Reg-144859-04

Part IV. Items of General Interest
Notice of Proposed
Rulemaking and Notice of
Public Hearing
Section 1367 Regarding Open
Account Debt
REG–144859–04
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Notice of proposed rulemaking
and notice of public hearing.
SUMMARY: This document proposes
amendments to the regulations relating
to the treatment of open account debt between S corporations and their shareholders. These proposed regulations provide
rules regarding the definition of open account debt and the adjustments in basis
of any indebtedness of an S corporation
to a shareholder under section 1367(b)(2)
of the Internal Revenue Code (Code) for
shareholder advances and repayments on
advances of open account debt. The proposed regulations affect shareholders of
S corporations and are necessary to provide guidance needed to comply with the
applicable tax law. This document also
provides notice of a public hearing.
DATES: Written or electronic comments
and requests for a public hearing must be
received by July 11, 2007. Outlines of
topics to be discussed at the public hearing
scheduled for July 31, 2007, at 10 a.m.,
must be received by July 10, 2007.
ADDRESSES: Send submissions to:
CC:PA:LPD:PR
(REG–144859–04),
room 5203, Internal Revenue Service,
PO Box 7604, Ben Franklin Station,
Washington, DC 20044. Submissions
also may be hand-delivered Monday
through Friday between the hours of
8 a.m. and 4 p.m. to: CC:PA:LPD:PR
(REG–144859–04), Courier’s Desk, Internal Revenue Service, 1111 Constitution
Avenue, NW, Washington, DC, or sent
electronically via the Federal eRulemaking Portal at http://www.regulations.gov
(IRS REG–144859–04). The public hearing will be held in the IRS Auditorium,

May 14, 2007

Internal Revenue Building, 1111 Constitution Avenue, NW, Washington, DC.
FOR
FURTHER
INFORMATION
CONTACT:
Concerning
the
proposed regulations, Stacy L. Short or
Deane M. Burke, (202) 622–3070;
concerning submissions of comments,
the hearing, and/or to be placed on
the building access list to attend
the hearing, Richard Hurst at (202)
622–2949 (TDD Telephone) (not toll-free
numbers) and his e-mail address is
Richard.A.Hurst@irscounsel.treas.gov,
(202) 622–7180 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collections of information contained in this notice of proposed rulemaking have been submitted to the Office
of Management and Budget for review
in accordance with the Paperwork Reduction Act of 1995 (44 U.S.C. 3507).
Comments on the collections of information should be sent to the Office of
Management and Budget, Attention: Desk
Officer for the Department of the Treasury, Office of Information and Regulatory Affairs, Washington, DC 20503, with
copies to the Internal Revenue Service,
Attention: IRS Reports Clearance Officer,
SE:W:CAR:MP:T:T:SP, Washington, DC
20224.
The
recordkeeping
requirement
in these proposed regulations is in
§1.1367–2(a)(2)(i). This information must
be maintained by the shareholder to ensure
that the indebtedness of the S corporation
to the shareholder continues to meet the
definition of open account debt found in
§1.1367–2(a)(2)(i). The recordkeepers
will be S corporation shareholders who
have open account debt.
The following estimates are an approximation of the average time expected to
be necessary for a collection of information. They are based on the information
that is available to the Internal Revenue
Service. Individual recordkeepers may require greater or less time, depending on
their particular circumstances.
Estimated total annual recordkeeping
burden: 250 hours.

