TAX COURT OPINION

Case: Historic Boardwalk Hall, LLC, New Jersey Sports and Exposition Authority, Tax Matters Partner
Docket Number: 11273-07
Judge: Goeke
Opinion Type: reported
Filed: 01/03/2011
Pages: 61

136 T.C. No. 1 UNITED STATES TAX COURT HISTORIC BOARDWALK HALL, LLC, NEW JERSEY SPORTS AND EXPOSITION AUTHORITY, TAX MATTERS PARTNER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent Docket No. 11273-07. Filed January 3, 2011. New Jersey Sports and Exposition Authority (NJSEA) formed Historic Boardwalk Hall, to allow PB to invest and Pitney Bowes LLC, rehabilitation of center in Atlantic City, New Jersey. (PB) in the historic the East Hall, a popular convention The East Hall underwent a significant rehabilitation during the years at 1065, U.S. Return of Partnership Income, 2001, and 2002, Historic Boardwalk Hall claimed qualified rehabilitation expenditures and allocated those expenditures to PB, allowing PB to claim historic rehabilitation tax credits pursuant to sec. 47, for 2000, I.R.C. issue. On Forms R issued an FPAA asserting alternative grounds for denying PB the claimed rehabilitation tax credits. R's is that NJSEA sold the overarching argument rehabilitation tax credits to PB for a fee. R also SERVED JAN -3 2011 - 2 - argues that the accuracy-related penalty púrsuant sec. 6662, IRC, applies to Held: istoric- Boardwalk Hall was not a sham and s d d not lack economic substance.- Held, further, PB did become a partner in Históric Boardwalk Hall. Held, further, NJSEA did transfer the benefits and urdens of ownership of the East Hall to Historic Boardwalk Hall. Held, further, -the sec. 6662, IRC, penalty is not appl ic able . Kevin M. Flynn and Michael Serdof f for petitioner Daniel Rosen; Kurt Ruben Molly Donough, and Sashka Koleva, for respondent. COEKE, udge: Respondent issued a notice o fina partnership administrative adjustment (FPAA) to Historic Boardwalk Hall LLC (Historic Boardwalk Hall) . The issues for decis on are: (1) Whether Hist oric Boardwalk Hall is a shain; (2) whether Pitney Bowes was a partner in Historic Boardwalk Hall; 3) whether New Jersey Sports and, Exposition Aut hority (NJSE or petitioner) transferred the benefits and burdens of ownership of the East Hall to liistoric Boardwalk Hall and - 3 - (4) whether Historic Boardwalk Hall is liable for section 66621 accuracy-related penalties for years 2000, 2001, and 2002. FINDINGS OF FACT Some of the facts have been stipulated, and the stipulations of fact and the attached exhibits are incorporated herein by this reference. NJSEA was created by the New Jersey State Legislature in 1971 and is a State instrumentality. NJSEA was initially formed to build, own, and- operate.the Meadowlands Sports Complex in East Rutherford, New Jersey NJSEA's jurisdiction was expanded by the New Jersey State Legislature in January 1992 to include the Atlantic City Convention Center Project. That project authorized NJSEA to build, own, and operate a new convention center and to own and operate the East Hall (the East Hall is also known as Historic Boardwalk Hall). To carry out the new Convention Center Project, the Atlantic County 'Improvement Authority (ACIA) and NJSEA entered into a lease for the East Hall whereby NJSEA leased the- East Hall for a term of 35 years at a rent of -$1 per year. Shortly thereafter, NJSEA entered into an operating agreement with the Atlantic City Convention Center Authority (ACCCA). * ACCCA was initially formed All section references are to the Internal Revenue Code (Code), and all Rule references are to the Tax Court Rules of Practice and Procedure. to. proinote tourism in the Atlantic City region nd eit would serve" as day-to-dÁy managet of, the*Êast HÉll. Läter NJSEA and ACCCAr entered into a management agreement with Spectator Managementa,Group (SMG) . SMGewas well known for managing, marketing,- and, developing public assembly facilities, includ ng c'onvention andispecial event centers. NJSEAucontracted to have SMG manage the East +Ìall beöause NJSEA felt tihet a private company would ibehable to promote oversee, andemanage the East Hall, the West Hall (a facility adjacept to the. East Hal-l)s and the -soon-to-be cons'tr cted conventiori ce ter The management agreement stated that SMG would piovide opei-ations, marketing, f inance, employee supervision, adininistrat iñe,; :ahd óther .general management services . . a - . e a SMG managed the East Hall day to day SMG maintained saa system of accounts for Historic Boardwalk Háll and Historic Boardwalk Hall's annual auclitedafinancial statements)wer based on this asystem of accounts . NAlthough SMG s initïal agreement pas for a '3-year term, 1 it has Meen extended. 1. Overview of the T ansaction lat ]!ssue n * : Historic Boardwalk Hall was orgànized under the laws of the State of New Jersey as aglimitedAiabil-ity companyson/June 26, 2000 . NJSEA was the sole member 6f Historic Boardwalk Hall at formation. On September 14, 2000, PB Historic Renovations, LLC (Pitney Bowes),2 was admitted as a member of Historic Boardwalk - 5 - Hall. Historic Boardwalk Hall's purpose was to allow Pitney Bowes to invest in the rehabilitation of the East Hall. Because the East Hall was a historic structure, this rehabilitation project had the potential to earn -section 47 historic rehabilitation credits.3 Historic Boardwalk Hall's formation would allow Pitney Bowes, a private party, to earn these historic rehabilitation credits from the rehabilitation of a public, governmentally owned, building. Respondent argues that in substance the transaction was akin to NJSEA's selling rehabilitation credits to Pitney Bowes. To that end, respondent determined alternatively in the FPAA that Historic Boardwalk Hall is a -sham, that Pitney Bowes was never a partner in Historic Boardwalk Hall, and that NJSEA never transferred ownership of the East Hall to Historic Boardwalk Hall. A finding for respondent on any of these theories would prevent the section 47 rehabilitation credits from flowing to Pitney Bowes; instead they would flow to NJSEA. 2PB Historic Renovations, LLC, was a limited liability company whose sole member during all relevant periods was Pitney Bowes Credit Corp. During all relevant Credit Corp. was a wholly owned subsidiary of Pitney Bowes Corp. For simplicity, we refer to PB Historic Renovations, LLC, Pitney Bowes Credit Corp., and Pitney Bowes Corp. as Pitney Bowes. times, Pitney Bowes 3Sec. 47 allows for a Federal the qualified rehabilitation expenditures with respect certified historic structure. tax credit of 20 percent of to any - 6 - Petitioner contends instead that transactions like the one at issue were promoted and supported by Congress and are not shams. 2. 'East-Hall History - - , , , Construction of the East Hall began, in,1,926 and was, completed in 1929. It is loca_ted prominently- at the center of the,At+lanti'c City, New Jersey, Boardwalk and faces the Atlantic Ocean.a The East Hall was;a popular event space of exceptionally large ,dimensions,-featuring an auditorium with a 130-foot ceiling and over 250,000 square feet of floor space. After it was completed, the.East Ha_ll hosted ,a-number of public events, including hockey matches, professional football games,p and equestrian shows. The East Hall also hosted trade shows, conferences, meetings, and musi.cal performances, including those sof the Beatles and the Rollling Stones. Beginning in 1933, the East Hall.hosted the.Miss America pageant. The East, Hall was listed as a National Histor.ic Landmark by the U."S. Department of the Interi-or on February 27, 1987. In - January 1992 the New Jersey State Legislature authorized NJSEA to undertake construction of the new convention center and renovation of the East Hall. Once the new convention center was complêted, it'was expected to become the primary locati-on'for flat-floor conventions like the ones that had until that time been ßeld in the East Hall. * As a result,'~the East Hall would no - 7 - longer draw those types of events and wouldrhaverno use unless renovated. Once construction began on the new convention center, representatives of NJSEA and other New Jersey State officials began to study and make plans for the future of the East Hall. Because it had become run down, the'only way to make the East Hall usable again was to convert it to a special events facility that could host concerts, sporting events, family shows, and other civic events. This conversion would require thit the East Hall be substantially rehabilitated." State officials-in New Jersey decided to rehabilitate the East Hall and convert it into a mixed-use space. Rehabilitation of the East Hall began in December 1998. It was to be completed in four phases: (1) Construction of scaffolding suspended from the auditorium's ceiling to facilitate rehabilitation of the ceiling; (2) removal of auditorium ceiling tiles and abatement of asbestos; (3) reconstruction of the ceiling using glass-fiber reinforced tiles and high-performance acoustical perforated aluminum tiles; and (4) construction of a new permanent arena seating bowl, construction of support services and patron amenities beneath the seating bowl, and restoration and historically accurate.painting of the Hall's interior. To pay for a ,portion of the renovation. costs, on/Juner15,* 1999, NJSEA issued about $49.5 million of State bonds. In additi.on, NJSEA received approximately $22 million from the New Jersey, Casino Reinvestment Development Authority . In the absence of- an equity investor, the rehabilitation would have been funded, entirely by the State.of New:Jersey. 3 . Sovereign Capital Resources , LLC In late 1998, Paul -Hoffman (Mr. Hoffman) of Sovereign Capital Resources, LLC , (Sovereign),, contacted, representatives of NJSEA. , Sovereign was founded by Mr. Hoffman ,and a partner in 1995. Mr. H,offman contacted NJSEA because he had 1 arned of the East Hall renovation; one of Sovereign' s business ilines Was raising, equity for,historicr rehabilitations. NJSEA engaged the services of Sovereign.to act as -its financial advisér in finding an equity investor for the East Hall' s rehabilitatioír. y a Respondent argues that this was not an investment, but rather Sovereign was facilitating a sale of the historic tax credits generated by the East Hall rehabilitation. , NJSEA engaged several law firms sto review and opine on' a 11 certain aspects of the transaction: (1) ; Wol f , BlockdSchorr, 4The New Jersey Casinò Reinvestment 'Developfnent Authority is a State agency created by the New Jersey State Isegislature that uses funds generated from governmental charges imposed on the casino industry for economic development and community projects throughout of a grant . The funds given to NJSEA were in tihe form the State. Solis-Cohen, LLP; (2) Gibbons, Del Deo, Dolan, Griffinger & Vecchione (Gibbons, Del Deo); and (3) Wolf & Sampson, P.C. NJSEA also engaged the accounting firm of Reznick Fedder & Silverman, P.C. (Reznick), to provide counsel on the rehabilitation credit transaction. 