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October 24, 08

NEWS / Treatment of Payments in Lieu of Taxes Under Section 141


SUMMARY: This document contains final regulations which modify the
standards for treating certain payments in lieu of taxes or other tax
equivalency payments (PILOTs) as generally applicable taxes for
purposes of the private security or payment test under section 141 of
the Internal Revenue Code (Code). This action is being taken in order
to provide issuers of tax-exempt bonds with guidance on whether PILOTs
are eligible to be treated as generally applicable taxes for this
purpose. The regulations affect State and local governmental issuers of
tax-exempt bonds.

DATES: Effective Date: These regulations are effective on October 24,
2008.
Applicability Dates: For dates of applicability, see Sec. 1.141-
15(k).

FOR FURTHER INFORMATION CONTACT: Carla Young at (202) 622-3980 (not a
toll-free number).

SUPPLEMENTARY INFORMATION:

Background

This document amends the Income Tax Regulations (26 CFR part 1)
under section 141 to modify and clarify the standards for treating
PILOTs as generally applicable taxes for purposes of the private
security or payment test under section 141.
Final regulations under section 141 were published in the Federal
Register on January 16, 1997 (62 FR 2275) (1997 Regulations), to
provide comprehensive guidance on most aspects of the private activity
bond restrictions. On October 19, 2006, the IRS published a notice of
proposed rulemaking in the Federal Register (71 FR 61693) (Proposed
Regulations) regarding the standards for treating PILOTs as generally
applicable taxes for purposes of the private security or payment test
under section 141. In the Proposed Regulations, the Treasury Department
and the IRS solicited public comments and invited interested parties to
a public hearing scheduled for February 13, 2007. On January 30, 2007,
the Treasury Department and the IRS cancelled the public hearing
because no requests to speak at the hearing were received, and
published a notice of such cancellation in the Federal Register (72 FR
4220).
The Treasury Department and the IRS received a number of written
comments on the Proposed Regulations. After consideration of the
written comments, the Proposed Regulations are adopted, with revisions,
as final regulations by this Treasury decision (Final Regulations). The
revisions are discussed in the preamble.

Explanation of Provisions

I. Introduction

In general, interest on State and local governmental bonds is
excludable from gross income under section 103 of the Code. Interest on
a private activity bond, other than a qualified bond under section
141(e), is not excludable from gross income. Section 141(a) classifies
a bond as a private activity bond if it is part of an issue that meets
both the private business use test under section 141(b)(1) (private
business use test) and the private security or payment test under
section 141(b)(2) (private payment test). In addition, section 141(a)
independently treats a bond as a private activity bond if it is part of
an issue that meets the private loan test under section 141(c).
Section 141(b)(2) provides generally that an issue meets the
private payment test if the payment of the debt service on more than 10
percent of the proceeds of such issue is (under the terms of such issue
or any underlying arrangement) directly or indirectly (1) secured by
any interest in property used or to be used for a private business use,
or payments in respect of such property, or (2) to be derived from
payments (whether or not to the issuer) in respect of property, or
borrowed money, used or to be used for a private business use.

II. Private Payment Test in General

Sections 1.141-4(c) and 1.141-4(d) of the 1997 Regulations provide
general rules for purposes of application of the private payment test.
Private payments generally include any payments made, directly or
indirectly, by any nongovernmental person that is a private business
user of proceeds during a period of private business use and any
payments made with respect to property financed with proceeds of an
issue during a period of private business use, whether or not made by a
private business user. In addition, private payments include property
and payments in respect of property that are used or to be used for
private business use to the extent that any interest in that

[[Page 63373]]

property or payments serves as security for the payment of debt service
on an issue.