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Estimated average annual burden:
hours per recordkeeper varies from .75
to 1.25 hours, depending on individual
circumstances, with an estimated average
of 1 hour.
Estimated number of recordkeepers:
250.
Estimated annual frequency of recordkeeping: On occasion.
Background
This document proposes to amend
§1.1367–2 of the Income Tax Regulations
(26 CFR part 1) regarding the definition
of open account debt and adjustments in
basis of indebtedness for shareholder advances and repayments on advances of
open account debt.
Section 1367(a)(1) provides that the
basis of each shareholder’s stock in an
S corporation is increased by the shareholder’s pro rata share of the S corporation’s income (separately and nonseparately computed items of income) and
the excess of the deductions for depletion
over the basis of the property subject to
depletion. Section 1367(a)(2) provides
that the basis of each shareholder’s stock
in the S corporation is decreased by the
shareholder’s pro rata share of distributions not includible in income of the
shareholder by reason of section 1368
(nontaxable distributions), losses and deductions (separately and non-separately
computed losses), any expense of the
corporation that is not deductible and not
properly chargeable to capital account, and
certain deductions for depletion for any oil
and gas property held by the S corporation.
Under section 1367(b)(2)(A), if for any
taxable year the amounts specified in section 1367(a)(2) (other than distributions)
exceed the amount which reduces the
shareholder’s basis to zero, such excess
losses and deductions shall be applied to
reduce (but not below zero) the shareholder’s basis in any indebtedness of the
S corporation to the shareholder. Section
1367(b)(2)(B) provides that if a shareholder’s basis in indebtedness is reduced
for any taxable year, any net increase
(the amount by which the items described
in section 1367(a)(1) exceed the items
described in section 1367(a)(2)) for any
subsequent taxable year is applied to re-

2007–20 I.R.B.

store the reduction in basis in indebtedness
before any of the excess is used to increase
basis in stock.
On January 3, 1994, the Treasury Department and the IRS published final regulations under section 1367 of the Code
(T.D. 8508, 1994–1 C.B. 219 [59 FR 12],
amended on December 22, 1999 (T.D.
8852, 2000–1 C.B. 253 [64 FR 71641])).
Those final regulations relate, in part, to
adjustments to basis in both stock of shareholders and indebtedness of an S corporation to its shareholders. Section 1.1367–2
of the Income Tax Regulations provides
specific rules for required adjustments
(reductions and restorations) to basis in
any indebtedness of an S corporation to
a shareholder. Section 1.1367–2(a) also
provides that for purposes of adjustments
to basis of indebtedness to shareholders,
shareholder advances not evidenced by
separate written instruments and repayments on the advances (open account
debt) are treated as a single indebtedness.
Further, §1.1367–2(a) provides that the
basis of indebtedness of the S corporation
to a shareholder is reduced as provided in
§1.1367–2(b) and restored as provided in
§1.1367–2(c). Thus, the basis adjustment
rules under the final regulations apply to
all indebtedness of an S corporation to a
shareholder, whether the indebtedness is
evidenced by a written instrument or is
open account debt.
Section 1.1367–2(b) provides the rules
for the reduction of basis of indebtedness
of an S corporation to a shareholder. Generally, under §1.1367–2(b)(1), if the basis of a shareholder’s stock in the S corporation has been reduced to zero under
section 1367(a)(2), the excess of certain
losses and deductions specified in section
1367(a)(2) is applied to reduce (but not below zero) the basis of any indebtedness of
the S corporation to the shareholder held
by the shareholder at the close of the S corporation’s taxable year. Any indebtedness
of the S corporation to the shareholder that
has been satisfied by the S corporation, or
disposed of or forgiven by the shareholder
during the taxable year, is not held by the
shareholder at the close of that year and
is not subject to basis reduction. Further,
§1.1367–2(b)(2) provides that if the interest of the shareholder in the S corporation
is terminated during the taxable year, the
rules in §1.1367–2(b) are applied to any
indebtedness of the S corporation to the

2007–20 I.R.B.