4. Confidential Offering Memorandum Sovereign prepared a confidential offering memorandum as part of its services to NJSEA. The memorandum was prepared using information provided to Soverign by NJSEA, Reznick, and others and included financial information for the rehabilitation of the East Hall and for its operation after the rehabilitation was completed. The financial projections in the confidential offering memorandum were based on certain assumptions, most importantly that revenue from the East Hall would increase 3 percent per year. The financials projected that the eventual partnership would have positive net operating income from 2002 through^2009. That net operating income would be zeroed out through lease payments, an increase in a "replacement reserve", the investor member's 3-percent priority distribution, and an incentive management fee, to the extent there was cash to make- those payments. T e confidential offering memorandum a]so, informed prospe tive investors, that-Historic JBoardwalk Halle would hav.e taxable losses for at, least the years 2002 -through 2009. The financial projections attached to the amended and restated operating agreement, discussed moré fully below, are different from those attached to the confidential offerings memora dum. The memorandum was -sent to 19¥ corporations and described Ethe transaction as, a "sale" of tax credits . The memorandum indicated that t e private investor' s equi y investment would bei used to pay, a development fee to NJSEA, with any surplus remaining with Historic Boardwalk Hall. Four corporations showed interest ,in joinin the ti-ansaction, and each submitted a bid detailing how much it would be willing to invest depending on the rehabilitation credits it would earn. ¿Eventtiallye Pit-ney4Bowes' offer was accepted and it was selected to invest in Historic Board alk Hall. 5. Formatifon of Historic Boardwalk Hall Historic Boardwalk Hall, organized on June 26, 2000 elected to bedtreated a,s a, partnership for Fe'deral income tax purposes. NJSEA was dhe sole member at formationrand executed ari operating agreenent for the East Hall, as explained above. When Pitney Bowes joined Historic Boardwalk Hall on September 14, ,2000, NJSEA and Historic Boardwalk Hall signed an amended and restated - 11 - operating agreement (the AREA). The AREA identified NJSEA as managing member and Pitney Bowes as investot member of Historic Boardwalk Hall. Pursuant to the terms of the AREA, Pitney Bowes has a 99.9-percent ownership interest in Historic Boardwalk Hall. NJSEA owns the remaining 0.1 percent. Profits, losses, tax credits, and net cashflow are allocated to Historic Boardwalk | Hall's members according to their ownership interests. The AREA stated that Historic Boardwalk Hall was formed to acquire, develop, finance, rehabilitate, own, maintain, operate, license, and sell or otherwise dispose of the East Hall for- use as a special events facility to hold events, including but not limited to, spectator sporting events. The AREA made -clear that the potential rehabilitation tax credits were an integral part of the transaction but did not use the term "sale". It referred to both Pitney Bowes and NJSEA as members of Historic Boardwalk Hall. Article 3.01 of the AREA reiterated the purpose of Historic Boardwalk Hall and also granted Historic Boardwalk Hall the authority to take actions nece-ssary to carry out its purpose. The AREA included an additional set of financial information. The most important difference between these financials and those attached to the confidential offering mémorandum was the inflation factor applied to the East'Hall''s revenues. The financial projections attached to the AREA used a 12 - 3 . 5 -percent inf lator , rather than thes 34. 0 -percent - inf lator in the confidêntial offe'rlng memorandum. .Also, the soperating assumpi-ions underlying the updated financials, assumed higher servioè income, parking revenue,. and rnovelty revenue in the first year o operations Operating expenses for- -the nitial years remained the same . As a result of higher projected fevenues, the. statement of projecged cashflows attached to the AREA showed higher payments to they equity, investor and also payments on the acquisition and - constaction loans discussed below. Chese finanéials, h weëer, still cesulted in a staxable net loss 6. Lease and ,Sublease of the East Hall Äsediscussed above, NJSEA leased the East H 11 from ACIA for a 35 ear, term. , On September 14, 2000, NJSEA amended its lease agreegent. to extend the lease termountil Noyember 11,( 2087. On that date, NJSEA and Historic Boardwalk Hall entered ;into two agreenîents. First, NJSEA ass sublessor and Histo ic Boardwalk Hall as suble.ssee entered into a sublease of the East Hall whereby NJSEA subleased the property to Historic Boardwalk Hall. Second, NJSEA and †Iistoric ;Boardwalk Hall entered. into a lease agreements which the parties treated as a sale sand putchase for Federal , S tate , and ,loáal income taxopurposes . Pursuant3to , the lease tagreementy Historic Boardwalk Hall purportedly acquired ownership of Žhe East,Hall. - 13 - Historic Boardwalk Hall paid for the East Hall by an acquisition note in the amount of $53,621,405. The acquisition note was secured by a mortgage on the property. The amount of the acquisition note represented the total expenditures that NJSEA had made through that date in renovating the East Hall. The acquisition note bears interest at 6.09 percent per year and provides for level annual payments of $3,580,840 through the year 2040, to the exten~t Historic Boardwalk Hall has sufficient cash to make the-annual payments. Also on September 14, 2000, NJSEA entered into a construction loan -agreement with Historic Boardwalk Hall to lend amoúnts to the partnership from time to time to pay for the remainder of renovations to the East Hall. At that time, NJSEA agreed to lend $57,215,733 to Historic Boardwalk Hall. NJSEA's obligation to lend to Historic Boardwalk Hall was evidenced by a mortgage note and a second mortgage on the property. 7. Contributions to Historic Boardwalk Hall Pitney Bowes made capital contributions to Historic Boardwalk Hall and also lent funds to the partnership. Pursuant to the AREA, Pitney Bowes was to make four cap'ital contributions totaling $18,195,757. Pitney Bowes made the following contributions to Historic Boardwalk Hall: Date / 9/14/00 12/19'/00 1/17/01 10/30/02 2/12/04 - 14 - Amount $650 , 000 3 660 65 3,400,000 10,467,849 21,173 182 The Dec. 19, 2000, and Jan. 17 2001, apital contributions were together considered Pitney Bowes sécorid caþital contribution, even though the coritribûtion was niadd on t wo s'eparatlê datås. A portion of Pitney Bowes' fourth capital e contribution was paid and is ourrently being held i escrow. Pitney Bowes also nade an investor loan, of. $1 1 nillion to - Historic Boardwalk Hall on September, 14, 2000 . The þrincipal amount of the investor ldan2 was increased to $1 218.000 on or around October 30, 2002. Pitney Bowes wast not required to make the second third, or fou th capital contribution if certain requireme ts in the AREA were not satisfied. The AREA provided that Pitney Bowes' capit 1 contributions 2 ewere to be úsed to pay down t;he principal on,the acquigition note. 7 Pitgey Bowes' capital .contributions were in fact used to ay down the principal on the acquisition note . Shortly thereaf ter, a corresponding draw would be made , on the construction note, and NJSEA would advance those funds to Historic Boardwalk Hall. Ultimately, these offåett'ing draws left - 15 - Historic Boardwalk Hall with cash in the amount of Pitney Bowes' capital contributions, a decreased balanch on the acquisition loan, and an increased balance on the construction loan. These funds were then used by Historic Boardwalk Hall to pay assorted fees related to the transaction and to pay NJSEA a developer's fee for its work managing and overseeing the East Hall's rehabilitation. A portion of Pitney Bowes' second capital contribution was not returned to Historic Boardwalk Hall but rather was used by NJSEA to purchase the guaranteed investment contract (GIC). The GIC is discussed further below. Historic Boardwalk Hall paid NJSEA $14 million as a development fee for its role overseeing the East Hall's rehabilitation. This came mainly from Pitney Bowes' third and fourth capital contributions and was paid pùrsuant to a development agreement between Historic Boardwalk Hall and NJSEA. The development agreement reiterated Historic Boardwalk Hall's purpose and imposed certain obligations on NJSEA as the developer, in exchange for a $14 million development fee. The development agreement obligated NJSEA to obtain all required Government approvals for the rehabilitation and to-oversee the completion of the rehabilitation. This included: (1) Overseeing the contractors who were rehabilitating the East Hall; (2) ensuring that all amenities consistent with the overall - 16 - rehabi itation were pput in place; (3) causing the completion of phase, of the rehabil-itation; and (4) causing the rehabi-1-itation such that it would earn rehabi-litation tax, credits . - The déveio månty ägreement further required NJSEA, to obtain4 certif cation -of ·the rehabilitation from atheeU.S. Department of the Interior and to maintain insurance sover the ehabilitatiòn as set fo th in the AREA. NJSEA's .development,fee ouid o be earned untial the fehabilitation was completed, and it was payable immediately upon completion. 8 . Dist!ributions FromsHistoric Boardwalk Hall The AREA provided for the distribution of H storic Boardwalk Håll's net cashflow. First, if certain title insurance or environmental insurance sproceeds, were paid, 100 ercent went to PÅtney Bowes. Second, any;remaining net-cashflow was used to make interest payments one Pitney.:Bowes' investor loán to ,Históric Bôardwalk Hall . Should there be any ,remaining neta c ashf low, 99 . 