Rev. Proc. 89-12

Rev. Proc. 89-12

SECTION 1. PURPOSE

01 This revenue procedure specifies the conditions under which the Internal Revenue Service will consider a ruling request that relates to classification of an organization, for federal tax purposes, as a partnership. The following revenue procedures are hereby modified and superseded: Rev. Proc. 72-13, 1972-1 C.B. 735 (limited partnership with a corporation as the sole general partner); Rev. Proc. 74-17, 1974-1 C.B. 438 (limited partnerships that raise factual questions as to whether their principal purpose is the reduction of federal taxes); and Rev. Proc. 75-16, 1975-1 C.B. 676 (frequently omitted required information), Rev. Proc. 89-1, 1989-1 I.R.B. 8, is modified by deleting the reference in section 8.06 to Rev. Proc. 72-13, Rev. Proc. 74-17, and Rev. Proc. 75-16. Rev. Proc. 89-3, 1989-1 I.R.B. 29, is modified by deleting section 3.0136 (continuity of life for removal of a general partner); section 3.0137 (1-percent general partner interest in each material item); and section 3.0138 (general partner contributions).

02 Organizations covered by this revenue procedure include both those formed as partnerships and other organization seeking partnership classification. In the case of an organization not formed as a partnership, references to "partnership" documents, including the "partnership agreement," apply to the organization's comparable documents, however designated. Any reference to a "limited partnership" includes an organization formed as a limited partnership under applicable state law and any other organization formed under a law that limits the liability of any member for the organization's debts and other obligations to a determinable fixed amount. References to "general partners" and "limited partners" apply also to comparable members of an organization not designated as a partnership under controlling law and documents; the "general partners" of such an organization will ordinarily be those with significant management authority relative to the other members. In the case of a foreign organization, "state" and "federal" references in the information requirements of section 3 apply to any relevant foreign jurisdictions. This revenue procedure does not apply to a publicly traded partnership treated as a corporation under section 7704 of the Internal Revenue Code.

03 The provisions of this revenue procedure are not intended to be substantive rules for the determination of partner and partnership status and are not to be applied upon audit of taxpayers' returns.

04 The Service may decline to issue a ruling under this revenue procedure whenever warranted by the facts and circumstances of a particular case and whenever appropriate in the interest of sound tax administration.

SEC. 2. BACKGROUND

01 Section 7701(a)(2) of the Code defines the term "partnership" to include a syndicate, group, pool, joint venture, or other unincorporated organization, through or by means of which any business, financial operation, or venture is carried on, and which is not, within the meaning of the Code, a trust or estate or a corporation. Sections 301.7701-2 and 301.7701-3 of the Procedure and Administration Regulations set forth rules for determining whether an organization is classified, for federal tax purposes, as a partnership or as an association taxable as a corporation.

02 Rev. Proc. 89-1, 1989-1 I.R.B. 8, as updated annually, sets forth procedures for the taxpayer request and Service issuance of advance rulings. The Service generally issues rulings on prospective transactions and on completed transactions for which the applicable return has not been filed. Section 5.01 of Rev. Proc. 89-1, however, provides that the Service will also consider ruling requests concerning the classification of an existing organization as a partnership. A ruling issued in response to such a request will be effective prospectively. See Rev. Proc. 86-12, 1986-1 C.B. 534. Rev. Proc. 89-3, 1989-1 I.R.B. 29, as updated annually, lists areas in which the Service will not issue, or will not ordinarily issue, advance rulings. Additional ruling guidelines, on the classification of partnerships, have been contained in Rev. Proc. 72-13, 1972-1 C.B. 735; Rev. Proc. 74-17, 1974-1 C.B. 438; and Rev. Proc. 75-16, 1975-1 C.B. 676.

SEC. 3. INFORMATION TO BE SUBMITTED

01 Section 8 of Rev. Proc. 89-1 outlines general requirements concerning the information to be submitted as part of a ruling request, including a classification ruling request. For example, a partnership classification ruling request must contain a complete statement of all the facts relating to the classification issue. Among those facts are the items of information specified in this revenue procedure. The ruling request must therefore provide all items of information specified below, or at least account for all such items. As an example of accounting for an item, if no registration statement is required to be filed with the Securities and Exchange Commission (section 3.04(3)), the ruling request should so state.

02 Submission of the documents and supplementary materials required by section 3.04 herein does not satisfy the information requirements contained in section 3.03 herein or in section 8 of Rev. Proc. 89-1. Thus, all material facts in documents, including those items required by section 3.03, must be included in the letter requesting a ruling and not merely incorporated by reference. All submitted documents and supplementary materials must contain applicable exhibits, attachments, and amendments.

03 Required General Information.

(1) The name and identification number of the organization.

(2) The business of the organization.

(3) The date and place of filing the partnership certificate, or the anticipated date and place.

