ABe%erBBAUniversityofChicagoFederalTaxConference

November12,2016

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Moderator:DavidSchnabel,DavisPolk&WardwellLLPPresenters:

ToddGluth,CooleyLLP

DianaWollman,Cleary,Go%lieb,Steen&HamiltonLLP

Commentators:

BillWilkins,InternalRevenueServiceChiefCounsel

MichaelHirschfeld,CornellLawSchool

Whywehavegatheredheretoday•  Goal:UsingtheBBAframework,developanauditandcollecLon

regimeforpartnershipsthatseekstomaximizetwobasic(butambiLous)goals:–  Determinethecorrectamountoftaxinaworldwheresomerelevantfacts

mayexistatthepartnershiplevel,otherrelevantfactsmayexistatthepartnerlevel(or,inthecaseofapartnerthatisamemberofaconsolidatedgroup,theconsolidatedgrouplevel),andsLllotherfactsmayexistatthelevelofoneormoreupper-Lerpartnerships.

–  ProvidetheIRSwithaneffecLvemechanismtoassessandcollectthatamountoftax.

•  Whatwedid:–  ReviewedtherichhistoryofpartnershipauditproposalsfromTEFRA

throughBBA.LegislaLveproposalstocollect“partnershipshorWalls”/“imputedunderpayments”fromthepartnershipdatebackto1987.

–  DevelopedaproposalthatbuildsonthearchitectureoftheBBAasaplaWormfortoday’sdiscussion.WeareseekingyourreacLonandinput.2

Caveats•  ThisProposalismeanttobeaworkingdra_thatwillbenefitfromour

discussiontoday.

•  WearewellawarethattheProposalisnotperfectbutwealsocauLonthatwethinkthereisnoperfectsoluLon.

•  WethinkthatsomefairnessconcernsareaddressedbygivingtaxpayersadvancenoLceoftherulestheywillbefacingandthusopportunitytocontractualprotectthemselves.–  TaxpayerswhocontracttobeinapartnershipcancontractforprotecLons.

•  WearenotfocusingtodayonwhichaspectsofthisproposalcouldbeimplementedunderthecurrentstatuteandwhichwouldrequirelegislaLvechanges.

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Background

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TEFRARulesSummary

•  Partnership-LevelProceedings.Partnershipitemsaddressedinunifiedpartnership-leveladministraLveandjudicialproceedings.

•  TMP.IRSinteractswithTMP(whomustbeageneralpartner).

•  No7ce,Par7cipa7on&Se;lement.IRCgivespartnersrightstobenoLfiedofaudit,parLcipate,anddissentfromse%lement.

•  AdjustmentsFlowThroughtoPartners.Partnership-leveladjustmentspassedthroughtoreviewed-yearpartners;everyone’sreviewed-yearreturngetstoCorrectReturnPosiLon.

•  Collec7onfromPartners.IRScomputesamounteveryoneowesandthenmustcollectfromreviewed-yearpartners.

•  StatuteofLimita7ons.IRShas3yearsfrompartnership’sfilingdate,whichcanpotenLallybeextendedbyTMP(evenastopartner-level“affecteditems”).

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TEFRAHadManyProblems•  Iden7fica7on&MonitoringofPartners.IdenLfyingand

monitoringpartnerstoprovidenoLce,confirmflowthroughofadjustments,andassessandcollecttax(ordeliverrefunds)canbedaunLng,parLcularlyinwidely-heldpartnerships,Leredpartnerships,andpartnershipswithintereststhatfrequentlychange.

•  PartnerPar7cipa7on.CumbersomeintervenLonofnumerouspartnersinproceedings,andwidespreadrightstoiniLateproceedings.ProceduralprotecLonsforpartnerscomplicateauditsandinviteliLgaLon.

•  ObstaclestoSe;lement.IRSgenerallyneedsagreementofeverypartnertose%le.

•  PartnerRefundClaimsforCorollaryAdjustments.Deficienciesinoneyearfrequentlygiverisetorefundclaimsinlateryears.

•  Mul7plicityofSmallPartnerAdjustments.CostsofcollecLngsmallamountsfrom(ordeliveringrefundsto)manypartnerscanbeprohibiLve,eveniftheamountissignificantintheaggregate.