9 percent was tò be distributedato «Pitney Bowese until Pitney Bowes had received its 3-p rcent preferred return. ,The preferred return was equal to 3 percent ,of ;its adjusted capital contributidn, which was detarinined fat the .endsofeHistoric Boardwalk Ha]:1 sofisca year. Nekt, funds, were 'distributed to Pitney< Bowes: to -coverrany Federal, State, and elocal- sincome taxes paid on tiaxáble income allocated to Pitney Bowest.e Any;remainingenet cashflow gwas athen - 17 - distributed to NJSEA for current and accrued but unpaid debt service on the acquisition and construction notes, and then to NJSEA to repay any operating deficit loans. Lastly, any remaining net cashflow was paid to Pitney Bowes and NJSEA in accordance with their membership interests. 9. Environmental Concerns and Analysis The parties were concerned that the East Hall's rehabilitation would lead to certain environmental hazards. To that end, Pitney Bowes retained the law ~firm of Kelley:Drye & Warran, LLP, to assess Historic Boardwalk Hall and- Pitney Bowes' potential liability for environmental- claims. In order to determine any potential envir'onmental issues, Historic Boardwalk Hall obtained -reports that evaluated the East Hall for potential hazards and also provided remediation plans. Environmental Partners, Inc., prepared a Phase I Environmental Site Assessment for Pitney Bowes. The report identified certain environmental hazards, including asbestos, possibly lead-based paint, underground storage tanks, and other chemical hazards. The report characterized the East Hall as an "unknown risk" and concluded that environmental liabilities could not be estimated at that time without more analysis of the East Hall. L. Robert Kimball & Associates, Inc., also prepared a hazardous materials assessment (the Kimball report) of the East - 18 - Hall, focusing on asbestos, lead-based paint, "hazardousdater als storage,s drainage, roofs deterioration, and certains hazarddus chemicals+ thatemight «be present or become, exposed by the East i Hall's rehabilitatione The Kimball report then wentaon Só evaluate how potentialahazards should be dealt withiand 4estimated what remediation would cost . :The Kimball report estimatpd that remediation- would scost more than $3 -million The . AREA contained certain representations by NJSEA to Pitney: Bowes concerning the East Hal]: and sits rehabilitation witih regardy to environmental" hazards . First, NJSEA, warranted to Pitney Bowes that there were no known environmental haeards other than those identified inc the environmental assessments. aNJSEA also warranted thateif any new'environmental hazards were; uncovered, NJSEArwould remediate them in its role as managing , member. SecondgNJSEA,warranted that should uit -default in its role -to remediate any environmental hazards, itaould-hold Pitney Bowes harmless and indemnify it ;formany ,costs incurredeas a result of NJSEA' s def ault . NJSF2A, also -held environmental liability insurance . Historic Boardwalk Hall was a named insured one the insurance policy, and Pitney Bowes was later radded àsaan additrional insured. 10 .. Future Transfers of Pitney Bowes' Interest NJ$EAsand Pitney Bowes contemplated Pitney Bowes' disposing of its membership interest and leaving -Historic Boardwalk Hall. To that end, they negotiated a number ,of possible ways to - 19 - transfer Pitney Bowes' interest to NJSEA. A. Pitney Bowes Repurchase Option The AREA provided two options. First, article 5.03 gave Pitney Bowes the authority to require NJSEA to purchase Pitney Bowes' interest sin Historic Boardwalk" Hall. If Pitney Bowes- exercised its option under this article, NJSEA would have to purchase its membership interest for a price equal to: (1) Pitney Bowes' capital contributions up to that point plus 15- percent interest; (2) Pitney Bowes' reasonable third-party fees and expenses with regard to the transaction; and (3) $100,000 as a reimbursement-for Pitney Bowes'. internal expenses with regard to the transaction. NJSEA had to make the $100,000 reimbursement payment only if phase 3 of the rehabilitation5 was not placed in service for purposes of the rehabilitation-tax credit by December 31, 2000, or if the rehabilitation tax credits were less than $650,000 for taxsyear 2000 for any reason., Pitney Bowes could exercise its' repurchase option contained in article 5.<03 only until January 15, 2001. sPhase 3 involved the rehabilitation of the East Hall's ceiling. This included replacing the ceiling tiles and the lighting system and installing a computericontrolled light system at projection of sunsets and other theatrical effects onto the new ceiling tiles. the base of each ceiling bay that would allow for the B a ' NJSEA Management Purchase Opt ion - 20 - Article 8 . 02 (a) and (b) of the AREA imposed certain restrictions on NJSEA's authority as managing member. Article * 8.02(a)s/preventedUNJSEA from performing any act- in violation of the lan,, performing any act in vio]:ation ofaany project documents,adoing any act that .requirede PitneypBowes' consenty or borrowing ' or commingling any of Historic .Boardwalk Hall' s funds . y Article 8.02-(b) prevented NJSEA from -selling, refinancing, or disposingofs Historic Boardwalk. Hall' s assets materially modifying Historic Boardwalk Hall' s insurance plan amending sany of the/maint transaction documents, borrowing any money other-than the "acquisition or construction loans, or takingsany -action that would-àdversely affect Pitney Bowes, either as a member or - a f inancially . « i'These prohibitions were not absolute. Both article 8 02-(a) and (b) -gave' NJSEA the option to purchase Pitney. Bowes' membership interest before taking any "of the prohibited actions. To exércise its options, NJSEA -would have to giye written notice of its intent to purchase Pitney Bowes' interest and, would have to actually purchase the interest within 90 days of ,providing such not ice . If it exercised its options, NJSEA would have to pay Pitney Bowes the piesentgalue of the projected t ax beneZits and t e prolected cashflow~to be distributed to Pitney BoWes The - 21 - projected cashflows were limited to the projected tax benefits up until the first date that NJSEA could eiercias'e its purchase' option (discussed below), and to the extent that Pitney Bowes had received any tax benefits or cashflows at the time NJSEA decided to purchase Pitney Bowes' interest". Thus, if NJSEA exercised its option under article 8.02(a) or (b), its payment obliñation would be based on its projected obligations from that date until the earliest date it could have otherwise opted to purchase Pitney Bowes' membership interest. C. Future Pu'rchåse Options Lastly, the parties negotiated two'additional agreements that would allow NJSEA to reacquire Pitney Bowes' membership i interest in Historic Boardwalk Hall. On September 14, 2000, Pitney Bowes and NJSEA entered into two option contracts. These were the'3'purchase option agreement" and the "agreement to compel purchase". The purchase option agreement gave NJSEA the right to purchase Pitney Bowes' membership interest in Historic Boardwalk Hall. NJSEA could execute the purchase option agreement at any time during a 12-month 'period beginning 60 months after the entire East Hall was placed in service for purposes of determining the historic rehabilitation credits. Thus, from 60 months to 72 months after the East Hall was placed in service, - 22 - NJSEA had the option,to purchase Pitney Bowes' interest The option/would expire at thesend of the 12-month periode If theepurchase option agreement was not executed; the agreement to compel purchase gave <Pitney Bowes the right to require NJSEA, to :purchase Pitney Bowes' membership interest in Historic SBoardwalk ,Hall. Pitney Bowes may exercise this option dgring aul25morith period beginning 84 months af ter the East Hall isgpladed in servicesfor purposes ,of determining; the historic.e rehabilitation credits. Like the purchase option agreement, the agreement to compel purchase was available -only for 12 months ; Both options.require NJSEA to pay Pitney Bowee theugreater of: (1) 99.9 percent of the fair market value of 100 percent sof the membership interests in Historic Boardwal-k HillG or (2) any accrued and unpaid preferred return. At the tïmerof trial, none-of the options had been exercised, and Historic Boardwalk Hall continued to operate with. Pitney, Bowe s and- NJSEA - as it s only members . 11. Guaranteed Investment Contract In/order to secure NJSEA' s payment if: NJSEA reacquired Pitne Bowes' interest in Historic Boardwalk Hall,a the AREA requi ed NJSEA to purchase a GIC. As discussed above, Pitney Bowes' capital- contrib tions were initially used to pay -down the principals on theyacquisition, loan Shortly thereafter, a corresponding draw would be made on the - 23 - construction -loan, leaving Historic Boardwalk Hall with the capital contribution. This did not occur with respect to Pitney Bowes' entire second capital contribution. Althodgh the àecond capital contribution was used to pay down the acquisition loan, a corresponding draw was not made on the construction loan. NJSEA, retaining these funds, used a portion of the capital contribution to fund the purchase of the GIC. First Union National Bank (First Union) was appointed escrow agent for both Pitney Bowes and NJSEA. NJSEA deposited about $3.2 million of Pitney Bowes' second capital contribution with First Union. First Union then entered into a master repurchase agreement with Transamerica Occidental Life Insurance Co. The master repurchase agreement was then pledged as collateral to secure NJSEA's payment obligation if,- under eilther the purchase option or the agreement to compel purchase, it was required to purchase Pitney Bowes' membership interest in Historic Boardwalk Hall. 12. Tax Benefits Guaranty NJSEA, Pitney Bowes, and Historic Boardwalk Hall foresaw the possibility that the Internal Revenue -Service (IRS) would challenge the reporting of the East Hall's rehabilitation. Consequently, the AREA appointed NJSEA as Historic Boardwalk Hall's tax matters partner and provided for the appointment of counsel by NJSEA should the transaction be challenged. Pitney - 24 - Bowes had final approval over the appointment ,of counsel to repfesent Historic, Boardwa-lk Hall. Pitney; Bowes and Historic Boardwalk Hall also executede a "Tax Benefits Guaranty Agreement" by which Historic Boardwalk Hall guaranteed the projected tax benefitse allocable tonPitney Bowes . NJSEA was required to fund any payments made pursuant- to the tax bene f its guaranty . Theltax benefits guaranty provides that it was entered into to induce Pitney Bowes, as investor, to acquire, an interest in Historic Boardwalk Hall. Its ultimate purpose was to require NJSEA to make Pitney Bowes whole should any part of the tax benefits be successfully challenged by the IRSr. 13 Opinion letters NJSÈA and Pitney Bowes sought and received opinion letters concernin various aspects of the transaction. c Wolfe Block sprepared a tax opinion letter (Wolf Block opinión) analyzing the East Hall transaction. The Wolf Block opinion analyzed numerous Federal tax issues and concluded in pertinent part that Historic Boardwalk Hall was properly classirfied as a partnership, Historic Boardwalk Hall owned the East Hall, and the transaction did not violate the economic substance or sham transaction doctrines . The Wolf iBlock opinion relied on a number of other legal opinions in reaching those conclusions . These other opinion - 25 - letters analyzed various non-tax-related legal questions raised by the East Hall's rehabilitation and Pitney Bowes' investment. Gibbons, Del Deo opined that NJSEA had the authori~ty to act on behalf of the State of New Jersey, that Historic Boardwalk Hall was a valid LLC, and that Pitney Bowes became a member of Historic Boardwalk Hall under State law. Wolf & Samson, P.C., issued a letter concerning how New Jersey State law and NJSEA's being financed by State bonds would affect NJSEA'saobligations under the AREA to fund any deficits and any additional, construction costs. Madison & Sutro, LLP, provided an opinion letter evaluating the proper classification of the acquisition note, the construction note, and Pitney Bokes' investor loan as debt rather than equity. 