Reg. § 1.721(c)-3 — Gain deferral method.

(a) Scope This section describes the gain deferral method to avoid the immediate recognition of gain upon a contribution of section property to a section partnership. of this section provides the requirements of the gain deferral method, including the requirement to apply the consistent allocation method. of this section describes the consistent allocation method. of this section provides rules for tiered partnerships. of this section provides the dates of applicability. For definitions that apply for purposes of this section, see .

(b) Requirements of the gain deferral method. A contribution of section property to a section partnership that would be subject to will not be subject to if the conditions in through of this section are satisfied with respect to that property.

(1) Either—

(i) Both—

(A) The section partnership adopts the remedial allocation method described in with respect to the section property; and

(B) The section partnership applies the consistent allocation method provided in of this section; or

(ii) For the period beginning on the date of the contribution of the section property and ending on the date on which there is no remaining built-in gain with respect to that property, all distributive shares of income and gain with respect to the section property for all direct and indirect partners that are related foreign persons with respect to the U.S. transferor will be subject to taxation as income effectively connected with a trade or business within the United States (under either section or ), and neither the section partnership nor a related foreign person that is a direct or indirect partner in the section partnership claims benefits under an income tax convention that would exempt the income or gain from tax or reduce the rate of taxation to which the income or gain is subject.

(2) Upon an acceleration event, the U.S. transferor recognizes an amount of gain equal to the remaining built-in gain with respect to the section property or an amount of gain required to be recognized under or , as applicable.

(3) The procedural and reporting requirements provided in are satisfied.

(4) The U.S. transferor consents to extend the period of limitations on assessment of tax as required by .

(5) If the section property is a partnership interest or property described in the partnership look-through rule provided in , the applicable tiered-partnership rules provided in of this section are applied.

(c) Consistent allocation method

(1) In general For each taxable year of a section partnership in which there is remaining built-in gain in the section property, the section partnership must allocate each book item of income, gain, deduction, and loss with respect to the section property to the U.S. transferor in the same percentage. For purposes of this , upon a variation (as defined in ) of a U.S. transferor's interest in a section partnership, a book item of income, gain, deduction, and loss with respect to a section property is treated as allocated in the same percentage if the item is allocated under the interim closing method (as described in ), unless the variation results from a transaction undertaken with a principal purpose of avoiding the tax consequences of the gain deferral method. For exceptions to the first sentence in this , see of this section.

(2) Determining income or gain with respect to section 721(c) property For purposes of applying of this section, a section partnership must attribute book income and gain to each item of section property in a consistent manner using any reasonable method taking into account all the facts and circumstances. All items of book income and gain attributable to an item of section property will comprise a single class of gross income for purposes of applying of this section.

(3) Determining deduction or loss with respect to section 721(c) property For purposes of applying of this section, a section partnership must use the principles of and to allocate and apportion its items of deduction, except for interest expense and research and experimental expenditures, and loss to the class of gross income with respect to each item of section property as determined in of this section. Accordingly, a deduction or loss will be considered to be definitely related and therefore allocable to a class of gross income with respect to particular section property whether or not there is any item of gross income in that class that is received or accrued during the taxable year and whether or not the amount of deduction or loss exceeds the amount of gross income in that class during the taxable year. If a deduction or loss is definitely related and therefore allocable to gross income attributable to more than one class of gross income of the section partnership or if a deduction or loss is not definitely related to any class of gross income of the section partnership, the section partnership must apportion that deduction or loss among its classes of gross income using a reasonable method that reflects to a reasonably close extent the factual relationship between the deduction or loss and the classes of gross income. The section partnership may allocate and apportion its interest expense and research and experimental expenditures under any reasonable method, including, but not limited to, the methods prescribed in and (interest expense) and (research and experimental expenditures). For purposes of this , the section partnership must allocate and apportion its deductions and losses without regard to the partners' percentage interests in the partnership.

(4) Exceptions to the consistent allocation method

(i) Regulatory allocations A regulatory allocation (as defined in ) of book income, gain, deduction, or loss with respect to section property that otherwise would fail to satisfy of this section is nevertheless deemed to satisfy of this section if the allocation is—

(A) An allocation of income or gain to the U.S. transferor (or a member of its consolidated group as defined in );

(B) An allocation of deduction or loss to a partner other than the U.S. transferor (or a member of its consolidated group); or

(C) Treated as a partial acceleration event pursuant to .

(ii) Allocation of creditable foreign tax expenditures An allocation of a creditable foreign tax expenditure (as defined in ) is not subject to the consistent allocation method.

