Recharacterizing Financing Arrangements
Involving Fast-pay Stock

DEPARTMENT OF THE TREASURY
Internal Revenue Service 26 CFR Parts 1 and 602 [TD 8853] RIN 1545-
AV07

TITLE: Recharacterizing Financing Arrangements Involving Fast-pay
Stock

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

SUMMARY: This document contains final regulations that
recharacterize, for tax purposes, financing arrangements involving
fast-pay stock. The regulations are necessary to prevent taxpayers
from using fast-pay stock to achieve inappropriate tax avoidance.
The regulations affect corporations that issue fast-pay stock,
holders of fast-pay stock, and other shareholders that may claim tax
benefits purported to result from arrangements involving fast-pay
stock.

DATES: Effective Date: February 27, 1997.

Applicability Dates: For dates of applicability, see �� 1.1441-10(e)
and 1.7701(l)-3(g) of these regulations.

FOR FURTHER INFORMATION CONTACT: Jonathan Zelnik, (202) 622-3920
(not a toll-free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

The collection of information contained in these final regulations
has been reviewed and approved by the Office of Management and
Budget in accordance with the Paperwork Reduction Act of 1995 (44
U.S.C. 3507(d)) under control number 1545-1642.

Responses to this collection of information are mandatory.

An agency may not conduct or sponsor, and a person is not required
to respond to, a collection of information unless the collection of
information displays a valid control number.

The estimated average annual burden hours per
respondent/recordkeeper: 1 hour.

Comments concerning the accuracy of this burden estimate and
suggestions for reducing this burden should be sent to the Internal
Revenue Service, Attn: IRS Reports Clearance Officer, OP:FS:FP,
Washington, DC 20224, and to the Office of Management and Budget,
Attn: Desk Officer for the Department of the Treasury, Office of
Information and Regulatory Affairs, Washington, DC 20503.

Books or records relating to a collection of information must be
retained as long as their contents may become material in the
administration of any internal revenue law. Generally, tax returns
and tax information are confidential, as required by 26 U.S.C. 6103.

Background

On February 27, 1997, the IRS issued Notice 97-21, 1997-1 C.B. 407,
which relates to financing arrangements involving fast-pay stock.
Among other things, the notice informed the public that the IRS and
Treasury Department expected to issue regulations recharacterizing
these arrangements to prevent tax avoidance. No comments were
received in response to Notice 97-21.

On January 6, 1999, the IRS published in the Federal Register a
notice of proposed rulemaking (64 FR 805) providing rules for the
recharacterization of certain fast-pay arrangements under section
7701(l) of the Internal Revenue Code. Because no one requested to
speak at the public hearing, the hearing was canceled. Four written
comments responding to the notice of proposed rulemaking were
received. The comments addressed neither (1) the accuracy of the
estimate of the collection of information burden nor (2) the
accuracy of the IRS's understanding that the total number of
entities engaging in transactions affected by these regulations is
not substantial and most are not small entities within the meaning
of the Regulatory Flexibility Act (5 U.S.C. chapter 6). After
considering the comments, the proposed regulations are adopted as
final regulations with some changes.

The preamble to the proposed regulations (64 FR 805) provides a
detailed discussion of fast-pay arrangements and the proposed
regulations.

SUMMARY OF COMMENTS AND CHANGES

In General

Two commentators were generally favorable to the proposed
regulations. One considered them a reasonable attempt to address
abusive transactions. The other viewed them as consistent with
section 7701(l), but preferred, as a matter of tax policy, a
legislative solution. One of these commentators also recommended
narrowing the scope of the proposed regulations, asserting they
might penalize shareholders who do not benefit from the fast-pay
arrangement. Significantly, neither of these commentators
recommended that the final regulations adopt a different approach,
such as the one taken in Notice 97-21.

A third commentator criticized the proposed regulations as
inconsistent with section 7701(l). This commentator viewed them as
addressing not a conduit financing issue, but a tax accounting
issue, namely, that the amount of dividend income under tax
principles can exceed the economic income from the stock.

Additionally, this commentator believed that regulations under
section 7701(l) cannot operate if there is no back-to-back structure
or if the corporation subject to recharacterization holds bona fide
assets such as third-party debt. Finally, the commentator questioned
whether the grant of regulatory authority under section 7701(l)
permits recharacterizing transactions subject to other,
comprehensive statutory rules such as the rules governing the
transactions of RICs and REITs.

The IRS and Treasury Department have concluded that section 7701(l)
authorizes recharacterization of any multiple-party financing
transaction, including a fast-pay arrangement. The IRS and Treasury
Department have also concluded (as did the other two commentators)
that recharacterizing a fast-pay arrangement as an arrangement
directly between the fast-pay shareholders and the benefited
shareholders is consistent with the legislative mandate of section
7701(l). Thus, the final regulations retain the approach of the
proposed regulations while making some changes to address other
comments.

Definition of Fast-pay Stock

Under the proposed regulations, stock is fast-pay stock if it is
structured so that dividends (as defined in section 316) paid by the
corporation with respect to the stock are economically (in whole or
in part) a return of the holder's investment (as opposed to only a
return on the holder's investment). To determine if it is fast-pay
stock, stock is examined when issued, and, for stock that is not
fast-pay stock when issued, when there is a significant modification
in the terms of the stock or the related agreements or a significant
change in the relevant facts and circumstances.

Two commentators expressed concern about the interaction of section
302 with the definition of fast-pay stock and the duty to retest
stock. In particular, the commentators asked whether stock that is
not fast-pay stock when issued can become fast-pay stock solely
because a redemption of the stock is treated as a dividend under
section 302. This conversion is possible because section 302 treats
certain redemptions as distributions of property to which section
301 applies rather than as distributions in exchange for stock.

The commentators gave different reasons why stock should not become
fast-pay stock solely because a redemption is treated as a dividend.
One reason was that section 302 and the provisions referring to it
(for example, section 1059(e)) already recharacterize certain
redemptions of stock, which indicates Congress has determined the
appropriate tax treatment of these transactions. Another reason was
that applying the fast-pay regulations to arrangements involving
redemptions may have a chilling effect on common, non-abusive
transactions. Finally, it was suggested that any changes affecting
the application of section 302 should be accomplished by issuing new
regulations under that statute.

The IRS and Treasury Department agree it is inappropriate to treat
as a fast-pay arrangement every arrangement in which a redemption of
stock produces dividend income under section 302.

The IRS and Treasury Department, however, conclude that eliminating
all such arrangements from the scope of the regulations would render
the regulations meaningless. Little difference exists between a
fast-pay arrangement resulting from redemptions structured to be
dividends and a fast-pay arrangement resulting from dividends
structured to be a return of the holder's investment.

