b)(2) of this section for waiver of any
applicable filing deadlines in§1.874–1(b)(1).
(4)Effective date. Paragraphs (b)(2)
and (3) of this section are applicable to
open years for which a request for a
waiver is filed on or after January 29,
2002.
(b)(5) through (e) For further guid-
ance, see§1.874–1(b)(5) through (e).
Par. 4. Section 1.882–4 is amended by:
1. Revising paragraph (a)(3)(ii).
2. Paragraphs (a)(3)(iii) through
(a)(3)(v) are redesignated as paragraphs
(a)(3)(v) through (a)(3)(vii), respectively.
3. New paragraphs (a)(3)(iii) and
(a)(3)(iv) are added.
The revision and additions read as fol-
lows:
§1.882–4 Allowance of deductions and
credits to foreign corporations.
(a)***
(3)***
(ii) through (iv) For further guidance,
see§1.882–4T(a)(3)(ii) through (iv).
*****
Par. 5. Section 1.882–4T is added to
read as follows:
§1.882–4T Allowance of deductions and
credits to foreign corporations (tempo-
rary).
(a) through (a)(3)(i) For further guid-
ance, see§1.882–4(a) through (a)(3)(i).
(a)(3)(ii) The filing deadlines set forth
in§1.882–4(a)(3)(i) may be waived if
the foreign corporation establishes to the
satisfaction of the Commissioner or his or
her delegate that the corporation, based
on the facts and circumstances, acted rea-
sonably and in good faith in failing to file
a U.S. income tax return (including a pro-
tective return (as described in§1.882–
4(a)(3)(vi))). For this purpose, a foreign
corporation shall not be considered to
have acted reasonably and in good faith if
the foreign corporation knew that it was
required to file the return and chose not to
file the return. In addition, a foreign cor-
poration shall not be granted a waiver
unless the foreign corporation cooperates
in the process of determining its income
tax liability for the taxable year for which
the return was not filed. The Commis-
sioner or his or her delegate shall con-
sider the following factors in determining
whether the foreign corporation, based on
the facts and circumstances, acted reason-
ably and in good faith in failing to file a
U.S. income tax return:
(A) Whether the corporation voluntar-
ily identifies itself to the Internal Revenue
Service as having failed to file a U.S.
income tax return before the Internal Rev-
enue Service discovers the failure to file;
(B) Whether the corporation did not
become aware of its ability to file a pro-
tective return (as described in§1.882–
4(a)(3)(vi)) by the deadline for filing a
protective return;
(C) Whether the corporation had not
previously filed a U.S. income tax return;
(D) Whether the corporation failed to
file a U.S. income tax return because,
2002–7 I.R.B.498February 19, 2002

after exercising reasonable diligence (tak-
ing into account its relevant experience
and level of sophistication), the corpora-
tion was unaware of the necessity for fil-
ing the return;
(E) Whether the corporation failed to
file a U.S. income tax return because of
intervening events beyond the corpora-
tion’s control; and
(F) Whether other mitigating or exac-
erbating factors existed.
(iii) The following examples illustrate
the provisions of this section. In all
examples, FC is a foreign corporation and
uses the calendar year as its taxable year.
The examples are as follows:
Example 1.Foreign corporation discloses own
failure to file. In Year 1, FC became a limited part-
ner with a passive investment in a U.S. limited part-
nership that was engaged in a U.S. trade or business.
During Year 1 through Year 4, FC incurred losses
with respect to FC’s U.S. partnership interest. FC’s
foreign tax director incorrectly concluded that
because FC was a limited partner and had only
losses from FC’s partnership interest, FC was not
required to file a U.S. income tax return. FC’s man-
agement was aware neither of FC’s obligation to file
a U.S. income tax return for those years nor of FC’s
ability to file a protective return for those years. FC
had never filed a U.S. income tax return before. In
Year 5, FC began realizing a profit, rather than a
loss, with respect to the partnership interest, and, for
this reason, engaged a U.S. tax advisor to handle
FC’s responsibility to file U.S. income tax returns.
In preparing FC’s income tax return for Year 5, FC’s
U.S. tax advisor discovered that returns were not
filed for Year 1 through Year 4. Therefore, with
respect to those years for which applicable filing
deadlines in§1.882–4(a)(3)(i) were not met, FC
would be barred by§1.882–4(a)(2) from claiming
any deductions that otherwise would have given rise
to net operating losses on returns for these years,
and would have been available as loss carryforwards
in subsequent years. At FC’s direction, FC’s U.S.
tax advisor promptly contacted the appropriate
examining personnel and cooperated with the Inter-
nal Revenue Service in determining FC’s income
tax liability, for example, by preparing and filing the
appropriate income tax returns for Year 1 through
Year 4 and by making FC’s books and records avail-
able to an Internal Revenue Service examiner. FC
has met the standard described in paragraph
(a)(3)(ii) of this section for waiver of any applicable
filing deadlines in§1.882–4(a)(3)(i).
Example 2.Foreign corporation refuses to coop-
erate. Same facts as inExample 1, except that while
FC’s U.S. tax advisor contacted the appropriate
examining personnel and filed the appropriate
income tax returns for Year 1 through Year 4, FC
refused all requests by the Internal Revenue Service
to provide supporting information (for example,
books and records) with respect to those returns.
Because FC did not cooperate in determining its
U.S. tax liability for the taxable years for which an
income tax return was not timely filed, FC is not
granted a waiver as described in paragraph (a)(3)(ii)
of this section of any applicable filing deadlines in
§1.882–4(a)(3)(i).
Example 3.Foreign corporation fails to file a
protective return. Same facts as inExample 1,
except that in Year 1 through Year 4, FC’s tax direc-
tor also consulted a U.S. tax advisor, who advised
FC’s tax director that it was uncertain whether U.S.
income tax returns were necessary for those years
and that FC could protect its right subsequently to
claim the loss carryforwards by filing protective
returns under§1.882–4(a)(3)(vi). FC did not file
U.S. income tax returns or protective returns for
those years. FC did not present evidence that inter-
vening events beyond FC’s control prevented FC
from filing an income tax return, and there were no
other mitigating factors. FC has not met the standard
described in paragraph (a)(3)(ii) of this section for
waiver of any applicable filing deadlines in§1.882–
4(a)(3)(i).
Example 4.Foreign corporation with effectively
connected income. In Year 1, FC, a technology com-
pany, opened an office in the United States to mar-
ket and sell a software program that FC had devel-
oped outside the United States. FC had minimal
business or tax experience internationally, and no
such experience in the United States. Through FC’s
direct efforts, U.S. sales of the software produced
income effectively connected with a U.S. trade or
business. FC, however, did not file U.S. income tax
returns for Year 1 or Year 2. FC’s management was
aware neither of FC’s obligation to file a U.S.
income tax return for those years, nor of FC’s abil-
ity to file a protective return for those years. FC had
never filed a U.S. income tax return before. In Janu-
ary of Year 4, FC engaged U.S. counsel in connec-
tion with licensing software to an unrelated U.S.
company. U.S. counsel reviewed FC’s U.S. activities
and advised FC that FC should have filed U.S.
income tax returns for Year 1 and Year 2. FC imme-
diately engaged a U.S. tax advisor, at FC’s direction,
who promptly contacted the appropriate examining
personnel and cooperated with the Internal Revenue
Service in determining FC’s income tax liability, for
example, by preparing and filing the appropriate
income tax returns for Year 1 and Year 2 and by
making FC’s books and records available to an
Internal Revenue Service examiner. FC has met the
standard described in paragraph (a)(3)(ii) of this
section for waiver of any applicable filing deadlines
in§1.882–4(a)(3)(i).
Example 5.IRS discovers foreign corporation’s
failure to file. In Year 1, FC, a technology company,
opened an office in the United States to market and
sell a software program that FC had developed out-
side the United States. Through FC’s direct efforts,
U.S. sales of the software produced income effec-
tively connected with a U.S. trade or business. FC
had extensive experience conducting similar busi-
ness activities in other countries, including making
the appropriate tax filings. However, FC’s manage-
ment was aware neither of FC’s obligation to file a
U.S. income tax return for those years, nor of FC’s
ability to file a protective return for those years. FC
had never filed a U.S. income tax return before.
Despite FC’s extensive experience conducting simi-
lar business activities in other countries, FC made
no effort to seek advice in connection with FC’s
U.S. tax obligations. FC failed to file either U.S.
income tax returns or protective returns for Year 1
and Year 2. In January of Year 4, an Internal Rev-
enue Service examiner asked FC for an explanation
of FC’s failure to file U.S. income tax returns. FC
immediately engaged X, a U.S. tax advisor, and
cooperated with the Internal Revenue Service in
determining FC’s income tax liability, for example,
by preparing and filing the appropriate income tax
returns for Year 1 and Year 2 and by making FC’s
books and records available to the examiner. FC did
not present evidence that intervening events beyond
FC’s control prevented FC from filing a return, and
there were no other mitigating factors. FC has not
met the standard described in paragraph (a)(3)(ii) of
this section for waiver of any applicable filing dead-
lines in§1.882–4(a)(3)(i).
Example 6.Foreign corporation with prior filing
history. FC began a U.S. trade or business in Year 1.
FC’s tax advisor filed the appropriate U.S. income
tax returns for Year 1 through Year 6, reporting
income effectively connected with FC’s U.S. trade
or business. In Year 7, FC replaced its tax advisor
with a tax advisor unfamiliar with U.S. tax law. FC
did not file a U.S. income tax return for any year
from Year 7 through Year 10, although FC had
effectively connected income for those years. FC’s
management was aware of FC’s ability to file a pro-
tective return for those years. In Year 11, an Internal
Revenue Service examiner contacted FC and asked
FC’s chief financial officer for an explanation of its
failure to file U.S. income tax returns after Year 6.
FC immediately engaged a U.S. tax advisor and
cooperated with the Internal Revenue Service in
determining FC’s income tax liability, for example,
by preparing and filing the appropriate income tax
returns for Year 7 through Year 10 and by making
FC’s books and records available to the examiner.
FC did not present evidence that intervening events
beyond FC’s control prevented FC from filing a
return, and there were no other mitigating factors.
FC has not met the standard described in paragraph
(a)(3)(ii) of this section for waiver of any applicable
filing deadlines in paragraph§1.882–4(a)(3)(i).
(iv) Paragraphs (a)(3)(ii) and (iii) of
this section are applicable to open years
for which a request for waiver is filed on
or after January 29, 2002.
(a)(3)(v) through (b)(2) For further
guidance, see§1.882–4(a)(3)(v) through
(b)(2).
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
Approved January 4, 2002.
Mark Weinberger,
Assistant Secretary of
the Treasury.
(Filed by the Office of the Federal Register on Janu-
ary 28, 2002, 8:45 a.m., and published in the issue
of the Federal Register for January 29, 2002, 67 F.R.
4173)
February 19, 20024992002–7 I.R.B.

Section 4958.—Taxes on
Excess Benefit Transactions
26 CFR 53.4958–1: Taxes on excess benefit transac-
tions.
T.D. 8978
DEPARTMENT OF THE
TREASURY
Internal Revenue Service
26 CFR Parts 53, 301, and
602
Excise Taxes on Excess
Benefit Transactions
AGENCY: Internal Revenue Service
(IRS), Treasury
ACTION: Final regulations and removal
of temporary regulations.
SUMMARY: This document contains
final regulations relating to the excise
taxes on excess benefit transactions under
section 4958 of the Internal Revenue
Code, as well as certain amendments and
additions to existing Income Tax Regula-
tions affected by section 4958. Section
4958 was enacted by the Taxpayer Bill of
Rights 2. Section 4958 imposes excise
taxes on any transaction that provides
excess economic benefits to a person in a
position to exercise substantial influence
over the affairs of a public charity or a
social welfare organization.
DATES:Effective Date: These regula-
tions are effective January 23, 2002.
Applicability Date: These regulations
apply as of January 23, 2002.
FOR FURTHER INFORMATION CON-
TACT: Phyllis D. Haney, (202) 622–4290
(not a toll-free number).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collections of information con-
tained in these final regulations have been
reviewed and approved by the Office of
Management and Budget in accordance
with the Paperwork Reduction Act (44
U.S.C. 3507) under control number
1545–1623. Responses to these collec-
tions of information are required to obtain
the benefit of the rebuttable presumption
that a transaction is reasonable or at fair
market value.
An agency may not conduct or spon-
sor, and a person is not required to
respond to, a collection of information
unless the collection of information dis-
plays a valid control number assigned by
the Office of Management and Budget.
The estimated annual burden per
recordkeeper varies from 3 hours to 308
hours, depending on individual circum-
stances, with an estimated weighted aver-
age of 6 hours, 3 minutes.
Comments concerning the accuracy of
this burden estimate and suggestions for
reducing this burden should be sent to the
Internal Revenue Service, Attn: IRS
ReportsClearanceOfficer,W:CAR:
MP:FP:S Washington, DC 20224, and to
theOffice of Management and Budget,
Attn: Desk Officer for the Department of
the Treasury, Office of Information and
Regulatory Affairs, Washington, DC
20503.
Books or records relating to this 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
required by 26 U.S.C. 6103.
Background
Section 4958 was added to the Internal
Revenue Code (Code) by the Taxpayer
Bill of Rights 2, Public Law 104–168
(110 Stat. 1452), enacted July 30, 1996.
The section 4958 excise taxes generally
apply to excess benefit transactions
occurring on or after September 14, 1995.
Any disqualified person who benefits
from an excess benefit transaction with an
applicable tax-exempt organization is
liable for a tax of 25 percent of the excess
benefit. The person is also liable for a tax
of 200 percent of the excess benefit if the
excess benefit is not corrected by a cer-
tain date. Adisqualified personis gener-
ally defined as a person in a position to
exercise substantial influence over the
affairs of the applicable tax-exempt orga-
nization. Anapplicable tax-exempt orga-
nizationis an organization described in
Code section 501(c)(3) or (4) and exempt
from tax under section 501(a). Addition-
ally, organization managers who partici-
pate in an excess benefit transaction
knowingly, willfully, and without reason-
able cause, are liable for a tax of 10 per-
cent of the excess benefit. The tax for
which all participating organization man-
agers are liable cannot exceed $10,000
for any one excess benefit transaction.
On August 4, 1998, a notice of pro-
posed rulemaking (REG–246256–96,
1998–2 C.B. 224) clarifying certain defi-
nitions and rules contained in section
4958 was published in theFederal Reg-
ister(63 FR 41486). The IRS received
numerous written comments responding
to this notice. A public hearing was held
on March 16 and 17, 1999. Those pro-
posed regulations were revised in
response to written and oral comments,
and replaced by temporary regulations
(T.D. 8920, 2001–8 I.R.B. 654 [66 FR
2144]) and a cross-referencing notice of
proposed rulemaking (REG–246256–96,
2001–8 I.R.B. 713 [66 FR 2173]) on
January 10, 2001. A few written com-
ments were received in response to the
notice of proposed rulemaking of January
10, 2001. A public hearing was held July
31, 2001. After consideration of all com-
ments received, the January 2001 cross-
referencing proposed regulations under
section 4958 are revised and published in
final form, and the temporary regulations
removed. The major areas of the com-
ments and revisions are discussed below.
Explanation and Summary of
Comments
Tax Paid by Organization Managers
Organization managers who participate
in an excess benefit transaction know-
ingly, willfully, and without reasonable
cause, are liable for a tax equal to 10 per-
cent of the excess benefit. The temporary
regulations provide that an organization
manager’s participation in an excess ben-
efit transaction will ordinarily not be con-
sideredknowingto the extent that, after
full disclosure of the factual situation to
an appropriate professional, the organiza-
tion manager relies on a reasoned written
opinion of that professional with respect
to elements of the transaction within the
professional’s expertise. For this purpose,
appropriate professionals are legal coun-
sel (including in-house counsel), certified
public accountants or accounting firms
with expertise regarding the relevant tax
law matters, and independent valuation
2002–7 I.R.B.500February 19, 2002

experts who meet specified requirements.
Oral comments at the public hearing
objected to this safe harbor, suggesting
instances of the unreliability of appraisers
and accountants. The final regulations
retain this safe harbor. The IRS and the
Treasury Department believe that an
organization manager who has sought and
relied upon an appropriate professional
opinion has not“fail[ed] to make reason-
able attempts to ascertain whether the
transaction is an excess benefit transac-
tion”, which is a required element of
knowingfor this purpose.
The temporary regulations provide an
additional safe harbor: that an organiza-
tion manager’s participation in a transac-
tion will ordinarily not be considered
knowingif the manager relies on the fact
that the requirements giving rise to the
rebuttable presumption of reasonableness
are satisfied with respect to the transac-
tion. Several comments were received
requesting that the safe harbor be modi-
fied, either to apply if the organization
manager“reasonably believes”that the
requirements for the presumption are sat-
isfied, or to eliminate the reliance require-
ment. In response to these comments, the
final regulations no longer require that the
organization manager rely on the fact that
the requirements of the rebuttable pre-
sumption of reasonableness are satisfied.
The final regulations state that the organi-
zation manager’s participation in a trans-
action will ordinarily not be considered
knowingif the appropriate authorized
body has met the requirements of the
rebuttable presumption with respect to the
transaction. The IRS and the Treasury
Department note that the relief given by
this provision is only a safe harbor, so
that failure to satisfy its requirements
does not necessarily mean that the organi-
zation manager acted knowingly.
Definition of Applicable Tax-Exempt
Organization
The temporary regulations provide that
any governmental entity that is exempt
from (or not subject to) taxation without
regard to section 501(a) is not an appli-
cable tax-exempt organization for pur-
poses of section 4958. A comment was
received requesting that the final regula-
tions clarify whether section 115 entities
are excepted from the definition ofappli-
cable tax-exempt organization. Because
section 115 exempts certain income, and
not the entity itself, the reference in the
temporary regulations to any governmen-
tal entity“exempt from tax”without
regard to section 501(a) is unclear. The
final regulations provide that for purposes
of section 4958, a governmental unit or
an affiliate of a governmental unit is not
anapplicable tax-exempt organizationif
it is: 1) exempt from (or not subject to)
taxation without regard to section 501(a);
or 2) relieved from filing an annual return
pursuant to the authority of Treasury
Regulations under section 6033.
Regulations under section 6033 grant
the Commissioner authority to relieve
organizations from filing an annual return
required by that section in cases where
the returns are not necessary for the effi-
cient administration of the internal rev-
enue laws. Under this authority, Rev.
Proc. 95–48 (1995–2 C.B. 418) relieves
“governmental units”and certain“affili-
ates of governmental units”from the
annual filing requirement. Agovernmen-
tal unitas defined in this revenue proce-
dure already falls within the exception
provided in the section 4958 temporary
regulations for“any governmental entity
that is exempt from (or not subject to)
taxation without regard to section
501(a)”.Anaffiliate of a governmental
unitthat is relieved from filing an annual
return by Rev. Proc. 95–48 (and thus also
excepted from the definition of anappli-
cable tax-exempt organizationunder
these section 4958 final regulations)
includes any organization described in
section 501(c) that has a ruling or deter-
mination from the IRS that: 1) its income,
derived from activities constituting the
basis for its exemption under section
501(c), is excluded from gross income
under section 115; 2) it is entitled to
receive deductible charitable contribu-
tions under section 170(c)(1) on the basis
that the contributions are“for the use of”
governmental units; or 3) it is a wholly
owned instrumentality of a State for
employment tax purposes. An organiza-
tion described in section 501(c) that does
not have such a ruling or determination
may also qualify as anaffiliate of a gov-
ernmental unitfor purposes of the rev-
enue procedure if: 1) it is either“oper-
ated, supervised, or controlled by”
governmental units within the meaning of
regulations under section 509; 2) it pos-
sesses at least two affiliation factors listed
in Rev. Proc. 95–48; and 3) its filing of
Form 990,“Return of Organization
Exempt From Income Tax”, is not other-
wise necessary for the efficient adminis-
tration of the internal revenue laws.
A comment was also received request-
ing that the final regulations exclude from
the definition ofapplicable tax-exempt
organizationcollectively bargained
apprenticeship funds subject to the rules
of the Labor Management Relations Act
of 1947 (61 Stat. 157) and the Employee
Retirement Income Security Act of 1974
(88 Stat. 854) (ERISA). The commenter
stated that, like governmental entities,
these funds seek recognition under Code
section 501(c)(3) on a strictly voluntary
basis, and are also eligible for tax exemp-
tion under Code section 501(c)(5). The
commenter also stated that applying sec-
tion 4958 to these funds would provide an
unnecessary layer of regulation, because
these plans already are subject to ERISA.
The final regulations do not except
collectively bargained apprenticeship
funds from the definition ofapplicable
tax-exempt organization. However, in
response to this comment, the final regu-
lations provide a special exception under
section 4958 for transactions that are cov-
ered by a final individual prohibited
transaction exemption issued by the
Department of Labor. The final regula-
tions provide that section 4958 does not
apply to any payment made pursuant to,
and in accordance with, a final individual
prohibited transaction exemption issued
by the Department of Labor under ERISA
with respect to a transaction involving a
plan that is an applicable tax-exempt
organization. Before granting an indi-
vidual prohibited transaction exemption
under ERISA, the Department of Labor
must determine that the particular trans-
action is in the interests of the plan and
its participants, and is protective of the
rights of participants in the plan. The IRS
and the Treasury Department believe that
the similarity between the ERISA stan-
dard (“in the interests of”and“protective
of the rights of”participants) and the fair
market value standard of section 4958
warrants this special exception.
Definition of Disqualified Person
The preamble of the temporary regula-
tions notes that the IRS and the Treasury
February 19, 20025012002–7 I.R.B.

Department considered adopting a special
rule with respect to so-calleddonor-
advised fundsmaintained by applicable
tax-exempt organizations, and requested
comments regarding potential issues
raised by applying the fair market value
standard of section 4958 to distributions
from a donor-advised fund to (or for the
use of) the donor or advisor. Several com-
ments were received on this issue. Most
of the comments objected to treating a
donor or advisor to this type of fund as a
disqualified person based solely on influ-
ence over a donor-advised fund. Others
stated that the existing factors contained
in the temporary regulations were
adequate to find disqualified person status
in appropriate circumstances. One com-
menter requested that if section 4958
were to apply to transactions involving
donor-advised funds, the fair market stan-
dard should apply, and requested addi-
tional definitions and exclusions if the
final regulations contained specific rules
for these types of funds.
In response to these comments, the
final regulations do not adopt a special
rule regarding any donor or advisor to a
donor-advised fund. Thus, the general
rules of§53.4958–3 will apply to deter-
mine if a donor or advisor is a disquali-
fied person.
Some additional comments were
received on other specific rules of thedis-
qualified persondefinition contained in
the temporary regulations. The final regu-
lations do not change the rules or descrip-
tions contained in the definition. How-
ever, several of the comments are
discussed below to explain why the IRS
and the Treasury Department concluded
that changes were not necessary or desir-
able. Other comments suggested changes
to the examples. In response to those
comments, several examples in this sec-
tion of the final regulations were revised
from the temporary regulations, as dis-
cussed below.
The temporary regulations state that an
organization described in section
501(c)(4) is deemed not to have substan-
tial influence with respect to another
applicable tax-exempt organization
described in section 501(c)(4). A section
501(c)(4) organization can, however,
have substantial influence with respect to
an organization described in section
501(c)(3). A commenter requested that
section 501(c)(4) organizations be
excluded from disqualified person status
with respect to all applicable tax-exempt
organizations.
The IRS and the Treasury Department
decline to expand the exclusion for sec-
tion 501(c)(4) organizations. A section
501(c)(4) organization can engage in cer-
tain activities (such as political campaign
activities) that a section 501(c)(3) organi-
zation cannot. Accordingly, the IRS and
the Treasury Department are concerned
about transactions in which a section
501(c)(3) organization may provide an
excess benefit to a section 501(c)(4) orga-
nization to avoid limitations of section
501(c)(3).
Oral comments at the public hearing
objected to including, as one of the fac-
tors tending to show no substantial influ-
ence, the fact that the person’s sole rela-
tionship to an applicable tax-exempt
organization is as a contractor (such as an
attorney, accountant, or investment man-
ager or advisor) providing professional
advice to the organization. The com-
menter suggested that these providers of
professional advice have a great deal of
influence over applicable tax-exempt
organizations, but choose not to exercise
that influence. The IRS and the Treasury
Department believe that the description of
this factor in the temporary regulations
includes sufficient safeguards to protect
the organization. Accordingly, the final
regulations retain this factor. Additionally,
being in this category of persons is
merely a factor tending to show no sub-
stantial influence. In appropriate circum-
stances, the IRS could still conclude that
a person ostensibly described in this cat-
egory was a disqualified person based on
all relevant facts and circumstances.
Another comment objected to the stan-
dard of one of the factors tending to show
substantial influence: that a person’s com-
pensation is primarily based on revenues
derived from activities of the organization
that the person controls. The commenter
suggested that this factor be modified to
provide that revenues controlled by the
person also represent a substantial part of
the organization’s total revenues. The IRS
and the Treasury Department do not
believe that a change is necessary. The
factor at issue is only one of many factors
that may be considered, and will be con-
sidered in conjunction with all relevant
facts and circumstances.
Another comment requested further
revision to two factors tending to show
substantial influence. The first factor
states that the person has or shares
authority to control or determine a sub-
stantial portion of the organization’s capi-
tal expenditures, operating budget, or
compensation for employees. The second
factor states that the person manages a
discrete segment or activity of the organi-
zation that represents a substantial portion
of the activities, assets, income, or
expense of the organization, as compared
to the organization as a whole. The com-
menter suggested that the first factor is
sufficient, and requested that the second
factor be deleted. Alternatively, the com-
menter requested that the final regulations
define the termsubstantial, and recom-
mended a safe harbor percentage of 15
percent.
The IRS and the Treasury Department
did not revise these two factors tending to
show substantial influence. The IRS and
the Treasury Department do not believe
that these two factors are redundant, as
they address budget and management
authority, respectively, and these two
functions may reside in different persons.
In addition, as with any of the listed fac-
tors, these two factors are considered
along with all other relevant facts and cir-
cumstances.
In response to a comment regarding
the examples of this section, the final
regulations revise an example that con-
cludes that a hospital management com-
pany is a disqualified person with respect
to the applicable tax-exempt organization.
The comment stated that the example
could create confusion because its lan-
guage does not match neatly with the fac-
tors tending to show substantial influence
listed in the temporary regulations. The
commenter also pointed out that, under
the facts of the example, the functions of
the management company seemed close
to those of a president, chief executive
officer, or chief operating officer, one of
the categories of persons who are deemed
to have substantial influence. The
example is revised in the final regulations
to illustrate that the management com-
pany is a disqualified personper se,
because it has ultimate responsibility for
2002–7 I.R.B.502February 19, 2002

supervising the management of the hospi-
tal, consistent with the regulatory descrip-
tion of the functions of a president, chief
executive officer, or chief operating
officer. By concluding that the manage-
ment company is a disqualified person,
this example also addresses a comment
requesting that final regulations clarify
whether only individuals could be per-
sons having substantial influence.
Economic Benefit Provided Indirectly
One comment analyzed examples in
the temporary regulations defining an
indirect excess benefit transaction. The
commenter questioned one example in
which the benefits provided to a disquali-
fied person by an applicable tax-exempt
organization and an entity controlled by
the organization are evaluated in the
aggregate, and the excess over reasonable
compensation for the services performed
by the disqualified person for both enti-
ties is treated as an excess benefit. The
commenter recommended that the
example be deleted or revised so that the
reasonableness of compensation provided
by each entity is evaluated separately.
The rules governing an indirect excess
benefit transaction are intended to prevent
an applicable tax-exempt organization
from avoiding section 4958 by using a
controlled entity to provide excess ben-
efits to a disqualified person. Thus, for
purposes of section 4958, economic ben-
efits provided by a controlled entity will
be treated as provided by the applicable
tax-exempt organization. Likewise, the
IRS and the Treasury Department believe
that any services performed by the dis-
qualified person for a controlled entity
should be taken into account in determin-
ing the reasonableness of compensation
paid by the applicable tax-exempt organi-
zation. Accordingly, this example is not
changed in the final regulations. How-
ever, the IRS and the Treasury Depart-
ment agree with the commenter that the
payment of compensation by an appli-
cable tax-exempt organization to a dis-
qualified person for services provided to a
controlled entity, other than a wholly-
owned subsidiary, may raise private ben-
efit issues if the other investors in the
entity do not make a proportional contri-
bution. Accordingly, another example in
this section is modified to clarify that the
controlled entity for which the disquali-
fied person performs services is a wholly-
owned subsidiary of the applicable tax-
exempt organization.
Initial Contract Exception
The temporary regulations provide that
section 4958 does not apply to anyfixed
paymentmade to a person pursuant to an
initial contract, regardless of whether the
payment would otherwise constitute an
excess benefit transaction. For this pur-
pose, aninitial contractis defined as a
binding written contract between an
applicable tax-exempt organization and a
person who was not a disqualified person
immediately prior to entering into the
contract. Afixed paymentmeans an
amount of cash or other property speci-
fied in the contract, or determined by a
fixed formula specified in the contract,
which is paid or transferred in exchange
for the provision of specified services or
property. A fixed formula may incorpo-
rate an amount that depends upon future
specified events or contingencies (e.g.,
revenues generated by activities of the
organization), provided that no person
exercises discretion when calculating the
amount of a payment or deciding whether
to make a payment. The temporary regu-
lations include examples to illustrate the
application of the initial contract rule.
Several comments were received on
this section of the temporary regulations,
including comments on specific
examples. Several commentators
requested a more liberal definition ofini-
tial contract. For instance, requests were
received to extend the initial contract
exception to cases where there is other
contemporaneous written evidence of the
terms of employment (but not a binding
contract), or for the rule to cover cases
where the parties agree to substantial
terms of the person’s employment, but
where a final contract has not been signed
before the person begins performing ser-
vices for the organization. As the term
binding written contractis governed by
State law, in some cases that term may in
fact be satisfied by an exchange of writ-
ings indicating the substantial terms of an
agreement. However, the IRS and the
Treasury Department decline to revise the
regulatory definition of this term from
that contained in the temporary regula-
tions.
One commenter at the public hearing
requested that the final regulations elimi-
nate the initial contract exception. In this
commenter’s view, the Seventh Circuit in
United Cancer Council, Inc. v. Commis-
sioner of Internal Revenue, 165 F.3d 1173
(7th Cir. 1999),rev’ing and remanding
109 T.C. 326 (1997), focused on the
wrong moment in time to determine
insider status (analogous to disqualified
person status under section 4958). The
commenter suggested that a person’s
insider status should be determined at the
time payments are made to the person.
Therefore, the commenter recommended
that the IRS and the Treasury Department
decline to follow the reasoning of the
Seventh Circuit’s decision in theUnited
Cancer Councilcase in the final regula-
tions. Alternatively, the commenter
requested that, if the initial contract
exception is retained in the section 4958
final regulations, the IRS and the Trea-
sury Department revise the private benefit
standard under the section 501(c)(3) regu-
lations to require that any private benefit
conferred by a transaction must be insub-
stantial relative to the public benefit
resulting from the transaction (rather than
the public benefit resulting from the orga-
nization’s overall activities).
Although theUnited Cancer Council
case addressed the issue of private inure-
ment under the standards of section
501(c)(3) in connection with revocation
of the organization’s tax exemption, the
temporary regulations address the con-
cerns expressed in the Seventh Circuit’s
opinion inUnited Cancer Councilin the
context of section 4958. The Seventh Cir-
cuit concluded that prohibited inurement
under section 501(c)(3) cannot result
from a contractual relationship negotiated
at arm’s length with a party having no
prior relationship with the organization,
regardless of the relative bargaining
strength of the parties or resultant control
over the tax-exempt organization created
by the terms of the contract. The tempo-
rary regulations provide that, to the extent
that an applicable tax-exempt organiza-
tion and a person who is not yet a dis-
qualified person enter into a binding writ-
ten contract that specifies the amounts to
be paid to the person (or specifies an
objective formula for calculating those
amounts), those fixed payments are not
subject to scrutiny under section 4958,
February 19, 20025032002–7 I.R.B.

