In the following “Expertise Beyond the Numbers” blog post, the SC&H Group Tax Services Team examines the American Institute of Certified Public Accountants’ recent comments on proposed IRS regulations regarding partnership allocations.
On January 29, 2014 proposed regulations were introduced by the Internal Revenue Service concerning the disguised sale rules under Section 707 and allocation of partnership debt under Section 752. The regulations address two separate portions of the code. The 707 portion amounts to clarification and basic housekeeping. However, the 752 section has been shrouded in controversy since the regulations were first proposed.
A partner can generally deduct losses to the extent of his tax basis. In addition, a partner can take distributions without tax effect to the extent he or she has adequate tax basis. Unique to partnership taxation, partners include in their tax basis their share of partnership liabilities. The regulations, originally proposed in January 2014, would redefine partners Economic Risk of Loss (EROL). The EROL concept is important because it determines how liabilities get allocated which is based on a legal responsibility theory and not on the partner’s actual ability to pay.
The 752 portion of the proposed regulations, if finalized in their current form, will introduce numerous requirements and hurdles which will need to be passed in order to support an allocation of liabilities to a particular partner and in doing so will shift tax basis among partners based on a partners actual net worth. Understandably, these regulations, if finalized will have considerable tax effects on partners, partnerships and the manner in which they are administered.
The IRS requested public comments on the regulations when originally proposed. The attached letter issued by the American Institute of Certified Public Accountants (AICPA) answers that request and addresses their concerns and offers some suggestions and recommendations. These recommendations include; consolidating and expanding the net value rules to all partners; providing an anti-avoidance provision; and not requiring continuous documentation to support the net worth of the partner for the full term of the liability, or “first dollar” obligations. For nonrecourse liabilities, the AICPA recommends retaining the existing safe harbors in the current regulations and adding the capital interest safe harbor to the disguised sale regulations.
The full contents of the letter can be found here.
If you have any question about these proposed regulations, please contact the SC&H Group Tax Services team here.