To balance the concerns of the commentators and the concerns of the
IRS and Treasury Department, the final regulations add a new rule
clarifying the effect of section 302 on the determination of whether
stock is fast-pay stock. Under this rule, stock is not fast-pay
stock solely because a redemption is treated as a dividend by
section 302 unless there is a principal purpose of achieving the
same economic and tax effect as a fast-pay arrangement. In this way,
only those arrangements in which redemptions are designed to return
a shareholder's economic investment as dividends are
recharacterized. Because the problem of stock redemptions may be
common to many different fast-pay arrangements, regardless of how
they are structured, the rule addressing such problem is placed
within the regulations under section 7701(l) rather than under a
different section.

Characterization of the Financing Instruments Under the proposed
regulations, the fast-pay shareholders are treated as holding
financing instruments issued by the benefited shareholders rather
than as holding the fast-pay stock.

The character of financing instruments (for example, stock or debt)
is determined under general tax principles and depends on all the
facts and circumstances.

All three commentators were concerned by the failure of the proposed
regulations to classify the financing instruments as debt. If the
financing instruments are classified as stock, the benefited
shareholders are subject to substantially greater tax liabilities:
they must include in income all dividends paid by the corporation
that issues the fast-pay stock, but cannot deduct amounts deemed
paid with respect to the financing instruments.

According to the commentators, this result distorts the benefited
shareholders' economic income. Therefore, the regulations should
classify the financing instruments as debt in all cases.

After careful consideration of the comments, the IRS and Treasury
Department have decided against characterizing the financing
instruments in the final regulations. Although debt characterization
may be appropriate in some cases, in other cases it will be more
appropriate to characterize the financing instruments as equity or
something else. Thus, the rule in the proposed regulations is
retained. (As explained below, however, the final regulations permit
taxpayers, for a limited period, to determine their taxable income
attributable to a recharacterized fast-pay arrangement by treating
the financing instruments as debt.)

Election to Limit Taxable Income Attributable to a Recharacterized
Fast-pay Arrangement for Periods Before April 1, 2000 Because the
regulations are effective February 27, 1997 (the date Notice 97-21
was issued to the public), the proposed regulations permit a
shareholder of a recharacterized fast-pay arrangement to limit, for
certain taxable years, its income from the arrangement.
Specifically, a shareholder may limit its taxable income
attributable to a recharacterized fast-pay arrangement to the
taxable income that results if the fast-pay arrangement is
recharacterized under Notice 97-21. This limit is available under
the proposed regulations for taxable years ending after the
effective date of the regulations and before the regulations are
finalized. Any amount excluded under this limit must be included as
an adjustment to taxable income in the shareholder's first taxable
year that includes the date the regulations are finalized. Thus, the
sole benefit of limiting taxable income under the proposed
regulations is a timing benefit. The preamble to the proposed
regulations found this appropriate on the assumption that over the
life of a fast-pay arrangement a shareholder has the same amount of
taxable income whether the fast-pay arrangement is recharacterized
under Notice 97-21 or under the regulations.

One commentator criticized this assumption, and, therefore, the
limit and later adjustment. In particular, the commentator pointed
out that if the financing instruments are treated as equity under
the regulations, a benefited shareholder would have had less taxable
income over the life of the fast-pay arrangement under the
recharacterization of Notice 97-21 (that is, a shareholder would
have a permanent reduction to taxable income).

Thus, the limit is without any substantive effect because any non-
timing reduction in taxable income due to the limit is included in
the year the regulations are finalized. To rectify this problem, the
commentator asked that, if the final regulations do not classify the
financing instruments as debt in all cases, they should at least
classify the financing instruments as debt for the period starting
after the effective date of the final regulations and ending before
the final regulations are published.

To address these concerns, the final regulations adopt a different
rule from the one in the proposed regulations. As with the proposed
regulations, a shareholder may limit its taxable income to either
the amount determined under Notice 97-21 or the amount determined
under the regulations. For purposes of this limit, a shareholder may
assume the financing instruments are debt under the final
regulations. A shareholder may also make this assumption to
determine the amount of any later adjustment to income because of
the limit. Thus, the later adjustment will not include any permanent
reduction to taxable income a shareholder realizes by limiting its
taxable income to the amount determined under Notice 97-21.

The final regulations also adopt a longer period during which
shareholders may limit their taxable income. Under the proposed
regulation, a shareholder may limit its taxable income for taxable
years ending after February 26, 1997, and before the date these
regulations are published as final regulations in the Federal
Register. The final regulations permit a shareholder to limit its
taxable income for all periods before April 1, 2000.

Thus, for all taxable years ending after February 26, 1997 and
before April 1, 2000, and for that part of a shareholder's taxable
year before April 1, 2000, a shareholder may limit its taxable
income attributable to the fast-pay arrangement.

In permitting shareholders to determine their taxable income under
the regulations by assuming that the financing instruments are debt
for periods before April 1, 2000, the IRS and Treasury Department
intend no implication regarding the proper characterization of the
financing instruments under general tax principles. Rather, the rule
regarding the financing instruments is intended solely for the
purpose of giving shareholders the benefit of the recharacterization
described in Notice 97-21 for periods before April 1, 2000.

Use of Derivatives to Avoid the Regulations One commentator
recommended adding an explicit rule to prevent parties from using
derivative contracts to create a fast-pay arrangement that escapes
either the regulations or the effect of the recharacterization
rules. To illustrate this point, the commentator posited a
simplified transaction in which a corporation issues fast-pay stock
to one tax-exempt entity and benefited stock to another tax-exempt
entity. The tax-exempt entity holding the benefited stock enters
into a prepaid forward contract with a taxable person. Under the
prepaid forward contract, the taxable person must buy the benefited
stock in the future for an amount substantially below its expected
value.

According to the commentator, unless the taxable person is treated
as owning the benefited stock, the parties have created a fast-pay
arrangement in which the recharacterization of the regulations fails
to prevent tax avoidance. Without making a recommendation, the
commentator offered a number of rules to correct this situation.
(The commentator did not discuss whether the benefited holder would
be subject to the A debt-financing @ rules in section 514).

The IRS and Treasury Department have concluded that there is no
present need to modify the regulations to address this problem.
First, the tax treatment of derivatives in general is outside of the
scope of these regulations. Therefore, a rule specific to these
regulations would only increase the complexity regarding the tax
treatment of derivatives. Second, and more importantly, the IRS and
Treasury Department have concluded that under existing law the party
entitled to purchase the benefited stock under a prepaid forward
contract such as the one described above is the owner of the
benefited stock for federal income tax purposes. See Rev. Rul.
82-150, 1982-2 C.B. 110 (concluding that the holder of a deep-in-
the-money option is the owner of the reference property). Finally,
the regulations state they are to be interpreted in a manner
consistent with preventing the avoidance of tax. Mechanically
applying the regulations in a manner that does not prevent tax
avoidance is clearly inconsistent with the purpose of the
regulations and the Congressional mandate of section 7701(l).

