1.1502-13—Intercompany transactions.

(a) In general— (1) Purpose. This section provides rules for taking into account items of income, gain, deduction, and loss of members from intercompany transactions. The purpose of this section is to provide rules to clearly reflect the taxable income (and tax liability) of the group as a whole by preventing intercompany transactions from creating, accelerating, avoiding, or deferring consolidated taxable income (or consolidated tax liability).
(2) Separate entity and single entity treatment. Under this section, the selling member (S) and the buying member (B) are treated as separate entities for some purposes but as divisions of a single corporation for other purposes. The amount and location of S's intercompany items and B's corresponding items are determined on a separate entity basis (separate entity treatment). For example, S determines its gain or loss from a sale of property to B on a separate entity basis, and B has a cost basis in the property. The timing, and the character, source, and other attributes of the intercompany items and corresponding items, although initially determined on a separate entity basis, are redetermined under this section to produce the effect of transactions between divisions of a single corporation (single entity treatment). For example, if S sells land to B at a gain and B sells the land to a nonmember, S does not take its gain into account until B's sale to the nonmember.
(3) Timing rules as a method of accounting— (i) In general. The timing rules of this section are a method of accounting for intercompany transactions, to be applied by each member in addition to the member's other methods of accounting. See § 1.1502-17 and, with regard to consolidated return years beginning on or after November 7, 2001, § 1.446-1(c)(2)(iii). To the extent the timing rules of this section are inconsistent with a member's otherwise applicable methods of accounting, the timing rules of this section control. For example, if S sells property to B in exchange for B's note, the timing rules of this section apply instead of the installment sale rules of section 453. S's or B's application of the timing rules of this section to an intercompany transaction clearly reflects income only if the effect of that transaction as a whole (including, for example, related costs and expenses) on consolidated taxable income is clearly reflected.
(ii) Automatic consent for joining and departing members— (A) Consent granted. Section 446(e) consent is granted under this section to the extent a change in method of accounting is necessary solely by reason of the timing rules of this section—
(1) For each member, with respect to its intercompany transactions, in the first consolidated return year which follows a separate return year and in which the member engages in an intercompany transaction; and
(2) For each former member, with respect to its transactions with members that would otherwise be intercompany transactions if the former member were still a member, in the first separate return year in which the former member engages in such a transaction.
(B) Cut-off basis. Any change in method of accounting described in paragraph (a)(3)(ii)(A) of this section is to be effected on a cut-off basis for transactions entered into on or after the first day of the year for which consent is granted under paragraph (a)(3)(ii)(A) of this section.
(4) Application of other rules of law. See § 1.1502-80(a) regarding the general applicability of other rules of law and a limitation on duplicative adjustments. The rules of this section apply in addition to other applicable law (including nonstatutory authorities). For example, this section applies in addition to sections 267(f) (additional rules for certain losses), 269 (acquisitions to evade or avoid income tax), and 482 (allocations among commonly controlled taxpayers). Thus, an item taken into account under this section can be deferred, disallowed, or eliminated under other applicable law, for example, section 1091 (losses from wash sales).
(5) References. References in other sections to this section include, as appropriate, references to prior law. For effective dates and prior law see paragraph (l) of this section.
(6) Overview— (i) In general. The principal rules of this section that implement single entity treatment are the matching rule and the acceleration rule of paragraphs (c) and (d) of this section. Under the matching rule, S and B are generally treated as divisions of a single corporation for purposes of taking into account their items from intercompany transactions. The acceleration rule provides additional rules for taking the items into account if the effect of treating S and B as divisions cannot be achieved (for example, if S or B becomes a nonmember). Paragraph (b) of this section provides definitions. Paragraph (e) of this section provides simplifying rules for certain transactions. Paragraphs (f) and (g) of this section provide additional rules for stock and obligations of members. Paragraphs (h) and (j) of this section provide anti-avoidance rules and miscellaneous operating rules.
(ii) Table of examples. Set forth below is a table of the examples contained in this section.
Matching rule. (§ 1.1502-13(c)(7)(ii))
Example 1. Intercompany sale of land.
Example 2. Dealer activities.
Example 3. Intercompany section 351 transfer.
Example 4. Depreciable property.
Example 5. Intercompany sale followed by installment sale.
Example 6. Intercompany sale of installment obligation.
Example 7. Performance of services.
Example 8. Rental of property.
Example 9. Intercompany sale of a partnership interest.
Example 10. Net operating losses subject to section 382 or the SRLY rules.
Example 11. Section 475.
Example 12. Section 1092.
Example 13. [Reserved]
Example 14. Source of income under section 863.
Example 15. Section 1248.
Example 16. Intercompany stock distribution followed by section 332 liquidation.
Example 17. Intercompany stock sale followed by section 355 distribution.