Result:IRSauditsfewlargepartnerships,mostresultinnochangetothepartnership’sreturn,andtheaggregatechangesaresmall. 6

BBABasics•  EnactedNovember2015(minortechnicalcorrecLonsin

December2015).–  ReplacesTEFRAandELP.

•  Appliestopartnershipreturnsfiledfor2018andlateryears.–  Partnershipswithlessthan100partners,allindividualsorcorporaLons,

mayelectout.

•  Auditisconductedatpartnershiplevel–  IndividualpartnershavenostatutoryrighttoreceivenoLce,

parLcipate,ordisagreewithresult.–  SinglerepresentaLve,whoneednotbeapartner,interfaceswithIRS.

•  Whenauditconcludes,IRScomputesan“imputed

underpayment”thatthepartnershipowestoIRS. –  RoughlyequalsunderstatementofincomemulLpliedLmeshighesttax

rateineffectfor“reviewedyear”.–  CollecLonfrompartnershipavoidsneedtotrackthroughLersof

partnershipstoulLmatetop-Lerpartners.

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3MethodstoReduceAmountPartnershipOwestoIRS

1.   6225(c)(2)AmendedReturns:Oneormorepartnersmayelecttofileanamendedreturn(CRP)forreviewedyear.–  reducesImputedUnderpaymentthepartnershipowes.

2.   6225(c)(3)/(c)(4)Reduc?on:PartnershipmaytrytoprovetoIRSExamthat“highestrateoftax”isnotappropriateratebaseduponcharacterisLcsofpartners.–  reducesImputedUnderpaymentthepartnershipowes.

3.   6226Push-Out:partnershipsends6226noLcetoallreviewed-yearpartnerstellingthemtheymustcomputeCRPandpayIRSdirectly.–  partnershipenLrelyoffthehook. 8

ConcernsraisedaboutBBA•  Unfair,unfair,unfair.•  ConflictswithSubKandothersubstanLvetaxrules–  IncludingimposingenLty-leveltaxandtaxingincomeallocabletotax-exempts

•  IRScanovercollect,collectfromwrongpersons,anddoubletaxsomepartners.

•  Tieredstructuresareespeciallydisadvantagedandfairnesscannotbeachieved.

•  IRScanundercollectandhavenomeansofredress

•  PartnershiprepresentaLvehastoomuchpower•  Well-advisedtaxpayerswillpaylessthantheyshouldand

poorly-advisedtaxpayerswillpaymorethantheyshould.9

Terminology•  “sourcepartnership”:partnershipthatisaudited.

•  “adjustmentyear”:yearauditconcludes.

•  “reviewedyear”:yearthatwasaudited.

•  “ImputedUnderpayment”:amountpartnershipowes.

•  “6226”/“PushOut”:partnership’selecLontopushpaymentobligaLonouttoreviewed-yearpartners.

•  CorrectReturnPosiLon(“CRP”):whatreviewed-yearpartnerswouldhaveowed,andtheirfuture-filedreturnswouldshow,ifreviewed-year1065(andsubsequentreturns)hadbeenconsistentwithauditresults.

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ProposedChangestotheBBA

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BigPictureGuidelinesforProposal•  StartwiththeBBA,includingpartnershipliabilityconcept.•  But,partnershipsandpartnersshouldbeabletogettoCRPif

they(notIRS)arewillingtobeartheadministraLveburdensandcollecLonrisksofdoingso.–  ImpossibletodetermineCRPforallpartnersatpartnershiplevelwithout

partnerscomingintoshowtheiraffecteditems.

–  Burdenshouldbeonpartnershipsandpartners,nottheIRS,tosecurecooperaLonofunwillingpartnerstogettoCRP.

–  AllowpartnerwhocomesintodealdirectlywithIRS,notgothroughPR.

•  OurProposaldoesthisby1.  StarLngwithpartnershipliability,

2.  AllowingpartnerswhowanttogettoCRP(andpaythattoIRSdirectly)todoso(viaPushIn),

3.  Reducingthepartnership’sremainingliability,butleavingpartnershipliableforamountnotpaidbyPush-Inpartners.

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BBABasicFrameworkRetained•  IRSauditspartnershipatpartnershiplevel.– One“PartnershipRepresentaLve”representspartnershipinauditandanycourtproceedings.•  PRdoesnotneedtobeapartner.