14. Rehabilitation and Operation of the East-Hall Bank accounts were established by SMG as agent for Historic Boardwalk Hall. After February of 2001, account statements show regular activity, including both deposits to and checks written on the account. NJSEA had entered into contracts with various third parties regarding certain aspects of the East Hall's rehabilitation. These contracts were all assigned to Historic Boardwalk Hall at or around the time Pitney Bowes- became a member in Historic Boardwalk Hall. These contracts dealt mainly with contractors - 26 - who were engaged to perform various pieces of the trehabilitation of sthe East Hall-. Tþe2 renovation of the East Hall and itssconversion to a special events arena was a success: Since its rehabilitátion the East Hall has held performances by a number of Well-known entertainers, and its revenues in 2000, 2001, and 2002 exceeded those in the Reznick projections. However, the East-Ha l has operated at a deficit. 15. Procedural Posture Historic Boardwalk Hall timely filed Forms 065, U.S. Return of Partnership Income, for 2000, 2001, and, 2002. The Forms 1065 showed income,r deductions, and ultimately net losses for all -3« years. The deductions included the cost of wages for employees who were operating the East Hall. Historic Boardwalk Hall claimed the following -qualified rehabilitation expenses: Year 20 0 0 2001 20 02 Expenditures $38 , 862, 877 68, 865, 639 1, 271, 482 Schedules K-1, Partner' s Share of Income, Credits Deductions, etc., were gissued to Pitney Bowes and NJSEAsin accordance with their membership interests . On AFebruary 22, 2007, respondent issued the FPAA .covering the 2000,, 2001,5 and 2002 tax years to Historic Boardwalk Hall.c The FPAA determined that any items of income or loss or -- 27 - separately stated items reported on Historic Boardwalk Hall's Forms 1065 and allocated to Pitney Bowes were reallocated to NJSEA. The FPAA also determined that underpayments of tax attributable to those adjustments would be subject to the section 6662 penalty. The FPAA contained an "Explanation of Adjustments" which ' provided alternative arguments in support of the adjustments made in the FPAA, including that: (1) Historic Boardwalk Hall was created for the express purpose of improperly passing along tax benefits to Pitney Bowes and is a sham; (2) Pitney Bowes' stated partnership interest in Historic Boardwalk Hall was not bona fide because Pitney Bowes had no meaningful stake in the success or failure of Historic Boardwalk Hall; (3) the East Hall was not "sold" to Historic Boardwalk Hall because the benefits and burdens of ownership did not pass to. Historic Boardwalk Hall. Accordingly, any items of income or loss or separately stated items attributable to ownership of the East Hall were disallowed; (4) respondent pursuant to his authority in the antiabuse provisions of section 1.701-2(b), Income Tax Regs., had determined that Historic Boardwalk Hall should be disregarded for Federal income tax purposes; and - 28 - (5) a 1 or spart of the underpayments, of tax attfibutable to the adjustments in- the -FPAA were attributable to either negligence , a asubstantial understatement of incomes tax, or both . Petitionere filed its petition in response toe the F,PAA on May 21, 2007. A trial was held from April 13-16, 2009ysin New York Newdótk . Respondent submitted an expert report in support of his (position-.a I. TEFRA in General OPINION Pattnerships do not pay Federal income -taxes, buts they are required to file annual information returns reporting the partners' distributive shares of tax items. Secs. 701, 6031. The individual partners then report their distributiver shares of theetax itemsgone their Federal 'Lncome taX returns. Secs. 7013 '704 . A limited liability company with two or more members is treated as a -partnership unless it elects to bestreated as a corporation. *Sec e 301. 7701-3 (b),(1) (I) , Proced. Admin. Regs HistoricsBciardwalk Hall did not elect to be treated-as a . corporation and thus is treated as a partnership for Federal inc ome t ax purpos e s . né ¿To -remove the substantial administrative!burden occasioned by -duplicative audits and litigation and to provide consistente treatment of partnership tax items among .partners singthe same; partnership, Congress enacted the unified audit and;litigation - 29 - procedures of the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA) , Pub. L. 97-248, sec . 402, 96' Stat . 648 . See Randell v. United States, 64 F.3d 101, 103 (2d Cir. 1995); H. Conf. Rept. 97-760, at 599-600 (1982),.1982 2 C.B. 600, 662-663. Under TEFRA, all partnershig items are determined in a single partnership-level proceeding. Sec. 6226; see also Randell v. United States, supra at 103. .The determination of partnership items in a partnership-level proceeding is binding on the partners and may not be challenged in a subsequent partner-level proceeding. See secs. 6230(c) (4), 7422 (h). This precludes- the Government from relitigating the same issues with each of the partners. In partnership-level proceedings such as the case before us, the Court's jurisdiction is limited by section 6226(f) to a redetermination of partnership items and penalties on those partnership items. Section 6231(a) (3) defines the term "partnership item" as any item required to be taken into account for the partnership's -taxable year under any provision of subtitle A of the Code to the extent the regulations provide that such item is more appropriately determined at the partnership level than at the partner level. - The question whether a partnership is a sham is a partnership item more appropriately determined at the partnership level. Petaluma FX Partners, LLC v. Commissioner, 131 T.C. 84, C - 30 - 95 (2008) af fd. in pertinent part 591 F.3d .649: (D.C. 'Cir. 2010) . Likewise, whether Pitney Bowes was a partner in»Historic Boardwalk Hal-l -is also. a partnership item more appropriately determined atsthe partnership level. See, Blonien v. Commissioner, 118 T.C. 541 (2002) . Further, the determination whether NJSEA, contributed the East Hall to Histonic Boardwalk Halls is also a. partnership item. Nussdorf v. Commissioner 129 T.C. 305 41-42 (2007) . Lastly, respondent'-s determination±that the transaction should be recast to carry out the intentlof subchapter -K is likewise a partnership item. Neither-party disputes our, jurisdiction over these items . II. Burden of Proof The Commissioner' s determinations in an FPAA are generally presumed correct, and a party challenging an FPAA has the ßurden of proving that the Commissioner's determinations are in error. Rule 142 (a) ; -Welch v. Helvering, 290 U. S. 111, 115 (1933) ; Republic Plaza Props. Pship. v.. Commissioner, ,107 T.C. 194, 104 (1996) The burden of proof on factual issues :that affect a taxpayer'scliability for tax may be shi-fted to the Commissionér where, Ethe "taxpayer introduces credible evidence with respect to * * * such issue." Sec. 7491(a) (1) . o Petitioner argues that the burden shifts to respor).dent under sectiono74913(a) . Respondent disagrees and arguesathat peti-tioner has .not: satisfied the requirements of section 7491. A shift in - 31 - the burden of persuasion "has real significance only in the rare event of an-evidentiary tie." Blodgett v. Commissioner, 394 F.3d 1030, 1039 (8th Cir. 2005), affg. T.C. Memo. 2003-212. We decide this case on the preponderance of the evidence, and the burden of proof is not a factor in our analysis. We will'address each of respondent's arguments in turn. III. Economic Substance Respondent first argues that Historic- Boardwalk Hall lacks economic substance. Both parties agree-that an appeal in this case lies in the Court of Appeals for the Third Circuit. See sec. 7482. The Court of Appeals for the Third Circuit has stated that a court is to "analyze two aspects of a'transaction to determine if it has economic substance: its objective economic substance and the subjective business motivation behind it." IJUi v. CM Holdings, Inc., 301.F.3d 96, 102 (3d Cir. 2002). However, in CM Holdings, Inc. the court went on to state that these aspects do not constitute discrete prongs of a "'rigid two-step analysis'" but "'represent related factors both of which inform the analysis of whether the transaction had sufficient substance, apart from its tax consequences, to be respected for tax purposes.'" Id. (quoting ACM Pship. v. Commissioner, 157 F.3d 231, 247 (3d Cir. 1998), affg. in part and revg. in part T.C. Memo. 1997-115). If, however, a transaction "'affects the taxpayer's net economic position, legal relations, or non-tax - 32 - 1;>usiness interests-, it will not be disregarded. merely because it was motivated by tax considerations.'" Id. (quot-ing ACM.Pship v. Commissioner, 157 F-3d at 247) . Respondent argues that Historic Boardwalk Hall ism a sham because it lacked; objective economic substance andrthat its partners lacked any business motivation other than transferring historic tax credits from NJSEA to Pitney Bowes. Respondent asks that