Fast-pay Arrangement Defined The proposed regulations define a fast-
pay arrangement as any arrangement in which a corporation has
outstanding for any part of its taxable year two or more classes of
stock, at least one of which is fast-pay stock. Some taxpayers
assert that the regulations can be avoided by creating a fast-pay
arrangement in which a corporation issues what is nominally a single
class of shares, notwithstanding that some of the shares are subject
to a related agreement. These taxpayers apparently rely on the
formal meaning of A class @ under state corporate law and ignore the
direction in the proposed regulations to determine whether stock is
fast-pay stock based on all the facts and circumstances. To remove
any doubt that the regulations cover fast-pay arrangements no matter
how contrived, the IRS and Treasury Department have simplified the
definition of A fast-pay arrangement @ in the final regulations.
Under this definition, a fast-pay arrangement is any arrangement in
which a corporation has fast-pay stock outstanding for any part of
its taxable year.

The regulations illustrate this point with an example.

Effective Date

These regulations apply to taxable years ending after

February 26, 1997.

Special Analyses

It has been determined that this Treasury decision is not a
significant regulatory action as defined in Executive Order 12866.
Therefore, a regulatory assessment is not required. It is hereby
certified that these regulations will not have a significant
economic impact on a substantial number of small entities. This
certification is based on the understanding of the IRS and Treasury
Department that the total number of fast-pay arrangements is fewer
than 100, that the number of entities engaging in transactions
affected by these regulations is not substantial and, of those
entities, few or none are small entities within the meaning of the
Regulatory Flexibility Act (5 U.S.C. chapter 6). Therefore, a
Regulatory Flexibility Analysis is not required. Pursuant to section
7805(f) of the Internal Revenue Code, the notice of proposed
rulemaking preceding these regulations was submitted to the Chief
Counsel for Advocacy of the Small Business Administration for
comments on its impact on small businesses.

Drafting Information

The principal authors of these regulations are Jonathan Zelnik and
Marshall Feiring of the Office of the Assistant Chief Counsel
(Financial Institutions & Products). However, other personnel from
the IRS and Treasury Department participated in their development.

List of Subjects

26 CFR Part 1 Income taxes, Reporting and recordkeeping
requirements.

26 CFR Part 602 Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations Accordingly, 26 CFR parts
1 and 602 are 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 in part as follows: Authority:
26 U.S.C. 7805 * * * Section 1.7701(l)-3 also issued under 26 U.S.C.
7701(l).

* * *

Par. 2. Section 1.1441-10, is added to read as follows: �1.1441-10
Withholding agents with respect to fast-pay arrangements.

(a) In general. A corporation that issues fast-pay stock in a fast-
pay arrangement described in �1.7701(l)-3(b)(1) is a withholding
agent with respect to payments made on the fast-pay stock and
payments deemed made under the recharacterization rules of
�1.7701(l)-3. Except as provided in this paragraph (a) or in
paragraph (b) of this section, the withholding tax rules under
section 1441 and section 1442 apply with respect to a fast-pay
arrangement described in �1.7701(l)-3(c)(1)(i) in accordance with
the recharacterization rules provided in �1.7701(l)-3(c). In all
cases, notwithstanding paragraph (b) of this section, if at any time
the withholding agent knows or has reason to know that the
Commissioner has exercised the discretion under either
�1.7701(l)-3(c)(1)(ii) to apply the recharacterization rules of
�1.7701(l)-3(c), or �1.7701(l)-3(d) to depart from the
recharacterization rules of �1.7701(l)-3(c) for a taxpayer, the
withholding agent must withhold on payments made (or deemed made) to
that taxpayer in accordance with the characterization of the fast-
pay arrangement imposed by the Commissioner under �1.7701(l)-3.

(b) Exception. If at any time the withholding agent knows or has
reason to know that any taxpayer entered into a fast-pay arrangement
with a principal purpose of applying the recharacterization rules of
�1.7701(l)-3(c) to avoid tax under section 871(a) or section 881,
then for each payment made or deemed made to such taxpayer under the
arrangement, the withholding agent must withhold, under section 1441
or section 1442, the higher of--

(1) The amount of withholding that would apply to such payment
determined under the form of the arrangement; or

(2) The amount of withholding that would apply to deemed payments
determined under the recharacterization rules of �1.7701(l)-3(c).

(c) Liability. Any person required to deduct and withhold tax under
this section is made liable for that tax by section 1461, and is
also liable for applicable penalties and interest for failing to
comply with section 1461.

(d) Examples. The following examples illustrate the rules of this
section: Example 1. REIT W issues shares of fast-pay stock to
foreign individual A, a resident of Country C. United States source
dividends paid to residents of C are subject to a 30 percent
withholding tax. W issues all shares of benefited stock to foreign
individuals who are residents of Country D. D's income tax
convention with the United States reduces the United States
withholding tax on dividends to 15 percent. Under �1.7701(l)-3(c),
the dividends paid by W to A are deemed to be paid by W to the
benefited shareholders. W has reason to know that A entered into the
fast-pay arrangement with a principal purpose of using the
recharacterization rules of �1.7701(l)-3(c) to reduce United States
withholding tax. W must withhold at the 30 percent rate because the
amount of withholding that applies to the payments determined under
the form of the arrangement is higher than the amount of withholding
that applies to the payments determined under �1.7701(l)-3(c).

Example 2. The facts are the same as in Example 1 of this paragraph
(d) except that W does not know, or have reason to know, that A
entered into the arrangement with a principal purpose of using the
recharacterization rules of �1.7701(l)-3(c) to reduce United States
withholding tax. Further, the Commissioner has not exercised the
discretion under �1.7701(l)-3( d) to depart from the
recharacterization rules of �1.7701(l)-3( c). Accordingly, W must
withhold tax at a 15 percent rate on the dividends deemed paid to
the benefited shareholders.

(e) Effective date. This section applies to payments made (or deemed
made) on or after January 6, 1999. Par. 3. Section 1.7701(l)-0 is
added to read as follows: �1.7701(l)-0 Table of contents.

This section lists captions that appear in ��1.7701(l)-1 and
1.7701(l)-3:

�1.7701(l)-1 Conduit financing arrangements.

�1.7701(l)-3 Recharacterizing financing arrangements involving fast-
pay stock.

(a) Purpose and scope.