shareholder held by the shareholder immediately before the termination of the shareholder’s interest in the S corporation. If a
shareholder holds more than one indebtedness at the close of the taxable year (or, if
applicable, immediately prior to the termination of the shareholder’s interest in the
corporation), the basis of each indebtedness is reduced under §1.1367–2(b)(3) in
the same proportion that the basis of each
indebtedness bears to the aggregate bases
of the indebtedness of the S corporation to
the shareholder.
Section 1.1367–2(c) provides the rules
for restoring basis of indebtedness of an
S corporation to a shareholder. Generally,
under §1.1367–2(c)(1), if, for any taxable
year of the S corporation, there has been
a reduction in the basis of an indebtedness of the S corporation to a shareholder,
any net increase in any subsequent taxable year of the S corporation is applied
to restore that reduction. For purposes of
§1.1367–2, a net increase is the amount
by which the shareholder’s pro rata share
of S corporation items described in section 1367(a)(1) exceed the items described
in section 1367(a)(2) for the taxable year.
The restoration rules apply only to indebtedness held by the shareholder as of the
beginning of the taxable year in which the
net increase arises. Further, the reduction
in basis of indebtedness must be restored
before a net increase is used to restore the
shareholder’s basis in stock. The shareholder’s basis in indebtedness may not be
restored above the adjusted basis of the indebtedness under section 1016(a) (excluding any prior year’s adjustments under section 1367), determined as of the beginning
of the taxable year in which the net increase arises.
Under §1.1367–2(c)(2), if a shareholder holds more than one indebtedness
as of the beginning of an S corporation’s
taxable year, any net increase is applied
first to restore the reduction of basis in any
indebtedness repaid (in whole or in part)
in that taxable year to the extent necessary
to offset any gain that would otherwise be
realized on the repayment. Any remaining
net increase is applied to restore each outstanding indebtedness in proportion to the
amount that the basis of each outstanding
indebtedness has been reduced and not
restored.
Section 1.1367–2(d) provides rules
for the time at which adjustments to

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basis of indebtedness under section
1367(b)(2) are effective. Generally, under §1.1367–2(d)(1) the amount of the
adjustments to basis of indebtedness are
determined and effective as of the close of
an S corporation’s taxable year. However,
if the shareholder is not a shareholder in
the S corporation at that time, the adjustments are effective immediately before
the shareholder’s interest in the S corporation is terminated. Moreover, if a debt
is disposed of or repaid, in whole or in
part, before the close of the taxable year,
the basis of that debt is restored effective
immediately before the disposition or the
first repayment on the debt during the taxable year.
On August 25, 2005, the Tax Court
issued its decision in Brooks v. Commissioner, TC Memo. 2005–204. In Brooks,
the taxpayer borrowed money from a bank
and advanced that money as open account
debt to his S corporation in one taxable
year and reduced basis in that open account
debt for losses passed through to the taxpayer at the end of that same year. In the
first few weeks of the subsequent taxable
year, the S corporation repaid the open
account debt (the taxpayer then repaid
his debt for the borrowed money). Late
in that subsequent year, the taxpayer advanced additional money (again, amounts
borrowed from a bank) in an amount that
offset the repayment of advances to avoid
the recognition of gain from repayment
of the indebtedness. Also, the taxpayer’s
advances increased the shareholder’s basis
in the indebtedness and allowed losses for
that year to pass through to the taxpayer
shareholder. Taxpayer and the S corporation made these repayments and advances
for several taxable years and deferred indefinitely the recognition of income on
any repayment of his open account debt.
The court in Brooks held “that the basis
of the open account indebtedness is properly computed by netting at the close of the
year advances of open account debt during
the year and repayments of open account
debt during the year.”
Explanation of Provisions
The Treasury Department and the IRS
believe that the concept of “open account debt” as defined in §1.1367–2(a)
was intended to provide administrative
simplicity for S corporations but was not