we look to- t-he individual partners to determine thet economic substance of the transaction. Respondent contends that Historic Boardwalk- Hall lacked objective. economic substance because the parties, in respondent's view, negotiated and executed a transaction in anticipation of a limited number of possible outcomes, none of which would appreciably-affect Pitney Bowes' economic position- otherethan through a reduction of its tax liabilities. Respondent argues that the following are the only, possible outcomes of Historic Boardwalk Hall' s formation, assuming the partiest act in an "economically rational manner" (1) If the East Hall was profitable, NJSEA wóuld be- compelled to exercise its repurchase option immediately after the sectiorra47 recapture. period ended, terminating Pitney Bowes' intereste in Historic Boardwalk Hall. Pitney Bowes woulds receive its 3,percent, annual return until it exited Historic Boardwalk Hall through preferred net cashflow distributions.s - s - 33 - (2) If the East Hall was unprofitable, Pitney Bowes would exercise its put option, compelling NJSEA to purchase its interest in Historic Boardwalk Hall for its 3-percent annual return. In this case, because East Hall is unprofitable and there are no preferred net cashflow distributions, Pitney Bowes receives its payment through the GIC. Respondent contends that the parties knew that Historic Boardwalk Hall would not earn a profit and that the Reznick projections showing a profit were simply window dressing meant to give the transaction an appearance of legitimacy. Respondent further argues that Pitney Bowes would never earn a profit on its investment in Historic Boardwalk Hall. In respondent's view, although Pitney Bowes was entitled to its 3- percent return either through preferred distributions or the GIC, Historic Boardwalk Hall still lacked objective business substance because any return would be less than Pitney Bowes could have earned had it invested its capital contributions in other financial instruments. Taking into account the time value of money, respondent argues that Pitney Bowes' investment results in a negative cashflow to Pitney Bowes. Respondent also a gues that other contractual provisions ensure that Historic Boardwalk Hall has no economic' effect on its partners, including the tax benefits guaranty agreement, the operating-deficit guaranty, the completion guaranty, and the fact - 34 - that all. of Historic Boardwalk Hall's debts are.nonrecourse to Pitney, Bowes . Respondent concludes that the -parties econcéic posi ions were all fixed and unaffected by the return from Historic Boardwalk Hall in any circumstance. Moving to the subjective test, respondent argues that Historic Boardwalk Hall served no subjective business purpose because it was intended solely to facilitate NJSEA s sale, of rehabilitation tax credits and other favorable tax attributes to Pitney Bowes.: All of respondent's arguments concerning the economic substance of Historic Boardwalk Hall are made without taking into account the 3-percent return and the rehabilitation creditse Respondent argues that the rehabilitation, credits must be ignored in evaluati.ng, the economic substance of Historic Boardwalk Hall. Respondent points to Friendship Dairies, Inc.av. Commissionera 90 T.,C ,1054 (1988), and argues that investment tax.credits are never to be.taken into account in determining the economic substance of, a transaction. Petitioners first argues that the economic substance doctrine is inapplicable to the Historic Boardwalk Hall transaction båáäuse Congress, in enacting and amending section 47, intended to use section 47 to spur corporations to invest in historic rehabilitation projects that otherwise would not be economically -feasiblea Petitioner further contends that the point of the l --35 - credit -wa's to address the reality that most rehabilitation projects had an inherent lack of profitability-athus it would be inappropriate to disregard a transaction for aliack of~ profitability when the purpose of section 47 isato make up for that lack of profitability. Further, petitioner puts forth alternative arguments in support of its position that the Historic Boardwalk Hall transaction has economic substanoe. First, pëtitioner argues e that the rehabislitation tax credits at issue' can be taken into account in determining whether the transaction has economic substance and provided a net economic benefit to Pitney Bowes. Petitioner points to Saaks v. Commissioner, 69 F.3d 982 (9th Cir. 1995) , revg . T . C.' Memo . 1992-596,4 and' argues that - we' must take s the rehabilitation credits into account- in determining ·the profitability of the transaction. Second, petitioner argues that even if wer do not take- the rehabilitation tax credits into account, the Reznick projections show that the Historic Boardwalk Hall has economic substance be'cause 'Pitney Bowes land the-Easti Hall Chad a chance of searning a prof it . Petitioner also asserts the 3-percent return gives the transaction economic significance. In Sacks v..- Commissioner, supra, the Court of Appeals for the Ninth Circuit evaluated the economic substance of a solar - 36 - energyaequipmentesale-leaseback transaction. The Courtsof Appeals found that the transaction had economic substance on the basis of the following factors: (1) The taxpayer's personal obligation to payathe price was genuine; (2) the taxpayer paid fair market value for thesequipment; (3) .the tak benefits would have existed for someone, and were not created out of thin air.by the transaction; (4) the - business of selling solar energy was, genuine; and (5) . the business consequences of a rise or fall in energy prices were: genuinely shifted to the taxpayer. I_d. at 988. GThe Court of Appeals discussed whether the solar energy credits should be taken into account in determining the profitability sof a the transaction. The Commissioner had argued successfully in this Court that any financial analysis of the transalction had to be done without regard to the solar energy credits: On the basis of that argument, we found ÷that the e taxpayer'sytransaction lacked economic substance because itswas cashflow negative unless the tax credits were taken into account and" disallowed the claimed credits . The; Court of Appeals disagreed with that analyáis,asstating that the taxpayer' s investment "did not become as sham just because git,s profitability was based on after-tax instead of pre- tax projections." Id. at 991. The Court of Appeals went on to 37 - state that "Where a transaction has economic - substance, it does not become a sham merely because it is likely to be unprofitable on a pre-tax basis", id.,a and that "Absences of pre-tax profitability doeenot show 'whether the stransaction had economic sübstance beyond the creation of taxe benefits 'twhere Congress: has purposely used, tax incentives to= change investors'- conduct", id.a(citation omitted) . The- Court; of Appeals rejected. the Commissioner's argument thatethe tax benefits3should be excluded from the economic sanalysis, because. "If the government treats tax- advantaged transactions as shams unless they make economic sense on a pre-tax basis, then it takes away with the executiver hand what it gives with the legislative." Id. at 992. - Ultimately, the Court of Appeals recognized that if the types of transactions that Congress intehded to encourage had -to be profitable on a pretax' basis, then Congress would not have needed to provide incentives -to get taxpayers to invest in them;; in effect, ther Commissione'r was attempting to use the reason Congress created the tax benefits as a ground for denying them. Id. The Court of Appeals' for the Third Circuit has not directly addressed whether investment táx credits are to-be taken into account in determining the economic substance of a transaction. In IRS v. CM Holdings,o Inc., 301 F.3d 96 (3d Cir.¯ 200-1), the 2 taxpayer attempted to rely on the opinion of the Court of Appeals for the Ninth Circuit in Sacks in arguing that2 a corporate-owned - 38 - life ainsurance-plan had economic substance because Congress had explicitly sanctioned those types of tax strategies. Howeverá the Courts of Appeals for- the Third Circuit distinguished±Sacks because- the Sacks opinion, in allowing depreciation deductions and investment credits with respect to a sale and leasebacksof solar energy equipment, reasoned that both Federal-and:State legislatures had specifically encouraged investment in solar energyt and thereby "skewed the neutrality of the <tax system."a & åt.106 (quoting Sacks v. Commissioner, supra at 991) . Respondent:argues that Sacks does not control.since, unlike the tran*saction in Sacks, the East Hall transaction and Historic Boardwalk, Hall are shams because they had no appreciable effect on therpartries' economic positions. As an initial matter, we do not agree with respondent that Pitney Bo.wes invested in the Historic Boardwalk Hall transaction solely, to earn rehabilitation tax credits. We. believe the 3- percent. return and the expected tax credits should be viewed together. Viewed as a whole, the Historic Boardwalk Hal-1 and the East Hall:transactions did have economic substance. Pitney Bowes, NJSEA, and Historic Boardwalk Hall had a legitimate business purpose--to allow Pitney Bowes to invest in the East Hall's rehabilitation. Pitney,Bowes invested in the East Hall rehabilitation. 