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Treas.
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10
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v.403

Department of the Treasury

PRESS R E L E A S E S

JS-445: Assistant Secretary Pamela Olson Remarks to 2003 ICI/SIA Retirement Savings ... Page 1 of 5

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 2, 2003
JS-445
Treasury Assistant Secretary for Tax Policy Pamela Olson
Remarks to 2003 ICI/SIA Retirement Savings Conference

I very much appreciate the opportunity to be with you this morning. ICI, SIA, and
the members of both organizations were instrumental in the passage of tax relief
legislation last week. The support of both organizations, both in identifying the
technical issues that had to be addressed and in educating the public and
legislators on the significance of the President's proposal to end the double tax on
corporate income, was invaluable. From those of us in the Treasury Department
and the Administration w h o had the pleasure of working alongside you, I thank you.
W e simply could not have accomplished what w e did without you.
I'd like to start this morning with the importance of the tax legislation that the
President signed into law last week, then delve further into our tax system. That
legislation addressed one of the most serious underlying problems in the tax code,
but there are others that remain to be addressed.
The legislation the President signed into law last week the Jobs & Growth Tax
Relief Reconciliation Act of 2003 - was designed to give the economy the extra
boost it needs to start growing at a faster rate.
The new law provides tax relief across the board. It increases the amount of
income subject to tax at the lowest rate, ends the marriage penalty for lower and
moderate income families, increases the child credit from $600 to $1000 per child,
and guards middle income families against the A M T . It also accelerates to 2003
the reduction in the remainder of income tax rates that were delayed until 2004 and
2006.
Taken together, these changes mean that people will start seeing more money in
their paychecks in the next few weeks. A married couple with two children and
income of $40,000 will see their taxes decline by $1,133 (from $1,178 to $45) in
2003, a decline of 96 percent. Three million families will be taken off the tax rolls
entirely. Eight million families who pay no income taxes will see their child credit
refunds increase. In addition, families will not have to wait to see the benefits of the
increase in the child credit. Next month, the IRS will begin cutting checks to
families for the increase in the child credit.
What do the changes mean? They mean that families will get to decide what to do
with their own money. Saving for college tuition. Preparing for retirement.
Deciding how best to meet their families' needs using their own money.
The reduction in income tax rates and a significant increase in the amount of
investment that small businesses can expense annually will benefit 23 million small
business owners, leaving them with cash for further investments and to create new
jobs. The critical role played by small businesses in the American economy is well
known. As President Bush has noted, this law directly affects small business,
because most small businesses pay taxes at the individual tax rates. Reducing the
individual income tax rates helps the bottom line of most small businesses in
America. It puts capital into the treasuries of small businesses across America.
More capital means more investment. More investment means more jobs.
The centerpiece of the legislation is the significant reduction - to 5 and 15% rates -

JS-445: Assistant Secretary Pamela Olson Remarks to 2003 ICI/SIA Retirement Savings ... Page 2 of 5

in the double tax on corporate dividends and capital gains. While w e did not win
the complete end to the double tax, w e m a d e great strides. The change signed into
law by President Bush last week is the most significant change to the structure of
the income tax in decades. The President's goal w a s complete rationality - an end
to the double tax. While w e did not get to complete rationality - this is Washington
after all! - w e did get to an equal - and substantially reduced - tax rate on dividends
and capital gains.
In reading the commentary and listening to the pundits over the last 10 days, it's
clear that a lot of folks don't understand how positive this change is - so let m e
spend a minute on it. For decades now, we've been living with a system that
diverges from our best economic interests as a country. We've had laws that favor
debt, disfavor dividends, and enormously increase the tax costs of businesses
growing through outside capital investments. The result of the decades of bias?
Too much debt. Attempts to camouflage debt. Too much attention to manipulate
earnings instead of unfakeable cash flow. Too many complicated transactions
designed to produce capital gains. Transactions that coincidentally yielded enough
shares to fulfill generous stock option grants without unacceptably diluting
shareholder interests. Too many small business owners to w h o m the tax code
presents a barrier to growth. Too long with an arbitrary allocation of the tax burden
on the basis of the form in which a company does business.
With last week's legislative action, we've taken the first step to eliminating the tax
code's decades old interference in the capital markets and misallocation of
resources. Perhaps most important is that taxing dividends and capital gains alike
removes the fig leaf of "tax inefficiency" behind which s o m e less-than-stellar
corporate managers have hidden decisions. G o n e is any justification for retaining
earnings without a satisfactory return on those earnings. That means a certain
midwestern oracle, who, it must be noted, has played the tax code like a fiddle, is
still safe retaining all his earnings. Perhaps, however, the equalization of tax on
dividends and capital gains will even cause s o m e of his shareholders to lose their
complete affinity for capital gains!
Let me note two other significant benefits to the economy of the change in the
taxation of corporate income. Did you know w e were number one in the O E C D ?
Yes, number one for highest tax on corporate income. This change ends that
dubious distinction.
W e operate in a global economy. W e can no longer write rules as though what the
rest of the world is doing is irrelevant to us. The second benefit is that it lowers the
cost of capital for corporate investment. A lower cost of capital means more
investment. More investment will encourage new job creation.
While we expect the change to have a positive effect on corporate behavior, it is
likely that it will take s o m e time for the change to undo decades of engrained
practices. Dividend policy matters to the market because it is an indicator of the
underlying health of a company - and, consequently, dividend policies are not
changed lightly nor are they changed overnight. There are, however, already
positive signs. Shortly after the President unveiled his proposal, Microsoft declared
its first ever dividend. That was followed soon after by IHOP. A s one economist
observed, before the proposal w a s even enacted, it w a s changing behavior from
P C s to pancakes. And that is why the President didn't waffle.
And the trend continues. Late last week, Sallie Mae increased its dividend pay out,
citing the change in the tax law. A s the economy improves, w e are likely to see
more of that. Over time, w e m a y again see a time when cash dividends comprise
an important part of shareholders' return. T o m y mind, that would be a welcome
change. Lottery tickets are not a good investment strategy, but the investments in
s o m e cashless companies that our tax code encouraged are closely akin to it.
While the Jobs and Growth Act has better aligned our tax rules with our economic
interests and our values, there are still ways in which our tax rules are inconsistent
with the core values of American society. O n e of those is of special concern to
those of you associated with today's Retirement Savings Conference: our tax code
discourages saving.

JS-445: Assistant Secretary Pamela Olson Remarks to 2003 ICI/SIA Retirement Savings ... Page 3 of 5

Let's turn to the basics for a moment.
Our income tax system began as a system intended simply to fund the
government. Over the years, successive Congresses and Administrations have
proposed and enacted both minor changes and major overhauls. W e have grafted
on more and more components to the point that the system is nearing collapse.
To be sure, many of the components reflect an increasingly complicated world. But
many do not. Often changes have been designed to hit a revenue target or to
patch a hole, real or perceived. Whatever the case, changes have been m a d e too
frequently, without coherent or consistent policy design, with insufficient overall
consideration of their effect on our country or its relation to the global economy, and
without adequate thought to how each of the n e w components fits with the others.
In the tax world, we have done exactly the opposite of what the business world has
done to increase productivity a key to the incredible economic growth the county
has experienced in the recent past. What is it the business world has done to
increase productivity? They've simplified. They've taken every process down to its
constituent parts and cut out the inefficiencies, the points of friction, the drags that
prevent the most streamlined operation and the standardization of transactions.
In the tax world, instead of simplifying to increase productivity in compliance and
administration, w e keep adding complexity - more rules, more limitations, more
terms, more conditions, more qualifiers, more provisos, more exceptions. T h e
result is that our system gets slower and slower and more inefficient. W e burn
more fuel, and emit ever more heat and smoke, and yet with all that burning, there's
less and less light to show for it.
Nowhere is this problem more evident than in the numerous savings vehicles we
have in the Code. Instead of simplifying to increase saving, w e keep adding
complexity more rules, more limitations, more terms, more conditions, more
qualifiers, more provisos, more exceptions. A s a result Americans are increasingly
disinclined to save, rather than trying to figure out the complex rules.
Two decades ago - before the '86 Tax Reform Act fixed all sorts of things that
weren't broken there w a s one kind of IRA and it worked for everyone. A s Matt
Fink has noted, from 1980 to 1986, contributions to IRAs rose nearly ten-fold, from
$4 billion to $38 billion. Even more significant, however, is that the median income
of contributing workers declined from $41,000 in 1982 to $29,000 in 1986.
The '86 Act added provisos to the simple IRA that limited its availability. These
provisos were based on income and pension plan availability. The result:
participation dropped. Confusion over eligibility, deductibility, and the benefits of
continuing to contribute sidelined many former participants w h o were still eligible to
participate.
The complexity also sidelined our financial institutions whose marketing abilities
coupled with the convenience of payroll deductions or automatic transfers - had
m a d e the IRA popular and successful. The limitations, qualifiers, and provisos
m a d e it impossible for them to standardize transactions. In short, w e told simplicity
and the efficiency and productivity simplicity brings - to take a hike. It has never
returned. Instead of going back to basics to fix the decline in participation, w e have
added more complexity. W e now have three versions of the IRA traditional,
nondeductible, and Roth. All operate differently, including with different limitations,
qualifiers, and provisos - and, of course, they are mutually exclusive.
Recognizing that more people would be willing to set aside cash for retirement if
they knew they could withdraw it in certain circumstances, w e m a d e exceptions for
certain kinds of withdrawals in certain situations and added more complexity.
As the list of sympathetic withdrawals lengthened, we added new savings accounts
for the new purposes. ESAs, Q S T P s , M S A s . Hardly a month goes by that
someone doesn't propose yet another account for yet another purpose.

JS-445: Assistant Secretary Pamela Olson Remarks to 2003 ICI/SIA Retirement Savings ... Page 4 of 5

And so the complexity grows, the inability to standardize transactions grows, the
cost of administration grows, and the confusion multiplies!
Implicit in all of these complicated provisions are two important points. First, we
don't trust the American taxpayer to m a k e the right decisions, and, second, our tax
rules contradict our values.
If w e did trust the American taxpayer to m a k e the right decisions for him or herself
and his or her family, w e wouldn't need the long list of qualifiers, provisos, and
exceptions, backed up by penalties. Penalties, incidentally, that particularly
discourage participation by lower and moderate income families. It's hard enough
for people to save today. The last thing w e need is s o m e scold hitting the virtuous
saver with a penalty because they need the money for s o m e purpose unsanctioned
by Washington.
The rules contradict our values because our system penalizes those who save their
money instead of spending it. W e will only reduce the penalty for those w h o agree
to save, and in fact do save, for the purposes dictated by us here in Washington.
This contradiction of our values is so engrained that it has become second nature to
us - w e don't realize the effect it's having.
Take a simple example. Two families - identical except that one of them spends
everything they m a k e and the other saves some, whether to buy a n e w home, for
continuing education, for a rainy day, for unexpected emergencies, for their
children's future, or for their o w n retirement security. Over time, the family that
saves will see its tax bill increase relative to the family that spends everything. W e
justify that on the basis that the family that saved has more income and a greater
ability to pay. But the reason they have more income is because they chose to do
the right thing. Like the ant in the parable, they worked and saved for their future.
Virtue m a y be its own reward, but we're going to get less of it if w e attach penalties
to it. And, mind you, the additional taxes aren't limited to the tax owed on the
savings income. Nor are the penalties for this virtue limited to the tax code.
We need to go back to the drawing board. We need to have faith that the American
people know how to do the right thing. The President's budget proposals for
retirement and lifetime savings accounts would do just that.
The proposed simplification of the retirement savings accounts and the addition of a
lifetime savings account accessible to all Americans would bring significant
simplification benefits. The lifetime savings account, or LSA, will allow everyone to
contribute - with no limitations based on age or income status up to $7,500 per
year of after-tax income. LSAs could be used to fund a college education, start a
business, buy a first home, save for emergencies, or used for retirement. Earnings
would not be subject to income tax and amounts could be withdrawn at any time for
any purpose. Think medical savings accounts without losing unused cash at the
end of the year. Think education savings accounts without the receipts. L S A s also
could be established for children.
The retirement savings account, or RSA, would consolidate traditional IRAs,
nondeductible IRAs, and Roth IRAs into a single simple account for retirement
savings. Individuals could save up to $7,500 per year of after-tax compensation -regardless of the level of that compensation for retirement, whether or not they
also save in an LSA. Earnings in an R S A would not be subject to income tax
provided the earnings are not distributed prior to the owner reaching age 58 or
becoming disabled. Individuals would be able to convert existing tax-preferred
savings into these new accounts in order to consolidate and simplify their savings.
Confusion and frustration are far too common among individuals trying to save. In
1982, the IRS publication explaining individual retirement accounts w a s 12 pages
long. N o w it is 104 pages long. People should not have to worry about the
confusing alphabet soup of six different savings accounts and the endless m a z e of
confusing rules. The two simple accounts will have one powerful goal making
saving for everyday life and retirement security easier and more attractive.
Getting rid of the restrictions and qualifiers simplifies marketing and participation
for everyone and for every purpose. But m a k e no mistake about it: the real

JS-445: Assistant Secretary Pamela Olson Remarks to 2003 ICI/SIA Retirement Savings ... Page 5 of 5

winners here are average Americans. In a matter of less than a decade, the
accounts would permit all lower and moderate income Americans to enjoy the
benefits of tax-free compounding and freedom from the complexity of Schedule B
and Schedule D for all of their savings. This will give more hardworking Americans
the chance to enrich their lives and strengthen their retirement security.
Besides simplifying savings for individuals, we need to simplify and rationalize the
rules governing employer sponsored retirement plans. Each plan's purpose is to
encourage retirement savings. But different sets of rules for different types of plans
and different types of employers needlessly complicate and confuse employers and
employees and make more difficult the standardization of transactions that reduces
cost. Employer Retirement Savings Accounts, or E R S A s , would promote and
vastly simplify employer sponsored retirement plans by consolidating 401 (k),
SIMPLE 401 (k), 403(b), SIMPLE IRAs, S A R S E P s , and 457 plans into a single type
of plan that could be more easily established and maintained by any employer.
Less than 50% of the work force is covered by a retirement plan. Among small
businesses, the coverage is even lower, with estimates ranging between 25 and
3 3 % of the workforce. O n e look at the complexity of the rules and it is easy to
understand w h y many small businesses would have opted out. W e need to change
that. W e need to simplify the rules to make them accessible for all employers,
regardless of size or sophistication.
I think you will find these proposals both sensible and constructive - they will
simplify our tax code for employers and individuals, so that all Americans can save
more for retirement, and for all their investment needs. W e welcome your input on
ways to make the proposals even more potent tools to encourage savings. Like the
President's Jobs and Growth plan, and the Tax Relief Act of 2001, this will m e a n a
long term boost for our economy, and greater prosperity and freedom for every
American family.
Thank you.

EMBARGOED UNTIL 11:00 A.M.
June 2, 2003

Contact:

Office of Financing
202/691-3550

TREASURY OFFERS 4-WEEK BILLS
The Treasury will auction 4-week Treasury bills totaling $18,000 million to
refund an estimated $6,000 million of publicly held 4-week Treasury bills maturing
June 5, 2003, and to raise new cash of approximately $12,000 million.
Tenders for 4-week Treasury bills to be held on the book-entry records of
TreasuryDirect will not be accepted.
The Federal Reserve System holds $15,145 million of the Treasury bills maturing
on June 5, 2003, in the System Open Market Account (SOMA). This amount may be refunded
at the highest discount rate of accepted competitive tenders in this auction up to the
balance of the amount not awarded in today's 13-week and 26-week Treasury bill
auctions. Amounts awarded to SOMA will be in addition to the offering amount.
Up to $1,000 million in noncompetitive bids from Foreign and International
Monetary Authority (FIMA) accounts bidding through the Federal Reserve Bank of New York
will be included within the offering amount of the auction. These noncompetitive bids
will have a limit of $100 million per account and will be accepted in the order of
smallest to largest, up to the aggregate award limit of $1,000 million.
The allocation percentage applied to bids awarded at the highest discount rate
will be rounded up to the next hundredth of a whole percentage point, e.g., 17.13%.
This offering of Treasury securities is governed by the terms and conditions
set forth in the Uniform Offering Circular for the Sale and Issue of Marketable BookEntry Treasury Bills, Notes, and Bonds (31 CFR Part 356, as amended).
Details about the new security are given in the attached offering highlights.

oOo
Attachment

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HIGHLIGHTS OF TREASURY OFFERING
OF 4-WEEK BILLS TO BE ISSUED JUNE 5, 2003
June 2, 2003
Offering Amount $18,000
million
Maximum Award (35% of Offering Amount) . . . $ 6,300
million
Maximum Recognized Bid at a Single Rate.. $ 6,300 million
NLP Reporting Threshold
$ 6,300 million
NLP Exclusion Amount
$10,700 million
Description of Offering:
Term and type of security
28-day bill
CUSIP number
912795 NB 3
Auction date
June 3, 2003
Issue date
June 5, 2003
Maturity date
July 3, 2003
Original issue date
January 2 , 2003
Currently outstanding
$42,304 million
Minimum bid amount and multiples....$1,000
Submission of Bids:
Noncompetitive bids: Accepted in full up to $1 million at the highest
discount rate of accepted competitive bids.
Foreign and International Monetary Authority (FIMA) bids: Noncompetitive bids submitted through the Federal Reserve Banks as agents for
FIMA accounts. Accepted in order of size from smallest to largest
with no more than $100 million awarded per account. The total noncompetitive amount awarded to Federal Reserve Banks as agents for
FIMA accounts will not exceed $1,000 million. A single bid that
would cause the limit to be exceeded will be partially accepted in
the amount that brings the aggregate award total to the $1,000
million limit. However, if there are two or more bids of equal
amounts that would cause the limit to be exceeded, each will be
prorated to avoid exceeding the limit.
Competitive bids:
(1) Must be expressed as a discount rate with three decimals in
increments of .005%, e.g., 4.215%.
(2) Net long position (NLP) for each bidder must be reported when
the sum of the total bid amount, at all discount rates, and the
net long position equals or exceeds the NLP reporting threshold
stated above.
(3) Net long position must be determined as of one half-hour prior
to the closing time for receipt of competitive tenders.
Receipt of Tenders:
Noncompetitive tenders:
Prior to 12:00 noon eastern daylight saving time on auction day
Competitive tenders:
Prior to 1:00 p.m. eastern daylight saving time on auction day
Payment Terms: By charge to a funds account at a Federal Reserve Bank
on issue date.

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!•'. or inm.ic AFFAIRS • 1500 r'i:\\s\ i.\ v\i \ \\

EMBARGOED UNTIL 11:00 A.M.
June 2, 2003

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W A S H I N C T O V IM.»

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CONTACT: Office of Financing
202/691-3550

TREASURY OFFERS CASH MANAGEMENT BILLS
The Treasury will auction approximately $18,000 million of 8-day
Treasury cash management bills to be issued June 5, 2003.
Tenders for Treasury cash management bills to be held on the book-entry
records of TreasuryDlrect will not be accepted.
Up to $1,000 million in noncompetitive bids from Foreign and International Monetary Authority (FIMA) accounts bidding through the Federal
Reserve Bank of New York will be included within the offering amount of
the auction. These noncompetitive bids will have a limit of $100 million
per account and will be accepted in the order of smallest to largest, up
to the aggregate award limit of $1,000 million.
The allocation percentage applied to bids at the highest discount rate
will be rounded up to the next hundredth of a whole percentage point, e.g.,
17.13%.
This offering of Treasury securities is governed by the terms and conditions set forth in the Uniform Offering Circular for the Sale and Issue of
Marketable Book-Entry Treasury Bills, Notes, and Bonds (31 CFR Part 356, as
amended).
Details about the new security are given in the attached offering
highlights.
oOo
Attachment

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HIGHLIGHTS OF TREASURY OFFERING
OF 8-DAY CASH MANAGEMENT BILLS
June 2, 2003
Offering Amount $18,000 million
Maximum Award (35% of Offering Amount) .. $
Maximum Recognized Bid at a Single Rate . $
NLP Reporting Threshold
$
NLP Exclusion Amount
$

6,300
6,300
6,300
1,400

million
million
million
million

Description of Offering:
Term and type of security
8-day Cash Management Bill
CUSIP number
912795 QF 1
Auction date
June 4, 2003
Issue date
June 5, 2003
Maturity date
June 13, 2003
Original issue date
May 28, 2003
Currently outstanding
$4,000 million
Minimum bid amount and multiples . . . $1,000
Submission of Bids:
Noncompetitive bids: Accepted in full up to $1 million at the highest discount
rate of accepted competitive bids.
Foreign and International Monetary Authority (FIMA) bids: Noncompetitive bids
submitted through the Federal Reserve Banks as agents for FIMA accounts.
Accepted in order of size from smallest to largest with no more than $100
million awarded per account. The total noncompetitive amount awarded to
Federal Reserve Banks as agents for FIMA accounts will not exceed $1,000
million. A single bid that would cause the limit to be exceeded will be
partially accepted in the amount that brings the aggregate award total to
the $1,000 million limit. However, if there are two or more bids of equal
amounts that would cause the limit to be exceeded, each will be prorated to
avoid exceeding the limit.
Competitive bids:
(1) Must be expressed as a discount rate with three decimals in increments
of .005%, e.g., 7.100%, 7.105%.
(2) Net long position (NLP) for each bidder must be reported when the sum of the
total bid amount, at all discount rates, and the net long position equals or
exceeds the NLP reporting threshold stated above.
(3) Net long position must be determined as of one half-hour prior to the
closing time for receipt of competitive tenders.
Receipt of Tenders:
Noncompetitive tenders:
Prior to 12:00 noon eastern daylight saving time on auction day
Competitive tenders:
Prior to 1:00 p.m. eastern daylight saving time on auction day
Payment Terms: By charge to a funds account at a Federal Reserve Bank on issue
date.

PUBLIC DEBT N E W S
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 02, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 2-DAY BILLS
Term: 2-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 03, 2003
June 05, 2003
912795MQ1

High Rate: 1.175% Investment Rate 1/: 1.281% Price: 99.993
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 60.05%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type

Tendered

Competitive
Noncompetitive
FIMA (noncompetitive)

SUBTOTAL
Federal Reserve
TOTAL

Accepted

56,470,000
0
0

24,002,600
0
0

56,470,000

24,002,600

•56,470,000

24,002,600

Median rate
1.175%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
1.150%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 56,470,000 / 24,002,600 = 2.35
1/ Equivalent coupon-issue yield.

http://www.publicdebt.treas.gov

Jl W9

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 02, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 2 6-WEEK BILLS
Term: 182-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 05, 2003
December 04, 2003
912795NZ0

High Rate: 1.095% Investment Rate 1/: 1.120% Price: 99.446
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 58.96%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type Tendered Accepted
Competitive
Noncompetitive
FIMA (noncompetitive)

37,032,027
1,051,545
125,000

16,823,747
1,051,545
125,000

SUBTOTAL 38,208,572 18,000,292 2/
Federal Reserve 6,382,041 6,382,041
TOTAL $ 44,590,613 $ 24,382,333
Median rate 1.085%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
1.065%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 38,208,572 / 18,000,292 = 2.12
1/ Equivalent coupon-issue yield.
2/ Awards to TREASURY DIRECT = $827,386,000

http://www.publicdebt.treas.gov

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 02, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 13-WEEK BILLS
Term: 91-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 05, 2003
September 04,.2003
912795NL1

High Rate: 1.110% Investment Rate 1/: 1.133% Price: 99.719
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 42.99%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type Tendered Accepted
Competitive
Noncompetitive
FIMA (noncompetitive)

37,153,389
1,455,553
120,000

16,424,534
1,455,553
120,000

SUBTOTAL 38,728,942 18,000,087 2/
Federal Reserve 6,479,260 6,479,260
TOTAL $ 45,208,202 $ 24,479,347
Median rate 1.100%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
1.080%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 38,728,942 / 18,000,087 = 2.15
1/ Equivalent coupon-issue yield.
2/ Awards to TREASURY DIRECT = $1,163,850,000

http ://www.publicdebt.treas.go v

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F R O M T H E OFFICE O F PUBLIC AFFAIRS
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June 2, 2003
JS-451
Air Transportation Stabilization Board
Decision on Gemini Air Cargo, Inc.
WASHINGTON, DC The Air Transportation Stabilization Board (the Board)
announced today that it has denied the application of Gemini Air Cargo, Inc. for a
Federal guarantee of $29.7 million on a $33.0 million loan pursuant to the Air
Transportation Safety and System Stabilization Act (Act) and implementing
regulations promulgated by the Office of Management and Budget (Regulations).
The Board concluded its review based on the standards set out in the Act and the
Regulations and determined that Gemini's application did not meet the applicable
standards for the reasons described in the attached letter. The vote to deny the
application was unanimous.

Related Documents:
• Gemini Letter

Air Transportation Stabilization Board

Daniel Montgomery
Executive Director

June 2, 2003
Thomas A. Corcoran
President and Chief Executive Officer
Gemini Air Cargo, Inc.
44965 Aviation Drive
Washington Dulles International Airport
Dulles, V A 20166

Dear Mr. Corcoran:
In accordance with the Air Transportation Safety and System Stabilization Act, Pub.
L. N o . 107-42, 115 Stat. 230 (the "Act") and the regulations promulgated thereunder, 14 C F R
Part 1300 (the "Regulations"), the Air Transportation Stabilization Board (the "Board") has
considered the application of Gemini Air Cargo, Inc. ("Gemini") dated June 28, 2002, as
supplemented (the "Application"), for a Federal loan guarantee of $29.7 million on a loan of
$33 million.
During the process of reviewing the Application, the Board staff held telephone calls
with you and your advisors and communicated additional requests for information. The
Board staff met with you and your advisors on August 7, 2002, October 15, 2002, March 5,
2003 and April 15, 2003. Representatives of each Board m e m b e r attended the meetings on
October 15, 2002 and April 15, 2003. Following these meetings and communications, the
Board staff and representatives of each Board m e m b e r fully briefed the Board members on
the Application.
The Board has carefully considered the Application under the standards set out under
the Act and the Regulations. The Board's consideration included a review and analysis of the
Application by the Board's staff and the Board's financial and industry consultants. Based on
its review, the Board has determined that the Application did not meet the applicable
standards, and, accordingly, the Board voted unanimously to deny the Application.
The Board determined that Gemini's proposal did not provide a reasonable assurance
that Gemini would be able to repay the loan, an important evaluation criteria the Board is
required to consider in assessing loan applications. The Board's financial consultant assigned
Gemini's proposed financing a low credit rating. For all loan guarantee applications under the
Act, a credit subsidy is computed, which represents the expected cost to the U.S. taxpayers of

guaranteeing the loan. The calculations for Gemini implied a probability of default and
related credit subsidy that the Board deemed to impose too high a risk to the U.S. taxpayers.
Based on these considerations and other facts of record, the Board also was unable to
determine that the loan would be prudently incurred by Gemini. Finally, the Board was
unable to conclude that extension of the proposed loan guarantee to Gemini was a necessary
part of maintaining a safe, efficient and viable commercial aviation system in the United
States.
If you have any questions regarding this matter, please do not hesitate to contact me.

Sincerely,
Daniel Montgomery

PRESS R O O M

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 4, 2003
JS-452
Reconstruction in Iraq: Economic and Financial Issues
John B. Taylor
Under Secretary of the Treasury for International Affairs
Chairman Lugar, Ranking Member Biden, and other members of the Committee,
thank you for inviting m e to testify on the reconstruction of Iraq. I will discuss
economic and financial issues, focusing on accomplishments since the end of major
military operations and on our plans for the future.
The international community and the Iraqi people face an enormous task in the
reconstruction of the Iraqi economy. A quarter century of repression and economic
mismanagement under Saddam Hussein cut the size of the economy to only a
small fraction of what it was before his regime took over. In 1979, G D P in Iraq was
$128 billion in P P P (purchasing power parity) terms; by 2001, it had declined to
about $40 billion. And income per capita has plummeted, impoverishing the Iraqi
people. While the world economy expanded, the Iraqi economy shrunk. As a
consequence, the Iraqi people fell way behind, from a rank of 76 in 1990 to a rank
of 127 in 2001 on the U N H u m a n Development Index.
While the reconstruction task is significant, the opportunities are great. Simply
restoring the economy to what it was before Saddam will be a tremendous
improvement in the well being of the Iraq people. Establishing a market economy
based on clear property rights, a sound rule of law, and economic freedom will
unleash a long tradition of entrepreneurship and build on the abundant human
potential and natural resources of Iraq. I a m confident that if these resources are
used effectively, economic growth will soon be above, rather than well below, the
world average.
Though there is much to do, I believe that we have already achieved important
successes since the end of the major military operations, especially in the economic
and financial areas. Over 1.5 million workers and pensioners have received
salaries and emergency payments. Our financial experts in Baghdad report that
Iraqis and other observers consider this act alone as a turning point in the mood of
the city for many. These payments have enabled Iraqis to return to work to run the
railroads, teach school children, or help in the payment of other
Iraqis.
There are other successes. Since March 20, $1.7 billion of Saddam's assets have
been vested; $1.2 billion have been frozen; and $0.9 billion in cash has been found
in Iraq. Working with the international community, w e have removed sanctions on
the selling of Iraqi oil and w e have agreed that the international financial institutions
should provide needs assessments and technical assistance. Later this month in
New York w e will convene the first meeting.of donors. I will provide more details on
these and other accomplishments later in m y testimony.
We have also achieved successes in avoiding catastrophic events that could have
occurred; w e were concerned about such events and took actions to prevent them.
Instead of collapsing as many had feared, the Iraqi currency has recovered from its
low levels at the start of the war. Hyperinflation has been avoided. Oil fields have
been saved from destruction. There has been no humanitarian crisis. And the
crippling burden of debt service payments has been lifted through the end of 2004
so that Iraq can focus on reconstruction needs.

These successes are due to the work of experienced and dedicated people and to
the contingency plans laid out months in advance of the war. W e began selecting
members for our team of Treasury advisors back in January; the first wave w a s
deployed to Kuwait in March and arrived in Baghdad in April. W e have since sent
over a dozen additional advisors with expertise in areas ranging from budgets, to
payments systems, to monetary policy. Peter McPherson—former USAID
Administrator and former Deputy Treasury Secretary—now serves as financial
coordinator and adviser to Ambassador Bremer on economic and financial issues.
He and his team have responsibility for working with Iraqis to get the Central Bank,
the Finance Ministry, commercial banks and other financial institutions up and
running. Their very first task on the ground w a s to assess conditions and evaluate
the basic economic infrastructure, including the payments system. The work they
are doing is similar to s o m e of the tasks that w e undertook in Afghanistan; indeed,
while Treasury's work continues in Afghanistan, s o m e of the s a m e people w h o
worked there have brought their experience to Iraq. I a m in nearly constant contact
with them through telephone and email, providing support and advice with the help
of our Iraq Financial Task Force, Office of Technical Assistance, and others
stationed here in Washington.
A Plan to Pay Workers and Pensioners
A top reconstruction priority from the start was to make emergency and salary
payments to government workers and pensioners. Starting late last year w e
developed a contingency plan for such payments. The plan called for paying
workers and pensioners in U.S. dollars on an interim basis. Making payments in
dollars on an interim basis was not an attempt to dollarize the economy. O n the
contrary, the plan called for the continued use of dinars as an acceptable means of
payment. Using dollars on an interim basis would create stability immediately after
the war, as the dollar is a stable medium of exchange and a good store of value.
By making sure that the spending on salaries was matched by the revenues
available, the dollar payment plan also w a s a way to prevent inflationary financing.
To make this payment plan operational, financial resources were required. Hence,
the first step in the plan w a s to vest the Iraqi regime assets that were frozen in the
United States over a decade ago. The plan also required s o m e functioning payroll
system, so a high priority of our first wave of people on the ground was to assess
the state of this system.
This plan is basically on track and has been successful thus far.
On March 20, President Bush vested $1.7 billion of assets and placed them in an
account at the N e w York Fed to be used to support reconstruction. Treasury
representatives, in close cooperation with the N e w York Fed and the Department of
Defense, arranged the delivery of $199 million of these vested assets in three
shipments from a storage facility in N e w Jersey to Andrews Air Force Base, where
the currency was loaded on a transport and flown to the region. A fourth shipment
of $358 million will be m a d e shortly.
A mechanism for making emergency payments was quickly established on the
ground, so that payments could c o m m e n c e for dock workers, rail workers, power
plant workers, and others. At the s a m e time, upon arriving in Iraq, our advisors
conducted an assessment of the existing payroll system for salaries and pensions
and found that adequate, functional procedures already existed. While this system
will have to be updated over time, it provides the basic infrastructure for making
salary and pension payments.
Despite tremendous logistical challenges, the system of payments has been a
success. To date, over 1.5 million pensioners, civil servants, and workers crucial to
the functioning of essential public services have received payments. Our advisors
have played a key role, working closely with counterparts from the Defense
Department and other agencies, in extending this initial financial life-line to the Iraqi
people.
Establishing a Stable Currency

O n e of the most important objectives in the near-term is to promote the
establishment of a stable, unified national currency. A currency that has the full
faith and confidence of the Iraqi people, and which can be used as a store of value,
is a prerequisite for establishing a vibrant economy.
The pre-existing currency situation in Iraq makes this a complex and difficult task.
Iraq has not had a stable currency for s o m e time; several currencies circulate
widely in Iraq, including the Iraqi (or "Saddam") dinar in central and southern Iraq,
the Old Iraqi (or "Swiss") dinar in the northern part of the country, and the U.S.
dollar. The S a d d a m dinar has fallen dramatically in value over the past dozen
years due to the policies of the S a d d a m Hussein regime. O n e dollar used to
purchase only a third of a S a d d a m dinar under the official exchange rate; now, it will
purchase about 1,200 dinars in the market.
One of our primary concerns was that the conflict and its aftermath would result in
a massive depreciation of the S a d d a m dinar and hyperinflation. There were
concerns about losing control over large warehouses of S a d d a m dinar notes and
currency printing facilities.
And with the fall of the regime, there w a s the risk that the currency would cease to
serve as an accepted m e a n s of exchange.
For these reasons, early action was taken to secure currency stocks and currencyprinting facilities and stop the printing of the S a d d a m dinar. The military m a d e
public announcements that existing currencies in Iraq would continue to be
accepted as m e a n s of payment. These measures helped stabilize the S a d d a m
dinar and avert a monetary crisis. In fact, the S a d d a m dinar has actually
strengthened in recent weeks—from a low of about 5,000 dinars per U.S. dollar
during the conflict to approximately 1,200 per dollar today.
This achievement notwithstanding, a stable, unified currency system is essential for
Iraq's long-run economic prospects. Several options exist for currency reform,
including the introduction of a n e w currency or the replacement of S a d d a m dinars
with Old Iraqi dinars. W e stand ready to assist in the implementation of whichever
option the people of Iraq choose through a representative, elected Iraqi
government.
Development of an Iraqi Budget
Prior to the war, no Iraqi government budget was published. The lack of
transparency and accountability in fiscal operations m a d e it difficult to determine
how resources were allocated or h o w revenues were raised.
Development of an integrated and transparent Iraqi government budget is
necessary for ensuring that essential government services and reconstruction
needs can be financed without resorting to printing money. Our advisors are
working with personnel within the Ministry of Finance to develop an interim budget
and to implement a centralized treasury mechanism for government spending. In
addition, several Treasury advisors with expertise in tax systems will be working
with Iraqi officials to revise the tax code and build the capacity of revenue agencies.
Initially, budgetary resources will derive primarily from returned Iraqi assets, oil
sales, and donor contributions.
With the initiation of military action, the United States and its coalition partners
acted to secure the S a d d a m Hussein regime's assets for the benefit of the Iraqi
people. In addition to the rapid vesting of $1.7 billion of assets in the United States,
w e have spearheaded bilateral efforts that have led to the identification and freezing
of about $1.2 billion of Iraqi assets outside of the United States since the beginning
of the war. W e are working with these countries to return them to the Iraqi people,
as required by U N S C R 1483. The United States has deployed financial
investigation teams to Iraq and other foreign jurisdictions to identify and recover
additional Iraqi assets.

Efforts have also been m a d e to secure assets inside of Iraq. Since the end of the
conflict, approximately $900 million in currency has been found in various locations,
in addition to $350 million of currency and gold discovered in vaults at the Central
Bank of Iraq.
All of the vested assets in the United States, as well as the assets found in Iraq,
will be used to assist the Iraqi people and support the reconstruction of Iraq.
Proceeds from the sale of Iraqi oil will be another critical source of funds. The
Security Council resolution introduced by the U.S., Spain and the U K and approved
unanimously last month provides immunity from attachment for Iraq's oil and
proceeds from its sale through 2007. Oil revenues will be deposited in the
Development Fund for Iraq, an account of the Central Bank of Iraq. The Coalition
Provisional Authority n o w is working on the development of regulations to ensure
transparency and accountability in the use and administration of oil proceeds and
other revenues that will be deposited in the Development Fund for Iraq.
An important part of this effort will be the establishment of the International Advisory
and Monitoring Board, which will be responsible for approving the auditors of the
Development Fund for Iraq and reviewing their findings. Representatives from four
international organizations—the IMF, the World Bank, the United Nations, and the
Arab Fund for Social and Economic Development—will participate on this board.
O n May 24, Ambassador Bremer sent letters to the four organizations to initiate the
process of constituting the board; I will chair a meeting later this month to finalize
the terms of reference.
Role of the International Financial Institutions
Donor contributions will also play an important role in the reconstruction of Iraq.
Active participation by the international financial institutions is important to
mobilizing this international support.
I am pleased to report that the international financial institutions are intensifying
their support for the process of reconstruction and recovery in Iraq. IMF and World
Bank officials are traveling with the delegation of Sergio Vieira de Mello, the U.N.
special representative for Iraq, on his trip to Iraq this week. In addition, IMF
Managing Director Horst Kohler announced last week that he w a s prepared to send
out a team to Baghdad for a fact-finding mission as early as this weekend. This
team will work with the Coalition Provisional Authority and Iraqi officials to identify
priority needs related to budget planning and execution, central bank functions,
payments systems and banking sector reform, as well as the social safety net.
Later this month, the United Nations Development Program and the World Bank
will co-host a donor meeting in N e w York to launch a coordinated, international
effort to support Iraq's reconstruction needs and lay the groundwork for a donor
conference in late s u m m e r after the World Bank has completed its needs
assessment of Iraq.
Reforming the Banking Sector
Strengthening and modernizing the banking sector is central to achieving overall
economic progress in Iraq. W e are still in the early stages of assessing the banking
system. W e know, however, that Iraqi banks were oriented much more toward the
fulfillment of Ba'athist political objectives than toward financial intermediation and
other economic services that one normally associates with banks. Essentially, Iraqi
banks were vehicles for storing and moving cash around the country, and in s o m e
cases outside the country.
Our overarching objective in this area is to help Iraq restore its banking sector and
ensure that it begins to function in a commercially viable way. W e want Iraq's
banking sector to be a vehicle for sound economic growth, to meet the needs of the
Iraqi people, and to reflect regional as well as international best practices. For
example, w e endorse the objective of Iraqis having access to financial products and
services that are based on Islamic principles.

Creating a sound supervisory and regulatory regime is a critical step to establishing
a sound financial system. W e are working with the Iraqis to help them bring this
about. To this end, w e will be working with governments in the region that have
strong systems and have offered technical assistance for the banking sector.
Iraq's Foreign Debt
An issue that has garnered much attention and will clearly have to be addressed is
Iraq's capacity to address the potentially enormous burden of its existing financial
obligations. Estimates of Iraqi external debt range from $60 billion to $130 billion.
Whatever the precise level, Iraq's external obligations are significant and must be
addressed in a comprehensive manner.
In the near-term, we have taken two important steps put to address this situation.
First and foremost, w e have worked with our G-8 partners to provide Iraq with s o m e
breathing room. W e achieved agreement that given Iraq's precarious financial
situation, creditors should not expect Iraq to m a k e any payments on its debt for at
least the next eighteen months. Secondly, w e have put a lot of people to work on
what could be described as data forensics. O n the creditor side of the ledger, w e
proposed at the last meeting of the Paris Club, and creditor governments agreed, to
report the amount of debt they are currently owed. W e have also approached the
IMF for its assistance in determining the amount of debt owed to non-Paris Club
governments. To address the other side of the ledger, w e have placed Treasury
advisors in Baghdad to go through Iraqi government debt records.
In the medium-term, once we have a better estimate of the true level of Iraq's debt,
w e can m o v e forward to develop a comprehensive strategy to deal with Iraq's
official debt. To supplement these efforts, w e are providing a Treasury advisor to
work with Iraqi officials to develop a notional strategy for external debt treatment.
Conclusion
Achieving our economic objectives in Iraq is central to achieving our ultimate goal of
a stable, unified, and prosperous Iraq—one which provides opportunities for all
Iraqis to forge a better future for themselves and their children. The challenges are
formidable. W e have a tough job ahead. Our achievements to date can be
attributed to careful planning, vigilance to potential problems, and early action by
dedicated and talented professionals to prepare for them. W e will bring the s a m e
spirit to our work in the coming months.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
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June 4, 2003
JS-453
Treasury Department Begins State Fiscal Relief Payment Process
Under Jobs and Growth Tax Relief Act
The U.S. Treasury Department today began the process of distributing $10 billion in
temporary fiscal relief payments to states under the Jobs and Growth Tax Relief
Reconciliation Act signed into law by President Bush on May 28, 2003.
"The Treasury Department will ensure that payments are made available as quickly
as possible," said Treasury Secretary John W . Snow in a letter sent today to state
governors.
Under the Act, which provides for a $5 billion payment to states in each of fiscal
years 2003 and 2004, payments will be made to the 50 states, the District of
Columbia, the Commonwealth of Puerto Rico, the U.S. Virgin Islands, G u a m , the
Commonwealth of the Northern Mariana Islands, and American Samoa.
The Treasury letter to the governors outlined the steps that states must take to
receive payments, which are determined by a state population-based formula
included in the Act. In order to receive a payment, states must provide the Treasury
with a certification that the state's proposed uses of the funds are to 1) provide
essential government services, or 2) cover the costs to the state of complying with
federal intergovernmental mandates, if the federal government has not provided
funds to cover the costs. In addition, a state may only use the funds for types of
expenditures permitted under the most recently approved budget for the state.
The Treasury letter included a certification form that states are asked to use to
certify compliance with the statutory requirements. The certification must be printed
on state letterhead, signed by the state's governor and the certification must be
attested by the state's secretary of state in accordance with state law. The form
also requests electronic routing information for the payments, which will be m a d e in
a lump sum.
A state may use a single certification for both FY 2003 and 2004 funds, or it may
provide separate certifications for FY 2003 and 2004 funds. Once the Treasury
receives a properly executed state certification for FY 2003 (whether separately or
together with its FY 2004 certification), the state's designated account will be
credited with the FY 2003 payment within two business days. If a state sends the
Treasury a single certification for both FY 2003 and 2004, the Treasury will process
that state's payment for FY 2004 on October 1, 2003.
If a state delays sending its certification to the Treasury (either for FY 2003 or 2004,
or both), that state's payment also will be delayed. The Treasury must receive a
state's FY 2003 properly executed certification no later than September 30, 2003
because the Treasury's authority to make the FY 2003 payment legally expires after
that date. Similarly, the Treasury must receive a state's FY 2004 certification no
later than September 30, 2004 because the Treasury's authority to make the FY
2004 payment legally expires after that date.

Related Documents:
• Secretary Snow's letter to state governors
• Certification form in Microsoft Word format
• Certification form in WordPerfect format
• Table listing states and payment amounts

DEPARTMENT O F THE TREASURY
WASHINGTON, D.C.
SECRETARY OF THE TREASURY

June 4, 2003

Dear [State Governor]:
On May 28, 2003, President Bush signed into law the Jobs and Growth Tax Relief
Reconciliation Act of 2003 (Act). Section 401(b) of this Act provides $10 billion in payments to states,
of which $5 billion is to be paid in each of Federal fiscal years 2003 and 2004 to provide temporary state
fiscal relief. The Treasury Department is the agency responsible for making these payments.
The Treasury Department will ensure that the payments are made available as quickly as
possible. Under the formula in the Act, each state has available its proportionate share of the $5 billion
appropriated by Congress for each of F Y 2003 and F Y 2004 based on the relative population of each
state using the 2000 census data, adjusted to provide m i n i m u m payment amounts to smaller population
jurisdictions. I have enclosed a document showing the amount each state is eligible to receive and this
same information is also posted at www.treasury.gov.
To receive the fiscal relief funds available for your state, you must sign and deliver to the
Treasury Department a statement certifying that your state's proposed uses of the funds are consistent
with the provisions of the Act. Enclosed is a certification form that w e ask you to use for this purpose.
A s indicated on the form, the Secretary of State or other authorized official must attest its authenticity in
accordance with state law. Your state m a y use a single certification for both F Y 2003 and F Y 2004
funds, or it m a y provide separate certifications. Once the Treasury Department receives a properly
executed state certification for F Y 2003 (whether separately or together with its F Y 2004 certification),
within two business days the state's designated account will be credited for the F Y 2003 payment.
If your state sends the Treasury Department a single certification for both FY 2003 and 2004, we
will m a k e the F Y 2004 payment on October 1, 2003. If your state chooses to send a separate
certification for
F Y 2004, payment will be processed w h e n the certification is received or October 1, 2003, whichever is
later.
If you have any question regarding these payments, please contact Ken Carfine, Deputy
Assistant Secretary, Fiscal Operations and Policy, at ken.carfine@do.treas.gov or on 202-622-0570.
Sincerely,

John W . S n o w
Enclosures

INSTRUCTIONS:
1. Produce this form on letterhead stationery of the State, Commonwealth, or District You may download an MS Word or
WordPerfect version of this form from http://www.treasury.gov
2. Fax the signed and sealed certification to (202) 8 74- 7015
3. Deliver the original signed and sealed certification by overnight courier or personal delivery to the following address:
Financial Management Service, Risk Management Division, Room 423 Liberty Center Building, 40114th Street SW,
Washington, DC 20227, Attention: Stephen M. Vajs

CERTIFICATION
I, [insert name of signatory], [select correct title of signatory] {Governor} /{Mayor [in the case
ofD.C. only]} of the [select correct title] {State}/{Commonwealth}/{District} of
(the "State"), certify that:
1. The State's proposed uses of the funds to be provided under any Federal payment made under
section 401(b) of the Jobs and Growth Tax Relief Reconciliation Act of 2003 for the fiscal years
designated below are to:
(A)
provide essential government services; or
(B)
cover the costs to the State of complying with any Federal intergovernmental mandate (as
defined in section 421(5) of the Congressional Budget Act of 1974) to the extent that the
mandate applies to the State, and the Federal Government has not provided funds to
cover the costs.
2. The State will only use funds provided under any Federal payment made under section 401(b) of
the Jobs and Growth Tax Relief Reconciliation Act of 2003 for types of expenditures permitted
under the most recently approved budget for the State.
3. This certification covers the Federal payment for [select and initial one or both of the following]:
Federal fiscal year 2003
Federal fiscal year 2004
4. The following is the correct information respecting the account of the State to which the
Department of the Treasury may, under the laws of the State, m a k e the FedWire payment to the
State provided under section 401(b) of the Jobs and Growth Tax Relief Reconciliation Act of
2003:
Name of financial institution
Address offinancialinstitution
A B A number of financial institution
Account no.
Account name

[select correct title]
{STATE}/{COMMONWEALTH}/{DISTRICT}OF
By:
Signature:
Title:
Date:

{Governor}/{Mayor [in the case ofD.C. only]}

Signature:
Title:
Date:

{Secretary of State} /{title of other authorized official}

Attest:

(Seal)

^ ^

State Fiscal Relief Fund Available Under Section 401(b) the
Jobs and Growth Tax Relief Reconciliation Act of 2003
State
Alabama
A | aska
Arizona
Arkansas
California
Colorado
Connecticut
Delaware
District of Columbia
Florida
Georgia
Hawaii
|dano
Illinois
Indiana
Iowa
Kansas
Kentucky
Louisiana
Maine
Maryland
Massachusetts
Michigan
Minnesota
Mississippi
Missouri
Montana
Nebraska
Nevada
N e w Hampshire
N e w Jersey
N e w Mexico
N e w York
North Carolina
North Dakota
Ohio
Oklahoma
Oregon
Pennsylvania
Rhode Island
South Carolina
South Dakota
Tennessee
Texas
Utah
Vermont
Virginia
Washington
West Virginia
Wisconsin
Wyoming
American S a m o a
Guam
N Mariana Islands
Puerto Rico
Virgin Islands

F Y 2003
$75,612,289.50
$25,000,000.00
$87,234,114.84
$45,454,767.10
$575,906,288.27
$73,132,646.44
$57,903,480.18
$25,000,000.00
$25,000,000.00
$271,742,077.38
$139,191,035.56
$25,000,000.00
$25,000,000.00
$211,160,346.69
$103,384,091.24
$49,755,134.24
$45,710,112.24
$68,720,606.18
$75,984,238.51
$25,000,000.00
$90,054,065.07
$107,951,195.26
$168,979,448.39
$83,643,963.56
$48,366,599.41
$95,133,168.57
$25,000,000.00
$29,095,930.69
$33,975,576.62
$25,000,000.00
$143,065,878.48
$30,928,522.58
$322,649,223.19
$136,859,298.16
$25,000,000.00
$193,032,967.21
$58,670,110.68
$58,172,699.44
$208,809,923.43
$25,000,000.00
$68,214,659.63
$25,000,000.00
$96,732,637.73
$354,535,281.54
$37,969,692.82
$25,000,000.00
$120,353,202.19
$100,215,417.56
$30,746,560.69
$91,196,453.17
$25,000,000.00
$5,000,000.00
$5,000,000.00
$5,000,000.00
$64,756,295.56
$5,000,000.00

F Y 2004
Total
$75,612,289.50
$151,224,579.00
$25,000,000.00
$50,000,000.00
$87,234,114.84
$174,468,229.68
$45,454,767.10
$90,909,534.20
$575,906,288.27
$1,151,812,576.54
$73,132,646.44
$146,265,292.88
$57,903,480.18
$115,806,960.36
$25,000,000.00
$50,000,000.00
$25,000,000.00
$50,000,000.00
$271,742,077.38
$543,484,154.76
$139,191,035.56
$278,382,071.12
$25,000,000.00
$50,000,000.00
$25,000,000.00
$50,000,000.00
$211,160,346.69
$422,320,693.38
$103,384,091.24
$206,768,182.48
$49,755,134.24
$99,510,268.48
$45,710,112.24
$91,420,224.48
$68,720,606.18
$137,441,212.36
$75,984,238.51
$151,968,477.02
$25,000,000.00
$50,000,000.00
$90,054,065.07
$180,108,130.14
$107,951,195.26
$215,902,390.52
$168,979,448.39
$337,958,896.78
$83,643,963.56
$167,287,927.12
$48,366,599.41
$96,733,198.82
$95,133,168.57
$190,266,337.14
$25,000,000.00
$50,000,000.00
$29,095,930.69
$58,191,861.38
$33,975,576.62
$67,951,153.24
$25,000,000.00
$50,000,000.00
$143,065,878.48
$286,131,756.96
$30,928,522.58
$61,857,045.16
$322,649,223.19
$645,298,446.38
$136,859,298.16
$273,718,596.32
$25,000,000.00
$50,000,000.00
$193,032,967.21
$386,065,934.42
$58,670,110.69
$117,340,221.37
$58,172,699.44
$116,345,398.88
$208,809,923.43
$417,619,846.86
$25,000,000.00
$50,000,000.00
$68,214,659.63
$136,429,319.26
$25,000,000.00
$50,000,000.00
$96,732,637.73
$193,465,275.46
$354,535,281.54
$709,070,563.08
$37,969,692.82
$75,939,385.64
$25,000,000.00
$50,000,000.00
$120,353,202.19
$240,706,404.38
$100,215,417.56
$200,430,835.12
$30,746,560.69
$61,493,121.38
$91,196,453.17
$182,392,906.34
$25,000,000.00
$50,000,000.00
$5,000,000.00
$10,000,000.00
$5,000,000.00
$10,000,000.00
$5,000,000.00
$10,000,000.00
$64,756,295.56
$129,512,591.12
$5,000,000.00
$10,000,000.00

Total $5,000,000,000.00 $5,000,000,000.00 $10,000,000,000.00

m m m

h'RLSS R O O M

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 4, 2003
JS-454
U.S. International Reserve Position
The Treasury Department today released U.S. reserve assets data for the latest week. As indicated in this table, U.S. reserve assets
totaled $82,510 million as of the end of that week, compared to $82,908 million as of the end of the prior week.
I. Official U.S. Reserve Assets (in US millions)

TOTAL

May 23, 2003

May 30, 2003

82,908

82,510

1. Foreign Currency Reserves 1

Euro

Yen

a. Securities

7,815

13,461

| TOTAL

Euro

Yen

TOTAL

21,277

7,802

13,163

20,964

Of which, issuer headquartered in the U.S.

I °

b. Total deposits with:
b.i. Other central banks and BIS

12,717

2,703

15,420

12,702

2,643

15,345

b.ii. Banks headquartered in the U.S.

b.ii. Of which, banks located abroad

b.iii. Banks headquartered outside the U.S.

b.iii. Of which, banks located in the U.S.

23,390

23,383

11,778

11,775

11,043

2. IMF Reserve Position 2
3. Special Drawing Rights (SDRs)
4. Gold Stock

5. Other Reserve Assets

II. Predetermined Short-Term Drains on Foreign Currency Assets
May 23, 2003
Euro

Yen

1. Foreign currency loans and securities

May 30, 2003
TOTAL

Euro

Yen

TOTAL

2. Aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the U.S. dollar:
2. a. Short positions

2.b. Long positions

3. Other

Contingent Short-Term Net Drains on Foreign Currency Assets
May 23, 2003

May 30, 2003

o |

Yen

Euro

TOTAL
0

1. Contingent liabilities in foreign currency
1.a. Collateral guarantees on debt due within 1
year

Euro

Yen

TOTAL
0

= = = = =

1.b. Other contingent liabilities
2. Foreign currency securities with e m b e d d e d
options
3. Undrawn, unconditional credit lines

3.a. With other central banks
3.b. With banks and other financial institutions
Headquartered in the U. S.
3.c. With banks and other financial institutions
Headquartered outside the U.S.
4. Aggregate short and long positions of options
in foreign
Currencies vis-a-vis the U.S. dollar
4. a. Short positions
4.a.1. Bought puts
4.a.2. Written calls
4.b. Long positions
4.b.1. Bought calls
4.b.2. Written puts

Notes:

2/ The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF and are
valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest week reflect any
necessary adjustments, including revaluation, by the U.S. Treasury to the prior week's IMF data. IMF data for the latest week m a y be
subject to revision. IMF data for the prior week are final.
3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 03, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 4-WEEK BILLS
Term: 28-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 05, 2003
July 03, 2003
912795NB3

High Rate: 1.140% Investment Rate 1/: 1.164% Price: 99.911
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 45.74%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tendered

Tender Type
Competitive
Noncompetitive
FIMA (noncompetitive)

SUBTOTAL
Federal Reserve
TOTAL

40,270,500
48,302
0

Accepted
$

17,951,740
48,302
0

40,318,802

18,000,042

2,283,253

42,602,055

20,283,295

Median rate
1.130%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
1.110%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 40,318,802 / 18,000,042 = 2.24
1/ Equivalent coupon-issue yield.

http://www.publicdebt.treas.gov

s-r

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 04, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 8-DAY BILLS
Term: 8-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 05, 2003
June 13, 2003
912795QF1

High Rate: 1.170% Investment Rate 1/: 1.190% Price: 99.974
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 45.75%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type

Tendered

Competitive
Noncompetitive
FIMA (noncompetitive)

SUBTOTAL
Federal Reserve
TOTAL

Accepted

52,225, 000
0
0

18,000, 000
0
0

52,225, 000

18,000, 000

52,225, 000

18,000, 000

Median rate
1.150%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
1.130%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 52,225,000 / 18,000,000 = 2.90
1/ Equivalent coupon-issue yield.

http://www.publicdebt.treas.gov

¥s-

Public Debt Announces Activity for Securities in the STRIPS Program for May
2003
FOR IMMEDIATE RELEASE
June 5, 2 0 0 3
The Bureau of the Public Debt announced activity for the month of May 2003, of securities within the Separate Trading of Registered
Interest and Principal of Securities program (STRIPS).
In T h o u s a n d s
Principal Outstanding (Eligible Securities)

$2,319,001,152

Held in Unstripped Form

$2,144,301,945

Held in Stripped Form

$174,699,207

Reconstituted in May

$28,765,014

The accompanying table, gives a breakdown of STRIPS activity by individual loan description. The balances in this table are subject to
audit and subsequent revision. These monthly figures are included in Table V of the Monthly Statement of the Public Debt, entitled
"Holdings of Treasury Securities in Stripped Form."
The STRIPS table, along with the n e w Monthly Statement of the Public Debt, is available on Public Debt's Internet site at:
www.publicdebt.treas.gov. A wide range of information about the public debt and Treasury securities is also available at the site.
Intellectual Property | Privacy & Security Notices | Terms & Conditions | Accessibility | Data Quality
U.S. Department of the Treasury, Bureau of the Public Debt
Last Updated September 27, 2004

JS V 5 7

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 6, 2003
JS-458
U.S. Designates 17 Individuals Linked to AL Qaida
Designation Supports Actions Taken by Italy and Germany
WASHINGTON, DC - Highlighting international cooperation in fighting the financing
of terror, the U.S. Treasury Department today joined Italy in designating 16
individuals associated with the Algerian based Armed Islamic Group (GIA). In
addition, Treasury designated Abdelghani Mzoudi, a member of the Hamburg,
Germany, al Qaida cell that planned the September 11th attacks on America, in
support of German action against Mzoudi. With the support of the United States,
Italy and Germany have submitted these names to the United Nations 1267
Committee.
"These designations signal continued commitment and momentum within the
international community to shut down the funding of terror. I applaud the Italians
and Germans for taking action against these individuals," U.S. Treasury Secretary
John Snow stated.
Today's action is one of many the U.S. has taken in collaboration with our
international partners. Most recently, on May 29, the U.S. joined several European
countries in designating the ai-Aqsa International Foundation, a charity funding
Hamas. In addition to Italy and Germany, w e have taken joint actions with Saudi
Arabia, Australia, the European Union, the G7, and others. If there are no
objections from the U N 1267 committee, all U N member states will be required to
designate these 17 individuals on Tuesday.
A list of those designated is attached. These designations prohibit transactions
between U.S. persons and these individuals and freeze any assets in the United
States. Additional background materials are available by calling Treasury Public
Affairs.
INDIVIDUALS DESIGNATED
Designated Jointly with the Italian Government
A B D A O U I Youssef, alias Abu ABDULLAH, alias ABDELLAH, alias A B D U L L A H .
AKLI M o h a m e d Amine, alias Mohamed Amine Akli, alias Killech Shamir (names
also used in Spain), alias Kali Sami, alias Elias
A M D O U N I Mehrez, alias F U S C O Fabio, alias H A S S A N Mohamed, alias A B U
Thale
(name used in Spain)
AYARI Chiheb Ben Mohamed, alias HICHEM Abu Hchem
B A A Z A O U I Mondher alias H A M Z A
D U M O N T Lionel, alias BILAL, alias H A M Z A , alias B R O U G E R E Jacques
ESSAADI Moussa Ben Amor, alias D A H DAH, alias A B D E L R A H M M A N , alias
BECHIR
FETTAR Rachid, alias Amine del Belgio, alias Djaffar
H A M A M I Brahim Ben Hedili
J A R R A Y A Khalil alias Y A R R A Y A Khalil, alias ABDEL' Aziz Ben Narvan, alias
A M R O , alias O M A R , alias A M R O U , alias A M R .
J A R R A Y A Mounir Ben Habib, alias Y A R R A Y A .
J E N D O U B I Faouzi, alias SAID, alias SAMIR.
MNASRI Fethi Ben Rebai, alias A M O R , alias A B U Omar, alias ALIC Fethi
O U A Z Najib

R A R R B O Ahmed Hosni, alias ABDALLAH o ADDULLAH
SALEH Nedal, alias HITEM.

Designated in Support of the German Government
Abdelghani Mzoudi (alternate spelling Mazwati or Mazuti)

PRESS R O O M

FROM THE OFFICE OF PUBLIC AFFAIRS
June 6, 2003
JS-459
Secretary Snow to Travel to Mexico
Secretary Snow will visit Mexico City, Mexico June 11 through 12. On Wednesday,
June 11th, Secretary Snow will participate in a bilateral meeting with Mexican
President Vicente Fox and Finance Minister Gil Diaz to discuss economic issues.
On Thursday, June 12th, Secretary Snow will join President Fox in a ceremony to
retire Mexico's "Brady Bonds."

PRLSS ROOM

F R O M T H E OFFICE O F PUBLIC A F F A I R S
To view or print the PDF content on this page, download the free Adobe® Acrobat® Reader®.
June 6, 2003
JS-460
Treasury and IRS Propose Regulations for
Incentive Stock Options
Today, the Treasury Department and the IRS issued proposed regulations on
incentive stock options ("ISOs"). W h e n finalized, these regulations will update the
existing regulations to conform to current law, and will replace regulations proposed
in 1984.
ISOs provide employees with the ability to acquire employer stock without realizing
income when the option is exercised. If the employee holds the stock a required
period, any gains on sale of the stock are capital. The exercise price for an ISO
must be no less than the fair market value of the stock when the option is issued.
An ISO plan must be approved by shareholders, and the amount of ISOs that can
be granted to an employee is limited. The employer does not get a deduction.
In addition to restating the existing rules, the new proposed regulations include
updated rules addressing current issues and practices, such as ISOs issued by
limited liability companies and other entities that elect corporate tax treatment.
The proposed regulations will apply 180 days after publication of final regulations.
Taxpayers may rely on these proposed regulations for any ISO granted after June
9, 2003.
The text of the proposed regulations is attached.
Related Documents:
• Statutory Options

[4830-01-p]
DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Parts 1 and 14a
[REG-122917-02]
RIN 1545-BA75
Statutory Options
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking; withdrawal of previous rulemaking; and notice
of public hearing.
SUMMARY: This document contains proposed regulations relating to statutory options.
These proposed regulations affect certain taxpayers who participate in the transfer of
stock pursuant to the exercise of incentive stock options and the exercise of options
granted pursuant to an employee stock purchase plan (statutory options). These
proposed regulations provide guidance to assist these taxpayers in complying with the
law in addition to clarifying rules regarding statutory options. This document also
withdraws a previous notice of proposed rulemaking.
DATES: Written and electronically submitted comments and requests to speak, with
outlines of topics to be discussed at the public hearing scheduled for September 2,
2003, must be received by August 12, 2003.
ADDRESSES: Send submissions to CC:PA:RU (REG-122917-02), room 5226, Internal
Revenue Service, POB 7604, Ben Franklin Station, Washington, DC 20044.
Submissions may be hand delivered Monday through Friday between the hours of 8

a.m. and 5 p.m. to: CC:PA:RU (REG-122917-02), Courier's Desk, Internal Revenue

Service, 1111 Constitution Avenue, NW., Washington, DC or sent electronically, via
IRS Internet site www.irs.gov/reqs. The public hearing will be held in the IRS
Auditorium, Internal Revenue Building, 1111 Constitution Avenue, NW., Washington,
DC.
FOR FURTHER INFORMATION CONTACT: Concerning the regulations, Erinn
Madden at (202) 622-6030 (not a toll-free number). To be placed on the attendance
for the hearing, please contact Guy Traynor at (202) 622-7180.
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information contained in this notice of proposed rulemaking has

been submitted to the Office of Management and Budget for review in accordance wit
the Paperwork Reduction Act of 1995(44 U.S.C. 3507(d)). Comments on the
collection of information should be sent to the Office of Management and Budget,
Attn: Desk Officer for the Department of the Treasury, Office of Information and
Regulatory Affairs, Washington, DC 20503, with copies to the Internal Revenue
Service, Attn: IRS Reports Clearance Officer, W:CAR:MP:T:T:SP; Washington, DC
20224. Comments on the collection of information should be received by August 8r
2003. Comments are specifically requested concerning:
Whether the proposed collection of information is necessary for the proper

performance of the functions of the Internal Revenue Service, including whether th
information will have practical utility;

The accuracy of the estimated burden associated with the proposed collection
of information (see below);
How the quality, utility, and clarity of the information to be collected may be
enhanced;
How the burden of complying with the proposed collection of information may be
minimized, including through the application of automated collection techniques or other
forms of information technology; and
Estimates of capital or start-up costs and costs of operation, maintenance, and
purchase of service to provide information.
The collection of information in this proposed regulation is in 1.6039-1. Section
6039 of the Code requires all corporations that transfer stock to any person pursuant to
the exercise of a statutory option to furnish that person with a written statement
describing the transfer. Additionally, the corporation may be required to furnish the
person a second written statement when the stock originally transferred pursuant to the
exercise of the statutory option is subsequently disposed of by the person. The
information on the statements required to be provided by the corporation will be used by
recipients to complete their income tax returns in the year of the disposition of the
statutory option stock. The likely respondents are for-profit corporations.
Estimated total annual reporting burden: 16,650 hours.
Estimated average annual burden hours per respondent; 20 minutes.
Estimated number of respondents: 50,000.
Estimated annual frequency of responses: annually.
An agency may not conduct or sponsor, and a person is not required to respond
3

to, a collection of information unless it displays a valid control number assigned by the
Office of Management and Budget.
Books or records relating to a collection of information must be retained as long
as their contents may become material in the administration of any internal revenue
law. Generally, tax returns and tax return information are confidential, as required
by26U.S.C. 6103.
Background
This document contains proposed amendments to 26 CFR part 1 under sections
421, 422, and, 424 of the Internal Revenue Code (Code). Changes to the applicable
tax law concerning section 421 were made by sections 11801 and 11821 of the
Omnibus Budget Reconciliation Act of 1989, Public Law 101-508 (104 Stat. 1388).
Changes to the applicable tax law concerning section 424 were made by section 1003
of the Technical and Miscellaneous Revenue Act of 1988 (TAMRA), Public Law 100647 (102 Stat. 3581), sections 11801 and 11821 of the Omnibus Budget Reconciliation
Act of 1989 (OBRA 89), Public Law 101-508 (104 Stat. 1388), which included redesignating section 425 as section 424 of the Code, and section 1702(h) of the Small
Business Job Protection Act of 1996, Public Law 104-188 (110 Stat. 1755). Changes
concerning section 422 were made by section 251 of the Economic Recovery Tax Act
of 1981 (95 Stat. 172), which added section 422A to the Code. Related changes to
section 422A were made by section 102(j) of the Technical Corrections Act of 1982,
Public Law 97-448, section 321(a) of Tax Reform Act of 1986 (96 Stat. 2365), Public
Law 99-514 (100 Stat. 2807), section 1003(d) of TAMRA, and sections 11801 and
11821 of OBRA 89, which included re-designating section 422A as section 422 of the
4

Code.
Regulations under section 421 governing the requirements for restricted stock
options and qualified stock options, as well as options granted under an employee
stock purchase plan, were published in the Federal Register on December 9, 1957
(TD 6276), November 26, 1960 (TD 6500), January 18, 1961 (TD 6527), January 20,
1961 (TD 6540), December 12, 1963 (TD 6696), June 23, 1966 (TD 6887), July 24,
1978 (TD 7554), and November 3, 1980 (TD 7728). Temporary regulations under

section 422A providing guidance and transitional rules related to incentive stock opti
were published in the Federal Register on December 17, 1981 (TD 7799) and
September 18, 1992 (TD 8435). Final regulations under section 422 related to
stockholder approval were published in the Federal Register on December 1, 1988
(TD 8235) and November 29, 1991 (TD 8374). Regulations under section 425 were
published in the Federal Register on June 23, 1966 (TD 6887).
Proposed changes to the final regulations under sections 421, 424, and 6039
and proposed regulations under section 422A were previously published in the Federal
Register at 49 FR 4504 on February 7, 1984 (the 1984 proposed regulations). With

the exception of certain stockholder approval rules that were published in the Federal
Register on June 23, 1966 (TD 6887) and amended by TD 7728 on October 31, 1980,
the 1984 proposed regulations provided a comprehensive set of rules under section
422 of the Code. The 1984 proposed regulations are withdrawn.
In general, the income tax treatment of the grant of an option to purchase stock

in connection with the performance of services and of the transfer of stock pursuant t

the exercise of such option is determined under section 83 of the C o d e and the
regulations thereunder. However, section 421 of the Code provides special rules for
determining the income tax treatment of the transfer of shares of stock pursuant to the
exercise of an option if the requirements of section 422(a) or 423(a), as applicable, are
met. Section 422 applies to incentive stock options, and section 423 applies to options
granted under an employee stock purchase plan (collectively, statutory options).
Under section 421, if a share of stock is transferred to an individual pursuant to
the exercise of a statutory option, there is no income at the time of exercise of the
option with respect to such transfer, and no deduction under section 162 is allowed to
the employer corporation with respect to such transfer. However, pursuant to section
56(b)(3), section 421 does not apply with respect to the exercise of an incentive stock
option for purposes of the individual alternative minimum tax.
Section 422(a) of the Code provides that section 421 applies to the transfer of
stock to an individual pursuant to the exercise of an incentive stock option if (i) no
disposition of the share is made within 2 years from the date of grant of the option or
within 1 year from the date of transfer of the share, and (ii) at all times during the period
beginning on the date of grant and ending on the day 3 months before the exercise of
the option, the individual is an employee of either the corporation granting the option or
a parent or subsidiary of such corporation, or a corporation (or a parent or subsidiary of
such corporation) issuing or assuming a stock option in a transaction to which section
424(a) applies. Section 422(b) provides several requirements that must be met for an
option to qualify as an incentive stock option. Section 422(c) provides special rules
applicable to incentive stock options, and section 422(d) provides a $100,000 limitation
6

with respect to incentive stock options.
Section 424 of the Code provides special rules applicable to statutory options,
including rules concerning the modification of statutory options and the substitution or
assumption of an option by reason of a corporate merger, consolidation, acquisition of
property or stock, separation, reorganization, or liquidation. Section 424 also contains
definitions of certain terms, including disposition, parent corporation, and subsidiary
corporation. Finally, section 424 provides special rules related to attribution of stock
ownership and the effect of stockholder approval on the date of grant of a statutory
option.
Explanation of Provisions
Overview
These proposed regulations would provide a set of comprehensive rules
governing incentive stock options. These proposed regulations incorporate many of the
rules contained in the 1984 proposed regulations, although these proposed regulations
are re-numbered and re-organized. These proposed regulations would also make
changes to the final regulations under sections 421 and 424 to provide additional
guidance, as discussed below, in certain areas, to reflect the new organizational
structure of the statutory option rules (including the re-designation of §1.425-1 as
§1.424-1), and to remove obsolete rules and cross-references.
Section 421: General Rules
The proposed regulations under section 421 would remove obsolete provisions
and update the cross-references to reflect amendments to the applicable statutes and
re-organization of the regulations. These proposed regulations also incorporate many
7

provisions of the 1984 proposed regulations. There are two sections of these proposed
regulations under section 421: §1.421-1, which would provide rules concerning the
meaning and use of terms, and §1.421-2, which would provide general rules regarding
the application of section 421.
The terms defined in §1.421-1 of these proposed regulations are the same as
those previously defined in §1.421-7, but these proposed regulations make changes to
the definitions of certain terms. For example, §1.421-1(a) of these proposed
regulations expands the definition of option to include warrants.
These proposed regulations would provide that an option must be evidenced in
paper or in an electronic form. Under either form, however, the option must be
enforceable under applicable law. Similarly, these proposed regulations provide that
the plan pursuant to which incentive stock options are granted must be in paper or
electronic form, provided that the paper or electronic form establishes an enforceable
plan.
In addition, as with any taxpayer record, the form used for the option or plan,
whether paper or electronic, must be one that provides adequate substantiation of the
applicability of section 421. Thus, for example, the form must be one that provides
adequate substantiation of the applicable requirements, such as the date on which the
option is granted, the number of shares subject to the option, and the option price. In
addition, the taxpayer must retain records relating to the option that are sufficient to
comply with section 6001 and the regulations thereunder. If these records are kept
electronically, the records must meet the requirements of Rev. Proc. 97-22 (1997-1
C.B. 652), or subsequent guidance, and if the records are kept in an ADP system, the
8

records must meet the requirements of Rev. Proc. 98-25 (1998-11 I.R.B. 7), or
subsequent guidance.
The definition of statutory option in §1.421-1 (b) of these proposed regulations is
revised to provide that a statutory option may include an option transferred to a trust if,
under section 671 and applicable state law, the individual to whom the option was
granted remains the beneficial owner. In contrast, these proposed regulations provide
that a transfer of a statutory option incident to divorce will result in the option failing to
qualify as a statutory option as of the date of transfer.
Section 1.421-1 (i) of these proposed regulations defines corporation to have the
same meaning prescribed by section 7701(a)(3) and §301.7701-2(b). Thus, for
example, a corporation includes an S Corporation, a foreign corporation, and a limited
liability corporation that is treated as a corporation for all Federal tax purposes. In
addition, section 1.421-1(d) of these proposed regulations provides that stock includes
ownership interests other than capital stock. Thus, under these proposed regulations, it
would be permissible for any entity that is classified as a corporation for federal tax
purposes pursuant to the provisions of §301.7701-2(b) to grant statutory stock options
with respect to ownership interests in that entity.
Section 1.421-2 of these proposed regulations incorporates both the provisions
of §1.421-8 and many of the related provisions of the 1984 proposed regulations.
These proposed regulations also provide further revisions, including specifying that the
deduction in connection with a disqualifying disposition is allowed only if otherwise
allowable under sections 83(h) and 162 and if the reporting requirements under §1.836(a) are met.
9

Section 422: Incentive Stock Options
The proposed regulations under section 422 would provide a new set of
comprehensive rules, with the exception of the rules regarding stockholder approval
described in §1.422-5 of the final regulations (re-numbered as §1.422-3 by these
proposed regulations). There are four sections under these proposed regulations:
§1.422-1, general rules; §1.422-2, definition of incentive stock option; §1.422-4, the
$100,000 limitation; and §1.422-5, permissible provisions.
1. Special rules regarding disqualifying dispositions
The 1984 proposed regulations provided rules concerning the consequences of
disqualifying dispositions. The general disqualifying disposition rules for incentive stock
options are provided in §§1.421-2(b)(1) and 1.422-1 (b)(1) of these proposed
regulations. In addition, §1.422-1 (b)(2) of these proposed regulations clarifies the
operation of the special rules applicable to a disqualifying disposition of an incentive
stock option under section 422(c)(2) (section 422A(c)(2), prior to amendment by OBRA
89).
The general rules concerning disqualifying dispositions are described in §1.4212(b) of these proposed regulations. Under these rules, if there is a disqualifying
disposition of a share of stock, the special tax treatment provided by section 421 and
§1.421-2(a) does not apply to the transfer of the share. Instead, the exercise of the
option is treated as the exercise of a nonstatutory option under §1.83-7. Thus, in the
taxable year in which the disqualifying disposition occurs, the individual must recognize
compensation income equal to the fair market value of the stock on the date the stock
is transferred less the exercise price (determined without reduction for any brokerage
10

fees or other costs paid in connection with the disposition). A deduction attributable to
the transfer of the share of stock pursuant to the exercise of the option is allowable for
the taxable year in which such disqualifying disposition occurs, to the employer
corporation, its parent or subsidiary corporation, or a corporation substituting or
assuming an option in a transaction to which §1.424-1 (a) applies, if otherwise allowable
under sections 83(h) and 162 and if the requirements of §1.83-6(a) are met.
Section 422(c)(2), however, provides a special rule that is applicable if an
individual makes a disqualifying disposition of stock acquired through the exercise of an
incentive stock option and if the disposition is a sale or exchange with respect to which
a loss (if sustained) would be recognized by the individual. Under this special rule, the
amount includible in gross income on the disqualifying disposition, and the amount
deductible, as compensation attributable to the exercise of the option, shall not exceed
the excess (if any) of the amount realized on such sale or exchange over the adjusted
basis of the share. Under section 422(c)(2), this special rule is not applicable if the
disposition is a sale or exchange with respect to which a loss (if sustained) would not be
recognized by the individual. Section 1.422A-1 (b)(2) of the 1984 proposed regulations
described these special rules concerning the disqualifying disposition of an incentive
stock option and this description is incorporated into §1.422-1 (b)(2) of these proposed
regulations.
For example, if the disposition is a sale described in section 1091 (relating to a
loss from wash sales of stock or securities), a gift, or a sale described in section
267(a)(1) (relating to sales between related parties), any loss sustained would not be
recognized. Because a loss in any of these transactions would not be recognized,
11

under §1.422-1 (b)(2)(H) of these proposed regulations, the special rule provided in
§1.422-1 (b)(2)(i) of these proposed regulations does not apply. Instead, the general
rules for disqualifying dispositions described in §1.421-2(b) of these proposed
regulations apply.
For example, assume E, an employee of Corporation X, is granted an incentive
stock option to acquire X stock. The option price on the date of grant is $100 (the fair
market value of X stock on the date of grant). E exercises the option and is transferred
X stock when the fair market value of the stock is $200. E later sells the stock for $150
to M before the applicable holding periods expire. Because the sale is a disqualifying
disposition that meets the requirements of §1.422-1 (b)(2)(i) of these proposed
regulations, in the taxable year of the disqualifying disposition, E is only required to
include $50 (the excess of the amount realized on the sale, $150, over the adjusted
basis of the share, $100) in gross income as compensation attributable to the exercise
of the option. For its taxable year in which the disqualifying disposition occurs, X is
allowed a compensation deduction of $50 attributable to E's exercise of the option, if
otherwise allowable under sections 83(h) and 162 and if the requirements of §1.83-6(a)
are met.
In this example, however, if 10 days after the sale to M, E purchases
substantially identical stock, under section 1091, a loss would not be recognized on the
sale to M. Thus, under §1.422-1 (b)(2)(ii) of these proposed regulations, the special rule
in § 1.422-1 (b)(2)(i) does not apply. Instead of including $50 in gross income in the
taxable year of the disqualifying disposition, E must include $100 (the difference
between the fair market value of X stock on the date of transfer, $200, and the exercise
12

price, $100) in gross income as compensation attributable to the exercise of the option.
In the taxable year in which the disqualifying disposition occurs, X is allowed a
compensation deduction of $100 attributable to E's exercise of the option if otherwise
allowable under sections 83(h) and 162 and if the requirements of §1.83-6(a) are met.
Since the 1984 proposed regulations were issued, there have been no changes
in section 422(c)(2) (other than the redesignation of section 422A(c)(2) as 422(c)(2) by
OBRA 89), and these proposed regulations do not make any substantive changes to
the 1984 proposed regulations.
2. Stockholder approval of incentive stock option plan
Among other requirements, to qualify as an incentive stock option, the option
must be granted pursuant to a plan which is approved by the stockholders of the
granting corporation within 12 months before or after the date the plan is adopted. See
section 422(b). These proposed regulations would provide the same basic
requirements for stockholder approval as those included in the 1984 proposed
regulations.
These proposed regulations, however, would provide additional guidance
concerning the circumstances in which stockholder approval is required. As under the
1984 proposed regulations, stockholder approval is required if there is a change in the
aggregate number of shares or in the employees (or class or classes of employees)
eligible to be granted options under the plan. In addition, while the standard for
determining when stockholder approval is required is the same as under the 1984
proposed regulations, these proposed regulations clarify these requirements and
provide a more complete list of situations that require new stockholder approval of the
13

plan by specifically including a change in the shares with respect to which options are
issued or a change in the granting corporation. Thus, for example, assume that S, a
subsidiary of P, adopts an incentive stock option plan under which incentive stock
options for S stock will be granted to S employees, and the plan is approved by the
stockholders of S (in this case, P) within the applicable 24-month period. If S later
amends the plan to provide for the grant of incentive stock options to acquire P stock
(rather than S stock), S must obtain approval from the stockholders of S within 12
months before or after the date of the amendment to the plan because the amendment
of the plan to allow the grant of options for P stock is considered the adoption of a new
plan.
These proposed regulations also would provide additional guidance regarding
the application of the stockholder approval requirements in the context of the
substitution or assumption of an option by reason of a corporate transaction. For a
discussion of these rules, see the "Substitution, assumption, and modification of
options" portion of the preamble.
3. $100.000 limitation
Section 422(d)(1) provides that to the extent that the aggregate fair market value
of stock with respect to which incentive stock options (determined without regard to
section 422(d)) are exercisable for the first time by any individual during the calendar
year (under all of plans of the employer corporation and any related corporation)
exceeds $100,000, such options are not treated as incentive stock options. Under
section 422(d)(2), options are taken into account in the order in which they are granted.
Section 422(d)(3) provides that the fair market value of stock is determined at the time
14

the option is granted.
The 1984 proposed regulations provided no rules concerning the operation of
the $100,000 limitation because these provisions were enacted in 1986. However,
Notice 87-49 (1987-2 C.B. 355) provides general guidance about the operation of the
$100,000 limitation, including examples illustrating the application of this limitation.
Section 1.422-4 of these proposed regulations provides guidance on the
operation of the $100,000 limitation that incorporates and expands on the guidance
provided in Notice 87-49. Section 1.422-4(a)(1) of these proposed regulations provides
that an option that otherwise qualifies as an incentive stock option nevertheless fails to
be an incentive stock option to the extent the $100,000 limitation is exceeded.
To determine whether the $100,000 limitation has been exceeded, the rules
provided in §1.422-4(b) of these proposed regulations would apply. Under these
proposed regulations, an option that does not qualify as an incentive stock option when
granted (including an option which contains terms providing that it will not be treated as
an incentive stock option) is disregarded. Additionally, the fair market value of stock is
determined on the date of grant of the option. Except as described in the following
paragraph, options are taken into account in the order in which they are granted.
An option is considered to be first exercisable during a calendar year if the option
will first become exercisable at any time during the year, assuming that any condition
on the optionee's ability to exercise the option related to the performance of services is
satisfied. If an optionee is able to exercise the option in a year only if an acceleration
provision is satisfied, then the option is exercisable in that year only if the acceleration
provision is triggered prior to the end of that year. After an acceleration provision is
15

triggered, for purposes of applying the $100,000 limitation, the options subject to such
provision and all other options first exercisable during a calendar year are then taken
into account in the order in which granted. However, because an acceleration provision
is not taken into account prior to its triggering, an incentive stock option that becomes
exercisable for the first time during a calendar year by operation of such a provision
does not affect the application of the $100,000 limitation with respect to an option (or
portion thereof) exercised prior to such acceleration. An acceleration provision
includes, for example, a provision that accelerates the exercisability of an option on a
change in ownership or control or a provision that conditions exercisability on the
attainment of a performance goal. See §1.422-4(d), Example 4 of these proposed
regulations.
For example, assume that in 2006, E, an employee of Y Corporation, is granted
Option 1 for stock of Y with a fair market value on the date of grant of $75,000. Option
1 is first exercisable in 2008, except that the option provides that it will become
immediately exercisable in the event of a change in control. In 2007, E is granted
Option 2 for stock of Y with a fair market value on the date of grant of $50,000. Option
2 is immediately exercisable, and E exercises Option 2. A change in control of Y
occurs in 2007, after E has exercised Option 2, and Option 1 becomes immediately
exercisable. Notwithstanding the fact that Option 1 was granted prior to Option 2,
because the acceleration clause is not taken into account until it is triggered and
because E exercised Option 2 prior to the change in control, Option 2 is an incentive
stock option in its entirety. Option 1 is bifurcated into an incentive stock option to
acquire stock with a fair market value of $50,000 on the date of grant and a
16

nonstatutory option to acquire stock with a fair market value of $25,000 on the date of
grant.
If the change in control instead occurred prior to E's exercise of Option 2, then
Option 1, which was granted first, is treated as an incentive stock option in its entirety,
and Option 2 is bifurcated into an incentive stock option to acquire stock with a fair
market value of $25,000 on the date of grant and a nonstatutory option to acquire stock
with a fair market value of $25,000 on the date of grant.
These proposed regulations also would provide that an option is disregarded for
purposes of the $100,000 limitation if, prior to the calendar year during which it would
have otherwise become exercisable for the first time, the option is modified and
thereafter ceases to be an incentive stock option, is transferred in violation of the
nontransferability requirements, or is canceled. In all other situations, a modified,
transferred, or canceled option (or portion thereof) is treated as outstanding until the
end of the calendar year during which it would otherwise have become exercisable for
the first time.
Finally, under these proposed regulations, a disqualifying disposition has no
effect on the determination of whether an option exceeds the $100,000 limitation.
Thus, for example, assume Corporation X grants E, an employee of X, Option 1 to
acquire X stock with a fair market value on the date of grant of $75,000. Option 1 is
exercisable on January 1, 2005. On January 5, 2005, E exercises the option and sells
the stock in a disqualifying disposition. On January 15, 2005, X grants E Option 2 to
acquire X stock with a fair market value on the date of grant of $50,000. Option 2 is
immediately exercisable. Under §1.422-4(b)(6) of the proposed regulations, the
17

disqualifying disposition of Option 1 has no effect on the application of the $100,000
limitation. Thus, Option 2 is bifurcated into an incentive stock option to acquire stock
with a fair market value of $25,000 on the date of grant and a nonstatutory option to
acquire stock with a fair market value of $25,000 on the date of grant.
4. Permissible provisions
These proposed regulations also provide guidance on additional provisions that
may be included in an incentive stock option. Because these provisions are not part of
the requirements for an incentive stock option, they are addressed separately in
§1.422-5 of these proposed regulations (many of these rules were previously in
§1.422A-2(i) of the 1984 proposed regulations). Section 1.422-5 of these proposed
regulations addresses provisions permitting cashless exercise, providing the right to
receive additional compensation, and providing alternative rights. In each case, these
proposed regulations essentially retain the rules described in the 1984 proposed
regulations.
Section 424: Definitions and Special Rules
These proposed regulations re-designate the regulations under section 425 as
regulations under section 424 and update the regulations. For example, these
proposed regulations amend the definition of disposition to exclude a transfer of a
share of stock acquired pursuant to the exercise of a statutory option if the transfer is
described in section 1041(a) (concerning transfers between spouses or former spouses
incident to divorce).
Substitution. Assumption, and Modification of Options
Section 424(h)(1) provides that if the terms of an option are modified, extended,
18

or renewed, such modification, renewal, or extension is treated as the grant of a n e w
option. Under section 424(h)(3), the term modification (with certain exceptions) means
any change in the terms of an option which gives the optionee additional benefits under
the option. One exception to this definition is that a change in the terms of an option
attributable to a substitution or an assumption that meets the requirements of section
424(a) is not a modification of an option.
These proposed regulations would provide that an eligible corporation (as
defined in §1.424-1 (a)(2) of these proposed regulations) may by reason of a corporate
transaction (as defined in §1.424-1 (a)(3) of these proposed regulations) substitute a
new statutory option (new option) for an outstanding statutory option (old option) or
assume an old option without the substitution or assumption being considered a
modification of the old option under section 424(h).
An eligible corporation is defined as a corporation that is the employer of an
optionee or a related corporation of such corporation. The determination of whether a
corporation is the employer of the optionee or a related corporation of such corporation
is based upon the circumstances existing immediately after the corporate transaction.
Under the proposed regulations, a corporate transaction is (i) a corporate
merger, consolidation, acquisition of property or stock, separation, reorganization, or
liquidation; (ii) a distribution (excluding ordinary dividends), or change in the terms or
number of outstanding shares of such corporation, such as a stock split or stock
dividend (a change in capital structure); (iii) a change in the name of a corporation
whose stock is purchasable under the old option; and (iv) such other corporate events
as may be prescribed by the Commissioner in published guidance.
19

The definitions of eligible corporation and corporate transaction would be
expanded under these proposed regulations. Specifically, these proposed regulations
permit corporations with outstanding options to substitute or assume an option under
§1.424-1 (a) if there is a corporate transaction. Additionally, the definition of corporate
transaction includes events, such as a stock dividend or stock split, that were previously
addressed in §1.425-1 (e) of the final regulations, and is otherwise expanded so that
events or transactions with similar consequences are treated the same. Because of
these changes, the rules in §1.425-1 (e)(5)(ii) of the current regulations would be
removed.
These proposed regulations also would eliminate the requirement contained in
§1.425-1 (a)(1)(ii) of the final regulations that the corporate transaction result in a
significant number of employees being transferred to a new employer or discharged or
in the creation or severance of a parent-subsidiary relationship. However, §1.4241(a)(4) of these proposed regulations would continue to impose, and provide additional
guidance concerning, the requirement that the substitution or assumption be "by reason
of the corporate transaction.
Under these proposed regulations, a change in an option or issuance of a new
option is considered to be by reason of a corporate transaction unless the relevant
facts and circumstances demonstrate that such change or issuance is made for
reasons unrelated to such corporate transaction. For example, a change in an option
or issuance of a new option is considered to be made for reasons unrelated to such a
corporate transaction if there is an unreasonable delay between the corporate
transaction and such change in the option or issuance of a new option or if the
20

corporate transaction serves no substantial corporate business purpose independent of
the change in options. A change in an option or issuance of a new option is not by
reason of a distribution or change in the terms or number of outstanding shares unless
the option as changed, or the new option, is issued on the stock of the same
corporation, or if such class of stock is eliminated by the change in capital structure, on
other stock of the same corporation. For purposes of a change in name of the
corporation, the issuance of a new option is by reason of the change in name of the
corporation only if the option issued is on stock of the successor corporation.
These proposed regulations do not otherwise revise the requirements that must
be met for a change in an option to qualify as a substitution or an assumption. For
example, no changes are proposed with respect to the requirements that no additional
benefits be granted to the optionee in connection with a substitution or assumption or
that certain spread and ratio tests must be met.
These proposed regulations also continue to impose the requirement contained
in the final regulations that the new or assumed option must otherwise qualify as a
statutory option. See §1.424-1 (a)(5)(vi) of these proposed regulations. Thus, except
as necessary to comply with the specific requirements regarding substitution or
assumption, such as the restrictions on ratio and spread, the option must comply with
the requirements of §1.422-2 of these proposed regulations or 1.423-2, as applicable.
Accordingly, for example, the new option must be granted, or the old option must be
assumed, under a plan approved by the stockholders of the corporation substituting or
assuming the option.
The proposed regulations do not impose any additional stockholder approval
21

requirement, however, merely because there is a corporate transaction. In Rev. Rul.
71-474 (1971-2 C.B. 215) involving qualified stock options,1 the IRS held that qualified
stock options assumed by a corporation in a merger with the granting corporation
retained their status as qualified stock options without approval of the assuming
corporation's stockholders. In the ruling, the IRS indicated that approval of the persons
who owned stock of the granting corporation at the time the plan was approved was
sufficient to satisfy the stockholder approval requirements. Similarly, the 1984
proposed regulations provided that the stockholders of the granting corporation must
approve the plan within 12 months before or after its adoption without additional
requirements.
Section 1.422-2(b)(2) of these proposed regulations would provide that the plan
must be approved during the applicable 24-month period by the stockholders of the
corporation granting the incentive stock option. There is no requirement that additional
stockholder approval be obtained because of post-approval changes in the
stockholders. For example, assume S, a subsidiary of P, adopts a plan under which
incentive stock options for S stock will be granted to S employees. Under the proposed
regulations, the stockholders of S must approve the plan within 12 months before or
after the adoption of the plan. If P later completely disposes of its interest in S,
outstanding S options and new grants of S options under the plan are treated as
options granted under a plan that meets the stockholder approval requirement of
1

Qualified stock options are no longer permitted under section 422, but the
stockholder approval provisions applicable to a plan under which qualified stock options
were granted were the s a m e as those that apply to a plan under which incentive stock
options are granted.