May 14, 2007

intended to permit the deferral allowed in
Brooks. The IRS and Treasury Department are proposing these amendments to
narrow the definition of open account debt
and to modify the rules for adjustments
of basis in indebtedness for the more narrowly defined open account debt.
In these proposed regulations, open
account debt is defined as shareholder
advances not evidenced by separate written instruments for which the principal
amount of the aggregate advances (net
of repayments on the advances) does
not exceed $10,000 at the close of any
day during the S corporation’s taxable
year. Included within that definition are
separate advances under a line of credit
agreement if the advances are not evidenced by a separate written instrument.
Open account debt is treated as a single
indebtedness. This $10,000 limitation
on open account debt for the purposes of
the §1.1367–2 regulations is modeled after section 7872(c)(3) and the §1.7872–9
proposed regulations, which provide a
$10,000 de minimis exception to the treatment of loans with below-market interest
rates for compensation-related or corporation-shareholder loans.
Under these proposed regulations, to
determine whether shareholder advances
and repayments on the advances exceed
the $10,000 aggregate principal threshold
on any day during the S corporation’s
taxable year for open account debt, the
shareholder will have to maintain a “running balance” of those advances and repayments, and the outstanding principal
amount of the open account debt. If the
resulting aggregate principal of the running balance does not exceed $10,000 at
the close of any day during the S corporation’s taxable year, the advances and
repayments on advances would constitute
open account debt, would be treated as
a single indebtedness, and would be accounted for at the close of the taxable year
(as explained in this preamble). However,
if the resulting aggregate principal of the
running balance exceeds $10,000 at the
close of any day during the S corporation’s
taxable year, the entire principal amount
of that indebtedness would no longer constitute open account debt effective at the
close of the day on the date the amount
of the running balance exceeds $10,000.
This principal amount would be treated as
indebtedness evidenced by a written in-

May 14, 2007

strument for that taxable year, and would
be accounted for according to the timing
rules in §1.1367–2(d) for that taxable year
and subsequent taxable years. Any new
shareholder advances not evidenced by
a written instrument and repayments on
those advances within the $10,000 aggregate principal threshold amount during the
taxable year would constitute a new open
account debt.
The proposed regulations also modify the manner in which repayments on
open account debt are accounted for under the existing final §1.1367–2 regulations. These rules are separate from
the maintenance of a running balance of
the advances and repayments to determine if a shareholder has exceeded the
$10,000 threshold amount. For purposes
of accounting for open account debt, each
shareholder, at the end of the S corporation’s taxable year, must determine if that
shareholder has made a net advance or
received a net repayment on open account
debt for that taxable year. To determine
if a net advance or a net repayment has
occurred, each shareholder, at the end of
the S corporation’s taxable year, must net
all advances and repayments made during
the year without regard to the outstanding principal amount of the open account
debt. If, at the end of the taxable year, a
net repayment exists, the net repayment
must be taken into account effective at the
close of the S corporation’s taxable year
under the general basis adjustment rules in
the existing final §1.1367–2 regulations.
If, at the end of the taxable year, a net advance exists, the net advance is combined
with the outstanding aggregate principal
balance of the existing open account debt
and that amount is carried forward to the
beginning of the subsequent taxable year
as the outstanding aggregate principal
amount of the open account debt. If at
any time during the taxable year the resulting aggregate principal of the running
balance exceeds the $10,000 threshold
amount so the entire principal amount
of the indebtedness no longer constitutes
open account debt, the running balance
must be reconciled effective at the close
of the day the balance exceeds $10,000 to
determine the aggregate principal amount
of the indebtedness, and for the remainder
of the taxable year that principal amount
is treated in the same manner as indebted-

1247

ness evidenced by a written instrument for
the purposes of this section.
Proposed Effective Date
The regulations, as proposed, apply to
any shareholder advances to the S corporation made on or after the date of publication of a Treasury decision adopting
these rules as final regulations in the Federal Register and repayments on those advances by the S corporation.
Special Analyses
It has been determined that this notice
of proposed rulemaking 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 Procedure Act (5 U.S.C. chapter 5) does not apply to these regulations.
Because these 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, this notice of proposed rulemaking will be submitted to the
Chief Counsel for Advocacy of the Small
Business Administration for comment on
its impact on small business.
Comments and Public Hearing
Before these proposed regulations are
adopted as final regulations, consideration
will be given to any written comments
(a signed original and eight (8) copies)
or electronic comments that are submitted
timely to the IRS. The IRS and the Treasury Department request comments on the
clarity of the proposed rules and how they
can be made easier to understand. All
comments will be available for public inspection and copying.
A public hearing has been scheduled for
July 31, 2007, beginning at 10 a.m. in the
IRS Auditorium, Internal Revenue Building, 1111 Constitution Avenue, NW, Washington, DC. Due to building security procedures, visitors must enter at the Constitution Avenue entrance. In addition, all
visitors must present photo identification
to enter the building. Because of access
restrictions, visitors will not be admitted
beyond the immediate entrance area more
than 30 minutes before the hearing starts.
For information about having your name