even if paid after the person becomes a
disqualified person. However, the initial
contract exception does not apply if the
contract is materially modified or if the
person fails to substantially perform his
or her obligations under the contract. The
IRS and the Treasury Department believe
that the fact that the initial contract is
scrutinized again when either of these
situations occurs provides adequate pro-
tection to the applicable tax-exempt orga-
nization. In addition, the suggested revi-
sions to the regulations under section
501(c)(3) are beyond the scope of this
regulations project.
Several comments on specific
examples in the initial contract exception
section of the temporary regulations were
received. One writer commented that in
the example involving a hospital manage-
ment company, the structure of the man-
agement fee gives the management com-
pany an incentive to provide charity care
regardless of whether the hospital has the
financial resources to pay for it. The
intent of that example is merely to illus-
trate a fixed payment determined by a
fixed formula specified in the contract,
where the formula incorporates an
amount that is dependent on future speci-
fied events, but where no person exer-
cises discretion when calculating the
amount of a payment under the contract.
Therefore, the example remains
unchanged in the final regulations.
Additional comments were received
addressing the example in which the same
hospital management company also
received reimbursements for certain
expenses in addition to the fixed manage-
ment fee. The temporary regulations pro-
vide that any amount paid to a person
under a reimbursement (or similar)
arrangement where discretion is exercised
with respect to the amount of expenses
incurred or reimbursed is not afixed pay-
mentfor purposes of the section 4958 ini-
tial contract exception. A request was
made to distinguish such reimbursement
arrangements from payments determined
by a fixed formula based on revenues
from a particular activity, where a person
has discretion over the extent of the activ-
ity. The IRS and the Treasury Department
believe that reimbursement payments
should generally be evaluated for reason-
ableness for purposes of section 4958.
Consequently, the example is not modi-
fied in the final regulations, except to
clarify that the management fee is a fixed
payment, even though the reimbursement
payments under the contract are not.
However, as discussed below, the IRS and
the Treasury Department also believe that
reimbursement arrangements that meet
the requirements of§1.62–2(c) (expense
reimbursements pursuant to anaccount-
able plan) do not raise the same concerns
as other reimbursement payments,
because of the requirements to qualify as
anaccountable plan. Accordingly, the
final regulations disregard amounts reim-
bursed to employees pursuant to an
accountable plan (see the discussion of
this topic in this preamble under the head-
ing“Disregarded Economic Benefits”).
Because the hospital management com-
pany in the example is a contractor, and
not an employee, the expense reimburse-
ments do not fall within this exception for
expense reimbursements pursuant to an
accountable plan.
Disregarded Economic Benefits
The temporary regulations provide that
all fringe benefits excluded from income
under section 132 (except for certain
liability insurance premiums, payments or
reimbursements) are disregarded for sec-
tion 4958 purposes. To provide consistent
treatment of benefits provided in cash and
in kind, the final regulations also disre-
gard expense reimbursements paid pursu-
ant to an accountable plan that meets the
requirements of§1.62–2(c). Thus, as is
the case with section 132(d) working con-
dition fringe benefits, existing standards
under section 162 and section 274 will
apply to determine whether employee
expense reimbursements are disregarded
for section 4958 purposes, or are treated
as part of the disqualified person’s com-
pensation for purposes of determining
reasonableness under section 4958.
Several comments were received
requesting that lodging furnished for the
convenience of the employer (i.e., meet-
ing the requirements of section 119) be
disregarded for section 4958 purposes.
These comments suggested that benefits
excluded from gross income under sec-
tion 119 should be disregarded for pur-
poses of section 4958 because the policy
rationale underlying section 119 is the
same as that underlying section 132.
However, there are differences between
the two sections. In general, section 132
benefits are subject to nondiscrimination
rules or arede minimisin amount, which
is not the case with section 119 benefits.
The value of housing benefits is poten-
tially much larger than many of the sec-
tion 132 benefits, and therefore a greater
potential for abuse exists in the section
119 area. Accordingly, the IRS and the
Treasury Department believe it is appro-
priate to treat section 119 benefits differ-
ently from section 132 benefits by requir-
ing an evaluation for reasonableness.
The temporary regulations disregard
economic benefits provided to a donor
solely on account of a contribution
deductible under section 170 if two
requirements are met. First, any non-
disqualified person making a contribution
above a specified amount to the organiza-
tion is given the option of receiving sub-
stantially the same economic benefit. Sec-
ond, the disqualified person and a
significant number of non-disqualified
persons in fact make a contribution of at
least the specified amount. Several com-
ments were received requesting additional
guidance with respect to these disre-
garded benefits. One commenter asked
that the rule be revised to address contri-
butions that are not deductible by the
donor in the current year because of the
percentage limitations under section
170(b). That commenter also requested
that the final regulations provide for situ-
ations where no other donor makes a
comparable contribution to the specific
applicable tax-exempt organization. In
that instance, the commenter requested
that the benefits be considered in relation
to benefits customarily provided by simi-
lar organizations for that level of contri-
bution. Another commenter requested that
any benefit provided to a donor be disre-
garded if the value of the benefit does not
exceed the value of the donation and the
donor treats the benefit as aquid pro quo
that reduces the donor’s charitable contri-
bution deduction.
The IRS and the Treasury Department
decline to address situations where a dis-
qualified person makes a unique contribu-
tion to an applicable tax-exempt organiza-
tion. As a practical matter, an excess
benefit transaction would never arise in
connection with a contribution to an
applicable tax-exempt organization,
where the value of the contribution
2002–7 I.R.B.504February 19, 2002

exceeds the value of any benefit the
donor receives in return. However, in
response to comments, the final regula-
tions clarify that economic benefits made
available on equal terms to a disqualified
person and a significant number of other
donors who make charitable contributions
(within the meaning of section 170)
above a specified amount may be disre-
garded for purposes of section 4958, even
if the disqualified person cannot claim a
deduction under section 170 with respect
to the contribution, because the disquali-
fied person does not itemize deductions,
or is subject to the percentage limitations
under section 170(b).
Timing of Reasonableness Determination
The temporary regulations provide that
reasonableness is determined with respect
to anyfixed payment(as defined for pur-
poses of the initial contract rule) at the
time the parties enter into the contract.
For non-fixed payments, reasonableness
is determined based on all facts and cir-
cumstances, up to and including circum-
stances as of the date of payment. A com-
ment requested that final regulations
clarify that the timing for determining the
reasonableness of a benefit is not affected
by the existence of a substantial risk of
forfeiture. In response to this comment,
the final regulations are revised to clarify
that the general timing rules apply to
property subject to a substantial risk of
forfeiture. Therefore, if the property sub-
ject to a substantial risk of forfeiture sat-
isfies the definition offixed payment, rea-
sonableness is determined at the time the
parties enter into the contract providing
for the transfer of the property. If the
property is not a fixed payment, then rea-
sonableness is determined based on all
facts and circumstances, up to and includ-
ing circumstances as of the date of pay-
ment. An example is also added to illus-
trate how the regular timing rules for
determining reasonableness for section
4958 purposes apply to property that is
subject to a substantial risk of forfeiture.
Contemporaneous Substantiation
The temporary regulations provide that
an organization must provide written sub-
stantiation that is contemporaneous with
the transfer of benefits at issue in order to
provide clear and convincing evidence of
its intent to treat benefits provided to a
disqualified person as compensation for
services. This requirement may be satis-
fied by either: 1) the organization report-
ing the economic benefit as compensation
on an original Federal tax information
return, or on an amended Federal tax
information return filed prior to the com-
mencement of an IRS examination of the
applicable tax-exempt organization or the
disqualified person for the taxable year in
which the transaction occurred; or 2) the
recipient disqualified person reporting the
benefit as income on the person’s original
Federal tax return, or on the person’s
amended Federal tax return filed prior to
the commencement of an IRS examina-
tion. The final regulations clarify that for
an amended return filed by a disqualified
person to be considered contemporaneous
substantiation, the person must file an
amended return prior to the earlier of the
following dates: 1) commencement of an
IRS examination; or 2) the first documen-
tation in writing by the IRS of a potential
excess benefit transaction.
The temporary regulations provide
that, if a benefit is not reported on a
return filed with the IRS, other written
contemporaneous evidence (such as an
approved written employment contract
executed on or before the date of the
transfer) may be used to demonstrate that
the appropriate decision-making body or
an authorized officer approved a transfer
as compensation for services in accor-
dance with established procedures. A
comment was received requesting that the
reference to“established procedures”be
deleted.
The final regulations retain the refer-
ence to“established procedures”because
it appears in the legislative history to sec-
tion 4958 (See H. REP. NO. 506, 104th
Congress, 2d SESS. (1996), 53, 57). The
IRS will interpret the termestablished
proceduresto refer to the organization’s
usual practice for approving compensa-
tion, not to require an organization to
have a formal written procedure for
approving compensation. For clarity, the
final regulations replace the termautho-
rized officerwith“officerauthorized to
approve compensation”.
The final regulations also clarify that
written evidence upon which the appli-
cable tax-exempt organization based a
reasonable belief that a benefit was non-
taxable can serve as written contempora-
neous evidence demonstrating that a
transfer was approved as compensation,
even if the organization’s belief later
proves to be erroneous. The written evi-
dence must have been in existence on or
before the due date of the applicable Fed-
eral tax return (including extensions but
not amendments). The final regulations
include an example illustrating this rule.
Finally, the final regulations provide
that in no event will an economic benefit
that a disqualified person obtains by theft
or fraud be treated as consideration for
the performance of services.
Transaction in which the Amount of the
Economic Benefit is Determined in
Whole or in Part by the Revenues of
One or More Activities of the
Organization
Section 4958(c)(2) identifies a second
type of excess benefit transaction: any
transaction in which the amount of any
economic benefit provided to or for the
use of a disqualified person is determined
in whole or in part by the revenues of one
or more activities of the applicable tax-
exempt organization, where the transac-
tion results in impermissible inurement
under section 501(c)(3) or (4). The statute
provides, however, that this type of trans-
action is only an excess benefit transac-
tion to the extent provided in regulations
prescribed by the Secretary.
The August 1998 proposed regulations
provided standards for determining when
a revenue-sharing transaction constitutes
an excess benefit transaction. Numerous
comments were received on this section
of the proposed regulations. Commenters
offered multiple, often conflicting, sug-
gestions and recommendations to address
the many issues raised with respect to
revenue-sharing transactions.
The temporary regulations reserve the
section of the regulations governing
revenue-sharing transactions. The tempo-
rary regulations provide that, until spe-
cific rules are issued to regulate such
transactions, all transactions with dis-
qualified persons (regardless of whether
the person’s compensation is computed
by reference to revenues of the organiza-
tion) will be evaluated under general rules
defining anexcess benefit transactionin
§53.4958–4T. A written comment was
received supporting the decision to
February 19, 20025052002–7 I.R.B.

reserve that section of the regulations.
However, a speaker at the public hearing
objected to the lack of specific limits on
revenue-sharing transactions in the tem-
porary regulations. The speaker would
allow only a small percentage of a dis-
qualified person’s salary to be based on
an applicable tax-exempt organization’s
revenues.
Another comment asked whether
revenue-sharing transactions that are rea-
sonable in amount may nonetheless vio-
late the inurement prohibition, so that
they jeopardize the organization’s tax-
exempt status. The temporary regulations
and these final regulations make clear that
the general exemption standards of sec-
tions 501(c)(3) and (4) still apply. Under
these standards, inurement may exist even
though a disqualified person receives a
reasonable amount from a revenue-
sharing arrangement. However, most situ-
ations that constitute inurement will also
violate the general rules of§53.4958–4
(e.g., exceed reasonable compensation).
The final regulations continue to
reserve the separate section governing
revenue-sharing transactions. The IRS
and the Treasury Department will con-
tinue to monitor these types of transac-
tions, and if appropriate, will consider
issuing specific rules to regulate them.
Any later regulations that may become
necessary will be issued in proposed
form.
The final regulations provide that the
general rules of§53.4958–4 apply to all
transactions with disqualified persons,
regardless of whether the amount of the
benefit provided is determined, in whole
or in part, by the revenues of one or more
activities of the organization.
Rebuttable Presumption that a
Transaction is not an Excess Benefit
Transaction
An informal question was presented
with respect to the definition ofautho-
rized bodycontained in the temporary
regulations for purposes of the rebuttable
presumption of reasonableness. The IRS
was asked whether approval by one
authorized official of an applicable tax-
exempt organization could satisfy the
requirement of approval by anauthorized
bodyfor purposes of establishing the pre-
sumption. Under the regulatory definition
ofauthorized bodyin both the temporary
regulations and these final regulations, a
single individual may constitute either a
committee of the governing body or a
party authorized by the governing body to
act on its behalf, if State law allows a
single individual to act in either of these
capacities.
Correction
Several comments were received with
respect to the specific correction rules
contained in the temporary regulations.
One commenter requested that, in the
case of an excess benefit involving a
transfer of property by an applicable tax-
exempt organization to a disqualified per-
son, the final regulations be modified to
require the return of the specific property
if the organization wants the property
back. The commenter suggested that such
a rule would be consistent with the pri-
vate foundation self-dealing regulations
under section 4941, which require rescis-
sion of the transaction where possible.
Rescission is appropriate under section
4941, where most transactions between a
private foundation and a disqualified per-
son are absolutely prohibited. By con-
trast, section 4958 is intended to ensure
that transactions between an applicable
tax-exempt organization and a disquali-
fied person, which are permissible, do not
result in an excess benefit to the disquali-
fied person. Therefore, no change has
been made in the final regulations on this
point.
Another commenter requested addi-
tional guidance on the rules governing
correction in the case of an applicable
tax-exempt organization that has ceased
to exist, or is no longer tax-exempt. The
temporary regulations provide that, in
such cases, the correction amount may
not be paid to an organization that is
related to the disqualified person. The
commenter noted that the“related to”
standard is imprecise. The commenter
suggested replacing this standard with a
requirement that the recipient organiza-
tion in these instances either be a
publicly-supported charity with respect to
which the disqualified person has no
authority to make or recommend grants,
or an organization selected with the con-
sent of the appropriate State official.
In response to this comment, the final
regulations require that a section
501(c)(3) organization receiving the cor-
rection amount be a publicly-supported
charity that has been in existence as such
for a continuous period of at least 60 cal-
endar months ending on the correction
date. The time in existence requirement
prevents the disqualified person from cre-
ating a new organization to receive the
correction amount. The final regulations
also require that the organization receiv-
ing the correction amount does not allow
the disqualified person to make or recom-
mend any grants or distributions by the
organization. The final regulations
replace the relatedness standard with a
requirement that the disqualified person is
not also a disqualified person with respect
to the organization receiving the correc-
tion amount. Similar requirements, except
for the publicly-supported charity require-
ment, apply to a section 501(c)(4) organi-
zation receiving the correction amount.
Factors to Determine Whether
Revocation is Appropriate
The preamble of the August 1998 pro-
posed regulations listed four factors that
the IRS will consider in determining
whether to revoke an applicable tax-
exempt organization’s exempt status: 1)
whether the organization has been
involved in repeated excess benefit trans-
actions; 2) the size and scope of the
excess benefit transaction; 3) whether,
after concluding that it has been party to
an excess benefit transaction, the organi-
zation has implemented safeguards to
prevent future recurrences; and 4)
whether there was compliance with other
applicable laws. The preamble of the tem-
porary regulations indicates that the IRS
will publish guidance regarding the fac-
tors that it will consider in enforcing the
requirements of sections 4958, 501(c)(3),
and 501(c)(4), as it gains more experience
in administering section 4958. One com-
ment was received recommending several
factors in addition to the four factors. The
IRS continues to consider the suggested
additions and revisions. Until it publishes
a revised or expanded list of factors, the
IRS will consider all relevant facts and
2002–7 I.R.B.506February 19, 2002

circumstances in the administration of
section 4958 cases.
Other Substantiation Requirements
The final regulations add a special rule
clarifying that compliance with the spe-
cific substantiation rules of the regula-
tions does not relieve applicable tax-
exempt organizations of other rules and
requirements of the Code, regulations,
Revenue Rulings, and other guidance
issued by the IRS (such as the substantia-
tion rules of sections 162 and 274, or
§1.6001–1(a) and (c)).
Special Analyses
It has been determined that this Trea-
sury decision is not a significant regula-
tory action as defined in Executive Order
12866. Therefore, a regulatory assess-
ment is not required. A final regulatory
flexibility analysis has been prepared for
a collection of information in this Trea-
sury decision under 5 U.S.C. 604.
Final Regulatory Flexibility Analysis
These final regulations clarifying sec-
tion 4958 of the Code (Taxes on excess
benefit transactions) may have an impact
on small organizations if those organiza-
tions avail themselves of the rebuttable
presumption of reasonableness described
in the regulations (26 CFR 53.4958–
6(a)(2), 53.4958–6(a)(3), 53.4958–
6(c)(2), and 53.4958–6(c)(3)). The rebut-
table presumption is available because the
legislative history of section 4958 (H.
REP. 506, 104th Congress, 2d SESS.
(1996), 53, 56–7) stated that parties to a
transaction should be entitled to rely on
such a rebuttable presumption that a com-
pensation arrangement or a property
transaction between certain organizations
and disqualified persons of the organiza-
tions is reasonable or at fair market value.
The legislative history further instructed
the Secretary of the Treasury and the IRS
to issue guidance in connection with the
standard for establishing reasonable com-
pensation or fair market value that incor-
porates this presumption.
The objective for the rebuttable pre-
sumption is to allow organizations that
satisfy the three requirements to presume
that compensation arrangements and
property transactions entered into with
disqualified persons pursuant to satisfac-
tion of those requirements are reasonable
or at fair market value. In such cases, the
section 4958 excise taxes can be imposed
only if the IRS develops sufficient con-
trary evidence to rebut the probative
value of the evidence put forth by the par-
ties to the transaction. The legal basis for
the proposed rule is Code sections 4958
and 7805.
The final rule affects organizations
described in Code sections 501(c)(3) and
(4) (applicable tax-exempt organizations).
Some applicable tax-exempt organiza-
tions may be small organizations, defined
in 5 U.S.C. 601(4) as any not-for-profit
enterprise which is independently owned
and operated and is not dominant in its
field.
The proposed recordkeeping burden
entails obtaining and relying on appropri-
ate comparability data and documenting
the basis of an organization’s determina-
tion that compensation is reasonable, or a
property transfer (or transfer of the right
to use property) is at fair market value.
These actions are necessary to meet two
of the requirements specified in the legis-
lative history for obtaining the rebuttable
presumption of reasonableness. The skills
necessary for these actions are of the type
required for obtaining and considering
comparability data, and for documenting
the membership and actions of the gov-
erning board or relevant committee of the
organization. Applicable tax-exempt orga-
nizations that are small entities of the
class that files Form 990–EZ,“Short
Form Return of Organization Exempt
From Income Tax”(i.e., those with gross
receipts of less than $100,000 and assets
of less than $250,000), are unlikely to
undertake fulfilling the requirements of
the rebuttable presumption of reasonable-
ness, and therefore will not be affected by
the recordkeeping burden. All other
classes of applicable tax-exempt organi-
zations that file Form 990,“Return of
Organization Exempt from Income Tax”,
up to organizations with assets of $50
million, are likely to be small organiza-
tions that avail themselves of the rebut-
table presumption of reasonableness.
These classes range from organizations
with assets of $100,000 to $50 million.
The final rule contains a less burdensome
safe harbor for one of the requirements
(obtaining comparability data on compen-
sation) for organizations with annual
gross receipts of less than $1 million. The
IRS is not aware of any other relevant
Federal rules which may duplicate, over-
lap, or conflict with the final rule. A less
burdensome alternative for small organi-
zations would be to exempt those entities
from the requirements for establishing the
rebuttable presumption of reasonableness.
However, it is not consistent with the stat-
ute to allow organizations to rely on this
presumption without satisfying some con-
ditions. Satisfaction of the requirements
as outlined in the legislative history leads
to a benefit, but failure to satisfy them
does not necessarily lead to a penalty. A
more burdensome alternative would be to
requireall applicable tax-exempt organi-
zations under Code section 4958 to sat-
isfy the three requirements of the rebut-
table presumption of reasonableness
under all circumstances.
Pursuant to section 7805(f) of the
Code, this final regulation will be submit-
ted to the Chief Counsel for Advocacy of
the Small Business Administration for
comment on its impact on business.
Drafting Information
The principal author of these regula-
tions is Phyllis D. Haney, Office of Divi-
sion Counsel/Associate Chief Counsel
(Tax Exempt and Government Entities).
However, other personnel from the IRS
and the Treasury Department participated
in their development.
*****
Amendments to the Regulations
Accordingly, 26 CFR parts 53, 301,
and 602 are amended as follows:
PA RT 5 3—FOUNDATION AND
SIMILAR EXCISE TAXES
Paragraph 1. The authority citation for
part 53 continues to read as follows:
Authority: 26 U.S.C. 7805.
Par. 1a. Sections 53.4958–0T through
53.4958–8T are removed.
Par. 2. Sections 53.4958–0 through
53.4958–8 are added to read as follows:
§53.4958–0 Table of contents.
February 19, 20025072002–7 I.R.B.

This section lists the major captions
contained in§§53.4958–1 through
53.4958–8.
§53.4958–1 Taxes on excess benefit
transactions.
(a) In general.
(b) Excess benefit defined.
(c) Taxes paid by disqualified person.
(1) Initial tax.
(2) Additional tax on disqualified person.
(i) In general.
(ii) Taxable period.
(iii) Abatement if correction during the
correction period.
(d) Tax paid by organization managers.
(1) In general.
(2) Organization manager defined.
(i) In general.
(ii) Special rule for certain committee
members.
(3) Participation.
(4) Knowing.
(i) In general.
(ii) Amplification of general rule.
(iii) Reliance on professional advice.
(iv) Satisfaction of rebuttable presump-
tion of reasonableness.
(5) Willful.
(6) Due to reasonable cause.
(7) Limits on liability for management.
(8) Joint and several liability.
(9) Burden of proof.
(e) Date of occurrence.
(1) In general.
(2) Special rules.
(3) Statute of limitations rules.
(f) Effective date for imposition of taxes.
(1) In general.
(2) Existing binding contracts.
§53.4958–2 Definition of applicable
tax-exempt organization.
(a) Organizations described in section
501(c)(3) or (4) and exempt from tax
under section 501(a).
(1) In general.
(2) Exceptions from definition of appli-
cable tax-exempt organization.
(i) Private foundation.
(ii) Governmental unit or affiliate.
(3) Organizations described in section
501(c)(3).
(4) Organizations described in section
501(c)(4).
(5) Effect of non-recognition or revoca-
tion of exempt status.
(b) Special rules.
(1) Transition rule for lookback period.
(2) Certain foreign organizations.
§53.4958–3 Definition of disqualified
person.
(a) In general.
(1) Scope of definition.
(2) Transition rule for lookback period.
(b) Statutory categories of disqualified
persons.
(1) Family members.
(2) Thirty-five percent controlled entities.
(i) In general.
(ii) Combined voting power.
(iii) Constructive ownership rules.
(A) Stockholdings.
(B) Profits or beneficial interest.
(c) Persons having substantial influence.
(1) Voting members of the governing
body.
(2) Presidents, chief executive officers, or
chief operating officers.
(3) Treasurers and chief financial officers.
(4) Persons with a material financial
interest in a provider-sponsored organiza-
tion.
(d) Persons deemed not to have substan-
tial influence.
(1) Tax-exempt organizations described in
section 501(c)(3).
(2) Certain section 501(c)(4) organiza-
tions.
(3) Employees receiving economic ben-
efits of less than a specified amount in a
taxable year.
(e) Facts and circumstances govern in all
other cases.
(1) In general.
(2) Facts and circumstances tending to
show substantial influence.
(3) Facts and circumstances tending to
show no substantial influence.
(f) Affiliated organizations.
(g) Examples.
§53.4958–4 Excess benefit transaction.
(a) Definition of excess benefit transac-
tion.
(1) In general.
(2) Economic benefit provided indirectly.
(i) In general.
(ii) Through a controlled entity.
(A) In general.
(B) Definition of control.
(1) In general.
(2) Constructive ownership.
(iii) Through an intermediary.
(iv) Examples.
(3) Exception for fixed payments made
pursuant to an initial contract.
(i) In general.
(ii) Fixed payment.
(A) In general.
(B) Special rules.
(iii) Initial contract.
(iv) Substantial performance required.
(v) Treatment as a new contract.
(vi) Evaluation of non-fixed payments.
(vii) Examples.
(4) Certain economic benefits disregarded
for purposes of section 4958.
(i) Nontaxable fringe benefits.
(ii) Expense reimbursement payments
pursuant to accountable plans.
(iii) Certain economic benefits provided
to a volunteer for the organization.
(iv) Certain economic benefits provided
to a member of, or donor to, the organi-
zation.
(v) Economic benefits provided to a
charitable beneficiary.
(vi) Certain economic benefits provided
to a governmental unit.
(5) Exception for certain payments made
pursuant to an exemption granted by the
Department of Labor under ERISA.
(b) Valuation standards.
(1) In general.
(i) Fair market value of property.
(ii) Reasonable compensation.
(A) In general.
(B) Items included in determining the
value of compensation for purposes of
determining reasonableness under section
4958.
(C) Inclusion in compensation for reason-
ableness determination does not govern
income tax treatment.
(2) Timing of reasonableness determina-
tion.
(i) In general.
(ii) Treatment as a new contract.
(iii) Examples.
(c) Establishing intent to treat economic
benefit as consideration for the perfor-
mance of services.
(1) In general.
(2) Nontaxable benefits.
(3) Contemporaneous substantiation.
(i) Reporting of benefit.
(A) In general.
(B) Failure to report due to reasonable
cause.
2002–7 I.R.B.508February 19, 2002

(ii) Other written contemporaneous evi-
dence.
(4) Examples.
§53.4958–5 Transaction in which the
amount of the economic benefit is
determined in whole or in part by the
revenues of one or more activities of the
organization. [Reserved]
§53.4958–6 Rebuttable presumption that
a transaction is not an excess benefit
transaction.
(a) In general.
(b) Rebutting the presumption.
(c) Requirements for invoking rebuttable
presumption.
(1) Approval by an authorized body.
(i) In general.
(ii) Individuals not included on autho-
rized body.
(iii) Absence of conflict of interest.
(2) Appropriate data as to comparability.
(i) In general.
(ii) Special rule for compensation paid by
small organizations.
(iii) Application of special rule for small
organizations.
(iv) Examples.
(3) Documentation.
(d) No presumption with respect to non-
fixed payments until amounts are deter-
mined.
(1) In general.
(2) Special rule for certain non-fixed pay-
ments subject to a cap.
(e) No inference from absence of pre-
sumption.
(f) Period of reliance on rebuttable pre-
sumption.
§53.4958–7 Correction.
(a) In general.
(b) Form of correction.
(1) Cash or cash equivalents.
(2) Anti-abuse rule.
(3) Special rule relating to nonqualified
deferred compensation.
(4) Return of specific property.
(i) In general.
(ii) Payment not equal to correction
amount.
(iii) Disqualified person may not partici-
pate in decision.
(c) Correction amount.
(d) Correction where contract has been
partially performed.
(e) Correction in the case of an applicable
tax-exempt organization that has ceased
to exist, or is no longer tax-exempt.
(1) In general.
(2) Section 501(c)(3) organizations.
(3) Section 501(c)(4) organizations.
(f) Examples.
§53.4958–8 Special rules.
(a) Substantive requirements for exemp-
tion still apply.
(b) Interaction between section 4958 and
section 7611 rules for church tax inquiries
and examinations.
(c) Other substantiation requirements.
§53.4958–1 Taxes on excess benefit
transactions.
(a)In general. Section 4958 imposes
excise taxes on each excess benefit trans-
action (as defined in section 4958(c) and
§53.4958–4) between an applicable tax-
exempt organization (as defined in sec-
tion 4958(e) and§53.4958–2) and a dis-
qualified person (as defined in section
4958(f)(1) and§53.4958–3). A disquali-
fied person who receives an excess ben-
efit from an excess benefit transaction is
liable for payment of a section 4958(a)(1)
excise tax equal to 25 percent of the
excess benefit. If an initial tax is imposed
by section 4958(a)(1) on an excess ben-
efit transaction and the transaction is not
corrected (as defined in section
4958(f)(6) and§53.4958–7) within the
taxable period (as defined in section
4958(f)(5) and paragraph (c)(2)(ii) of this
section), then any disqualified person
who received an excess benefit from the
excess benefit transaction on which the
initial tax was imposed is liable for an
additional tax of 200 percent of the
excess benefit. An organization manager
(as defined in section 4958(f)(2) and
paragraph (d) of this section) who partici-
pates in an excess benefit transaction,
knowing that it was such a transaction, is
liable for payment of a section 4958(a)(2)
excise tax equal to 10 percent of the
excess benefit, unless the participation
was not willful and was due to reasonable
cause. If an organization manager also
receives an excess benefit from an excess
benefit transaction, the manager may be
liable for both taxes imposed by section
4958(a).
(b)Excess benefit defined. An excess
benefit is the amount by which the value
of the economic benefit provided by an
applicable tax-exempt organization
directly or indirectly to or for the use of
any disqualified person exceeds the value
of the consideration (including the perfor-
mance of services) received for providing
such benefit.
(c)Taxespaidbydisqualified
person—(1)Initial tax. Section
4958(a)(1) imposes a tax equal to 25 per-
cent of the excess benefit on each excess
benefit transaction. The section
4958(a)(1) tax shall be paid by any dis-
qualified person who received an excess
benefit from that excess benefit transac-
tion. With respect to any excess benefit
transaction, if more than one disqualified
person is liable for the tax imposed by
section 4958(a)(1), all such persons are
jointly and severally liable for that tax.
(2)Additional tax on disqualified
person—(i)In general. Section 4958(b)
imposes a tax equal to 200 percent of the
excess benefit in any case in which sec-
tion 4958(a)(1) imposes a 25-percent tax
on an excess benefit transaction and the
transaction is not corrected (as defined in
section 4958(f)(6) and§53.4958–7)
within the taxable period (as defined in
section 4958(f)(5) and paragraph
(c)(2)(ii) of this section). If a disqualified
person makes a payment of less than the
full correction amount under the rules of
§53.4958–7, the 200-percent tax is
imposed only on the unpaid portion of the
correctionamount(asdescribedin
§53.4958–7(c)). The tax imposed by sec-
tion 4958(b) is payable by any disquali-
fied person who received an excess ben-
efit from the excess benefit transaction on
which the initial tax was imposed by sec-
tion 4958(a)(1). With respect to any
excess benefit transaction, if more than
one disqualified person is liable for the
tax imposed by section 4958(b), all such
persons are jointly and severally liable for
that tax.
(ii)Taxable period.Taxable period
means, with respect to any excess benefit
transaction, the period beginning with the
date on which the transaction occurs and
ending on the earlier of—
(A) The date of mailing a notice of
deficiency under section 6212 with
respect to the section 4958(a)(1) tax; or
February 19, 20025092002–7 I.R.B.

