rp-03-63.pdf

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26 CFR 601.105: Examination of returns and claims for refund, credit or abatement;
determination of correct tax liability.
(Also Part I, §§ 167, 168, 446, 481; 1.167(a)-11, 1.446-1.)

Rev. Proc. 2003-63

SECTION 1. PURPOSE

This revenue procedure provides a safe harbor method under which the Internal
Revenue Service will treat a fiber optic node and trunk line consisting of fiber optic cable
used in a cable television distribution system providing one-way and two-way
communication services as the unit of property for computing depreciation under §§ 167
and 168 of the Internal Revenue Code.

SECTION 2. BACKGROUND

.01 Cable television companies provide broadcast and video programming to
subscribers. In recent years, many companies have upgraded their systems to provide
new cable services such as digital television, internet access through a cable modem, and
telephony. Upgraded systems use fiber optic cable because optic fibers have immense
capacity and are reliable, and transmissions over them are not susceptible to interference
by outside signals. The fiber optic strands of glass (optic fibers) within fiber optic cables
carry analog or digital signals in the form of light waves. In comparison, coaxial cable
carries radio frequency signals. Bandwidth is the range of radio frequencies or light
spectrum available for use by cable television distribution systems for transmission.

.02 The design of cable television distribution systems varies considerably
throughout the country. Programming normally originates from an antenna, satellite,
microwave, film, or videotape and is fed into the headend. The headend is electronic
equipment that receives programming signals and combines, amplifies, and converts the
programming signals for transmission throughout the system. The distribution plant
conveys the programming signals from the headend to subscribers. The distribution plant
generally consists of optic transmission and receiver devices, fiber optic cable (used as
trunk lines), fiber optic transfer nodes ("nodes" containing optical receivers and reverse
optical transmitters), coaxial cable (used as feeder or distribution cables), amplifiers, taps,
and coaxial drop cables to the subscribers' properties.

.03 A fiber optic cable usually contains several bundles of optic fibers. Many
cable television distribution systems dedicate one bundle from the headend to each node.
The nodes are the point of interface between the fiber optic cable and the feeder or
distribution cables, which carry the signals to, and past, subscribers' properties. Fiber
optic cable and node function together as an integrated unit. Nodes, however, are not
usually interconnected or dependent on one another; each node operates independently of
other nodes.

.04 Subscribers generally cannot receive two-way communication services until
the node serving them is connected to the equipment necessary for the services. In order
to provide two-way communication services, usually two optic fibers are connected
between the headend and the node, even though the bundle of fibers dedicated to the node
may contain more than two fibers. Typically, one optic fiber is used for transmitting data
downstream from the headend to subscribers and another optic fiber is used for
transmitting data upstream from subscribers.

.05 Section 167(a) provides that there shall be allowed as a depreciation
deduction a reasonable allowance for the exhaustion, and wear and tear of property used
in a trade or business or held for the production of income.

.06 The depreciation deduction provided by § 167(a) for tangible property placed
in service after 1986 generally is determined under § 168. Section 168 prescribes two
methods of accounting for computing depreciation: the general depreciation system in §
168(a); and the alternative depreciation system (ADS) in § 168(g). Under either
depreciation system, the depreciation deduction is computed by using a prescribed
depreciation method, recovery period, and convention.

.07 Rev. Proc. 87-56, 1987-2 C.B. 674, as clarified and modified by Rev. Proc.
88-22, 1988-1 C.B. 785, sets forth the class lives of property that are necessary to
compute depreciation under § 168. Rev. Proc. 87-56 prescribes asset class 48.41,
"CATV [Cable Television]-Headend," which includes assets such as towers, antennas,
preamplifiers, converters, modulation equipment, and program non-duplication systems.
This asset class has a class life of 11 years, which means that the property in this asset
class is classified as 7-year property under § 168(e)(1) with an applicable recovery period
of 7 years under § 168(c) and a recovery period of 11 years under § 168(g).

