IRC Sect. 704(b): Allocations to Partners Navigating Complex Rules on - PowerPoint PPT Presentation

Presenting a live 110 ‐ minute teleconference with interactive Q&A IRC Sect. 704(b): Allocations to Partners Navigating Complex Rules on Determining Validity of Partnership Allocations TUES DAY, JANUARY 10, 2012 1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific 1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific Today’s faculty features: Brian O'Connor Partner Venable LLP Baltimore Brian OConnor, Partner, Venable LLP , Baltimore Jorge Otoya, S enior Tax Manager, BDO USA , New Y ork For this program, attendees must listen to the audio over the telephone. Please refer to the instructions emailed to the registrant for the dial-in information. Attendees can still view the presentation slides online. If you have any questions, please contact Customer Service at1-800-926-7926 ext. 10 .

Conference Materials If you have not printed the conference materials for this program, please complete the following steps: • Click on the + sign next to “ Conference Materials” in the middle of the left- hand column on your screen hand column on your screen. • Click on the tab labeled “ Handouts” that appears, and there you will see a PDF of the slides for today's program. • Double click on the PDF and a separate page will open. Double click on the PDF and a separate page will open. • Print the slides by clicking on the printer icon.

Continuing Education Credits FOR LIVE EVENT ONLY Attendees must listen to the audio over the telephone . Attendees can still view the presentation slides online but there is no online audio for this program. Attendees must stay on the line for at least 100 minutes in order to qualify for a full 2 credits of CPE. Attendance is monitored as required by NAS BA. Please refer to the instructions emailed to the registrant for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 10 . at 1 800 926 7926 ext. 10 .

Tips for Optimal Quality S S ound Qualit y d Q lit For this program, you must listen via the telephone by dialing 1-866-961-8499 and entering your PIN when prompted. There will be no sound over the web connection. co ect o . If you dialed in and have any difficulties during the call, press *0 for assistance. Y ou may also send us a chat or e-mail sound@ straffordpub.com immediately so we can address the problem. Viewing Qualit y To maximize your screen, press the F11 key on your keyboard. To exit full screen, press the F11 key again press the F11 key again.

IRC S IRC Sect. 704(b): Allocations to Partners t (b) All ti t P t Seminar Jan. 10, 2012 Brian O'Connor, Venable LLP Jorge Otoya, BDO US A bjoconnor@ venable.com jotoya@ bdo.com

Today’s Program Review Of Partnership Allocation Rules S lide 7 – S lide 64 [Jorge Ot oya and Brian O'Connor] Rules For Allocations Related to Non-Recourse Debt S lide 65 – S lide 87 [Jorge Ot oya and Brian O'Connor] Targeted Capital Accounts Vs. Liquidating With Capital S lide 88 – S lide 100 Accounts [Brian O'Connor and Jorge Ot oya]

J Jorge Otoya, BDO USA O BDO USA Brian O’Connor, Venable LLP REVIEW OF PARTNERSHIP REVIEW OF PARTNERSHIP ALLOCATION RULES

Sect. 704(a) And (b) Overview Sect. 704(a) And (b) Overview ( ) ( ) ( ) ( ) • • Sect 704(a): A partner’s share of tax items is determined by Sect. 704(a): A partner s share of tax items is determined by partnership agreement. • Sect. 704(b): Ensures that allocations of partnership items match economics of deal (i.e., ensures each partner receives economic benefit or bears economic burden associated with allocations of income and deduction) 8

Sect. 704(c) Sect. 704(c) And ( ) ( ) And (d) Overview (d) Overview ( ) ( ) • • Sect 704(c): Governs allocations of tax items related to property Sect. 704(c): Governs allocations of tax items related to property that have a tax basis different from the Sect. 704(b) book value • Sect 704(d): Partner is only entitled to deduct allocated losses to Sect. 704(d): Partner is only entitled to deduct allocated losses to extent of partner’s basis in his or her partnership interest at end of year. 9

Basic Basic Principles: Reg Principles: Reg. p p g g § . §1.704 1.704- -1(b)(1)(i) 1(b)(1)(i) ( )( )( ) ( )( )( ) • • Tax allocations of economic income = “distributive share” Tax allocations of economic income = distributive share • • Distributive share determined under general partner’s interest in the Distributive share determined under general partner s interest in the partnership (PIP) test if: – No partnership agreement – Partnership agreement allocations fail substantial economic Partnership agreement allocations fail substantial economic effect (SEE) test 10