(B) The date on which the tax imposed
by section 4958(a)(1) is assessed.
(iii)Abatement if correction during the
correction period. For rules relating to
abatement of taxes on excess benefit
transactions that are corrected within the
correction period, as defined in section
4963(e), see sections 4961(a), 4962(a),
and the regulations thereunder. The abate-
ment rules of section 4961 specifically
provide for a 90-day correction period
after the date of mailing a notice of defi-
ciency under section 6212 with respect to
the section 4958(b) 200-percent tax. If the
excess benefit is corrected during that
correction period, the 200-percent tax
imposed shall not be assessed, and if
assessed the assessment shall be abated,
and if collected shall be credited or
refunded as an overpayment. For special
rules relating to abatement of the
25-percent tax, see section 4962.
(d)Taxpaidbyorganization
managers—(1)In general. In any case in
which section 4958(a)(1) imposes a tax,
section 4958(a)(2) imposes a tax equal to
10 percent of the excess benefit on the
participation of any organization manager
who knowingly participated in the excess
benefit transaction, unless such participa-
tion was not willful and was due to rea-
sonable cause. Any organization manager
who so participated in the excess benefit
transaction must pay the tax.
(2)Organization manager defined—(i)
In general. An organization manager is,
with respect to any applicable tax-exempt
organization, any officer, director, or
trustee of such organization, or any indi-
vidual having powers or responsibilities
similar to those of officers, directors, or
trustees of the organization, regardless of
title. A person is an officer of an organi-
zation if that person—
(A) Is specifically so designated under
the certificate of incorporation, by-laws,
or other constitutive documents of the
organization; or
(B) Regularly exercises general
authority to make administrative or policy
decisions on behalf of the organization. A
contractor who acts solely in a capacity as
an attorney, accountant, or investment
manager or advisor, is not an officer. For
purposes of this paragraph (d)(2)(i)(B),
any person who has authority merely to
recommend particular administrative or
policy decisions, but not to implement
them without approval of a superior, is
not an officer.
(ii)Special rule for certain committee
members. An individual who is not an
officer, director, or trustee, yet serves on
a committee of the governing body of an
applicable tax-exempt organization (or as
a designee of the governing body
described in§53.4958–6(c)(1)) that is
attempting to invoke the rebuttable pre-
sumption of reasonableness described in
§53.4958–6 based on the committee’s (or
designee’s) actions, is an organization
manager for purposes of the tax imposed
by section 4958(a)(2).
(3)Participation. For purposes of sec-
tion 4958(a)(2) and this paragraph (d),
participation includes silence or inaction
on the part of an organization manager
where the manager is under a duty to
speak or act, as well as any affirmative
action by such manager. An organization
manager is not considered to have partici-
pated in an excess benefit transaction,
however, where the manager has opposed
the transaction in a manner consistent
with the fulfillment of the manager’s
responsibilities to the applicable tax-
exempt organization.
(4)Knowing—(i)In general. For pur-
poses of section 4958(a)(2) and this para-
graph (d), a manager participates in a
transaction knowingly only if the
person—
(A) Has actual knowledge of sufficient
facts so that, based solely upon those
facts, such transaction would be an excess
benefit transaction;
(B) Is aware that such a transaction
under these circumstances may violate
the provisions of Federal tax law govern-
ing excess benefit transactions; and
(C) Negligently fails to make reason-
able attempts to ascertain whether the
transaction is an excess benefit transac-
tion, or the manager is in fact aware that
it is such a transaction.
(ii)Amplification of general rule.
Knowingdoes not mean having reason to
know. However, evidence tending to
show that a manager has reason to know
of a particular fact or particular rule is
relevant in determining whether the man-
ager had actual knowledge of such a fact
or rule. Thus, for example, evidence tend-
ing to show that a manager has reason to
know of sufficient facts so that, based
solely upon such facts, a transaction
would be an excess benefit transaction is
relevant in determining whether the man-
ager has actual knowledge of such facts.
(iii)Reliance on professional advice.
An organization manager’s participation
in a transaction is ordinarily not consid-
ered knowing within the meaning of sec-
tion 4958(a)(2), even though the transac-
tion is subsequently held to be an excess
benefit transaction, to the extent that,
after full disclosure of the factual situa-
tion to an appropriate professional, the
organization manager relies on a reasoned
written opinion of that professional with
respect to elements of the transaction
within the professional’s expertise. For
purposes of section 4958(a)(2) and this
paragraph (d), a written opinion is rea-
soned even though it reaches a conclusion
that is subsequently determined to be
incorrect so long as the opinion addresses
itself to the facts and the applicable stan-
dards. However, a written opinion is not
reasoned if it does nothing more than
recite the facts and express a conclusion.
The absence of a written opinion of an
appropriate professional with respect to a
transaction shall not, by itself, however,
give rise to any inference that an organi-
zation manager participated in the trans-
action knowingly. For purposes of this
paragraph, appropriate professionals on
whose written opinion an organization
manager may rely, are limited to—
(A) Legal counsel, including in-house
counsel;
(B) Certified public accountants or
accounting firms with expertise regarding
the relevant tax law matters; and
(C) Independent valuation experts
who—
(1) Hold themselves out to the public
as appraisers or compensation consult-
ants;
(2) Perform the relevant valuations on
a regular basis;
(3) Are qualified to make valuations of
the type of property or services involved;
and
(4) Include in the written opinion a
certification that the requirements of
paragraphs (d)(4)(iii)(C)(1) through (3)of
this section are met.
(iv)Satisfaction of rebuttable pre-
sumption of reasonableness. An organiza-
tion manager’s participation in a transac-
tion is ordinarily not considered knowing
2002–7 I.R.B.510February 19, 2002

within the meaning of section 4958(a)(2),
even though the transaction is subse-
quently held to be an excess benefit trans-
action, if the appropriate authorized body
has met the requirements of§53.4958–
6(a) with respect to the transaction.
(5)Willful. For purposes of section
4958(a)(2) and this paragraph (d), partici-
pation by an organization manager is
willful if it is voluntary, conscious, and
intentional. No motive to avoid the
restrictions of the law or the incurrence of
any tax is necessary to make the partici-
pation willful. However, participation by
an organization manager is not willful if
the manager does not know that the trans-
action in which the manager is participat-
ing is an excess benefit transaction.
(6)Due to reasonable cause. An orga-
nization manager’s participation is due to
reasonable cause if the manager has exer-
cised responsibility on behalf of the orga-
nization with ordinary business care and
prudence.
(7)Limits on liability for management.
The maximum aggregate amount of tax
collectible under section 4958(a)(2) and
this paragraph (d) from organization man-
agers with respect to any one excess ben-
efit transaction is $10,000.
(8)Joint and several liability.Inany
case where more than one person is liable
for a tax imposed by section 4958(a)(2),
all such persons shall be jointly and sev-
erally liable for the taxes imposed under
section 4958(a)(2) with respect to that
excess benefit transaction.
(9)Burden of proof. For provisions
relating to the burden of proof in cases
involving the issue of whether an organi-
zation manager has knowingly partici-
pated in an excess benefit transaction, see
section 7454(b) and§301.7454–2 of this
chapter. In these cases, the Commissioner
bears the burden of proof.
(e)Date of occurrence—(1)In gen-
eral. Except as otherwise provided, an
excess benefit transaction occurs on the
date on which the disqualified person
receives the economic benefit for Federal
income tax purposes. When a single con-
tractual arrangement provides for a series
of compensation or other payments to (or
for the use of) a disqualified person over
the course of the disqualified person’s
taxable year (or part of a taxable year),
any excess benefit transaction with
respect to these aggregate payments is
deemed to occur on the last day of the
taxable year (or if the payments continue
for part of the year, the date of the last
payment in the series).
(2)Special rules. In the case of ben-
efits provided pursuant to a qualified pen-
sion, profit-sharing, or stock bonus plan,
the transaction occurs on the date the ben-
efit is vested. In the case of a transfer of
property that is subject to a substantial
risk of forfeiture or in the case of rights to
future compensation or property (includ-
ing benefits under a nonqualified deferred
compensation plan), the transaction
occurs on the date the property, or the
rights to future compensation or property,
is not subject to a substantial risk of for-
feiture. However, where the disqualified
person elects to include an amount in
gross income in the taxable year of trans-
fer pursuant to section 83(b), the general
rule of paragraph (e)(1) of this section
applies to the property with respect to
which the section 83(b) election is made.
Any excess benefit transaction with
respect to benefits under a deferred com-
pensation plan which vest during any tax-
able year of the disqualified person is
deemed to occur on the last day of such
taxable year. For the rules governing the
timing of the reasonableness determina-
tion for deferred, contingent, and certain
othernoncashcompensation,see
§53.4958–4(b)(2).
(3)Statute of limitations rules. See
sections 6501(e)(3) and (l) and the regu-
lations thereunder for statute of limita-
tions rules as they apply to section 4958
excise taxes.
(f)Effective date for imposition of
taxes—(1)In general. The section 4958
taxes imposed on excess benefit transac-
tions or on participation in excess benefit
transactions apply to transactions occur-
ring on or after September 14, 1995.
(2)Existing binding contracts. The
section 4958 taxes do not apply to any
transaction occurring pursuant to a writ-
ten contract that was binding on Septem-
ber 13, 1995, and at all times thereafter
before the transaction occurs. A written
binding contract that is terminable or sub-
ject to cancellation by the applicable tax-
exempt organization without the disquali-
fied person’s consent (including as the
result of a breach of contract by the dis-
qualified person) and without substantial
penalty to the organization, is no longer
treated as a binding contract as of the ear-
liest date that any such termination or
cancellation, if made, would be effective.
If a binding written contract is materially
changed, it is treated as a new contract
entered into as of the date the material
change is effective. A material change
includes an extension or renewal of the
contract (other than an extension or
renewal that results from the person con-
tracting with the applicable tax-exempt
organization unilaterally exercising an
option expressly granted by the contract),
or a more than incidental change to any
payment under the contract.
§53.4958–2 Definition of applicable
tax-exempt organization.
(a)Organizations described in section
501(c)(3) or (4) and exempt from tax
under section 501(a)—(1)In general.An
applicable tax-exempt organization is any
organization that, without regard to any
excess benefit, would be described in sec-
tion 501(c)(3) or (4) and exempt from tax
under section 501(a). An applicable tax-
exempt organization also includes any
organization that was described in section
501(c)(3) or (4) and was exempt from tax
under section 501(a) at any time during a
five-year period ending on the date of an
excess benefit transaction (the lookback
period).
(2)Exceptions from definition of appli-
cable tax-exempt organization—(i)Pri-
vate foundation. A private foundation as
defined in section 509(a) is not an appli-
cable tax-exempt organization for section
4958 purposes.
(ii)Governmental unit or affiliate.A
governmental unit or an affiliate of a gov-
ernmental unit is not an applicable tax-
exempt organization for section 4958 pur-
poses if it is—
(A) Exempt from (or not subject to)
taxation without regard to section 501(a);
or
(B) Relieved from filing an annual
return pursuant to the authority of
§1.6033–2(g)(6).
(3)Organizations described in section
501(c)(3). An organization is described in
section 501(c)(3) for purposes of section
4958 only if the organization—
(i) Provides the notice described in
section 508; or
February 19, 20025112002–7 I.R.B.

(ii) Is described in section 501(c)(3)
and specifically is excluded from the
requirements of section 508 by that sec-
tion.
(4)Organizations described in section
501(c)(4). An organization is described in
section 501(c)(4) for purposes of section
4958 only if the organization—
(i) Has applied for and received recog-
nition from the Internal Revenue Service
as an organization described in section
501(c)(4); or
(ii) Has filed an application for recog-
nition under section 501(c)(4) with the
Internal Revenue Service, has filed an
annual information return as a section
501(c)(4) organization under the Internal
Revenue Code or regulations promul-
gated thereunder, or has otherwise held
itself out as being described in section
501(c)(4) and exempt from tax under sec-
tion 501(a).
(5)Effect of non-recognition or revo-
cation of exempt status. An organization
is not described in paragraph (a)(3) or (4)
of this section during any period covered
by a final determination or adjudication
that the organization is not exempt from
tax under section 501(a) as an organiza-
tion described in section 501(c)(3) or (4),
so long as that determination or adjudica-
tion is not based upon participation in
inurement or one or more excess benefit
transactions. However, the organization
may be an applicable tax-exempt organi-
zation for that period as a result of the
five-year lookback period described in
paragraph (a)(1) of this section.
(b)Special rules—(1)Transition rule
for lookback period. In the case of any
excess benefit transaction occurring
before September 14, 2000, the lookback
period described in paragraph (a)(1) of
this section begins on September 14,
1995, and ends on the date of the transac-
tion.
(2)Certain foreign organizations.A
foreign organization, recognized by the
Internal Revenue Service or by treaty,
that receives substantially all of its sup-
port (other than gross investment income)
from sources outside of the United States
is not an organization described in section
501(c)(3) or (4) for purposes of section
4958.
§53.4958–3 Definition of disqualified
person.
(a)In general—(1)Scope of definition.
Section 4958(f)(1) definesdisqualified
person, with respect to any transaction, as
any person who was in a position to exer-
cise substantial influence over the affairs
of an applicable tax-exempt organization
at any time during the five-year period
ending on the date of the transaction (the
lookback period). Paragraph (b) of this
section describes persons who are defined
to be disqualified persons under the stat-
ute, including certain family members of
an individual in a position to exercise
substantial influence, and certain
35-percent controlled entities. Paragraph
(c) of this section describes persons in a
position to exercise substantial influence
over the affairs of an applicable tax-
exempt organization by virtue of their
powers and responsibilities or certain
interests they hold. Paragraph (d) of this
section describes persons deemed not to
be in a position to exercise substantial
influence. Whether any person who is not
described in paragraph (b), (c) or (d) of
this section is a disqualified person with
respect to a transaction for purposes of
section 4958 is based on all relevant facts
and circumstances, as described in para-
graph (e) of this section. Paragraph (f) of
this section describes special rules for
affiliated organizations. Examples in
paragraph (g) of this section illustrate
these categories of persons.
(2)Transitionruleforlookback
period. In the case of any excess benefit
transaction occurring before September
14, 2000, the lookback period described
in paragraph (a)(1) of this section begins
on September 14, 1995, and ends on the
date of the transaction.
(b)Statutory categories of disqualified
persons—(1)Family members. A person
is a disqualified person with respect to
any transaction with an applicable tax-
exempt organization if the person is a
member of the family of a person who is
a disqualified person described in para-
graph (a) of this section (other than as a
result of this paragraph) with respect to
any transaction with the same organiza-
tion. For purposes of the following sen-
tence, a legally adopted child of an indi-
vidual is treated as a child of such
individual by blood. A person’s family is
limited to—
(i) Spouse;
(ii) Brothers or sisters (by whole or
half blood);
(iii) Spouses of brothers or sisters (by
whole or half blood);
(iv) Ancestors;
(v) Children;
(vi) Grandchildren;
(vii) Great grandchildren; and
(viii) Spouses of children, grandchil-
dren, and great grandchildren.
(2)Thirty-fivepercentcontrolled
entities—(i)In general. A person is a dis-
qualified person with respect to any trans-
action with an applicable tax-exempt
organization if the person is a 35-percent
controlled entity. A 35-percent controlled
entity is—
(A) A corporation in which persons
described in this section (except in para-
graphs (b)(2) and (d) of this section) own
more than 35 percent of the combined
voting power;
(B) A partnership in which persons
described in this section (except in para-
graphs (b)(2) and (d) of this section) own
more than 35 percent of the profits inter-
est; or
(C) A trust or estate in which persons
described in this section (except in para-
graphs (b)(2) and (d) of this section) own
more than 35 percent of the beneficial
interest.
(ii)Combined voting power. For pur-
poses of this paragraph (b)(2), combined
voting power includes voting power rep-
resented by holdings of voting stock,
direct or indirect, but does not include
voting rights held only as a director,
trustee, or other fiduciary.
(iii)Constructive ownership rules—
(A)Stockholdings. For purposes of sec-
tion 4958(f)(3) and this paragraph (b)(2),
indirect stockholdings are taken into
account as under section 267(c), except
that in applying section 267(c)(4), the
family of an individual shall include the
members of the family specified in sec-
tion 4958(f)(4) and paragraph (b)(1) of
this section.
(B)Profits or beneficial interest. For
purposes of section 4958(f)(3) and this
2002–7 I.R.B.512February 19, 2002

paragraph (b)(2), the ownership of profits
or beneficial interests shall be determined
in accordance with the rules for construc-
tive ownership of stock provided in sec-
tion 267(c) (other than section 267(c)(3)),
except that in applying section 267(c)(4),
the family of an individual shall include
the members of the family specified in
section 4958(f)(4) and paragraph (b)(1) of
this section.
(c)Persons having substantial influ-
ence. A person who holds any of the fol-
lowing powers, responsibilities, or inter-
ests is in a position to exercise substantial
influence over the affairs of an applicable
tax-exempt organization:
(1)Voting members of the governing
body. This category includes any indi-
vidual serving on the governing body of
the organization who is entitled to vote on
any matter over which the governing
body has authority.
(2)Presidents, chief executive officers,
or chief operating officers. This category
includes any person who, regardless of
title, has ultimate responsibility for imple-
menting the decisions of the governing
body or for supervising the management,
administration, or operation of the organi-
zation. A person who serves as president,
chief executive officer, or chief operating
officer has this ultimate responsibility
unless the person demonstrates otherwise.
If this ultimate responsibility resides with
two or more individuals (e.g.,
co-presidents), who may exercise such
responsibility in concert or individually,
then each individual is in a position to
exercise substantial influence over the
affairs of the organization.
(3)Treasurers and chief financial
officers. This category includes any per-
son who, regardless of title, has ultimate
responsibility for managing the finances
of the organization. A person who serves
as treasurer or chief financial officer has
this ultimate responsibility unless the per-
son demonstrates otherwise. If this ulti-
mate responsibility resides with two or
more individuals who may exercise the
responsibility in concert or individually,
then each individual is in a position to
exercise substantial influence over the
affairs of the organization.
(4)Persons with a material financial
interest in a provider-sponsored organiza-
tion. For purposes of section 4958, if a
hospital that participates in a provider-
sponsored organization (as defined in sec-
tion 1855(e) of the Social Security Act,
42 U.S.C. 1395w–25) is an applicable
tax-exempt organization, then any person
with a material financial interest (within
the meaning of section 501(o)) in the
provider-sponsored organization has sub-
stantial influence with respect to the hos-
pital.
(d)Persons deemed not to have sub-
stantial influence. A person is deemed not
to be in a position to exercise substantial
influence over the affairs of an applicable
tax-exempt organization if that person is
described in one of the following catego-
ries:
(1)Tax-exemptorganizations
described in section 501(c)(3). This cat-
egory includes any organization described
in section 501(c)(3) and exempt from tax
under section 501(a).
(2)Certain section 501(c)(4) organiza-
tions. Only with respect to an applicable
tax-exempt organization described in sec-
tion 501(c)(4) and§53.4958–2(a)(4), this
category includes any other organization
so described.
(3)Employees receiving economic
benefits of less than a specified amount in
a taxable year. This category includes,
for the taxable year in which benefits are
provided, any full- or part-time employee
of the applicable tax-exempt organization
who—
(i) Receives economic benefits,
directly or indirectly from the organiza-
tion, of less than the amount referenced
for a highly compensated employee in
section 414(q)(1)(B)(i);
(ii) Is not described in paragraph (b) or
(c) of this section with respect to the
organization; and
(iii) Is not a substantial contributor to
the organization within the meaning of
section 507(d)(2)(A), taking into account
only contributions received by the organi-
zation during its current taxable year and
the four preceding taxable years.
(e)Facts and circumstances govern in
all other cases—(1)In general. Whether
a person who is not described in para-
graph (b), (c) or (d) of this section is a
disqualified person depends upon all rel-
evant facts and circumstances.
(2)Facts and circumstances tending to
show substantial influence. Facts and cir-
cumstances tending to show that a person
has substantial influence over the affairs
of an organization include, but are not
limited to, the following—
(i) The person founded the organiza-
tion;
(ii) The person is a substantial con-
tributor to the organization (within the
meaning of section 507(d)(2)(A)), taking
into account only contributions received
by the organization during its current tax-
able year and the four preceding taxable
years;
(iii) The person’s compensation is pri-
marily based on revenues derived from
activities of the organization, or of a par-
ticular department or function of the orga-
nization, that the person controls;
(iv) The person has or shares authority
to control or determine a substantial por-
tion of the organization’s capital expendi-
tures, operating budget, or compensation
for employees;
(v) The person manages a discrete seg-
ment or activity of the organization that
represents a substantial portion of the
activities, assets, income, or expenses of
the organization, as compared to the orga-
nization as a whole;
(vi) The person owns a controlling
interest (measured by either vote or
value) in a corporation, partnership, or
trust that is a disqualified person; or
(vii) The person is a non-stock organi-
zation controlled, directly or indirectly,
by one or more disqualified persons.
(3)Facts and circumstances tending to
show no substantial influence. Facts and
circumstances tending to show that a per-
son does not have substantial influence
over the affairs of an organization
include, but are not limited to, the
following—
(i) The person has taken abona fide
vow of poverty as an employee, agent, or
on behalf, of a religious organization;
(ii) The person is a contractor (such as
an attorney, accountant, or investment
manager or advisor) whose sole relation-
ship to the organization is providing pro-
fessional advice (without having
decision-making authority) with respect
to transactions from which the contractor
will not economically benefit either
directly or indirectly (aside from custom-
ary fees received for the professional
advice rendered);
(iii) The direct supervisor of the indi-
vidual is not a disqualified person;
February 19, 20025132002–7 I.R.B.

(iv) The person does not participate in
any management decisions affecting the
organization as a whole or a discrete seg-
ment or activity of the organization that
represents a substantial portion of the
activities, assets, income, or expenses of
the organization, as compared to the orga-
nization as a whole; or
(v) Any preferential treatment a person
receives based on the size of that person’s
contribution is also offered to all other
donors making a comparable contribution
as part of a solicitation intended to attract
a substantial number of contributions.
(f)Affiliated organizations. In the case
of multiple organizations affiliated by
common control or governing documents,
the determination of whether a person
does or does not have substantial influ-
ence shall be made separately for each
applicable tax-exempt organization. A
person may be a disqualified person with
respect to transactions with more than one
applicable tax-exempt organization.
(g)Examples. The following examples
illustrate the principles of this section. A
finding that a person is a disqualified per-
son in the following examples does not
indicate that an excess benefit transaction
has occurred. If a person is a disqualified
person, the rules of section 4958(c) and
§53.4958–4 apply to determine whether
an excess benefit transaction has
occurred. The examples are as follows:
Example 1. N, an artist by profession, works
part-time at R, a local museum. In the first taxable
year in which R employs N, R pays N a salary and
provides no additional benefits to N except for free
admission to the museum, a benefit R provides to all
of its employees and volunteers. The total economic
benefits N receives from R during the taxable year
are less than the amount referenced for a highly
compensated employee in section 414(q)(1)(B)(i).
The part-time job constitutes N’s only relationship
with R. N is not related to any other disqualified
person with respect to R. N is deemed not to be in
a position to exercise substantial influence over the
affairs of R. Therefore, N is not a disqualified per-
son with respect to R in that year.
Example 2. The facts are the same as inExample
1, except that in addition to the salary that R pays N
for N’s services during the taxable year, R also pur-
chases one of N’s paintings for $x. The total of N’s
salary plus $xexceeds the amount referenced for
highly compensated employees in section
414(q)(1)(B)(i). Consequently, whether N is in a
position to exercise substantial influence over the
affairs of R for that taxable year depends upon all of
the relevant facts and circumstances.
Example 3. Q is a member of K, a section
501(c)(3) organization with a broad-based public
membership. Members of K are entitled to vote only
with respect to the annual election of directors and
the approval of major organizational transactions
such as a merger or dissolution. Q is not related to
any other disqualified person of K. Q has no other
relationship to K besides being a member of K and
occasionally making modest donations to K.
Whether Q is a disqualified person is determined by
all relevant facts and circumstances. Q’s voting
rights, which are the same as granted to all members
of K, do not place Q in a position to exercise sub-
stantial influence over K. Under these facts and cir-
cumstances, Q is not a disqualified person with
respect K.
Example 4. E is the headmaster of Z, a school
that is an applicable tax-exempt organization for
purposes of section 4958. E reports to Z’s board of
trustees and has ultimate responsibility for supervis-
ing Z’s day-to-day operations. For example, E can
hire faculty members and staff, make changes to the
school’s curriculum and discipline students without
specific board approval. Because E has ultimate
responsibility for supervising the operation of Z, E
is in a position to exercise substantial influence over
the affairs of Z. Therefore, E is a disqualified person
with respect to Z.
Example 5. Y is an applicable tax-exempt orga-
nization for purposes of section 4958 that decides to
use bingo games as a method of generating revenue.
Y enters into a contract with B, a company that
operates bingo games. Under the contract, B man-
ages the promotion and operation of the bingo activ-
ity, provides all necessary staff, equipment, and ser-
vices, and pays Yqpercent of the revenue from this
activity. B retains the balance of the proceeds. Y
provides no goods or services in connection with the
bingo operation other than the use of its hall for the
bingo games. The annual gross revenue earned from
the bingo games represents more than half of Y’s
total annual revenue. B’s compensation is primarily
based on revenues from an activity B controls. B
also manages a discrete activity of Y that represents
a substantial portion of Y’s income compared to the
organization as a whole. Under these facts and cir-
cumstances, B is in a position to exercise substantial
influence over the affairs of Y. Therefore, B is a dis-
qualified person with respect to Y.
Example 6. The facts are the same as inExample
5, with the additional fact that P owns a majority of
the stock of B and is actively involved in managing
B. Because P owns a controlling interest (measured
by either vote or value) in and actively manages B,
P is also in a position to exercise substantial influ-
ence over the affairs of Y. Therefore, under these
facts and circumstances, P is a disqualified person
with respect to Y.
Example 7. A, an applicable tax-exempt organi-
zation for purposes of section 4958, owns and oper-
ates one acute care hospital. B, a for-profit corpora-
tion, owns and operates a number of hospitals. A
and B form C, a limited liability company. In
exchange for proportional ownership interests, A
contributes its hospital, and B contributes other
assets, to C. All of A’s assets then consist of its
membership interest in C. A continues to be oper-
ated for exempt purposes based almost exclusively
on the activities it conducts through C. C enters into
a management agreement with a management com-
pany, M, to provide day to day management services
to C. Subject to supervision by C’s board, M is
given broad discretion to manage C’s day to day
operation and has ultimate responsibility for super-
vising the management of the hospital. Because M
has ultimate responsibility for supervising the man-
agement of the hospital operated by C, A’s owner-
ship interest in C is its primary asset, and C’s activi-
ties form the basis for A’s continued exemption as
an organization described in section 501(c)(3), M is
in a position to exercise substantial influence over
the affairs of A. Therefore, M is a disqualified per-
son with respect to A.
Example 8. T is a large university and an appli-
cable tax-exempt organization for purposes of sec-
tion 4958. L is the dean of the College of Law of T,
a substantial source of revenue for T, including con-
tributions from alumni and foundations. L is not
related to any other disqualified person of T. L does
not serve on T’s governing body or have ultimate
responsibility for managing the university as whole.
However, as dean of the College of Law, L plays a
key role in faculty hiring and determines a substan-
tial portion of the capital expenditures and operating
budget of the College of Law. L’s compensation is
greater than the amount referenced for a highly
compensated employee in section 414(q)(1)(B)(i) in
the year benefits are provided. L’s management of a
discrete segment of T that represents a substantial
portion of the income of T (as compared to T as a
whole) places L in a position to exercise substantial
influence over the affairs of T. Under these facts and
circumstances L is a disqualified person with respect
to T.
Example 9. S chairs a small academic depart-
ment in the College of Arts and Sciences of the
same university T described inExample 8.Sisnot
related to any other disqualified person of T. S does
not serve on T’s governing body or as an officer of
T. As department chair, S supervises faculty in the
department, approves the course curriculum, and
oversees the operating budget for the department.
S’s compensation is greater than the amount refer-
enced for a highly compensated employee in section
414(q)(1)(B)(i) in the year benefits are provided.
Even though S manages the department, that depart-
ment does not represent a substantial portion of T’s
activities, assets, income, expenses, or operating
budget. Therefore, S does not participate in any
management decisions affecting either T as a whole,
or a discrete segment or activity of T that represents
a substantial portion of its activities, assets, income,
or expenses. Under these facts and circumstances, S
does not have substantial influence over the affairs
of T, and therefore S is not a disqualified person
with respect to T.
Example 10. U is a large acute-care hospital that
is an applicable tax-exempt organization for pur-
poses of section 4958. U employs X as a radiologist.
X gives instructions to staff with respect to the radi-
ology work X conducts, but X does not supervise
other U employees or manage any substantial part of
U’s operations. X’s compensation is primarily in the
form of a fixed salary. In addition, X is eligible to
receive an incentive award based on revenues of the
radiology department. X’s compensation is greater
than the amount referenced for a highly compen-
sated employee in section 414(q)(1)(B)(i) in the
year benefits are provided. X is not related to any
other disqualified person of U. X does not serve on
U’s governing body or as an officer of U. Although
U participates in a provider-sponsored organization
(as defined in section 1855(e) of the Social Security
Act), X does not have a material financial interest in
2002–7 I.R.B.514February 19, 2002

that organization. X does not receive compensation
primarily based on revenues derived from activities
of U that X controls. X does not participate in any
management decisions affecting either U as a whole
or a discrete segment of U that represents a substan-
tial portion of its activities, assets, income, or
expenses. Under these facts and circumstances, X
does not have substantial influence over the affairs
of U, and therefore X is not a disqualified person
with respect to U.
Example 11. W is a cardiologist and head of the
cardiology department of the same hospital U
described inExample 10. The cardiology depart-
ment is a major source of patients admitted to U and
consequently represents a substantial portion of U’s
income, as compared to U as a whole. W does not
serve on U’s governing board or as an officer of U.
W does not have a material financial interest in the
provider-sponsored organization (as defined in sec-
tion 1855(e) of the Social Security Act) in which U
participates. W receives a salary and retirement and
welfare benefits fixed by a three-year renewable
employment contract with U. W’s compensation is
greater than the amount referenced for a highly
compensated employee in section 414(q)(1)(B)(i) in
the year benefits are provided. As department head,
W manages the cardiology department and has
authority to allocate the budget for that department,
which includes authority to distribute incentive
bonuses among cardiologists according to criteria
that W has authority to set. W’s management of a
discrete segment of U that represents a substantial
portion of its income and activities (as compared to
U as a whole) places W in a position to exercise
substantial influence over the affairs of U. Under
these facts and circumstances, W is a disqualified
person with respect to U.
Example 12. M is a museum that is an appli-
cable tax-exempt organization for purposes of sec-
tion 4958. D provides accounting services and tax
advice to M as a contractor in return for a fee. D has
no other relationship with M and is not related to
any disqualified person of M. D does not provide
professional advice with respect to any transaction
from which D might economically benefit either
directly or indirectly (aside from fees received for
the professional advice rendered). Because D’s sole
relationship to M is providing professional advice
(without having decision-making authority) with
respect to transactions from which D will not eco-
nomically benefit either directly or indirectly (aside
from customary fees received for the professional
advice rendered), under these facts and circum-
stances, D is not a disqualified person with respect
to M.
Example 13. F is a repertory theater company
that is an applicable tax-exempt organization for
purposes of section 4958. F holds a fund-raising
campaign to pay for the construction of a new the-
ater. J is a regular subscriber to F’s productions who
has made modest gifts to F in the past. J has no
relationship to F other than as a subscriber and con-
tributor. F solicits contributions as part of a broad
public campaign intended to attract a large number
of donors, including a substantial number of donors
making large gifts. In its solicitations for contribu-
tions, F promises to invite all contributors giving $z
or more to a special opening production and party
held at the new theater. These contributors are also
given a special number to call in F’s office to
reserve tickets for performances, make ticket
exchanges, and make other special arrangements for
their convenience. J makes a contribution of $zto F,
which makes J a substantial contributor within the
meaning of section 507(d)(2)(A), taking into
account only contributions received by F during its
current and the four preceding taxable years. J
receives the benefits described in F’s solicitation.
Because F offers the same benefit to all donors of $z
or more, the preferential treatment that J receives
does not indicate that J is in a position to exercise
substantial influence over the affairs of the organi-
zation. Therefore, under these facts and circum-
stances, J is not a disqualified person with respect to
F.
§53.4958–4 Excess benefit transaction.
(a)Definitionofexcessbenefit
transaction—(1)In general.Anexcess
benefit transactionmeans any transaction
in which an economic benefit is provided
by an applicable tax-exempt organization
directly or indirectly to or for the use of
any disqualified person, and the value of
the economic benefit provided exceeds
the value of the consideration (including
the performance of services) received for
providing the benefit. Subject to the limi-
tations of paragraph (c) of this section
(relating to the treatment of economic
benefits as compensation for the perfor-
mance of services), to determine whether
an excess benefit transaction has
occurred, all consideration and benefits
(except disregarded benefits described in
paragraph (a)(4) of this section)
exchanged between a disqualified person
and the applicable tax-exempt organiza-
tion and all entities the organization con-
trols (within the meaning of paragraph
(a)(2)(ii)(B) of this section) are taken into
account. For example, in determining the
reasonableness of compensation that is
paid (or vests, or is no longer subject to a
substantial risk of forfeiture) in one year,
services performed in prior years may be
taken into account. The rules of this sec-
tion apply to all transactions with dis-
qualified persons, regardless of whether
the amount of the benefit provided is
determined, in whole or in part, by the
revenues of one or more activities of the
organization. For rules regarding valua-
tion standards, see paragraph (b) of this
section. For the requirement that an appli-
cable tax-exempt organization clearly
indicate its intent to treat a benefit as
compensation for services when paid, see
paragraph (c) of this section.
(2)Economicbenefitprovided
indirectly—(i)In general. A transaction
that would be an excess benefit transac-
tion if the applicable tax-exempt organi-
zation engaged in it directly with a dis-
qualified person is likewise an excess
benefit transaction when it is accom-
plished indirectly. An applicable tax-
exempt organization may provide an
excess benefit indirectly to a disqualified
person through a controlled entity or
through an intermediary, as described in
paragraphs (a)(2)(ii) and (iii) of this sec-
tion, respectively.
(ii)Through a controlled entity—(A)
In general. An applicable tax-exempt
organization may provide an excess ben-
efit indirectly through the use of one or
more entities it controls. For purposes of
section 4958, economic benefits provided
by a controlled entity will be treated as
provided by the applicable tax-exempt
organization.
(B)Definition of control—(1)In gen-
eral. For purposes of this paragraph,con-
trolby an applicable tax-exempt organi-
zation means—
(i) In the case of a stock corporation,
ownership (by vote or value) of more
than 50 percent of the stock in such cor-
poration;
(ii) In the case of a partnership, own-
ership of more than 50 percent of the
profits interests or capital interests in the
partnership;
(iii) In the case of a nonstock organi-
zation (i.e., an entity in which no person
holds a proprietary interest), that at least
50 percent of the directors or trustees of
the organization are either representatives
(including trustees, directors, agents, or
employees) of, or directly or indirectly
controlled by, an applicable tax-exempt
organization; or
(iv) In the case of any other entity,
ownership of more than 50 percent of the
beneficial interest in the entity.
(2)Constructive ownership. Section
318 (relating to constructive ownership of
stock) shall apply for purposes of deter-
mining ownership of stock in a corpora-
tion. Similar principles shall apply for
purposes of determining ownership of
interests in any other entity.
(iii)Through an intermediary.An
applicable tax-exempt organization may
provide an excess benefit indirectly
through an intermediary. An intermediary
February 19, 20025152002–7 I.R.B.