2007–20 I.R.B.

placed on the building access list to attend
the hearing, see the “FOR FURTHER INFORMATION CONTACT” section of this
preamble.
The rules of 26 CFR 606.601(a)(3) apply to the hearing. Persons who wish to
present oral comments at the hearing must
submit electronic or written comments and
an outline of the topics to be discussed and
time to be devoted to each topic (a signed
original and eight (8) copies) by July 10,
2007. A period of 10 minutes will be
allotted to each person for making comments. An agenda showing the scheduling
of the speakers will be prepared after the
deadline for receiving outlines has passed.
Copies of the agenda will be available free
of charge at the hearing.
Drafting Information
The principal authors of these
regulations are Stacy L. Short and
Deane M. Burke of the Office of the
Associate Chief Counsel (Passthroughs
and Special Industries), IRS.
*****
Proposed Amendments to the
Regulations
Accordingly, 26 CFR part 1 is proposed
to be amended as follows:
PART 1—INCOME TAX
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 1.1367–2 also issued under 26
U.S.C. 1367(b)(2).* * *
Par. 2. Section 1.1367–2 is amended as
follows:
1. Paragraph (a) is revised and redesignated as paragraph (a)(1) and paragraph
(a)(2) is added.
2. Paragraphs (c)(2) and (d)(1) are revised.
3. Paragraph (d)(2) is redesignated as
paragraph (d)(3).
4. New paragraph (d)(2) is added.
5. Paragraph (e) is amended by adding
Examples 6 and 7.
The revisions and additions read as follows:

2007–20 I.R.B.

§1.1367–2 Adjustments to basis of
indebtedness to shareholder.
(a) In general—(1) Adjustments under
section 1367. This section provides rules
relating to adjustments required by subchapter S to the basis of indebtedness (including open account debt as described
in paragraph (a)(2) of this section) of an
S corporation to a shareholder. The basis
of indebtedness of the S corporation to a
shareholder is reduced as provided in paragraph (b) of this section and restored as
provided in paragraph (c) of this section in
accordance with the timing rules in paragraph (d) of this section.
(2) Open Account Debt—(i) General
rule. The term open account debt means
shareholder advances not evidenced by
separate written instruments and repayments on the advances, the aggregate
outstanding principal of which does not
exceed $10,000 of indebtedness of the
S corporation to the shareholder at the
close of any day during the S corporation’s
taxable year. Advances and repayments
on open account debt are treated as a
single indebtedness. For purposes of determining if shareholder advances not
evidenced by separate written instruments
and repayments on those advances exceed an aggregate outstanding principal
of $10,000, a shareholder must maintain
a running daily balance of all advances
and repayments on those advances and
the outstanding principal amount of the
open account debt at the close of each day
during the S corporation’s taxable year.
(ii) Exception. If a shareholder’s running balance exceeds an aggregate outstanding principal amount of $10,000 at
the close of any day during the S corporation’s taxable year, effective on the close
of the day on which the shareholder’s running balance exceeds $10,000, the running
balance must be reconciled to determine
the aggregate principal amount of indebtedness. For the remainder of the taxable
year, that aggregate principal amount of indebtedness is treated in the same manner as
indebtedness evidenced by a separate written instrument for purposes of this section.
For the remainder of that taxable year and
subsequent taxable years, the indebtedness
is not open account debt and is subject to
all basis adjustment rules applicable to basis of indebtedness of an S corporation to
a shareholder in this section.

