us internal revenue service: irb04-49

8/14/2019 US Internal Revenue Service: irb04-49

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Bulletin No. 2004-4December 6, 200

HIGHLIGHTS

OF THIS ISSUEThese synopses are intended only as aids to the reader inidentifying the subject matter covered. They may not berelied upon as authoritative interpretations.

INCOME TAX

Rev. Rul. 2004106, page 893.Federal rates; adjusted federal rates; adjusted federallong-term rate and the long-term exempt rate. For pur-poses of sections 382, 642, 1274, 1288, and other sectionsof the Code, tables set forth the rates for December 2004.

REG15560802, page 924.Proposed regulations provide updated guidance on tax-shel-ter annuities, custodial accounts of public schools and section501(c)(3) tax-exempt organizations and church retirement in-come accounts authorized under section 403(b) of the Code.These regulations would provide the public with guidance nec-essary to comply with the law and affect sponsors of section403(b) contracts, administrators, participants, and beneficia-ries. A public hearing is scheduled for February 15, 2005.

Notice 200479, page 898.This notice provides guidance regarding the definition of de-pendent under section 106 of the Code.

Rev. Proc. 200469, page 906.Insurance companies; loss reserves; discounting unpaidlosses. The loss payment patterns and discount factors areset forth for the 2004 accident year. These factors will be usedto compute discounted unpaid losses under section 846 of theCode.

Rev. Proc. 200470, page 918.Insurance companies; discounted estimated salvage re-coverable. The salvage discount factors are set forth for the

2004 accident year. These factors will be used to computediscounted estimated salvage recoverable under section 832of the Code.

EMPLOYEE PLANS

REG15560802, page 924.Proposed regulations provide updated guidance on tax-shter annuities, custodial accounts of public schools and secti501(c)(3) tax-exempt organizations and church retirement come accounts authorized under section 403(b) of the Cod

These regulations would provide the public with guidance neessary to comply with the law and affect sponsors of secti403(b) contracts, administrators, participants, and beneficries. A public hearing is scheduled for February 15, 2005.

EXEMPT ORGANIZATIONS

REG15560802, page 924.Proposed regulations provide updated guidance on tax-shter annuities, custodial accounts of public schools and secti501(c)(3) tax-exempt organizations and church retirement come accounts authorized under section 403(b) of the CodThese regulations would provide the public with guidance neessary to comply with the law and affect sponsors of secti403(b) contracts, administrators, participants, and beneficries. A public hearing is scheduled for February 15, 2005.

EMPLOYMENT TAX

T.D. 9159, page 895.Temporary regulations define the term salary reduction agrement for purposes of section 3121(a)(5)(D) of the Code.

(Continued on the next pag

Announcements of Disbarments and Suspensions begin on page 951.

Finding Lists begin on page ii.


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REG15560802, page 924.Proposed regulations provide updated guidance on tax-shel-ter annuities, custodial accounts of public schools and section501(c)(3) tax-exempt organizations and church retirement in-come accounts authorized under section 403(b) of the Code.These regulations would provide the public with guidance nec-essary to comply with the law and affect sponsors of section403(b) contracts, administrators, participants, and beneficia-ries. A public hearing is scheduled for February 15, 2005.

ADMINISTRATIVE

Rev. Proc. 200464, page 898.Optional standard mileage rates. This procedure an-nounces 40.5 cents as the optional rate for deducting oraccounting for expenses for business use of an automobile,14 cents as the optional rate for use of an automobile as acharitable contribution, and 15 cents as the optional rate foruse of an automobile as a medical or moving expense for2005. It provides rules for substantiating the deductible ex-penses of using an automobile for business, moving, medical,or charitable purposes. Rev. Proc. 200376 superseded.

Announcement 200497, page 957.This document contains corrections to Rev. Rul. 200384,200332 I.R.B. 289 and 20032 C.B. 289, relating to regu-lated investment companies. Rev. Rul. 200384 corrected.

December 6, 2004 200449 I.R.B.


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The IRS Mission

Provide Americas taxpayers top quality service by helpingthem understand and meet their tax responsibilities and by

applying the tax law with integrity and fairness to all.

Introduction

The Internal Revenue Bulletin is the authoritative instrument ofthe Commissioner of Internal Revenue for announcing officialrulings and procedures of the Internal Revenue Service and forpublishing Treasury Decisions, Executive Orders, Tax Conven-tions, legislation, court decisions, and other items of generalinterest. It is published weekly and may be obtained from theSuperintendent of Documents on a subscription basis. Bulletincontents are compiled semiannually into Cumulative Bulletins,which are sold on a single-copy basis.

It is the policy of the Service to publish in the Bulletin all sub-

stantive rulings necessary to promote a uniform application ofthe tax laws, including all rulings that supersede, revoke, mod-ify, or amend any of those previously published in the Bulletin.All published rulings apply retroactively unless otherwise indi-cated. Procedures relating solely to matters of internal man-agement are not published; however, statements of internalpractices and procedures that affect the rights and duties oftaxpayers are published.

Revenue rulings represent the conclusions of the Service on theapplication of the law to the pivotal facts stated in the revenueruling. In those based on positions taken in rulings to taxpayersor technical advice to Service field offices, identifying detailsand information of a confidential nature are deleted to preventunwarranted invasions of privacy and to comply with statutoryrequirements.

Rulings and procedures reported in the Bulletin do not have theforce and effect of Treasury Department Regulations, but theymay be used as precedents. Unpublished rulings will not berelied on, used, or cited as precedents by Service personnel inthe disposition of other cases. In applying published rulings andprocedures, the effect of subsequent legislation, regulations,

court decisions, rulings, and procedures must be considereand Service personnel and others concerned are cautionagainst reaching the same conclusions in other cases unlethe facts and circumstances are substantially the same.

The Bulletin is divided into four parts as follows:

Part I.1986 Code.This part includes rulings and decisions based on provisions the Internal Revenue Code of 1986.

Part II.Treaties and Tax Legislation.This part is divided into two subparts as follows: SubpartTax Conventions and Other Related Items, and Subpart B, Leislation and Related Committee Reports.

Part III.Administrative, Procedural, and MiscellaneouTo the extent practicable, pertinent cross references to thesubjects are contained in the other Parts and Subparts. Alincluded in this part are Bank Secrecy Act Administrative Rings. Bank Secrecy Act Administrative Rulings are issued the Department of the Treasurys Office of the Assistant Se

retary (Enforcement).

Part IV.Items of General Interest.This part includes notices of proposed rulemakings, disbment and suspension lists, and announcements.

The last Bulletin for each month includes a cumulative indfor the matters published during the preceding months. Themonthly indexes are cumulated on a semiannual basis, and apublished in the last Bulletin of each semiannual period.

The contents of this publication are not copyrighted and may be reprinted freely. A citation of the Internal Revenue Bulletin as the source would be appropria

For sale by the Superintendent of Documents, U.S. Government Printing Office, Washington, DC 20402.

200449 I.R.B. December 6, 200


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Part I. Rulings and Decisions Under the Internal Revenue Codeof 1986Section 42.Low-IncomeHousing Credit

The adjusted applicable federal short-term, mid-

term, and long-term rates are set forth for the month

of December 2004. See Rev. Rul. 2004-106, page

893.

Section 62.AdjustedGross Income Defined

26 CFR 1.622: Reimbursements and other expense

allowance arrangements.

Rules are provided under which a reimbursement

or other expense allowance arrangement for the cost

of operating an automobile for business purposes will

satisfy the requirements of section 62(c) of the Code

as to business connection, substantiation, and return-

ing amounts in excess of expenses. See Rev. Proc.2004-64, page 898.

Section 106.Contri-butions by Employer toAccident and Health Plans

A notice provides guidance regarding the effect

of the Working Families Tax Relief Act of 2004

(WFTRA) on the exclusion from the gross income

of an employee under 106 of the Code. See Notice

2004-79, page 898.

Section 162.Trade orBusiness Expenses

26 CFR 1.16217: Reporting and substantiation of

certain business expenses of employees.

Rules are provided for substantiating the amount

of a deduction or an expense for business use of an

automobile. See Rev. Proc. 2004-64, page 898.

Section 170.Charitable,etc., Contributions and Gifts

26 CFR 1.170A1: Charitable, etc., contributions

and gifts; allowance of deduction.


of a deduction or an expense for charitable use of an

automobile. See Rev. Proc. 2004-64, page 898.

Section 213.Medical,Dental, etc., Expenses

26 CFR 1.2131: Medical, dental, etc., expenses.


of a deduction or an expense for use of an automobile

to obtain medical services. See Rev. Proc. 2004-64,

page 898.

