Court Opinion

ID: 4486152
Source: CourtListenerOpinion
Date Created: 2020-01-16 21:34:13.532676+00
Date Added: 2024-06-11T14:53:48.742378
License: Public Domain

WHITAKER, Judge: This cause is before us on petitioners’ motion to dismiss for lack of jurisdiction.1 Petitioners claim that we lack jurisdiction over the deficiency determination against them because respondent, seeking to make adjustments with respect to a partnership, failed to issue a notice of final partnership administrative adjustment (FPAA).2 Respondent objects to petitioners’ motion on the basis that the partnership involved falls within the small partnership exception to the partnership audit and litigation provisions,3 and that therefore issuance of an FPAA was not required. We have based our findings on the record and files herein. OPINION Petitioners resided at Dallas, Texas, at the time the petition herein was filed. During the calendar year 1983, petitioner Robert L. Harrell was a general partner in HSCC Investor Limited Partnership No. 102 (HSCC), a partnership organized and existing under Texas law. HSCC timely filed a partnership return for 1983 and petitioners reported their distributive share of the loss and investment credit from HSCC on their 1983 Federal income tax return. Respondent determined that petitioners’ distributive share of the partnership loss and investment credit for the year 1983 were both zero, and issued a statutory notice to petitioners on April 14, 1987. We must decide whether, under the facts presented, respondent was required to comply with the partnership audit and litigation procedures enacted in 1982 as part of the Tax Equity and Fiscal Responsibility Act (TEFRA). Sec. 6221 et seq.; Pub. L. 97-248, 96 Stat. 648 (1982). If he was, and no FPAA was issued, then we lack jurisdiction over this case. Frazell v. Commissioner, 88 T.C. 1405 (1987); Maxwell v. Commissioner, 87 T.C. 783 (1986). Congress enacted the partnership audit and litigation procedures to provide a method for uniformly adjusting items of partnership income, loss, deduction, or credit that affect each partner. “Congress decided that no longer would a partner’s tax liability be determined uniquely but ‘the tax treatment of any partnership item [would] be determined at the partnership level.’ ” Maxwell v. Commissioner, supra at 787; see sec. 6221.4 A “small partnership” is excepted from these procedures, however, provided that— (I) such partnership has 10 or fewer partners each of whom is a natural person (other than a nonresident alien) or an estate, and (II) each partner’s share of each partnership item is the same as his share of every other item. [Sec. 6231(a)(l)(B)(i).] The parties agree that HSCC had 10 or fewer partners. They disagree with respect to whether the “same share” requirement found in section 6231(a)(l)(B)(i)(II) has been satisfied. Petitioners argue that the same share test should be applied to the terms of the partnership agreement, and that if disproportionate allocations of items with respect to any partner are possible under the terms of the agreement, then the test has not been satisfied. Respondent argues that to determine whether the same share requirement has been met we must look beyond the partnership agreement and determine what items were shared during the year in issue and in what proportions, or, that at the very least, he is entitled to an evidentiary hearing to determine whether special allocations were in fact made during the year. This is the first time we have addressed this issue. The legislative history to the partnership audit and litigation provisions offers no explanation as to how the same share rule is to be applied: i. Small partnerships Generally, partnerships covered by the rules include any partnership required to file a return under section 6031(a). However, the rules do not apply to partnerships consisting of 10 or fewer partners each of whom is a natural person (other than a nonresident alien) or an estate, provided that each partner’s share of any partnership item is the same as his distributive share of every other partnership item. A husband and wife (and their estates) shall be treated as one partner for purposes of this exception. [H. Rept. 97-760 (Conf.), at 608 (1982), 1982-2 C.B. 600, 667. Emphasis added.] The temporary regulations5 are similarly of limited assistance: (3) “Same share.” The requirement of section 6231(a)(l)(B)(i)(II) is satisfied for a taxable year if during all periods within that taxable year each partner’s share of each of the partnership items specified in sec. 301.6231(a)(3)-lT(a)(l)(i) through (iv) is the same as that partner’s share of each of the other partnership items specified in that section during that period (even though the partner’s share of all such specified partnership items changes from period to period within that taxable year). Thus, a partner whose share of all such specified partnership items changes as a result of a sale or redemption of a partnership interest (or portion thereof) or a contribution of cash or property to the partnership during the partnership taxable year shall satisfy the same