(b) Definitions.

(1) Fast-pay arrangement.

(2) Fast-pay stock.

(i) Defined.

(ii) Determination.

(3) Benefited stock.

(c) Recharacterization of certain fast-pay arrangements.

(1) Scope.

(2) Recharacterization.

(i) Relationship between benefited shareholders and fast-pay
shareholders.

(ii) Relationship between benefited shareholders and corporation.

(iii) Relationship between fast-pay shareholders and corporation.

(3) Other rules.

(i) Character of the financing instruments.

(ii) Multiple types of benefited stock.

(iii) Transactions affecting benefited stock.

(A) Sale of benefited stock.

(B) Transactions other than sales.

(iv) Adjustment to basis for amounts accrued or paid in taxable
years ending before February 27, 1997.

(d) Prohibition against affirmative use of recharacterization by
taxpayers.

(e) Examples.

(f) Reporting requirement.

(1) Filing requirements.

(i) In general.

(ii) Controlled foreign corporation.

(iii) Foreign personal holding company.

(iv) Passive foreign investment company.

(2) Statement.

(g) Effective date.

(1) In general.

(2) Election to limit taxable income attributable to a
recharacterized fast-pay arrangement for periods before April 1,
2000.

(i) Limit.

(ii) Adjustment and statement. (iii) Examples.

(3) Rule to comply with this section.

(4) Reporting requirements.

Par. 4. Section 1.7701(l)-3 is added to read as follows:
�1.7701(l)-3 Recharacterizing financing arrangements involving fast-
pay stock.

(a) Purpose and scope. This section is intended to prevent the
avoidance of tax by persons participating in fast-pay arrangements
(as defined in paragraph (b)(1) of this section) and should be
interpreted in a manner consistent with this purpose.

This section applies to all fast-pay arrangements. Paragraph (c) of
this section recharacterizes certain fast-pay arrangements to ensure
the participants are taxed in a manner reflecting the economic
substance of the arrangements. Paragraph (f) of this section imposes
reporting requirements on certain participants.

(b) Definitions--(1) Fast-pay arrangement. A fast-pay arrangement is
any arrangement in which a corporation has fast-pay stock
outstanding for any part of its taxable year.

(2) Fast-pay stock--(i) Defined. Stock is fast-pay stock if it is
structured so that dividends (as defined in section 316) paid by the
corporation with respect to the stock are economically (in whole or
in part) a return of the holder's investment (as opposed to only a
return on the holder's investment). Unless clearly demonstrated
otherwise, stock is presumed to be fast-pay stock if--

(A) It is structured to have a dividend rate that is reasonably
expected to decline (as opposed to a dividend rate that is
reasonably expected to fluctuate or remain constant); or

(B) It is issued for an amount that exceeds (by more than a de
minimis amount, as determined under the principles of �1.1273- 1(d))
the amount at which the holder can be compelled to dispose of the
stock.

(ii) Determination. The determination of whether stock is fast-pay
stock is based on all the facts and circumstances, including any
related agreements such as options or forward contracts. A related
agreement includes any direct or indirect agreement or
understanding, oral or written, between the holder of the stock and
the issuing corporation, or between the holder of the stock and one
or more other shareholders in the corporation. To determine if it is
fast-pay stock, stock is examined when issued, and, for stock that
is not fast-pay stock when issued, when there is a significant
modification in the terms of the stock or the related agreements or
a significant change in the relevant facts and circumstances. Stock
is not fast-pay stock solely because a redemption is treated as a
dividend as a result of section 302(d) unless there is a principal
purpose of achieving the same economic and tax effect as a fast-pay
arrangement.

(3) Benefited stock. With respect to any fast-pay stock, all other
stock in the corporation (including other fast-pay stock having any
significantly different characteristics) is benefited stock.

(c) Recharacterization of certain fast-pay arrangements--

(1) Scope. This paragraph (c) applies to any fast-pay arrangement--

(i) In which the corporation that has outstanding fast-pay stock is
a regulated investment company (RIC) (as defined in section 851) or
a real estate investment trust (REIT) (as defined in section 856);
or

(ii) If the Commissioner determines that a principal purpose for the
structure of the fast-pay arrangement is the avoidance of any tax
imposed by the Internal Revenue Code. Application of this paragraph
(c)(1)(ii) is at the Commissioner's discretion, and a determination
under this paragraph (c)(1)(ii) applies to all parties to the fast-
pay arrangement, including transferees.

(2) Recharacterization. A fast-pay arrangement described in
paragraph (c)(1) of this section is recharacterized as an
arrangement directly between the benefited shareholders and the
fast-pay shareholders. The inception and resulting relationships of
the recharacterized arrangement are deemed to be as follows:

(i) Relationship between benefited shareholders and fast-pay
shareholders. The benefited shareholders issue financial instruments
(the financing instruments) directly to the fast-pay shareholders in
exchange for cash equal to the fair market value of the fast-pay
stock at the time of issuance (taking into account any related
agreements). The financing instruments have the same terms (other
than issuer) as the fast-pay stock. Thus, for example, the timing
and amount of the payments made with respect to the financing
instruments always match the timing and amount of the distributions
made with respect to the fast-pay stock.

(ii) Relationship between benefited shareholders and corporation.
The benefited shareholders contribute to the corporation the cash
they receive for issuing the financing instruments. Distributions
made with respect to the fast-pay stock are distributions made by
the corporation with respect to the benefited shareholders'
benefited stock.

(iii) Relationship between fast-pay shareholders and corporation.
For purposes of determining the relationship between the fast-pay
shareholders and the corporation, the fast-pay stock is ignored. The
corporation is the paying agent of the benefited shareholders with
respect to the financing instruments.

(3) Other rules--(i) Character of the financing instruments.

The character of a financing instrument (for example, stock or debt)
is determined under general tax principles and depends on all the
facts and circumstances.

(ii) Multiple types of benefited stock. If any benefited stock has
any significantly different characteristics from any other benefited
stock, the recharacterization rules of this paragraph (c) apply
among the different types of benefited stock as appropriate to match
the economic substance of the fast-pay arrangement.

(iii) Transactions affecting benefited stock--(A) Sale of benefited
stock. If one person sells benefited stock to another--

(1) In addition to any consideration actually paid and received for
the benefited stock, the buyer is deemed to pay and the seller is
deemed to receive the amount necessary to terminate the seller's
position in the financing instruments at fair market value; and

(2) The buyer is deemed to issue financing instruments to the fast-
pay shareholders in exchange for the amount necessary to terminate
the seller's position in the financing instruments.