Acceleration rule. (§ 1.1502-13(d)(3))
Example 1. Becoming a nonmember—timing.
Example 2. Becoming a nonmember—attributes.
Example 3. Selling member's disposition of installment note.
Example 4. Cancellation of debt and attribute reduction under section 108(b).
Example 5. Section 481.
Simplifying rules—inventory. (§ 1.1502-13(e)(1)(v))
Example 1. Increment averaging method.
Example 2. Increment valuation method.
Example 3. Other reasonable inventory methods.
Stock of members. (§ 1.1502-13(f)(7))
Example 1. Dividend exclusion and property distribution.
Example 2. Excess loss accounts.
Example 3. Intercompany reorganizations.
Example 4. All cash intercompany reorganization under section 368(a)(1)(D).
Example 5. Stock redemptions and distributions.
Example 6. Intercompany stock sale followed by section 332 liquidation.
Example 7. Intercompany stock sale followed by section 355 distribution.
Obligations of members. (§ 1.1502-13(g)(7)(ii))
Example 1. Interest on intercompany obligation.
Example 2. Intercompany obligation becomes nonintercompany obligation.
Example 3. Loss or bad debt deduction with respect to intercompany obligation.
Example 4. Intercompany nonrecognition transactions.
Example 5. Assumption of intercompany obligation.
Example 6. Extinguishment of intercompany obligation.
Example 7. Exchange of intercompany obligations.
Example 8. Tax benefit rule.
Example 9. Issuance at off-market rate of interest.
Example 10. Nonintercompany obligation becomes intercompany obligation.
Example 11. Notional principal contracts.
Anti-avoidance rules. (§ 1.1502-13(h)(2))
Example 1. Sale of a partnership interest.
Example 2. Transitory status as an intercompany obligation.
Example 3. Corporate mixing bowl.
Example 4. Partnership mixing bowl.
Example 5. Sale and leaseback.
Miscellaneous operating rules. (§ 1.1502-13(j)(9))
Example 1. Intercompany sale followed by section 351 transfer to member.
Example 2. Intercompany sale of member stock followed by recapitalization.
Example 3. Back-to-back intercompany transactions—matching.
Example 4. Back-to-back intercompany transactions—acceleration.
Example 5. Successor group.
Example 6. Liquidation—80% distributee.
Example 7. Liquidation—no 80% distributee.
(b) Definitions. For purposes of this section—
(1) Intercompany transactions— (i) In general. An intercompany transaction is a transaction between corporations that are members of the same consolidated group immediately after the transaction. S is the member transferring property or providing services, and B is the member receiving the property or services. Intercompany transactions include—
(A) S's sale of property (or other transfer, such as an exchange or contribution) to B, whether or not gain or loss is recognized;
(B) S's performance of services for B, and B's payment or accrual of its expenditure for S's performance;
(C) S's licensing of technology, rental of property, or loan of money to B, and B's payment or accrual of its expenditure; and
(D) S's distribution to B with respect to S stock.
(ii) Time of transaction. If a transaction occurs in part while S and B are members and in part while they are not members, the transaction is treated as occurring when performance by either S or B takes place, or when payment for performance would be taken into account under the rules of this section if it were an intercompany transaction, whichever is earliest. Appropriate adjustments must be made in such cases by, for example, dividing the transaction into two separate transactions reflecting the extent to which S or B has performed.
(iii) Separate transactions. Except as otherwise provided in this section, each transaction is analyzed separately. For example, if S simultaneously sells two properties to B, one at a gain and the other at a loss, each property is treated as sold in a separate transaction. Thus, the gain and loss cannot be offset or netted against each other for purposes of this section. Similarly, each payment or accrual of interest on a loan is a separate transaction. In addition, an accrual of premium is treated as a separate transaction, or as an offset to interest that is not a separate transaction, to the extent required under separate entity treatment. If two members exchange property, each member is S with respect to the property it transfers and B with respect to the property it receives. If two members enter into a notional principal contract, each payment under the contract is a separate transaction and the member making the payment is B with respect to that payment and the member receiving the payment is S. See paragraph (j)(4) of this section for rules aggregating certain transactions.
(2) Intercompany items— (i) In general. S's income, gain, deduction, and loss from an intercompany transaction are its intercompany items. For example, S's gain from the sale of property to B is intercompany gain. An item is an intercompany item whether it is directly or indirectly from an intercompany transaction.
(ii) Related costs or expenses. S's costs or expenses related to an intercompany transaction are included in determining its intercompany items. For example, if S sells inventory to B, S's direct and indirect costs properly includible under section 263A are included in determining its intercompany income. Similarly, related costs or expenses that are not capitalized under S's separate entity method of accounting are included in determining its intercompany items. For example, deductions for employee wages, in addition to other related costs, are included in determining S's intercompany items from performing services for B, and depreciation deductions are included in determining S's intercompany items from renting property to B.
