The IRS Issues New Partnership Rules for Disguised Sales & Liability Allocations

Recently, the IRS issued regulations to clarify definitions of partnership disguised sales and allocation of liabilities.

Recently, the IRS issued regulations to clarify definitions of partnership disguised sales and allocation of liabilities. The new regulations have two specific stipulations relating to final and temporary and proposed rules:

• The temporary and proposed regulations will provide rules and guidance for the allocation of liabilities and obligations in identifying if a debt falls under a “recourse partnership liability.”
• The final regulations cover disguised sales of property – both made by or to a partnership – and “excess nonrecourse liabilities” allocations to partners.

What are disguised sales?

The regulation will prevent partners from changing sales or property exchanges as contribution to the partnerships. Specifically, one partner cannot deem the proceeds as revenue generated from the partnership. Because this revenue could be placed as a distribution by the partnership, whereupon partners could either avoid or defer tax payments.

There are certain exceptions to what falls under the disguised sales regulation. Most notably, debt financed distributions do not fall under the rule. To receive this exception though, partners need to provide the necessary paper trail to prove that partnership distributions can be tracked as one partner borrowing from another.

Rules on capital expenditures changed

The manner in which capital expenditures are treated under the rules has changed as well. There are three clarifications that the regulations make:

• Specify how capital expenditures for multiple property transfers fit into the exception.
• Define capital expenditure items that fall under the exception.
• Provide a final ruling on the exceptions with regards to “preformation” capital expenditures and liabilities stemming from capital expenditures.

What this means is that whenever partners receive financing or a disguised sale transaction from another partner, there will be no exceptions for preformation capital expenditures.

What are allocations of liabilities?

Under temporary regulations, a partner needs to use the same calculations to determine another partner’s excess nonrecourse liabilities shares as they would in calculating a partner’s shares of partnership liabilities in the event of disguised sales.

Implementation dates

All temporary, proposed and final regulations were effective on Oct. 5, 2016.

The final regulations apply to any transaction or liabilities brought on by a partner after Oct. 5, 2016. Any monetary transfers that occur after that date need to have a contract in place before then.

Under the temporary regulations, the implementation date began on Oct. 5, 2016. However, the proposed regulations are effective on the date they become final regulations.