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*****
(c) * * * (1) * * *
(2) Multiple indebtedness. If a shareholder holds more than one indebtedness
(including any open account debt and any
debt treated as a single indebtedness under
paragraph (a)(2)(ii)) as of the beginning of
an S corporation’s taxable year, any net increase is applied first to restore the reduction of basis in any indebtedness repaid (in
whole or in part) in that taxable year to
the extent necessary to offset any gain that
would otherwise be realized on the repayment. Any remaining net increase is applied to restore each outstanding indebtedness (including any open account debt
and any debt treated as a single indebtedness under paragraph (a)(2)(ii) of this section) in proportion to the amount that the
basis of each outstanding indebtedness has
been reduced under section 1367(b)(2)(A)
and paragraph (b) of this section and not
restored under section 1367(b)(2)(B) and
this paragraph (c).
(d) Time at which adjustments to basis of indebtedness are effective—(1) In
general. Except as provided in paragraph
(d)(2) of this section, the amounts of the
adjustments to basis of indebtedness provided in section 1367(b)(2) and this section are determined as of the close of the
S corporation’s taxable year, and the adjustments are generally effective as of the
close of the S corporation’s taxable year.
However, if the shareholder is not a shareholder in the S corporation at that time,
these adjustments are effective immediately before the shareholder terminates his
or her interest in the S corporation. If a
debt (including any open account debt and
any debt treated as a single indebtedness
under paragraph (a)(2)(ii) of this section)
is disposed of or repaid in whole or in part
before the close of the taxable year, the basis of that indebtedness is restored under
paragraph (c) of this section, effective immediately before the disposition or the first
repayment on the debt (or the net repayment on open account debt) during the taxable year. To the extent any reduction of
basis in indebtedness under paragraph (b)
of this section that is disposed of or repaid
(in whole or in part) during the taxable year
is not restored completely under paragraph
(c) of this section, gain is realized on the repayment effective immediately before the
indebtedness is disposed of or repaid (in
whole or in part).

May 14, 2007

(2) Open account debt—(i) In general. All advances and repayments on
open account debt (as described in paragraph (a)(2)(i) of this section) during
the taxable year are netted continuously
as the advances and repayments occur.
The amount of any net advance or net
repayment on open account debt for the
S corporation’s taxable year is determined
at the close of the taxable year. If the
shareholder advances, and repayments on
the advances, during the S corporation’s
taxable year result in a net advance or net
repayment, the basis of the open account
debt is reduced as provided in paragraph
(b) of this section and restored as provided
in paragraph (c) of this section effective at
the close of the taxable year. To the extent
any reduction of basis of open account
debt under paragraph (b) of this section
that is disposed of or repaid (in whole or
in part) during the taxable year is not restored completely under paragraph (c) of
this section, income is realized on the net
repayment at the close of the taxable year
in which the open account debt is disposed
of or repaid (in whole or in part).
(ii) Exception. On the close of the
day on which the shareholder’s running
balance exceeds an aggregate outstanding
principal amount of $10,000, the shareholder’s running balance is reconciled to
determine an aggregate principal amount
of indebtedness. The resulting aggregate
principal amount of indebtedness is treated
as the principal amount of a debt evidenced
by a separate written instrument for the remainder of that taxable year and any subsequent taxable year, and is no longer subject