is any person (including an individual or
a taxable or tax-exempt entity) who par-
ticipates in a transaction with one or more
disqualified persons of an applicable tax-
exempt organization. For purposes of sec-
tion 4958, economic benefits provided by
an intermediary will be treated as pro-
vided by the applicable tax-exempt orga-
nization when—
(A) An applicable tax-exempt organi-
zation provides an economic benefit to an
intermediary; and
(B) In connection with the receipt of
the benefit by the intermediary—
(1) There is evidence of an oral or
written agreement or understanding that
the intermediary will provide economic
benefits to or for the use of a disqualified
person; or
(2) The intermediary provides eco-
nomic benefits to or for the use of a dis-
qualified person without a significant
business purpose or exempt purpose of its
own.
(iv)Examples. The following
examples illustrate when economic ben-
efits are provided indirectly under the
rules of this paragraph (a)(2):
Example 1. K is an applicable tax-exempt orga-
nization for purposes of section 4958. L is a wholly-
owned taxable subsidiary of K. J is employed by K,
and is a disqualified person with respect to K. K
pays J an annual salary of $12m, and reports that
amount as compensation during calendar year 2001.
Although J only performed services for K for nine
months of 2001, J performed equivalent services for
L during the remaining three months of 2001. Tak-
ing into account all of the economic benefits K pro-
vided to J, and all of the services J performed for K
and L, $12mdoes not exceed the fair market value
of the services J performed for K and L during
2001. Therefore, under these facts, K does not pro-
vide an excess benefit to J directly or indirectly.
Example 2. F is an applicable tax-exempt orga-
nization for purposes of section 4958. D is an entity
controlled by F within the meaning of paragraph
(a)(2)(ii)(B) of this section. T is the chief executive
officer (CEO) of F. As CEO, T is responsible for
overseeing the activities of F. T’s duties as CEO
make him a disqualified person with respect to F.
T’s compensation package with F represents the
maximum reasonable compensation for T’s services
as CEO. Thus, any additional economic benefits that
F provides to T without T providing additional con-
sideration constitute an excess benefit. D contracts
with T to provide enumerated consulting services to
D. However, the contract does not require T to per-
form any additional services for D that T is not
already obligated to perform as F’s chief executive
officer. Therefore, any payment to T pursuant to the
consulting contract with D represents an indirect
excess benefit that F provides through a controlled
entity, even if F, D, or T treats the additional pay-
ment to T as compensation.
Example 3. P is an applicable tax-exempt orga-
nization for purposes of section 4958. S is a taxable
entity controlled by P within the meaning of para-
graph (a)(2)(ii)(B) of this section. V is the chief
executive officer of S, for which S pays V $win
salary and benefits. V also serves as a voting mem-
ber of P’s governing body. Consequently, V is a dis-
qualified person with respect to P. P provides V with
$xrepresenting compensation for the services V
provides P as a member of its governing body.
Although $xrepresents reasonable compensation for
the services V provides directly to P as a member of
its governing body, the total compensation of $w+
$xexceeds reasonable compensation for the services
V provides to P and S collectively. Therefore, the
portion of total compensation that exceeds reason-
able compensation is an excess benefit provided to
V.
Example 4. G is an applicable tax-exempt orga-
nization for section 4958 purposes. F is a disquali-
fied person who was last employed by G in a posi-
tion of substantial influence three years ago. H is an
entity engaged in scientific research and is unrelated
to either F or G. G makes a grant to H to fund a
research position. H subsequently advertises for
qualified candidates for the research position. F is
among several highly qualified candidates who
apply for the research position. H hires F. There was
no evidence of an oral or written agreement or
understanding with G that H will use G’s grant to
provide economic benefits to or for the use of F.
Although G provided economic benefits to H, and in
connection with the receipt of such benefits, H will
provide economic benefits to or for the use of F, H
acted with a significant business purpose or exempt
purpose of its own. Under these facts, G did not
provide an economic benefit to F indirectly through
the use of an intermediary.
(3)Exception for fixed payments made
pursuant to an initial contract—(i)In
general. Except as provided in paragraph
(a)(3)(iv) of this section, section 4958
does not apply to any fixed payment
made to a person pursuant to an initial
contract.
(ii)Fixed payment—(A)In general.
For purposes of paragraph (a)(3)(i) of this
section,fixed paymentmeans an amount
of cash or other property specified in the
contract, or determined by a fixed for-
mula specified in the contract, which is to
be paid or transferred in exchange for the
provision of specified services or prop-
erty. A fixed formula may incorporate an
amount that depends upon future speci-
fied events or contingencies, provided
that no person exercises discretion when
calculating the amount of a payment or
deciding whether to make a payment
(such as a bonus). A specified event or
contingency may include the amount of
revenues generated by (or other objective
measure of) one or more activities of the
applicable tax-exempt organization. A
fixed payment does not include any
amount paid to a person under a reim-
bursement (or similar) arrangement where
discretion is exercised by any person with
respect to the amount of expenses
incurred or reimbursed.
(B)Special rules. Amounts payable
pursuant to a qualified pension, profit-
sharing, or stock bonus plan under section
401(a), or pursuant to an employee ben-
efit program that is subject to and satis-
fies coverage and nondiscrimination rules
under the Internal Revenue Code (e.g.,
sections 127 and 137), other than nondis-
crimination rules under section 9802, are
treated as fixed payments for purposes of
this section, regardless of the applicable
tax-exempt organization’s discretion with
respect to the plan or program. The fact
that a person contracting with an appli-
cable tax-exempt organization is
expressly granted the choice whether to
accept or reject any economic benefit is
disregarded in determining whether the
benefit constitutes a fixed payment for
purposes of this paragraph.
(iii)Initial contract. For purposes of
paragraph (a)(3)(i) of this section,initial
contractmeans a binding written contract
between an applicable tax-exempt organi-
zation and a person who was not a dis-
qualified person within the meaning of
section 4958(f)(1) and§53.4958–3
immediately prior to entering into the
contract.
(iv)Substantial performance required.
Paragraph (a)(3)(i) of this section does
not apply to any fixed payment made pur-
suant to the initial contract during any
taxable year of the person contracting
with the applicable tax-exempt organiza-
tion if the person fails to perform substan-
tially the person’s obligations under the
initial contract during that year.
(v)Treatment as a new contract.A
written binding contract that provides that
the contract is terminable or subject to
cancellation by the applicable tax-exempt
organization (other than as a result of a
lack of substantial performance by the
disqualified person, as described in para-
graph (a)(3)(iv) of this section) without
the other party’s consent and without sub-
stantial penalty to the organization is
treated as a new contract as of the earliest
date that any such termination or cancel-
lation, if made, would be effective. Addi-
tionally, if the parties make a material
change to a contract, it is treated as a new
2002–7 I.R.B.516February 19, 2002

contract as of the date the material change
is effective. A material change includes
an extension or renewal of the contract
(other than an extension or renewal that
results from the person contracting with
the applicable tax-exempt organization
unilaterally exercising an option
expressly granted by the contract), or a
more than incidental change to any
amount payable under the contract. The
new contract is tested under paragraph
(a)(3)(iii) of this section to determine
whether it is an initial contract for pur-
poses of this section.
(vi)Evaluation of non-fixed payments.
Any payment that is not a fixed payment
(within the meaning of paragraph
(a)(3)(ii) of this section) is evaluated to
determine whether it constitutes an excess
benefit transaction under section 4958. In
making this determination, all payments
and consideration exchanged between the
parties are taken into account, including
any fixed payments made pursuant to an
initial contract with respect to which sec-
tion 4958 does not apply.
(vii)Examples. The following
examples illustrate the rules governing
fixed payments made pursuant to an ini-
tial contract. Unless otherwise stated,
assume that the person contracting with
the applicable tax-exempt organization
has performed substantially the person’s
obligations under the contract with
respect to the payment. The examples are
as follows:
Example 1. T is an applicable tax-exempt orga-
nization for purposes of section 4958. On January 1,
2002, T hires S as its chief financial officer by
entering into a five-year written employment con-
tract with S. S was not a disqualified person within
the meaning of section 4958(f)(1) and§53.4958–3
immediately prior to entering into the January 1,
2002, contract (initial contract). S’s duties and
responsibilities under the contract make S a dis-
qualified person with respect to T (see§53.4958–
3(c)(3)). Under the initial contract, T agrees to pay
S an annual salary of $200,000, payable in monthly
installments. The contract provides that, beginning
in 2003, S’s annual salary will be adjusted by the
increase in the Consumer Price Index (CPI) for the
prior year. Section 4958 does not apply because S’s
compensation under the contract is a fixed payment
pursuant to an initial contract within the meaning of
paragraph (a)(3) of this section. Thus, for section
4958 purposes, it is unnecessary to evaluate whether
any portion of the compensation paid to S pursuant
to the initial contract is an excess benefit transac-
tion.
Example 2. The facts are the same as inExample
1, except that the initial contract provides that, in
addition to a base salary of $200,000, T may pay S
an annual performance-based bonus. The contract
provides that T’s governing body will determine the
amount of the annual bonus as of the end of each
year during the term of the contract, based on the
board’s evaluation of S’s performance, but the bonus
cannot exceed $100,000 per year. Unlike the base
salary portion of S’s compensation, the bonus por-
tion of S’s compensation is not a fixed payment
pursuant to an initial contract, because the govern-
ing body has discretion over the amount, if any, of
the bonus payment. Section 4958 does not apply to
payment of the $200,000 base salary (as adjusted for
inflation), because it is a fixed payment pursuant to
an initial contract within the meaning of paragraph
(a)(3) of this section. By contrast, the annual
bonuses that may be paid to S under the initial con-
tract are not protected by the initial contract excep-
tion. Therefore, each bonus payment will be evalu-
ated under section 4958, taking into account all
payments and consideration exchanged between the
parties.
Example 3. The facts are the same as inExample
1, except that in 2003, T changes its payroll system,
such that T makes biweekly, rather than monthly,
salary payments to its employees. Beginning in
2003, T also grants its employees an additional two
days of paid vacation each year. Neither change is a
material change to S’s initial contract within the
meaning of paragraph (a)(3)(v) of this section.
Therefore, section 4958 does not apply to the base
salary payments to S due to the initial contract
exception.
Example 4. The facts are the same as inExample
1, except that on January 1, 2003, S becomes the
chief executive officer of T and a new chief finan-
cial officer is hired. At the same time, T’s board of
directors approves an increase in S’s annual base
salary from $200,000 to $240,000, effective on that
day. These changes in S’s employment relationship
constitute material changes of the initial contract
within the meaning of paragraph (a)(3)(v) of this
section. As a result, S is treated as entering into a
new contract with T on January 1, 2003, at which
time S is a disqualified person within the meaning
of section 4958(f)(1) and§53.4958–3. T’s payments
to S made pursuant to the new contract will be
evaluated under section 4958, taking into account all
payments and consideration exchanged between the
parties.
Example 5. J is a performing arts organization
and an applicable tax-exempt organization for pur-
poses of section 4958. J hires W to become the chief
executive officer of J. W was not a disqualified per-
son within the meaning of section 4958(f)(1) and
§53.4958–3 immediately prior to entering into the
employment contract with J. As a result of this
employment contract, W’s duties and responsibili-
ties make W a disqualified person with respect to J
(see§53.4958–3(c)(2)). Under the contract, J will
payW$x(a specified amount) plus a bonus equal to
2 percent of the total season subscription sales that
exceed $100z. The $xbase salary is a fixed payment
pursuant to an initial contract within the meaning of
paragraph (a)(3) of this section. The bonus payment
is also a fixed payment pursuant to an initial con-
tract within the meaning of paragraph (a)(3) of this
section, because no person exercises discretion
when calculating the amount of the bonus payment
or deciding whether the bonus will be paid. There-
fore, section 4958 does not apply to any of J’s pay-
ments to W pursuant to the employment contract
due to the initial contract exception.
Example 6. Hospital B is an applicable tax-
exempt organization for purposes of section 4958.
Hospital B hires E as its chief operating officer. E
was not a disqualified person within the meaning of
section 4958(f)(1) and§53.4958–3 immediately
prior to entering into the employment contract with
Hospital B. As a result of this employment contract,
E’s duties and responsibilities make E a disqualified
person with respect to Hospital B (see§53.4958–
3(c)(2)). E’s initial employment contract provides
that E will have authority to enter into hospital man-
agement arrangements on behalf of Hospital B. In
E’s personal capacity, E owns more than 35 percent
of the combined voting power of Company X. Con-
sequently, at the time E becomes a disqualified per-
son with respect to B, Company X also becomes
a disqualified person with respect to B (see
§53.4958–3(b)(2)(i)(A)). E, acting on behalf of
Hospital B as chief operating officer, enters into a
contract with Company X under which Company X
will provide billing and collection services to Hos-
pital B. The initial contract exception of paragraph
(a)(3)(i) of this section does not apply to the billing
and collection services contract, because at the time
that this contractual arrangement was entered into,
Company X was a disqualified person with respect
to Hospital B. Although E’s employment contract
(which is an initial contract) authorizes E to enter
into hospital management arrangements on behalf of
Hospital B, the payments made to Company X are
not made pursuant to E’s employment contract, but
rather are made by Hospital B pursuant to a separate
contractual arrangement with Company X. There-
fore, even if payments made to Company X under
the billing and collection services contract are fixed
payments (within the meaning of paragraph
(a)(3)(ii) of this section), section 4958 nonetheless
applies to payments made by Hospital B to Com-
pany X because the billing and collection services
contract itself does not constitute an initial contract
under paragraph (a)(3)(iii) of this section. Accord-
ingly, all payments made to Company X under the
billing and collection services contract will be
evaluated under section 4958.
Example 7. Hospital C, an applicable tax-exempt
organization, enters into a contract with Company Y,
under which Company Y will provide a wide range
of hospital management services to Hospital C.
Upon entering into this contractual arrangement,
Company Y becomes a disqualified person with
respect to Hospital C. The contract provides that
Hospital C will pay Company Y a management fee
ofxpercent of adjusted gross revenue (i.e., gross
revenue increased by the cost of charity care pro-
vided to indigents) annually for a five-year period.
The management services contract specifies the cost
accounting system and the standards forindigentsto
be used in calculating the cost of charity care. The
cost accounting system objectively defines the direct
and indirect costs of all health care goods and ser-
vices provided as charity care. Because Company Y
was not a disqualified person with respect to Hospi-
tal C immediately before entering into the manage-
ment services contract, that contract is an initial
contract within the meaning of paragraph (a)(3)(iii)
of this section. The annual management fee paid to
Company Y is determined by a fixed formula speci-
fied in the contract, and is therefore a fixed payment
February 19, 20025172002–7 I.R.B.

within the meaning of paragraph (a)(3)(ii) of this
section. Accordingly, section 4958 does not apply to
the annual management fee due to the initial con-
tract exception.
Example 8. The facts are the same as inExample
7, except that the management services contract also
provides that Hospital C will reimburse Company Y
on a monthly basis for certain expenses incurred by
Company Y that are attributable to management ser-
vices provided to Hospital C (e.g., legal fees and
travel expenses). Although the management fee
itself is a fixed payment not subject to section 4958,
the reimbursement payments that Hospital C makes
to Company Y for the various expenses covered by
the contract are not fixed payments within the mean-
ing of paragraph (a)(3)(ii) of this section, because
Company Y exercises discretion with respect to the
amount of expenses incurred. Therefore, any reim-
bursement payments that Hospital C pays pursuant
to the contract will be evaluated under section 4958.
Example 9. X, an applicable tax-exempt organi-
zation for purposes of section 4958, hires C to con-
duct scientific research. On January 1, 2003, C
enters into a three-year written employment contract
with X (initial contract). Under the terms of the con-
tract, C is required to work full-time at X’s labora-
tory for a fixed annual salary of $90,000. Immedi-
ately prior to entering into the employment contract,
C was not a disqualified person within the meaning
of section 4958(f)(1) and§53.4958–3, nor did C
become a disqualified person pursuant to the initial
contract. However, two years after joining X, C
marries D, who is the child of X’s president. As D’s
spouse, C is a disqualified person within the mean-
ing of section 4958(f)(1) and§53.4958–3 with
respect to X. Nonetheless, section 4958 does not
apply to X’s salary payments to C due to the initial
contract exception.
Example 10. The facts are the same as in
Example 9, except that the initial contract included
a below-market loan provision under which C has
the unilateral right to borrow up to a specified dol-
lar amount from X at a specified interest rate for a
specified term. After C’s marriage to D, C borrows
money from X to purchase a home under the terms
of the initial contract. Section 4958 does not apply
to X’s loan to C due to the initial contract exception.
Example 11. The facts are the same as in
Example 9, except that after C’s marriage to D, C
works only sporadically at the laboratory, and per-
forms no other services for X. Notwithstanding that
C fails to perform substantially C’s obligations
under the initial contract, X does not exercise its
right to terminate the initial contract for nonperfor-
mance and continues to pay full salary to C. Pursu-
ant to paragraph (a)(3)(iv) of this section, the initial
contract exception does not apply to any payments
made pursuant to the initial contract during any tax-
able year of C in which C fails to perform substan-
tially C’s obligations under the initial contract.
(4)Certain economic benefits disre-
garded for purposes of section 4958. The
following economic benefits are disre-
garded for purposes of section 4958—
(i)Nontaxable fringe benefits. An eco-
nomic benefit that is excluded from
income under section 132, except any
liability insurance premium, payment, or
reimbursement that must be taken into
account under paragraph (b)(1)(ii)(B)(2)
of this section;
(ii)Expense reimbursement payments
pursuant to accountable plans. Amounts
paid under reimbursement arrangements
that meet the requirements of§1.62–2(c)
of this chapter;
(iii)Certain economic benefits pro-
vided to a volunteer for the organization.
An economic benefit provided to a volun-
teer for the organization if the benefit is
provided to the general public in
exchange for a membership fee or contri-
bution of $75 or less per year;
(iv)Certain economic benefits pro-
vided to a member of, or donor to, the
organization. An economic benefit pro-
vided to a member of an organization
solely on account of the payment of a
membership fee, or to a donor solely on
account of a contribution for which a
deduction is allowable under section 170
(charitable contribution), regardless of
whether the donor is eligible to claim the
deduction, if—
(A) Any non-disqualified person pay-
ing a membership fee or making a chari-
table contribution above a specified
amount to the organization is given the
option of receiving substantially the same
economic benefit; and
(B) The disqualified person and a sig-
nificant number of non-disqualified per-
sons make a payment or charitable contri-
bution of at least the specified amount;
(v)Economic benefits provided to a
charitable beneficiary. An economic ben-
efit provided to a person solely because
the person is a member of a charitable
class that the applicable tax-exempt orga-
nization intends to benefit as part of the
accomplishment of the organization’s
exempt purpose; and
(vi)Certain economic benefits pro-
vided to a governmental unit. Any trans-
fer of an economic benefit to or for the
use of a governmental unit defined in sec-
tion 170(c)(1), if the transfer is for exclu-
sively public purposes.
(5)Exception for certain payments
made pursuant to an exemption granted
by the Department of Labor under
ERISA. Section 4958 does not apply to
any payment made pursuant to, and in
accordance with, a final individual pro-
hibited transaction exemption issued by
the Department of Labor under section
408(a) of the Employee Retirement
Income Security Act of 1974 (88 Stat.
854) (ERISA) with respect to a transac-
tion involving a plan (as defined in sec-
tion 3(3) of ERISA) that is an applicable
tax-exempt organization.
(b)Valuation standards—(1)In gen-
eral. This section provides rules for deter-
mining the value of economic benefits for
purposes of section 4958.
(i)Fair market value of property. The
value of property, including the right to
use property, for purposes of section 4958
is the fair market value (i.e., the price at
which property or the right to use prop-
erty would change hands between a will-
ing buyer and a willing seller, neither
being under any compulsion to buy, sell
or transfer property or the right to use
property, and both having reasonable
knowledge of relevant facts).
(ii)Reasonable compensation—(A)In
general. The value of services is the
amount that would ordinarily be paid for
like services by like enterprises (whether
taxable or tax-exempt) under like circum-
stances (i.e., reasonable compensation).
Section 162 standards apply in determin-
ing reasonableness of compensation, tak-
ing into account the aggregate benefits
(other than any benefits specifically disre-
garded under paragraph (a)(4) of this sec-
tion) provided to a person and the rate at
which any deferred compensation
accrues. The fact that a compensation
arrangement is subject to a cap is a rel-
evant factor in determining the reason-
ableness of compensation. The fact that a
State or local legislative or agency body
or court has authorized or approved a par-
ticular compensation package paid to a
disqualified person is not determinative
of the reasonableness of compensation for
purposes of section 4958.
(B)Items included in determining the
value of compensation for purposes of
determining reasonableness under section
4958. Except for economic benefits that
are disregarded for purposes of section
4958 under paragraph (a)(4) of this sec-
tion, compensation for purposes of deter-
mining reasonableness under section
4958 includes all economic benefits pro-
vided by an applicable tax-exempt organi-
zation in exchange for the performance of
services. These benefits include, but are
not limited to—
2002–7 I.R.B.518February 19, 2002

(1) All forms of cash and noncash
compensation, including salary, fees,
bonuses, severance payments, and
deferred and noncash compensation
described in§53.4958–1(e)(2);
(2) Unless excludable from income as
ade minimisfringe benefit pursuant to
section 132(a)(4), the payment of liability
insurance premiums for, or the payment
or reimbursement by the organization
of—
(i) Any penalty, tax, or expense of cor-
rection owed under section 4958;
(ii) Any expense not reasonably
incurred by the person in connection with
a civil judicial or civil administrative pro-
ceeding arising out of the person’s perfor-
mance of services on behalf of the appli-
cable tax-exempt organization; or
(iii) Any expense resulting from an act
or failure to act with respect to which the
person has acted willfully and without
reasonable cause; and
(3) All other compensatory benefits,
whether or not included in gross income
for income tax purposes, including pay-
ments to welfare benefit plans, such as
plans providing medical, dental, life
insurance, severance pay, and disability
benefits, and both taxable and nontaxable
fringe benefits (other than fringe benefits
described in section 132), including
expense allowances or reimbursements
(other than expense reimbursements pur-
suant to an accountable plan that meets
the requirements of§1.62–2(c)), and the
economic benefit of a below-market loan
(within the meaning of section
7872(e)(1)). (For this purpose, the eco-
nomic benefit of a below-market loan is
the amount deemed transferred to the dis-
qualified person under section 7872(a) or
(b), regardless of whether section 7872
otherwise applies to the loan).
(C)Inclusion in compensation for rea-
sonableness determination does not gov-
ern income tax treatment. The determina-
tion of whether any item listed in
paragraph (b)(1)(ii)(B) of this section is
included in the disqualified person’s gross
income for income tax purposes is made
on the basis of the provisions of chapter 1
of Subtitle A of the Internal Revenue
Code, without regard to whether the item
is taken into account for purposes of
determining reasonableness of compensa-
tion under section 4958.
(2)Timingofreasonableness
determination—(i)In general. The facts
and circumstances to be taken into con-
sideration in determining reasonableness
of a fixed payment (within the meaning
of paragraph (a)(3)(ii) of this section) are
those existing on the date the parties enter
into the contract pursuant to which the
payment is made. However, in the event
of substantial non-performance, reason-
ableness is determined based on all facts
and circumstances, up to and including
circumstances as of the date of payment.
In the case of any payment that is not a
fixed payment under a contract, reason-
ableness is determined based on all facts
and circumstances, up to and including
circumstances as of the date of payment.
In no event shall circumstances existing
at the date when the payment is ques-
tioned be considered in making a determi-
nation of the reasonableness of the pay-
ment. These general timing rules also
apply to property subject to a substantial
risk of forfeiture. Therefore, if the prop-
erty subject to a substantial risk of forfei-
ture satisfies the definition of fixed pay-
ment (within the meaning of paragraph
(a)(3)(ii) of this section), reasonableness
is determined at the time the parties enter
into the contract providing for the transfer
of the property. If the property is not a
fixed payment, then reasonableness is
determined based on all facts and circum-
stances up to and including circumstances
as of the date of payment.
(ii)Treatment as a new contract. For
purposes of paragraph (b)(2)(i) of this
section, a written binding contract that
provides that the contract is terminable or
subject to cancellation by the applicable
tax-exempt organization without the other
party’s consent and without substantial
penalty to the organization is treated as a
new contract as of the earliest date that
any such termination or cancellation, if
made, would be effective. Additionally, if
the parties make a material change to a
contract (within the meaning of paragraph
(a)(3)(v) of this section), it is treated as a
new contract as of the date the material
change is effective.
(iii)Examples. The following
examples illustrate the timing of the rea-
sonableness determination under the rules
of this paragraph (b)(2):
Example 1. G is an applicable tax-exempt orga-
nization for purposes of section 4958. H is an
employee of G and a disqualified person with
respect to G. H’s new multi-year employment con-
tract provides for payment of a salary and provision
of specific benefits pursuant to a qualified pension
plan under section 401(a) and an accident and health
plan that meets the requirements of section
105(h)(2). The contract provides that H’s salary will
be adjusted by the increase in the Consumer Price
Index (CPI) for the prior year. The contributions G
makes to the qualified pension plan are equal to the
maximum amount G is permitted to contribute
under the rules applicable to qualified plans. Under
these facts, all items comprising H’s total compen-
sation are treated as fixed payments within the
meaning of paragraph (a)(3)(ii) of this section.
Therefore, the reasonableness of H’s compensation
is determined based on the circumstances existing at
the time G and H enter into the employment con-
tract.
Example 2. The facts are the same as inExample
1, except that the multi-year employment contract
provides, in addition, that G will transfer title to a
car to H under the condition that if H fails to com-
pletexyears of service with G, title to the car will
be forfeited back to G. All relevant information
about the type of car to be provided (including the
make, model, and year) is included in the contract.
Although ultimate vesting of title to the car is con-
tingent on H continuing to work for G forxyears,
the amount of property to be vested (i.e., the type of
car) is specified in the contract, and no person exer-
cises discretion regarding the type of property or
whether H will retain title to the property at the time
of vesting. Under these facts, the car is a fixed pay-
ment within the meaning of paragraph (a)(3)(ii) of
this section. Therefore, the reasonableness of H’s
compensation, including the value of the car, is
determined based on the circumstances existing at
the time G and H enter into the employment con-
tract.
Example 3. N is an applicable tax-exempt orga-
nization for purposes of section 4958. On January 2,
N’s governing body enters into a new one-year
employment contract with K, its executive director,
who is a disqualified person with respect to N. The
contract provides that K will receive a specified
amount of salary, contributions to a qualified pen-
sion plan under section 401(a), and other benefits
pursuant to a section 125 cafeteria plan. In addition,
the contract provides that N’s governing body may,
in its discretion, declare a bonus to be paid to K at
any time during the year covered by the contract.
K’s salary and other specified benefits constitute
fixed payments within the meaning of paragraph
(a)(3)(ii) of this section. Therefore, the reasonable-
ness of those economic benefits is determined on the
date when the contract was made. However, because
the bonus payment is not a fixed payment within the
meaning of paragraph (a)(3)(ii) of this section, the
determination of whether any bonus awarded to N is
reasonable must be made based on all facts and cir-
cumstances (including all payments and consider-
ation exchanged between the parties), up to and
including circumstances as of the date of payment of
the bonus.
(c)Establishing intent to treat eco-
nomic benefit as consideration for the
performance of services—(1)In general.
An economic benefit is not treated as
February 19, 20025192002–7 I.R.B.