share requirement if during the period before the sale, redemption, or contribution the partner’s share of each specified partnership item is the same as all other specified partnership items and during the period after the sale, redemption, or contribution the partner’s share of each specified partnership item is the same as all other specified partnership items. For purposes of section 6231(a)(l)(B)(i)(II) and this section, if each partner’s share of each partnership item would be the same as his share or her share of every other item but for allocations made under section 704(c) or allocations made under similar principles in accordance with applicable regulations the requirement of section 6231(a)(l)(B)(i)(II) shall be considered satisfied. Similarly, special basis adjustments pursuant to sections 754, 743, and 734 shall not be taken into account in determining whether the “same share” requirement is met. (4) Determination made annually. The determination of whether a partnership meets the requirements for the exception for small partnerships under section 6231(a)(1)(B) and this paragraph (a) shall be made with respect to each partnership taxable year. Thus, a partnership that does not qualify as a small partnership in one taxable year may qualify as a small partnership in another taxable year if the requirements for the exception under section 6231(a)(1)(B) and this paragraph (a) are met with respect to that other taxable year. [Sec. 301.6231(a)(l)-lT(a)(3)-(4), Temporary Proced. & Admin. Regs., 52 Fed. Reg. 6789 (Mar. 5, 1987). Emphasis added.] The partnership items referred to in these regulations are: (i) Items of income, gain, loss, deduction, or credit of the partnership; (ii) Expenditures by the partnership not deductible in computing its taxable income (for example, charitable contributions); (iii) Items of the partnership which may be tax preference items under section 57(a) for any partner; (iv) Income of the partnership exempt from tax * * * [Sec. 301.6231(a)(3)-lT(a)(l), Temporary Proced. & Admin. Regs., 51 Fed. Reg. 13214 (Apr. 18, 1986).] Petitioners argue that “Although the Temporary Regulations do not state that the ‘same share’ test is to be applied with reference to the partnership agreement, that conclusion is implicit.”6 Looking at the statute and regulations, as well as the purpose of the partnership audit and litigation provisions, we do not reach the same conclusion. It is logical to assume that the reference to a partner’s share in section 6231(a)(1)(B) is to the partner’s distributive share as determined in the partnership provisions of the Code (which provide that a partner’s distributive share is to be determined by the partnership agreement). See sec. 704(a). However, it does not necessarily follow that the same-share test is to be applied solely by reference to what the partner’s distributive share would be or might be under the agreement. We believe that for purposes of determining whether a partnership is a small partnership and whether the same share rule is satisfied, the test should be applied by determining whether the partnership reported more than one partnership item for the year and, if so, how those items were shared by each partner. This determination should be made by respondent as of the date of commencement of the audit of the partnership (but not necessarily on that date) by examining the partnership return and the corresponding Schedules K-l, and any amendments thereto received prior to this date. Section 6031(a) provides that every partnership is required to— make a return for each taxable year, stating specifically the items of its gross income and the deductions allowable by subtitle A * * * and shall include in the return the names and addresses of the individuals who would be entitled to share in the taxable income if distributed and the amount of the distributive share of each individual. Respondent’s regulations further clarify that the return shall include the “amount of the distributive shares of income, gain, loss, deduction, or credit (including any items which enter into the determination of the tax imposed by section 56) allocated to each partner.” Sec. 1.6031-l(a)(l), Income Tax Regs. Thus the returns and Schedules K-l are required to reflect what each partner’s distributive share of each partnership item was for the partnership year. For the purpose of classifying a partnership under section 6231(a)(l)(B)(i)(II), but for no other purpose, respondent, the partnership, and all partners are entitled to assume that the partnership has determined each partner’s distributive share in accordance with the terms of the partnership agreement (see sec. 704(a)), or, in the absence of a provision in the agreement, in accordance with the partners’ interests in the partnership. See sec. 704(b). If the shares reported are not consistent with the terms of the partnership agreement (or, in the event there is no provision in the agreement or no agreement, are not consistent with the partners’ interests in the partnership) the partners and partnership bear the risk of erroneously being or not being classified as