– AdjustmentsdeterminedthroughExam/Appealsusualprocedures.

•  Atendofaudit,anImputedUnderpaymentiscomputedandthisisini@allytheamountthesourcepartnershipowestotheIRS.– ButthisImputedUnderpaymentcanbereduced(eventozero)withPushInbypartners. 13

WhatpartnershipiniLallyowescanbereducedviaPushIn

•  Push-InregimecombineselementsoftheBBA’s3differentmethodsofreducingthepartnership’sliability:–  1.6225(c)(2)amendedreturnsbyreviewed-yearpartners,–  2.6225(c)(3)/(c)(4)reducLonsbaseduponreviewed-yearpartner’sstatus,–  3.6226push-outbypartnership.

•  Anyreviewed-yearpartnercanPushIntothepartnershipproceedingandgettoCRPforthatpartner.

•  OncethePush-Inpartnerhaspaid,theadjustmentitemsallocabletothatpartnerareremovedfromthecalculaLonoftheImputedUnderpaymentthatthepartnershipmustpaytoIRS.

•  Partnerships(andtransfereepartners)willlikelyseektocontractuallyobligatereviewed-yearpartnerstoPushIn.

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HowPush-InWorks•  Push-InpartnerdealsdirectlywithIRSExam

–  Sameteamthatauditspartnership,orseparateteamwithexperLseinsubjectma%erorfamiliaritywiththePush-Inpartner(andcoordinateswithteamforauditedpartnership).

•  ProvidesinformaLonsufficienttoestablishCRP–  CRP=theamountoftaxesthePush-Inpartnerwouldoweforreviewedyearandall

yearsbetweenreviewedyearandcurrentyeariftheauditadjustmentshadbeenreflectedinthatpartner’sreviewedyearreturn.•  Takesintoaccountallchangesintaxa%ributesthatwouldhaveoccurredatboth

partnershipandpartnerlevel(includingpartner-level“affecteditems”).•  Takesintoaccountbothincreasesanddecreasesintaxes.•  Becausethemechanicsdonotrelyonamendedreturns,PushIndoesnotafford

partnersanotherbiteatunrelateditemsinclosedreturns,itdoesnotrequirethemtorecerLfythecorrectnessofunrelateditemsinpreviouslyfiledreturns,anditmayavoidtheneedtoamendstateandlocalreturns.

•  Push-InpartnerpaysthenetaddiLonaltaxesduetoIRSExam.

•  AllfuturereturnsforPush-InpartnerpreparedasifCRPiswhatreallyhappened.–  Includingpartnershipoutsidebasis,whichgoingforwardreflectsauditadjustments. 15

PartnershipmustpaytheremainingImputedUnderpayment

•  A_erallthePush-Inpartnershavese%ledupwiththeIRS,anyremainingImputedUnderpaymentmustbepaidtotheIRSbythepartnership.

•  Capitalaccountandoutsidebasisconsequencesofpartnership’spaymentoftheremainingImputedUnderpayment:–  PaymentoftheImputedUnderpaymentisanondeducLble

partnershipexpense(fromBBA)•  Allocatedamongadjustment-yearpartnersinaccordancewithhowtheybearthe

actualeconomiccost.

–  ItemsunderlyingtheImputedUnderpayment•  Allocatedamongadjustment-yearpartnersforpurposesofdeterminingtheir

capitalaccountsandoutsidebasestomatchhowtheyboreImputedUnderpaymentexpense.

–  ItemsunderlyingtheImputedUnderpaymentdonotflowintopartners’taxreturns,however,andthepartnerscannotgetacreditforthepartnership’spaymentoftheImputedUnderpayment.

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Tieredpartnerships:samerules–  Partners’characterisLcscannotbeusedtoreducesource

partnership’sImputedUnderpaymentabsentPushInfromulLmatetop-Lerpartners.

–  Apartnerofthesourcepartnershipthatisitselfapartnership

mayPushInandpayitsshareofthesourcepartnership’sImputedUnderpaymentatthehighestrateoftax.–  PushInbyanupper-Lerpartnershipshi_saporLonoftheImputed

Underpaymentfromthelower-Lerpartnershiptotheupper-Lerpartnership,butdoesnotreducetheaggregateImputedUnderpayment.

