Partnerships received guidance from the IRS on Friday on when the new centralized partnership audit regime does not apply to certain partnership-related items. The proposed regulations (REG-123652-18) provide that the centralized audit regime may not apply when an adjustment during the examination of a person other than the partnership requires a change to a partnership-related item. The regulations also say that a partnership with a qualified Subchapter S subsidiary (QSub) partner cannot elect out of the centralized partnership audit regime.

In Notice 2019-06, the IRS announced that it intended to propose rules addressing two “special enforcement matters” under Sec. 6241(11). Friday’s proposed regulations include those rules.

The first matter concerns certain situations in which an adjustment during an examination of a person other than the partnership requires a change to a partnership-related item. The proposed regulations provide that the IRS may determine that the centralized partnership audit regime does not apply to adjustments to partnership-related items when the following conditions are met:

• The examination being conducted is of a person other than the partnership;
• A partnership-related item must be adjusted, or a determination regarding a partnership-related item must be made, as part of an adjustment to a non–partnership-related item of the person whose return is being examined; and
• The treatment of the partnership-related item on the return of the partnership under Sec. 6031(b) or in the partnership’s books and records was based in whole or in part on information provided by, or under the control of, the person whose return is being examined.

The second matter concerns situations where a QSub is a partner in a partnership. The regulations provide that a partnership with a QSub as a partner cannot elect out of the centralized partnership audit regime. The IRS explained in the preamble that it was doing this to avoid having over 100 partners to audit, a possible result of permitting QSubs to elect out.

The IRS has issued final regulations that define what property qualifies for Sec. 1031 like-kind exchange treatment (T.D. 9935). The new rules are necessary because the law known as the Tax Cuts and Jobs Act (TCJA), P.L. 115-97, removed personal property from qualifying for the deferred tax treatment for like-kind exchanges. T.D. 9935 finalizes proposed regulations (REG-117589-18) issued in June.

The IRS received 21 comments on the proposed rules and revised the regulations in response to some of those comments. Two of the issues addressed in response to comments are the definition of real property qualifying for the exchange and whether to retain the 15% test for incidental personal property that can qualify for the exchange.

Definition of real property

The final regulations classify property as real property for Sec. 1031 purposes if the property is:

• Classified as such under the state and local law test, subject to certain exceptions;
• Specifically listed as real property in the final regulations; or
• Considered real property based on all the facts and circumstances.

Determining that property is personal property under state or local law does not preclude the conclusion that property is real property if it is specifically listed in Regs. Sec. 1.1031(a)-3(a)(2)(ii) (which clarifies the definition of an inherently permanent structure by referring to property being permanently affixed to the structure) or Regs. Sec. 1.1031(a)-3(a)(2)(iii)(B) (defining structural components), or as real property under the facts and circumstances in Regs. Sec. 1.1031(a)-3(a)(2)(ii)(C) (other inherently permanent structures) or Regs. Sec. 1.1031(a)-3(a)(2)(iii)(B).

Incidental personal property

The IRS received a number of comments about the 15% test for determining whether property is incidental personal property that therefore does not disqualify a like-kind exchange. Personal property is incidental to real property acquired in an exchange if (1) in standard commercial transactions, the personal property is typically transferred together with the real property, and (2) the aggregate fair market value of the incidental personal property transferred with the real property does not exceed 15% of the aggregate fair market value of the replacement real property (15% limitation).

The final regulations include language to clarify that the 15% limitation is calculated by comparing the value of all of the incidental properties to the value of all of the replacement real properties acquired in the same exchange. The 15% limitation is not a bright-line test for determining whether a transaction fails to meet the requirements of an exchange under Sec. 1031. All of the facts and circumstances of the taxpayer’s situation are considered in determining if the exchange meets the requirements of Sec. 1031.

The Paycheck Protection Program (PPP), created as part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act, P.L. 116-136, authorized loans to certain businesses affected by the COVID-19 pandemic. If businesses use their PPP loans for certain qualified business expenses, then some or all of the loan may be forgiven, subject to certain tests. CARES Act Section 1106(i) explicitly excludes the forgiveness of PPP loans from gross income.

While the CARES Act excludes the loan forgiveness from gross income, it does not specifically address whether the expenses used to achieve the loan forgiveness would continue to be deductible. On April 30, 2020, the IRS issued Notice 2020-32 to provide guidance regarding the deductibility for federal income tax purposes of certain otherwise deductible expenses incurred in a taxpayer’s trade or business that the taxpayer uses to support loan forgiveness. The notice states that no deduction is allowed under the Internal Revenue Code for an expense that is otherwise deductible if the payment of the expense results in forgiveness of a PPP loan because the income associated with the forgiveness is excluded from gross income for purposes of the Code under CARES Act Section 1106(i). The notice cites Sec. 265 as the specific disallowance provision and also notes that case law and published rulings would disallow the deduction because the taxpayer has a reasonable expectation of reimbursement of those amounts.

On Nov. 18, 2020, the IRS issued Rev. Rul. 2020-27, clarifying the tax year for which the deduction would be disallowed, and Rev. Proc. 2020-51, providing a safe harbor for taxpayers who did not claim deductions for expenses intended to be used for loan forgiveness but whose loan is not forgiven. Rev. Rul. 2020-27 holds that a taxpayer computing taxable income on the basis of a calendar year may not deduct eligible expenses in its 2020 tax year if, at the end of the tax year, the taxpayer has a reasonable expectation of reimbursement in the form of loan forgiveness on the basis of eligible expenses paid or incurred during the covered period. Rev. Proc. 2020-51 provides a safe harbor for taxpayers who paid these expenses, not claiming a deduction for such amounts, and in a subsequent year is informed that forgiveness of all or part of the loan is denied or decides not to apply for forgiveness. The safe harbor allows the borrower to deduct these expenses on an original or amended tax return for 2020 or a subsequent tax year and requires a specific statement to be attached to the income tax return on which the expenses are deducted.