III. Generally Applicable Taxes Exception

Section 1.141-4(e) of the 1997 Regulations provides an exception to
the otherwise broad scope of payments taken into account under the
private payment test in the case of generally applicable taxes. Thus,
Sec. 1.141-4(e)(1) provides that for purposes of the private security
or payment test, generally applicable taxes are not taken into account
(that is, are not payments from a nongovernmental person and are not
payments in respect of property used for a private business use). In
general, the purpose of the generally applicable taxes exception is to
allow eligible tax payments made with respect to property or services
to be used to pay debt service on an issue without causing private
payments. For this purpose, Sec. 1.141-4(e)(2) of the 1997 Regulations
defines a generally applicable tax to mean an enforced contribution
exacted pursuant to legislative authority in the exercise of the taxing
power that is imposed and collected for the purpose of raising revenue
to be used for governmental purposes. To qualify as a generally
applicable tax, a tax must have a uniform rate that is applied to all
persons of the same classification in the appropriate jurisdiction, and
the tax must have a generally applicable manner of determination and
collection.
Section 1.141-4(e)(4)(i) provides that a tax does not have a
generally applicable manner of determination and collection to the
extent that one or more taxpayers make any impermissible agreements
relating to the payment of those taxes. Section 1.141-4(e)(4)(ii) and
(iii) of the 1997 Regulations set forth permissible and impermissible
agreements for this purpose. An example of a permissible agreement that
does not cause a tax to fail to have a generally applicable manner of
determination and collection includes an agreement to reduce or limit
the amount of taxes collected to further a bona fide governmental
purpose. For example, an agreement to abate taxes to encourage a
property owner to rehabilitate property in a distressed area is a
permissible agreement.
Section 1.141-4(e)(3) of the 1997 Regulations provides that a
payment does not qualify as a generally applicable tax if it is a
special charge for a special privilege granted or service rendered.
This provision further provides that special assessments paid by
property owners benefiting from financed improvements are not generally
applicable taxes. This provision includes an example that a tax or
PILOT that is limited to the property or persons benefited by an
improvement is not a generally applicable tax.
The Proposed Regulations generally did not address the special
charge limitation on generally applicable taxes. Commentators suggested
clarifying the scope of this special charge limitation and its
application in the context of PILOTs.
The Final Regulations clarify and illustrate the scope of the
special charge limitation on generally applicable taxes. The Final
Regulations provide that a special charge includes a payment for a
special privilege granted or regulatory function (for example, a
license fee), a service rendered (for example, a sanitation services
fee), a use of property (for example, rent), or a payment in the nature
of a special assessment to finance capital improvements that is imposed
on a limited class of persons based on benefits received from the
capital improvements financed with the assessment. The Final
Regulations illustrate that a special assessment to finance
infrastructure improvements in a new industrial park (such as
sidewalks, streets, streetlights, and utility infrastructure
improvements) that is imposed on a limited class of persons composed of
property owners within the industrial park who benefit from those
improvements is a special charge. The Final Regulations also illustrate
that, by contrast, an otherwise-qualified generally applicable tax (for
example, a generally applicable ad valorem tax on all real property
within a governmental taxing jurisdiction) or an eligible PILOT that is
based on such a generally applicable tax is not treated as a special
charge merely because the taxes or PILOTs received are used for
governmental or public purposes in a manner that benefits particular
property owners.