§1.422-2(b)(2) of these proposed regulations without regard to whether S seeks
approval of the plan from the stockholders of S after the spin-off. Assuming all other
applicable requirements are met, the outstanding S options and new options granted by
S pursuant to the plan with respect to S stock will be treated as incentive stock options.

These proposed regulations also would provide additional guidance with respect
to when a change to an option constitutes a modification. Under these proposed
regulations, as under the 1984 proposed regulations, both a provision under an option
that provides that the optionee may receive an additional benefit at the future discretion
of the granting corporation and the exercise of that discretion are considered
modifications of the option. However, under these proposed regulations, it is not a
modification for the granting corporation to exercise discretion related to the payment of
a bonus at the time of the exercise of the option, the availability of a loan at exercise, or
the right to tender previously-owned stock for the stock purchasable under the option.
A change to an option adding such discretion, however, would be a modification.
In addition, these proposed regulations address more clearly changes related to
an option, including changes not only to the option or the option plan, but also changes
to any other related agreements. In the case of a change to the stock on which the
option is granted that affects the value of the stock, there would be a modification
unless a new option is substituted for the old option by reason of the change in the
terms of the stock in accordance with the requirements of §1.424-1 (a) of these
proposed regulations.
Section 6039
23

These proposed regulations also would provide guidance on the statements
required under section 6039 of the Code. Under these proposed regulations, §1.60391 of the final regulations would be deleted, and §1.6039-2 would be re-designated as
§1.6039-1. These proposed regulations take the same approach toward providing
notice as that taken in the 1984 proposed regulations.
Section 1.6039-1 (f) of these proposed regulations states that the matter of
furnishing statements in electronic form is reserved. Temporary and proposed
regulations have been issued under sections 6041 and 6051 (relating to voluntary
electronic furnishing of payee statements on Form W-2) and section 6050S (relating to
voluntary electronic furnishing of statements to individuals for whom Forms 1098-T,
"Tuition Payments Statement," and 1098-E, "Student Loan Interest Statement" are
filed). See 66 FR 10191 and 10247 (Feb. 14, 2001). The preamble to those temporary
and proposed regulations requested comments regarding, among other things, the
extent to which the proposed method of electronic filing is appropriate for information
statements required under other sections of the Code. In addition, section 401 of the
Job Creation and Worker Assistance Act of 2002 authorized all statements required by
sections 6041 through 6050T of the Code to be furnished electronically under certain
conditions. The issue of electronic statements in general is under review, and
comments are requested.
Proposed Effective Date
The regulations under sections 421, 422, and 424 are proposed to apply as of
the date that is 180 days after publication of final regulations in the Federal Register

and apply to any statutory option that is granted on or after that date. The regulations
under section 6039 are proposed to apply to transfers on or after the date that is 180
days after publication of final regulations in the Federal Register of stock acquired
pursuant to a statutory option. The 1984 proposed regulations are withdrawn.
Taxpayers may rely on these proposed regulations for the treatment of any statutory
option granted after June 9, 2003.
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. Section 1.6039-1 of these proposed regulations
provides for the collection of information. It is hereby certified that the collection of
information in these regulations will not have a significant economic impact on a
substantial number of small entities. This certification is based on the fact that the
provision of employee statements provided under these proposed regulations will
impose a minimal paperwork burden on most small entities (see the discussion under
the heading "Paperwork Reduction Act" earlier in this preamble). Therefore, an
analysis under the Regulatory Flexibility Act (5 U.S.C. chapter 6) is not required.
Pursuant to section 7805(f) of the Code, this notice of proposed rulemaking is being
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 or electronic comments (a signed original and

eight (8) copies) that are submitted timely to the IRS. All comments will be available for
public inspection and copying.
A public hearing has been scheduled for September 2, 2003, beginning at 10
a.m. in the IRS Auditorium of the Internal Revenue Building, 1111 Constitution Avenue,
NW., Washington, DC. All visitors must come to the Constitution Avenue entrance and
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 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 601.601 (a)(3) apply to the hearing. Persons who wish to
present oral comments at the hearing must submit written comments and an outline of
the topics to be discussed and the time to be devoted to each topic (signed original and
eight (8) copies) by August 12, 2003. A period of 10 minutes will be allotted to each
person for making comments. An agenda showing the schedule of 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 author of these proposed regulations is Erinn Madden, Office of
the Division Counsel/Associate Chief Counsel (Tax Exempt and Government Entities).
However, other personnel from the IRS and Treasury Department participated in their

development.
List of Subjects in 26 CFR Parts 1 and 14a
Income taxes, Reporting, and recordkeeping requirements.
Proposed Amendments to the Regulations
Accordingly, 26 CFR parts 1 and 14a is proposed to be amended as follows:
PART 1 - INCOME TAXES
Paragraph 1. The authority citation for part 1 continues to read in part as
follows:
Authority: 26 U.S.C. 7805 * * *
§§1.421-1 through 1.421-6 [Removed]
Par. 2. Sections 1.421-1 through 1.421-6 are removed.
Par. 3. Section 1.421-7 is re-designated as §1.421-1 and is amended as follows:
1. In paragraph (a)(1), first sentence, the language "sections 421 through 425" is
removed and "§§1.421-1 through 1.424-1" is added in its place.
2. In paragraph (a)(1), first sentence, the language "includes" is removed, and
"means" is added in its place.
3. In paragraph (a)(1), removing the second sentence.
4. Removing the last sentence of paragraph (a)(1) and adding two sentences in
its place.
5. Revising paragraph (a)(3).
6. Revising paragraphs (b)(1) and (b)(2).
7. In paragraph (b)(3)(i), third sentence, removing the language "1.425-1" and

inserting "1.424-1" in its place.
8. In the list below, for each section indicated in the left column, remove the
language in the middle column and add the language in the right column:
Newly Designated Remove Add
Section
1.421-1 (b)(3)(H), S-1 X
Example 1, first,
second, third and fourth
sentences
1.421-1(b)(3)(H), 1964 2004
Example 1. second
sentence
1.421-1 (b)(3)(H), 1965 2005
Example 1, third and
fourth sentences
1.421-1(b)(3)(H), 1964 2004
Example 2, first and
second sentences
1.421-1(b)(3)(H), S-1 X
Example 2, first, third,
and fourth sentences

1.421-1 (b)(3)(H),
Example 2, third and
fourth sentences

1965

2005

9. Revising the last sentence of paragraph (b)(3)(H), Example 1.
10. Removing the last sentence of paragraph (b)(3)(H), Example 2 and adding
two sentences in its place.
11. Removing the first sentence of paragraph (c)(1) and adding two new
sentences in its place.
28

12. In paragraph (c)(2), second sentence, the language "425" is removed and
"424" is added in its place.
13. In paragraph (c)(3), second and last sentences, the language "1964" is
removed and "2004" is added in its place.
14. In paragraph (c)(3), second sentence, the language "1965" is removed and
"2005" is added in its place.
15. Revising paragraphs (d) and (e).
16. In paragraph (f), in the first sentence, the language "sections 421 through
425" is removed and "this section and §§1.421-2 through 1.424-1" is added in its place.
17. Revising the last sentence of paragraph (f).
18. In paragraph (g), first sentence, the language "sections 421 through 425" is
removed and "this section and §§1.421-2 through 1.424-1" is added in its place.
19. Adding a new third sentence to paragraph (g).
20. Revising the first, second, and third sentences of paragraph (h)(1).
21. Revising paragraph (h)(2).
22. In paragraph (h)(3), first sentence, the language "425" is removed and "424"
is added in its place.
23. In paragraph (h)(3), last sentence, the language "or assuming" is removed
and "the option or substituting or assuming the option" is added in its place.
24. In the list below, for each section indicated in the left column, remove the
language in the middle column and add the language in the right column:

Newly Designated
Section

Remove

Add

1.421-1 (h)(4). Example
I, first sentence

1964

2004

1.421-1(h)(4), Example
1, second and last
sentences

1965

2005

1.421-1(h)(4), Example
2, first sentence

425

424

1.421-1 (h)(4). Example
2, first sentence

issuing

substituting

1.424-1 (h)(4). Example
2, last sentence

1965

2005

1.421-1(h)(4), Example
2, last sentence

for A is then employed
by a corporation which
issued an option under
section 425(a).

to the transfer of the M
stock because, at all
times during the period
beginning with the date
of grant of the X option
and ending with the date
of exercise of the M
option, A w a s an
employee of the
corporation granting the
option or substituting or
assuming the option
under §1.424-1 (a).

1.421-1 (h)(4). Example
3, second sentence

1964

2004

1.421-1 (h)(4). Example
3, third, fourth, and fifth
sentences

1965

2005

1.421-1 (h)(4). Example
4, first sentence

425(a)

424(a)

1.421-1(h)(4). Example
5, first sentence

qualified stock

statutory

1.421-1 (h)(4). Example
6, first sentence

an employment contract
with M which provides
that upon the
termination of any
military duty E m a y be
required to serve, E will
be entitled to
reemployment with M or
a parent or subsidiary of
M.

a right to reemploymnet
with M or a related
corporation on the
termination of any
military duty E m a y be
required to serve.

1.421-1 (h)(4), ExampJe
6, third sentence

of M

of M or a related
corporation

1 421-1 (h)(4). Example
6, last sentence

can apply

applies

1.421-1 (h)(4). Example
7, first and last
sentences

a qualified stock

an incentive

1.421-1 (h)(4), ExampJe
7, first sentence

parent or subsidiary

related corporation

1 471-1(h)(4). Example
7, last sentence

its parent and subsidiary
corporation

related corporations

1 421-1 (h)(4). Example
7. last sentence

terminated

deemed terminated

25. Revising paragraph (i).
26. Adding paragraph (j)The additions and revisions read as follows:
S1.421-1 Meaning and use of certain terms.
(a) * * * (1) * * * While no particular form of words is necessary, the option must
31

express, a m o n g other things, an offer to sell at the option price, the m a x i m u m number
of shares purchasable under the option, and the period of time during which the offer
remains open. T h e term option includes a warrant that meets the requirements of this
paragraph (a)(1).
*****

(3) A n option must be in writing (in paper or electronic form), provided that such
writing is adequate to establish an option right or privilege that is enforceable under
applicable law.
(b) Statutory options. (1) The term statutory option, for purposes of this section
and §§1.421-2 through 1.424-1, m e a n s an incentive stock option, as defined in §1.4222(a), or an option granted under an employee stock purchase plan, as defined in
§1.423-2.
(2) An option qualifies as a statutory option only if the option is not transferable
(other than by will or by the laws of descent and distribution) by the individual to w h o m
the option w a s granted, and is exercisable, during the lifetime of such individual, only by
such individual. S e e §§1.422-2(a)(2)(v) and 1.423-2(j). Accordingly, an option which is
transferable or transferred by the individual to w h o m the option is granted during such
individual's lifetime, or is exercisable during such individual's lifetime by another person,
is not a statutory option. However, if the option or the plan under which the option w a s
granted contains a provision permitting the individual to designate the person w h o m a y
exercise the option after such individual's death, neither such provision, nor a
designation pursuant to such provision, disqualifies the option as a statutory option. A

pledge of the stock purchasable under an option as security for a loan that is used to
pay the option price does not cause the option to violate the nontransferability
requirements of this paragraph (b). Also, the transfer of an option to a trust does not
disqualify the option as a statutory option if, under section 671 and applicable State law,
the individual is considered the sole beneficial owner of the option while it is held in the
trust. If an option is transferred incident to divorce (within the meaning of section 1041)
or pursuant to a qualified domestic relations order (within the meaning of section
414(p)), the option does not qualify as a statutory option as of the day of such transfer.
For the treatment of nonstatutory options, see §1.83-7.
(3)(ii) *****
Example 1. * * * Because X was a subsidiary of P on the date of the grant of the
statutory option, the option does not fail to be a statutory option even though X ceases
to be a subsidiary of P.
Example 2. * * * Because X was not a subsidiary of P on the date of the grant of
the option, the option is not a statutory option even though S later becomes a
subsidiary of P. See §§1.422-2(a)(2) and 1.423-2(b).
(c) Time and date of granting option. (1) For purposes of this section and
§§1.421-2 through 1.424-1, the language "the date of the granting of the option" and
"the time such option is granted," and similar phrases refer to the date or time when the
granting corporation completes the corporate action constituting an offer of stock for
sale to an individual under the terms and conditions of a statutory option. A corporate
action constituting an offer of stock for sale is not considered complete until the date on
which the maximum number of shares that can be purchased under the option and the
33

minimum option price are fixed or determinable. * * *
*****

(d) Stock and voting stock. (1) For purposes of this section and §§1.421-2
through 1.424-1, the term stock m e a n s capital stock of any class, including voting or
nonvoting c o m m o n or preferred stock. Except as otherwise provided, the term includes
both treasury stock and stock of original issue. Special classes of stock authorized to
be issued to and held by employees are within the scope of the term stock as used in
such sections, provided such stock otherwise possesses the rights and characteristics
of capital stock.
(2) For purposes of determining what constitutes voting stock in ascertaining
whether a plan has been approved by stockholders under §1.422-2(b) or 1.423-2(c) or
whether the limitations pertaining to voting power contained in sections §§1.422-2(f)
and 1.423-2(d) have been met, stock which does not have voting rights until the
happening of an event, such as the default in the payment of dividends on preferred
stock, is not voting stock until the happening of the specified event. Generally, stock
which does not possess a general voting power, and m a y vote only on particular
questions, is not voting stock. However, if such stock is entitled to vote on whether a
stock option plan m a y be adopted, it is voting stock.
(3) In general, for purposes of this section and §§1.421-2 through 1.424-1,
ownership interests other than capital stock are considered stock.
(e) Option price. (1) For purposes of this section and §§1.421-2 through 1.4241, the term option price, price paid under the option, or exercise price m e a n s the

consideration in cash or property which, pursuant to the terms of the option, is the price
at which the stock subject to the option is purchased. The term option price does not
include any amounts paid as interest under a deferred payment arrangement or treated
as interest.
(2) Any reasonable valuation method may be used to determine whether, at the
time the option is granted, the option price satisfies the pricing requirements of sections
422(b)(4), 422(c)(5), 422(c)(7), and 423(b)(6) with respect to the stock subject to the
option. Such methods include, for example, the valuation method described in
§20.2031-2 of this chapter (Estate Tax Regulations).
(f) Exercise. * * * An agreement or undertaking by the employee to make
payments under a stock purchase plan does not constitute the exercise of an option to
the extent the payments made remain subject to withdrawal by or refund to the
employee.
(g) Transfer. * * * A transfer does not fail to occur merely because, under the
terms of the arrangement, the individual may not dispose of the share for a specified

period of time or the share is subject to a right of first refusal at the share's fair market
value at the time of sale.
(h) Employment relationship. (1) An option is a statutory option only if, at the
time the option is granted, the optionee is an employee of the corporation granting the
option, or a related corporation of such corporation. If the option has been assumed or
a new option has been substituted in its place under §1.424-1 (a), the optionee must, at
the time of such substitution or assumption, be an employee of the corporation so

substituting or assuming the option, or a related corporation of such corporation. T h e
determination of whether the optionee is an employee at the time the option is granted
(or at the time of the substitution or assumption under §1.424-1 (a)) is made in
accordance with section 3401 (c) and the regulations thereunder. * * *
(2) In addition, §1.421-2(a) is applicable to the transfer of a share pursuant to
the exercise of the statutory option only if the optionee is, at all times during the period
beginning with the date of the granting of such option and ending on the day 3 months
before the date of such exercise, an employee of either the corporation granting such
option, a related corporation of such corporation, or a corporation (or a related
corporation of such corporation) substituting or assuming a stock option in a transaction
to which §1.424-1 (a) applies. For purposes of the preceding sentence, the employment
relationship is treated as continuing intact while the individual is on military leave, sick
leave, or other bona fide leave of absence (such as temporary employment by the
Government) if the period of such leave does not exceed 90 days, or if longer, so long
as the individual's right to reemployment with the corporation granting the option (or a
related corporation of such corporation) or a corporation (or a related corporation of
such corporation) substituting or assuming a stock option in a transaction to which
§1.424-1 (a) applies, is guaranteed either by statute or by contract. If the period of
leave exceeds 90 days and the individual's right to reemployment is not guaranteed
either by statute or by contract, the employment relationship is deemed to terminate on
the 91st day of such leave. Thus, if the option is not exercised before such deemed
termination of employment, §1.421-2(a) applies to the transfer of a share pursuant to

an exercise of the option only if the exercise occurs within 3 months from the date the
employment relationship is d e e m e d terminated.
****

(i) Additional definitions. (1) Corporation. For purposes of this section and
§§1.421-2 through 1.424-1, the term corporation has the meaning prescribed by section
7701 (a)(3) and §301.7701 -2(b) of this chapter. For example, a corporation for
purposes of the preceding sentence includes an S corporation (as defined in section
1361), a foreign corporation (as defined in section 7701(a)(5)), and a limited liability
company that is treated as a corporation for all Federal tax purposes.
(2) Parent corporation and subsidiary corporation. For the definition of the
terms parent corporation (and parent) and subsidiary corporation (and subsidiary), for
purposes of this section and §§1.421-2 through 1.424-1, see §1.424-1 (f)(i) and (ii),
respectively. Related corporation as used in this section and in §§1.421-2 through
1.424-1 m e a n s either a parent corporation or subsidiary corporation.
(j) Effective date. This section applies to any statutory option granted on or after
the date that is 180 days after publication of final regulations in the Federal Register.
Taxpayers can rely on these regulations for the treatment of any statutory option
granted on or after June 9, 2003.
Par. 4. Section 1.421-8 is re-designated as 1.421-2 and is a m e n d e d by:
1. Revising paragraphs (a)(1), (b), and (c)(1).
2. In the list below, for each section indicated in the left column, remove the
language in the middle column and add the language in the right column:

Newly Designated
Section

Remove

Add

, or 424(c)(1)
1.421-2(c)(2), second
sentence
1.421-2(c)(2), third or 424(c)(1)
sentence
1.421-2(c)(3)(i), first, 422(c)(1), 423(c), or 423(c)
second, and third
424(c)(1)
sentences
1.421-2(c)(3)(H), 1964 2004
Example, first sentence
1.421-2(c)(3)(H), 1966 2006
Example, third, fifth, and
sixth sentences
3. In paragraph (c)(2), first sentence, add the phrase "for purposes of section
423(c)" at the end of the first sentence.
4. Removing paragraph (c)(4)(i) and redesignating paragraphs (c)(4)(H) through
(c)(4)(iv) as paragraphs (c)(4)(i) through (c)(4)(iii), respectively.
5. In newly designated paragraph (c)(4)(i)(a), first sentence, removing the
phrase "In the case of an employee dying after December 31, 1956" and adding "In the
case of the death of an optionee" in its place.
6. Removing Example (1) in newly designated paragraph (c)(4)(iii) and
redesignating Examples (2) through (5) as Examples (1) through (4), respectively.
7. In the list below, for each section indicated in the left column, remove the
language in the middle column and add the language in the right column:

Newly Designated
Section
38

sentence
1.421-2(c)(4)(i)(a), last

Add

Remove

1.421-2(c)(4)(i)(b), first,
second, and last
sentences

422(c)(1), 423(c), or
424(c)(1)

423(c)

422(c)(1), 423(c), or
424(c)(1)

423(c)

1.421-2(c)(4)(i)(c), first
sentence

422(c)(1), 423(c), or
424(c)(1)

423(c)

1.421-2(c)(4)(iii),
Example 1, first
sentence

1964

2005

1.421-2(c)(4)(iii),
Example 1, eighth
sentence

subdivision (ii)(b) of this
subparagraph

paragraph (c)(4)(i)(b) of
this section

1.421-2(c)(4)(iii),
Example 1, third and
fifth sentences

1966

2006

1.421-2(c)(4)(iii),
Example 1, ninth
sentence

subdivision (ii)(c) of this
subparagraph

paragraph (c)(4)(i)(c) of
this section

1.421-2(c)(4)(iii),
Example 2, second and
fifth sentences

subdivision (ii)(a) of this
subparagraph

paragraph (c)(4)(i)(a) of
this section

1.421-2(c)(4)(iii),
Example 2, fifth
sentence

subdivision (ii)(b) of this
subparagraph

paragraph (c)(4)(i)(b) of
this section

1.421-2(c)(4)(iii),
Example 2, first
sentence

example (2)

Example 1

1.421-2(c)(4)(iii),
Example 3, first
sentence

example (2)

Example 1

1.421-2(c)(4)(iii),
Example 3, second and
fourth sentences

subdivision (ii)(a) of this
subparagraph

paragraph (c)(4)(i)(a) of
this section

1.421-2(c)(4)(iii),
Example 3, fourth
sentence

subdivision (ii)(c) of this
subparagraph

paragraph (c)(4)(i)(c) of
this section

1.421-2(c)(4)(iii),
Example 4, first
sentence

example (2)

Example 1

1.421-2(c)(4)(iii),
Example 4, first
sentence

1966

2006

1.421-2(c)(4)(iii),
Example 4, first and
second sentences

1967

2007

1.421-2(c)(iii), Example
4, third, fifth, and sixth
sentences

subdivision (ii)(a) of this
subparagraph

paragraph (c)(4)(i)(a) of
this section

1.421-2(c)(4)(iii),
Example 4, fifth and
sixth sentences

subdivision (ii)(b) of this
subparagraph

paragraph (c)(4)(i)(b) of
this section

1.421-2(c)(4)(iii),
Example 4, sixth
sentence

subdivision (ii)(c) of this
subparagraph

paragraph (c)(4)(i)(c) of
this section

8. Revising paragraph (d).
9. Adding paragraph (f).
The revisions read as follows:
5 1.421-2 General rules.

(a) Effect of qualifying transfer. (1) If a share of stock is transferred to an
individual pursuant to the individual's exercise of a statutory option, and if the
requirements of §1.422-1 (a) (relating to incentive stock options) or §1.423-1 (a) (relating
to employee stock purchase plans) whichever is applicable, are met, then(i) N o income results at the time of the transfer of such share to the individual
upon the exercise of the option with respect to such share (in addition, no income
results upon grant of the option, see §1.83-7);
(ii) N o deduction under section 162 or the regulations thereunder (relating to
trade or business expenses) is allowable at any time with respect to the share so
transferred; and
(Hi) N o amount other than the price paid under the option is considered as
received by the employer corporation, a related corporation of such corporation, or a
corporation substituting or assuming a stock option in a transaction to which §1.4241(a) (relating to corporate reorganizations, liquidations, etc.) applies, for the share so
transferred.
*****

(b) Effect of disqualifying disposition. (1)(i) The disposition (as defined in
§1.424-1 (c)) of a share of stock acquired by the exercise of a statutory option before
the expiration of the applicable holding periods as determined under §1.422-1 (a) or
1.423-1 (a) is a disqualifying disposition and m a k e s paragraph (a) of this section
inapplicable to the transfer of such share. S e e §1.83-7 for the treatment of
nonstatutory options. T h e income attributable to such transfer (determined without

reduction for any brokerage fees or other costs paid in connection with the disposition)
is treated by the individual as compensation income received in the taxable year in
which such disqualifying disposition occurs. Similarly, if otherwise allowable under
sections 83(h) and 162, a deduction attributable to such transfer is allowable for the
taxable year in which such disqualifying disposition occurs to the employer corporation,
or a related corporation of such corporation, or a corporation substituting or assuming
an option in a transaction to which §1.424-1 (a) applies. Additionally, an amount is
allowed as a deduction only if the requirements of §1.83-6(a) are satisfied. No amount
is treated as income, and no amount is allowed as a deduction, for any taxable year
other than the taxable year in which the disqualifying disposition occurs. If the amount
realized on the disposition exceeds (or is less than) the sum of the amount paid for the
share and the amount of compensation income recognized as a result of such
disposition, the extent to which the difference is treated as gain (or loss) is determined
under the rules of section 302 or 1001, as applicable.
(ii) The following examples illustrate the principles of this paragraph (b):
Example 1. On June 1, 2006, X Corporation grants an incentive stock option to
A, an employee of X, entitling A to purchase 100 shares of X stock at $10 per share.
O n August 1, 2006, A exercises the option when the fair market value of X stock is $20
per share, and 100 shares of X stock are transferred to A on that date. O n December
15, 2007, A sells the stock. Because A disposed of the stock before June 2, 2008, A
did not satisfy the holding period requirements of §1.422-1 (a). Under paragraph
(b)(1 )(i) of this section, A m a d e a disqualifying disposition of the stock. Thus,
paragraph (a) of this section is inapplicable to the transfer of the shares, and A must
include the compensation income attributable to the transfer of the shares in gross
income. The amount of compensation income A must include in income under §1.83-7
in the year of the disqualifying disposition is $1,000 (($20, the fair market value of X
stock on transfer less $10, the exercise price per share) times 100 shares)). If
otherwise allowable under sections 83(h) and 162 and if the requirements of §1.83-6(a)
are met, X is allowed a deduction of $1,000 for its taxable year in which the

disqualifying disposition occurs.
Example 2. Y Corporation grants an incentive stock option for 100 shares of its
stock to E, an employee of Y. The option has an exercise price of $10 per share. E
exercises the option and is transferred the shares w h e n the fair market value of a share
of Y stock is $30. Before the applicable holding periods expire, Y redeems the shares
for $70 per share. Because the holding period requirements of §1.422-1 (a) are not
met, the redemption of the shares is a disqualifying disposition of the shares. Under
paragraph (b)(1)(i) of this section, A m a d e a disqualifying disposition of the stock.
Thus, paragraph (a) of this section is inapplicable to the transfer of the shares, and E
must include the compensation income attributable to the transfer of the shares in gross
income. Under §1.83-7, the amount of compensation income attributable to E's
purchase of the share that E must include in gross income in the year of the
disqualifying disposition is $2,000 ($3,000, the fair market value of Y stock on transfer,
less $1,000, the exercise price paid by E). The character of the additional gain that is
includible in E's income as a result of the redemption is determined under the rules of
section 302. If otherwise allowable under sections 83(h) and 162 and if the
requirements of §1.83-6(a) are met, Y is allowed a deduction for the taxable year in
which the disqualifying disposition occurs for the compensation income of $2,000. Y is
not allowed a deduction for the additional gain includible in E's income as a result of the
redemption.
(2) If an optionee transfers stock acquired through the optionee's exercise of a
statutory option prior to the expiration of the applicable holding periods, paragraph (a)
of this section continues to apply to the transfer of the stock pursuant to the exercise of
the option if such transfer is not a disposition of the stock as defined in §1.424-1 (c) (for
example, a transfer from a decedent to the decedent's estate or a transfer by bequest
or inheritance). Similarly, a subsequent transfer by the executor, administrator, heir, or
legatee is not a disqualifying disposition by the decedent. If a statutory option is
exercised by the estate of the optionee or by a person who acquired the option by
bequest or inheritance or by reason of the death of such optionee, see paragraph (c) of
this section. If a statutory option is exercised by the individual to whom the option was
granted and the individual dies before the expiration of the holding periods, see
paragraph (d) of this section.

(3) For special rules relating to the disqualifying disposition of a share of stock
acquired by exercise of an incentive stock option, see §§1.422-5(b)(2) and 1.4241(c)(3).
(c) Exercise by estate. (1) If a statutory option is exercised by the estate of the
individual to whom the option was granted (or by any person who acquired such option
by bequest or inheritance or by reason of the death of such individual), paragraph (a) of
this section applies to the transfer of stock pursuant to such exercise in the same
manner as if the option had been exercised by the deceased optionee. Consequently,
neither the estate nor such person is required to include any amount in gross income as
a result of a transfer of stock pursuant to the exercise of the option. Paragraph (a) of
this section applies even if the executor, administrator, or such person disposes of the
stock so acquired before the expiration of the applicable holding periods as determined
under §1.422-1 (a) or 1.423-1 (a). This special rule does not affect the applicability of
section 423(c), relating to the estate's or other qualifying person's recognition of
compensation income, or section 1222, relating to what constitutes a short-term and
long-term capital gain or loss. Paragraph (a) of this section also applies even if the
executor, administrator, or such person does not exercise the option within three
months after the death of the individual or is not employed as described in §1.421-1 (h),
either when the option is exercised or at any time. However, paragraph (a) of this
section does not apply to a transfer of shares pursuant to an exercise of the option by
the estate or by such person unless the individual met the employment requirements
described in §1.421-1 (h) either at the time of the individual's death or within three

months before such time (or, if applicable, within the period described in §1.4221 (a)(3)). Additionally, paragraph (a) of this section does not apply if the option is
exercised by a person other than the executor or administrator, or other than a person
w h o acquired the option by bequest or inheritance or by reason of the death of such
deceased individual. For example, if the option is sold by the estate, paragraph (a) of
this section does not apply to the transfer of stock pursuant to an exercise of the option
by the buyer, but if the option is distributed by the administrator to an heir as part of the
estate, paragraph (a) of this section applies to the transfer of stock pursuant to an
exercise of the option by such heir.
*****

(d) Option exercised by the individual to whom the option was granted if the
individual dies before expiration of the applicable holding periods. If a statutory option
is exercised by the individual to w h o m the option w a s granted and such individual dies
before the expiration of the applicable holding periods as determined under §1.422-1 (a)
or 1.423-1 (a), paragraph (a) of this section does not b e c o m e inapplicable if the
executor or administrator of the estate of such individual, or any person w h o acquired
such stock by bequest or inheritance or by reason of the death of such individual,
disposes of such stock before the expiration of such applicable holding periods. This
rule does not affect the applicability of section 423(c), relating to the individual's
recognition of compensation income, or section 1222, relating to what constitutes a
short-term and long-term capital gain or loss.
* * * * *

(f) Effective date. This section is applies to any statutory option granted on or
after the date that is 180 days after publication of final regulations in the Federal
Register. Taxpayers can rely on these regulations for the treatment of any statutory
option granted on or after June 9, 2003.
Par. 5. Section 1.422-1 is added to read as follows:
§1.422-1 Incentive stock options: general rules.
(a) Applicability of section 421(a). (1 )(i) Section 1.421 -2(a) applies to the
transfer of a share of stock to an individual pursuant to the individual's exercise of an
incentive stock option if the following conditions are satisfied(A) The individual makes no disposition of such share before the later of the
expiration of the 2-year period from the date of grant of the option pursuant to which
such share was transferred, or the expiration of the 1-year period from the date of
transfer of such share to the individual; and
(B) At all times during the period beginning on the date of grant of the option
and ending on the day 3 months before the date of exercise, the individual was an
employee of either the corporation granting the option, a related corporation of such
corporation, or a corporation (or a related corporation of such corporation) substituting
or assuming a stock option in a transaction to which §1.424-1 (a) applies.
(ii) For rules relating to the disposition of shares of stock acquired pursuant to
the exercise of a statutory option, see §1.424-1 (c). For rules relating to the requisite
employment relationship, see §1.421-1 (h).
(2)(i) The holding period requirement of section 422(a)(1), described in

paragraph (a)(1)(i)(A) of this section, does not apply to the transfers of shares by an
insolvent individual described in this paragraph (a)(2). If an insolvent individual holds a
share of stock acquired pursuant to the individual's exercise of an incentive stock
option, and if such share is transferred to a trustee, receiver, or other similar fiduciary in
any proceeding under the Bankruptcy Act or any other similar insolvency proceeding,
neither such transfer, nor any other transfer of such share for the benefit of the
individual's creditors in such proceeding is a disposition of such share for purposes of
this paragraph (a). For purposes of this paragraph (a)(2), an individual is insolvent only
if the individual's liabilities exceed the individual's assets or the individual is unable to
satisfy the individual's liabilities as they become due. See section 422(c)(3).
(ii) A transfer by the trustee or other fiduciary that is not treated as a disposition
for purposes of this paragraph (a) may be a sale or exchange for purposes of
recognizing capital gain or loss with respect to the share transferred. For example, if
the trustee transfers the share to a creditor in an insolvency proceeding, capital gain or
loss must be recognized by the insolvent individual to the extent of the difference
between the amount realized from such transfer and the adjusted basis of such share.
(Hi) If any transfer by the trustee or other fiduciary (other than a transfer back to
the insolvent individual) is not for the exclusive benefit of the creditors in an insolvency
proceeding, then whether such transfer is a disposition of the share by the individual for
purposes of this paragraph (a) is determined under §1.424-1 (c). Similarly, if the trustee
or other fiduciary transfers the share back to the insolvent individual, any subsequent
transfer of the share by such individual which is not made in respect of the insolvency

proceeding m a y be a disposition of the share for purposes of this paragraph (a).
(3) If the employee exercising an option ceased employment because of
permanent and total disability, within the meaning of section 22(e)(3), 1 year is used
instead of 3 months in the employment period requirement of paragraph (a)(1)(i)(B) of
this section.
(b) Failure to satisfy holding period requirements-d) General rule. For general
rules concerning a disqualifying disposition of a share of stock acquired pursuant to the
exercise of an incentive stock option, see §1.421-2(b)(1).
(2)(i) Special rule. If an individual makes a disqualifying disposition of a share of
stock acquired by the exercise of an incentive stock option, and if such disposition is a
sale or exchange with respect to which a loss (if sustained) would be recognized to the
individual, then, under this paragraph (b)(2)(i), the amount includible in the gross
income of such individual, and deductible from the income of the employer corporation
(or a related corporation of such corporation, or of a corporation substituting or
assuming the option in a transaction to which §1.424-1 (a) applies) as compensation
attributable to the exercise of such option, shall not exceed the excess (if any) of the
amount realized on such sale or exchange over the adjusted basis of such share.
Subject to the special rule provided by this paragraph (b)(2)(i), the amount of
compensation attributable to the exercise of the option is determined under §1.83-7;
see§1.421-2(b)(1)(i).
(ii) Limitation to special rule. The special rule described in paragraph (b)(2)(i) of
this section does not apply if the disposition is a sale or exchange with respect to which

a loss (if sustained) would not be recognized to the individual. Thus, for example, if a
disqualifying disposition is a sale described in section 1091 (relating to loss from wash
sales of stock or securities), a gift (or any other transaction which is not at arm's length),
or a sale described in section 267(a)(1) (relating to sales between related persons), the
special rule described in paragraph (b)(2)(i) of this section does not apply because a
loss sustained in any such transaction would not be recognized.
(3) Examples. The following examples illustrate the principles of this paragraph
(b):
Example 1. On June 1, 2006, X Corporation grants an incentive stock option to
A, an employee of X Corporation, entitling A to purchase one share of X Corporation
stock. O n August 1, 2006, A exercises the option and the share of X Corporation stock
is transferred to A on that date. The option price is $100 (the fair market value of a
share of X Corporation stock on June 1, 2006) and the fair market value of a share of X
Corporation stock on August 1, 2006 (the date of transfer) is $200. The share
transferred to A is transferable and not subject to a substantial risk of forfeiture. A
makes a disqualifying disposition by selling the share on June 1, 2007, for $250. Under
§1.83-7(a) (relating to options to which section 421 does not apply), the amount of
compensation attributable to A's exercise is $100 (the difference between the fair
market value of the share at the date of transfer, $200, and the amount paid for the
share, $100). Because the amount realized ($250) is greater than the value of the
share at transfer ($200), paragraph (b)(2)(i) of this section does not apply and thus
does not affect the amount includible as compensation in A's gross income and
deductible by X. A must include in gross income for the taxable year in which the sale
occurred $100 as compensation and $50 as capital gain ($250, the amount realized
from the sale, less A's basis of $200 (the $100 paid for the share plus the $100
increase in basis resulting from the inclusion of that amount in A's gross income as
compensation attributable to the exercise of the option)). For its taxable year in which
the disqualifying disposition occurs, if otherwise allowable under sections 83(h) and 162
and if the requirements of §1.83-6(a) are met, X Corporation is allowed a deduction of
$100 for compensation attributable to A's exercise of the incentive stock option.
Example 2. Assume the same facts as in Example 1, except that the share of X
Corporation stock transferred to A is subject to a substantial risk of forfeiture and not
transferable for a period of six months after such transfer. A s s u m e further that the fair
market value of X Corporation stock is $225 on February 1, 2005, the date on which the
six-month restriction lapses. Under section 83(a) and §1.83-7(a), the amount of
compensation attributable to A's exercise of the option and disqualifying disposition of

the share is $125 (the difference between the fair market value of the share on the date
that the restriction lapsed, $225, and the amount paid for the share, $100). A must
include $125 of compensation income and $25 of capital gain in gross income for the
taxable year in which the disposition occurs ($250, the amount realized from the sale,
less A's basis of $225 (the $100 paid for the share plus the $125 increase in basis
resulting from the inclusion of that amount of compensation in A's gross income)). For
its taxable year in which the disqualifying disposition occurs, if otherwise allowable
under sections 83(h) and 162 and if the requirements of §1.83-6(a) are met, X
Corporation is allowed a deduction of $125 for the compensation attributable to A's
exercise of the option.
Example 3. (i) Assume the same facts as in Example 1. except that A sells the
share for $150 to M.
(ii) If the sale to M is a disposition that meets the requirements of paragraph
(b)(2)(i) of this section, instead of $100 which otherwise would have been includible as
compensation under §1.83-7, under paragraph (b)(2)(i) of this section, A must include
only $50 (the excess of the amount realized on such sale, $150, over the adjusted
basis of the share, $100) in gross income as compensation attributable to the exercise
of the incentive stock option. Because A's basis for the share is $150 (the $100 which
A paid for the share, plus the $50 increase in basis resulting from the inclusion of that
amount in A's gross income as compensation attributable to the exercise of the option),
A realizes no capital gain or loss as a result of the sale. For its taxable year in which
the disqualifying disposition occurs, if otherwise allowable under sections 83(h) and 162
and if the requirements of §1.83-6(a) are met, X Corporation is allowed a deduction of
$50 for the compensation attributable to A's exercise of the option.
(Hi) Assume the same facts as in paragraph (i) of this Example 3, except that 10
days after the sale to M, A purchases substantially identical stock. Because under
section 1091(a) a loss (if it were sustained on the sale) would not be recognized on the
sale, under paragraph (b)(2)(H) of this section, the special rule described in paragraph
(b)(2)(i) of this section does not apply. Under §1.83-7, A must include $100 (the
difference between the fair market value of the share on the date of transfer, $200, and
the amount paid for the share, $100) in gross income as compensation attributable to
the exercise of the option for the taxable year in which the disqualifying disposition
occurred. A recognizes no capital gain or loss on the transaction. For its taxable year in
which the disqualifying disposition occurs, if otherwise allowable under sections 83(h)
and 162 and if the requirements of §1.83-6(a) are met, X Corporation is allowed a $100
deduction for compensation attributable to A's exercise of the option.
(iv) Assume the same facts as in paragraph (ii) of this Example 3, except that A
sells the share for $50. Under paragraph (b)(2)(i) of this section, A is not required to
include any amount in gross income as compensation attributable to the exercise of the
option. A is allowed a capital loss of $50 (the difference between the amount realized
on the sale, $50, and the adjusted basis of the share, $100). X Corporation is not

allowed any deduction attributable to A's exercise of the option and disqualifying
disposition of the share.
(c) Failure to satisfy employment requirement. Section 1.421-2(a) does not
apply to the transfer of a share of stock pursuant to the exercise of an incentive stock
option if the employment requirement, as determined under paragraph (a)(1)(i)(B) of
this section, is not met at the time of the exercise of such option. Consequently, the
effects of such a transfer are determined under the rules of §1.83-7. For rules relating
to the employment relationship, see §1.421-1(h).
Par. 6. Section 1.422-2 is added to read as follows:
§1.422-2 Incentive stock options defined.
(a) Incentive stock option defined--(1) In general. The term incentive stock
option means an option that meets the requirements of paragraph (a)(2) of this section
on the date of grant. An incentive stock option is also subject to the $100,000 limitation
described in §1.422-4. An incentive stock option may contain a number of permissible
provisions that do not affect the status of the option as an incentive stock option. See
§1.422-5 for rules relating to permissible provisions of an incentive stock option.
(2) Option requirements. To qualify as an incentive stock option under this
section, an option must be granted to an individual in connection with the individual's
employment by the corporation granting such option (or by a related corporation), and
granted only for stock of any of such corporations. In addition, the option must meet all
of the following requirements (i) It must be granted pursuant to a plan that meets the requirements described
in paragraph (b) of this section;

(ii) It must be granted within 10 years from the date of the adoption of the plan
or the date such plan is approved by the stockholders, whichever is earlier (see
paragraph (c) of this section);
(Hi) It must not be exercisable after the expiration of 10 years from the date of
grant (see paragraph (d) of this section);
(iv) It must provide that the option price per share is not less than the fair market
value of the share on the date of grant (see paragraph (e) of this section);
(v) By its terms, it must not be transferable by the individual to whom the option
is granted other than by will or the laws of descent and distribution, and must be
exercisable, during such individual's lifetime, only by such individual (see §§1.4211(b)(2) and 1.421-2(c)); and
(vi) Except as provided in paragraph (f) of this section, it must be granted to an
individual who, at the time the option is granted, does not own stock possessing more
than 10 percent of the total combined voting power of all classes of stock of the
corporation employing such individual or of any related corporation of such corporation.
(3) Amendment of option terms. Except as otherwise provided in §1.424-1, the
amendment of the terms of an incentive stock option may cause it to cease to be an
option described in this section. If the terms of an option that has lost its status as an
incentive stock option are subsequently changed with the intent to re-qualify the option
as an incentive stock option, such change results in the grant of a new option on the
date of the change. See §1.424-1 (e).
(4) Terms provide option not an incentive stock option. If the terms of an option,

w h e n granted, provide that it will not be treated as an incentive stock option, such
option is not treated as an incentive stock option.
(b) Option plan--(1) In general. An incentive stock option must be granted
pursuant to a plan that meets the requirements of this paragraph (b). The authority to
grant other stock options or other stock-based awards pursuant to the plan, where the
exercise of such other options or awards does not affect the exercise of incentive stock
options granted pursuant to the plan, does not disqualify such incentive stock options.
The plan must be in writing or electronic form, provided that such writing or electronic
form is adequate to establish the terms of the plan. See §1.422-5 for rules relating to
permissible provisions of an incentive stock option.
(2) Stockholder approval, (i) The plan required by this paragraph (b) must be
approved by the stockholders of the corporation granting the incentive stock option
within 12 months before or after the date such plan is adopted. Ordinarily, a plan is
adopted when it is approved by the granting corporation's board of directors, and the
date of the board's action is the reference point for determining whether stockholder
approval occurs within the applicable 24-month period. However, if the board's action is
subject to a condition (such as stockholder approval) or the happening of a particular
event, the plan is adopted on the date the condition is met or the event occurs, unless
the board's resolution fixes the date of approval as the date of the board's action.
(ii) For purposes of paragraph (b)(2)(i) of this section, the stockholder approval
must comply with the rules described in §1.422-3.
(Hi) The provisions relating to the maximum aggregate number of shares to be

issued under the plan (described in paragraph (b)(3) of this section) and the employees
(or class or classes of employees) eligible to receive options under the plan (described
in paragraph (b)(4) of this section) are the only provisions of a stock option plan that
must be approved by stockholders for purposes of section 422(b)(1). Any increase in
the maximum aggregate number of shares that may be issued under the plan (other
than an increase merely reflecting a change in the number of outstanding shares, such
as a stock dividend or stock split), or change in the designation of the employees (or
class or classes of employees) eligible to receive options under the plan is considered
the adoption of a new plan requiring stockholder approval within the prescribed 24month period. In addition, a change in the granting corporation or the stock available
for purchase or award under the plan is considered the adoption of a new plan requiring
new stockholder approval within the prescribed 24-month period. Any other changes in
the terms of an incentive stock option plan are not considered the adoption of a new
plan and, thus, do not require stockholder approval.
(3) Maximum aggregate number of shares, (i) The plan required by this
paragraph (b) must designate the maximum aggregate number of shares that may be
issued under the plan through incentive stock options, nonstatutory options, and all
other stock-based awards to be granted thereunder. If nonstatutory options or other
stock-based awards may be granted, the plan may separately designate terms for each
type of option and other stock-based award and designate the maximum number of
shares that may be issued under such option or other stock-based award. Unless
otherwise specified, all terms of the plan apply to all options and other stock-based

awards that m a y be granted under the plan.
(ii) A plan that merely provides that the number of shares that may be issued
under options and other stock-based awards granted under such plan may not exceed
a stated percentage of the shares outstanding at the time of each offering or grant
under such plan does not satisfy the requirement that the plan state the maximum
aggregate number of shares that may be issued under the plan. However, the
maximum aggregate number of shares that may be issued under the plan may be
stated in terms of a percentage of the authorized, issued or outstanding shares at the
date of the adoption of the plan. The plan may specify that the maximum aggregate
number of shares available for grants under the plan may increase annually by a
specified percentage of the authorized, issued or outstanding shares at the date of the
adoption of the plan. A plan which provides that the maximum aggregate number of
shares that may be issued under the plan may change based on any other specified
circumstances satisfies the requirements of this paragraph (b)(3) only if the
stockholders approve an immediately determinable maximum aggregate number of
shares that may be issued under the plan in any event.
(Hi) It is permissible for the plan to provide that shares purchasable under the
plan may be supplied to the plan through acquisitions of stock on the open market, that
shares purchased under the plan and forfeited back to the plan are available for reissuance under the plan, or that shares surrendered in payment of the exercise price of
an option are available for re-issuance under the plan.
(iv) If there is more than one plan under which incentive stock options may be
granted and stockholders of the granting corporation merely approve a maximum
55

aggregate number of shares that are available for issuance under such plans, the
stockholder approval requirements described in paragraph (b)(2) of this section are not
satisfied. A separate maximum aggregate number of shares must be approved for each
plan.
(4) Designation of employees. The plan described in this paragraph (b), as
adopted and approved, must indicate the employees (or class or classes of employees)
eligible to receive the options or other stock-based awards to be granted under the
plan. This requirement is satisfied by a general designation of the classes of
employees eligible to receive options or other stock-based awards under the plan.
Designations such as "key employees of the grantor corporation"; "all salaried
employees of the grantor corporation and its subsidiaries, including subsidiaries which
become such after adoption of the plan;" or "all employees of the corporation" meet this
requirement. This requirement is considered satisfied even though the board of
directors, another group, or an individual is given the authority to select the particular
employees who are to receive options or other stock-based awards from a described
class and to determine the number of shares to be optioned or granted to each such
employee. If individuals other than employees may be granted options or other stockbased awards under the plan, the plan must separately designate the employees or
classes of employees eligible to receive incentive stock options.
(5) Conflicting option terms. An option on stock available for purchase or grant
under the plan is treated as having been granted pursuant to a plan even if the terms of
the option conflict with the terms of the plan, unless such option is granted to an

employee w h o is ineligible to receive options under the plan, options have been granted
on stock in excess of the aggregate number of shares which may be issued under the
plan, or the option provides otherwise.
(6) The following examples illustrate the principles of this paragraph (b):
Example 1. Stockholder approval, (i) S Corporation is a subsidiary of P
Corporation, a publicly traded corporation. O n January 1, 2006, S adopts a plan under
which incentive stock options for S stock are granted to S employees.
(ii) To meet the requirements of paragraph (b)(2) of this section, the plan must
be approved by the stockholders of S (in this case, P) within 12 months before or after
January 1, 2004.
(Hi) Assume the same facts as in paragraph (i) of this Example 1. Assume
further that the plan w a s approved by the stockholders of S (in this case, P) on March
1, 2006. O n January 1, 2008, S changes the plan to provide that incentive stock
options for P stock will be granted to S employees under the plan. Because there is a
change in the stock available for grant under the plan, the change is considered the
adoption of a n e w plan that must be approved by the stockholders within 12 months
before or after January 1, 2008.
Example 2. Stockholder approval, (i) Assume the same facts as in paragraph
(i) of Example 1, except that on March 15, 2007, P completely disposes of its interest in
S. Thereafter, S continues to grant options for S stock to S employees under the plan.
(ii) The new S options are granted under a plan that meets the stockholder
approval requirements of paragraph (b)(2) of this section without regard to whether S
seeks approval of the plan from the stockholders of S after P disposes of its interest in
S.
(Hi) Assume the same facts as in paragraph (i) of this Example 2, except that
under the plan as adopted on January 1, 2006, only options for P stock are granted to
S employees. A s s u m e further that after P disposes of its interest in S, S changes the
plan to provide for the grant of options for S stock to S employees. Because there is a
change in the stock available for purchase or grant under the plan, under paragraph
(b)(2)(iii) of this section, the stockholders of S must approve the plan within 12 months
before or after the change to the plan to meet the stockholder approval requirements of
paragraph (b) of this section.
Example 3. Maximum aggregate number of shares. X Corporation maintains a
plan under which statutory options and nonstatutory options m a y be granted. The plan
designates the number of shares that m a y be used for incentive stock options.

Because the m a x i m u m aggregate number of shares that will be used for both statutory
and nonstatutory options is not designated in the plan, the requirements of paragraph
(b)(3) of this section are not satisfied.
Example 4. Maximum aggregate number of shares. Y Corporation adopts an
incentive stock option plan on November 1, 2006. O n that date there are two million
outstanding shares of Y Corporation stock. The plan provides that the m a x i m u m
aggregate number of shares that m a y be issued under the plan m a y not exceed 1 5 % of
the outstanding number of shares of Y Corporation on November 1, 2006. Because
the m a x i m u m aggregate number of shares under the plan is designated in the plan, the
requirements of paragraph (b)(3) of this section are met.
Example 5. Maximum aggregate number of shares, (i) B Corporation adopts an
incentive stock option plan on March 15, 2005. The plan provides that the m a x i m u m
aggregate number of shares available under the plan is 50,000, increased on each
anniversary date of the adoption of the plan by 5 percent of the then-outstanding
shares.
(ii) Because the maximum aggregate number of shares is not designated under
the plan, the requirements of paragraph (b)(3) of this section are not met.
(Hi) Assume the same facts as in paragraph (i) of this Example 5, except that the
plan provides that the m a x i m u m aggregate number of shares available under the plan
is the lesser of (a) 50,000 shares increased each anniversary date of the adoption of
the plan by 5 percent of the then-outstanding shares or (b) 200,000 shares. Because
the m a x i m u m aggregate number of shares under the plan is designated as the lesser of
one of two numbers, one of which provides an immediately determinable m a x i m u m
aggregate number of shares that m a y be issued under the plan in any event, the
requirements of paragraph (b)(3) of this section are met.
(c) Duration of option grants under the plan. An incentive stock option must be
granted within 10 years from the date that the plan under which it is granted is adopted
or the date such plan is approved by the stockholders, whichever is earlier. To grant
incentive stock options after the expiration of the 10-year period, a new plan must be
adopted and approved.
(d) Period for exercising options. An incentive stock option, by its terms, must
not be exercisable after the expiration of 10 years from the date such option is granted,
or 5 years from the date such option is granted to an employee described in paragraph

(f) of this section. A n option that does not contain such a provision w h e n granted is not
an incentive stock option.
(e) Option price. (1) Except as provided by paragraph (e)(2) of this section, the
option price of an incentive stock option must not be less than the fair market value of
the stock subject to the option at the time the option is granted. The option price may
be determined in any reasonable manner, including the valuation methods permitted
under §20.2031-2 of this chapter (Estate Tax Regulations), so long as the minimum
price possible under the terms of the option is not less than the fair market value of the
stock on the date of grant. For general rules relating to the option price, see §1.4211(e). For rules relating to the determination of when an option is granted, see §1.4211(c).
(2)(i) If a share of stock is transferred to an individual pursuant to the exercise of
an option which fails to qualify as an incentive stock option merely because there was a
failure of an attempt, made in good faith, to meet the option price requirements of
paragraph (e)(1) of this section, the requirements of such paragraph are considered to
have been met. Whether there was a good-faith attempt to set the option price at not
less than the fair market value of the stock subject to the option at the time the option
was granted depends on the relevant facts and circumstances.
(ii) For publicly held stock that is actively traded on an established market at the
time the option is granted, determining the fair market value of such stock by the
appropriate method described in §20.2031-2 of this chapter (Estate Tax Regulations)
establishes that a good-faith attempt to meet the option price requirements of this

paragraph (e) w a s made.
(Hi) For non-publicly traded stock, if it is demonstrated, for example, that the fair
market value of the stock at the date of grant was based upon an average of the fair
market values as of such date set forth in the opinions of completely independent and
well-qualified experts, such a demonstration generally establishes that there was a
good-faith attempt to meet the option price requirements of this paragraph (e). If the
stock is non-publicly traded, the optionee's status as a majority or minority stockholder
may be taken into consideration.
(iv) Regardless of whether the stock offered under an option is publicly traded, a
good-faith attempt to meet the option price requirements of this paragraph (e) is not
demonstrated unless the fair market value of the stock on the date of grant is
determined with regard to nonlapse restrictions (as defined in §1.83-3(h)) and without
regard to lapse restrictions (as defined in §1.83-3(i)).
(v) Amounts treated as interest and amounts paid as interest under a deferred
payment arrangement are not includible as part of the option price. See §1.421-1 (e)(1).
An attempt to set the option price at not less than fair market value is not regarded as
made in good faith where an adjustment of the option price to reflect amounts treated
as interest results in the option price being lower than the fair market value on which the
option price was based.
(3) Notwithstanding that the option price requirements of paragraphs (e)(1) and
(2) of this section are satisfied by an option granted to an employee whose stock
ownership exceeds the limitation provided by paragraph (f) of this section, such option

is not an incentive stock option w h e n granted unless it also complies with paragraph (f)
of this section. If the option, when granted, does not comply with the requirements
described in paragraph (f) of this section, such option can never become an incentive
stock option, even if the employee's stock ownership does not exceed the limitation of
paragraph (f) of this section when such option is exercised.
(f) Options granted to certain stockholders. (1) If, immediately before an option
is granted, an individual owns (or is treated as owning) stock possessing more than 10
percent of the total combined voting power of all classes of stock of the corporation
employing the optionee or of any related corporation of such corporation, then an option
granted to such individual cannot qualify as an incentive stock option unless the option
price is at least 110 percent of the stock's fair market value on the date of grant and
such option by its terms is not exercisable after the expiration of 5 years from the date
of grant. For purposes of determining the minimum option price for purposes of this
paragraph (f), the rules described in paragraph (e)(2) of this section, relating to the
good-faith determination of the option price, do not apply.
(2) For purposes of determining the stock ownership of the optionee, the stock
attribution rules of §1.424-1 (d) apply. Stock that the optionee may purchase under
outstanding options is not treated as stock owned by the individual. The determination
of the percentage of the total combined voting power of all classes of stock of the
employer corporation (or of its related corporations) that is owned by the optionee is
made with respect to each such corporation in the related group by comparing the
voting power of the shares owned (or treated as owned) by the optionee to the
aggregate voting power of all shares of each such corporation actually issued and
61

outstanding immediately before the grant of the option to the optionee. The aggregate
voting power of all shares actually issued and outstanding immediately before the grant
of the option does not include the voting power of treasury shares or shares authorized
for issue under outstanding options held by the individual or any other person.
(3) Examples. The rules of this paragraph (f) are illustrated by the following
examples:
Example 1. (i) E, an employee of M Corporation, owns 15,000 shares of M
Corporation c o m m o n stock, which is the only class of stock outstanding. M has 100,000
shares of its c o m m o n stock outstanding. O n January 1, 2005, w h e n the fair market
value of M stock is $100, E is granted an option with an option price of $100 and an
exercise period of 10 years from the date of grant.
(ii) Because E owns stock possessing more than 10 percent of the total
combined voting power of all classes of M Corporation stock, M cannot grant an
incentive stock option to E unless the option is granted at an option price of at least 110
percent of the fair market value of the stock subject to the option and the option, by its
terms, expires no later than 5 years from its date of grant. The option granted to E fails
to meet the option-price and term requirements described in paragraph (f)(1) of this
section and, thus, the option is not an incentive stock option.
(Hi) Assume the same facts as in paragraph (i) of this Example 1. except that E's
father and brother each owned 7,500 shares of M Corporation stock, and E owned no
M stock in E's own name. Because under the attribution rules of §1.424-1 (d), E is
treated as owning stock held by E's parents and siblings, M cannot grant an incentive
stock option to E unless the option price is at least 110 percent of the fair market value
of the stock subject to the option, and the option, by its terms, expires no later than 5
years from the date of grant.
Example 2. Assume the same facts as in paragraph (i) of this Example 1.
A s s u m e further that M is a subsidiary of P Corporation. Regardless of whether E owns
any P stock and the number of P shares outstanding, if P Corporation grants an option
to E which purports to be an incentive stock option, but which fails to meet the 110percent-option-price and 5-year-term requirements, the option is not an incentive stock
option because E owns more than 10 percent of the total combined voting power of all
classes of stock of a related corporation of P Corporation (i.e., M Corporation). A n
individual w h o owns (or is treated as owning) stock in excess of the ownership specified
in paragraph (f)(1) of this section, in any corporation in a group of corporations
consisting of the employer corporation and its related corporations, cannot be granted
an incentive stock option by any corporation in the group unless such option meets the

110-percent-option-price and 5-year-term requirements of paragraph (f)(1) of this
section.
Example 3. (i) F is an employee of R Corporation. R has only one class of
stock, of which 100,000 shares are issued and outstanding. F owns no stock in R
Corporation or any related corporation of R Corporation. O n January 1, 2005, R grants
a 10-year incentive stock option to F to purchase 50,000 shares of R stock at $3 per
share, the fair market value of R stock on the date of grant of the option. O n April 1,
2005, F exercises half of the January option and receives 25,000 shares of R stock that
previously were not outstanding. O n July 1, 2005, R grants a second 50,000 share
option to F which purports to be an incentive stock option. The terms of the July option
are identical to the terms of the January option, except that the option price is $3.25 per
share, which is the fair market value of R stock on the date of grant of the July option.
(ii) Because F did not own more than 10% of the total combined voting power of
all classes of stock of R Corporation or any related corporation on the date of the grant
of the January option and the pricing requirements of paragraph (e) of this section are
satisfied on the date of grant of such option, the unexercised portion of the January
option remains an incentive stock option regardless of the changes in F's percentage of
stock ownership in R after the date of grant. However, the July option is not an
incentive stock option because, on the date that it w a s granted, F owned 20 percent
(25,000 shares owned by F divided by 125,000 shares of R stock issued and
outstanding) of the total combined voting power of all classes of R Corporation stock
and, thus the pricing requirements of paragraph (f)(1) of this section were not met.
(iii) Assume the same facts as in paragraph (i) of this Example 3 except that the
partial exercise of the January incentive stock option on April 1, 2003, is for only 10,000
shares. Under these circumstances, the July option is an incentive stock option,
because, on the date of grant of the July option, F does not own more than 10 percent
of the total combined voting power (10,000 shares owned by F divided by 110,000
shares of R issued and outstanding) of all classes of R Corporation stock.
§1.422-4 [Removed]
Par. 7. Section 1.422-4 is removed.
§1.422-5 [Redesignated]
Par. 8. Section 1.422-5 is re-designated as §1.422-3.
Par. 9. New §1.422-4 is added to read as follows:
§1.422-4 $100,000 limitation for incentive stock options.

(a) $100,000 per year limitation--(1) General rule. A n option that otherwise
qualifies as an incentive stock option nevertheless fails to be an incentive stock option
to the extent that the $100,000 limitation described in paragraph (a)(2) of this section is
exceeded.
(2) $100,000 per year limitation. To the extent that the aggregate fair market
value of stock with respect to which an incentive stock option (determined without
regard to this section) is exercisable for the first time by any individual during any
calendar year (under all plans of the employer corporation and related corporations)
exceeds $100,000, such option is treated as a nonstatutory option. See §1.83-7 for
rules applicable to nonstatutory options.
(b) Application. To determine whether the limitation described in paragraph
(a)(2) of this section has been exceeded, the following rules apply.
(1) An option that does not meet the requirements of §1.422-2 when granted
(including an option which, when granted, contains terms providing that it will not be
treated as incentive stock option) is disregarded. See §1.422-2(a)(4).
(2) The fair market value of stock is determined as of the date of grant of the
option for such stock.
(3) Except as otherwise provided in paragraph (b)(4) of this section, options are
taken into account in the order in which they are granted.
(4) For purposes of this section, an option is considered to be first exercisable
during a calendar year if the option will become exercisable at any time during the year
assuming that any condition on the optionee's ability to exercise the option related to

the performance of services is satisfied. If the optionee's ability to exercise the option
in the year is subject to an acceleration provision, then the option is considered first
exercisable in the calendar year in which the acceleration provision is triggered. After
an acceleration provision is triggered, the options subject to such provision are then
taken into account in accordance with paragraph (b)(3) of this section for purposes of
applying the limitation described in paragraph (a)(2) of this section to all options first
exercisable during a calendar year. However, because an acceleration provision is not
taken into account prior to its triggering, an incentive stock option that becomes
exercisable for the first time during a calendar year by operation of such a provision
does not affect the application of the $100,000 limitation with respect to any option (or
portion thereof) exercised prior to such acceleration. For purposes of this paragraph
(b)(4), an acceleration provision includes, for example, a provision that accelerates the
exercisability of an option on a change in ownership or control or a provision that
conditions exercisability on the attainment of a performance goal. See paragraph (d),
Example 4 of this section.
(5)(i) An option (or portion thereof) is disregarded if, prior to the calendar year
during which it would otherwise have become exercisable for the first time, the option
(or portion thereof) is modified and thereafter ceases to be an incentive stock option
described in §1.422-2, is canceled, or is transferred in violation of §1.421-1(b)(2).
(ii) If an option (or portion thereof) is modified, canceled, or transferred at any
other time, such option (or portion thereof) is treated as outstanding according to its
original terms until the end of the calendar year during which it would otherwise have
become exercisable for the first time.
65

(6) A disqualifying disposition has no effect on the determination of whether an
option exceeds the $100,000 limitation.
(c) Bifurcation of options. The application of the rules described in paragraph
(b) of this section may result in an option being treated, in part, as an incentive stock
option and, in part, as a nonstatutory option. In such a case, a corporation can issue a
separate certificate for incentive option stock and designate such stock as incentive
stock option stock in the corporation's transfer records. In the absence of such a
designation, a pro rata portion of each share of stock purchased under the option is
treated as incentive stock option stock and nonstatutory option stock. See §1.83-7 for
the treatment of nonstatutory options.
(d) Examples. The following examples illustrate the principles of this section. In
each of the following examples E is an employee of X Corporation. The examples are
as follows:
Example 1. General rule. Effective January 1, 2004, X Corporation adopts a
plan under which incentive stock options m a y be granted to its employees. O n January
1, 2004, and each succeeding January 1 through January 1, 2013, E is granted
immediately exercisable options for X Corporation stock with a fair market value of
$100,000 determined on the date of grant. The options qualify as incentive stock
options (determined without regard to this section). O n January 1, 2014, E exercises all
of the options. Because the $100,000 limitation has not been exceeded during any
calendar year, all of the options are treated as incentive stock options.
Example 2. Order of grant. X Corporation is a parent corporation of Y
Corporation, which is a parent corporation of Z Corporation. Each corporation has
adopted its own separate plan, under which an employee of any m e m b e r of the
corporate group m a y be granted options for stock of any m e m b e r of the group. O n
January 1, 2004, X Corporation grants E an incentive stock option (determined without
regard to this section) for stock of Y Corporation with a fair market value of $100,000 on
the date of grant. O n December 31, 2004, Y Corporation grants E an incentive stock
option (determined without regard to this section) for stock of Z Corporation with a fair
market value of $75,000 as of the date of grant. Both of the options are immediately
exercisable. For purposes of this section, options are taken into account in the order in

which granted using the fair market value of stock as of the date on the option is
granted. During calendar year 2004, the aggregate fair market value of stock with
respect to which E's options are exercisable for the first time exceeds $100,000.
Therefore, the option for Y Corporation stock is treated as an incentive stock option,
and the option for Z Corporation stock is treated as a nonstatutory option.
Example 3. Acceleration provision, (i) In 2004, X Corporation grants E three
incentive stock options (determined without regard to this section) to acquire stock with
an aggregate fair market value of $150,000 on the date of grant. T h e dates of grant,
the fair market value of the stock (as of the applicable date of grant) with respect to
which the options are exercisable, and the years in which the options are first
exercisable (without regard to acceleration provisions) are as follows:
Date of Grant

Fair Market
Value of Stock

First
Exercisable

Option 1

April 1, 2004

$60,000

2004

Option 2

M a y 1,2004

$50,000

2006

Option 3

June 1, 2004

$40,000

2004

(ii) In July of 2004, a change in control of X Corporation occurs, and, under the
terms of its option plan, all outstanding options b e c o m e immediately exercisable.
Under the rules of this section, Option 1 is treated as an incentive stock option in its
entirety; Option 2 exceeds the $100,000 aggregate fair market value limitation for
calendar year 2004 by $10,000 (Option 1 's $60,000 + Option 2's $50,000 = $110,000)
and is, therefore, bifurcated into an incentive stock option for stock with a fair market
value of $40,000 as of the date of grant and a nonstatutory option for stock with a fair
market value of $10,000 as of the date of grant. Option 3 is treated as a nonstatutory
option in its entirety.
Example 4. Exercise of option and acceleration provision, (i) In 2004, X
Corporation grants E three incentive stock options (determined without regard to this
section) to acquire stock with an aggregate fair market value of $120,000 on the date of
grant. T h e dates of grant, the fair market value of the stock (as of the applicable date
of grant) with respect to which the options are exercisable, and the years in which the
options are first exercisable (without regard to acceleration provisions) are as follows:
Option 1 Option 2 Option 3

Date of Grant

Fair Market
Value of Stock

First
Exercisable

April 1,2004

$60,000

2005

May 1,2004 $40,000 2006
June 1,2004 $20,000 2005

(ii) O n June 1, 2005, E exercises Option 3. At the time of exercise of Option 3,
the fair market value of X stock (at the time of grant) with respect to which options held
by E are first exercisable in 2005 does not exceed $100,000. O n September 1, 2005, a
change of control of X Corporation occurs, and, under the terms of its option plan,
Option 2 b e c o m e s immediately exercisable. Under the rules of this section, because
E's exercise of Option 3 occurs before the change of control and the effects of an
acceleration provision are not taken into account until it is triggered, Option 3 is treated
as an incentive stock option in its entirety. Option 1 is treated as an incentive stock
option in its entirety. Option 2 is bifurcated into an incentive stock option for stock with
a fair market value of $20,000 on the date of grant and a nonstatutory option for stock
with a fair market value of $20,000 on the date of grant because it exceeds the
$100,000 limitation for 2003 by $20,000 (Option 1 for $60,000 + Option 3 for $20,000 +
Option 2 for $40,000 = $120,000).
(Hi) Assume the same facts as in paragraph (ii) of this Example 4, except that
the change of control occurs on M a y 1, 2005. Because options are taken into account
in the order in which they are granted, Option 1 and Option 2 are treated as incentive
stock options in their entirety. Because the exercise of Option 3 (on June 1, 2005)
takes place after the acceleration provision is triggered, Option 3 is treated as a
nonstatutory option in its entirety.

Example 5. Cancellation of option, (i) In 2004, X Corporation grants E three
incentive stock options (determined without regard to this section) to acquire stock with
an aggregate fair market value of $140,000 as of the date of grant. T h e dates of grant,
the fair market value of the stock (as of the applicable date of grant) with respect to
which the options are exercisable, and the years in which the options are first
exercisable (without regard to acceleration provisions) are as follows:
Date of Grant

Fair Market
Value of Stock

First
Exercisable

Option 1

April 1, 2004

$60,000

2005

Option 2

M a y 1, 2004

$40,000

2005

Option 3

June 1, 2004

$40,000

2005

(ii) O n December 31, 2004, Option 2 is canceled. Because Option 2 is canceled
before the calendar year during which it would have b e c o m e exercisable for the first
time, it is disregarded. A s a result, Option 1 and Option 3 are treated as incentive stock
options in their entirety.
(Hi) Assume the same facts as in paragraph (ii) of this Example 5, except that
Option 2 is canceled on January 1, 2005. Because Option 2 is not canceled prior to the
calendar year during which it would have b e c o m e exercisable for the first time (2005), it
is treated as an outstanding option for purposes of determining whether the $100,000
requirement for 2005 has been exceeded. Because options are taken into account in
the order in which granted, Option 1 is treated as an incentive stock option in its
entirety. Because Option 3 exceeds the $100,000 limitation by $40,000 (Option 1 for
$60,000 + Option 2 for $40,000 + Option 3 for $40,000 = $140,000), it is treated as a
nonstatutory options in its entirety.
(iv) Assume the same facts as in paragraph (i) of this Example 5, except that on
January 1, 2005, E exercises Option 2 and immediately sells the stock in a disqualifying
disposition. A disqualifying disposition has no effect on the determination of whether
the underlying option is considered outstanding during the calendar year during which it
is first exercisable. Because options are taken into account in the order in which
granted, Option 1 is treated as an incentive stock option in its entirety. Because Option
3 exceeds the $100,000 limitation by $40,000 (Option 1 for $60,000 + Option 2 for
$40,000 + Option 3 for $40,000 = $140,000), it is treated as a nonstatutory option in its
entirety.
Example 6. Designation of stock. O n January 1, 2004, X grants E an
immediately exercisable incentive stock option (determined without regard to this
section) to acquire X stock with a fair market value of $150,000 on that date. Under the

rules of this section, the option is bifurcated and treated as an incentive stock option for
X stock with a fair market value of $100,000 and a nonstatutory option for X stock with
a fair market value of $50,000. In these circumstances, X m a y designate the stock that
is treated as stock acquired pursuant to the exercise of an incentive stock option by
issuing a separate certificate (or certificates) for $100,000 of stock and identifying such
certificates as Incentive Stock Option Stock in its transfer records. In the absence of
such a designation, two-thirds ($100,000 / $150,000) of each share of stock is treated
as acquired pursuant to the exercise of an incentive stock option and one-third
($50,000 / $150,000) as stock acquired pursuant to the exercise of a nonstatutory
option.
Par. 10. Section 1.422-5 is added to read as follows:
§1.422-5 Permissible provisions.
(a) General rule. An option that otherwise qualifies as an incentive stock option
does not fail to be an incentive stock option merely because such option contains one
or more of the provisions described in paragraphs (b), (c), and (d) of this section.
(b) Cashless exercise. (1) An option does not fail to be an incentive stock option
merely because the optionee may exercise the option with previously acquired stock of
the corporation that granted the option or stock of the corporation whose stock is being
offered for purchase under the option. For special rules relating to the use of statutory
option stock to pay the option price of an incentive stock option, see §1.424-1 (c)(3).
(2) All shares acquired through the exercise of an incentive stock option are
individually subject to the holding period requirements described in §1.422-1 (a) and the
disqualifying disposition rules of §1.422-1 (b), regardless of whether the option is
exercised with previously acquired stock of the corporation that granted the option or
stock of the corporation whose stock is being offered for purchase under the option. If
an incentive stock option is exercised with such shares, and the exercise results in the
basis allocation described in paragraph (b)(3) of this section, the optionee's

disqualifying disposition of any of the stock acquired through such exercise is treated as
a disqualifying disposition of the shares with the lowest basis.
(3) If the exercise of an incentive stock option with previously acquired shares is
comprised in part of an exchange to which section 1036 (and so much of section 1031
as relates to section 1036) applies, then:
(i) The optionee's basis in the incentive stock option shares received in the
section 1036 exchange is the same as the optionee's basis in the shares surrendered
in the exchange, increased, if applicable, by any amount included in gross income as
compensation pursuant to sections 421 through 424 or section 83. Except for purposes
of §1.422-1 (a), the holding period of the shares is determined under section 1223. For
purposes of §1.422-1 and sections 421(b) and 83 and the regulations thereunder, the
amount paid for the shares purchased under the option is the fair market value of the
shares surrendered on the date of the exchange.
(ii) The optionee's basis in the incentive stock option shares not received
pursuant to the section 1036 exchange is zero. For all purposes, the holding period of
such shares begins as of the date that such shares are transferred to the optionee.
For purposes of §1.422-1 (b) and sections 421 (b) and 83 and the regulations
thereunder, the amount paid for the shares is considered to be zero.
(c) Additional compensation. An option does not fail to be an incentive stock
option merely because the optionee has the right to receive additional compensation, in
cash or property, when the option is exercised, provided such additional compensation
is includible in income under section 61 or section 83. The amount of such additional
compensation may be determined in any manner, including by reference to the fair
71

market value of the stock at the time of exercise or to the option price.
(d) Option subject to a condition. (1) An option does not fail to be an incentive
stock option merely because the option is subject to a condition, or grants a right, that is
not inconsistent with the requirements of §§1.422-2 and 1.422-4.
(2) An option that includes an alternative right is not an incentive stock option if
the requirements of §1.422-2 are effectively avoided by the exercise of the alternative
right. For example, an alternative right extending the option term beyond ten years,
setting an option price below fair market value, or permitting transferability prevents an
option from qualifying as an incentive stock option. If either of two options can be
exercised, but not both, each such option is a disqualifying alternative right with respect
to the other, even though one or both options would individually satisfy the
requirements of §§1.422-2, 1.422-4, and this section.
(3) An alternative right to receive a taxable payment of cash and/or property in
exchange for the cancellation or surrender of the option does not disqualify the option
as an incentive stock option if the right is exercisable only when the then fair market
value of the stock exceeds the exercise price of the option and the option is otherwise
exercisable, the right is transferable only when the option is otherwise transferable, and
the exercise of the right has the same economic and tax consequences as the exercise
of the option followed by an immediate sale of the stock. For this purpose, the exercise
of the alternative right does not have the same economic and tax consequences if the
payment exceeds the difference between the then fair market value of the stock and
the exercise price of the option.

(e) Examples. The principles of this section are illustrated by the following
examples:
Example 1. On June 1, 2004, X Corporation grants an incentive stock option to
A, an employee of X Corporation, entitling A to purchase 100 shares of X Corporation
c o m m o n stock at $10 per share. The option provides that A m a y exercise the option
with previously acquired shares of X Corporation c o m m o n stock. X Corporation has
only one class of c o m m o n stock outstanding. Under the rules of section 83, the shares
transferable to A through the exercise of the option are transferable and not subject to a
substantial risk of forfeiture. O n June 1, 2005, when the fair market value of an X
Corporation share is $25, A uses 40 shares of X Corporation c o m m o n stock, which A
had purchased on the open market on June 1, 2002, for $5 per share, to pay the full
option price. After exercising the option, A owns 100 shares of incentive stock option
stock. Under section 1036 (and so much of section 1031 as relates to section 1036),
40 of the shares have a $200 aggregate carryover basis (the $5 purchase price x 40
shares) and a three-year holding period for purposes of determining capital gain, and
60 of the shares have a zero basis and a holding period beginning on June 1, 2005, for
purposes of determining capital gain. All 100 shares have a holding period beginning
on June 1, 2005, for purposes of determining whether the holding period requirements
of§1.422-1(a)aremet.
Example 2. Assume the same facts as in Example 1. Assume further that, on
September 1, 2005, A sells 75 of the shares that A acquired through exercise of the
incentive stock option for $30 per share. Because the holding period requirements were
not satisfied, A m a d e a disqualifying disposition of the 75 shares on September 1,
2005. Under the rules of paragraph (b)(3) of this section, A has sold all 60 of the nonsection-1036 shares and 15 of the 40 section-1036 shares. Therefore, under
paragraph (b)(3) of this section and section 83(a), the amount of compensation
attributable to A's exercise of the option and subsequent disqualifying disposition of 75
shares is $1,500 (the difference between the fair market value of the stock on the date
of transfer, $1,875 (75 shares at $25 per share), and the amount paid for the stock,
$375 (60 shares at $0 per share plus 15 shares at $25 per share)). In addition, A must
recognize a capital gain of $675. Accordingly, A must include in gross income for the
taxable year in which the sale occurs $1,500 as compensation and $675 as capital
gain. For its taxable year in which the disqualifying disposition occurs, if otherwise
allowable under section 162 and if the requirements of §1.83-6(a) are met, X
Corporation is allowed a deduction of $1,500 for the compensation paid to A.
Example 3. Assume the same facts as in Example 2, except that, instead of
selling the 75 shares of incentive stock option stock on September 1, 2005, A uses
those shares to exercise a second incentive stock option. The second option w a s
granted to A by X Corporation on January 1, 2005, entitling A to purchase 100 shares
of X Corporation c o m m o n stock at $22.50 per share. A s in Example 2, A has m a d e a
disqualifying disposition of the 75 shares of stock pursuant to §1.424-1 (c). Under

paragraph (b)(1) of this section, A has disposed of all 60 of the non-section-1036
shares and 15 of the 40 section-1036 shares. Therefore, pursuant to paragraph (b)(3)
of this section and section 83(a), the amount of compensation attributable to A's
exercise of the first option and subsequent disqualifying disposition of 75 shares is
$1,500 (the difference between the fair market value of the stock on the date of
transfer, $1,875 (75 shares at $25 per share), and the amount paid for the stock, $375
(60 shares at $0 per share plus 15 shares at $25 per share)). Unlike Example 2. A
does not recognize any capital gain as a result of exercising the second option
because, for all purposes other than the determination of whether the exercise is a
disposition pursuant to section 424(c), the exercise is considered an exchange to which
section 1036 applies. Accordingly, A must include in gross income for the taxable year
in which the disqualifying disposition occurs $1,500 as compensation. For its taxable
year in which the disqualifying disposition occurs, if otherwise alllowable under sections
83(h) and 162 and if the requirements of §1.83-6(a) are met, X Corporation is allowed a
deduction of $1,500 for the compensation paid to A. After exercising the second
option, A owns a total of 125 shares of incentive stock option stock. Under section
1036 (and so much of section 1031 as relates to section 1036), the 100 "new" shares of
incentive stock option stock have the following bases and holding periods: 15 shares
have a $75 carryover basis and a three-year-and-three-month holding period for
purposes of determining capital gain, 60 shares have a $1,500 basis resulting from the
inclusion of that amount in income as compensation and a three-month holding period
for purposes of determining capital gain, and 25 shares have a zero basis and a holding
period beginning on September 1, 2005, for purposes of determining capital gain. All
100 shares have a holding period beginning on September 1, 2005, for purposes of
determining whether the holding period requirements of §1.422-1 (a)are met.
Example 4. Assume the same facts as in Example 2, except that, instead of
selling the 75 shares of incentive stock option stock on September 1, 2005, A uses
those shares to exercise a nonstatutory option. The nonstatutory option w a s granted to
A by X Corporation on January 1, 2005, entitling A to purchase 100 shares of X
Corporation c o m m o n stock at $22.50 per share. Unlike Example 3, A has not m a d e a
disqualifying disposition of the 75 shares of stock. After exercising the nonstatutory
option, A owns a total of 100 shares of incentive stock option stock and 25 shares of
nonstatutory stock option stock. Under section 1036 (and so m u c h of section 1031 as
relates to section 1036), the 75 new shares of incentive stock option stock have the
s a m e basis and holding period as the 75 old shares used to exercise the nonstatutory
option. The additional 25 shares of stock received upon exercise of the nonstatutory
option are taxed under the rules of section 83(a). Accordingly, A must include in gross
income for the taxable year in which the transfer of such shares occurs $750 (25 shares
at $30 per share) as compensation. A's basis in such shares is the s a m e as the
amount included in gross income. For its taxable year in which the transfer occurs, X
Corporation is allowed a deduction of $750 for the compensation paid to A to the extent
allowable under sections 83(h) and 162 and if the requirements of §1.83-6(a) are
satisfied.