–  TheonlywaytoreducetheaggregateImputedUnderpaymentisPushInbytheulLmatetop-Lerpartners.–  PushInbytheulLmatetop-LerpartnersrequiresPushInbyeachintervening

partnershiptoestablishthattheallocaLonsateachLerleadinguptotheulLmatepartnerarecorrect,andthatfuture-filedreturnsoftheinterveningpartnershipsappropriatelyreflectthecumulaLveimpactoftheadjustments.

–  PaymentofImputedUnderpaymentandreflecLonofrelatedunderlyingauditadjustmentsincapitalaccountsandbasisfloatupthroughtheLers.

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WhataboutaPush-InpartnerwhowouldbeenLtledtoarefund?

•  Examples:–  reallocaLons– otheradjustmentsthatincreasededucLons/decreaseincome

– viaimpactonaffecteditemsatpartnerlevel

•  AllowPush-Inpartnertoreceiverefundbutonlya_erIRShasreceivedpaymentofenLreImputedUnderpayment(a_erreducLonforPush-Inpartnerswhopaid).

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PushIncomparedtoPushOut•  Similarto6226Push-OutelecLon.

•  DifferenceisthatPush-InhappensaspartofExamandoccursbeforepartnershipisabsolvedofobligaLontopay.

•  Partnershipisoffthehookonlya_er,andtotheextent,thePush-Inpartnershavethemselvespaid.

•  FromperspecLveofreviewed-yearpartners,PushInshouldbebe%er.–  Notallpartnersneedtodoit.–  Decreasesintaxesandrefundstakenintoaccount.–  OccurslivewithExamteamsomaybemoreefficientthanfiling

informaLonwithadjustment-yearreturn.

•  PartnershipsmustsecurecooperaLonfromtheirreviewed-yearpartners,andtotheextenttheyfailtodosothepartnershipisliablefortheremainingImputedUnderpayment.

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IRSabilitytopursueapartnerdirectly•  Whattodoaboutpartnership-leveldeterminaLonsthatcannotbe

reflectedinanImputedUnderpaymentbecausetheaddiLonaltaxableincomeisrecognizedonlyatthepartnerlevel?–  Examples:disguisedsale,distribuLoninexcessofoutsidebasis,existenceofa

UStradeorbusinessthatmayimpactapartner’snon-partnershipitems,recaptureoccurringatpartner-levelasaresultofapartnershipitem.

•  IRScannotseekpaymentfrompartnershipinthesecasesbecausetheseitemsdonotgointocomputaLonofImputedUnderpayment.

•  IRSmusthaverighttopursuepartnerdirectly–  Eachpartner’sSOLwouldbetolledinrespectofsuchitemsduringBBAaudit.–  IRSwouldneedtocommencepartner-levelproceedingtoassessandcollect.

•  Open:wouldpartnership-leveldeterminaLonbebindingonpartner?Ifyes,shouldpartnerhaveanyrighttobenoLfiedoforparLcipateinpartnership-levelaudit?

•  Note:ifthispartnerPushedIn,wouldneedtodisclosetheseitemsandtheywouldbetakenintoaccountindeterminingthepartner’sCRPandthusamountowedunderPush-In.

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InsufficientAssets&OtherNon-PaymentSituaLons

•  Ifpartnershiphasinsufficientassets(orotherwisedoesnotpayremainingImputedUnderpayment),IRSmayproceedagainstpresentandformerpartnersintheorderandprioritysetoutinthenextslide.

–  Ineachcase,IRSissuesnoLceanddemandandif,a_erprescribednumberofdays,paymentisnotreceived,IRSmayproceedtonextLer.

–  IRSalsoretainsitsotheravailableremedies,including6901andfraudulentconveyancelaws.

•  Warning:thenextslideiscontroversial.21

CollecLonwhenpartnershipdoesn’tpay

–  First,fromthe“clawback”partners:•  AnypersonwhowasapartneratanyLmeonora_erdatepartnership

receivednoLcefromtheIRSofaudit(includingtax-exempts).•  Butonlyuptovalueofnetdistribu@onsreceivedfrompartnershipby

thatpersonduringthatperiod.•  Notlimitedbyreferencetoaclawbackpartner’sshareofpartnership

capitalorprofits(orthetaxclawbackpartnerwouldoweifadjustmentwereallocatedtothatclawbackpartner).