IV. Certain Payments in Lieu of Taxes Treated as Generally Applicable
Taxes

Section 1.141-4(e)(5) of the 1997 Regulations treats PILOTs as
generally applicable taxes if: (1) The payments are commensurate with
and not greater than the amounts imposed by the statute for a tax of
general application; and (2) The payments are designated for a public
purpose and are not special charges (as described in Sec. 1.141-
4(e)(3)). Section 1.141-4(e)(5) of the 1997 Regulations further
provides an example which states that a PILOT made in consideration for
the use of property financed with tax-exempt bonds is treated as a
special charge.
The Proposed Regulations proposed to clarify and to tighten the
commensurate standard for PILOTs to better ensure a reasonably close
relationship between eligible PILOTs and generally applicable taxes. In
particular, the Proposed Regulations proposed to define the
commensurate standard to provide generally that an eligible PILOT
payment must represent a fixed percentage of, or reflect a fixed
adjustment to, the amount of generally applicable taxes in each year,
based on comparable current valuation assessments. Commentators
suggested that the proposed commensurate standard was unduly
restrictive and suggested allowing fixed-payment PILOTs. The Treasury
Department and the IRS decline to adopt this suggestion to allow fixed-
payment PILOTs. The Final Regulations generally continue the approach
to the commensurate standard in the Proposed Regulations because the
Treasury Department and the IRS continue to believe that this approach
will better ensure a reasonably close relationship between eligible
PILOTs and generally applicable taxes.
The Final Regulations refine the commensurate standard in certain
technical respects in response to public comments. The Proposed
Regulations proposed to permit only a single change in the measure of a
PILOT in relation to an underlying generally applicable tax following
completion of the development of the subject property. Commentators
suggested allowing broader flexibility for phased adjustments to PILOTs
during the development, construction, or initial start-up period of the
property. The Final Regulations adopt this comment.
The Proposed Regulations also proposed to treat any payment based
in any way on debt service on an issue as impermissible under the
commensurate standard. Commentators suggested that this limitation is
overly broad and could prohibit any use of PILOTs to pay debt service
on an issue. The Final Regulations do not prohibit any use of PILOTs to
pay debt service on an issue, but provide that a PILOT is not
commensurate with a generally applicable tax if the PILOT is set at a
fixed dollar amount (for example, fixed debt service on a bond issue)
that cannot vary with changes in the level of the generally applicable
tax on which it is based.
Section 1.141-4(e)(5) of the 1997 Regulations and the Proposed
Regulations require designation of PILOTs for a ``public purpose.'
Section 1.141-4(e)(2) of the 1997 Regulations requires use of generally
applicable taxes for ``governmental purposes.'

[[Page 63374]]

These references to the designation of PILOTs for a public purpose and
to the use of generally applicable taxes for governmental purposes were
intended to refer to the same standard. In this regard, longstanding
Revenue Rulings on the definition of generally applicable taxes under
section 164 on which the section 141 definition was based have
consistently required the use of generally applicable taxes for
``public or governmental purposes.' See, for example, Rev. Rul. 71-49
(1971-1 CB 103); Rev. Rul. 61-152 (1961-2 CB 42) (see Sec.
601.601(d)(2)(ii)(b). To clarify the intended uniform standard for the
use of generally applicable taxes and eligible PILOTs, the Final
Regulations adopt consistent terminology to state this uniform
standard.
The 1997 Regulations and the Proposed Regulations require
``designation' of eligible PILOTs for public purposes. Commentators
suggested clarifying this designation principle to require
``application' of PILOTs for public purposes or to deem PILOTs as duly
designated upon commingling with other governmental taxes or revenues.
In response to this comment, the Final Regulations require use of an
eligible PILOT for governmental or public purposes for which the
underlying generally applicable tax on which it is based may be used.
The Proposed Regulations proposed to eliminate the example in the
last sentence of Sec. 1.141-4(e)(5)(ii) of the 1997 Regulations, which
illustrated that a PILOT made in consideration of the use of property
financed with tax-exempt bonds is treated as a special charge. Most
commentators supported this proposed change and one commentator
objected to this proposed change. The Final Regulations remove this
example, but address the issue raised in this example separately in
clarifying guidance on the ``special charge' limitation on generally
applicable taxes under Sec. 1.141-4(e)(3). A payment made ``in
consideration for the use of property' is more properly characterized
as rent or an installment sale payment for the use of property. The
Final Regulations clarify that, among other special charges, a payment
for the use of property (for example, rent) is treated as a special
charge under Sec. 1.141-4(e)(3). Further, the reference to tax-exempt
bond financing in the referenced example caused confusion because the
presence or absence of tax-exempt bond financing properly is irrelevant
to the determination of whether a payment, in substance, is in the
nature of a special charge for the use of property or a generally
applicable tax. The above-described revision with respect to the
referenced example represents a technical clarification rather than a
substantive change.