Sect. Sect. 704(b) Allocations = Economic Deal Sect. Sect. 704(b) Allocations Economic Deal 704(b) Allocations = Economic Deal 704(b) Allocations Economic Deal • • Sect 704(b) capital accounts are intended to reflect the economic Sect. 704(b) capital accounts are intended to reflect the economic “deal” between the partners and allocate the related tax items according to the same deal. • If the capital accounts do not equal the economic deal, then the economics will govern, and the Sect. 704(b) allocations will not be respected. Tax must follow the economics. 11

Basic Basic Principles: Reg Principles: Reg. . § §1.704 1.704- -1(b)(1)(i) 1(b)(1)(i) • • Three ways allocations can have SEE: Three ways allocations can have SEE: – Satisfy primary, alternative or economic equivalence test under Reg. §1.704-1(b)(2) – Allocations fail safe harbors but are still consistent with facts and Allocations fail safe harbors but are still consistent with facts and circumstances PIP test under Reg. §1.704-1(b)(3). – Allocations do not affect economics (credits, and non-recourse deductions) but are deemed to have SEE under Reg. §1.704- 1( )( ) 1(b)(4) or Reg. §1.704-2. §1 0 2 • In all other cases, distributive share will be reallocated in accordance with PIP. This creates uncertainty. 12

Effects Of Effects Of Other Other Sections: Reg. Sections: Reg. §1 704 §1.704 1 704 1(b)(1)(iii) 1.704-1(b)(1)(iii) 1(b)(1)(iii) 1(b)(1)(iii) • • Allocation may not be respected if fails economic substance Allocation may not be respected if fails economic substance ( Goldstein ). • Allocations of deductions may be suspended due to lack of actual or at-risk basis (§704(d) and §465). t i k b i (§704(d) d §465) • Allocations may be reallocated under common law or statutory assignment of income principles (§§482, 704(e)(2), 706(d)). • Hot asset rules may mandate allocations of gain or loss (Reg. 1.751- 1(b)(2)(ii)). • Recharacterization of debt-to-equity can override prior debt-sourced Recharacterization of debt to equity can override prior debt sourced deductions. 13

Other Possible Tax Consequences: Other Possible Tax Consequences: Reg Reg §1 704 Reg Reg. . §1.704 1 704-1(b)(1)(iv) 1.704-1(b)(1)(iv) 1(b)(1)(iv) And 1(b)(1)(iv) And And (v) And (v) (v) (v) • • Gift tax consequences (§2501) Gift tax consequences (§2501) • Compensation (§§61 and 83) • Capital shifts (Reg. §1.721-1(b)(1)) • Sect. 38 credit recapture (Reg. §1.47-6) • Sect. 704(b) is not applicable if person is not respected as a partner, or to a partner who is not acting in the capacity as a partner. 14

Bottom Line Bottom Line Allocations: Allocations: Reg Reg §1 704 Reg Reg. . §1.704 1 704 1(b)(1)(vii) 1.704-1(b)(1)(vii) 1(b)(1)(vii) 1(b)(1)(vii) • • Gross versus net allocations: Sect 704(b) is applicable to Gross versus net allocations: Sect. 704(b) is applicable to allocations of income, gain, loss, deduction and credit; of specific items of income, gain, loss, deduction and credit; and of partnership net or “bottom line” taxable income and loss. • Effect of net allocations: “Bottom line” allocations of net or residual income are treated as an allocation to such partner of the same share of each item of income, gain, loss and deduction that is taken share of each item of income, gain, loss and deduction that is taken into account in computing such net or “bottom line” taxable income or loss. 15

Capital Account Capital Account Maintenance Maintenance In General In In General In General General • • Contributions (at FMV net of liabilities) Contributions (at FMV net of liabilities) • Distributions (at FMV net of liabilities) • Income: – Increase for taxable income – Increase for non-taxable income • Deductions and losses – Decrease for deductible losses and expenditures. – Decrease for nondeductible, non-capitalizable expenditures • Depreciation and gain or loss on sale of property computed using p g p p y p g book basis 16