consideration for the performance of ser-
vices unless the organization providing
the benefit clearly indicates its intent to
treat the benefit as compensation when
the benefit is paid. Except as provided in
paragraph (c)(2) of this section, an appli-
cable tax-exempt organization (or entity
controlled by an applicable tax-exempt
organization, within the meaning of para-
graph (a)(2)(ii)(B) of this section) is
treated as clearly indicating its intent to
provide an economic benefit as compen-
sation for services only if the organization
provides written substantiation that is
contemporaneous with the transfer of the
economic benefit at issue. If an organiza-
tion fails to provide this contemporaneous
substantiation, any services provided by
the disqualified person will not be treated
as provided in consideration for the eco-
nomic benefit for purposes of determin-
ing the reasonableness of the transaction.
In no event shall an economic benefit that
a disqualified person obtains by theft or
fraud be treated as consideration for the
performance of services.
(2)Nontaxable benefits. For purposes
of section 4958(c)(1)(A) and this section,
an applicable tax-exempt organization is
not required to indicate its intent to pro-
vide an economic benefit as compensa-
tion for services if the economic benefit is
excluded from the disqualified person’s
gross income for income tax purposes on
the basis of the provisions of chapter 1 of
Subtitle A of the Internal Revenue Code.
Examples of these benefits include, but
are not limited to, employer-provided
health benefits and contributions to a
qualified pension, profit-sharing, or stock
bonus plan under section 401(a), and ben-
efits described in sections 127 and 137.
However, except for economic benefits
that are disregarded for purposes of sec-
tion 4958 under paragraph (a)(4) of this
section, all compensatory benefits
(regardless of the Federal income tax
treatment) provided by an organization in
exchange for the performance of services
are taken into account in determining the
reasonableness of a person’s compensa-
tion for purposes of section 4958.
(3)Contemporaneous substantiation—
(i)Reporting of benefit—(A)In general.
An applicable tax-exempt organization
provides contemporaneous written sub-
stantiation of its intent to provide an eco-
nomic benefit as compensation if—
(1) The organization reports the eco-
nomic benefit as compensation on an
original Federal tax information return
with respect to the payment (e.g., Form
W–2,“Wage and Tax Statement”, or Form
1099,“Miscellaneous Income”) or with
respect to the organization (e.g., Form
990,“Return of Organization Exempt
From Income Tax”), or on an amended
Federal tax information return filed prior
to the commencement of an Internal Rev-
enue Service examination of the appli-
cable tax-exempt organization or the dis-
qualified person for the taxable year in
which the transaction occurred (as deter-
mined under§53.4958–1(e)); or
(2) The recipient disqualified person
reports the benefit as income on the per-
son’s original Federal tax return (e.g.,
Form 1040,“U.S. Individual Income Tax
Return”), or on the person’s amended
Federal tax return filed prior to the earlier
of the following dates—
(i) Commencement of an Internal Rev-
enue Service examination described in
paragraph (c)(3)(i)(A)(1) of this section;
or
(ii) The first documentation in writing
by the Internal Revenue Service of a
potential excess benefit transaction
involving either the applicable tax-
exempt organization or the disqualified
person.
(B)Failure to report due to reasonable
cause. If an applicable tax-exempt organi-
zation’s failure to report an economic
benefit as required under the Internal
Revenue Code is due to reasonable cause
(within the meaning of§301.6724–1of
this chapter), then the organization will
be treated as having clearly indicated its
intent to provide an economic benefit as
compensation for services. To show that
its failure to report an economic benefit
that should have been reported on an
information return was due to reasonable
cause, an applicable tax-exempt organ-
ization must establish that there were sig-
nificant mitigating factors with respect to
its failure to report (as described in
§301.6724–1(b) of this chapter), or the
failure arose from events beyond the
organization’s control (as described in
§301.6724–1(c) of this chapter), and that
the organization acted in a responsible
manner both before and after the failure
occurred (as described in§301.6724–
1(d) of this chapter).
(ii)Other written contemporaneous
evidence. In addition, other written con-
temporaneous evidence may be used to
demonstrate that the appropriate decision-
making body or an officer authorized to
approve compensation approved a trans-
fer as compensation for services in accor-
dance with established procedures,
including but not limited to—
(A) An approved written employment
contract executed on or before the date of
the transfer;
(B) Documentation satisfying the
requirements of§53.4958–6(a)(3) indi-
cating that an authorized body approved
the transfer as compensation for services
on or before the date of the transfer; or
(C) Written evidence that was in exist-
ence on or before the due date of the
applicable Federal tax return described in
paragraph (c)(3)(i)(A)(1)or(2) of this
section (including extensions but not
amendments), of a reasonable belief by
the applicable tax-exempt organization
that a benefit was a nontaxable benefit as
defined in paragraph (c)(2) of this sec-
tion.
(4)Examples. The following examples
illustrate the requirement that an organi-
zation contemporaneously substantiate its
intent to provide an economic benefit as
compensation for services, as defined in
paragraph (c) of this section:
Example 1. G is an applicable tax-exempt orga-
nization for purposes of section 4958. G hires an
individual contractor, P, who is also the child of a
disqualified person of G, to design a computer pro-
gram for it. G executes a contract with P for that
purpose in accordance with G’s established proce-
dures, and pays P $1,000 during the year pursuant to
the contract. Before January 31 of the next year, G
reports the full amount paid to P under the contract
on a Form 1099 filed with the Internal Revenue
Service. G will be treated as providing contempora-
neous written substantiation of its intent to provide
the $1,000 paid to P as compensation for the ser-
vices P performed under the contract by virtue of
either the Form 1099 filed with the Internal Revenue
Service reporting the amount, or by virtue of the
written contract executed between G and P.
Example 2. G is an applicable tax-exempt orga-
nization for purposes of section 4958. D is the chief
operating officer of G, and a disqualified person
with respect to G. D receives a bonus at the end of
the year. G’s accounting department determines that
the bonus is to be reported on D’s Form W–2. Due
to events beyond G’s control, the bonus is not
reflected on D’s Form W–2. As a result, D fails to
report the bonus on D’s individual income tax
return. G acts to amend Forms W–2 affected as soon
as G is made aware of the error during an Internal
Revenue Service examination. G’s failure to report
the bonus on an information return issued to D arose
2002–7 I.R.B.520February 19, 2002

from events beyond G’s control, and G acted in a
responsible manner both before and after the failure
occurred. Thus, because G had reasonable cause
(within the meaning§301.6724–1 of this chapter)
for failing to report D’s bonus, G will be treated as
providing contemporaneous written substantiation
of its intent to provide the bonus as compensation
for services when paid.
Example 3. H is an applicable tax-exempt orga-
nization and J is a disqualified person with respect
to H. J’s written employment agreement provides
for a fixed salary of $y.J’s duties include soliciting
funds for various programs of H. H raises a large
portion of its funds in a major metropolitan area.
Accordingly, H maintains an apartment there in
order to provide a place to entertain potential
donors. H makes the apartment available exclu-
sively to J to assist in the fundraising. J’s written
employment contract does not mention the use of
the apartment. H obtains the written opinion of a
benefits compensation expert that the rental value of
the apartment is not includable in J’s income by rea-
son of section 119, based on the expectation that the
apartment will be used for fundraising activities.
Consequently, H does not report the rental value of
the apartment on J’s Form W–2, which otherwise
correctly reports J’s taxable compensation. J does
not report the rental value of the apartment on J’s
individual Form 1040. Later, the Internal Revenue
Service correctly determines that the requirements
of section 119 were not satisfied. Because of the
written expert opinion, H has written evidence of its
reasonable belief that use of the apartment was a
nontaxable benefit as defined in paragraph (c)(2) of
this section. That evidence was in existence on or
before the due date of the applicable Federal tax
return. Therefore, H has demonstrated its intent to
treat the use of the apartment as compensation for
services performed by J.
§53.4958–5 Transaction in which the
amount of the economic benefit is
determined in whole or in part by the
revenues of one or more activities of the
organization.
[Reserved]
§53.4958–6 Rebuttable presumption that
a transaction is not an excess benefit
transaction.
(a)In general. Payments under a com-
pensation arrangement are presumed to
be reasonable, and a transfer of property,
or the right to use property, is presumed
to be at fair market value, if the following
conditions are satisfied—
(1) The compensation arrangement or
the terms of the property transfer are
approved in advance by an authorized
body of the applicable tax-exempt organi-
zation (or an entity controlled by the
organizationwiththemeaningof
§53.4958–4(a)(2)(ii)(B)) composed
entirely of individuals who do not have a
conflict of interest (within the meaning of
paragraph (c)(1)(iii) of this section) with
respect to the compensation arrangement
or property transfer, as described in para-
graph (c)(1) of this section;
(2) The authorized body obtained and
relied upon appropriate data as to compa-
rability prior to making its determination,
as described in paragraph (c)(2) of this
section; and
(3) The authorized body adequately
documented the basis for its determina-
tion concurrently with making that deter-
mination, as described in paragraph (c)(3)
of this section.
(b)Rebutting the presumption.Ifthe
three requirements of paragraph (a) of
this section are satisfied, then the Internal
Revenue Service may rebut the presump-
tion that arises under paragraph (a) of this
section only if it develops sufficient con-
trary evidence to rebut the probative
value of the comparability data relied
upon by the authorized body. With
respect to any fixed payment (within the
meaning of§53.4958–4(a)(3)(ii)), rebut-
tal evidence is limited to evidence relat-
ing to facts and circumstances existing on
the date the parties enter into the contract
pursuant to which the payment is made
(except in the event of substantial nonper-
formance). With respect to all other pay-
ments (including non-fixed payments
subject to a cap, as described in para-
graph (d)(2) of this section), rebuttal evi-
dence may include facts and circum-
stances up to and including the date of
payment. See§53.4958–4(b)(2)(i).
(c)Requirements for invoking rebut-
table presumption—(1)Approval by an
authorized body—(i)In general.An
authorized body means—
(A) The governing body (i.e., the
board of directors, board of trustees, or
equivalent controlling body) of the orga-
nization;
(B) A committee of the governing
body, which may be composed of any
individuals permitted under State law to
serve on such a committee, to the extent
that the committee is permitted by State
law to act on behalf of the governing
body; or
(C) To the extent permitted under State
law, other parties authorized by the gov-
erning body of the organization to act on
its behalf by following procedures speci-
fied by the governing body in approving
compensation arrangements or property
transfers.
(ii)Individuals not included on autho-
rized body. For purposes of determining
whether the requirements of paragraph (a)
of this section have been met with respect
to a specific compensation arrangement
or property transfer, an individual is not
included on the authorized body when it
is reviewing a transaction if that indi-
vidual meets with other members only to
answer questions, and otherwise recuses
himself or herself from the meeting and is
not present during debate and voting on
the compensation arrangement or prop-
erty transfer.
(iii)Absence of conflict of interest.A
member of the authorized body does not
have a conflict of interest with respect to
a compensation arrangement or property
transfer only if the member—
(A) Is not a disqualified person partici-
pating in or economically benefitting
from the compensation arrangement or
property transfer, and is not a member of
the family of any such disqualified per-
son, as described in section 4958(f)(4) or
§53.4958–3(b)(1);
(B) Is not in an employment relation-
ship subject to the direction or control of
any disqualified person participating in or
economically benefitting from the com-
pensation arrangement or property trans-
fer;
(C) Does not receive compensation or
other payments subject to approval by
any disqualified person participating in or
economically benefitting from the com-
pensation arrangement or property trans-
fer;
(D) Has no material financial interest
affected by the compensation arrange-
ment or property transfer; and
(E) Does not approve a transaction
providing economic benefits to any dis-
qualified person participating in the com-
pensation arrangement or property trans-
fer, who in turn has approved or will
approve a transaction providing economic
benefits to the member.
(2)Appropriatedataasto
comparability—(i)In general. An autho-
rized body has appropriate data as to
comparability if, given the knowledge
and expertise of its members, it has
information sufficient to determine
whether, under the standards set forth in
February 19, 20025212002–7 I.R.B.

§53.4958–4(b), the compensation
arrangement in its entirety is reasonable
or the property transfer is at fair market
value. In the case of compensation, rel-
evant information includes, but is not lim-
ited to, compensation levels paid by simi-
larly situated organizations, both taxable
and tax-exempt, for functionally compa-
rable positions; the availability of similar
services in the geographic area of the
applicable tax-exempt organization; cur-
rent compensation surveys compiled by
independent firms; and actual written
offers from similar institutions competing
for the services of the disqualified person.
In the case of property, relevant informa-
tion includes, but is not limited to, current
independent appraisals of the value of all
property to be transferred; and offers
received as part of an open and competi-
tive bidding process.
(ii)Special rule for compensation paid
by small organizations. For organizations
with annual gross receipts (including con-
tributions) of less than $1 million review-
ing compensation arrangements, the
authorized body will be considered to
have appropriate data as to comparability
if it has data on compensation paid by
three comparable organizations in the
same or similar communities for similar
services. No inference is intended with
respect to whether circumstances falling
outside this safe harbor will meet the
requirement with respect to the collection
of appropriate data.
(iii)Application of special rule for
small organizations. For purposes of
determining whether the special rule for
small organizations described in para-
graph (c)(2)(ii) of this section applies, an
organization may calculate its annual
gross receipts based on an average of its
gross receipts during the three prior tax-
able years. If any applicable tax-exempt
organization is controlled by or controls
another entity (as defined in§53.4958–
4(a)(2)(ii)(B)), the annual gross receipts
of such organizations must be aggregated
to determine applicability of the special
rule stated in paragraph (c)(2)(ii) of this
section.
(iv)Examples. The following
examples illustrate the rules for appropri-
ate data as to comparability for purposes
of invoking the rebuttable presumption of
reasonableness described in this section.
In all examples, compensation refers to
the aggregate value of all benefits pro-
vided in exchange for services. The
examples are as follows:
Example 1. Z is a university that is an applicable
tax-exempt organization for purposes of section
4958. Z is negotiating a new contract with Q, its
president, because the old contract will expire at the
end of the year. In setting Q’s compensation for its
president at $600xper annum, the executive com-
mittee of the Board of Trustees relies solely on a
national survey of compensation for university
presidents that indicates university presidents
receive annual compensation in the range of $100x
to $700x; this survey does not divide its data by any
criteria, such as the number of students served by
the institution, annual revenues, academic ranking,
or geographic location. Although many members of
the executive committee have significant business
experience, none of the members has any particular
expertise in higher education compensation matters.
Given the failure of the survey to provide informa-
tion specific to universities comparable to Z, and
because no other information was presented, the
executive committee’s decision with respect to Q’s
compensation was not based upon appropriate data
as to comparability.
Example 2. The facts are the same asExample 1,
except that the national compensation survey
divides the data regarding compensation for univer-
sity presidents into categories based on various
university-specific factors, including the size of the
institution (in terms of the number of students it
serves and the amount of its revenues) and geo-
graphic area. The survey data shows that university
presidents at institutions comparable to and in the
same geographic area as Z receive annual compen-
sation in the range of $200xto $300x. The executive
committee of the Board of Trustees of Z relies on
the survey data and its evaluation of Q’s many years
of service as a tenured professor and high-ranking
university official at Z in setting Q’s compensation
at $275xannually. The data relied upon by the
executive committee constitutes appropriate data as
to comparability.
Example 3. X is a tax-exempt hospital that is an
applicable tax-exempt organization for purposes of
section 4958. Before renewing the contracts of X’s
chief executive officer and chief financial officer,
X’s governing board commissioned a customized
compensation survey from an independent firm that
specializes in consulting on issues related to execu-
tive placement and compensation. The survey cov-
ered executives with comparable responsibilities at a
significant number of taxable and tax-exempt hospi-
tals. The survey data are sorted by a number of dif-
ferent variables, including the size of the hospitals
and the nature of the services they provide, the level
of experience and specific responsibilities of the
executives, and the composition of the annual com-
pensation packages. The board members were pro-
vided with the survey results, a detailed written
analysis comparing the hospital’s executives to
those covered by the survey, and an opportunity to
ask questions of a member of the firm that prepared
the survey. The survey, as prepared and presented to
X’s board, constitutes appropriate data as to compa-
rability.
Example 4. The facts are the same asExample 3,
except that one year later, X is negotiating a new
contract with its chief executive officer. The govern-
ing board of X obtains information indicating that
the relevant market conditions have not changed
materially, and possesses no other information indi-
cating that the results of the prior year’s survey are
no longer valid. Therefore, X may continue to rely
on the independent compensation survey prepared
for the prior year in setting annual compensation
under the new contract.
Example 5. W is a local repertory theater and an
applicable tax-exempt organization for purposes of
section 4958. W has had annual gross receipts rang-
ing from $400,000 to $800,000 over its past three
taxable years. In determining the next year’s com-
pensation for W’s artistic director, the board of
directors of W relies on data compiled from a tele-
phone survey of three other unrelated performing
arts organizations of similar size in similar commu-
nities. A member of the board drafts a brief written
summary of the annual compensation information
obtained from this informal survey. The annual
compensation information obtained in the telephone
survey is appropriate data as to comparability.
(3)Documentation—(i) For a decision
to be documented adequately, the written
or electronic records of the authorized
body must note—
(A) The terms of the transaction that
was approved and the date it was
approved;
(B) The members of the authorized
body who were present during debate on
the transaction that was approved and
those who voted on it;
(C) The comparability data obtained
and relied upon by the authorized body
and how the data was obtained; and
(D) Any actions taken with respect to
consideration of the transaction by any-
one who is otherwise a member of the
authorized body but who had a conflict of
interest with respect to the transaction.
(ii) If the authorized body determines
that reasonable compensation for a spe-
cific arrangement or fair market value in
a specific property transfer is higher or
lower than the range of comparability
data obtained, the authorized body must
record the basis for its determination. For
a decision to be documented concurrently,
records must be prepared before the later
of the next meeting of the authorized
body or 60 days after the final action or
actions of the authorized body are taken.
Records must be reviewed and approved
by the authorized body as reasonable,
accurate and complete within a reason-
able time period thereafter.
(d)No presumption with respect to
non-fixed payments until amounts are
determined—(1)In general. Except as
2002–7 I.R.B.522February 19, 2002

provided in paragraph (d)(2) of this sec-
tion, in the case of a payment that is not
a fixed payment (within the meaning of
§53.4958–4(a)(3)(ii)), the rebuttable pre-
sumption of this section arises only after
the exact amount of the payment is deter-
mined, or a fixed formula for calculating
the payment is specified, and the three
requirements for the presumption under
paragraph (a) of this section subsequently
are satisfied. See§53.4958–4(b)(2)(i).
(2)Special rule for certain non-fixed
payments subject to a cap. If the autho-
rized body approves an employment con-
tract with a disqualified person that
includes a non-fixed payment (such as a
discretionary bonus) subject to a specified
cap, the authorized body may establish a
rebuttable presumption with respect to the
non-fixed payment at the time the
employment contract is entered into if—
(i) Prior to approving the contract, the
authorized body obtains appropriate com-
parability data indicating that a fixed pay-
ment of up to a certain amount to the par-
ticular disqualified person would
represent reasonable compensation;
(ii) The maximum amount payable
under the contract (taking into account
both fixed and non-fixed payments) does
not exceed the amount referred to in para-
graph (d)(2)(i) of this section; and
(iii) The other requirements for the
rebuttable presumption of reasonableness
under paragraph (a) of this section are
satisfied.
(e)No inference from absence of pre-
sumption. The fact that a transaction
between an applicable tax-exempt organi-
zation and a disqualified person is not
subject to the presumption described in
this section neither creates any inference
that the transaction is an excess benefit
transaction, nor exempts or relieves any
person from compliance with any Federal
or state law imposing any obligation,
duty, responsibility, or other standard of
conduct with respect to the operation or
administration of any applicable tax-
exempt organization.
(f)Period of reliance on rebuttable
presumption. Except as provided in para-
graph (d) of this section with respect to
non-fixed payments, the rebuttable pre-
sumption applies to all payments made or
transactions completed in accordance
with a contract, provided that the provi-
sions of paragraph (a) of this section were
met at the time the parties entered into the
contract.
§53.4958–7 Correction.
(a)In general. An excess benefit trans-
action is corrected by undoing the excess
benefit to the extent possible, and taking
any additional measures necessary to
place the applicable tax-exempt organiza-
tion involved in the excess benefit trans-
action in a financial position not worse
than that in which it would be if the dis-
qualified person were dealing under the
highest fiduciary standards. Paragraph (b)
of this section describes the acceptable
forms of correction. Paragraph (c) of this
section defines the correction amount.
Paragraph (d) of this section describes
correction where a contract has been par-
tially performed. Paragraph (e) of this
section describes correction where the
applicable tax-exempt organization
involved in the transaction has ceased to
exist or is no longer tax-exempt. Para-
graph (f) of this section provides
examples illustrating correction.
(b)Form of correction—(1)Cash or
cash equivalents. Except as provided in
paragraphs (b)(3) and (4) of this section,
a disqualified person corrects an excess
benefit only by making a payment in cash
or cash equivalents, excluding payment
by a promissory note, to the applicable
tax-exempt organization equal to the cor-
rection amount, as defined in paragraph
(c) of this section.
(2)Anti-abuse rule. A disqualified per-
son will not satisfy the requirements of
paragraph (b)(1) of this section if the
Commissioner determines that the dis-
qualified person engaged in one or more
transactions with the applicable tax-
exempt organization to circumvent the
requirements of this correction section,
and as a result, the disqualified person
effectively transferred property other than
cash or cash equivalents.
(3)Special rule relating to nonquali-
fied deferred compensation. If an excess
benefit transaction results, in whole or in
part, from the vesting (as described in
§53.4958–1(e)(2)) of benefits provided
under a nonqualified deferred compensa-
tion plan, then, to the extent that such
benefits have not yet been distributed to
the disqualified person, the disqualified
person may correct the portion of the
excess benefit resulting from the undis-
tributed deferred compensation by relin-
quishing any right to receive the excess
portion of the undistributed deferred com-
pensation (including any earnings
thereon).
(4)Return of specific property—(i)In
general. A disqualified person may, with
the agreement of the applicable tax-
exempt organization, make a payment by
returning specific property previously
transferred in the excess benefit transac-
tion. In this case, the disqualified person
is treated as making a payment equal to
the lesser of—
(A) The fair market value of the prop-
erty determined on the date the property
is returned to the organization; or
(B) The fair market value of the prop-
erty on the date the excess benefit trans-
action occurred.
(ii)Payment not equal to correction
amount. If the payment described in para-
graph (b)(4)(i) of this section is less than
the correction amount (as described in
paragraph (c) of this section), the dis-
qualified person must make an additional
cash payment to the organization equal to
the difference. Conversely, if the payment
described in paragraph (b)(4)(i) of this
section exceeds the correction amount (as
described in paragraph (c) of this sec-
tion), the organization may make a cash
payment to the disqualified person equal
to the difference.
(iii)Disqualified person may not par-
ticipate in decision. Any disqualified per-
son who received an excess benefit from
the excess benefit transaction may not
participate in the applicable tax-exempt
organization’s decision whether to accept
the return of specific property under para-
graph (b)(4)(i) of this section.
(c)Correction amount. The correction
amount with respect to an excess benefit
transaction equals the sum of the excess
benefit (as defined in§53.4958–1(b))
and interest on the excess benefit. The
amount of the interest charge for purposes
of this section is determined by multiply-
ing the excess benefit by an interest rate,
compounded annually, for the period
from the date the excess benefit transac-
tion occurred (as defined in§53.4958–
1(e)) to the date of correction. The inter-
est rate used for this purpose must be a
rate that equals or exceeds the applicable
February 19, 20025232002–7 I.R.B.

Federal rate (AFR), compounded annu-
ally, for the month in which the transac-
tion occurred. The period from the date
the excess benefit transaction occurred to
the date of correction is used to determine
whether the appropriate AFR is the Fed-
eral short-term rate, the Federal mid-term
rate, or the Federal long-term rate. See
section 1274(d)(1)(A).
(d)Correction where contract has
been partially performed. If the excess
benefit transaction arises under a contract
that has been partially performed, termi-
nation of the contractual relationship
between the organization and the dis-
qualified person is not required in order
to correct. However, the parties may need
to modify the terms of any ongoing con-
tract to avoid future excess benefit trans-
actions.
(e)Correction in the case of an appli-
cable tax-exempt organization that has
ceased to exist, or is no longer tax-
exempt—(1)In general. A disqualified
person must correct an excess benefit
transaction in accordance with this para-
graph where the applicable tax-exempt
organization that engaged in the transac-
tion no longer exists or is no longer
described in section 501(c)(3) or (4) and
exempt from tax under section 501(a).
(2)Section 501(c)(3) organizations.In
the case of an excess benefit transaction
with a section 501(c)(3) applicable tax-
exempt organization, the disqualified per-
son must pay the correction amount, as
defined in paragraph (c) of this section, to
another organization described in section
501(c)(3) and exempt from tax under sec-
tion 501(a) in accordance with the disso-
lution clause contained in the constitutive
documents of the applicable tax-exempt
organization involved in the excess ben-
efit transaction, provided that—
(i) The organization receiving the cor-
rection amount is described in section
170(b)(1)(A) (other than in section
170(b)(1)(A)(vii) and (viii)) and has been
in existence and so described for a con-
tinuous period of at least 60 calendar
months ending on the correction date;
(ii) The disqualified person is not also
a disqualified person (as defined in
§53.4958–3) with respect to the organi-
zation receiving the correction amount;
and
(iii) The organization receiving the
correction amount does not allow the dis-
qualified person (or persons described in
§53.4958–3(b) with respect to that per-
son) to make or recommend any grants or
distributions by the organization.
(3)Section 501(c)(4) organizations.In
the case of an excess benefit transaction
with a section 501(c)(4) applicable tax-
exempt organization, the disqualified per-
son must pay the correction amount, as
defined in paragraph (c) of this section, to
a successor section 501(c)(4) organization
or, if no tax-exempt successor, to any
organization described in section
501(c)(3) or (4) and exempt from tax
under section 501(a), provided that the
requirements of paragraphs (e)(2)(i)
through (iii) of this section are satisfied
(except that the requirement that the orga-
nization receiving the correction amount
is described in section 170(b)(1)(A)
(other than in section 170(b)(1)(A)(vii)
and (viii)) shall not apply if the organiza-
tion is described in section 501(c)(4)).
(f)Examples. The following examples
illustrate the principles of this section
describing the requirements of correction:
Example 1. W is an applicable tax-exempt orga-
nization for purposes of section 4958. D is a dis-
qualified person with respect to W. W employed D
in 1999 and made payments totaling $12ttoDas
compensation throughout the taxable year. The fair
market value of D’s services in 1999 was $7t. Thus,
D received excess compensation in the amount of
$5t, the excess benefit for purposes of section 4958.
In accordance with§53.4958–1(e)(1), the excess
benefit transaction with respect to the series of com-
pensatory payments during 1999 is deemed to occur
on December 31, 1999, the last day of D’s taxable
year. In order to correct the excess benefit transac-
tion on June 30, 2002, D must pay W, in cash or
cash equivalents, excluding payment with a promis-
sory note, $5t(the excess benefit) plus interest on
$5tfor the period from the date the excess benefit
transaction occurred to the date of correction (i.e.,
December 31, 1999, to June 30, 2002). Because this
period is not more than three years, the interest rate
D must use to determine the interest on the excess
benefit must equal or exceed the short-term AFR,
compounded annually, for December, 1999 (5.74%,
compounded annually).
Example 2. X is an applicable tax-exempt orga-
nization for purposes of section 4958. B is a dis-
qualified person with respect to X. On January 1,
2000, B paid X $6vfor Property F. Property F had
a fair market value of $10von January 1, 2000.
Thus, the sales transaction on that date provided an
excess benefit to B in the amount of $4v. In order to
correct the excess benefit on July 5, 2005, B pays X,
in cash or cash equivalents, excluding payment with
a promissory note, $4v(the excess benefit) plus
interest on $4vfor the period from the date the
excess benefit transaction occurred to the date of
correction (i.e., January 1, 2000, to July 5, 2005).
Because this period is over three but not over nine
years, the interest rate B must use to determine the
interest on the excess benefit must equal or exceed
the mid-term AFR, compounded annually, for Janu-
ary, 2000 (6.21%, compounded annually).
Example 3. The facts are the same as inExample
2, except that B offers to return Property F. X agrees
to accept the return of Property F, a decision in
which B does not participate. Property F has
declined in value since the date of the excess ben-
efit transaction. On July 5, 2005, the property has a
fair market value of $9v. For purposes of correction,
B’s return of Property F to X is treated as a payment
of $9v, the fair market value of the property deter-
mined on the date the property is returned to the
organization. If $9vis greater than the correction
amount ($4vplus interest on $4vat a rate that equals
or exceeds 6.21%, compounded annually, for the
period from January 1, 2000, to July 5, 2005), then
X may make a cash payment to B equal to the dif-
ference.
Example 4. The facts are the same as inExample
3, except that Property F has increased in value
since January 1, 2000, the date the excess benefit
transaction occurred, and on July 5, 2005, has a fair
market value of $13v. For purposes of correction,
B’s return of Property F to X is treated as a payment
of $10v, the fair market value of the property on the
date the excess benefit transaction occurred. If $10v
is greater than the correction amount ($4vplus inter-
est on $4v at a rate that equals or exceeds 6.21%,
compounded annually, for the period from January
1, 2000, to July 5, 2005), then X may make a cash
payment to B equal to the difference.
Example 5. The facts are the same as inExample
2. Assume that the correction amount B paid X in
cash on July 5, 2005, was $5.58v. On July 4, 2005,
X loaned $5.58vto B, in exchange for a promissory
note signed by B in the amount of $5.58v, payable
with interest at a future date. These facts indicate
that B engaged in the loan transaction to circumvent
the requirement of this section that (except as pro-
vided in paragraph (b)(3) or (4) of this section), the
correction amount must be paid only in cash or cash
equivalents. As a result, the Commissioner may
determine that B effectively transferred property
other than cash or cash equivalents, and therefore
did not satisfy the correction requirements of this
section.
§53.4958–8 Special rules.
(a)Substantive requirements for
exemption still apply. Section 4958 does
not affect the substantive standards for
tax exemption under section 501(c)(3) or
(4), including the requirements that the
organization be organized and operated
exclusively for exempt purposes, and that
no part of its net earnings inure to the
benefit of any private shareholder or indi-
vidual. Thus, regardless of whether a par-
ticular transaction is subject to excise
taxes under section 4958, existing prin-
ciples and rules may be implicated, such
as the limitation on private benefit. For
example, transactions that are not subject
to section 4958 because of the initial con-
tract exception described in§53.4958–
2002–7 I.R.B.524February 19, 2002

4(a)(3) may, under certain circumstances,
jeopardize the organization’s tax-exempt
status.
(b)Interaction between section 4958
and section 7611 rules for church tax
inquiries and examinations. The proce-
dures of section 7611 will be used in ini-
tiating and conducting any inquiry or
examination into whether an excess ben-
efit transaction has occurred between a
church and a disqualified person. For pur-
poses of this rule, the reasonable belief
required to initiate a church tax inquiry is
satisfied if there is a reasonable belief that
a section 4958 tax is due from a disquali-
fied person with respect to a transaction
involving a church. See§301.7611–1
Q&A 19 of this chapter.
(c)Other substantiation requirements.
These regulations, in§53.4958–4(c)(3),
set forth specific substantiation rules.
Compliance with the specific substantia-
tion rules of that section does not relieve
applicable tax-exempt organizations of
other rules and requirements of the Inter-
nal Revenue Code, regulations, Revenue
Rulings, and other guidance issued by the
Internal Revenue Service (including the
substantiation rules of sections 162 and
274, or§1.6001–1(a) and (c) of this
chapter).
PART 301—PROCEDURE AND
ADMINISTRATION
Par. 3. The authority citation for part
301 continues to read in part as follows:
Authority: 26 U.S.C. 7805***
§301.7611–1 [Amended]
Par.4.In§301.7611–1, Q–19 and
A–19 at the end of the section are revised
to read as follows:
§301.7611–1 Questions and answers
relating to church tax inquiries and
examinations.
*****
Application to Section 4958
Q–19: When do the church tax inquiry
and examination procedures described in
section 7611 apply to a determination of
whether there was an excess benefit trans-
action described in section 4958?
A–19: See§53.4958–8(b) of this
chapter for rules governing the interaction
between section 4958 excise taxes on
excess benefit transactions and section
7611 church tax inquiry and examination
procedures.
PART 602—OMB CONTROL
NUMBERS UNDER THE
PAPERWORK REDUCTION ACT
Par. 5. The authority citation for part
602 continues to read as follows:
Authority: 26 U.S.C. 7805.
Par.6.In§602.101, paragraph (b) is
amended by removing the entry for
“53.4958–6T”and adding an entry for
“53.4958–6”to the table in numerical
order to read as follows:
§602.101 OMB control numbers.
*****
(b)***
CFR part or section where
identified and described
Current OMB
control No.
*****
53.4958–6 ............................................................................................................................................................................1545–1623
*****
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
Approved December 21, 2001.
Mark Weinberger,
Assistant Secretary of the Treasury.
(Filed by the Office of the Federal Register on Janu-
ary 22, 2002, 8:45 a.m., and published in the issue
of the Federal Register for January 23, 2002, 67 F.R.
3076)
February 19, 20025252002–7 I.R.B.

