[Federal Register: August 25, 2004 (Volume 69, Number 164)]
[Proposed Rules]
[Page 52217-52219]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr25au04-17]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[REG-108637-03]
RIN 1545-BB94
Accrual for Certain REMIC Regular Interests
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking and notice of public hearing.
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SUMMARY: This document contains proposed regulations relating to the
accrual of original issue discount (OID) on certain real estate
mortgage investment conduit (REMIC) regular interests. The proposed
regulations are necessary to provide guidance to REMICs, REMIC regular
interest holders and information reporters regarding the accrual of
OID. This document also provides notice of a public hearing on the
proposed regulations.
DATES: Written or electronic comments must be received by November 23,
2004. Outlines of topics to be discussed at the public hearing
scheduled for November 17, 2004, must be received by October 27, 2004.
ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-108637-03), room
5203, Internal Revenue Service, PO Box 7604, Ben Franklin Station,
Washington, DC 20044. Submissions may be hand-delivered Monday through
Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-
108637-03), Courier's Desk, Internal Revenue Service, 1111 Constitution
Avenue, NW., Washington, DC, or sent electronically, via the IRS
Internet site at http://www.irs.gov/regs or via the Federal eRulemaking Portal at http://www.regulations.gov (IRS--REG-108637-03). The public
hearing will be held in the Auditorium, Internal Revenue Building, 1111
Constitution Avenue, NW., Washington, DC.
FOR FURTHER INFORMATION CONTACT: Concerning the regulations, contact
Rebecca Asta at (202) 622-3930. To be placed on the building access
list for the hearing, contact Sonya Cruse at (202) 622-7180.
SUPPLEMENTARY INFORMATION:
Background and Explanation of Provisions
1. General Background
A debt instrument may provide for qualified stated interest (QSI)
(that is, certain periodic payments of stated interest), OID, or both.
Sections 163(e) and 1271 through 1275 provide rules for the treatment
of OID on debt instruments. In general, the holder of a debt instrument
includes OID in income as it accrues, even if the holder generally uses
a cash method of accounting. A holder of a REMIC regular interest
includes QSI in income under an accrual method of accounting because
section 860B(b) requires that amounts includible in gross income with
respect to a REMIC regular interest be determined under an accrual
method.
For many debt instruments, only one or two days separate the date
on which the holder becomes entitled to a payment (the record date)
from the date on which the holder receives payment (the payment date).
For REMIC regular interests, however, the record date may precede the
payment date by 15 to 30 days.
2. Current REMIC Accrual Practice
Under the governing contract provisions, REMIC regular interests
generally accrue interest from the issue date to the final record date,
and holders become entitled to receive interest payments based on
month-end record dates. The IRS and the Treasury Department understand,
however, that,
[[Page 52218]]
in general, REMIC servicers have interpreted the OID rules to require
or permit holders' OID to accrue for tax purposes over the period from
payment date to payment date and have treated QSI as accruing over the
same periods. To compensate for accruing QSI and OID beyond the final
record date to the final payment date, the servicers have treated QSI
and OID on REMIC regular interests as not accruing from the date of
issue for a period equal to the number of days between the record date
and payment date. In effect, for tax purposes, the tax accrual of QSI
and OID lags the legal accrual of interest by the delayed payment
period.
For tax purposes, as of the date a REMIC regular interest is
purchased in the secondary market, the purchaser begins to accrue QSI
and OID, and the seller ceases to accrue QSI and OID. A purchaser that
holds the instrument until the final payment date or redemption accrues
QSI and OID past the final record date as long as it holds the
instrument. A purchaser that begins to accrue QSI and OID on the
purchase date gives up the benefit of the lag in the beginning of the
accrual period. As a result, the delayed accrual system causes the last
secondary market purchaser of a REMIC regular interest to accrue for
tax purposes an additional number of days of QSI and OID equal to the
number of days between the record and payment dates, and too much QSI
and OID is allocated to the last secondary purchaser of the REMIC
regular interest. Moreover, because of principal payments, the holder
will earn interest on a declining principal balance, while the lagging
tax accruals will be based on a higher principal amount between record
dates and payment dates in many instances. Consequently, a secondary
market purchaser that is not the last secondary market purchaser will
experience tax accruals in excess of legal entitlements if the regular
interest has significant stated principal and bears interest at a
stated rate.
3. Overview of the Proposed Regulations
The proposed rules address the misallocation of QSI and OID by
creating a special rule for accruing OID on REMIC regular interests
that provide for a delay between record and payment dates. Under the
proposed regulations, the period over which OID accrues generally
coincides with the period over which the holder's right to interest
payments accrues under the governing contract provisions.
