Court Opinion

ID: 4485410
Source: CourtListenerOpinion
Date Created: 2020-01-16 21:17:24.408169+00
Date Added: 2024-06-11T15:04:10.380614
License: Public Domain

Whitaker, J., dissenting: If the facts as found support the alternative analysis posited in Judge Simpson’s concurring opinion, and I am not certain that they do, then the majority may have inadvertently reached the right result, although for the wrong reasons. But I strongly disagree with the majority’s deference to State law characterizations of general and limited partners, with the majority’s approach to the application of section 4651 and finally with the majority’s conclusion that the liability of the limited partners is contingent. With respect to the "contingent” issue, I agree with Judge Cohen’s analysis and have joined in her dissent. Generally, under State law, it is only a limited partner whose personal liability can be confined to that amount of property which he contributed or is required to contribute to the partnership;2 a general partner is liable for all recourse obligations of the partnership. Personal liability exposes the personal assets of the responsible person to payment of the obligation; it stands in contrast to limited liability, which exposes only the collateral pledged as security for satisfaction of the obligation.3 Neither requires that the liability be presently payable. State law definitions envision a clear distinction as to the presence or absence of personal liability in connection with third party obligations. While State law must be applied in determining the rights and liabilities of partners to each other and to third parties, it is Federal law that controls the manner in which these rights and liabilities are to be taxed. Lyeth v. Hoey, 305 U.S. 188 (1938); Helvering v. Stuart, 317 U.S. 154 (1942). Labels, whether mandated by State law or adopted by the parties, are unimportant. This is especially true when undertaking to determine basis and applying the "at risk” rules to partners. We are concerned here with Federal taxation of a limited partner who has made himself personally liable in a capacity analogous to that of a general partner with respect to a particular partnership obligation. In that situation, one commentator has suggested: that the courts should not attempt to pigeonhole a limited partner who is liable as a general partner into one category for all purposes of taxation, rather, they should determine the underlying congressional policy of the operative Code provision and make a de facto analysis on a case-by-case basis.[4] From a practical as well' as an economic point of view, a limited partner who has assumed a pro rata part of a partnership recourse liability is the equivalent of a general partner, especially where, as here, the general partner, with respect to the same liability, has limited his liability by the contractual call upon the limited partners.5  On the facts before us, both general and limited partners are personally liable for a pro rata portion of the partnership’s recourse obligation to Fairfield. Being similarly situated, they should be treated equally for Federal tax purposes unless the statute compels us to do otherwise, which it does not. Consequently, to the extent that the majority opinion distinguishes between, and turns upon, State law characterizations of general and limited partners, it may be correct for State law purposes,6 but for Federal tax purposes the majority ignores both form and substance and unduly extends section 465. The majority’s application of section 465 fails to recognize the relationship between the basis and the "at risk” provisions. Section 465 merely suspends what would otherwise be an allowable deduction. S. Rept. 94-938 (1976), 1976-3 C.B. (Vol. 3) 49, 86. The amount of depreciation or other deductions which a partner is permitted to take is initially limited to the amount of his basis in the partnership. Sec. 704(d). Kingbay v. Commissioner, 46 T.C. 147, 151 (1966). Thus, in the absence of basis, there is no deduction to suspend. A determination of basis, therefore, is a prerequisite to the application of the "at risk” provisions. A partner’s share of partnership liabilities is treated as a contribution of money by the partner to the partnership resulting in an increase in the partner’s adjusted basis. Sec. 752. Each partner’s share of recourse liabilities is initially determined in accordance with the ratio in which the partners share losses under the partnership agreement. Sec. 1.752-l(e), Income Tax Regs. A limited partner’s share of recourse liabilities, however, may not exceed the difference between his actual contribution to the partnership and the total contribution that he is obligated to make under the limited partnership agreement. Sec. 1.752-1(e), Income Tax Regs. Consequently, a limited partner’s basis in his partnership interest can be increased by his share of partnership recourse obligations to the extent that he is obligated to make additional contributions to the partnership. At page 588, the majority states that "the cash call, as provided for in the certificates of limited partnership, is not an 'unpaid contribution’ which would make the limited partners personally liable under the ulpa.”7 While there may be situations in which a contingency is so remote that an obligation lacks substance and should be ignored, this is not one of them. Under the majority’s contingency analysis, the limited partners would acquire basis only when the cash call is complied with, a position contrary to the import of respondent’s regulations and inconsistent with the congressional intent to allocate basis to those parties who will be required to utilize their own assets to retire partnership liabilities if the partnership incurs losses. Thus the majority suspends a deduction under section 465 which its own analysis would never have allowed the limited partners to claim under section 752. The majority should, therefore, have forced the parties to focus on basis, rather than deciding the case on an issue which, under the majority analysis, could not be reached. However, as Judge Cohen demonstrates, the limited partners do have personal liability for their respective shares of the recourse liability. Hence, the liability should be included in basis and the loss should be allowed unless otherwise suspended pursuant to