Example 5. A s s u m e the s a m e facts in Example 1, except that the shares
transferred pursuant to the exercise of the incentive stock option are subject to a
substantial risk of forfeiture and not transferable (substantially nonvested) for a period
of six months after such transfer. A s s u m e further that the shares that A uses to
exercise the incentive stock option are similarly restricted. Such shares were
transferred to A on January 1, 2005, through A's exercise of a nonstatutory stock option
which w a s granted to A on January 1, 2004. A paid $5 per share for the stock when its
fair market value w a s $22.50 per share. A did not file a section 83(b) election to include
the $700 spread (the difference between the option price and the fair market value of
the stock on date of exercise of the nonstatutory option) in gross income as
compensation. After exercising the incentive stock option with the 40 substantiallynonvested shares, A owns 100 shares of substantially-nonvested incentive stock option
stock. Section 1036 (and so much of section 1031 as relates to section 1036) applies
to the 40 shares exchanged in exercise of the incentive stock option. However,
pursuant to section 83(g), the stock received in such exchange, because it is incentive
stock option stock, is not subject to restrictions and conditions substantially similar to
those to which the stock given in such exchange w a s subject. For purposes of section
83(a) and §1.83-1 (b)(1), therefore, A has disposed of the 40 shares of substantiallynonvested stock on June 1, 2005, and must include in gross income as compensation
$800 (the difference between the amount realized upon such disposition, $1,000, and
the amount paid for the stock, $200). Accordingly, 40 shares of the incentive stock
option stock have a $1,000 basis (the $200 original basis plus the $800 included in
income as compensation) and 60 shares of the incentive stock option stock have a zero
basis. For its taxable year in which the disposition of the substantially-nonvested stock
occurs, X Corporation is allowed a deduction of $800 for the compensation paid to A,
provided that the requirements of §1.83-6 are satisfied.
(f) Effective date. This section applies to any statutory option granted on or after
the date that is 180 days after publication of final regulations in the Federal Register.
Taxpayers can rely on these regulations for the treatment of any statutory option
granted on or after June 9, 2003.
§1.423-1 [Amended]
Par. 11. Section 1.423-1 is amended as follows:
1. In paragraph (a)(2), the language "425(a)" is removed and "424(a)" is added
in its place.
2. In paragraph (b), first sentence, the language "§1.421-7" is removed and

"§1.421-1" is added in its place.
3. In paragraph (b), second sentence, the language "§1.421-8" is removed and
§1.421-2" is added in its place.
4. In paragraph (b), last sentence, the language "425(c)" is removed and
"424(c)" is added in its place.
5. In paragraph (b), last sentence, the language "§1.425-1" is removed and
"§1.424-1" is added in its place.
§1.423-2 [Amended]
Par. 12. Section 1.423-2 is amended by:
1. In paragraph (b), last sentence, the language "§1.421-7" is removed and
"§1.421-1" is added in its place.
2. In paragraph (d)(1), second sentence, the language "425(d)" is removed and
"424(d)" is added in its place.
3. In paragraph (d)(3), Example 3, fourth sentence, the language "425(d)" is
removed and "424(d)" is added in its place.
4. In paragraph (e)(2), the language "§1.421-7" is removed and "§1.421-1" is
added in its place.
5. In paragraph (g)(1), the first sentence of the concluding text, the language
"§1.421-7" is removed and "§1.421-1" is added in its place.
6. In paragraph (g)(1), the third sentence of the concluding text, the language
"§1.421-7" is removed and "§1.421-1" is added in its place.
7. In paragraph (j), second sentence, the language "§1.421-7" is removed and
"§1.421-1" is added in its place.
76

8. In paragraph (j), last sentence, the language "425" is removed and "424" is
added in its place.
9. In paragraph (k)(2), second sentence, the language "§1.421-8" is removed
and "§1.421-2" is added in its place.
§1.425-1 [Redesignated]
Par. 13. Section 1.425-1 is redesignated as §1.424-1 and is amended by:
1. Revising paragraphs (a)(1) through (a)(6).
2. Redesignating paragraph (a)(7) as paragraph (a)(9).
3. Adding paragraph (a)(7).
4. Revising paragraph (a)(8).
5. Adding paragraph (a)(10).
6. In paragraph (b)(1), first, second, and last sentences, the language "425" is
removed wherever it appears, and "424" is added in their places.
7. In paragraph (c)(1), first sentence, the language "425" is removed and "424"
is added in its place.
8. In paragraph (c)(1), first sentence, the language "disposition" is removed and
"disposition of stock" is added in its place.
9. Adding paragraph (c)(1)(iv).
10. Redesignating paragraph (c)(3) as (c)(4).
11. Adding new paragraph (c)(3).
12. Adding newly designated paragraph (c)(4), Examples 7 through 9.
13. In the list below, for each section indicated in the left column, remove the
language in the middle column and add the language in the right column:
77

Add

Remove

Newly Designated
Section
1.424-1 (c)(4). Example
1, first sentence

1964

2004

1.424-1 (c)(4). Example
1, first sentence

qualified stock option

statutory option

1.424-1 (c)(4). Example
1, second and fourth
sentences

1965

2005

1.424-1 (c)(4). Example
1, third sentence

1968

2006

1.424-1 (c)(4). Example
2, first sentence

1968

2006

1.424-1 (c)(4). Example
2, last sentence

long-term

1.424-1 (c)(4). Example
3, first sentence

1968

2006

1.424-1 (c)(4). Example
4, first sentence

1968, two years and 11
months after the transfer
of shares to him

2006

1.424-1 (c)(4). Example
4Jast sentence

three years from the
date

two years from the date
the options were
granted and within one
year of the date that

1.424-1 (c)(4). Example
5, first sentence

1965

2005

1.424-1 (c)(4). Example
5, first sentence

qualified stock option

statutory option

1.424-1 (c)(4). Example
6, first sentence

1965

2005

1.424-1 (c)(4). Example
6, third sentence

three years

2 years

1.424-1 (c)(4). Example
6, last sentence

income

compensation income

1.424-1 (c)(4). Example
6, third sentence

a qualified stock option

the option

1.424-1 (c)(4). Example
6, last sentence

paragraph (b)(2) of
§1.421-8

§1.421-2(b)(2)

14. Revising paragraph (d).
15. Revising paragraphs (e)(1) and (e)(2).
16. In paragraph (e)(3), first sentence, remove the phrase "Except as otherwise
provided in subparagraph (4)" and add "If section 423(c) applies to an option then,".
17. In paragraph (e)(3), first sentence, remove the language ", and 424(b)(1)."
18. Removing paragraph (e)(4).
19. Redesignating paragraph (e)(5) as paragraph (e)(4).
20. Revising newly designated paragraph (e)(4).
21. Redesignating paragraph (e)(6) as paragraph (e)(5) and removing the

second and third sentences.
22. Adding a n e w paragraph (e)(6).
23. In list below, for each section indicated in the left column, remove the
language in the middle column and add the language in the right column:
Section

Remove

Add

1.424-1 (e)(7) Example
1, first sentence

1964

2004

1.424-1 (e)(7) Example
1, first sentence

1966

2006

1.424-1 (e)(7) Example
1, third, fourth, fifth,
sixth and last sentences

1965

2005

1.424-1 (e)(7) Example
I, fifth sentence

425(h)

424(h)

1.424-1 (e)(7) Example
1, last sentence

The exercise of such

Because the
requirements of §1.4241(e)(3) and §1.423-2(g)
have not been met, the
exercise of such

1.424-1 (e)(7) Example
2, first, second, and fifth
sentences

1964

2004

1.424-1 (e)(7) Example
2, first, third, fourth, and
fifth sentences,
wherever it appears

1965

2005

1.424-1 (e)(7) Example
2, first and third
sentences

1966

2006

1.424-1 (e)(7) Example
2, fifth sentence

425(h)

424(h)

1.424-1 (e)(7) Example
2, last sentence

The exercise of such

Because the
requirements of §1.4241(e)(3) and §1.423-2(g)
have not been met, the
exercise of such

1.424-1 (e)(7) Example
3, first, second, and last
sentences

1965

2005

24. In paragraph (e)(7), remove Example 4.
25. Adding paragraphs (f) and (g).
The additions and revisions are as follows:
§ 1.424-1 Definitions and special rules applicable to statutory options.
(a) Substitutions and assumptions of options--(1) In general, (i) This paragraph
(a) provides rules under which an eligible corporation (as defined in paragraph (a)(2) of
this section) may, by reason of a corporate transaction (as defined in paragraph (a)(3)
of this section), substitute a new statutory option (new option) for an outstanding
statutory option (old option) or assume an old option without such substitution or
assumption being considered a modification of the old option. For the definition of
modification, see paragraph (e) of this section.
(ii) For purposes of §§1.421-1 through 1.424-1, the phrase "substituting or
assuming a stock option in a transaction to which section 424 applies," "substituting or
assuming a stock option in a transaction to which §1.424-1 (a) applies," and similar
81

phrases m e a n s a substitution of a n e w option for an old option or an assumption of an
old option that meets the requirements of this paragraph (a). For a substitution or
assumption to qualify under this paragraph (a), the substitution or assumption must
meet all of the requirements described in paragraphs (a)(4) and (a)(5) of this section.
(2) Eligible corporation. For purposes of this paragraph (a), the term
eligible corporation means a corporation that is the employer of the optionee or a
related corporation of such corporation. For purposes of this paragraph (a), the
determination of whether a corporation is the employer of the optionee or a related
corporation of such corporation is based upon all of the relevant facts and
circumstances existing immediately after the corporate transaction.
(3) Corporate transaction. For purposes of this paragraph (a), the term
corporate transaction includes(i) A corporate merger, consolidation, acquisition of property or stock, separation,
reorganization, or liquidation;
(ii) A distribution (excluding ordinary dividends) or change in the terms or number
of outstanding shares of such corporation (e.g., a stock split or stock dividend);
(Hi) A change in the name of the corporation whose stock is purchasable under
the old option; and
(iv) Such other corporate events prescribed by the Commissioner in published
guidance.
(4) By reason of. (i) For a change in an option or issuance of a new option to
qualify as a substitution or assumption under this paragraph (a), the change must be

m a d e by an eligible corporation (as defined in paragraph (a)(2) of this section) and
occur by reason of a corporate transaction (as defined in paragraph (a)(3) of this
section).
(ii) Generally, a change in an option or issuance of a new option is considered to
be by reason of a corporate transaction, unless the relevant facts and circumstances
demonstrate that such change or issuance is made for reasons unrelated to such
corporate transaction. For example, a change in an option or issuance of a new option
will be considered to be made for reasons unrelated to a corporate transaction if there
is an unreasonable delay between the corporate transaction and such change in the
option or issuance of a new option, or if the corporate transaction serves no substantial
corporate business purpose independent of the change in options. Similarly, a change
in the number or price of shares purchasable under an option merely to reflect market
fluctuations in the price of the stock purchasable under an option is not by reason of a
corporate transaction.
(Hi) A change in an option or issuance of a new option is by reason of a
distribution or change in the terms or number of the outstanding shares of a corporation
(as described in paragraph (a)(3)(H) of this section) only if the option as changed or the
new option issued is an option on the same stock as under the old option (or if such
class of stock is eliminated in the change in capital structure, on other stock of the
same corporation).
(iv) A change in an option or issuance of a new option is by reason of a change
in the name of a corporation (as defined in paragraph (a)(3)(iii) of this section) only if
the option as changed or the new option issued is an option on stock of the successor
83

corporation.
(5) Other requirements. For a change in an option or issuance of a new option
to qualify as a substitution or assumption under this paragraph (a), all of the
requirements described in this paragraph (a)(5) must be met.
(i) In the case of an issuance of a new option (or a portion thereof) in exchange
for an old option (or portion thereof), the optionee's rights under the old option (or
portion thereof) must be canceled, and the optionee must lose all rights under the old
option (or portion thereof). There cannot be a substitution of a new option for an old
option within the meaning of this paragraph (a) if the optionee may exercise both the
old option and the new option. It is not necessary to have a complete substitution of a
new option for the old option. However, any portion of such option which is not
substituted or assumed in a transaction to which this paragraph (a) applies is an
outstanding option to purchase stock or, to the extent paragraph (e) of this section
applies, a modified option.
(ii) The excess of the aggregate fair market value of the shares subject to the
new or assumed option immediately after the change in the option or issuance of a new
option over the aggregate option price of such shares must not exceed the excess of
the aggregate fair market value of all shares subject to the old option (or portion
thereof) immediately before the change in the option or issuance of a new option over
the aggregate option price of such shares.
(Hi) On a share by share comparison, the ratio of the option price to the fair
market value of the shares subject to the option immediately after the change in the
option or issuance of a new option must not be more favorable to the optionee than the
84

ratio of the option price to the fair market value of the stock subject to the old option (or
portion thereof) immediately before the change in the option or issuance of a new
option. The number of shares subject to the new or assumed option may be adjusted
to compensate for any change in the aggregate spread between the aggregate option
price and the aggregate fair market value of the shares subject to the option
immediately after the change in the option or issuance of the new option as compared
to the aggregate spread between the option price and the aggregate fair market value
of the shares subject to the option immediately before the change in the option or
issuance of the new option.
(iv) The new or assumed option must contain all terms of the old option, except
to the extent such terms are rendered inoperative by reason of the corporate
transaction.
(v) The new option or assumed option must not give the optionee additional
benefits that the optionee did not have under the old option.
(vi) The new or assumed option must otherwise comply with the requirements of
§1.422-2 or §1.423-2. Thus, for example, the old option must be assumed or the new
option must be issued under a plan approved by the stockholders of the corporation
changing the option or issuing the new option as described in §1.422-2(b)(2) or §1.4232(c), as applicable.
(6) Obligation to substitute or assume not necessary. For a change in the option
or issuance of a new option to meet the requirements of this paragraph (a), it is not
necessary to show that the corporation changing an option or issuing a new option is
under any obligation to do so. In fact, this paragraph (a) may apply even when the
85

option that is being replaced or assumed expressly provides that it will terminate upon
the occurrence of certain corporate transactions. However, this paragraph (a) cannot
be applied to revive a statutory option which, for reasons not related to the corporate
transaction, expires before it can properly be replaced or assumed under this paragraph
(a).
(7) Issuance of stock without meeting the reguirements of this paragraph (a). A
change in the terms of an option resulting in a modification of such option occurs if an
optionee's new employer (or a related corporation of the new employer) issues its stock
(or stock of a related corporation) upon exercise of such option without satisfying all of
the requirements described in paragraphs (a)(4) and (5) of this section.
(8) Date of grant. For purposes of applying the rules of this paragraph (a), a
substitution or assumption is considered to occur on the date that the optionee would,
but for this paragraph (a), be considered to have been granted the option that the
eligible corporation is substituting or assuming. A substitution or an assumption that
occurs by reason of a corporate transaction may occur before or after the corporate
transaction.
*****

(10) Examples. The principles of this paragraph (a) are illustrated by the
following examples:
Example 1. Eligible corporation. X Corporation acquires a new subsidiary, Y
Corporation, and transfers s o m e of its employees to Y. Y Corporation wishes to grant
to its n e w employees and to the employees of X Corporation n e w options for Y shares
in exchange for old options for X shares that were previously granted by X Corporation.
Because Y Corporation is an employer with respect to its o w n employees and a related
corporation of X Corporation, Y Corporation is an eligible corporation under paragraph
(a)(2) of this section with respect to both the employees of X and Y Corporations.
86

Example 2. Corporate transaction, (i) O n January 1, 2004, Z Corporation
grants E, an employee of Z, an option to acquire 100 shares of Z stock. At the time of
grant, the fair market value of Z stock is $200 per share. E's option price is $200 per
share. O n July 1, 2005, when the fair market value of Z stock is $400, Z declares a
stock dividend that causes the fair market value of Z stock to decrease to $200 per
share. O n the s a m e day, Z grants to E a n e w option to acquire 200 shares of Z stock in
exchange for E's old option. The new option has an exercise price of $100 per share.
(ii) A stock dividend is a corporate transaction under paragraph (a)(3)(H) of this
section. Generally, the issuance of a new option is considered to be by reason of a
corporate transaction. None of the facts in this Example 2 indicate that the n e w option
is not issued by reason of the stock dividend. In addition, the n e w option is issued on
the s a m e stock as the old option. Thus, the substitution occurs by reason of the
corporate transaction. Assuming the other requirements of this section are met, the
issuance of the n e w option is a substitution that meets the requirements of this
paragraph (a) and is not a modification of the option.
(iii) Assume the same facts as in paragraph (i) of this Example 2. Assume
further that on December 1, 2005, Z declares an ordinary cash dividend. O n the s a m e
day, Z grants E an n e w option to acquire Z stock in substitution for E's old option.
Under paragraph (a)(3)(H) of this section, an ordinary cash dividend is not a corporate
transaction. Thus, the exchange of the new option for the old option does not meet the
requirements of this paragraph (a) and is a modification of the option.
Example 3. Corporate transaction. On March 15, 2004, A Corporation grants E,
an employee of A, an option to acquire 100 shares of A stock at $50 per share, the fair
market value of A stock on the date of grant. O n M a y 2, 2005, A Corporation transfers
several employees, including E, to B Corporation, a related corporation. B Corporation
arranges to purchase s o m e assets from A on the s a m e day as E's transfer to B. Such
purchase is without a substantial business purpose independent of making the
exchange of E's old options for the new options appear to be by reason of a corporate
transaction. The following day, B Corporation grants to E, one of its n e w employees, an
option to acquire shares of B stock in exchange for the old option held by E to acquire A
stock. Under paragraph (a)(3)(i) of this section, the purchase of assets is a corporate
transaction. Generally, the substitution of an option is considered to occur by reason of
a corporate transaction. However, in this case, the relevant facts and circumstances
demonstrate that the issuance of the n e w option in exchange for the old option
occurred by reason of the change in E's employer rather than a corporate transaction
and that the sale of assets is without a substantial corporate business purpose
independent of the change in the options. Thus, the exchange of the n e w option for the
old option is not by reason of a corporate transaction that meets the requirements of
this paragraph (a) and is a modification of the old option.
Example 4. Additional benefit. On June 1, 2004, P Corporation acquires 100
percent of the shares of S Corporation and issues a n e w option to purchase P shares in

exchange for an old option to purchase S shares that is held by E, an employee of S.
O n the date of the exchange, E's old option is exercisable for 3 more years, and, after
the exchange, E's n e w option is exercisable for 5 years. Because the n e w option is
exercisable for an additional period of time beyond the time allowed under the old
option, the effect of the exchange of the new option for the old option is to give E an
additional benefit that E did not enjoy under the old option. Thus, the requirements of
paragraph (a)(5) of this section are not met, and this paragraph (a) does not apply to
the exchange of the n e w option for the old option. Therefore, the exchange is a
modification of the old options.
Example 5. Spread and ratio tests. E is an employee of S Corporation. E
holds an old option that w a s granted to E by S to purchase 60 shares of S at $12 per
share. O n June 1, 2005, S Corporation is merged into P Corporation, and on such
date P issues a new option to purchase P shares in exchange for E's old option to
purchase S shares. Immediately before the exchange, the fair market value of an S
share is $32; immediately after the exchange, the fair market value of a P share is $24.
The new option entitles E to buy P shares at $9 per share. Because, on a share-byshare comparison, the ratio of the new option price ($9 per share) to the fair market
value of a P share immediately after the exchange ($24 per share) is not more
favorable to E than the ratio of the old option price ($12 per share) to the fair market
value of an S share immediately before the exchange ($32 per share) (9/24 = 12/32),
the requirements of paragraph (a)(5)(iii) of this section are met. The number of shares
subject to E's option to purchase P stock is set at 80. Because the excess of the
aggregate fair market value over the aggregate option price of the shares subject to E's
new option to purchase P stock, $1,200 (80 x $24 minus 80 x $9), is not greater than
the excess of the aggregate fair market value over the aggregate option price of the
shares subject to E's old option to purchase S stock, $1,200 (60 x $32 minus 60 x $12),
the requirements of paragraph (a)(5)(H) of this section are met.
Example 6. Ratio test and partial substitution. Assume the same facts as in
Example 5. except that the fair market value of an S share immediately before the
exchange of the new option for the old option is $8, that the option price is $10 per
share, and that the fair market value of a P share immediately after the exchange is
$12. P sets the new option price at $15 per share. Because, on a share-by-share
comparison, the ratio of the new option price ($15 per share) to the fair market value of
a P share immediately after the exchange ($12) is not more favorable to E than the
ratio of the old option price ($10 per share) to the fair market value of an S share
immediately before the substitution ($8 per share) (15/12 = 10/8), the requirements of
paragraph (a)(5)(iii) of this section are met. A s s u m e further that the number of shares
subject to E's P option is set at 20, as compared to 60 shares under E's old option to
buy S stock. Immediately after the exchange, 2 shares of P are worth $24, which is
what 3 shares of S were worth immediately before the exchange (2 x $12 = 3 x $8).
Thus, to achieve a complete substitution of a new option for E's old option, E would
need to receive a new option to purchase 40 shares of P (i.e., 2 shares of P for each 3
shares of S that E could have purchased under the old option (2/3 = 40/60)). Because

E's n e w option is for only 20 shares of P, P has replaced only 14 of E's old option, and
the other !4 is still outstanding.
Example 7. Partial substitution. X Corporation forms a new corporation, Y
Corporation, by a transfer of certain assets and, in a spin-off, distributes the shares of Y
Corporation to the stockholders of X Corporation. E, an employee of X Corporation, is
thereafter an employee of Y. Y wishes to substitute a n e w option to purchase s o m e of
its stock for E's old option to purchase 100 shares of X. E's old option to purchase
shares of X, at $50 a share, w a s granted when the fair market value of an X share w a s
$50, and an X share w a s worth $100 just before the distribution of the Y shares to X's
stockholders. Immediately after the spin-off, which is also the time of the substitution,
each share of X and each share of Y is worth $50. Based on these facts, a n e w option
to purchase 200 shares of Y at an option price of $25 per share could be granted to E
in complete substitution of E's old option. It would also be permissible to grant E a n e w
option to purchase 100 shares of Y, at an option price of $25 per share, in substitution
for E's right to purchase 50 of the shares under the old option.
Example 8. Stockholder approval reguirements. (i) X Corporation, a publicly
traded corporation, adopts an incentive stock option plan that meets the requirements
of §1.422-2. Under the plan, options to acquire X stock are granted to X employees. X
Corporation is acquired by Y Corporation and becomes a subsidiary corporation of Y
Corporation. Y Corporation maintains an incentive stock option plan that meets the
requirements of §1.422-2. Under the plan, options for Y stock m a y be granted to
employees of Y or its related corporations. After the acquisition, X employees remain
employees of X. In connection with the acquisition, Y Corporation substitutes n e w
options for Y stock for old options for X stock that were previously granted to the
employees of X. A s a result of this substitution, on exercise of the n e w options, X
employees receive Y Corporation stock.
(ii) Because Y Corporation has a plan that meets the requirements of §1.422-2
in existence on the date it acquires X, the new options for Y stock are granted under a
plan approved by the stockholders of Y. The stockholders of Y do not need to approve
the X plan. If the other requirements of paragraphs (a)(4) and (5) of this section are
met, the issuance of n e w options for Y stock in exchange for the old options for X stock
meets the requirements of this paragraph (a) and is not a modification of the old
options.
(Hi) Assume the same facts as in paragraph (i) of this Example 8, except that Y
Corporation does not maintain an incentive stock option plan on the date of the
acquisition of X. The Y options will only be incentive stock options if they are granted
under a plan that meets the requirements of §1.422-2(b). Therefore, Y must adopt a
plan that provides for the grant of incentive stock options, and the plan must be
approved by the stockholders of Y in accordance with §1.422-2(b). If the stockholders
of Y approve the incentive stock option plan within 12 months before or after the date of
the adoption of a plan by Y and the other requirements of §1.422-2 and the

requirements of this paragraph (a) are met, the issuance of the n e w options for Y stock
in exchange for the old options for X stock meets the requirements of this paragraph (a)
and is not treated as a modification of the old options for X stock. The result is the
s a m e if Y Corporation assumes the old options instead of issuing n e w options.
(iv) Assume the same facts as in paragraph (i) of this Example 8, except that
there is no exchange of options. Instead, as part of the acquisition, X a m e n d s its plan
to allow future grants under the plan to be grants to acquire Y stock. Because the
amendment of the plan to allow options on a different stock is considered the adoption
of the new plan, the stockholders of X must approve the plan within 12 months before
or after the date of the amendment of the plan. If the stockholders of X timely approve
the plan, the future grants to acquire Y stock will be incentive stock options (assuming
the other requirements of §1.422-2 have been met).
Example 9. Modification. X Corporation merges into Y Corporation. Y
Corporation retains employees of X w h o hold old options to acquire X Corporation
stock. W h e n the former employees of X exercise the old options, Y Corporation issues
Y stock to the former employees of X. Under paragraph (a)(7) of this section, because
Y issues its stock on exercise of the old options for X stock, there is a change in the
terms of the old options for X stock. Thus, the issuance of Y stock on exercise of the
old options is a modification of the old options.
*****
/_\ * * * /A\ * * *

(iv) A transfer between spouses or incident to divorce (described in section
1041 (a)). The special tax treatment of §1.421 -2(a) with respect to the transferred stock
applies to the transferee. However, see §1.421-1 (b)(2) for the treatment of the transfer
of a statutory option incident to divorce.
*****

(3) If an optionee exercises an incentive stock option with statutory option stock
and the applicable holding period requirements (under §1.422-1 (a) or §1.423-1 (a)) with
respect to such statutory option stock are not met before such transfer, then sections
354, 355, 356, or 1036 (or so much of 1031 as relates to 1036) do not apply to
determine whether there is a disposition of those shares. Therefore, there is a

disposition of the statutory option stock, and the special tax treatment of § 1.421-2(a)
does not apply to such stock.
(4) * * *
Example 7. On January 1, 2004, X Corporation grants to E, an employee of X
Corporation, an incentive stock option to purchase 100 shares of X Corporation stock at
$100 per share (the fair market value of an X Corporation share on that date). O n
January 1, 2005, when the fair market value of a share of X Corporation stock is $200,
E exercises half of the option, pays X Corporation $5,000 in cash, and is transferred 50
shares of X Corporation stock with an aggregate fair market value of $10,000. E makes
no disposition of the shares before January 2, 2006. Under §1.421-2(a), no income is
recognized by E on the transfer of shares pursuant to the exercise of the incentive
stock option, and X Corporation is not entitled to any deduction at any time with respect
to its transfer of the shares to E. E's basis in the shares is $5,000.
Example 8. Assume the same facts as in Example 7, except that on December
1, 2005, one year and 11 months after the grant of the option and 11 months after the
transfer of the 50 shares to E, E uses 25 of those shares, with a fair market value of
$5,000, to pay for the remaining 50 shares purchasable under the option. O n that day,
X Corporation transfers 50 of its shares, with an aggregate fair market value of
$10,000, to E. Because E disposed of the 25 shares before the expiration of the
applicable holding periods, §1.421-2(a) does not apply to the January 1, 2005, transfer
of the 25 shares used by E to exercise the remainder of the option. A s a result of the
disqualifying disposition of the 25 shares, E recognizes compensation income under the
rules of §1.421-2(b).
Example 9. On January 1, 2005, X Corporation grants an incentive stock option
to E, an employee of X Corporation. The exercise price of the option is $10 per share.
O n June 1, 2005, when the fair market value of an X Corporation share is $20, E
exercises the option and purchases 5 shares with an aggregate fair market value of
$100. O n January 1, 2006, when the fair market value of an X Corporation share is
$50, X Corporation is acquired by Y Corporation in a section 368(a)(1)(A)
reorganization. A s part of the acquisition, all X Corporation shares are converted into Y
Corporation shares. After the conversion, if an optionee holds a fractional share of X
Corporation stock, Y Corporation will purchase the fractional share for cash equal to its
fair market value. After applying the conversion formula to the shares held by E, E has
10 Y Corporation shares and one-half of a share of X Corporation stock. Y Corporation
purchases E's one-half share for $25, the fair market value of one-half of an X
Corporation share on the conversion date. Because E sells the one-half share prior to
expiration of the holding periods described in §1.422-1 (a), the sale is a disqualifying
disposition of the one-half share. Thus, in 2006, E must recognize compensation
income of $5 (one-half of the fair market value of an X Corporation share on the date of
exercise of the option, or $10, less one-half of the exercise price per share, or $5). For

purposes of computing any additional gain, E's basis in the one-half share increases to
$10 (reflecting the $5 included in income as compensation). E recognizes an additional
gain of $15 ($25, the fair market value of the one-half share, less $10, the basis in such
share). T h e extent to which the additional $15 of gain is treated as a redemption of X
Corporation stock is determined under section 302.
(d) Attribution of stock ownership. To determine the amount of stock owned by
an individual for purposes of applying the percentage limitations relating to certain
stockholders described in §§1.422-2(f) and 1.423-2(d), shares of the employer
corporation or of a related corporation that are owned (directly or indirectly) by or for the
individual's brothers and sisters (whether by the whole or half blood), spouse,
ancestors, and lineal descendants, are considered to be owned by the individual. Also,
for such purposes, if a domestic or foreign corporation, partnership, estate, or trust
owns (directly or indirectly) shares of the employer corporation or of a related
corporation, the shares are considered to be owned proportionately by or for the
stockholders, partners, or beneficiaries of the corporation, partnership, estate, or trust.
The extent to which stock held by the optionee as a trustee of a voting trust is
considered owned by the optionee is determined under all of the facts and
circumstances.
(e) Modification, extension, or renewal of option. (1)This paragraph (e)
provides rules for determining whether a share of stock transferred to an individual
upon the individual's exercise of an option after the terms of the option have been
changed is transferred pursuant to the exercise of a statutory option.
(2) Any modification, extension, or renewal of the terms of an option to purchase
shares is considered the granting of a new option. The new option may or may not be

a statutory option. T o determine the date of grant of the n e w option for purposes of
section 422 or 423, see §1.421-1(c).
*****

(4)(i) For purposes of §§1.421-1 through 1.424-1 the term modification means
any change in the terms of the option (or change in the terms of the plan pursuant to
which the option w a s granted or in the terms of any other agreement governing the
arrangement) that gives the optionee additional benefits under the option regardless of
whether the optionee in fact benefits from the change in terms. In contrast, for
example, a change in the terms of the option shortening the period during which the
option is exercisable is not a modification. However, a change providing an extension
of the period during which an option m a y be exercised (such as after termination of
employment) or a change providing an alternative to the exercise of the option (such as
a stock appreciation right) is a modification regardless of whether the optionee in fact
benefits from such extension or alternative right. Similarly, a change providing an
additional benefit upon exercise of the option (such as the payment of a cash bonus) or
a change providing more favorable terms for payment for the stock purchased under
the option (such as the right to tender previously acquired stock) is a modification.
(ii) If an option is not immediately exercisable in full, a change in the terms of the
option to accelerate the time at which the option (or any portion thereof) m a y be
exercised is not a modification for purposes of this section. Additionally, no
modification occurs if a provision accelerating the time w h e n an option m a y first be
exercised is removed prior to the year in which it would otherwise be triggered. For
example, if an acceleration provision is timely removed to avoid exceeding the
93

$100,000 limitation described in §1.422-4, a modification of the option does not occur.
(Hi) A change to an option which provides, either by its terms or in substance,
that the optionee may receive an additional benefit under the option at the future
discretion of the grantor, is a modification at the time that the option is changed to
provide such discretion. In addition, the exercise of discretion to provide an additional
benefit is a modification of the option. However, it is not a modification for the grantor
to exercise discretion reserved under an option with respect to the payment of a cash
bonus at the time of exercise, the availability of a loan at exercise, or the right to tender
previously acquired stock for the stock purchasable under the option. An option is not
modified merely because an optionee is offered a change in the terms of an option if
the change to the option is not made.
(iv) A change in the terms of the stock purchasable under the option that affects
the value of the stock is a modification of such option, except to the extent that a new
option is substituted for such option by reason of the change in the terms of the stock in
accordance with paragraph (a) of this section.
(v) If an option is amended solely to increase the number of shares subject to
the option, the increase is not considered a modification of the option but is treated as
the grant of a new option for the additional shares.
(vi) Any change in the terms of an option made in an attempt to qualify the option
as a statutory option grants additional benefits to the optionee and is, therefore, a
modification.
(vii) An extension of an option refers to the granting by the corporation to the
optionee of an additional period of time within which to exercise the option beyond the
94

time originally prescribed. A renewal of an option is the granting by the corporation of
the s a m e rights or privileges contained in the original option on the s a m e terms and
conditions. The rules of this paragraph apply as well to successive modifications,
extensions, and renewals.
*****

(6) [Reserved.]
*****

(f) Definitions. The following definitions apply for purposes of §§1.421-1 through
1.424-1:
(1) Parent corporation. The term parent corporation, or parent, m e a n s any
corporation (other than the employer corporation) in an unbroken chain of corporations
ending with the employer corporation if, at the time of the granting of the option, each of
the corporations other than the employer corporation owns stock possessing 50 percent
or more of the total combined voting power of all classes of stock in one of the other
corporations in such chain.
(2) Subsidiary corporation. The term subsidiary corporation, or subsidiary.
m e a n s any corporation (other than the employer corporation) in an unbroken chain of
corporations beginning with the employer corporation if, at the time of the granting of
the option, each of the corporations other than the last corporation in an unbroken
chain owns stock possessing 50 percent or more of the total combined voting power of
all classes of stock in one of the other corporations in such chain.
(g) Effective date. This section applies to any statutory option granted on or after
the date that is 180 days after publication of final regulations in the Federal Register.
95

Taxpayers can rely on these regulations for the treatment of any statutory option
granted on or after June 9, 2003.
§1.6039-1 [Removed]
Par. 14. Section 1.6039-1 is removed.
§1.6039-2 [Redesignated]
Par. 15. Section 1.6039-2 is redesignated as 1.6039-1 and revised to read as
follows:
§1.6039-1 Statements to persons with respect to whom information is furnished.
(a) Requirement of statement with respect to incentive stock options under
section 6039(a)(1). Every corporation which transfers stock to any person pursuant to
such person's exercise of an incentive stock option described in section 422(b) must
furnish to such transferee, for each calendar year in which such a transfer occurs, a
written statement with respect to the transfer or transfers made during such year. This
statement must include the following information(1) The name, address, and employer identification number of the corporation
transferring the stock;
(2) The name, address, and identifying number of the person to whom the share
or shares of stock were transferred;
(3) The name and address of the corporation the stock of which is the subject of
the option (if other than the corporation transferring the stock);
(4) The date the option was granted;
(5) The date the shares were transferred to the person exercising the option;

(6) The fair market value of the stock at the time the option w a s exercised;
(7) The number of shares of stock transferred pursuant to the option;
(8) The type of option under which the transferred shares were acquired; and
(9) The total cost of all the shares.
(b) Reouirement of statement with respect to stock purchased under an
employee stock purchase plan under section 6039(a)(2). (1) Every corporation which
records, or has by its agent recorded, a transfer of the title to stock acquired by the
transferor pursuant to the transferor's exercise on or after January 1, 1964, of an option
granted under an employee stock purchase plan which meets the requirements of
section 423(b), and with respect to which the special rule of section 423(c) applied,
must furnish to such transferor, for each calendar year in which such a recorded
transfer of title to such stock occurs, a written statement with respect to the transfer or
transfers containing the information required by paragraph (b)(2) of this section.
(2) The statement required by paragraph (b)(1) of this section must contain the
following information(i) The name and address of the corporation whose stock is being transferred;
(ii) The name, address and identifying number of the transferor;
(Hi) The date such stock was transferred to the transferor;
(iv) The number of shares to which title is being transferred; and
(v) The type of option under which the transferred shares were acquired.
(3) If the statement required by this paragraph is made by the authorized
transfer agent of the corporation, it is deemed to have been made by the corporation.

T h e term transfer agent, as used in this section m e a n s any designee authorized to
keep the stock ownership records of a corporation and to record a transfer of title of the
stock of such corporation on behalf of such corporation.
(4) A statement is required by reason of a transfer described in section
6039(a)(2) of a share only with respect to the first transfer of such share by the person
who exercised the option. Thus, for example, if the owner has record title to a share or
shares of stock transferred to a recognized broker or financial institution and the stock
is subsequently sold by such broker or institution (on behalf of the owner), the
corporation is only required to furnish a written statement to the owner relating to the

transfer of record title to the broker or financial institution. Similarly, a written statement
is required when a share of stock is transferred by the optionee to himself and another
person (or persons) as joint tenants, tenants by the entirety or tenants in common.
However, when stock is originally issued to the optionee and another person (or
persons) as joint tenants, or as tenants by the entirety, the written statement required
by this paragraph shall be furnished (at such time and in such manner as is provided by
this section) with respect to the first transfer of the title to such stock by the optionee.
(5) Every corporation which transfers any share of stock pursuant to the
exercise of an option described in this paragraph shall identify such stock in a manner
sufficient to enable the accurate reporting of the transfer of record title to such shares.
Such identification may be accomplished by assigning to the certificates of stock issued
pursuant to the exercise of such options a special serial number or color.
(c) Time for furnishing statements - (1) In general. Each statement required by
this section to be furnished to any person for a calendar year must be furnished to such
98

person on or before January 31 of the year following the year for which the statement is
required.
(2) Extension of time. For good cause shown upon written application of the
corporation required to furnish statements under this section, the Director, Martinsburg
Computing Center, may grant an extension of time not exceeding 30 days in which to
furnish such statements. The application must contain a full recital of the reasons for
requesting an extension to aid the Director in determining the period of the extension, if
any, which will be granted and must be sent to the Martinsburg Computing Center (Attn:
Extension of Time Coordinator). Such a request in the form of a letter to the
Martinsburg Computing Center signed by the applicant (or its agent) will suffice as an
application. The application must be filed on or before the date prescribed in paragraph
(c)(1) of this section for furnishing the statements required by this section, and must
contain the employer identification number of the corporation required to furnish
statements under this section.
(3) Last day for furnishing statement. For provisions relating to the time for
performance of an act when the last day prescribed for performance falls on Saturday,
Sunday, or a legal holiday, see §301.7503-1 of this chapter (Regulations on Procedure
and Administration).
(d) Statements furnished by mail. For purposes of this section, a statement is
considered to be furnished to a person if it is mailed to such person's last known
address.

(e) Penalty. For provisions relating to the penalty provided for failure to furnish a
statement under this section, see section 6722.
(f) Electronic furnishing of statements [Reserved]
(g) Effective date. This section applies as of the date that is 180 days after
publication of final regulations in the FEDERAL REGISTER to transfers of stock
acquired pursuant to a statutory option on or after that date. Taxpayers can rely on
these regulations with respect to the transfer of stock acquired pursuant to a statutory
option on or after June 9, 2003.
PART 14a-TEMPORARY INCOME TAX REGULATIONS RELATING TO INCENTIVE
STOCK OPTIONS
Part 14a [Removed]
Par. 16. Part 14a is removed.

David A. Mader,
Assistant Deputy Commissioner of Internal Revenue.

101

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 6, 2003
JS-461
Media Advisory
Bush, Fox Administrations look to Further Economic Ties
T w o Countries Sponsor Entrepreneurial Workshop
San Francisco, C A - June 9th and 10th
Furthering the commitments made by U.S. President George W. Bush and the
Mexican President Vicente Fox during their historic summit in September 2001, the
United States and Mexico will jointly sponsor the 'Partnership for Prosperity'
Entrepreneurial Workshop in San Francisco June 9-10 to encourage U.S. and
Mexican private sector involvement in Mexico's economic future.
U.S. Commerce Secretary Don Evans and Mexico's Secretary of the Economy
Fernando Canales will host the conference and U.S. Treasurer Rosario Marin will
be the mistress of ceremonies and the moderator for the entire conference, which
will promote contact between the U.S. and Mexican business communities.
Investors and business owners from both countries will meet with university
leaders, leading non-governmental organizations and government experts to
discuss investment and financing opportunities in Mexico. There will also be an
opportunity for networking among the Mexican and U.S. private sector participants.
Business sectors represented will include information and environmental
technology, housing finance and construction, agribusiness and food processing,
infrastructure, and the automotive industry.
Other panels will explore enterprise financing; regulations, taxes and procedures
required for doing business in North America; and the enhancement of human
capital on economic development in Mexico. Senior U.S. and Mexican corporate
and government leaders also will discuss the competitiveness of the North
American market and corporate citizenship.
WHAT: PARTNERSHIP FOR PROSPERITY ENTREPRENEURIAL WORKSHOP
*** See Attached Press Schedule for Details ***
WHERE: THE WESTIN ST FRANCIS HOTEL, SAN FRANCISCO, CA
335 P O W E L L S T R E E T
WHEN: MONDAY, JUNE 9TH TUESDAY, JUNE 10TH
WHO: DON EVANS, Secretary of Commerce, US
F E R N A N D O C A N A L E S , Secretary of Economy, Mexico
Other senior U.S. government participants in the conference include Tim Hauser,
Deputy Under Secretary of Commerce for International Trade, and Alan P Larson,
Under Secretary of State for Economic, Business and Agricultural Affairs, Small
Business Administrator Hector Baretto and Overseas Private Investment
Corporation President Peter Watson.
Mexican government participants will include Agustin Carstens, Deputy Secretary of
Finance and Public Credit; Lourdes Dieck, Under Secretary of Economic Relations
and International Cooperation; Angel Villalobos, Under Secretary of International

Trade Negotiations; and Eduardo Sojo, Chief Economic Advisor to President Fox.
Rosario Marin, Treasurer of the United States, will moderate the conference. Also
taking part are the private sector U.S. Council on Competitiveness and its Mexican
counterpart, the Mexican Institute for Competitiveness.
Interested media, please register at www.partnershipworks2003.com or contact
Bobby Peede at peede@eventstrategies.com or via phone at 703-684-0025. There
is no registration fee, and only credentialed media will be admitted. Media may also
register on-site.
PARNTERSHIP FOR PROSPERTIY
PRESS SCHEDULE
St. Francis Hotel, San Francisco, C A
June 9-10, 2003
- All Open Press Events are Tentative Until Day of Event Pre-Conference - Sunday, June 8, 2003
11:00am-5:00pm Media and Conference Registration Open TBD
************************* K\(~} D| |D| IO A OT|\/|"T|CQ***********************************

Day 1 - Monday, June 9, 2003
8:00am-5:00pm Media and Conference Registration Open Mezzanine Level
9:00am-10:00am Opening Session - OPEN PRESS Grand Ballroom
' Rosario Marin, U S Treasurer, Mistress of Ceremonies
Willie L. Brown, Mayor of San Francisco
Eduardo Sojo, Advisor to President Fox
Tim Hauser, Deputy Undersecretary, U.S. Department of Commerce
10:00am-10:15am Break Italian Foyer Room
10:15am-12:15pm Concurrent Cross-Sector Panels - OPEN PRESS
Panel 1: Investing in Mexico Tower Salon A
(Enterprise Investment Financing)
Panel 2: Doing Business in California East
North America (Promoting Exports)
Panel 3: Human Capital and California West
Innovation Enterprises
12:30pm-2:15pm Lunch - OPEN PRESS Grand Ballroom
Rosario Marin, U S Treasurer, Mistress of Ceremonies
Fernando Canales, Secretary of Economy, Mexico
John Morgridge, Chairman of Cisco Systems
2:20pm-3:00pm Overseas Private Investment Corporation OPEN
P R E S S TBD
Signing Ceremony
2:30pm-4:15pm Concurrent Business Opportunity Panels OPEN PRESS
Panel 4: Information Technology Tower Salon A
Panel 5: Housing Finance and Construction Victorian
Panel 6: Agribusiness and Food Processing Olympic
Panel 7: Infrastructure and Environmental Technology Oxford
Panel 8: Automotive Sector California East
3:00pm-5:00pm Senior Executive Roundtable 2: O P E N P R E S S Colonial Room
Corporate Citizenship
Announcement of Good Partner Award PRINCIPAL MEDIA AVAIL

4:15pm-4:30pm Break Mezzanine Level
5:00pm-6:30pm Signing C e r e m o n y - O P E N P R E S S T B D
University of Arizona and C O N A C Y T ; Georgetown University and C O N A C Y T ;
Georgetown University and USAID; University of Texas/El Paso; USAID/TIES
announcements.
7:00pm-8:00pm Remarks at San Francisco City Hall OPEN PRESS
San Francisco City Hall
Willie L. Brown, Mayor of San Francisco - Welcoming Remarks
Donald Evans, U.S. Secretary of Commerce
Fernando Canales, Secretary of Economy, Mexico
Hector Barreto, Administrator, Small Business Administration
Day 2 - Tuesday, June 10, 2003
8:00am-10:00am Media and Conference Registration Open Mezzanine Level
9:00am-9:45am Signing Ceremonies - OPEN PRESS TBD
9:00am-9:20am Peace Corps with C O N A C Y T
9:20am-10:45am USAID/Aid to Artisans/CONACYT; Iowa State/CONACYT;
Fogarty/NIH/CONACYT
10:00am-11:30am Off-Site Press Event and Media Availability
OPEN PRESS
Donald L. Evans, Secretary of Commerce, U.S.
Fernando Canales, Secretary of Economy, Mexico
***Transportation will be provided to and from event site***
9:45am-11:45am Concurrent Cross-Sector Panels - O P E N P R E S S
Panel 9: Venture Capital
Victorian R M
Panel 10: S M E Trade Financing
Oxford R M
Panel 11: Secure and Competitive Remittances
California East
12:00pm-1:30pm Lunch - OPEN PRESS
Grand Ballroom
Rosario Marin, U S Treasurer, Mistress of Ceremonies
Donald L. Evans, Secretary of Commerce, United States
Hector Rangel, President of the Business Coordinating Council, Mexico
1:30pm-2:00pm Closing Session - OPEN PRESS
Grand Ballroom
Rosario Marin, U S Treasurer, Mistress of Ceremonies
Al Larson, Under Secretary, U.S. Department of State
Lourdes Dieck, Under Secretary, Mexican Ministry of Foreign Affairs

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 9, 2003
JS-462
Fact Sheet:
Timetable for Additional Child Tax Credit Checks
The process for issuing checks for the advance payment of the child tax credit
takes 6-8 weeks. The IRS begins by running a program to search more than 130
million 2002 tax returns filed earlier this year to identify taxpayers eligible for the
advance payment. A calculation is performed for those eligible for the credit to
determine the amount of the check and the data is transmitted to Financial
Management Service (FMS), the agency in Treasury which issues all federal
government checks like Social Security, government employee and Military pay
checks. A testing process is also performed to minimize errors.
The Jobs and Growth Tax Relief Reconciliation Act of 2003 provides for the
issuance of checks to approximately 25 million eligible taxpayers. A s a result,
checks are scheduled to be issued beginning July 25, 2003 in the following manner:
Last 2 Digits of
SSN

Date Check Mailed
from F M S

Estimated
Volume

Estimated
Dollars

00-33

7/25/03

8.6 million

$4.42 billion

34-66

8/1/03

8.4 million

$4.29 billion

67-99

8/8/03

8.4 million

$4.29 billion

The Senate has passed a bill that provides for approximately 7 million additional
advance child tax credit checks to be issued. Many press reports have inaccurately
reported a time frame for which these additional checks proposed by the Senatepassed legislation would be issued.
If the additional checks were to be included with those provided for by the Jobs and
Growth Act, that would cause a delay of nearly one month for the 25 million
taxpayers scheduled to receive checks beginning in late July. This is because IRS
would be required to restart the identification and calculation process begun last
month. Alternatively, the process for the additional round of checks can begin only
after the first round of checks is issued.
In order to not create any significant delay in issuing the 25 million checks provided
for by the Jobs and Growth Act, a second round of checks could not be issued until
mid-September.
-30-

or KICK or IT BI. If A r FAIRS • l>00 I'FNNSYI.VWI \ A\ F.M I., V\V, • WASHINGTON. D.f .• 202211 •(21)2: A2 2-2VMI

EMBARGOED UNTIL 11:00 A.M.
June 9, 2003

CONTACT:

Office of Financing
202/691-3550

TREASURY OFFERS 4-YEAR 11-MONTH 2 5/8% NOTES
The Treasury will auction $15,000 million of 4-year 11-month 2 5/8% notes
to raise new cash.
Up to $1,000 million in noncompetitive bids from Foreign and International
Monetary Authority (FIMA) accounts bidding through the Federal Reserve Bank of New
York will be included within the offering amount of the auction. These noncompetitive
bids will have a limit of $100 million per account and will be accepted in the order
of smallest to largest, up to the aggregate award limit of $1,000 million.
The auction will be conducted in the single-price auction format. All
competitive and noncompetitive awards will be at the highest yield of accepted
competitive tenders. The allocation percentage applied to bids awarded at the
highest yield will be rounded up to the next hundredth of a whole percentage
point, e.g., 17.13%.
The notes being offered today are eligible for the STRIPS program.
This offering of Treasury securities is governed by the terms and
conditions set forth in the Uniform Offering Circular for the Sale and Issue of
Marketable Book-Entry Treasury Bills, Notes, and Bonds (31 CFR Part 356, as
amended).
Details about the security are given in the attached offering highlights.
oOo
Attachment

7^3

HIGHLIGHTS OF TREASURY OFFERING TO THE PUBLIC OF
4-YEAR 11-MONTH 2 5/8% NOTES TO BE ISSUED JUNE 16, 2003
June 9, 2003
Offering Amount $15,000 million
Maximum Award (35% of Offering Amount)
Maximum Recognized Bid at a Single Rate
NLP Reporting Threshold
NLP Exclusion Amount
Description of Offering:
Term and type of security
Series
CUSIP number
Auction date
Issue date
Dated date
Maturity date
Interest rate
Amount outstanding
Yield
Interest payment dates
Minimum bid amount and multiples
Accrued interest payable by investor
Premium or discount
STRIPS Information:
Minimum amount required
Corpus CUSIP number
Due date(s) and CUSIP number(s)
for additional TINT(s)

$
$
$
$

5,250
5,250
5,250
6,300

million
million
million
million

4-year 11-month 2 5/8% notes (reopening)
F-2008
912828 AZ 3
June 11, 2003
June 16, 2003
May 15, 2003
May 15, 2008
2 5/8%
$18,339 million
Determined at auction
November 15 and May 15
$1,000
$2.28261 per $1,000 (from May 15 to June
16, 2003)
Determined at auction
$1,000
912820 HW 0
Not applicable

Snbmission of Bids:
Noncompetitive bids:
Accepted in full up to $5 million at the highest accepted yield.
Foreign and International Monetary Authority (FIMA) bids: Noncompetitive bids
submitted through the Federal Reserve Banks as agents for FIMA accounts.
Accepted in order of size from smallest to largest with no more than $100
million awarded per account. The total noncompetitive amount awarded to Federal
Reserve Banks as agents for FIMA accounts will not exceed $1,000 million. A
single bid that would cause the limit to be exceeded will be partially accepted
in the amount that brings the aggregate award total to the $1,000 million limit.
However, if there are two or more bids of equal amounts that would cause the
limit to be exceeded, each will be prorated to avoid exceeding the limit.
Competitive bids:
(1) Must be expressed as a yield with three decimals, e.g., 7.123%.
(2) Net long position for each bidder must be reported when the sum of the total bid amount, at all
yields, and the net long position equals or exceeds the NLP reporting threshold stated above.
(3) Net long position must be determined as of one half-hour prior to the closing time for receipt of
competitive tenders.
Receipt of Tenders:
Noncompetitive tenders: Prior to 12:00 noon eastern daylight saving time on auction day.
Competitive tenders: Prior to 1:00 p.m. eastern daylight saving time on auction day.
Payment Terms: By charge to a funds account at a Federal Reserve Bank on issue date, or payment of
full par amount with tender. Treasury-Direct customers can use the Pay Direct feature which
authorizes a charge to their account of record at their financial institution on issue date.

DEPARTMENT

THE

TREASURY

TREASURY fIfl N E W S
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EMBARGOED UNTIL 11:00 A.M.
June 9, 2003

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WASHINGTON.

Contact:

[>.<.• 202211 •.; 202; <.22-2<>MJ

Office of Financing
202/691-3550

TREASURY OFFERS 4-WEEK BILLS
The Treasury will auction 4-week Treasury bills totaling $22,000 million to
refund an estimated $6,000 million of publicly held 4-week Treasury bills maturing
June 12, 2003, and to raise new cash of approximately $16,000 million.
Tenders for 4-week Treasury bills to be held on the book-entry records of
TreasuryDlrect will not be accepted.
The Federal Reserve System holds $15,284 million of the Treasury bills maturing
on June 12, 2003, in the System Open Market Account (SOMA). This amount may be
refunded at the highest discount rate of accepted competitive tenders in this auction
up to the balance of the amount not awarded in today's 13-week and 26-week Treasury
bill auctions. Amounts awarded to SOMA will be in addition to the offering amount.
Up to $1,000 million in noncompetitive bids from Foreign and International
Monetary Authority (FIMA) accounts bidding through the Federal Reserve Bank of New York
will be included within the offering amount of the auction. These noncompetitive bids
will have a limit of $100 million per account and will be accepted in the order of
smallest to largest, up to the aggregate award limit of $1,000 million.
The allocation percentage applied to bids awarded at the highest discount rate
will be rounded up to the next hundredth of a whole percentage point, e.g., 17.13%.
This offering of Treasury securities is governed by the terms and conditions
set forth in the Uniform Offering Circular for the Sale and Issue of Marketable BookEntry Treasury Bills, Notes, and Bonds (31 CFR Part 356, as amended).
Details about the new security are given in the attached offering highlights.

oOo
Attachment

/£•> l/lLf

HIGHLIGHTS OF TREASURY OFFERING
OF 4-WEEK BILLS TO BE ISSUED JUNE 12, 2003
June 9, 2003
Offering Amount $22 ,000 million
Maximum Award (35% of Offering Amount)... $ 7,700 million
Maximum Recognized Bid at a Single Rate. . $ 7,700 million
NLP Reporting Threshold
$ 7 , 700 million
NLP Exclusion Amount
$10,500 million
Description of Offering:
Term and type of security
28-day bill
CUSIP number
912795 NC 1
Auction date
June 10, 2003
Issue date
June 12 , 2003
Maturity date
July 10, 2003
Original issue date
January 9, 2003
Currently outstanding
$40,260 million
Minimum bid amount and multiples....$1,000
Submission of Bids:
Noncompetitive bids: Accepted in full up to $1 million at the highest
discount rate of accepted competitive bids.
Foreign and International Monetary Authority (FIMA) bids: Noncompetitive bids submitted through the Federal Reserve Banks as agents for
FIMA accounts. Accepted in order of size from smallest to largest
with no more than $100 million awarded per account. The total noncompetitive amount awarded to Federal Reserve Banks as agents for
FIMA accounts will not exceed $1,000 million. A single bid that
would cause the limit to be exceeded will be partially accepted in
the amount that brings the aggregate award total to the $1,000
million limit. However, if there are two or more bids of equal
amounts that would cause the limit to be exceeded, each will be
prorated to avoid exceeding the limit.
Competitive bids:
(1) Must be expressed as a discount rate with three decimals in
increments of .005%, e.g., 4.215%.
(2) Net long position (NLP) for each bidder must be reported when
the sum of the total bid amount, at all discount rates, and the
net long position equals or exceeds the NLP reporting threshold
stated above.
(3) Net long position must be determined as of one half-hour prior
to the closing time for receipt of competitive tenders.
Receipt of Tenders:
Noncompetitive tenders:
Prior to 12:00 noon eastern daylight saving time on auction day
Competitive tenders:
Prior to 1:00 p.m. eastern daylight saving time on auction day
Payment Terms: By charge to a funds account at a Federal Reserve Bank
on issue date.

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 09, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 2 6-WEEK BILLS
Term: 182-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 12, 2003
December 11, 2003
912795PA3

High Rate: 0.980% Investment Rate 1/: 1.000% Price: 99.505
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 65.24%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type Tendered Accepted
Competitive
Noncompetitive
FIMA (noncompetitive)

31,193,655
898,269
75,000

17,027,055
898,269
75,000

SUBTOTAL 32,166,924 18,000,324 2/
Federal Reserve 6,225,749 6,225,749
TOTAL $ 38,392,673 $ 24,226,073
Median rate 0.965%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
0.950%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 32,166,924 / 18,000,324 = 1.79
1/ Equivalent coupon-issue yield.
2/ Awards to TREASURY DIRECT = $653,977,000

http ://www.publicdebt.treas.gov

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 09, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 13-WEEK BILLS
Term: 91-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 12, 2003
September 11, 2003
912795NM9

High Rate: 1.005% Investment Rate 1/: 1.024% Price: 99.746
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 92.76%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type Tendered Accepted
Competitive
Noncompetitive
FIMA (noncompetitive)

33,567,439
1,450,950
180,000

16,369,054
1,450,950
180,000

SUBTOTAL 35,198,389 18,000,004 2/
Federal Reserve 6,203,776 6,203,776
TOTAL $ 41,402,165 $ 24,203,780
Median rate 0.990%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
0.970%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 35,198,389 / 18,000,004 = 1.96
1/ Equivalent coupon-issue yield.
2/ Awards to TREASURY DIRECT = $1,154,372,000

http://www.publicdebt.treas.gov

JS L/C%

OrFICF. OF m'BI.IC An-'URS • 1500 P I V W S V I A A M A A V F S U F . N.W, •WASH l\C ION. D.i .» 20220 •<2U2i 62 2 2<>hfl

EMBARGOED UNTIL 11:00 A.M.
June 5, 2003

CONTACT:

Office of Financing
202/691-3550

TREASURY OFFERS 13-WEEK AND 26-WEEK BILLS
The Treasury will auction 13-week and 26-week Treasury bills totaling $36,000
million to refund an estimated $31,618 million of publicly held 13-week and 26-week
Treasury bills maturing June 12, 2003, and to raise new cash of approximately $4,382
million. Also maturing is an estimated $6,000 million of publicly held 4-week
Treasury bills, the disposition of which will be announced June 9, 2003.
The Federal Reserve System holds $15,284 million of the Treasury bills maturing
on June 12, 2003, in the System Open Market Account (SOMA). This amount may be
refunded at the highest discount rate of accepted competitive tenders either in these
auctions or the 4-week Treasury bill auction to be held June 10, 2003. Amounts
awarded to SOMA will be in addition to the offering amount.
Up to $1,000 million in noncompetitive bids from Foreign and International
Monetary Authority (FIMA) accounts bidding through the Federal Reserve Bank of New
York will be included within the offering amount of each auction. These
noncompetitive bids will have a limit of $100 million per account and will be accepted
in the order of smallest to largest, up to the aggregate award limit of $1,000
million.
TreasuryDlrect customers have requested that we reinvest their maturing holdings
of approximately $1,050 million into the 13-week bill and $594 million into the 26week bill.
The allocation percentage applied to bids awarded at the highest discount rate
will be rounded up to the next hundredth of a whole percentage point, e.g., 17.13%.
This offering of Treasury securities is governed by the terms and conditions set
forth in the Uniform Offering Circular for the Sale and Issue of Marketable Book-Entry
Treasury Bills, Notes, and Bonds (31 CFR Part 356, as amended).
Details about each of the new securities are given in the attached offering
highlights.
oOo

Attachment

HIGHLIGHTS OF TREASURY OFFERINGS OF BILLS
TO BE ISSUED JUNE 12, 2003
June 5, 2003
Offering Amount $18,000 million $18,000 million
Maximum Award (35% of Offering Amount)
$ 6,300
Maximum Recognized Bid at a Single Rate .... $ 6,300
NLP Reporting Threshold
$ 6,300
NLP Exclusion Amount
$ 5,900
Description of Offering:
Term and type of security
CUSIP number
Auction date
Issue date
Maturity date
Original issue date
Currently outstanding
Minimum bid amount and multiples

million
million
million
million

91-day bill
912795 NM 9
June 9, 2003
June 12, 2003
September 11, 2003
March 13, 2003
$22,559 million
$1,000

$ 6,300 million
$ 6,300 million
$ 6,300 million
None

182-day bill
912795 PA 3
June 9, 2003
June 12, 2003
December 11, 2003
June 12, 2003
$1,000

The following rules apply to all securities mentioned above:
Submission of Bids:
Noncompetitive bids: Accepted in full up to $1 million at the highest discount rate of accepted competitive bids.
Foreign and International Monetary Authority (FIMA) bids: Noncompetitive bids submitted through the Federal Reserve
Banks as agents for FIMA accounts. Accepted in order of size from smallest to largest with no more than $100
million awarded per account. The total noncompetitive amount awarded to Federal Reserve Banks as agents for FIMA
accounts will not exceed $1,000 million. A single bid that would cause the limit to be exceeded will
be partially accepted in the amount that brings the aggregate award total to the $1,000 million limit. However,
if there are two or more bids of equal amounts that would cause the limit to be exceeded, each will be prorated
to avoid exceeding the limit.
Competitive bids:
(1) Must be expressed as a discount rate with three decimals in increments of .005%, e.g., 7.100%, 7.105%.
(2) Net long position (NLP) for each bidder must be reported when the sum of the total bid amount, at all
discount rates, and the net long position equals or exceeds the NLP reporting threshold stated above.
(3) Net long position must be determined as of one half-hour prior to the closing time for receipt of
competitive tenders.
Receipt of Tenders:
Noncompetitive tenders
Prior to 12:00 noon eastern daylight saving time on auction day
Competitive tenders
Prior to 1:00 p.m. eastern daylight saving time on auction day
Payment Terms: By charge to a funds account at a Federal Reserve Bank on issue date, or payment of full par amount
with tender. TreasuryDlxect customers can use the Pay Direct feature, which authorizes a charge to their account of
record at their financial institution on issue date.

FROM THE OFFICE OF PUBLIC AFFAIRS
June 10, 2003
JS-468
Statement from Treasury Secretary John W. Snow
I am saddened to learn of the death of Don Regan. Don will be remembered as a
great Treasury Secretary and an innovative leader of the American business
community. Many at Treasury will miss him, and our thoughts today are with his
wife and family.

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 10, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 4-WEEK BILLS
Term: 28-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 12, 2003
July 10, 2003
912795NC1

High Rate: 1.075% Investment Rate 1/: 1.099% Price: 99.916
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 27.11%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type

Tendered

Competitive
Noncompetitive
FIMA (noncompetitive)

SUBTOTAL
Federal Reserve
TOTAL

55,320,400
46,137
0

Accepted
$

21,954,725
46,137
0

55,366,537

22,000,862

2,854,887

58,221,424

24,855,749

Median rate 1.065%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
1.050%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 55,366,537 / 22,000,862 = 2.52
1/ Equivalent coupon-issue yield.

http://www.publicdebt.treas.gov

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 10, 2003
JS-470
UNITED STATES AND JAPAN INITIAL NEW INCOME TAX TREATY
The Treasury Department announced today that the United States and
Japan have reached an agreement in principle on the text of a new income tax
treaty. Formal negotiations to replace the current tax treaty between the two
countries began in October 2001. The two governments now are moving forward,
as quickly as possible, to formal signature of the proposed treaty.
The proposed treaty is a complete modernization of the existing treaty
between the two countries, which is now over 30 years old. The new agreement
reflects the deepening economic ties between the United States and Japan and the
globalization of the two economies. Most significantly, the proposed treaty provides
for substantial reductions in the withholding taxes imposed on cross-border
dividends, interest, royalties and other income, including the complete elimination of
source-country withholding taxes on royalties, certain interest, and certain
intercompany dividends. The new agreement also incorporates modern rules to
ensure that the benefits of the treaty are enjoyed as intended by the businesses
and residents of the two countries and to prevent improper exploitation of the
treaty.
Speaking at a dinner of the Japan Society this evening, Treasury
Secretary John Snow welcomed the new agreement. "I a m very pleased to
announce tonight that the United States and Japan have reached an agreement in
principle on the text of a new income tax treaty. The proposed treaty reflects both
the deepening economic ties between the United States and Japan and the
globalization of our two economies. The proposed treaty reduces barriers to trade
and investment between the United States and Japan through substantial
reductions in the source-country withholding taxes imposed on cross-border
dividends, interest, royalties and other income. Most significantly, the agreement
includes the complete elimination of withholding taxes on royalties, on certain
interest, and on certain intercompany dividends.
"Achieving a new and improved tax treaty with Japan has been a priority. We are
pleased to have worked together with our Japanese partners to achieve an
agreement that will benefit the economies of both our countries, and I look forward
to signing this important agreement without delay. Finance Minister Shiokawa is
announcing this agreement on our new tax treaty right now in Tokyo, where it is
early Wednesday morning," Secretary Snow concluded.
After signature, the proposed treaty is subject to ratification according to the
procedures of each of the two countries. In the United States, the signed treaty will
be transmitted to the Senate for its advice and consent to ratification.
The text of the treaty will be made public after signature.

FROM THE OFFICE OF PUBLIC AFFAIRS
June 10, 2003
JS-471
Keynote Address by Treasury Secretary John W. Snow to the Japan Society
Annual Dinner, New York, NY

Good evening. I am pleased to join the Japan Society
tonight, to talk about our hopes for a great ally and economic
partner. The longstanding and strong friendship between our
nations is a bulwark of global stability, and has been an engine
of global prosperity.
A s an example of our partnership, I a m very pleased to
announce tonight that the United States and Japan have
reached an agreement in principle on the text of a n e w income
tax treaty. The proposed treaty reflects both the deepening
economic ties between the United States and Japan and the
globalization of our two economies.
The proposed treaty reduces barriers to trade and
investment between the United States and Japan through
substantial reductions in the source-country withholding taxes
imposed on cross-border dividends, interest, royalties and
other income.
Most significantly, the agreement includes the complete
elimination of withholding taxes on royalties, on certain
interest, and on certain inter-company dividends. Given the
importance of this agreement, its announcement is being
simultaneously released by Minister Shiokawa in Tokyo at this
very moment.
Achieving a n e w and improved tax treaty with Japan
has been a priority. W e are pleased to have worked together
with our Japanese partners to achieve an agreement that will
benefit the economies of both our countries, and I look forward
to signing this important agreement without delay.
This n e w proposed treaty agreement also m a k e s a
larger point. There w a s a time, not long ago, w h e n powerful
and emerging economies alike were seen foremost as
competitors, as if domestic economic growth in one had to
come, to s o m e degree, at the expense of growth in another.
Today w e know that such a view is not only false, but
counterproductive. Economic growth in one nation drives
growth in its trading partners. Individual firms m a y compete at
the expense of each other, but such inter-firm competition is
the wrong model for countries where of course the operative
principle is comparative, not absolute advantage.

Through trade all nations benefit from each other's
prosperity and in turn create more prosperity. Thus, improving
opportunities for trade benefits all. Likewise, reducing trade
barriers helps the citizens of all participating nations and is a
powerful driver of future growth. For hundreds of millions of
poor in the developing world, escaping from poverty requires
more robust growth in the world economy and more free
trade. That won't happen unless leaders of the industrialized
nations take steps to strengthen their o w n economies and
shun the temptation to restrict trade.
Today the industrialized nations of the world are
growing far too slowly and everyone suffers as a
consequence. This w a s one of President Bush's key
messages at the G 8 summit last week: that the United States
wishes economic success for all its partners, and that the
developing world in particular needs faster growth from all of
the more advanced economies. It has been the policy of his
administration to encourage economic growth at h o m e and
abroad.
Nowhere is this more important than in the leading
industrialized nations, which through their trade and
investment activities support growth throughout the rest of the
world. Our challenge today is' that the leading economies are
suffering from a growth deficit - their potential far exceeds
their performance. Returning these economies to high growth
performance w a s a focus of the G 8 meeting.
In the United States, w e have taken aggressive steps
to get our economy on a stronger growth path. W e have
focused on reducing the tax burdens on consumers w h o wish
to spend or save, and on encouraging companies to invest in
n e w jobs and equipment. With the President's Jobs and
Growth plan n o w in place, I a m confident w e are going to see
steadily increasing growth here in the United States in the
coming year, and with it, more jobs higher productivity, and
performance much closer to our long term potential. The
developing economies have the potential to perform m u c h
better as well, and w e need to find the keys to unlock that
potential.
In the developing world, the President's visionary
Millennium Challenge Account will sharply increase aid to
countries that promote policies for good governance,
economic freedom, and investment in health care, education,
and infrastructure. Under this program, w e will reward
governments that produce results for their people and
e m p o w e r the private sector to drive growth.
The plain fact is that development assistance has not
been accompanied by a proportionate pickup in the prosperity
and living standards of poorer countries. W e can do better
with development aid. Today, our aid programs are falling far
short of their objectives of lifting poor countries out of the
terrible blight of poverty. W e can and must do better. That

begins by changing the focus from in puts - the amounts of aid
- to outcomes - the results of that aid. Such an approach
promises a m u c h brighter future for the poor peoples of the
world and as w e know so well today based on decades of
experience, good policies precede economic success.
The reconstruction of Iraq, while it is a unique case,
illustrates m a n y of these principles. The Coalition Provisional
Authority is working to create a national infrastructure in a
country that has lacked any semblance of modern economic or
political institutions for at least twenty-five years. The Coalition
is laying the foundation for representative government, rule of
law, and a market economy.
I said at the beginning of this speech that the
relationship between the United States and Japan has been
an engine of global prosperity. The world needs that engine
running on all cylinders. Japan remains the world's secondlargest economy, and by far the largest economy in Asia.
Japan has also been an active partner in humanitarian
projects worldwide, such as the reconstruction of Afghanistan
and Iraq.
Japan's economy, however, has struggled for a
decade, following four decades of a w e s o m e growth. W e all
know the diagnosis by now: a distressed banking system with
too m a n y non-performing borrowers; persistent deflation; and
a rigid and overly regulated economic structure that
discourages risk-taking, competition, and innovation.
The prescriptions for the ailments are well known, too.
And the needed action is not unprecedented. The U.S., for
example, had trouble with economic rigidity in the past. Our
transportation industry w a s bound-up in antiquated regulations
for decades, as I know well. Economists talked about the
problems for almost as long, until the government finally acted
to deregulate transportation in the late 70s and early 80s. The
benefits of that deregulation have only increased over the
years in the greater flexibility of the American economy, its
competitiveness, and its resistance to shocks.
The U.S. has also encountered the problem of
misalignment between real asset values and the book values
of those assets. The savings and loan crisis of the 1980s had
the potential to throttle our economy. For a long time, no one
wanted to admit the extent of the damage. N o one wanted to
take responsibility for it. But in retrospect, one of the best
choices policymakers m a d e w a s to bite the bullet, gather up
the overvalued assets, and put them on the market. W e got
over that hump, and bounced back.
Economies stumble. Over the past few years, the
United States suffered from a notable slowdown, following
m a n y years of high growth. In our case, exogenous factors
such as September 11, the bursting of the stock market
bubble, and corporate scandals dragged us down. But
because of the flexibility of our system, along with swift fiscal

and monetary responses, w e have been able to keep moving
forward, keep growing, under what might otherwise s e e m an
impossible situation.
Flexibility matters because no one can predict the
future with certainty - so the best policy is usually to allow
markets to work. The flexibility that we've hailed today is owed
in large part to the policymakers w h o decided, for example, to
deregulate transportation and liquidate nonperforming S & L
assets so m a n y years ago.
In s o m e ways, Japan today reminds m e of the picture
of the United States that emerged in the late 70s. Growth w a s
slow. Our companies were inefficient. Our economic system
seemed brittle and stagnant. M a n y critics were writing off the
U.S. economy entirely, believing that the U.S. would be
permanently eclipsed by Japan's ascendance.
Yet during the stagnation, during the criticism, quietly
at first, the American economy w a s evolving. Managers and
investors were studying Japan's success, for example, and
beginning to learn from Japanese quality control practices.
W e were adopting new technologies, and new production
processes such as just-in-time delivery. W e overcame our
pride and our "not invented here" syndrome. W e learned from
others, and w e learned especially from the Japanese.
W e did not remake ourselves as Japan. But w e
incorporated Japanese practices within American institutions,
and w e were better for it. I say "we," but I should be more
specific. Businesses that learned and adapted survived and
prospered. Those that refused to change have failed and
vanished.
Winston Churchill said something to the effect of,
"America always finds the right answer - after it has exhausted
all the alternatives."
The fact is, the one and only constant of economic life
is change. To maintain success, an economic system must
accommodate change, even as it maintains institutions of
stability. It must allow failures, and then it must allow and
even encourage entrepreneurs and businesses to learn from
those failures. At times, the medicine is painful - but I believe
it works.
The United States is hardly alone as a nation that
reversed a period of economic stagnation and decline. Britain,
N e w Zealand, the Netherlands, and no doubt others have
done the same, each in its own way, but with the commonality
that all adapted to change while preserving their national
character.
I'm not here to preach American answers to Japanese
problems. I'm here to say that w e believe in Japan, and that
w e believe that Japan will take actions to overcome these
obstacles, and return to a position of economic leadership and
growth in the world.
Japan must find Japanese solutions, not through

isolation, but through openness, leadership, and a legendary
will. The solutions must meet the needs of Japan's unique
society and institutions to win broad public support. Without
that combination of leadership and broad-based support,
reform cannot happen, nor can it hold.
And amid the criticism and all the well-documented
problems, there are signs that Japan has been changing. This
is a hopeful time.
In banking, Japan has created a basis for corporate
restructuring, the Industrial Revitalization Corporation. I a m
encouraged by the work of the Financial Services Agency
under the leadership of Minister Takenaka. I a m especially
heartened by the Japanese Government's action to preserve
the stability of the financial system in the recent case of
Resona Bank. The accelerated resolution of bad loans will
provide a useful model as the Japanese Government
considers a new framework this summer.
I a m also encouraged that the Bank of Japan, under
the leadership of Governor Fukui, is now working more closely
with the government and improving communication with the
market. W e have high expectations for stronger monetary
growth as a m e a n s to eliminate deflation.
Prime Minister Koizumi has stated that there can be no
growth without structural and regulatory reform, and he has
committed to opening the Japanese economy to competition
and efficiency. I believe the Japanese economy will get a
tremendous boost from policies that open up sectors to n e w
entry and competition, and that m a k e it easier to m o v e labor
and assets to where they are most productive.
Japanese companies have shown that they can
compete in world markets to the benefit of consumers in
virtually every nation. Their competition brings benefits such
as lower prices, higher quality, and newer technology.
Japanese consumers should have the s a m e opportunity to
benefit from competition at home.
Let m e close with a story from m y personal experience
with Japan, one that illustrates how our nations can address
similar questions in different, valid ways and then learn from
each other. W h e n I w a s the chairman of the Business
Roundtable, a group of American corporate leaders from our
largest firms, w e launched a dialogue with our counterparts of
Japan's Keidanren, to learn from each other, and foster mutual
understanding.
For our very first meeting, each w a s to prepare a list of
national priorities for discussion. The usual subjects appeared
-trade, global warming, pensions and deregulation were
among the topics. But the number one priority for both groups
w a s education. W e said to the Japanese, "we want to learn
from your educational system— how do you achieve such
universal literacy, competence, numeracy and achievement?"
To which the Japanese business leaders replied: "No, w e want

to learn from your educational system—how do you produce
so many Nobel Prize winners, so much creativity, so much
innovation? H o w do you preserve opportunities for so m a n y to
get a second and third chance?"
Clearly, w e have much to learn from each other. The
United States welcomes a vibrant, rejuvenated Japanese
economy, and w e will support our friend and ally's efforts to
restore full growth. The world has much still to learn from
Japan, and Japan has much to contribute to global growth and
security.
Thank you.
Related Documents:
• U.S.-Japan Income Tax Treaty Initialization

PR CSS R O O M

FROM THE OFFICE OF PUBLIC AFFAIRS
June 10, 2003 >
JS-472
U.S. Treasury Secretary John W. Snow Remarks to the Japan Society Annual
Dinner, New York, NY

Good evening. I am pleased to join the Japan Society
tonight, to talk about our hopes for a great ally and economic
partner. The longstanding and strong friendship between our
nations is a bulwark of global stability, and has been an engine
of global prosperity.
A s an example of our partnership, I a m very pleased to
announce tonight that the United States and Japan have
reached an agreement in principle on the text of a n e w income
tax treaty. The proposed treaty reflects both the deepening
economic ties between the United States and Japan and the
globalization of our two economies.
The proposed treaty reduces barriers to trade and
investment between the United States and Japan through
substantial reductions in the source-country withholding taxes
imposed on cross-border dividends, interest, royalties and
other income.
Most significantly, the agreement includes the
complete elimination of withholding taxes on royalties, on
certain interest, and on certain inter-company dividends.
Given the importance of this agreement, its announcement is
being simultaneously released by Minister Shiokawa in Tokyo
at this very moment.
Achieving a n e w and improved tax treaty with Japan
has been a priority. W e are pleased to have worked together
with our Japanese partners to achieve an agreement that will
benefit the economies of both our countries, and I look forward
to signing this important agreement without delay.
This n e w proposed treaty agreement also m a k e s a
larger point. There w a s a time, not long ago, w h e n powerful
and emerging economies alike were seen foremost as
competitors, as if domestic economic growth in one had to
come, to s o m e degree, at the expense of growth in another.
Today w e know that such a view is not only false, but
counterproductive. Economic growth in one nation drives
growth in its trading partners. Individual firms m a y compete at
the expense of each other, but such inter-firm competition is
the wrong model for countries where of course the operative
principle is comparative, not absolute advantage.