a small partnership. Respondent should not be required to make this determination at his peril. Because this section serves the limited purpose of determining to whom to issue a statutory notice or whether to issue an FPAA, and for the sake of judicial economy, we will not for these purposes permit a partner or representative of a partnership or respondent to claim a result other than that identified in the return and Schedules K-l as filed and amended prior to the date of commencement of the partnership audit. Respondent’s proposed adjustments to partnership items, to a partner’s distributive share of an item, or regarding the economic effect of allocations, whether made during the audit stage, in the issuance of a statutory notice or FPAA, or as ultimately determined in litigation, will not affect the status of the partnership as being or not being a small partnership for these purposes. Nor will an amended return filed on behalf of the partnership or a partner after the commencement of the audit affect the status of the partnership for the limited purpose of determining whether section 6231(a)(l)(B)(i)(II) applies. This bright-line test simply precludes “a party” from attempting to secure some undue advantage by the running of the statute of limitations. The regulations provide that the determination of whether a partnership meets the requirements for the small partnership exception shall be made with respect to each partnership year. Sec. 301.6231(a)(l)-lT(a)(4), Temporary Proced. & Admin. Regs. By relying on the partnership returns and accompanying Schedules K-l to determine each partner’s share of the partnership items and whether the same share rule applies, the extent to which respondent must interpret the partnership agreement each year will be minimized. We believe this approach best serves the purpose of simplicity that is behind the partnership audit and litigation provisions. Moreover, this approach is entirely consistent with section 6233. That section prescribes in general that where an entity files a return as a partnership, it will be subject to TEFRA partnership audit and litigation procedures even though it is subsequently determined that the putative partnership is not a partnership for tax purposes. In this situation, Congress mandated that the information on the tax return would be determinative of the procedures to be followed, even if the underlying facts later prove the return to be incorrect. The temporary regulations carry out the intent of section 6233 in that these procedures apply— with respect to any taxable year of an entity for which such entity files a partnership return as well as to such entity’s items for that taxable year and to any person holding an interest in such entity at any time during that taxable year. Any final partnership administrative adjustment or judicial determination resulting from a proceeding under subchapter C with respect to such taxable year may include a determination that the entity is not a partnership for such taxable year as well as determinations with respect to all items of the entity which would be partnership items, as defined in section 6231(a)(3) and the regulations thereunder, if such entity had been a partnership in such taxable year (including, for example, any amounts taxable to an entity determined to be an association taxable as a corporation). [Temporary Proced. & Admin. Regs., sec. 301.6233-1T(a), 52 Fed. Reg. 6795 (Mar. 5, 1987).] Thus, the result reached here is totally consistent with the approach mandated by Congress in section 6233, i.e., making the determination regarding the application of the TEFRA procedures on the basis of the partnership information return. Turning to the facts of this case, the partnership return reflects that HSCC operated at a net loss for the calendar year 1983. HSCC reported the following items of interest, depreciation, and other deductions on its Form 1065: 1. Total deductible interest expense (not claimed elsewhere on the return). $7,883 2. Depreciation (5 year property placed in service in 1983, cost/basis of $44,000). 6,600 3. “Other deductions” (a) Amortization. $66 (b) Boarding. 6,404 (c) Breeding fees. 110,750 (d) Freight. 450 (e) Lease cost - bulls. 25,000 (f) Lease cost - donor cows. 390,000 (g) Lease cost - recipient cows. 31,200 (h) Licenses and filing fees. 2,500 (i) Legal and accounting . 4,338 (j) Management fees. 10,000 (k) Supplies. 