Part III. Administrative, Procedural, and Miscellaneous
IRS Announces New Position
With Regard to Consolidated
Return Loss Disallowance
Rule
Notice 2002–11
This Notice sets forth the Internal Rev-
enue Service’s position with respect to
the opinion of the U.S. Court of Appeals
for the Federal Circuit inRite Aid Corp. v.
United States, 255 F.3d 1357 (Fed. Cir.
2001), and the loss disallowance rules
that apply to sales of stock of a member
of a consolidated group.
InRite Aid, the Federal Circuit held
that the duplicated loss component of
§1.1502–20 of the Income Tax Regula-
tions, which disallows certain losses on
sales of stock of a member of a consoli-
dated group, was an invalid exercise of
regulatory authority. The Internal Rev-
enue Service believes that the court’s
analysis and holding were incorrect.
Nevertheless, the Service has decided
that the interests of sound tax administra-
tion will not be served by continuing to
litigate the validity of the loss duplication
factor of§1.1502–20. Moreover, because
of the interrelationship in the operation of
all of the loss disallowance factors, the
Service has decided that new rules gov-
erning loss disallowance on sales of stock
of a member of a consolidated group
should be implemented.
Accordingly, the Service intends to
promulgate interim regulations that, pro-
spectively from the date of their issuance,
will require consolidated groups to deter-
mine the allowable loss on a sale or dis-
position of subsidiary stock under an
amended§1.337(d)–2 instead of under
§1.1502–20. For transactions (including
those for which a return has been filed)
completed before the date of issuance of
interim regulations, or for which there is
a binding contract before that date,
groups will be allowed certain choices
with respect to a disposition of subsidiary
stock, including a choice to apply
§1.337(d)–2 as amended. The Service
and Treasury are undertaking a broader
study of the regulatory provisions neces-
sary to implement§337(d) in the context
of affiliated groups filing consolidated
returns and will request comments in con-
junction with the issuance of the interim
regulations.
It is the Service’s position that theRite
Aidopinion implicates only the loss
duplication aspect of the loss disallow-
ance regulation and that the authority to
prescribe consolidated return regulations
conferred on the Secretary is limited only
by the requirement that the Secretary, in
his discretion, has determined such rules
necessary clearly to reflect consolidated
tax liability.
Patriots’Day
Notice 2002–12
This notice provides guidance regard-
ing the impact of Patriots’Day on the
April 15, 2002, due date for filing Federal
tax returns (whether paper or electronic)
and making Federal tax payments. If a
filing or payment due date falls on a Sat-
urday, Sunday or legal holiday (including
Statewide legal holidays), individual
income taxpayers have until the next
business day to file and pay.SeeI.R.C.
§7503. Patriots’Day, which in 2002 falls
on April 15, is a legal holiday in Massa-
chusetts and Maine and, therefore, consti-
tutes a Statewide legal holiday, under sec-
tion 7503, for IRS offices located in
Massachusetts and Maine.
Individual income taxpayers who oth-
erwise are required to file returns at the
Internal Revenue Service Center in
Andover, Massachusetts (Andover Ser-
vice Center) on April 15, 2002, are given
an additional day, until April 16, 2002, to
file and make their Federal tax payments
(including the Form 1040 series, auto-
matic extensions of time to file, and the
payment of the first installment of esti-
mated tax). The IRS, however, may direct
certain taxpayers, who otherwise would
be required to file at the Andover Service
Center, to send their Federal tax returns
elsewhere if they are making a payment
with Form 1040–V. To avoid confusion,
these taxpayers also are given until April
16, 2002, to file and make their Federal
tax payments. Finally, because individual
income taxpayers residing in Maine may
elect to file their returns by hand at an
IRS office located in Maine, these tax-
payers also are given until April 16, 2002,
to file and make their Federal tax pay-
ments.
Accordingly, for filing season 2002
(tax year 2001) individual income taxpay-
ers in Massachusetts, Michigan, New
York (all counties except for Nassau,
Rockland, Suffolk, Westchester, and New
York City), Rhode Island, and Maine have
until Tuesday, April 16, 2002, to file their
Federal income tax returns and make their
payments. This includes the payment of
the first installment of estimated tax for
2002.
The principal author of this notice is
Marcy W. Mendelsohn of the Associate
Chief Counsel, Procedure and Adminis-
tration (Administrative Provisions and
Judicial Practice Division). For further
information regarding this notice contact
Ms. Mendelsohn at 202–622–4940 (not a
toll-free call).
26 CFR 601.201: Rulings and determination letters
(Also Part I,§1256(g)(9))
Rev. Proc. 2002–11
SECTION 1. PURPOSE
This Revenue Procedure contains pro-
cedures that an exchange may follow to
enable the Internal Revenue Service to
determine whether certain persons trading
on that exchange qualify as“dealers”
under section 1256(g)(9) of the Internal
Revenue Code (the“Code”). It is
expected that, after the issuance of a let-
ter ruling to a specific exchange deter-
mining whether a specific category of
persons trading securities futures con-
tracts (and options on such contracts) on
that exchange qualifies for dealer status
under section 1256(g)(9), the Service will
publish the same conclusion in a revenue
ruling.
SECTION 2. BACKGROUND
The Commodity Futures Moderniza-
tion Act of 2000, enacted as part of the
Consolidated Appropriations Act, 2001
(Public Law 106–554, 114 Stat. 2763),
authorizes the trading of securities futures
2002–7 I.R.B.526February 19, 2002

contracts, a new type of derivative finan-
cial product. In general, gain or loss is
recognized on securities futures contracts
upon disposition, and the character of that
gain or loss is determined by newly
enacted section 1234B of the Code.
The timing and character of gains and
losses ondealersecurities futures con-
tracts (and options on such contracts),
however, is determined under section
1256. Dealer securities futures contracts
are subject to mark-to-market treatment,
and gains or losses are treated as 60 per-
cent long-term capital gain or loss and 40
percent short-term capital gain or loss.
Section 1256(a). For purposes of the
application of section 1256 to dealer
securities futures contracts (and options
on such contracts), a person is adealerif
the Secretary of the Treasury determines
that the person performs functions with
respect to such options or contracts simi-
lar to the functions performed with
respect to stock options by persons regis-
tered with a national securities exchange
as a market maker or specialist in listed
options.
In Notice 2001–27 (2001–13 I.R.B.
942), the Service and the Treasury
Department requested comments and sug-
gestions regarding both the substance of
the required determinations and the man-
ner in which they should be made.
Numerous comments have been received
regarding criteria that could be used to
identify dealers in securities futures con-
tracts (and options on such contracts). In
addition, staff of the Service and Treasury
initiated numerous conversations with
both regulators and various exchanges.
These ongoing conversations are
expected to continue unabated.
The exchanges on which securities
futures contracts and options may be
traded, however, are still developing rules
that will govern trading. In addition, cer-
tain of the regulatory requirements that
will be imposed by the Securities and
Exchange Commission and the Commod-
ity Futures Trading Commission have not
yet been issued in final form, and the
rules promulgated by some exchanges
may differ in important respects from
those governing the trading of any other
products.
During the current period, when trad-
ing rules are being developed, it is impor-
tant for the Service and Treasury to pro-
vide certainty for taxpayers while at the
same time not constraining the develop-
ment of trading structures for the new
markets. Given the likely diversity of
trading platforms and the potential for
new trading models, the Service and
Treasury have determined that encourag-
ing exchanges to apply for case-by-case
determinations while they are developing
their trading rules is preferable to either
writing general rules before the trading
structures are known or waiting until the
structures are finally established and then
making the exchanges wait for a general
rule to be crafted.
The issuance at this time of general
guidance for determining dealer status
would risk constraining the development
of the structures for the new markets. On
the other hand, if general guidance is not
issued now, the absence of an interim pro-
cess for securing dealer determinations
could impair the ability of the exchanges
to adapt their proposed trading systems to
the requirements for achieving dealer sta-
tus for market participants. As a result of
the flexibility inherent in the process of
obtaining a letter ruling, an exchange will
have an opportunity, if it so desires, to
make adjustments in its proposed trading
practices should those be needed to
secure dealer status for particular groups
of traders.
Under the procedures set forth below,
if an exchange is one on which securities
futures contracts (or options thereon) are,
or are expected to be, traded, the
exchange may request a letter ruling that,
based on its specific rules and facts and
circumstances, certain persons trading
such contracts (or options thereon) on the
exchange will be treated as“dealers”
under section 1256(g)(9).
The Service expects that, once it has
reached a decision regarding the request
for ruling, the same conclusion will be
published in a revenue ruling, which will
serve as general guidance. The Service
and Treasury are committed to expedited
processing for both the letter ruling and
the revenue ruling.
SECTION 3. PROCEDURES
.01 Procedures for submitting a ruling
request. An exchange desiring a letter rul-
ing concerning whether certain persons
trading on that exchange will qualify as
dealers with respect to specific contracts
traded on that exchange is required to
submit a letter ruling request under the
procedures provided in Rev. Proc. 2002–1
(2002–1 I.R.B. 1) (or successor proce-
dure).
.02 Time for submitting a ruling
request. Ruling requests may be submit-
ted prior to the date on which the
exchange anticipates that trading in the
securities futures contracts at issue will
begin, provided the exchange has devel-
oped a substantially definite framework
and set of rules within which these con-
tracts are expected to trade and has under-
taken significant actions to obtain neces-
sary regulatory approvals and to establish
requisite contractual arrangements and
trading systems. The Service will not rule
on requests involving alternative plans of
proposed transactions or hypothetical
situations.Seesection 7.02 of Rev. Proc.
2002–1 (2002–1 I.R.B. 1, 20).
.03 Information that should be
included in each ruling request. In addi-
tion to the information required by Rev.
Proc. 2002–1, the exchange must submit
any relevant information that will help the
Service to determine whether or not per-
sons trading in securities futures contracts
on that exchange qualify as dealers under
section 1256(g)(9). References to securi-
ties futures contracts include options on
such contracts. References to rules appli-
cable to trading in securities futures con-
tracts include rules that are not yet
adopted in final form but that are
expected to be applicable. The current
status of such rules should be described.
The ruling request should also include the
following:
Copies of information filed with non-
tax regulatory agencies regarding trad-
ing on that exchange in the securities
futures contracts at issue.
Information regarding whether persons
trading in such contracts on that
exchange are required to register with
the Securities and Exchange Commis-
sion or the Commodity Futures Trad-
ing Commission and the nature of any
required registration.
A description of any books and records
requirements under federal securities
laws or commodities laws to which
persons trading on that exchange are
subject.
February 19, 20025272002–7 I.R.B.

Information regarding whether persons
trading in such contracts on that
exchange will be required to be mem-
bers of the exchange and, if such per-
sons are not required to be members of
the exchange, whether such persons
are required to be lessees or delegates
of other persons entitled to trade at
member rates on the exchange.
References to the exchange’s rules, if
any, to which such persons will be
subject when trading in such contracts.
A description of any books and records
requirements the exchange will impose
on such persons and any rules granting
the exchange the right to monitor
and/or examine a person’s trading
activities and financial stability.
Information regarding whether the
exchange, the Securities and Exchange
Commission, or the Commodity
Futures Trading Commission imposes
any licensing requirements on such
persons, including a description of any
such requirements.
Information regarding whether the
exchange imposes net capital require-
ments on such persons, or imposes
such requirements on a clearing mem-
ber firm that clears a person’s trades;
whether clearing firms impose any
capital requirements on persons clear-
ing trades through those firms; and, in
either case, a description of any net
capital requirements.
Information regarding whether the
exchange requires such persons to
regularly and continuously hold them-
selves out as willing to buy and sell
securities futures contracts, regardless
of market conditions; and, if the
exchange imposes no such affirmative
obligation, whether those persons will
in fact make a two-sided market
because of other factors or obligations,
including a description of any such
other factors or obligations.
Information regarding whether the
exchange anticipates that those per-
sons expect to profit by entering into
either side of a position to capture a
portion of the bid-ask spread, or
whether the exchange anticipates that
those persons expect that most of their
gross income from trading in these
securities futures contracts will be
attributable to profits from market
price movements.
Information regarding whether the
exchange anticipates that such persons
will enter into transactions to hedge
their risks with respect to the securities
futures contracts traded on the
exchanges and the nature of such
hedges.
An estimate of the average gross trad-
ing volume that the exchange antici-
pates such persons will generate with
regard to these contracts.
Information regarding whether the
exchange anticipates that trading in
these securities futures contracts will
be a substantial part of the principal
business activity of such persons. Such
information might include, for
example, an estimate of the average
percentage of gross income that the
exchange anticipates such persons will
generate from trading in these securi-
ties futures contracts.
Information regarding whether the
exchange will impose a substantial
presence requirement or a trading
activity requirement on such persons,
including a description of any such
requirements.
An estimate of the volume of propri-
etary trading, compared to the volume
of trading for customers, that such per-
sons are expected to generate on the
exchange.
A description of the exchange’s trading
environment (e.g., floor trading or
screen trading) and any special fea-
tures of such environment that differ-
entiate the persons for whom dealer
status is sought from other exchange
participants.
A discussion of the nature, extent, and
frequency of material changes that
may occur in any of the above infor-
mation after the requested ruling is
issued. The exchange is encouraged to
include suggestions for procedures to
be followed by the exchange, its trad-
ers, and the Service in the event that
material changes in the information
occur.Seesection 12.10 of Rev. Proc.
2002–1 (2002–1 I.R.B. 1, 52); section
7.01 of Rev. Proc. 89–14 (1989–1 C.B.
814, 815).
The foregoing list of information
should be provided with any ruling
request, along with any additional infor-
mation that may help the Service to make
its determination. After its review of a
request for ruling, the Service may
require the exchange to submit additional
information needed to make its determi-
nation. See section 10.06 and 10.07 of
Rev. Proc. 2002–1 (2002–1 I.R.B. 1,
43–44).
SECTION 4. EFFECTIVE DATE
This revenue procedure is effective
February 4, 2002, the date this revenue
procedure was made available to the pub-
lic.
SECTION 5. DRAFTING
INFORMATION
The principal drafter of this notice is
Shawn Tetelman of the Office of the
Associate Chief Counsel (Financial Insti-
tutions and Products). For further infor-
mation regarding this notice, contact
Shawn Tetelman at (202) 622–3930 (not a
toll-free call).
2002–7 I.R.B.528February 19, 2002

Part IV. Items of General Interest
Notice of Proposed
Rulemaking by Cross-
Reference to Temporary
Regulations and Notice of
Public Hearing
Disallowance of Deductions
and Credits for Failure to File
Timely Return
REG–107100–00
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemaking
by cross-reference to temporary regula-
tions and notice of public hearing.
SUMMARY: This document contains
proposed regulations relating to the disal-
lowance of deductions and credits for
nonresident alien individuals and foreign
corporations that fail to file a timely U.S.
income tax return. The current regulations
permit nonresident aliens and foreign cor-
porations the benefit of deductions and
credits only if they timely file a U.S.
income tax return in accordance with sub-
title F of the Internal Revenue Code,
unless the Commissioner waives the fil-
ing deadlines. The temporary regulations
revise the waiver standard. The text of the
temporary regulations (T.D. 8981) on this
subject in this issue of the Bulletin also
serves as the text of these proposed regu-
lations set forth in this cross-referenced
notice of proposed rulemaking. This
document also provides notice of a public
hearing on these proposed regulations.
DATES: Written comments must be
received by April 29, 2002. Requests to
speak and outlines of topics to be dis-
cussed at the public hearing scheduled for
June 3, 2002, at 10 a.m. must be received
by May 13, 2002.
ADDRESSES: Send submissions to:
CC:ITA:RU (REG–107100–00), room
5226, Internal Revenue Service, POB
7604, Ben Franklin Station, Washington,
DC 20044. Submissions may be hand
delivered Monday through Friday
between the hours of 8 a.m. and 5 p.m.
to: CC:ITA:RU (REG–107100–00), Cou-
rier’s Desk, Internal Revenue Service,
1111Constitution Avenue, NW, Washing-
ton, DC. Alternatively, taxpayers may
submit comments electronically via the
Internet by selecting the“Tax Regs”
option on the IRS Home Page, or by sub-
mitting comments directly to the IRS
Internet site athttp://www.irs.ustreas.gov/
tax_regs/regslist.html. The public hearing
will be held in the auditorium, Internal
Revenue Building,1111 Constitution
Avenue, NW, Washington, D.C.
FOR FURTHER INFORMATION CON-
TACT: Concerning the regulations, Nina
E. Chowdhry, (202) 622–3880; concern-
ing submissions, the hearing, and/or to be
placed on the building access list to
attend the hearing, Donna Poindexter
(202) 622–7180 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Background
Temporary regulations in the Rules
and Regulations section of this issue of
the Bulletin amend the Income Tax Regu-
lations (26 CFR part1) relating to sections
874 and 882. These temporary regulations
contain rules relating to the disallowance
of deductions and credits for nonresident
alien individuals and foreign corporations
that fail to file a timely U.S. income tax
return.
Special Analyses
It has been determined that this notice
of proposed rulemaking is not a signifi-
cant regulatory action as defined in
Executive Order 12866. Therefore, a
regulatory assessment is not required. It
has also been determined that section
553(b) of the Administrative Procedure
Act (5 U.S.C. chapter 5) does not apply to
these regulations and, because these regu-
lations do not impose on small entities a
collection of information requirement, the
Regulatory Flexibility Act (5 U.S.C.
chapter 6) does not apply. Therefore, a
Regulatory Flexibility Analysis is not
required. Pursuant to section 7805(f) of
the Internal Revenue Code, this notice of
proposed rulemaking will be submitted to
the Chief Counsel for Advocacy of the
Small Business Administration for com-
ment on its impact on small business.
Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, consideration
will be given to any electronic or written
comments (a signed original and eight (8)
copies) that are submitted timely to the
IRS. Treasury and the IRS request com-
ments on the clarity of the proposed rule
and how it may be made easier to under-
stand. All comments will be made avail-
able for public inspection and copying.
A public hearing has been scheduled
for June 3, at 10 a.m., in the auditorium,
Internal Revenue Building,1111Consti-
tution Ave., NW, Washington, DC. All
visitors must present photo identification
to enter the building. Because of access
restrictions, visitors will not be admitted
beyond the immediate entrance area more
than 15 minutes before the hearing starts.
For information about having your name
placed on the building access list to
attend the hearing, see the“FOR FUR-
THER INFORMATION CONTACT”
section of this preamble.
The rules of 26 CFR 601.601(a)(3)
apply to this hearing. Persons who wish
to present oral comments at the hearing
must submit electronic or written com-
ments and an outline of the topics to be
discussed and the time to be devoted to
each topic (signed original and eight (8)
copies) by April 29, 2002. A period of 10
minutes will be allotted to each person for
making comments. An agenda showing
the scheduling of the speakers will be
prepared after the deadline for receiving
outlines has passed. Copies of the agenda
will be available free of charge at the
hearing.
Drafting Information
The principal author of these regula-
tions is Nina Chowdhry of the Office of
Associate Chief Counsel (International).
However, other personnel from the IRS
and Treasury Department participated in
their development.
*****
February 19, 20025292002–7 I.R.B.

Proposed Amendments to the
Regulations
According, 26 CFR part 1 is proposed
to be amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by adding entries in
numerical order to read in part as follows:
Authority: 26 U.S.C. 7805***
Section 1.874–1 also issued under 26
U.S.C. 874.***
Section 1.882–4 also issued under 26
U.S.C. 882(c).***
Par. 2. Section 1.874–1 is amended by:
1. Revising paragraph (b)(2).
2. Paragraphs (b)(3) and (b)(4) are
redesignated as paragraphs (b)(5) and
(b)(6), respectively.
3. New paragraphs (b)(3) and (b)(4)
are added.
The revision and additions read as fol-
lows:
§1.874–1 Allowance of deductions and
credits to nonresident alien individuals.
*****
(b)(2) through (4) [The text of pro-
posed paragraphs (b)(2), (3), and (4) is
the same as the text of§1.874–1T(b)(2),
(3), and (4) published elsewhere in this
issue of theFederal Register].
*****
Par. 3. Section 1.882–4 is amended by:
1. Revising paragraph (a)(3)(ii).
2. Paragraphs (a)(3)(iii) through
(a)(3)(v) are redesignated as paragraphs
(a)(3)(v) through (a)(3)(vii), respectively.
3. New paragraphs (a)(3)(iii) and (iv)
are added.
The revision and additions read as fol-
lows:
§1.882–4 Allowance of deductions and
credits to foreign corporations.
*****
(a)(3)(ii) through (iv) [The text of pro-
posed paragraphs (a)(3)(ii) through (iv) is
the same as the text of§1.882–
4T(a)(3)(ii) through (iv) published else-
where in this issue of theFederal Regis-
ter].
*****
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
(Filed by the Office of the Federal Register on Janu-
ary 28, 2002, 8:45 a.m., and published in the issue
of the Federal Register for January 29, 2002, 67 F.R.
4217)
Notice of Proposed
Rulemaking
Treatment of Community
Income for Certain Individuals
Not Filing Joint Returns
REG–115054–01
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemak-
ing.
SUMMARY: This document contains
proposed regulations relating to the treat-
ment of community income under section
66 for certain married individuals in com-
munity property states who do not file
joint individual Federal income tax
returns. The regulations also reflect
changes in the law made by the Internal
Revenue Service Restructuring and
Reform Act of 1998.
DATES: Written or electronically gener-
ated comments and requests for a public
hearing must be received by April 22,
2002.
ADDRESSES: Send submissions to:
CC:ITA:RU (REG–115054–01), room
5226, Internal Revenue Service, POB
7604, Ben Franklin Station, Washington,
DC 20044. Submissions may be hand
delivered Monday through Friday
between the hours of 8 a.m. and 5 p.m.
to: CC:ITA:RU (REG–115054–01), room
5226, Courier’s Desk, Internal Revenue
Service,1111Constitution Avenue, NW,
Washington, DC. Alternatively, taxpayers
may submit comments electronically via
the Internet by selecting the“Tax Regs”
option on the IRS Home Page, or by sub-
mitting comments directly to the IRS
Internet site athttp://www.irs.ustreas.gov/
tax_regs/regslist.html.
FOR FURTHER INFORMATION CON-
TACT: Concerning the proposed regula-
tions, Robin M. Tuczak, 202–622–4940;
concerning submissions of comments and
requests for a public hearing, Guy
Traynor, 202–622–7190 (not toll-free
numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information con-
tained in this notice of proposed rulemak-
ing has been submitted to the Office of
Management and Budget for review in
accordance with the Paperwork Reduc-
tion Act of 1995 (44 U.S.C. 3507). Com-
ments on the collection of information
should be sent to theOffice of Manage-
ment and Budget, Attn: Desk Officer for
the Department of the Treasury, Office of
Information and Regulatory Affairs,
Washington, DC 20503, with copies to
theInternal Revenue Service, Attn: IRS
ReportsClearanceOfficer,W:CAR:
MP:FP:S, Washington, DC 20224. Com-
ments on the collection of information
should be received by March 25, 2002.
Comments are specifically requested con-
cerning:
Whether the proposed collection of
information is necessary for the proper
performance of the functions of the IRS,
including whether the information will
have practical utility;
The accuracy of the estimated burden
associated with the proposed collection of
information (see below);
How the quality, utility, and clarity of
the information to be collected may be
enhanced;
How the burden of complying with the
proposed collection of information may
be minimized, including through the
application of automated collection tech-
niques or other forms of information tech-
nology; and
Estimates of capital or start-up costs
and costs of operation, maintenance, and
purchase of services to provide informa-
tion.
The collection of information in this
proposed regulation is in§1.66–4. An
individual who wishes to be relieved of
the operation of community property law
under§1.66–4 must request relief from
joint and several liability by timely filing
2002–7 I.R.B.530February 19, 2002

Form 8857,“Request for Innocent Spouse
Relief”(or other specified form), or a
written statement, signed under penalties
of perjury, indicating why he or she
should be relieved of the operation of
community property law. This collection
of information is required for an indi-
vidual to request relief from the operation
of community property law. This infor-
mation will be used to carry out the inter-
nal revenue laws. The likely respondents
are individuals.
The burden contained in§1.66–4is
reflected in the burden of Form 8857.
An agency may not conduct or spon-
sor, and a person is not required to
respond to, a collection of information
unless it displays a valid control number
assigned by the Office of Management
and Budget.
Books or 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
required by 26 U.S.C. 6103.
Background
For married taxpayers living in com-
munity property states, income that is
community property under the laws of the
state or jurisdiction in which the spouses
reside is generally taxed in equal shares
to the husband and the wife. Thus, if a
husband and wife do not elect to file a
joint individual Federal income tax return
(joint return) under section 6013, each
spouse is generally required to report one-
half of the community income on his or
her married filing separate individual
Federal income tax return (separate
return). Section 66 contains four excep-
tions to the general rule that community
income is taxed in equal shares to the
husband and the wife.
Section 66(a) provides rules for the
treatment of community income when the
spouses live apart and do not share
income for the entire taxable year. Sec-
tion 66(b) authorizes the Secretary to dis-
regard community property laws where
one spouse is not notified of the nature
and amount of items of community
income. Section 66(c) directs the Secre-
tary to prescribe regulations regarding
relief from the operation of community
property law in certain other cases. This
provision is analogous to the relief provi-
sion in section 6015(b) relating to joint
filers. Section 66(c) also authorizes the
Secretary to grant equitable relief from
the operation of community property laws
where the other requirements of section
66(c) are not met. This provision is analo-
gous to the equitable relief provision in
section 6015(f) relating to joint filers.
The four exceptions in section 66
apply to community income that spouses
receive while they are married. Thus,
community income that is received dur-
ing any taxable year in which the spouses
are married at any time during that tax-
able year, including the taxable year dur-
ing which the spouses divorce, may be
subject, in whole or in part, to the provi-
sions of section 66. If spouses file a joint
return for a taxable year, section 66 does
not apply to their community income for
that taxable year. If a spouse files a joint
return with a new spouse in the same year
that the spouse divorces his or her former
spouse, section 66 may be applicable to
any community income of the spouse and
former spouse earned prior to their
divorce. For rules regarding relief from
joint and several liability when a joint
return is filed, see section 6015 and the
regulations thereunder.
This document contains proposed
amendments to the Income Tax Regula-
tions (26 CFR part 1) that are necessary
to carry out the provisions of section 66.
Explanation of Provisions
Treatment of Community Income Under
Section 66(a) Where Spouses Live Apart
Section 879(a) provides that under cer-
tain circumstances, community income is
taxed to the spouse who earned the
income rather than according to commu-
nity property laws. Under section 66(a), a
spouse may report community income in
accordance with the rules provided by
section 879(a) if the following require-
ments are satisfied: (1) the spouses must
have been married to each other at some
time during the calendar year; (2) the
spouses must have lived apart at all times
during the calendar year; (3) the spouses
must not have filed a joint return under
section 6013 for a taxable year beginning
or ending in the calendar year; (4) at least
one of the spouses must have earned
income during the taxable year that is
community income; and (5) the spouses
must not have transferred any of the
income (directly or indirectly) to each
other before the close of the calendar
year. The proposed regulations provide
thatde minimisamounts are not consid-
ered transfers for purposes of section
66(a). In addition, the proposed regula-
tions provide that amounts that are trans-
ferred or paid to, or on behalf of, the cou-
ple’s child are not considered indirect
transfers to one spouse merely because
such transfers satisfy a support obligation
of that spouse. See H.R. Rep. No.
96–1278, 96th Cong., 2d Sess. 7 (1980).
Denial of Benefits of Community
Property Law Under Section 66(b)
Where Spouse Not Notified of
Community Income
Section 66(b) provides the Secretary
with the authority to deny the benefits of
community property law to a spouse who
does not notify the other spouse of the
nature and amount of an item of commu-
nity income and who acts as if solely
entitled to such income. The proposed
regulations provide that in such a case,
the item of community income will be
included in the gross income of the
spouse for whom the benefits of commu-
nity property law were denied.
Request for Relief From the Operation of
Community Property Law Under Section
66(c)
Section 66(c) directs the Secretary to
prescribe regulations regarding relief
from the operation of community prop-
erty law (specific relief) if: (1) the
requesting spouse files a separate return
for a taxable year; (2) the requesting
spouse does not include in gross income
for the taxable year an item of community
income properly includible therein,
which, in accordance with the rules con-
tained in section 879(a), would be treated
as the income of the nonrequesting
spouse; (3) the requesting spouse estab-
lishes that he or she did not know, and
had no reason to know, of the item of
community income; and (4) taking into
account all of the facts and circum-
stances, it is inequitable to include the
item of community income in the gross
income of the requesting spouse.
February 19, 20025312002–7 I.R.B.

