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Guest Article

(From the March 3, 2003 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits. Hyperlinks within the article have been added by BenefitsLink.)

IRS Issues Proposed Guidance Relating to Adoption Assistance Programs

The IRS has issued a proposed revenue procedure that would establish certain safe harbors for determining when the adoption of a foreign-born child is final for purposes of the IRC section 137 income exclusion for employer-paid adoption expenses. Notice 2003-15 (February 10, 2003).

Why IRS Guidance Is Needed

In general, employees can exclude from gross income up to $10,000 of employer-paid qualified adoption expenses, subject to certain adjusted gross income limits. The exclusion generally applies in the year the employer pays the expenses through its adoption assistance program. But if the child being adopted is foreign born (i.e., the child is not a U.S. citizen or resident at the time the adoption proceedings commence), the income exclusion does not apply until the year the adoption becomes final.

The purpose of the proposed revenue procedure is to establish safe harbors employers and employees can use to determine when a foreign-born child adoption is final, and thus when the income exclusion applies. (If an employer pays otherwise qualified adoption expenses in years before a foreign child adoption is final, the expenses are treated as paid in the year the adoption becomes final.)

Proposed Safe Harbors

According to Notice 2003-15, the proposed revenue procedure would create the following safe harbors.

IR-3 visa. If a taxpayer adopts an orphan in a full and final adoption and the orphan receives an IR-3 visa, the taxpayer may treat the adoption as final for federal income tax purposes in the taxable year in which the competent authority enters the adoption decree.
IR-4 visa. A taxpayer who receives an IR-4 visa and enters the U.S. under a guardianship or legal custody arrangement may treat the adoption as final for federal income tax purposes in the taxable year in which a home state enters an adoption decree. A taxpayer who adopts an orphan who receives an IR-4 visa and enters the U.S under a simple adoption decree may treat the adoption as final for federal income tax purposes in the taxable year in which a home state court enters a re-adoption decree or the home state otherwise recognizes the adoption decree of the foreign-sending country.
IR-2 visa. A taxpayer who adopts a foreign-born child who receives an IR-2 visa may treat the adoption as final for federal income tax purposes in the taxable year in which a home state court enters a re-adoption decree or the home state otherwise recognizes the foreign-sending country's adoption decree.

For purposes of the safe harbors, the following definitions would apply.

Orphan. A foreign-born child under the age of 16 at the time an immigration petition is filed on the child's behalf who has suffered the death or disappearance of, abandonment or desertion by, or separation or loss from, both parents, or for whom the sole or surviving parent is incapable of providing the proper care and has in writing irrevocably released the foreign-born child for emigration and adoption.
Competent authority. A court or governmental agency of the foreign-sending country with jurisdiction and authority to make decisions in matters of child welfare.
Home state. The state (including the District of Columbia) in which the adopted child and adoptive parents make their habitual residence in the U.S.
IR-2 visa. A visa issued to a foreign-born child adopted while under the age of 16 years who has been in the legal custody of, and has resided with, the adoptive parent or parents for at least 2 years.
IR-3 visa. A visa issued to an orphan after a full and final adoption of the orphan has occurred in the foreign-sending country. An IR-3 visa is issued if: (1) the competent authority of the foreign-sending country severs the parental rights of the biological or any previous adoptive parents and establishes a parent-child relationship between the orphan and the adoptive parent or parents, and (2) both adoptive parents (in adoptions by two parents) or the sole adoptive parent (in adoptions by one parent) see the orphan before or during the adoption proceeding.
IR-4 visa. An IR-4 visa is issued to an orphan if: (1) the competent authority of the foreign-sending country grants legal guardianship or custody either to the prospective adoptive parent or parents or to an individual or agency acting on behalf of the prospective adoptive parent or parents, or (2) a simple adoption occurs in the foreign-sending country.

Comments and Effective Date

The IRS is seeking comments on the proposed revenue procedure. In addition to general comments, IRS is asking for comments on three specific issues, including whether other specified events (such as the date on which a foreign-born child obtains U.S. citizenship) should be treated as safe harbors. Comments must be submitted by June 2, 2003.

The proposed revenue procedure will not become effective until it is published in final form. Until then, the IRS will not challenge the finality of adoptions by taxpayers that apply the proposed revenue procedure in any taxable year within the period of limitation on filing tax claims.

The information in this Washington Bulletin is general information only and not intended to provide advice or guidance for specific situations. Contact your Deloitte advisor for information regarding your specific circumstances.

If you have questions or need additional information about this article and you do not have a Deloitte advisor, please contact Martha Priddy Patterson (202.879.5634) or Robert B. Davis (202.879.3094).

Human Capital Advisory Services, Deloitte LLP, 555 12th Street NW, Suite 500, Washington, DC 20004-1207.

BenefitsLink is an independent national employee benefits information provider, not formally affiliated with the firms and companies who kindly provide much of the content and advertisements published on this Web site, including the article shown above.