(B) Transactions other than sales. Except for transactions subject
to paragraph (c)(3)(iii)(A) of this section, in the case of any
transaction affecting benefited stock, the parties to the
transaction must make appropriate adjustments to properly take into
account the fast-pay arrangement as characterized under paragraph
(c)(2) of this section.

(iv) Adjustment to basis for amounts accrued or paid in taxable
years ending before February 27, 1997. In the case of a fast-pay
arrangement involving amounts accrued or paid in taxable years
ending before February 27, 1997, and recharacterized under this
paragraph (c), a benefited shareholder must decrease its basis in
any benefited stock (as determined under paragraph (c)(2)(ii) of
this section) by the amount (if any) that--

(A) Its income attributable to the benefited stock (reduced by
deductions attributable to the financing instruments) for taxable
years ending before February 27, 1997, computed by recharacterizing
the fast-pay arrangement under this paragraph (c) and by treating
the financing instruments as debt; exceeds

(B) Its income attributable to such stock for taxable years ending
before February 27, 1997, computed without applying the rules of
this paragraph (c).

(d) Prohibition against affirmative use of recharacterization by
taxpayers. A taxpayer may not use the rules of paragraph (c) of this
section if a principal purpose for using such rules is the avoidance
of any tax imposed by the Internal Revenue Code. Thus, with respect
to such taxpayer, the Commissioner may depart from the rules of this
section and recharacterize (for all purposes of the Internal Revenue
Code) the fast-pay arrangement in accordance with its form or its
economic substance. For example, if a foreign person acquires fast-
pay stock in a REIT and a principal purpose for acquiring such stock
is to reduce United States withholding taxes by applying the rules
of paragraph (c) of this section, the Commissioner may, for purposes
of determining the foreign person's United States tax consequences
(including withholding tax), depart from the rules of paragraph (c)
of this section and treat the foreign person as holding fast-pay
stock in the REIT.

(e) Examples. The following examples illustrate the rules of
paragraph (c) of this section: Example 1. Decline in dividend
rate--(i) Facts.

Corporation X issues 100 shares of A Stock and 100 shares of B Stock
for $1,000 per share. By its terms, a share of B Stock is reasonably
expected to pay a $110 dividend in years 1 through 10 and a $30
dividend each year thereafter. If X liquidates, the holder of a
share of B Stock is entitled to a preference equal to the share's
issue price. Otherwise, the B Stock cannot be redeemed at either X's
or the shareholder's option.

(ii) Analysis. When issued, the B Stock has a dividend rate that is
reasonably expected to decline from an annual rate of 11 percent of
its issue price to an annual rate of 3 percent of its issue price.
Since the B Stock is structured to have a declining dividend rate,
the B Stock is fast-pay stock, and the A Stock is benefited stock.

Example 2. Issued at a premium--(i) Facts. The facts are the same as
in Example 1 of this paragraph (e) except that a share of B Stock is
reasonably expected to pay an annual $110 dividend as long as it is
outstanding, and Corporation X has the right to redeem the B Stock
for $400 a share at the end of year 10.

(ii) Analysis. The B Stock is structured so that the issue price of
the B Stock ($1,000) exceeds (by more than a de minimis amount) the
price at which the holder can be compelled to dispose of the stock
($400). Thus, the B Stock is fast-pay stock, and the A Stock is
benefited stock.

Example 3. Planned section 302(d) redemptions--(i) Facts.

Corporation L, a subchapter C corporation, issues 220 shares of
common stock for $1,000 per share. No other stock is authorized, but
L can issue warrants entitling the holder to acquire L common stock
for $3,000 per share until such time as L adopts a plan of
liquidation. L can adopt a plan of liquidation if approved by 90
percent of its shareholders. Half of L's stock is purchased by
Corporation M, and half by Organization N, which is tax exempt.

At the time of purchase, M and N agree that for a period of ten
years L will annually redeem (and N will tender) ten shares of stock
in exchange for $12,100 and ten warrants. It is anticipated that,
under sections 302 and 301, the annual payment to N will be a
distribution of property that is a dividend.

(ii) Analysis. Considering all the facts and circumstances,
including the agreement between M and N, L's redemption of N's stock
is undertaken with a principal purpose of achieving the same
economic and tax effect as a fast-pay arrangement. Thus, N's stock
is fast-pay stock, M's stock is benefited stock, and the parties
have entered into a fast-pay arrangement. Because L is neither a RIC
nor a REIT, whether this fast-pay arrangement is recharacterized
under paragraph (c) of this section depends on whether the
Commissioner determines, under paragraph (c)(1)(ii) of this section,
that a principal purpose for the structure of the fast-pay
arrangement is the avoidance of any tax imposed by the Internal
Revenue Code.

Example 4. Recharacterization illustrated--(i) Facts. On formation,
REIT Y issues 100 shares of C Stock and 100 shares of D Stock for
$1,000 per share. By its terms, a share of D Stock is reasonably
expected to pay a $110 dividend in years 1 through 10 and a $30
dividend each year thereafter. In years 1 through 10, persons
holding a majority of the D Stock must consent before Y may take any
action that would result in Y liquidating or dissolving, merging or
consolidating, losing its REIT status, or selling substantially all
of its assets. Thereafter, Y may take these actions without consent
so long as the D Stock shareholders receive $400 in exchange for
their D Stock.

(ii) Analysis. When issued, the D Stock has a dividend rate that is
reasonably expected to decline from an annual rate of 11 percent of
its issue price to an annual rate of 3 percent of its issue price.
In addition, the $1,000 issue price of a share of D Stock exceeds
the price at which the shareholder can be compelled to dispose of
the stock ($400). Thus, the D Stock is fast-pay stock, and the C
Stock is benefited stock. Because Y is a REIT, the fast-pay
arrangement is recharacterized under paragraph (c) of this section.

(iii) Recharacterization. The fast-pay arrangement is
recharacterized as follows: (A) Under paragraph (c)(2)(i) of this
section, the C Stock shareholders are treated as issuing financing
instruments to the D Stock shareholders in exchange for $100,000
($1,000, the fair market value of each share of D Stock, multiplied
by 100, the number of shares).

(B) Under paragraph (c)(2)(ii) of this section, the C Stock
shareholders are treated as contributing $200,000 to Y (the $100,000
received for the financing instruments, plus the $100,000 actually
paid for the C Stock) in exchange for the C Stock.

(C) Under paragraph (c)(2)(ii) of this section, each distribution
with respect to the D Stock is treated as a distribution with
respect to the C Stock.

(D) Under paragraph (c)(2)(iii) of this section, the C Stock
shareholders are treated as making payments with respect to the
financing instruments, and Y is treated as the paying agent of the
financing instruments for the C Stock shareholders.

