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1274(d). Sec. 7872(e)(1)(A). If a demand loan is classified as
a below-market loan, the lender has interest income (foregone
interest) equal to the difference between (1) the interest that
would have accrued on the loan using the AFR as the interest rate
and (2) any actual interest payable on the loan. Sec.
7872(e)(2). The parties are treated as though, on the last day
of each calendar year, the lender transferred an amount equal to
the foregone interest to the borrower and the borrower repaid
this amount as interest to the lender. Sec. 7872(a).
During the construction phase of each project, petitioner
made loans to the Tators. Prior to the completion of
construction and the preparation of the amortization schedules,
the Tators did not pay interest on these loans. Therefore, we
conclude that the loans are below-market demand loans.
Petitioner contends that even if the requirements of section
7872 are met, a temporary regulation provides that section 7872
is not applicable, because the loans' interest arrangements have
no significant effect on any Federal tax liability of the lender
or the borrower. See sec. 7872(h)(1)(C); sec. 1.7872-5T(b)(14),
Temporary Income Tax Regs., 50 Fed. Reg. 33521 (Aug. 20, 1985).
To determine whether a loan lacks a significant tax effect, all
facts and circumstances should be considered including the
following factors: (1) Whether the items of income and deduction
generated by the loan offset each other; (2) the amount of such
items; (3) the cost to the taxpayer of complying with the
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