(iii) Amounts not yet recognized or incurred. S's intercompany items include amounts from an intercompany transaction that are not yet taken into account under its separate entity method of accounting. For example, if S is a cash method taxpayer, S's intercompany income might be taken into account under this section even if the cash is not yet received. Similarly, an amount reflected in basis (or an amount equivalent to basis) under S's separate entity method of accounting that is a substitute for income, gain, deduction or loss from an intercompany transaction is an intercompany item.
(3) Corresponding items— (i) In general. B's income, gain, deduction, and loss from an intercompany transaction, or from property acquired in an intercompany transaction, are its corresponding items. For example, if B pays rent to S, B's deduction for the rent is a corresponding deduction. If B buys property from S and sells it to a nonmember, B's gain or loss from the sale to the nonmember is a corresponding gain or loss; alternatively, if B recovers the cost of the property through depreciation, B's depreciation deductions are corresponding deductions. An item is a corresponding item whether it is directly or indirectly from an intercompany transaction (or from property acquired in an intercompany transaction).
(ii) Disallowed or eliminated amounts. B's corresponding items include amounts that are permanently disallowed or permanently eliminated, whether directly or indirectly. Thus, corresponding items include amounts disallowed under section 265 (expenses relating to tax-exempt income), and amounts not recognized under section 311(a) (nonrecognition of loss on distributions), section 332 (nonrecognition on liquidating distributions), or section 355(c) (certain distributions of stock of a subsidiary). On the other hand, an amount is not permanently disallowed or permanently eliminated (and therefore is not a corresponding item) to the extent it is not recognized in a transaction in which B receives a successor asset within the meaning of paragraph (j)(1) of this section. For example, B's corresponding items do not include amounts not recognized from a transaction with a nonmember to which section 1031 applies or from another transaction in which B receives exchanged basis property.
(4) Recomputed corresponding items. The recomputed corresponding item is the corresponding item that B would take into account if S and B were divisions of a single corporation and the intercompany transaction were between those divisions. For example, if S sells property with a $70 basis to B for $100, and B later sells the property to a nonmember for $90, B's corresponding item is its $10 loss, and the recomputed corresponding item is $20 of gain (determined by comparing the $90 sales price with the $70 basis the property would have if S and B were divisions of a single corporation). Although neither S nor B actually takes the recomputed corresponding item into account, it is computed as if B did take it into account (based on reasonable and consistently applied assumptions, including any provision of the Internal Revenue Code or regulations that would affect its timing or attributes).
(5) Treatment as a separate entity. Treatment as a separate entity means treatment without application of the rules of this section, but with the application of the other consolidated return regulations. For example, if S sells the stock of another member to B, S's gain or loss on a separate entity basis is determined with the application of § 1.1502-80(b) (non-applicability of section 304 ), but without redetermination under paragraph (c) or (d) of this section.
(6) Attributes. The attributes of an intercompany item or corresponding item are all of the item's characteristics, except amount, location, and timing, necessary to determine the item's effect on taxable income (and tax liability). For example, attributes include character, source, treatment as excluded from gross income or as a noncapital, nondeductible amount, and treatment as built-in gain or loss under section 382(h) or 384. In contrast, the characteristics of property, such as a member's holding period, or the fact that property is included in inventory, are not attributes of an item, but these characteristics might affect the determination of the attributes of items from the property.
(c) Matching rule. For each consolidated return year, B's corresponding items and S's intercompany items are taken into account under the following rules:
(1) Attributes and holding periods— (i) Attributes. The separate entity attributes of S's intercompany items and B's corresponding items are redetermined to the extent necessary to produce the same effect on consolidated taxable income (and consolidated tax liability) as if S and B were divisions of a single corporation, and the intercompany transaction were a transaction between divisions. Thus, the activities of both S and B might affect the attributes of both intercompany items and corresponding items. For example, if S holds property for sale to unrelated customers in the ordinary course of its trade or business, S sells the property to B at a gain and B sells the property to an unrelated person at a further gain, S's intercompany gain and B's corresponding gain might be ordinary because of S's activities with respect to the property. Similar principles apply if S performs services, rents property, or engages in any other intercompany transaction.
(ii) Holding periods. The holding period of property transferred in an intercompany transaction is the aggregate of the holding periods of S and B. However, if the basis of the property is determined by reference to the basis of other property, the property's holding period is determined by reference to the holding period of the other property. For example, if S distributes stock to B in a transaction to which section 355 applies, B's holding period in the distributed stock is determined by reference to B's holding period in the stock of S.
(2) Timing— (i) B's items. B takes its corresponding items into account under its accounting method, but the redetermination of the attributes of a corresponding item might affect its timing. For example, if B's sale of property acquired from S is treated as a dealer disposition because of S's activities, section 453(b) prevents any corresponding income of B from being taken into account under the installment method.