The proposed regulations provide that
if a requesting spouse is relieved of the
operation of community property law
under section 66(c) for an item of com-
munity income, the item will be included
in the gross income of the nonrequesting
spouse, and not in the gross income of the
requesting spouse. In addition, the pro-
posed regulations provide that when a
requesting spouse is granted relief from
the operation of community property law
under section 66(c), community income
will be treated in accordance with the
rules provided by section 879(a). The
proposed regulations also provide that
relief under section 66(c) is not available
if one spouse transferred assets to the
other spouse as part of a fraudulent
scheme, or if the requesting spouse
signed a closing agreement or offer in
compromise for the taxable year for
which relief from the operation of com-
munity property law is sought.
Request for Equitable Relief Under
Section 66(c)
Section 66(c) also authorizes the Sec-
retary to grant equitable relief from the
operation of community property law to
requesting spouses who do not otherwise
meet the qualifications for relief set forth
in section 66(c). This provision, which
was added by section 3201(b) of the
Internal Revenue Service Restructuring
and Reform Act of 1998, is only available
for liabilities that were unpaid as of July
22, 1998, or that arise after July 22, 1998.
Section 66(c) directs the Secretary to
prescribe procedures regarding when
equitable relief may be granted. Such pro-
cedures are detailed in Revenue Proce-
dure 2000–15 (2000–1 C.B. 447). The
proposed regulations provide general
information on the equitable relief provi-
sion in section 66(c) and refer individuals
seeking more detailed guidance to the rel-
evant revenue rulings, revenue proce-
dures, or other published guidance issued
on this topic.
Time and Manner of Requesting Relief
Under the proposed regulations, a
spouse seeking specific relief from the
operation of community property law
under section 66(c) generally may only
seek relief after a deficiency for such year
has been asserted. A deficiency is consid-
ered“asserted”on the date that the
requesting spouse either receives a notifi-
cation of an audit or a letter or notice
from the Secretary indicating that there
may be an outstanding liability with
regard to that year.
The requesting spouse must notify the
Secretary of the spouse’s request for treat-
ment under section 66(c) in a timely man-
ner so that the Secretary can assess the
tax on the community income against the
nonrequesting spouse before the statute of
limitations on making such an assessment
under section 6501 expires. Thus, the pro-
posed regulations provide that a request-
ing spouse seeking relief from the opera-
tion of community property law under
section 66(c) must request such relief no
later than 6 months before the statute of
limitations on assessment of section 6501
expires with regard to the nonrequesting
spouse. The proposed regulations further
provide that if the examination of the
requesting spouse’s return commences
during that 6 month period, the latest time
for requesting relief under this section is
30 days after the commencement of the
examination.
A spouse seeking equitable relief from
the operation of community property law
under section 66(c) for a liability that was
properly reported but not paid may seek
relief on or after the date the return for
such year is filed.
In order to request either specific or
equitable relief from the operation of
community property law under section
66(c), the requesting spouse must file
Form 8857,“Request for Innocent Spouse
Relief”(or other specified form), or a
written statement, signed under penalties
of perjury, with the Secretary indicating
why such treatment or relief is appropri-
ate. The statement must also include the
name of the nonrequesting spouse and the
taxpayer identification number of the
nonrequesting spouse, as well as any
other information reasonably requested
by the Secretary that will help the Secre-
tary identify and locate the nonrequesting
spouse.
Interests of the Nonrequesting Spouse
The legislative history of section 6015
indicates that the Secretary must consider
the nonrequesting spouse’s views when
making a determination of relief from
joint liability under that section. See H.R.
Conf. Rep. No. 599, 105th Cong., 2d
Sess. 251, 255 (1998). Because the liabil-
ity of the requesting spouse under section
66 will shift from the requesting spouse
to the nonrequesting spouse, notification
and participation requirements similar to
those in section 6015 are appropriate for
section 66 cases. In addition, information
provided by a nonrequesting spouse may
help to determine the appropriate amount
of relief, if any.
The proposed regulations provide that
the Secretary must notify the nonrequest-
ing spouse of the requesting spouse’s
claim for relief and provide the nonre-
questing spouse with an opportunity to
participate in the administrative determi-
nation of whether relief is appropriate.
The nonrequesting spouse may submit
relevant information to the IRS employee
making the determination.
In fashioning rules regarding the noti-
fication and participation of the nonre-
questing spouse, the IRS and Treasury
Department attempted to balance the
rights and interests of both the requesting
spouse and the nonrequesting spouse. The
IRS and Treasury Department recognize
that some spouses may be reluctant to
apply for relief from the operation of
community property law, or submit infor-
mation regarding the other spouse’s
request for relief, due to privacy concerns
or for fear of reprisal by the other spouse.
To address this concern, the Internal Rev-
enue Manual provides that the Service
will omit from shared documents any
information that could reasonably identify
a spouse’s location.
Special Analyses
It has been determined that these regu-
lations are not a significant regulatory
action as defined in Executive Order
12866. Therefore, a regulatory assess-
ment 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 the regula-
tions, and because the regulations do not
impose a collection of information on
small entities, the Regulatory Flexibility
Act (5 U.S.C. chapter 6) does not apply.
Pursuant to section 7805(f), this notice of
proposed rulemaking will be submitted to
the Chief Counsel for Advocacy of the
Small Business Administration for com-
ment on its impact on small businesses.
2002–7 I.R.B.532February 19, 2002

Comments and Requests for Public
Hearing
Before these proposed regulations are
adopted as final regulations, consideration
will be given to any written (a signed
original and 8 copies) or electronic com-
ments that are submitted timely to the
IRS. The IRS and Treasury Department
request comments on the clarity of the
proposed regulations, and on how the
proposed regulations can be made easier
to understand. Although public comment
is sought on all of the issues in the pro-
posed regulations, the IRS and Treasury
Department are particularly interested in
receiving comments on the timing limita-
tions that would be imposed on a request
for relief under§1.66–4(g)(2). All com-
ments will be available for public inspec-
tion and copying. A public hearing may
be scheduled if requested in writing by
any person that timely submits written
comments. If a public hearing is sched-
uled, notice of the date, time, and place
for the public hearing will be published in
theFederal Register.
Drafting Information
The principal authors of the regula-
tions are Robin M. Tuczak and Bridget E.
Finkenaur of the Office of Associate
Chief Counsel (Procedure and Adminis-
tration), Administrative Provisions and
Judicial Practice Division.
*****
Proposed Amendments to the
Regulations
Accordingly, 26 CFR part 1 is pro-
posed to be amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by adding the follow-
ing entries in numerical order to read in
part as follows:
Authority: 26 U.S.C. 7805***
Section 1.66–4 also issued under 26
U.S.C. 66(c).***
Par. 2. Sections 1.66–1 through 1.66–5
are added to read as follows:
§1.66–1 Treatment of community
income.
(a)In general. Married individuals in
community property states who do not
elect to file a joint individual Federal
income tax return under section 6013
generally are required to report one-half
of the total community income earned by
the spouses during the taxable year unless
one of the following exceptions applies:
(1) When the spouses live apart and
meet the qualifications of§1.66–2.
(2) When a requesting spouse qualifies
for relief from the operation of commu-
nity property law under§1.66–3, because
the nonrequesting spouse failed to notify
the requesting spouse of the nature and
amount of the income prior to the due
date for filing the return.
(3) When a requesting spouse qualifies
for relief from the operation of commu-
nity property law under§1.66–4(a).
(4) When a requesting spouse qualifies
for equitable relief from the operation of
community property law under§1.66–
4(b).
(b)Marital status. The rules of this
section apply to the community income
earned during a marriage for any taxable
year beginning or ending during a calen-
dar year in which the spouses are mar-
ried, including the calendar year in which
the spouses divorce. Section 66 does not
apply to income earned after the spouses
divorce.
(c)Transferee liability. The provisions
of section 66 do not negate liability that
arises under the operation of other laws.
Therefore, a spouse who is not subject to
income tax on community income under
§1.66–2 or 1.66–4 may nevertheless
remain liable for the unpaid tax (includ-
ing additions to tax, penalties, and inter-
est) to the extent provided by Federal or
state transferee liability or property laws
(other than community property laws).
For the rules regarding the liability of
transferees, see sections 6901 through
6904 and the regulations thereunder.
§1.66–2 Treatment of community
income where spouses live apart.
(a) Income of spouses residing in a
community property state will be treated
in accordance with the rules provided by
section 879(a) if all of the following
requirements are satisfied—
(1) The spouses are married at any
time during the calendar year;
(2) The spouses live apart at all times
during the calendar year;
(3) The spouses each file a separate
Federal income tax return for a taxable
year beginning or ending in the calendar
year on which the taxpayer reports his or
her income in accordance with section
66(a);
(4) One or both spouses have earned
income for the calendar year which is
community income and which was earned
during the spouses’marriage; and
(5) No portion of such earned income
is transferred (directly or indirectly)
between such spouses before the close of
the taxable year.
(b)Transferred income. For purposes
of this section, transferred income does
not include ade minimisamount of
earned income that is transferred between
the spouses. In addition, any amount of
earned income transferred or paid to, or
for the benefit of, the spouses’child will
not be treated as an indirect transfer to
one spouse solely because the payment or
transfer satisfies an obligation of support
imposed on that spouse.
§1.66–3 Denial of benefits of
community property law where spouse
not notified.
The Secretary may deny the benefits
of community property law to any spouse
with respect to any item of community
income if that spouse acted as if he or she
was solely entitled to the item of income
and failed to notify the other spouse of
the nature and amount of the income
before the due date (including extensions)
for filing the return for the taxable year in
which the income was derived. Such item
of community income will be included, in
its entirety, in the gross income of the
spouse for whom the benefits of commu-
nity property law were denied. The tax
liability arising from such item of com-
munity income must be assessed in accor-
dance with section 6212 against the
spouse for whom the benefits of commu-
nity property law were denied.
February 19, 20025332002–7 I.R.B.

§1.66–4 Request for relief from the
operation of community property law.
(a)Specific relief—(1)In general.A
requesting spouse will be relieved of the
operation of community property law for
an item of community income if—
(i) The requesting spouse filed a sepa-
rate return for the taxable year for which
relief is sought;
(ii) The requesting spouse did not
include in gross income for the taxable
year an item of community income prop-
erly includible therein, which, in accor-
dance with the rules contained in section
879(a), would be treated as the income of
the nonrequesting spouse;
(iii) The requesting spouse establishes
that he or she did not know of, and had
no reason to know of, such item of com-
munity income; and
(iv) Taking into account all of the facts
and circumstances, it is inequitable to
include such item of community income
in the requesting spouse’s individual
gross income.
(2)Knowledge or reason to know.A
requesting spouse has knowledge or rea-
son to know of an understatement if he or
she either actually knew of the under-
statement, or if a reasonable person in
similar circumstances would have known
of the understatement. All of the facts and
circumstances are considered in determin-
ing whether a requesting spouse had rea-
son to know of an understatement. The
facts and circumstances that are consid-
ered include, but are not limited to, the
nature of the erroneous item and the
amount of the erroneous item relative to
other items; the couple’s financial situa-
tion; the requesting spouse’s educational
background and business experience; the
extent of the requesting spouse’s partici-
pation in the activity that resulted in the
erroneous item; whether the requesting
spouse failed to inquire, at or before the
time the return was signed, about items
on the return or omitted from the return
that a reasonable person would question;
and whether the erroneous item repre-
sented a departure from a recurring pat-
tern reflected in prior years’returns (e.g.,
omitted income from an investment regu-
larly reported on prior years’returns).
(3)Inequitable. All of the facts and
circumstances are also considered in
determining whether it is inequitable to
hold a requesting spouse jointly and sev-
erally liable for an understatement. One
relevant factor for this purpose is whether
the requesting spouse significantly ben-
efitted, directly or indirectly, from the
omitted income. A significant benefit is
any benefit in excess of normal support.
Evidence of direct or indirect benefit may
consist of transfers of property or rights
to property, including transfers that may
be received several years after the year of
the understatement. Thus, for example, if
a requesting spouse receives property
(including life insurance proceeds) from
the nonrequesting spouse that is beyond
normal support and traceable to items
omitted from gross income that are attrib-
utable to the nonrequesting spouse, the
requesting spouse will be considered to
have received significant benefit from
those items. Other factors that may also
be taken into account, if the situation war-
rants, include the fact that the requesting
spouse has been deserted by the nonre-
questing spouse, the fact that the spouses
have been divorced or separated, or that
the requesting spouse received benefit on
the return from the understatement. For
more information on factors relevant to
determining whether it is inequitable to
hold a requesting spouse liable, see Rev-
enue Procedure 2000–15 (2000–1 C.B.
447), or other guidance subsequently pub-
lished by the Secretary. Relief under this
paragraph (a) only applies to deficiencies
arising out of items of omitted income.
(b)Equitable relief. Equitable relief
may be available when the four require-
ments of paragraph (a) of this section are
not satisfied but it would be inequitable to
include the item of community income in
the requesting spouse’s gross income. For
the criteria to be used in making a deter-
mination under this paragraph, see Rev-
enue Procedure 2000–15 (2000–1 C.B.
447), and other guidance subsequently
published by the Secretary. Relief under
this paragraph (b) applies only to defi-
ciencies arising out of items of omitted
income or any unpaid tax arising from
community income attributable to the
nonrequesting spouse and is only avail-
able for liabilities that were unpaid as of
July 22, 1998, and for liabilities that arise
after July 22, 1998.
(c)Effect of relief. (1) When the
requesting spouse qualifies for relief
under paragraph (a) or (b) of this section,
the item of community income will be
included in the nonrequesting spouse’s
individual gross income and will not be
included in the requesting spouse’s indi-
vidual gross income. The tax liability
arising from such item of community
income must be assessed against the non-
requesting spouse in accordance with sec-
tion 6212.
(2) If a requesting spouse is granted
relief from the operation of community
property law with respect to an item of
community income under paragraph (a)
or (b) of this section, any community
income of the spouses will be treated in
accordance with the rules provided by
section 879(a). Thus, if a requesting
spouse is granted relief under paragraph
(a) or (b) of this section, any item of com-
munity income that is attributable to the
requesting spouse will be included, in its
entirety, in the requesting spouse’s gross
income for such taxable year, and will not
be included in the nonrequesting spouse’s
gross income for such taxable year. If
additional tax were to result upon grant-
ing relief under this section, the request-
ing spouse may withdraw his or her
request for relief.
(3)Example. The following example
illustrates the rule of this paragraph (c):
Example. H and W are married and live in State
Z (a community property state). Both H and W file
returns for taxable year 2002 as“married filing
separately”on April 15, 2003. H earns $56,000 in
wages, and W earns $46,000 in wages in 2002. H
reports half of his wage income as shown on his
Form W-2, in the amount of $28,000, and half of
W’s wage income as shown on her Form W-2, in the
amount of $23,000. W reports half of her wage
income as shown on her W-2, in the amount of
$23,000, and half of H’s wage income as shown on
his Form W-2, in the amount of $28,000. Neither H
nor W reports W’s income from her sole proprietor-
ship of $34,000 or W’s investment income of $5,000
for taxable year 2002. The Internal Revenue Service
proposes deficiencies with respect to H’s and W’s
taxable year 2002 returns due to the omission of
W’s income from her sole proprietorship and invest-
ments. H timely files a claim for relief under section
66(c). Because the Internal Revenue Service deter-
mines that H satisfies the four requirements of sec-
tion 66(c) with respect to W’s omitted income, the
Internal Revenue Service grants H’s claim for relief.
Thus, the income of H and W will be treated in
accordance with the rules provided by section
879(a). H is liable for the tax on his earned income,
as shown on his Form W-2, in the amount of
$56,000. (See section 879(a)(1).) W is liable for the
tax on her earned income, as shown on her Form
W-2, in the amount of $46,000, and on the trade or
business income from her sole proprietorship, in the
amount of $34,000. (See section 879(a)(1) and (2).)
W’s investment income will be treated as provided
2002–7 I.R.B.534February 19, 2002

under the community property laws of State Z. (See
section 879(a)(3) and (4).)
(d)Fraudulent scheme. If the Secre-
tary establishes that a spouse transferred
assets to the other spouse as part of a
fraudulent scheme, relief is not available
under this section. For purposes of this
section, a fraudulent scheme includes a
scheme to defraud the Secretary or
another third party, including, but not lim-
ited to, creditors, ex-spouses, and busi-
ness partners.
(e)Definitions–(1)Requesting spouse.
A requesting spouse is an individual who
does not file a joint individual Federal
income tax return with the nonrequesting
spouse for the taxable year in question,
and who requests relief from the opera-
tion of community property law under
this section for the portion of the liability
arising from his or her share of commu-
nity income for such taxable year.
(2)Nonrequesting spouse. A nonre-
questing spouse is the individual to whom
the requesting spouse was married when
the community income which gave rise to
the claim for relief was earned.
(f)Effect of prior closing agreement or
offer in compromise. A requesting spouse
is not entitled to relief from the operation
of community property law under section
66 for any taxable year for which the
requesting spouse has entered into a clos-
ing agreement (other than an agreement
entered into pursuant to section 6224(c)
relating to partnership items) with the
Commissioner that disposes of the same
liability that is the subject of the claim for
relief. In addition, a requesting spouse is
not entitled to relief from the operation of
community property law under section 66
for any taxable year for which the
requesting spouse has entered into an
offer in compromise with the Commis-
sioner. For rules relating to the effect of
closing agreements and offers in compro-
mise, see sections 7121 and 7122, and the
regulations thereunder.
(g)Time and manner for requesting
relief–(1)Requesting relief. To request
relief from the operation of community
property law under this section, a request-
ing spouse must file, within the time
period prescribed in paragraph (g)(2) of
this section, Form 8857,“Request for
Innocent Spouse Relief”(or other speci-
fied form), or other written request,
signed under penalties of perjury, indicat-
ing why such relief is appropriate. The
requesting spouse must include the nonre-
questing spouse’s name and taxpayer
identification number in the written
request. The requesting spouse must also
comply with any of the Secretary’s rea-
sonable requests for information that will
assist the Secretary in identifying and
locating the nonrequesting spouse.
(2)Time period for filing a request for
relief—(i)Specific relief. The earliest
time for submitting a request for relief
from the operation of community prop-
erty law under paragraph (a) of this sec-
tion for an amount that was underreported
on, or omitted from, the requesting
spouse’s separate return, is the date that a
deficiency for the taxable year for which
relief is sought is asserted against the
requesting spouse. The latest time for
requesting relief under paragraph (a) of
this section is 6 months before the expira-
tion of the statute of limitations on assess-
ment, including extensions, against the
nonrequesting spouse for the taxable year
that is the subject of the claim for relief,
unless the examination of the requesting
spouse’s return commences during that
6-month period. If the examination of the
requesting spouse’s return commences
during that 6-month period, the latest
time for requesting relief under this sec-
tion is 30 days after the commencement
of the examination.
(ii)Equitable relief. The earliest time
for submitting a request for relief from
the operation of community property law
under paragraph (b) of this section for an
amount that was underreported on, or
omitted from, the requesting spouse’s
separate return, is the date that a defi-
ciency for the taxable year for which
relief is sought is asserted against the
requesting spouse. Requests for equitable
relief from the operation of community
property law under paragraph (b) of this
section for a liability that is properly
reported but unpaid may be submitted
with the requesting spouse’s individual
Federal income tax return, or after the
requesting spouse’s individual Federal
income tax return is filed.
(iii)Premature requests for relief. (A)
The Secretary will not consider premature
claims for relief under this section. In the
case of a claim for specific relief, a pre-
mature claim is a claim for relief from an
item of community income that is omitted
from the requesting spouse’s individual
Federal income tax return that is filed for
a taxable year prior to the date that a defi-
ciency for such year is asserted. A defi-
ciency is considered asserted as of the
date the requesting spouse receives a noti-
fication of an audit or a letter or notice
from the Secretary indicating that there
may be an outstanding liability with
regard to that year. Such notices or letters
do not include notices issued pursuant to
section 6223 relating to TEFRA partner-
ship proceedings.
(B) In the case of a claim for equitable
relief, a premature claim is a claim for
relief from an item of community income
that is received prior to the date that the
requesting spouse files an individual Fed-
eral income tax return for the taxable year
in question.
(h)Nonrequesting spouse’s notice and
opportunity to participate in administra-
tive proceedings—(1)In general. When
the Secretary receives a request for relief
from the operation of community prop-
erty law under this section, the Secretary
must send a notice to the nonrequesting
spouse’s last known address that informs
the nonrequesting spouse of the request-
ing spouse’s claim for relief. The notice
must provide the nonrequesting spouse
with an opportunity to submit any infor-
mation that should be considered in deter-
mining whether the requesting spouse
should be granted relief from the opera-
tion of community property law. The Sec-
retary will share with both spouses the
information submitted by the other
spouse, unless the Secretary determines
that the sharing of such information will
impair tax administration.
(2)Information submitted. The Secre-
tary will consider all of the information
(as relevant to the particular relief provi-
sion) that the nonrequesting spouse sub-
mits in determining whether relief from
the operation of community property law
under this section is appropriate.
§1.66–5 Effective date.
Sections 1.66–1 through 1.66–4are
applicable on the date final regulations
are published in theFederal Register.
Robert E. Wenzel,
Deputy Commissioner of
Internal Revenue.
February 19, 20025352002–7 I.R.B.

(Filed by the Office of the Federal Register on Janu-
ary 18, 2002, 8:45 a.m., and published in the issue
of the Federal Register for January 22, 2002, 67 F.R.
2841)
Guidance Regarding
Deduction and Capitalization
of Expenditures
Announcement 2002–9
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Advance notice of proposed
rulemaking.
SUMMARY: This document describes
and explains rules and standards that the
IRS and Treasury Department expect to
propose in 2002 in a notice of proposed
rulemaking that will clarify the applica-
tion of section 263(a) of the Internal Rev-
enue Code to expenditures incurred in
acquiring, creating, or enhancing certain
intangible assets or benefits. This docu-
ment also invites comments from the pub-
lic regarding these standards. All materi-
als submitted will be available for public
inspection and copying.
DATES: Written and electronic comments
must be submitted by March 25, 2002.
ADDRESSES: Send submissions to:
CC:ITA:RU (REG–125638–01), room
5226, Internal Revenue Service, POB
7604, Ben Franklin Station, Washington,
DC 20044. Submissions may be hand
delivered Monday through Friday
between the hours of 8 a.m. and 5 p.m.
to: CC:ITA:RU (REG–125638–01), Cou-
rier’s Desk, Internal Revenue Service,
1111Constitution Avenue N.W., Wash-
ington, DC. Alternatively, taxpayers may
send submissions electronically via the
Internet by selecting the“Tax Regs”
option on the IRS Home Page, or directly
to the IRS Internet site athttp://
www.irs.ustreas.gov/tax_regs/
regslist.html.
FOR FURTHER INFORMATION CON-
TACT: Concerning submissions, Guy
Traynor (202) 622–7180; concerning the
proposals, Andrew J. Keyso (202) 927–
9397 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
The IRS and Treasury Department are
reviewing the application of section
263(a) of the Internal Revenue Code to
expenditures that result in taxpayers
acquiring, creating, or enhancing intan-
gible assets or benefits. This document
describes and explains rules and stan-
dards that the IRS and Treasury Depart-
ment expect to propose in 2002 in a
notice of proposed rulemaking.
A fundamental purpose of section
263(a) is to prevent the distortion of tax-
able income through current deduction of
expenditures relating to the production of
income in future taxable years. SeeCom-
missioner v. Idaho Power Co., 418 U.S.
1, 16 (1974). Thus, the Supreme Court
has held that expenditures that create or
enhance separate and distinct assets or
produce certain other future benefits of a
significant nature must be capitalized
under section 263(a). SeeINDOPCO, Inc.
v. Commissioner, 503 U.S. 79 (1992);
Commissioner v. Lincoln Savings & Loan
Ass’n, 403 U.S. 345 (1971).
The difficulty of translating general
capitalization principles into clear, consis-
tent, and administrable standards has been
recognized for decades. SeeWelch v. Hel-
vering, 290 U.S. 111, 114–15 (1933).
Because courts focus on particular facts
before them, the results reached by the
courts are often difficult to reconcile and,
particularly in recent years, have contrib-
uted to substantial uncertainty and contro-
versy. The IRS and Treasury Department
are concerned that the current level of
uncertainty and controversy is neither fair
to taxpayers nor consistent with sound
and efficient tax administration.
Recently, much of the uncertainty and
controversy in the capitalization area has
related to expenditures that create or
enhance intangible assets or benefits. To
clarify the application of section 263(a),
the forthcoming notice of proposed rule-
making will describe the specific catego-
ries of expenditures incurred in acquiring,
creating, or enhancing intangible assets or
benefits that taxpayers are required to
capitalize. In addition, the forthcoming
notice of proposed rulemaking will recog-
nize that many expenditures that create or
enhance intangible assets or benefits do
not create the type of future benefits for
which capitalization under section 263(a)
is appropriate, particularly when the
administrative and recordkeeping costs
associated with capitalization are weighed
against the potential distortion of income.
To reduce the administrative and com-
pliance costs associated with section
263(a), the forthcoming notice of pro-
posed rulemaking is expected to provide
safe harbors and simplifying assumptions
including a“one-year rule,”under which
expenditures relating to intangible assets
or benefits whose lives are of a relatively
short duration are not required to be capi-
talized, and“de minimisrules,”under
which certain types of expenditures less
than a specified dollar amount are not
required to be capitalized. The IRS and
Treasury Department are also considering
additional administrative relief, for
example, by providing a“regular and
recurring rule,”under which transaction
costs incurred in transactions that occur
on a regular and recurring basis in the
routine operation of a taxpayer’s trade or
business are not required to be capital-
ized.
The proposed standards and rules
described in this document will not alter
the manner in which provisions of the law
other than section 263(a) (e.g., sections
195, 263(g), 263(h), or 263A) apply to
determine the correct tax treatment of an
item. Moreover, these standards and rules
will not address the treatment of costs
other than those to acquire, create, or
enhance intangible assets or benefits,
such as costs to repair or improve tan-
gible property. The IRS and Treasury
Department are considering separate
guidance to address these other costs.
The following discussion describes the
specific expenditures to acquire, create,
or enhance intangible assets or benefits
for which the IRS and Treasury Depart-
ment expect to require capitalization in
the forthcoming notice of proposed rule-
making. The IRS and Treasury Depart-
ment anticipate that other expenditures to
acquire, create, or enhance intangible
assets or benefits generally will not be
subject to capitalization under section
263(a).
A.Amounts Paid to Acquire Intangible
Property
1.Amounts paid to acquire financial
interests.
Under the expected regulations, capi-
talization will be required for an amount
2002–7 I.R.B.536February 19, 2002

paid to purchase, originate, or otherwise
acquire a security, option, any other
financial interest described in section
197(e)(1), or any evidence of indebted-
ness. For a discussion of related transac-
tion costs, see section C of this document.
For example, a financial institution
that acquires portfolios of loans from
another person or originates loans to bor-
rowers would be required to capitalize the
amounts paid for the portfolios or the
amounts loaned to borrowers.
2. Amounts paid to acquire intangible
property from another person.
Under the expected regulations, capi-
talization will be required for an amount
paid to another person to purchase or oth-
erwise acquire intangible property from
that person. For a discussion of related
transaction costs see section C of this
document.
For example, an amount paid to
another person to acquire an amortizable
section 197 intangible from that person
would be capitalized. Thus, a taxpayer
that acquires a customer base from
another person would be required to capi-
talize the amount paid to that person in
exchange for the customer base. On the
other hand, a taxpayer that incurs costs to
create its own customer base through
advertising or other expenditures that cre-
ate customer goodwill would not be
required to capitalize such costs under
this rule.
B.Amounts Paid to Create or Enhance
Certain Intangible Rights or Benefits
1.12-month rule.
The IRS and Treasury Department
expect to propose a 12-month rule appli-
cable to expenditures paid to create or
enhance certain intangible rights or ben-
efits. Under the rule, capitalization under
section 263(a) would not be required for
an expenditure described in the following
paragraphs 2 through 8 unless that expen-
diture created or enhanced intangible
rights or benefits for the taxpayer that
extend beyond the earlier of (i) 12 months
after the first date on which the taxpayer
realizes the rights or benefits attributable
to the expenditure, or (ii) the end of the
taxable year following the taxable year in
which the expenditure is incurred.
The IRS and Treasury Department
request comments on how the 12-month
rule might apply to expenditures paid to
create or enhance rights of indefinite
duration and contracts subject to termina-
tion provisions. For example, comments
are requested on whether costs to create
contract rights that are terminable at will
without substantial penalties would not be
subject to capitalization as a result of the
12-month rule.
2.Prepaid items.
Subject to the 12-month rule, the IRS
and Treasury Department expect to pro-
pose a rule that requires capitalization of
an amount prepaid for goods, services, or
other benefits (such as insurance) to be
received in the future.
For example, a taxpayer that prepays
the premium for a 3-year insurance policy
would be required to capitalize such
amount under the rule.
Similarly, a calendar year taxpayer that
pays its insurance premium on December
1, 2002, for a 12-month policy beginning
the following February would be required
to capitalize the amount of the expendi-
ture. The 12-month rule would not apply
because the benefit attributable to the
expenditure would extend beyond the end
of the taxable year following the taxable
year in which the expenditure was
incurred. On the other hand, if the insur-
ance contract had a term beginning on
December 15, 2002, the taxpayer could
deduct the premium expenditure under
the 12-month rule because the benefit nei-
ther extends more than 12 months beyond
December 15, 2002 (the first date the
benefit is realized by the taxpayer) nor
beyond the taxable year following the
year the expenditure was incurred.
3.Certain market entry payments.
Subject to the 12-month rule, the IRS
and Treasury Department expect to pro-
pose a rule that requires capitalization of
an amount paid to an organization to
obtain or renew a membership or privi-
lege from that organization.
For example, subject to the 12-month
rule, the rule would require capitalization
of costs to obtain a stock trading privi-
lege, admission to practice medicine at a
hospital, and access to the multiple listing
service. The rule does not contemplate
requiring capitalization for costs to obtain
ISO 9000 certification or similar costs.
4.Amounts paid to obtain certain rights
from a governmental agency.
Subject to the 12-month rule, the IRS
and Treasury Department expect to pro-
pose a rule that requires capitalization of
an amount paid to a governmental agency
for a trade name, trademark, copyright,
license, permit, or other right granted by
that governmental agency.
For example, under the rule, a restau-
rant would be required to capitalize the
amount paid to a state to obtain a license
to serve alcoholic beverages that is valid
indefinitely.
5.Amounts paid to obtain or modify
contract rights.
Subject to the 12-month rule, the IRS
and Treasury Department expect to pro-
pose a rule that requires capitalization of
amounts in excess of a specified dollar
amount (e.g., $5,000) paid to another per-
son to induce that person to enter into,
renew, or renegotiate an agreement that
produces contract rights enforceable by
the taxpayer, including payments for
leases, covenants not to compete, licenses
to use intangible property, customer con-
tracts and supplier contracts. The IRS and
Treasury Department request comments
on whether there are standards other than
the standard described above that would
be more appropriate for determining
whether expenditures related to the cre-
ation or enhancement of contractual
rights should be capitalized.
Subject to the 12-month rule, this rule
would require a lessee to capitalize an
amount paid to a lessor in exchange for
the lessor’s agreement to enter into a
lease. This rule also would require a les-
see to capitalize an amount paid to a les-
sor in exchange for the lessor’s agreement
to terminate a lease and enter into a new
lease.See,e.g.,U.S. Bancorp v. Commis-
sioner, 111 T.C. 231 (1998). However,
this rule would not require a lessee to
capitalize an amount paid to a lessor to
terminate a lease where the parties do not
enter into a new or renegotiated agree-
ment. This rule also would not require a
taxpayer to capitalize a payment that does
not create enforceable contract rights but,
February 19, 20025372002–7 I.R.B.