(4) The state whose law controls the formation and operation of the organization, and whether or not the controlling law is a statute corresponding to, as applicable, the Uniform Partnership Act, the Uniform Limited Partnership Act (1916), or the Revised Uniform Limited Partnership Act (1976) with or without amendments.

(5) If the Service has not determined that the controlling state statute corresponds to the applicable Uniform Act for purposes of section 301.7701-2 of the regulations, a list of all substantial differences.

(6) A representation that the organization has been, and will be at all times, in conformance with the controlling state statute.

(7) The nature, amount, and timing of the capital contributions made and to be made by both the general partners and the limited partners.

(8) The extent of participation of the general partners and the limited partners in profits and losses, including any possible shift in the profit and loss sharing ratios over time.

(9) A description of the relationships, direct and indirect, between the limited partners and the general partners that suggest that the general partners, individually or in the aggregate, may not at all times act independently (because of individual or aggregate limited partner influence or control). Such relationships include: (a) ownership by limited partners of 5 percent or more of the stock or other beneficial interests in a general partner; (b) control by limited partners of 5 percent or more of the voting power in a general partner; (c) ownership of 5 percent or more of the stock or other beneficial interests in any general partner and in any limited partner by the same person or persons acting as a group; and (d) control of 5 percent or more of the voting power in any general partner and in any limited partner by the same person or persons acting as a group. For purposes of the preceding sentence, a person shall be considered to own any beneficial interest owned by a related person and shall be considered to control any voting power controlled by a related person; a person shall be treated as related to another person if they bear a relationship specified in section 267(b) or section 707(b)(1) of the Code. The relationships defined in the first sentence of his section 3.03(9) may also include a debtor-creditor relationship and an employer-employee relationship.

(10) A representation of the net worth (based on assets at current fair market value) of each general partner, excluding interests in the partnership, a description of all general partner assets and liabilities arising from transactions with the partnership or with a person related to any general partner under section 267(b) or section 707(b)(1) of the Code, and a description of all other partnerships in which any of the general partners has an interest.

(11) If, and to the extent that, section 4 of this revenue procedure applies to the organization, a detailed description of how each of the applicable provisions therein is satisfied.

04 Required Copies of Documents and Supplementary Materials.

(1) The partnership agreement.

(2) The partnership certificate filed or to be filed with the state in which the organization is formed.

(3) The registration statement filed or to be filed with the Securities and Exchange Commission. (A draft is acceptable.)

(4) If a registration statement is not required to be filed with the Securities and Exchange Commission, then documents filed or to be filed with any federal or state agency engaged in the regulation of securities and any private offering memorandum. (Drafts are acceptable.)

(5) A copy of the applicable state statutes, and amendments, under which the organization was or will be formed.

(6) An outline or copies of all promotional material used to sell interests in the organization, highlighting statements about probable tax consequences and the effect of the requested ruling upon the tax consequences.

SEC. 4. PROVISIONS APPLICABLE TO LIMITED PARTNERSHIPS

The Service will ordinarily consider a ruling request that relates to classification of a limited partnership as a partnership, for federal tax purposes, only if the conditions in this section 4 are satisfied. Section 4.05, however, relates solely to the corporate characteristic of continuity of life described in section 301.7701- 2(b) of the regulations. Similarly, section 4.06 relates solely to the corporate characteristic of centralization of management described in section 301.7701-2(c). Therefore, failure to satisfy section 4.05 or section 4.06 will preclude a specific ruling that continuity of life or centralized management is lacking, but will not necessarily preclude the issuance of a partnership classification ruling. Section 4.07 provides a safe harbor, generally applicable to a limited partnership with at least one corporate general partner, that relates to the corporate characteristic of limited liability described in section 301.7701-2(d).

01 Unless exempted by section 4.02 below or the provisions of this section 4.01, the interests (including limited partnership interests) of all the general partners, taken together, in each material item of partnership income, gain, loss, deduction, or credit must be equal to at least 1 percent of each such item at all times during the existence of the partnership, and the partnership agreement must expressly so provide. If the 1-percent standard will not be satisfied because of a temporary allocation required under section 704(b) of the Code, section 704(c), or corresponding Income Tax Regulations (a qualified income offset or minimum gain chargeback, for example) this will generally not be considered a violation of this section 4.01, but the ruling request must describe any such allocation and explain why the allocation is required under section 704(b) or (c), as appropriate. Any other temporary nonconformance with the 1-percent standard will be considered a violation of this section 4.01 unless it is demonstrated that the general partners' interest in net profits and losses over the anticipated life of the partnership is material. For this purpose, a profits interest generally will not be considered material unless it is substantially in excess of 1 percent and will be in effect for a substantial period of time during which it is reasonably expected that the partnership will generate profits. For example, a 20-percent interest in profits that begins 4 years after partnership formation and continues for the life of the partnership would generally be considered material if the partnership is expected to generate profits for a substantial period beyond the 4 years.