Generally, under the proposed regulations, if the terms of a REMIC
regular interest provide for a delay between the record and payment
dates, the initial accrual period begins on the date of issuance of the
regular interest, and the final accrual period ends on the final record
date of that REMIC regular interest. By shifting the entire tax accrual
schedule, this special rule allocates all QSI and OID to the period
between the issue date and the final record date of the instrument and
none to the period between the final record date and final payment
date. For purposes of calculating OID in the final accrual period with
the methodology described in section 1272(a)(6), but for no other
purpose, payments on the REMIC regular interest after the end of that
accrual period that are included in the stated redemption price at
maturity of the instrument (such as the payment on the final payment
date) are treated as being made during the final accrual period.
The IRS and Treasury Department recognize that, although the
proposed regulations result in a more accurate allocation of QSI and
OID among REMIC regular interest holders, some economic accuracy may be
sacrificed by ending the accrual of OID before final payments are made
on the regular interests. Therefore, the proposed regulations are
limited to REMIC regular interests with delayed payment periods of
fewer than 32 days. The regulation regarding REMIC regular interests
with delayed payment periods of more than 31 days is reserved. The IRS
and Treasury Department request comments on whether additional guidance
is needed for these REMIC regular interests.
4. Accrual of Qualified Stated Interest
Section 1.1272-1(a) requires a holder to include QSI in income
under the holder's regular method of accounting. Section 1.446-2(b)
requires a holder, as well as the issuer, to accrue QSI ratably over
the accrual period to which it is attributable. In addition, section
860B(b) requires a holder of a regular interest to accrue amounts into
gross income regardless of the holder's overall method of accounting.
The amounts that must be so accrued include QSI. The Treasury
Department and the IRS understand that many REMIC servicers have
accrued QSI over the same period as OID. It is intended that, with
respect to the accrual periods referenced in Sec. 1.446-2(b), the
initial accrual period for QSI will begin on the date of issuance and
the final accrual period for QSI will end on the final record date. As
a result, the QSI accrues over the same period as the OID.
Proposed Effective Date
These regulations are proposed to apply to any REMIC regular
interest issued after the date the final regulations are published in
the Federal Register. The proposed regulations provide automatic
consent for the holder of a REMIC regular interest to change its method
of accounting for OID under the final regulations. The change is
proposed to be made on a cut-off basis and, thus, does not affect REMIC
regular interests issued before the date the final regulations are
published in the Federal Register.
The Treasury Department and the IRS are concerned regarding the
extent to which holders of REMIC regular interests will be aware that
changes in accounting methods for QSI may be necessary to comply with
the special rule in the proposed regulations. If a holder of REMIC
regular interests relies on data provided on behalf of the REMIC rather
than performing its own computations, the holder may be unaware that
these rules will have required newly issued REMICs to alter the accrual
periods over which interest reported to holders is computed. The
Treasury Department and the IRS request comments on the way in which a
change in accounting method for QSI should be effected.
The Treasury Department and the IRS request comments concerning the
extent to which any other debt instruments provide for a significant
delay between record and payment dates and, if some do, whether rules
like those in the proposed regulations should be extended to them. Any
comments received will be considered in connection with the publication
of final regulations in the Federal Register.
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory flexibility assessment is not required.
It has also been determined that section 553(b) of the Administrative
Procedures Act (5 U.S.C. chapter 5) does not apply to these
regulations, and because the regulation does not impose a collection of
information on small entities, the Regulatory Flexibility Act (5 U.S.C.
chapter 6) does not apply. Pursuant to section 7805(f) of the Internal
Revenue Code, this notice of proposed rulemaking will be submitted to
the Chief Counsel for Advocacy of the Small Business Administration for
comment on its impact on small businesses.
[[Page 52219]]
Comments and Public Hearing
Before these proposed regulations are adopted as final regulations,
consideration will be given to any written comments (a signed original
and eight (8) copies) or electronic comments that are submitted timely
to the IRS. The Treasury Department and IRS specifically request
comments on the clarity of the proposed rules and how they may be made
easier to understand. All comments will be available for public
inspection and copying.
A public hearing has been scheduled for November 17, 2004,
beginning at 10 a.m. in the Auditorium of the Internal Revenue
Building, 1111 Constitution Avenue, NW., Washington, DC. Due to
building security procedures, visitors must enter at the Constitution
Avenue entrance. All visitors must present photo identification to
enter the building. Because of access restrictions, visitors will not
be admitted beyond the immediate entrance area more than 30 minutes
before the hearing starts. For information about having your name
placed on the building access list to attend the hearing, see the FOR
FURTHER INFORMATION CONTACT section of this preamble.