Section 217.MovingExpenses

26 CFR 1.2172: Moving expenses


of a deduction or an expense for use of an automobile

as part of a move. See Rev. Proc. 2004-64, page 898.

Section 274.Disallowanceof Certain Entertainment,etc., Expenses

26 CFR 1.2745: Substantiation requirements.


of ordinary and necessary business expenses of an

employee for automobile expenses when a payor pro-

vides a mileage allowance forthe expenses. Rules are

also provided for employees and self-employed in-

dividuals to use in substantiating a trade or business

deduction for automobile expenses. See Rev. Proc.

2004-64, page 898.

Section 280G.GoldenParachute Payments

Federal short-term, mid-term, and long-term rates

are set forth for the month of December 2004. See

Rev. Rul. 2004-106, page 893.

Section 382.Limitationon Net Operating LossCarryforwards and CertainBuilt-In Losses FollowingOwnership Change

The adjusted applicable federal long-term rate is

set forth for the month of December 2004. See Rev.

Rul. 2004-106, page 893.

Section 412.MinimumFunding Standards



of December 2004. See Rev. Rul. 2004-106, pag

893.

Section 467.CertainPayments for the Use ofProperty or Services

The adjusted applicable federal short-term, mid

term, and long-term rates are set forth for the mont


893.

Section 468.SpecialRules for Mining and Solid Waste Reclamation andClosing Costs




893.

Section 482.Allocationof Income and DeductionsAmong Taxpayers

Federal short-term, mid-term, and long-term rate

are set forth for the month of December 2004. Se

Rev. Rul. 2004-106, page 893.

Section 483.Interest onCertain Deferred Payments




893.

Section 642.SpecialRules for Credits andDeductions

Federal short-term, mid-term, and long-term rate

are set forth for the month of December 2004. Se

Rev. Rul. 2004-106, page 893.

Section 807.Rules forCertain Reserves




893.

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Section 832.InsuranceCompany Taxable Income

26 CFR 1.8324: Gross income.

The salvage discount factors are set forth for 2004.

These factors must be used to compute discounted

estimated salvage recoverable for purposes of section

832 of the Code. See Rev. Proc. 2004-70, page 918.

Section 846.DiscountedUnpaid Losses Defined




893.

26 CFR 1.8461: Application of discount factors.

The loss payment patterns and discount factors are

set forth for the 2004 accident year. These factors

will be used for computing discounted unpaid losses

under section 846 of the Code. See Rev. Proc. 2004-69, page 906.

26 CFR 1.8461: Application of discount factors.

The salvage discount factors are set forth for the

2004 accident year. These factors will be used for

computing estimated salvage recoverable for pur-

poses of section 832 of the Code. See Rev. Proc.

2004-70, page 918.

Section 1016.Adjust-ments to Basis

26 CFR 1.10163: Exhaustion, wear and tear, ob-

solescence, amortization, and depletion for periods

since February 28, 1913.

Rules are provided for reduction of basis for busi-

ness use of an automobile under either the optional

standard mileage rate method or a mileage allowance

under a reimbursement or other expense allowance

arrangement. See Rev. Proc. 2004-64, page 898.

Section 1274.Determi-nation of Issue Price in theCase of Certain Debt Instru-ments Issued for Property

(Also Sections 42, 280G, 382, 412, 467, 468, 482,

483, 642, 807, 846, 1288, 7520, 7872.)

Federal rates; adjusted federal rates;

adjusted federal long-term rate and the

long-term exempt rate. For purposes of

sections 382, 642, 1274, 1288, and other

sections of the Code, tables set forth the

rates for December 2004.

Rev. Rul. 2004106

This revenue ruling provides various

prescribed rates for federal income tax

purposes for December 2004 (the current

month). Table 1 contains the short-term,

mid-term, and long-term applicable fed-

eral rates (AFR) for the current month

for purposes of section 1274(d) of the

Internal Revenue Code. Table 2 containsthe short-term, mid-term, and long-term

adjusted applicable federal rates (adjusted

AFR) for the current month for purposes

of section 1288(b). Table 3 sets forth the

adjusted federal long-term rate and the

long-term tax-exempt rate described in

section 382(f). Table 4 contains the ap-

propriate percentages for determining the

low-income housing credit described in

section 42(b)(2) for buildings placed in

service during the current month. Table 5

contains the federal rate for determining

the present value of an annuity, an interest

for life or for a term of years, or a remain-

der or a reversionary interest for purposes

of section 7520. Finally, Table 6 contains

the 2005 interest rate for sections 846 and

807.

REV. RUL. 2004106 TABLE 1

Applicable Federal Rates (AFR) for December 2004

Period for Compounding

Annual Semiannual Quarterly Monthly

Short-term

AFR 2.48% 2.46% 2.45% 2.45%110% AFR 2.73% 2.71% 2.70% 2.69%120% AFR 2.97% 2.95% 2.94% 2.93%130% AFR 3.23% 3.20% 3.19% 3.18%

Mid-term

AFR 3.56% 3.53% 3.51% 3.50%110% AFR 3.92% 3.88% 3.86% 3.85%120% AFR 4.28% 4.24% 4.22% 4.20%

130% AFR 4.64% 4.59% 4.56% 4.55%150% AFR 5.37% 5.30% 5.27% 5.24%175% AFR 6.28% 6.18% 6.13% 6.10%

Long-term

AFR 4.68% 4.63% 4.60% 4.59%110% AFR 5.15% 5.09% 5.06% 5.04%120% AFR 5.64% 5.56% 5.52% 5.50%130% AFR 6.11% 6.02% 5.98% 5.95%

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Adjusted AFR for December 2004

Period for Compounding

Annual Semiannual Quarterly Monthly

Short-term adjusted

AFR

1.88% 1.87% 1.87% 1.86%

Mid-term adjusted AFR 2.84% 2.82% 2.81% 2.80%Long-term adjusted

AFR

4.19% 4.15% 4.13% 4.11%


Rates Under Section 382 for December 2004

Adjusted federal long-term rate for the current month 4.19%

Long-term tax-exempt rate for ownership changes during the current month (the highest of the adjusted

federal long-term rates for the current month and the prior two months.) 4.27%


Appropriate Percentages Under Section 42(b)(2) for December 2004

Appropriate percentage for the 70% present value low-income housing credit 7.96%

Appropriate percentage for the 30% present value low-income housing credit 3.41%


Rate Under Section 7520 for December 2004

Applicable federal rate for determining the present value of an annuity, an interest for life or a term of years,

or a remainder or reversionary interest 4.20%


Applicable rate of interest for 2005 for purposes of sections 846 and 807 4.44%

Section 1288.Treatmentof Original Issue Discounton Tax-Exempt Obligations




893.

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Section 3121.Definitions

26 CFR 31.3121(a)(5)2T: Payments under or to an

annuity contract described in section 403(b) (tempo-

rary).

T.D. 9159

DEPARTMENT OF

THE TREASURYInternal Revenue Service26 CFR Part 31

Payments Made by Reason ofa Salary Reduction Agreement

AGENCY: Internal Revenue Service

(IRS), Treasury.

ACTION: Temporary regulation.

SUMMARY: This document contains

a temporary regulation that defines theterm salary reduction agreement for

purposes of section 3121(a)(5)(D) of the

Internal Revenue Code (Code). The tem-

porary regulation provides guidance to

employers (public educational institutions

and section 501(c)(3) organizations) pur-

chasing annuity contracts described in

section 403(b) on behalf of their employ-

ees. The text of the temporary regulation

also serves as the text of the proposed

regulation (REG15560802) set forth in

the notice of proposed rulemaking on this

subject in this issue of the Bulletin.

DATES: Effective Date: This regulation is

effective on November 16, 2004.

Applicability Date: For dates of appli-

cability, see 31.3121(a)(5)2T(b).

FOR FURTHER INFORMATION

CONTACT: Neil D. Shepherd, (202)

6226040 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

This temporary regulation amends the

Employment Tax Regulations (26 CFR

part 31) by providing guidance relating

to section 3121(a)(5)(D). The Federal

Insurance Contributions Act (FICA) im-

poses taxes on employees and employ-

ers equal to a percentage of the wages

received with respect to employment.

Code section 3121(a) defines wages for

FICA tax purposes as all remuneration for

employment unless otherwise excepted.

