Tax News

CCH (cch.taxgroup.com) reports:

The Tax Court correctly treated as a partnership item its determination that an LLC was a sham and lacked economic substance. The LLC's tax matters partner (TMP) and a bank sold to one another nearly identical "bonus coupons" payable if certain conditions were met. The TMP contributed cash and the bonus coupon to the LLC and assigned to it the burden of paying the redemption costs associated with the coupon he had sold to the bank. The TMP subsequently liquidated his interest in the LLC and reported a short-term capital loss representing the liquidation proceeds less his purported outside basis in the LLC. The IRS issued a notice of final partnership administrative adjustment (FPAA) to the LLC's return, seeking to declare the LLC a sham, zero out all entries on its return, and imposing penalties. The IRS's adjustments and penalties were sustained by the Tax Court which determined, as a partnership item, that the LLC was a sham, lacked economic substance and was formed and/or availed of to artificially overstate the basis of the TMP's interest.
The taxpayer's argument that the LLC's sham status cannot constitute a partnership item was rejected. Although the definition of partnership item in Code Sec. 6231(a)(3) includes items required to be taken into account under subtitle A, the statutory language provides room for partnership items that, even in the absence of an explicit subtitle A reference, are necessary for income tax calculation purposes. Further, other courts have applied a similarly broad reading of the partnership item definition in concluding that the TEFRA
statute of limitations is a partnership item, even through the statute of limitations is not governed by subtitle A. The taxpayer did not present a compelling reason to distinguish the partnership's status as a sham from the treatment of the statute of limitations. Moreover, the treatment of sham status as a partnership item was consistent with Congress's intent in enacting TEFRA.
The determination of sham status was also more appropriately determined at the partnership level. Under Reg. §301.6231(a)(3)-1(b), the determination of partnership items includes underlying legal and factual determinations including the partnership's method of accounting, its inventory method, and whether partnership activities have been engaged in with the intent to make a profit for purposes of Code Sec. 183. The status of a partnership as a sham is an underlying legal determination that falls within the definition of partnership item.
Affirming an unreported Tax Court decision.
RJT Investments X, CA-8, 2007-2 USTC ¶50,535
Other References:
Code Sec. 6221
CCH Reference - 2007FED ¶37,569.12
Code Sec. 6226
CCH Reference - 2007FED ¶37,709.70
Code Sec. 6231
CCH Reference - 2007FED ¶37,849.45
Tax Research Consultant
CCH Reference - TRC PART: 60,056