The rules of 26 CFR 601.601(a)(3) apply to the hearing. Persons who
wish to present oral comments at the hearing must submit written or
electronic comments by November 23, 2004 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 October 27, 2004. A period of 10
minutes will be allotted to each person for making comments. An agenda
showing the schedule of 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 proposed regulations is Rebecca Asta
of the Office of Associate Chief Counsel (Financial Institutions and
Products). However, other personnel from the IRS and Treasury
Department participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 1 is proposed to be amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 continues to read in
part as follows:
Authority: 26 U.S.C. 7805 * * *
Par. 2. Section 1.1271-0 is amended by adding entries for Sec.
1.1275-2(l) and (m) to read as follows:
Sec. 1.1271-0 Original issue discount; effective date; table of
contents.
* * * * *
Sec. 1.1275-2 Special rules relating to debt instruments.
* * * * *
(l) [Reserved].
(m) Special rule for certain REMIC regular interests.
(1) Scope.
(2) General rules.
(3) Special rule for calculation of OID in final accrual period.
(4) Definition of record date.
(5) Accrual of qualified stated interest.
(6) Example.
(7) Treatment of REMIC regular interests if the record dates and
the payment dates are separated by more than thirty-one days.
(8) Effective date.
* * * * *
Par. 3. Section 1.1275-2 is amended by adding new paragraphs (l)
and (m) to read as follows:
Sec. 1.1275-2 Special rules relating to debt instruments.
* * * * *
(l) [Reserved].
(m) Special rules for certain REMIC regular interests--(1) Scope.
If the terms of a REMIC regular interest (as defined in section
860G(a)(1)) provide for a delay between its record dates and the
associated payment dates, the initial accrual period and final accrual
period for that regular interest are determined under this paragraph
(m). Except as provided in paragraph (m)(7) of this section, this
paragraph (m) does not apply to a REMIC regular interest if the record
dates and the payment dates are separated by more than thirty-one days.
(2) General rules--(i) Initial accrual period. The initial accrual
period for a REMIC regular interest subject to this paragraph (m)
begins on issuance of the REMIC regular interest.
(ii) Final accrual period. The final accrual period for a REMIC
regular interest subject to this paragraph (m) ends on the final record
date of the REMIC regular interest.
(3) Special rule for calculation of OID in final accrual period. In
applying section 1272(a)(6)(A) to calculate OID in the final accrual
period for a REMIC regular interest subject to this paragraph (m),
payments after the end of the final accrual period of amounts included
in the stated redemption price at maturity are treated as payments
during the final accrual period.
(4) Definition of record date. For purposes of this paragraph (m),
a record date of a REMIC regular interest is a date, provided by the
terms of the REMIC regular interest, on which the holder becomes
entitled to a payment (of interest or principal) that is to be made on
a subsequent payment date.
(5) Accrual of qualified stated interest. See Sec. 1.446-2 for the
accrual of qualified stated interest.
(6) Example. The following example illustrates the application of
this paragraph (m).
Example. REMIC X issues regular interests on January 1, 2009.
The terms of the regular interests provide for payments of interest
and principal to the persons who hold the regular interests on the
last day of the calendar month (the record date). Each such payment
is to be made on the fifteenth day of the succeeding calendar month
(the payment date). The last payment with respect to the regular
interests issued by REMIC X is to be made on January 15, 2014, to
persons who hold the regular interests on December 31, 2013. Under
this paragraph (m), the initial accrual period begins on the date of
issuance, January 1, 2009, and the last accrual period ends on the
last record date, December 31, 2013.
(7) Treatment of REMIC regular interests if the record dates and
the payment dates are separated by more than thirty-one days.
[Reserved]
(8) Effective date--(i) In general. This paragraph (m) applies to
REMIC regular interests issued after the date the final regulations are
published in the Federal Register.
(ii) Automatic consent to change method of accounting. Taxpayers
are hereby granted the Commissioner's consent under section 446(e) to
change their method of accounting for REMIC regular interests to which
this paragraph (m) applies if--
(A) The change involves changing accrual periods to accrual periods
allowed by this paragraph (m);
(B) The change is made for the first taxable year of the taxpayer
during which the taxpayer holds a REMIC regular interest to which the
rules of this paragraph (m) apply; and
(C) The change in method of accounting is effected on a cut-off
basis.
Deborah M. Nolan,
Acting Deputy Commissioner for Services and Enforcement.
[FR Doc. 04-19479 Filed 8-24-04; 8:45 am]
BILLING CODE 4830-01-P