Through trade all nations benefit from each other's
prosperity and in turn create more prosperity. Thus, improving
opportunities for trade benefits all. Likewise, reducing trade
barriers helps the citizens of all participating nations and is a
powerful driver of future growth. For hundreds of millions of
poor in the developing world, escaping from poverty requires
more robust growth in the world economy and more free
trade. That won't happen unless leaders of the industrialized
nations take steps to strengthen their o w n economies and
shun the temptation to restrict trade.
Today the industrialized nations of the world are
growing far too slowly and everyone suffers as a
consequence. This w a s one of President Bush's key
messages at the G 8 summit last week: that the United States
wishes economic success for all its partners, and that the
developing world in particular needs faster growth from all of
the more advanced economies. It has been the policy of his
administration to encourage economic growth at h o m e and
abroad.
Nowhere is this more important than in the leading
industrialized nations, which through their trade and
investment activities support growth throughout the rest of the
world. Our challenge today is that the leading economies are
suffering from a growth deficit - their potential far exceeds
their performance. Returning these economies to high growth
performance w a s a focus of the G 8 meeting.
In the United States, w e have taken aggressive steps
to get our economy on a stronger growth path. W e have
focused on reducing the tax burdens on consumers w h o wish
to spend or save, and on encouraging companies to invest in
n e w jobs and equipment. With the President's Jobs and
Growth plan n o w in place, I a m confident w e are going to see
steadily increasing growth here in the United States in the
coming year, and with it, more jobs higher productivity, and
performance much closer to our long term potential. The
developing economies have the potential to perform m u c h
better as well, and w e need to find the keys to unlock that
potential.
In the developing world, the President's visionary
Millennium Challenge Account will sharply increase aid to
countries that promote policies for good governance,
economic freedom, and investment in health care, education,
and infrastructure. Under this program, w e will reward
governments that produce results for their people and
e m p o w e r the private sector to drive growth.
The plain fact is that development assistance has not
been accompanied by a proportionate pickup in the prosperity
and living standards of poorer countries. W e can do better
with development aid. Today, our aid programs are falling far
short of their objectives of lifting poor countries out of the
terrible blight of poverty. W e can and must do better. That

begins by changing the focus from in puts - the amounts of aid
- to outcomes - the results of that aid. Such an approach
promises a much brighter future for the poor peoples of the
world and as w e know so well today based on decades of
experience, good policies precede economic success.
The reconstruction of Iraq, while it is a unique case,
illustrates m a n y of these principles. The Coalition Provisional
Authority is working to create a national infrastructure in a
country that has lacked any semblance of modern economic or
political institutions for at least twenty-five years. The Coalition
is laying the foundation for representative government, rule of
law, and a market economy.
I said at the beginning of this speech that the
relationship between the United States and Japan has been
an engine of global prosperity. The world needs that engine
running on all cylinders. Japan remains the world's secondlargest economy, and by far the largest economy in Asia.
Japan has also been an active partner in humanitarian
projects worldwide, such as the reconstruction of Afghanistan
and Iraq.
Japan's economy, however, has struggled for a
decade, following four decades of a w e s o m e growth. W e all
know the diagnosis by now: a distressed banking system with
too m a n y non-performing borrowers; persistent deflation; and
a rigid and overly regulated economic structure that
discourages risk-taking, competition, and innovation.
The prescriptions for the ailments are well known, too.
And the needed action is not unprecedented. The U.S., for
example, had trouble with economic rigidity in the past. Our
transportation industry w a s bound-up in antiquated regulations
for decades, as I know well. Economists talked about the
problems for almost as long, until the government finally acted
to deregulate transportation in the late 70s and early 80s. The
benefits of that deregulation have only increased over the
years in the greater flexibility of the American economy, its
competitiveness, and its resistance to shocks.
The U.S. has also encountered the problem of
misalignment between real asset values and the book values
of those assets. The savings and loan crisis of the 1980s had
the potential to throttle our economy. For a long time, no one
wanted to admit the extent of the damage. N o one wanted to
take responsibility for it. But in retrospect, one of the best
choices policymakers m a d e w a s to bite the bullet, gather up
the overvalued assets, and put them on the market. W e got
over that hump, and bounced back.
Economies stumble. Over the past few years, the
United States suffered from a notable slowdown, following
m a n y years of high growth. In our case, exogenous factors
such as September 11, the bursting of the stock market
bubble, and corporate scandals dragged us down. But
because of the flexibility of our system, along with swift fiscal

and monetary responses, w e have been able to keep moving
forward, keep growing, under what might otherwise s e e m an
impossible situation.
Flexibility matters because no one can predict the
future with certainty - so the best policy is usually to allow
markets to work. The flexibility that we've hailed today is owed
in large part to the policymakers w h o decided, for example, to
deregulate transportation and liquidate nonperforming S & L
assets so m a n y years ago.
In s o m e ways, Japan today reminds m e of the picture
of the United States that emerged in the late 70s. Growth w a s
slow. Our companies were inefficient. Our economic system
seemed brittle and stagnant. M a n y critics were writing off the
U.S. economy entirely, believing that the U.S. would be
permanently eclipsed by Japan's ascendance.
Yet during the stagnation, during the criticism, quietly
at first, the American economy w a s evolving. Managers and
investors were studying Japan's success, for example, and
beginning to learn from Japanese quality control practices.
W e were adopting n e w technologies, and n e w production
processes such as just-in-time delivery. W e overcame our
pride and our "not invented here" syndrome. W e learned from
others, and w e learned especially from the Japanese.
W e did not remake ourselves as Japan. But w e
incorporated Japanese practices within American institutions,
and w e were better for it. I say "we," but I should be more
specific. Businesses that learned and adapted survived and
prospered. Those that refused to change have failed and
vanished.
Winston Churchill said something to the effect of,
"America always finds the right answer - after it has exhausted
all the alternatives."
The fact is, the one and only constant of economic life
is change. To maintain success, an economic system must
accommodate change, even as it maintains institutions of
stability. It must allow failures, and then it must allow and
even encourage entrepreneurs and businesses to learn from
those failures. At times, the medicine is painful - but I believe
it works.
The United States is hardly alone as a nation that
reversed a period of economic stagnation and decline. Britain,
N e w Zealand, the Netherlands, and no doubt others have
done the same, each in its own way, but with the commonality
that all adapted to change while preserving their national
character.
I'm not here to preach American answers to Japanese
problems. I'm here to say that w e believe in Japan, and that
w e believe that Japan will take actions to overcome these
obstacles, and return to a position of economic leadership and
growth in the world.
Japan must find Japanese solutions, not through

isolation, but through openness, leadership, and a legendary
will. The solutions must meet the needs of Japan's unique
society and institutions to win broad public support. Without
that combination of leadership and broad-based support,
reform cannot happen, nor can it hold.
And amid the criticism and all the well-documented
problems, there are signs that Japan has been changing. This
is a hopeful time.
In banking, Japan has created a basis for corporate
restructuring, the Industrial Revitalization Corporation. I a m
encouraged by the work of the Financial Services Agency
under the leadership of Minister Takenaka. I a m especially
heartened by the Japanese Government's action to preserve
the stability of the financial system in the recent case of
Resona Bank. The accelerated resolution of bad loans will
provide a useful model as the Japanese Government
considers a n e w framework this summer.
I a m also encouraged that the Bank of Japan, under
the leadership of Governor Fukui, is n o w working more closely
with the government and improving communication with the
market. W e have high expectations for stronger monetary
growth as a m e a n s to eliminate deflation.
Prime Minister Koizumi has stated that there can be no
growth without structural and regulatory reform, and he has
committed to opening the Japanese economy to competition
and efficiency. I believe the Japanese economy will get a
tremendous boost from policies that open up sectors to n e w
entry and competition, and that m a k e it easier to m o v e labor
and assets to where they are most productive.
Japanese companies have shown that they can
compete in world markets to the benefit of consumers in
virtually every nation. Their competition brings benefits such
as lower prices, higher quality, and newer technology.
Japanese consumers should have the s a m e opportunity to
benefit from competition at home.
Let m e close with a story from m y personal experience
with Japan, one that illustrates how our nations can address
similar questions in different, valid ways and then learn from
each other. W h e n I w a s the chairman of the Business
Roundtable, a group of American corporate leaders from our
largest firms, w e launched a dialogue with our counterparts of
Japan's Keidanren, to learn from each other, and foster mutual
understanding.
For our very first meeting, each w a s to prepare a list of
national priorities for discussion. The usual subjects appeared
- trade, global warming, pensions and deregulation were
a m o n g the topics. But the number one priority for both groups
w a s education. W e said to the Japanese, "we want to learn
from your educational system— how do you achieve such
universal literacy, competence, numeracy and achievement?"
To which the Japanese business leaders replied: "No, w e want

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 11,2003
JS-473
Treasury Under Secretary John B. Taylor
Testimony before the House Subcommittee on Domestic and International
Monetary Policy, Trade and Technology of the House Financial Services
Committee
Chairman King, Representative Maloney, Members of the Committee, thank you for
the opportunity to testify today on the Millennium Challenge Account (MCA). M y
statement will focus on the economic rationale behind the M C A and how it fits
within the Administration's overall approach to economic development.
Today there are more than three billion people living in extreme poverty. Last year
3 million people died for lack of immunization, 1 million died from malaria, 3 million
died from water-related diseases, and 2 million died from exposure to stove smoke
inside their own homes. In addition, HIV/AIDS has ravaged the populations of
developing nations, killing 3 million people in 2002 alone.
The United States is helping in many ways to combat poverty and deal with these
related problems. Under President Bush's leadership the Administration has
developed a new economic growth agenda aimed at reducing poverty around the
world. The M C A is one part of this agenda. The agenda focuses on channeling
more funds to countries that follow pro-growth policies, and on structuring our
contributions to create incentives for specific measurable results. These principles
are the driving force behind Treasury's reform strategy at the Multilateral
Development Banks (MDBs) as this committee is well aware. And I want to
underscore the importance that the Administration attaches to the authorization
requests related to the M D B s that are pending with this Committee. I look forward
to working with this Committee and the Congress, to help make the M D B s strong
and effective institutions. These same principles are the driving force behind the
M C A . The M C A operates on the principle that aid is more likely to promote
economic growth and raise living standards in countries that are pursuing sound
political, economic and social policies. It also seeks to integrate measurement and
evaluation into the design of activities to ensure that aid is working.
In a similar vein, I want to emphasize how transparent the Millennium Challenge
Corporation (MCC) intends to be. The selection of countries will be based on an
objective and transparent assessment of their policy performance on 16 indicators
that are key to increasing economic growth. All contracts, activity implementation
plans, and measurement and evaluation reports will be posted on the web. The
United States is the leading force for increased transparency in the M D B s , and
working in collaboration with this committee, w e think w e have come up with a
robust agenda for even greater transparency that w e will continue to pursue
vigorously.
Treasury will play a vital role in the implementation of the MCA. The Secretary of
the Treasury brings to the Board of M C C expertise in policies that promote
economic growth and enhance productivity. Furthermore, as the U.S. Governor in
the international financial institutions, the Secretary of the Treasury is in a unique
position to ensure coordination of M C A programs with the World Bank, the regional
development banks and other international financial institutions.
Removing Impediments to Productivity Growth

Sustainable poverty reduction can only be achieved via productivity growth.
Productivity is the amount of goods and services that a worker produces per unit of
time with the skills and tools available. If you want to reduce the number of
countries with low per capita incomes, then you have no choice but to increase
productivity in those countries. And the higher the rate of productivity growth, the
faster poverty will decline. Simply put, the ticket out of poverty is higher productivity
jobs.
Productivity depends on two things: capital per worker and the level of technology.
If there are no impediments to the flow and accumulation of capital and technology,
then countries that are behind in productivity should have a higher productivity
growth rate. They should catch up, and w e have seen m a n y countries catching up
over the years - such as South Korea, Chile, and Botswana. However, m a n y of the
poorest nations still have had low and stagnant productivity and income, and they
are not catching up. More and more evidence has been accumulating that this is
due to significant impediments to investment and the adoption of technology.
These impediments can be grouped into three areas. First, poor governance — the
lack of rule of law or enforceable contracts and the prevalence of corruption —
creates disincentives to invest, start up new firms, and expand existing firms with
high-productivity jobs. This has a negative impact on capital formation and
entrepreneurial activity. Second, weak health and education systems impede the
development of h u m a n capital. Workers without adequate education do not have
the skills to take on high-productivity jobs or to increase the productivity of the jobs
they do have. Third, too many restrictions on economic transactions prevent people
from trading goods and services or adopting new technologies.
Poor economic policies, state monopolies, excessive regulation, and the lack of
openness to trade are all examples of restrictions that reduce the incentives for
innovation and investment that are needed to boost productivity.
The Administration's approach to assisting developing nations to increase their
productivity growth is to increase aid to countries that are taking actions to remove
these impediments by following pro-growth policies.
Measuring Pro-Growth Policies
President Bush speaks of three types of pro-growth policies: governing justly,
investing in people, and encouraging economic freedom. Note that these three
categories correspond to the three types of impediments holding back productivity
growth.
To implement President Bush's vision, the Administration chose a set of
quantitative indicators of these pro-growth policies. W e worked intensively for
several months evaluating a wide range of possible indicators. A s part of this
process, w e met with representatives from other donor countries, developing
countries, charitable organizations, universities, think tanks, the private sector, and
other interested parties to gather their ideas.
Ultimately, we selected 16 indicators based on their relationship to economic
growth, the number of countries they cover, their transparency and availability, and
their relative soundness and objectivity. These indicators are not set in stone and
m a y change in the future if problems with them emerge or better indicators b e c o m e
available. To qualify, a country will have to be above the median on half of the
indicators in each of the three policy areas.
Governing Justly: There are six indicators in this category. The first two are from
Freedom House and the latter four are from the World Bank Institute.
1) Civil Liberties: An indicator based on a survey of freedom of expression,
association and organizational rights, rule of law and h u m a n rights, and personal
autonomy and economic rights.

2) Political Rights: An indicator based on a survey of free and fair elections of
officials; elected representatives have real power; the right of citizens to form
political parties; freedom from domination by the military, foreign powers, totalitarian
parties, religious hierarchies and economic oligarchies; and the political rights of
minority groups.
3) Voice and Accountability: An aggregate index of existing quantitative indices of
governance. O n e of these indices, for example, measures protection of civil
liberties, citizen participation in the selection of governments, and the independence
of the media.
4) Government Effectiveness: An aggregate index of such items as the provision of
quality public services, competent and independent civil servants, and credible
governments.
5) Rule of Law: An aggregate index of the extent to which people have confidence
in and abide by rules of society, the incidence of violent and non-violent crime, the
effectiveness and predictability of the judiciary, and the enforceability of contracts.
6) Control of Corruption: An aggregate index that measures corruption among
public officials including, for example, bribery, patronage, nepotism, and secret
party funding. With respect to this indicator, President Bush m a d e it clear that M C A
funds should only go to the most transparent and least corrupt countries. To meet
the President's concerns, w e have determined that those countries which fall below
the median on this indicator will be considered ineligible for M C A funds, absent
material change in their circumstances.
Investing in People: Our proposal includes two input measures and two output
measures.
1) Public expenditure on health as a percent of GDP.
2) Immunization rate for DPT and measles: The World Health Organization publicly
compiles and annually releases data on immunization rates for nearly all m e m b e r
countries.
3) Total public expenditure on primary education as a percent of GDP.
4) Primary Completion Rate: The World Bank, using UNESCO data, compile data
that measure whether children are attaining minimum education levels. A higher
level of education increases labor productivity.
Encouraging Economic Freedom: There are six indicators in this category
covering both macroeconomic and microeconomic policies.
1) Country Credit Rating: Institutional Investor magazine produces a semi-annual
survey of bankers' and fund managers' perceptions of a country's risk. A good
credit rating reflects good overall economic policy conducive to growth.
2) Inflation: The rate of increase in prices over 1 year. Of the 16 indicators, this is
the only one where performance is not judged relative to the median. Instead, a
country must have inflation of less than 2 0 % in order to pass the indicator.
3) Budget Deficit/GDP: A country's overall budget deficit is averaged over a threeyear period.
4) Days to start a business: Compiled by the Private Sector Advisory Service of the
World Bank Group, which works with local lawyers and other professionals.
5) Trade Policy: The Heritage Foundation's Index of Economic Freedom measures
a country's openness to international trade based on average tariff rates and nontariff barriers to trade.

6) Regulatory Quality Rating: The World Bank Institute measures the burden on
business arising from, among others, licensing requirements, labor regulations, and
bureaucratic corruption.
I should emphasize that none of these indicators is without some problem. There
m a y be gaps or lags in the data, or trends not reflected in the data, which m a y be
material for assessing performance. The M C C Board of Directors will have ultimate
responsibility to exercise judgment and look behind the numbers to m a k e a final
recommendation to the President on qualifying countries.
Eligible Countries
The MCA aims to reduce poverty and is aimed at poor countries. In FY'04,
countries eligible to borrow from the International Development Association (IDA),
and which have per capita incomes below $1,435 (the historical IDA cutoff), will be
considered. This is currently 74 countries.
In FY'05, all countries with incomes below $1,435 will be considered, which adds
another 13 countries. In FY'06, all countries with incomes between $1,435 and
$2,975 will be eligible to compete as a separate pool. This group currently consists
of 29 countries. It is important to note that countries prohibited from receiving
assistance by current statutory restrictions will not be eligible.
Measuring Results
The success of any foreign aid program requires that we measure results. This is a
core component of the Administration's development strategy and is one that w e
have pushed in the Multilateral Development Banks (MDBs). For example, the
United States m a d e part of its financial commitment to the IDA-13 replenishment in
the form of an incentive contribution that calls for making progress towards a set of
development indicators in health, education, and private sector development. The
agreement also called for the initiation of a performance measurement system
which will develop ultimately into a c o m m o n set of outcome indicators that can be
compared across countries.
The MCA furthers this focus on measuring results by making sure that every MCA
contract states in quantitative terms the expected outcomes. W e will require a clear
strategy for gathering baseline data and measuring progress toward stated results
and assessing the reasons for success and failure. W e will require projects to be
structured in a way that steps up or cuts back funding contingent on achieving
results. Evaluation of results will allow the M C A to incorporate lessons learned into
ongoing and future operations. All measurement and evaluation reports, as well as
the terms of each contract, will be m a d e public in the United States and in the host
country.
In addition to coordinating with USAID, coordination of assistance with other donors
will be vital to the success of the M C A . Each recipient country will be responsible
for managing coordination among the M C A and other donors to maximize impact
and avoid duplication of efforts.
Conclusion
In summary, the MCA is an operational action plan to use taxpayer resources to
help increase economic growth and reduce poverty around the world. I urge your
favorable consideration of the "Millennium Challenge Act of 2003."

F R O M THE OFFICE OF PUBLIC AFFAIRS
To view or print the PDF content on this page, download the free Adobe® Acrobat® Reader®.
June 11, 2003
JS-474
President's Working Group on Financial Markets' Letter on Energy Bill
Amendment

LETTER TO C R A P O A N D MILLER

Related Documents:
• LETTER TO CRAPO AND MILLER

Department of the Treasury
Board of Governors of the Federal Reserve System
U.S. Securities and Exchange Commission
Commodity Futures Trading Commission
June 11, 2003

The Honorable Michael D. Crapo
United States Senate
111 Russell Senate Office Building
Washington, D C 20510
The Honorable Zell B. Miller
United States Senate
257 Dirken Senate Office Building
Washington, D C 20510
Dear Senators Crapo and Miller:
Thank you for your letter of June 10,2003, requesting the views of the President's
Working Group on Financial Markets ( P W G ) on proposed Senate A m e n d m e n t #876 to S.14, the
pending energy bill. A s this amendment is similar to a proposed amendment on which you
sought the views of the P W G last year, w e reassert the positions expressed in the P W G ' s
response dated September 18, 2002, a copy of which is enclosed. The proposed amendment
could have significant unintended consequences for an extremely important risk management
market ~ serving businesses, financial institutions, and investors throughout the U.S. economy.
For that reason, w e believe that adoption of this amendment is ill-advised.
W e would also point out that, since w e wrote that letter last year, various federal agencies
have initiated actions against wrongdoing in the energy markets. A s you note, the C F T C has
brought formal actions against Enron, Dynegy, and El Paso for market manipulation, wash (or
roundtrip) trades, false reporting of prices, and operation of illegal markets. The Securities and
Exchange Commission, the Federal Energy Regulatory Commission, and the Department of
Justice have also initiated formal actions in the energy sector. S o m e of these actions have
already resulted in substantial monetary penalties and other sanctions. These initial actions alone
make clear that wrongdoers in the energy markets are fully subject to the existing enforcement
authority of federal regulators.
The Commodity Futures Modernization Act of 2000 brought important legal certainty to
the risk management marketplace. Businesses, financial institutions, and investors throughout
the economy rely upon derivatives to protect themselves from market volatility triggered by
unexpected economic events. This ability to manage risks makes the economy more resilient

2
and its importance cannot be underestimated. In our judgment, the ability of private counterparty
surveillance to effectively regulate these markets can be undermined by inappropriate extensions
of government regulation.
Yours truly,

John W . S n o w
Secretary
Department of the Treasury

^L#

'frpets£c&m*~William H. DJ
Chairman
U.S. Securities and Exchange
Commission

Enclosure

Alan Greenspan
Chairman
Board of Governors of the
Federal Reserve System

•*\-«

Jamas E.VNewsome
Chaif
Commodity Futures Trading
Commission

Department of the Treasury
Board of Governors of the Federal Reserve System
U.S. Securities and Exchange Commission
C o m m o d i t y Futures Trading Commission
September 18, 2002
The Honorable Michael D. Crapo
United States Senate
111 Russell Senate Office Building
Washington, D C 20510
The Honorable Zell B. Miller
United States Senate
257 Dirksen Senate Office Building
Washington, D C 20510
Dear Senators Crapo and Miller:
In response to your letter of September 13, we write to express our serious
concerns about the legislative proposal to expand regulation of the over-the-counter
( O T C ) derivatives markets that has recently been proposed by Senators Harkin and
Lugar.
We believe that the OTC derivatives markets in question have been a major
contributor to our economy's ability to respond to the stresses and challenges of the last
two years. This proposal would limit this contribution, thereby increasing the
vulnerability of our economy to potential future stresses.
The proposal would subject market participants to disclosure of proprietary
trading information and n e w capital requirements. W e do not believe a public policy
case exists to justify this governmental intervention. The O T C markets trade a wide
variety of instruments. M a n y of these are idiosyncratic in nature. These customized
markets generally do not serve a significant price discovery function for non-participants,
nor do they permit retail investors to participate. Public disclosure of pricing data for
customized O T C transactions would not improve the overall price discovery process and
m a y lead to confusion as to the appropriate pricing for other transactions, as terms and
conditions can vary by contract. The rationale for imposing capital requirements is
unclear to us, and the proposal's capital requirements also could duplicate or conflict with
existing regulatory capital requirements.
The trading of these instruments arbitrages away inefficiencies that exist in all
financial and commodities markets. If dealers had to divulge promptly the proprietary
details and pricing of these instruments, the incentive to allocate capital to developing
and finding markets for these highly complex instruments would be lessened. The result

2
would be that the inefficiencies in other markets that derivatives have arbitraged away
would reappear.
It is also unclear who would benefit from the proposed disclosures and regulations
other than whoever simply copied existing products and instruments for their o w n shortterm advantage. Weakening the protection of proprietary intellectual propertyrightsin
the market arena would undercut a complex of highly innovative markets that is among
this nation's most valuable assets.
While the derivatives markets may seem far removed from the interests and
concerns of consumers, the efficiency gains that these markets have fostered are
enormously important to consumers and to our economy. W e urge Congress to protect
these markets' contributions to the economy, and to be aware of the potential unintended
consequences of current legislative proposals.
Yours truly,

U.tOtoujt
Alan Greenspan
Chairman
Board of Governors of the
Federal Reserve System

fPaul H. O'Neill
" Secretary
Department of the Treasury

2^Chairman{
'U.S. Securities and Exchange
Commission

cc:

Senator Daschle
Senator Feinstein
Senator G r a m m
Senator Harkin
Senator Lugar
Senator Lott
Senator Sarbanes

<\hi
Jamfcs E. N e w s o m e
lirman
Commodity Futures Trading
Commission

PRESS R O O M

F R O M THE OFFICE OF PUBLIC AFFAIRS
June 11, 2003
JS-476
U.S. International Reserve Position
The Treasury Department today released U.S. reserve assets data for the latest week. As indicated in this table, U.S. reserve assets
totaled $82,566 million as of the end of that week, compared to $82,510 million as of the end of the prior week.
I. Official U.S. Reserve Assets (in US millions)

TOTAL

May 30,2003

June 6, 2003

82,510

82,566

1. Foreign Currency Reserves1

Euro

Yen

TOTAL

Euro

Yen

a. Securities

7,802

13,163

20,964

7,769

13,238

Of which, issuer headquartered in the U.S.

TOTAL
|~~ 21,007

b. Total deposits with:
b.i. Other central banks and BIS

12,702

2,643

15,345

12,631

2,658

15,289

b.ii. Banks headquartered in the U.S.

b.ii. Of which, banks located abroad

b.iii. Banks headquartered outside the U.S.

b.iii. Of which, banks located in the U.S.

23,383

23,429

11,775

11,778

11,043

2. IMF Reserve Position

2
2

3. Special Drawing Rights (SDRs)
4. Gold Stock

5. Other Reserve Assets

II. Predetermined Short-Term Drains on Foreign Currency Assets
May 30, 2003
Euro

Yen

June 6, 2003
TOTAL

Euro

Yen

1. Foreign currency loans and securities

TOTAL
0

2. Aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the U.S. dollar:
2. a. Short positions

2.b. Long positions

3. Other

° I

Contingent Short-Term Net Drains on Foreign Currency Assets
May 30, 2003

June 6, 2003

Yen

Euro
1. Contingent liabilities in foreign currency

TOTAL

Euro

Yen

TOTAL

0
0

1.a. Collateral guarantees on debt due within 1
year
1 .b. Other contingent liabilities
2. Foreign currency securities with embedded
options
3. Undrawn, unconditional credit lines

•

4.a.2. Written calls
4.b. Long positions
4.b.1. Bought calls
4.b.2. Written puts

Notes:
1/ Includes holdings of the Treasury's Exchange Stabilization Fund (ESF) and the Federal Reserve's System Open Market Account
(SOMA), valued at current market exchange rates. Foreign currency holdings listed as securities reflect marked-to-market values, and
deposits reflect carrying values. Foreign Currency Reserves for the latest week m a y be subject to revision. Foreign Currency
Reserves for the prior week are final.
2/The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF and are
valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest week reflect any
necessary adjustments, including revaluation, by the U.S. Treasury to the prior week's IMF data. IMF data for the latest w e e k m a y be
subject to revision. IMF data for the prior week are final.
3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 12, 2003
JS-477
U.S. Treasury Secretary John Snow Remarks at the Brady Bond Retirement
Ceremony, Mexico City, Mexico
Good Morning. I am pleased to join President Fox, Secretary Gil Diaz, IMF
Managing Director Koehler and World Bank President Wolfensohn for this historic
occasion in the economic development of our friend, our ally, our partner Mexico.
The early retirement of the last of Mexico's dollar-denominated Brady bonds
is an occasion for celebration. These bonds, named for Nicholas Brady - one of
m y predecessors in the office of United States Treasury Secretary - were devised
to meet the needs of Latin America in a difficult economic period. W e are here
today to formally recognize the resilience of the Mexican economy, in particular, as
it has finished repaying these debts ahead of schedule, and is clearly on a path to a
bright future.
Brady Bonds represent the long-standing spirit of cooperation between our
nations and the international financial institutions as w e have worked together to
overcome our challenges. That spirit of cooperation is still present today, even as
the Mexican economy has strengthened and progressed to a new stage.
Since 1990, Mexico has taken many important measures to strengthen its
economy: floating its exchange rate, opening markets, privatizing enterprises,
resolving its banking crisis and strengthening its financial sector, as well as
providing a sound fiscal and monetary framework.
Today, Mexico and the United States are working together more than ever
before. In the fall of 2001, our two Presidents agreed on a new "Partnership for
Prosperity," to ensure that the economic benefits from our close ties reach all
regions of Mexico. Lowering the costs of remittance flows from the United States to
Mexico has been one goal of the program. Remittance flows account for over one
percent of Mexican G D P , and the cost of these remittances, thanks in part to the
Partnership for Prosperity, have fallen by half. Remittance flows have more than
doubled since the mid-1990s, reaching $10 billion last year.
Trade has also been an important part of our relationship for many years,
with the Mexican government taking important strides in liberalizing trade through
N A F T A and integrating Mexico with the global economy. These measures have
been enormously successful - exports have increased four-fold since 1990, while
trade has risen to over half of Mexico's G D P . Reflecting Mexico's strengthened
economy and the rewards for these efforts, growth has accelerated in the 1990s to
double the average rate of the decade before.
The retirement of these bonds is a measure of their success. Much more,
however, this retirement is a symbol of Mexico's success, and the success of the
global marketplace. Today's occasion is possible in part because of advances in
the international financial system which allows nations such as Mexico to borrow
funds, if needed, with a cost that accurately reflects national creditworthiness and
market competition.
The recent history of other nations has shown us that crises do still occur.
Recognizing that debt restructurings may occur again, the United States, the
multilateral development banks and our international partners for development have
been working to create new, market-oriented procedures for restructuring sovereign
debts. Bonds with collection action clauses, for example, will be easier and less
costly for all parties to renegotiate.

Implementing such market-oriented reforms will allow nations to recover
from economic stumbles more quickly, and with less shock to their citizens and the
global financial system. There will, w e hope, not be a need for a n e w round of
Brady Bonds.
And just as Mexico was the first of 17 countries to reach agreement on the
Brady Bond program, in March of 1990, the new bonds that Mexico has issued to
pay off the Brady Bonds are among the first to incorporate collective action
clauses. These new bonds are simpler, more efficient, more liquid, and less costly
to the people of Mexico.
Mexico's leadership in these and other matters is a sign of the kind of
flexibility and innovation that promises to keep the country moving forward.
In closing, let me underscore this: Mexico is an important partner to the
Untied States. Our relationship is wide ranging, and w e intend on strengthening it.
M y visit here represents the historic nature of our partnership. W e are committed to
Mexico's success, and w e will continue to work together to support our mutual
agenda.
Mexico and the United States are truly partners for prosperity, and the
people of America applaud your success on today's economic milestone.
Thank you.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 13, 2003
JS-478
Treasury Secretary John Snow to Help Launch Health Coverage Tax Credit
Registration in Pittsburgh on Monday
Treasury Secretary John Snow will launch Pennsylvania's registration process for
the Health Coverage Tax Credit Program (HCTC) that will help cover the cost of
health insurance premiums for many Pennsylvania residents.

WHAT:
Treasury Secretary Snow Launches Pennsylvania's Health Insurance Registration

WHEN:
Monday, June 16, 2003 at 4:00 p.m.

WHERE:
Robert Morris University, Sewall Center, Center Suite
6001 University Blvd., Moon Township, PA 15108
INVITED PARTICIPANTS:
President Edward A. Nicholson, Ph.D., Robert Morris University
Secretary Stephen M. Schmerin, Pennsylvania Department of Labor and Industry
Senator Rick Santorum, United States Senate
Senator Arlen Specter, United States Senate
The Trade Adjustment Assistance Act President Bush signed into law last year
includes the new Health Coverage Tax Credit (HCTC). This program provides an
advanced payment of 6 5 % of the premium cost for a qualified health plan for
individuals who are eligible to receive Trade Adjustment Assistance (TAA) benefits
or certain individuals who receive pension benefit payments from the Pension
Benefit Guaranty Corporation (PBGC). Approximately 21,000 workers and their
families in Pennsylvania are estimated to qualify for the program.
The registration period for eligible Pennsylvanians commences with this event and
the H C T C advance payments will be begin August 2003. For more information on a
particular state and the health insurance programs that qualify, please visit the
H C T C website at www.irs.gov and enter IRS Keyword: H C T C .

F R O M T H E OFFICE O F PUBLIC A F F A I R S
To view or print the PDF content on this page, download the free Adobe® Acrobat® Reader®.
June 16, 2003
JS-479
United States Treasury Secretary John W. Snow
Remarks Regarding the Health Coverage Tax Credit
Pittsburgh, P A
Good afternoon. It is a pleasure to be here with you. President Nicholson, let me
begin by thanking you and Robert Morris University for hosting this event.
Let me also thank all of you here today for your participation in this event calling
attention to the President's Health Coverage Tax Credit. W e think it's going to
provide important help to people in Pennsylvania and across America. Of course,
the very best help for those who are out of work or insecure about their job is to
create conditions in which companies and entrepreneurs invest to create n e w jobs
and make existing jobs more secure.
That's why President Bush's Jobs and Growth plan is so important. By lowering tax
rates on workers and small businesses, reducing the marriage penalty, and
increasing the child tax credit, taxpayers will keep more of what they earn and use it
as they see fit. That is what the President's Jobs and Growth Plan does. N o w that
the President's plan has been signed into law, I a m confident that w e are going to
see a pick-up in economic growth and investment, and that is going to lead to new
and better jobs here in Western Pennsylvania and all across America. W h e n the
new tax plan takes effect - which will be soon - I a m confident we're going to see
those "help wanted" signs go up again in greater and greater numbers.
I am delighted to be here today with Pennsylvania's two outstanding senators, Arlen
Specter and Rick Santorum. Pennsylvania is fortunate to have two such extremely
effective members of the U.S. Senate. They are both great public servants and a
great credit to the Commonwealth in all they do. I want to publicly thank Senator
Specter and Senator Santorum for their strong support of President Bush's Jobs
and Growth plan. The people of the state of Pennsylvania and President Bush alike
have been able to count on these senators to do the right thing for the American
economy and for the citizens of Pennsylvania.
But we also know that for families lacking health coverage, especially when the
breadwinner is out of work and looking, finding a new job can seem a long way off.
Family health care needs can't wait for a change in the business cycle. W e know
that and w e care about helping Americans get the health care they need right now.
That is why the Congress passed and the President signed the Health Coverage
Tax Credit, which helps folks w h o are eligible to receive Trade Adjustment
Assistance or pension benefit payments from the Pension Benefit Guaranty
Corporation. People in Pennsylvania eligible for these two programs - that's about
21,000 across the state - now can obtain a tax credit covering 6 5 % of qualified
health insurance premiums. They can get this assistance in two ways. First, they
can claim it on their tax forms in a lump sum next year on April 15th. Better yet,
beginning in August, the Health Coverage Tax Credit program will allow eligible
individuals and their families to directly apply the credit to their health insurance
premiums every month. This advance payment option could make a big difference
for families that are just getting by month-to-month or week-to-week.

I'm pleased to note that Pennsylvania is one of the first states to authorize
participating health plans in the program, and the first where w e will launch an early
registration program. Your leaders are on the forefront of innovative health care
policy and Pennsylvanians, especially Pennsylvanians w h o need s o m e extra help
right now, are going to be the beneficiaries. I want to recognize the state Insurance
Commissioner, the Secretary of Labor and Industry, the Steelworkers Unions as
well as Pennsylvania's Blue Cross and Blue Shield's participating health plans thank you all for working together to bring the Health Coverage Tax Credit Program
to Pennsylvania.
Today's event is the first on-site registration for the Health Coverage Tax Credit in
Pennsylvania. Starting tomorrow, there will be registration sites, including Robert
Morris University, out across Pennsylvania, and w e hope to reach out to all eligible
Pennsylvanians by August. This program is a real innovation in tax policy, one that
w e hope will lead the way for other innovations that help real people obtain the
health care coverage that they need in a flexible and reliable way.
In fact, the President's budget proposes $89 billion over ten years for new health
tax credits to m a k e private health insurance more affordable for Americans w h o do
not have employer-provided insurance or public insurance. This is a serious
proposal to deal with a serious concern, and it's gaining bipartisan support. I know a
lot of folks here today have worked in the steel industry, and you've helped build
this country, to m a k e it as strong as it is. The Health Coverage Tax Credit is one
way w e can give back to you. It's a bold step in the direction of affordable health
care for all Americans.
Thank you.
Related Documents:
• PA Program Kit
• P A Registration Form
• Letter Penn
• P A Session Letter

Federal • State • Private Industry

Health Coverage
Tax Credit

The new Health Coverage Tax Credit (HCTC) could pay 6 5 % of the eligible premium you pay for a
qualified health plan. This federal tax credit was passed by Congress and signed into law by President
George W . Bush on August 6, 2002.
Am I Eligible?

We believe you may be eligible because you receive either Trade Adjustment Assistance (TAA) b
or pension benefit payments from the Pension Benefit Guaranty Corporation (PBGC). However, you
must meet additional requirements to be eligible to receive the H C T C . O n e of these requirements is
that you be enrolled in a qualified health plan. Only certain types of health plans qualify for the
H C T C . Review page 6 of the enclosed Program Kit to determine if your current health plan is qualified. In addition, a list of health plans currently qualified for H C T C by the state of Pennsylvania is
provided on the next page. This list is updated on a regular basis. For the most current list, visit our
website or call the H C T C Customer Contact Center.
Two Options

If you are eligible and are enrolled in a qualified health plan, you have two options for claim
the credit:
1. Claim the HCTC on your federal tax return for eligible payments you made directly to a
qualified health plan during the year. (This is also the w a y to obtain the tax credit for any
eligible premiums you paid for a qualified health plan before you registered in the H C T C
program.)
2. Claim and receive the HCTC in advance by registering for the HCTC program. This program combines your share of your health plan premium for each m o n t h with a 6 5 %
advance payment of the federal tax credit. The combined payment will then be sent to the
health plan each m o n t h on your behalf.
Register Now for the Advance Payment Option

If you meet the eligibility criteria and are enrolled in a qualified plan, complete the enclos
Registration Form using the Program Kit as a guide. You can bring your completed Registration
Form to an H C T C Registration Session in late June or early July. You will receive a separate letter from us that provides details about these sessions.
If You Cannot Attend a Registration Session

If you cannot attend an HCTC Registration Session, we recommend you mail your Registration Form
to the H C T C program in the enclosed postage-paid envelope by August 1.
Until you receive your first invoice from the HCTC program, you should continue paying
1 0 0 % of your health plan p r e m i u m directly to your health plan administrator.

For information on the HCTC program or the enclosed materials, please visit the IRS.gov website
www.irs.gov and enter IRS Keyword: H C T C . You m a y also call the H C T C Customer Contact Center at
1-866-628-HCTC (TDD/TTY: 1-866-626-HCTC).

Federal • State • Private Industry

Health Coverage
Tax Credit

H i g h m a r k Blue Cross Blue Shield
For individuals who are currently not 1-800-876-7639
Highmark Blue Cross Blue Shield members
For current Highmark Blue Cross Blue Shield members:

1-800-544-6679

For written requests for information:

Highmark Blue Cross Blue Shield
Direct Pay Programs
120 Fifth Avenue Place
Pittsburgh, PA 15222

Counties Served: Allegheny, Armstrong, Beaver, Bedford, Blair, Butler, Cambria, Cameron, Centre, Clarion,
Clearfield, Crawford, Elk, Erie, Fayette, Forest, Greene, Huntingdon, Indiana, Jefferson, Lawrence, McKean,
Mercer, Potter, Somerset, Venango, Warren, Washington, Westmoreland
Highmark Blue Shield
For individuals who are currently not 1-888-269-8412
Pennsylvania Blue Shield members
For current Pennsylvania Blue Shield members:

1-877-986-4571

For written requests for information:

Highmark Blue Shield
Direct Pay Programs
120 Fifth Avenue Place
Pittsburgh, PA 15222

Counties Served: Adams, Berks, Centre, Columbia, Cumberland, Dauphin, Franklin, Fulton, Juniata, Lancaster,
Lebanon, Lehigh, Mifflin, Montour, Northampton, Northumberland, Perry, Schuylkill, Snyder, Union, York
Independence Blue Cross
Within the five-county Philadelphia area: 215-569-8189
Outside of the five-county Philadelphia area:

1-800-556-5455

For written requests for information:

Independence Blue Cross
P.O. Box 41452
Philadelphia, PA 19101-8822

Counties Served: Bucks, Chester, Delaware, Montgomery, Philadelphia
Blue Cross of Northeastern Pennsylvania
Weekdays, 8am to 5pm: 1-800-829-8599
T D D - weekdays, 8 a m to 5pm:

1-866-280-0486

For written requests for information:

Blue Cross of Northeastern Pennsylvania
19 North Main Street
Wilkes-Barre, PA 18711

Counties Served: Bradford, Carbon, Clinton, Lackawanna, Luzerne, Lycoming, Monroe, Pike, Sullivan,
Susquehanne, Tioga, Wayne, Wyoming
Capital Blue Cross
All Callers: 1-800-962-2242
For written requests for information:

Capital BlueCross
P.O. Box 779519
Harrisburg, PA 17177-9519

H C T C
Federal • State • Private Industry

Health Coverage
Tax Credit

June 12, 2003

The Health Coverage Tax Credit (HCTC)
is coming to Pennsylvania and registration starts next week!
What is the HCTC?

The HCTC is a federal tax credit that was passed by Congress and signed into law by President G
W . Bush on August 6, 2002. W e believe you m a y be eligible because you have received either Trade
Adjustment Assistance (TAA) benefits or pension benefit payments from the Pension Benefit Guaranty
Corporation (PBGC).
How do I benefit from the HCTC?
If you meet certain requirements, the HCTC could pay 65% of the eligible premium you pay for a
qualified health plan.
Register Now for the Advance Payment Option
Watch for a mailing from the HCTC program. This mailing will include a HCTC Program Kit and
Registration Form. Important information about the program is also included to assist you in
claiming the credit. To claim the credit:

1) Complete the HCTC Registration Form to find out if you are eligible, using the Program Kit a
guide. If you believe you are eligible, bring the form to one of the on-site registration sessions in
Pennsylvania listed on the next page. These sessions are designed to:
• Provide information about the H C T C program,
• Help you determine if you are eligible to receive the credit,
• Provide answers to your questions about the H C T C Registration Form and process,
• Provide you with the opportunity to learn about and enroll in a state qualified health plan.
If you are not enrolled in a qualified health plan, but meet all of the other requirements for
H C T C , you m a y still benefit from attending a registration session. The state of Pennsylvania has
approved certain health plans for the H C T C program (listed on page 3). Representatives from
these plans will be available to assist you at the on-site registration sessions.
2) Attendance is not required at an on-site registration session. If you are unable to attend,
believe you meet the eligibility criteria and are enrolled in a qualified plan, complete the H C T C
Registration Form using the Program Kit as a guide. Mail your completed Registration Form to the
H C T C program in the postage-paid envelope included in your H C T C Program Kit.
What do I do if I still have questions?

For general information about the HCTC program, please visit the IRS web site at www.irs.gov an
enter IRS Keyword: H C T C . You m a y also call the H C T C Customer Contact Center at 1-866-628-HCTC
(TDD/TTY: 1-866-626-HCTC). If you do not register for the advance H C T C , you still m a y be eligible
to claim the tax credit using IRS Form 8885 w h e n you file your federal tax return, even if you do not
owe any federal income tax.

Federal • State • Private Industry

Health Coverage
Tax Credit

H C T C On-site Registration Sessions

Below is a list of locations, dates and times for scheduled on-site registration sessions. To h
serve you better, w e encourage you to attend during the time allotted based on the first letter of
your last name. Make-up sessions will take place as indicated. For directions, please call the n u m ber listed for the location you wish to attend.
On-site Registration Session:

Dates:

Times:

Last Name Beginning With:

Pittsburgh
Robert Morris University
John Jay Center (Ballroom)
6001 University Blvd.
Moon Township, PA 15108
412-262-8264
Johnstown
Westside Elementary School
196Westgate Drive
Johnstown, PA 15905
814-535-7621

June 17, 2003

1:00 PM-6:00 PM

A-J

June 18,2003

9:00

- 6:00

June 19,2003

9:00

- 5:00

K-Q
R-Z; Make-up

June 23,2003
June 24, 2003
June 25, 2003

1:00 PM-- 6:00 P M

9:00
9:00

-6:00 P M
AM -

June 26, 2003

9:00

Steelton
U S W A Local 1688
200 Gibson Street
Steelton, PA 17113
717-939-9366

June 23,2003

1:00 P M --

June 24,2003

9:00

June 25,2003

AM -6:00 P M

-- 5:00

A--E
F--M
N -U
V--Z; Make-up

6:00

-- 6:00

9:00

-- 6:00

June 26,2003

9:00

-- 5:00

A--E
F--M
N--U
V--Z; Make-up

Bethlehem
U S W A Local 2599
53 East Lehigh Street
Bethlehem, PA 18018
610-867-3772

July 8, 2003
July 9, 2003
July 10, 2003

1:00 P M --

6:00 P M
9:00 A M -- 6:00 P M
9:00 A M -- 5:00 P M

A--J
K--Q
R--Z; Make-up

Coatesville
U S W A Local 1165
750 Charles Street
Coatesville, PA 19320
610-384-9180

July 7,2003

1:00 P M --

July 8, 2003

9:00

-- 6:00

July 9, 2003

9:00

-- 6:00

July 10,2003

9:00

-- 5:00

A--E
F-• M
N--U
V--Z; Make-up

Erie
Gannon University
Palumbo Academic Center,
2nd floor
824 Peach Street
Erie, PA 16541-0003
814-871-7000

July 15, 2003

1:00 P M --

July 16, 2003
July 17, 2003

9:00
9:00

Wilkes-Barre July 14,2003
Luzerne County Community College ju|y 15, 2003
Conference Center
1333 South Prospect St.
Nanticoke, PA 18634-3899
570-740-0476

6:00

-- 6:00

-- 5:00

A--J
K--Q
R--Z; Make-up

1:00 P M - 8 : 0 0 P M

A-M

9:00

N - Z ; Make-up

- 8:00

Federal • State • Private Industry

Health Coverage
Tax Credit

Pennsylvania Qualified Health Plans
Below is a list of the health plans that have been qualified by the state of Pennsylvania.
Representatives from these plans will be on-site to answer questions and enroll y o u in a
state qualified health plan.

State Qualified Health Plan:

Counties Served:

Contact Information:

Blue Cross of Northeastern
Pennsylvania

Bradford, Carbon, Clinton,
Lackawanna, Luzerne, Lycoming,
Monroe, Pike, Sullivan,
Susquehanna, Tioga, Wayne,
Wyoming

19 North Main Street
Wilkes-Barre, PA 18711
1-800-829-8599
TDD 1-866-280-0486

Capital Blue Cross

Adams, Berks, Centre, Columbia, P.O. Box 779519
Harrisburg, PA 17177-9519
Cumberland, Dauphin, Franklin,
Fulton, Juniata, Lancaster,
1-800-962-2242
Lebanon, Lehigh, Mifflin, Montour,
Northampton, Northumberland,
Perry, Schuylkill, Snyder, Union,
York

H i g h m a r k Blue Cross Blue
Shield

Allegheny, Armstrong, Beaver,
Bedford, Blair, Butler, Cambria,
Cameron, Centre, Clarion,
Clearfield, Crawford, Elk, Erie,
Fayette, Forest, Greene,
Huntingdon, Indiana, Jefferson,
Lawrence, McKean, Mercer,
Potter, Somerset, Venango,
Warren, Washington,
Westmoreland

H i g h m a r k Blue Shield

Independence Blue Cross

Direct Pay Programs
120 Fifth Avenue Place
Pittsburgh, PA 15222
1-800-876-7639 (Non Members)
1-800-544-6679 (Current Members)

Adams, Berks, Centre, Columbia,
Cumberland, Dauphin, Franklin,
Fulton, Juniata, Lancaster,
Lebanon, Lehigh, Mifflin, Montour,
Northampton, Northumberland,
Perry, Schuylkill, Snyder, Union,
York

Direct Pay Programs
120 Fifth Avenue Place
Pittsburgh, PA 15222

Bucks, Chester, Delaware,
Montgomery, Philadelphia

P.O. Box 41452
Philadelphia, PA 19101-8822

1-800-269-8412 (Non Members)
1-877-986-4571 (Current Members)

215-569-8189 (Within the fivecounty Philadelphia area)
1-800-556-5455 (Outside of the
five-county Philadelphia area)
In addition, s o m e C O B R A continuation coverage, individual coverage or spousal coverage
m a y qualify for the tax credit. Please review the H C T C Program Kit and Registration F o r m
carefully to determine if your health coverage qualifies.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC A F F A I R S
To view or print the PDF content on this page, download the free Adobe® Acrobat® Reader®.
June 18, 2003
JS-480
Treasury and IRS Mail New Lower Tax Withholding Tables
To Small Businesses
Today, the Treasury Department and the Internal Revenue Service mailed the new
lower tax withholding tables to small businesses. Approximately 8.5 million copies
of IRS Publication 15-T, "New Withholding Tables for 2003" are being mailed to
small businesses. The new withholding tables were posted on Treasury and IRS
websites on May 28, 2003, when the President signed into law the Jobs and
Growth Tax Relief Reconciliation Act of 2003.
The new withholding tables tell employers and payroll administrators how much
less in federal income taxes to withhold from workers' wages. Employers should
use these new tables as soon as they can work them into their payroll systems, but
not later than July 1, 2003. In the next few weeks, workers will begin to see more
money in their paychecks.
These withholding changes alone are expected to reduce workers' taxes and put
$22 billion into the economy this year, and $35 billion next year. Under the Jobs
and Growth Act, a family of four making $40,000 will see their taxes reduced by
$1,133 in 2003, a reduction of 9 6 % .
Among other things, the Jobs and Growth Tax Relief and Reconciliation Act
immediately in 2003:
• expands the 10-percent bracket from $6,000 to $7,000 for single filers and
from $12,000 to $14,000 for married taxpayers filing joint returns, meaning
the lowest tax rate will apply to a larger portion of workers' incomes;
• lowers the tax rate for married taxpayers filing jointly from 2 7 % to 1 5 % on
taxable incomes between $47,450 and $56,800;
• lowers the 2 7 % rate to 2 5 % on taxable income up to $68,800 for single
taxpayers ($114,650 for married taxpayers filing joint returns);
• lowers the 3 0 % rate to 2 8 % on taxable income up to $143,500 for single
taxpayers ($174,700 for married taxpayers filing jointly);
• lowers the 3 5 % rate to 3 3 % on taxable income up to $311,950;
• lowers the 38.6% rate to 3 5 % on taxable income over $311,950;
• reduces the marriage penalty by expanding the standard deduction from
$7,950 to $9,500 for married individuals; and
• lowers tax rates for millions of small businesses. Twenty-three million small
business owners would benefit from the tax act (including all the provisions
in the bill).

-30Related Documents:
• Publication 15-T "New Withholding Tables for 2003"

Contents

Department of the Treasury
Internal Revenue Service

Publication 15-T
(Rev. June 2003)
Cat. No. 32112B

New
Withholding
Tables
(For W a g e s Paid Through
D e c e m b e r 2004)

How To Use the Income Tax Withholding
Tables

Revised Income Tax Withholding Tables:
Percentage Method
W a g e Bracket Method

3
5

Alternative Methods for Figuring Withholding:
Formula Percentage Method Tables
W a g e Bracket Percentage Method Tables
Combined Withholding Tables
Indian Gaming Casino Profit Tables 58

25
28
37

Form W-4 61
Notice to Employees 63

Introduction
This publication contains revised withholding rates and
tables. Employers should begin using the withholding tables in this publication as soon as possible. The change is
a result of the Jobs and Growth Tax Relief Reconciliation
Act of 2003. This publication is a supplement to Circular E
(Pub. 15), Employer's Tax Guide, Pub. 15-A, Employer's
Supplemental Tax Guide, and Circular A (Pub. 51), Agricultural Employer's Tax Guide.
Because this publication combines withholding
tables from both Circular E (Pub. 15) and Pub.
WiVHHH
15-A,
table may be on a different
page from
that your
shownapplicable
in those publications.

Notice to Employers

Make the notice on page 63 available to employees so that
they will be aware of how the new law affects their withholding. A copy of Form W-4, Employee's Withholding
Allowance Certificate, is included on pages 61 and 62.
Employees may submit a new Form W-4 to ensure that the
correct amount of tax is being withheld from their pay.
Note: The 2003 Advance Earned Income Credit Payment Tables and the 2003 Form W-4 are not being revised.

Other 2003 Withholding Rate
Changes
Get forms and other information
faster and easier by:
Computer * www.irs.gov or FTP*ftp.irs.gov
FAX • 703-368-9694 (from your fax machine)

textile
i> THX Payment System

www.irs.gov/efile

for Business

Supplemental wages. Effective for wages paid after May
28, 2003 (or as soon as possible thereafter), the supplemental wage flat withholding rate is decreased to 2 5 % .
See Circular E (Pub. 15) for more information on supplemental wages.
Backup withholding. Effective for payments after May
28, 2003 (or as soon as possible thereafter), the backup
withholding rate is decreased to 2 8 % . See the General
Instructions for Forms 1099,1098, 5498, and W-2G, for
more information on backup withholding.

BHHHHHHHHMPHHBHV»
PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 18, 2003
JS-481
Treasury Officials in Ohio to Salute Financial Education Program
U.S. Treasurer Rosario Marin and Treasury Assistant Secretary for Financial
Institutions W a y n e Abernathy will be in Columbus, O H on Monday, June 23, 2003
to formally salute the Ohio Credit Union League's Latino Financial Literacy Program
with an honorary certificate of recognition for its efforts in teaching financial
education to Columbus' Hispanic community.
Following the presentation of the certificate, Treasurer Marin and Assistant
Secretary Abernathy will assist in teaching a Spanish-language financial education
class where students are learning about saving, managing money and handling
credit. Representing the fastest growing ethnic population in the United States,
Hispanics have a combined purchasing power of more than $450 billion. Yet
research and surveys reveal that 43 percent of Hispanics in the United States
report knowing little about retirement planning, and as many as 25 percent do not
have a bank account.
The Treasury presentation will take place before the class begins, at 6:45 pm at the
Shepard Church of the Nazarene, 425 South Hamilton Rd., Gahanna. Treasury
officials and Ohio Credit Union League representatives will be available for media
interviews at that location from 6:30-6:45 pm.
The Latino Financial Literacy Program, now in its second year, is a four-session
course providing instruction on financial goals and spending; developing a budget;
establishing and maintaining a good credit history; and managing a bank account
and other financial instruments. In its first year, 225 people attended the course and
received a certificate of graduation. The program is sponsored by the Ohio Credit
Union League in partnership with the Ohio State University Extension Office.
The Treasury Department in 2002 established the Office of Financial Education to
strengthen the financial literacy of all Americans, and to provide guidance to
organizations providing financial education programs. The Office works to ensure
that people can gain the practical knowledge and skills that they need to make
informed financial choices throughout various life stages. It focuses on four key
areas: basic savings, credit management, homeownership and retirement planning.
More information can be found at www.treasury.gov.

F R O M T H E OFFICE O F PUBLIC A F F A I R S
To view or print the PDF content on this page, download the free Adobe® Acrobat® Reader®.
June 17,2003
JS-482
IMF Concludes Article IV Consultation with the United States

The Treasury Department is releasing today the concluding statement by the staff
of the International Monetary Fund following this year's Article IV Consultation with
the United States. This statement represents IMF staff's independent judgment and
assessment of U.S. economic performance and policies.
Release of this statement is consistent with the United States' longstanding, strong
support for enhanced transparency of the IMF. The United States also plans to
release the IMF staff report and Public Information Notice on the U.S. Article IV
review following the Executive Board's discussion of the mission later this summer.

Report(s):
• IMF 2003 Article IV Consultation Statement of the Fund Mission

INTERNATIONAL MONETARY FUND
2003 Article IV Consultation with the United States of America
Statement of the Fund Mission
June 16,2003

Overall assessment
1. The U.S. economy has continued to provide valuable support for global growth,
despite being hit by substantial shocks in recent years. Following the bursting of the stock
market bubble in 2000, the economy was further shaken by the September 11 attacks,
corporate failures, and spillovers from geopolitical uncertainties. Nonetheless, the remarkable
resilience and flexibility of the U.S. economy andfinancialsystem, as well as the exceptional
stimulus provided by monetary and fiscal policies, helped m a k e the 2001 downturn relatively
short and shallow. Productivity growth has remained robust, andfinaldomestic demand has
begun to recover.
2. However, the recovery has been uneven, and short-term prospects remain
uncertain. W e expect growth to rise above its potential rate in the latter half of 2003 and into
2004, with the relatively quick resolution of the Iraq war, lower oil prices, and continued
support from monetary and fiscal policies. Even so, it remains to be seen whether the
adjustments associated with the unwinding of the equity price bubble have fully run their
course, and downside risks remain a concern given the continued weakness of industrial
activity and employment conditions.
3. Medium-term growth prospects generally appear favorable, but recent tax cuts
heighten concern regarding the long-termfiscalproblem. T o be sure,fiscalpolicies have
provided valuable support to the
recovery so far, but the tax
Fiscal surpluses have given way to large deficits
Projected unified balance, in percent of G D P , fiscal years
package leaves the fiscal position
January 2001
even less prepared to cope with
the retirement of the baby-boom
generation later this decade.
Sustainedfiscaldeficits would
eventually crowd out investment
and erode U.S. productivity
growth. They would also tend to
boost the already large
FY2004 Budget
U.S. current account deficit,
ex. Social Security 1/
imposing a further drain on
global saving and increasing the
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
risk of disorderly exchange
1/ Fund staff estimates, based on the FY2004 Budget and the Jobs and Growth Reconciliation Act of 2003.
market conditions.

-2-

4.
Against this background, the challenge is to manage short-term risks to the outlook,
while establishing a credible approach to coping with longer-termfiscalpressures. In the
I M F staffs view, responding effectively to this challenge will help promote growth as well as
domestic and external sustainability, in line with the G 7 finance ministers' commitment to
cooperate to promote global economic growth.
• Monetary policy remains best placed to respond if the recovery falters, especially
given the low inflation environment.
• The fiscal policy priorities are to establish a framework to balance the budget,
excluding Social Security, over the nextfiveto ten years and to begin reforms of
entitlement programs that would allow them to meet impending demographic
pressures.
• Growth—both at home and abroad—would also benefit from U.S. leadership to
promote trade liberalization and development, as well as from continued efforts to
strengthen corporate governance and accounting standards.
Monetary policy and the exchange rate
5. While monetary policy has responded aggressively to the economic slowdown,
further easing may still be required if the recovery does not regain momentum.
With
inflation having fallen to near post-war lows and interest rates close to the zero bound, the
appropriate bias is toward aggressive and preemptive action to support a healthy recovery.
Although deflation risks in the United States appear modest, the F O M C ' s strong signal of its
readiness to act, and its willingness to use a broader range of policy instruments should
deflationary pressures intensify, is welcome.
6. A quantified statement of the Federal Reserve's longer-term inflation objective
would further anchor inflation expectations and help guard against deflation risks.
Aiming for an inflation rate in the range of 2 percent would still leave room for
countercyclical policy responses consistent with the Federal Reserve's dual mandate to
achieve price stability and full employment. Making this objective explicit would seem
especially helpful n o w that interest rates have m o v e d close to zero and deflation is a concern.
7. The dollar's recent
weakness has added to
uncertainty and may pose
challenges for short-term
macroeconomic policy
management among partner
countries. The authorities have
correctly emphasized that
exchange rates have responded to
market forces and that foreign
exchange market intervention has
little enduring influence. Indeed,
the dollar's depreciation

Boosting saving will facilitate the smooth adjustment of the
U.S. current account deficit.

