U.S. Tax Court Decision Deals Blow to IRS on Taxation of U.S. Partnership Interests Held by Foreign Persons
By Matthew L. Roberts on July 25, 2017
At last year’s Annual Meadows Collier Tax Conference, my colleague, Stephen Beck, and I discussed some of the more recent hot topics in international tax law. During our discussions, we spoke of the current ambiguity in U.S. tax law as it relates to the sale of a U.S. partnership interest by a foreign person. For decades, the IRS has argued that the sale of such partnership interests should be subject to U.S. tax if the partnership was engaged in a U.S. trade or business. See Rev. Rul. 91-32, 1991-1 C.B. 107.
The IRS’ conclusions in Rev. Rul. 91-32 have not been without criticism amongst tax professionals. Specifically, many have argued that the IRS’ adoption of the aggregate—as opposed to entity—theory of taxation is improper in this context. These tax professionals have argued that the IRS’ aggregate rationale fails to square with the clear statutory language of Section 741, which provides that income realized from the sale of a partnership interest “shall be considered as gain or loss from the sale or exchange of a capital asset.” Because Section 865(a) sources income from the sale of personal property based on a taxpayer’s residency, these tax professionals have maintained that the sale of a U.S. partnership interest by a foreign person should clearly escape U.S. taxation.
These arguments have appeared to carry the day, at least for now. In Grecian Magnesite Mining, Industrial & Shipping Co., SA v. Commissioner, 149 T.C. No. 3 (July 13, 2017), the Tax Court held that a U.S. partnership’s redemption of a foreign persons partnership interest was not subject to U.S. tax because the partnership interest was not effectively connected to a U.S. trade or business, i.e., it was not U.S.-source income. In siding with the foreign taxpayer, the Tax Court refused to defer to Rev. Rul. 91-32, concluding that, among other things, the Ruling “lack[ed] the power to persuade.” A copy of the Tax Court’s decision can be found here.
Currently, the IRS has not communicated whether it will appeal the decision in Grecian Magnesite Mining. Nevertheless, it is important for foreign taxpayers who have previously redeemed or sold U.S. partnership interests in prior years to discuss the Grecian Magnesite Mining decision with their tax professionals. Depending on the facts and circumstances of the foreign taxpayer’s case, money may be left on the table unless certain actions, such as a protective refund claim, are timely filed.
If you have any questions regarding the Tax Court's recent decision or other international tax matters, please feel free to contact Matt Roberts at (214) 749-2409 or by email at firstname.lastname@example.org.
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