(ii) S's items. S takes its intercompany item into account to reflect the difference for the year between B's corresponding item taken into account and the recomputed corresponding item.
(3) Divisions of a single corporation. As divisions of a single corporation, S and B are treated as engaging in their actual transaction and owning any actual property involved in the transaction (rather than treating the transaction as not occurring). For example, S's sale of land held for investment to B for cash is not disregarded, but is treated as an exchange of land for cash between divisions (and B therefore succeeds to S's basis in the property). Similarly, S's issuance of its own stock to B in exchange for property is not disregarded, B is treated as owning the stock it receives in the exchange, and section 1032 does not apply to B on its subsequent sale of the S stock. Although treated as divisions, S and B nevertheless are treated as:
(i) Operating separate trades or businesses. See, e.g., § 1.446-1(d) (accounting methods for a taxpayer engaged in more than one business).
(ii) Having any special status that they have under the Internal Revenue Code or regulations. For example, a bank defined in section 581, a domestic building and loan association defined in section 7701(a)(19), and an insurance company to which section 801 or 831 applies are treated as divisions having separate special status. On the other hand, the fact that a member holds property for sale to customers in the ordinary course of its trade or business is not a special status.
(4) Conflict or allocation of attributes. This paragraph (c)(4) provides special rules for redetermining and allocating attributes under paragraph (c)(1)(i) of this section.
(i) Offsetting amounts— (A) In general. To the extent B's corresponding item offsets S's intercompany item in amount, the attributes of B's corresponding item, determined based on both S's and B's activities, control the attributes of S's offsetting intercompany item. For example, if S sells depreciable property to B at a gain and B depreciates the property, the attributes of B's depreciation deduction (ordinary deduction) control the attributes of S's offsetting intercompany gain. Accordingly, S's gain is ordinary.
(B) B controls unreasonable. To the extent the results under paragraph (c)(4)(i)(A) are inconsistent with treating S and B as divisions of a single corporation, the attributes of the offsetting items must be redetermined in a manner consistent with treating S and B as divisions of a single corporation. To the extent, however, that B's corresponding item on a separate entity basis is excluded from gross income, is a noncapital, nondeductible amount, or is otherwise permanently disallowed or eliminated, the attributes of B's corresponding item always control the attributes of S's offsetting intercompany item.
(ii) Allocation. To the extent S's intercompany item and B's corresponding item do not offset in amount, the attributes redetermined under paragraph (c)(1)(i) of this section must be allocated to S's intercompany item and B's corresponding item by using a method that is reasonable in light of all the facts and circumstances, including the purposes of this section and any other rule affected by the attributes of S's intercompany item and B's corresponding item. A method of allocation or redetermination is unreasonable if it is not used consistently by all members of the group from year to year.
(5) Special status. Notwithstanding the general rule of paragraph (c)(1)(i) of this section, to the extent an item's attributes determined under this section are permitted or not permitted to a member under the Internal Revenue Code or regulations by reason of the member's special status, the attributes required under the Internal Revenue Code or regulations apply to that member's items (but not the other member). For example, if S is a bank to which section 582(c) applies, and sells debt securities at a gain to B, a nonbank, the character of S's intercompany gain is ordinary as required under section 582(c), but the character of B's corresponding item as capital or ordinary is determined under paragraph (c)(1)(i) of this section without the application of section 582(c). For other special status issues, see, for example, sections 595(b) (foreclosure on property securing loans), 818(b) (life insurance company treatment of capital gains and losses), and 1503(c) (limitation on absorption of certain losses).
(6) Treatment of intercompany items if corresponding items are excluded or nondeductible— (i) In general. Under paragraph (c)(1)(i) of this section, S's intercompany item might be redetermined to be excluded from gross income or treated as a noncapital, nondeductible amount. For example, S's intercompany loss from the sale of property to B is treated as a noncapital, nondeductible amount if B distributes the property to a nonmember shareholder at no further gain or loss (because, if S and B were divisions of a single corporation, the loss would not have been recognized under section 311(a) ). Paragraph (c)(6)(ii) of this section, however, provides limitations on the application of this rule to intercompany income or gain. See also §§ 1.1502-32 and 1.1502-33 (adjustments to S's stock basis and earnings and profits to reflect amounts so treated).