Example 5. Transfer of benefited stock illustrated--

(i) Facts. The facts are the same as in Example 4 of this paragraph
(e). Near the end of year 5, a person holding one share of C Stock
sells it for $1,300. The buyer is unrelated to REIT Y or to any of
the D Stock shareholders. At the time of the sale, the amount needed
to terminate the seller's position in the financing instruments at
fair market value is $747.

(ii) Benefited shareholder's treatment on sale. Under paragraph (c)
(3)(iii)(A) of this section, the seller's amount realized is $2,047
($1,300, the amount actually received, plus $747, the amount
necessary to terminate the seller's position in the financing
instruments at fair market value). The seller's gain on the sale of
the common stock is $47 ($2,047, the amount realized, minus $2,000,
the seller's basis in the common stock).

The seller has no income or deduction with respect to terminating
its position in the financing instruments.

(iii) Buyer's treatment on purchase. Under paragraph (c)(3)(iii)(A)
of this section, the buyer's basis in the share of D Stock is $2,047
($1,300, the amount actually paid, plus $747, the amount needed to
terminate the seller's position in the financing instruments at fair
market value). Under paragraph (c)(3)(iii)(B) of this section,
simultaneous with the sale, the buyer is treated as issuing
financing instruments to the fast-pay shareholders in exchange for
$747, the amount necessary to terminate the seller's position in the
financing instruments at fair market value.

Example 6. Fast-pay arrangement involving amounts accrued or paid in
a taxable year ending before February 27, 1997-- (i) Facts. Y is a
calendar year taxpayer. In June 1996, Y acquires shares of REIT T
benefited stock for $15,000. In December 1996, Y receives dividends
of $100. Under the recharacterization rules of paragraph (c)(2) of
this section, Y's 1996 income attributable to the benefited stock is
$1,200, Y's 1996 deduction attributable to the financing instruments
is $500, and Y's basis in the benefited stock is $25,000.

(ii) Analysis. Under paragraph (c)(3)(iv) of this section, Y's basis
in the benefited stock is reduced by $600. This is the amount by
which Y's 1996 income from the fast-pay arrangement as
recharacterized under this section ($1,200 of income attributable to
the benefited stock less $500 of deductions attributable to the
financing instruments), exceeds Y's 1996 income from the fast-pay
arrangement as not recharacterized under this section ($100 of
income attributable to the benefited stock). Thus, in 1997 when the
fast-pay arrangement is recharacterized, Y's basis in the benefited
stock is $24,400.

(f) Reporting requirement--(1) Filing requirements--(i) In general.
A corporation that has fast-pay stock outstanding at any time during
the taxable year must attach the statement described in paragraph
(f)(2) of this section to its federal income tax return for such
taxable year. This paragraph (f)(1)(i) does not apply to a
corporation described in paragraphs (f)(1)(ii), (iii), or (iv) of
this section.

(ii) Controlled foreign corporation. In the case of a controlled
foreign corporation (CFC), as defined in section 957, that has fast-
pay stock outstanding at any time during its taxable year (during
which time it was a CFC), each controlling United States shareholder
(within the meaning of �1.964-1(c)(5)) must attach the statement
described in paragraph (f)(2) of this section to the shareholder's
Form 5471 for the CFC's taxable year. The provisions of section 6038
and the regulations under section 6038 apply to any statement
required by this paragraph (f)(1)(ii).

(iii) Foreign personal holding company. In the case of a foreign
personal holding company (FPHC), as defined in section 552, that has
fast-pay stock outstanding at any time during its taxable year
(during which time it was a FPHC), each United States citizen or
resident who is an officer, director, or 10- percent shareholder
(within the meaning of section 6035(e)(1)) of such FPHC must attach
the statement described in paragraph (f)(2) of this section to his
or her Form 5471 for the FPHC's taxable year. The provisions of
sections 6035 and 6679 and the regulations under sections 6035 and
6679 apply to any statement required by this paragraph (f)(1)(iii).

(iv) Passive foreign investment company. In the case of a passive
foreign investment company (PFIC), as defined in section 1297, that
has fast-pay stock outstanding at any time during its taxable year
(during which time it was a PFIC), each shareholder that has elected
(under section 1295) to treat the PFIC as a qualified electing fund
and knows or has reason to know that the PFIC has outstanding fast-
pay stock must attach the statement described in paragraph (f)(2) of
this section to the shareholder's Form 8621 for the PFIC's taxable
year. Each shareholder owning 10 percent or more of the shares of
the PFIC (by vote or value) is presumed to know that the PFIC has
issued fast-pay stock. The provisions of sections 1295(a)(2) and
1298(f) and the regulations under those sections (including
�1.1295-1T(f)(2)) apply to any statement required by this paragraph
(f)(1)(iv).

(2) Statement. The statement required under this paragraph (f) must
say, "This fast-pay stock disclosure statement is required by
�1.7701(l)-3(f) of the income tax regulations." The statement must
also identify the corporation that has outstanding fast-pay stock
and must contain the date on which the fast-pay stock was issued,
the terms of the fast-pay stock, and (to the extent the filing
person knows or has reason to know such information) the names and
taxpayer identification numbers of the shareholders of any stock
that is not traded on an established securities market (as described
in �1.7704-1(b)).

(g) Effective date--(1) In general. Except as provided in paragraph
(g)(4) of this section (relating to reporting requirements), this
section applies to taxable years ending after February 26, 1997.
Thus, all amounts accrued or paid during the first taxable year
ending after February 26, 1997, are subject to this section.

(2) Election to limit taxable income attributable to a
recharacterized fast-pay arrangement for periods before April 1,
2000--(i) Limit. For periods before April 1, 2000, provided the
shareholder recharacterizes the fast-pay arrangement consistently
for all such periods, a shareholder may limit its taxable income
attributable to a fast-pay arrangement recharacterized under
paragraph (c) of this section to the taxable income that results if
the fast-pay arrangement is recharacterized under either-- (A)
Notice 97-21, 1997-1 C.B. 407, see �601.601(d)(2) of this chapter;
or (B) Paragraph (c) of this section, computed by assuming the
financing instruments are debt.

(ii) Adjustment and statement. A shareholder that limits its taxable
income to the amount determined under paragraph (g)(2)(i)(A) of this
section must include as an adjustment to taxable income the excess,
if any, of the amount determined under paragraph (g)(2)(i)(B) of
this section, over the amount determined under paragraph (g)(2)(i)
(A) of this section. This adjustment to taxable income must be made
in the shareholder's first taxable year that includes April 1, 2000.
A shareholder to which this paragraph (g)(2)(ii) applies must
include a statement in its books and records identifying each fast-
pay arrangement for which an adjustment must be made and providing
the amount of the adjustment for each such fast-pay arrangement.