Code section 3121(a)(5)(D), added by

the Social Security Amendments of 1983

(Public Law 9821 (97 Stat. 65)), gen-

erally excepts from wages payments

made by an employer for the purchase

of an annuity contract described in

section 403(b). In a codification of

longstanding administrative practice,

however, section 3121(a)(5)(D) expressly

excludes from the exception payments

made by reason of a salary reduction

agreement (whether evidenced by a

written instrument or otherwise). See

Rev. Rul. 65208, 19652 C.B. 383,

and S. Rep. No. 9823, at 41,

98th Cong., 1st Sess. (1983). This tem-

porary regulation defines the term salary

reduction agreement for purposes of sec-

tion 3121(a)(5)(D).

Explanation of Provisions

The FICA taxation of payments made

by an employer for the purchase of annu-

ity contracts described in section 403(b)

has been shaped by a congressional con-

cern for the social security revenue base

and for employees social security bene-

fits. In the context of contributions for the

purchase of such annuity contracts, Con-

gress has interpreted the term wages for

FICA tax purposes more broadly than the

term gross income for income tax pur-

poses. See S. Rep. No. 9823, at 39, 98thCong., 1st Sess. (1983) relating to the So-

cial Security Amendments of 1983 (Pub-

lic Law 9821 (97 Stat. 65)).

An amount is generally includible in

wages for FICA tax purposes at the time

it is actually or constructively paid by

the employer and received by the em-

ployee. Additionally, wages generally

include an amount that an employer con-

tributes to a plan only if the employee

agrees to reduce his or her compensa-

tion. For income tax purposes, however,

section 403(b) provides an exclusionfrom gross income for contributions made

by an employer, including contributions

made pursuant to a cash or deferred elec-

tion or other salary reduction agreement.

See section 1450(a) of the Small Busi-

ness Job Protection Act of 1996 (Pub-

lic Law 104188 (110 Stat. 1755)). Con-

versely, for FICA tax purposes, wages in-

clude contributions made by an employer

to a section 403(b) contract pursuant

to a cash or deferred election or other

salary reduction agreement. See S. Rep.

No. 9823, at 4041, 98th Cong., 1st Sess.

(1983). Thus, while section 403(b) ex-

cludes from gross income contributions

made pursuant to certain cash or deferred

elections, such contributions are made by

reason of a salary reduction agreement

under section 3121(a)(5)(D) and are in-

cluded in wages for FICA tax purposes.

Consequently, this temporary regulation

explicitly provides that the term salary

reduction agreement includes a plan or

arrangement whereby a payment will be

made if the employee elects to reduce

his or her compensation pursuant to a

cash or deferred election as defined at

1.401(k)1(a)(3) of the Income Tax Reg-

ulations.

Pursuant to regulation 1.401(k)

1(a)(3)(iv) of this chapter, a cash or de-

ferred election does not include a one-timeirrevocable election made upon an em-

ployees commencement of employment

with the employer. Similarly, pursuant to

section 402(g)(3), while the term elec-

tive deferrals generally includes any

employer contribution to purchase an an-

nuity contract under section 403(b) under

a salary reduction agreement (within the

meaning of section 3121(a)(5)(D)), an

employer contribution made pursuant

to a one-time irrevocable election is

not treated as an elective deferral. See

H.R. Rep. No. 100795, at 145, 100thCong., 2d Sess. (1988) and S. Rep.

No. 100445, at 151, 100th Cong., 2d

Sess. (1988) relating to the amendment

of section 402(g)(3) by the Technical

and Miscellaneous Revenue Act of 1988

(Public Law 100647 (102 Stat. 3342)).

Notwithstanding that section 403(b) con-

tributions made pursuant to a one-time

irrevocable election are excluded from

cash or deferred elections under sec-

tion 401(k) and from elective deferrals un-

der section 402(g)(3), such contributions

are made pursuant to a salary reductionagreement. If the employee had not made

a one-time irrevocable election, the em-

ployers cash payment to the employee

would be includible in the employees

gross income and in wages for FICA tax

purposes. Consequently, this temporary

regulation explicitly provides that the term

salary reduction agreement includes a

plan or arrangement whereby a payment

will be made if the employee elects to

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reduce his or her compensation pursuant

to a one-time irrevocable election made at

or before the time of initial eligibility to

participate in such plan or arrangement (or

pursuant to a similar arrangement involv-

ing a one-time irrevocable election).

A contribution that is made as a con-

dition of employment and that reduces

an employees compensation generally

constitutes an employee contribution in-

cludible in wages for FICA tax purposes.

See section 1015 of the Employee Re-

tirement Income Security Act of 1974

(Public Law 93406 (88 Stat. 829))

relating to amounts designated as em-

ployee contributions under section 414(h)

of the Code; see also H.R. Rep.

No. 93807, at 145, 93d Cong., 2d Sess.

(1974) wherein Congress stated that

[u]nder present law, contributions which

are designated as employee contributions

are generally treated as employee con-tributions for purposes of the Federal

tax law. Code section 414(h)(1) merely

codified the existing administrative and

judicial treatment of amounts designated

as employee contributions. See, for exam-

ple, Howell v. United States, 775 F.2d 887

(7th Cir. 1985) holding that mandatory

contributions to a state retirement plan of

amounts designated as employee contri-

butions and withheld from the employees

salary are employee contributions includi-

ble in the employees gross income. Thus,

as with employer contributions made pur-suant to cash or deferred elections and

one-time irrevocable elections, employer

contributions that are made as a condition

of employment and in lieu of mandatory

employee contributions and that reduce

an employees compensation are amounts

otherwise includible in wages for FICA

tax purposes.

Whether a contribution that reduces

an employees compensation is required

by statute, contract, or otherwise, an em-

ployee implicitly agrees to the contribution

as a condition of employment. The accep-tance of employment and the subsequent

performance of services manifests the em-

ployees agreement to the contribution.

See H.R. Conf. Rep. No. 98861, at 1415,

98th Cong., 2d Sess. (1984) relating to

the amendment of section 3121(v)(1)(B),

wherein Congress stated that [t]he con-

ferees intend that the term salary reduction

agreement also includes any salary reduc-

tion arrangement, regardless of whether

there is approval or choice of participation

by individual employees or whether such

approval or choice is mandated by State

statute. In Public Employees Retirement

Board v. Shalala, 153 F.3rd 1160, at 1166

(10th Cir. 1998), the court noted that an

employees decision to go to work or

continue to work . . . constitutes conduct

manifesting assent to a salary reduction.

Accordingly, the court held that a desig-

nated employee contribution picked up

by an employer with a corresponding re-

duction in the employees gross salary

constitutes a contribution made pursuant

to a salary reduction agreement. Simi-

larly, this temporary regulation explicitly

provides that the term salary reduction

agreement includes a plan or arrange-

ment whereby a payment will be made if

the employee agrees as a condition of em-

ployment (whether such condition is set

by statute, contract, or otherwise) to makea contribution that reduces the employees

compensation.

Special Analyses

It has been determined that this Trea-

sury decision is not a significant reg-

ulatory action as defined in Executive

Order 12866. Therefore, a regulatory

assessment is not required. It has also

been determined that section 553(b) and

(d) of the Administrative Procedure Act

(5 U.S.C. chapter 5) do not apply to this

regulation. For the applicability of the

Regulatory Flexibility Act (5 U.S.C. chap-

ter 6), refer to the Special Analyses section

in the preamble to the notice of proposed

rulemaking published in this issue of the

Bulletin. Pursuant to section 7805(f) of

the Code, this temporary regulation will

be submitted to the Chief Counsel for

Advocacy of the Small Business Adminis-

tration for comment on its impact on small

businesses.

Drafting Information

The principal author of this regulation

is Neil D. Shepherd, Office of Division

Counsel/Associate Chief Counsel (Tax Ex-

empt and Government Entities). However,

other personnel from the IRS and Trea-

sury Department participated in its devel-

opment.

* * * * *

Amendments to the Regulations

Accordingly, 26 CFR part 31 i

amended as follows:

PART 31EMPLOYMENT TAXES

Paragraph 1. The authority citation fo

part 31 continues to read in part as follows

Authority: 26 U.S.C. 7805 * * *Par. 2. Section 31.3121(a)(5)2T i

added to read as follows:

31.3121(a)(5)2T Payments under

or to an annuity contract described in

section 403(b) (temporary).

(a) Salary reduction agreemen

defined. For purposes of sectio

3121(a)(5)(D), the term salary reductio

agreement means a plan or arrangemen

(whether evidenced by a written instru

ment or otherwise) whereby payment wilbe made by an employer, on behalf of an

employee or his or her beneficiary, unde

or to an annuity contract described in sec

tion 403(b)

(1) If the employee elects to reduc

his or her compensation pursuant to

cash or deferred election as defined a

1.401(k)1(a)(3) of this chapter;

(2) If the employee elects to reduc

his or her compensation pursuant to a one

time irrevocable election made at or befor

the time of initial eligibility to participat

in such plan or arrangement (or pursuanto a similar arrangement involving a one

time irrevocable election); or

(3) If the employee agrees as a con

dition of employment (whether such con

dition is set by statute, contract, or other

wise) to make a contribution that reduce

his or her compensation.

