Page 219 - The TEFRA Partnership Audit Rules Repeal:

ALI CLE Live Video Webcast / “The TEFRA Partnership Audit Rules Repeal: Partnership and Partner Impacts” June 7, 2016, Jerald David August and Terence Floyd Cuff
that the adjustment should be allocated among them in accordance with the partnership agreement for the reviewed year.131
131 The argument in the New York State Bar Association, Tax Section, Report No. 1347, “Report on the Partnership Audit Rules of the Bipartisan Budget Act of 2015” (May 25, 2016) continues:
First, the imputed underpayment regime is a collection mechanism. The taxpayers who should have been allocated the items in the FPA, and paid taxes thereon, are the reviewed year partners. They were also (presumably) the ones in charge when the under-reporting occurred. If collecting from the partnership is not an option (in other words, if the collection mechanism is not able to be utilized) and the IRS is required to go after individual former partners, it would seem that the IRS might as well go after the “right” former partners. If those partners are difficult to find or do not have sufficient assets, reverting to other former partners seem to be reintroducing the “joint and several” liability construct that was removed (apparently deliberately). The only argument we can see for interpreting this provision to mean that the IRS should be collecting from the dissolution year partners (and not the reviewed year partners) would be that the dissolution year partners cause the partnership to cease to exist in order to escape the section 6225(a) liability. If, however, that is the situation in any particular case, there should be state law fraudulent conveyance statutes that could be called upon. The possibility of this behavior should not result in a rule for all cases that imposes the liability on the dissolution year partners instead of the reviewed year partners.
Second, this result is the closest to Correct Return Position, prevents moving the liability or benefit from the reviewed year partners to other partners, and avoids the double taxation risk we have discussed in other parts of this Report.
Third, as a fairness matter, there is no reason to impose a direct tax liability on a partner for income that was allocated to another person (which happened to own an interest in the same partnership).
Fourth, asking dissolution year partners to bear the liability for taxes on income allocable to other partners would negate the limited liability on which partners rely when they invest in most modern partnerships. (This would go significantly further than section 6225, which places the tax burden on the partnership, not the partners.) This risk would significantly disrupt the marketplace. In addition, it could perversely create incentives for savvy partners to “rush to the exit” when a partnership is getting closer to ceasing to exist to ensure that they are not left liable for all future adjustments resulting from on-going or future audits.
One countervailing consideration is that interpreting section 6241(7) in this way may encourage the partners in a partnership that is under audit and anticipating a material adjustment to cause that partnership to “cease to exist” to avoid having to bear the section 6225 tax (particularly if the partnership or the current partners do not have indemnity rights against the reviewed year partners). We believe that this risk is limited however. First, a partnership will not want to “cease to exist” except in the most extreme cases. Second, section 6226 already provides partnerships with the ability to push out the liability to reviewed year partners.209 [Footnote omitted.] Third, the regulations could include rules that address abusive scenarios and perhaps special rules for partnerships that cease to exist during an IRS audit. For instance, if a partnership liquidates or ceases to exist while an audit is conducted (i.e., before an FPA is issued) then, unless the partnership can establish that the liquidation or termination was planned before it was notified of the audit and was motivated by nontax reasons, the IRS could have the option of collecting from the dissolution year partners up to the value of assets they received in the dissolution. The IRS would also have the ability to
© Terence Floyd Cuff and Jerald David August, 2016
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