.08 Rev. Proc. 87-56 prescribes Asset Class 48.42, "CATV-Subscriber
Connection and Distribution Systems," which includes assets such as trunk and feeder
cable, connecting hardware, amplifiers, power equipment, passive devices, directional
taps, pedestals, pressure taps, drop cables, matching transformers, multiple set connector
equipment, and converters. This asset class has a class life of 10 years, which means that
the property in this asset class is classified as 7-year property under § 168(e)(1) with an
applicable recovery period of 7 years under § 168(c) and a recovery period of 10 years
under § 168(g). Rev. Proc. 87-56 excludes from CATV asset classes 48.41 and 48.42
assets used to provide subscribers with two-way communication services.

.09 Rev. Proc. 87-56 assigns a class life of 24 years to property described in asset
classes 48.31 to 48.45 that is comparable to property described in asset class 48.14,
"Telephone Distribution Plant," and used for two-way exchange of voice and data
communication which is the equivalent of telephone communication. Comparable
equipment does not include cable television equipment used primarily for one-way
communication. See also § 168(e)(3)(E)(ii) and § 168(g)(3)(B), under which any
telephone distribution plant and comparable equipment used for two-way exchange of

voice and data communications is 15-year property with an applicable recovery period of
15 years under § 168(c) and a recovery period of 24 years under § 168(g).

.10 Under § 1.167(a)-11(b)(4)(iii)(b) of the Income Tax Regulations, property is
included in the asset guideline class for the activity in which the property is primarily
used. Property is classified according to primary use even though the activity in which
such property is primarily used is insubstantial in relation to all the taxpayer's activities.

.11 Property is first placed in service in the taxable year in which the property is
placed in a condition or state of readiness and availability for a specifically assigned
function, whether in a trade or business, in the production of income, in a tax-exempt
activity, or in a personal activity. See § 1.46-3(d)(1)(ii).
SECTION 3. SCOPE

.01 Applicability. This revenue procedure applies to taxpayers operating cable
television distribution systems designed to provide one-way and two-way communication
services to subscribers.

.02 One-way and two-way communication services. For purposes of this revenue
procedure, one-way communication services involve services in which broadcast and
video programming signals are sent only downstream, that is, from the headend to
subscribers; and two-way communication services involve services in which property is
used for the two-way exchange between the headend and subscribers of voice and data
communications which is the equivalent of telephone communication. Internet access
through a cable modem and telephony (including IP (internet protocol) telephony also
known as voice-over IP) are examples of two-way communication services.

SECTION 4. SAFE HARBOR METHOD

.01 Unit of Property. The unit of property for calculating depreciation under §§
167 and 168 is a node and the fiber optic cable to that node, exclusive of any fiber optic
cable previously considered placed in service under section 4.03 of this revenue
procedure and any optic fibers sold by a taxpayer. Thus, for example, if a taxpayer has a
fiber optic cable containing 20 bundles of 6 optic fibers (120 total optic fibers) and
connects 2 optic fibers to a node, the fiber optic cable (including all 120 optic fibers) is a
component of the unit of property.

.02 Determining primary use. In determining whether the unit of property
described in section 4.01 of this revenue procedure is primarily used, within the meaning
of § 1.167(a)-11(b)(4)(iii)(b), for providing one-way or two-way communication
services, a cable television company must determine primary use by using any reasonable
manner that is consistently applied to the taxpayer's units of property described in section
4.01 of this revenue procedure. If the unit of property is primarily used for providing
one-way communication services, the unit of property is assigned to asset class 48.42,
"CATV-Subscriber Connection and Distribution Systems," and classified as 7-year
property under § 168(e)(1) with an applicable recovery period of 7 years under § 168(c)

and a recovery period of 10 years under § 168(g). However, if the unit of property is
primarily used for providing two-way communications services, § 168(e)(3)(E)(ii)
classifies the unit of property as 15-year property with an applicable recovery period of
15 years under § 168(c) and a recovery period of 24 years under § 168(g). For purposes
of this revenue procedure, a cable television company may determine primary use based
on either: the node within the unit of property described in section 4.01 of this revenue
procedure; or the applicable cable television distribution system for each headend,
provided the cable television company maintains its books and records based on each
headend.

(1) Reasonable manner. A reasonable manner includes, but is not limited
to, determining primary use by gross receipts or by subscriber count for each service
within the applicable cable television distribution system. However, for purposes of this
safe harbor method, determining primary use by bandwidth is not considered reasonable.