1985

1990

1995

2000

-3-

represents a step toward bringing the U.S. current account deficit to a more sustainable
position. However, an abrupt weakening of investor sentiment and turbulent exchange
market conditions would have adverse consequences both domestically and abroad. A firm
commitment to reducing the U.S. fiscal deficit over the m e d i u m term, as well as strong
growth a m o n g partner countries, would help ensure that the eventual adjustment of the U.S.
current account deficit is orderly and rests on a strengthening of national saving rather than
weaker U.S. investment and growth.
Fiscal policies
8. The priority for fiscal policy should be to establish a credible framework for
returning the budget to balance, excluding Social Security, over the medium term and to
place retirement and health care systems on a sound financial footing. Although the
deficit/GDP ratio is projected to narrow somewhat in coming years, these projections are
based on assumptions—including a
Fiscal deficits remain significant, even on optimistic
sharp improvement in tax receipts
revenue and spending assumptions
projected
Unified budget, in percent of G D P , fiscal years
and strict limits on discretionary
22 outlays, excluding defense and
Revenues
homeland security—that m a y
21 Tight spending
prove optimistic, especially since
growth
20 supporting policies to ensure strict
""
~~~^ r
> ^ ^
Surplus
\
limits on discretionary spending
-"
19 v. Deficit
have yet to be defined. Moreover,
18 Expenditures
the retirement of the baby-boom
generation will place increasing
17
^-^
Rebound in
revenue
pressure on the Social Security and
1fi
(
Medicare systems in coming
1997
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
Source: FY2004 Budget of the U.S. Government.
decades, potentially causing debt
and deficits to rise rapidly. The
Long-term fiscal pressures can be moderated by measures
unfunded actuarial liability of these
to balance the budget excluding Social Security
200
programs is estimated at around
Debt held by the public and SS/HI trust funds, in percent of G D P
180 percent of G D P if measured
over a 75-year horizon and even
higher if measured over longer
periods. Balancing the budget,
excluding Social Security, over the
nextfiveto ten years would enable
a substantial reduction in the debt
ratio ahead of this demographic
shift and provide greater room to
implement the needed reform of
2002
2008
2014
2020
2026
2032
2038
2044
2050
Sources: Fund staff estimates; 2003 O A S D I Trustees Report; and 2003 SMI/HI Trustees Report.
entitlement programs.
V Based on the FY2004 Budget and the Jobs and Growth Reconciliation Act of 2003.

/^7K^

9. Tax and expenditure policies will need to be geared toward ensuring a sustainable
fiscal position. In this context, the recent tax package has added to uncertainty about the
future paths of tax rates a n d — a s recently illustrated in a study by the Congressional Budget
Office—is unlikely to boost output in a sustained manner unless its adverse budgetary impact

-4-

is offset over the m e d i u m term. Meeting thefiscalcosts of population aging will eventually
require revenue increases—preferably through base broadening measures that focus on
eliminating corporate and personal income tax preferences—and sustained spending
restraints.
10. The Budget Enforcement Act (BEA) disciplines could provide a credible framework
for ensuring that these medium-term trade-offs are faced squarely and that policies are
consistent withfiscalsustainability. The federal budget is highly transparent and represents
best practice in m a n y areas, but recent developments have raised questions about the
adequacy of fiscal discipline. In addition to the sharp increase in discretionary spending that
has occurred, recent tax cuts have been phased-in and subjected to sunsets in a manner that
leaves their longer-term budgetary consequences unclear. The caps on discretionary outlays
and pay-as-you-go requirements applied under the B E A contributed to the successful fiscal
consolidation during the 1990s. If restored and strengthened further, these disciplines could
usefully support thefiscaladjustment that is needed in the period ahead, particularly if
accompanied by broader efforts to re-establish a political consensus for budget balance.
11. Steps also should be initiated soon to strengthen the financial position of the Social
Security and Medicare systems. In the case of the Social Security system, relatively modest
changes in the system—including amendments to indexation formulas, increases in the
retirement age, or hikes in contributions rates—would be sufficient to close projected
shortfalls. However, these measures take considerable time to phase-in, and larger and more
painful adjustments will be required the longer decisions are delayed. The financial position
of the Medicare system is considerably worse, given the rapid growth of health care costs and
the modest share of benefits that are covered by individual contributions. In these
circumstances, any measures to enrich benefits, including for prescription drugs, should be
accompanied by credible measures to address the system's longer-termfinancialproblems.
12. Energy policies that operate on the demand-side—as well as the supply-side—would
help support both environmental and fiscal objectives. Current proposals embodied in the
Energy Bill aim to boost U.S. energy production and reduce emissions intensity, principally
through tax and other incentives for businesses. Measures that directly target c o n s u m e r s —
including energy-related taxes—also could be effective in aligning energy demand and supply
and achieving emissions goals, while contributing to longer-term budgetary objectives.
13. Fiscal pressures at the state and local government levels are a growing concern.
Recent federal initiatives have devolved greater responsibility and accountability for
programs to the states, including by shifting funding for programs from a cost-sharing to a
block grant basis. Although this approach has merit, the burden on states—including for
welfare, education initiatives, and homeland security—has increased at a time w h e n state
revenues have been severely affected by the economic slowdown. Proposed reforms to
Medicaid funding will need to take into account the growing pressures on the system from
population aging and spillovers from the Medicare system.

-5-

Financial sector and corporate governance
14. Financial sector balance sheets have held up well, and corporate profitability seems
to be recovering. However, care will be needed to ensure that banks are well-positioned to
absorb the effect on balance sheets of an eventual turnaround in interest rates or a possible
cooling of conditions in the real estate market. The rapid growth and systemic importance of
Fannie M a e and Freddie M a c suggest the possible need for measures to further limit these
agencies' special status, especially in view of the implicit government guarantee that markets
attach to their liabilities.
15. Considerable progress has been made toward strengthening the oversight of
accounting and corporate governance. The remaining challenge is to ensure that the
responsible agencies are provided with the resources and the support to complete the reform
agenda. K e y tasks will be to improve the accounting of stock options; ensure the
independence of corporate boards; and achieve greater harmony between U.S. and
international accounting standards. In addition, the significant underfunding of definedbenefit corporate pension plans that has emerged in recent years points to the need to
strengthen the accounting and transparency of these plans, as well as the finances of the
Pension Benefit Guaranty Corporation.
Trade policies and development assistance
16. The United States will need to continue to play an important leadership role in
promoting trade liberalization. A more open and liberal trade system has enormous potential
for fostering growth in all countries, and the United States has already m a d e helpful
proposals for moving the D o h a Round forward. A s it is essential to reinvigorate the
m o m e n t u m toward a successful completion of the Round, it will be important for the
United States to find c o m m o n ground with partner countries in a range of difficult areas, such
as the public health exemption on TRIPs. The authorities are also encouraged to take early
action to comply with recent W T O rulings. Ongoing negotiations of bilateral and regional
free-trade agreements have the potential to bring substantial benefits to the partner countries
involved. In this context, it will be important to ensure that such initiatives complement,
rather than substitute for, broader multilateral efforts toward liberalization and that they are
designed to limit trade diversion and administrative complexities.
17. There are also important opportunities to better align U.S. trade and other domestic
policies with the broader commitment to development Recent efforts to improve access to
U.S. markets for countries in Africa and the Andean region, and to boost overseas
development assistance (ODA)—including in the context of the Millennium Challenge
Account, are welcome. However, U.S. development assistance as a share of G N P would still
remain a m o n g the lowest a m o n g the industrial countries, and larger increases in foreign
assistance would still be desirable. There also remains scope for improving the
complementarities between development and trade policies, including by reducing subsidies
to U.S. agricultural producers and by more ambitious efforts to eliminate remaining nontariff barriers to imports from developing countries.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 17, 2003
JS-483
Remarks of Greg Zerzan Deputy Assistant Secretary for Financial Institutions
at the Homeland Education Resource Organization Conference 2003
Las Vegas, Nevada
Thank you for inviting me to speak with you today regarding the Terrorism Risk
Insurance Program. It is a great pleasure to be able to come to Las Vegas and
discuss this important program with some of America's leaders in the tourism and
travel industry.
Those in the gaming industry are familiar with the principles of calculating odds,
taking risks, and hedging against those risks. I doubt there would still be a casino
open in this town if it wasn't possible to estimate, with an acceptable degree of
proximate certainty, what the given losses and gains of the casino would be for any
given time period. But for the insurance industry, September 11th was akin to
having every slot machine in the casino come up triple lemons.
As w e know, the cowardly attacks by the terrorists on September 11th were a
despicable act of murder unprecedented in their cruelty and scope. As well as the
loss of the lives of scores of heroic firefighters, police, and people who had simply
gone to work expecting to put in another day at the office, 9-11 wreaked havoc on
our economy and financial markets. For the insurance industry, it was the day that
separate catastrophic insurable events occurred almost simultaneously: four large
passenger planes, both World Trade Center buildings and most of the surrounding
real estate was destroyed. Clearly this was a loss on a scale that was not
anticipated, or even thinkable.
After 9-11 it was clear that insureds faced a new type of risk: the potential for loss
due to massive catastrophic terror. The difficulty this presented was that, as a first
of its kind risk, it was difficult to immediately quantify. And being unable to quantify
it, no insurance company could reasonably insure against it without obtaining
reinsurance. And reinsurers made it clear that if they were to provide terror
coverage at all, it would be prohibitively expensive.
President Bush immediately recognized the chilling effect this placed on our
economy. Most of commercial America would be unable to find insurance against
this new and profound threat. Without insurance, American companies faced
serious financing difficulties. The cost of this lack of insurance had the potential to
put a massive brake on the engine of the economy which was already sputtering
because of the attacks.
The President and the Congress began to work on creating a Federal program to
provide a backstop for terrorism risk insurance. O n November 26, 2002 President
Bush signed into law the Terrorism Risk Insurance Act of 2002. This act, known as
TRIA, provides a temporary program of shared Federal and private coverage for
commercial property and casualty losses resulting from acts of terror. TRIA
became effective immediately, and it pre-empted all existing policies and exclusions

while mandating that policy holders be given access to terrorism risk coverage.

The first thing to remember about TRIA is that it is a temporary program. It sunsets,
or ceases to be law, on December 31, 2005. Until that date, the program provides
a government backstop for terrorism reinsurance.
It is important that policyholders understand that the government's backstop for
terrorism reinsurance is not on a policy-by-policy basis, but rather it operates
through a private insurance company deductible, with excess losses being shared
with the Federal government. If an insurance company suffers a loss resulting from
an act of terrorism equal to its deductible, the Treasury will cover 9 0 % of the losses
beyond that threshold. This is an important feature of the program, for it requires
that an insurance company retain a portion of terror risk and thus ensures that such
companies will exercise normal due diligence in their underwriting and risk
allocation. Additionally, throughout the life of the program an insurance company's
deductible increases so that the potential share of losses paid by the taxpayers
decreases proportionally. By increasing the amount of the deductible every year,
the Federal government phases itself out of the reinsurance business while private
companies develop their own market means of calculating and insuring against
terror risk. From the first year of the program, which is this year, the insurance
company deductible increases from 7 % of premiums, to 1 0 % , and finally 1 5 % in the
program's final year.
To further protect the taxpayers, the Program provides the Treasury with the
authority to recoup Federal payments from policyholder payments paid to the
insurers. Finally, the government's total liability under the program is limited to
$100 billion.
As I stated a few moments ago, TRIA mandates that all insurers offer terror
insurance as part of their property and casualty policies. This coverage must be
m a d e available on terms and conditions that do not materially differ from the terms
and conditions generally applicable to other types of insured losses. This does not
m e a n that the price of terror policies must be the s a m e as for other types of
property and casualty insurance, but rather that the type and amount of coverage
cannot be significantly different.
Under TRIA, an act of terrorism is defined as an act committed on behalf of a
foreign power which is violent or dangerous to life, property or infrastructure. This
m e a n s that the law does not apply to domestic terrorism, or to acts committed in the
course of a war that has been declared by Congress. Nor does it apply to acts of
terrorism where the aggregate losses from the attack are less than $5 million.
The provision that requires that losses total $5 million before an event can be
certified as an act of terrorism has caused s o m e confusion a m o n g policyholders.
W e have heard that s o m e policyholders have looked at this provision and
concluded that because they do not have $5 million in exposure they have little
need for the coverage offered under TRIA. In this regard I think that it is important
that policyholders understand that the $5 million threshold is not on a policy-bypolicy basis, but rather the threshold is related to aggregate property and casualty
insurance losses associated with a particular act of terrorism. For example, if $7
million in aggregate property and casualty insurance losses from a certified act of
terrorism were distributed a m o n g 10 policyholders, those losses could contribute to
an insurance companies ability to access the TRIA backstop, and in turn
policyholders should derive s o m e benefit from the TRIA backstop.
TRIA mandates that insurers clearly and conspicuously disclose the premium which
they are charging for terror coverage, and the Federal share of losses under the
program. The program is limited to commercial property and casualty losses, and it

provides specific procedures for processing claims in order to m a n a g e any potential
litigation which might follow an act of terrorism. The program requires the Treasury
Department to conduct a study to determine whether the coverage should be
applied to group life insurance policies as well as property and casualty policies.
The Secretary continues to review the comments w e have received on this issue,
and the Treasury is continuing its work on that study.
A s with any n e w law, implementing TRIA requires a great deal of regulatory work.
Already the Treasury has issued interim guidance and regulations regarding various
aspects of the proposal. The regulations issued by Treasury are subject to the
normal notice and comment procedures, and the whole series interim guidance
notices and regulations can be found on Treasury's website www.treasury.gov/trip. In addition, w e will shortly be completing certain aspects of
the rulemaking process, such as issuing a final rule on the definitions and other
requirements in the statute. The infrastructure for processing claims under the
program has also been created as a separate office within the Treasury, and that
office continues to solidify the administrative application of the program.
The Treasury Department continues to monitor the effectiveness of the Terrorism
Risk Insurance Program. The key goal of the law is to m a k e sure not only that
terrorism insurance is available, but also to improve insurance companies' ability to
price such coverage, and in turn improve the affordability of such coverage for
commercial entities. This is ultimately the idea behind the Act. By creating a
Federal role in being the insurer of last resort for terror risk, TRIA aims to improve
the availability of terror coverage while the private marketplace can assess risk and
create pricing models that reasonably accommodate their own risks.
And that is w h y TRIA is temporary. The Federal government cannot and should not
be in the business of attempting to do what market forces can do better. Ultimately
the insurance industry should have the opportunity to provide terror coverage to all
of its policyholders on the terms and conditions that the market and events require.
W e will ultimately realize the success of this law when, on January 1, 2006, it no
longer exists.
Having covered the basics of TRIA, I will now turn to a question I am often asked:
does m y business need to purchase terror insurance? It is a question I cannot
answer. Each commercial entity must evaluate its own operations and sense of risk
to determine whether terror insurance is right for that enterprise.
But the great success of TRIA is that, if the business determines it should purchase
terror insurance, businesses will have the opportunity to purchase such coverage.

In s o m e places there still exists s o m e uncertainty about h o w TRIA works, but this is
to be expected with any program of its kind. Although it is still early in the
implementation of the law, w e have received initial data indicating that pricing is
stabilizing in the terror insurance market. The insurance industry, policyholders and
the National Association of Insurance Commissioners have all played a crucial role
in helping Treasury m a k e TRIA work. W e are grateful for the support and input
they have given, and w e look forward to continuing to work with them throughout
the duration of the program. Likewise, leaders in Congress not only helped create
the law, but continue to provide invaluable guidance and suggestions. All of this
support is certainly helpful in ensuring the program responds to the needs and
desires of those w h o seek terror coverage.
Let m e conclude on this note. September 11th w a s a dark day for America. But it
w a s a turning point not only in that it awoke us to the new realization that there are
m a n y in the world w h o hate us and despise our way of life. It w a s a turning point in
that it inspired us to hold dear those ideals which are most a part of our country and
our character: freedom and the rule of law, the rights to speak and worship as w e
see fit. It w a s these values which were attacked, and these values which w e

defend.

A s President Bush has said, September 11 was not the beginning of a war against
our ideals; it w a s the beginning of the end for those w h o oppose them. Already the
nations of Afghanistan and Iraq have been freed; those w h o sought our downfall
found in the terrorists' cowardly deeds their own downfall instead.
The W a r on Terror, the creation of the Homeland Security Agency, the Terrorism
Risk Insurance Act and a host of other actions since 9-11 are only a part of
America's response to the terrible events of that day. Like all of you, I look forward
to the day when the thought of the need for terror insurance seems absurd.
Thank you very much for inviting me to speak with you today, and I will be around
after the program if I can answer any questions.

PRLSS R O O M

FROM THE OFFICE OF PUBLIC AFFAIRS
June 17, 2003
JS-484
Opening Remarks by Treasury Secretary John Snow at Money Magazine's
Money Summit New York, New York Tuesday, June 17, 2003
Good afternoon. Before Lou and I begin our dialogue with you, I
would like to m a k e a few opening comments about the current state
of the U.S.
economy, and where I think we're going.
Here's the landscape: GDP rose by 1.9% in the first quarter of 2003,
better than the growth late last year. But I think the real pick-up is
going to happen in the second half of this year, as the President's jobs
and growth provisions kick-in. In fact, I think we're going to see
annualized growth rates near 3.5% by the later part of this year.
I know a lot of people in the investment community have been
heartened by the passage of President Bush's Jobs and Growth plan.
We're starting to see an impact in the markets, as higher tax-adjusted
returns on dividends and capital gains are factored into stock prices.
In many ways, the focus of the President's plan is on reducing the
cost of capital for businesses, small and large. We've tried to create
conditions for higher potential growth in the long-term, and I think
the plan has succeeded in that.
Thanks to the plan, all businesses now qualify for greater expensing
of n e w equipment investments, which is lowering the cost of making
those investments. While it's too early to be definitive there are
signs that n e w incentive is cracking the ice in terms of capital
spending decisions.
Small businesses that are taxed as pass-through entities are going to
see more disposable income for n e w investment and n e w jobs,
thanks to marginal rate cuts.
Larger businesses that pay dividends will be able to raise equity
capital more cheaply, as dividend paying stocks become more
attractive to shareholders. A lower cost of capital means more
capital formation, more investment, and more jobs.
Obviously, the tax plan does a lot for the demand side as well, with
lower marginal rates for all taxpayers and immediate child tax credits
for families, for example. Americans are going to see lower
withholding from their paychecks right away - m o n e y they can save
or spend right n o w with the n e w withholding tables going out this

week.
I'm confident that the plan is going to have a serious impact on
overall economic growth and job creation in the United States this
year. Bottom line is: I a m confident we're going to see those 'help
wanted' signs go up again in greater and greater numbers.
Conditions for this recovery are looking better and better. Let me
put it in a w a y that those living through the Northeastern weather this
year can appreciate: this recovery has been soggy, but it's definitely
drying up.
Our trade deficit has narrowed, consumer sentiment is up with the
end of the war, interest rates have stayed low keeping the housing
market strong, and corporate profits are rebounding. Productivity
has stayed strong, which bodes well for future income growth and
living standards. There are signs of renewed capital spending too.
Another reason for increasing confidence in the markets is the SEC's
steady hand, which has been routing out the vestiges of bubble-era
malfeasance, and setting a tone of accountability for public
companies and investment firms. We're proud of their work. With
the S E C setting clear rules of the road, businessmen can get back to
focusing on running their businesses, producing good returns for
shareholders, opening up n e w markets, developing n e w products,
serving customers well and making the big and important decisions
that are so critical to the future success of their enterprises.
Of course, the most important economic indicator for the President is
employment. Stock indices are not jobs, but companies that are
doing well, that are making investments, are going to start hiring.
I think the markers are all there for a strengthening labor market as
growth accelerates this year.
We've also taken steps to help folks who are out of work, looking for
those n e w jobs to c o m e through. We've extending unemployment
coverage, and put forward some exciting, innovative programs like
the Health Coverage Tax Credit, which I introduced in Pittsburgh
yesterday. This program has great potential for aiding the
uninsured.
Before I take your questions, a word about global growth prospects.
Today the industrialized nations of the world are growing far too
slowly and everyone suffers as a consequence. This w a s one of
President Bush's key messages at the G 8 summit earlier this month:
that the United States wishes economic success for all its partners,
and that the developing world in particular needs faster growth from
all of the more advanced economies. It has been the policy of his
administration to encourage economic growth at h o m e and abroad.
Nowhere is this more important than in the leading industrialized
nations, which through their trade and investment activities support

growth throughout the rest of the world. Our challenge today is that
the leading economies are suffering from a growth deficit - their
potential far exceeds their performance. Returning these economies
to high growth performance has been and will continue to be our
focus. W e expect others to take bold actions themselves - including
fundamental structural reforms where necessary - to spur growth,
create jobs and contribute to global prosperity.
That's my quick take on the economy - we've come a long way from
the beginning of this year, and we've seen a big victory on the h o m e
front. This is a hopeful time for America.
I'm looking forward to your questions.
-30-

PRLSS R O O M

F R O M THE OFFICE OF PUBLIC AFFAIRS
June 19, 2003
JS-485
Statement of Gregory F. Jenner
Deputy Assistant Secretary (Tax Policy)
United States Department of the Treasury
Before the House Ways and Means Subcommittee on Select Revenue
Measures
Mr. Chairman, Ranking Member McNulty, and distinguished Members of the
Subcommittee:
I am pleased to appear before you today to discuss the various proposals to reform
Subchapter S of the Internal Revenue Code.
The Benefits of Subchapter S
There is little dispute that small businesses are the cornerstone of the American
economy. The millions of individuals who spend their time, energy, and resources
pursuing ideas, taking risks, and creating value are instrumental to job creation and
the growth of our economy. The entire Administration, including the IRS and the
Department of the Treasury, is committed to working closely with the small
business community and its representatives to help small businesses and the selfemployed understand their tax obligations, ease unnecessary restrictions, and
reduce their compliance burdens.
Subchapter S is an important tool for small businesses. Enacted in 1958,
Subchapter S was designed to provide small businesses organized as state law
corporations with a single-layer tax system similar to that enjoyed by partnerships.
Major reforms in 1982 and 1996 moved the tax treatment of S corporations closer
to that of partnerships while easing restrictions on S corporation eligibility. Among
the 1996 reforms were: (1) increasing the number of S corporation shareholders
from 35 to 75; (2) allowing S corporations to own subsidiaries; (3) allowing certain
types of tax-exempt organizations and trusts to own S corporation stock; (4)
allowing banks to elect S corporation status; (5) allowing an S corporation to create
an employee stock ownership plan; (6) allowing the IRS to provide relief for late or
invalid S corporation elections; and (7) exempting S corporations from the unified
audit and litigation procedures.
The 1982 and 1996 reforms appear to have enabled a greater number of
businesses to operate as S corporations. Between 1982 and 2000, the percentage
of non-farm businesses taxed as S corporations rose from less than 4 percent to
more than 11 percent. Although this trend is, in all likelihood, due in part to the
significant lowering of individual tax rates, S corporation reforms certainly played an
important role.
S corporations are not, however, the predominant form of entity used by small
businesses. As of 2000, less than 8 percent of non-farm businesses with gross
receipts under $250,000 were operating in S corporation form. The vast majority
(79 percent) were operating as sole proprietorships, while the remaining 13 percent
were operating as C corporations, partnerships, and limited liability companies
taxed as partnerships. W e believe that this is due in no small measure to the

relative simplicity of operating as a sole proprietorship rather than as a partnership
or S corporation.
Conversely, it also appears that the S corporation form is more attractive to larger
business than to small businesses. More than 37 percent of non-farm businesses
with gross receipts over $1 million are S corporations and more than 25 percent of
non-farm businesses with gross receipts over $50 million are S corporations.
The relative attractiveness of S corporations will, in all likelihood, have diminished
somewhat as a result of the recently-enacted Jobs and Growth bill. Doing business
as an S corporation, for those businesses that qualified, offered the advantage of a
single layer of tax at the shareholder level. In contrast, C corporations were taxed
on their income at the corporate level, while their shareholders were taxed a second
time on dividends distributed by the C corporation. By reducing the rate of tax on
dividends to 15 percent, the Jobs and Growth bill has lessened (but not eliminated)
the double tax on corporate income, thereby reducing (but again not eliminating)
the tax advantage offered by S corporations.
Recognizing that small businesses may choose a variety of organizational forms,
the Administration has chosen to focus on broad-based tax initiatives that are not
dependent on organizational structure. It is our belief that tax should not play a
significant role in the selection of the form in which a business chooses to operate.
As a result, the President and Congress have worked together to reduce income
tax rates by 3 to 5 percent and to increase the amount of investment that m a y be
immediately deducted by small businesses from $25,000 to $100,000. In the 2001
Act, Congress phased out the death tax, allowing innovative entrepreneurs to pass
the fruits of their lives' work to their children rather than the government. These
changes will benefit 23 million small business owners, approximately 2 million of
which are S corporations, providing cash for further investment and job creation. In
addition, several regulatory changes have been m a d e to ease the burdens on small
businesses.1
Although these legislative and regulatory reforms have provided much needed tax
relief and simplification to small businesses, the complexity of the tax laws
continues to plague small business owners. Our tax laws have become
devastatingly complex in recent years. Many small business owners are
unprepared to deal with this complexity and do not have the resources to hire
sophisticated tax counsel to advise them. Tax law compliance drains the time,
energy, and financial resources of small business owners and diverts their attention
from the more important goal of building a business.
It is our belief that Subchapter S remains a relatively simple, yet flexible, system in
which small businesses can operate and thrive. W e recognize the importance of
enhancing its flexibility wherever and whenever possible. W e are also concerned,
however, that such flexibility should not be achieved at the cost of greater
complexity. As a result, w e analyze proposed changes to Subchapter S by asking
whether the proposal would increase the complexity of Subchapter S and, if so, is
such increased complexity more than offset by the benefits of the proposed change.
It is important to remember that Subchapter S is no longer the only way small >
businesses can achieve limited liability while paying only a single layer of tax. A s a
result of regulations issued in 1995, state law limited liability companies can n o w be
taxed as partnerships. M a n y practitioners now tout the benefits of the more flexible
limited liability company entity over the more restrictive S corporation entity.
Interestingly, however, between 1996 and 2000, growth in the number of S
corporations has exceeded growth in the number of limited liability companies taxed
as partnerships. W e believe this is due in no small measure to the complexity of the
partnership system compared with S corporations. Although S corporations must
meet eligibility restrictions that do not apply to limited liability companies, these
eligibility restrictions allow for a much simpler system of taxing S corporation
income. In particular, the inordinately complex systems for determining a partner's
shares of partnership income do not apply to S corporations. In short, despite
eligibility restrictions, an S corporation is perhaps the only organizational form

available to small multi-member businesses that offers relative simplicity.
Consequently, w e hesitate to support proposals that would add additional
complexity to Subchapter S.
H.R. 714, H.R. 1498, and H.R. 1896
Because of the large number of proposals included in the bills under consideration
today, our testimony does not set out Treasury's views on each provision. Instead,
our testimony identifies the provisions that the Administration would not oppose on
substance, and sets out our views on those provisions. To reiterate, our basic goal
is to preserve the relative simplicity of Subchapter S while offering additional
flexibility to businesses taxed as S corporations. W e believe that these provisions
are either consistent with, or not contrary to, that basic goal. W e would also point
out the need to exercise fiscal discipline in considering additional tax measures,
and that any tax bill inclusive of these or other tax provisions should not increase
the deficit further.
Allow shareholders of an S corporation to obtain the full benefit of a charitable
contribution of appreciated property by the corporation (Section 11 of H.R. 714 and
section 205 of H.R. 1896). In cases where an S Corporation donates appreciated
property to charity, a shareholder's basis in their S corporation stock reflects the
basis of that appreciated property, whereas the amount contributed is the fair
market value of the appreciated property. Under current law, an S corporation
shareholders charitable deduction is limited to his or her stock basis. A s a result,
current law prevents s o m e S corporation shareholders from obtaining the full
benefit of the charitable contribution deduction. The proposal would allow an S
corporation shareholder to increase the basis of their S corporation stock by the
difference between the shareholder's share of the charitable contribution deduction
and the shareholder's share of the basis of the appreciated property. This treatment
is already provided to partnerships and limited liability companies. Therefore, this
proposal would accomplish the twin goals of encouraging charitable giving and
equalizing the treatment of S corporations and partnerships.
Permit a bank corporation's eligible shareholders to include an IRA and allow
shares held in an IRA to be purchased by the IRA owner (Section 103 of H.R.
1896). A corporation cannot elect S corporation status if its stock is held by an IRA,
and income of an S corporation that is allocable to a tax-exempt entity generally is
treated as unrelated business taxable income. The only exception is for employee
stock ownership plans (ESOPs) which are themselves subject to special strict rules
mandated by E G T R R A . In addition, an IRA owner cannot purchase assets held by
the IRA without a special exemption. The proposal would permit an IRA to be a
permissible shareholder of a bank S corporation. In addition, an IRA owner would
be permitted to purchase S corporation shares held by the IRA without the need for
a special exemption. These changes would only apply to shares held prior to
enactment of the provision. This proposal would result in s o m e additional
complexity that it would be preferable to avoid. However, on balance, w e believe
that this complexity is outweighed by the flexibility that would be provided to IRAs
currently owning bank shares. Our support, however, is explicitly conditioned on the
S Corporation income earned in the IRA being treated as unrelated business
taxable income. W e are concerned that, if enacted, subsequent efforts will be m a d e
that would m a k e such income not subject to UBIT (as w a s done in the case of
ESOPs), thus eliminating any and all tax on such income.
Allow S corporation shareholders to transfer suspended losses on a divorce
(Section 302 of H.R. 1896). Under current law, losses that exceed the shareholder's
basis in S corporation stock are suspended and m a y be carried over indefinitely
and used when the shareholder acquires sufficient basis in the S corporation stock.
The losses, though, cannot be transferred to another person. If, as a result of a
divorce, a shareholder must transfer S corporation stock to his or her former
spouse, the suspended losses associated with that stock are lost. Section 302
would remedy this unduly harsh result by allowing suspended losses to be
transferred along with the S corporation stock transferred incident to divorce.
Allow beneficiaries of qualified subchapter S trusts (QSSTs) to use passive activity
losses and at-risk amounts (Section 303 of H.R. 1896). Generally, the current

income beneficiary of a Q S S T is taxed on S corporation income. Losses that flow
through to the beneficiary from the S corporation m a y be limited under the passive
activity loss or at risk rules. For most S corporation shareholders, losses that are
limited under the passive activity loss or at risk rules carry over until the shareholder
disposes of the activity generating the passive loss or at risk amount. At that time,
the shareholder m a y take any remaining suspended passive activity and at-risk
losses. Unfortunately, the S corporation rules provide that the Q S S T and not the
income beneficiary is treated as the owner of the S corporation stock for purposes
of determining the tax consequences of a disposition of the S corporation stock.
Because the beneficiary is treated as the owner of the S corporation stock for
income reporting purposes, but not for purposes of gain or loss on the disposition of
S corporation stock, it is unclear whether losses flowing through to a Q S S T
beneficiary that are suspended under the passive activity loss or at risk rules m a y
be used on the disposition of the S corporation stock. This proposal would clarify
that, for purposes of applying the passive activity loss and at risk rules, the
disposition of S corporation stock by a Q S S T will be treated as the disposition of the
stock by the income beneficiary of the Q S S T .
Permit an electing small business trust (ESBT) to claim an income tax deduction for
any interest incurred to purchase S stock (Section 304 of H.R. 1896). This proposal
would eliminate an existing distinction between an individual purchaser of S
corporation stock and a trust purchaser, and would m a k e the E S B T more attractive.
Under current law, the only permissible deductions against an ESBT's income are
its administrative expenses, such as costs incurred in the management and
preservation of the trust's assets; interest incurred to acquire S corporation stock is
not deductible. Treasury does not oppose this proposal, but w e believe that the
interest deduction should be no more generous to an E S B T purchaser of S
corporation stock than the interest deduction available to an individual purchaser of
that stock. W e would be pleased to work with the Subcommittee to achieve that
result.
Disregard unexercised powers of appointment in determining the potential current
beneficiaries of an E S B T (Section 305 of H.R. 1896). This proposal would
significantly improve the E S B T rules by removing a technical impediment that
currently prevents many trusts from making the E S B T election. M a n y existing trusts
grant to an individual the ability to n a m e additional persons and entities as trust
beneficiaries (for example, as substitute beneficiaries in the event of the death of a
current beneficiary, or a change in circumstances that renders a current beneficiary
"unworthy" of receiving benefits from the trust). Usually, the group of permissible
appointees is described as an identified class of persons or entities, such as the
descendants of the grantor's grandparents or any charitable organizations. Such a
class of permissible appointees has an almost unlimited number of members.
Current law limits the number of shareholders of an S corporation to 75, and all of
the members of the class of potential appointees count toward that 75-person limit.
As a result, if an E S B T election is m a d e for a trust that grants such a power of
appointment, the S election of the corporation will be terminated, even though that
power of appointment m a y never be exercised. This proposal would disregard such
powers so long as they were not exercised.
Allow the S corporation's charitable contributions to be deducted from its gross
income (Section 307 of H.R. 1896). Under current law, an individual S corporation
shareholder m a y claim an income tax charitable deduction for his or her share of a
charitable contribution m a d e by the S corporation. However, because of the rules
regarding charitable deductions of trusts, a shareholder whose S corporation stock
is held in a trust will receive no comparable tax benefit from that contribution.
Section 307 would explicitly add charitable contributions to the items that can be
deducted in computing the ESBT's income tax on its S corporation income. This
proposal would encourage charitable giving by S corporations and would eliminate
a significant difference in the tax treatment of an S corporation's individual and nonindividual shareholders. W e suggest that this Subcommittee consider expanding
the application of this provision to other pass-through entities making charitable
contributions. This could be accomplished by amending the trust rules to provide
that trusts m a y deduct charitable contributions m a d e by all types of pass-through
entities in a way that is comparable to the charitable deduction available to
individuals (and subject to the s a m e limitations).

Allow banks to exclude investment securities income from passive investment
income (Section 3 of H.R. 714 and section 401 of H.R. 1896). S corporations with
accumulated C corporation earnings and profits are subject to a corporate-level tax
on passive investment income that exceeds 25 percent of the corporation's gross
receipts for any year. Additionally, a corporation's S corporation status is terminated
if the 25 percent limit is exceeded for three consecutive years. Gross receipts
derived in the ordinary course of a banking business are not considered passive
investment income for this purpose. Income from investment assets, however, is
treated as derived in the ordinary course of a banking business only if the
investment assets are needed for liquidity or loan demand. The amount of
investment assets needed for liquidity or loan demand m a y be subject to
disagreement. This provision would eliminate this uncertainty by providing that
passive investment income would not include any interest income earned by a
bank, bank holding company, or qualified subchapter S subsidiary (in the case of
H.R. 1896 only) or dividends on assets required to be held by such bank, bank
holding company, or qualified subchapter S subsidiary (in the case of H.R. 1896
only) to conduct a banking business. W e recommend that this proposal be clarified
to apply only to a bank, bank holding company, or a qualified subchapter S
subsidiary of a bank or a bank holding company.
Allow a bank to recapture its bad debt reserves on either its first S corporation or its
last C corporation return (Section 6 of H.R. 714 and section 403 of H.R. 1896).
Under current law, banks that use the reserve method of accounting are ineligible to
m a k e the S corporation election. If a bank makes an S corporation election, the
bank is automatically switched to the specific charge-off method of accounting for
bad debts. This change in accounting method results in recapture of the bad debt
reserve over four years. The recapture of the reserve by the bank S corporation is
treated as built-in gain subject to a special corporate-level tax. Under the built-in
gain provisions, tax on the built-in gain must be paid both at the corporate and
shareholder level in the year of recognition. In contrast, a C corporation would pay
tax on the recapture amount at the corporate level but the shareholders would not
have to pay tax on that amount until the C corporation paid dividends. By allowing
banks to take the recapture of the bad debt reserves into account in the last C
corporation year, rather than the first S corporation year, the proposal would
eliminate the current imposition of a second layer of tax. This provision is similar to
a provision of the Code designed to recapture LIFO reserves on the conversion of a
C corporation to an S corporation. Under that provision, the LIFO recapture amount
is taken into account in the year before the conversion to S corporation status, but
the corporation is allowed to pay the tax on the recapture amount over 4 years. W e
recommend that similar principles be applied to address the recapture of bad debt
reserves and would be happy to work with this Subcommittee to draft an
appropriate provision.
Allow the IRS to provide relief for inadvertently invalid qualified Subchapter S
subsidiary (QSub) elections and terminations (Section 501 of H.R. 1896). Section
1362(f) authorizes the Secretary to provide relief for inadvertent invalid S
corporation elections and inadvertent terminations of S corporation elections. This
provision has saved hundreds of taxpayers from the consequence of procedural
mistakes; invalid elections and inadvertent terminations are c o m m o n because S
corporations and their shareholders are often unfamiliar with the technical
requirements of eligibility. Under current law, however, there is no comparable relief
available for QSubs. Allowing the Secretary to grant relief for inadvertent invalid
Q S u b elections and terminations would prevent shareholders from suffering
significant negative consequences for mere procedural errors.
Provide that a sale of an interest in a QSub is treated as a sale of a pro rata share
of the QSub's assets, followed by a contribution of those assets to a corporation
(Section 503 of H.R. 1896). A Q S u b must be wholly owned by a single S
corporation. Under current law, if an S corporation sells more than 20 percent of the
stock of a Q S u b , the S corporation will recognize gain and loss on all of the assets
of the Q S u b . The proposal would change this to align the treatment of the sale of an
interest in a Q S u b with the treatment of the sale an interest in a limited liability
company that is treated as a disregarded entity.
Eliminate the earnings and profits earned by a corporation as an S corporation prior
to 1983 (Section 601 of H.R. 1896). Prior to 1983, income earned by an S

corporation gave rise to earnings and profits. Concluding that it w a s inconsistent
with the modern view of S corporations to continue to view pre-1983 S corporation
income as giving rise to earnings and profits, in 1996 Congress eliminated pre-1983
earnings and profits for any corporation that w a s an S corporation prior to 1983, but
only if the corporation w a s an S corporation in its first taxable year beginning after
December 31, 1996. Section 601 would eliminate pre-1983 earnings and profits
arising during an S corporation year, regardless of whether the corporation w a s an
S corporation in its first taxable year beginning after December 31, 1996. In our
view, relief from pre-1983 S corporation earnings and profits should not be
dependent on whether the corporation continued to be an S corporation after 1996.
Allow charitable contribution carryforwards and foreign tax credit carryforwards to
offset the corporate-level tax on built-in gains (Section 603 of H.R. 1896). Under
current law, an S corporation m a y use net operating loss carryforwards and capital
loss carryforwards to offset the tax on built-in gains under section 1374. It is our
view that charitable contribution carryforwards and foreign tax credit carryforwards
should also be available to offset section 1374 built-in gains.
Expand the number of permissible S Corporation shareholders (Section 4 of H.R..
714 and section 104 of H.R. 1896). These proposals would increase the number of
permissible S Corporation shareholders from 75 to 150. Treasury cannot support
such a dramatic increase, which w e believe would run counter to the goal of
maintaining Subchapter S as the simplest of systems for businesses with more than
one owner. Increasing the number of shareholders will, inevitably, bring increased
pressure to liberalize other facets of Subchapter S which will, in turn, increase the
complexity of the provisions. It is important to keep in mind that the number of
permissible shareholders w a s more than doubled, from 35 to 75, just a few years
ago. For these reasons, w e urge this Subcommittee to refrain from dramatic
expansion of these rules.

W e believe that the proposals outlined here could provide solid technical reforms
that would be faithful to the spirit of subchapter S. Consistent with the goal of
subchapter S to provide simple rules for small business, these rules would
decrease taxpayer burden, while offering increased flexibility. W e would be pleased
to work with the Committee to develop these or other S corporation reform
proposals.
This concludes my prepared statement. I would be pleased to answer any
questions the Subcommittee m a y have.

-30-

(1) The Administration's efforts to decrease burdens on small business are not
limited to legislative initiatives. For example, last year, the IRS and Treasury issued
a revenue procedure permitting certain businesses with gross receipts of less than
$10 million to use the cash method of accounting. W e expect that the revenue
procedure will eliminate most disputes concerning the use of the cash method by
small business taxpayers, allowing those taxpayers to focus on growth, not tax
compliance. Other recently implemented burden reduction projects benefiting small
businesses include:
1. Exempting 2.6 million small corporations from filing Schedules L, M-1 & M2, reducing burden by 61 million hours annually. (April 2002)
2. Reducing the number of lines on Schedules D, Forms 1040 and 1041,
resulting in estimated burden reduction of 9.5 million hours for 22.4 million
taxpayers. (January 2002)
3. Eliminating the requirement for filing Part III of Schedule D (capital gains),
Form 1120S for 221,000 S-Corporation taxpayers, reducing burden by

almost 600,000 hours. (November 2002)
The IRS has also streamlined many of its procedures to m a k e compliance less
burdensome for small business taxpayers. A few examples include:
1. The establishment of a permanent special group to work with payroll
services to resolve problems before notices are issued and penalties are
assessed against the individual small businesses serviced by these bulk
and batch filers. (October 2002)
2. Business filers can now e-file employment tax and fiduciary tax returns, and
at the s a m e time, pay the balance due electronically by authorizing an
electronic funds withdrawal.
3. Business preparers can now e-file their clients' employment tax returns.
4. The IRS has continued to improve its W e b site to offer its customers the
ability to both order, and in many cases, utilize its Small Business Products
online.
It is the long-term and continuing goal of the IRS and the Treasury to ease the
burden of small businesses to the greatest extent practical, consistent with the law
as enacted by Congress. W e look forward to working with this committee on those
efforts.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 15,2004
2004-6-15-12-40-16-20409
U.S. International Reserve Position

The Treasury Department today released U.S. reserve assets data for the latest week. As indicated in this table, U.S. reserve assets
totaled $82,581 million as of the end of that week, compared to $82,728 million as of the end of the prior week.
Official U.S. Reserve Assets (in US millions)
TOTAL
1. Foreign Currency Reserves1
a. Securities

June 4, 2004

June 11, 2004

82,728

82,581

Euro

Yen

TOTAL

Euro

Yen

TOTAL

10,107

14,136

24,243

10,165

14,387

24,552

Of which, issuer headquartered in the U.S.

b. Total deposits with:
b.i. Other central banks and BIS

11,668

2,841

14,509

11,366

2,891

14,257

b.ii. Banks headquartered in the U.S.

b.ii. Of which, banks located abroad

b.iii. Banks headquartered outside the U.S.

b.iii. Of which, banks located in the U.S.

2. IMF Reserve Position 2

20,268

20,142

3. Special Drawing Rights (SDRs) 2

12,663

12,585

4. Gold Stock 3

11,045

5. Other Reserve Assets

II. Predetermined Short-Term Drains on Foreign Currency Assets
June 4. 2004
Euro
1. Foreign currency loans and securities

Yen

June 11.2004
TOTAL

Euro

Yen

TOTAL
0

2. Aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the U.S. dollar:
2. a. Short positions
2.b. Long positions
3. Other

0
0
0

s M

0
0
0

III. Contingent Short-Term Net Drains on Foreign Currency Assets
June 4. 2004
Euro

Yen

June 11. 2004
TOTAL

1. Contingent liabilities in foreign currency

Euro

Yen

TOTAL

1.a. Collateral guarantees on debt due within 1 year
1.b. Other contingent liabilities
2. Foreign currency securities with embedded options

3. Undrawn, unconditional credit lines

3.a. With other central banks
3.b. With banks and other financial institutions
Headquartered in the U.S.
3.c. With banks and other financial institutions
Headquartered outside the U.S.
4. Aggregate short and long positions of options in
foreign
Currencies vis-a-vis the U.S. dollar
4.a. Short positions
4.a.1. Bought puts
4.a.2. Written calls
4.b. Long positions
4.b.1. Bought calls
4.b.2. Written puts

Notes:

2/The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF and are
valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest week reflect any
necessary adjustments, including revaluation, by the U.S. Treasury to IMF data for the prior month end.
3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 19, 2003
JS-487
Media Advisory
Briefing on Today's John Doe S u m m o n s Enforcement Action Today
at 4:30 p m
Treasury Assistant Secretary for Tax Policy P a m Olson, IRS Commissioner Mark
W . Everson, and IRS Chief Counsel B. John Williams will hold a briefing on
Thursday, June 19, 2003 at 4:30 p m in room 3108 (Tax Policy conference room).
This session will provide a briefing on a John Doe summons that is being served to
Jenkens & Gilchrist, asking the law firm to identify taxpayers who may have
invested in listed transactions or other potentially abusive transactions organized or
sold by the firm's Chicago office. This will also allow for a Question and Answer
session with Tax Policy staff. No cameras will be admitted- this is a "pen and pad"
only briefing.
Media without Treasury or White House press credentials planning to attend
should contact Treasury's Office of Public Affairs at (202) 622-2960 with the
following information: name, social security number and date of birth. This
information may also b.e faxed to (202) 622-1999.

PRLSS ROOM

F R O M T H E OFFICE O F PUBLIC A F F A I R S
June 19, 2003
JS-488
Assistant Secretary Quarles's remarks at the Brazil-U.S. Private Sector
Summit
Creating a Bilateral Partnership for Economic Growth
Afternoon Keynote Address
"Expanding Access to Credit: Opportunities for Bilateral Partnership"
Hosted by the U.S. Chamber of C o m m e r c e
Introduction
I am pleased to join you today in a discussion of a critical component of any growth
strategy mobilizing financing for private investment. This is a subject of
considerable interest to the U.S., and at Treasury in particular, as w e analyze key
challenges for raising growth in both countries. And it is fitting that w e consult
closely with those who know best the barriers to access to credit you, the private
sector. W e see problems with financial intermediation being at the heart of growth
outcomes that are currently well below their potential.
Any investor or bank lender wants both a stable macroeconomic environment and a
predictable, competitive business environment at the microeconomic level. Brazil's
authorities face challenges on both fronts. But I want to take a moment to highlight
real progress on macroeconomic stability in recent months.
Macroeconomic Outlook
Macroeconomic conditions have turned the corner following a particularly
challenging period beginning last year and continuing into 2003. This Brazilian
government, like its predecessor, has already established a well-deserved, solid
reputation for making effective use of fiscal and monetary tools in pursuit of a stable
macroeconomic environment. Financial markets have reacted positively to policy
actions of the Lula administration, as well as to strong fiscal and external
performance. The real has strengthened 2 0 % on the year-to-date while spreads on
Brazilian bonds have narrowed more than 700 basis points. And thanks to the
support by the Lula Administration of the Central Bank's continuing efforts to meet
inflation targets, general inflation is falling rapidly. Clearly, recent good news on
inflation justified yesterday's decision by the Central Bank to cut the overnight rate
by 50 basis points to 2 6 % .
Brazil's export sector has outperformed even the most optimistic expectations:
Exports have grown 43.5% over the past year, resulting in an $8 billion trade
surplus for the first five months of 2003 and a $19 billion trade surplus over the last
twelve months. Even more compelling is the fact that these results have been
achieved largely through export expansion rather than import contraction.
The Finance Ministry's Economic Policy and Structural Reform Agenda released
earlier this year calls for primary surpluses sufficient to reduce Brazil's debt-to-GDP
ratio. The authorities have clearly put that agenda into practice. Brazil far
exceeded first quarter fiscal targets - generating a primary surplus of nearly 6 %
through March of this year. As the Finance Ministry's Policy and Reform Agenda
highlights, reducing Brazil's debt-to-GDP ratio will, in itself, be growth-promoting.
Other measures, such as the Government's announced plans to reduce the share
of foreign exchange-linked public debt and extend average debt maturities will
enhance stability.

Recent progress m a y very well represent the start of a "virtuous cycle" - one that
rewards sound fiscal and monetary policies with price and exchange rate stability,
which in turn, feeds back into lower debt levels. Such stability will allow for the
gradual reduction in interest rates, which in turn will fuel growth and further improve
Brazil's outlook.
This period of rising confidence creates a window of opportunity for looking beyond
short term financial concerns and focus on longer-term priorities, in particular,
economic growth. Despite the strong performance of Brazil's export sector and
favorable financial market conditions, overall economic activity remains depressed.
Real G D P growth this year is expected to reach only 1.9%, following 1.5% growth
last year. A sustained and consistent effort to establish conditions necessary for
private sector investment and productivity growth will allow Brazil to achieve the
sustained, high growth of which it is capable.
A key vulnerability, not just in Brazil but in emerging markets globally, has been an
imbalance in sources of affordable credit. Businesses that are able to do so
actively tap external sources of financing, but domestic financial intermediation has
not played the role it should in financing investment and growth. M y comments
today are focused on domestic sources of credit, in particular, bank credit.
Bank Credit
Bank credit plays a critical role for firms, especially in countries where capital
markets aren't fully developed. If access to bank loans is restricted, potentially
profitable projects cannot be undertaken and economic activity will suffer.
While Brazilian bank assets are roughly three times that of Mexican banks, the two
banking systems provide the s a m e amount of direct lending to the private sector.
The relatively low level of lending is coupled with high intermediation spreads and
high lending rates to businesses and individuals. Intermediation spreads have
declined substantially since the beginning of the Real Plan, and again since the
floating of the exchange rate; however, bank credit remains prohibitively expensive
for most small and medium-sized firms and even large companies. Current
spreads are 5 6 % for loans to individuals and 2 4 % for loans to firms; this compares
roughly with intermediation spreads of 1-2% for loans to firms in the U.S. With such
high rates, firms are frequently forced to finance investment through retained
earnings and/or the savings of family and friends, delaying if not eliminating larger
scale or longer term projects.
In recent years, Brazil's Central Bank has made active efforts to lower lending rates
and improve financial intermediation. With the establishment of the n e w payments
system in 2002, the Central Bank began publishing basic information on loan rates
to improve data-sharing. The Accounting Statements of Financial Institutions were
revised to be consistent with international norms. And the scope of the Credit Risk
Data Center w a s widened, lowering the threshold of loan size that banks are
required to report from $50,000 real to $5,000. All of these measures work to
strengthen reporting in the banking sector and enhance the sector's stability as a
result.
Nonetheless, high interest rates persist. Both macroeconomic and microeconomic
factors are clearly in play.
• Government borrowing from banks crowds out loans to the private sector.
Balance sheet data indicate that large banks are more invested in securities
- mostly government debt - than loans. Brazil's top 20 banks hold roughly
one-quarter of their assets in public debt.
• To fight inflation, reserve requirements are high. Reserve requirements of
6 0 % on demand deposits and 1 0 % on time deposits reduce potential
income for the banking sector, making it necessary for banks to charge
higher rates on capital that is put to productive use.
• Furthermore, Brazil's history of high real interest rates which averaged

11 % in recent years reflects an uncertain macroeconomic environment.
Persistent fears of high inflation force banks to raise interest margins a priori
to offset potential erosion of capital.
But w e are not convinced that macroeconomics tells the whole story.
• High operating expenses and taxes absorb a significant portion of
intermediation income. Overhead costs at Brazilian banks have been
double the average for Latin America, and triple the average for upper
middle income countries. High payroll costs stem, in part, from the need to
maintain substantial collection and legal departments given cumbersome
legal and judicial processes. And finally, taxes on banks have historically
been more than double the Latin American and upper-middle income
country average.
• Public ownership in the banking sector and directed lending m a y also play a
role in the preservation of high intermediation spreads. Public banks have
lower returns on assets, higher non-performing loans and higher operating
expenses than private banks. This means higher average interest rates
across all loans. Directed lending is on a declining trend but remains as
high as 4 0 % of total credit.
• A weak bankruptcy code and inadequate judicial infrastructure also lead to
higher interest rates. Creditor rights are considered weak. Court judgments
can take as long as five years due to case backlogs and generous rights to
appeal. There is also considerable variation in court decisions across
Brazil, increasing the risk to lenders. Creditors or creditor committees have
little to no role in the process of liquidation. And once proceedings are
completed, tax claims, w a g e arrears, and administrative expenses are paid
first, leaving little for creditors. There is no legislation which facilitates
informal workout procedures to reduce the burden on the court system.
• I should add that a law designed to modernize the bankruptcy code and
address m a n y of these issues has been in discussion in the Brazilian
Congress since 1993. Congress recently began debating amendments to
the legislation, which is a significant step forward. I understand an informal
commission is reviewing whether the legislation can be sent to a vote in the
House, which could happen in the near future. Passage of bankruptcy
legislation would represent significant progress toward increasing creditor
The significant
public
sectorintermediation
presence andspreads.
weak bankruptcy law result in high credit
rights and
lowering
costs and lower asset quality. For the six months ending December 2002,
allowance for bad credits w a s 3 0 % of net interest revenues, and Brazil's historical
rate of write-offs is 4 % to 5 % of total credits, compared with 0.4% to 1.4% in
developed countries. The majority of non-performing loans are in public bank loans
to industry and housing, and private bank loans to individuals. O n e conclusion is
that substantial directed public lending to riskier borrowers, combined with the
inability to seize on those loans, is an important source of inefficiency in the banking
system.
To summarize, high bank spreads clearly stem from macroeconomic factors,
including crowding out. But they also follow from a raft of microeconomic factors,
including high operating expenses, the burden of inefficient public sector banks,
and weak creditor rights.
The Lula Administration is already tackling a number of these areas, and these
efforts should result in increased access to affordable credit for the private sector.
N o single factor will have a greater impact in spurring growth than lower interest
rates. And no single factor will have a greater impact on interest rates than a stable
macroeconomic environment. A sound fiscal picture will allow for the gradual
reduction of public sector debt and free-up bank resources for private sector
lending. The Lula Administration has already announced intentions to lower debtto-GDP; continued strong fiscal performance, combined with passage of key tax
and pension reforms, should m a k e this attainable.
Furthermore, a commitment to meet inflation targets, as has been demonstrated by

the Central Bank, will eventually lead to lower inflation expectations. Eliminating
persistent fears of high inflation will result in lower lending rates.
But, in addition to this macroeconomic progress, the agenda must include steps to
address microeconomic and structural problems. Certain provisions of the pending
tax legislation, if passed, would lower banks' overhead costs by reducing their
payroll burden. Likewise, reducing the amount of directed lending and underperforming loans by public banks would free up capacity for more productive uses
of bank resources at lower rates of interest. Finally, passage of bankruptcy reform
legislation will go far in boosting banks' willingness to lend, and would help banks
streamline collection and legal departments.
Conclusion
The United States has one of the most open and, therefore, competitive banking
sectors in the world. The access to capital that it provides to the private sector and
individuals alike has been a key driver of economic growth in the U.S. Small
businesses are the primary driver of economic growth in the U.S., and in most other
countries. They provide roughly three out of every four new jobs and about half of
the nation's private sector output. Small businesses also represent 9 9 % of all
employers and employ 5 0 % of the private work force.
The ability of small businesses to get financing is critical to their success.
Commercial banks are the most important source of financing for small businesses,
and the competitive and deep banking system in the United States ensures
sufficient credit for small businesses across a wide range of sizes, industries, and
locations.
We want to engage with Brazil's authorities and with you in the private sector on
these issues. W e all seek the policy, legal and regulatory environments that m a k e it
possible to expand access to affordable financing to creditworthy, productive
borrowers. I a m looking forward to an informed and spirited panel discussion and
to ongoing engagement on these issues in the future.

F R O M T H E OFFICE OF PUBLIC AFFAIRS
June 20, 2003
JS-489
Statement by
Treasury Assistant Secretary for Tax Policy Pam Olson
on John Doe S u m m o n s issued to Jenkens and Gilchrist

Treasury has been working hand in hand with the IRS to have the right
policies and rules to effectively address the problem of abusive tax
avoidance transactions. The best policies m e a n little unless they are
enforced, and today's action represents another important step by the IRS,
Chief Counsel and the Justice Department in bringing these transactions,
and their promoters, into the light.
The John Doe summons initiative is an important step in our efforts to
ensure that the IRS has the information necessary for it to fully and fairly
enforce the tax laws.
For the first time, a summons is being issued to a law firm requesting the
identification of taxpayers w h o m a y have invested in listed transactions or
other potentially abusive transactions organized or sold by the firm.
We are working to create a new climate of respect by going after conduct
that represents the most troublesome forms of potentially abusive tax
avoidance.
Attached:
Tax Shelter Backgrounder
Statements by IRS Commissioner Everson and IRS Chief Counsel B, John
Williams

BACKGROUND INFORMATION
STRATEGY TO COMBAT ABUSIVE AVOIDANCE TRANSACTIONS
Today, the Internal Revenue Service received approval from the
United States District Court, Northern District of Illinois to serve a John D o e
s u m m o n s on Jenkens & Gilchrist, asking the law firm to identify taxpayers
w h o m a y have invested in listed transactions or other potentially abusive
transactions organized or sold by the firm's Chicago office.
The key features of a John Doe summons are that the IRS must seek
court approval to serve it and, if there are objections to the s u m m o n s , the
statute of limitations for assessing tax deficiencies for the unknown parties
(the "John Does", in this case, the investors) is automatically suspended
beginning six months after the service of the s u m m o n s , while objections to
the s u m m o n s are resolved.
This is the latest step in a comprehensive strategy to ensure all taxpayers
pay their fair share. The Treasury Department, the Internal Revenue Service
and the Department of Justice are moving aggressively to combat abusive
tax avoidance transactions.
This multi-pronged strategy includes requiring prompt disclosure of
potentially abusive transactions by taxpayers and promoters, providing more
timely analyses of these transactions and publishing legal guidance as early
as possible. It also involves auditing taxpayers and promoters to ensure that
they have complied with their obligations under the tax rules. In particular, the
IRS conducts promoter examinations to determine whether a promoter has
complied with regulations requiring identification of potentially abusive tax
avoidance transactions by registering such transactions and maintaining and
providing investor lists to the IRS upon request, and to determine whether the
promoter m a y be liable for penalties if they have failed to comply with the
registration and list maintenance requirements. S o m e promoters have
cooperated by giving the IRS the information to which it is entitled; however,
others have not.
Among the key steps taken:
• The IRS is investigating 92 promoters (some of which are related)
including law firms, investment banks and accounting firms.
• Since the beginning of 2002, the IRS has issued 268 summonses to
35 promoters (some of which are related) to examine their
compliance with the registration and list maintenance requirements,
by requesting information and investor lists.

•

This is the first action which seeks permission, as required by statute,
to issue a s u m m o n s for the primary purpose of obtaining the identities
of the investors in what the IRS has determined are potentially abusive
tax shelters.

• Of these summonses, 78 involving seven promoters have been
referred to the Department of Justice for enforcement.
• The Justice Department has filed summons enforcement actions
against four promoters.
In addition to these efforts to ensure promoters comply with the law, the
IRS and Treasury Department have also taken the following steps:
• The IRS and Treasury have identified 25 abusive transactions
through formal guidance.
• The IRS is auditing taxpayers to determine whether they invested in
abusive transactions, using information derived from promoter
audits, a disclosure initiative (described below), public information
and other sources.
• The Large and Mid-Size Business Division (LMSB) conducted a
disclosure initiative from December 2001 to April 2002 that resulted
in 1,664 disclosures from 1,206 taxpayers. Taxpayers disclosed
transactions in which they claimed deductions or losses amounting to
billions of dollars. Agents continue to investigate the leads
generated by information provided by the taxpayers w h o c a m e
forward.
• IRS teams have been assembled to implement a comprehensive
strategy to deal with questionable transactions. T e a m s are headed
by an L M S B executive and include representatives from Chief
Counsel, technical advisors and field specialists. The Chief Counsel
has also created n e w senior executive position within the Office of
Chief Counsel to focus on potentially abusive tax avoidance
transactions.
• LMSB launched additional settlement initiatives involving three types
of abusive transactions in October 2002 to offer an equitable
alternative to protracted enforcement and litigation. The last of these
settlement initiatives ended in March 2003.

•

The President's budget proposes an additional $100 million to
support this effort to pursue high-income individuals and businesses.
This request is awaiting action by Congress.
###

Statement of IRS Commissioner Mark W . Everson
"Today's action represents an important step in enforcing the tax law. The
promoters of potentially abusive tax avoidance transactions know the tax code
requires them to keep investor lists and to provide those lists to the IRS on
request. W e are seeking nothing more or less than adherence to the law."
Statement of IRS Chief Counsel B. John Williams
"Our efforts to curb potentially abusive tax avoidance transactions depend on our
ability to obtain and use a w e b of information about these transactions and those
w h o invest in and promote them. As part of our efforts, w e have, and will, issue
summonses to law firms, accounting firms, investment banks and others w h o
m a y have been involved in the promotion of questionable transactions."
"We will use all tools available to us to ensure that promoters and investors are
complying with the tax laws and will not hesitate to serve John Doe summonses,
in addition to regular summonses, to make sure that w e preserve the statute of
limitations for investors. W e will not allow investors and promoters to use stalling
tactics to circumvent our compliance efforts."

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 20, 2003
JS^t90
Press Announcement
O n the Group for Growth
June 20, 2003
Secretary John Snow and Minister Antonio Palocci share a commitment to
accelerate economic growth in both countries to create jobs, raise living
standards, and fight poverty. Higher growth in each economy will provide
important benefits not only for the U S and Brazil but for the rest of the
Hemisphere as well. The two agree on the benefits of in-depth
discussions on pro-growth strategies to share experience and best
practices in addressing challenges c o m m o n to their large economies with
complex federal systems.
In this context, Secretary Snow and Minister Palocci will launch a Group for
Growth designed to examine policy topics key for raising productivity
growth. They have agreed on an initial set of topics for consultations:
fiscal policy and tax reform, reducing impediments to the creation and
expansion of small and medium-sized companies, increasing investment
and business credit, promoting trade, developing infrastructure,
strengthening domestic competition. Both m a y also invite representatives
of the private sector and society at large to share views on key
impediments and needed reforms to spur growth.
John Taylor, Under Secretary for International Affairs at the U.S. Treasury,
will chair the inter-agency delegation to meetings of the Group for Growth
for the U.S. side. Joaquim V. Levy, Secretary of the National Treasury,
and Marcos Lisboa, Secretary for Economic Policy, both at the Brazilian
Ministry of Finance, will co-chair the inter-agency delegation for the
Brazilian side. The first meeting of the Group for Growth is expected in the
early fall of this year.

PRLSS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 20, 2003
JS491
Statement by G7 Finance Ministers
Revision of the Financial Action Task Force 40 Recommendations
We welcome the Financial Action Task Force (FATF) revision of its 40
recommendations, which set the international standard in the fight against money
laundering and terrorist financing.
This new standard represents a crucial step forward in the international fight against
financial crime. The revision of the FATF 40 recommendations significantly
enhances the standard for customer due diligence, broadens the scope of the
money laundering offence, improves transparency of legal persons and
arrangements and strengthens international cooperation and suspicious
transactions reporting. It also enlarges the scope of non-financial professions and
businesses involved in this collective effort.
We strongly endorse these new recommendations and reaffirm our commitment to
taking early steps towards complying with this revised standard and to promoting its
world-wide implementation.

F R O M THE OFFICE OF PUBLIC AFFAIRS
June 20, 2003
JS-492
Statement By Treasury General Counsel David Aufhauser On DC Court Of
Appeals Ruling Upholding Designation Of The Holy Land Foundation For
Relief And Development
"We are pleased that the DC Court of Appeals has upheld Treasury's ability
to employ a vital tool in the war on terrorist financing. The power to freeze
the assets of terrorists and those w h o support them is one of our most
effective weapons in preventing future acts of terror."
- Treasury General Counsel David Aufhauser

PRLSS ROOM

F R O M T H E OFFICE O F PUBLIC A F F A I R S
To view or print the PDF content on this page, download the free Adobe® Acrobat® Reader®.
June 23, 2003
JS-493
Treasury Issues Guidance on Partnership Abuses
Today the Treasury Department and the Internal Revenue Service issued
regulations dealing with a tax shelter commonly known as "Son of Boss." The
regulations address the tax treatment of the assumption of certain obligations by a
partnership from a partner. The regulations ensure that temporary or permanent
non-economic tax losses cannot be created by transferring these obligations to
partnerships.
"These regulations are part of our increased efforts to shut down abusive tax
shelter transactions," stated Treasury Assistant Secretary for Tax Policy P a m
Olson. "In Notice 2000-44, w e warned that these Son of Boss transactions didn't
work. Nevertheless, w e understand that some promoters have continued to pitch
them. The regulations will remove any question that the transactions do not
produce the results claimed by the promoters of the transactions."
In one variation of a 'Son of Boss' transaction, a taxpayer purchases and writes
economically offsetting options and then purports to create substantial positive
basis by transferring those option, positions to a partnership. O n the disposition of
the partnership interest, the liquidation of the partnership, or the taxpayer's sale or
depreciation of distributed partnership assets, the taxpayer claims a tax loss, even
though the taxpayer has incurred no corresponding economic loss.
For example, assume that taxpayer A issues and purchases options to acquire
stock in Corporation X. A pays $100 for the option to acquire X stock and receives
$100 on the issuance of the option to acquire X stock. A then contributes to a
partnership the $100 A received on the sale of the option, and the partnership
assumes A's obligation to satisfy the option that A has issued. The value of A's
interest in the partnership is $0. However, some taxpayers have argued that A's
basis in the partnership is $100, because A's basis in the partnership interest is not
reduced by the amount of the option obligation assumed by the partnership. A then
sells his partnership interest for $0 and claims a $100 loss.
The regulations address this transaction by requiring A to reduce his basis in the
partnership by the amount of the assumed option obligation. In accordance with
legislation granting Treasury authority to issue these regulations, the regulations
apply to assumptions by partnerships occurring on or after October 19, 1999.
The temporary and proposed regulations are attached.
Related Documents:
• 358H Temporary Reg
• 358 H Proposed Reg

[4830-01-PJ
DEPARTMENT OF THE TREASURY
Internal Revenue Service
2 6 CFR Part 1
[TD 9062]
RIN 1545-BB83
Assumption of Partner Liabilities
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Temporary regulations.
SUMMARY: This document contains temporary regulations
regarding a partnership's assumption of a partner's
liabilities in a transaction occurring after October 18, 1999,
and before June 24, 2003. These temporary regulations affect
partners and partnerships and clarify the tax treatment of an
assumption by a partnership of a partner's liability. The
text of these temporary regulations also serves as the text of
the proposed regulations set forth in a notice of proposed
rulemaking on this subject in the Proposed Rules section of
this issue of the Federal Register.
DATES: Effective Date: These regulations are effective June
24, 2003.
Applicability Date: For date of applicability, see
_1.752-6T(d).
FOR FURTHER INFORMATION CONTACT: Horace Howells (202) 622-3050

(not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
With certain exceptions, no gain or loss is recognized if
property is transferred to a corporation solely in exchange
for stock of the corporation, and, immediately after the
exchange, the transferors control the corporation. If,
however, the transferee corporation assumes a liability of the
transferor, then, under section 358(d), the transferor's basis
in the stock received in the exchange is reduced by the amount
of that liability. If the amount of the liability exceeds the
transferor's basis in the property transferred to the
corporation, then the transferor recognizes gain under section
357(c) (1). Under section 357(c) (3), a liability the payment
of which would give rise to a deduction or that would be
described in section 736(a) (regarding payments to a retiring
partner) is not taken into account in applying section
357(c) (1), unless the incurrence of the liability resulted in
the creation of, or an increase in, the basis of any property.
Under section 752(a) and (b), similar rules apply where a
partnership assumes a liability from a partner or a partner
contributes property to a partnership subject to a liability.
The difference between the amount of the liability and the
partner's share of that liability after the partnership's

3
assumption is treated as a distribution of money, which
reduces the partner's basis in the partnership interest and
may cause the partner to recognize gain. There is no
statutory or regulatory definition of liabilities for purposes
of section 752. Case law and revenue rulings, however, have
established that, as under section 357(c)(3), the term
liabilities for this purpose does not include liabilities the
payment of which would give rise to a deduction, unless the
incurrence of the liability resulted in the creation of, or an
increase in, the basis of property. Rev. Rul. 88-77 (1988-2
C. B. 12 8); Salina Partnership LP, FPL Group, Inc. v.
Commissioner, T.C. Memo 2000-352.
On December 21, 2000, as part of the Community Renewal
Tax Relief Act of 2000 (Appendix G of H.R. 4577, Consolidated
Appropriations Act, 2001) Public Law 106-554, 114 Stat. 2763,
2763A-638 (2001) (the Act), Congress enacted section 358(h) to
address certain situations where property was transferred to a
corporation in exchange for both stock and the corporation's
assumption of certain obligations of the transferor. In these
situations, transferors took the position that the obligations
were not liabilities within the meaning of section 357 (c) or
that they were described in section 357 (c) (3), and, therefore,
the obligations did not reduce the basis of the transferor's

4
stock. These assumed obligations, however, did reduce the
value of the stock. The transferors then sold the stock and
claimed a loss. In this way, taxpayers attempted to duplicate
a loss in corporate stock and to accelerate deductions that
typically are allowed only on the economic performance of
these types of obligations.
Section 358(h) addresses these transactions by requiring
that, after application of section 358(d), the basis in stock
received in an exchange to which section 351, 354, 355, 356,
or 361 applies be reduced (but not below the fair market value
of the stock) by the amount of any liability assumed in the
exchange. Exceptions to section 358(h) are provided where:
(1) the trade or business with which the liability is
associated is transferred to the person assuming the liability
as part of the exchange; or (2) substantially all of the
assets with which the liability is associated are transferred
to the person assuming the liability as part of the exchange.
The term liability for purposes of section 358(h) includes
any fixed or contingent obligation to make payment without
regard to whether the obligation is otherwise taken into
account for purposes of the Internal Revenue Code (Code).
Congress recognized that taxpayers were attempting to use
partnerships to carry out the same types of abuses that

5
section 358(h) was designed to deter. Therefore, in section
309(c) and (d)(2) of the Act, Congress directed the Secretary
to prescribe rules to provide "appropriate adjustments under
subchapter K of chapter 1 of the Code to prevent the
acceleration or duplication of losses through the assumption
of (or transfer of assets subject to) liabilities described in
section 358 (h) (3) ... in transactions involving
partnerships." This statutory provision does not specify
whether the exceptions in section 358(h)(2) should apply. The
only cross-reference to section 358 (h) in this statutory
provision is to section 358(h) (3), which defines the term
liability. Under the statute, these rules are to "apply to
assumptions of liability after October 18, 1999, or such later
date as may be prescribed in such rules."
In response to this directive, these temporary
regulations provide rules to prevent the duplication and
acceleration of loss through the assumption by a partnership
of a liability of a partner in a nonrecognition transaction.
Section 1.752-6T adopts the approach of section 358(h), with
some modifications, for transactions involving partnership
assumptions of partners' liabilities occurring after October
18, 1999, and before June 24, 2003. The modifications made
to the approach of section 358(h) were to provide rules to

6
conform the application of section 358 (h) to partnerships and,
as discussed below, to prevent abuse.
Prior to the enactment of Code section 358 (h) and section
309(c) and (d)(2) of the Act, the lack of specific rules
addressing the treatment of liabilities upon the transfer of
property to a corporation or a partnership led to
interpretations of then existing law that failed to reflect
the true economics of certain transactions. In some cases,
taxpayers continued to assert these interpretations even after
the enactment of these statutory provisions. For example, in
a transaction addressed in Notice 2000-44 (2000-2 C.B. 255), a
taxpayer purchases and writes economically offsetting options
and then purports to create substantial positive basis by
transferring those option positions to a partnership. On the
disposition of the partnership interest, the liquidation of
the partner's interest in the partnership, or the taxpayer's
sale or depreciation of distributed partnership assets, the
taxpayer claims a tax loss, even though the taxpayer has
incurred no corresponding economic loss.
Treasury and the IRS believe that it is appropriate to
prohibit partners and partnerships engaging in transactions
described in, or transactions that are substantially similar
to the transactions described in, Notice 2000-44 from relying

7
on the exception in section 358(h)(2)(B). The exceptions to
section 358 (h) were intended to exclude from the application
of section 358(h) ordinary business transactions. They were
not intended to allow taxpayers to engage in transactions that
create noneconomic tax losses.
The text of the temporary regulations also serves as the
text of the proposed regulations set forth in the notice of
proposed rulemaking on this subject in the Proposed Rules
section of this issue of the Federal Register (_1.752-6 of the
proposed Income Tax Regulations). As part of that notice of
proposed rulemaking, §1.752-7 of the proposed Income Tax
Regulations is being issued to carry out the directive of
section 309 (c) of the Act with respect to assumptions of
liabilities occurring on or after June 24, 2003. The proposed
regulations conform the application of section 358 (h) to
partnerships by providing a basis reduction upon an event that
separates the partner from the liability rather than on
assumption of the liability by the partnership and by adopting
certain exceptions. Section 1.752-7 (j) of the proposed Income
Tax Regulations allows a partnership to elect to apply _1.7527 of the proposed Income Tax Regulations and related proposed
provisions to assumptions of liabilities occurring after
October 18, 1999, and before June 24, 2003, in lieu of

8
applying _1.752-6T of the temporary Income Tax Regulations to
this period.
Explanation of Provisions
Under these temporary regulations, if a partnership
assumes a liability of a partner (other than a liability to
which section 752 (a) and (b) apply) in a transaction described
in section 721 (a), then, after application of section 752(a)
and (b), the partner's basis in the partnership is reduced
(but not below the adjusted value of such interest) by the
amount (determined as of the date of the exchange) of the
liability. For this purpose, the term liability includes any
fixed or contingent obligation to make payment, without regard
to whether the obligation is otherwise taken into account for
federal tax purposes. The adjusted value of a partner's
interest in a partnership is the fair market value of that
interest increased by the partner's share of partnership
liabilities under 1.752-1 through 1.752-5.
The exceptions under section 358 (h) applicable to
corporate assumptions of shareholder liabilities generally
apply for purposes of these temporary regulations. Therefore,
a reduction in a partner's basis generally is not required,
under these regulations, after an assumption of a liability by
a partnership from that partner if: (1) the trade or business

9
with which the liability is associated is transferred to the
partnership assuming the liability as part of the transaction,
or (2) substantially all of the assets with which the
liability is associated are contributed to the partnership
assuming the liability.
However, in the case of a partnership transaction
described in, or a partnership transaction that is
substantially similar to the transactions described in, Notice
2000-44, the exception for contributions of "substantially all
of the assets with which the liability is associated" does not
apply.
Effective Date
In accordance with the directive in section 309(c) and
(d)(2) of the Act, these temporary regulations apply to
assumptions of liabilities occurring after October 18, 1999,
and before June 24, 2003. Under section 7805(b) (6), the
Secretary may provide that any regulation may take effect in
accordance with a legislative grant from Congress authorizing
the Secretary to prescribe the effective date for such
regulation. In addition, under section 7805(b) (3), the
Secretary may provide that any regulation may take effect or
apply retroactively to prevent abuse. The Secretary has
determined that a later effective date is inappropriate.

10
Therefore, these regulations are being applied retroactively
in accordance with the directive from Congress in section
309(d)(2) of the Act and to prevent abuse.
Special Analyses
These temporary regulations are necessary to prevent
abusive transactions of the type described in the Notice 200044. Accordingly, good cause is found for dispensing with
notice and public procedure pursuant to 5 U.S.C. 553(b) (B) and
for dispensing with a delayed effective date pursuant to 5
U.S.C. 553(d)(1) and (3).
It has been determined that this Treasury decision is not
a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory assessment is not required.
For the applicability of the Regulatory Flexibility Act (5
U.S.C. chapter 6), refer to the Special Analyses section of
the preamble to the notice of proposed rulemaking on this
subject published in the Proposed Rules section of this issue
of the Federal Register. Pursuant to section 7805(f) of the
Code, these temporary regulations will be submitted to the
Chief Counsel for Advocacy of the Small Business
Administration for comment on their impact on small business.

Drafting Information

11
The principal author of these temporary regulations is
Horace Howells, Office of the Associate Chief Counsel
(Passthroughs and Special Industries), IRS. However, other
personnel from the IRS and Treasury Department participated in
their development.
List of Subjects in 2 6 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Adoption of Amendments to the Regulations
Accordingly, 26 CFR part 1 is amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for part 1 continues
to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
~ 1_ :1 / J,. "D c-1 S . J. •".' 'Uc L I J*, x_1 .1 ^ a.W 1_>£^ ^_ >
x
1 \ 4__SJ;_ ?_•_ . rU• _>_ ._Jj_^±; *; •;„:; U ;_'_Q_-j

Par. 2. Section 1.752-6T is added to read as follows:
1.752-6T Partnership assumption of partner's section
358(h)(3) liability after October 18, 1999, and before June
24, 2003.
(a) In general. If, in a transaction described in
section 721(a), a partnership assumes a liability (defined in
section 358(h)(3)) of a partner (other than a liability to
which section 752(a) and (b) apply), then, after application

12
of section 752(a) and (b), the partner's basis in the
partnership is reduced (but not below the adjusted value of
such interest) by the amount (determined as of the date of the
exchange) of the liability. For purposes of this section, the
adjusted value of a partner's interest in a partnership is the
fair market value of that interest increased by the partner's
share of partnership liabilities under 1.752-1 through
1.752-5.
(b) Exceptions--(1) In general. Except as provided in
paragraph (b)(2) of this section, the exceptions contained in
section 358(h)(2)(A) and (B) apply to this section.
(2) Transactions described in Notice 2000-44. The
exception contained in section 358(h)(2)(B) does not apply to
an assumption of a liability (defined in section 358(h)(3)) by
a partnership as part of a transaction described in, or a
transaction that is substantially similar to the transactions
described in, Notice 2000-44 (2000-2 C.B. 255). See
§601.601(d)(2) of this chapter.
(c) Example. The following example illustrates the
principles of paragraph (a) of this section:
Example. In 1999, A and B form partnership PRS. A
contributes property with a value and basis of $200, subject
to a nonrecourse debt obligation of $50 and a fixed or

13
contingent obligation of $100 that is not a liability to which
section 752(a) and (b) applies, in exchange for a 50% interest
in PRS. Assume that, after the contribution, A's share of
partnership liabilities under 1.752-1 through 1.752-5 is
$25. Also assume that the $100 liability is not associated
with a trade or business contributed by A to PRS or with
assets contributed by A to PRS. After the contribution, A's
basis in PRS is $175 (A's basis in the contributed land ($200)
reduced by the nonrecourse debt assumed by PRS ($50),
increased by A's share of partnership liabilities under
1.752-1 through 1.752-5 ($25)). Because A's basis in the
PRS interest is greater than the adjusted value of A's
interest, $75 (the fair market value of A's interest ($50)
increased by A's share of partnership liabilities ($25)),
paragraph (a) of this section operates to reduce A's basis in
the PRS interest (but not below the adjusted value of that
interest) by the amount of liabilities described in section
358(h) (3) (other than liabilities to which section 752(a) and
(b) apply) assumed by PRS. Therefore, A's basis in PRS is
reduced to $75.
(d) Effective dates--(1) In general. This section
applies to assumptions of liabilities occurring after October
18, 1999, and before June 24, 2003.

(2) Election to apply §1.752-7.

The partnership may

elect, under the provisions of REG-106736-00 (2003-28 IRB)
(see §601.601(d)(2) of this chapter) to apply those provisions
and related proposed Income Tax Regulations to all assumptions
of liabilities by the partnership occurring after October 18,
1999, and before June 24, 2003. The provisions of REG-10673600 (2003-28 IRB) (see §601.601(d)(2) of this chapter)
describes the manner in which the election is made.

David A. Mader
Assistant Deputy Commissioner of Internal
Revenue.

Approved: 5/07/03

Gregory Jenner
Deputy Assistant Secretary of the Treasury.

[4830-01-P]
DEPARTMENT OF THE TREASURY
Internal Revenue Service
2 6 CFR Part 1
[REG-106736-00]
RIN 1545-AX93
Assumption of Partner Liabilities
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking; notice of proposed
rulemaking by cross-reference to temporary regulations; and
notice of public hearing.
SUMMARY: This document contains proposed regulations relating
to the definition of liabilities under section 752 of the
Internal Revenue Code. These regulations provide rules
regarding a partnership's assumption of certain fixed and
contingent obligations in exchange for a partnership interest
and provide conforming changes to certain regulations. These
regulations also provide rules under section 358(h) for
assumptions of liabilities by corporations from partners and
partnerships. In addition, this document provides notice that
the IRS and Treasury intend to issue supplemental guidance
that may apply certain of the rules outlined in these proposed
regulations to transactions involving corporations. This
document also provides notice of public hearing on the

proposed regulations.
DATES: Written or electronic comments and requests to speak
at the public hearing scheduled for Tuesday, October 14, 2003,
must be received by September 22, 2003.
ADDRESSES: Send submissions to: CC:PA:RU (REG-106736-00),
room 5226, Internal Revenue Service, POB 7604, Ben Franklin
Station, Washington, DC 20044. Submissions may be handdelivered between the hours of 8 a.m. and 4 p.m. to CC:PA:RU
(REG-106736-00), Courier's Desk, Internal Revenue Service,
1111 Constitution Avenue, NW., Washington, DC or sent
electronically, via the IRS Internet site at:
www.irs.gov/regs. The public hearing will be held in the
auditorium, Internal Revenue Building, 1111 Constitution
Avenue, NW., Washington, DC.
FOR FURTHER INFORMATION CONTACT: Horace Howells at (202) 6223050; concerning submissions, the hearing, and/or placement on
the building access list to attend the hearing, Sonya Cruse,
(202) 622-7180 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information contained in this notice of
proposed rulemaking has 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(d)). Comments

3
on the collection of information should be sent to the Office
of Management and Budget, Attn: Desk Officer for the
Department of the Treasury, Office of Information and
Regulatory Affairs, Washington, DC 20503, with copies to the
Internal Revenue Service, Attn: IRS Reports Clearance Officer,
W:CAR:MP:T:T:SP Washington, DC 20224. Comments on the
collection of information should be received by August 25,
2003. Comments are specifically requested concerning:
Whether the proposed collection of information is
necessary for the proper performance of the functions of the
Internal Revenue Service, including whether the information
will have practical utility;
The accuracy of the estimated burden associated with the
proposed collection of information (see below);
How the quality, utility, and clarity of the information
to be collected may be enhanced;
How the burden of complying with the proposed collection
of information may be minimized, including through the
application of automated collection techniques or other forms
of information technology; and
Estimates of capital or start-up costs and costs of
operation, maintenance, and purchase of services to provide
information.

4
The collection of information in this proposed regulation
is in §1.752-7 (e), (f), (g), and (h) . This information is
required for a former or current partner of a partnership to
take deductions attributable to the economic performance of
certain fixed or contingent obligations assumed from the
partner by a partnership. This information will be used by
the partner to permit the partner to take a deduction. An
additional collection of information in this proposed
regulation is in _1.752-7(j)(2). This information is required
to inform the IRS of partnerships making the designated
election and to report income appropriately. The collection
of information is required to obtain a benefit, i.e., to elect
to apply the provisions of _1.752-7 of the proposed
regulations in lieu of _1.752-6T of the temporary regulations.
The likely respondents are individuals, business or other
for-profit institutions, and small businesses or
organizations.
Estimated total annual reporting burden: 125 hours.
The estimated annual burden per respondent varies from 20
to 40 minutes, depending on individual circumstances, with an
estimated average of 30 minutes.
Estimated number of respondents: 250
Estimated annual frequency of responses: On occasion

5
An agency may not conduct or sponsor, and a person is not
required to respond to, a collection of information unless it
displays a valid control number assigned by the Office of
Management and Budget.
Books or records relating to a collection of information
must be retained as long as their contents may become material
in the administration of any internal revenue law. Generally,
tax returns and tax return information are confidential, as
required by 26 U.S.C. 6103.
Background
With certain exceptions, no gain or loss is recognized if
property is transferred to a corporation solely in exchange
for stock of the corporation, and, immediately after the
exchange, the transferors control the corporation. If,
however, the transferee corporation assumes a liability of the
transferor, then, under section 358(d), the transferor's basis
in the stock received in the exchange is reduced by the amount
of that liability. If the amount of the liability exceeds the
transferor's basis in the property transferred to the
corporation, then the transferor recognizes gain under section
357 (c) (1) . Under section 357 (c) (3), a liability the payment
of which would give rise to a deduction or that would be
described in section 736(a) (regarding payments to a retiring

6
partner) is not taken into account in applying section
357(c) (1), unless the incurrence of the liability resulted in
the creation of, or an increase in, the basis of any property.
Under section 752 (a) and (b), similar rules apply where a
partnership assumes a liability from a partner or a partner
contributes property to a partnership subject to a liability.
The difference between the amount of the liability and the
partner's share of that liability after the partnership's
assumption is treated as a distribution of money, which
reduces the partner's basis in the partnership interest and
may cause the partner to recognize gain. There is no
statutory or regulatory definition of liabilities for purposes
of section 752. Case law and revenue rulings, however, have
established that, as under section 357(c)(3), the term
liabilities for this purpose does not include liabilities the
payment of which would give rise to a deduction, unless the
incurrence of the liability resulted in the creation of, or an
increase in, the basis of property. Rev. Rul. 88-77 (1988-2
C. B. 12 8); Salina Partnership LP, FPL Group, Inc. v.
Commissioner, T.C. Memo 2000-352.
On December 21, 2000, as part of the Community Renewal
Tax Relief Act of 2000 (Appendix G of H.R. 4577, Consolidated
Appropriations Act, 2001) Public Law 106-554, 114 Stat. 2763,

