Ninth AnnualDomestic Tax Conference24 April 2014 | New York City
Recent developments inpartnership taxation
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Disclaimer
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Today’s presenters
Robert CrnkovichDawn DuncanFranny Wang
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Agenda
► Taking partnerships public► Up-Cs► Master limited partnerships (MLPs)
► Recent developments► Jobs Act proposed regulations► Disguised sale proposed regulations► Section 752 debt allocations proposed regulations► Camp tax reform proposals
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Taking partnerships public
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Partnership initial public offerings (IPOs)
► Objectives► Monetization of legacy owners’ (i.e., sponsor’s) investment► Equity capital for growth/acquisitions► Long-term, stable shareholder profile► Acquisition currency
► Significant market activity► At least six Up-C IPOs in 2013► 21 MLP IPOs in 2013► Nearly 70 MLPs have gone public in the last five years► 30 MLP private letter rulings in 2013
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Partnership IPO structuresUP-C vs. PTP (Publicly Traded Partnerships)/MLP
Public
OpCo
Up-C
PubCo
Goldenshares
Qualifying andnon-qualifying
income
Public
PTP/MLP
PTP/MLP
Nonqualifyingincome
Qualifyingincome
Sponsors Sponsors
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Up-C
► Transactional steps:► Step 1: Sponsors acquire high vote
stock (golden shares) in a newlyformed C corporation (PubCo).
► Step 2: PubCo issues regularcommon stock to the Public in aninitial public offering.
► Step 3: Cash proceeds from the IPOare invested into OpCo in exchangefor a managing interest (a portion ofthe proceeds may be used topurchase interests in OpCo from theSponsors).
► Step 4: The sponsors’ interests inOpCo are made exchangeable forstock in PubCo.
PublicSponsors
OpCo
PubCo
Goldenshares
Cash
Stock1
Cash
2
3
Limitedpartnershipinterest
Cash
4
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Up-CIssues to consider
► Tax receivable agreement (TRA)► Compensation arrangements► Section 704(c) methods► Section 197 anti-churning► Retain benefits of flow-through taxation on earnings► Opportunity for tax-deferred IPO proceeds extraction
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MLP
► Transactional steps:► Step 1: Sponsors form a new MLP.► Step 2: Sponsors transfer entire
interest in OpCo to MLP in exchangefor a general partner interest (GPinterest), subordinated limited partnerinterests (subordinated units), limitedpartner units (common units), andincentive distribution rights (IDRs)in MLP.
► Step 3: MLP issues common unitsto the public in an IPO.
Public
MLP
Sponsors
100% interestin OpCo
GP interest +subordinated +common units +IDRs
Cash
Common Units
1
23
OpCo
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MLPIssues to consider
► “Qualifying Income” requirements► IRS ruling moratorium
► Compensation arrangements► Disguised sale considerations► Fungibility► “Tax shield” to public► Retain benefits of flow-through taxation on earnings► Opportunity for tax-deferred IPO proceeds extraction► Economic benefits of IDR interest► Valuation premium in the market for MLPs can provide an
immediate uplift in the value of the sponsor's assets
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Recent developments
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Recent developmentsTopics
► Proposed Jobs Act regulations► Proposed regulations – 707 and 752► Camp tax reform proposal
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Proposed Jobs Act regulations
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Items from the Jobs Act regulations
► On 16 January 2014, proposed regulations providingguidance on certain provisions of the American Jobs CreationAct of 2004 were published
► Four main topics► Section 704(c)(1)(C) – contributions of built-in loss property► Mandatory basis adjustments► Allocation of basis adjustments under Section 755► Section 704(c)
► Effective date► Generally, regulations to be effective
when finalized► But Section 755 changes proposed to be effective immediately
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Section 704(c)(1)(C)
► Contribution of built-in loss property► Regulations do not apply to:
► Reverse Section 704(c) items► TR Section 1.752-7 liabilities (contingent liabilities)► Technical terminations
► Operative rules► Only transferor is entitled to loss► Tax basis = FMV for determining allocations to other partners
► Proposed regulations treat the tax basis in excess of FMVat contribution in a manner similar to Section 743adjustments
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Section 704(c)(1)(C)Transfer of property
► Taxable transfer (i.e., sale of Section 704 (c)(1)(C)property)► Section 704(c)(1)(C) partner’s basis adjustment is taken into
account in determining the impact on such partner’s income, gain,loss or deduction.
► Non-recognition transfer (i.e., Sections 721, 351 or 1031transactions)► Section 704(c)(1)(C) partner’s basis adjustment is generally
transferred to the partnership’s exchanged property.► Special tracking rules are created for Section 721 transfers
between upper-tier and lower-tier partnerships.
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Mandatory basis adjustments
► Significant guidance on the application of the mandatorybasis adjustment rules under Section 734 (in the case ofsubstantial basis reductions) and Section 743 (in the caseof substantial built-in losses)
► Clarify manner in which applied► Tiered partnerships; request for comments
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Section 755(c)
► Section 755(c) – from Enron► No downward Section 734 adjustments to stock of partner (or
related party)► Otherwise, Section 1032 eliminates the “cost” of the downward
adjustment► Reallocate that adjustment to other property
► If insufficient other basis the gain recognition
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Section 755Section 743 allocation
► Current Reg. Section 1.755-1(b)(5) allocates Section 743adjustment to assets in a substituted basis transactions(e.g., Section 351 of partnership interest)► If increase in basis, only to built-in gain property► If decrease in basis, only to built-in loss property
► Partnership interest purchasers in taxable transactionsmay allocate upward Section 743 adjustments to built-ingain assets and downward Section 743 adjustments tobuilt-in loss assets from the same transaction
► To some extent, this has provided “electivity” between theavailable allocation schemes
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Section 755Section 743 allocation
► Proposed change► If a transferor has a “purchased transaction” Section 743
adjustment, a substitute basis transaction transferee succeedsto transferor’s basis adjustment.
