REPRESENTATIONS REQUIRED FOR IRS RULINGS ON FORMATION OF MASTER/FEEDER STRUCTURES

1 See Institute Memorandum to Accounting/Treasurers Committee No. 4-95 and Tax Committee No. 3-95, dated January 18, 1995. 2 The representations are: (a) The assets transferred to the transferee will satisfy the diversification test of section 368(a)(2)(F)(ii). For purposes of applying this test, "government securities" are not included within the meaning of "securities" in section 368(a)(2)(ii), but are included within the meaning of "total assets" in section 368(a)(2)(F)(iv). (b) The quality and level of risks of the assets transferred by the transferor will be substantially identical to the quality and level of risks of assets that will be held by the transferee after the transfer. For purposes of this representation, the quality and level of risk is determined by taking into account, among other things, the assets’ relative values, nature, and mix. Further, if the transferee promptly acquires assets with transferred cash, the acquired assets are deemed transferred, and that transferred cash is not taken into account as a transferred. (c) The transferee has no plan or intention to depart in any way from the investment strategy or practice of the transferor. For purposes of this representation, the transferee’s investment practice is determined by taking into account, among other things, the relative values, nature, and mix of (continued...) February 28, 1995 TO: ACCOUNTING/TREASURERS COMMITTEE No. 13-95 TAX COMMITTEE No. 9-95 RE: REPRESENTATIONS REQUIRED FOR IRS RULINGS ON FORMATION OF MASTER/FEEDER STRUCTURES ______________________________________________________________________________ As you know, the Institute has been discussing with the IRS possible modifications to the representations the IRS requests when mutual funds adopting a master/feeder structure request a ruling that the fund’s contribution of assets to a master fund partnership will not trigger recognition of gain under Internal Revenue Code 721.1 Section 721(a) provides generally, that no gain or loss is recognized by a partnership or any of its partners as a result of a contribution of property, including money, to the partnership for an interest in the partnership. Section 721(b) provides an exception to the general nonrecognition rule if the transfer results in diversification of the transferor's investment and more than 80 percent of the transferee's assets are readily marketable securities held for investment. The IRS currently requires the funds to make representations concerning the nature of the assets to be contributed and the operation of the master fund following the contribution to demonstrate that no meaningful diversification occurs as a result of the contribution.2 (...continued) assets in its asset portfolio historically and immediately before the proposed transfer. - 2 - Attached is a memorandum the Institute submitted to the IRS proposing new representations to replace those currently required. The memorandum argues that, based on its legislative history, section 721(b) ordinarily should not apply to a regulated investment company’s transfer of its diversified portfolio of assets to a master fund partnership as long as the transfer is made for a legitimate business purpose rather than to obtain diversification of the transferor’s assets. Consistent with that position, the Institute recommended that the IRS adopt the followin representations as a basis for issuing favorable rulings: 1. The transferor RIC satisfies the diversification requirements of section 851(b)(4). 2. The transfer is being made for legitimate business purposes. 3. The transaction is not entered into for a purpose of obtaining diversification, and any resulting diversification is merely incidental to the business purposes of the transaction. The Institute also indicated that it would not oppose a requirement that a transferor RIC represent that its investment objectives and policies are substantially similar to those of the master fund and that there is no present intention to make substantial changes to those objectives and policies. We will keep you informed of further developments. Peter J. Cinquegrani Assistant Counsel - Tax Attachment