(2) Change in primary use. If the primary use of the unit of property
described in section 4.01 of this revenue procedure changes from providing either one-
way communication services to two-way communication services, or two-way
communication services to one-way communication services, § 168(i)(5) applies
beginning in the year of the change in use.

.03 Placed in service. The unit of property described in section 4.01 of this
revenue procedure is considered placed in service for depreciation purposes when placed
in a condition or state of readiness and availability for its specifically assigned function.
The specifically assigned function of a cable television company's distribution system is
to provide services to subscribers. Thus, when a node is connected to the equipment
necessary for providing one-way or two-way communication services to subscribers or
potential subscribers, the property is considered placed in service for purposes of §§ 167
and 168. Although a fiber optic cable may contain more optic fibers than are necessary
to serve a single node, all optic fibers in the unit of property are considered placed in
service when the node is ready and available as described above and connected to at least
one optic fiber in the fiber optic cable.

.04 Consistent treatment. Taxpayers using the unit of property described in
section 4.01 of this revenue procedure must use it for all of a headend's nodes and fiber
optic cable. Except as provided in section 4.02 of this revenue procedure, taxpayers are
required to treat the unit of property consistently for all purposes under §§ 167 and 168
and the regulations thereunder.

SECTION 5. CHANGE IN METHOD OF ACCOUNTING AND AUDIT
PROTECTION

.01 Change in method of accounting. A change in a taxpayer's depreciation
treatment of cable television distribution systems (as described in section 4 of this
revenue procedure) is a change in method of accounting to which §§ 446(e) and 481
apply. If a taxpayer within the scope of this revenue procedure wants to change to the

safe harbor method provided in this revenue procedure for cable television distribution
systems (as described in section 4 of this revenue procedure) that are owned by the
taxpayer at the beginning of the year of change, the taxpayer must follow the automatic
change in method of accounting provisions in Rev. Proc. 2002-9, 2002-1 C.B. 327 (as
modified and amplified by Rev. Proc. 2002-19, 2002-1 C.B. 696, amplified, clarified, and
modified by Rev. Proc. 2002-54, 2002-35 I.R.B. 432, and modified and clarified by
Announcement 2002-17, 2002-1 C.B. 561) or any successor, with the following
modifications:

(1) The scope limitations in section 4.02 of Rev. Proc. 2002-9 do not
apply to a taxpayer that wants to change to the safe harbor method for either its first or
second taxable year ending after December 31, 2001; and

(2) To assist the Service in processing changes in method of accounting
under this section of the revenue procedure, and to ensure proper handling, section
6.02(4)(a) of Rev. Proc. 2002-9 is modified to require that a Form 3115 filed under this
revenue procedure include the statement: "Automatic Change Filed Under Rev. Proc.
2003-63." This statement should be legibly printed or typed on the appropriate line on
the Form 3115.

.02 Audit protection. If a taxpayer currently uses a method consistent with the
safe harbor method (as described in section 4 of this revenue procedure), the method of
accounting for depreciation of the taxpayer's property described in section 4.01 will not
be raised as an issue by the Service in a taxable year that ends before August 11, 2003.
Also, if a taxpayer currently uses a method consistent with the safe harbor method (as
described in section 4 of this revenue procedure) and its use of that method is an issue
under consideration (within the meaning of section 3.09 of Rev. Proc. 2002-9) for taxable
years in examination, before an appeals office, or before the U.S. Tax Court in a taxable
year that ends before August 11, 2003, that issue will not be further pursued by the
Service.

SECTION 6. EFFECT ON OTHER DOCUMENTS

Rev. Proc. 2002-9 is modified and amplified to include this change in method of
accounting in section 2 of the APPENDIX.

SECTION 7. EFFECTIVE DATE

This revenue procedure is effective on August 11, 2003.

SECTION 8. DRAFTING INFORMATION

The principal author of this revenue procedure is Paul Handleman of the Office of
Associate Chief Counsel (Passthroughs and Special Industries). For further information
regarding this revenue procedure, contact Mr. Handleman at (202) 622-3040 (not a toll-
free call).