Regs on Treatment of Stripped Bonds and Coupons

 [4830-01]

 ACTION: Temporary regulations.

 SUMMARY: This document contains temporary income tax regulations that apply to taxpayers holding stripped bonds and stripped coupons under section 1286 of the Internal Revenue Code. The regulations are needed to provide guidance on the treatment of original issue discount (OID) that arises under Code section 1286(a). This guidance is intended to simplify the tax treatment of certain stripped bonds and stripped coupons. The text of the temporary regulations contained in this document also serves as the text of the proposed regulations cross-referenced in the notice of proposed rulemaking in the proposed rules section of this issue of the Federal Register.

 EFFECTIVE DATE: These regulations are effective on and after August 8, 1991.

 FOR FURTHER INFORMATION CONTACT: Mark S. Smith, telephone 202-566-3297 (not a toll-free number].

SUPPLEMENTARY INFORMATION:

BACKGROUND

Code section 1286(a) provides that a stripped bond or stripped coupon purchased after July 1, 1982, is treated by the purchaser as a bond originally issued on the purchase date and having OID equal to the excess of (1) the stated redemption price at maturity (or, in the case of a coupon, the amount payable on the due date of the coupon), over (2) the bond's or coupon's ratable share of the purchase price. Code section 1273(a)(3) provides that if a debt instrument has only a de minimis amount of OID, then the OID shall be treated as zero. However, the statute does not specifically apply this de minimis rule to stripped bonds and stripped coupons that have OID pursuant to section 1286(a). The regulations make it clear that the de minimis rule applies to stripped bonds and stripped coupons.

 Additional simplified treatment of stripped bonds also may be appropriate in some situations. For example, mortgage loans become stripped bonds when they are sold if the seller retains a right to receive mortgage interest other than as compensation for servicing the mortgages. See Rev. Rul. 91-46, 1991-34 I.R.B. (August 26, 1991). The regulations authorize the Internal Revenue Service to publish guidance in the Internal Revenue Bulletin treating certain stripped bonds as market discount bonds under section 1278, provided that certain criteria are met.

EXPLANATION OF PROVISIONS

 The regulations contained in this document add new section 1.1286-1T. Paragraph (a) of new section 1.1286-1T provides that if the OID determined under section 1286(a) with respect to the purchase of a stripped bond or stripped coupon is less than the amount computed under the OID de minimis rule of section 1273(a)(3), then the amount of OID is considered to be zero. Special definitions are provided for applying section 1273(a)(3) to stripped bonds and stripped coupons.

 Paragraph (b) of new section 1.1286-1T provides that the Internal Revenue Service, by publication in the Internal Revenue Bulletin, may provide that certain mortgage loans that are stripped bonds are to be treated as market discount bonds under section 1278. This authority is subject to a limitation provided by new paragraph (b)(2).

 The temporary regulations add by this document are effective on and after August 8, 1991.

SPECIAL ANALYSES

 It has been determined that these rules are not major rules as defined in Executive Order 12291. Therefore, a Regulatory Impact Analysis is not required. It has also been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) and the Regulatory Flexibility Act (5 U.S.C. chapter 6) do not apply to these regulations, and, therefore, a final Regulatory Flexibility Analysis is not required. Pursuant to section 7805(f) of the Internal Revenue Code, the notice of proposed rulemaking for the regulations will be submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on their impact on small business.

NEED FOR IMMEDIATE GUIDANCE

 There is a need for immediate guidance with respect to the provisions contained in this Treasury decision. It is therefore found impractical and contrary to the public interest to issue this Treasury decision with notice and procedure under section 553(b) of title 5, United States Code, or subject to the effective date limitation of section 553(d) of title 5, United States Code.

DRAFTING INFORMATION

 The principal author of these temporary regulations is Mark S. Smith, Office of the Assistant Chief Counsel (Financial Institutions and Products), Internal Revenue Service. However, personnel from other offices of the IRS and Treasury Department participated in their development.

LIST OF SUBJECTS IN 26 CFR 1.1231-1 THROUGH 1.1297-3

 Income taxes, Capital gain and losses, Original issue discount, Applicable Federal rate, Market discount, Short-term obligations, Stripped bonds and stripped coupons, Tax-exempt obligations.

Treasury Decision 8358

AMENDMENT TO THE REGULATIONS

Accordingly, title 26, chapter 1, part 1 of the Code of Federal Regulations is amended as follows:

PART 1 -- INCOME TAX; TAXABLE YEARS BEGINNING AFTER DECEMBER 31, 1953

Paragraph 1. The authority citation for part 1 is amended by adding the following citation:

Authority: 26 U.S.C. 7805 * * * section 1.1286-1T also issued under 26 U.S.C. 1275(d) and 1286(f).

Par. 2. New section 1.1286-1T is added to read as follows:

SECTION 1.1286-1T TAX TREATMENT OF CERTAIN STRIPPED BONDS AND STRIPPED COUPONS.

(a) DE MINIMIS OID. If the original issue discount determined under section 1286(a) with respect to the purchase of a stripped bond or stripped coupon is less than the amount computed under subparagraphs (A) and (B) of section 1273(a)(3) and the regulations thereunder, then the amount of original issue discount with respect to that purchase shall be considered to be zero. For purposes of this computation --

(1) The term "stated redemption price at maturity," when applied to a bond, has the meaning given to this term by section 1273(a)(2) and, when applied to a coupon, means the amount payable on the due date of the coupon; and

(2) The number of complete years to maturity is the number of full years from the date the stripped bond or stripped coupon is purchased to final maturity.

(b) TREATMENT OF CERTAIN STRIPPED BONDS AS MARKET DISCOUNT BONDS -- (1) IN GENERAL. By publication in the Internal Revenue Bulletin, the Internal Revenue Service may (subject to the limitation of paragraph (b)(2) of this section) provide that certain mortgage loans that are stripped bonds are to be treated as market discount bonds under section 1278. Thus, any purchaser of such a bond is to account for any discount on the bond as market discount rather than original issue discount.

(2) LIMITATION. This treatment may be provided for a stripped bond only if, immediately after the most recent disposition referred to in section 1286(b) --

(i) The amount of original issue discount with respect to the stripped bond is considered to be zero under paragraph (a) of this section, or

(ii) The annual stated rate of interest payable on the stripped bond is no more than 100 basis points lower than the annual stated rate of interest payable on the original bond from which it and any other stripped bond or bonds and any stripped coupon or coupons were stripped.

(c) Effective date. This regulation is effective on and after August 8, 1991.