In Rev. Proc. 2012-28, the IRS issued a safe harbor for publicly traded partnerships (PTPs) that want to avoid corporate taxation by qualifying under Sec. 7704(c) as partnerships with 90% or more of their income from qualifying sources. Under the safe harbor, the IRS will not challenge a PTP’s determination that cancellation of debt (COD) income is qualifying income if it is attributable to debt incurred in direct connection with the PTP’s activities that generate qualifying income (qualifying activities).
According to the IRS, the purpose of the exception under Sec. 7704(c) is to except from corporate-level taxation those entities that are engaged in activities that are commonly considered to be investment activities or that traditionally have been conducted in partnership form.
The revenue procedure permits the PTP to use any reasonable method to demonstrate that COD income is attributable to debt incurred in direct connection with the PTP’s qualifying activities. It also states that one reasonable method is to trace the proceeds of the debt generating COD income to qualifying activities under an approach similar to the one used in Regs. Sec. 1.163-8T. In addition, the revenue procedure specifically notes that the IRS will not consider reasonable a method that allocates COD income based solely on the ratio of qualifying gross income to total gross income. However, the IRS may consider issuing letter rulings on whether a particular method is reasonable.
The revenue procedure is effective for COD income attributable to debt discharged on or after June 15, 2012, but it may be applied by PTPs for any tax year for which the statute of limitation is still open (generally three years from filing/two years from payment).
—Sally P. Schreiber (
sschreiber@aicpa.org
) is a JofA senior editor.