(ii) Limitation on treatment of intercompany items as excluded from gross income. Notwithstanding the general rule of paragraph (c)(1)(i) of this section, S's intercompany income or gain is redetermined to be excluded from gross income only to the extent one of the following applies:
(A) Disallowed amounts. B's corresponding item is a deduction or loss and, in the taxable year the item is taken into account under this section, it is permanently and explicitly disallowed under another provision of the Internal Revenue Code or regulations. For example, deductions that are disallowed under section 265 are permanently and explicitly disallowed. An amount is not permanently and explicitly disallowed, for example, to the extent that—
(1) The Internal Revenue Code or regulations provide that the amount is not recognized (for example, a loss that is realized but not recognized under section 332 or section 355(c) is not permanently and explicitly disallowed, notwithstanding that it is a corresponding item within the meaning of paragraph (b)(3)(ii) of this section (certain disallowed or eliminated amounts));
(2) A related amount might be taken into account by B with respect to successor property, such as under section 280B (demolition costs recoverable as capitalized amounts);
(3) A related amount might be taken into account by another taxpayer, such as under section 267(d) (disallowed loss under section 267(a) might result in nonrecognition of gain for a related person);
(4) A related amount might be taken into account as a deduction or loss, including as a carryforward to a later year, under any provision of the Internal Revenue Code or regulations (whether or not the carryforward expires in a later year); or
(5) The amount is reflected in the computation of any credit against (or other reduction of) Federal income tax (whether allowed for the taxable year or carried forward to a later year).
(B) . The corresponding item is a loss that is realized, but not recognized under section 311(a) on a distribution to a nonmember (even though the loss is not a permanently and explicitly disallowed amount within the meaning of paragraph (c)(6)(ii)(A) of this section).
(C) Certain intercompany gains on stock— (1) In general. Notwithstanding paragraph (c)(6)(ii)(A)(1) of this section, intercompany gain with respect to a member's stock that was created by reason of an intercompany transfer of the stock, and that would not otherwise be taken into account upon a subsequent elimination of the stock's basis but for the transfer, is redetermined to be excluded from gross income if—
(i) B or S becomes a successor (as defined in paragraph (j)(2) of this section) to the other party (either B or S), or a third member becomes a successor to both B and S;
(ii) Immediately before the intercompany gain would be taken into account, the successor member holds the member's stock with respect to which the intercompany gain was realized;
(iii) The successor member's basis in the member's stock that reflects the intercompany gain that is taken into account is eliminated without the recognition of gain or loss (and such eliminated basis is not further reflected in the basis of any successor asset);
(iv) The effects of the intercompany transaction have not previously been reflected, directly or indirectly, on the group's consolidated return; and
(v) The group has not derived, and no taxpayer will derive, any Federal income tax benefit from the intercompany transaction that gave rise to the intercompany gain or the redetermination of the intercompany gain (including any adjustment to basis in member stock under § 1.1502-32 ). For this purpose, the redetermination of the intercompany gain is not itself considered a Federal income tax benefit.
(2) Effect on earnings and profits and investment adjustments. Any amount excluded from gross income under paragraph (c)(6)(ii)(C)(1) of this section shall not be taken into account as earnings and profits of any member and shall not be treatedas tax-exempt income under § 1.1502-32(b)(2)(ii).
(D) Other amounts. (1) The Commissioner may determine that treating S's intercompany item as excluded from gross income is consistent with the purposes of this section and other applicable provisions of the Internal Revenue Code, regulations, and published guidance, if the following conditions are met, depending on whether theintercompany item is an item of income or an item of gain:
(2) A determination by the Commissioner may be obtained only through a letter ruling request.
(7) Examples— (i) In general. For purposes of the examples in this section, unless otherwise stated, P is the common parent of the P consolidated group, P owns all of the only class of stock of subsidiaries S and B, X is a person unrelated to any member of the P group, the taxable year of all persons is the calendar year, all persons use the accrual method of accounting, tax liabilities are disregarded, the facts set forth the only corporate activity, no member has any special status, and the transaction is not otherwise subject to recharacterization. If a member acts as both a selling member and a buying member (e.g., with respect to different aspects of a single transaction, or with respect to related transactions), the member is referred to as M, M1, or M2 (rather than as S or B).
(ii) Matching rule. The matching rule of this paragraph (c) is illustrated by the following examples.