4 Most of Pitney-Bowes' capital contributions were used to pay -a - 39 - develiopment fee to NJSEA for its.role in manašing the rehabiilitation of- the East Hall according to the development agreement between His-tori~c Boardwalk Hall and NJSEA. Respondent''s contention that Pitney Bowes was unnecessary to the transaction becaúse NJSEA was going to rehabilitate the East Hall without a 'corporate investor overlooks the imþact that Pitney Bowes had ori' the frehabilitation: no mattert NJSEA' s intentions at the time it decided to- rehabilitate the East Hal]G Pitney Bowes' investment provided NJSEA with more'money than it otherwise-would have had; as a result, the rehabilitation ultimatelyacost the State of New Jersey less. Respondent does not allege that a circular flow of funds resul-ted in Pitney Bowes receiving its 3- percent preferred return on its capital contfibutions. In ' addition, Pitney Bowes received the rehabilitation tax credits. Historid *Boardwalk Hall and the AREA imposed financial - requirements ök both'Pitney Bowes and- NJSEA. Pitney Bowes was required to makes capital contributions, and NJSEA was- required to managë the East Hall'& rehabilitation and assure its completion. If NJSEA failed in its role as manager and the rehabilitation did not proceed according to the ÷parties' plan, Pitney Bowes would not be:required to make additional capital contributions. This would -have left NJSEA responsible for a larger portilon of the East Hall's rehabilitation. - 40 - Respondent points to the parties' use of the term "sale of tax crèdits" and argues that the term "development, feet' and ther payment of a development fee by Historic Boardwalk flaltleto NJgEA' is ,merely meant to disguise evidence showing the true nature of theftransaction to be a sale of tax credits. We smusta look sto the substance of the stransaction, rather than the terms «usediby the parties.. The regulations clearly indicate that a development fee is a qualified rehabilitation expense. Sec. 1.48 12(c) (2), Income 'I'ax Regs . The opinion letters obtained by NJSEA and Pitney Bowes alL discuss whether a development fee is the type of rehabilitation expense that is eligible to earn rehabil-itation tax credits,, and whether the amount of the development fee at issueuwas reasonable in this type of rehabilitation yRespondent does not argue that any portion of the rehabilitatrion credits clairned is inappropriate or attempt to disallow -any of Historic. Boardwälk-Hal-l's claimed credits on the ground that the developments fee was not a qualified rehabilitation expense Pitne Bowes faced risks as a result of joining Hisstoric. Boardwalk Hall. First, and most importantly to its goals-, it faced the risk that the rehabilitation would not be completed. a In addition, both NJSEA and Pitney Bowes faced pot;ential liability for environmental hazards from the rehabilitation. Although Historic Boardwalk Hall and Pitney Bowes were added as named insured parties to NJSEA' s environmental insurance, there - 41 - was no guaranty that: (1) The insurance payout would cover any potential liability; and, (2) if NJSEA was required to make up any difference, it would be financially able to do so. Overall, respondent's argument that certain agreements e prevented ther East Hall transaction from affecting the partners' economic positions is incorrect. These side agreements and guaranties must be looked at in context: they; were necessary to attract an equity'investor. These provisions are meantato protect Pitney Bowes- from any unforeseen circumstances that scould arise as a result of problems with the rehabilitation. Respondent does not argue that the'-completion guaranty is.a sham or is not a legitimate agreement between the parties. Instead, respondent argues that because Pitney Bowes.' investment iis limited to its capital contributions and because Pitney Bowes cannot be held responsible.for 'additional funds to complete the East HalTirehabilitation, theeEast Hall transaction as a whole lacks economic substance. However, those agreementsi show that the East Hall and Historic Boardwalk Hal:1 did in facts affect the parties' economic positions--the agreements'were meant to prevent the transaction from having as larger impact than ethe parties had bargained for. This is not a transaction in'which the parties had-competing interests that would work against the partneeship's stated - purpose. NJSEA and Pitney Bowes had a common goal: the - 42 - rehabilitation of the East Hall. NJSEA needed the rehabilitation to be successful; in order to make the East Hall an attractive, site for concerts and events after the construction of the new convention.-center. Pitney Bowes needed the rehabilitation to be successfuloso it would earn rehabilitation credits «and its 3-e percent return. Both would receive a net economic benefiteif the rehabilitations was successful. The legislative history of section 47 indicates that one of its -purposes is to encourage taxpayers to participaterin what would otherwise be an unprofitable activity. Congress enacted the zrehabilitation tax credit in order to spur private investment in unprofitable historic rehabilitations. As respondent notes, the East Hall "has operated at a deficit. Without the a rehabilitation tax credit, Pitney Bowes would not have invysted in its jrehabi-litation, because it could not otherwise earn: a - sufficient net economic benefit on its investment. ,The purpose of ethescredit is directed at just this problem: because the East Hall·.operates at a deficit, its operations alone would not a provide an;adequate 'economic benefit that would attract a sprivate investor. eFurther, if not for the rehabilitation stax credit, NJSEA would not have had access to the nearly $14 millionipaid to it :as a development fee for its ef forts in rehabilitating the East Hall. Considering that the cost of the rehabilitation was s - 43 - about $100 million, Pitney Bowes contributed about 15 percent of the cost of-the rehabilitation. Respondent attempts to read Friendship Dairies,- Inc. v. Commissioner, 90 T.C. 1054 (1988), as holding ethat the investment tax credit is never taken into account in considering the economic substance of a transaction. Friendship Dairies does not make such- a broad holding. Although we held in that case that the investment tax credits at issue could not be taken into account indevaluating ther economic substance of thats transaction, we did-not explicitly hold that investment creditst are never taken into account when applying the economic substance doctrine. We stated that "We acknowledge that many such tax-motivated * * - transactions are congressionally approved and encouraged. * The determination whether a transaction is one Congress intended to encourage will require a broad view of framework and some investigation-into legislative history. intent is raised only upon a threshold determination' that a· partitular transaction was entered into primarily for tax reasons." The issue of congressional the relevant statutory - Id. at 1064 (quoting Fox v. Commissioner, 82 T.C. 1001, 1021 (1984)). In Friendship Dairies, We disregarded a sale-leaseback transaction which h'ad no chance sof profitability., This case is distinguishable on its facts. Ultimately, NJSEA had more money for the rehabilitation than it would have had if Pitney Bowes had not invested in Historic - 44 - Boardwalk Hall.: Both parties would receive a net economic benefit from the transaction if the rehabilitation was successgul. Pitney Bowes would earn a net economic benefit as a result of its entering into the East Hall' s rehabilitation,- while NJSEA ,would see higher revenues from other Atlantic City properties if the East Hall was a successful loss leader and began attracting large crowds after the rehabilitation was . completed. , The rehabilitation of the East Hall was a success . Historic Boardwalk Hall has been operating and continues to operate day to daye with, ther East. Hall being used as a convention facility. In conclusion, Historic Boardwalk Hall had objective economic substance. IV. Whether Pitney Bowes Was a Partner in Historic Boardwalk Hall Respondent next argues that Pitney Bowes was not a partner in Historic Boardwalk Hall. Respondent contends that Pitney Bowes' partnership interest should be disregarded because: (1) Pitney Bowes had no meaningful stake in Historic Boardwal-k Hall' s success or failure; and (2) Pitney Bowes' interest in Historic Boardwalk. Hall is more like debt than equity. Ultimately, respondent' s two arguments both center on the fact that Pietney Bovies' return was limited to 3 percent . - 45 - Section 761(a) defines "Partnership" as follows": SEC., 761'(a). Partnership.--For purposes of this a jointaventure"or other unincorporated the term "partnership" includes a syndicate, subtitle, group, pool, organization through or by means of which any business, financiale operation, or venture is carried on, and which is not withinathe meaning of this stitle [subtitle] , a corþorationt or a trust oi- estate * * * Both petitioner and -respondent point to Commissioner v. Culbertson, 337 U.S. 733 (1949), in support of their arguments. In Culbertson, the Supremë Court had to det'ermine whether a valid partnership was formed. The Supreme Court listed several objective factors that influenáe the determination of whether a partnershiþ fis valid, including: (1) The agreement between the' parties; (2) the conduct- of the parties in executing.its provisions; (3) the patties' statements; (4) the testimony of disinterested persons; (5) the'relationship*of the parties;a (6) their respective abilities and capital contributions; (7) the actual control of income; and (8) the purposes for which the income is used. Id. -at 742; see also Va. Histbric Tax Credit Fund 2001 LP v Commi.ssioner, T.C. Memo.a 2009-295. In Va. Historic Tax Credit, wë applied the Culbertson factors and upheld a partnership which was formed tx> allow the partners to share and distribute State tax credits. In Luna v. Commissioner, 42 T.C. 1067, 1077-1078 (1964), this Court stated that "while all circumstances are to be considered the essential question is whether the parties - 46 - intended tomand did in fact, join together for the present conduct of an undertaking or enterprise", and cited Commissioner v. Culbertson, supra at 742, which stated: e The - question is not whether the servicest or - contributed by a partner are of sufficient * but capital importance to meet some objective standard * whether, considering all good faith and acting with a business purpose intended tá "join together in the present conduct of enterprise . the facts * the * * the parties in * * * * Petitioner argues that Historic Boardwalk Hall is a valid partnership and that Pitney Bowes was a partner ein, that partnership. Petitioner points to the partnership agreement, the parties' actions in negotiating that agreement, and ,the part;i.es' actions, after the agreement was executed. Petit-ioner contends that Pitney Bowes' extensive investigation of all aspects of the transaction and Historic Boardwalk Hall' s business changes made af ter execution all support a conclusion that Pitney Bowes was a partner in Historic Boardwalk Hall. We agree with petitioner. Pitney Bowes and NJSEA, in good faith and acting with a business purpose, intended to join together in the present conduct of a business enterprise ., As we held above, Pitney Bowes and NJSEA joined together in a transaction with economic substance to allow Pitney Bowes yto invest in sthe East Hall rehabilitation. Further, as we found above, the decision to invest provided a net economic benefit to Pitney Bowes through its 3-percent preferred return and .