(b) Effective date. (1) This section i

applicable on November 16, 2004.

(2) The applicability of this section ex

pires on or before November 16, 2007.

Nancy JardinActing Deputy Commissioner fo

Services and Enforcemen

Approved November 1, 2004.

Gregory Jenner

Acting Assistant Secretary of the Treasury

(Filed by the Office of the Federal Register on November 152004, 8:45 a.m., and published in the issue of the FederaRegister for November 16, 2004, 69 F.R. 67054)

200449 I.R.B. 896 December 6, 200


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Section 7520.ValuationTables




893.

Section 7872.Treatmentof Loans With Below-MarketInterest Rates




893.

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Part III. Administrative, Procedural, and Miscellaneous

Effect of the Working FamiliesTax Relief Act of 2004 onEmployer-Provided Accidentor Health Plans

Notice 200479

I. PURPOSE

This notice provides guidance regard-

ing the effect of the Working Families Tax

Relief Act of 2004 (WFTRA), Pub. L.

No. 108311, 118 Stat. 1166, on the ex-

clusion from the gross income of an em-

ployee under 106 of the Internal Revenue

Code (Code) of employer-provided cover-

age under an accident or health plan.

II. BACKGROUND

Section 201 of WFTRA amended the

definition of dependent in 152, effec-

tive for taxable years beginning after De-

cember 31, 2004. Pursuant to 152, as

amended, an individual must be either a

qualifying child or a qualifying rela-

tive to be a dependent. Section 152(c),

as amended, provides that an individual

must meet relationship, residency, and age

requirements to be a qualifying child. In

addition, an individual is not a qualify-

ing child if the individual provided over

one-half of his or her own support for thecalendar year. Section 152(c)(3)(A) pro-

vides that an individual meets the age re-

quirement if the individual has not attained

age 19 as of the close of the calendar year

or if the individual is a student who has not

attained age 24 as of the close of the calen-

dar year. Under 152(c)(3)(B), an individ-

ual is treated as meeting the age require-

ment if the individual is permanently and

totally disabled (as defined in 22(e)(3))

at any time during the calendar year.

Section 152(d)(1), as amended, pro-

vides, in general, that a qualifying relativeis an individual who bears a relationship

to the taxpayer described in 152(d)(2),

whose gross income is less than the ex-

emption amount (as defined in 151(d)),

who receives over one-half of his or her

support from the taxpayer, and who is not

a qualifying child of the taxpayer or any

other taxpayer.

Section 207 of WFTRA contains sev-

eral technical and conforming amend-

ments to Code sections that refer to the

152 definition of dependent, including

an amendment to 105(b). Section 105(b)

generally excludes from an employees

gross income employer-provided medical

care reimbursements paid directly or in-

directly to the employee for the medicalcare of the employee and the employees

spouse and dependents, as defined in

152. Under the WFTRA amendment to

105(b), an individuals status as a depen-

dent for purposes of 105(b) will be deter-

mined without regard to new 152(b)(1)

and (b)(2), which contain certain excep-

tions to the definition of dependent, and

without regard to new 152(d)(1)(B),

which contains the gross income limita-

tion for a qualifying relative. It appears

that the intent of Congress in making these

conforming amendments was to gener-ally maintain the current law definition of

dependent for purposes of employer-pro-

vided medical care reimbursements.

Section 106(a) provides that the gross

income of an employee does not include

employer-provided coverage under an ac-

cident or health plan. Thus, premiums

and other amounts that an employer pays

on behalf of an employee to an accident

or health plan are not included in gross

income. Treas. Reg. 1.1061 pro-

vides that the exclusion from gross in-

come extends to contributions which theemployer makes to an accident or health

plan on behalf of the employee and the em-

ployees spouse or dependents, as defined

in 152. Because the reference to depen-

dents under 106 appears only in the reg-

ulations under that section and not in the

statute itself, Congress made no conform-

ing amendments to 106 in WFTRA.

Under current law, the exclusion under

106(a) for employer-provided coverage

under an accident or health plan parallels

the exclusion under 105(b) for employer-

provided reimbursements of medical care

expenses incurred by the employee and the

employees spouse and dependents, as de-

fined in 152. However, as a result of

the changes made by WFTRA, the def-

inition of dependent in 105(b) differs

from the definition in the regulations under

106(a). Accordingly, if the regulations

under 106(a) continued to be applied as

currently written after the effective date of

section 201 of WFTRA, the value of em

ployer-provided coverage for an individ

ual who is not a qualifying child and wh

does not meet the gross income limitatio

for a qualifying relative would have to b

included in the employees gross income

Because, in general, the intent of Congress was not to change the definition o

dependent for purposes of employer-pro

vided health plans, regulations under 10

should be revised to provide that the sam

definition of dependent applies to 106 a

applies to amended 105(b).

III. APPLICATION

The IRS intends to revise the regula

tions at 26 C.F.R. 1.1061 to provide tha

the term dependent for purposes of 10

shall have the same meaning as in 105(b

The revised regulations will be effectiv

for taxable years beginning after Decem

ber 31, 2004.

Taxpayers may rely on this notice pend

ing the issuance of the revised regulations

Accordingly, an employee may exclud

from gross income the value of employer

provided coverage for an individual wh

meets the definition of a qualifying relativ

except that the individuals gross incom

equals or exceeds the exemption amount.

DRAFTING INFORMATION

The principal author of this notice i

Barbara Pie of the Office of Divisio

Counsel/Associate Chief Counsel (Ta

Exempt and Government Entities). Fo

further information regarding this notice

contact Ms. Pie at (202) 6226080 (not

toll-free call).

26 CFR 601.105: Examination of returns and claim

for refund, credit, or abatement; determination

correct tax liability.

(Also Part I, Sections 62, 162, 170, 213, 21274, 1016; 1.622, 1.16217, 1.170A1, 1.2131

1.2172, 1.2745, 1.10163.)

Rev. Proc. 200464

SECTION 1. PURPOSE

This revenue procedure updates Rev

Proc. 200376, 20032 C.B. 924, by pro

viding optional standard mileage rates fo

200449 I.R.B. 898 December 6, 200


11/74

employees, self-employed individuals, or

other taxpayers to use in computing the

deductible costs of operating an automo-

bile for business, charitable, medical, or

moving expense purposes. This revenue

procedure also provides rules under which

the amount of ordinary and necessary ex-

penses of local travel or transportation

away from home that are paid or incurred

by an employee will be deemed substan-

tiated under 1.2745 of the Income Tax

Regulations if a payor (the employer, its

agent, or a third party) provides a mileage

allowance under a reimbursement or other

expense allowance arrangement to pay for

the expenses. Use of a method of substan-

tiation described in this revenue procedure

is not mandatory and a taxpayer may use

actual allowable expenses if the taxpayer

maintains adequate records or other suffi-

cient evidence for proper substantiation.

SECTION 2. SUMMARY OF

STANDARD MILEAGE RATES

.01 Standard mileage rates.

(1) Business (section 5 below) 40.5 cents per mile

(2) Charitable (section 7 below) 14 cents per mile

(3) Medical and moving (section 7 below) 15 cents per mile

.02 Determination of standard mileage

rates. The business, medical, and mov-

ing standard mileage rates reflected in this

revenue procedure are based on an annual

study of the fixed and variable costs of op-

erating an automobile conducted on behalfof the Internal Revenue Service by an inde-

pendent contractor, and the charitable stan-

dard mileage rate is provided in 170(i) of

the Internal Revenue Code.

SECTION 3. BACKGROUND AND

CHANGES

.01 Section 162(a) allows a deduction

for all the ordinary and necessary expenses

paid or incurred during the taxable year

in carrying on any trade or business. Un-

der that provision, an employee or self-em-ployed individual may deduct the cost of

operating an automobile to the extent that

it is used in a trade or business. However,

under 262, no portion of the cost of op-

erating an automobile that is attributable to

personal use is deductible.

.02 Section 274(d) provides, in part,

that no deduction is allowed under 162

with respect to any listed property (as de-

fined in 280F(d)(4) to include passen-

ger automobiles and any other property

used as a means of transportation) unless

the taxpayer complies with certain sub-

stantiation requirements. Section 274(d)

further provides that regulations may pre-

scribe that some or all of the substantiation

requirements do not apply to an expense

that does not exceed an amount prescribed

by the regulations.