Code of Federal Regulations

Example 1. Intercompany sale of land followed by sale to a nonmember. (a) Facts. S holds land for investment with a basis of $70. S has held the land for more than one year. On January 1 of Year 1, S sells the land to B for $100. B also holds the land for investment. On July 1 of Year 3, B sells the land to X for $110. (b) Definitions. Under paragraph (b)(1) of this section, S's sale of the land to B is an intercompany transaction, S is the selling member, and B is the buying member. Under paragraphs (b)(2) and (3) of this section, S's $30 gain from the sale to B is its intercompany item, and B's $10 gain from the sale to X is its corresponding item. (c) Attributes. Under the matching rule of paragraph (c) of this section, S's $30 intercompany gain and B's $10 corresponding gain are taken into account to produce the same effect on consolidated taxable income (and consolidated tax liability) as if S and B were divisions of a single corporation. In addition, the holding periods of S and B for the land are aggregated. Thus, the group's entire $40 of gain is long-term capital gain. Because both S's intercompany item and B's corresponding item on a separate entity basis are long-term capital gain, the attributes are not redetermined under paragraph (c)(1)(i) of this section. (d) Timing. For each consolidated return year, S takes its intercompany item into account under the matching rule to reflect the difference for the year between B's corresponding item taken into account and the recomputed corresponding item. If S and B were divisions of a single corporation and the intercompany sale were a transfer between the divisions, B would succeed to S's $70 basis in the land and would have a $40 gain from the sale to X in Year 3, instead of a $10 gain. Consequently, S takes no gain into account in Years 1 and 2, and takes the entire $30 gain into account in Year 3, to reflect the $30 difference in that year between the $10 gain B takes into account and the $40 recomputed gain (the recomputed corresponding item). Under §§ 1.1502-32 and 1.1502-33 , P's basis in its S stock and the earnings and profits of S and P do not reflect S's $30 gain until the gain is taken into account in Year 3. (Under paragraph (a)(3) of this section, the results would be the same if S sold the land to B in an installment sale to which section 453 would otherwise apply, because S must take its intercompany gain into account under this section.) (e) Intercompany loss followed by sale to a nonmember at a gain. The facts are the same as in paragraph (a) of this Example 1, except that S's basis in the land is $130 (rather than $70). The attributes and timing of S's intercompany loss and B's corresponding gain are determined under the matching rule in the manner provided in paragraphs (c) and (d) of this Example 1. If S and B were divisions of a single corporation and the intercompany sale were a transfer between the divisions, B would succeed to S's $130 basis in the land and would have a $20 loss from the sale to X instead of a $10 gain. Thus, S takes its entire $30 loss into account in Year 3 to reflect the $30 difference between B's $10 gain taken into account and the $20 recomputed loss. (The results are the same under section 267(f).) S's $30 loss is long-term capital loss, and B's $10 gain is long-term capital gain. (f) Intercompany gain followed by sale to a nonmember at a loss. The facts are the same as in paragraph (a) of this Example 1, except that B sells the land to X for $90 (rather than $110). The attributes and timing of S's intercompany gain and B's corresponding loss are determined under the matching rule. If S and B were divisions of a single corporation and the intercompany sale were a transfer between the divisions, B would succeed to S's $70 basis in the land and would have a $20 gain from the sale to X instead of a $10 loss. Thus, S takes its entire $30 gain into account in Year 3 to reflect the $30 difference between B's $10 loss taken into account and the $20 recomputed gain. S's $30 gain is long-term capital gain, and B's $10 loss is long-term capital loss.
Code of Federal Regulations 324
(g) Intercompany gain followed by distribution to a nonmember at a loss. The facts are the same as in paragraph (a) of this Example 1, except that B distributes the land to X, a minority shareholder of B, and at the time of the distribution the land has a fair market value of $90. The attributes and timing of S's intercompany gain and B's corresponding loss are determined under the matching rule. Under section 311(a), B does not recognize its $10 loss on the distribution to X. If S and B were divisions of a single corporation and the intercompany sale were a transfer between divisions, B would succeed to S's $70 basis in the land and would have a $20 gain from the distribution to X instead of an unrecognized $10 loss. Under paragraph (b)(3)(ii) of this section, B's loss that is not recognized under section 311(a) is a corresponding item. Thus, S takes its $30 gain into account under the matching rule in Year 3 to reflect the difference between B's $10 corresponding unrecognized loss and the $20 recomputed gain. B's $10 corresponding loss offsets $10 of S's intercompany gain and, under paragraph (c)(4)(i) of this section, the attributes of B's corresponding item control the attributes of S's intercompany item. Paragraph (c)(6) of this section does not prevent the redetermination of S's intercompany item as excluded from gross income. (See paragraph (c)(6)(ii)(B) of this section). Thus, $10 of S's $30 gain is redetermined to be excluded from gross income. (h) Intercompany sale followed by section 1031 exchange with nonmember. The facts are the same as in paragraph (a) of this Example 1, except that, instead of selling the land to X, B exchanges the land for land owned by X in a transaction to which section 1031 applies. There is no difference in Year 3 between B's $0 corresponding item taken into account and the $0 recomputed corresponding item. Thus, none of S's intercompany gain is taken into account under the matching rule as a result of the section 1031 exchange. Instead, B's gain is preserved in the land received from X and, under the successor asset rule of paragraph (j)(1) of this section, S's intercompany gain is taken into account by reference to the replacement property. (If B takes gain into account as a result of boot received in the exchange, S's intercompany gain is taken into account under the matching rule to the extent the boot causes a difference between B's gain taken into account and the recomputed gain.) (i) Intercompany sale followed by section 351 transfer to nonmember. The facts are the same as in paragraph (a) of this Example 1, except that, instead of selling the land to X, B transfers the land to X in a transaction to which section 351(a) applies and X remains a nonmember. There is no difference in Year 3 between B's $0 corresponding item taken into account and the $0 recomputed corresponding item. Thus, none of S's intercompany gain is taken into account under the matching rule as a result of the section 351(a) transfer. However, S's entire gain is taken into account in Year 3 under the acceleration rule of paragraph (d) of this section (because X, a nonmember, reflects B's $100 cost basis in the land under section 362).

