Opinion ID: 202729
Heading Depth: 2
Heading Rank: 1

Heading: Burke's 1998 Taxable Income

Text: 6 Section 701 of the Internal Revenue code provides that [a] partnership as such shall not be subject to the income tax imposed by this chapter. Persons carrying on business as partners shall be liable for income tax only in their separate or individual capacities. 26 U.S.C. § 701. Section 703(a) provides that [t]he taxable income of a partnership shall be computed in the same manner as in the case of an individual. Id. § 703(a). 7 Burke argues that his distribution of partnership income for 1998 should not have been taxed that year because that income was (and remains) frozen in an escrow account, such that neither he, nor his partner, has access to the income. In support of his argument, Burke cites several cases (none of which deal with partnership or partner taxation) that hold that an individual taxpayer must only include income to which he has a claim of right. See, e.g., N. Am. Oil Consol. v. Burnet, 286 U.S. 417, 422, 52 S.Ct. 613, 76 L.Ed. 1197 (1932) (holding that profits earned by taxpayer in a given year are not taxable income until taxpayer first became entitled to them and when [taxpayer] actually received them). 8 Citing § 703's language that [t]he taxable income of a partnership shall be computed in the same manner as in the case of an individual, Burke contends that under these cases, the partnership did not earn taxable income in 1998 because the restriction of funds . . . defers the recognition of income at the partnership level, as it does for individuals, until the restriction is removed. 9 But § 703 does not help Burke. A self-imposed restriction on the availability of income cannot legally defer recognition of that income. See Reed v. Comm'r, 723 F.2d 138, 143 (1st Cir.1983) ([A] `self-imposed limitation' created by the [taxpayer] is legally ineffective to shift taxability on escrowed funds from one year to the next.). The partnership received the money free and clear in 1998. It was the individual partners, Burke and Cohen, who chose to place the funds in escrow — not the partnership's clients or other persons owing the partnership money. Compare with id. at 142 (As long as the deferred payment agreement is binding between the parties and is made prior to the time when the [taxpayer] has acquired an absolute and unconditional right to receive payment, then the . . . taxpayer is not required to report the . . . income until he actually receives [it].). Thus, Burke's contentions have only to do with the individual partners' access to the funds after they were placed in escrow and not the partnership's access to them. 10 It is well settled that partners' distributions are taxed in the year the partnership receives its earnings, regardless of whether the partners actually receive their share of partnership earnings: Few principles of partnership taxation are more firmly established than that no matter the reason for nondistribution each partner must pay taxes on his distributive share. United States v. Basye, 410 U.S. 441, 454, 93 S.Ct. 1080, 35 L.Ed.2d 412 (1973); see also Heiner v. Mellon, 304 U.S. 271, 281, 58 S.Ct. 926, 82 L.Ed. 1337 (1938) (The tax is . . . imposed upon the partner's proportionate share of the net income of the partnership, and the fact that it may not be currently distributable, whether by agreement of the parties or by operation of law, is not material.); 26 C.F.R. § 1.702-1 (providing that a partner must separately account for his distributive share of partnership income whether or not distributed). Consistent with this long-standing principle, courts have uniformly held that partners must currently recognize in their individual incomes their proportionate shares of partnership income, even if the partnership income was not actually distributed to them for any reason, including disputes, consensual arrangements, ignorance, concealment, or force of law. See, e.g., Heiner, 304 U.S. at 280-81, 58 S.Ct. 926 (holding partners liable for tax on their distributive share of liquidating partnership's net profits in the year earned, even though proceeds from the sale of partnership assets were not distributed until a year later); Comm'r v. Goldberger's Estate, 213 F.2d 78, 81-82 (3d Cir.1954) (holding taxpayer liable for distributive share of profits earned by joint venture, even though he was ignorant of the full extent of the profits and did not receive his distributive share until years later); 3 Earle v. Comm'r, 38 F.2d 965, 967-68 (1st Cir.1930) (requiring members of partnership which was dissolved during taxable period by death of one of the partners to report their respective proportions of partnership income on their individual income tax return, whether distributed or not). Thus, Burke was required to report his distributive share of the partnership's income in 1998, even if he had not yet received it.