.03 Section 1.2745(j), in part, grants

the Commissioner of Internal Revenue

the authority to establish a method under

which a taxpayer may use mileage rates

to substantiate, for purposes of 274(d),

the amount of the ordinary and necessary

expenses of using a vehicle for local trans-

portation and transportation to, from, and

at the destination while traveling away

from home..04 Section 1.2745(g), in part, grants

the Commissioner the authority to pre-

scribe rules relating to mileage allowances

for ordinary and necessary expenses of

using a vehicle for local transportation

and transportation to, from, and at the

destination while traveling away from

home. Pursuant to this grant of authority,

the Commissioner may prescribe rules

under which the allowances, if in accor-

dance with reasonable business practice,

will be regarded as (1) equivalent to sub-

stantiation, by adequate records or othersufficient evidence, of the amount of the

travel and transportation expenses for pur-

poses of 1.2745(c), and (2) satisfying

the requirements of an adequate account-

ing to the employer of the amount of the

expenses for purposes of 1.2745(f).

.05 Section 62(a)(2)(A) allows an em-

ployee, in determining adjusted gross in-

come, a deduction for the expenses al-

lowed by Part VI ( 161 and following),

subchapter B, chapter 1 of the Code, paid

or incurred by the employee in connection

with the performance of services as an em-

ployee under a reimbursement or other ex-

pense allowance arrangement with a payor.

.06 Section 62(c) provides that an ar-

rangement will not be treated as a reim-

bursement or other expense allowance ar-

rangement for purposes of 62(a)(2)(A) if

it

(1) does not require the employee to

substantiate the expenses covered by the

arrangement to the payor, or

(2) provides the employee with the right

to retain any amount in excess of the sub-

stantiated expenses covered under the ar-

rangement.

Section 62(c) further provides that the sub-stantiation requirements described therein

do not apply to any expense to the extent

that, under thegrant of regulatory authority

prescribed in 274(d), the Commissioner

has provided that substantiation is not re-

quired for the expense.

.07 Under 1.622(c)(1), a reim-

bursement or other expense allowance

arrangement satisfies the requirements

of 62(c) if it meets the requirements

of business connection, substantiation,

and returning amounts in excess of ex-

penses as specified in the regulations.Section 1.622(e)(2) specifically provides

that substantiation of certain business ex-

penses in accordance with rules prescribed

under the authority of 1.2745(g) will

be treated as substantiation of the amount

of the expenses for purposes of 1.622.

Under 1.622(f)(2), the Commissioner

may prescribe rules under which an ar-

rangement providing mileage allowances

will be treated as satisfying the require-

ment of returning amounts in excess of

expenses, even though the arrangement

does not require the employee to return

the portion of the allowance that relates

to miles of travel substantiated and that

exceeds the amount of the employees ex-

penses deemed substantiated pursuant to

rules prescribed under 274(d), provided

the allowance is reasonably calculated not

to exceed the amount of the employees

expenses or anticipated expenses and the

employee is required to return any portion

December 6, 2004 899 200449 I.R.B.


12/74

of the allowance that relates to miles of

travel not substantiated.

.08 Section 1.622(h)(2)(i)(B) provides

that if a payor pays a mileage allowance

under an arrangement that meets the re-

quirements of 1.622(c)(1), the portion,

if any, of the allowance that relates to miles

of travel substantiated in accordance with

1.622(e), that exceeds the amount of

the employees expenses deemed substan-

tiated for the travel pursuant to rules pre-

scribed under 274(d) and 1.2745(g),

and that the employee is not required

to return, is subject to withholding and

payment of employment taxes. See

31.3121(a)3, 31.3231(e)1(a)(5),

31.3306(b)2, and 31.3401(a)4 of the

Employment Tax Regulations. Because

the employee is not required to return this

excess portion, the reasonable period of

time provisions of 1.622(g) (relating to

the return of excess amounts) do not applyto this excess portion.

.09 Under 1.622(h)(2)(i)(B)(4), the

Commissioner may, in his or her discre-

tion, prescribe special rules regarding the

timing of withholding and payment of em-

ployment taxes on mileage allowances.

.10 Section 5.06(1) of this revenue pro-

cedure revises the limitation on simultane-

ous use of multiple automobiles to allow a

taxpayer using up to four vehicles simulta-

neously to use the standard mileage rate.

SECTION 4. DEFINITIONS

.01 Standard mileage rate. The term

standard mileage rate means the applica-

ble amount provided by the Service for op-

tional use by employees or self-employed

individuals in computing the deductible

costs of operating automobiles (including

vans, pickups, or panel trucks) they own or

lease for business purposes, or by taxpay-

ers in computing the deductible costs of

operating automobiles for charitable, med-

ical, or moving expense purposes.

.02 Transportation expenses. The termtransportation expenses means the ex-

pensesof operatingan automobile for local

travel or transportation away from home.

.03 Mileage allowance. The term

mileage allowance means a payment

under a reimbursement or other expense

allowance arrangement that meets the re-

quirements specified in 1.622(c)(1) and

that is:

(1) paid with respect to the ordinary and

necessary business expenses incurred, or

that the payor reasonably anticipates will

be incurred, by an employee fortransporta-

tion expenses in connection with the per-

formance of services as an employee of the

employer,

(2) reasonably calculated not to exceed

the amount of the expenses or the antici-

pated expenses, and

(3) paid at the applicable standard

mileage rate, a flat rate or stated schedule,

or in accordance with any other Ser-

vice-specified rate or schedule.

.04 Flat rate or stated schedule. A

mileage allowance is paid at a flat rate or

stated schedule if it is provided on a uni-

form and objective basis with respect to the

expenses described in section 4.03 of this

revenue procedure. The allowance may

be paid periodically at a fixed rate, at a

cents-per-mile rate, at a variable rate basedon a stated schedule, at a rate that com-

bines any of these rates, or on any other

basis that is consistently applied and in ac-

cordance with reasonable business prac-

tice. Thus, for example, a periodic pay-

ment at a fixed rate to cover the fixed

costs (including depreciation (or lease pay-

ments), insurance, registration and license

fees, and personal property taxes) of driv-

ing an automobile in connection with the

performance of services as an employee of

the employer, coupled with a periodic pay-

ment at a cents-per-mile rate to cover theoperating costs (including gasoline and all

taxes thereon, oil, tires, and routine main-

tenance and repairs) of using an automo-

bile for those purposes, is an allowance

paid at a flat rate or stated schedule. Like-

wise, a periodic payment at a variable rate

based on a stated schedule for different lo-

cales to cover the costs of driving an auto-

mobile in connection with the performance

of services as an employee is an allowance

paid at a flat rate or stated schedule.

SECTION 5. BUSINESS STANDARDMILEAGE RATE

.01 In general. The standard mileage

rate for transportation expenses is 40.5

cents per mile for all miles of use for busi-

ness purposes. The Service will adjust

the business standard mileage rate (to the

extent warranted) annually and prospec-

tively.

.02 Use of the business standar

mileage rate. A taxpayer may use th

business standard mileage rate with re

spect to an automobile that is either owne

or leased by the taxpayer. A taxpaye

generally may deduct an amount equal t

either the business standard mileage rat

times the number of business miles trav

eled or the actual costs (both operating an

fixed) paid or incurred by the taxpayer tha

are allocable to traveling those busines

miles.

.03 Business standard mileage rate i

lieu of operating and fixed costs. A de

duction using the standard mileage rate fo

business miles is computed on a yearly ba

sis and is in lieu of all operating and fixed

costs of the automobile allocable to busi

ness purposes (except as provided in sec

tion 9.06 of this revenue procedure). Item

such as depreciation (or lease payments)

maintenance and repairs, tires, gasolin(including all taxes thereon), oil, insur

ance, and license and registration fees ar

included in operating and fixed costs fo

this purpose.

.04 Parking fees, tolls, interest, an

taxes. Parking fees and tolls attributabl

to use of the automobile for business pur

poses may be deducted as separate items

Likewise, interest relating to the purchas

of the automobile as well as state and loca

personal property taxes may be deducte

as separate items, but only to the extent al

lowable under 163 or 164, respectivelySection 163(h)(2)(A) expressly provide

that interest is nondeductible persona

interest if it is paid or accrued on indebt

edness properly allocable to the trade o

business of performing services as an em

ployee. Section 164 expressly provide

that state and local taxes that are paid o

accrued by a taxpayer in connection wit

an acquisition or disposition of propert

will be treated as part of the cost of th

acquired property or as a reduction in th

amount realized on the disposition of th

property. If the automobile is operated lesthan 100 percent for business purposes

an allocation is required to determine th

business and nonbusiness portion of th

taxes and interest deduction allowable.