► It is limited to amounts attributable to the acquired interest.► It is intended to prevent “electivity” in the allocation of
Section 743 adjustment.
► Effective date – proposed to be effective immediately
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Section 704(c)
► Netting versus layering of Section 704(c) revaluationlayers► Government concerned with “distortions”► Proposed regulations to require layering
► Allocation of tax items among layers► Can use any reasonable method► Subject to:
► Anti-abuse rule► Single method for each item of contributed property► Reasonableness
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Proposed regulations – Sections 707 and 752
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Overview
► On 30 January 2014, the IRS issued proposedregulations under Section 707 relating to disguisedsales of property to or by a partnership and underSection 752 relating to the treatment of partnershipliabilities (the proposed regulations).
► These proposed regulations were the subject ofwidespread speculation and public discussionrelating to bottom-dollar guarantees, amongother things.
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Section 707 disguised sale rules
► Debt-financed distributions► Capital expenditure reimbursements► New category of qualified liability (QL) (category (E))► Anticipated reduction► Tiered partnership rule
► Apply debt financed distribution to tiers► Apply aggregate principles regarding lower-tier partnership debt for
purposes of determining whether the upper-tier partnership’s share oflower-tier debt is a QL
► New rule permitting netting in partnership mergers► TR Section1.707-6 rules – IRS considering a holding period
requirement (e.g., lowest share of the debt within prior 12 months)► Effective date – proposed to be effective when regulations finalized
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Section 752 economic risk of loss
► Recourse debt allocations► Obligations recognized if certain factors are present (“to establish that the
terms of the payment obligation are commercially reasonable”) – if notmet, treat as if obligation is nonrecourse► Net worth requirement► Periodic documentation► Term coterminous with debt► No money held► Arm’s-length consideration► Liable up to full amount of payment obligation► Recognized only to the extent of net value of obligor
► Anti-abuse rules modified to address intermediaries, tiers, etc. to avoidbottom-dollar guarantees
► Effective date – proposed to be effective when regulations finalizedsubject to a seven-year grandfathering provision in limited circumstances
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Section 752 – nonrecourse debt allocations
► Nonrecourse – revisions to Reg. Section 1.752-3(a)(3)(Tier 3)► Tier 3 debt no longer permitted to be allocated based on
deductions or any significant item► “Profits,” for purpose of the Tier 3 debt allocation, defined by
reference to liquidation value
► Effective date – proposed to be effective whenregulations finalized
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Camp tax reform proposal
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Overview
► On 26 February 2014, the House Ways and MeansCommittee Chairman Dave Camp (R-MI) releasedhis long anticipated tax reform proposal.
► This proposal includes many provisions affectingpartnerships.
► Passage of the bill is not expected this year. Itsprovisions could, however, become part of futurecomprehensive tax reform or be included asrevenue raisers in other proposals.
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Camp proposal – significant partnershipreforms
► Repeal the guaranteed payments rules and treat all payments as either part of apartner’s distributive share of partnership income or as a payment made to a non-partner
► Repeal rules relating to liquidating distributions under Section 736► Revise the treatment of inventory items under Section 751 so that any distributions of
inventory items are treated as a sale or exchange between the partner and partnership► Repeal the seven-year period in Sections 704(c)(1)(B) and 737 and require partners
contributing property with built-in gains or losses to be subject to tax on the pre-contribution gain or loss when the partnership distributes that property, regardless ofwhen the distribution occurs
► Require an adjustment in a partnership’s basis in partnership property when a partnertransfers his interest in a partnership or a partnership distributes property to a partner,making the application of Sections 734(b) and 743(b) mandatory in all cases and alsorequiring that the basis adjustments also apply through partnership tiers
► Require partners to take into account charitable contributions and foreign taxes paid bya partnership when determining the limitation on the partner’s share of losses underSection 704(d)
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Camp proposal – significant partnershipreforms
► Clarify Section 704(e) to treat as a partner a person receiving a partnership interestby gift from a family member, if capital is a material income-producing factor of thepartnership
► Repeal the technical termination rule under Section 708(b)(1)(B)► Modify the publicly traded partnership exception in Section 7704(d) so that publicly
traded partnerships that do not receive 90% of their income from activities relating tomining and natural resources would be taxed as C corporations
► Tax a portion of the gain attributable to a partner’s “carried interest” as ordinary income► Repeal the current TEFRA and Electing Large Partnerships (ELP) rules► Revise the due date of partnership filing Form 1065 to the 15th day of the third month
following the close of the fiscal year, with a maximum extension of six months► Provide that the self-employment tax under Section 1401 applies to all individuals
treated as partners for US federal tax purposes, regardless of whether the partner is ageneral partner, a limited partner or a limited liability company member
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Questions
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Thankyou!
Ninth AnnualDomestic Tax Conference24 April 2014 | New York City