Effective/Applicability Dates

The Proposed Regulations were published on October 19, 2006, and
were proposed to apply to bonds sold on or after February 16, 2007.
This proposed effective date was intended to accommodate completion of
bond issues for projects in progress under the 1997 Regulations.
Commentators indicated that the proposed effective date of the Proposed
Regulations was insufficient to accommodate completion of bond issues
for projects substantially in progress. Commentators also requested
transitional relief for refundings of bonds issued before the effective
date of the Proposed Regulations.
The Final Regulations generally apply to bonds sold on or after
October 24, 2008.
In response to public comments, the Final Regulations provide a
transitional rule for refundings. Under this transitional rule, the
1997 Regulations may continue to be applied to certain refundings of
bonds that were sold before the dates of applicability of the Final
Regulations if they meet a prescribed weighted average maturity test
set forth in the Final Regulations.
In addition, in response to public comments, the Final Regulations
also provide a transitional rule for certain bonds for projects
substantially in progress at the time of the promulgation of the
Proposed Regulations. Under this transitional rule, the 1997
Regulations may continue to be applied to certain bonds issued within a
prescribed time to finance certain projects that meet prescribed
conditions set forth in the Final Regulations.

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 also has 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
regulations do 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 Code, the proposed
regulations preceding these regulations were submitted to the Chief
Counsel for Advocacy of the Small Business Administration for comment
on its impact on small business.

Drafting Information

The principal authors of these regulations are Carla Young and
James Polfer, Office of Chief Counsel (Financial Institutions and
Products). However, other personnel from the IRS and the Treasury
Department participated in their development.

List of Subjects in 26 CFR Part 1

Income taxes, Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations

0
Accordingly, 26 CFR part 1 is amended as follows:

PART 1--INCOME TAX

0
Paragraph 1. The authority citation for part 1 continues to read in
part as follows:

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


0
Par. 2. Section 1.141-0 is amended by adding a new entry for Sec.
1.141-15(k) to read as follows:


Sec. 1.141-0 Table of contents.

* * * * *


Sec. 1.141-15 Effective dates.

* * * * *
(k) Effective/applicability dates for certain regulations relating
to generally applicable taxes and payments in lieu of tax.
* * * * *

0
Par. 3. Section 1.141-4 is amended by:
0
1. Paragraph (e)(2) the first sentence is revised.
0
2. Paragraphs (e)(3), (e)(5), (e)(5)(i), (e)(5)(ii) are revised and
adding new paragraphs (e)(5)(iii) and (e)(5)(iv).
The revisions and additions read as follows:


Sec. 1.141-4 Private Security or Payment Test.

* * * * *
(e) * * *
(2) * * * A generally applicable tax is an enforced contribution
exacted pursuant to legislative authority in the exercise of the taxing
power that is imposed and collected for the purpose of raising revenue
to be used for governmental or public purposes. * * *
(3) Special charges. A special charge (as defined in this paragraph
(e)(3)) is not a generally applicable tax. For this purpose, a special
charge means a payment for a special privilege granted or regulatory
function (for example, a license fee), a service rendered (for example,
a sanitation services fee), a use of property (for example, rent), or a

[[Page 63375]]