Indebtedness treated as if evidenced by
written instrument

to the open account debt provisions of this
section.
*****
(e) * * *
*****
Example 6. Treatment of open account debt. (i) A
has been the sole shareholder in Corporation S since
2000. In 2007, A advances S $8,000, which is not
evidenced by a written instrument. The $8,000 advance is open account debt and remains outstanding
at that amount during 2007. On December 31, 2007,
the basis of A’s stock is zero; and the basis of the open
account debt is reduced under paragraph (b) of this
section to $4,000. On April 1, 2008, S repays $3,000
of the open account indebtedness. On September 1,
2008, A advances S an additional $2,000, which is not
evidenced by a written instrument. There is no net increase under paragraph (c) of this section in year 2007
or 2008.
(ii) At no time during the 2007 taxable year does
the running balance of A’s open account debt exceed
$10,000. As of December 31, 2007, A’s basis in the
open account debt is reduced under paragraph (b) of
this section to $4,000.
(iii) At no time during the 2008 taxable year does
the running balance of A’s open account debt exceed
$10,000. On April 1, 2008, S’s $3,000 repayment is
applied to A’s running balance for open account debt
carried forward from 2007 in the amount of $8,000 to
reduce the running balance to $5,000. On September
1, 2008, A’s advance to S of $2,000, which is not
evidenced by a written instrument, is applied to A’s
running balance to bring A’s aggregate outstanding
principal on A’s open account indebtedness to $7,000.
(iv) At the close of the 2008 taxable year, the
$3,000 April repayment S makes to A and A’s $2,000
September advance are netted to result in a net repayment of $1,000 for the taxable year on A’s $8,000
open account debt carried forward from 2007. Because there is no net increase in 2008, no basis of indebtedness is restored for the 2008 taxable year.
Example 7. Treatment of shareholder indebtedness not evidenced by a written instrument which exceeds $10,000. (i) The facts are the same as in Example 6, in addition to which, on February 1, 2008, S

3/1/08
principal

4/1/08
repayment

$12,000

$3,000

Open account debt

Par. 3. Section 1.1367–3 is amended as
follows:
1. The section heading is revised.
2. The first sentence of the paragraph is
revised.
3. A new second and last sentence are
added.
The revisions and additions read as follows:

May 14, 2007

repays $1,000 of the open account debt and on March
1, 2008, A advances S $5,000, which is not evidenced
by a written instrument.
(ii) At no time during the 2007 taxable year does
the running balance of A’s open account debt exceed
$10,000. As of December 31, 2007, the basis of the
open account debt is reduced under paragraph (b) of
this section to $4,000.
(iii) The running balance of A’s open account debt
does exceed $10,000 during the 2008 taxable year.
On February 1, 2008, S’s $1,000 repayment is applied
to A’s running balance for open account debt carried
forward from 2007 in the amount of $8,000 to reduce
the running balance to $7,000. On March 1, 2008, A’s
advance to S of $5,000, which is not evidenced by a
written instrument, is applied to A’s running balance
to bring A’s aggregate outstanding principal on A’s
open account debt to $12,000. Because this amount
exceeds the $10,000 threshold amount, effective at
the close of the day on March 1, 2008, A’s running
balance must be reconciled to determine an aggregate
principal amount of indebtedness.
(iv) As of March 1, 2008, S had made a $1,000
repayment on A’s open account debt, and A had advanced an additional $5,000 which was not evidenced
by a written instrument. To reconcile A’s running
balance, the $1,000 repayment and $5,000 advance
are netted first to result in a $4,000 net advance that
is then added with A’s existing principal amount of
open account debt of $8,000 to determine the aggregate principal amount of indebtedness of $12,000. As
of March 1, 2008, S’s indebtedness to A that is not
evidenced by a written instrument has a principal balance of $12,000 and a basis of $8,000 ($4,000 basis
on December 31, 2007 + $4,000 net advance). On
April 1, 2008, S repays $3,000 of that new indebtedness.
(v) On September 1, 2008, A advances S an additional $2,000, which is not evidenced by a written
instrument. The $2,000 advance is considered new
open account debt. On December 31, 2008, A’s basis
in his stock is zero and the outstanding principal in
the two remaining debts are as follows:

9/1/08
advance

$9,000
$2,000

§1.1367–3 Effective dates and transitional
rules.
Section 1.1367–2(a), (c)(2), (d)(2), and
(e) Example 6 and Example 7 apply to any
shareholder advances to the S corporation
made on or after the date these regulations
are published as final regulations in the
Federal Register and repayments on those
advances by the S corporation.

1249

12/31/08
principal

$2,000

Kevin M. Brown,
Deputy Commissioner for
Services and Enforcement.
(Filed by the Office of the Federal Register on April 11, 2007,
8:45 a.m., and published in the issue of the Federal Register
for April 12, 2007, 72 F.R. 18417)

2007–20 I.R.B.