[Code of Federal Regulations]
[Title 26, Volume 9]
[Revised as of April 1, 2004]
From the U.S. Government Printing Office via GPO Access
[CITE: 26CFR1.856-5]

[Page 61-63]
 
                       TITLE 26--INTERNAL REVENUE
 
    CHAPTER I--INTERNAL REVENUE SERVICE, DEPARTMENT OF THE TREASURY 
                               (CONTINUED)
 
PART 1_INCOME TAXES--Table of Contents
 
Sec. 1.856-5  Interest.

    (a) In general. In computing the percentage requirements in section 
856(c) (2)(B) and (3)(B), the term ``interest'' includes only an amount 
which constitutes compensation for the use or forbearance of money. For 
example, a fee received or accrued by a lender which is in fact a charge 
for services performed for a borrower rather than a charge for the use 
of borrowed money is not includable as interest.
    (b) Where amount depends on income or profits of any person. Except 
as provided in paragraph (d) of this section, any amount received or 
accrued, directly or

[[Page 62]]

indirectly, with respect to an obligation is not includable as interest 
for purposes of section 856(c) (2)(B) and (3)(B) if, under the 
principles set forth in paragraphs (b)(3) and (6)(i) of Sec. 1.856-4, 
the determination of the amount depends in whole or in part on the 
income or profits of any person (whether or not derived from property 
secured by the obligation). Thus, for example, if in accordance with a 
loan agreement an amount is received or accrued by the trust with 
respect to an obligation which includes both a fixed amount of interest 
and a percentage of the borrower's income or profits, neither the fixed 
interest nor the amount based upon the percentage will qualify as 
interest for purposes of section 856(c) (2)(B) and (3)(B). This 
paragraph and paragraph (d) of this section apply only to amounts 
received or accrued in taxable years beginning after October 4, 1976, 
pursuant to loans made after May 27, 1976. For purposes of the preceding 
sentence, a loan is considered to be made before May 28, 1976, if it is 
made pursuant to a binding commitment entered into before May 28, 1976.
    (c) Apportionment of interest--(1) In general. Where a mortgage 
covers both real property and other property, an apportionment of the 
interest income must be made for purposes of the 75-percent requirement 
of section 856(c)(3). For purposes of the 75-percent requirement, the 
apportionment shall be made as follows:
    (i) If the loan value of the real property is equal to or exceeds 
the amount of the loan, then the entire interest income shall be 
apportioned to the real property.
    (ii) If the amount of the loan exceeds the loan value of the real 
property, then the interest income apportioned to the real property is 
an amount equal to the interest income multiplied by a fraction, the 
numerator of which is the loan value of the real property, and the 
denominator of which is the amount of the loan. The interest income 
apportioned to the other property is an amount equal to the excess of 
the total interest income over the interest income apportioned to the 
real property.
    (2) Loan value. For purposes of this paragraph, the loan value of 
the real property is the fair market value of the property, determined 
as of the date on which the commitment by the trust to make the loan 
becomes binding on the trust. In the case of a loan purchased by the 
trust, the loan value of the real property is the fair market value of 
the property, determined as of the date on which the commitment by the 
trust to purchase the loan becomes binding on the trust. However, in the 
case of a construction loan or other loan made for purposes of improving 
or developing real property, the loan value of the real property is the 
fair market value of the land plus the reasonably estimated cost of the 
improvements or developments (other than personal property) which will 
secure the loan and which are to be constructed from the proceeds of the 
loan. The fair market value of the land and the reasonably estimated 
cost of improvements or developments shall be determined as of the date 
on which a commitment to make the loan becomes binding on the trust. If 
the trust does not make the construction loan but commits itself to 
provide long-term financing following completion of construction, the 
loan value of the real property is determined by using the principles 
for determining the loan value for a construction loan. Moreover, if the 
mortgage on the real property is given as additional security (or as a 
substitute for other security) for the loan after the trust's commitment 
is binding, the real property loan value is its fair market value when 
it becomes security for the loan (or, if earlier, when the borrower 
makes a binding commitment to add or substitute the property as 
security).
    (3) Amount of loan. For purposes of this paragraph, the amount of 
the loan means the highest principal amount of the loan outstanding 
during the taxable year.
    (d) Exception. Section 856(f)(2) provides an exception to the 
general rule that amounts received, directly or indirectly, with respect 
to an obligation do not qualify as ``interest'' where the determination 
of the amounts depends in whole or in part on the income or profits of 
any person. The exception applies where the trust receives or accrues, 
with respect to the obligation of its debtor, an amount that is based in 
whole or in part on a fixed percentage

[[Page 63]]

or percentages of receipts or sales of the debtor, and the amount would 
not qualify as interest solely because the debtor has receipts or sale 
proceeds that are based on the income or profits of any person. Under 
this exception only a proportionate part of the amount received or 
accrued by the trust fails to qualify as interest for purposes of the 
percentage-of-income requirements of section 856(c) (2) and (3). The 
proportionate part of the amount received or accrued by the trust that 
is non-qualified is the lesser of the following two amounts:
    (1) The amount received or accrued by the trust from the debtor with 
respect to the obligation that is based on a fixed percentage or 
percentages of receipts or sales, or
    (2) The product determined by multiplying by a fraction the total 
amount received or accrued by the trust from the debtor with respect to 
the obligation. The numerator of the fraction is the amount of receipts 
or sales of the debtor that is based, in whole or in part, on the income 
or profits of any person and the denominator is the total amount of the 
receipts or sales of the debtor. For purposes of the preceding sentence, 
the only receipts or sales to be taken into account are those taken into 
account in determining the payment to the trust pursuant to the loan 
agreement.

(Sec. 856(d)(4) (90 Stat. 1750; 26 U.S.C. 856(d)(4)); sec. 856(e)(5) (88 
Stat. 2113; 26 U.S.C. 856(e)(5)); sec. 856(f)(2) (90 Stat. 1751; 26 
U.S.C. (856(f)(2)); sec. 856(g)(2) (90 Stat. 1753; 26 U.S.C. 856(g)(2)); 
sec. 858(a) (74 Stat. 1008; 26 U.S.C. 858(a)); sec. 859(c) (90 Stat. 
1743; 26 U.S.C. 859(c)); sec. 859(e) (90 Stat. 1744; 26 U.S.C. 859(e)); 
sec. 6001 (68A Stat. 731; 26 U.S.C. 6001); sec. 6011 (68A Stat. 732; 26 
U.S.C. 6011); sec. 6071 (68A Stat. 749, 26 U.S.C. 6071); sec. 6091 (68A 
Stat. 752; 26 U.S.C. 6091); sec. 7805 (68A Stat. 917; 26 U.S.C. 7805), 
Internal Revenue Code of 1954)

[T.D. 7767, 46 FR 11268, Feb. 6, 1981]