- - 47 - rehabilitation tax credits. Combined with our above holding that Historic Boardwalk Hall had economic substance, it is clear that Pitney Bowes was a partner in Historic Boardwalk Hall. The parties' investigations and documentation both support a finding that the, parties intended to join together in a rehabilitation of the East Hall. Although the confidential - offering memorandum used the term "sale", it was used in the context of describing an investment transaction. The confidential offering memorandum accurately described the substance of the transaction: an investment in the East Hall's rehabilitation. The parties' investigation likewise.suppoirts a.finding- of an effort to join together in rehabilitating the East Hall. The parties investigated potential environmental hazards and attémpted to mitigate them: This included two analyses by consulting firms- and adding Historic BoardwalkiHall and Pitney Bowes as named parties to NJSEA's insurance policies. .NJSEA and Pitney Bowes sought and received a number of opinion letters; evaluating various aspect's of thé transaction. The executed-transaction documents accurately represent the substance of the transaction. The AREA is between Pitney Bowes and NJSEA and provides a detailed description of Historic Boardwalk Hall's -purpose--to rehabilitate and manage the East a Hall. Sinces formationy Historic;Boardwalk -Halls hasacarried out - 48 - its goals. The AREA describes Pitney Bowes and NJSEAzas members e and alsó provides for transfers of their membership interests in later years. The development agreement between Historic Boardwalk Hall contractually obligates NJSEA to.manage the East Hall's rehabilitation and accurately represents the ;substance of the transaction. Since execution of those agreements, the partiesahave carried out their responsibilities under the AREA. NJSEA oversaw the-Easte Hall's -rehabilitation, and Pitney Bowes made its required capital contributions. The East Hall was actually rehabilitated, did reopen to the public, and has been successful. This rehabilitation provided benefits to both Pitney Bowes and NJSEA. Respondent again asks us to ignore the rehabilitation tax. creái.its at issue. Pitney Bowes joined Historic Boardwalk Hall in exchange for its 3-percent preferred return and the rehäbilitation itax credits. The 3-percent preferredereturneand theirehabilitation tax credits provided a net economic benefit to Pitney Bowes. Even if we do ignore the tax credits, Pi-tney Bowes' interest -is not more like debt than equity because Pitney Bowes is not guaranteed to receive a 3-percent return every year. Because the East Hall operated at a loss each year,e Pitney Bowes was not guaranteed the 3-percent return at the end of argiven year because there might not be sufficient cashflow to pay it. - 49 - In accord with the AREA, Pitney Bowes might not receive its preferred return until NJSEA purchased Pitney Bowes' membership interest, if at alla . Taking into account the stated purpose behind Historica Boardwalk Hall' s formation, the parties' investigation of the transaction the transaction documents, and the parties' respective.roles we hold that Historic Boardwalk Hall was a e valid partnership. V. Whether- the sEast Hall Was "Sold"- to Historic Boardwalk Hall Respondent next argues that NJSEA did not transfer the East Hall to Historic Boardwalck Hall for Federal income tax purposes because NJSEA did not transfer the benefits and burdens of ownership. Whether the benefits and burdens of ownership with respect to property have passed to the taxpayer is a question of fact that must be answered from the intentions of the parties as established by the written agreements read in light of the attending facts and circumstances. Arevalo v.1Commissioner, 124 T.C. 244, 252 (2005), affd. 1469 F.3d 436 (5th Cir. 2006); Grodt & McKay Rea-lty e Inc . v . Commiss ioner, a 77 T . C . 1221, 1237 (1981),. We look sto the substance of the agreement and nots just the labels us ed by the part ies .; Arevalo V,. Commiss ioner , supra e at· 252a .The following-factors aré considered:: - (1) Whether legal title passes; (2) how the sparties treat the transaction; (3) whether - 50 - equity was acquired in the property; (4) whether the contract creates a present obligation on the seller to execute and deliver a deed and a present obligation on the purchaser to.make e payments; (5), whether the right of possession vested in the purchaser; (6) which party pays the property taxes; (7) which party bears the risk of loss or damage to the property; and (8) which partyareceives the profits from the operation and- sale of the property. Id. Respondent argues that the burdens of ownership remained. with NJSEA because it bore all of the burdens of the East Hall's operation and rehabilitation, including remaining liable for the East Hall's operating expenses, real estate taxes, workers' compensation, and property and other insurance coverage and for completion-of the East Hall rehabilitation. Respondent contends that NJSEA also remained responsible for any excess development costs, interest, taxes, and the costs of any environmental problems Respondent concurrently argues that NJSEA maintained theabenefits of ownership because it had the authority, ,through its purchase option, to purchase Pitney Bowes' interest in , Históric'Bóardwalk Hall at any time. Respondent points to Sun Oïl Co.» v. Commissioner, 562 F.2d 258 (3d Cir. 1977) , revg. T.C. Mem6.31976-40, and argues that under the Court of Appeals for the Third Circuit's authority, a purchase option requires a ,finding that the benefits and burdens were not passed. - 51 - Petistioner argues that the transaction documents clearly show the-parties' intent to sell the East Hall to Historic Boardwalk Hall. Petitioner also argues that NJSEA had a contractual obligation 'to deliver the East Hall to -Histotic Boardwalk Hall, - that Historic Boardwalk" Hall shada an obligation to pay for the East Hall, and tha't Històtic~ Boardwalk Hall had possession of the East Hall. - Some of the factors weigh in'favor of finding a-sale: (1) The parties treated the t¯ransaction as a sale; (2) possession of the East Hall vested in Historic Boardwalk Hall; (3), Historic Boardwalk Hall reported the East Hall's profits and stood to lose its income if the East Hall stopped operating as an event space. Others weigh ägainst petitioner: (1) NJSEA remaine& liable for the East Hall's property taxes (2) because Historic Boardwalk Hall operated" atua loss, NJSEAlwas not guaranteed--toirecëive payments on the acquïsition ,loan each year; (3-) NJSEA could reacquire the East H,all by exercising its òpti~on under article 8.02 of the AREA. We must evaluate whether the.East Hallewas transferred in the context of this specific rehabilitation transaction. We look at all the facts and circumstances surrounding the transaction at issue. The East Háll has been öperatinij asaan event space, and all income and expenses of the East Hall have been reported on - 52 - Historic Boardwalk Hall's Forms 1065. Bank accounts were opened in Historic, Boardwalk Hall' s name by SMG as operator sof ,the ~East Hall. Respondent argues that the benefits and burdens were not transferred because NJSEA remained liable for the rehabilitation and the expense of managing the East Hall. Respondent points to statements by NJSEA executives that the East Hall would operate in thes same manner as it had before Historic Boardwalk Hall was formed and argues that these statements support- a conclusion- that the benefits and burdens were not transferred to Historic eBoardwalk- Hall. Respondent misinterprets the context of these statements . They were made in relation to NJSEA' s decision to assignesome of its construction contracts to Historic Boardwa]:k Hall. e The statements appear to have been made to .third parties and swere meant to assuage the concerns of those third parties that theirs contracts and dealings with regard to the East Hal]: would be affected by the contract assignment to Historic Boardwalk Hall. 6 Respondent' s additional argument in the context of the East Hall's ownership .concerns the article 8.02 purchase option. Respondent -points to Sun Oil Co. v. Commissioner, supra, and - contends that in the Court of Appeals for the Third Circuit, a purchase- option such as the one in article 8.02 requires a - 53 - finding that the benefits and burdens of- ownership remained with NJSEA. We do not believe that Sun Oil- controls. 3 In that case, Sunray DX Oil Co..(Sunray)- sold 320 parcels of land to'a tax-exempt trust. Sunray then leased those parcels back. The Commissioner challenged Sunray's. dëductions for lease payments. This Court found in favor of the taxpayer, but the Court of Appeals for the Third Circuit reversed our decision. The Court of Appeals focused on Suhray's ability to-recover the land "sold" to the tax-exempt trust. Sunray had:a number of options if it decided it wanted to recover a specific piece of land. First, it could simply swap another piece of land".for that land, without the trust's being able to reject it. Second, Sunray could make an offer- to repurchase a specific piece of land. Lastly, Sunray had a right of repurchasing the lands for an amount equal, to the present value of rent payments due 60 years -in the future, which would be an almost negligible value. The Court sof Appeals focused on how these provisions did.not truly transfer any rights to the trust. The Court of Appeals, observed that because Sunray could, without any restrictions, swap anyapiece of land for one subject* to the sale-leaseback at issue, the offer provisions in the contracts were rendered moot. Further, the Courtsof Appeals held that because Sunray could always repurchase the land for an almost- negligible amount by its repurchase options,,it ~could always recover the land without - 54 - paying the trust fair market value. The Court of Appeals stated: "The options to repurchase provide Sunray with a built in latch- string by which it could spring legal title to the properties whenever it served its convenience without obligating Sunray to pay fair market value." Sun Oil Co. v. Commissioner, 562 F.2d at 268. As an initial matter, we note that Sun Oil is distinguishable on its facts. That case dealt with a sale- leaseback. transaction entered into to generate artificial rent deductions . Further, we do not believe that the presence of a purchase option prevents our finding that the benefits and burdens of ownership of the East Hall were transferred sto Historic Boardwalk Hall in the context of