Code of Federal Regulations

Example 2. Dealer activities. (a) Facts. S holds land for investment with a basis of $70. On January 1 of Year 1, S sells the land to B for $100. B develops the land as residential real estate, and sells developed lots to customers during Year 3 for an aggregate amount of $110. (b) Attributes. S and B are treated under the matching rule as divisions of a single corporation for purposes of determining the attributes of S's intercompany item and B's corresponding item. Thus, although S held the land for investment, whether the gain is treated as from the sale of property described in section 1221(1) is based on the activities of both S and B. If, based on both S's and B's activities, the land is described in section 1221(1), both S's gain and B's gain are ordinary income.

Code of Federal Regulations

Example 3. Intercompany section 351 transfer. (a) Facts. S holds land with a $70 basis and a $100 fair market value for sale to customers in the ordinary course of business. On January 1 of Year 1, S transfers the land to B in exchange for all of the stock of B in a transaction to which section 351 applies. S has no gain or loss under section 351(a), and its basis in the B stock is $70 under section 358. Under section 362, B's basis in the land is $70. B holds the land for investment. On July 1 of Year 3, B sells the land to X for $100. Assume that if S and B were divisions of a single corporation, B's gain from the sale would be ordinary income because of S's activities. (b) Timing and attributes. Under paragraph (b)(1) of this section, S's transfer to B is an intercompany transaction. Under paragraph (c)(3) of this section, S is treated as transferring the land in exchange for B's stock even though, as divisions, S could not own stock of B. S has no intercompany item, but B's $30 gain from its sale of the land to X is a corresponding item because the land was acquired in an intercompany transaction. B's $30 gain is ordinary income that is taken into account under B's method of accounting. (c) Intercompany section 351 transfer with boot. The facts are the same as in paragraph (a) of this Example 3, except that S receives $10 cash in addition to the B stock in the transfer. S recognizes $10 of gain under section 351(b), and its basis in the B stock is $70 under section 358. Under section 362, B's basis in the land is $80. S takes its $10 intercompany gain into account in Year 3 to reflect the $10 difference between B's $20 corresponding gain taken into account and the $30 recomputed gain. Both S's $10 gain and B's $20 gain are ordinary income.
Code of Federal Regulations 325
(d) Partial disposition. The facts are the same as in paragraph (c) of this Example 3, except B sells only a one- half, undivided interest in the land to X for $50. The timing and attributes are determined in the manner provided in paragraph (b) of this Example 3, except that S takes only $5 of its gain into account in Year 3 to reflect the $5 difference between B's $10 gain taken into account and the $15 recomputed gain.

Code of Federal Regulations

Example 4. Depreciable property. (a) Facts. On January 1 of Year 1, S buys 10-year recovery property for $100 and depreciates it under the straight-line method. On January 1 of Year 3, S sells the property to B for $130. Under section 168(i)(7), B is treated as S for purposes of section 168 to the extent B's $130 basis does not exceed S's adjusted basis at the time of the sale. B's additional basis is treated as new 10-year recovery property for which B elects the straight-line method of recovery. (To simplify the example, the half-year convention is disregarded.) (b) Depreciation through Year 3; intercompany gain. S claims $10 of depreciation for each of Years 1 and 2 and has an $80 basis at the time of the sale to B. Thus, S has a $50 intercompany gain from its sale to B. For Year 3, B has $10 of depreciation with respect to $80 of its basis (the portion of its $130 basis not exceeding S's adjusted basis). In addition, B has $5 of depreciation with respect to the $50 of its additional basis that exceeds S's adjusted basis. (c) Timing. S's $50 gain is taken into account to reflect the difference for each consolidated return year between B's depreciation taken into account with respect to the property and the recomputed depreciation. For Year 3, B takes $15 of depreciation into account. If the intercompany transaction were a transfer between divisions of a single corporation, B would succeed to S's adjusted basis in the property and take into account only $10 of depreciation for Year 3. Thus, S takes $5 of gain into account in Year 3. In each subsequent year that B takes into account $15 of depreciation with respect to the property, S takes into account $5 of gain. (d) Attributes. Under paragraph (c)(1)(i) of this section, the attributes of S's gain and B's depreciation must be redetermined to the extent necessary to produce the same effect on consolidated taxable income as if the intercompany transaction were between divisions of a single corporation (the group must have a net depreciation deduction of $10). In each year, $5 of B's corresponding depreciation deduction offsets S's $5 intercompany