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Firm Requests Clarification of Proposed Regs on Consolidated NOLs

AUG. 7, 2020

Firm Requests Clarification of Proposed Regs on Consolidated NOLs

DATED AUG. 7, 2020
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August 7, 2020

Secretary of the Treasury
c/o Internal Revenue Service
1111 Constitution Avenue, N.W.
Washington, DC 20224

Re: Comments on REG-125716-18

Dear Mr. Secretary:

These comments are filed with respect to the Notice of Proposed Rulemaking (REG-125716-18) (Consolidated Net Operating Losses) published in the Federal Register on July 8, 2020. The proposed regulations provide guidance relating to the treatment of consolidated net operating losses (CNOLs) and propose updates to regulations applicable to consolidated groups that include both life insurance companies and other companies under Treas. Reg. § 1.1502-47. These comments are submitted on behalf of a group of property/casualty (P/C) insurance companies that file consolidated federal income tax returns with non-insurance companies.

Prop. Reg. § 1.1502-21 Net Operating Losses

We commend the Treasury and the IRS on Prop. Reg. § 1.1502-21 and believe it implements the amendments to I.R.C. § 172 by the Tax Cuts and Jobs Act for consolidated groups in a reasonable manner consistent with the statute and consolidated return principles. Specifically, we support the two-factor computation and two-pools approach to determine the amount of the 80-percent limitation on taxable income that can be offset by CNOLs. In addition, we support the use of the prorata approach under Treas. Reg. § 1.1502-21 to determine the amount of P/C insurance company losses that can be carried over to other years. We believe that reliance on the prorata method for CNOL carrybacks is more consistent with the treatment of CNOLs as consolidated items and with the current CNOL use and absorption rules in Treas. Reg. § 1.1502-21 than the alternative approach described in the Preamble. A departure from the general prorata rules of Treas. Reg. § 1.1502-21 under the alternative approach could result in computational and compliance complications in circumstances that may be difficult to anticipate.

Although we agree with the proposed regulations, we recommend several clarifications.

  • It would be useful to clarify that consolidated capital gain net income under Treas. Reg. § 1.1502-11(a)(3) is allocated to the residual income pool and the nonlife income pool using a prorata method similar to the method used in Prop. Reg. § 1.1502-21 for the use and absorption of CNOLs. This comment relates to consolidated groups that include P/C insurance companies, whether or not they also include life insurance companies.

  • With respect to groups which include life insurance companies as well as P/C insurance companies, we recommend that the amounts of the residual income pool and the nonlife income pool in Prop. Reg. § 1.1502-21(a)(2)(iii)(C)(2) and (3) be clarified to refer only to the items of income, gain, deduction, or loss of members of the nonlife subgroup. Care should be taken in making this clarification, however, not to prevent nonlife CNOLs from offsetting life subgroup income where permitted by the Code and Treas. Reg. § 1.1502-47. This appears to be the intent of the cross-reference to Treas. Reg. § 1.1502-47 in Prop. Reg. § 1.1502-21(b)(2)(iv)(E) but clarification would be useful.

  • Clarification is needed as to how much taxable income in each pool is absorbed by a CNOL carryover where each pool has positive taxable income. See Example 6 in Prop. Reg. § 1.1502-21(b)(2)(v)(F). This absorption rule is needed to determine how much residual income pool taxable income subject to the 80-percent limitation can be offset by subsequent CNOL carryovers to the same year. We recommend that the taxable income absorption should be determined using a prorata method with the denominator of the fraction equal to the group's potential CNOL deduction limit. In Example 6 this would be $41. The denominator of the fraction should not include the 20-percent of the taxable income of the residual income pool that is not available to be offset by a CNOL.

Prop. Reg. § 1.1502-47 Life/Nonlife Consolidation

We also commend the Treasury and the IRS in the desire to update the life/nonlife consolidated return regulations. As noted in the Preamble, current Treas. Reg. § 1.1502-47 is outdated. Limitations on the use of losses in the current life/nonlife consolidated return regulations were adopted to implement statutory provisions and tax policy goals that have since been repealed or amended. In recognition of this, we understand that a project has been initiated to propose substantive changes to Treas. Reg. § 1.1502-47. We urge the Treasury and the IRS to give priority to this effort. The objective should be to eliminate from the current regulations any provisions that depart from general consolidated return principles in life/nonlife consolidation and retain only those non-conforming provisions when necessary to implement specific provisions of the Code.

In light of that objective, we recommend that the provisions of Prop. Reg. § 1.1502-47 that perpetuate aspects of current Treas. Reg. § 1.1502-47 that are not required by specific Code sections be withdrawn. The treatment of consolidated capital gains and losses gives us particular concern.

Under Treas. Reg. § 1.1502-22, capital gains and losses are consolidated items. Although Treas. Reg. § 1.1502-47 currently requires a subgroup approach to consolidated capital gains/losses with separate carryover rules, there is no longer anything in the statute (I.R.C. §1503) that suggests a subgroup approach is needed for capital gains/losses (other than the requirement to carry back nonlife ordinary losses before they can offset life company taxable income). The pre-1984 Act three-phase system of taxation that was a major impetus for the special capital gain rules in Treas. Reg. § 1.1502-47 no longer exists. And, the current subgroup approach conflicts with overall consolidated income principles. Accordingly, to simplify the regulations, we recommend that Treas. Reg. § 1.1502-47 be revised to apply the normal consolidated return rules for offsets of capital losses against capital gains and cross-subgroup offsets of capital loss carrybacks. Because Prop. Reg. § 1.1502-47(a)(2) and related provisions would retain the current subgroup treatment of capital gains and losses, these provisions in the proposed regulations should be withdrawn and reproposed to implement an approach more consistent with consolidated principles applicable to other corporate taxpayers.

Sincerely,

Peter H. Winslow
Lori J. Jones
Scribner, Hall & Thompson, LLLP
Washington, DC

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