the reha.bilitation tax credit. A purpose of Historic Boardwalk Hall was to allow Pitney Bowes to invest in the rehabilitation of the East Hall and= earn ,rehabilitation tax credits. The purchase option agreement gave NJSEA the right to purchase Pitney Bowes' membership interest in Historic: Boardwalk Hall at any time during a 12-month period beginning 60 months after the entire East Hall was placed in service for purposes of determining the historic rehabi+litation credits . The rehabilitation credits of Pitney Bowes would have been subject to recapture had it disposed of its partnership interest. within 60 months after the renovated East Hall was - 55 - placed in service. See sec. 50; sec. 1.47-6(a) (1), Income Tax Regs. The statute demonstrates an anticipation of repurchase and creates a disincentive. Congress established a means to police early dispositions and created a deterrent to a premature buyout. For these reasons, NJSEA's purchase option was not contrary to -the purpose of the rehabilitation tax credit. - In conclusion, we find that NJSEA transferred the benefits and burdens of ownership of the East Hall--to Historic Boardwalk Hall. VI. Respondent's Recasting of- the Transaction Respondent alternatively determined in the FPAA that it-was necessary- to redàst the East Hall transaction to "achieve tax results that are consistent with the" intent of subchapter K." Section 1 701-2(b), Income Tax Regs.," gives the Commissioner the authority to recastotransactions foreFederal income tax purposes if a partnership is formed or availed of in connection with a transaction a principal purpose of which is to reduce substantially the present value of the partners' aggregate Federal income tax liability in a manner that is inconsistent with subchapter K. Section 1.701-2(a), Income Tax Regs., provides that the following requirements are implicit in the intent of subchapter K: (1) The partnership -must be bona fide and each partnership transaction or series of related transactions * substantial business purpose; * must be entered into for a * a - 56 - (2) The form of each partnership transaction must be respected under substance over form principles; (3) * * * the tax consequences under subchapter K to;each partner of partnership operations and of transactions between the partner and the partnership must accurately reflect the partners' economic agreement and clearly reflect the partner's income * * * Requirement (3), however, contains an exception in certain situations. Some statutory and regulatory requirements imposed on partnerships by subchapter K may cause tax results that do not accurately reflect the partners' economic agreement or clearly reflect the partners' income, thus violating requirement, (3) above. Section 1.701-2(a) (3), Income Tax Regs., provides that if a transaction satisfies requirements (1) and (2), requirement (3) will be treated as satisfied to the extent that the application of such a provision to the transaction and the ultimate tax results, taking into account all the relevant facts and circumstances, are clearly contemplated by that provision. The determination of whether a transaction involving a partnership ought to be recast is made with consideration given to.ther statutory provision giving rise to the tax benefits and all pertinent facts and circumstances. Section 1.701-2(c) Income Tax -Regs., provides a nonexclusive list of factors to be considered, including whether: The present value of (1) Federal the partners owned the partnership's assets and conducted the partnership's activities directly; tax liability is substantially less than had the partners' aggregate - 57 - The present value of the partners' aggregate tax liability is substantially less than would (2) Federal be the case if purportedly separate transactions that are designed to reach a particular result are integrated'and treated as steps in a~single transaction * * *- (3) One or more partners who are necessary to achieve the claimed tax results either have a nominal interest in the partnership, are substantially protected from any risk of activities * the profits from the partnership's activities other than a preferred return that payment for the use of capital; * *, or have little or no participation in loss from the partnership's is in the nature of a (4) Substantially all of the partners * * * are related (directly or indirectly) to one another; (5) Partnership items are allocated in compliance with the literal but with results that are inconsistent with the purpose of section 704(b)" and those regulations * language of §§ 1.704-1 and 1.704-2, * * ; (6) " Ther benefits andt burdens of ownership of property nominally contributed to the partnership are in"substantial part retained. (directly orsindirectly) (or a related party); or by the contributing partner (7) The benefits and burdens of ownership of partnership prop'erty -are in substantial part shifted (directly or indirectly) to the distributee partner before or after the property is actually distributed"to a the distributee partner (or a related party). Respondent argues that his decision to recast the East Hall transaction was correct because Historic Boardwalk Hall's principal purpose was to substantially reduce the present value of Pitney Bowes' aggregate tax liability in a manner inconsistent with the purpose of subchapter K. Petitioner, however, contends that the East Hall transaction is wholly consistent with the purpose of subchapter K and further - 58 - argues that the East Hall transaction is analogous to examples of the proper use of partnerships in section 1.701-2, Income Tax Regse Section 1.701-2(d), Income Tax Regs., lists various factual situations involving the use of a partnership and evaluates whether that use is or is not consistent with the intent of subchapter K. Section 1.701-2(d), Example (6), Income Tax Regs., involves the formation of a partnership by A and B, two high-bracket taxpayers, and X, a corporation with net-operating loss carryforwards. A, B, and X form partnership PRS to own and operate a building that qualifies for section 42 low-income housing credits. PRS is financed with cash contributions by A and B and nonrecourse indebtedness, and the partnership agreement provides for special allocations of income and deductions, including depreciation, to A and B equally. This allocation is consistent with the allocation of other economically substantial partnership items attributable to the building. The section 42 low-income housing credits are also allocated according to the partnership agreement. The partners and partnership comply with all applicable partnership regulations in their management and reporting of the partnership. These include sections 1.704- 1(b) (2) (ii)-(iii), 1.704-2(e), and 1.752-3, Income Tax Regs. The ultimate result reached by the Commissioner is that individuals A and B are allowed to deduct their distributive - 59 - shares of PRS' losses against their nonpartnership income and to apply the low-income housing credits against their tax liabilities. Example (6) goes on to indicate that this allocation may not accurately reflectithe partners! economic, agreement or clearly reflect income. However,2because- the provisions that lead to' this result, sections 1.704-1(b) (2) (ii") - (iii), 1.704-2(ë), and 1.75223, Income Tax Regs., clearly contemplated this result, then requirement (3), discussed above, is treated as having been satisfied. The use of PRS results in partners A and B's aggregate Federal income'tax liability being lower than if A and B had owned the building directly. This result flows from A and B's, being able to use corporation X's otherwise allocable credits. Example 6 concludes that, even though the use of partnership PRS leads eto this result, 'the PRS transaction ~is not inconsistent wi-th the intent of subchapter K. As a result, the Commissioner cannot invoke section 1.701-2(b), Income' Tax Regs., to recast the transaction. Respondent disputes:petitioner's reliance on Example (6) and argues that it is inapplicable. Respondent contends that Example (6) concerns a general partnership, unlike Pitney Bowes, NJSEA, and Historic Boardwalk Hall, where all partners have personal liability, none of the entities is tax exempt, section 42-does not require a profit motive, and the taxpayers aretat risk if thes - 60 - building declines in value. Respondent argues that Historic Boardwalk Hall violated section,1r701-2(a)(1), Income Tax Regs., because there was nog substantial business purpose for its formation. Respondent points to certain factors listed in section 1.701-2(c), Income Tax Regs., and concludes that section 1.701-2(a) (1), Income Tax Regs;., has been violated. These factors include Pitney Bowes' aggregate tax liability's being lower as a result of Historic Boardwa-lk Hall's creation; thus, Pitney Bowes is substantially protected from any risk of loss and has little or no participation in the partnership's profits other than its preferred return. Respondent does not argue a breach of requirement (1) or (2) of section 1.701-2(a), Income Tax Regs: We have previously rejected respondent's contentions in,the context of his other arguments. We agree with petitioner that respondent's decision to recharacterize the East Hall transaction pursuant to section 1.701-2 (b), Income Tax Regs., was a s inappropriate.. NJSEA and Pitney Bowes had the legitimate business purpose, as discussed above, of allowing Pitney Bowes to invest in.the East Hall's rehabilitation. The use of a partnership was necessary to allow a for-profit corporation,to invest in the rehabilitation of a government-owned building. Although Pitney Bowes' aggregate tax liability was reduced as a - 61 - result of this transaction, Congress intended to use the rehabilitation tax credit to draw private investments into public rehabilitations - Further, the regulations clearly contemplate a situation in which a partnership is used to transfer valuable tax attributes from an entity that cannot use them--corporation X--to individuals who can--taxpayers A and B. See sec. 1.701-2(d), Example (_6_) , Income Tax Regs. VII. Section 6_6_62 Accuracy-Related Penalty Respondent determined in the FPAA that Historic Boardwalk Hall should be liable for the accuracy-related penalty pursuant to section 6662. Because we find respondent's other determinations to be incorrect, the section 6662 penalty is inapplic able . VIII. Conclusi-oD Respondent ' s determinations in the FPAA were incorrect . To reflect the foregoing, An appropriate decision will be entered.