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TAX MATTERS

imposed currently at a rate of 1.39% on private foundation. Among other rulings
a foundation’s net investment income requested, the corporation asked that
for the tax year. One component of net the adjusted basis of the HMO stock
investment income is capital gain net and other assets, the gain on the sale of
income. Sec. 4940(c)(1) provides that to which would be subject to tax under
the extent consistent with Sec. 4940, net Sec. 4940(a), would be equal to their
investment income is determined under FMV upon the conversion.
the principles of Subtitle A of the Code. In the letter ruling, the IRS con-
Generally, the PMTA notes, when sidered that if the corporation sold the
determining gain or loss under Sec. 4940 HMO stock before its conversion, any
from the sale or other disposition of resulting gain would be exempt from
property, basis is determined under the both federal income and excise tax.
No step-up in basis for usual rules of Secs. 1011 through 1023 “Current market conditions,” however,
private foundation’s (Chapter 1, Subchapter O, Part II), sub- were likely to prevent a sale of any
assets ject to the special rules of Sec. 4940(c) substantial amount of the stock during
that time. Because “the Code and the
(3)(B) and disregarding Sec. 362(c) (Sec.
A PMTA disagrees with a prior 4940(c); Regs. Sec. 53.4940-1(f)(2)(B)). regulations are silent on this type of
letter ruling. (Sec. 4940(c)(3)(B) modifies deductions circumstance,” and the transition rule
allowed in determining net investment and its application in a revenue ruling
By Paul Bonner income, and Sec. 362(c) is a special rule “evidence an objective” that unrealized
for the contribution of property other gains for certain assets “should not be
Heirs can generally benefit from a than money to a corporation’s capital.) subject to the [Sec.] 4940 excise tax,”
step-up in basis of inherited assets to The only provision appearing to the letter ruling concluded the stock’s
their fair market value (FMV) as of the support a step-up in basis to FMV of adjusted basis would equal its FMV on
date of the decedent’s death. A recent an organization’s assets upon becoming the date the corporation ceased being a
program manager technical advice a private foundation is Sec. 4940(c) public charity.
(PMTA) makes clear that, for purposes (4)(B), which is a transition rule that In a footnote to PMTA 2022-01, the
of an excise tax, a private foundation applies only to property that was held by Office of Chief Counsel stated that it
resulting from a charitable organization’s a foundation on Dec. 31, 1969 (the date was aware of this letter ruling and sum-
ceasing to qualify as a public charity of Sec. 4940’s enactment), and continu- marily dismissed it, stating, “We believe
cannot claim a step-up upon the conver- ously thereafter until its disposition, the PLR [private letter ruling] 9852023 is
sion — at least not one that happened PMTA notes. The basis of such property incorrect.”
in the last 52 years — despite a prior is its FMV on Dec. 31, 1969. Observation: Chapter 1, Subchapter
IRS letter ruling approving a step-up in The PMTA notes that, under similar O, Part II, of the Code, where private
similar circumstances. facts, IRS Letter Ruling 9852023, issued foundations must look for the “usual
PMTA 2022-01 was issued Nov. 18, in 1998, held that the basis of property rules” in this instance, includes Sec.
2021, and released Feb. 1, 2022. In it, the for the purpose of determining capital 1014, which does provide a step-up
IRS Office of Chief Counsel was asked gain for the Sec. 4940 excise tax was the in basis to FMV. But this provision
whether, for purposes of determining property’s FMV on the date an organi- applies only to property acquired from
capital gain net income under Sec. 4940, zation ceased to be a public charity and a decedent (as alluded to above), so it
the basis of property held by a tax-exempt became a private foundation. would not be usual in the conversion of a
organization under Sec. 501(c)(3) that is The letter ruling involved the tax- public charity to a private foundation.
also a public charity under Sec. 509(c)(1), exempt successor as parent to a publicly Rev. Rul. 76-424, which the letter
(2), or (3) is equal to its FMV on the date traded for-profit health maintenance ruling and PMTA both discussed,
it no longer qualifies as a public charity organization (HMO), of whose stock involved a decedent’s specific and
and becomes a private foundation. the corporation had held more than 40% residuary bequests of stock to a private IMAGE BY YURIY ALTUKHOV/ISTOCK
The resulting foundation would be by vote for less than 15 years. The corpo- foundation, but the revenue ruling based
liable for the excise tax on investment ration planned to undertake transactions its decision allowing a step-up in basis
income under Sec. 4940(a), which is that would result in its conversion to a to FMV not on Sec. 1014 but on the

34 | Journal of Accountancy May 2022