for example, merely creates an expecta-
tion that a customer or supplier will main-
tain its business relationship with the tax-
payer.See,e.g.,Van Iderstine Co. v.
Commissioner, 261 F.2d 211 (2nd Cir.
1958).
6.Amounts paid to terminate certain
contracts.
Subject to the 12-month rule, the IRS
and Treasury Department expect to pro-
pose a rule that requires capitalization of
an amount paid by a lessor to a lessee to
induce the lessee to terminate a lease of
real or tangible personal property or by a
taxpayer to terminate a contract that
grants another person the exclusive right
to conduct business in a defined geo-
graphic area.
For example, under the rule, a lessor
that pays a lessee to terminate a lease of
real property with a remaining term of 24
months would be required to capitalize
such payment.See,e.g.,Peerless Weigh-
ing and Vending Machine Corp. v. Com-
missioner, 52 T.C. 850 (1969). On the
other hand, if the lease had a remaining
term of 6 months, the 12-month rule
would apply, and the taxpayer would not
be required to capitalize the termination
payment under the rule.
As a further example, where a tax-
payer grants another person the exclusive
right to develop the taxpayer’s motel
chain in four states, and the taxpayer later
pays that other person to terminate such
right at a time when the remaining useful
life of the right is 5 years, the taxpayer
would be required to capitalize the termi-
nation payment under the rule.See Rode-
way Inns of America v. Commissioner,63
T.C. 414 (1974).
7.Amounts paid in connection with
tangible property owned by another.
Subject to the 12-month rule, the IRS
and Treasury Department expect to pro-
pose a rule that requires capitalization of
amounts in excess of a specified dollar
amount paid to facilitate the acquisition,
production, or installation of tangible
property that is owned by a person other
than the taxpayer where the acquisition,
production, or installation of the tangible
property results in the type of intangible
future benefit to the taxpayer for which
capitalization is appropriate. This rule
would apply even though there is no con-
tractual relationship between the taxpayer
and the other person. This rule is intended
to require capitalization of expenditures
that produce intangible future benefits
similar to those that were in issue in
Kauai Terminal Ltd. v. Commissioner,36
B.T.A. 893 (1937) (expenditure incurred
to construct a publicly owned breakwater
for the purpose of increasing taxpayer’s
freight lighterage operation). The IRS and
Treasury Department request comments
on standards that can be established to
ensure that the expenditures described in
this rule result in the type of future ben-
efits that are similar to those inKauai
Terminaland therefore should be capital-
ized. The IRS and Treasury Department
also request comments on whether safe
harbors or dollar thresholds should be
used to determine whether capitalization
of such expenditures is appropriate under
section 263(a).
8.Defense or perfection of title to
intangible property.
Subject to the 12-month rule, the IRS
and Treasury Department expect to pro-
pose a rule that requires capitalization of
amounts paid to defend or perfect title to
intangible property.
For example, under the rule, if a tax-
payer and another person both claim title
to a particular trademark, the taxpayer
must capitalize any amount paid to the
other person for relinquishment of such
claim.See,e.g.,J.J. Case Company v.
United States, 32 F.Supp. 754 (Ct. Cl.
1940).
C.Transaction Costs
The IRS and Treasury Department
expect to propose a rule that requires a
taxpayer to capitalize certain transaction
costs that facilitate the taxpayer’s acquisi-
tion, creation, or enhancement of intan-
gible assets or benefits described above
(regardless of whether a payment
described in sections A or B of this docu-
ment is made). In addition, this rule
would require a taxpayer to capitalize
transaction costs that facilitate the taxpay-
er’s acquisition, creation, restructuring, or
reorganization of a business entity, an
applicable asset acquisition within the
meaning of section 1060(c), or a transac-
tion involving the acquisition of capital,
including a stock issuance, borrowing, or
recapitalization. However, this rule would
not require capitalization of employee
compensation (except for bonuses and
commissions that are paid with respect to
the transaction), fixed overhead (e.g.,
rent, utilities and depreciation), or costs
that do not exceed a specified dollar
amount, such as $5,000. The IRS and
Treasury Department request comments
on how expenditures should be aggre-
gated for purposes of applying thede
minimisexception, whether thede mini-
misexception should allow a deduction
for the threshold amount where the aggre-
gate transaction costs exceed the thresh-
old amount, and whether there are certain
expenditures for which thede minimis
exception should not apply (e.g., commis-
sions).
The IRS and Treasury Department are
considering alternative approaches to
minimize uncertainty and to ease the
administrative burden of accounting for
transaction costs. For example, the rules
could allow a deduction for all employee
compensation (including bonuses and
commissions that are paid with respect to
the transaction), be based on whether the
transaction is regular or recurring, or fol-
low the financial or regulatory accounting
treatment of the transaction. The IRS and
Treasury Department request comments
on whether the recurring or nonrecurring
nature of a transaction is an appropriate
consideration in determining whether an
expenditure to facilitate the transaction
must be capitalized under section 263(a)
and, if so, what criteria should be applied
in distinguishing between recurring and
nonrecurring transactions. In addition, the
IRS and Treasury Department request
comments on whether a taxpayer’s treat-
ment of transaction costs for financial or
regulatory accounting purposes should be
taken into account when developing sim-
plifying assumptions.
For example, under the rule described
above, a taxpayer would be required to
capitalize legal fees in excess of the
threshold dollar amount paid to its outside
attorneys for services rendered in drafting
a 3-year covenant not to compete because
such costs facilitated the creation of the
covenant not to compete. Similarly, the
rule would require a taxpayer to capitalize
legal fees in excess of the threshold dol-
lar amount paid to its outside attorneys
2002–7 I.R.B.538February 19, 2002

for services rendered in defending a
trademark owned by the taxpayer.
Conversely, a taxpayer that originates
a loan to a borrower in the course of its
lending business would not be required to
capitalize amounts paid to secure a credit
history and property appraisal to facilitate
the loan where the total amount paid with
respect to that loan does not exceed the
threshold dollar amount. The taxpayer
also would not be required to capitalize
the amount of salaries paid to employees
or overhead costs of the taxpayer’s loan
origination department.
In addition, the rule would require a
corporate taxpayer to capitalize legal fees
in excess of the threshold dollar amount
paid to its outside counsel to facilitate an
acquisition of all of the taxpayer’s out-
standing stock by an acquirer.See,e.g.,
INDOPCO, Inc. v. Commissioner, 503
U.S. 79 (1992). However, the rule would
not require capitalization of the portion of
officers’salaries that is allocable to time
spent by the officers negotiating the
acquisition. Cf.Wells Fargo & Co. v.
Commissioner, 224 F.3d 874 (8th Cir.
2000).
The rule also would not require capi-
talization of post-acquisition integration
costs or severance payments made to
employees as a result of an acquisition
transaction because such costs do not
facilitate the acquisition.
D.Other Items on Which Public
Comment is Requested
1.Other costs of creating, acquiring or
enhancing intangible assets or benefits
that require capitalization.
The IRS and Treasury Department are
considering what general principles of
capitalization should be used to identify
the costs of acquiring, creating, or
enhancing intangible assets or benefits
that should be capitalized under section
263(a) but are not described above. The
IRS and Treasury Department anticipate
that these general principles will apply in
rare and unusual circumstances to require
capitalization of costs that are similar to
those described above. Comments are
requested on capitalization principles (for
example, a separate and distinct asset test
or a significant future benefit test) that
can be used to identify other costs that
should be capitalized under section
263(a) and the administrability of such
principles. The IRS and Treasury Depart-
ment also request comments on other cat-
egories of costs associated with intangible
assets or benefits that should be capital-
ized under section 263(a), but are not
described above.
2.Book-Tax conformity.
The IRS and Treasury Department
request comments on whether there are
types of expenditures other than those
discussed above for which the taxpayer’s
treatment for financial or regulatory
accounting purposes should be taken into
account in determining the treatment for
federal income tax purposes or to sim-
plify tax reporting.
3.Amortization periods.
Certain intangibles have readily ascer-
tainable useful lives that can be deter-
mined with reasonable accuracy, while
others do not. The IRS and Treasury
Department expect to provide safe harbor
recovery periods and methods for certain
capitalized expenditures that do not have
readily ascertainable useful lives. Com-
ments are requested regarding whether
guidance should provide one uniform
period or multiple recovery periods and
what the recovery periods and methods
should be.
4.De minimis rules.
The IRS and Treasury Department
request comments on whether there are
types of expenditures other than those
discussed above for which it would be
appropriate to prescribede minimisrules
that would not require capitalization
under section 263(a). If there are such
categories or thresholds, comments are
requested on how expenditures would be
aggregated in applying thesede minimis
rules.
5.Costs of Software.
The IRS and Treasury Department
request comments on what rules and prin-
ciples should be used to distinguish
acquired software from developed soft-
ware and the administrability of those
rules and principles. See Rev. Proc.
2000–50 (2000–2 C.B. 601).
Heather C. Maloy,
Associate Chief Counsel
(Income Tax & Accounting).
(Filed by the Office of the Federal Register on Janu-
ary 23, 2002, 8:45 a.m., and published in the issue
of the Federal Register for January 24, 2002, 67 F.R.
3461)
New Form 720X, Amended
Quarterly Federal Excise Tax
Return
Announcement 2002–10
New Form 720X is available. Form 720X
is used to make adjustments to liability
reported on Forms 720 you have filed for
previous quarters. Form 720X replaces
Part I of Schedule C (Form 720).
You can obtain Form 720X by tele-
phone or by using IRS electronic infor-
mation services.
Request by
Number or address
Personal computer:
IRS Web Sitewww.irs.gov
File transfer
protocol
ftp.irs.gov
Telephone
1–800–TAX-FORM
(1–800–829–3676)
February 19, 20025392002–7 I.R.B.

Federal Rates; Adjusted
Federal Rates; Adjusted
Federal Long-Term Rate and
the Long-Term Exempt Rate
Announcement 2002–13
Rev. Rul. 2002–2 (2002–2 I.R.B. 271),
which set forth the applicable federal
rates and various other rates for January
2002, incorrectly labeled table 6“Rate
Under Section 7520 for January 2002”.
The title should read,“Deemed Rate for
Transfers to New Pooled Income Funds
During 2002”.
The principal author of this announce-
ment is Pat Monahan of the Office of
Chief Counsel (Financial Institutions and
Products). For further information regard-
ing this announcement contact Ms. Mona-
han at (202) 622–4431 (not a toll-free
call).
Allocation of Loss With
Respect to Stock and Other
Personal Property; Correction
Announcement 2002-14
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Correction to final regulations.
SUMMARY: This document contains
corrections to final regulations (T.D.
8973, 2002-4 I.R.B. 391) which were
published in theFederal Registeron Fri-
day, December 28, 2001 (66 FR 67081).
The final regulations relate to the alloca-
tion of loss recognized on the disposition
of stock and other personal property
under sections 861 and 865.
DATES: This correction is effective Janu-
ary 8, 2002.
FOR FURTHER INFORMATION CON-
TACT: David A. Juster (202) 622-3850
(not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
The final regulations that are subject to
these corrections are under sections 861
and 865 of the Internal Revenue Code.
Need for Correction
As published, final regulations (T.D.
8973) contains errors that may prove to
be misleading and are in need of clarifi-
cation.
Correction of Publication
Accordingly, the publication of final
regulations (T.D. 8973), which was the
subject of FR Doc. 01-31819, is corrected
as follows:
§1.861–8T [Corrected]
1. On page 67083, column 3,§1.861–
8T, line 3 of the paragraph heading, the
language“for other sources and activities
(temporary).”is corrected to read“from
other sources and activities (temporary).”
§1.865–2 [Corrected]
2. On page 67086, column 2,§1.865–
2(a)(4)(iv),Example 3. (i), line 10, the
language“country X for $1,000. On Janu-
ary 2, 2002, R”is corrected to read
“Country X for $1,000. On January 2,
2002, R”.
LaNita VanDyke,
Acting Chief, Regulations Unit,
Associate Chief Counsel
(Income Tax & Accounting).
(Filed by the Office of the Federal Register on Janu-
ary 25, 2002, 8:45 a.m., and published in the issue
of the Federal Register for January 28, 2002, 67 F.R.
3811)
Certain Transfers of Property
to Regulated Investment
Companies and Real Estate
Investment Trusts; Correction
Announcement 2002–15
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemaking
by cross-reference to temporary regula-
tions.
SUMMARY: This document contains a
correction to REG–142299–01 and REG–
209135–88 (2002–4 I.R.B. 418) that was
published in theFederal Registeron
January 2, 2002 (67 FR 48). These regu-
lations apply to certain transactions or
events that result in a Regulated Invest-
ment Company [RIC] or Real Estate
Investment Trust [REIT] owning property
that has a basis determined by reference
to a C corporation’s basis in the property.
DATES: This correction is effective Janu-
ary 2, 2002.
FOR FURTHER INFORMATION CON-
TACT: Lisa A. Fuller (202) 622–7750
(not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
The notice of proposed rulemaking
that is the subject of these corrections is
under section 337(d) of the Internal Rev-
enue Code.
Need for Correction
As published, REG–142299–01 and
REG 209135–88 contains errors that may
prove to be misleading and are in need of
clarification.
Correction of Publication
Accordingly, the publication REG–
142299–01 and REG–209135–88, which
is the subject of FR. Doc. 01–25909, is
corrected as follows:
On page 52677, column 2, in the pre-
amble under the paragraph heading
“Background”, lines 14 and 15, the lan-
guage“property to a RIC or REIT, then
the RIC or REIT will be subject either to
section”, is corrected to read“property to
a RIC or REIT, then either the RIC or
REIT will be subject to section”.
LaNita Van Dyke,
Acting Chief, Regulations Unit,
Office of Special Counsel
(Modernization and Strategic Planning).
(Filed by the Office of the Federal Register on Janu-
ary 28, 2002, 8:45 a.m., and published in the issue
of the Federal Register for January 29, 2002, 67 F.R.
4218)
2002–7 I.R.B.540February 19, 2002

Foundations Status of Certain
Organizations
Announcement 2002–16
The following organizations have
failed to establish or have been unable to
maintain their status as public charities or
as operating foundations. Accordingly,
grantors and contributors may not, after
this date, rely on previous rulings or des-
ignations in the Cumulative List of Orga-
nizations (Publication 78), or on the pre-
sumption arising from the filing of
notices under section 508(b) of the Code.
This listing doesnotindicate that the
organizations have lost their status as
organizations described in section
501(c)(3), eligible to receive deductible
contributions.
Former Public Charities. The follow-
ing organizations (which have been
treated as organizations that are not pri-
vate foundations described in section
509(a) of the Code) are now classified as
private foundations:
25 Sanchez Tennants Association,
San Francisco, CA
A.H.T., Inc., Covina, CA
AIDS Information Resources & Services,
Hood River, OR
AIDS—Sidalerte International,
San Francisco, CA
Alaska Nellies Historical Society, Inc.,
Moose Pass, AK
Allen Temple Housing Corporation IV,
Oakland, CA
Alternative Therapies Resources,
San Francisco, CA
American Institute of International
Studies, Union City, CA
American Stroke Association,
San Juan Capistrano, CA
Anchornet, Incorporated, Anchorage, AK
Anioma Association of Northern
California, Oakland, CA
Anthony J. Maxwell Center,
Oakland, CA
Anthony Newman & J.J. Birden
Instructional Football Camp,
West Linn, OR
Anti-Tobacco Industry Coalition,
Milwaukie, OR
Art Abram Swing Machine,
Estacada, OR
Association for Intergenerational
Cooperation AIC, Bellingham, WA
Bay Area Young Entrepreneurs,
San Francisco, CA
Belle Haven Against Drugs,
Menlo Park, CA
Blue Eagle Foundation,
Redwood City, CA
Brokers Development Company, Inc.,
Oakland, CA
Cans for Christ Ministries,
Long Beach, CA
Cedco Charities Foundation, Inc.,
North Bend, OR
Center for Bioregional Conflict
Resolution, Santa Cruz, CA
Chaparral Youth Ranch, Inc.,
Palmer, AK
Chinese-American Benevolent
Association, Eugene, OR
Cinema Preservation Society,
San Francisco, CA
Classical Music of Northern California,
Billings, MT
Columbia County Community Network,
Dayton, WA
Compassion Works, Mountain View, CA
Congress of Community Organizations,
Menlo Park, CA
Decennium Community Development
Network, San Francisco, CA
Donor Network, Oakland, CA
Earth Net, Inc., Eugene, OR
Eastburn Family Ministry,
McKinleyville, CA
Ecocorps, San Francisco, CA
Economic Opportunities Corporation,
Portland, OR
Educational Video Foundation,
Silverton, OR
Equi-Therapy Resources, Portland, OR
Fairnet, Inc., Fairbanks, AK
Faith of our Fathers Radio Broadcast,
Tiller, OR
Fall Creek Ranch Foundation, Inc.,
Glide, OR
Flower Company, Portland, OR
Gil Mendelsohn Memorial Theater,
San Francisco, CA
Gold Star Alaska Races, Inc.,
Wasilla, AK
Gospel Music Hall of Fame Museum
Foundation, San Francisco, CA
Harold Stump Architectural Foundation,
Berkely, CA
Harvestshare, Eugene, OR
Healing our Mother Earth, Torrance, CA
Helen Palmer Enneagram Archive
Project, Oakland, CA
Helping Others Win, Inc., Portland, OR
Hieu Liem-Eccar Incorporation,
Portland, OR
Holistic Village, Oakland, CA
Honey Bear Child Care Corporation,
Oakland, CA
House of Rahab, Portland, OR
Hub City Music Association, Inc.,
Albany, OR
Inner Mountain Wilderness Education
Center, Haines, AK
Institute of Native Culture and
Communication, Sausalito, CA
International Hotel Senior Housing, Inc.,
San Francisco, CA
International Special Effects Museum,
San Francisco, CA
International Wisdom Hsiang Kung
Association, Inc., San Francisco, CA
Jami-Douglas Housing Corp.,
Juneau, AK
Jenny Lind Prospectors,
Valley Springs, CA
Joma, Inc., Oakland, CA
Ketchikan Housing, Inc., Ketchikan, AK
Ketchikan Urban Forest, Inc.,
Ketchikan, AK
Klamath Basin Amateur Softball
Association, Klamath Falls, OR
Klamath Unit Donation Fund,
Klamath Falls, OR
Korean-American Pride Association
Foundation, Santa Clara, CA
L & L Childrens Home, Inc.,
Oakland, CA
Lady of Grace Shrine, Portland, OR
Latin American Film Society,
San Francisco, CA
Legacy From the Heart, Eugene, CA
Liberty National Monument, Inc.,
Salinas, CA
Lois Thompson Housing Project for
Challenged Citizens, Portland, OR
Love Living Communities, Portland, OR
Loving Hearts and Helping Hands,
Eugene, OR
Lyle Baker Veterinary Scholarship
Board, Sonora, CA
Mackenzie Ministries,
Oklahoma City, OK
Malheur Butte Productions, Ontario, OR
Marysues McKenzie Meals,
Walterville, OR
Mercer Island Recreation Services
Foundation, Mercer Island, WA
February 19, 20025412002–7 I.R.B.

Michael Dorcy Rehabilitation Center,
Oakland, CA
Ministers Wives and Widows of San
Francisco and Adjacent Cities,
San Francisco, CA
Mutual After Life Foundation,
Westminster, CA
New Leaf Institute, Oakland, CA
North Street Soccer Club, Inc.,
Portland, OR
Northern California SGML Users Group,
San Francisco, CA
Northwest Heritage Resources,
Olympia, WA
Northwest Youth Theatre, Hillsboro, OR
Oakland Charities, Oakland, CA
Off-Off Road Los Angeles, Tujunga, CA
One Sky International Production, Inc.,
Anchorage, AK
Open Heart Theatre, Corvallis, OR
Oregon City Rotary Club Foundation,
Oregon City, OR
Oregon City Youth Sports, Inc.,
Oregon City, OR
Oregon Korean Christian Community
Center, Beaverton, OR
Pact, Inc., Moorpark, CA
Palmdale Youth Soccer League,
Palmdale, CA
Parents Helping Parents San Francisco,
San Francisco, CA
Pittsburg Alliance Ministerial,
Pittsburg, CA
Pray U S A, St. Petersburg, FL
Project Moscow Medicine,
Santa Maria, CA
Rancho Folclorico Centro Social
Portugues, El Sobrante, CA
Random Acts of Love, Inc.,
Anchorage, AK
Redwood Empire Hunter-Jumpers,
Fortuna, CA
Restoration House, Inc., Belmont, CA
Rogue River Roundup, Ashland, OR
San Andreas Youth Soccer Organization,
Inc., Belmont, CA
San Juan Childrens Fund,
Friday Harbor, WA
Searching the Scriptures, Sherwood, OR
Sennin Foundation, Richmond, CA
Shiloh Ranch Family Outreach,
Grants Pass, OR
Snell Development Group,
San Leandro, CA
Social Remotivations, Inc.,
Lafayette, CA
Society for Ortho Molecular Health
Medicine-America, San Francisco, CA
Southern Oregon Barter Fair,
Williams, OR
Springfield Community Concert Band,
Eugene, CA
Stanford Alumni of Theta Delta Chi,
Palo Alto, CA
Steady Course, Portland, OR
Supporters and Friends of Recovery
Scholarship Fund, Beaverton, OR
Survival Exchange Network,
San Francisco, CA
Tanana Valley Abate, Inc.,
Fairbanks, AK
Terrell Brandon City Kids Fan Club,
Inc., Portland, OR
Tomorrow for Children,
San Francisco, CA
Trans Pacific Foundation, Inc.,
Portland, OR
Ustawi a Non-Profit Corporation,
Seattle, CA
Valley Institute for Cancer Research,
Inc., Northridge, CA
Venus Art Literature Foundation,
San Mateo, CA
Vietnamese World Christian Fellowship,
Garden Grove, CA
Watch-Islam, Sunol, CA
Whiteaker Foundation, Eugene, OR
Workaholics Anonymous World Service
Organization, Inc., Menlo Park, CA
Wrangell Fire Fighters Association,
Wrangell, AK
If an organization listed above submits
information that warrants the renewal of
its classification as a public charity or as
a private operating foundation, the Inter-
nal Revenue Service will issue a ruling or
determination letter with the revised clas-
sification as to foundation status. Grant-
ors and contributors may thereafter rely
upon such ruling or determination letter
as provided in section 1.509(a)–7ofthe
Income Tax Regulations. It is not the
practice of the Service to announce such
revised classification of foundation status
in the Internal Revenue Bulletin.
Amended Notice of
Disposition of Declaratory
Judgment Proceedings Under
Section 7428
This announcement serves notice to
donors that on July 26, 1999, the Court of
Appeals for the Eleventh Circuit affirmed
the decision of the United States Tax
Court which was entered on August 28,
1998. The courts agreed with the Service
that the organization listed below is not
described in section 501(c)(3) and is not
exempt from taxation under section
501(a), effective October 1, 1982.
Anclote Phychiatric Center, Inc., now
known as River Foundation
Tarpon Springs, FL
Section 7428(c) Validation of
Certain Contributions Made
During Pendency of
Declaratory Judgment
Proceedings
This announcement serves notice to
potential donors that the organization
listed below has recently filed a timely
declaratory judgment suit under section
7428 of the Code, challenging revocation
of its status as an eligible donee under
section 170(c)(2).
Protection under section 7428(c) of the
Code begins on the date that the notice of
revocation is published in the Internal
Revenue Bulletin and ends on the date on
which a court first determines that an
organization is not described in section
170(c)(2), as more particularly set forth in
section 7428(c)(1).
In the case of individual contributors,
the maximum amount of contributions
protected during this period is limited to
$1,000.00, with a husband and wife being
treated as one contributor. This protection
is not extended to any individual who was
responsible, in whole or in part, for the
acts or omissions of the organization that
were the basis for the revocation. This
protection also applies (but without limi-
tation as to amount) to organizations
described in section 170(c)(2) which are
exempt from tax under section 501(a). If
the organization ultimately prevails in its
declaratory judgment suit, deductibility of
contributions would be subject to the nor-
mal limitations set forth under section
170.
Greatwood Family First Order of Conse-
cration and True Family Church
Irvine, UT
2002–7 I.R.B.542February 19, 2002

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
effect:
Amplifieddescribes a situation where
no change is being made in a prior pub-
lished position, but the prior position is
being extended to apply to a variation of
the fact situation set forth therein. Thus, if
an earlier ruling held that a principle
applied to A, and the new ruling holds
that the same principle also applies to B,
the earlier ruling is amplified. (Compare
withmodified, below).
Clarifiedis used in those instances
where the language in a prior ruling is
being made clear because the language
has caused, or may cause, some confu-
sion. It is not used where a position in a
prior ruling is being changed.
Distinguisheddescribes a situation
where a ruling mentions a previously
published ruling and points out an essen-
tial 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 pub-
lished position. (Compare withamplified
andclarified, 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
rulings that are obsoleted because of
changes in law or regulations. A ruling
may also be obsoleted because the sub-
stance has been included in regulations
subsequently adopted.
Revokeddescribes situations where the
position in the previously published rul-
ing is not correct and the correct position
is being stated in the new ruling.
Supersededdescribes a situation where
the new ruling does nothing more than
restate the substance and situation of a
previously published ruling (or rulings).
Thus, the term is used to republish under
the 1986 Code and regulations the same
position published under the 1939 Code
and regulations. The term is also used
when it is desired to republish in a single
ruling a series of situations, names, etc.,
that were previously published over a
period of time in separate rulings. If the
new ruling does more than restate the
substance of a prior ruling, a combination
of terms is used. For example,modified
andsupersededdescribes a situation
where the substance of a previously pub-
lished 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 published ruling is first
modified and then, as modified, is super-
seded.
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
ruling has been supplemented several
times, a new ruling may be published that
includes the list in the original ruling and
the additions, and supersedes all prior rul-
ings 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 following abbreviations in current
use and formerly used will appear in
material published in the Bulletin.
A—Individual.
Acq.—Acquiescence.
B—Individual.
BE—Beneficiary.
BK—Bank.
B.T.A.—Board of Tax Appeals.
C—Individual.
C.B.—Cumulative Bulletin.
CFR—Code of Federal Regulations.
CI—City.
COOP—Cooperative.
Ct.D.—Court Decision.
CY—County.
D—Decedent.
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—Employer.
ERISA—Employee Retirement Income Security
Act.
EX—Executor.
F—Fiduciary.
FC—Foreign Country.
FICA—Federal Insurance Contributions Act.
FISC—Foreign International Sales Company.
FPH—Foreign Personal Holding Company.
F.R.—Federal Register.
FUTA—Federal Unemployment Tax Act.
FX—Foreign Corporation.
G.C.M.—Chief Counsel’s Memorandum.
GE—Grantee.
GP—General Partner.
GR—Grantor.
IC—Insurance Company.
I.R.B.—Intemal Revenue Bulletin.
LE—Lessee.
LP—Limited Partner.
LR—Lessor.
M—Minor.
Nonacq.—Nonacquiescence.
O—Organization.
P—Parent Corporation.
PHC—Personal Holding Company.
PO—Possession of the U.S.
PR—Partner.
PRS—Partnership.
PTE—Prohibited Transaction Exemption.
Pub. L.—Public Law.
REIT—Real Estate Investment Trust.
Rev. Proc—Revenue Procedure.
Rev. Rul.—Revenue Ruling.
S—Subsidiary.
S.P.R.—Statements of Procedural Rules.
Stat.—Statutes at Large.
T—Target Corporation.
T.C.—Tax Court.
T.D.—Treasury Decision.
TFE—Transferee.
TFR—Transferor.
T.I.R.—Technical Information Release.
TP—Taxpayer.
TR—Trust.
TT—Trustee.
U.S.C.—United States Code.
X—Corporation.
Y—Corporation.
Z—Corporation.
February 19, 2002i2002–7 I.R.B.

Numerical Finding List
1
Bulletins 2002–1 through 2002–6
Announcements:
2002–1, 2002–2 I.R.B.304
2002–2, 2002–2 I.R.B.304
2002–3, 2002–2 I.R.B.305
2002–4, 2002–2 I.R.B.306
2002–5, 2002–4 I.R.B.420
2002–6, 2002–5 I.R.B.458
2002–7, 2002–5 I.R.B.459
2002–8, 2002–6 I.R.B.494
2002–11, 2002–6 I.R.B.494
Notices:
2002–1, 2002–2 I.R.B.283
2002–2, 2002–2 I.R.B.285
2002–3, 2002–2 I.R.B.289
2002–4, 2002–2 I.R.B.298
2002–5, 2002–3 I.R.B.320
2002–6, 2002–3 I.R.B.326
2002–7, 2002–6 I.R.B.489
2002–8, 2002–4 I.R.B.398
2002–9, 2002–5 I.R.B.450
2002–10, 2002–6 I.R.B.490
Proposed Regulations:
REG–209135–88, 2002–4 I.R.B.418
REG–105344–01, 2002–2 I.R.B.302
REG–112991–01, 2002–4 I.R.B.404
REG–119436–01, 2002–3 I.R.B.376
REG–125450–01, 2002–5 I.R.B.457
REG–142299–01, 2002–4 I.R.B.418
REG–159079–01, 2002–6 I.R.B.493
Revenue Procedures:
2002–1, 2002–1 I.R.B.1
2002–2, 2002–1 I.R.B.82
2002–3, 2002–1 I.R.B.117
2002–4, 2002–1 I.R.B.127
2002–5, 2002–1 I.R.B.173
2002–6, 2002–1 I.R.B.203
2002–7, 2002–1 I.R.B.249
2002–8, 2002–1 I.R.B.252
2002–9, 2002–3 I.R.B.327
2002–10, 2002–4 I.R.B.400
2002–12, 2002–3 I.R.B.374
2002–14, 2002–5 I.R.B.450
2002–15, 2002–6 I.R.B.490
Revenue Rulings:
2002–1, 2002–2 I.R.B.268
2002–2, 2002–2 I.R.B.271
2002–3, 2002–3 I.R.B.316
2002–4, 2002–4 I.R.B.389
2002–5, 2002–6 I.R.B.461
2002–6, 2002–6 I.R.B.460
Treasury Decisions:
8968, 2002–2 I.R.B.274
8969, 2002–2 I.R.B.276
8970, 2002–2 I.R.B.281
8971, 2002–3 I.R.B.308
8972, 2002–5 I.R.B.443
8973, 2002–4 I.R.B.391
8974, 2002–3 I.R.B.318
8975, 2002–4 I.R.B.379
8976, 2002–5 I.R.B.421
8977, 2002–6 I.R.B.463
8979, 2002–6 I.R.B.466
8980, 2002–6 I.R.B.477
1
A cumulative list of all revenue rulings, revenue
procedures, Treasury decisions, etc., published in
Internal Revenue Bulletins 2001–27 through 2001–53 is
in Internal Revenue Bulletin 2002–1, dated January 7, 2002.
2002–7 I.R.B.iiFebruary 19, 2002

Finding List of Current Actions
on Previously Published Items
2
Bulletins 2002–1 through 2002–6
Notices:
98–43
Modified and superseded by
Notice 2002–5, 2002–3 I.R.B.320
2001–10
Revoked by
Notice 2002–8, 2002–4 I.R.B.398
2000–11
Obsoleted by
Notice 2002–3, 2002–2 I.R.B.289
Proposed Regulations:
REG–105344–01
Corrected by
Ann. 2002–7, 2002–5 I.R.B.459
Revenue Procedures:
84–37
Modified by
Rev. Proc. 2002–1, 2002–1 I.R.B.1
84–57
Obsoleted by
T.D. 8976, 2002–5 I.R.B.421
87–50
Modified by
Rev. Proc. 2002–10, 2002–4 I.R.B.400
96–13
Modified by
Rev. Proc. 2002–1, 2002–1 I.R.B.1
98–49
Obsoleted by
T.D. 8976, 2002–5 I.R.B.421
99–49
Modified and superseded by
Rev. Proc. 2002–9, 2002–3 I.R.B.327
2002–6
Modified by
Notice 2002–1, 2002–2 I.R.B.283
2002–8
Modified by
Notice 2002–1, 2002–2 I.R.B.283
2000–20
Modified by
Rev. Proc. 2002–6, 2002–1 I.R.B.203
2001–1
Superseded by
Rev. Proc. 2002–1, 2002–1 I.R.B.1
Revenue Procedures:—Continued
2001–2
Superseded by
Rev. Proc. 2002–2, 2002–1 I.R.B.82
2001–3
Superseded by
Rev. Proc. 2002–3, 2002–1 I.R.B.117
2001–4
Superseded by
Rev. Proc. 2002–4, 2002–1 I.R.B.127
2001–5
Superseded by
Rev. Proc. 2002–5, 2002–1 I.R.B.173
2001–6
Superseded by
Rev. Proc. 2002–6, 2002–1 I.R.B.203
2001–7
Superseded by
Rev. Proc. 2002–7, 2002–1 I.R.B.249
2001–8
Superseded by
Rev. Proc. 2002–8, 2002–1 I.R.B.252
2001–13
Corrected by
Ann. 2002–5, 2002–4 I.R.B.420
2001–36
Superseded by
Rev. Proc. 2002–3, 2002–1 I.R.B.117
2001–41
Superseded by
Rev. Proc. 2002–2, 2002–1 I.R.B.82
2001–51
Superseded by
Rev. Proc. 2002–3, 2002–1 I.R.B.117
Revenue Rulings:
55–747
Revoked by
Notice 2002–8, 2002–4 I.R.B.398
61–146
Distinguished by
Rev. Rul. 2002–3, 2002–3 I.R.B.316
64–328
Modified by
Notice 2002–8, 2002–4 I.R.B.398
66–110
Modified by
Notice 2002–8, 2002–4 I.R.B.398
Revenue Rulings:—Continued
89–29
Obsoleted by
T.D. 8976, 2002–5 I.R.B.421
2
A cumulative list of current actions on previously published
items in Internal Revenue Bulletins 2001–27 through 2001–53 is
in Internal Revenue Bulletin 2002–1, dated January 7, 2002.
February 19, 2002iii2002–7 I.R.B.