Managing the interplay between a partnership and its partners' statutes of limitations.
In AD Global Fund, LLC, 67 Fed. C1. 657 (2005), op. modified, 11/8/05, the plaintiff filed a motion for summary judgment, asserting that the IRS failed to issue a Notice of Final Partnership Administrative Adjustment (FPAA) within the Sec. 6229(a) limitation period, thereby barring the Service from assessing additional tax on partnership items. The IRS contended that it may assess tax attributable to partnership items within the assessment period set forth in Sec. 6501(a) after the Sec. 6229(a) period has expired. The Court of Federal Claims analyzed the interaction between Secs. 6501(a) and 6229(a) and agreed with the IRS'S interpretation of the interplay of these sections; thus, it denied the plaintiff's motion for summary judgment.
AD Global Fund (the plaintiff) is a limited liability company treated as a partnership for Federal income tax purposes and subject to the Unified Partnership Procedures of the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA); see Secs. 6221-6234. The plaintiff's 1999 Form 1065, U.S. Return of Partnership Income, was filed on April 17, 2000. On or about May 27, 2003, the IRS issued a Notice of Beginning of Partnership Administrative Proceeding (NBAP) to the plaintiff regarding the 1999 return. On Oct. 9, 2003, the IRS mailed an FPAA to the plaintiff's tax matters partner (TMP) with respect to the 1999 return.
The plaintiff timely filed a complaint in the Court of Federal Claims, challenging the IRS's ability to assess additional tax on the proposed partnership adjustments contained in the FPAA. It asserted that the IRS's failure to issue an FPAA within the three-year period under Sec. 6229(a) precluded the IRS from assessing any additional tax relating to any partnership items. The complaint initiating this lawsuit was filed by North Hills Holding, Inc. (NHH), a partner other than the plaintiff's TMP. The court's opinion does not specifically state the date on which NHH filed its 1999 Federal income tax return. For an assessment of additional tax against NHH to be timely made under Sec. 6501(a), the entity's 1999 return would have had to have been filed after Oct. 8, 2000.
Tax Treatment of Partnerships and Partners
Partnerships are generally not separate taxpaying entities; rather, they are tax reporting entities. This means that the tax effects of a partnership's activities are passed through to its partners; see Secs. 701 and 702. The partnership files Form 1065, on which it reports its annual Federal income tax activities, as well as each partner's distributive share (on Schedule K-l) of the partnership's taxable income or its losses and credits; see Sec. 6031(a). The Schedule K-1 information is provided by the partnership to the partners for inclusion on their returns; see Secs. 702 and 603 l(b).
TEFRA:. In 1982, Congress enacted unified partnership audit examination and litigation provisions (now contained in Secs. 6221-6234) as part of the TEFRA. Prior to the TEFRA's passage, the IRS did not conduct an examination at the partnership level; rather, it had to audit each partner's return that contained a partnership item. This forced the IRS to audit and litigate the same partnership items multiple times, which at times resulted in conflicting judicial decisions on the tax treatment of the same partnership item and, thus, inconsistent treatment of the partners. As complex multi-tiered partnerships were set up to create tax shelters, it became very difficult for the IRS to audit each partner within the assessment SOL to assess tax.
The TEFRA provisions were enacted to allow all issues on the tax treatment of partnership items to be resolved in a single administrative or judicial proceeding at the partnership level, eliminating multiple proceedings at the partner level; see Sec. 6221; H Rep't No. 97-760, 97th Cong., 2d Sess. (1982) p. 599, 1982-2 CB 600,662; and Maxwell, 87TC 783 (1986).
The IRS begins the process by sending an NBAP to any partner entitled to notice; see Sec. 6223(a)(1). If the audit of the partnership's return results in the adjustment of any partnership item, it then has to send the partners an FPAA; see Sec. 6223(a)(2). The partnership's TMP has 90 days to file a petition for a readjustment of the partnership items; see Sec. 6226(a).This can be accomplished in the Tax Court, Claims Court or U.S. District Court in which the partnership's principal place of business is located; see Sec. 6226(a). If the TMP does not file a petition for readjustment within 90 days, then other partners have 60 days after the close of the 90-day period in which to file a petition; see Sec. 6226(b)(1). Once the partnership adjustments are final, the IRS has one year to assess any additional tax liability against the partners; see Sec. 6229(d).
Secs. 6501(a) and 6229(a)
Sec. 6501(a), Limitations on assessment and collection, contains the general rule limiting the period in which the IRS can assess tax to three years from the date a return is filed. Specifically, it provides:
Except as otherwise provided in this section, the amount of any tax imposed by this tide shall be assessed within 3 years after the return was filed (whether or not such return was filed on or after the date prescribed) or, if the tax is payable by stamp, at any time after such tax became due and before the expiration of 3 years after the date on which any part of such tax was paid, and no proceeding in court without assessment for the collection of such tax shall be begun after the expiration of such period.