(d) Tiered partnership rules This provides the tiered partnership rules referred to in of this section.

(1) Section 721(c) property is a partnership interest If the section property that is contributed to a section partnership is an interest in a partnership (lower-tier partnership), then the lower-tier partnership, if it is a controlled partnership with respect to the U.S. transferor, and each partnership in which an interest is owned (directly or indirectly through one or more partnerships) by the lower-tier partnership and that is a controlled partnership with respect to the U.S. transferor, must satisfy the requirements of , , and of this section.

(i) The partnership must revalue all its property under if the revaluation would result in a separate positive difference between book value and adjusted tax basis in at least one property that is not excluded property.

(ii) The partnership must apply the gain deferral method for each property (other than excluded property) for which there is a separate positive difference between book value and adjusted tax basis resulting from the revaluation described in of this section (new positive reverse section layer). If the partnership has previously adopted a section method other than the remedial allocation method for the property, the partnership satisfies the requirement of of this section by adopting the remedial allocation method for the new positive reverse section layer.

(iii) The partnership must treat a partner that is a partnership in which the U.S. transferor is a direct or indirect partner as if it were the U.S. transferor with respect to the section property solely for purposes of applying the consistent allocation method.

(2) Section 721(c) property is indirectly contributed by a U.S. transferor under the partnership look-through rule If the U.S. transferor is a direct or indirect partner in the upper-tier partnership described in , and under , the U.S. transferor is treated as contributing the section property (including an interest in a partnership described in of this section) to a section partnership, then the requirements of , , and of this section must be satisfied.

(i) The section partnership must treat the upper-tier partnership as the U.S. transferor of the section property solely for purposes of applying the consistent allocation method;

(ii) The upper-tier partnership, if it is a controlled partnership with respect to the U.S. transferor, must apply the gain deferral method to its interest in the section partnership; and

(iii) If the U.S. transferor is an indirect partner in the upper-tier partnership through one or more partnerships, the principles of and of this section must be applied with respect to those partnerships that are controlled partnerships with respect to the U.S. transferor.

(e) Applicability dates

(1) In general Except as provided in and of this section, this section applies to contributions occurring on or after August 6, 2015, and to contributions that occurred before August 6, 2015 resulting from an entity classification election made under that was effective on or before August 6, 2015 but was filed on or after August 6, 2015.

(2) Certain provisions Except as provided in of this section, , and , and , and and of this section apply to contributions occurring on or after January 18, 2017, and to contributions that occurred before January 18, 2017 resulting from an entity classification election made under that was effective on or before January 18, 2017 but was filed on or after January 18, 2017. Except as provided in of this section, the second sentence of of this section applies to contributions occurring on or after January 17, 2020.

(3) Election to apply the provisions described in paragraph (e)(2) of this section retroactively , and , and , and and of this section may, by election, be applied to a contribution that occurred on or after August 6, 2015 but before January 18, 2017, and to a contribution that occurred before August 6, 2015 resulting from an entity classification election made under that was effective on or before August 6, 2015 but was filed on or after August 6, 2015. The election described in the preceding sentence must have been made by applying , or , or , or or of this section, as applicable, to the contribution on a timely filed original return (including extensions) or an amended return filed no later than July 18, 2017. In order to elect to apply or of this section to a contribution described in this , an election must also have been made to apply or of this section, respectively, to the contribution. The second sentence of of this section, may, by election, be applied to a contribution that occurred on or after August 6, 2015 but before January 17, 2020, and to a contribution that occurred before August 6, 2015 resulting from an entity classification election made under that was effective on or before August 6, 2015 but was filed on or after August 6, 2015. The election described in the preceding sentence must be made by applying the second sentence of of this section to the contribution on a timely filed original return (including extensions) or an amended return filed no later than July 17, 2020.

(4) Transitional rules If a contribution is described in of this section and no election described in of this section is made to apply one or more of and and and of this section, as applicable, to the contribution, then, for purposes of of this section, the section partnership must attribute book income, gain, loss, and deduction to the section property in a consistent manner under any reasonable method taking into account all the facts and circumstances. If a contribution is described in of this section and no election described in of this section is made to apply or of this section, as applicable, to the contribution, then, this section must be applied in a manner consistent with the purpose of the section regulations. Thus, for example, if a U.S. transferor is a direct or indirect partner in a partnership and that partnership contributes section property to a lower-tier partnership, or, if a U.S. transferor contributes an interest in a partnership that owns section property to a lower-tier partnership, then of this section applies as though the U.S. transferor contributed its share of the section property directly.

Reg. § 1.721(c)-3 Gain deferral method.