(iii) Examples. The following examples illustrate the rules of this
paragraph (g)(2). For purposes of these examples, assume that a
shareholder may limit its taxable income under this paragraph (g)(2)
for periods before January 1, 2000.

Example 1. Fast-pay arrangement recharacterized under Notice 97-21;
REIT holds third-party debt--(i) Facts. (A) REIT Y is formed on
January 1, 1997, at which time it issues 1,000 shares of fast-pay
stock and 1,000 shares of benefited stock for $100 per share. Y and
all of its shareholders are U.S. persons and have calendar taxable
years. All shareholders of Y have elected to accrue market discount
based on a constant interest rate, to include the market discount in
income as it accrues, and to amortize bond premium.

(B) For years 1 through 5, the fast-pay stock has an annual dividend
rate of $17 per share ($17,000 for all fast-pay stock); in later
years, the fast-pay stock has an annual dividend rate of $1 per
share ($1,000 for all fast-pay stock). At the end of year 5, and
thereafter, a share of fast-pay stock can be acquired by Y in
exchange for $50 ($50,000 for all fast-pay stock).

(C) On the day Y is formed, it acquires a five-year mortgage note
(the note) issued by an unrelated third party for $200,000.

The note provides for annual interest payments on December 31 of
$18,000 (a coupon interest rate of 9.00 percent, compounded
annually), and one payment of principal at the end of 5 years.

The note can be prepaid, in whole or in part, at any time.

(ii) Recharacterization under Notice 97-21--(A) In general. One way
to recharacterize the fast-pay arrangement under Notice 97-21 is to
treat the fast-pay shareholders and the benefited shareholders as if
they jointly purchased the note from the issuer with the
understanding that over the five-year term of the note the benefited
shareholders would use their share of the interest to buy (on a
dollar-for-dollar basis) the fast-pay shareholders' portion of the
note. The benefited shareholders' and the fast-pay shareholders'
yearly taxable income under Notice 97-21 can then be calculated
after determining their initial portions of the note and whether
those initial portions are purchased at a discount or premium.

(B) Determining initial portions of the debt instrument.

The fast-pay shareholders' and the benefited shareholders' initial
portions of the note can be determined by comparing the present
values of their expected cash flows. As a group, the fast-pay
shareholders expect to receive cash flows of $135,000 (five annual
payments of $17,000, plus a final payment of $50,000). As a group,
the benefited shareholders expect to receive cash flows of $155,000
(five annual payments of $1,000, plus a final payment of $150,000).
Using a discount rate equal to the yield to maturity (as determined
under �1.1272-1(b)(1)(i)) of the mortgage note (9.00 percent,
compounded annually), the present value of the fast-pay
shareholders' cash flows is $98,620, and the present value of the
benefited shareholders' cash flows is $101,380. Thus, the fast-pay
shareholders initially acquire 49 percent of the note at a $1,380
premium (that is, they paid $100,000 for $98,620 of principal in the
note). The benefited shareholders initially acquire 51 percent of
the note at a $1,380 discount (that is, they paid $100,000 for
$101,380 of principal in the note). Under section 171, the fast-pay
shareholders' premium is amortizable based on their yield in their
initial portion of the note (8.574 percent, compounded annually).
The benefited shareholders' discount accrues based on the yield in
their initial portion of the note (9.353 percent, compounded
annually).

(C) Taxable income under Notice 97-21--(1) Fast-pay shareholders.
Under Notice 97-21, the fast-pay shareholders compute their taxable
income attributable to the fast-pay arrangement for periods before
January 1, 2000, by subtracting the amortizable premium from the
accrued interest on the fast-pay shareholders' portion of the note.
For purposes of paragraph (g)(2)(i)(A) of this section, the fast-pay
shareholders' taxable income as a group is as follows:

Interest Amortizable Taxable
Taxable Period Income Premium Income
1/1/97 - 12/31/97 $ 8,876 ($302) $ 8,574
1/1/98 - 12/31/98 $ 8,145 ($293) $ 7,852
1/1/99 - 12/31/99 $ 7,348 ($281) $ 7,067
$24,369 ($876) $23,493

(2) Benefited shareholders. Under Notice 97-21, the benefited
shareholders compute their taxable income attributable to the fast-
pay arrangement for periods before January 1, 2000, by adding the
accrued discount to the accrued interest on the benefited
shareholders' portion of the note. For purposes of paragraph (g)(2)
(i)(A) of this section, the benefited shareholders' taxable income
as a group is as follows:

Interest Accrued Taxable
Taxable Period Income Discount Income
1/1/97 - 12/31/97 $ 9,124 $229 $ 9,353
1/1/98 - 12/31/98 $ 9,855 $251 $10,106
1/1/99 - 12/31/99 $10,652 $274 $10,926
$29,631 $754 $30,385 

(iii) Taxable income under the recharacterization of this
section--(A) Fast-pay shareholders. Under paragraphs (c) and (g)(2)
(i)(B) of this section, the fast-pay shareholders' taxable income
attributable to the fast-pay arrangement for periods before January
1, 2000, is the interest deemed paid on the financing instruments.
For purposes of paragraph (g)(2)(i)(B) of this section, the fast-pay
shareholders' taxable income as a group is as follows:

Taxable
Taxable Period Income
1/1/97 - 12/31/97 $ 8,574
1/1/98 - 12/31/98 $ 7,852
1/1/99 - 12/31/99 $ 7,067
$23,493

(B) Benefited shareholders. Under paragraphs (c) and (g)(2)(i)(B) of
this section, the benefited shareholders compute their taxable
income attributable to the fast-pay arrangement for periods before
January 1, 2000, by subtracting the interest deemed paid on the
financing instruments from the dividends actually and deemed paid on
the benefited stock. For purposes of paragraph (g)(2)(i)(B) of this
section, the benefited shareholders' taxable income as a group is as
follows:

Dividends Interest Paid
Paid On On Financing Taxable
Taxable Period Benefited Stock Instruments Income
1/1/97 - 12/31/97 $18,000 ($ 8,574) $ 9,426
1/1/98 - 12/31/98 $18,000 ($ 7,852) $10,148
1/1/99 - 12/31/99 $18,000 ($ 7,067) $10,933
$54,000 ($23,493) $30,507

(iv) Limit on taxable income under paragraph (g)(2)(i) of this
section--(A) Fast-pay shareholders. For periods before January 1,
2000, the fast-pay shareholders have the same taxable income under
the recharacterization of Notice 97-21 and paragraph (g)(2)(i)(A) of
this section ($23,493) as they have under the recharacterization of
paragraphs (c) and (g)(2)(i)(B) of this section ($23,493). Thus,
under paragraph (g)(2)(i) of this section, the fast-pay shareholders
may limit their taxable income attributable to the fast-pay
arrangement for periods before January 1, 2000, to $23,493 (as a
group).