The competing statute is Sec. 6229(a), Period of limitations for making assessments. It guides the timely issuance of an FPAA, providing:
Except as otherwise provided in this section, the period for assessing any tax imposed by subtitle A with respect to any person which is attributable to any partnership item (or affected item) for a partnership taxable year shall not expire before the date which is 3 years after the later of--(1) the date on which the partnership return for such taxable year was filed, or (2) the last day for filing such return for such year (determined without regard to extensions).
As discussed above, the plaintiff advanced the position that the time period in Sec. 6229(a) is a separate SOL distinct from that set forth in Sec. 6501(a). The IRS argued that Sec. 6229(a) does not supersede Sec. 6501(a) but, rather, sets forth a minimum period for assessments attributable to partnership items that may, on occasion, extend the Sec. 6501(a) SOL. Thus, the issue for the court was whether Sec. 6229(a) is independent of Sec. 6501(a), or whether Sec. 6229(a) extends Sec. 6501(a).
The plaintiff cited early Tax Court cases interpreting the TEFRA as support for its argument that Sec. 6229(a) was intended to create a separate and distinct SOL for assessing partners for partnership items. In Maxwell, the issue before the Tax Court was whether the IRS could issue a deficiency notice to a partner for a partnership item before the issue was resolved at the partnership level. The court concluded that the IRS could not issue such notice until after resolution at the partnership level. In reaching its decision, it relied on the fact that special rules, including special SOLs, apply to partnership items.
In Roberts, 94TC 853 (1990), one of the issues before the court was whether a partnership proceeding was barred by the SOL. This issue was relevant because the SOL for assessment against a partner had not yet expired. The Tax Court concluded that the IRS would be time-barred from initiating a partnership proceeding. Although the court cited Sec. 6229(a), it did not mention Sec. 6501. The plaintiff argued that the Tax Court's failure to reference Sec. 6501 supported its argument that Sec. 6229(a) is a separate and distinct rule.
The IRS also had an arsenal of case law to support its argument that Sec. 6229(a) was an extension of Sec. 6501(a) and was not meant to be a separate rule.
In Rhone-Poulenc Surfactants and Specialties, L.P., 114TC 533 (2000), one of the primary issues before the Tax Court was the interplay between Secs. 6229(a) and 6501 .The majority of judges concluded that Sec. 6229(a) was a complement to Sec. 6501. In reaching its decision, the court noted that Sec. 6501(a) does not contain any exceptions for deficiencies attributable to partnership items.
The D.C. Circuit affirmed the Tax Court's interpretation of the relationship between Secs. 6501 and 6229 in Andantech, 331 F3d 972 (DC Cir. 2003). It concluded that Sec. 6229 was intended to serve as an extension to the general period of limitations set forth in Sec. 6501. In reaching its decision, the court noted that Sec. 6501 specifically refers to all taxes.
In AD Global Fund, LLC, the court concluded that Sec. 6229(a) was ambiguous, because it could be read either as a separate limitation from Sec. 6501 or as an extension of Sec. 6501, and neither interpretation would lead to absurd results. The court found support for this ambiguity in the unsettled case law relied on by the parties.
Because the court concluded that Sec. 6229(a) was an ambiguous statute, the linchpin of its decision was whether Sec. 6229(a) should be construed in favor of or against the government. The plaintiff argued that Gould vs. Gould, 245 US 151 (1917), should apply. The Gould rule generally provides that ambiguities in tax statutes should be construed against the government in favor of taxpayers. The IRS, on the other hand, cited Badaracco, Sr., 464 US 386 (1984), for the proposition that an SOL barring tax collection should be construed in the government's favor. The court, thus, was faced with two conflicting statutory interpretation rules: the Gould rule, which applies generally to tax statutes, and Badaracco, which applies to SOLs involving tax revenues. The court concluded that Badaracco was the controlling precedent, because it was issued after Gould and was more directly on point, as it involved a tax statute that was also an SOL.
As a result, the court ruled that Sec. 6229 did not constitute a separate SOL but, rather, contained an extension to assess partnership items.
AD Global Fund, LLC, is a valuable reminder to partners of TEFRA partnerships and their tax advisers to keep apprised of the tax compliance of any TEFRA partnership in which they have invested. Unsuspecting taxpayers may find the IRS assessing additional taxes resulting from adjustments to partnership items well after they believed the SOL had expired.
FROM JOHN R. KEENAN, FIRM DIRECTOR, AND CHASTITY WILSON, MANAGER, DELOITTE TAX LLP, WASHINGTON, DC