payment in the nature of a special assessment to finance capital
improvements that is imposed on a limited class of persons based on
benefits received from the capital improvements financed with the
assessment. Thus, a special assessment to finance infrastructure
improvements in a new industrial park (such as sidewalks, streets,
streetlights, and utility infrastructure improvements) that is imposed
on a limited class of persons composed of property owners within the
industrial park who benefit from those improvements is a special
charge. By contrast, an otherwise qualified generally applicable tax
(such as a generally applicable ad valorem tax on all real property
within a governmental taxing jurisdiction) or an eligible PILOT under
paragraph (e)(5) of this section that is based on such a generally
applicable tax is not treated as a special charge merely because the
taxes or PILOTs received are used for governmental or public purposes
in a manner which benefits particular property owners.
* * * * *
(5) Payments in lieu of taxes. A tax equivalency payment or other
payment in lieu of a tax (``PILOT') is treated as a generally
applicable tax if it meets the requirements of paragraphs (e)(5)(i)
through (iv) of this section--
(i) Maximum amount limited by underlying generally applicable tax.
The PILOT is not greater than the amount imposed by a statute for a
generally applicable tax in each year.
(ii) Commensurate with a generally applicable tax. The PILOT is
commensurate with the amount imposed by a statute for a generally
applicable tax in each year under the commensurate standard set forth
in this paragraph (e)(5)(ii). For this purpose, except as otherwise
provided in this paragraph (e)(5)(ii), a PILOT is commensurate with a
generally applicable tax only if it is equal to a fixed percentage of
the generally applicable tax that would otherwise apply in each year or
it reflects a fixed adjustment to the generally applicable tax that
would otherwise apply in each year. A PILOT based on a property tax
does not fail to be commensurate with the property tax as a result of
changes in the level of the percentage of or adjustment to that
property tax for a reasonable phase-in period ending when the subject
property is placed in service (as defined in Sec. 1.150-2(c)). A PILOT
based on a property tax must take into account the current assessed
value of the property for property tax purposes for each year in which
the PILOT is paid and that assessed value must be determined in the
same manner and with the same frequency as property subject to the
property tax. A PILOT is not commensurate with a generally applicable
tax, however, if the PILOT is set at a fixed dollar amount (for
example, fixed debt service on a bond issue) that cannot vary with
changes in the level of the generally applicable tax on which it is
based.
(iii) Use of PILOTs for governmental or public purposes. The PILOT
is to be used for governmental or public purposes for which the
generally applicable tax on which it is based may be used.
(iv) No special charges. The PILOT is not a special charge under
paragraph (e)(3) of this section.
* * * * *

0
Par. 4. Section 1.141-15 is amended by adding paragraph (k) to read as
follows:


Sec. 1.141-15 Effective Dates.

* * * * *
(k) Effective/applicability dates for certain regulations relating
to generally applicable taxes and payments in lieu of tax--(1) In
general. Except as otherwise provided in paragraphs (k)(2) and (k)(3)
of this section, revised Sec. Sec. 1.141-4(e)(2), 1.141-4(e)(3) and
1.141-4(e)(5) apply to bonds sold on or after October 24, 2008 that are
otherwise subject to the 1997 Regulations (defined in paragraph (b)(1)
of this section).
(2) Transitional rule for certain refundings. Paragraph (k)(1) does
not apply to bonds that are issued to refund bonds if--
(i) Either--
(A) The refunded bonds (or the original bonds in a series of
refundings) were sold before October 24, 2008, or
(B) The refunded bonds (or the original bonds in a series of
refundings) satisfied the transitional rule for projects substantially
in progress under paragraph (k)(3) of this section; and
(ii) The weighted average maturity of the refunding bonds does not
exceed the remaining weighted average maturity of the refunded bonds.
(3) Transitional rule for certain projects substantially in
progress. Paragraph (k)(1) of this section does not apply to bonds
issued for projects for which all of the following requirements are
met:
(i) A governmental person (as defined in Sec. 1.141-1) took
official action evidencing its preliminary approval of the project
before October 19, 2006, and the plan of finance for the project in
place at that time contemplated financing the project with tax-exempt
bonds to be paid or secured by PILOTs.
(ii) Before October 19, 2006, significant expenditures were paid or
incurred with respect to the project or a contract was entered into to
pay or incur significant expenditures with respect to the project.
(iii) The bonds for the project (excluding refunding bonds) are
issued on or before December 31, 2009.

Steven Miller,
Deputy Commissioner for Services and Enforcement.
Approved by: October 16, 2008.
Eric Solomon,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. E8-25333 Filed 10-20-08; 4:15 pm]
BILLING CODE 4830-01-P


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