181 580,889 580,889 ORDINARY LOSS. 595,372 The partnership also reported an investment credit in the amount of $44,000. The Schedules K-l, attached to the Form 1065, indicate that the net loss and investment credit were allocated to the partners according to the following percentages: Capital contributions Percent Percent Percent ownership loss credit Partner Co S' S $100 15.0 1.0 1.0 R. Harrell O 13 100 15.0 1.0 1.0 J. Hutchinson O TI 100,000 7.0 9.8 9.8 J. Hutchinson r TI 200,000 14.0 19.6 19.6 E. Howerdd, Jr. f TI 100,000 7.0 9.8 9.8 J. Guy T3 600,000 42.0 58.8 58.8 W. Lowry f TI The partnership return reflects that all partnership items which occurred during the year were shared proportionate to the partners’ capital contributions (with adjustments so that general partners received at least 2 percent of all items). The partnership return is consistent with the partnership agreement, which provides that the items were to be shared proportionate to capital contributions until “net cash flow” was sufficient to return to the limited partners their capital contributions: ARTICLE VI Profits and Losses 2. For the purposes of I.R.C. Sections 702 and 704, the determination of each Partner’s distributive share of any item of income, gain, loss, deduction, credit or allowance shall be made,- first, dollar-for-dollar in accordance with such Partner’s distributable share of Net Cash Flow, to the extent thereof, and, thereafter, in accordance and in proportion to such Partner’s Percentage of Partnership Interest; provided, however, that, notwithstanding the foregoing provisions of this Article VI-2, the General Partners shall nonetheless receive at least two percent (2%) of all Partnership items of income, gain, loss, deduction, credit or allowance for each Partnership Accounting Year or other period. [[Image here]] ARTICLE XII Distributions 1. The Net Cash Flow shall be distributed annually (or more or less frequently if the Managing General Partner deems it advisable) among the Partners in accordance with the provisions of this Article XII. * * * * sfc * 3. The Net Cash Flow of the Partnership shall be distributed with respect to each Partnership Accounting Year as follows: (a) Any Net Cash Flow shall first be distributed to the Limited Partners (pro rata, in proportion to théir respective Percentages of Partnership Interest) to the extent of their Net Capital Investment, it being understood and agreed that such priority shall continue until the Limited Partners shall receive all of their Net Capital Investment. (b) To the extent there shall be any Net Cash Flow remaining after the aforesaid priority distribution, such remaining Net Cash Flow shall be distributed to all Partners, pro rata, in proportion to their respective Percentages of Partnership Interest. On these facts, HSCC qualified as a small partnership. Although different allocations might have occurred if items other than those in the agreement had been distributed during the year in issue, the partnership returns and Schedules K-l reflect that for 1983, all items were shared by all partners proportionate to their capital contributions.7  Based on the foregoing, respondent’s statutory notice is not invalid on the grounds that an FPAA should have been issued, and petitioners’ motion to dismiss for lack of jurisdiction is denied. To reflect the foregoing, An appropriate order will be entered. Reviewed by the Court. Nims, Parker, Korner, Shields, Clapp, Swift, Jacobs, Wright, Parr, Williams, Wells, Ruwe, and WHALEN, JJ., agree with the majority opinion.  This is a companion case to Z-Tron Computer Research & Development Program, Bruce R. and Angie Stivers, Partners Other Than the Tax Matters Partner v. Commissioner, 91 T.C. 25 (1988).   Sec. 6223(a)(2).   Sec. 6231(a)(1)(B).   All section references are to the Internal Revenue Code of 1954 as amended and in effect during the year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.   The regulations addressing the small partnership exception were proposed by Treasury in 1986. L.R. 205-82, 1986-1 C.B. 782. In March 1987, the regulations were declared Temporary Regulations — T.D. 8128, 1987-1 C.B. 325, effective for partnership taxable years beginning after Sept. 3, 1982.   Petitioners argue that the partnership agreement in this case provided that items in category (i) of the regulations could be distributed proportionate to the partners’ capital contributions or their partnership interest, depending on the state of the limited partners’ capital accounts, however the items in categories (ii)-(iv) of the regulations are not provided for in the partnership agreement and can only be distributed in accordance with the partners’ partnership interests. The possibility that items in categories (ii)-(iv) could be distributed differently from items in category (i) therefore exists, petitioners contend, and the same share rule is not satisfied.   We also note that had we not looked to the reporting position, but looked only to the terms of the agreement, we most likely would have reached the same result. Contrary to petitioners’ contentions, it appears that partnership items in categories (ii)-(iv) of the regulations were covered by the partnership agreement. (See note 3 supra.) The regulations identify “partnership items” as they are reported by the partnership, i.e., items of income, gain, loss, deduction or credit of the partnership; income of the partnership exempt from tax, etc. The partnership agreement refers to “each Partners’ distributive share of any item of income, gain, loss, deduction, credit or allowance.” (Emphasis added.) Thus, although the regulations separate the partnership items into various categories, the agreement in this case sets forth the method by which each partners’ distributive share of any (and all) of those items will be determined.