In our opinion, Notice 2020-32 and Rev. Rul. 2020-27 are not a reasonable application of existing tax law. As such, Rev. Proc. 2020-51 is not needed. This article describes our position.

A friendly, late-middle-aged couple contact you with questions about their estate plan. The hypothetical couple — let’s call them “the Ys” — own a successful chain of home insulation businesses and plan to eventually pass it on to their two children, a math teacher and a musician.

Last summer, with the election in mind, the Ys took some preliminary steps toward transferring wealth. Now, however, they are wondering if they ought to put their plans on hold because of the likelihood that Republicans will retain control of the Senate. The Ys have several questions on their minds.

‘Should we put the brakes on our wealth transfer plans?’

Since the election, some clients with taxable estates have been asking, does it still make sense to move forward with estate planning steps formulated earlier in the year when they thought there might be an electoral “blue wave,” given that Republicans will keep control of the Senate if they win either of two Georgia Senate runoff races being held Jan. 5. In other words, should clients continue with their preelection plans to transfer wealth?

The general answer is, absolutely. If the plan made sense from a wealth planning perspective anyway, there is every reason to proceed with it. For one thing, this will push further appreciation out of the estate. Most clients with wealth transfer plans in progress are well advised not to put on the brakes.

Other high-wealth clients, too, may wish to start thinking of opportunities to take advantage of the current favorable conditions for estate planning moves, which might be called “the trifecta”:

• The temporarily doubled estate and gift tax exemption, which expires at the end of 2025;
• Low valuations of some assets, such as businesses hurt by COVID-19 and some securities;
• A low-interest-rate environment, which facilitates wealth transfer strategies that rely on an interest rate to determine the value of a gift.

The Ys, who are both in their late 50s, nod their heads but still are not entirely sure they are ready to move forward with their wealth transfer plans. They wonder what the odds are of major tax legislation in 2021.

‘Would it be a bad idea to adopt a wait-and-see attitude?’

Before the election, clients asked many questions like, “Do I need to do something now? Can I just wait?” The answer, at that time, was that if they were not comfortable pulling the trigger yet, they should at least have a plan ready — so that, if the need arose, they could act quickly.

That advice still applies. Having a plan ready, however, means starting preparations now. The steps necessary to decide on a wealth transfer strategy take time. In addition, attorneys are unlikely to be available to draw up trust documents on short notice because they are swamped with work. But that does not mean something cannot be done early next year, and many clients are planning transactions for 2021. (While it is conceivable that new tax legislation could be retroactive to Jan. 1, 2021, this is unlikely to happen even if the Democrats control the Senate, which itself has long odds).

Of course, tax legislation is not the only concern, because a Biden administration Treasury Department could push forward significant regulatory changes that affect estate planning without any need for congressional approval. Thus, for some clients, there may be a little more urgency to act soon. One regulatory proposal to watch for involves valuation discounts.

In the latter part of the Obama administration, Treasury issued proposed regulations (REG-163113-02) that would have significantly curtailed the ability to take valuation discounts on intrafamily transfers of business interests (e.g., discounts for lack of marketability and minority interests). When the Trump administration came into office, these proposed regulations were withdrawn as being difficult to administer. But a Biden Treasury Department could revive these proposed regulations and potentially finalize them sometime in 2021.

Listening attentively to this, the Ys express concern about the valuation discount issue. They have one last question for today.

The IRS issued final regulations implementing changes to Sec. 274 that disallow a deduction for the expense of any Sec. 132(f) qualified transportation fringe (QTF) provided to an employee, effective for amounts paid or incurred after Dec. 31, 2017 (T.D. 9939). The changes were enacted in the law known as the Tax Cuts and Jobs Act (TCJA), P.L. 115-97. The regulations provide guidance to determine what QTF expenses are nondeductible and how to apply certain exceptions under Sec. 274(e) that may allow QTF expenses to be deductible. The final regulations make a few changes to the proposed rules (REG-119307-19) in response to comments received.

Parking

If a taxpayer pays a third party for its employee’s QTF, the Sec. 274(a)(4) disallowance is generally calculated as the taxpayer’s total annual cost of the QTF paid to the third party. With regard to QTF parking expenses, the regulations provide that if the taxpayer owns or leases all or a portion of one or more parking facilities, the Sec. 274(a)(4) disallowance may be calculated using a general rule or any one of three simplified methods.

One change to the proposed regulations made in response to a comment was to clarify that cars parked at a car repair shop are treated as owned by the general public. Therefore, parking spaces that are used to park vehicles owned by members of the general public while the vehicles await repair or service on the taxpayer’s premises also are treated as provided to the general public.

The regulations also include a special rule for certain mixed parking expenses to reduce administrative burdens for taxpayers and simplify calculations. The final regulations further simplify these rules.

The rules extend the 5% optional rule for allocating certain mixed parking expenses to the general rule as a further attempt to reduce administrative burdens for taxpayers and to simplify calculations in complying with Sec. 274(a)(4). The optional rule for allocating certain mixed parking expenses can be used in applying the general rule, the primary use methodology, and the cost per space methodology. In addition, this optional rule may be used by taxpayers using the qualified parking methodology, but solely for determining total parking expenses. This optional rule may be used to determine total parking expenses under any of the parking methodologies permitted in either the proposed or final regulations.