7
2763A-638 (2001) (the Act), Congress enacted section 358(h) to
address certain situations where property was transferred to a
corporation in exchange for both stock and the corporation's
assumption of certain obligations of the transferor. In these
situations, transferors took the position that the obligations
were not liabilities within the meaning of section 357 (c) or
that they were described in section 357(c) (3), and, therefore,
the obligations did not reduce the basis of the transferor's
stock. These assumed obligations, however, did reduce the
value of the stock. The transferors then sold the stock and
claimed a loss. In this way, taxpayers attempted to duplicate
a loss in corporate stock and to accelerate deductions that
typically are allowed only on the economic performance of
these types of obligations.
Section 358(h) addresses these transactions by requiring
that, after application of section 358(d), the basis in stock
received in an exchange to which section 351, 354, 355, 356,
or 361 applies be reduced (but not below the fair market value
of the stock) by the amount of any liability assumed in the
exchange. Exceptions to section 358(h) are provided where:
(1) the trade or business with which the liability is
associated is transferred to the person assuming the liability
as part of the exchange; or (2) substantially all of the

8
assets with which the liability is associated are transferred
to the person assuming the liability as part of the exchange.
The term liability for purposes of section 358(h) includes
any fixed or contingent obligation to make payment without
regard to whether the obligation is otherwise taken into
account for purposes of the Internal Revenue Code (Code).
Congress recognized that taxpayers were attempting to use
partnerships and S corporations to carry out the same types of
abuses that section 358(h) was designed to deter. Therefore,
in section 309(c) and (d)(2) of the Act, Congress directed the
Secretary to prescribe rules to provide "appropriate
adjustments under subchapter K of chapter 1 of the Code to
prevent the acceleration or duplication of losses through the
assumption of (or transfer of assets subject to) liabilities
described in section 358 (h) (3) ... in transactions involving
partnerships" and to prescribe similar rules for S
corporations. Under the statute, these rules are to "apply to
assumptions of liability after October 18, 1999, or such later
date as may be prescribed in such rules."
In response to this directive, these proposed regulations
provide rules to prevent the duplication and acceleration of
loss through the assumption by a partnership of a §1.752-7
liability from a partner. For this purpose, a partnership

9
that takes property subject to a liability is generally
treated as assuming the liability. A _1.752-7 liability is
any fixed or contingent obligation to make payment that is not
described in _1.752-1(a)(1), without regard to whether the
obligation is otherwise taken into account for purposes of the
Code.
The proposed regulations also provide that section 704 (c)
principles shall apply to a §1.752-7 liability assumed by a
partnership from a partner. Accordingly, the §1.752-7
liability is treated under section 704 (c) principles as having
a built-in loss equal to the amount of such liability at the
time of its assumption by the partnership. The amount of the
§1.752-7 liability is the amount that a willing assignor would
pay to a willing assignee to assume the §1.752-7 liability in
an arm's-length transaction.
In addition, the proposed regulations make conforming
amendments to §§1.704-1 (b) (2) (iv) (b) (by providing that a
partner's capital account be reduced by the §1.752-7
liabilities that the partnership assumes from the partner),
1.704-2 (b) (3) (by treating a §1.752-7 liability as a
nonrecourse liability for purposes of the partnership
allocation rules), and 1.705-1 (by directing taxpayers to
§1.358-7(b) and _1.752-7 for basis adjustments necessary to

10
coordinate section 705 with section 358(h) and _1.752-7).
Moreover, the proposed regulations provide rules under
section 358(h) for assumptions of liabilities by corporations
from partners and partnerships. In addition, in the
Explanation of Provisions section of this preamble, the IRS
and Treasury are alerting taxpayers that they are considering
adopting the definition of liability proposed in these
regulations as an appropriate interpretation of the term
liability for purposes of subchapter C of chapter 1 of the
Code. The IRS and Treasury are also considering issuing
regulations to conform the exceptions to section 358 (h) to the
exceptions described in these regulations. These regulations
will be retroactive to the extent necessary to prevent abuse.
Section 358(h) applies to S corporations. The Act states
that the Secretary may prescribe comparable rules which
provide appropriate adjustments under subchapter S. These
proposed regulations do not address the assumption of
liabilities by S corporations; however, any rules applicable
to assumptions of liabilities by corporations would, in the
absence of provisions to the contrary, apply equally to S
corporations. Comments regarding the assumption of
liabilities by S corporations are requested.
Explanation of Provisions

11
1. Addition of §1.752-1 (a) (1)—Definition of Liability
The question of what constitutes a liability for purposes
of section 752 was addressed in Rev. Rul. 88-77 (1988-2 C.B.
128). Rev. Rul. 88-77 holds that partnership liabilities
include an obligation only if, and to the extent that,
incurring the obligation creates or increases the basis to the
partnership of any of the partnership's assets (including cash
attributable to borrowings), gives rise to an immediate
deduction to the partnership, or, under section 705(a) (2) (B)
(relating to noncapital, nondeductible expenditures of a
partnership) currently decreases a partner's basis in the
partner's partnership interest. Section 1.752-lT(g) (1989-1
C.B. 180), included a definition of a liability for purposes
of section 752 that reaffirmed the position of the IRS in Rev.
Rul. 88-77. This definition was removed from the final
version of those regulations in response to comments that the
definition was redundant and therefore unnecessary. The
Service continues to follow the definition of liability set
forth in Rev. Rul. 88-77. See Rev. Rul. 95-26 (1995-1 C.B.
131) .
Because these proposed regulations define a §1.752-7
liability as a fixed or contingent obligation to make payment
to which section 752 does not apply, Treasury and the IRS

12
believe that it is appropriate to describe in these
regulations the liabilities to which section 752 does apply.
Therefore, following the principles set forth in §1.752-1T(g)
and Rev. Rul. 88-77, the proposed regulations provide that an
obligation is a liability if and to the extent that incurring
the obligation: (A) creates or increases the basis of any of
the obligor's assets (including cash); (B) gives rise to an
immediate deduction to the obligor; or (C) gives rise to an
expense that is not deductible in computing the obligor's
taxable income and is not properly chargeable to capital. An
obligation for this purpose is any fixed or contingent
obligation to make payment without regard to whether the
obligation is otherwise taken into account for purposes of the
Code. Obligations include, but are not limited to, debt
obligations, environmental obligations, tort obligations,
contract obligations, pension obligations, obligations under a
short sale, and obligations under derivative financial
instruments such as options, forward contracts, and futures
contracts. The definition of a liability contained in these
proposed regulations does not follow Helmer v. Commissioner,
T.C. Memo 1975-160. (The Tax Court, in Helmer, held that a
partnership's issuance of an option to acquire property did
not create a partnership liability for purposes of section

13
752. )
Treasury and the IRS are considering adopting the
definition of liability proposed in these regulations as an
appropriate interpretation of the term liability for purposes
of subchapter C of chapter 1 of the Code. Treasury and the
IRS request comments on the scope and substance of such
regulations, which will be retroactive to the extent necessary
to prevent abuse.
2 . §1.752-7--Partnership Assumption of Partner's §1.752-7
Liability
In the corporate context, section 358 (h) prevents the
duplication and acceleration of loss with respect to
obligations not encompassed by section 358(d) by reducing the
transferor shareholder's basis in corporate stock received in
the exchange. Treasury and the IRS do not believe that this
is the best approach for partnerships given their passthrough
nature. Ultimately, the partners' shares of a partnership's
deductions are limited by the partners' bases in their
partnership interests (their outside bases). If, at the time
of an assumption of a §1.752-7 liability by a partnership from
a partner (the _1.752-7 liability partner), the partner's
outside basis were reduced by the amount of the §1.752-7
liability, then the partner would not have sufficient outside

14
basis to absorb any deduction with respect to the §1.752-7
liability that passed through the partnership.
For this reason, these proposed regulations do not reduce
the outside basis of the §1.752-7 liability partner upon the
partnership's assumption of the §1.752-7 liability. If the
partnership satisfies the §1.752-7 liability while the §1.7527 liability partner is a partner in the partnership, then the
deduction with respect to the portion of the §1.752-7
liability assumed by the partnership from the §1.752-7
liability partner (the built-in loss associated with the
§1.752-7 liability) is allocated to the §1.752-7 liability
partner, reducing that partner's outside basis. If, instead,
one of three events occur that separate the §1.752-7 liability
partner from the §1.752-7 liability, then the §1.752-7
liability partner's outside basis is reduced at that time.
These events are: (1) a disposition (or partial disposition)
of the partnership interest by the §1.752-7 liability partner,
(2) a liquidation of the §1.752-7 liability partner's
partnership interest, and (3) the assumption (or partial
assumption) of the §1.752-7 liability by a partner other than
the §1.752-7 liability partner. Immediately before the
occurrence of one of these events, the §1.752-7 liability
partner's basis in the partnership interest generally is

15
reduced by the lesser of: (1) the excess of the §1.752-7
liability partner's basis in the partnership interest over the
adjusted value of that interest, or (2) the remaining built-in
loss associated with the §1.752-7 liability (the §1.752-7
liability reduction). For this purpose, the adjusted value of
a partner's interest in a partnership is the fair market value
of that interest increased by the partner's share of
partnership liabilities under 1.752-1 through 1.752-5. In
the case of a partial disposition of the §1.752-7 liability
partner's partnership interest or a partial assumption of the
§1.752-7 liability by another partner, the §1.752-7 liability
reduction is pro rated based on the portion of the interest
sold or the portion of the §1.752-7 liability assumed.
After the occurrence of such an event, the partnership
(or the assuming partner) is not entitled to any deduction or
capital expense on the economic performance of the §1.752-7
liability to the extent of the remaining built-in loss
associated with the §1.752-7 liability. If, however, the
partnership (or the assuming partner) notifies the §1.752-7
liability partner of the partial or complete economic
performance of the §1.752-7 liability, then the §1.752-7
liability partner is entitled to a deduction or loss. The
amount of that deduction or loss is, in the case of a partial

16
satisfaction of the §1.752-7 liability, the amount paid by the
partnership in satisfaction of the §1.752-7 liability (but not
more than the §1.752-7 liability reduction) or, in the case of
a complete satisfaction of the §1.752-7 liability, the
remaining §1.752-7 liability reduction. To the extent of the
amount paid in satisfaction of the §1.752-7 liability, the
character of that deduction or loss is determined as if the
§1.752-7 liability partner had satisfied the §1.752-7
liability. To the extent that the §1.752-7 liability
reduction exceeds the amount paid in satisfaction of the
§1.752-7 liability, the character of the §1.752-7 liability
partner's loss is capital.
The proposed regulations further provide that, solely for
purposes of section 705 (adjustments to the basis of a
partnership interest) and _1.704-1(b)(2)(iv)(b) (partnership
capital accounting rules), the remaining built-in loss
associated with the §1.752-7 liability is not treated as a
nondeductible, noncapital expense to the partnership.
Therefore, the remaining partners' bases in their partnership
interests and capital accounts are not reduced by the
remaining built-in loss associated with the §1.752-7
liability.
If the _1.752-7 liability is assumed by a partner other

17
than the _1.752-7 liability partner, then, on economic
performance of the _1.752-7 liability, the assuming partner is
treated as contributing cash to the partnership in the amount
of the lesser of: (1) the amount paid to satisfy the _1.752-7
liability; or (2) the remaining built-in loss associated with
the _1.752-7 liability as of the time of the assumption.
Adjustments as a result of this deemed cash contribution may
include adjusting the basis of the partnership interest, any
assets (other than cash, accounts receivable, or inventory)
distributed by the partnership to the partner, or gain or loss
on the disposition of the partnership interest or of property
distributed by the partnership, as the case may be. However,
the assuming partner cannot take into account any adjustments
to depreciable basis, reduction in gain, or increase in loss
until economic performance of the _1.752-7 liability. Any
adjustment to the basis of an asset under this provision is
taken into account over the recovery period of that asset.
3. Exceptions
Certain exceptions apply to these rules. In the
corporate context, section 358 (h) does not apply in the
following two situations: (1) where the trade or business with
which the liability is associated is transferred to the
corporation assuming the liability; and (2) where

18
substantially all of the assets with which the liabi_ity is
associated are transferred tc the corporation assuming the
liability. Section 358(h)(2) authorizes the Secretary to
limit the application of these exceptions.
The statutory provision re_atir_g to partnerships does not
specify whether the exceptions in section 358(h) (2) should
apply. The only cross-reference to section 358 (h) in this
statutory provision is to section 358(h)(3), which defines the
term 1iabi_ity. Treasury and IRS believe it is appropriate to
provide for a variation on one of the two exceptions to
section 358(h), as well as an additional exception that is not
included in section 358(h), in these proposed regulations.
Treasury and the IRS request comments on these exceptions and
on whether additional exceptions should be included in the
final regulations.
The first exception applies where the partnership assumes
the §1.752-7 liability as part of the contribution of the
trade or business with which the liability is associated and
the partnership continues to conduct that trade or business
after the contribution. For this purpose, a trade or business
is a specific group of activities carried on by a person for
the purpose of earning income or profit if the activities
included in that group include every operation that forms a

19
part of, or a step in, the process of earning income or
profit.
The proposed regulations provide that the activity of
acquiring, holding, or disposing of financial instruments
constitutes a trade or business for this purpose if and only
if the activity is conducted by an entity registered with the
Securities and Exchange Commission as a management company
under the Investment Company Act of 1940, as amended.
Treasury and the IRS are concerned that certain activities
involving acquiring, holding, or disposing of financial
instruments could be structured to accomplish the types of
transactions that section 309 (c) of the Act was designed to
prevent. Nonetheless, Treasury and the IRS recognize that
many persons contribute such activities to partnerships for
substantial business purposes. For example, mutual funds
often contribute substantially all of their assets to a master
partnership to save administrative costs. Under some circumstances, such a mutual fund
may transfer portfolio positions (including hedge positions that could be considered
1.752-7 liabilities under the proposed regulations) to the master partnership. Because
a contribution by a mutual fund to a master partnership is not
the type of abusive loss duplication transaction that section
309(c) of the Act was designed to address, the proposed
regulations treat this type of contribution as a contribution

20
of a trade or business. Treasury and the IRS request comments
on additional types of activities that should be treated as
trades or businesses for purposes of these regulations.
The proposed regulations do not include the section
358 (h) exception for situations in which substantially all of
the assets with which the liability is associated are
transferred to the partnership assuming the liability.
Treasury and the IRS are concerned that taxpayers would rely
on that exception to facilitate transactions of the type that
section 309(c) of the Act was designed to prevent.
An additional de minimis exception, not present in
section 358(h), is included in the proposed regulations.
Under this exception, the proposed regulations do not apply
where, immediately before the disposition of the partnership
interest by the §1.752-7 liability partner, the liquidation of
the §1.752-7 liability partner's partnership interest, or the
assumption of the §1.752-7 liability by another partner, the
amount of the remaining built-in loss with respect to all
§1.752-7 liabilities assumed by the partnership (other than
§1.752-7 liabilities that are assumed by the partnership with
an associated trade or business) is less than the lesser of
10% of the gross value of the partnership's assets or
$1,000,000. This exception was added in recognition of the

21
fact that loss acceleration and duplication strategies
typically are engaged in only if the accelerated or duplicated
loss is substantial.
4 . Advanced Notice of Proposed Rulemaking Under Section
358(h) (2)
Treasury and the IRS are considering exercising their
regulatory authority under section 358(h) (2) to limit the
exceptions to section 358 (h) (1) to follow the exceptions set
forth in these proposed regulations (other than the de minimis
exception). Treasury and the IRS request comments on the
scope and substance of such regulations, which will be
retroactive to the extent necessary to prevent abuse.
5. Rules Applicable to Tiered Structures
Proposed §1.752-7 (e) and (i) provide rules to address a
contribution of a partnership interest to another partnership.
First, under §1.752-7 (e) (3), a transfer by a partner of an
interest in a partnership (lower-tier partnership) to another
partnership (upper-tier partnership) is not treated as a
transfer of a partnership interest for purposes of applying
these rules. Therefore, the partner does not have to reduce
the basis of the partnership interest before such a transfer.
However, look-through rules in §1.752-7 (i) apply to treat the
transfer of the partnership interest as a transfer of the
partner's share of the assets and §1.752-7 liabilities of the

22
partnership. Therefore, a transfer of a partnership interest
to another partnership may be treated as an assumption of a
§1.752-7 liability by a partnership under these proposed
regulations. Under proposed _1.358-7(a), similar rules apply
to a contribution of a partnership interest to a corporation.
Also, §1.752-7 (i) (2) provides a limitation on the trade
or business exception where a partnership (upper-tier
partnership) assumes a §1.752-7 liability from a partner, and
then another partnership (lower-tier partnership) assumes the
§1.752-7 liability from the upper-tier partnership. In such a
case, the trade or business exception does not apply on the
assumption of the §1.752-7 liability by the lower-tier
partnership from the upper-tier partnership unless it applied
on the assumption of the §1.752-7 liability by the upper-tier
partnership from the §1.752-7 liability partner. Section
1.358-7 (c) of these proposed regulations provide for similar
rules where a corporation assumes an obligation described in
section 358 (h) (3) from a partnership that the partnership had
previously assumed from a partner. In addition, _1.358-7(b)
of these proposed regulations provide special rules for
adjusting the partners' bases in a partnership when a
corporation assumes a §1.752-7 liability from the partnership.
Additional rules are provided for look-through treatment

23
where a partnership is a §1.752-7 liability partner in another
partnership. The proposed regulations also provide special
rules for situations in which the §1.752-7 liability partner
disposes of the partner's interest in the partnership and then
another partnership (or a corporation) assumes the §1.752-7
liability from the partnership.
Effective Date
The regulations described above are proposed to apply to
assumptions of §1.752-7 liabilities occurring on or after June
24, 2003. In the Rules and Regulations section of this issue
of the Federal Register, the IRS is issuing temporary
regulations (_1.752-6T) that apply to liabilities assumed by a
partnership after October 18, 1999, and before June 24, 2003 .
The text of those temporary regulations published in the
Rules and Regulation section of this issue of the Federal
Register serves as the text of _1.752-6 of these regulations.
In lieu of applying _1.752-6T of the temporary Income Tax
Regulations, partnerships may elect to be subject to the
proposed rules of 1.358-7 and 1.752-7 and the proposed
revisions of _1.704-1 (b) (2) (iv) (b) , 1.704-2 (b) (3), 1.7051(a)(7), and 1.752-1, published as part of this Notice of
Proposed Rulemaking, with respect to all liabilities

24
(including §1.752-7 liabilities) assumed by the partnership
after October 18, 1999 and before June 24, 2003. The election
must be filed with the first Federal income tax return filed
by the partnership on or after September 22, 2003. The
election will be valid only if the partnership and its
partners promptly amend any returns for open taxable years
that would be affected by the election.
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 is hereby certified that these
regulations will not have a significant economic impact on a
substantial number of small entities. This certification is
based upon the fact that few partnerships engage in the type
of transactions that are subject to these regulations
(assumptions of liabilities not described in section 752(a)
and (b) from a partner). In addition, available data
indicates that most partnerships that engage in the type of
transactions that are subject to these regulations are large
partnerships. Certain broad exceptions to the application of
these regulations (including a de minimis exception) further
limit the economic impact of these regulations on small

25
entities. Therefore, a Regulatory Flexibility Analysis under
the Regulatory Flexibility Act (5 U.S.C. chapter 6) is not
required. 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 are sought
as to the number of legitimate business transactions that will
be affected by the proposed regulations.
Drafting Information
The principal author of these regulations is Horace
Howells, Office of Associate Chief Counsel (Passthroughs and
Special Industries), IRS. However, other personnel from the
IRS and Treasury Department participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and record keeping requirements.
Adoption of Amendments to the Regulations
Accordingly, 26 CFR part 1 continues to read in part as
follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for part 1 continues
to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.752-1(a) also issued under Public Law 106-554,
114 Stat. 2763, 2763A-638 (2001) * * *

26
Section 1.752-6 also issued under Public Law 106-554, 114
Stat. 2763, 2763A-638 (2001) * * *
Section 1.752-7 also issued under Public Law 106-554, 114
Stat. 2763, 2763A-638 (2001) * * *
Par. 2. Section 1.358-7 is added to read as follows:
§1.358-7 Transfers by partners and partnerships to
corporations.
(a) Contributions of partnership interests. For purposes
of section 358(h), a transfer of a partnership interest to a
corporation is treated as a transfer of the partner's share of
each of the partnership's assets and an assumption by the
corporation of the partner's share of partnership liabilities
(including section 358(h) liabilities, as defined in paragraph
(d) of this section). See paragraph (e), Example 1 of this
section.
(b) Contributions by partnerships. If a corporation
assumes a section 358 (h) liability from a partnership in an
exchange to which section 358 (a) applies, then, for purposes
of applying section 705 (determination of basis of partner's
interest) and §1.704-1 (b), any reduction, under section
358(h)(1), in the partnership's basis in corporate stock
received in the transaction is treated as an expenditure of
the partnership described in section 705(a)(2)(B). See
paragraph (e), Example 2 of this section. This expenditure
must be allocated among the partners in accordance with

27
section 704(b) and (c) and §1.752-7(c). If a partner's share
of the reduction, under section 358(h)(1), in the
partnership's basis in corporate stock exceeds the partner's
basis in the partnership interest, then the partner recognizes
gain equal to the excess, which is treated as gain from the
sale or exchange of a partnership interest. This paragraph
does not apply to the extent that §1.752-7 (i) (4) applies to
the assumption of the §1.752-7 liability by the corporation.
(c) Assumption of section 358 (h) liability by partnership
followed by transfer of partnership interest or partnership
property to a corporation--trade or business exception. Where
a partnership assumes a section 358 (h) liability from a
partner and, subsequently, the partner transfers all or part
of the partner's partnership interest to a corporation in an
exchange to which section 358(a) applies, the section 358(h)
liability is treated as associated only with the contribution
made to the partnership by that partner. Similar rules apply
where a partnership assumes a section 358 (h) liability of a
partner and a corporation subsequently assumes that section
358 (h) liability from the partnership in an exchange to which
section 358(a) applies. See paragraph (e), Example 1 of this
section.
(d) Section 358(h) liabilities defined. For purposes of

28
this section, section 358 (h) liabilities are liabilities
described in section 358 (h) (3) .
(e) Examples. The following examples illustrate the
provisions of this section. Assume, for purposes of these
examples, that the obligation assumed by the corporation does
not reduce the shareholder's basis in the corporate stock
under section 358(d). The examples are as follows:
Example 1. Contribution of partnership interest to
corporation. In 2004, A contributes undeveloped land with a
value and basis of $4,000,000 in exchange for a 50% interest
in PRS and an assumption by PRS of $2,000,000 of pension
liabilities from a separate business that A conducts. A's
basis in the PRS interest immediately after the contribution
is A's basis in the land, $4,000,000, unreduced by the amount
of the pension liabilities. PRS develops the land as a
landfill. Before PRS has economically performed with respect
to the pension liabilities, A contributes A's interest in PRS
to Corporation X, in an exchange to which section 351 applies.
At the time of the exchange, the value of A's PRS interest is
$2,000,000, A's basis in PRS is $4,000,000, and A has no share
of partnership liabilities other than the pension liabilities.
For purposes of applying section 358 (h), the contribution of
the PRS interest to Corporation X is treated as a contribution
to Corporation X of A's share of PRS assets and of A' s share
of the pension liabilities of PRS ($2,000,000). Because the
pension liabilities were not assumed by PRS from A in an
exchange in which either the trade or business associated with
the liability or substantially all of the assets associated
with the liability were transferred to PRS, the contribution
of the PRS interest to Corporation X is not excepted from
section 358(h) under section 358(h)(2). Under section 358(h),
A's basis in the Corporation X stock is reduced by the
$2,000,000 of pension liabilities.
Example 2. Contribution of partnership property to
corporation. In 2004, in an exchange to which section 351(a)
applies, PRS, a cash basis taxpayer, contributes $2,000,000
cash to Corporation X, also a cash basis taxpayer, in exchange
for Corporation X shares and the assumption by Corporation X

29
of $1,000,000 of accounts payable incurred by PRS. At the
time of the exchange, PRS has two partners, A, a 90% partner,
who has a $2,000,000 basis in the PRS interest, and B, a 10%
partner, who has a $50,000 basis in the PRS interest. Assume
that, under section 358(h)(1), PRS's basis in the Corporation
X stock is reduced by the accounts payable assumed by
Corporation X ($1,000,000). Under paragraph (b) of this
section, A's and B's bases in PRS must be reduced, but not
below zero, by their respective shares of the section
358(h)(1) basis reduction. If either partner's share of the
section 358(h) (1) basis reduction exceeds the partner's basis
in the partnership interest, then the partner recognizes gain
equal to the excess. A's share of the section 358(h) basis
reduction is $900,000 (90% of $1,000,000). Therefore, A's
basis in the PRS interest is reduced to $1,100,000 ($2,000,000
- $900,000). B's share of the section 358(h) basis reduction
is $100,000 (10% of $1,000,000). Because B's share of the
section 358(h) basis reduction ($100,000) exceeds B's basis in
the PRS interest ($50,000), B's basis in the PRS interest is
reduced to $0 and B recognizes $50,000 of gain. This gain is
treated as gain from the sale of the PRS interest.
(f) Effective date. This section applies to assumptions
of liabilities by a corporation occurring on or after June 24,
2003.
§1.704-1 [Amended]
Par. 3. Section 1.704-1 is amended as follows:
1. Paragraph (b) (1) (ii) is amended by removing the
language "The" at the beginning of the first sentence and
adding "Except as otherwise provided in this section, the" in
its place.
2. Paragraph (b)(2)(iv)(b)(2) is amended by removing the
language "secured by such contributed property" in the
parenthetical.

30
3. Paragraph (b) (2) (iv) (b) (2) is further amended by
removing the language "under section 752" in the
parenthetical.
4. Paragraph (b)(2)(iv)(b)(5) is amended by removing the
language "secured by such distributed property" in the
parenthetical.
5. Paragraph (b) (2) (iv) (b) (5) is further amended by
removing the language "under section 752" in the
parenthetical.
6. Paragraph (b)(2)(iv)(b) is further amended by adding
a sentence at the end of the paragraph.
The addition reads as follows:
§1.704-1 Partner's distributive share.
•k •k ~k •*• -k

(b) * * *
/ 2) * * *
(iv) * * *
(]3) * * * por liabilities assumed before June 24, 2003,
references to liabilities in this paragraph (b)(2)(iv)(b)
shall include only liabilities secured by the contributed or
distributed property that are taken into account under section
752 (a) and (b) .
•k -k •k ~k -k

31
§1.704-2 [Amended]
Par. 4. In §1.704-2, paragraph (b)(3) is amended by
adding the language "or a §1.752-7 liability (as defined in
§1.752-7 (b) (2) (i)) assumed by the partnership from a partner
on or after June 24, 2003" at the end of the sentence.
Par. 5. Section 1.705-1 is amended by adding paragraph
(a)(8) to read as follows:
§1.705-1 Determination of basis of partner's interest.
(a) * * *
(8) For basis adjustments necessary to coordinate
sections 705 and 358(h), see §1.358-7 (b). For certain basis
adjustments with respect to a §1.752-7 liability assumed by a
partnership from a partner, see §1.752-7.
*****

§1.752-0 [Amended]
Par. 6. Section 1.752-0 is amended as follows:
1. The section heading and introductory text of §1.752-0
are revised.
2. The entries for §1.752-1 (a) (1) through (a)(3) are
redesignated as §1.752-1 (a) (2) through (a)(4).
3. A new entry for §1.752-1 (a) (1) is added.
4. The entries for _1.752-1(a)(1)(i), (ii), (iii), and
(iv) are added.

32
5. The entries for §§1.752-6 and 1.752-7 are added.
The revision and additions read as follows:
§1.752-0 Table of contents.
This section lists the major captions that appear in
§§1.752-1 through 1.752-7.
§1.752-1 Treatment of partnership liabilities.
(a) Definitions.
(1) Liability defined.
(i) In general.
(ii) Obligation.
(iii) Other liabilities.
(iv) Effective date.
*****

1.752-6 Partnership assumption of partner's §358(h)(3)
liability after October 18, 1999, and before June 24, 2003
(a
(b
(1
(2
(c
(d
(1
(2

In general.
Exceptions.
In general.
Transactions described in Notice 2000-44
Example.
Effective date.
In general.
Election to apply _1.752-7.

§1.752-7 Partnership assumption of partner's §1.752-7
liability on or after June 24, 2003.
(a) General rules.
(1) Purpose and structure.
(2) Exception from disguised sale rules.
(b) Definitions.
(1) Assumption.
(2) §1.752-7 liability.
(i) In general.
(ii) Amount and share of §1.752-7 liability.
(3) §1.752-7 liability partner.

33
(4) Remaining built-in loss associated with a §1.752-7
liability.
5) §1.752-7 liability reduction.
i) In general.
ii) Partial dispositions and assumptions.
6) §1.752-7 liability transfer.
7) Testing date.
8) Trade or business.
i) In general.
ii) Trading and investment partnerships.
A) In general.
B) Financial instruments.
iii) Examples.
9) Adjusted value.
c) Application of section 704(c) to assumed §1.752-7
liabilities.
1) In general.
2) Example.
d) Special rules for sales of partnership interests,
distributions of partnership assets, and assumptions of the
§1.752-7 liability after a §1.752-7 liability transfer.
1) In general.
2) Exceptions.
i) In general.
ii) Examples.
e) Transfer of §1.752-7 liability partner's partnership
interest.
1) In general.
2) Examples.
3) Exception for nonrecognition transactions.
i) In general.
ii) Examples.
f) Distribution in liquidation of §1.752-7 liability
partner's partnership interest.
1) In general.
2) Example.
g) Assumption of §1.752-7 liability by a partner other than
1.752-7 liability partner.
1) In general.
2) Consequences to §1.752-7 liability partner.
3) Consequences to partnership.
4) Consequences to assuming partner.
5) Example.
h) Notification by the partnership (or successor) of the
economic performance of the §1.752-7 liability.
(i) Tiered partnerships.

34
(1) Look-through treatment.
(2) Trade or business exception.
(3) Partnership as a §1.752-7 liability partner.
(4) Transfer of §1.752-7 liability by partnership to another
partnership or corporation after a transaction described in
paragraphs (e),(f), or (g).
(i) In general.
(ii) Subsequent transfers.
(5) Example.
(j) Effective date.
(1) In general.
(2) Election to apply this section to assumptions of
liabilities occurring after October 18, 1999 and before June
24, 2003.
(i) In general.
(ii) Manner of making election.
(iii) Filing of amended returns.
(iv) Time for making election.
Par. 7. In §1.752-1, paragraphs (a) (1) through (a) (3)
are redesignated as paragraphs (a)(2) through (a)(4) and a new
paragraph (a)(1) is added to read as follows:
§1.752-1 Treatment of Partnership Liabilities.
(a) Definitions--(1) Liability defined--(i) In general.
An obligation is a liability for purposes of section 752 and
the regulations thereunder, only if and to the extent that
incurring the obligation-(A) Creates or increases the basis of any of the
obligor's assets (including cash);
(B) Gives rise to an immediate deduction to the obligor;
or
(C) Gives rise to an expense that is not deductible in
computing the obligor's taxable income and is not properly

35
chargeable to capital.
(ii) Obligation. For purposes of this paragraph and
_1.752-7, an obligation is any fixed or contingent obligation
to make payment without regard to whether the obligation is
otherwise taken into account for purposes of the Internal
Revenue Code. Obligations include, but are not limited to,
debt obligations, environmental obligations, tort obligations,
contract obligations, pension obligations, obligations under a
short sale, and obligations under derivative financial
instruments such as options, forward contracts, and futures
contracts.
(iii) Other liabilities. For obligations that are not
liabilities as defined in paragraph (a)(1)(i) of this section,
see §§1.752-6 and 1.752-7.
(iv) Effective date. This paragraph (a)(1) applies to
liabilities that are incurred or assumed by a partnership on
or after June 24, 2003 .
*****

§1.752-5(a) [Amended]
Par. 8. Section 1.752-5 is amended as follows:
1. Paragraph 1.752-5 (a) is amended by removing the
language "Unless" at the beginning of the first sentence and
adding "Except as otherwise provided in 1.752-1 through

36
1.752-4, unless" in its place.
Par. 9. Section 1.752-6 is added to read as follows:
§1.752-6 Partnership assumption of partner's section 358(h) (3)
liability after October 18, 1999, and before June 24, 2003.
The text of proposed _1.752-6 is the same as the text of
_1.752-6T published elsewhere in this issue of the Federal
Register.
Par. 10. Section 1.752-7 is added to read as follows:
1.752-7 Partnership assumption of partner's §1.752-7
liability on or after June 24, 2003 .
(a) General rules--(1) Purpose and structure. The
purpose of this section is to prevent the acceleration or
duplication of loss through the assumption of obligations not
described in §1.752-1 (a) (1) in transactions involving
partnerships. Under paragraph (c) of this section, any such
obligation that is assumed by a partnership from a partner in
a transaction governed by section 721(a) must be taken into
account by applying principles under section 704 (c) .
Paragraphs (e), (f), and (g) of this section provide rules for
situations where a partnership assumes such an obligation from
a partner and, subsequently, that partner sells or exchanges
all or part of the partnership interest, that partner receives
a distribution in liquidation of the partnership interest, or

37
another partner assumes part or all of that obligation from
the partnership. These rules prevent the duplication of loss
by prohibiting the partnership and any person other than the
partner from whom the obligation was assumed from claiming a
deduction or capital expense to the extent of the built-in
loss associated with the obligation. These rules also prevent
the acceleration of loss by deferring the partner's deduction
or loss attributable to the obligation (if any) until economic
performance occurs. Paragraph (d) of this section provides a
number of exceptions to paragraphs (e), (f), and (g) of this
section, including a de minimis exception. Paragraph (i) of
this section provides special rules for tiered partnership
transactions.
(2) Exception from disguised sale rules. The assumption
of a §1.752-7 liability is not treated as an assumption of a
liability or as a transfer of cash for purposes of section
707(a) (2) (B) .
(b) Definitions. For purposes of this section, the
following definitions apply-(1) Assumption. A person that takes property subject to
a §1.752-7 liability of another person is treated as assuming
the §1.752-7 liability, but only to the extent of the fair
market value of the property taken subject to the §1.752-7

38
liability.
(2) §1.752-7 liability--(i) In general. A §1.752-7
liability is an obligation (as defined in _1.752-1(a) (1) (ii))
that is not described in §1.752-1 (a) (1) (i) .
(ii) Amount and share of §1.752-7 liability. The amount
of a §1.752-7 liability is the amount of cash that a willing
assignor would pay to a willing assignee to assume the §1.7527 liability in an arm's-length transaction. A partner's share
of a partnership's §1.752-7 liability is the amount of
deduction that would be allocated to the partner with respect
to the §1.752-7 liability if the partnership disposed of all
of its assets, satisfied all of its liabilities (other than
§1.752-7 liabilities), and paid an unrelated person to assume
all of its §1.752-7 liabilities in a fully taxable arm'slength transaction (assuming such payment would give rise to
an immediate deduction to the partnership).
(3) §1.752-7 liability partner. A §1.752-7 liability
partner is a partner from whom a partnership assumes a §1.7527 liability as part of a §1.752-7 liability transfer or any
person who acquires a partnership interest from the §1.752-7
liability partner in a transaction described in paragraph
(e) (3) of this section. If a partnership (lower-tier
partnership) assumes a §1.752-7 liability from another

39
partnership (upper-tier partnership), then both the upper-tier
partnership and the partners of the upper-tier partnership are
§1.752-7 liability partners. Therefore, paragraphs (e) and
(f) of this section apply on a sale or liquidation of any
partner's interest in the upper-tier partnership and on a sale
or liquidation of the upper-tier partnership's interest in the
lower-tier partnership. See paragraph (i)(3) of this section.
(4) Remaining built-in loss associated with a §1.752-7
liability. The remaining built-in loss associated with a
§1.752-7 liability equals the amount of the §1.752-7 liability
as of the time of the assumption of the §1.752-7 liability by
the partnership, reduced by the portion of the §1.752-7
liability previously taken into account by the §1.752-7
liability partner under paragraph (i)(4) of this section and
adjusted as provided in paragraph (c) of this section and
§1.704-3 for —
(i) Partnership allocations of loss or deduction with
respect to the §1.752-7 liability on or prior to the testing
date; and
(ii) Any assumption of all or part of the §1.752-7
liability by the §1.752-7 liability partner (including any
assumption that occurs on the testing date).
(5) §1.752-7 liability reduction--(i) In general. The

40
§1.752-7 liability reduction is the amount by which the
§1.752-7 liability partner is required to reduce the basis in
the partner's partnership interest by operation of paragraphs
(e), (f), and (g) of this section. The §1.752-7 liability
reduction is the lesser of-(A) The excess of the §1.752-7 liability partner's basis
in the partner's partnership interest over the adjusted value
of that interest (as defined in paragraph (b)(9) of this
section); or
(B) The remaining built-in loss associated with the
§1.752-7 liability.
(ii) Partial dispositions and assumptions. In the case
of a partial disposition of the §1.752-7 liability partner's
partnership interest or a partial assumption of the §1.752-7
liability by another partner, the §1.752-7 liability reduction
is pro rated based on the portion of the interest sold or the
portion of the §1.752-7 liability assumed.
(6) §1.752-7 liability transfer. A §1.752-7 liability
transfer is any assumption of a §1.752-7 liability by a
partnership from a partner in a transaction governed by
section 721(a).
(7) Testing date. The testing date is-(i) For purposes of paragraph (e) of this section, the

41
date of the sale, exchange, or other disposition of part or
all of the §1.752-7 liability partner's partnership interest;
(ii) For purposes of paragraph (f) of this section, the
date of the partnership's distribution in liquidation of the
§1.752-7 liability partner's partnership interest; and
(iii) For purposes of paragraph (g) of this section, the
date of the assumption (or partial assumption) of the §1.752-7
liability by a partner other than the §1.752-7 liability
partner.
(8) Trade or business--(i) In general. A trade or
business is a specific group of activities carried on by a
person for the purpose of earning income or profit if the
activities included in that group include every operation that
forms a part of, or a step in, the process of earning income
or profit. Such group of activities ordinarily includes the
collection of income and the payment of expenses. Subject to
paragraph (b) (8) (ii) of this section, the group of activities
must constitute the carrying on of a trade or business under
section 162 (a) (determined as though the activities were
conducted by an individual).
(ii) Trading and investment partnerships--(A) In general.
The activity of acquiring, holding, or disposing of financial
instruments constitutes a trade or business for purposes of

42
this paragraph (b)(8) if and only if the activity is conducted
by an entity registered with the Securities and Exchange
Commission as a management company under the Investment
Company Act of 1940, as amended (15 U.S.C. 80a).
(B) Financial instruments. For purposes of paragraph
(b) (8) (ii) of this section, financial instruments include
stock in corporations; notes, bonds, debentures, or other
evidences of indebtedness; interest rate, currency, or equity
notional principal contracts; evidences of an interest in, or
derivative financial instruments in, stock, securities,
currencies, or commodities, including options, forward or
futures contracts, or short positions; or any similar
financial instrument.
(iii) Examples. The following examples illustrate the
provisions of paragraph (b)(8) of this section:
Example 1. Corporation Y owns, manages, and derives
rental income from an office building and also owns vacant
land that may be subject to environmental liabilities.
Corporation Y contributes the land subject to the
environmental liabilities to PRS in a transaction governed by
section 721(a). PRS plans to develop the land as a landfill.
The contribution of the vacant land does not constitute the
contribution of a trade or business because Corporation Y did
not conduct any significant business or development activities
with respect to the land prior to the contribution.
Example 2. For the past 5 years, Corporation X has owned
and operated gas stations in City A, City B, and City C.
Corporation X transfers all of the assets associated with the
operation of the gas station in City A to PRS for interests in
PRS and the assumption by PRS of the §1.752-7 liabilities

43
associated with that gas station. PRS continues to operate
the gas station in City A after the contribution. The
contribution of the gas station to PRS constitutes the
contribution of a trade or business.
Example 3. For the past 7 years, Corporation Z has
engaged in the manufacture and sale of household products.
Throughout this period, Corporation Z has maintained a
research department for use in connection with its
manufacturing activities. The research department has 10
employees actively engaged in the development of new products.
Corporation Z contributes the research department to PRS in
exchange for a PRS interest and the assumption by PRS of
pension liabilities with respect to the employees of the
research department. PRS continues the research operations on
a contractual basis with several businesses, including
Corporation Z. The contribution of the research operations to
PRS constitutes a contribution of a trade or business.
(9) Adjusted value. The adjusted value of a partner's
interest in a partnership is the fair market value of that
interest increased by the partner's share of partnership
liabilities under 1.752-1 through 1.752-5.
(c) Application of section 704(c) to assumed §1.752-7
liabilities-- (1) In general. Any §1.752-7 liability assumed
by a partnership in a §1.752-7 liability transfer is treated
under section 704 (c) principles as having a built-in loss
equal to the amount of the §1.752-7 liability as of the date
of the partnership's assumption of the §1.752-7 liability.
Thus, items of deduction or loss with respect to the §1.752-7
liability, if any, must be allocated, first, to the §1.752-7
liability partner to the extent of the built-in loss.
Deductions or losses with respect to the §1.752-7 liability

44
that exceed the built-in loss are shared among the partners in
accordance with section 704(b) and the regulations thereunder.
(2) Example. The following example illustrates the
provisions of this paragraph (c):
Example—(i) Facts. In 2004, A, B, and C form
partnership PRS. A contributes Property 1 with a fair market
value and basis of $400X, subject to a §1.752-7 liability of
$100X, for a 25% interest in PRS. B contributes $300X cash
for a 25% interest in PRS, and C contributes $600X cash for a
50% interest in PRS. Assume that the partnership complies
with the substantial economic effect safe harbor of §1.7041(b)(2). Under §1.704-1 (b) (2) (iv) (b), A's capital account is
credited with $300X (the fair market value of Property 1,
$400X, less the §1.752-7 liability assumed by PRS, $100X). In
2005, PRS earns $200X of income and uses it to satisfy the
§1.752-7 liability. Assume that the cost to PRS of satisfying
the §1.752-7 liability is deductible by PRS. The $200X of
partnership income is allocated according to the partnership
agreement, $50X to A, $50X to B, and $100X to C.
(ii) Analysis. Pursuant to paragraph (c) of this
section, $100X of the deduction attributable to the economic
performance of the §1.752-7 liability is specially allocated
to A, the §1.752-7 liability partner, under section
704(c)(1)(A) and the regulations thereunder. No book item
corresponds to this tax allocation. The remaining $100X of
deduction attributable to economic performance of the §1.752-7
liability is allocated, for both book and tax purposes,
according to the partnership agreement, $25X to A, $25X to B,
and $50X to C. If the partnership, instead, satisfied the
§1.752-7 liability over a number of years, the first $100X of
deduction with respect to the §1.752-7 liability would be
allocated to A, the §1.752-7 liability partner, before any
deduction with respect to the §1.752-7 liability would be
allocated to the other partners. For example, if PRS were to
satisfy $50X of the §1.752-7 liability at a time when PRS
reasonably believed that it would cost $200X to satisfy the
§1.752-7 liability in full, the $50X deduction with respect to
the §1.752-7 liability would be allocated to A for tax
purposes only. No deduction would arise for book purposes.
If PRS later paid a further $100X in satisfaction of the
§1.752-7 liability, $50X of the deduction with respect to the

45
§1.752-7 liability would be allocated, solely for tax
purposes, to A and the remaining $50X would be allocated, for
both book and tax purposes, according to the partnership
agreement.
(d) Special rules for sales of partnership interests,
distributions of partnership assets, and assumptions of the
§1.752-7 liability after a §1.752-7 liability transfer—(1) In
general. Except as provided in paragraph (d)(2) of this
section, paragraphs (e), (f), and (g) of this section apply to
certain partnership transactions occurring after a §1.752-7
liability transfer.
(2) Exceptions-- (i) In general. Paragraphs (e), (f), and
(g) of this section do not apply-(A) If the partnership assumes the §1.752-7 liability as
part of a contribution to the partnership of the trade or
business with which the liability is associated, and the
partnership continues to carry on that trade or business after
the contribution (for the definition of a trade or business
see paragraph (b)(8) of this section); or
(B) If, immediately before the testing date, the amount
of the remaining built-in loss with respect to all §1.752-7
liabilities assumed by the partnership (other than §1.752-7
liabilities assumed by the partnership with an associated
trade or business) in one or more §1.752-7 liability transfers
is less than the lesser of 10% of the gross value of

46
partnership assets or $1,000,000.
(ii) Examples. The following examples illustrate the
principles of this paragraph (d)(2):
Example 1. For the past 5 years, Corporation X, a C
corporation, has been engaged in Business A and Business B.
In 2004, Corporation X contributes Business A, in a
transaction governed by section 721(a), to PRS in exchange for
a PRS interest and the assumption by PRS of pension
liabilities with respect to the employees engaged in Business
A. PRS plans to carry on Business A after the contribution.
Because PRS has assumed the pension liabilities as part of a
contribution to PRS of the trade or business with which the
liabilities are associated, paragraphs (e), (f), and (g) of
this section do not apply to any transaction occurring after
the §1.752-7 liability transfer.
Example 2-- (i) Facts. The facts are the same as in
Example 1, except that PRS also assumes from Corporation X
certain pension liabilities with respect to the employees of
Business B. At the time of the assumption, the amount of the
pension liabilities with respect to the employees of Business
A is $3,000,000 (the A liabilities) and the amount of the
pension liabilities associated with the employees of Business
B (the B liabilities) is $2,000,000. Two years later,
Corporation X sells its interest in PRS to Y for $9,000,000.
At the time of the sale, the remaining built-in loss
associated with the A liabilities is $2,100,000, the remaining
built-in loss associated with the B liabilities is $900,000,
and the gross value of PRS's assets (excluding §1.752-7
liabilities) is $20,000,000. Assume that PRS has no §1.752-7
liabilities other than those assumed from Corporation X.
(ii) Analysis. The only liabilities assumed by PRS from
Corporation X that were not assumed as part of Corporation X's
contribution of Business A were the B liabilities.
Immediately before the testing date, the remaining built-in
loss associated with the B liabilities ($900,000) was less
than the lesser of 10% of the gross value of PRS's assets
($2,000,000) or $1,000,000. Therefore, paragraph (d)(2)(i)(B)
of this section applies to exclude Corporation X's sale of the
PRS interest to Y from the application of paragraph (e) of
this section.

47
(e) Transfer of §1.752-7 liability partner's partnership
interest-- (1) In general. Except as provided in paragraphs
(d)(2) and (e)(3) of this section, immediately before the
sale, exchange, or other disposition of all or a part of a
§1.752-7 liability partner's partnership interest, the §1.7527 liability partner's basis in the partnership interest is
reduced by the §1.752-7 liability reduction. No deduction or
capital expense is allowed to the partnership on the economic
performance of the §1.752-7 liability to the extent of the
remaining built-in loss associated with the §1.752-7
liability. For purposes of section 705(a)(2)(B) and _1.7041(b) (2) (ii) (b) only, the remaining built-in loss associated
with the §1.752-7 liability is not treated as a nondeductible,
noncapital expenditure of the partnership. Therefore, the
remaining partners' capital accounts and bases in their
partnership interests are not reduced by the remaining builtin loss associated with the §1.752-7 liability. If the
partnership (or any successor) notifies the §1.752-7 liability
partner of the economic performance of the §1.752-7 liability
(as described in paragraph (h) of this section), then the
§1.752-7 liability partner is entitled to a loss or deduction.
The amount of that deduction or loss is, in the case of a
partial satisfaction of the §1.752-7 liability, the amount

48
paid by the partnership in satisfaction of the §1.752-7
liability (but not more than the §1.752-7 liability reduction)
or, in the case of a complete satisfaction of the §1.752-7
liability, the remaining §1.752-7 liability reduction. To the
extent of the amount paid in satisfaction of the §1.752-7
liability, the character of that deduction or loss is
determined as if the §1.752-7 liability partner had satisfied
the liability. To the extent that the §1.752-7 liability
reduction exceeds the amount paid in satisfaction of the
§1.752-7 liability, the character of the §1.752-7 liability
partner's loss is capital.
(2) Examples. The following examples illustrates the
principles of paragraph (e)(1) of this section:
Example 1—(i) Facts. In 2004, A, B, and C form
partnership PRS. A contributes Property 1 with a fair market
value of $5,000,000 and basis of $4,000,000 subject to a
§1.752-7 liability of $2,000,000 in exchange for a 25%
interest in PRS. B contributes $3,000,000 cash in exchange
for a 25% interest in PRS, and C contributes $6,000,000 cash
in exchange for a 50% interest in PRS. In 2006, when PRS has
a section 754 election in effect, A sells A's interest in PRS
to D for $3,000,000. At the time of the sale, the basis of
A's PRS interest is $4,000,000, the remaining built-in loss
associated with the §1.752-7 liability is $2,000,000, and PRS
has no liabilities (as defined in §1.752-1 (a) (1)) . Assume
that none of the exceptions of paragraph (d)(2) of this
section apply and that economic performance of the §1.752-7
liability would have given rise to a deductible expense to A.
In 2007, PRS pays $3,000,000 to satisfy the liability.
(ii) Sale of A's PRS interest. Immediately before the
sale of the PRS interest to D, A's basis in the PRS interest
is reduced (to $3,000,000) by the §1.752-7 liability
reduction, i.e., the lesser of the excess of A's basis in the

49
PRS interest ($4,000,000) over the adjusted value of that
interest ($3,000,000), $1,000,000, or the remaining built-in
loss associated with the §1.752-7 liability, $2,000,000.
Therefore, A recognizes no gain or loss on the sale of the PRS
interest to D. D's basis in the PRS interest is $3,000,000.
D's share of the adjusted basis of partnership property equals
D's interest in the partnership's previously taxed capital of
$2,000,000 (the amount of cash that D would receive on a
liquidation of the partnership, $3,000,000, increased by the
amount of tax loss that would be allocated to D in the
hypothetical transaction, $0, and reduced by the amount of tax
gain that would be allocated to D in the hypothetical
transaction, $1,000,000). Therefore, the basis adjustment
under section 743(b) is $1,000,000.
(iii) Satisfaction of §1.752-7 liability. Neither PRS
nor any of its partners is entitled to a deduction for the
economic performance of the §1.752-7 liability to the extent
of the remaining built-in loss associated with the §1.752-7
liability ($2,000,000). PRS is entitled to a deduction,
however, for the amount by which the cost of satisfying the
§1.752-7 liability exceeds the remaining built-in loss
associated with the §1.752-7 liability. Therefore, in 2007,
PRS may deduct $1,000,000 (cost to satisfy the §1.752-7
liability, $3,000,000, less the remaining built-in loss
associated with the §1.752-7 liability, $2,000,000). If PRS
notifies A of the economic performance of the §1.752-7
liability, then A is entitled to an ordinary deduction in 2007
of $1,000,000 (the §1.752-7 liability reduction).
Example 2-- The facts are the same as in Example 1 except
that, at the time of A's sale of the PRS interest to D, PRS
has a nonrecourse liability of $4,000,000, of which A's share
is $1,000,000. A's basis in PRS is $5,000,000. At the time
of the sale of the PRS interest to D, the adjusted value of
A's interest is $4,000,000 (the fair market value of the
interest ($3,000,000), increased by A's share of partnership
liabilities ($1,000,000)). The difference between the basis
of A's interest ($5,000,000) and the adjusted value of that
interest ($4,000,000) is $1,000,000. Therefore, the §1.752-7
liability reduction is $1,000,000 (the lesser of this
difference or the remaining built-in loss associated with the
§1.752-7 liability, $2,000,000). Immediately before the sale
of the PRS interest to D, A's basis is reduced from $5,000,000
to $4,0000,000. A's amount realized on the sale of the PRS
interest to D is $4,000,000 ($3,000,000 paid by D, increased

50
under section 752(d) by A's share of partnership liabilities,
or $1,000,000). Therefore, A recognizes no gain or loss on
the sale. D's basis in the PRS interest is $4,000,000.
Because D's share of the adjusted basis of partnership
property is $3,000,000 (D's share of the partnership's
previously taxed capital, $2,000,000, plus D's share of
partnership liabilities, $1,000,000), the basis adjustment
under section 743(b) is $1,000,000.
(3) Exception for nonrecoqnition transactions--(i) In
general. Paragraph (e)(1) of this section does not apply
where a §1.752-7 liability partner transfers all or part of
the partner's partnership interest in a transaction in which
the transferee's basis in the partnership interest is
determined in whole or in part by reference to the
transferor's basis in the partnership interest. In addition,
paragraph (e)(1) of this section does not apply to a
distribution of an interest in the partnership that has
assumed the §1.752-7 liability by a partnership that is the
§1.752-7 liability partner.
(ii) Examples. The following examples illustrate the
provisions of this paragraph (e)(3):
Example 1-- (i) Facts. In 2004, X contributes undeveloped
land with a value and basis of $2,000,000 and subject to
environmental liabilities of $1,500,000 to partnership LTP in
exchange for a 50% interest in LTP. LTP develops the land as
a landfill. In 2005, in a transaction governed by section
721(a), X contributes the LTP interest to UTP in exchange for
a 50% interest in UTP. In 2008, X sells the UTP interest to A
for $500,000. At the time of the sale, X's basis in UTP is
$2,000,000, the remaining built-in loss associated with the
environmental liability is $1,500,000, and the gross value of
UTP's assets is $2,500,000. The environmental liabilities

51
were not assumed by LTP as part of a contribution by X to LTP
of a trade or business with which the liabilities were
associated.
(See paragraph (b) (8) (iii), Example 1 of this
section.)
(ii) Analysis. Because UTP's basis in the LTP interest
is determined by reference to X's basis in the LTP interest,
X's contribution of the LTP interest to UTP is exempted from
the rules of paragraph (e)(1) of this section. Under
paragraph (i)(1) of this section, X's contribution of the LTP
interest to UTP is treated as a contribution of X's share of
the assets of LTP and UTP's assumption of X's share of the LTP
liabilities (including §1.752-7 liabilities). Therefore, X's
transfer of the LTP interest to UTP is a §1.752-7 liability
transfer. The §1.752-7 liabilities deemed transferred by X to
UTP are not associated with a trade or business transferred to
UTP for purposes of paragraph (d)(2)(i)(A) of this section,
because they were not associated with a trade or business
transferred by X to LTP as part of the original §1.752-7
liability transfer. See paragraph (i)(2) of this section.
Because none of the exceptions described in paragraph (d)(2)
of this section apply to X's taxable sale of the UTP interest
to A in 2008, paragraph (e)(1) of this section applies to that
sale.
Example 2. The facts are the same as in Example 1,
except that, rather than transferring the LTP interest to UTP
in 2005, X contributes the LTP interest to Corporation Y in an
exchange to which section 351 applies. Because Corporation
Y's basis in the LTP interest is determined by reference to
X's basis in that interest, X's contribution of the LTP
interest is exempted from the rules of paragraph (e)(1) of
this section. But see section 358(h) and _1.358-7.
(f) Distribution in liquidation of §1.752-7 liability
partner's partnership interest--(1) In general. Except as
provided in paragraph (d)(2) of this section, immediately
before a distribution in liquidation of a §1.752-7 liability
partner's partnership interest, the §1.752-7 liability
partner's basis in the partnership interest is reduced by the

52
§1.752-7 liability reduction. This rule applies before
section 737. No deduction or capital expense is allowed to
the partnership on the economic performance of the §1.752-7
liability to the extent of the remaining built-in loss
associated with the §1.752-7 liability. For purposes of
section 705 (a) (2) (B) and _1.704-1(b) (2) (ii) (b) only, the
remaining built-in loss associated with the §1.752-7 liability
is not treated as a nondeductible, noncapital expenditure of
the partnership. Therefore, the remaining partners' capital
accounts and bases in their partnership interests are not
reduced by the remaining built-in loss associated with the
§1.752-7 liability. If the partnership (or any successor)
notifies the §1.752-7 liability partner of the economic
performance of the §1.752-7 liability (as described in
paragraph (h) of this section), then the §1.752-7 liability
partner is entitled to a loss or deduction. The amount of
that deduction or loss is, in the case of a partial
satisfaction of the §1.752-7 liability, the amount paid by the
partnership in satisfaction of the §1.752-7 liability (but not
more than the §1.752-7 liability reduction) or, in the case of
a complete satisfaction of the §1.752-7 liability, the
remaining §1.752-7 liability reduction. To the extent of the
amount paid in satisfaction of the §1.752-7 liability, the

53
character of that deduction or loss is determined as if the
§1.752-7 liability partner had satisfied the liability. To
the extent that the §1.752-7 liability reduction exceeds the
amount paid in satisfaction of the §1.752-7 liability, the
character of the §1.752-7 liability partner's loss is capital.
(2) Example. The following example illustrates the
provision of this paragraph (f) :
Example--(i) Facts. In 2004, A, B, and C form
partnership PRS. A contributes Property 1 with a fair market
value and basis of $5,000,000 subject to a §1.752-7 liability
of $2,000,000 for a 25% interest in PRS. B contributes
$3,000,000 cash for a 25% interest in PRS, and C contributes
$6,000,000 cash for a 50% interest in PRS. In 2012, when PRS
has a section 754 election in effect, PRS distributes Property
2, which has a basis and fair market value of $3,000,000, to A
in liquidation of A's PRS interest. At the time of the
distribution, the fair market value of A's PRS interest is
$3,000,000, the basis of that interest is $5,000,000, and the
remaining built-in loss associated with the §1.752-7 liability
is $2,000,000. Assume that none of the exceptions of
paragraph (d)(2) of this section apply to the distribution and
that the economic performance of the §1.752-7 liability would
have given rise to a deductible expense to A. In 2013, PRS
pays $1,000,000 to satisfy the entire §1.752-7 liability.
(ii) Redemption of A's PRS interest. Immediately before
the distribution of Property 2 to A, A's basis in the PRS
interest is reduced (to $3,000,000) by the §1.752-7 liability
reduction, i.e., the lesser of the excess of A's basis in the
PRS interest over the adjusted value of that interest
($2,000,000) or
the remaining built-in loss associated with the §1.752-7
liability ($2,000,000). Therefore, A's basis in Property 2
under section 732(b) is $3,000,000. Because this is the same
as the partnership's basis in Property 2 immediately before
the distribution, the partnership's basis adjustment under
section 734 (b) is $0.
(iii) Satisfaction of §1.752-7 liability. PRS is not

54
entitled to a deduction for the economic performance of the
§1.752-7 liability to the extent of the remaining built-in
loss associated with the §1.752-7 liability ($2,000,000).
Because this amount exceeds the amount paid by PRS to satisfy
the §1.752-7 liability ($1,000,000), PRS is not entitled to
any deduction for the §1.752-7 liability in 2013. If,
however, PRS notifies A of the economic performance of the
§1.752-7 liability, then A is entitled to an ordinary
deduction in 2013 of $1,000,000 (the amount paid in
satisfaction of the §1.752-7 liability) and a capital loss of
$1,000,000 (the remaining §1.752-7 liability reduction).
(g) Assumption of §1.752-7 liability by a partner other
than §1.752-7 liability partner--(1) In general. Except as
provided in paragraph (d)(2) of this section, section
704(c)(1)(B) does not apply to an assumption of a §1.752-7
liability from a partnership by a partner other than the
§1.752-7 liability partner. Instead, this paragraph (g)
applies. The rules of paragraph (g)(2) of this section apply
only if the §1.752-7 liability partner is a partner in the
partnership at the time of the assumption of the §1.752-7
liability. The rules of paragraphs (g)(3) and (4) of this
section apply to any assumption of the §1.752-7 liability by a
partner other than the §1.752-7 liability partner, whether or
not the §1.752-7 liability partner is a partner in the
partnership at the time of the assumption.
(2) Consequences to §1.752-7 liability partner. If, at
the time of an assumption of a §1.752-7 liability from a
partnership by a partner other than the §1.752-7 liability

55
partner, the §1.752-7 liability partner remains a partner in
the partnership, then the §1.752-7 liability partner's basis
in the partnership interest is reduced by the §1.752-7
liability reduction. If the assuming partner (or any
successor) notifies the §1.752-7 liability partner of the
economic performance of the §1.752-7 liability (as described
in paragraph (h) of this section), then the §1.752-7 liability
partner is entitled to a deduction or loss. The amount of
that deduction or loss is, in the case of a partial
satisfaction of the §1.752-7 liability, the amount paid by the
partnership in satisfaction of the §1.752-7 liability (but not
more than the §1.752-7 liability reduction) or, in the case of
a complete satisfaction of the §1.752-7 liability, the
remaining §1.752-7 liability reduction. To the extent of the
amount paid in satisfaction of the §1.752-7 liability, the
character of that deduction or loss is determined as if the
§1.752-7 liability partner had satisfied the liability. To
the extent that the §1.752-7 liability reduction exceeds the
amount paid in satisfaction of the §1.752-7 liability, the
character of the §1.752-7 liability partner's loss is capital.
(3) Consequences to partnership. Immediately after the
assumption of the §1.752-7 liability from the partnership by a
partner other than the §1.752-7 liability partner, the

56
partnership must reduce the basis of partnership assets by the
remaining built-in loss associated with the §1.752-7
liability. The reduction in the basis of partnership assets
must be allocated among partnership assets as if that
adjustment were a basis adjustment under section 734 (b) .
(4) Consequences to assuming partner. No deduction or
capital expense is allowed to an assuming partner (other than
the §1.752-7 liability partner) on the economic performance of
a §1.752-7 liability assumed from a partnership to the extent
of the remaining built-in loss associated with the §1.752-7
liability. Instead, on economic performance of the _1.752-7
liability, the assuming partner must adjust the basis of the
partnership interest, any assets (other than cash, accounts
receivable, or inventory) distributed by the partnership to
the partner, or gain or loss on the disposition of the
partnership interest, as the case may be. These adjustments
are determined as if the assuming partner's basis in the
partnership interest at the time of the assumption were
increased by the lesser of the amount paid to satisfy the
_1.752-7 liability or the remaining built-in loss associated
with the _1.752-7 liability. However, the assuming partner
cannot take into account any adjustments to depreciable basis,
reduction in gain, or increase in loss until economic

57
performance of the _1.752-7 liability.

Any adjustment to the

basis of an asset under this provision is taken into account
over the recovery period of that asset.
(5) Example. The following example illustrates the
provisions of this paragraph (g):
Example—(i) Facts. In 2004, A, B, and C form
partnership PRS. A contributes Property 1, a nondepreciable
capital asset with a fair market value and basis of
$5,000,000, in exchange for a 25% interest in PRS and
assumption by PRS of a §1.752-7 liability of $2,000,000. B
contributes $3,000,000 cash for a 25% interest in PRS, and C
contributes $6,000,000 cash for a 50% interest in PRS. PRS
uses the cash contributed to purchase Property 2. In 2007,
PRS distributes Property 1, subject to the §1.752-7 liability
to B in liquidation of B's interest in PRS. At the time of
the distribution, A's interest in PRS has a value of
$3,000,000 and a basis of $5,000,000, and B's interest in PRS
has a value and basis of $3,000,000. Also at that time,
Property 1 has a value and basis of $5,000,000, Property 2 has
a value and basis of $9,000,000, and the remaining built-in
loss associated with the §1.752-7 liability is $2,000,000.
Assume that none of the exceptions of paragraph (d)(2)(i) of
this section apply to the assumption of the §1.752-7 liability
by B and that economic performance of the §1.752-7 liability
would have given rise to a deductible expense to A. In 2010,
B pays $1,000,000 to satisfy the entire §1.752-7 liability.
At that time, B still owns Property 1, which has a basis of
$3,000,000.
(ii) Assumption of §1.752-7 liability by B. Section
704(c)(1)(B) does not apply to the assumption of the §1.752-7
liability by B. Instead, A's basis in the PRS interest is
reduced (to $3,000,000) by the §1.752-7 liability reduction,
i.e., the lesser of the excess of A's basis in the PRS
interest over the adjusted value of that interest
($2,000,000), or the remaining built-in loss associated with
the §1.752-7 liability as of the time of the assumption
($2,000,000). PRS's basis in Property 2 is reduced (to
$7,000,000) by the $2,000,000 remaining built-in loss
associated with the §1.752-7 liability. B's basis in Property
1 under section 732(b) is $3,000,000 (B's basis in the PRS

58
interest). This is $2,000,000 less than PRS's
Property 1 before the distribution of Property
has a section 754 election in effect for 2007,
increase the basis of Property 2 under section
$2,000,000.

basis in
1 to B. If PRS
PRS may
734(b) by

(iii) Satisfaction of §1.752-7 liability. B is not
entitled to a deduction for the economic performance of the
§1.752-7 liability in 2010 to the extent of the remaining
built-in loss associated with the §1.752-7 liability as of the
time of the assumption ($2,000,000). As this amount exceeds
the amount paid by B to satisfy the §1.752-7 liability, B is
not entitled to any deduction for the §1.752-7 liability in
2010. B may, however, increase the basis of Property 1 by the
lesser of the remaining built-in loss associated with the
§1.752-7 liability ($2,000,000) or the amount paid to satisfy
the §1.752-7 liability ($1,000,000). Therefore, B's basis in
Property 1 is increased to $4,000,000. If B notifies A of the
economic performance of the §1.752-7 liability, then A is
entitled to an ordinary deduction in 2010 of $1,000,000 (the
amount paid in satisfaction of the §1.752-7 liability) and a
capital loss of $1,000,000 (the remaining §1.752-7 liability
reduction).
(h) Notification by the partnership (or successor) of the
economic performance of the §1.752-7 liability. For purposes
of paragraphs (e), (f), and (g) of this section, notification
by the partnership (or successor) of the economic performance
of the §1.752-7 liability must be attached to the §1.752-7
liability partner's return for the year in which the loss is
being claimed and must include-(1) The amount paid in satisfaction of the §1.752-7
liability, and whether the amounts paid were in partial or
complete satisfaction of the §1.752-7 liability;
(2) The name and address of the person satisfying the

59
§1.752-7 liability;
(3) The date of the payment on the §1.752-7 liability;
and
(4) The character of the loss with respect to the §1.7527 liability.
(i) Tiered partnerships--(1) Look-through treatment. For
purposes of this section, a contribution by a partner of an
interest in a partnership (lower-tier partnership) to another
partnership (upper-tier partnership) is treated as a
contribution of the partner's share of each of the lower-tier
partnership's assets and an assumption by the upper-tier
partnership of the partner's share of the lower-tier
partnership's liabilities (including §1.752-7 liabilities).
See paragraph (e) (3) (ii), Example 1 of this section. In
addition, a partnership is treated as having its share of any
§1.752-7 liabilities of the partnerships in which it has an
interest.
(2) Trade or business exception. If a partnership
(upper-tier partnership) assumes a §1.752-7 liability of a
partner, and, subsequently, another partnership (lower-tier
partnership) assumes that §1.752-7 liability from the uppertier partnership, then the §1.752-7 liability is treated as
associated only with any trade or business contributed to the

60
upper-tier partnership by the _1.752-7 liability partner. The
same rule applies where a partnership assumes a §1.752-7
liability of a partner, and, subsequently, the _1.752-7
liability partner transfers that partnership interest to
another partnership. See paragraph (e) (3) (ii), Example 1 of
this section.
(3) Partnership as a §1.752-7 liability partner. If a
transaction described in paragraph (e), (f), or (g) of this
section occurs with respect to a partnership (upper-tier
partnership) that is a §1.752-7 liability partner of another
partnership (lower-tier partnership), then such transaction
will also be treated as a transaction described in paragraph
(e), (f), or (g) of this section, as appropriate, with respect
to the partners of the upper-tier partnership, regardless of
whether the upper-tier partnership assumed the §1.752-7
liability from those partners. (See paragraph (b)(3) of this
section for rules relating to the treatment of transactions by
the partners of the upper-tier partnership). In such a case,
the §1.752-7 liability reduction with respect to each partner
in the upper-tier partnership is equal to that partner's share
of the §1.752-7 liability. The partners of the upper-tier
partnership at the time of the transaction described in
paragraph (e), (f), or (g) of this section, and not the upper-

61
tier partnership, are entitled to the loss or deduction on the
economic performance of the §1.752-7 liability. Similar
principles apply where the upper-tier partnership is itself
owned by one or a series of partnerships. This paragraph does
not apply to the extent that _1.752-7(i)(4) applies to the
assumption of the §1.752-7 liability by the lower-tier
partnership.
(4) Transfer of §1.752-7 liability by partnership to
another partnership or corporation after a transaction
described in paragraphs (e),(f), or (q)--(i) In general. If,
after a transaction described in paragraphs (e),(f), or (g) of
this section with respect to a §1.752-7 liability assumed by a
partnership (the upper-tier partnership), another partnership
or a corporation assumes the §1.752-7 liability from the
upper-tier partnership (or the assuming partner) in a
transaction in which the basis of property is determined, in
whole or in part, by reference to the basis of the property in
the hands of the upper-tier partnership (or assuming partner),
then-(A) The upper-tier partnership (or assuming partner) must
reduce its basis in any corporate stock or partnership
interest received by the remaining built-in loss associated
with the §1.752-7 liability (but the partners of the upper-

62
tier partnership do not reduce their bases or capital accounts
in the upper-tier partnership); and
(B) No deduction or capital expense is allowed to the
assuming partnership or corporation on the economic
performance of the §1.752-7 liability to the extent of the
remaining built-in loss associated with the §1.752-7
liability.
(ii) Subsequent transfers. Similar rules apply to
subsequent assumptions of the §1.752-7 liability in
transactions in which the basis of property is determined, in
whole or in part, by reference to the basis of the property in
the hands of the transferor. If, subsequent to an assumption
of the §1.752-7 liability by a partnership in a transaction to
which paragraph (i) (4) (i) of this section applies, the §1.7527 liability is assumed from the partnership by a partner other
than the partner from whom the partnership assumed the §1.7527 liability, then the rules of paragraph (g)(4) of this
section apply.
(5) Example. The following example illustrates the
provisions of paragraphs (i)(3) and (i)(4) of this section.
Example--(i) Assumption of §1.752-7 liability by UTP and
transfer of §1.752-7 liability partner's interest in UTP. In
2004, A, B, and C form partnership UTP. A contributes
Property 1 with a fair market value and basis of $5,000,000
subject to a §1.752-7 liability of $2,000,000 in exchange for
a 25% interest in UTP. B contributes $3,000,000 cash in

63
exchange for a 25% interest in UTP, and C contributes
$6,000,000 cash in exchange for a 50% interest in UTP. UTP
invests the $9,000,000 cash in Property 2. In 2006, A sells
A's interest in UTP to D for $3,000,000. At the time of the
sale, the basis of A's UTP interest is $5,000,000, the
remaining built-in loss associated with the §1.752-7 liability
is $2,000,000, and UTP has no liabilities other than §1.752-7
liabilities. Assume that none of the exceptions of paragraph
(d)(2) of this section apply and that economic performance of
the §1.752-7 liability would give rise to a deductible expense
to the payor. Under paragraph (e) of this section,
immediately before the sale of the UTP interest to D, A's
basis in UTP is reduced to $3,000,000 by the $2,000,000
§1.752-7 liability reduction. Therefore, A recognizes no gain
or loss on the sale of the UTP interest to D. D's basis in
the UTP interest is $3,000,000.
(ii) Assumption of §1.752-7 liability by LTP from UTP.
In 2008, at a time when the estimated amount of the §1.752-7
liability has increased to $3,500,000, UTP contributes
Property 1 and Property 2, subject to the §1.752-7 liability,
to LTP in exchange for a 50% interest in LTP. At the time of
the contribution, Property 1 still has a value and basis of
$5,000,000 and Property 2 still has a value and basis of
$9,000,000. UTP's basis in LTP under section 722 is
$14,000,000. Under paragraph (i)(4) of this section, UTP must
reduce its basis in LTP by the $2,000,000 remaining built-in
loss associated with the §1.752-7 liability (as of the time of
the sale of the UTP interest by A ) . The partners in UTP are
not required to reduce their bases in UTP by this amount.
(iii) Sale by UTP of LTP interest. In 2010, UTP sells
its interest in LTP to E for $10,500,000. At the time of the
sale, Property 1 still has a value and basis of $5,000,000,
Property 2 still has a value and basis of $9,000,000, and the
remaining built-in loss associated with the §1.752-7 liability
is still $3,500,000. Under paragraph (e) of this section,
immediately before the sale, UTP must reduce its basis in the
LTP interest by the §1.752-7 liability reduction. Under
paragraph (a)(4) of this section, the remaining built-in loss
associated with the §1.752-7 liability is $1,500,000
(remaining built-in loss associated with the §1.752-7
liability, $3,500,000, reduced by the amount of the §1.752-7
liability taken into account under paragraph (i)(4) of this
section, $2,000,000). The difference between the basis of the
LTP interest held by UTP ($12,000,000) and the adjusted value

64
of that interest ($10,500,000) is also $1,500,000. Therefore,
the _1.752-7 liability reduction is $1,500,000 and UTP's basis
in the LTP interest must be reduced to $10,500,000. In
addition, UTP's partners must reduce their bases in their UTP
interests by their proportionate shares of the §1.752-7
liability reduction. Thus, the basis of each of B's and D's
interest in UTP must be reduced by $375,000 and the basis of
C's interest in UTP must be reduced by $750,000. In 2011, D
sells the UTP interest to F.
(iv) Economic performance of §1.752-7 liability by LTP.
In 2012, LTP pays $3,500,000 to satisfy the §1.752-7
liability. Under paragraphs (e) and (i)(4) of this section,
LTP is not entitled to any deduction with respect to the
§1.752-7 liability. Under paragraph (i)(3) of this section,
UTP also is not entitled to any deduction with respect to the
§1.752-7 liability. If LTP notifies A, B, C and D of the
economic performance of the §1.752-7 liability, then A is
entitled to a deduction in 2012 of $2,000,000, B and D are
each entitled to deductions in 2012 of $375,000, and C is
entitled to a deduction in 2012 of $750,000.
(j) Effective date--(l) In general. This section applies
to §1.752-7 liability transfers occurring on or after June 24,
2003.
(2) Election to apply this section to assumptions of
liabilities occurring after October 18, 1999 and before June
24, 2003-- (i) In general. A partnership may elect to apply
this section to assumptions of liabilities (including §1.752-7

65
liabilities) occurring after October 18, 1999, and before June
24, 2003. Such an election is binding on the partnership and
all of its partners. A partnership making such an election
must apply all of the provisions of these proposed regulations
(other than _1.752-6).
(ii) Manner of making election. A partnership makes an
election under this paragraph (j)(2) by attaching the
following statement to its timely filed return: "[Insert name
and employer identification number of electing partnership]
elects under _1.752-7 of the Income Tax Regulations to be
subject to the rules of 1.358-7, 1.752-7 and 1.704-

Kb) (2) (iv) (b) , 1.704-2 (b) (3), 1.705-1 (a) (7), and 1.752-1, on
June 24, 2003, with respect to all liabilities (including
§1.752-7 liabilities) assumed by the partnership after October
18, 1999 and before June 24, 2003. In the statement, the
partnership must list, with respect to each liability
(including each §1.752-7 liability) assumed by the partnership
after October 18, 1999 and before June 24, 2003—
(A) The name, address, and taxpayer identification number
of the partner from whom the liability was assumed;
(B) The date on which the liability was assumed by the
partnership;
(C) The amount of the liability as of the time of its

66
assumption; and
(D) A description of the liability.
(iii) Filing of amended returns. An election under this
paragraph (j)(2) will be valid only if the partnership and its
partners promptly amend any returns for open taxable years
that would be affected by the election.

67
(iv) Time for making election. An election under this
paragraph (j)(2) must be filed with the first Federal income
tax return filed by the partnership on or after September 24,
2003.

David A. Mader,
Assistant Deputy Commissioner of Internal
Revenue.

O F I - ' K K O F PCRI.Jr .U'l-'MUS • I50U I'lvNNS YI.\A M \ \\ K M

EMBARGOED UNTIL 11:00 A.M.
June 23, 2003

I!, N.W. • W A S H I M M O N . [).</.» 20220 • i202 i 622-2*>ftfl

Contact:

Office of Financing
202/691-3550

TREASURY OFFERS 4-WEEK BILLS
The Treasury will auction 4-week Treasury bills totaling $12,000 million to
refund an estimated $25,000 million of publicly held 4-week Treasury bills maturing
June 26, 2003, and to pay down approximately $13,000 million.
Tenders for 4-week Treasury bills to be held on the book-entry records of
TreasuryDlrect will not be accepted.
The Federal Reserve System holds $14,905 million of the Treasury bills maturing
on June 26, 2003, in the System Open Market Account (SOMA). This amount may be
refunded at the highest discount rate of accepted competitive tenders in this auction
up to the balance of the amount not awarded in today's 13-week and 26-week Treasury
bill auctions. Amounts awarded to SOMA will be in addition to the offering amount.
Up to $1,000 million in noncompetitive bids from Foreign and International
Monetary Authority (FIMA) accounts bidding through the Federal Reserve Bank of New York
will be included within the offering amount of the auction. These noncompetitive bids
will have a limit of $100 million per account and will be accepted in the order of
smallest to largest, up to the aggregate award limit of $1,000 million.
The allocation percentage applied to bids awarded at the highest discount rate
will be rounded up to the next hundredth of a whole percentage point, e.g., 17.13%.
This offering of Treasury securities is governed by the terms and conditions
set forth in the Uniform Offering Circular for the Sale and Issue of Marketable BookEntry Treasury Bills, Notes, and Bonds (31 CFR Part 356, as amended)Details about the new security are given in the attached offering highlights.

oOo
Attachment

J^ - W

HIGHLIGHTS OF TREASURY OFFERING
OF 4-WEEK BILLS TO BE ISSUED JUNE 26, 2003
June 23, 2003
Offering Amount $12,000 million
Maximum Award (35% of Offering Amount)... $ 4,200
Maximum Recognized Bid at a Single Rate..$ 4,200
NLP Reporting Threshold
$ 4,200
NLP Exclusion Amount
$10,200

million
million
million
million

Description of Offering:
Term and type of security
28-day bill
CUSIP number
912795 NE 7
Auction date
June 24 , 2003
Issue date
June 26, 2003
Maturity date
July 24, 2003
Original issue date
January 23, 2003
Currently outstanding
$40,363 million
Minimum bid amount and multiples....$1,000
Submission of Bids:
Noncompetitive bids: Accepted in full up to $1 million at the highest
discount rate of accepted competitive bids.
Foreign and International Monetary Authority (FIMA) bids: Noncompetitive bids submitted through the Federal Reserve Banks as agents for
FIMA accounts. Accepted in order of size from smallest to largest
with no more than $100 million awarded per account. The total noncompetitive amount awarded to Federal Reserve Banks as agents for
FIMA accounts will not exceed $1,000 million. A single bid that
would cause the limit to be exceeded will be partially accepted in
the amount that brings the aggregate award total to the $1,000
million limit. However, if there are two or more bids of equal
amounts that would cause the limit to be exceeded, each will be
prorated to avoid exceeding the limit.
Competitive bids:
(1) Must be expressed as a discount rate with three decimals in
increments of .005%, e.g., 4.215%.
(2) Net long position (NLP) for each bidder must be reported when
the sum of the total bid amount, at all discount rates, and the
net long position equals or exceeds the NLP reporting threshold
stated above.
(3) Net long position must be determined as of one half-hour prior
to the closing time for receipt of competitive tenders.
Receipt of Tenders:
Noncompetitive tenders:
Prior to 12:00 noon eastern daylight saving time on auction day
Competitive tenders:
Prior to 1:00 p.m. eastern daylight saving time on auction day
Payment Terms: By charge to a funds account at a Federal Reserve Bank
on issue date.

SSROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 23, 2003
2003-6-23-9-38-43-27333
U.S. International Reserve Position
The Treasury Department today released U.S. reserve assets data for the latest week. As indicated in this table, U.S. reserve assets
totaled $82,961 million as of the end of that week, compared to $82,566 million as of the end of the prior week.
I. Official U.S. Reserve Assets (in US millions)

TOTAL
1. Foreign Currency Reserves

a. Securities

June 6, 2003

June .13,2003

82,566

82,961

Euro

Yen

7,769

13,238

TOTAL

Euro

Yen

TOTAL

21,007

7,883

13,391

21,274

Of which, issuer headquartered in the U.S.

b. Total deposits with:
b.i. Other central banks and BIS

12,631

2,658

15,289

12,782

2,689

15,471

b.ii. Banks headquartered in the U.S.

b.ii. Of which, banks located abroad

b.iii. Banks headquartered outside the U.S.

b.iii. Of which, banks located in the U.S.

23,429

23,401

11,798

11,770

11,043

11,044

2. IMF Reserve Position

3. Special Drawing Rights (SDRs) 2
4. Gold Stock

5. Other Reserve Assets

II. Predetermined Short-Term Drains on Foreign Currency Assets
June 6, 2003
Euro
1. Foreign currency loans and securities

Yen

June 13, 2003
TOTAL

Euro

Yen

TOTAL
0

2. Aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the U.S. dollar:
2. a. Short positions

2.b. Long positions

3. Other

I. Contingent Short-Term Net Drains on Foreign Currency Assets
June 6, 2003

June 13, 2003
"~1

Yen

Euro

TOTAL J
0

1. Contingent liabilities in foreign currency

Euro

Yen

TOTAL
0

1.a. Collateral guarantees on debt due within 1
year
1.b. Other contingent liabilities
2. Foreign currency securities with e m b e d d e d
options
3. Undrawn, unconditional credit lines

3.a. With other central banks
3.b. With banks and other financial institutions
Headquartered in the U.S.
3.c. With banks and other financial institutions
Headquartered outside the U.S.
4. Aggregate short and long positions of options
in foreign
Currencies vis-a-vis the U.S. dollar
4.a. Short positions
4.a.1. Bought puts
4.a.2. Written calls
4.b. Long positions
4.b.1. Bought calls
4.b.2. Written puts

Notes:

2/The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF and are
valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest week reflect any
necessary adjustments, including revaluation, by the U.S. Treasury to the prior week's IMF data. IMF data for the latest week m a y be
subject to revision. IMF data for the prior week are final.
3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

OFKICK OF Pnil.lC VI-"K\IRS • I5*HI PI NN^YLV \ Nl V W K M K, N.W. • WASHINGTON, ".(.'.• 20220 * 12021 6 22-2960

EMBARGOED UNTIL 11:00 A.M.
June 23, 2003

CONTACT:

Office of Financing
202/691-3550

TREASURY OFFERS 2-YEAR NOTES
The Treasury will auction $25,000 million of 2-year notes to refund $21,098
million of publicly held notes maturing June 30, 2003, and to raise new cash of
approximately $3,902 million.
In addition to the public holdings, Federal Reserve Banks hold $6,700 million
of the maturing notes for their own accounts, which may be refunded by issuing
an additional amount of the new security.
Up to $1,000 million in noncompetitive bids from Foreign and International
Monetary Authority (FIMA) accounts bidding through the Federal Reserve Bank of New
York will be included within the offering amount of the auction. These noncompetitive
bids will have a limit of $100 million per account and will be accepted in the order
of smallest to largest, up to the aggregate award limit of $1,000 million.
TzeasuryDlxect customers requested that we reinvest their maturing holdings
of approximately $621 million into the 2-year note.
The auction will be conducted in the single-price auction format. All competitive and noncompetitive awards will be at the highest yield of accepted competitive
tenders. The allocation percentage applied to bids awarded at the highest yield will
be rounded up to the next hundredth of a whole percentage point, e.g., 17.13%.
The notes being offered today are eligible for the STRIPS program.
This offering of Treasury securities is governed by the terms and conditions
set forth in the Uniform Offering Circular for the Sale and Issue of Marketable BookEntry Treasury Bills, Notes, and Bonds (31 CFR Part 356, as amended).
Details about the new security are given in the attached offering highlights.

oOo
Attachment

SS fcs

HIGHLIGHTS OF TREASURY OFFERING TO THE PUBLIC OF
2-YEAR NOTES TO BE ISSUED JUNE 30, 2003
June 23, 2003
Offering Amount $25,000 million
Maximum Award (35% of Offering Amount)
Maximum Recognized Bid at a Single Rate
NLP Reporting Threshold
Description of Offering:
Term and type of security
Series
CUSIP number
Auction date
Issue date
Dated date
Maturity date
Interest rate
Yield
Interest payment dates
Minimum bid amount and multiples
Accrued interest payable by investor
Premium or discount
STRIPS Information:
Minimum amount required
Corpus CUSIP number
Due date(s) and CUSIP number(s)
for additional TINT(s)

$ 8,750 million
$ 8,750 million
$ 8 , 750 million

2-year notes
M-2005
912828 BC 3
June 25, 2003
June 30, 2003
June 30, 2003
June 30, 2005
Determined based on the highest
accepted competitive bid
Determined at auction
December 31 and June 30
$1,000
None
Determined at auction

$1, 000
912820 HZ 3
June 30, 2005 - - 912833 ZJ 2

Submission of Bids:
Noncompetitive bids:
Accepted in full up to $5 million at the highest accepted yield.
Foreign and International Monetary Authority (FIMA) bids: Noncompetitive bids
submitted through the Federal Reserve Banks as agents for FIMA accounts.
Accepted in order of size from smallest to largest with no more than $100
million awarded per account. The total noncompetitive amount awarded to Federal
Reserve Banks as agents for FIMA accounts will not exceed $1,000 million. A
single bid that would cause the limit to be exceeded will be partially accepted
in the amount that brings the aggregate award total to the $1,000 million limit.
However, if there are two or more bids of equal amounts that would cause the
limit to be exceeded, each will be prorated to avoid exceeding the limit.
Competitive bids:
(1) Must be expressed as a yield with three decimals, e.g., 7.123%.
(2) Net long position for each bidder must be reported when the sum of the total
bid amount, at all yields, and the net long position equals or exceeds the NLP
reporting threshold stated above.
(3) Net long position must be determined as of one half-hour prior to the
closing time for receipt of competitive tenders.
Receipt of Tenders:
Noncompetitive tenders:
Prior to 12:00 noon eastern daylight saving time on auction day
Competitive tenders:
Prior to 1:00 p.m. eastern daylight saving time on auction day
Payment Terms: By charge to a funds account at a Federal Reserve Bank on issue date,
or payment of full par amount with tender. TreasuryDirect customers can use the Pay
Direct feature which authorizes a charge to their account of record at their
financial institution on issue date.

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 23, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 26-WEEK BILLS
Term: 183-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 26, 2 0 03
December 26, 2003
912795PC9

High Rate: 0.840% Investment Rate 1/: 0.858% Price: 99.573
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 44.73%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type Tendered Accepted
Competitive
Noncompetitive
FIMA (noncompetitive)

26,212,803
26,,212,,803
816,
,113
816,113
50,,000
50,000
27,,078,,916
27,078,916

SUBTOTAL
Federal Reserve 6,417,177 6,417,177

17,134,150
816,113
50,000
18,000,263 2/

6,,417,,177

TOTAL $ 33,496,093 $ 24,417,440
Median rate 0.815%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
0.790%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 27,078,916 / 18,000,263 = 1.50
1/ Equivalent coupon-issue yield.
2/ Awards to TREASURY DIRECT = $619,516,000

http://www.publicdebt.treas.gov

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239

TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 23, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 13-WEEK BILLS
Term: 91-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

June 26, 2003
September 25, 2003
912795NP2

High Rate: 0.815% Investment Rate 1/: 0.830% Price: 99.794
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 32.92%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type Tendered Accepted
Competitive
Noncompetitive
FIMA (noncompetitive)

28,235,689
1,376,510
135,000

15,488,564
1,376,510
135,000

SUBTOTAL 29,747,199 17,000,074 2/
Federal Reserve 6,131,549 6,131,549
TOTAL $ 35,878,748 $ 23,131,623
Median rate 0.795%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
0.750%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 29,747,199 / 17,000,074 = 1.75
1/ Equivalent coupon-issue yield.
2/ Awards to TREASURY DIRECT = $1,090,061,000

c yj1

http://www.publicdebt.treas.gov

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 24, 2003
JS-498
Remarks of Peter R. Fisher
Under Secretary for Domestic Finance
to
American Securitization Forum
N e w York, N Y

Our credit markets are adjusting to the prospect of price stability. W e can
now better observe real rates across time and among different borrowers. As a
consequence, w e can also better observe the shortcomings of current investor
disclosures in providing the information needed to portray accurately risk-reward
prospects in a world of derivatives and of structured credit products.
Some attention has recently been given to the risks of deflation. While a
sustained decline in the general price level is a possibility, it is still one to which a
rather low probability should be attached. A higher probability should be attached
to the "risk" that w e will see a period of sustained price stability. Recognizing the
modest upward bias and the inevitable noise in our measures of inflation, w e now
appear to be at effective price stability.
The question for monetary policy, which I will not address, is how to
sustain effective price stability. The question for our credit markets, which I intend
to address, is how to adjust to a world of price stability in which attention is more
clearly focused on credit quality.
An environment of price stability, if sustained, will be characterized by low
variance in the general price level and by expectations for more symmetric
deviations from the current price level than w e have experienced over the last thirty
years. If such an environment takes hold, credit market participants will come to
expect that prices are as likely to rise modestly as to fall modestly, within a narrow
range. O n e consequence is that w e will more readily observe both movements in
aggregate real rates and the variance in real borrowing costs experienced by
different borrowers.
While we have all understood that real rates change over time, during the
recent decades of rising and falling inflation w e have tended to focus on the
movements in nominal rates as explained by changes in inflation and inflation
expectations. W e have also fallen into the bad habit of assuming that changes in
inflation are the principle source of volatility in real asset values.
We should have known all along that real rates can also move around.
But now that w e seem to have entered a period of price stability the observed
variance in real rates is slapping us in the face. While an imperfect measure of real
rates, the Treasury's inflation-protected ten-year note provides some evidence of
recent changes in aggregate real rates. The real yield on the 10-year TIPS peaked
at 4.4 percent in early 2000 and now, just three years later, has fallen in recent
weeks to between 1.4 and 1.6 percent, while implied inflation expectations moved
in a narrower range.
Those of us inclined to make the simplifying assumption of a constant 2 or
3 percent long-run, real cost of capital, as suggested by economic historians, will
need to think about the meaning of a greater than 50 percent decline in observed
real rates in the space of a few years. Those of you with risk management
responsibilities will need to think carefully about your efforts to achieve 4 or 5

percent risk-adjusted, real returns in a world that m a y only be offering a
riskless, real rate of less than 2 percent.
Removing aggregate inflation from the list of uncertainties allows investors
to identify more clearly good managerial decisions from poor ones, sustainable
cash flows from unsustainable ones. Managers w h o are able to identify and
expand markets where their firms have pricing power will enjoy persistently lower
real costs of borrowing; whereas firms that face stiff competition will tend to face
higher real borrowing costs.
With greater attention focused on credit quality, securitized assets should
be able to perform well, given the relative simplicity and clarity of their cash flows
and risk characteristics compared to the complexities and uncertainties associated
with major corporate balance sheets. However, if our traded credit markets are
going to prosper in a world of increased attention to credit quality, all issuers of
credit instruments will need to provide investors with disclosures that accurately
portray the risk-reward characteristics of the non-linear and probabilistic claims on
cash flows that are n o w routinely embedded in the structured products that
investors hold both directly and indirectly.
Our existing disclosure paradigm is not adequate for this task.
The mindset that dominates current disclosure and accounting practices
continues to focus on identifying facts (about the past) that are precisely
comparable between different firms and credits. The risk management mindset which inspired the development of our exchange-traded and over-the-counter
derivative markets and still dominates financial management today - focuses on
comprehending the probabilities of likely and unlikely future deviations from
particular desired or expected outcomes. A s a consequence, our disclosure regime
is inadequate for the task of informing investors about the financial underpinnings of
the products in which they invest.
There are "just" two topics that need to be addressed to come up with a
n e w disclosure paradigm: first, the non-linear nature of contingent financial claims;
and, second, the subjective nature of risk.
Before even turning to the complexity of derivatives, we should
acknowledge that there is no single perspective from which to consider accounting
and disclosure. Shareholders and creditors have different interests. Generally
accepted accounting principles are different from regulatory accounting principles
and regulatory capital is different from shareholder equity. There is also the
additional perspective of tax accounting. S o w e must be careful to avoid the
assumption of a single "right" answer.
The non-linear nature of optionality drives much of the complexity of
derivative instruments and poses a significant but manageable challenge for
disclosure practices. For example, investors need to understand different facts
about an option at different stages in an option's life cycle. T o prevent too m a n y
eyes from glazing over at the mention of non-linearity, let m e try an analogy.
Turning to biology, imagine a short list of attributes needed to describe a
caterpillar: length, width, color and number of legs. Perfectly adequate to the task
of portraying caterpillars, these four attributes will not portray very well the features
of butterflies. Precise comparisons of caterpillars and butterflies using just these
few attributes m a y well mislead and confuse. To describe the non-linear process of
metamorphosis w e need something more than a precise comparison of key facts
about caterpillars or even key facts about butterflies.
More importantly, we are not just interested in observing facts. To carry
the analogy to investors forward, w e are going to be keenly interested in whether
these particular caterpillars are likely to turn into butterflies or whether they are
likely to b e c o m e moths. W e are not principally interested in comparing caterpillars
to caterpillars. W e are interested in those attributes of caterpillars which help us
comprehend the probability of the hoped for transformation into butterflies.
This brings up the subjective nature of risk. Risk is deviation from a particular goal
or objective. You cannot understand risk without first articulating an objective. T h e
"intended", the "desired" or the "expected" path must be identified before you can

think clearly about likely and unlikely deviations.
In the world of derivative accounting and disclosure, this issue is frequently
boiled down to the question: Is it the asset or is it the hedge? Without a clear