gain taken into account and, under paragraph (c)(4)(i) of this section, the attributes of B's corresponding item control the attributes of S's intercompany item. Accordingly, S's intercompany gain that is taken into account as a result of B's depreciation deduction is ordinary income. (e) Sale of property to a nonmember. The facts are the same as in paragraph (a) of this Example 4, except that B sells the property to X on January 1 of Year 5 for $110. As set forth in paragraphs (c) and (d) of this Example 4, B has $15 of depreciation with respect to the property in each of Years 3 and 4, causing S to take $5 of intercompany gain into account in each year as ordinary income. The $40 balance of S's intercompany gain is taken into account in Year 5 as a result of B's sale to X, to reflect the $40 difference between B's $10 gain taken into account and the $50 of recomputed gain ($110 of sale proceeds minus the $60 basis B would have if the intercompany sale were a transfer between divisions of a single corporation). Treating S and B as divisions of a single corporation, $40 of the gain is section 1245 gain and $10 is section 1231 gain. On a separate entity basis, S would have more than $10 treated as section 1231 gain, and B would have no amount treated as section 1231 gain. Under paragraph (c)(4)(ii) of this section, all $10 of the section 1231 gain is allocated to S. S's remaining $30 of gain, and all of B's $10 gain, is treated as section 1245 gain.

Code of Federal Regulations

Example 5. Intercompany sale followed by installment sale. (a) Facts. S holds land for investment with a basis of $70x. On January 1 of Year 1, S sells the land to B for $100x. B also holds the land for investment. On July 1 of Year 3, B sells the land to X in exchange for X's $110x note. The note bears a market rate of interest in excess of the applicable Federal rate, and provides for principal payments of $55x in Year 4 and $55x in Year 5. The interest charge under section 453A(c) applies to X's note. (b) Timing and attributes. S takes its $30x gain into account to reflect the difference in each consolidated return year between B's gain taken into account for the year and the recomputed gain. Under section 453, B takes into account $5x of gain in Year 4 and $5x of gain in Year 5. Thus, S takes into account $15x of gain in Year 4 and $15x of gain in Year 5 to reflect the $15x difference in each of those years between B's $5x gain taken into account and the $20x recomputed gain. Both S's $30x gain and B's $10x gain are subject to the section 453A(c) interest charge beginning in Year 3. (c) Election out under section 453(d). If, under the facts in paragraph (a) of this Example 5, the P group wishes to elect not to apply section 453 with respect to S's gain, an election under section 453(d) must be made for Year 3 with respect to B's gain. This election will cause B's $10x gain to be taken into account in Year 3. Under the matching rule, this will result in S's $30x gain being taken into account in Year 3. (An election by the P group solely with respect to S's gain has no effect because the gain from S's sale to B is taken into account under the matching rule, and therefore must reflect the difference between B's gain taken into account and the recomputed gain.)
Code of Federal Regulations 326
(d) Sale to a nonmember at a loss, but overall gain. The facts are the same as in paragraph (a) of this Example 5, except that B sells the land to X in exchange for X's $90x note (rather than $110x note). If S and B were divisions of a single corporation, B would succeed to S's basis in the land, and the sale to X would be eligible for installment reporting under section 453, because it resulted in an overall gain. However, because only gains may be reported on the installment method, B's $10x corresponding loss is taken into account in Year 3. Under paragraph (b)(4) of this section the recomputed corresponding item is $20x gain that would be taken into account under the installment method, $0 in Year 3 and $10x in each of Years 4 and 5. Thus, in Year 3 S takes $10x of gain into account to reflect the difference between B's $10x loss taken into account and the $0 recomputed gain for Year 3. Under paragraph (c)(4)(i) of this section, B's $10x corresponding loss offsets $10x of S's intercompany gain, and B's attributes control. S takes $10x of gain into account in each of Years 4 and 5 to reflect the difference in those years between B's $0 gain taken into account and the $10x recomputed gain that would be taken into account under the installment method. Only the $20x of S's gain taken into account in Years 4 and 5 is subject to the interest charge under section 453A(c) beginning in Year 3. (If P elects under section 453(d) for Year 3 not to apply section 453 with respect to the gain, all of S's $30x gain will be taken into account in Year 3 to reflect the difference between B's $10x loss taken into account and the $20x recomputed gain.) (e) Intercompany loss, installment gain. The facts are the same as in paragraph (a) of this Example 5, except that S has a $130x (rather than $70x) basis in the land. Under paragraph (c)(1)(i) of this section, the separate entity attr