•  Notabouttheclawbackpartnerowingtax;aboutclawingback,intopartnership,distribuLonsofpartnershipassets.

•  Second,fromreviewed-yearpartners(otherthanPush-Inpartners)–  ButonlyfortheirproporLonatesharesoftheImputedUnderpayment

baseduponthereviewed-yearpartnershipagreement’sallocaLons.–  Personwhowasbothareviewed-yearpartnerandaclawbackpartner

couldbesubjecttobothcollecLonregimes.

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ShouldPushInbeinaddiLonto,orinlieuof,exisLngregimestomodifyImputedUnderpayment?

•  Ideally:Replace6226enLrelywithasinglecomprehensivePush-Inregime•  Foreachreviewed-yearpartnerwhoPushesIn,theresultsarethe

sameas6226.•  ThedifferenceisPushInreducescollecLonrisksforIRS

•  atendofaudit,anyamountnotpaidbyreviewed-yearpartnersmustbepaidbythepartnership

•  IRSdoesnotneedtomonitorwhetherithascollectedthroughreviewed-yearpartners’next-filedtaxreturns

–  MulLpleregimesdifficultforIRStoadministerandincreaseriskforfisc•  AlsomoredifficultformanagersofpartnershipstobalanceconflicLnginterests,andcreatespotenLalforthebe%er-advisedand/ormoreinfluenLalpartnerstosteerthepartnershiptodecisionsthatbenefitthemattheexpenseofothers.

•  Realis?cally:retain6226but•  Revisesothatsourcepartnership(andpotenLallyanyintervening

partnerships)mustbackstopanyamountnotpaidbythetop-Lerreviewed-yearpartners.

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ElecLonOut•  Retain100-partnerrule(fornow).

–  GovernmentdataindicatesthiselecLonwilllikelybeavailabletoalargenumberof(albeitsmall)partnerships.

•  ForelecLng-outpartnerships:–  IRSmayauditatpartnership-level(likepre-TEFRA)

•  ButassessmentandcollecLonrequirepartner-levelproceeding.

– ConsidersomeTEFRA/BBA-likefeatures•  ConsistentreporLngabsentnoLcetotheIRS•  SOLrules

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HowisImputedUnderpaymentcomputed?

•  A_erauditadjustmentsarefinalized,IRScomputestheiniLalImputedUnderpaymentusingthefollowingrulesderivedfromthe6225ruleswithsomemodificaLons.

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HowarenegaLveitemsreflectedincompuLngImputedUnderpayment?

•  PosiLveandnegaLveitemsforeachaudityeararene%edonlyiftheyareofthesamecharacterandsource.

•  NegaLveitemsthatcouldbesubjecttolimitaLonontheiruseatthepartnerlevelarenotne%ed.– Detailsastowhatitemstheseareneedstobeworkedout.

•  A_ernepngitemswithinaparLculargroup,netnegaLveitemsareignored.–  E.g.,ifnetposiLveOIandnetCL,imputedunderpaymentincludesthenetOIbutignoresthenetCL.

•  Reallocateddistributedsharesarenotne%ed–  sameas6225(b)(2).

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HowarechangesincreditsreflectedincompuLngImputedUnderpayment?

•  AddiLonalcredits–  DecreaseImputedUnderpaymentonlyifalltherulesapplicabletothecredits(includingrecapture)applyatpartnershiplevel.

•  ReducLonincredits(includingrecapture)–  IncreaseImputedUnderpaymentdollar-for-dollar(evenifthecreditsreportedwouldhavebeensubjecttolimitaLonatthepartnerlevel).

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Whattaxrateisused?•  TakethenetposiLveitemsofeachcharacterandmulLplythemLmesthehighestrateoftaxforanytypeoftaxpayerforincomeofthatcharacterforreviewedyear.–  Individualratewouldincludetaxunder1401/1411.

•  NoreducLonstothetaxratesusedbasedupona%ributesofpartners.– A%ributesofpartnersrelevantonlyviaPush-In.

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