statement of objective it is difficult to answer that question. But if you have a clear
understanding of the objective (or, at least, of the expected outcome) then you can
articulate the risks being managed and, therefore, identify which is the asset and
which is the hedge.
The particular challenge for accounting and disclosure of derivatives is that
this hinges on something as subjective as intention and expectation. This poses a
host of problems about "changing our minds". But for the present purpose, I want
to draw attention to the problem of framing disclosures to investors that will help
them better understand the probability of deviations from particular desired
outcomes.
Compared with this, coming up with formats for disclosing the non-linearity
of options and related exposures is just a technical challenge of identifying those
features that best foreshadow the probabilities of different outcomes and those that
best summarize the course of the transformation.
The subjective nature of risk poses two significant challenges for
disclosure practices. First, it suggests that there is no single, correct w a y to
account for or disclose a particular set of sliced and spliced contingent cash flows;
w e must look to the objective to understand the significance of particular assets and
liabilities. Second, accurate disclosure will require borrowers to be specific about
their objectives and to be transparent about deviations from their objectives - that
is, to be transparent about their failures or, perhaps w e should more kindly say,
their "un-successes".
The comparisons that we need to see are not principally between the
simple facts about Borrower A and Borrower B. Rather, w e want to understand the
relative success of Borrower A at managing deviation from his objective compared
with the success of Borrower B at managing deviation from his objective. Their
objectives m a y be quite different but w e ought to be able to compare their "risk
management acumen".
This is a major hurdle for improving disclosure practices. I used to think
that improvements in investor disclosures were principally held back by a "first
mover'' problem. Upon reflection, I now think that it is the double hurdle of the first
mover problem and the reluctance to be clear about "un-successes" that m a k e it so
difficult to achieve improvements in disclosure practices.
This is where you come in. You have the opportunity to overcome this
hurdle.
You can compete with one another on the basis of the quality of the
information you provide investors without it reflecting on the capabilities of any
individuals. Securitized assets don't have "intent". Structured pools of mortgages,
credit card receivables and auto loans don't have their o w n "objectives" and they
can't be embarrassed when they experience unlikely outcomes. They have only
expected outcomes and likely and unlikely deviation from those expected
outcomes. S o it is m u c h easier for issuers of securitized assets to provide more
detailed information about expected outcomes and the probabilities of deviations
from those expectations.
In addition, you have already gotten over the first mover problem. To
compete with one another, and with other credit products, issuers in your industry
already do compete on the basis of the information you provide about the pools of
assets you securitize. You need only reinvigorate your efforts to improve
disclosures to present more accurately the non-linear and probabilistic attributes of
the claims on cash flows embedded in your products.
In closing let me note that the pressure on all issuers of credit instruments
to disclose more and more information of marginal utility to investors is a function of
investor discomfort with an inadequate disclosure paradigm. Until the paradigm is
shifted to one that better reflects the characteristics of the risks that investors face,
our credit markets will continue to hear d e m a n d s for more disclosure w h e n what is

needed is better disclosure.
You can continue to let the costs mount - the burdens of both additional,
unhelpful disclosures and of unhappy investors - or you can try to give investors
the information they need to understand your products on the s a m e terms that you
do. I do not m e a n to suggest that this will be easy, but I do think it's important.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 24, 2003
JS-499
U.S. Treasurer Salutes Columbus, OH Financial Education Program
U.S. Treasurer Rosario Marin today formally recognized the Ohio Credit
Union League's Latino Financial Literacy Program with an honorary
certificate of recognition from the Treasury Department for the program's
efforts in teaching financial education to Columbus' Hispanic community.
"The Ohio Credit Union League's Latino Financial Literacy Program is
doing an outstanding job of educating Columbus-area Hispanics about the
basic building blocks of personal finance," said Treasurer Marin. "A strong
foundation of financial literacy is key to helping these families succeed in
their pursuit of the American Dream."
Following the presentation of the certificate, Treasurer Marin assisted in
teaching a Spanish-language financial education class where students are
learning about saving, managing m o n e y and handling credit. Representing
the fastest growing ethnic population in the United States, Hispanics have
a combined purchasing power of more than $450 billion. Yet research and
surveys reveal that 43 percent of Hispanics in the United States report
knowing little about retirement planning, and as m a n y as 25 percent do not
have a bank account.
The Latino Financial Literacy Program, now in its second year, is a foursession course providing instruction on financial goals and spending;
developing a budget; establishing and maintaining a good credit history;
and managing a bank account and other financial instruments. In its first
year, 225 people attended the course and received a certificate of
graduation. The program is sponsored by the Ohio Credit Union League in
partnership with the Ohio State University Extension Office.
The Treasury Department in 2002 established the Office of Financial
Education to strengthen the financial literacy of all Americans, and to
provide guidance to organizations providing financial education programs.
The Office works to ensure that people can gain the practical knowledge
and skills that they need to m a k e informed financial choices throughout
various life stages. It focuses on four key areas: basic savings, credit
management, homeownership and retirement planning. More information
can be found atwww.treasury.gov.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 24, 2003
JS-500
U.S. Treasury Secretary John W. Snow
Statement regarding the death of IRS employee LaToya Taylor
June 24 2003
Washington, D C
I would like to convey the sadness that everyone in the United States Treasury
Department feels on learning of the loss of LaToya Taylor. Ms. Taylor was a
dedicated mother and public servant, and her passing is all the more heartbreaking
for coming so early in her career. Our sincere condolences go to her family on this
day.

federal f inane ir.y ;jank
W A S H V.G TDK D C 20220

FEDERAL FINANCING BANK
2003 PRESS RELEASE
June 2003

Brian Jackson, Chief Financial Officer, Federal Financing Bank (FFH)
announced the following activity for the month of June 2003.
FFB holdings of obligations issued, sold or guaranteed by other
Federal agencies totaled $36.4 billion on June 30, 2003, posting a decrease
of $21.8 million from the level on May 31, 2003. This net change was the
result of a decrease in holdings of government-guaranteed loans of $21.8
million. The FFB made 47 disbursements and received 14 prepayments
during the month of June. The FFB also extended the maturities of 157
loans guaranteed by the Rural Utilities Service ("RUS") during the month of
June.
Below are tables presenting FFB June loan activity and FFB holdings
as of June 30, 2003.

FEDERAL FINANCING BANK
June 2003 ACTIVITY
Borrower

2003

Ami. Of Advance

Fin a Mat r ty
" Jn
r \

Century 2000

GOVERNMENT-GUARANTEED LOANS
1"

S 5D,

Int. Rate

Semi-Annual
or Quarterly

G E N E R A L SERVICES ADMINISTRATION
San Francisco O H

6/13

$132,507.93

8/1/2005

1.284%

Semi-Annually

ICTC Building

6/23

$359,121.74

11/2/2026

4.111%

Semi-Annually

San Francisco O B

6/23

$132,507.93

8/1/2005

1.380%

Semi-Annually

Foley Services Contract

6/25

$6,381.80

7/31/2025

3.935%

Semi-Annually

ICTC Building

6/25

$497,084.00

11/2/2026

4.004%

Semi-Annually

San Francisco Bldg Lease

6/26

$1,499,249.17

8/1/2005

1.449%

Semi-Annually

Barber-Scotia College

6/13

$659,914.75

3/1/2030

3.898%

Semi-Annually

Livingstone College

6/13

$67,310.00

7/1/2031

3.943%

Semi-Annually

Virginia Union Univ.

6/13

$29,695.86

1/2/2032

3.959%

Semi-Annually

Lincoln University

6/16

$417,753.13

1/2/2015

2.686%

Semi-Annually

Tuskegee Univ.

6/16

$977,046.65

1/2/2032

3.908%

Semi-Annually

Associated Electric #894

6/02

$513,000.00

1/3/2033

4.147%

Quarterly

Deep East Texas Electric #872

6/02

$5,200,000.00

12/31/2036

4.237%

Quarterly

Jackson Purchase #755

6/03

$2,668,000.00

9/30/2005

1.405%

Quarterly

Karnes Elec. #203

6/04

$2,000,000.00

6/30/2004

1.074%

Quarterly

South Miss. Elec. #691

6/04

$1,235,000.00

12/31/2030

4.065%

Quarterly

Butler Rural Elec. #578

6/05

$1,028,554.00

1/3/2034

4.125%

Quarterly

Cornbelt Power #565

6/05

$3,746,000.00

1/3/2028

3.895%

Quarterly

Georgia Trans. Corp. #849

6/05

$20,319,000.00

12/31/2025

3.820%

Quarterly

Lake Region Elec. #737

6/05

$350,000.00

12/31/2030

4.033%

Quarterly

Carbon Power & Light #533

6/06

$401,000.00

10/1/2018

3.798%

Quarterly

S. Illinois Power #202

6/06

$6,907,000.00

1/3/2033

4.152%

Quarterly

Tri-State #202

6/06

$86,782,000.00

1/3/2033

4.154%

Quarterly

West Plains Elec. #501

6/06

$2,246,000.00

9/30/2003

1.158%

Quarterly

Darien Telephone Co. #719

6/09

$388,000.00

9/30/2003

1.038%

Quarterly

Habersham Electric M e m . #200

6/09

$4,400,000.00

9/30/2003

1.037%

Quarterly

Kankakee Valley Elec. #857

6/09

$1,200,000.00

12/31/2036

4.259%

Quarterly

Mid-Yellowstone Elec. #745

6/09

$518,000.00

12/31/2035

4.237%

Quarterly

Owen Electric #525

6/09

$3,263,000.00

9/30/2004

1.126%

Quarterly

Red River Valley #484

6/09

$1,000,000.00

1/3/2033

4.286%

Quarterly

South Texas Electric #845

6/11

$9,000,000.00

12/31/2024

3.666%

Quarterly

Irwin Electric #715

6/12

$324,000.00

1/2/2035

4.061%

Quarterly

DEPARTMENT OF EDUCATION

RURAL UTILITIES SERVICE

McLennan County Elec. #784

6/12

$2,000,000.00

12/31/2035

3.928%

Quarterly

Sac Osage Electric Coop. #815

6/12

$1,182,000.00

12/31/2036

4.106%

Quarterly

Burt County Public #669

6/16

$256,000.00

1/2/2035

3.971%

Quarterly

Midstate Communications #780

6/16

$496,242.00

12/31/2018

3.091%

Quarterly

Navopache Electric #202

6/17

$10,000,000.00

6/30/2004

0.957%

Quarterly

Sumter Elec. #203

6/17

$4,800,000.00

12/31/2037

4.094%

Quarterly

Wild Rice Elec. #806

6/17

$888,000.00

12/31/2035

4.048%

Quarterly

Harrison County #799

6/18

$700,000.00

12/31/2035

4.131%

Quarterly

Rock County Electric #202

6/18

$734,000.00

12/31/2037

4.174%

Quarterly

Farmers Telephone #476

6/20

$7,257,000.00

9/30/2003

0.940%

Quarterly

Swan's Island Electric #203

6/20

$194,000.00

12/31/2036

4.255%

Quarterly

Southside Electric #786

6/23

$1,200,000.00

12/31/2035

4.276%

Quarterly

W. Farmers Elec. #701

6/23

$2,249,000.00

12/31/2025

3.913%

Quarterly

Canoochee Elec. #461

6/24

$1,801,000.00

12/31/2031

4.227%

Quarterly

Big Horn Rural Elec. #631

6/26

$550,000.00

1/3/2034

4.215%

Quarterly

*Amicalola Electric #664

6/30

$6,819,365.57

9/30/2003

0.871%

Quarterly

*Atlantic Telephone M e m . #805

6/30

$5,931,000.00

9/30/2003

0.871%

Quarterly

*Bailey County Elec. #856

6/30

$1,896,000.00

9/30/2003

0.871%

Quarterly

*Basin Electric #425

6/30

$12,913,671.12

9/30/2003

0.996%

Quarterly

*Big Sand Elec. #540

6/30

$764,209.79

9/30/2003

0.871%

Quarterly

*Big Sand Elec. #540

6/30

$573,157.33

9/30/2003

0.871%

Quarterly

*Big Sand Elec. #540

6/30

$958,194.61

9/30/2003

0.871%

Quarterly

*Big Sand Elec. #540

6/30

$2,228,508.17

9/30/2003

0.871°s

Quarterly

*Blue Grass Energy #674

6/30

$1,962,705.10

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$2,444,996.64

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$1,870,746.12

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$1,524,824.46

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$1,151,037.82

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$1,523,403.78

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$195,531.71

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$1,749,600.67

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$1,636,082.19

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$409,464.71

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$833,906.82

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$13,573.98

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$358,916.66

9/30/2003

0.871 °s

Quarterly

*Brazos Electric #917

6/30

$336,676.37

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$2,819,037.97

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$746,790.11

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$819,671.04

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$1,252,097.74

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$315,224.59

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$727,084.76

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$949,347.43

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$632,205.65

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$363,484.26

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$679,563.31

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$827,154.23

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$266,731.44

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$193,583.18

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$1,715,601.82

9/30/2003

0.871%

Quarterly

*Brazos Electric #917

6/30

$2,003,726.66

9/30/2003

0.871%

Quarterly

*Brazos Electric #844

6/30

$4,614,000.00

9/30/2003

0.871%

Quarterly

*Brazos Electric #844

6/30

$5,000,000.00

9/30/2003

0.871%

Quarterly

*Brazos Electric #844

6/30

$5,000,000.00

9/30/2003

0.871%

Quarterly

*Brazos Electric #844

6/30

$5,000,000.00

9/30/2003

0.871%

Quarterly

*Brazos Electric #844

6/30

$5,000,000.00

9/30/2003

0.871%

Quarterly

*Brown County Elec. #687

6/30

$243,891.96

9/30/2003

0.871%

Quarterly

*Brown County Elec. #687

6/30

$585,340.72

9/30/2003

0.871%

Quarterly

*Brown County Elec. #687

6/30

$292,717.54

9/30/2003

0.871%

Quarterly

*Brown County Elec. #687

6/30

$637,811.22

1/2/2035

4.409%

Quarterly

Xitizens Elec. #742

6/30

$2,676,990.72

9/30/2003

0.871%

Quarterly

*Citizens Elec. #878

6/30

$3,000,000.00

9/30/2003

0.871%

Quarterly

*Clark Energy Coop. #611

6/30

$2,874,583.80

9/30/2003

0.871%

Quarterly

*Clark Energy Coop. #611

6/30

$1,910,233.35

9/30/2003

0.871%

Quarterly

*Clark Energy Coop. #611

6/30

$4,263,062.02

9/30/2003

0.871%

Quarterly

*Clark Energy Coop. #611

6/30

$3,565,180.71

9/30/2003

0.871%

Quarterly

*Clark Energy Coop. #611

6/30

$2,582,418.29

9/30/2003

0.871%

Quarterly

•Cumberland Valley #668

6/30

$4,097,385.03

9/30/2003

0.871%

Quarterly

'Cooper Valley Tel. #648

6/30

$976,864.44

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$1,827,077.47

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$420,888.83

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$202,860.84

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$239,830.80

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$174,422.39

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$258,789.75

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$213,100.77

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$1,448,146.75

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$270,168.67

9/30/2003

0.871%

Quarterly

*Darien Telephone Co. #719

6/30

$533,112.73

9/30/2003

0.871%

Quarterly

*Delaware County Elec. #682

6/30

$356,027.15

1/2/2035

4.409%

Quarterly

*Delaware County Elec. #682

6/30

$908,279.41

1/2/2035

4.409%

Quarterly

*East River Power #453

6/30

$374,074.76

9/30/2003

0.996%

Quarterly

*East River Power #453

6/30

$184,482.28

9/30/2003

0.996%

Quarterly

*East River Power #601

6/30

$3,269,839..22

9/30/2003

0.871%

Quarterly

*East River Power #601

6/30

$4,334,934.98

9/30/2003

0.871%

Quarterly

*East River Power #793

6/30

$628,751.10

9/30/2003

0.871%

Quarterly

Tairfield Elec. #684

6/30

$3,154,731.02

9/30/2003

0.871%

Quarterly

Tanner's Telephone #459

6/30

$21,390.87

9/30/2003

0.996%

Quarterly

*Farmer's Telephone #459

6/30

$204,282.23

9/30/2003

0.996%

Quarterly

•Federal Rural Elec. #728

6/30

$993,565.42

6/30/2033

4.408%

Quarterly

*Fleming-Mason Energy #644

6/30

$2,491,305.95

9/30/2003

0.871%

Quarterly

*Fleming-Mason Energy #644

6/30

$1,341,472.42

9/30/2003

0.871%

Quarterly

*Fleming-Mason Energy #644

6/30

$1,437,291.89

9/30/2003

0.871%

Quarterly

*Fleming-Mason Energy #644

6/30

$2,108,028.11

9/30/2003

0.871%

Quarterly

*Fleming-Mason Energy #644

6/30

$1,341,472.42

9/30/2003

0.871%

Quarterly

*Fleming-Mason Energy #644

6/30

$2,906,741.04

9/30/2003

0.871%

Quarterly

*Fleming-Mason Energy #644

6/30

$2,880,605.31

9/30/2003

0.871%

Quarterly

*Freebom-Mower Coop. #736

6/30

$735,936.01

9/30/2003

0.871%

Quarterly

*Freeborn-Mower Coop. #736

6/30

$490,638.42

9/30/2003

0.871%

Quarterly

*Freebom-Mower Coop. #736

6/30

$197,436.62

9/30/2003

0.871%

Quarterly

*Freebom-Mower Coop. #736

6/30

$198,701.29

9/30/2003

0.871%

Quarterly

*FTC Communications #709

6/30

$2,559,392.09

9/30/2003

0.871%

Quarterly

*FTC Communications #709

6/30

$3,273,226.37

9/30/2003

0.871%

Quarterly

*Grady Electric #690

6/30

$3,110,690.90

9/30/2003

0.871%

Quarterly

*Grady Electric #746

6/30

$3,209,438.33

9/30/2003

0.871%

Quarterly

*Grayson Rural Elec. #619

6/30

$1,149,833.52

9/30/2003

0.871%

Quarterly

*Grayson Rural Elec. #619

6/30

$574,916.77

9/30/2003

0.871%

Quarterly

*Grayson Rural Elec. #619

6/30

$958,194.61

9/30/2003

0.871%

Quarterly

*Grayson Rural Elec. #619

6/30

$1,241,370.59

9/30/2003

0.871%

Quarterly

*Grayson Rural Elec. #619

6/30

$980,554.79

9/30/2003

0.871%

Quarterly

*Grayson Rural Elec. #619

6/30

$2,483,276.80

9/30/2003

0.871%

Quarterly

*Greenbelt Elec. #743

6/30

$1,728,020.36

9/30/2003

0.871%

Quarterly

*Greenbelt Elec. #743

6/30

$498,830.49

9/30/2003

0.871%

Quarterly

*Grundy Elec. Coop. #744

6/30

$1,234,399.36

9/30/2003

0.871%

Quarterly

*Grundy Elec.Coop. #744

6/30

$987,652.44

9/30/2003

0.871%

Quarterly

*Harrison County #532

6/30

$954,297.91

9/30/2003

0.871%

Quarterly

*Harrison County #532

6/30

$858,868.13

9/30/2003

0.871%

Quarterly

*Harrison County #532

6/30

$960,736.24

9/30/2003

0.871%

Quarterly

*Harrison County #532

6/30

$1,566,634.65

9/30/2003

0.871%

Quarterly

*Harrison County #532

6/30

$1,686,673.36

9/30/2003

0.871%

Quarterly

*Hudson Valley Datanet #833

6/30

$5,000,000.00

9/30/2003

0.871%

Quarterly

"Hudson Valley Datanet #833

6/30

$2,000,000.00

9/30/2003

0.871%

Quarterly

*lnter-County Energy #592

6/30

$1,431,446.86

9/30/2003

0.087%

Quarterly

*lnter-County Energy #592

6/30

$1,908,595.83

9/30/2003

0.871%

Quarterly

Inter-County Energy #592

6/30

$2,487,854.65

9/30/2003

0.871%

Quarterly

Inter-County Energy #592

6/30

$211,761.00

9/30/2003

0.871%

Quarterly

Inter-County Energy #85C

6/30

$4,000,000.00

9/30/2003

0.871%

Quarterly

Inter-County Energy #850

6/30

$2,000,000.00

9/30/2003

0.871%

Quarterly

*Jackson Energy #794

6/30

$3,974,744.94

9/30/2003

0.871%

Quarterly

*Jackson Energy #794

6/30

$2,981,058.70

9/30/2003

0.871%

Quarterly

*Jackson Energy #794

6/30

$4,670,325.31

9/30/2003

0.871%

Quarterly

*Jackson Energy #794

6/30

$1,987,372.48

9/30/2003

0.871%

Quarterly

*Jackson Energy #794

6/30

$2,484,215.60

9/30/2003

0.871%

Quarterly

*Jackson Energy #794

6/30

$1,987,432.76

9/30/2003

0.871%

Quarterly

*Johnson County Elec. #482

6/30

$1,532,176.62

9/30/2003

0.996%

Quarterly

*Licking Valley Elec. #522

6/30

$2,623,364.96

9/30/2003

0.871%

Quarterly

kicking Valley Elec. #854

6/30

$2,000,000.00

9/30/2003

0.871%

Quarterly

•Magnolia Electric #560

6/30

$4,777,660.79

9/30/2003

0.996%

Quarterly

•McLeod Coop. Power #554

6/30

$1,291,375.91

1/3/2034

4.383%

Quarterly

*Medina Electric #622

6/30

$2,796,530.60

6/30/2004

1.095%

Quarterly

*North Carolina R S A 3 Tele #200

6/30

$9,600,000.00

9/30/2003

0.871%

Quarterly

*New Horizon Elec. #791

6/30

$2,051,000.00

9/30/2003

0.871%

Quarterly

*Nolin Rural Elec. #528

6/30

$1,806,485.94

9/30/2003

0.871%

Quarterly

*Nolin Rural Elec. #577

6/30

$2,464,951.52

9/30/2003

0.871%

Quarterly

*Nolin Rural Elec. #577

6/30

$2,464,951.52

9/30/2003

0.871%

Quarterly

*Nolin Rural Elec. #840

6/30

$4,000,000.00

9/30/2003

0.871%

Quarterly

*Northstar Technology #811

6/30

$1,833,492.00

9/30/2003

0.871%

Quarterly

*Northstar Technology #811

6/30

$1,000,000.00

9/30/2003

0.871%

Quarterly

*Owen Electric #525

6/30

$1,911,260.56

9/30/2003

0.871%

Quarterly

*Owen Electric #525

6/30

$1,907,400.73

9/30/2003

0.871%

Quarterly

*Owen Electric #525

6/30

$962,318.27

9/30/2003

0.871%

Quarterly

*Owen Electric #525

6/30

$1,940,623.60

9/30/2003

0.871%

Quarterly

*Pennyrile Elec. #513

6/30

$5,845,008.43

9/30/2003

0.996%

Quarterly

*PRTCommunications #798

6/30

$4,802,000.00

9/30/2003

0.871%

Quarterly

*PRTCommunications #798

6/30

$1,800,000.00

9/30/2003

0.871%

Quarterly

*Rio Grand Electric #615

6/30

$340,555.32

I/03/2034

4.383%

Quarterly

*San Miguel Electric #919

6/30

$7,432,136.80

9/30/2003

0.871%

Quarterly

*San Miguel Electric #919

6/30

$7,803,830.61

9/30/2003

0.871%

Quarterly

*Surry-Yadkin Elec.

6/30

$941,534.40

9/30/2003

0.871%

Quarterly

*Surry-Yadkin Elec.

6/30

$941,534.40

9/30/2003

0.871%

Quarterly

*Surry-Yadkin Elec.

6/30

$470,767.20

9/30/2003

0.871%

Quarterly

*Surry-Yadkin Elec.

6/30

$941,534.40

9/30/2003

0.871%

Quarterly

*Surry-Yadkin Elec.

6/30

$941,534.40

9/30/2003

0.871%

Quarterly

•Surry-Yadkin Elec.

6/30

$956,971.40

9/30/2003

0.871%

Quarterly

*Surry-Yadkin Elec.

6/30

$963,201.28

9/30/2003

0.871%

Quarterly

*Surry-Yadkin Elec.

6/30

$2,225,082.62

9/30/2003

0.871%

Quarterly

•Surry-Yadkin Elec.

6/30

$1,000,000.00

9/30/2003

0.871%

Quarterly

*Tri-County Electric Ass. #830

6/30

$838,000.00

6/30/2033

4.451%

Quarterly

•United Elec. Coop. #870

6/30

$12,000,000.00

9/30/2003

0.871%

Quarterly

*Upsala Coop. Tele.

6/30

$277,268.51

1/02/2018

3.478%

Quarterly

•Webster Electric #705

6/30

$2,171,381.43

9/30/2003

0.871%

Quarterly

Return To top

FEDERAL FINANCING BANK HOLDINGS JUNE 2003
(in millions of dollars)
Fiscal Year
FEDERAL
Monthly
BANK
Net Change
Net Change
FINANCING
HOLDINGS
June 30, 2003 May 31, 2003 6/1/03- 6/30/03 10/1/02- 6/30/03

Program
Agency Debt:

$7,273.4

$0.0

($3,840.6)

$7,273.4

$0.0

($3,840.6)

FmHA-RDIF

$950.0

$0.0

FmHA-RHIF

$82,530.0

$2,530.0

$0.0

$375.0

Rural Utilities Service-CBO

$42,702.0

$4,270.2

$0.0

$7,750.2

$0.0

$375.0

$1,751.9

$1,790.1

$38.2

$170.6

$78.4

$76.2

$2.2

$9.7

$3.8

$0.0

$1.3

DHUD-Public Housing Notes

$1,133.2

$0.0

$74.1

General Services Administration+

$2,150.4

$2,168.8

($18.4)

($55.2)

$10.1

$0.0

($1.3)

$705.3

$0.0

($75.4)

$15,418.7

$15,383.4

$35.3

$1,360.4

$82.6

$85.3

($2.7)

($19.8)

$3.1

$3.2

$0.0

($0.1)

Subtotal*

$21,337.5

$21,359.3

$21.8|

$972.4

Grand total*

$36,361.1

$36,383.0

($21.8)|

$3,243.2

U. S. Postal Service
Subtotal*
Agency Assets:

Subtotal*
Govt-Guaranteed Lending:
DOD-Foreign Military Sales
DoEd-HBCU+
D H U D - C o m m . Dev. Block Grant

DOI-Virgin Islands
DON-Ship Lease Financing
Rural Utilities Service
SBA-State/Local Devel. Cos.
DOT-Section511

*figures may not total due to rounding; +does not include capitalized interest

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 24, 2003
JS-502
U.S. Designates 55 Most Wanted Iraqi Officials
Part of Ongoing Effort to Secure and Return Iraqi Assets to the Iraqi People
WASHINGTON, DC - The U.S. Treasury Department has today designated 55
former senior Iraqi officials, the Department of Defense's 55 most wanted Iraqis or
the so-called "deck of cards," in an effort to secure and return their assets to the
Iraqi people. These names have been added to the Office of Foreign Assets
Control's Specially Designated Nationals (SDN) list, freezing any accounts in U.S.
jurisdiction and prohibiting transactions with U.S. persons. According to the
Department of Defense, 32 of the 55 designated today have been captured or have
surrendered to coalition forces.
Additionally, the United States will submit these names to the United Nations for
designation under U N S C R 1483 which requires all member states to freeze without
delay funds or other financial assets or economic resources of Iraqi state bodies,
corporations, or agencies located outside of Iraq, as well as funds or economic
resources removed by Saddam Hussein, senior officials of the former Iraqi regime,
and their immediate families. Any assets belonging to these individuals must be
returned to the Development Fund for Iraq and used for the good of the Iraqi people
as required under the resolution.
"Today's designation is yet another step in Treasury's effort to locate the assets
plundered by Saddam Hussein and his cronies and return them to their rightful
owners - the Iraqi people. As with any assets of the former Iraqi regime, any funds
found will be used to help the people of Iraq as they rebuild their country after more
than two decades of tyranny," Secretary Snow stated.
This action continues Treasury's effort to find, secure and return assets of the
former Iraqi regime to the Iraqi people. The Treasury Department has already
returned over $660 million dollars in Iraqi assets previously frozen in the U.S. to
Iraq where it has been used to pay civil servants and pensioners and to provide
capital for Iraqi Ministries as they resume operation. Additionally, the Treasury
Department, working with allies, has located well over $1.2 billion dollars in
previously unknown Iraqi assets and is working to facilitate the return of those
assets to the Iraqi people through the Development Fund for Iraq.
A list of those designated is attached.

Former Senior Iraqi Officials Designated June 24, 2003
Saddam Hussein al-Tikriti
D O B 28 Apr 1937, P O B al-Awja, nearTikrit, Iraq; President since 1979; nationality
Iraqi.
a.k.a. Abu Ali
Qusay Saddam Hussein al-Tikriti
DOB1965; alt. D O B 1966; P O B Baghdad, Iraq; Saddam's second son; oversaw
Special Republican Guard, Special Security Organization, and Republican Guard;
nationality Iraqi.
Uday Saddam Hussein al-Tikriti

D O B 1964; alt. D O B 1967; P O B Baghdad, Iraq; Saddam's eldest son; leader of
paramilitary organization Fedayeen Saddam; nationality Iraqi.
Abid Hamid Mahmud al-Tikriti
D O B circa 1957; P O B al-Awja, nearTikrit, Iraq; Saddam's presidential secretary
and key advisor; nationality Iraqi.
a.k.a. Abid Hamid bid Hamid M a h m u d
a.k.a. Col. Abdel Hamid M a h m o u d
a.k.a. Abed M a h m o u d H a m m u d
Ali Hassan al-Majid al-Tikriti
D O B 1943; P O B al-Awja, near Tikrit, Iraq; presidential advisor and senior m e m b e r
of Revolutionary C o m m a n d Council; nationality Iraqi.
a.k.a. al-Kimawi
Izzat Ibrahim al Duri
D O B circa 1942; P O B al-Dur, Iraq; deputy commander-in-chief of Iraqi military;
deputy secretary, Ba'th party regional command; vice chairman, Revolutionary
C o m m a n d Council; nationality Iraqi.
a.k.a. Abu Brays
Hani abd-al-Latif Tilfah al-Tikriti
D O B circa 1962; P O B al-Awja, nearTikrit, Iraq; #2 in Special Security Organization;
nationality Iraqi.
Aziz Salih al-Numan
D O B 1941; alt. D O B 1945; P O B An Nasiriyah, Iraq; Ba'th party regional c o m m a n d
chairman; nationality Iraqi.
Muhammad Hamza Zubaidi
D O B 1938; P O B Babylon, Babil Govemorate, Iraq; former prime minister;
nationality Iraqi.
Kamal Mustafa Abdallah
D O B 1952; alt. D O B 4 M a y 1955; P O B Tikrit, Iraq; Republican Guard Secretary; led
Special Republican Guard and commanded both Republican Guard corps;
nationality Iraqi.
a.k.a. Kamal Mustafa Abdallah Sultan al-Tikriti
Barzan abd al-Ghafur Sulaiman Majid al-Tikriti
D O B 1960; P O B Salah al-Din, Iraq; commander, Special Republican Guard;
nationality Iraqi.
a.k.a. Barzan Razuki abd al-Ghafur
Muzahim Sa'b Hassan al-Tikriti
D O B circa 1946; alt. D O B 1949 al-Awja, near Tikrit, Iraq; led Iraq's Air Defense
Forces; Deputy Director, Organization of Military Industrialization; nationality Iraqi.
Ibrahim Ahmad abd al-Sattar Muhammed al-Tikriti
D O B 1943; alt. D O B 1950; alt. D O B 1952; P O B Ba'qubah or al-Sumayda/Shirqat,
Iraq; armed forces chief of staff; nationality Iraqi.
Saif-al-Din Fulayyih Hassan Taha al-Rawi
D O B 1953; P O B Ar Ramadi, al-Anbar Govemorate, Iraq; Republican Guard chief of
staff; nationality Iraqi.
a.k.a. Ayad Futayyih al-Rawi
Rafi abd-al-Latif Tilfah al-Tikriti
D O B circa 1954; P O B Tikrit, Iraq; Director, Directorate of General Security;
nationality Iraqi.
Tahir Jalil Habbush al-Tikriti
D O B 1950; P O B Tikrit, Iraq; director of Iraqi Intelligence Service; nationality Iraqi.
Hamid Raja Shalah al-Tikriti
D O B 1950; P O B Bayji, Salah al-Din Govemorate, Iraq; air force commander;
nationality Iraqi.

a.k.a. Hamid Raja-Shalah Hassan al-Tikriti
a.k.a. Hamid Raja-Shalah Hassum al-Tikriti
Latif Nusayyif Jasim al-Dulaymi
D O B circa 1941; P O B Ar-Rashidiya suburb of Baghdad, Iraq; Ba'ath party military
bureau deputy chairman; nationality Iraqi.
Abd-al-Tawab Mullah Huwaysh
D O B 1957; alt. D O B 14 March 1942; P O B Mosul or Baghdad, Iraq; deputy prime
minister; director, Organization of Military; nationality Iraqi.
Taha Yassin Ramadan al-Jizrawi
D O B circa 1938; vice president since 1991; nationality Iraqi.
Rukan Razuki abd-al-Ghafur Sulaiman al-Tikriti
D O B 1956; P O B Tikrit, Iraq; head of Tribal Affairs Office in presidential office;
nationality Iraqi.
a.k.a. Rukan abdal-Ghaffur Sulayman al-Majid
a.k.a. Rukan abd al-Gafur al-Majid
a.k.a. Rukan abd al-Ghaffur al-Majid al-Tikriti
a.k.a. Rukan Razuqi abd al-Gahfur al-Majid
a.k.a. Rukan 'abd al-Ghaffur al-Majid al-Tikriti
a.k.a. Abu Walid
Jamal Mustafa Abdallah Sultan al-Tikriti
D O B 4 M a y 1955; P O B al-Samnah, nearTikrit, Iraq; deputy head of tribal affairs in
presidential office; nationality Iraqi.
Mizban Khadr Hadi
D O B 1938; P O B Mandali District, Diyala, Iraq; member, Ba'th party regional
c o m m a n d and Revolutionary C o m m a n d Council since 1991; nationality Iraqi.
Taha Muhyi-al-Din Ma'ruf
D O B 1924; P O B Sulaymaniyah, Iraq; Vice President; m e m b e r of Revolutionary
C o m m a n d Council; nationality Iraqi.
Tariq Aziz
D O B 1 Jul 1936; P O B Mosul or Baghdad, Iraq; Deputy Prime Minister;
NO34409/129 (July 1997); nationality Iraqi.
a.k.a. Tariq Mikhail Aziz
Walid Hamid Tawfiq al-Tikriti
D O B circa 1950; P O B Tikrit, Iraq; Governor of Basrah; nationality Iraqi.
a.k.a. Walid Hamid Tawfiq al-Nasiri
Sultan Hashim Ahmad al-Tai
D O B circa 1944; P O B Mosul, Iraq; Minister of Defense; nationality Iraqi.
Hikmat Mizban Ibrahim al-Azzawi
D O B 1934; P O B Diyala, Iraq; Deputy Prime Minister and Finance Minister;
nationality Iraqi.
Mahmud Dhiyab al-Ahmad
D O B 1953; P O B Mosul or Baghdad, Iraq; Minister of Interior; nationality Iraqi.
Ayad Futayyih Khalifa al-Rawi
D O B 1942; P O B Rawah, Iraq; Quds Force Chief of Staff; nationality Iraqi.
Zuhair Talib abd-al-Sattar al-Naqib
D O B circa 1948; Director, Military Intelligence; nationality Iraqi.
Amir Hamudi Hassan al-Sa'di
D O B 5 Apr 1938; P O B Baghdad, Iraq; presidential scientific advisor; Passport No.
NO33301/862, issued 17 October 1997, expires 1 October 2005; Passport No.
M0003264580; Passport No. H0100009, issued 1 M a y 2002; nationality Iraqi.
Amir Rashid M u h a m m a d al-Ubaidi

D O B 1939; P O B Baghdad, Iraq; Minister of Oil; nationality Iraqi.
Husam M u h a m m a d Amin al-Yassin
D O B 1953; alt. D O B 1958; P O B Tikrit, Iraq; head, National Monitoring Directorate;
nationality Iraqi.
Muhammad Mahdi al-Salih
D O B 1947 alt. D O B 1949, al-Anbar Govemorate, Iraq; Minister of Trade; nationality
Iraqi.
Sab'awi Ibrahim Hassan al-Tikriti
D O B 1947; P O B Tikrit, Iraq; presidential advisor; half-brother of S a d d a m Hussein;
nationality Iraqi.
Watban Ibrahim Hassan al-Tikriti
D O B 1952; P O B Tikrit, Iraq; presidential advisor; half-brother of S a d d a m Hussein;
nationality Iraqi.
a.k.a. Watab Ibrahim al-Hassan
Barzan Ibrahim Hassan al-Tikriti
D O B 1951; P O B Tikrit, Iraq; presidential advisor; half-brother of S a d d a m Hussein;
Passport No. M0001666/970; Passport No. NM0000860/114; Passport No.
M0009851/1; nationality Iraqi.
Huda Salih Mahdi Ammash
D O B 1953; P O B Baghdad, Iraq; member, Ba'ath party regional command;
nationality Iraqi.
Abd-al-Baqi abd-al-Karim Abdallah al-Sad'un
D O B 1947; Ba'th party regional c o m m a n d chairman, Diyala; nationality Iraqi.
Muhammad Zimam abd-al-Razzaq al-Sa'dun
D O B 1942; P O B Suq ash-Shuyukh District, Dhi-Qar, Iraq; Ba'th party regional
chairman, at-Tamim nationality Iraqi.
Samir abd al-Aziz al-Najim
D O B 1937; P O B 1938, Baghdad, Iraq; Ba'th party regional c o m m a n d chairman,
East Baghdad; nationality Iraqi.
Humam abd-al-Khaliq abd-al-Ghafur
D O B 1945; P O B ar-Ramadi, Iraq; Minister of Higher Education and Research;
M0018061/104, issued 12 September 1993; nationality Iraqi.
a.k.a. H u m a m 'abd al-Khaliq 'abd al-Rahman
a.k.a. H u m a m 'abd al-Khaliq Rashid
Yahia Abdallah al-Ubaidi
Ba'th party regional c o m m a n d chairman, al-Basrah; nationality Iraqi.
Nayif Shindakh Thamir Ghalib
Ba'th party regional c o m m a n d chairman, an-Najaf; member; Iraqi National
Assembly; nationality Iraqi.
Saif-al-Din al-Mashhadani
D O B 1956; P O B Baghdad, Iraq; Ba'th party regional c o m m a n d chairman, alMuthanna; nationality Iraqi.
Fadil Mahmud Gharib
D O B 1944; P O B Dujail, Iraq; Ba'th party regional c o m m a n d chairman, Babil;
chairman, General Federation of Iraqi Trade Unions; nationality Iraqi.
a.k.a. Gharib M u h a m m a d Fazel al-Mashaikhi
Muhsin Khadr al-Khafaji
Ba'th party regional c o m m a n d chairman, al-Qadisiyah; nationality Iraqi.
Rashid Taan Kazim
Ba'th party regional c o m m a n d chairman, al Anbar; nationality Iraqi.

Ugla Abid Saqar al-Kubaysi
D O B 1944; P O B Kubaisi, al-Anbar Govemorate, Iraq; Ba'th party regional
c o m m a n d chairman, Maysan; nationality Iraqi.
a.k.a. Saqr al-Kabisi abd Aqala
Ghazi Hammud al-Ubaidi
D O B 1944; P O B Baghdad, Iraq; Ba'th party regional c o m m a n d chairman, Wasit;
nationality Iraqi.
Adil Abdallah Mahdi
D O B 1945; P O B al-Dur, Iraq; Ba'th party regional c o m m a n d chairman, Dhi Qar;
nationality Iraqi.
Hussein al-Awadi
Ba'th party regional c o m m a n d chairman, Ninawa; nationality Iraqi.
Khamis Sirhan al-Muhammad
Ba'th party regional c o m m a n d chairman, Karbala; nationality Iraqi.
a.k.a. Dr. Khamis
Sa'd abd-al-Majid al-Faysal al-Tikriti
D O B 1944; P O B Tikrit, Iraq; Ba'th party regional c o m m a n d chairman, Salah al-Din;
nationality Iraqi.

mn
PRLSS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 26, 2003
JS-503
Wayne A. Abernathy Assistant Secretary for Financial Institutions U.S.
Department of The Treasury Before The Subcommittee on Financial
Institutions and Consumer Credit Of The Committee O n Financial Services
U.S. House of Representatives
Chairman Bachus, Ranking Member Sanders, and members of the Sub-Committee,
I appreciate the opportunity to appear before you this morning to talk about an
important issue: expanding access to mainstream financial institutions, such as
banks, thrifts, and credit unions, for all individuals. Mr. Chairman, I commend you
for focusing a national spotlight on this critical issue by convening today's hearing. I
look forward to updating you this morning on the Treasury Department's efforts in
this area.
The Treasury Department strongly believes that everyone should have the
opportunity to establish a banking relationship with a regulated and insured financial
institution. An account at an insured depository institution is a basic tool for
individuals to build their own financial security.
While most Americans already have the comfort of keeping their money in insured
accounts, other Americans use financial services of a different sort. They cash
checks at a neighborhood storefront and pay bills in cash or with money orders.
There may be a variety of reasons for this, but it is usually expensive, occasionally
dangerous, and rarely the best option.
There are few reliable statistics available regarding the true size of the U.S.
population who have no accounts with insured financial institutions. S o m e
estimates indicate, however, that as many as one in ten families, or approximately
ten million households, may not have bank accounts.
Given the size of the population without mainstream financial institution
relationships, the obvious question is why do so many people remain outside of the
mainstream. Are they shut out of the system or have they made a conscious choice
not to do business at traditional financial institutions? Surveys on this issue reveal
varied responses to these questions. S o m e individuals cite financial reasons for not
maintaining a bank, thrift, or credit union account; they say that bank fees or
minimum balance requirements are too high. Other individuals suggest that they
choose to use non-bank financial services because the types of accounts offered by
traditional financial institutions do not meet their needs. For example, a person may
not write enough checks or have enough month-to-month savings to make it
worthwhile to maintain an account. Attitudes toward banks also appear to be a
factor as a large number of people surveyed indicated that they are not comfortable
dealing with banks or letting them know their personal financial information.
It is clear that there is no single reason that applies to all of the many people in the
United States who do not have a relationship with a mainstream financial institution.
It also seems clear that there is no single solution. Yet, because there are
significant advantages to establishing an account at a bank, thrift, or credit union,
the Treasury Department is committed to efforts whereby people have the
knowledge to choose and the ability to access the financial services that in their
view serve them best. Such choice, however, is illusory if people do not have
accurate and adequate information, together with sufficient understanding of how to
use that information, that will enable them to make educated decisions and access

a range of financial services providers.
Consumers using non-bank financial services typically pay higher costs in the form
of transaction fees for financial services than individuals with banking relationships.
Recent Treasury research indicates that a worker can pay an average of $18 per
month for cashing paychecks at a non-bank check casher. A Social Security
recipient would pay an average of $9-16 a month to cash his or her government
check. Relying on alternative service providers as a source of credit is similarly
more expensive. The costs of loans from pawnshops, car-title lenders, payday
lenders, and small loan companies can be very high as relative to the amounts
borrowed.
Individuals also face heightened safety and security risks as a result of conducting
financial transactions in cash. Carrying large amounts of cash is dangerous and
keeping cash at h o m e is not a whole lot safer. There have been a number of news
stories describing h o w criminals have specifically targeted immigrants for robbery
as they leave check cashing outlets because of the likelihood that these individuals
are carrying a significant amount of cash. And w e are all familiar with tragic cases
of people losing their life savings in fires because they kept it hidden in their h o m e s
in the form of cash. Unlike traditional depository institutions, alternative financial
services providers cannot offer their customers insured deposit account products.
Deposit accounts at insured financial institutions offer a safe place to keep m o n e y
until the depositor is ready to spend or invest it.
It is not that we question the validity of products offered by alternative service
providers. They can offer the advantages of immediacy and convenience, or other
specialized services for specialized circumstances, for which the providers charge a
premium. But America is in the choice business. Rather than seek to close down
legitimate alternative services providers, w e would like to continue the progress in
this nation of expanding the choices available to consumers, as well as consumers'
ability to understand and m a k e use of those choices.
Establishing a banking relationship is taking a key step toward building a promising
financial future. Individuals lacking basic financial services m a y have a reduced
ability to m a n a g e their finances, and m a y be limited in planning and saving for the
future. Without a banking account, it is nearly impossible to establish a strong credit
record, which in turn is necessary to qualify for a good car loan, h o m e mortgage, or
small business loan at reasonable rates. A traditional banking relationship offers the
account holder an opportunity to become familiar with fundamental financial
concepts that are critical in asset building, and bank accounts are tools to help
families establish and fulfill their savings goals and m a n a g e their money. And
saving is the foundation for investment.
Greater use of mainstream banking services also aids in our country's fight against
m o n e y laundering. A s individuals m o v e their money from informal financial services
providers and rely more upon safer, insured depository institutions, the funds are
removed from paths more likely to be frequented by those engaged in illegal
activity.
The Treasury Department's most visible initiative to provide greater access to
financial services is the First Accounts program. Through this program, Treasury
has funded projects to connect low- and moderate-income individuals with
mainstream financial services. The paramount goal of First Accounts is to assist a
m a x i m u m number in establishing accounts with insured depository institutions. The
fifteen First Accounts pilot programs provide an opportunity for Treasury to evaluate
a variety of experiments intended to increase participation in mainstream financial
institutions.
Additional goals of the program include the provision of financial education to the
individuals served by the pilot programs to enhance the sustainability of the n e w
financial relationships. Having relatively recently completed award allocation, our
next step is to undertake research to evaluate the success of the funded projects
and to understand what products, services, educational initiatives, marketing
techniques, or incentives are most effective in achieving the goals of the First
Accounts program. Although it is too early to predict because m a n y of the projects

have not yet reached their midway point, the Treasury Department has great hope
that the pilot programs funded through First Accounts will provide a wealth of
practical insight on h o w to develop replicable, self-sustaining programs for assisting
a significant number of individuals to establish banking relationships with insured
depository institutions.
Let me also highlight some other initiatives that Treasury is working on related to
this effort. First, w e have a number of activities underway that are aimed at
improving financial education. A key function of the Office of Financial Education is
to identify sound, effective financial education programs around the country and
highlight their efforts. Many of the individuals w h o need these programs do not even
know about them. The attention that the Treasury Department can bring to the
programs will help connect individuals in need to good financial education
programs. In addition, these financial education programs will then serve as
examples for other programs. For instance, earlier this week, Treasurer Rosario
Marin w a s in Columbus, Ohio, to recognize the Ohio Credit Union League's Latino
Financial Literacy Program, which has provided classes for more than 200
Hispanics in the Columbus area. The program includes m a n y of the criteria that w e
have identified for effective programs, especially the inclusion of tools to measure
results, and hopefully this program will expand throughout Ohio.
Our financial education initiatives at the Treasury Department are an important
component of a larger, government-wide effort. W e have been privileged to partner
with s o m e of the other agencies and departments engaged in financial education
efforts, including the Department of Education and the Federal Reserve Board.
And, when testifying on the subject of financial education last year, w e provided
information about no fewer than 10 federal departments and agencies, including the
Treasury Department, the Federal Deposit Insurance Corporation, the Social
Security Administration, the Department of Housing and Urban Affairs, and the
Department of Labor, that do an excellent job in offering a wide variety of financial
education programs and resources.
An additional Federal program that is supported by the Administration and
contributes to the goal of moving individuals into the mainstream financial services
sector is the Electronic Transfer Account (ETA) program. The E T A program, which
is administered by Treasury's Financial Management Service, provides low-cost
electronic bank accounts to Federal benefits recipients. To date, the E T A is offered
in every state, the District of Columbia, and Puerto Rico through approximately 600
banks with more than 18,000 branch locations. Treasury plans to continue to
examine the benefits of the E T A programs and, if necessary, m a k e
recommendations to the Administration and Congress on how to coordinate its E T A
efforts with First Accounts to ensure that the participants in the program receive
valuable services in the most cost-effective manner.
Another topic that is might be overlooked in this discussion is the remittance activity
of m a n y people in this country. The Inter-American Development Bank estimates
that Latin American immigrants living in the United States send an average of $200
to their native countries an average of seven to eight times per year. These
remittances have reached a level that surpassed $32 billion last year
approximately one third of total worldwide remittances. Many immigrants send
remittances through a small number of alternative financial services providers.
Limited competition in the remittance industry has contributed to high remittances
costs. Although remittance charges have declined in the past two years, as w e
have encouraged greater competition, they still range from $15 to $26 for a typical
$200 remittance. The cost varies depending on the type of institution used to send
the money and the country where the money is being sent, but it can often exceed
20 percent, when transmission fees and exchange rate cost are both factored in.
But this is changing. With our encouragement and support, more and more
traditional financial institutions and credit unions are recognizing that there is a
concrete opportunity to attract a diverse consumer base by offering low cost
remittance products. Offering remittance features as part of bank accounts can be
an important marketing tool in reaching out to migrant workers. O n e important
product that banks and credit unions can offer that money transmitters cannot is a
federally insured checking or savings account. This can lay the foundation for n e w

customers to save and build assets, establish a banking relationship, and learn
about important tools in personal finance. At the s a m e time, the increased
competition will result in lower remittance costs. W e support these and other efforts
to m a k e the process of sending remittances more affordable for the people w h o
send them - most of w h o m are low-wage earners -- and those w h o receive them,
people w h o often are in very great need.
Through our efforts in the Partnership for Prosperity with Mexico, we have
encouraged the entry of new providers into the US-Mexico remittance market. The
results have been dramatic, with transfer costs falling by more than half on s o m e
new product offerings. W e see an increasing range of financial institutions entering
the market, with innovative product ideas.
In closing, I would like to commend the efforts of the many banks, credit unions,
and community- and consumer-based entities and groups - s o m e of w h o m are
represented on the panel that follows m e this morning w h o have recognized the
problems faced by the segment of the population w h o do not have relationships
with depository institutions and which institutions have undertaken innovative
initiatives to bring these individuals and families into the financial mainstream.
Expanding access to financial services is a non-partisan issue that contributes to
improved financial well being, particularly among m a n y low- and moderate-income
individuals. Opening an account at an insured depository institution provides the
account holder with a number of benefits: the opportunity for wealth building; lower
costs for financial services; security; knowledge of and familiarity with the
fundamentals of personal finance; and the chance to build a credit history and
qualify for credit on better terms. Because of these benefits, Treasury is committed
to promoting policies that will encourage individuals to establish traditional account
relationships with insured banks and credit unions.
To accomplish this goal, Treasury has focused on both educating individuals about
the benefits of opening and maintaining deposit account and persuading depository
institutions to expand and tailor services for this segment of the population. Thank
you for the opportunity to appear here today. I look forward to working with
Committee on these issues in the future.

i. James T. Moser, Fostering Mainstream Financial Access:
www.chicagofed.org/unbanked, Chicago Fed Letter, Number 162, (Feb.
2001)
(http://www.chicagofed.org/publications/fedletter/2001/cflfeb2001_162.pdf).
ii. John P. Caskey, Bringing Unbanked Households Into the Banking System,
Capital Xchange (Jan. 2002)
(http://www.brook.edu/dybdocroot/es/urban/capitalxchange/article10.htm).
iii. Moser, supra note i.
iv. Caskey, supra note ii.
v. CUs Testify Provisions of the Patriot Act Could Harm Immigrants, Credit
Union Journal (Feb. 25, 2002).
vi. Angela Shah, Money in the Bank: Accounts Helping Wary Immigrants Park
Cash Safely, Send It H o m e , The Dallas Morning N e w s (Aug. 19, 2001).
vii. Remittances to Latin America and the Caribbean, Multilateral Investment
Fund/Inter-American Investment Bank (Feb. 2002)
(http://www.iadb.org/mif/website/static/en/study3.doc).
viii. Sending Money Home: An International Comparison of Remittance Markets,
Multilateral Investment Fund/Inter-American Investment Bank (Feb. 2003)
(http://www.iadb.org/exr/prensa/images/RoundTablesFEB2003.pdf)

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 26, 2003
JS-504
Iraqi Economic Reconstruction Randal Quarles, Assistant Secretary of the
Treasury for International Affairs Cato Institute Washington, D C June 25, 2003

Thank you for inviting m e here today to speak about the economic and financial
aspects of Iraqi reconstruction. Progress in these areas is critical to achieving the
broader goal of building a stable, prosperous, and democratic Iraq. As you can
imagine, this is a daunting task.
It is a task, however, that is incredibly important. After living under decades of
misrule by Saddam Hussein, the Iraqi people at last have an opportunity to forge a
better future for themselves and for their children. W e are committed to assisting in
this effort. Our work is guided by a set of principles that are fundamental to creating
the foundation for sustained economic growth. These principles include open
markets, the rule of law, established property rights, transparent and accountable
governance, and a sound currency.
It is with these principles in mind that we are confronting the many challenges on
the economic front that w e have faced since the end of the war. Government
ministries were largely destroyed by fighting and looting; the Iraqi dinar had
depreciated severely and w e feared a monetary crisis and hyperinflation; basic
economic statistics were non-existent; and the lack of a secure environment
restricted commerce and the work that our staff could do in Iraq. W e continue to
deal with lawlessness, limited communication capabilities, and the loss of technical
expertise in government ministries.
I would like to stress, however, that the reconstruction task is not solely, or even
primarily, to rebuild from the consequences of several weeks of war, but from
several decades of misrule. The Iraqi economy has deteriorated under years of
sanctions, conflict, and economic mismanagement. Income per capita plummeted,
impoverishing the Iraqi people, and other measures of wellbeing also declined. The
infant mortality rate, for instance, increased from 50 per 1,000 live births in 1990 to
121 per 1,000 live births in 2000.
Although the reconstruction task is significant, Iraq has several advantages that will
facilitate efforts to improve the prospects for the Iraqi people. The country has a
long tradition of entrepreneurship and diverse commercial activity; already, the
streets of Baghdad are bustling with commerce. In addition, Iraq has abundant
human potential and natural resources. In combination with a market economy
based on rule of law, established property rights, and economic freedom, these
advantages can lead the way to a brighter, more prosperous future for all Iraqis.
In helping Iraqis achieve such a future, it will be important to draw on lessons
learned from previous post-conflict experiences. One such lesson is that rebuilding
societies and economies requires time, patience, and a sustained commitment.
Reconstruction is not amenable to easy solutions or quick exits. The nature of our
engagement will necessarily evolve over time as Iraqis choose their own
government and reconstruction tasks are completed, but w e are committed to
ensuring that the people of Iraq have brighter prospects for their future.
While we are still confronted with serious problems, our initial efforts in Iraq have
already resulted in some success. Credit is due in part to a group of extremely

dedicated technical experts that Treasury has sent who, in spite of all of the
difficulties, are working hard to assist Iraqis in revitalizing the country's economy.
They have been involved in all facets of our initial efforts. I would like to focus n o w
on s o m e of the principal steps w e have taken so far, as well as on our priorities for
future action.
One of the foremost priorities at the end of the war was to make emergency and
salary payments to government workers and pensioners. This has been an
enormous undertaking. The first step w a s to obtain the financial resources required
to m a k e payments. O n March 20, President Bush vested $1.7 billion of Iraqi regime
assets that had been frozen in the United States over a decade ago and placed
them in an account at the N e w York Fed to be used to support reconstruction. S o
far, nearly half of these assets have been delivered to Iraq to finance payments. A
mechanism for emergency payments w a s quickly established on the ground so that
payments could begin for dock workers, power plant workers, and others. Despite
tremendous logistical challenges, the system of payments has been a success,
placing money in the hands of consumers and helping to spur commerce.
A second priority is to promote the establishment of a stable, unified national
currency, which is a prerequisite for establishing a vibrant economy. The preexisting currency situation in Iraq makes this a difficult task. Several currencies
circulate widely, including the Iraqi, or "Saddam," dinar in central and southern Iraq;
the Old Iraqi, or "Swiss," dinar in the northern part of the country; and the U.S.
dollar. O n e of our main concerns following the end of the war w a s that there would
be a large devaluation of the S a d d a m dinar and hyperinflation. In addition, there
were concerns about losing control of currency printing facilities, and fears that the
currency would cease to serve as an accepted means of exchange.
We took early action to address these concerns. We secured currency stocks and
printing facilities, and the military m a d e public announcements that existing
currencies would continue to be accepted as means of payment. Although little
price data is available to m a k e assessments about inflation, the information w e
have received on exchange rates indicates that the value of the S a d d a m dinar
against the dollar, while very volatile, has strengthened of late. W e stand ready to
assist in the implementation of whichever long-term currency reform the people of
Iraq choose through a representative Iraqi government.
A third area on which we have placed a great deal of attention is the development
of an integrated and transparent Iraqi government budget. Before the war, the Iraqi
budget w a s a state secret. The lack of transparency and accountability m a d e it
difficult to determine how resources were allocated. Enhanced transparency will be
essential in future budget operations, particularly in the area of oil revenues, if
enhanced standards of governance are to be achieved and the Iraqi people are to
hold their elected officials accountable.
Strengthening and modernizing the banking sector is also central to achieving
economic progress in Iraq. W e are still in the early stages of assessing the banking
system, but w e do know that Iraqi banks were dominated by the state and oriented
more toward the fulfillment of political objectives than the provision of economic
services or financial intermediation. Our objective is to ensure that the banking
sector begins to function in a commercially viable way and that it reflects regional
as well as international best practices. For example, w e endorse the objective of
Iraqis having access to financial products and services that are based on Islamic
principles. W e are also working with Iraqis to help them create a sound supervisory
and regulatory regime in the banking sector. After closing their doors during the
war, financial institutions are now beginning to revive. The Central Bank has
reopened, as have m a n y of the branches of the largest banks in Iraq.
In addition, we are evaluating options to establish a "trade credit authority" that will
begin laying the groundwork for commercial activity independent of central
authority. Such a financing mechanism will help stimulate the Iraqi economy by
facilitating foreign trade.
An issue that has received much attention and will clearly have to be addressed is
Iraq's capacity to address the potentially enormous burden of its existing financial

obligations. In the near-term, w e have taken two important steps to address this
situation. First, w e secured agreement from G-7 creditors not to expect Iraq to
service its debt for at least the next eighteen months. Second, w e have been
working to determine how much debt Iraq owes. In the medium-term, once w e
have a better estimate of the true level of Iraq's debt and its underlying payment
capacity, w e can m o v e forward to develop a comprehensive strategy to deal with
Iraq's official debt.
Donor contributions will also play an important role in the reconstruction of Iraq.
Active participation by the international financial institutions is important to
mobilizing this support. Indeed, I a m pleased to report that these institutions are
already intensifying their engagement in the process of reconstruction and recovery
in Iraq. The U.S. also welcomes the commitment of the U N and the international
community for a donor reconstruction conference for Iraq in October.
We have been guided in all of our actions by the goal of creating a stable and
prosperous Iraq and releasing the shackles that have constrained the potential of
the Iraqi people. The challenges are still formidable, but w e remain committed to
achieving an environment in which all Iraqis will have the opportunity to forge a
better future for themselves and their children.

PRESSROOM

-v—---" ,---•--'--

- ?^jg

FROM THE OFFICE OF PUBLIC AFFAIRS
To view or print the PDF content on this page, download the free Adobe® Acrobat® Reader®.
June 26, 2003
JS-505
Chart Presentation of Deputy Assistant Secretary for Federal Finance
Timothy S. Bitsberger To the Bond Market Association's Inflation-Linked
Securities Conference N e w York, N Y

Why Treasury Issues TIPS
[Chart 2]
There is one message I have given over the past year. It has been very simple. We
are committed to the TIPS market.
My message today is just as simple. Growing the market will be a collaborative
effort between all of us: Treasury, the buy-side and the sell-side.
This is still a very young market. Just about six years old. In fact two years ago the
future of the TIPS program was in jeopardy. The growth and success of the TIPS
market over the past year is exceptional.
Future growth of the market will depend on how well we work together.
But it is not the nominal coupon market.
The first point I want to make is that we view TIPS as a separate liability class just
as you should think about TIPS as a separate asset class.
A separate liability class makes sense for us in the same way that a separate asset
class makes sense for you.
By developing this different asset class we increase the pool of potential investors.
Broadening our investor base diversifies our funding sources. Additionally, by
diversifying our borrowing, w e reduce exposure to a single adverse shock and both
lower and smooth our borrowing costs.
[Chart 3]
I just said that TIPS represent a different liability class, but that does not mean we
manage them differently. W e issue TIPS the same way w e do nominal bonds.
At Treasury, we are committed to issuing large, liquid securities. We increased the
number of 10-year note auctions from two to three to our current policy of four/year.
W e now auction a new security in July and April and reopen it respectively in
October and January.
Reopenings can sometimes cost Treasury money because w e do not capture the
on-the-run premium often associated with new issuance. However, the benefits of
large and predictable issuance --and a more stable and liquid secondary market--

outweigh the cost of reopening.
W e have become the world's largest TIPS issuer with more than $150 billion par
amount outstanding.
I believe that commitment means growth. We hope to continue to expand the TIPS
calendar in the future.
But it is important that we expand the auction calendar without moving too fast and
getting too far ahead of the market. W e know w e must lead, but w e don't want to
m o v e too fast and create illiquid market conditions.
[Chart 4]
I am often asked what percentage of our issuance in TIPS. We do not plan to target
our issuance as a percentage of gross issuance. W e look to increase supply in line
with increasing demand, but that will depend on your collective actions and our
ability to interpret those actions. A s an aside, the advice that m a n y of you freely
provide Treasury on market conditions is crucial to our assessment of market
growth.
Even though we strive to be regular and predictable, we cannot limit our flexibility
as debt managers by committing to specific issuance percentages in the future. Our
borrowing needs, driven by outlays and receipts that are enormous by any
standard, are unknown - as any of you w h o have tried to forecast our fiscal position
know. Targeted issuance would not have been sustainable.
That being said, TIPS represents approximately more than 25% of our recent 10year note issuance.
[Chart 5]
Liquidity has markedly improved since Treasury reaffirmed its commitment last
year.
Market data and anecdotal evidence is fairly conclusive. More investors are
purchasing TIPS.
I want to add that no market compares to the depth and liquidity of the nominal
coupon treasury market. The 24-hour liquidity available to traders and investors is
remarkable. Daily volume, which averaged around $100 billion in 1998, is n o w over
$500 billion/day.
So, we must be careful how we judge TIPS. TIPS will never trade with the liquidity
of nominal Treasuries, but by any other measure, liquidity is good and promises to
get better.
[Chart 6]
I am encouraged by signs that many dealers are committing more capital TIPS. A
few have actively committed personnel and capital in the past few months. Because
Treasury is committed, because their customers are asking for market making,
m a n y more dealers are committing trading capital to TIPS.
I do not expect every primary dealer to take a leadership role and help expand the
TIPS market the ways m a n y firms here have demonstrated, but I a m hopeful w e are
well on our way to reaching a critical mass of dealers that will be needed to support
what I expect to be a very large market.
[Chart 7]

O n e comment I occasionally hear is that "the market is too small". Compared to
other markets the TIPS market is not small. I understand the frustrations of those
w h o need a larger market and are accustomed to the liquidity of the nominal
Treasury market. M y response is that the more support you show our current
issuance, the faster w e will be able to increase auction size and frequency.
But we need sponsorship. I encourage everyone on the buy side to view TIPS as
an evolving asset category and manage their expectations. Great strides have been
m a d e over the past year, but the market-making infrastructure (often taken for
granted in the nominal market) will take time to fully develop. I believe that the
increasing awareness that as TIPS are truly a different class-and the product is
better understood markets will deepen.
As the primary seller of TIPS, I am frustrated where I talk to private and public funds
that view TIPS as the long-term panacea for their ills, but then trade them with a
short-term, opportunistic bias. Growth depends on long-term commitment to this
market; arbitraging break-evens and carry versus nominals increases one-way
liquidity and does nothing to create long-term sponsorship.
[Charts 8 and 9]
A much higher percentage of auction awards are allocated to investment funds, a
further indication that the market has c o m e to believe that w e are committed to
TIPS.
Diversifying our investor base should lower our costs over time.
[Chart 10]
Returns and risk stand out. Now that TIPS have reached their 5-year threshold for
returns and the outstanding volume exceeds that of many other market, I a m
hopeful that the consultant community will consider recommending TIPS as a
strategic asset allocation.
[Chart 11]
I am often asked why not include TIPS in the Lehman Ag. Because of the low or
negative correlation to nominal bonds, TIPS should be a separate asset class.
Inclusion in the Lehman Ag would provide a short-term benefit to existing TIPS
holders, but I a m not sure it is the appropriate place for a security with different
cash flow characteristics than nominal fixed income securities.
TIPS are a very different asset than nominal bonds and are much less risky
because their value will not be eroded by inflation. This allows for meaningful
diversification and will help insulate portfolios from both higher inflation and higher
inflationary expectations.
[Chart 12]
I think the recent high beta can be explained by very low inflation risk and a general
m o v e in real rates. A s the fed has diffused any short-term inflation risk, real and
nominal yields have moved together.
[Chart 13]
Good summary chart for perspective investors.
[Chart 14]
Structure.

Debt Management
[Chart 15]
Since I joined treasury in the fall of 2001, we have strived to become more
transparent about what w e do and why. I believe the better you can understand our
analysis and decision making, the better you will be able to foresee changes in our
issuance calendar.
If we continuously surprised the market, traders and investors alike would have
difficulty adjusting their expectations as well as their portfolios. In other words an ad
hoc approach to issuance would hurt Treasury in the primary market.
I believe that more transparency on our part will mean better-prepared investors
and traders, resulting in a more robust primary market.
Many of the following charts and concepts are new-some are under one-year old.
W e have attempted to develop a framework for future debt managers -as well as
investors-for years to come. It is important for Treasury to quantify as best w e can
our decision-making and for lack of another word-performance.
I would like to start by talking about our objective-lowest cost financing over time.
W e strive to meet this objective through regular and predictable issuance of our
debt. W e are not market timers-that is w e do not m a k e a judgment on interest rates.
You all know with a high degree of certainty when our auctions will be. You know
that auction frequency or issuance has nothing to do with market conditions or the
level of rates. W e will not adjust size or frequency as rates or the yield curve
change. That is, that w e do not issue more long debt when rates are perceived to
be low nor do w e issue more short term debt when rates are perceived to be high.
But developing a regular and predictable issuance pattern is difficult. It is difficult
because w e face tremendous uncertainty.
[Chart 15]
In it's simplest form lowest cost financing means borrowing at the lowest rate
without over funding our cash balances. W e try to limit the fluctuations in our cash
balances for two reasons. First w e face a negative funding spread. Second, our
balances are collateralized in the private sector. Big swings can cause market
dislocations.
Forecasting is very difficult. Every one misses. We strive to do a much better job of
forecasting. But as the old saying goes, "if you are going to forecast, you better do it
often."
By way of illustration, total federal tax receipts are $1.8 trillion. The federal budget is
over $2 trillion. A small miss on those two numbers -and they are usually correlated
over time-will result in a change in the budget deficit of tens of billions of dollars.
[Chart 16]
We know we face uncertainty. It is not our job to project long-term deficits or
surpluses. That is the job of O M B and C B O .
What is our job is to make sure our auction calendar can handle a range of
reasonable outcomes. Our calendar must be able to handle changes on the margin.
W e must have flexibility in our calendar. This slide highlights this point quite well.
This chart of financing residuals (+/- one standard deviation) was one we
considered before the M a y refunding when w e announced significant increases to

our frequency of coupon issuance.
• Lines: central and 1 standard deviation forecasts of deficits
• Bars: residual financing if base case issuance were carried forwards
Financing residuals (one-sided) Forward looking scenario analysis
We believe our calendar was well set up to handle lower deficits. We had and have
the ability to reduce auction sizes and pay down issuance. Currently w e have over
$1 trillion in outstanding bills and annualized w e issue $300B in 2-yr notes.
But what concerned us was the more pessimistic outlook, higher deficits. Though
w e believed w e could continue to increase auction sizes, w e concluded that
increased auction frequency would spread out the effects of increased issuance
and still give us flexibility if deficits turn out to be smaller than forecasted.
[Chart 17]
Last year we issued over $3 trillion in bills, notes and TIPS.
The fiscal balance is hugely important on the margin and determines the structure
of our issuance, but our refinancing dominates our daily debt management
decision-making. In other words w e rollover our debt, but contrary to m a n y market
analysts that interests us but it does not concern us.
I would like to take a moment to talk about rollover risk. The distinction between
debt management at Treasury and within the CFO's office of a corporation are vast,
and in m y opinion, not necessarily understood by the marketplace. Our risk is not
that w e cannot rollover our debt; it is in doing so w e incur large changes in interest
costs. Though w e have work to do in this area, w e feel a regular and predictable
issuance calendar-not one based on rates or market timing-can best mitigate the
the risk of volatile interest costs.
[Chart 18]
In a nutshell, our job is to figure out what to auction and when. What security should
w e sell at what size and in what frequency? The tricky part is to incorporate
changes to the calendar in transparent manner within the regular and predictable
framework.
We want to issue at the lowest cost over time. The changes must be transparent,
w e want flexibility and w e want to minimize any market dislocation.
This next chart plots our issuance calendar versus different deficit outcomes. The
inputs are deficits and borrowing generated from our coupon calendar. The output
is bills as a percentage of marketable debt.
The deficits are based off the current (last January) OMB forecast. The inputs are
our current issuance calendar. Most analysts are forecasting higher deficits for this
year, so the slope of the green line m a y be too steep. A return to that projection
would m e a n a fast bill pay down.
The red line has no policy implications it is merely a reference point.
[Chart 19]
This chart shows another way of looking at distribution. It highlights how long dated
issuance is market timing and significantly reduces flexibility. This is not a chart that
shows rollover risk. Rather it demonstrates the costs Treasury faces once it locks
itself into longer dated issuance decisions.
[Chart 20]

Soft measure of cost-one observation over 50 yrs. But it implies it is cheaper for
treasury to fiance in the front end of the curve over time. It also shows how hard it is
too market time.
Related Documents:
• Charts

Treasury Debt Management

Timothy Bitsberger
Deputy Assistant Secretary
U.S. Treasury Department

Summary
Treasury is committed because TIPS reduce cost
Closest thing to a risk free asset for long-term investors.
Highest credit quality
Improve portfolio diversification
Better match to inflation than real estate, commodities, or
other real assets
TIPS market is young but growing fast

TIPS Outstanding
$ billions
160

1997
Source: U S Treasury

1998

1999

2000

2001

2002

M a y 2003

10-year TIPS Issuance Represents M o r e Than a
Quarter of Treasury's Total 10-year Note Issuance
Sbillions
70

1997

1998

1999

2000
2001
• 10-yr TIPS • 10-yr Nominal Issuance

2002

TIPS Liquidity Increasing
3-Month Moving Average of Daily TIPS Transactions by Primary Dealers

$ billions

Apr-98

Oct-98

Apr-99

Oct-99

Apr-00

Oct-00

Apr-01

Oct-01

Apr-02

Oct-02

Apr-03

Net Dealer Positions in Treasuries
Nominal Treasuries
($ billions)

TIPS
($ billions)

Jan-01

Mar-01

May-01

Jul-01

Sep-01

Nov-01

Jan-02

Mar-02

May-02

Jul-02

Sep-02

Nov-02

Jan-03

Mar-03

SIZE OF GLOBAL INFLATION-INDEXED
BOND MARKET VS. OTHER ASSET CLASSES
JKAJ

400

300 <*>
S3

CO
<4> 200 -

100 -

Global Inflation Indexed

Global Hi^i Yield

Emerging Market Bonds
Asset Class

Source: Bridgewater Associates

Emerging M arket Equities

European Corp orates

Distribution of Competitive Auction Awards of 10-Year Treasury Notes
10-Year Inflation-Indexed Notes

10-Year Fixed-Rate Notes

July 2002, October 2002 & January 2003

August 2002, November 2002 & February 2003

Financial Ins ts.,
1%

Other, 4 %

Financial Insts.,

Other, 2 %

Foreign &
International,
Primary
Dealers, 6 7 %

Distribution of Competitive Auction Awards of 10-Year Treasury Notes
July 2002 - February 2003

70% -r-

—r 70%

60%

50%

40%

30%

20%

10%

0%
Primary Dealers

Investment Funds

Foreign & International Financial Institutions

Other

Return Profiles
1997 - 2003

Lehman
Index

10-Year
Treasury

10-Year
TIPS

S&P 500 Index
w/dividends

4.3%

5.8%

5.7%

10.4%

Annualized Return

8.4%

9.2%

7.9%

4.7%

Monthly Volatility

1.3%

2.0%

1.1%

5.3%

Annual Volatility

5.7%

8.2%

6.2%

22.0%

2003 Returns
(Thru May 2003)

Source: Barclays Capital

STRATEGIC ROLE

I/I BOND CORRELATION TO OTHER ASSETS AND INFLATIO

Correlation of TIPS (10 Yr Duration) to
1970 to Present

Equities

Nominal Bonds

CPI

S & P 500

10 Yr Duration

1 Month

0.18

0.11

0.57

3 Month

0.27

0.02

0.64

1 Year

0.51

-0.18

0.29

3 Year

0.84

-0.47

-0.33

5 Year

0.91

-0.53

-0.35

10-Year TIPS and Nominal Yields
TIPS Yield

4.5
4.0
The-Run 10-yr TIPS

3.5
5.0

3.0

4.5

2.5

10-yr Constant Maturity
4.0

2.0
3.5
3.0

Correlation Coefficent
1997-1999:-0.18
2000-present: 0.97

2.5
Jan-97

Jul-97

1.5

1.0
Jan-98

Jul-98

Jan-99

Jul-99

Jan-00

Jul-00

Jan-01

Jul-01

Jan-02

Jul-02

Jan-03

Jul-03

TIPS Characteristics
• Fixed real coupon, paid semi-annually on inflation
adjusted principal
> • Deflation-protected principal at maturity
• Principal adjusted for inflation daily, but paid at maturity
• Inflation accretion is referenced to the CPI-U N S A , set
with a 3-month lag
• First issue January 1997; 10 issues ranging from 2007 to
2032
• $155 billion market capitalization; total Treasury market
capitalization $3.3 trillion
• Four 10-year TIPS auctions per year, increased issuance
• Average daily trading volume over $3.5 billion

Structure
• Principal value is adjusted for inflation by multiplying the
value at issuance by an index ratio which changes daily.
Inflation adjustment is paid at maturity.
• Coupon payments are a fixed percentage, determined at
auction, of the inflation-adjusted value of the principal.
• The index ratio for a particular valuation date is the index
number for that date divided by the index number for the
issue date.
• Index Ratio

Date

= Index number for value date
Index number for dated date

Average Absolute Federal Budget Forecast Errors
1997-2002
$ billions
180
160

$ billions
-•-r 180
160

140

120

100

+ 100

0
14 months

Office of Market Finance
Department of the Treasury

11 months

8 months
5 months
months until end of fiscal year

2 months

Source: Primary Dealer forecasts provided to Treasury at quarterly dealer interviews
O M B - U.S. Budget and Mid-Session Review
C B O - Budget Outlook and Update

FINANCING RESIDUALS GIVEN C U R R E N T ISSUANCE
$ billions

$ billions

600

600
Deficits plus 1 St. Dev.

500

400 -

400
Deficit Forecasts (FY04 Budget)

300

200 -

200

100

-100

•100
eficits minus
1 St. Dev.

-200

-300

- -300

-400

-400
2003

2004

2005

2006
Fiscal Year

2007

2008

Refinancing dominates new financing
$Bil.
1,000
Maturing Debt
Maturing Debt Without 4-week Bills

800

Fiscal Balance
(Deficit/Surplus)

600

400 h-

200

-200

-400
1961

'64

'67

'82

'85

'88

'91

'94

'97

'00

-400
'03

Quarterly Financial Obligations
Department of the Treasury
Office of Market Finance

February 3, 2003-9

BILLS AS A PERCENTAGE OF TREASURY'S MARKETABLE DEBT1
45%

45%

40%

40%
Assuming O M B '04 Budget /
Deficit Forecasts Plus 1 St. Dev. /

35%

30%

25%

20%

15%

1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007

Distribution of Treasury's Marketable Debt Outstanding By Security
As of April 30,2003
30%

30%

25%

20% -

20%

15%

10%

Realized 10-Year Borrowing Cost for Treasury Securities
yield

1953

yield

1957

1961

1965

1969

1973

1977

1981

1985

1/ The interest cost for borrowing a fixed amount with a given security over a 10-year period was
calculated using Treasury constant maturity yields.

1989

1993

1997

2001

Includes Forward Rates
as of May 21, 2003

i
PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 26, 2003
JS-506
Remarks of Assistant Secretary for Financial Markets Brian C. Roseboro
To the Bond Market Association's Inflation-Linked Securities Conference
N e w York, N Y
Finding a Better Way
A wise man once said, "The great enemy of the truth is very often not the lie deliberate, contrived, and dishonest - but the myth - persistent, persuasive, and
unrealistic".
In my brief time in Washington, I've found the worst myth to be the belief that the
debt ceiling imposes any control on government spending. The plain truth is that the
debt limit does not affect the deficits or surpluses; the critical revenue and spending
decisions are made during the congressional budget process.
The "debt limit" myth bears special attention today because in spite of a recent
increase in the debt limit, mythically characterized by some as "the largest increase
ever"- not true this issue will confront the Congress, the Treasury and the fixed
income market yet again in the not too distant future. It is imprudent and unwise to
risk the United State's privileged standing in the capital markets with this all too
frequent self imposed political imbroglio. The challenge and necessity before us is
clear: w e must maintain Congress's constitutional granted authority for borrowing
on "the full faith and credit of the U.S." but better align it with the practical necessity
of the Treasury's responsibility to finance the gap between congressionally
approved changes to revenues and expenditures. An active financial market
community voice must not be mute in urging a solution to this problem.
Definition & history
The authority to borrow on the full faith and credit of the United States is vested in
Congress by the Constitution: Article I, Section 8, and Clause 2 -The Congress
shall have power to borrow money on the credit of the United States". It is an
important and critical pillar of our government's balance of powers. In 1917, in the
face of more frequent government financing needs - World War I - the 65th
Congress, in conjunction with the Second Liberty Bond Act, delegated authority to
the Treasury Department to borrow, subject to a limit. This action replaced the
necessity of having to seek congressional authority on each issuance thus
providing an operational convenience. Through the years, the format of the debt
limit has changed. Initially, different types of government debt had their own limits.
The debt limit essentially achieved its modern form in the early 1940s.
The debt limit currently stands at $7,384 trillion. Debt subject to limit, as of June
20th, was $6,598 trillion in combined publicly held and intra-governmental debt
outstanding. The current definition of debt subject to limit lacks economic
coherence. As stated, the debt limit applies not just to debt held by the public, but to
the notional credits in the government trust funds, of which Social Security is the
largest. An impartial party to the issue might logically prefer to alternatively define
the debt limit as applying just to debt actually held by the public which is only 5 8 %
of the current limit. They may just as likely think it more reasonable to define it as a
full measure of the government's unfunded liabilities, in which case the current debt
subject to limit is massively understated. Today's debt limit is a halfway house,
neither here nor there. Further, despite the debt limit's conceptual emptiness, the

steady growth of the trust funds - from less than 25 percent of total federal debt in
1990 to 43 percent in 2002 and projected to rise to 55 percent by 2007 - guarantees
perennial debt limit strife no matter how frugal Congress chooses to be in the
budget process.
This well intended "operational convenience" of 1917 has evolved to at best - an
operational inconvenience or - at worst - a threat to the high credit and financial
standing of the United States government.
Risking the U.S.'s privileged standing in the capital markets
During the most recent episode, lasting from February 20 - May 23, 2003, Treasury
w a s forced to use - as have all the administrations before us what's becoming
euphemistically know as its' "bag of tricks" to technically stay under the debt limit.
All of these devices are provided for in statute. Most are "harmless" accounting
"conveniences". However, there always comes a point where use of other
authorized devices, along with implementing unexpected alterations or opaque
changes to Treasury's "regular and predictable" issuance, have imposed costs on
U S taxpayers - and worse - short-term disruptive effects on the efficiency of the U S
fixed income market.
For example: (1) the June 2002 2-year note auction was delayed due to last year's
debt limit impasse (in which the U S w a s placed on "credit watch" by Moody's) and
following a sloppy "snap" auction ended up costing the Treasury -taxpayers - an
estimated $20-$30 million in higher interest cost, and (2) this year, T-bill issuance
sizes were affected by $30-$40 billion in April, M a y and June as Treasury swung
"compensating balances" in and out of the banking system to avoid the debt limit.
This undoubtedly contributed to unusual tightness in the bill market in May.
The bill issuance adjustments during the recent debt limit episode still have some
lingering market effects as w e continue to work to "clean up after the party". A s the
Wall Street Journal said in a recent editorial, "It would be worse than ironic if, while
trying to hold down the level of debt, Congress actually raises the cost of
borrowing". The United States government enjoys unparalleled access to the capital
markets in large part due to its regular and predictable policy. The market rewards
Treasury for regular and predictable auction cycles with low cost financing. A higher
cost of borrowing is likely to be realized when Treasury is seen to have deviated
from its policy and introduced uncertainty into the market. While difficult to estimate,
a m o v e or a "risk premium" as small as 1 basis point would cost taxpayers $50
million/quarter or $200 million per year based on our projected issuance calendar.
It is critical that there be no doubt either here or abroad that the federal government
will honor its financial obligations. In 1919, Moody's Investor's Service gave its first
review and rating to U.S. Government securities - "Aaa." The full faith and credit of
the United States of America is one of the most precious assets that the American
taxpayers have entrusted to any Congress and any Administration. Neither
Congress nor the Administration wants to be blamed for losing this standing or
much less default. However, the risks of a miscalculation inherent in the "political
theater" of raising the debt limit, "getting it done only when it must be done", m a y be
more significant than all parties realize.
Is there a better way?
The U.S. capital markets are the envy of the world. The liquidity and transparency
that exist makes our markets a role model for developing markets everywhere.
However, as w e watch that emulation take place, noticeably absent from the
blueprint of any other government's financing plan is the adoption of the debt limit
concept as w e entertain it. Varied voices in private and government sectors have
questioned the usefulness of the debt limit. They are convinced that Congress,
through its regular budget process, already has ample opportunity to vote on overall
revenues, outlays and deficits. Still, it is critical and appropriate for Congress to
maintain and exercise its constitutional granted authority and control for borrowing
on "the full faith and credit of the U.S." Yet there must be a more appropriate
alternative mechanism to provide Congress a "check" on its delegation of borrowing

authority to the Treasury. There must be an alternative to Treasury being
periodically undermined of its ability to efficiently execute the assigned
responsibility to m a n a g e the government's cash and debt management needs.
Finding those alternatives is today's challenge - "we need to fix the roof while it's
not raining." Proposals to raise or repeal the debt ceiling are easy targets for
demagoguery. Unless carefully explained - m a y b e even if carefully explained these proposals are likely to seem profligate to m a n y voters. A reform proposal will
be most likely to succeed and deflect unfair attacks if it self-evidently bolsters fiscal
discipline. A s examples, alternatives to the current debt limit for consideration could
include: (1) simply apply the limit to only debt held by the public or (2) tie a notional
debt limit to a n e w metric, such as publicly held debt as percentage of Gross
Domestic Product, n o w 3 2 % . Or (3) Congress could also replace or redefine the
debt limit. To serve as a genuine limit, a replacement should tie raising the debt
ceiling directly to fiscal decisions, and define "debt" in a fiscally meaningful way. In
an accrual based budget rule, Congress would have to raise the debt ceiling before
making fiscal decisions projected to breach it - especially if debt subject to limit
were calculated on an accrual basis. Under an accrual-based rule, expenditures are
recorded, in whole, as soon as Congress approves them. Or (4) Congress could do
away with a notional debt limit and grant the Treasury "evergreen" borrowing
authority, that is, the authority to borrow as needed to fund congressionally
approved expenditures subject to a periodic review. Congress could vote to renew
this authority every 4 or 5 years. Any of these approaches, while still with
drawbacks of their own, are far superior to the current status quo.
An active financial market community voice must not be mute in urging a
solution to this problem
We at Treasury have worked especially hard over the past two years to make our
deliberations more open and transparent and ourselves more accessible to
dialogue with market participants - sell side, buy side, analyst and academia. Your
input and feedback into our decision making process is wanted and critical to
achieving our goal of "lowest cost financing over time." The Treasury's
management of the government's finances, as well as legislative policy affecting the
execution of Treasury financing, should not be a spectator sport. It matters to you
h o w our decisions on debt issuance - size, term, frequency, and distribution
between nominal & TIPs - affect the efficiency of the market. It should matter just as
much, if not more, that there not be counterproductive, obsolete legislative
constraints which only serve to induce inefficiency and uncertainty into that s a m e
market.
Conclusion
Congress's constitutional authority over borrowing is sacred but so too is the
premier position of U S Treasury securities in the world market place. A better way
to maintain both must be found so that neither is compromised. T w o hundred and
twelve years ago, Alexander Hamilton's idea of unitary government financing began
Treasury's responsibility of debt management with a portfolio of $75 million. O n e
hundred and six years later -1897 - the national debt stood at $1.8 billion. And now,
one hundred and six years after that, it stands at $6.6 trillion. In the face of this
rising debt, the United States has witnessed unrivaled economic growth and
development during those 212 years. The issue is misplaced. It's not about debt
and debt limits. It's about economic growth. There - another myth exposed to the
truth.
Thank you.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
To view or print the PDF content on this page, download the free Adobe® Acrobat® Reader®.
June 26, 2003
JS-507
Oral And Written Testimony of David D. Aufhauser General Counsel,
Department of the Treasury Judiciary Subcommittee on Terrorism,
Technology and Homeland Security
Mr. Chairman, I want to thank you for holding this hearing on an issue
central to the war on terrorism. I hope that m y presence here will aid in
your inquiries.

W h e n I joined the Department of the Treasury two and a half years ago, I
w a s already well aware of a deficit of hope in m u c h of the Islamic world, the
most visible symbol of which has been the failure to resolve the question of
Palestine. I had traveled in the Middle East on behalf of the World Bank
and m y assignments at that time were straight-forward, but a forensic
challenge - try to figure out w h y rivers of m o n e y intended to build dams, to
irrigate land, or to establish an effective stock market in the Gulf had failed
in their mission, with m u c h left unaccounted for.

W h e n Paul O'Neill asked m e to join him, he gave m e a related challenge help the President m a k e every dollar of development aid count, not only
because w e are stewards of the taxpayer's money, but because effective
aide is the most promising tonic to hate. Despair is hate's crucible, and our
ambition w a s to eliminate it, not with any romantic notion of changing
minds, but by changing opportunity. N o m a n kills w h o sees a future for his
family.

Others, however, have sought to exploit despair and to teach people h o w
to kill.

They have financed the venture by defiling charitable purpose. And they
have found a convenient m e a n s to do so in the Middle East and,
particularly, in the theocracy of Saudi Arabia.

I want to be clear. W e are not at war with a faith, nor with any particular
sect. The war is with those w h o would seek to compromise faith, w h o
counterfeit it, w h o champion the death of innocents in the n a m e of faith.
And here, the austere and uncompromising literal Salafist Wahabi view of
the Quran has been wrongly invoked by would be false prophets like
O s a m a Bin Laden to legitimize terror.

Still, it is a very important factor to be taken into account w h e n discussion

terrorist financing. The principal of charity is central to Islam, and with
unimaginable oil wealth has c o m e a commensurate amount of zakat that
has flowed into prominent Saudi based N G O s . Those N G O s have offices
disbursed in the outposts of the world populated by the Islamic diaspora places where need is infinite and where hopelessness preys on the night's
sleep. There are, moreover few financial or h u m a n resource controls on
those frontiers, and little sophistication for dealing with the diversion of
charitable m o n e y for violent purpose.

It is a combustible compound when mixed with religious teachings in
thousands of madrassahs that condemn pluralism and mark nonbelievers
as enemies. Fundamentalism is too easily morphed into a chilling mission
of hate and terror. And it needs to be dealt with.

M u c h of our dialogue with the Saudi government on terrorist financing has
focused on the misuse of these religious and charitable missions and the
need to tighten controls. The result has been a far reaching charities
initiative that bars all cross border giving absent Saudi government
oversight and vetting; the closing of 10 offices of the largest and most far
reaching Saudi N G O - al Haramain - each office demonstrated to be
underwriters for terror in the Balkans, East Africa, Indonesia, and Pakistan;
the reconstitution of al Haramain's board of directors; the arrest of a
significant number of prominent fundraisers known to us; an on going
dialogue on additional N G O s and donors; and work towards establishing a
framework for sharing more financial intelligence on a near real time basis.
This last development is critical. Much of the evidence in this shadow war
is suspect, the product of interrogation, rewards, betrayals, deceits. But a
financial record doesn't lie. It has integrity. And it is enormously useful helping to identify, locate and capture bad guys, mapping out a network of
connections that tie an anonymous banker to a suicide bomber, helping to
evaluate the credibility and immediacy of a threat, and preventing a
calamity by starving the enterprise of terror of its fuel.
This brings us back, ironically, to why I came to Treasury. As I told you, I
did not know then whether m y words or advocacy could change people's
minds. I did, as I told you, believe that a dollar well deployed could
enhance opportunity and thereby diminish antipathy to our values. But I
n o w know that preventing a dollar from being misapplied can be of equal
service and is, perhaps, the surest weapon w e have to m a k e the homeland
secure and to let our kids go to schools that teach tolerance and respect for
people of all faiths.
Related Documents:
• Written Testimony

DEPARTMENT OF THE TREASURY
O F F I C E O F PUBLIC AFFAIRS
Contact: Taylor Griffin
(202) 622-2960
Written Testimony of David D. Aufhauser
General Counsel, Department of the Treasury
Before the Senate Judiciary Committee
Subcommittee on Terrorism, Technology and Homeland Security
June 26, 2003 2:00 p.m.
The United States Senate

The Threat of Terrorist Financing
Chairman Kyi and distinguished Members of the Subcommittee on Terrorism,
Technology and Homeland Security, thank you for inviting me to testify today about the
threat posed by those who fund terrorism and what can be done to keep that money from
getting into the hands of terrorists.

I want to take a moment to emphasize that the terrorist financing strategy of th
United States government does not target any particular faith or sect. W e are not at war
with a religion, but rather with terrorists who sometimes masquerade as its champion. It
is a difficult challenge to distinguish between an austere, uncompromising and intolerant
view of faith from extremism and fanaticism that purposely seeks the blood of children.

This is a profoundly u n c o m m o n war. There is no k n o w n sovereign; no uniformed
army; no road to take; and, as far as terrorists are concerned, no target that is out-ofbounds. Indeed, terrorists obscenely place a premium upon death and the maiming of
innocents. It is shadow warfare. The primary source of the stealth and mobility
necessary to wage it is money. It is the fuel for the enterprise of terror. But money is
also the Achilles' heel of a terrorist. It leaves a signature, an audit trail which, once
discovered, has proven to be the best single means of identification, prevention and
capture. Books and records are literally diaries of terror and they can tell us much about
the wrongful, criminal hijacking of religion.
How Terrorists Raise and Move Money
Terrorist financing is a unique form of financial crime. Unlike money laundering,
which is finding dirty money that is trying to hide; terrorist financing is often clean
money being used for lethal purposes. The source of the money used to put a bomb in
the hand of a terrorist is often legitimate ~ as in the case of charitable donations or profits
from store-front businesses diverted from their ostensible use -- and the ultimate goal is
not necessarily the attainment of more funds. The ultimate goal of terrorist financing is
destruction.
Terrorists employ a wide range of terrorist financing mechanisms, both to raise
and move money, and the means used by particular terrorist organizations vary from
group to group. Some terrorist groups, such as those in Europe, East Asia, and Latin
America, rely on common criminal activities including extortion, kidnapping, narcotics
trafficking, counterfeiting, and fraud to support their terrorist acts. Other groups, such as
those in the Middle East, rely on commercial enterprises, donations, and funds skimmed

from charitable organizations to not only fund their activities but also to m o v e materiel
and personnel. Still other groups rely on state sponsors for funding.
But both terrorist financing and traditional financial crimes have one thing in
common - they leave a financial footprint that allows us to trace financial flows, unravel
terrorist financing networks, and uncover terrorist sleeper cells. The following is a basic
summary of the principal sources of funding and the means used to move money that
terrorist organizations and their supporters use to plan attacks and to support their
networks.
1. Gaming the Banking System
As the United States government sought the sources of support to terrorists in the
wake of September 1 ll , the focuswas on the formal international banking system - the
most visible conduit for terrorist financing. Terrorists exploited the openness of the
international financial system by storing funds in shell banks and front companies and by
using wire transfers to move funds through multiple jurisdictions.
Over the past twenty-one months, we - the Treasury Department, State, Justice,
the FBI and other agencies, have conducted an intensive campaign to counter this threat.
Through the broad powers of the USA PATRIOT Act (Patriot Act)and sustained
international engagement, we have greatly improved the transparency and accountability
of financial institutions around the world. These improvements have allowed us to
identify and unravel terrorist financing networks embedded in the international financial
system. We have also increased the costs for terrorists seeking to use the formal banking
system as a means of storing and moving funds.

^JgarL:"

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 26, 2003
JS-508
Economic Policies and Investment Risk in Africa John B. Taylor Under
Secretary of Treasury for International Affairs U.S.-Africa Business Summit
Washington, D C June 26, 2003

The reason w e are here today is to discuss financial mechanisms that are able to
mitigate some of the risks of doing business in Africa. Risk—both real and
perceived—is the primary reason more capital is not flowing to Africa. Africa
represents incredible potential. While capital flows have occurred quite successfully
elsewhere, most notably in Asia, Africa has been left behind. Despite Africa's
enormous potential, low cost labor, and vast natural resources, investors, quite
frankly, remain wary. They are afraid of putting their money in a place which all too
often is perceived (however true or not) as a continent wracked by war, famine,
AIDS, and corruption.
Although specific financial mechanisms are necessary, they can not address all the
risks that confront businesses in Africa. W e in the United States have been working
with African countries and our donor partners to reduce this risk. The key areas of
focus are: (1) challenging African governments to rapidly and significantly improve
their investment environments; (2) facilitating new ways to engage the private
sector with Africa; and, (3) working with the IFIs to strengthen the financial systems
of Africa to support productive investment.
I. Challenging Africa's Governments
First and foremost, the strongest way to mitigate investment risk requires African
governments to change their investment environments. The Millennium Challenge
Account focuses on improving the investment environment by directing more
resources to countries committed to ruling justly, investing in people, and
encouraging economic freedom. The Administration's intention is to provide an
additional $5 billion a year by 2006 to strong-performing poor countries.
Ruling Justly
In Africa, poor governance - including corruption, limited rule of law, and lack of
enforcement of contracts - scares off domestic and foreign investors. Ruling justly
is critical to reversing that trend. Actions African governments must take include
effective anti-corruption initiatives, and strengthening of the courts. Another
important step is to reduce opportunities for rent-seeking—such as ad hoc tax
exemptions and investment incentives, trade quotas, and dual exchange rates.
To be sure, there are already African countries taking these steps. The Zambian
Government's recently-established Task Force on Corruption has seized property
improperly acquired with public funds and re-channeled those funds to education
and agriculture programs. The Kenyan Parliament recently passed two anticorruption bills which had been pending for many years. In South African, the
government has worked since the onset of majority rule to ensure that the benefits
of growth are shared more equitably, fiscal management is more transparent and
accountable, and the rule of law is reinforced.
Investing in People

For high and sustained economic growth, the composition of government spending
in Africa needs to be slanted much more towards investment in people and
infrastructure. Creating a better-educated and more productive workforce requires
sufficient public investment in schools and teachers, and a commitment from
businesses to train their workers. Let us look to Mauritius. In 1999, the secondary
school enrollment ratio w a s 5 8 % while the average for Africa is 31 %. The average
manufacturing w a g e is $336 per month, compared with $54 per month in other
parts of Africa. This m e a n s a more skilled workforce and rising productivity.
Investing in people also means investing in health. In countries with HIV/AIDS
rates of 1 0 % , economic growth is reduced by up to one-third and a 2 0 % rate m a y
reduce productivity and growth by more than half.
The African Development Bank has specifically targeted investment in the
education and health sectors. Bank lending in these sectors reached 1 5 % of total
loans last year. In M a y 2003, President Bush signed legislation aimed at providing
$15 billion to prevent new infections, treating HIV-infected people and providing
care for HIV-infected individuals and AIDS orphans. Close to 20 million Africans
will benefit. Here again, the U.S. is committed to reducing the real investment risk
that HIV/AIDS is casting over the continent.
Economic Freedom
The third M C A pillar is an environment conducive to private sector investment and
entrepreneurship. All too often, excessive regulation, state monopolies, and lack of
openness to trade result in productivity-enhancing investment going elsewhere.
Macroeconomic stability and trade liberalization are keys to attracting productive
investment. Keeping inflation levels low, developing domestic financial markets,
limiting the claims of governments on domestic savings, and a sustainable foreign
exchange rate regime also are among the requirements for a vibrant economy
conducive to private investment.
Botswana is an example of a stable, market-oriented African economy. There are
few non-tariff barriers and no foreign exchange controls, price controls, or price
subsidies. Contracts and property rights are respected. Moody's and Standard and
Poor's call it the best credit risk in Africa despite the macroeconomic challenges
presented by the HIV/AIDS epidemic.
Ghana took a very systematic approach to reforming its financial sector in the early
1990s. In the first phase of those reforms, the government placed ceilings on net
bank credit to the government to avoid crowding out the private sector. While
administrative controls on interest rates remained in place, they were gradually
relaxed. The second phase of reform focused on liberalizing controls on interest