02 If the limited partnership has total contributions exceeding $50 million, the general partners need not meet the 1-percent standard in section 4.01. However, except for a temporary allocation or nonconformance specified in section 4.01, the general partners' aggregate interest at all times in each material item must be at least 1 percent divided by the ratio of total contributions to $50 million, and the partnership agreement must expressly incorporate at least the computed percentage. For example, if total contributions are $125 million, the interest in each material item must be at least .4 percent, that is, 1 percent divided by 125/50. In no event, however, other than as a result of a temporary allocation or nonconformance specified in section 4.01, may the general partners' aggregate interest at any time in any material item be less than .2 percent.

03 Unless section 4.04 applies, the general partners, taken together, must maintain a minimum capital account balance equal to either 1 percent of total positive capital account balances for the partnership or $500,000, whichever is less. Whenever a limited partner makes a capital contribution, the general partners must be obligated to contribute immediately capital equal to 1.01 percent of the limited partner's capital contribution or a lesser amount (including zero) that causes the sum of the general partners' capital account balances to equal the lesser of 1 percent of total positive capital account balances for the partnership or $500,000. If no limited partner capital account has a positive balance, the general partners, taken together, need not have a positive capital account balance to satisfy this section 4.03. Capital accounts and the value of contributions are determined by application of the capital accounting rules in section 1.704-1(b)(2)(iv) of the regulations.

04 If at least one general partner has contributed or will contribute substantial services in its capacity as a partner, apart from services for which guaranteed payments under section 707(c) of the Code are made, then the general partners need not meet the capital account standard in section 4.03. However, the partnership agreement must expressly provide that, upon the dissolution and termination of the partnership, the general partners will contribute to the partnership an amount equal to: (a) the deficit balances, if any, in their capital accounts; or (b) the excess of 1.01 percent of the total capital contributions of the limited partners over the capital previously contributed by the general partners; or (c) the lesser of (a) or (b). Those services that do not relate to day-to-day operations in the partnership's primary business activity, such as services relating to organization and syndication of the partnership, accounting, financial planning, and general business planning, and those that are in the nature of investment management will be closely scrutinized to determine if they are in fact substantial services. In making this determination, the Service will consider the nature of the partnership and its activities.

05 For a limited partnership formed in a state with a statute corresponding to the Uniform Limited Partnership Act or the Revised Uniform Limited Partnership Act, in the case of the removal of a general partner, the partnership agreement may not permit less than a majority in interest of limited partners to elect a new general partner to continue the partnership, or the Service will not rule that the partnership lacks continuity of life.

06 Limited partner interests, excluding those held by general partners, may not exceed 80 percent of the total interests in the partnership, or the Service will not rule that the partnership lacks centralized management. In addition, the Service will consider all the facts and circumstances, including limited partner control of the general partners (whether direct or indirect), in determining whether the partnership lacks centralized management.

07 If the net worth of corporate general partners at the time of the ruling request equals at least 10 percent of the total contributions to the limited partnership and is expected to continue to equal at least 10 percent of the total contributions throughout the life of the partnership, then, for advance ruling purposes, the partnership will generally be deemed to lack limited liability. In the case of a limited partnership in which the only general partners are corporations that do not satisfy the safe harbor described in the preceding sentence, close scrutiny will be applied to determine whether the partnership lacks limited liability. In that connection, it must be demonstrated either that a general partner has (or the general partners collectively have) substantial assets (other than the partner's interest in the partnership) that could be reached by a creditor of the partnership or that the general partners individually and collectively will act independently of the limited partners.

SEC. 5. EFFECT ON OTHER REVENUE PROCEDURES

The following revenue procedures are modified and superseded: Rev. Proc. 72-13, 1972-1 C.B. 735; Rev. Proc. 74-17, 1974-1 C.B. 438; and Rev. Proc. 75-16, 1975-1 C.B. 676. Rev. Proc. 89-1, 1989-1 I.R.B. 8, is modified by deleting the reference in section 8.06 to Rev. Proc. 72-13, Rev. Proc. 74-17, and Rev. Proc. 75-16. Rev. Proc. 89-3, 1989-1 I.R.B. 29, is modified by deleting sections 3.0136, 3.0137, and 3.0138.

SEC. 6. EFFECTIVE DATE

This revenue procedure applies to all ruling requests received in the National Office after February 13, 1989, the date of publication of this revenue procedure in the Internal Revenue Bulletin.

FURTHER INFORMATION

For further information regarding this revenue procedure, contact William P. O'Shea of the Office of Assistant Chief Counsel (Passthroughs and Special Industries) on (202) 566-3244 (not a toll- free call).