Arthur Andersen Real Estate and Hospitality Tax Alert -- IRS Issues Favorable Guidance On 'Disguised Sale' Transactions.

Business Editors & Real Estate Writers

WASHINGTON--(BUSINESS WIRE)--Oct. 10, 2000

The IRS released today Revenue Ruling 2000-44, which favorably applies the "disguised sale" rules for transfers of property to a partnership. Under the disguised sale rules, a transfer of property to a partnership, where the partnership also assumes "non-qualified" liabilities of the transferor, or where the partnership makes certain other cash distributions to the transferor, will be treated as a taxable sale of the property to the partnership rather than a tax-free contribution.

In this ruling, a wholly-owned subsidiary of a parent corporation held rental property, which was encumbered by debt. In addition, the subsidiary incurred capital expenses with respect to the rental property. Under the disguised sale rules, the subsidiary could have contributed the property to a partnership, and the assumption of the debt by the partnership would not have been a disguised sale because the debt was a "qualified liability" as defined in the disguised sale rules. In addition, the subsidiary would have been entitled to receive a reimbursement from the partnership for the capital expenditures it incurred on the rental property, pursuant to another exception to the disguised sale rules.

In this case, however, the subsidiary was first liquidated into its parent corporation. The parent corporation then contributed the rental property to a partnership, subject to the debt. In addition, the partnership reimbursed the parent corporation for the capital expenditures that had been incurred by the subsidiary.

The IRS ruled that the parent steps into the shoes of the subsidiary here for purposes of the disguised sale rules. Thus, the contribution of the rental property subject to the debt, and the reimbursement for capital expenditures was tax free to the parent. The parent corporation succeeded to the status of the subsidiary corporation for purposes of applying the "qualified liability" and "preformation expenditures" exceptions to the disguised sale rules.

For further information on this issue or other planning opportunities, please contact Tony Brown at [phone] or via e-mail at [e-mail]

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