rates and bank credit. In the third phase, there was a gradual shift from a direct
system of monetary controls to an indirect system that utilized market-based policy
instruments.
As part of the process, the Bank of Ghana rationalized the minimum reserve
requirements for banks, introduced new financial instruments, and absorbed excess
liquidity from open market operations. These policies were complemented by
strengthening the soundness of the banking system by improving the regulatory
framework, strengthening bank supervision, and improving the efficiency and
profitability of banks, including the replacement of their non-performing assets. In
the final stage of this process, Ghana has embarked on the privatization of the
major publicly owned banks.
II. Engaging the Private Sector with Africa
The second way the U.S. is working to help mitigate investment risk in Africa is by
working to create ways to promote private sector led growth. A s one example, last
year, the U.S. launched a project to fund a number of sub-Saharan African
countries to get their initial sovereign credit ratings. This promotes several benefits.
First, the process of getting a rating helps countries focus on things international
investors care about, perhaps most importantly, timely and high quality data.

Sovereign credit ratings can help investors even in non-debt investments evaluate
the economic environment and distinguish a m o n g markets. Changes in ratings
provide useful market-based feedback to governments about their policies. And
ratings can serve as benchmarks for private companies that want to access
international capital markets. Prior to this initiative, only four Sub-Saharan African
countries had received sovereign credit ratings (Botswana, Mauritius, Senegal, and
South Africa). This project could add up to 20 countries to this list over the next
several years. To date, ratings have been completed for Lesotho and Gambia.
The African Growth and Opportunity Act (AGOA) is another example of support to
encourage the private sector. A G O A ' s purpose is to stimulate closer trade and
investment between sub-Saharan Africa and the U.S., thereby boosting market-led
growth in the region. A G O A ' s most important benefit is to provide duty-free
treatment for an enhanced list of products plus duty-free imports of textiles and
apparel up to a predetermined cap. To qualify, countries must meet requirements
with respect to economic reform, trade liberalization, poverty alleviation, attacking
corruption, and civil and worker rights.
To date, 38 countries have qualified for AGOA, and total non-oil U.S. imports from
AGOA-eligible countries rose to $1.9 billion in 2002 from $1.6 billion in 2000,
despite an adverse global economy. The U.S. is also working to create regional
trade hubs in Botswana, Ghana and Kenya and is working to achieve a free trade
agreement with the five members of the Southern African Customs Union.
III. Financial Strengthening
My third point concerns strengthening financial systems in Africa, including their
capacity to m a n a g e risk. In most Sub-Saharan countries, S M E s and microenterprises have limited access to financial services, yet they m a k e up the vast
majority of businesses in Sub-Saharan Africa. In recent years, multilateral
development banks, governments, and N G O s have developed numerous programs
to finance micro-enterprises. S M E s , on the other hand, would best be served by the
local financial sector, which could provide working capital loans and other financial
products in local currency. W e are convinced that such lending to small and
medium businesses has significant potential for generating economic growth and
creating jobs and reducing poverty. All of this would mitigate the overall investment
risk climate. If these businesses can grow and demonstrate success, I believe
private investment capital will follow.
The problem is, however, that this needed financial sector is underdeveloped in
many countries.
But we are working to change that. The Bush Administration has long encouraged a
small and medium-sized business loan program in Africa. It would be a vital tool for
creating economic growth in sub-Saharan Africa. The initiative would mark the first
time that the World Bank has combined the resources of its concessional lending
arm, the International Development Association (IDA), with those of its private
sector affiliate, the International Finance Corporation (IFC).
About eight countries will take part in the $225 million pilot program over the next
three to four years, drawing $130 million from new or existing IDA credits, $60
million from IFC, and other commercial investors, and $35 million from other
sources. The program's focus will be on three areas:
• Access to Financial Services—establishment of viable new microfinance
institutions, improvement of the ability of local banks to lend profitably, and
development of innovative vehicles to supply risk capital to small businesses.
• Capacity Building and Business Development Services—strengthening of
managerial and technical capacity of small businesses by stimulating both demand
and supply within the business development market. The program will also focus
on industry-specific programs to link these enterprises with large corporates
through integration of supply-chain activities.
• Investment Climate and Enabling Environment —introduction of reforms that

facilitate dialogue between the public and the private sectors and improve the
functioning and advocacy role of business associations.
While specific country programs will be unique to each local environment, the Bank
will ensure that there will be a regional management structure to ensure the sharing
of approaches and instruments, and to provide the overall monitoring and
evaluation of the program. In the end, w e expect the investment climate will strongly
improve, and risk will finally begin to drop as financial services are strengthened.
Conclusion
Much work lies ahead for donors, development partners, the private sector, and the
governments of Africa if w e are to assist Africa reduce its high levels of real and
perceived investment risk. The broadening and deepening of financial markets to
facilitate financial instruments that mitigate risk is an important element. However,
Africa itself must begin the turnaround. The U.S. is doing and will continue to do
what it can to reinforce that effort by emphasizing development effectiveness and
working in partnership with African nations that rule justly, invest in people, and
promote economic freedom.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 22, 2003
JS-509
Remarks before the Israel-America Chamber of Commerce
John B. Taylor
Under Secretary for International Affairs
United States Treasury
June 22, 2003
Thank you very much. It is a pleasure to be in Israel and an honor to speak before
such a distinguished group from the business community.
The United States has enjoyed a close economic relationship with Israel since the
first days of Israeli statehood. Following the establishment of the U.S.-Israel Free
Trade Agreement in 1985 this relationship has become even closer. The United
States is now the largest export market for Israel. America invests more in Israel
than does any other country.
Recent Trends in Historical Perspective
Like many economies in the world, the Israeli economy suffered substantial
setbacks in the past 21/4 years. After reaching a peak in the third quarter of 2000,
real G D P fell in 2001 and in 2002 by about 1 percent per year. As in m y h o m e in
Northern California, Israel's high tech industry was hard-hit by the slowdown in the
IT sector. After rising by 23 percent in 2000, exports fell by 7 percent in 2001. The
domestic security situation has also significantly harmed Israel's growth. Over the
longer term, I believe structural policy problems have also been holding back
economic growth in Israel. Except for the 1999-2000 export boom, economic
growth declined steadily in the second half of the 1990s. This was in contrast to
the stronger growth in the first half of the 1990s.
Israel has a history of success in overcoming economic crisis. In the 1980s,
economic growth also slowed down. Israel was plagued by triple-digit inflation and
large budget deficits. But the introduction of fiscal and monetary policy changes
addressed these problems. The budget deficit was reduced. Money growth was
brought under control. Structural reforms were implemented, especially trade
liberalization and more competition, as in mobile phones.
These policies laid the groundwork for the favorable economic performance in the
early 1990s. Growth rose to an average of over 6 percent. Inflation came down
sharply. However, as reforms lagged, growth slowed again in the second half of
the 1990s.
Today Israel faces another turning point, and again, with the right measures, Israel
is destined for success. The government has embarked on an important
reorientation of economic policy. It is interesting that Germany, France, and Japan
are also starting to address long-term structural impediments to growth. As the
global economy recovers, I believe these structural policy changes will have
significant payoffs.
The Importance of Productivity Growth
I have long argued that economic policy should focus on increasing productivity

growth because that is the driving force behind rising living standards in any
country. Simply put, productivity is a function of the pace at which capital is
accumulated and the efficiency of resource allocation. While Israel's strong
investment in h u m a n capital has led to one of the world's most highly skilled
workforces, private capital accumulation has been crowded out by excessive
government spending. Resource allocation has also been distorted by
inefficiencies in the highly-concentrated financial sector, generous social transfers
and high taxes that led to low labor market participation rates.
Finance Minister Netanyahu's economic recovery program, passed by the Knesset
three weeks ago, is crucial for achieving higher productivity growth in the Israeli
economy. Under this plan the government will undertake fiscal policies and
structural reforms in order to reduce government expenditures and keep the budget
deficit on a downward path.
Israel's general government revenues and expenditures stand at roughly 42
percent and 48 percent of G D P respectively, compared to an O E C D average of 38
percent and 41 percent of G D P in 2001. Finance Minister Netanyahu's economic
recovery plan therefore rightly focuses its efforts on reducing spending growth. The
recent efforts to trim Israeli government ministry budgets and limit the growth of
social transfers are important first steps in implementing this plan. These efforts will
reduce the government's claim on real and financial resources.
In addition, the reduction in marginal tax rates will help encourage the Israeli private
sector to m a k e productivity-enhancing investments. Under this plan, the top
marginal tax rate will fall from 60 percent to 49 percent. This will increase the
incentives to work and spur growth.
As President Bush has said, "Government spends a lot of money, but it doesn't
build factories, it doesn't invest in companies, or do the work that makes the
economy go.
The role of government is not to m a n a g e or control the economy... but to remove
obstacles standing in the way for faster economic growth."
In Israel, getting government out of the direct provision of commercial goods and
services is a critical part of the government's plan. Last week's successful offering
of El Al shares on the Tel Aviv Stock Exchange is very significant. This will pave
the way for further privatizations. I look forward to successful offerings of Bank
Leumi, Israel Discount Bank and Bezeq Ltd. Boosting the privatization program will
strengthen Israeli competitiveness in the global marketplace and will create
generous returns to the Israeli people.
I also agree with Finance Minister Netanyahu that wider financial sector reform
should be a top priority for the government. A more efficient banking sector is
essential to ensuring that resources are allocated to their most productive use. A s
the economy begins to pick up, the inefficiencies associated with Israel's highlyconcentrated banking sector could eventually present a roadblock to restoring high
growth. Recent reforms to m a k e the pension system more market-oriented by
shifting pension investments away from preferred government bonds and into the
regular bond and equity markets will also help to create a deeper, more liquid
capital market.
Labor market reforms would also help boost productivity by increasing labor market
participation. At only 54 percent, labor market participation in Israel is a m o n g the
lowest in the industrialized world.
These are all bold steps in the direction of restoring robust economic growth in
Israel, a goal that the U.S. strongly supports. The people of the United States are
providing $9 billion in loan guarantees to help the Israeli economy weather regional
shocks and thereby create the conditions for the Israel government to put in place
reforms that will lead to higher and sustainable growth. In negotiating the
agreement, both sides agreed that the guarantees should be linked to progress in
implementing the economic reform plan.

In conclusion, let m e mention that I a m visiting Israel at the end of a trip to Kuwait,
Iraq, Afghanistan and Jordan. Freed of the threat of S a d d a m Hussein and the
Taliban, w e n o w have an historic opportunity for sustained economic, political and
social progress. The U.S. is committed to doing its part to seize this opportunity.
Success in the long-term project of reconstructing Iraq will serve as a powerful
example in the region. Moreover, progress in implementing the roadmap will
promote greater economic cooperation between Israel and its neighbors, with
substantial benefits for all parties. With a successful recovery plan and increasing
regional integration, Israel can serve as both an economic engine and an example
for the region. Prosperity can in turn reinforce peace and security.
Thank you.

F R O M T H E OFFICE O F PUBLIC AFFAIRS
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June 26, 2003
JS-510
Treasury and IRS to Withdraw "Extraordinary Transaction" Rule of Proposed
Regulations
Today, the Treasury Department and the IRS issued a Notice announcing it will
withdraw the so-called "extraordinary transaction" rule of proposed regulations
issued on November 29, 1999. The rule would have would have operated to
change the classification of a foreign entity for tax purposes if certain transactions
occurred within a year of the date the entity elected disregarded-entity status. Most
commentators on the proposed regulations criticized the approach as overly broad
and expressed concern that it would undermine the increased certainty and
simplification promoted by the entity classification regulations issued in 1996.
"Withdrawing the proposed extraordinary transaction rule preserves the certainty in
tax results that taxpayers need to organize their international business operations,"
stated Treasury Assistant Secretary for Tax Policy Pamela Olson. "We are
continuing to examine certain categories of transactions to ensure that the
substantive rules of particular statutory and treaty provisions reach appropriate
results notwithstanding changes in entity classification. To the extent w e conclude
they do not, w e intend to propose changes to the rules that are narrow and focused
on correcting inappropriate results."
The Notice also states that portions of the proposed regulations other than the
extraordinary transaction rule have received minimal comments and that the
Treasury Department and IRS intend to finalize those portions of the proposed
regulations promptly.
Related Documents:
• Notice 2003-46

Part III - Administrative, Procedural, and Miscellaneous
Notice 2003-46
On November 29, 1999, the IRS and Treasury issued proposed regulations (Reg-11038599, 64 F R 66591) addressing certain transactions that occur within a specified period of time
before or after a change in entity classification. The proposed regulations generally would
provide that if an "extraordinary transaction," as defined in the proposed regulations, occurred
either one day before or within 12 months after the date a foreign entity changed its classification
to disregarded-entity status, then the entity would not be treated as a disregarded entity but
instead would be classified as an association taxable as a corporation for all purposes. In
addition to this extraordinary transaction rule, the proposed regulations also address
"grandfathered" pass-through entities and the determination of relevance of the classification of
a foreign entity for U.S. federal income tax purposes.
A public hearing on the proposed regulations was held on January 31, 2000. In addition,
written comments were received. Most commentators criticized the approach adopted in the
proposed regulations as overly broad and expressed concern that it would mitigate the increased
certainty promoted by the entity classification regulations issued in 1996.
After considering the comments received, the IRS and Treasury have decided to
withdraw the extraordinary transaction rule of the proposed regulations. Therefore, the IRS and
Treasury will withdraw proposed section 301.7701-3(h). The IRS and Treasury received
minimal comments on the portions of the proposed regulations addressing grandfathered entities
and the relevancy of classification status, and intend to finalize those portions of the proposed
regulations.
The IRS and Treasury remain concerned about cases in which a taxpayer, seeking to
dispose of an entity, makes an election to disregard it merely to alter the tax consequences of the
disposition. The IRS will continue to pursue the application of other principles of existing law
(such as the substance over form doctrine) to determine the proper tax consequences in such
cases. A s the Supreme Court has noted: "To permit the true nature of a transaction to be
disguised by mere formalisms, which exist solely to alter tax liabilities, would seriously impair
the effective administration of the tax policies of Congress." Commissioner v. Court Holding
C a , 324 U.S. 331,334(1945).
In addition, the IRS and Treasury are continuing to examine the potential use of the entity
classification regulations to achieve results inconsistent with the policies and rules of particular
Code provisions or of U.S. tax treaties. In contrast to the approach of the extraordinary
transaction rule, which would operate to change the classification of an entity if certain
conditions are met, this examination will focus on ensuring that the substantive rules of
particular C o d e provisions and U.S. tax treaties reach appropriate results notwithstanding
changes in entity classification.

O n e category of transactions that the IRS and Treasury are considering is the acquisition
of the assets of one controlled foreign corporation (the acquired C F C ) by a second controlled
foreign corporation (the acquiring C F C ) that involves the acquisition of the stock in the acquired
C F C followed by its liquidation into the acquiring C F C (through an actual liquidation or by
electing to treat the acquired C F C as a disregarded entity). Such a transaction typically would be
treated as an asset reorganization under section 368(a)(1)(C) or (D), provided that the transaction
meets the other requirements generally applicable to reorganizations, including the requirements
that the transaction have a valid business purpose and continuity of business enterprise. See
§1.368-1. Although the regulations under section 367(a) would require certain U.S. shareholders
of the acquired corporation to enter into a gain recognition agreement if the acquiring C F C had
acquired the stock of the acquired C F C , the regulations do not require a gain recognition
agreement in an asset reorganization. §1.367(a)-3(a) and (b)(l)(ii). A gain recognition
agreement generally requires former U.S. shareholders of the acquired corporation to recognize
gain on their original transfers if the acquiring corporation disposes of the stock or substantially
all of the assets of the acquired corporation (including a disposition of substantially all of the
assets following a liquidation of the acquired corporation) during the five-year period following
the initial transaction. The IRS and Treasury are considering whether to extend the gain
recognition agreement requirement for nonrecognition treatment under the section 367
regulations to asset reorganizations.
Another category of transactions that the IRS and Treasury are considering is the
disposition of a controlled foreign corporation by liquidating the corporation (through an actual
liquidation or by electing to treat the corporation as a disregarded entity) and selling its assets
rather than by selling the stock of the controlled foreign corporation. For purposes of subpart F,
section 954(c)(1) generally characterizes gain on the sale of assets based on the type of income
produced by such assets. Thus, section 954(c)(1) distinguishes between gain from the sale of
stock, which generally is characterized as subpart F income because stock gives rise to dividend
income, and gain from the sale of the underlying assets of the corporation, which is characterized
as subpart F income or other income based on the types of income produced by such assets. The
IRS and Treasury are continuing to consider the proper treatment of these transactions under the
substantive rules of subpart F.
Written comments concerning this Notice may be submitted to CC:PA:RU (Notice 200346), room 5226, Internal Revenue Service, P.O. B o x 7604, B e n Franklin Station, Washington,
D C 20044. Submissions m a y be hand delivered M o n d a y through Friday between the hours of 8
a m and 4 p m to: C C : P A : R U (Notice 2003-46), Courier's desk, Internal Revenue Service, 1111
Constitution Avenue, N W , Washington, D C 20044. Alternatively, taxpayers m a y submit
comments electronically to: notice.comments@irscounsel.treas.gov.
FOR FURTHER INFORMATION CONTACT: Concerning the notice, Aaron A. Farmer or
Ronald M . Gootzeit at (202) 622-3860; concerning submissions of comments, Lanita V a n Dyke,
(202) 622-7180 (not toll-free numbers).

•a
PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 25, 2003
JS-511
Treasury Applauds New Lending Program for Small and Medium Businesses
in Africa
Program is part of Bush Administrationstrategy for economic growth in Africa.
The Treasury Department applauded today's announcement by the World Bank
Group that two of its institutions would join in a pilot project to begin lending to small
and medium business enterprises in Africa. The Bush Administration proposed this
approach last year as part of its strategy for creating economic growth in subSaharan Africa. (See Taylor: Finding N e w Business Models at the Multilateral
Development Banks; http://www.treas.gov/press/releases/po3495.htm).
"We're very pleased with today's announcement," said John Taylor, Treasury Under
Secretary for International Affairs. "We have strongly advocated this idea for Africa
for some time, so it's gratifying to see it get underway. Lending to small and
medium businesses has significant potential for generating economic growth and
creating jobs and reducing poverty."
The $225 million pilot program will combine the resources of the World Bank's
concessional lending arm, the International Development Association (IDA), with
those of its private sector affiliate, the International Finance Corporation (IFC).
During the past year, Treasury Department staff has worked closely with IDA and
IFC, as well as other shareholder governments, to encourage adoption of such a
program.
"Today small and medium businesses in Africa have very few if any options for
financing their growth," said Taylor. "This program will help these businesses to
invest in productivity enhancements and growth. And if these businesses can grow
and demonstrate success, I believe private investment capital will follow. I
appreciate the work of the World Bank Group for overcoming challenges to
implement this idea."
Taylor credited reforms achieved in last year's IDA replenishment negotiations
where the U.S. secured international agreement that IDA resources, which have
traditionally gone only to the public sector, could also be used for private sector
development in IDA-eligible countries. Collaboration between the IFC and IDA is
essential to removing obstacles to private sector led-growth.

PRLSS ROOM

F R O M T H E OFFICE O F PUBLIC A F F A I R S
June 27, 2003
JS-512
Address of Wayne A. Abernathy Assistant Secretary of the Treasury for
Financial Institutions to the 2003 Graduating Class of Mynderse A c a d e m y
Seneca Falls, N Y
Congratulations Graduates! Thank you for welcoming me back to Mynderse
Academy. Twenty-nine years and four days ago, I sat where you are sitting today.
I don't know why it has taken you four more days to graduate than it took us in the
Class of 1 9 7 4 — m a y b e w e were in a hurry, or maybe w e just had fewer snow days.
As I say, I sat where you are, so I know that I am on borrowed time. 1 have some
recent experience with graduations. M y daughter, Cindy, graduated just last week
from Chantilly High School, in northern Virginia. There were present for her
graduation just shy of 600 students, some 13 beach balls, and one inflatable
floating ring—but the ring didn't toss around as well as the beach balls.
Today is a day of celebration. So rather than give a long speech, let me celebrate
with you, and help us all understand what w e celebrate.
First of all, we are celebrating your achievement. Whether you got to this point on
your own steam, or with a lot of pushing, pulling, coaxing and coercion—and I
suspect that a combination of all of that brought you here—you are here today, here
as graduates. You will receive a diploma that has your n a m e on it, because you
met'the standards, you earned it. It took you thirteen years—maybe s o m e of you
more than thirteen years. But you finished, and w e recognize that, and w e salute
you for it.
But who are you, and what do you represent? Here I find something else to
celebrate. As I prepared for today, it struck m e that I might be speaking to the sons
and daughters of some of m y classmates who joined m e in that procession nearly
30 years ago. S o m e of the last names on the list of graduates are very familiar.
But there are new names, names that were not found on the list of the Class of
1974. Last week, as those 600 graduates at Chantilly walked up and received their
diplomas, I was impressed by the names, and the story behind the names. There
were names like Andrews, Baxter, Cohen, and Davenport, Eslinger, Falletti, Larson,
and O'Connor. They were joined by classmates with names like Abawi, El-Oyoun,
Borkowski, and Gonzalez, Katebi, Kim, Nguyen, and Zafar, names from all parts of
the world. They and their parents had all come to America, because all around the
world, America means opportunity, after nearly 400 years, it still means
opportunity. And they had seized that opportunity, and all were there, together,
each and all graduating from high school in America, where else but in America. I
see that here today. And that is something to celebrate.
Now, a third great thing to celebrate today: you are graduating from Mynderse
Academy! You join the ranks of a great tradition. In Washington alone, I have
known graduates from Mynderse Academy working in senior counsels of the White
House, in the halls of Congress, in public policy organizations, major national
newspapers, and two of us from the Class of 1974 have now served as Assistant
Secretaries of the Treasury. Sometimes in conversation the subject of high school
comes up. "Where did you go to high school?" Someone replies, "Well, I went to
Springfield High School," or "East High School," or "Millard Fillmore High School."
"Where did you go to high school?" they ask. I went to Mynderse Academy. I a m
proud to say it still.

I a m proud to say it, because it sounds great: Mynderse Academy. But I a m
proudest to say it because of what it means to m e , because of what I picked up at
Mynderse Academy. You have picked up a lot of things during your time at
Mynderse, much of which will be of value, s o m e things that m a y not.
For the remaining few minutes that I have with you this evening, let me share with
you s o m e of the things that I picked up, that I brought away with m e from Mynderse
Academy, things that have worked for me.
Number one, you can date the girls from Waterloo. In fact, I married one of the girls
from Waterloo, in fact the Valedictorian of the Waterloo High School Class of 1978.
I have often told her that as Valedictorian at Waterloo, she probably would have
done well at Mynderse, probably graduated in the top ten. I really believe that.
Something else that I picked up at Mynderse was the knowledge that, while your
real failures are all your own, your successes involve a lot of helping hands. In a
recent magazine interview I w a s asked the following question: you spent more than
twenty years working for the United States Senate; what would you say w a s your
greatest achievement? I replied that I couldn't n a m e one, not because I w a s not
involved in a lot of successes over that time. I w a s involved in many. I said that I
couldn't n a m e one, because accomplishing anything in the Congress requires the
participation of many people, 51 Senators to begin with. N o achievement w a s mine
alone. Success comes in working together with a lot of people.
Sometimes you are a leader, sometimes an effective assistant, but always you are
working together. A team won't succeed without its members, but there is always a
team. Your success here today is yours, but don't forget the team. And something
else that I have learned since: there's no limit to the good you can do if you don't
worry about w h o gets the credit.
The next of my acquisitions from Mynderse is closely related: your failures, your
real failures, c o m e when you stop trying. N o one from the Class of 1974 will
remember m e as an athlete. I usually got picked last for football, basketball, even
dodge ball—and I w a s pretty good at dodge ball: hard to hit a small target. But one
year, I got gymnastics into m y blood, not that I was good at it, I wasn't. It is that fact
that I w a s so poor at it that is the point. I wanted to do a hand spring. I couldn't do
a handspring. I tried and tried and couldn't do it. S o m e might say that wisdom is
knowing when to quit. I didn't quit. I kept at it. For study halls, I went to the gym
and practiced; after school, I went to the gym and practiced. At last I did it. It
wasn't pretty, but it was a hand spring. Then I quit. But first I succeeded. I learned
from that to keep at it. O n e of those successes in the Senate that I participated in
w a s a major change to our banking laws that Congress had been working on for 20
years. You keep at it, and you will succeed.
Another gem that I picked up at Mynderse: In the end, it does not matter how hard
you try, it is what you produce. A 100 on the Chemistry Regents E x a m is a 100,
whether it w a s easy or hard, and a 60 won't pass. W h y is that? W h y isn't it good
enough just to do your best? There are two reasons. First of all, when you are
paying the bill, you aren't interested in how hard the m a n tries, but whether he gets
the job done. You are not going to be happy if the dentist says, "I didn't finish filling
the cavity, but I did m y best. That'll be $100 dollars. Try not to chew on that side.
Have a nice day." You are not going to have a nice day, whether the dentist did his
best or not.
The second reason why what you do is more important than how hard you try, is
because it makes you try harder. I have achieved many things in m y life that I
couldn't do, or at least that I did not know that I could do. If m y standard w a s just
do m y best, I might never have done those things. But the standard for the hard
things in life—and most of the worthwhile things are the hard things—is get them
done. And doing them brings out the real "best that I can do." W h e n you think
about it, every great accomplishment w a s once an impossible task.
This December, people will gather together on a sand dune on the Outer Banks of
North Carolina, celebrating the one-hundredth anniversary of the flight of the Wright

Brothers. O n e hundred years ago today, and for thousands of years before that, it
was impossible for m a n to fly. Today and every day, millions will fly. The Wright
Brothers didn't settle for doing their best. They kept at it until they flew. What might
you achieve that will be celebrated for a hundred years to c o m e if you aren't
satisfied with just doing your best?
The next gold nugget I will share with you came from a Mynderse Social Studies
teacher. H e taught, you'll never get rich working for your money; you have to get
your money to work for you. A s Assistant Secretary of the Treasury, I spend a
great deal of time teaching that s a m e rule to people all over the country. Today as
you graduate from high school, I feel very certain that you are not thinking much
about retiring. You are thinking more of your first paycheck than you are of your
last.
Do you know what Albert Einstein called "the greatest mathematical discovery of all
time"? Compound interest. W h y would Einstein say something like that, and why
should you be interested? Oh, please be interested—it will be worth your while. I
w a s asked to be inspirational in m y speech, and this is the inspirational part, so pay
close attention. W h e n you earn money, don't spend it all. Save some, invest
some. And what you save and invest will earn interest. Save that, too. Over time,
good times and bad, an investment in the stock market will earn you about 7 % a
year. If you let that ride, and earn interest on your interest, in about 10 years, you
will double your money. That m e a n s — a n d here is the power—$1,000 that you
invest today, at age 18, will be worth $32,000 when you retire at about age 68. If
you wait until you are 28 to invest that $1,000, it will only be worth $16,000 when
you retire. It doubles every 10 years, but you can't add years at the end, only at the
beginning.
There is much more that I brought with me from Mynderse Academy. My basket
w a s full. These are a few. Let m e finish by talking about finishing.
A great American religious leader, Thomas S. Monson, noted a small sign in the
sales window of a furniture store as one day he walked the streets of his h o m e
town, Salt Lake City. The sign said, "Finishers Wanted" In the furniture business,
a finisher is the person w h o puts the final touches on a piece of furniture to get it
ready for sale, to make it attractive and useful to customers. Bishop Monson
thought how that sign is in the window of every business, of every walk of life. The
world has many starters, but it's the finishers w h o are in demand. Without them,
nothing is ever quite done.
Today, there will be tears in you parents' eyes, even your dad's (though he may try
to hide it). Your parents today are finishers. They look on you today with pride,
with pride for your achievement, for what you have finished, but also with s o m e
pride or satisfaction for what they have finished. You see, it is no big deal to
S T A R T a family. In fact, one of the curses in our country is the person w h o merely
starts a family with no goal or plans in mind about finishing one, about raising the
children and seeing them through into strong, honorable, productive adulthood.
Today, with regard to you, your parents have finished something, an important
something that they started and to which they have devoted great effort and time
and perseverance.
And you join them today as finishers. You are all finishers here today. You all can
look with satisfaction upon what you have finished. And it is that finishing that
qualifies you now for a beginning in the next stage of your life.
But remember, being a graduating Senior only qualifies you for becoming a
Freshman in the Fall, but at a newer, a higher level. So let today also be a
beginning, a beginning of something new. Let it be something worthwhile,
something that you might not think you can do but that needs to be done. G o
forward from here, don't settle for just your best. Continue on until it is finished.

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 27, 2003
JS-513
U.S. Calls on Allies to Return Iraqi Assets the Iraqi People

W A S H I N G T O N , D C - U.S. Treasury Secretary John Snow today wrote to Finance
Ministers in 38 countries formally requesting their support in identifying, securing,
and returning Iraqi assets to the Iraqi people.
Secretary Snow reiterated the obligations of all UN member states under UN
Security Counsel Resolution 1483 to transfer any frozen assets of the Iraqi regime
to the Development Fund for Iraq (DFI) and to freeze and transfer to the DFI any
assets belonging to Iraqi state entities, corporations, or former senior regime
officials.
Finally, Snow informed the Ministers that the United States has agreed to help the
Coalition Provisional Authority (CPA) and the Central Bank of Iraq seek out the
assets of certain individuals and entities, including front companies, that may have
acted on behalf of the former Iraqi regime. He added that Treasury General
Counsel David D. Aufhauser would be in contact to provide additional information
about this effort.
Today's formal communications with Finance Ministers follows the designation and
submission to the U N of 55 former senior Iraqi officials on Tuesday. Once final, the
U N designation requires that all member states freeze and transfer to the DFI the
assets of these individuals.
Since March 20, 2003, the U.S. Treasury Department has been engaged in an
effort to locate, secure and return assets of the former Iraqi regime for the good of
the Iraqi people. The United States has already returned over $681 million dollars
of the $1.7 billion in Iraqi assets previously frozen in the U.S. to Iraq where it is
being used to pay civil servants and pensioners, to provide working capital for
government ministries, and to purchase equipment for local police forces.
Additionally, the Treasury Department, working with allies, has located over $1.2
billion dollars in previously unknown Iraqi assets and is working to facilitate the
return of those assets to the Iraqi people through the Development Fund for Iraq.

F R O M T H E OFFICE O F PUBLIC AFFAIRS
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June 27, 2003
JS-514
Treasury Letter and Report to Congress on G-Fund Restoration

Related Documents:
• Letter to Congress
• Letter to G-Fund
• Report

June 27, 2003

The Honorable J. Dennis Hastert
Speaker of the House
U.S. House of Representatives
Washington, D C 20515
Dear Mr. Speaker:
Section 8438 of Title 5 of the United States Code requires the Secretary of the Treasury
to report to Congress on the operation and status of the Government Securities Investment
Fund of the federal employees' Thrift Savings Plan (the "G-Fund") during any debt issuance
suspension period. A s required by statute, enclosed is the report covering the operation and
status of the G-Fund during the most recent debt issuance suspension period. A s explained in
the report, Treasury has fully restored the G-Fund to the condition in which it would have been
had there not been a debt issuance suspension period. A n additional report covering the
operation and status of the Civil Service Retirement and Disability Fund during the recent debt
issuance suspension period will be transmitted to Congress, as required by 5 U.S.C. § 8348, no
later than thirty days after June 30, 2003, the first normal interest payment date for that fund.

Sincerely,

Brian C. Roseboro
Assistant Secretary for
Financial Markets

Attachment

Letter sent to:
Rep. Hastert - Speaker of the House
Rep. DeLay - House Majority Leader
Rep. Pelosi - House Minority Leader
Rep. Thomas - Ways & Means Committee, Chairman
Rep. Rangel - Ways & Means Committee, Ranking Member
Rep. Nussle - Budget Committee, Chairman
Rep. Spratt - Budget Committee, Ranking Member
Rep. Oxley - Financial Services Committee, Chairman
Rep. Frank - Financial Services Committee, Ranking Member
Rep. Davis - Government Reform Committee, Chairman
Rep. Waxman - Government Reform Committee, Ranking Member
Sen. Frist - Senate Majority Leader
Sen. Daschle - Senate Minority Leader
Sen. Stevens - President Pro Tempore of the Senate
Sen. Grassley - Finance Committee, Chairman
Sen. Baucus - Finance Committee, Ranking Member
Sen. Shelby - Banking, Housing, and Urban Affairs Committee, Chairman
Sen. Sarbanes - Banking, Housing, and Urban Affairs Committee, Ranking Member
Sen. Nickles - Budget Committee, Chairman
Sen. Conrad - Budget Committee, Ranking Member
Sen. Collins - Governmental Affairs Committee, Chairman
Sen. Lieberman - Governmental Affairs Committee, Ranking Member

June 27, 2003
Mr. Gary A. Amelio
Executive Director
Federal Retirement Thrift Investment Board
1250 H Street, N . W .
Washington, D. C. 20005

Dear Mr. Amelio:
Section 8438 of Title 5 of the United States Code requires the Secretary of the Treasury
to report to Congress on the operation and status of the Government Securities Investment
Fund of the federal employees' Thrift Savings Plan (the "G-Fund") during any debt issuance
suspension period. The Secretary of the Treasury is also required to send a copy of this report
to the Executive Director of the Federal Retirement Thrift Investment Board. A s required by
statute, enclosed is a copy of the report covering the operation and status of the G-Fund during
the most recent debt issuance suspension period. This report was transmitted to Congress on
June 27, 2003. A s explained in the report, Treasury has fully restored the G-Fund to the
condition in which it would have been had there not been a debt issuance suspension period.

Sincerely,

Brian C. Roseboro
Assistant Secretary for
Financial Markets

Attachment

Report on the Operation and Status of the
Government Securities Investment F u n d
February 20 to M a y 28, 2003
Pursuant to 5 U.S.C. § 8438(h)
June 27, 2003
On February 20, 2003, Treasury's outstanding debt reached the statutory limit of $6,400 billion.
In order to protect the full faith and credit of the United States, the Secretary of the Treasury
employed statutory authority to suspend investments in the Government Securities Investment
Fund (G-Fund) of the federal employees' Thrift Savings Plan. O n M a y 27, 2003, the debt
issuance suspension period ended when President Bush signed legislation increasing the statutory
debt limit to $7,384 billion (P.L. 108-24). The G-Fund was fully restored on M a y 28, 2003.
Legal authority: Section 8438(g)(1) of Title 5, United States Code, authorizes the Secretary of the
Treasury to "suspend the issuance of additional amounts of obligations of the United States [in
the G-Fund], if such issuances could not be made without causing the public debt of the United
States to exceed the public debt limit, as determined by the Secretary of the Treasury." The
statute defines the period of this suspension as a "debt issuance suspension period."
§ 8438(g)(6)(B).
Reporting requirement: Section 8438(h)(1) requires submission of a report to Congress on the
operation and status of the G-Fund during this period. The report is to be m a d e "as soon as
possible after the expiration of such period, but not later than 30 days after the first business day
after the expiration of such period." This document fulfills the reporting requirement of 5 U.S.C.
§ 8438(h). A copy of this report is being concurrently transmitted to the Executive Director of
the Federal Retirement Thrift Investment Board.
Restoration requirement: Section 8438(g) requires the Secretary to make the G-Fund whole upon
expiration of a debt issuance suspension period. Treasury must immediately issue obligations
sufficient to ensure that the G-Fund's portfolio replicates what it would have been if the
suspension had not occurred. § 8438(g)(3). Treasury must also pay the G-Fund, on the first
business day after the expiration of the debt issuance suspension period, the interest that the fund
would have earned. § 8438(g)(4).
Status and operations: As shown on Attachment 1, throughout this period, all or a portion of the
G-Fund's holdings could not be re-invested without exceeding the debt limit. Treasury has n o w
replicated the portfolio the G-Fund would have held but for the suspension, and has paid the GFund $362,478,377.37 for interest it would have earned, accounting for receipts and withdrawals.
The table included as Attachment 1 details the daily and cumulative amounts of G-Fund principal
and interest that were suspended and restored. With the restoration of $50,048,937,000 in
principal on M a y 27 and of $362,478,377.37 in interest on M a y 28, the G-Fund was fully restored
to the condition it would have been in had there not been a debt issuance suspension period.

Brian C. Roseboro
Assistant Secretary of the Treasury
for Financial Markets

Attachment 1
Status of the
Government Securities Investment Fund
February 20, 2003 - May 28, 2003
Principal

Interest

Daily
(Suspension)

or
Date
February 20, 2003
February 21, 2003
February 24, 2003
February 25, 2003
February 26, 2003
February 27, 2003
February 28, 2003
March 3, 2003
March 4, 2003
March 5, 2003
March 6, 2003
March 7, 2003
March 10,2003
March 11,2003
March 12, 2003
March 13,2003
March 14, 2003
March 17,2003
March 18,2003
March 19,2003
March 20, 2003
March 21, 2003
March 24, 2003
March 25, 2003
March 26, 2003
March 27, 2003
March 28, 2003
March 31, 2003
April 1,2003
April 2, 2003
April 3, 2003
April 4, 2003
April 7, 2003
April 8, 2003
April 9, 2003
April 10,2003
April 11, 2003

Restoration
($8,507,443,000)
$397,848,000
($335,035,000)
($3,547,031,000)
$984,291,000
($14,596,304,000)
($6,673,262,000)
($2,984,737,000)
($7,339,309,000)
$16,072,419,000
($9,620,343,000)
$2,750,777,000
($2,287,809,000)
($3,135,587,000)
$3,356,617,000
($11,266,785,000)
$325,049,000
$27,630,889,000
($7,589,594,000)
$5,244,850,000
($16,769,399,000)
($169,192,000)
($1,564,821,000)
($4,290,755,000)
$3,013,849,000
($5,379,948,000)
$2,932,503,000
($6,053,892,000)
$9,563,765,000
($7,025,734,000)
($2,928,151,000)

$0
$0
$1,475,810,000
($1,550,787,000)

$0
$0

Cumulative
(Suspension)
($8,507,443,000)
($8,109,595,000)
($8,444,630,000)
($11,991,661,000)
($11,007,370,000)
($25,603,674,000)
($32,276,936,000)
($35,261,673,000)
($42,600,982,000)
($26,528,563,000)
($36,148,906,000)
($33,398,129,000)
($35,685,938,000)
($38,821,525,000)
($35,464,908,000)
($46,731,693,000)
($46,406,644,000)
($18,775,755,000)
($26,365,349,000)
($21,120,499,000)
($37,889,898,000)
($38,059,090,000)
($39,623,911,000)
($43,914,666,000)
($40,900,817,000)
($46,280,765,000)
($43,348,262,000)
($49,402,154,000)
($39,838,389,000)
($46,864,123,000)
($49,792,274,000)
($49,792,274,000)
($49,792,274,000)
($48,316,464,000)
($49,867,251,000)
($49,867,251,000)
($49,867,251,000)

or
Restoration
($974,811)
($2,788,008)
($968,045)
($1,374,587)
($1,261,961)
($2,934,599)
($11,098,738)
($3,797,831)
($4,588,235)
($2,858,711)
($3,894,542)
($10,796,612)
($3,846,290)
($4,184,215)
($3,823,363)
($5,036,519)
($15,006,219)
($2,029,530)
($2,846,684)
($2,282,441)
($4,087,726)
($12,319,132)
($4,276,139)
($4,738,451)
($4,414,554)
($4,994,121)
($14,037,021)
($5,332,152)
($4,442,109)
($5,223,240)
($5,549,170)
($16,643,012)
($5,548,130)
($5,384,858)
($5,561,181)
($5,515,848)
($16,597,893)

Cumulative
(Suspension)
($974,811)
($3,762,820)
($4,730,865)
($6,105,451)
($7,367,412)
($10,302,011)
($21,400,749)
($25,198,580)
($29,786,815)
($32,645,526)
($36,540,068)
($47,336,680)
($51,182,970)
($55,367,185)
($59,190,548)
($64,227,067)
($79,233,286)
($81,262,816)
($84,109,500)
($86,391,941)
($90,479,666)
($102,798,798)
($107,074,937)
($111,813,389)
($116,227,943)
($121,222,063)
($135,259,085)
($140,591,237)
($145,033,346)
($150,256,585)
($155,805,756)
($172,448,767)
($177,996,897)
($183,381,755)
($188,942,936)
($194,458,784)
($211,056,677)

Principal

Date
April 14, 2003
April 15, 2003
April 16,2003
April 17,2003
April 18, 2003
April 21, 2003
April 22, 2003
April 23, 2003
April 24, 2003
April 25, 2003
April 28, 2003
April 29, 2003
April 30, 2003
May 1,2003
May 2, 2003
May 5, 2003
May 6, 2003
May 7, 2003
May 8, 2003
May 9, 2003
May 12, 2003
May 13, 2003
May 14, 2003
May 15, 2003
May 16, 2003
May 19, 2003
May 20, 2003
May 21,2003
May 22, 2003
May 23, 2003
May 27, 2003
May 28, 2003

Daily
(Suspension)
or
Restoration
$0
$19,017,925,000
$731,954,000
$7,217,009,000
($896,630,000)
($2,946,019,000)
($3,584,406,000)
($1,794,693,000)
$9,320,325,000
($674,531,000)
($1,513,052,000)
($1,085,503,000)
($14,434,585,000)
$15,090,042,000
$8,763,731,000
($3,417,862,000)
($4,725,667,000)
$327,536,000
$5,980,883,000
$378,412,000
($882,019,000)
($8,480,583,000)
$2,973,063,000
($25,408,653,000)
$0
$0
$8,562,323,000
($1,074,472,000)
($7,626,214,000)
$0
$50,048,937,000
$0

Cumulative
(Suspension)
($49,867,251,000)
($30,849,326,000)
($30,117,372,000)
($22,900,363,000)
($23,796,993,000)
($26,743,012,000)
($30,327,418,000)
($32,122,111,000)
($22,801,786,000)
($23,476,317,000)
($24,989,369,000)
($26,074,872,000)
($40,509,457,000)
($25,419,415,000)
($16,655,684,000)
($20,073,546,000)
($24,799,213,000)
($24,471,677,000)
($18,490,794,000)
($18,112,382,000)
($18,994,401,000)
($27,474,984,000)
($24,501,921,000)
($49,910,574,000)
($49,910,574,000)
($49,910,574,000)
($41,348,251,000)
($42,422,723,000)
($50,048,937,000)
($50,048,937,000)
$0
$0

Interest
Daily
(Suspension)
or
Cumulative
Restoration
(Suspension)
($5,527,147)
($216,583,823)
($3,426,218)
($220,010,041)
($3,370,820)
($223,380,862)
($2,569,305)
($225,950,167)
($8,007,648)
($233,957,815)
($2,997,441)
($236,955,256)
($3,396,042)
($240,351,297)
($3,595,829)
($243,947,126)
($2,560,637)
($246,507,764)
($7,907,608)
($254,415,372)
($2,804,865)
($257,220,237)
($2,925,788)
($260,146,025)
($4,529,956)
($264,675,981)
($2,853,788)
($267,529,769)
($5,641,071)
($273,170,840)
($2,260,746)
($275,431,587)
($2,786,072)
($278,217,658)
($2,749,988)
($280,967,647)
($2,085,751)
($283,053,398)
($6,131,812)
($289,185,210)
($2,142,621)
($291,327,831)
($3,085,146)
($294,412,976)
($2,755,148)
($297,168,125)
($5,578,638)
($302,746,763)
($16,736,580)
($319,483,343)
($5,580,870)
($325,064,213)
($4,630,368)
($329,694,581)
($4,750,269)
($334,444,850)
($5,598,154)
($340,043,004)
($22,395,103)
($362,438,106)
($40,271)
($362,478,377)
$362,478,377
$0

PRESS ROOM

F R O M T H E OFFICE O F PUBLIC A F F A I R S
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June 30, 2003
JS-515
United States Treasury Secretary John W. Snow
Remarks Advocating the Renewal of the Fair Credit Reporting Act
June 30 2003
The Treasury Department, Cash R o o m
Washington, D C
Good afternoon, and thanks for joining us at the Treasury. I'd like to thank the
W o m e n in Housing and Finance for their attendance and support today. I'd also
like to thank Treasury Under Secretary Peter Fisher and Assistant Secretary W a y n e
Abernathy for spearheading our efforts to improve the Fair Credit Reporting Act.
The Administration also owes a special thanks to Chairman Oxley, Chairman
Bachus, and Ranking Member Frank of the House Financial Services Committee
along with Chairman Shelby and Ranking Member Sarbanes of the Senate for their
very constructive hearings on the Fair Credit Reporting Act and consumer
protections. Since April, Chairman Bachus alone has held 6 hearings and called 75
witnesses before his subcommittee. W e appreciate their attention to this issue.
The uniform national standards in the Fair Credit Reporting Act expire soon. Since
their passage in 1996, these national standards for consumer credit information
have become a pillar of our economy. Millions of Americans have access to credit
today because of these standards and millions more get credit on better terms
because of them. They have lead to the democratization of credit and the miracle
of modern credit markets, which do so much for average citizens. The widespread
availability of credit on reasonable terms helps to keep this economy strong. It is
important that the uniform national standards of the Fair Credit Reporting Act be
extended and m a d e permanent. The reason for today's event is to express the
Administration's strong support for doing just that - renewing the standards and
strengthening the consumer protections in them.
A hallmark of our country is readily available credit. In fact, it would not be too
much to say that credit is as American as apple pie. Great advances in financial
services over the past few decades have opened the doors to credit for Americans
across the board. It seems so basic that w e take it for granted, but as integral part
of what makes our economy so successful is our confidence in financial services
such as credit cards, mortgages, and auto loans.
If there is any question on that score, just consider how all three have helped the
American economy withstand the serious shocks we've experienced over the last
three years - a recession, 9-11, homeland security, war in Iraq and so on.
The availability of credit improves peoples' lives greatly and gives them a degree of
economic freedom that is otherwise unimaginable. Because of these credit
products, Americans have an unprecedented level of economic freedom and that
freedom - the ready availability of credit - depends on business's instant
nationwide access to accurate, reliable consumer information.
The national uniform standards of the Fair Credit Reporting Act serve consumer
interests in two ways. First, they expand the opportunity for every consumer to

access credit and financial services - essentially, they m a k e your reputation as a
borrower portable, so that you don't have to establish your good n a m e from scratch
in every city you visit, or every store where you shop. Second, the national uniform
standards work to ensure that the consumer's personal information is more
accurate and secure. The accuracy allows lenders to price credit fairly, and to
extend credit to those w h o might not have been approved in the past. The security
limits the ability of the unscrupulous to abuse private data.
As Congress begins to consider the permanent renewal of the national uniform
standards of the Fair Credit Reporting Act, w e would like to suggest a few ways to
m a k e these standards even stronger. With the right additions, w e can better
protect consumer financial data from fraud and abuse, while enhancing the quality
and integrity of that information.
The first priority for the renewed national standards is security, because the
greatest threat to consumers today is the growing menace of identity theft. Identity
theft is far more insidious and harmful to our national welfare than m a n y realize. It
attacks the trust and confidence that nurture our open economy, even as it destroys
individual lives. Identity thieves routinely prey on the vulnerable - families of the
recently deceased, seniors, veterans, and m e n and w o m e n serving our nation
overseas.
The wretched depravity of some identity crimes defies the imagination. In a ring
stretching from N e w Jersey to California, a healthcare worker in cahoots with bank
insiders and mortgage brokers got the names of terminally ill hospital patients,
forged their identities, drained their bank accounts, and then bought houses and
cars in their n a m e s - stealing their identify and looting their finances.
Another recent case involved a rash of scammers posing in military uniforms who
visited the wives of soldiers deployed in Iraq. They falsely informed the wives that
their husbands had been seriously wounded. The con artists then tried to collect
personal information about the soldiers from the distraught wives, to enable the
scammers to use the solders' identities and steal the families' savings.
In other cases, thieves have impersonated representatives from well-known
charities, or used n a m e s that sound like well-known charities to collect donor
information - all for the purpose of emptying the accounts of the duped donors.
One of the worst aspects of these crimes is that they are often far-advanced by the
time they are discovered - with an unexpected failed charge, a surprising negative
bank balance, or a rejected job application - but the consequences of these crimes
for the victims can linger for years, or even a lifetime. Extensive d a m a g e to a
person's credit can be as hard to cure as it is to prevent. H o w do you prove you are
the real you, after someone else has stolen and ruined your n a m e ? Recovering
one's identity is a long, stressful and painful process. W e need to m a k e it more
difficult to take one's identity and much easier to reestablish one's identity.
It is important to realize that such crimes exact a heavy toll on our economy. Every
such crime weighs on our entire system of credit, raising the cost of doing business
and subtly but surely impeding economic growth.
Fighting identity theft requires taking the crime as seriously as its consequences.
That is what w e hope to achieve with permanent national standards for the Fair
Credit Reporting Act. The reforms w e are seeking will give law enforcement more
tools to fight identity crimes. For example, w e would direct the bank regulators to
be on the watch for patterns followed by identity thieves and alert the banks that
they supervise to be on the watch for these patterns. These reforms will also
e m p o w e r individual consumers to protect themselves, and will help victims rebuild
their financial lives more easily.
There are several ways that the renewed Fair Credit Reporting Act standards
should go further to protect individuals against identity theft, and help victims of
theft rebuild their financial lives. For one, w e recommend that the uniform
standards include a national security alert system. Under such a system w e will

allow consumers w h o have been victimized or are in danger of being victimized to
put banks and merchants on their guard against any further efforts to impersonate
the consumer, thus making it much harder to steal one's identity. The Fair Credit
Reporting Act should promote best practices for the sharing of credit information things like blocking fraudulent account information and doing it immediately before
bad information becomes built into the system. And the standards should codify a
policy for credit bureaus to share information immediately when a theft is
discovered
Another goal of the uniform standards of the Fair Credit Reporting Act is to help
consumers learn how to manage their credit to obtain the best outcomes for their
personal finances. In the modern American economy, smart credit management is
an elementary lesson in financial literacy. Every consumer should know the
consequences of poor credit scores and how to raise those scores.
A reformed, pro-consumer FCRA will expand consumer access to free annual credit
reports upon request. Consumers should be offered the right to review their credit
reports for accuracy and completeness. Consumers also should be provided more
information about their credit scores, and instructed on how they can improve their
credit profiles.
We believe that the FCRA should also be amended to direct the Federal Trade
Commission and bank regulators to m a k e it easier for consumers to say no to
unsolicited credit offers. Too often, consumers' rights are hidden from view, and
that should be fixed when Congress reauthorizes the Act.
Ultimately, these reforms strike a balance between consumer protection and the
overall cost of credit to consumers and businesses in our society. W e know that
the gains to the economy and to individual consumers are very large because of
our uniform national standards. W e need to make sure that w e are also providing
the m a x i m u m consumer protection consistent with achieving those economic
gains. Better, uniform standards for information sharing allow more people to
obtain credit when they need it, wherever and whoever they m a y be. Our goal is to
do so while respecting peoples' privacy and protecting their identity.
For example, more than two-thirds of Americans now own their own home, and 9
out of 10 h o m e s are purchased with a mortgage. The Council of Economic
Advisers estimates that without the national uniform standards of the Fair Credit
Reporting Act, 280,000 h o m e mortgage applications that are now approved each
year would be denied - that's $22 billion in new mortgages annually. Access to
financial information that is known to be accurate and reliable is especially
important for approving loans to first-time buyers.
The benefits are most pronounced for lower income and minority families, because
national standards for credit information give lenders the hard facts they need to
m a k e lending decisions they might have walked away otherwise. The percentage
of minorities holding mortgages increased dramatically between 1983 and 2001, at
a rate much higher than for families overall. At the s a m e time the percentage of
minority families with credit cards has risen dramatically as well. O n e study found
that lender utilization of credit scores m a d e possible by national information
standards improved minority borrower approval rates by 2 9 % .
With national uniform standards, folks who earn their good reputations can take
them along wherever they go. That's especially important for immigrants to this
country, w h o are just starting to put down roots.
No other nation compares with the United States in the breadth, diversity and depth
of financial services available to the public.
Secure, reliable information is the lifeblood of all financial services, among which
consumer credit is fundamental. It is not an overstatement to suggest that
preserving the integrity and availability of consumer credit in this economy is
preserving prosperity itself.

W e urge Congress to enact this package of reforms, to ensure that the Fair Credit
Reporting Act becomes an even more effective tool for meeting the financial
interests of American consumers. This proposal is vital to the future of our
economy. With improved national standards, w e can make great strides to protect
our citizens against identity theft, while holding open the doors of credit to many
more American families of every income and background.
Thank you.
Related Documents:
• F C R A Factsheet

Fact Sheet on the Administration's Position on F C R A
All consumers of financial services have two basic, closely related interests that are at the
foundation of the Fair Credit Reporting Act and that should guide any review of the Act's
provisions:
• Security and accuracy of their personal financial information
• Access to credit and other financial services
The Administration proposes a package of changes to the FCRA that appropriately
balance these two interests for the benefit of consumers:
• Enlisting consumers in improving the accuracy of credit reports by
expanding access to free annual credit reports, so that every consumer has
free access each year to his or her credit report.
•
Directing the F T C and bank regulators to m a k e opt-out notices for prescreened credit offers simpler and easier to execute.
•
Providing consumers with information as to h o w their individual credit
scores were derived and h o w they can act to improve them.
•
Granting the F T C specific authority to require notices to consumers w h e n
their credit scores caused them to be offered less favorable rates than for
which they applied.
•
Requiring credit bureaus to reinvestigate consumer disputes forwarded by
intermediaries w h o consolidate credit reports.
In particular, changes to the law should target the primary concern of financial
consumers—identity theft. Reforms should work together to help prevent identity theft,
apprehend the thieves, and facilitate the restoration of the reputations of victims. For this
effort the Administration proposes the following:
• Placing into law a national security alert system, to employ FCRA
information sharing procedures to fight identity theft.
•
O n the basis of a police report or similar document, blocking fraudulent
account information on credit reports immediately.
•
Establishing in the law the "one-call-for-all" policy whereby an identity
theft call to one bureau would be immediately shared with others.
•
A s a foundation for these measures, as well as to preserve credit market
benefits of the national information system, removing the sunsets from the
F C R A uniform national standards scheduled to expire at the end of the
year.

Outside of the F C R A , changes should be m a d e to banking statutes and the Fair Debt
Collection Practices Act that would further the fight against identity theft. The
Administration proposes the following:
Directing the bank regulators to identify and maintain a list of "red flag"
indicators of identity theft and provide the list to financial institutions.
Directing bank regulators to examine banks for use of "red flag"
indicators, with authority to assess fines where losses occur due to failure
of banks to follow designated procedures.
Truncating credit and debit card account numbers, and eliminating
expiration dates, on receipts.
Authorizing debt collectors and creditors to share with identity theft
victims the information upon which they are basing their collections.
Discouraging reintroduction of fraudulent information relating to identity
theft. Debt collectors w h o learn that an account is fraudulent would be
required to notify the creditor. Creditors thereby would be required to
stop the reintroduction of fraudulent information on to credit reports.
Prohibiting creditors, once they learn that a debt w a s caused by identity
theft, from selling or transferring the debt for collection.

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PRESS ROOM

F R O M T H E OFFICE O F PUBLIC AFFAIRS
June 27, 2003
JS-516
Assistant Secretary for International Affairs Randal Quarles United States
Policy Enforcement in the Global Economy Remarks to the Marriott School of
Management, Brigham Young University, Provo, Utah, June 27, 2003

Thank you, Dean Hill. It's a pleasure to be back home in Utah and to be able to
share with you today m y thoughts on the global economy and U S engagement in
international economic affairs.
The Role of Economics in Foreign Policy
From the outset of this Administration, President Bush has stressed that his foreign
policy is based on three essential, interdependent building blocks -military, political,
and economic-with economics by no means in third place. In fact, the first National
Security Presidential Directive named the Secretary of the Treasury - for the first
time - as a formal member of the National Security Council, together with the
Secretaries of Defense and State.
This formal inclusion of economics into foreign policy has certainly resulted in an
elevation of economic issues. But it has also led to a government inter-agency
mechanism-from the cabinet, to their deputies, to technical staff-that allows for
increased coordination between economic and military/political issues.
This increased coordination has been evident in many areas, from the
Reconstruction of Iraq to a heightened emphasis on business-like input-output
performance measures used in policy evaluation, even in areas where quantitative
information is difficult to find or measure.
Overall Economic Policy Goals
So, from the outset of the Administration, international economic policy has been
central to foreign policy. T w o goals have guided the international economic policy
agenda: (1) increasing economic growth, as measured by improvements in
productivity and higher income per capita, and (2) improving economic stability, as
measured by a reduction in the severity, length, and frequency of economic
downturns and crises.
Perhaps the best illustration of how economic policy is formulated is to discuss how
these core principles are applied in every day policy-making. I'd like to turn now to
a brief overview of current conditions, and then continue with an examination of
applied economics - how our principles help guide policy towards developed,
emerging and developing countries around the world.
An Overview of Current Conditions
The most important thing any country can do for global economic policy is to get its
own domestic economic policies right - promoting growth is critical and the U S is
doing its part. The President took this message to the recent G 8 Summit in Evian,
France, and the Finance Ministers underscored it with their own pronouncements
from Deauville.
So let me start with an overview of where we are at the moment in the US. In the
United States, G D P rose by 1.4% in each of the last two quarters. Most analysts,
however, expect a significant pick-up in the second half of this year and over 4 % in
2004, as the President's jobs and growth provisions kick-in. In fact, Treasury
economists are currently expecting annualized growth rates near 3.5% by the later
part of this year. We're starting to see an impact in the markets from the Jobs and
Growth plan, as higher tax-adjusted returns on dividends and capital gains are

factored into stock prices. In m a n y ways, the focus of the plan is on reducing the
cost of capital for businesses, creating conditions for higher potential growth in the
long-term. A lower cost of capital means more capital formation, more investment,
and more jobs. Obviously, the tax plan does a lot for the demand side as well, with
lower marginal rates for all taxpayers and immediate child tax credits for families,
for example.
And there is other good news. Consumer sentiment is up with the end of The war,
interest rates have stayed low keeping the housing market strong, and corporate
profits are rebounding. Productivity has stayed strong, which bodes well for future
income growth and living standards.
The Industrialized Nations: Structural Changes
O n the international front, the industrialized nations are growing far too slowly and
everyone suffers as a consequence. Growth in the G-7 countries outside the
United States has been disappointing. Our neighbor Canada continues to do well,
closely linked as it is to our own economy. But in Europe the outlook for the
Continental countries is decidedly weak, and s o m e forecasters doubt whether the
upturn expected in the second half of this year will occur on schedule. Japan
remains on a path of very low growth, continuing the weak performance of the past
decade.
So, among the developed nations of the world, we expect relatively strong
performance by the United States over the next year and a half, and relatively weak
performance by Japan and Europe. But a healthy world economy needs multiple
engines of growth, so w e remain concerned about weakness in the Euro Area and
in Japan. These countries need to take action, appropriate for their o w n situations,
to m o v e onto a sustained upward path. For both Europe and Japan, structural
changes will be especially important. In Germany, reform emphasizing more
flexible labor markets, is an important first step. For the French, public sector
pension reform is key. Japan also needs to act decisively - to clean up its banking
system, to end deflation, to undertake structural reforms and deregulation of
product markets, and to adopt a credible medium-term fiscal consolidation program.
Emerging Markets: Fostering Growth and Stability
Financial crises in recent years have threatened the progress m a d e by many
emerging markets. Successive crises have constrained global capital flows and
helped leave growth well below its potential. With the central goal of increasing
economic growth and stability, w e must provide strong support for policy reforms.
Latin America and Asia
In Latin American prospects look distinctly better this year. The effects of
Argentina's massive financial crisis and political uncertainty in Brazil in the run-up to
presidential elections were among the factors that heightened regional uncertainty
in 2002 and contributed to negative growth. With Argentina now recovering,
Brazil's new president providing a positive confidence shock through support for
strong policies, and other countries also improving their policy frameworks, the
outlook for 2003 has improved and positive growth is expected this year.
Significant challenges remain, however, if the region is to improve on the
disappointing growth it has seen over a long period.
As we look at the region, we see new leaders - including three I met on my recent
trip with the Secretary to Latin America, Lula, Uribe, and Gutierrez - w h o are setting
a courageous and far-sighted economic course. They have focused on cutting
deficits, lowering the cost of capital and freeing up resources for private sector-led
growth, promoting trade integration, and upholding the rule of law. Throughout the
region, w e see more convergence on core policy imperatives: stability, more
emphasis on markets and the private sector, and a focus on better governance and
reduced corruption.
In East Asia, despite a slowing of growth in the second quarter, mainly due to the
impact of S A R S , prospects are good that growth will rebound during the rest of the
year. The risk of balance of payments crisis has declined significantly as the
lessons of the Asian Financial crisis are absorbed (though to varying degrees) and
most countries have built up foreign exchange reserves and reduced short-term
external debt. China's impressive expansion reflects foreign investment and lowcost labor, as well as strengthening domestic demand. The good news for the

global economy is that China's imports are growing rapidly, along with its exports.
M a n y Asian countries rely more and more on sales to China. Continued growth in
China will be a great opportunity for the world economy: producers in Asia, the U.S.
and elsewhere can benefit greatly from growing exports to China, while consumers
continue to enjoy China's exports.
Crisis Prevention
So, the emerging market countries are doing much better, but the experience of the
last 20 years tells us that w e must be vigilant about the risk of instability or crisis in
these markets. Reducing the frequency of crises and improving emerging markets'
access to private capital flows m e a n s preventing crises before they erupt - to do
this, w e need to better understand potential vulnerabilities and encourage countries
to take early action. Second, w e must reduce the spread of crises from one country
to others. Third, w e are working to m a k e clear that official sector finance is limited
- and not available in large sums that might encourage excessive risk-taking or
provide an escape for policy-makers facing difficult choices. Finally, w e are seeking
to create a more orderly and predictable process for debt restructuring through the
introduction of collective action clauses in sovereign bonds.
No one wants to support the bail out of investors that take risky bets, or of
governments that avoid responsible policies. The first step to avoiding a request for
emergency assistance from a country is to be able to better spot trouble on the
horizon. To this end, one of our primary tools is the International Monetary Fund,
which has a mandate for surveillance of countries' policies and of financial market
trends. The Fund has m a d e important strides in bolstering its own understanding of
risks, and its own capacity for analysis. W e have also m a d e good progress in
sharing the benefits of the Fund's work with market participants - the Fund n o w
has a comprehensive w e b site (www.imf.org) that is a conduit for the public to get
access to real-time financial and economic information on countries, and in m a n y
cases to see the full staff papers that inform the Fund's decision.
When financial crises cannot be averted, policy makers need to consider how to
respond. In the face of recent challenges in Latin America, the international
community demonstrated active but calibrated responses. The United States and
the international financial institutions acted quickly and decisively to pressures on
Brazil in August 2002 as the country headed into presidential elections. W e bet that
the n e w government would continue a strong emphasis on stabilization, and
accordingly, w e supported an IMF program that spanned the election, though
resources were back loaded to maintain an incentive for solid implementation. Our
support for Brazil has turned out to be a good bet.
The United States encouraged Argentina and the IMF to negotiate a short,
transitional program to support and strengthen stabilization progress through the
election period. The idea w a s to lock-in fiscal and monetary policy progress during
this period and in the immediate aftermath of the elections to build confidence and
give the n e w government a chance to formulate its policies. Both policy outcomes
and economic performance suggest that in macroeconomic terms this IMF program
w a s a good decision by the international community.
In Uruguay, we found a good performer with a strong desire to honor its
obligations. But it w a s hit hard by Argentina's severe crisis. The United States and
the international financial institutions formulated a financial package aimed at
avoiding banking sector collapse and a multi-year depression. In addition, the
recent debt exchange m a y well turn out to be a model in cases where debt
restructuring is needed.
Finally, the United States was determined to help Colombian President Uribe meet
security needs as well as the economic and financial challenges the country w a s
facing at the s a m e time. Support from the international financial institutions helped
generate renewed access to markets.
These four country cases demonstrate our willingness to help those committed to
sound policies. W e are not, prepared, however, to back countries that lack a strong
commitment to policy performance.
To further strengthen incentives for strong policies and prudent risk-taking, the
United States has sought to m a k e clear the limits on official finance. The
Administration has emphasized and will continue to insist that the IMF be the key

source of emergency support in the face of financial crises. Creating a more
orderly and predictable process for debt restructuring has also been a priority in
recent months. There can at times be "collective action" problems that prevent a
prompt, orderly resolution of a sovereign debt crisis. It is our strong view that
collective action clauses offer a practical vehicle to mitigate this problem. W e have
seen excellent progress in developing and incorporating collective action clauses in
external sovereign bond contracts. A n initial offering by Mexico incorporated these
clauses and w a s followed by Brazil, South Africa, Korea and others. Emerging
markets that regularly access international financing need to assume rightful
ownership of these issues and help assure a more stable and orderly international
financial system.
The Developing World: Economic Growth is the Key to Poverty Reduction
The persistence of poverty is one of the most difficult challenges the world faces.
Yet w e are committed to tackling it. The Administration's strategy in developing
countries centers on increasing productivity growth, thereby raising living standards
and reducing poverty. Creating economic opportunities is vital not only to the daily
lives of individuals and the economic development of their countries but also to
stability for all of the world's citizens.
The President's commitment to tackling poverty is exemplified by his proposed
Millennium Challenge Account (MCA), which represents a tremendous innovation in
the delivery of development assistance. The M C A brings together the lessons w e
have learned about development over the past 50 years: 1) Aid is more likely to
result in successful sustainable economic development in countries that are
pursuing sound political, economic and social policies. 2) Development plans
formulated by a broad range of stakeholders engender country ownership and are
more likely to succeed and 3) Integrating monitoring and evaluation into the design
of activities ensures that aid is going where it's most effective. The M C A will place a
clear focus on results. Funds will only go to well designed programs that have clear
objectives, measure baseline data, and set benchmarks for both intermediate
outputs and final outcome goals.
President Bush has also set out a new economic growth agenda for the multilateral
development banks that focuses on raising productivity growth, introducing
measurable results, and structuring our contributions to create incentives for
specific outcomes. H e called on the development banks to increase the use of
grants, rather than loans, to the poorest countries, and the banks are already
responding. Grants help poor countries make productive investments without
saddling them with ever larger debt burdens. Recipients perceive grants to be
more valuable than loans, permitting higher performance hurdles and thus
enhancing development effectiveness and results. With strong U.S. urging, both
the World Bank's concessional window - IDA - and the African Development Fund
have agreed to increase sharply the share of resources provided in the form of
grants to the poorest countries, so that 18-21 percent of total assistance over the
next three years will be provided in this form. The poorest countries are eligible for
1 0 0 % grant financing for efforts to.counter HIV/AIDS. Donors likewise committed to
increase grants in the International Fund for Agricultural Development to 10 percent
of total assistance. This year w e will seek to expand the use of grants at other
M D B s , particularly the Asian Development Bank through its facility for the poorest
countries, the Asian Development Fund.
The Primacy of Trade and Investment in an Integrated Economic Policy
Strategy
O n e issue that is of fundamental importance to each category of country - the
industrialized nations, the emerging markets and the developing world - is trade.
Trade liberalization is a fundamental step that all countries around the world can
take to raise growth and reduce poverty. W e are pursuing this objective at a global
level in the World Trade Organization, regionally through the Free Trade Area of the
Americas agreement, and bilaterally through recently signed agreements with
Singapore and Chile, as well as continuing negotiations with the Southern Africa
Customs Union, Morocco, Australia and several Central American nations.
Multilateral trade liberalization is a global tax cut for all consumers and exporters
and an engine for growth, in association with sound macroeconomic, structural
policies. The IMF and World Bank estimate that the gains to developing countries
from eliminating global barriers to merchandise trade alone would be well in excess
of annual aid flows to these countries. To realize these benefits, developing

countries need to reduce their own trade barriers substantially. The World Bank
found that liberalization within the developing world is key to their economic growth,
development, and poverty elimination. Developing countries collect most of their
tariffs on trade with other developing countries. Indeed, 67-80 percent of the
projected income gains from global trade liberalization for developing countries
(some $121 billion in a static model and $424 billion in a dynamic model) are
expected to c o m e from liberalization of their own barriers.
An open investment climate both here and abroad contributes to the widening and
deepening of capital markets, improves the risk profile of developing and emerging
markets, and complements trade liberalization as an engine of growth. For
developing and emerging markets, in particular, an open investment climate,
whereby foreign investors have broad market access and are treated in a fair,
equitable, and non-discriminatory manner is critical to lowering the cost of capital in
these countries. Inflows of foreign capital can improve productivity, induce the
transfer of technology and management skills, create jobs, expand exports, and
enhance import competitiveness. These benefits are not limited to developing and
emerging economies, however. They are important to our own economy, and the
President is committed to maintaining the U.S. Government's long-standing policy
welcoming foreign investment in this country.
The President is also committed to a vigorous negotiating agenda to ensure open
investment policies abroad. The passage of T P A has enhanced the President's
ability to pursue negotiation of international investment agreements. His
administration has launched one of the most sweeping initiatives to encourage
open investment policies abroad ever undertaken by United States. The effort is
both bilateral and multilateral. The investment chapters in the recently concluded
Chile and Singapore FTAs reflect this vigorous agenda.
Rebuilding Iraq
O n e area in which w e are being called upon to apply these principles in a
particularly dramatic way is the reconstruction of Iraq. Rebuilding Iraq and
Afghanistan are clear priorities for the United States. After living under decades of
misrule by S a d d a m Hussein, the Iraqi people at last have an opportunity to forge a
better future for themselves and for their children. W e are committed to assisting in
this effort. Our work is guided by a set of principles that are fundamental to creating
the foundation for sustained economic growth. These principles include open
markets, the rule of law, established property rights, transparent and accountable
governance, and a sound currency.
With these principles in mind we are confronting the many challenges on the
economic front that w e have faced since the end of the war. Government ministries
were largely destroyed by fighting and looting; the Iraqi dinar had depreciated
severely and w e feared a monetary crisis and hyperinflation; basic economic
statistics were non-existent; and the lack of a secure environment restricted
commerce and the work that our staff could do in Iraq. W e continue to deal with
lawlessness, limited ability to communicate, and the loss of technical expertise in
government ministries.
I would like to stress, however, that the reconstruction task is not just, or even
primarily, to rebuild from the consequences of several weeks of war, but rather from
several decades of misrule. The Iraqi economy deteriorated under years of
sanctions, conflict, and economic mismanagement. Income per capita plummeted,
and other measures of wellbeing also declined. The infant mortality rate, for
instance, increased from 50 per 1,000 live births in 1990 to 121 per 1,000 live births
in 2000.
Although the reconstruction task is significant, Iraq has several advantages that will
facilitate efforts to improve the country's prospects. Iraq has a long tradition of
entrepreneurship and diverse commercial activity; already, the streets of Baghdad
are bustling with commerce. In addition, it has abundant h u m a n potential and
natural resources. In combination with a market economy based on rule of law,
established property rights, and economic freedom, these advantages can lead the
way to a brighter, more prosperous future for all Iraqis.
In helping Iraqis achieve such a future, it will be important to draw on lessons
learned from previous post-conflict experiences. O n e such lesson is that rebuilding
societies and economies requires time, patience, and a sustained commitment.

Reconstruction is not amenable to easy solutions or quick exits. The nature of our
engagement will necessarily evolve over time as Iraqis choose their o w n
government and reconstruction tasks are completed, but w e are committed to
ensuring that the people of Iraq have brighter prospects for their future.
Let me review briefly some of the principal steps we have taken, as well as priorities
for future action.
A critical early priority is to promote the establishment of a stable, unified national
currency, which is a prerequisite for establishing a vibrant economy. The preexisting currency situation makes this a difficult task. Several currencies circulate
widely, including the Iraqi, or "Saddam," dinar in central and southern Iraq; the Old
Iraqi, or "Swiss," dinar in the northern part of the country; and the U.S. dollar. O n e
of our main concerns following the end of the war w a s that there would be a large
devaluation of the S a d d a m dinar followed by hyperinflation. In addition, there were
concerns about losing control of currency printing facilities, and fears that the
currency would cease to serve as an accepted m e a n s of exchange.
We took action early to address these concerns. We secured currency stocks and
printing facilities, and the military m a d e public announcements that existing
currencies would continue to be accepted as m e a n s of payment. Although little
price data is available to m a k e assessments about inflation, the information w e
have received on exchange rates indicates that the value of the S a d d a m dinar
against the dollar, while very volatile, has strengthened of late. W e stand ready to
assist in the implementation of whichever long-term currency reform the people of
Iraq choose through a representative Iraqi government.
Another area on which we have placed a great deal of attention is the development
of an integrated and transparent Iraqi government budget. Before the war, the Iraqi
budget w a s a state secret. The lack of transparency and accountability m a d e it
difficult to determine h o w resources were allocated. Enhanced transparency will be
essential in future budget operations, particularly in the area of oil revenues, if
enhanced standards of governance are to be achieved and the Iraqi people are to
hold their elected officials accountable.
In addition, we are evaluating options to establish a "trade credit authority" that will
begin laying the groundwork for commercial activity independent of central
authority. Such a financing mechanism will help stimulate the Iraqi economy by
facilitating foreign trade.
An issue that has received much attention and will clearly have to be addressed is
Iraq's capacity to address the potentially enormous burden of its existing financial
obligations. In the near-term, w e have taken two important steps to address this
situation. First, w e secured agreement from G-7 creditors not to expect Iraq to
service its debt for at least the next eighteen months. Second, w e nave been
working to determine how much debt Iraq owes. In the medium-term, once w e
have a better estimate of the true level of Iraq's debt and its underlying payment
capacity, w e can m o v e forward to develop a comprehensive strategy to deal with
Iraq's official debt.
We have been guided in all of our actions by the goal of creating a stable and
prosperous Iraq and releasing the shackles that have constrained the potential of
the Iraqi people. The challenges are still formidable, but w e remain committed to
achieving an environment in which all Iraqis will have the opportunity to forge a
better future for themselves and their children.
A Few Words on the Financing of Terrorism
Money is the fuel for the enterprise of terror, but it also can be its Achilles' heel.
Conventional wisdom has it that terror is cheap, but this is only based on the most
visible of operating costs. Terrorism is an enterprise involving numerous activities recruiting, transporting, training, arming, targeting, concealing, executing, and
escaping. It takes a great deal of money. Al-Qai'da paid the Taliban $20 million
each year for safe harbor in Afghanistan. If w e stop the money, w e stop the killing.
The Treasury Department has been a key agency in the fight against the financing
of terrorism. Our approach to the problem is multifaceted. Our most public tactic is
the designation and freezing of financial assets. This impedes operations and dries
up the financing pipeline, and has already netted us $138 million worldwide. But

this is only one activity. W e also spend m a n y hours on the vitally important work of
developing and strengthening international standards related to identifying wire
transfers, reporting on suspicious bank activities, and overseeing charitable
donations a m o n g other things. Besides standard setting, w e are working to
institutionalize the protection of the world's formal and informal financial systems by
ensuring that the International Financial Institutions look hard at countries'
safeguards against terrorist finance as part of routine oversight. All of this involves
extensive diplomatic outreach, both bilaterally and multilaterally.
Conclusion
A s you can see, w e have set for ourselves a challenging agenda. But w e are
committed to working through the key issues of our times and to developing a set of
policies that ensures continued growth while laying the foundation for financial
stability. W e will continue to work with our partners around the globe in attempting
to lay the foundation for increased prosperity and improved economic conditions
around the world.
I would be happy to take your questions.

F R O M T H E OFFICE O F PUBLIC A F F A I R S
June 27, 2003
2003-6-27-12-57-9-6972
U.S. International Reserve Position
The Treasury Department today released U.S. reserve assets data for the latest week. As indicated in this table, U.S. reserve assets
totaled $82,961 million as of the end of that week, compared to $82,566 million as of the end of the prior week.
I. Official U.S. Reserve Assets (in US millions)

TOTAL
1. Foreign Currency Reserves

a. Securities

June 13, 2003

June 20, 2003

82,961

82,350

Euro

Yen

TOTAL

Euro

Yen

TOTAL

7,883

13,391

21,274

7,724

13,286

21,010

Of which, issuer headquartered in the U.S.

I °

b. Total deposits with:
b.i. Other central banks and BIS

12,782

2,689

15,471

12,556

2,668

15,224

b.ii. Banks headquartered in the U.S.

b.ii. Of which, banks located abroad

b.iii. Banks headquartered outside the U.S.

b.iii. Of which, banks located in the U.S.

23,401

23,335

11,770

11,737

11,044

2. IMF Reserve Position

3. Special Drawing Rights (SDRs) 2
4. Gold Stock

5. Other Reserve Assets

II. Predetermined Short-Term Drains on Foreign Currency Assets
June13, 2003
Euro

Yen

June 20, 2003
TOTAL

Euro

Yen

1. Foreign currency loans and securities

TOTAL
0

2. Aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the U.S. dollar:
2. a. Short positions

2.b. Long positions

3. Other

III. Contingent Short-Term Net Drains on Foreign Currency Assets
I

June 13, 2003
ll
II

June 20, 2003
n
ll

I
I

Euro

Yen

TOTAL

Euro

Yen

TOTAL

2. Foreign currency securities with e m b e d d e d
options

3. Undrawn, unconditional credit lines

1. Contingent liabilities in foreign currency
1.a. Collateral guarantees on debt due within 1
year
1.b. Other contingent liabilities

3.a. With other central banks
3.b. With banks and other financial institutions
Headquartered in the U.S.
3.c. With banks and other financial institutions
Headquartered outside the U.S.
4. Aggregate short and long positions of options
in foreign
Currencies vis-a-vis the U.S. dollar
4. a. Short positions
4.a.1. Bought puts
4.a.2. Written calls
4.b. Long positions
4.b.1. Bought calls
4.b.2. Written puts

Notes:

1/ Includes holdings of the Treasury's Exchange Stabilization Fund (ESF) and the Federal Reserve's System Open Market Accoun
(SOMA), valued at current market exchange rates. Foreign currency holdings listed as securities reflect marked-to-market values, and
deposits reflect carrying values. Foreign Currency Reserves for the latest week m a y be subject to revision. Foreign Currency
Reserves for the prior week are final.
2/The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF and are
valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest week reflect any
necessary adjustments, including revaluation, by the U.S. Treasury to the prior week's IMF data. IMF data for the latest week m a y be
subject to revision. IMF data for the prior week are final.
3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 30, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 13-WEEK BILLS
Term: 91-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

July 03, 2003
October 02, 2003
912795NQ0

High Rate: 0-885% Investment Rate 1/: 0.903% Price: 99.776
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 50.67%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type Tendered Accepted
Competitive
Noncompetitive
FIMA (noncompetitive)

31,308,506
1,389,108
150,000

15,460,914
1,389,108
150,000

SUBTOTAL 32,847,614 17,000,022 2/
Federal Reserve 5,313,764 5,313,764
TOTAL $ 38,161,378 $ 22,313,786
Median rate 0.870%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
0.840%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 32,847,614 / 17,000,022 = 1.93
1/ Eguivalent coupon-issue yield.
2/ Awards to TREASURY DIRECT = $1,073,005,000

http://www.publicdebt.treas.gov

<fs s~n

PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
TREASURY SECURITY AUCTION RESULTS
BUREAU OF THE PUBLIC DEBT - WASHINGTON DC
FOR IMMEDIATE RELEASE CONTACT: Office of Financing
June 30, 2003

202-691-3550

RESULTS OF TREASURY'S AUCTION OF 2 6-WEEK BILLS
Term: 183-Day Bill
Issue Date:
Maturity Date:
CUSIP Number:

July 03, 2003
January 02, 2004
912795PD7

High Rate: 0.950% Investment Rate 1/: 0.971% Price: 99.517
All noncompetitive and successful competitive bidders were awarded
securities at the high rate. Tenders at the high discount rate were
allotted 41.37%. All tenders at lower rates were accepted in full.
AMOUNTS TENDERED AND ACCEPTED (in thousands)
Tender Type Tendered Accepted
Competitive
Noncompetitive
FIMA (noncompetitive)

28,042,764
1,037,625
275,000

16,687,494
1,037,625
275,000

SUBTOTAL 29,355,389 18,000,119 2/
Federal Reserve 6,286,079 6,286,079
TOTAL $ 35,641,468 $ 24,286,198
Median rate 0.925%: 50% of the amount of accepted competitive tenders
was tendered at or below that rate. Low rate
0.890%:
5% of the amount
of accepted competitive tenders was tendered at or below that rate.
Bid-to-Cover Ratio = 29,355,389 / 18,000,119 = 1.63
1/ Equivalent coupon-issue yield.
2/ Awards to TREASURY DIRECT = $806,927,000

http://www.publicdebt.treas.gov

on Kv. or iTKi.rc .vrr\iRS • i5»o
EMBARGOED UNTIL 11:00 A.M.
June 30, 2003

I'I-.NNSYI.VWU AMAIJI:, N.W.«\VASIIIM; ION.

Contact:

n.< .» 202211 •1:2021 f>22><>Mi

Office of Financing
202/691-3550

TREASURY OFFERS 4-WEEK BILLS
The Treasury will auction 4-week Treasury bills totaling $17,000 million to
refund an estimated $18,000 million of publicly held 4-week Treasury bills maturing
July 3, 2003, and to pay down approximately $1,000 million.
Tenders for 4-week Treasury bills to be held on the book-entry records of
Treasury-Direct will not be accepted.
The Federal Reserve System holds $14,027 million of the Treasury bills maturing
on July 3, 2003, in the System Open Market Account (SOMA). This amount may be refunded
at the highest discount rate of accepted competitive tenders in this auction up to the
balance of the amount not awarded in today's 13-week and 26-week Treasury bill
auctions. Amounts awarded to SOMA will be in addition to the offering amount.
Up to $1,000 million in noncompetitive bids from Foreign and International
Monetary Authority (FIMA) accounts bidding through the Federal Reserve Bank of New York
will be included within the offering amount of the auction. These noncompetitive bids
will have a limit of $100 million per account and will be accepted in the order of
smallest to largest, up to the aggregate award limit of $1,000 million.
The allocation percentage applied to bids awarded at the highest discount rate
will be rounded up to the next hundredth of a whole percentage point, e.g., 17.13%.
This offering of Treasury securities is governed by the terms and conditions
set forth in the Uniform Offering Circular for the Sale and Issue of Marketable BookEntry Treasury Bills, Notes, and Bonds (31 CFR Part 356, as amended).
Details about the new security are given in the attached offering highlights.

0O0

Attachment

3$ 5 If

HIGHLIGHTS OF TREASURY OFFERING
OF 4-WEEK BILLS TO BE ISSUED JULY 3, 2003
June 30, 2003
Offering Amount $17 , 000 million
Maximum Award (35% of Offering Amount)...$ 5,950 million
Maximum Recognized Bid at a Single Rate.. $ 5,950 million
NLP Reporting Threshold
$ 5,950 million
NLP Exclusion Amount
$10 , 700 million
Description of Offering:
Term and type of security
28-day bill
CUSIP number
912795 NF 4
Auction date
July 1, 2003
Issue date
July 3, 2003
Maturity date
July 31, 2003
Original issue date
January 30, 2003
Currently outstanding
$42,079 million
Minimum bid amount and multiples....$1,000
Submission of Bids:
Noncompetitive bids: Accepted in full up to $1 million at the highest
discount rate of accepted competitive bids.
Foreign and International Monetary Authority (FIMA) bids: Noncompetitive bids submitted through the Federal Reserve Banks as agents for
FIMA accounts. Accepted in order of size from smallest to largest
with no more than $100 million awarded per account. The total noncompetitive amount awarded to Federal Reserve Banks as agents for
FIMA accounts will not exceed $1,000 million. A single bid that
would cause the limit to be exceeded will be partially accepted in
the amount that brings the aggregate award total to the $1,000
million limit. However, if there are two or more bids of equal
amounts that would cause the limit to be exceeded, each will be
prorated to avoid exceeding the limit.
Competitive bids:
(1) Must be expressed as a discount rate with three decimals in
increments of .005%, e.g., 4.215%.
(2) Net long position (NLP) for each bidder must be reported when
the sum of the total bid amount, at all discount rates, and the
net long position equals or exceeds the NLP reporting threshold
stated above.
(3) Net long position must be determined as of one half-hour prior
to the closing time for receipt of competitive tenders.
Receipt of Tenders:
Noncompetitive tenders:
Prior to 12:00 noon eastern daylight saving time on auction day
Competitive tenders:
Prior to 1:00 p.m. eastern daylight saving time on auction day
Payment Terms: By charge to a funds account at a Federal Reserve Bank
on issue date.

DEPARTMENT

THE

TREASURY

TREASURY |H| N E W S
J.?*'\^
On-'l( K O K IM'BI.U A H U R S • I5<H> I T N N S Y I . V W I \ AY I M

EMBARGOED UNTIL 11:00 A.M.
June 26, 2003

I!, \.W. • W A S H I \<; T O V

CONTACT:

!>.(.• 2022(1 • (21)2 I (i222<>MJ

Office of Financing
202/691-3550

TREASURY OFFERS 13-WEEK AND 26-WEEK BILLS
The Treasury will auction 13-week and 26-week Treasury bills totaling $35,000
million to refund an estimated $30,560 million of publicly held 13-week and 26-week
Treasury bills maturing July 3, 2003, and to raise new cash of approximately $4,440
million. Also maturing is an estimated $18,000 million of publicly held 4-week
Treasury bills, the disposition of which will be announced June 30, 2003.
The Federal Reserve System holds $14,027 million of the Treasury bills maturing
on July 3, 2003, in the System Open Market Account (SOMA). This amount may be
refunded at the highest discount rate of accepted competitive tenders either in these
auctions or the 4-week Treasury bill auction to be held July 1, 2003. Amounts awarded
to SOMA will be in addition to the offering amount.
Up to $1,000 million in noncompetitive bids from Foreign and International
Monetary Authority (FIMA) accounts bidding through the Federal Reserve Bank of New
York will be included within the offering amount of each auction. These
noncompetitive bids will have a limit of $100 million per account and will be accepted
in the order of smallest to largest, up to the aggregate award limit of $1,000
million.
TreasuryDirect customers have requested that we reinvest their maturing holdings
of approximately $991 million into the 13-week bill and $756 million into the 26-week
bill.
The allocation percentage applied to bids awarded at the highest discount rate
will be rounded up to the next hundredth of a whole percentage point, e.g., 17.13%.
This offering of Treasury securities is governed by the terms and conditions set
forth in the Uniform Offering Circular for the Sale and Issue of Marketable Book-Entry
Treasury Bills, Notes, and Bonds (31 CFR Part 356, as amended).
Details about each of the new securities are given in the attached offering
highlights.
oOo

Attachment

5>o

HIGHLIGHTS OF TREASURY OFFERINGS OF BILLS
TO BE ISSUED JULY 3, 2003
June 26, 2003
Offering Amount $17,000 million $18,000 million
Maximum Award (35% of Offering Amount)
$ 5,950
Maximum Recognized Bid at a Single Rate .... $ 5,950
NLP Reporting Threshold
$ 5,950
NLP Exclusion Amount
$ 5,800
Description of Offering:
Term and type of security
CUSIP number
Auction date
Issue date
Maturity date
Original issue date
Currently outstanding
Minimum bid amount and multiples

million
million
million
million

$ 6,300 million
$ 6,300 million
$ 6,300 million
None

91-day bill
912795 NQ 0
June 30, 2003
July 3, 2003
October 2, 2003
April 3, 2003
$22,916 million
$1,000

183-day bill
912795 PD 7
June 30, 2003
July 3, 2003
January 2, 2004
July 3, 2003
$1,000

The following rules apply to all securities mentioned above:
Submission of Bids:
Noncompetitive bids: Accepted in full up to $1 million at the highest discount rate of accepted competitive bids.
Foreign and International Monetary Authority (FIMA) bids: Noncompetitive bids submitted through the Federal Reserve
Banks as agents for FIMA accounts. Accepted in order of size from smallest to largest with no more than $100
million awarded per account. The total noncompetitive amount awarded to Federal Reserve Banks as agents for FIMA
accounts will not exceed $1,000 million. A single bid that would cause the limit to be exceeded will
be partially accepted in the amount that brings the aggregate award total to the $1,000 million limit. However,
if there are two or more bids of equal amounts that would cause the limit to be exceeded, each will be prorated
to avoid exceeding the limit.
Competitive bids:
(1) Must be expressed as a discount rate with three decimals in increments of .005%, e.g., 7.100%, 7.105%.
(2) Net long position (NLP) for each bidder must be reported when the sum of the total bid amount, at all
discount rates, and the net long position equals or exceeds the NLP reporting threshold stated above.
(3) Net long position must be determined as of one half-hour prior to the closing time for receipt of
competitive tenders.
Receipt of Tenders:
Noncompetitive tenders
Prior to 12:00 noon eastern daylight saving time on auction day
Competitive tenders
Prior to 1:00 p.m. eastern daylight saving time on auction day
Payment Terms: By charge to a funds account at a Federal Reserve Bank on issue date, or payment of full par amount
with tender. TreasuryDirect customers can use the Pay Direct feature, which authorizes a charge to their account of
record at their financial institution on issue date.

8412 828&A0
06/29/05 ^ ( /
f

Full text of Press Releases of the United States Department of the Treasury : Volume 403

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