OID Antiabuse Rule

 [4830-01-u]

 ACTION: Temporary regulations.

 SUMMARY: This document contains a temporary regulation that adds an anti-abuse rule to the final regulations relating to the tax treatment of debt instruments with original issue discount. The rule allows the Commissioner of Internal Revenue, in certain circumstances, to apply or depart from the final regulations in a manner that ensures a reasonable result in light of the purposes of the statutes governing original issue discount. The text of this temporary regulation also serves as the text of the proposed regulation set forth in the notice of proposed rulemaking on this subject in the Proposed Rules section of this issue of the Federal Register.

 DATES: This temporary regulation is effective April 3, 1994.

 This temporary regulation applies to debt instruments issued on or after April 3, 1994, and to lending transactions, sales, and exchanges that occur on or after April 3, 1994.

 FOR FURTHER INFORMATION CONTACT: Andrew C. Kittler at (202) 622-3940 or William E. Blanchard at (202) 622-3950 (not toll-free calls)

SUPPLEMENTARY INFORMATION:

BACKGROUND

Elsewhere in this issue of the Federal Register, the IRS published final regulations relating to original issue discount (OID) and other related matters under sections 163(e), 446, 483, 1001, 1012, and sections 1271 through 1275 of the Internal Revenue Code. In general, the regulations finalize the proposed regulations that were published in the Federal Register on December 22, 1992 (57 FR 60750).

EXPLANATION OF PROVISION.

 The final regulations provide rules for the computation of OID and other related matters. In many cases, the final regulations provide bright-line or mechanical rules to simplify computations and to permit flexibility in structuring debt instruments.

 The Service and Treasury believe that the rules in the final regulations work appropriately in most situations. Nonetheless, it may be possible to structure debt instruments or transactions, or to apply the bright-line or mechanical rules of the regulations, in a way that produces an unreasonable result. The purpose of the temporary regulation is to allow the Commissioner to apply or depart from the final regulations where necessary or appropriate to ensure that the tax result is reasonable in light of the purposes of the applicable statutes.

 Under the temporary regulation, if a principal purpose in structuring a debt instrument, engaging in a transaction, or applying the final regulations is to achieve a result that is unreasonable in light of the purposes of the applicable statutes, then the Commissioner can apply or depart from the regulations as necessary or appropriate to achieve a reasonable result. A result will not be considered unreasonable, however, in the absence of a substantial effect on the present value of a taxpayer's tax liability.

SPECIAL ANALYSES

 It has been determined that this Treasury decision is not a significant regulatory action as defined in Executive Order 12866. 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 this regulation, and, therefore, a Regulatory Flexibility Analysis is not required. Pursuant to section 7805(f) of the Internal Revenue Code, this temporary regulation will be submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on its impact on small business.

LIST OF SUBJECTS IN 26 CFR PART 1

 Income taxes, Reporting and recordkeeping requirements.

ADOPTION OF 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 an entry in numerical order to read as follows:

Authority: 26 U.S.C. 7805 * * *

Section 1.1275-2T also issued under 26 U.S.C. 1275(d).

Par. 2. Section 1.1275-2T is added to read as follows:

SECTION 1.1275-2T SPECIAL RULES RELATING TO DEBT INSTRUMENTS (TEMPORARY).

(a) through (f) [Reserved]

(g) ANTI-ABUSE RULE -- (1) IN GENERAL. If a principal purpose in structuring a debt instrument, engaging in a transaction, or applying the regulations under section 163(e) or sections 1271 through 1275 is to achieve a result that is unreasonable in light of the purposes of the applicable statutes, then the Commissioner can apply or depart from the regulations as necessary or appropriate to achieve a reasonable result. Whether a result is unreasonable is determined based on all the facts and circumstances. A result will not be considered unreasonable, however, in the absence of a substantial effect on the present value of a taxpayer's tax liability. For example, if a principal purpose of including an early call option that is not expected to be exercised by the issuer in the terms of a current-pay, increasing-rate note is to protect the holder from taxable income in excess of the interest payments by virtue of the option rules of section 1.1272-1(c)(5), and if the effect would be to substantially reduce the present value of a holder's tax liability arising from the note, the Commissioner can apply the regulations (in whole or in part) without regard to the rules of section 1.1272-1(c)(5). On the other hand, it generally would be reasonable for a corporation to issue convertible bonds, rather than investment units consisting of bonds and warrants, to reduce or eliminate the amount of taxable OID on the bonds. See section 1.1272-1(e).

(2) EFFECTIVE DATE. Paragraph (g) of this section applies to debt instruments issued on or after [INSERT DATE THAT IS 60 DAYS AFTER PUBLICATION OF THIS DOCUMENT IN THE FEDERAL REGISTER (February 2, 1994)], and to lending transactions, sales, and exchanges that occur on or after [INSERT DATE THAT IS 60 DAYS AFTER PUBLICATION OF THIS DOCUMENT IN THE FEDERAL REGISTER (February 2, 1994)].