(B) Benefited shareholders. For periods before January 1, 2000, the
benefited shareholders have taxable income attributable to the fast-
pay arrangement of $30,385 under the recharacterization of Notice
97-21 and paragraph (g)(2)(i)(A) of this section, and taxable income
of $30,507 under the recharacterization of paragraphs (c) and (g)(2)
(i)(B) of this section. Thus, under paragraph (g)(2)(i) of this
section, the benefited shareholders may limit their taxable income
attributable to the fast-pay arrangement for periods before January
1, 2000, to either $30,385 (as a group) or $30,507 (as a group).

(v) Adjustment to taxable income under paragraph (g)(2)(ii) of this
section. Under paragraph (g)(2)(ii) of this section, any benefited
shareholder that limited its taxable income to the amount determined
under paragraph (g)(2)(i)(A) of this section must include as an
adjustment to taxable income the excess, if any, of the amount
determined under paragraph (g)(2)(i)(B) of this section, over the
amount determined under paragraph (g)(2)(i)(A) of this section. If
all benefited shareholders limited their taxable income to the
amount determined under paragraph (g)(2)(i)(A) of this section, then
as a group their adjustment to income is $122 ($30,507, minus
$30,385). Each shareholder must include its adjustment in income for
the taxable year that includes January 1, 2000.

Example 2. REIT holds debt issued by a benefited shareholder--(i)
Facts. The facts are the same as in Example 1 of this paragraph (g)
(2) except that corporation Z holds 800 shares (80 percent) of the
benefited stock, and Z, instead of a third party, issues the
mortgage note acquired by Y.

(ii) Recharacterization under Notice 97-21. Because Y holds a debt
instrument issued by Z, the fast-pay arrangement is recharacterized
under Notice 97-21 as an arrangement in which Z issued one or more
instruments directly to the fast-pay shareholders and the other
benefited shareholders.

(A) Fast-pay shareholders. Consistent with this recharacterization,
Z is treated as issuing a debt instrument to the fast-pay
shareholders for $100,000. The debt instrument provides for five
annual payments of $17,000 and an additional payment of $50,000 in
year five. Thus, the debt instrument's yield to maturity is 8.574
percent per annum, compounded annually.

(B) Benefited shareholders. Z is also treated as issuing a debt
instrument to the other benefited shareholders for $20,000 (200
shares multiplied by $100, or 20 percent of the $100,000 paid to Y
by the benefited shareholders as a group). This debt instrument
provides for five annual payments of $200 and an additional payment
of $30,000 in year five. The debt instrument's yield to maturity is
9.304 percent per annum, compounded annually.

(C) Issuer's interest expense under Notice 97-21. Under Notice
97-21, Z's interest expense attributable to the fast-pay arrangement
for periods before January 1, 2000, equals the interest accrued on
the debt instrument held by the fast-pay shareholders, plus the
interest accrued on the debt instrument held by the benefited
shareholders other than Z. For purposes of paragraph (g)(2)(i)(A) of
this section, Z's interest expense is as follows:

Accrued Accrued
Interest Interest Total
Fast-pay Other Benefited Interest
Taxable Period Shareholders Shareholders Expense
1/1/97 - 12/31/97 ($ 8,574) ($1,861) ($10,435)
1/1/98 - 12/31/98 ($ 7,852) ($2,015) ($ 9,867)
1/1/99 - 12/31/99 ($ 7,067) ($2,184) ($ 9,251)
($23,493) ($6,060) ($29,553)

(iii) Recharacterization under this section. Under paragraphs (c)
and (g)(2)(i)(B) of this section, Z's taxable income attributable to
the fast-pay arrangement for periods before January 1, 2000, equals
Z's share of the dividends actually and deemed paid on the benefited
stock (80 percent of the outstanding benefited stock), reduced by
the sum of the interest accrued on the note held by Y and the
interest accrued on the financing instruments deemed to have been
issued by Z.

For purposes of paragraph (g)(2)(i)(B) of this section, Z's taxable
income is as follows:

Accrued Accrued
Dividends Interest Interest
Benefited On Debt Financing Taxable
Taxable Period Stock Held By Y Instruments Expense
1/1/97 - 12/31/97 $14,400 ($18,000) ($ 6,859) ($10,459)
1/1/98 - 12/31/98 $14,400 ($18,000) ($ 6,281) ($ 9,881)
1/1/99 - 12/31/99 $14,400 ($18,000) ($ 5,654) ($ 9,254)
$43,200 ($54,000) ($18,794) ($29,594)

(iv) Limit on taxable income under this paragraph (g)(2).

For periods before January 1, 2000, Z has a taxable loss
attributable to the fast-pay arrangement of $29,553 under the
recharacterization of Notice 97-21 and paragraph (g)(2)(i)(A) of
this section, and a taxable loss of $29,594 under the
recharacterization of paragraphs (c) and (g)(2)(i)(B) of this
section. Thus, under paragraph (g)(2)(i) of this section, Z may
report a taxable loss attributable to the fast-pay arrangement for
periods before January 1, 2000, of either $29,553 or $29,594.

Under paragraph (g)(2)(ii), Z has no adjustment to its taxable
income for its taxable year that includes January 1, 2000.

(3) Rule to comply with this section. To comply with this section
for each taxable year in which it failed to do so, a taxpayer should
file an amended return. For taxable years ending before January 10,
2000, a taxpayer that has complied with Notice 97-21, 1997-1 C.B.
407 (see �601.601(d)(2) of this chapter), for all such taxable years
is considered to have complied with this section and limited its
taxable income under paragraph (g)(2)(i)(A) of this section.

(4) Reporting requirements. The reporting requirements of paragraph
(f) of this section apply to taxable years (of the person required
to file the statement) ending after January 10, 2000..PART 602--OMB
CONTROL NUMBERS UNDER THE PAPERWORK REDUCTION ACT Par. 5. The
authority citation for part 602 continues to read as follows:
Authority: 26 U.S.C. 7805.

Par. 6. Section 602.101(b) is amended by adding an entry in
numerical order to the table to read as follows: �602.101 OMB
Control numbers.

* * * * *

(b) * * *
_________________________________________________________________

CFR part or section where Current OMB
identified and described control No.

_________________________________________________________________

* * * * *

1.7701(l)-3 1545-1642

* * * * *
_________________________________________________________________

Bob Wenzel
Deputy Commissioner of Internal Revenue
Approved:
Jonathan Talisman
Acting Assistant Secretary of the Treasury

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