.05 Depreciation. For owned automo

biles placed in service for business pur

poses, and for which the business stan

dard mileage rate has been used for any

year, depreciation will be considered t

have been allowed at the rate of 15 cent

200449 I.R.B. 900 December 6, 200


13/74

per mile for 2001 and 2002, 16 cents per

mile for 2003 and 2004, and 17 cents per

mile for 2005, for those years in which the

business standard mileage rate was used.

If actual costs were used for one or more of

those years, the rates above will not apply

to any year in which the costs were used.

The depreciation described above will re-

duce the basis of the automobile (but not

below zero) in determining adjusted basis

as required by 1016.

.06 Limitations.

(1) The business standard mileage rate

may not be used to compute the deductible

expenses of (a) automobiles used for hire,

such as taxicabs, or (b) five or more auto-

mobiles owned or leased by a taxpayer and

used simultaneously (such as in fleet oper-

ations).


may not be used to compute the deductible

business expenses of an automobile leasedby a taxpayer unless the taxpayer uses ei-

ther the business standard mileage rate or a

FAVR allowance (as provided in section 8

of this revenue procedure) to compute the

deductible business expenses of the auto-

mobile for the entire lease period (includ-

ing renewals). For a lease commencing

on or before December 31, 1997, the en-

tire lease period means the portion of the

lease period (including renewals) remain-

ing after that date.


may not be used to compute the deductibleexpenses of an automobile for which the

taxpayer has (a) claimed depreciation us-

ing a method other than straight-line for its

estimated useful life, (b) claimed a 179

deduction, or (c) used the Accelerated Cost

Recovery System under former 168 or

the Modified Accelerated Cost Recovery

System (MACRS) under current 168. By

using the business standard mileage rate,

the taxpayer has elected to exclude the au-

tomobile (if owned) from MACRS pur-

suant to 168(f)(1). If, after using the

business standard mileage rate, the tax-payer uses actual costs, the taxpayer must

use straight-line depreciation for the au-

tomobiles remaining estimated useful life

(subject to the applicable depreciation de-

duction limitations under 280F).


and this revenue procedure may not be

used to compute the amount of the de-

ductible automobile expenses of an em-

ployee of the United States Postal Service

incurred in performing services involving

the collection and delivery of mail on a ru-

ral route if the employee receives qualified

reimbursements (as defined in 162(o))

for the expenses. See 162(o) for the

rules that apply to these qualified reim-

bursements.

SECTION 6. RESERVED

SECTION 7. CHARITABLE,

MEDICAL, AND MOVING

STANDARD MILEAGE RATE

.01 Charitable. Section 170(i) provides

a standard mileage rate of 14 cents per mile

for purposes of computing the charitable

deduction for use of an automobile in con-

nection with rendering gratuitous services

to a charitable organization under 170.

.02 Medical and moving. The standard

mileage rate is 15 cents per mile for use ofan automobile (a) to obtain medical care

described in 213, or (b) as part of a move

for which the expenses are deductible un-

der 217. The Service will adjust the med-

ical and moving expense standard mileage

rates (to the extent warranted) annually

and prospectively.

.03 Charitable, medical, or moving ex-

pense standard mileage rate in lieu of op-

erating expenses. A deduction computed

using the applicable standard mileage rate

for charitable, medical, or moving expense

miles is in lieu of all operating expenses(including gasoline and oil) of the automo-

bile allocable to those purposes. Costs for

items such as depreciation (or lease pay-

ments), insurance, and license and regis-

tration fees are not deductible, and are not

included in the standard mileage rates.

.04 Parking fees, tolls, interest, and

taxes. Parking fees and tolls attributable

to the use of the automobile for charitable,

medical, or moving expense purposes may

be deducted as separate items. Interest

relating to the purchase of the automobile

and state and local personal property taxesare not deductible as charitable, medical,

or moving expenses, but they may be

deducted as separate items to the extent

allowable under 163 or 164, respec-

tively.

SECTION 8. FIXED AND VARIABLE

RATE ALLOWANCE

.01 In general.

(1) The ordinary and necessary ex-

penses paid or incurred by an employee

in driving an automobile owned or leased

by the employee in connection with the

performance of services as an employee

of the employer will be deemed substan-

tiated (in an amount determined under

section 9 of this revenue procedure) when

a payor reimburses those expenses with

a mileage allowance using a flat rate or

stated schedule that combines periodic

fixed and variable rate payments that meet

all the requirements of section 8 of this

revenue procedure (a FAVR allowance).

(2) The amount of a FAVR allowance

must be based on data that (a) is derived

from the base locality, (b) reflects retail

prices paid by consumers, and (c) is rea-

sonable and statistically defensible in ap-

proximating the actual expenses employ-

ees receiving the allowance would incur as

owners of the standard automobile..02 Definitions.

(1) FAVR allowance. A FAVR al-

lowance includes periodic fixed payments

and periodic variable payments. A payor

may maintain more than one FAVR al-

lowance. A FAVR allowance that uses the

same payor, standard automobile (or an au-

tomobile of the same make and model that

is comparably equipped), retention period,

and business use percentage is considered

one FAVR allowance, even though other

features of the allowance may vary. A

FAVR allowance also includes any op-tional high mileage payments; however,

optional high mileage payments are in-

cluded in the employees gross income,

are reported as wages or other compen-

sation on the employees Form W2, and

are subject to withholding and payment

of employment taxes when paid. See sec-

tion 9.05 of this revenue procedure. An

optional high mileage payment covers

the additional depreciation for a standard

automobile attributable to business miles

driven and substantiated by the employee

for a calendar year in excess of the annualbusiness mileage for that year. If an em-

ployee is covered by the FAVR allowance

for less than the entire calendar year, the

annual business mileage may be prorated

on a monthly basis for purposes of the

preceding sentence.

(2) Periodic fixed payment. A periodic

fixed payment covers the projected fixed

costs (including depreciation (or lease pay-

ments), insurance, registration and license

December 6, 2004 901 200449 I.R.B.


14/74

fees, and personal property taxes) of driv-

ing the standard automobile in connection

with the performance of services as an em-

ployee of the employer in a base locality,

and must be paid at least quarterly. A pe-

riodic fixed payment may be computed by

(a) dividing the total projected fixed costs

of the standard automobile for all years

of the retention period, determined at the

beginning of the retention period, by the

number of periodic fixed payments in the

retention period, and (b) multiplying the

resulting amount by the business use per-

centage.

(3) Periodic variable payment. A peri-

odic variable payment covers the projected

operating costs (including gasoline and all

taxes thereon, oil, tires, and routine main-

tenance and repairs) of driving a standard

automobile in connection with the perfor-

mance of services as an employee of the

employer in a base locality, and must bepaid at least quarterly. The rate of a pe-

riodic variable payment for a computation

period may be computed by dividing the

total projected operating costs for the stan-

dard automobile for the computation pe-

riod, determined at the beginning of the

computation period, by the computation

period mileage. A computation period can

be any period of a year or less. Compu-

tation period mileage is the total mileage

(business and personal) a payor reason-

ably projects a standard automobile will

be driven during a computation period and

equals the retention mileage divided by the

number of computation periods in the re-

tention period. For each business mile sub-

stantiated by the employee for the com-

putation period, the periodic variable pay-

ment must be paid at a rate that does not ex-

ceed the rate for that computation period.

(4) Base locality. A base locality is

the particular geographic locality or re-

gion of the United States in which the

costs of driving an automobile in connec-

tion with the performance of services as

an employee of the employer are generally

paid or incurred by the employee. Thus,

for purposes of determining the amount

of fixed costs, the base locality is gener-

ally the geographic locality or region in

which the employee resides. For purposes

of determining the amount of operating

costs, the base locality is generally the geo-

graphic locality or region in which the em-

ployee drives the automobile in connectionwith the performance of services as an em-

ployee of the employer.

(5) Standard automobile. A standard

automobile is the automobile selected by

the payor on which a specific FAVR al-

lowance is based.

(6) Standard automobile cost. The stan-

dard automobile cost for a calendar year

may not exceed 95 percent of the sum of

(a) the retail dealer invoice cost of the stan-

dard automobile in the base locality, and

(b) state and local sales or use taxes appli-

cable on the purchase of the automobile.

Further, the standard automobile cost may

not exceed $27,600.