section 465. For the reasons articulated by Judge Cohen, the section 465 requirements are met. As discussed above, the tax consequences under section 465 of transactions involving similarly situated taxpayers should be the same. If a general partner is "at risk” as to a partnership’s recourse obligation by virtue of his liability, then a similarly situated limited partner should also be considered "at risk.” Each party is "ultimately liable” on the obligation. See Smith v. Commissioner, 84 T.C. 889 (1985). Moreover, if the limited partner is not at risk for his share of the obligation, would the majority allocate that part of the debt to the general partner’s basis and include it in his amount "at risk”? We think not. The Senate report and section 465(b)(3) restrict the general partner to his own pro rata part of the Fairñeld note: A taxpayer’s capital is not "at risk” in the business, * * * to the extent he is protected against economic loss of all or part of such capital by reason of an agreement or arrangement for compensation or reimbursement to him of any loss which he may suffer. Under this concept, an investor is not "at risk” * * * if he is entitled to reimbursement for part or all of any loss by reason of a binding agreement between himself and another person. [S. Rept. 94r-938, 1976-3 C.B. (Vol. 3) 49, 87.] Consequently, no general partner’s amount "at risk” can be increased to the extent of the limited partner’s cash call obligations. See Brand v. Commissioner, 81 T.C. 821 (1983). This could not have been Congress’ intent. The allocation of "at risk” amounts should accrue to the benefit of the partner ultimately bearing the economic risk of default. Any partner, whether general or limited, who is obligated to make good on a partnership’s recourse obligation in the event of default is personally liable for purposes of the "at risk” provisions to the extent that he is not otherwise protected against loss. Each partner will be required to use his personal assets only if the partnership assets prove inadequate. The adequacy of the partnership assets, however, does not of itself constitute a contingency affecting a partner’s amount "at risk.” On these facts, each partner was "at risk” in an amount equal to his pro rata share of the unpaid recourse obligation as of the close of each taxable year. I recognize that the "at risk” inquiry is an annual one on the basis of facts existing at the end of each taxable year. S. Rept. 94-938, 1976-3 C.B. (Vol. 3) 49, 86.1 further recognize that at the end of each of the years in issue, the actual amount which any of these partners may be required to contribute pursuant to the cash call cannot be definitively determined. In theory, no contribution might be required. However, a partner may be personally liable on a recourse obligation which is not presently payable. As to recourse obligations, the test remains whether, and to what extent, a partner is personally liable on the obligation in the event of default. For these reasons, I would hold that the limited partners have basis and are "at risk” to the extent of their pro rata share of the Fairfield note unless Judge Simpson’s speculation should turn out to be accurate. Nims, Kórner, Cohen, and Wright, JJ, agree with this dissent.   All section references are to the Internal Revenue Code of 1954 as amended and in effect during the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.    Cal. Corp. Code sec. 15517(l)(a) and (b) (West 1977); Nev. Rev. Stat. sec. 88.180(l)(a) and (b) (1979).    In distinguishing between the characteristics of corporations and partnerships, sec. 301.7701-2(d)(l), Income Tax Regs., defines limited and personal liability as follows: (d) Limited liability. — (1) An organization has the corporate characteristic of limited liability if under local law there is no member who is personally liable for the debts of or claims against the organization. Personal liability means that a creditor of an organization may seek personal satisfaction from a member of the organization to the extent that the assets of such organization are insufficient to satisfy the creditor’s claim. * * *    Banoff, "Tax Distinctions Between Limited and General Partners: An Operational Approach,” 35 Tax L. Rev. 1, 26 (1979).    For an excellent discussion of both basis and "at risk” in the partnership context, see Kalish & Rosen, "The Risky Basis for Partnership Allocations,” 38 Tax Lawyer 119 (1984). In pertinent part these authors at page 133 assert that: "The thrust of the rules for sharing recourse liabilities is to allocate the liabilities to the partners who would be required to satisfy the liabilities out of their personal assets in the event of a default by the partnership. A limited partner who is obligated to make additional capital contributions if necessary to satisfy a recourse creditor is in precisely the same situation as a general partner with regard to the recourse creditor.”    Both the majority and the concurring opinions touch upon the right of Fairfield to sue the limited partners to enforce the cash call, on the unrealistic assumption that the general partner will not make the necessary demand. The fact of the matter is that State law has not caught up with the contractual devices which partnerships have adopted since 1976 in an effort to comply with the "at risk” rules. Investors apparently have realized that assumption of a deferred obligation is more than offset by present deductions, a fact that Congress, in enacting sec. 465, either did not anticipate or, more likely, was willing to accept.    For personal liability, the majority apparently would require a presently payable obligation in a fixed amount. See Tech. Advice Memo. 8404012 (Oct. 13, 1983), in which the Service takes the position that a limited partner’s obligation to make additional capital contributions if the partnership is unable to satisfy its recourse liabilities is too contingent to entitle the limited partner to include his share of the liability in his basis under sec. 1.752-l(e) of the regulations. Excluding this type of contingency from basis is contrary to the basic premise of sec. 752 and the regulations, which generally allocate recourse liabilities among the partners so as to reflect the manner in which they will share the economic burden of the liabilities if the partnership is unable to pay them.