(7) Annual mileage. Annual mileage i

the total mileage (business and personal

a payor reasonably projects a standard au

tomobile will be driven during a calenda

year. Annual mileage equals the annua

business mileage divided by the busines

use percentage.

(8) Annual business mileage. Annua

business mileage is the mileage a payo

reasonably projects a standard automobil

will be driven by an employee in connec

tion with the performance of services as an

employee of the employer during the cal

endar year, but may not be less than 6,25

miles for a calendar year. Annual busines

mileage equals the annual mileage multi

plied by the business use percentage.

(9) Business use percentage. A busi

ness use percentage is determined b

dividing the annual business mileage bthe annual mileage. The business us

percentage may not exceed 75 percent

In lieu of demonstrating the reasonable

ness of the business use percentage base

on records of total mileage and busines

mileage driven by the employees annually

a payor may use a business use percentag

that is less than or equal to the followin

percentages for a FAVR allowance tha

is paid for the following annual busines

mileage:

Annual business mileage Business use percentage

6,250 or more but less than 10,000 45 percent



20,000 or more 75 percent

(10) Retention period. A retention pe-

riod is the period in calendar years selected

by the payor during which the payor ex-pects an employee to drive a standard auto-

mobile in connection with the performance

of services as an employee of the employer

before the automobile is replaced. The

period may not be less than two calendar

years.

(11) Retention mileage. Retention

mileage is the annual mileage multiplied

by the number of calendar years in theretention period.

(12) Residual value. The residual value

of a standard automobile is the projected

amount for which it could be sold at the

end of the retention period after being

driven the retention mileage. The Ser-

vice will accept the following safe harbo

residual values for a standard automobil

computed as a percentage of the standarautomobile cost:

200449 I.R.B. 902 December 6, 200


15/74

Retention period Residual value

2-year 70 percent

3-year 60 percent

4-year 50 percent

.03 FAVR allowance in lieu of operating

and fixed costs.(1) A reimbursement computed using

a FAVR allowance is in lieu of the em-

ployees deduction of all the operating and

fixed costs paid or incurred by an em-

ployee in driving the automobile in con-

nection with the performance of services

as an employee of the employer, except

as provided in section 9.06 of this rev-

enue procedure. Items such as deprecia-

tion (or lease payments), maintenance and

repairs, tires, gasoline (including all taxes

thereon), oil, insurance, license and reg-

istration fees, and personal property taxesare included in operating and fixed costs

for this purpose.

(2) Parking fees and tolls attributable

to an employee driving the standard au-

tomobile in connection with the perfor-


employer are not included in fixed and op-

erating costs and may be deducted as sep-

arate items. Similarly, interest relating to

the purchase of the standard automobile

may be deducted as a separate item, but

only to the extent that the interest is an al-

lowable deduction under 163.

.04 Depreciation.

(1) A FAVR allowance may not be paid

with respect to an automobile forwhich the

employee has (a) claimed depreciation us-

ing a method other than straight-line for its

estimated useful life, (b) claimed a 179

deduction, or (c) used the Accelerated Cost

Recovery System under former 168 or

the Modified Accelerated Cost Recovery

System under current 168. If an em-

ployee uses actual costs for an owned au-

tomobile that has been covered by a FAVRallowance, the employee must use straight-

line depreciation for the automobiles re-

maining estimated useful life (subject to

the applicable depreciation deduction lim-

itations under 280F).

(2) Except as provided in section

8.04(3) of this revenue procedure, the total

amount of the depreciation component for

the retention period taken into account in

computing the periodic fixed payments

for that retention period may not exceed

the excess of the standard automobile costover the residual value of the standard

automobile. In addition, the total amount

of the depreciation component may not

exceed the sum of the annual 280F lim-

itations on depreciation (in effect at the

beginning of the retention period) that ap-

ply to the standard automobile during the

retention period.

(3) If the depreciation component of pe-

riodic fixed payments exceeds the limi-

tations in section 8.04(2) of this revenue

procedure, that section will be treated as

satisfied in any year during which the to-tal annual amount of the periodic fixed

payments and the periodic variable pay-

ments made to an employee driving 80

percent of the annual business mileage of

the standard automobile does not exceed

the amount obtained by multiplying 80

percent of the annual business mileage of

the standard automobile by the applicable

business standard mileage rate for that year

(under section 5.01 of the applicable rev-

enue procedure).

(4) The depreciation included in each

periodic fixed payment portion of a FAVR

allowance paid with respect to an automo-

bile will reduce the basis of the automo-

bile (but not below zero) in determining

adjusted basis as required by 1016. See

section 8.07(2) of this revenue procedure

for the requirement that the employer re-

port the depreciation component of a peri-

odic fixed payment to the employee.

.05 FAVR allowance limitations.

(1) A FAVR allowance may be paid

only to an employee who substantiates to

the payor for a calendar year at least 5,000miles driven in connection with the perfor-


employer or, if greater, 80 percent of the

annual business mileage of that FAVR al-

lowance. If the employee is covered by

the FAVR allowance for less than the en-

tire calendar year, these limits may be pro-

rated on a monthly basis.

(2) A FAVR allowance may not be

paid to a control employee (as defined

in 1.6121(f)(5) and (6), excluding

the $100,000 limitation in paragraph(f)(5)(iii)).

(3) An employer may not pay a FAVR

allowance if at any time during a calendar

year a majority of the employees covered

by the FAVR allowance are management

employees.

(4) An employer may not pay a FAVR

allowance unless at all times during a

calendar year at least five employees of

the employer are covered by one or more

FAVR allowances.


only with respect to an automobile (a)owned or leased by the employee receiv-

ing the payment, (b) the cost of which,

when new, is at least 90 percent of the

standard automobile cost taken into ac-

count for purposes of determining the

FAVR allowance for the first calendar year

the employee receives the allowance with

respect to that automobile, and (c) the

model year of which does not differ from

the current calendar year by more than the

number of years in the retention period.

(6) A FAVR allowance may not be paid

with respect to an automobile leased by

an employee for which the employee has

used actual expenses to compute the de-

ductible business expenses of the automo-

bile for any year during the entire lease pe-

riod. For a lease commencing on or before

December 31, 1997, the entire lease pe-

riod means the portion of the lease period

(including renewals) remaining after that

date.

(7) The insurance cost component of

a FAVR allowance must be based on the

rates charged in the base locality for in-surance coverage on the standard automo-

bile during the current calendar year with-

out taking into account rate-increasing fac-

tors such as poor driving records or young

drivers.


only to an employee whose insurance cov-

erage limits on the automobile with respect

to which the FAVR allowance is paid are at

least equal to the insurance coverage lim-

December 6, 2004 903 200449 I.R.B.


16/74

its used to compute the periodic fixed pay-

ment under that FAVR allowance.

.06 Employee reporting. Within 30

days after an employees automobile is

initially covered by a FAVR allowance,

or is again covered by a FAVR allowance

if coverage has lapsed, the employee by

written declaration must provide the payor

with the following information: (a) the

make, model, and year of the employees

automobile, (b) written proof of the insur-

ance coverage limits on the automobile,

(c) the odometer reading of the automo-

bile, (d) if owned, the purchase price of

the automobile or, if leased, the price at

which the automobile is ordinarily sold by

retailers (the gross capitalized cost of the

automobile), and (e) if owned, whether

the employee has claimed depreciation

with respect to the automobile using any

of the depreciation methods prohibited by

section 8.04(1) of this revenue procedureor, if leased, whether the employee has

computed deductible business expenses

with respect to the automobile using actual

expenses. The information described in

(a), (b), and (c) of the preceding sentence

also must be supplied by the employee

to the payor within 30 days after the be-

ginning of each calendar year that the

employees automobile is covered by a

FAVR allowance.

.07 Payor recordkeeping and reporting.

(1) The payor or its agent must main-

tain written records setting forth (a)the sta-tistical data and projections on which the

FAVR allowance payments are based, and

(b) the information provided by the em-

ployees pursuant to section 8.06 of this

revenue procedure.

(2) Within 30 days of the end of each

calendar year, the employer must pro-

vide each employee covered by a FAVR

allowance during that year with a state-

ment that, for automobile owners, lists

the amount of depreciation included in

each periodic fixed payment portion of the

FAVR allowance paid during that calen-dar year and explains that by receiving a

FAVR allowance the employee has elected

to exclude the automobile from the Mod-

ified Accelerated Cost Recovery System

pursuant to 168(f)(1). For automobile

lessees, the statement must explain that

by receiving the FAVR allowance the em-

ployee may not compute the deductible

business expenses of the automobile using

actual expenses for the entire lease period

(including renewals). For a lease com-

mencing on or before December 31, 1997,

the entire lease period means the portion

of the lease period (including renewals)

remaining after that date.

.08 Failure to meet section 8 require-

ments. If an employee receives a mileage

allowance that fails to meet one or more

of the requirements of section 8 of this

revenue procedure, the employee may not

be treated as covered by any FAVR al-

lowance of the payor during the period of

the failure. Nevertheless, the expenses to

which that mileage allowance relates may

be deemed substantiated using the method

described in sections 5, 9.01(1), and 9.02

of this revenue procedure to the extent the

requirements of those sections are met.

SECTION 9. APPLICATION

.01 If a payor pays a mileage allowancein lieu of reimbursing actual transportation

expenses incurred or to be incurred by an

employee, the amount of the expenses that

is deemed substantiated to the payor is ei-

ther:

(1) for any mileage allowance other

than a FAVR allowance, the lesser of the

amount paid under the mileage allowance

or the applicable standard mileage rate

in section 5.01 of this revenue procedure

multiplied by the number of business miles

substantiated by the employee; or

(2) for a FAVR allowance, the amountpaid under the FAVR allowance less the

sum of (a) any periodic variable rate pay-

ment that relates to miles in excess of the

business miles substantiated by the em-

ployee and that the employee fails to re-

turn to the payor although required to do

so, (b) any portion of a periodic fixed pay-

ment that relates to a period during which

the employee is treated as not covered by

the FAVR allowance and that the employee

fails to return to the payor although re-

quired to do so, and (c) any optional high

mileage payments..02 If the amount of transportation ex-

penses is deemed substantiated under the

rules provided in section 9.01 of this rev-

enue procedure, and the employee actually

substantiates to the payor the elements of

time, place (or use), and business purpose

of the transportation expenses in accor-

dance with paragraphs (b)(2) (travel away

from home) and (b)(6) (listed property,

which includes passenger automobiles

and any other property used as a means o

transportation) of 1.2745T, and para

graph (c) of 1.2745, the employee i

deemed to satisfy the adequate account

ing requirements of 1.2745(f) as wel

as the requirement to substantiate b

adequate records or other sufficient evi

dence for purposes of 1.2745(c). Se

1.622(e)(1) for the rule that an arrange

ment must require business expenses to b

substantiated to the payor within a reason

able period of time.

.03 An arrangement providing mileag

allowances will be treated as satisfying th

requirement of 1.622(f)(2) with respec

to returning amounts in excess of expense

as follows:

(1) For a mileage allowance other than

a FAVR allowance, the requirement t

return excess amounts will be treated a

satisfied if the employee is required t

return within a reasonable period of tim(as defined in 1.622(g)) any portion o

the allowance that relates to miles of trave

not substantiated by the employee, eve

though the arrangement does not requir

the employee to return the portion of th

allowance that relates to the miles of trave

substantiated and that exceeds the amoun

of the employees expenses deemed sub

stantiated. For example, assume a payo

provides an employee an advance mileag

allowance of $90 based on an anticipate

200 business miles at 45 cents per mil

(at a time when the applicable businesstandard mileage rate is 40.5 cents pe

mile), and the employee substantiates 120

business miles. The requirement to retur

excess amounts will be treated as satisfie

if the employee is required to return th

portion of the allowance that relates to th

80 unsubstantiated business miles ($36

even though the employee is not require

to return the portion of the allowanc

($5.40) that exceeds the amount of the em

ployees expenses deemed substantiate

under section 9.01 of this revenue pro

cedure ($48.60) for the 120 substantiatedbusiness miles. However, the $5.40 exces

portion of the allowance is treated as paid

under a nonaccountable plan as discusse

in section 9.05.

(2) For a FAVR allowance, the require

ment to return excess amounts will b

treated as satisfied if the employee is re

quired to return within a reasonable perio

of time (as defined in 1.622(g)), (a) the

portion (if any) of the periodic variabl

200449 I.R.B. 904 December 6, 200


17/74

payment received that relates to miles in

excess of the business miles substanti-

ated by the employee, and (b) the portion

(if any) of a periodic fixed payment that

relates to a period during which the em-

ployee was not covered by the FAVR

allowance.

.04 An employee is not required to in-

clude in gross income the portion of a

mileage allowance received from a payor

that is less than or equal to the amount

deemed substantiated under section 9.01

of this revenue procedure, provided the

employee substantiates in accordance with

section 9.02. See 1.2745T(f)(2)(i). In

addition, that portion of the allowance is

treated as paid under an accountable plan,

is not reported as wages or other compen-

sation on the employees Form W2, and

is exempt from withholding and payment

of employment taxes. See 1.622(c)(2)

and (c)(4)..05 An employee is required to in-

clude in gross income only the portion

of a mileage allowance received from a

payor that exceeds the amount deemed

substantiated under section 9.01 of this

revenue procedure, provided the em-

ployee substantiates in accordance with

section 9.02 of this revenue procedure.

See 1.2745T(f)(2)(ii). In addition, the

excess portion of the allowance is treated

as paid under a nonaccountable plan, is re-

ported as wages or other compensation on

the employees Form W2, and is subjectto withholding and payment of employ-

ment taxes. See 1.622(c)(3)(ii), (c)(5),

and (h)(2)(i)(B).

.06 If an employees substantiated ex-

penses are less than the employees actual

expenses, the following rules apply:

(1) Except as otherwise provided in

section 9.06(2) of this revenue procedure

with respect to leased automobiles, if the

amount of the expenses deemed substan-

tiated under the rules provided in section

9.01 of this revenue procedure is less than

the amount of the employees businesstransportation expenses, the employee

may claim an itemized deduction for

the amount by which the business trans-

portation expenses exceed the amount

that is deemed substantiated, provided

the employee substantiates all the busi-

ness transportation expenses, includes

on Form 2106, Employee Business Ex-

penses, the deemed substantiated portion

of the mileage allowance received from

the payor, and includes in gross income

the portion (if any) of the mileage al-

lowance received from the payor that

exceeds the amount deemed substantiated.

See 1.2745T(f)(2)(iii). However, for

purposes of claiming this itemized deduc-

tion, substantiation of the amount of the

expenses is not required if the employee

is claiming a deduction that is equal to or

less than the applicable standard mileage

rate multiplied by the number of business

miles substantiated by the employee minus

the amount deemed substantiated under

section 9.01 of this revenue procedure.

The itemized deduction is subject to the

2-percent floor on miscellaneous itemized

deductions provided in 67.

(2) An employee whose business trans-

portation expenses with respect to a leased

automobile are deemed substantiated un-

der section 9.01(1) of this revenue proce-

dure (relating to an allowance other than aFAVR allowance) may not claim a deduc-

tion based on actual expenses under sec-

tion 9.06(1) unless the employee does so

consistently beginning with the first busi-

ness use of the automobile after December

31, 1997. However, an employee whose

business transportation expenses with re-

spect to a leased automobile are deemed

substantiated under section 9.01(2) of this

revenue procedure (relating to a FAVR al-

lowance) may not claim a deduction based

on actual expenses.

.07 An employee may deduct anamount computed pursuant to section

5.01 of this revenue procedure only as an

itemized deduction. This itemized deduc-

tion is subject to the 2-percent floor on

miscellaneous itemized deductions pro-

vided in 67.

.08 A self-employed individual may

deduct an amount computed pursuant to

section 5.01 of this revenue procedure in

determining adjusted gross income under

62(a)(1).

.09 If a payors reimbursement or

other expense allowance arrangement ev-idences a pattern of abuse of the rules of

62(c) and the regulations thereunder, all

payments under the arrangement will be

treated as made under a nonaccountable

plan. Thus, the payments are included in

the employees gross income, are reported

as wages or other compensation on the

employees Form W2, and are subject to

withholding and payment of employment

taxes. See 1.622(c)(3), (c)(5), and

(h)(2).

SECTION 10. WITHHOLDING AND

PAYMENT OF EMPLOYMENT TAXES

.01 The portion of a mileage allowance

(other than a FAVR allowance), if any,

that relates to the miles of business

travel substantiated and that exceeds the

amount deemed substantiated for those

miles under section 9.01(1) of this rev-

enue procedure is subject to withholding

and payment of employment taxes. See

1.622(h)(2)(i)(B).

(1) In the case of a mileage allowance

paid as a reimbursement, the excess de-

scribed in section 10.01 of this revenue

procedure is subject to withholding and

payment of employment taxes in the pay-

roll period in which the payor reimburses

the expenses for the business miles sub-stantiated. See 1.622(h)(2)(i)(B)(2).

(2) In the case of a mileage allowance