Proposed Regs Address Withholding on Transfers of Partnership Interests Involving Foreign Persons

(Parker Tax Publishing May 2019)

The IRS issued proposed regulations relating changes made by the Tax Cuts and Jobs Act of 2017 to the withholding of tax and information reporting with respect to certain dispositions of interests in partnerships engaged in the conduct of a trade or business within the United States. The proposed regulations affect certain foreign persons that recognize gain or loss from the sale or exchange of an interest in a partnership that is engaged in the conduct of a trade or business within the United States, and persons that acquire those interests and affect partnerships that, directly or indirectly, have foreign persons as partners. REG-105476-18.

Background

Code Sec. 1446(f), which was enacted in the Tax Cuts and Jobs Act of 2017 (TCJA), provides rules for withholding on the transfer of a partnership interest described in Code Sec. 864(c)(8). Code Sec. 864(c)(8) was also added by TCJA and provides that if a nonresident alien individual or foreign corporation owns, directly or indirectly, an interest in a partnership which is engaged in any trade or business within the United States, gain or loss on the sale or exchange of all (or any portion of) such interest is treated as effectively connected with the conduct of such trade or business to the extent such gain or loss does not exceed a certain amount.

Compliance Tip: Code Sec. 1446(f) is effective for sales, exchanges, and dispositions after December 31, 2017. Code Sec. 864(c)(8) is effective for sales, exchanges, and dispositions on or after November 27, 2017.

Code Sec. 1446(f) provides that, except as otherwise provided, if a portion of the gain (if any) on any disposition of an interest in a partnership would be treated under Code Sec. 864(c)(8) as effectively connected with the conduct of a trade or business within the United States, the transferee is required to deduct and withhold a tax equal to 10 percent of the amount realized on the disposition. There is an exception to this general withholding requirement if the transferor furnishes an affidavit to the transferee stating, under penalties of perjury, the transferor's U.S. taxpayer identification number (TIN) and that the transferor is not a foreign person. The IRS may prescribe a reduced amount to be withheld if it determines that reducing the amount to be withheld will not jeopardize the collection of tax on gain treated under Code Sec. 864(c)(8) as effectively connected with the conduct of a trade or business within the United States. If a transferee fails to withhold any amount required to be withheld under Code Sec. 1446(f) then the partnership must deduct and withhold from distributions to the transferee a tax in an amount equal to the amount the transferee failed to withhold, plus interest.

In April of 2018, the IRS released Notice 2018-29, which provided temporary guidance and announced an intent to issue proposed regulations under Code Sec. 1446(f) with respect to the sale, exchange, or disposition of certain interests in non-publicly traded partnerships. In December of 2018, the IRS issued proposed regulations (REG-113604-18) under Code Sec. 864(c)(8) which provide rules for determining the amount of gain or loss treated as effectively connected with the conduct of a trade or business within the United States described in Code Sec. 864(c)(8), including rules coordinating Code Sec. 864(c)(8) with Code Sec. 741 and Code Sec. 751 (relating to the character of gain or loss realized in connection with the sale or exchange of an interest in a partnership). They also provide rules for the coordination of Code Sec. 864(c)(8) with Code Sec. 897 (relating to amounts treated as effectively connected gain or loss with respect to U.S. real property interests), tiered partnerships, and U.S. income tax treaties.

Proposed Regulations under Section 1446(f)

On May 13, the IRS issued proposed regulations (REG-105476-18) which provide rules for withholding, reporting, and paying tax under Code Sec. 1446(f) upon the sale, exchange, or other disposition of an interest in a partnership. The proposed regulations would, when finalized, adopt many of the rules that were described in Notice 2018 - 29. In addition, the proposed regulations provide reporting rules relating to Code Sec. 864(c)(8) and rules implementing withholding under Code Sec. 1446(f). They also contain rules clarifying the reporting rules applicable to transfers of partnership interests subject to Code Sec. 6050K (i.e., returns relating to exchanges of certain partnership interests). Finally, the proposed regulations provide rules coordinating withholding under Code Sec. 1446(f) with other withholding regimes to prevent over-withholding of tax.

A partner (foreign or domestic) that transfers an interest in a partnership in an exchange described in Code Sec. 751(a) (relating to an exchange of an interest in a partnership that holds unrealized receivables or inventory) generally has an obligation both to inform the partnership of the transfer and to include a statement with respect to the exchange on the partner's income tax return. A partnership also has an obligation to provide information with respect to the exchange to the transferee and transferor. Because Code Sec. 864(c)(8) requires a deemed sale at the partnership level to determine a foreign partner's effectively connected gain or loss, a foreign person that transfers its partnership interest generally will not be able to compute its income tax liability under Code Sec. 864(c)(8) unless the partnership provides certain information to the foreign partner. The proposed regulations therefore provide rules that facilitate the transfer of information between a foreign partner and the partnership for purposes of Code Sec. 864(c)(8).

Under the proposed regulations, a notifying transferor (generally, any foreign person and certain domestic partnerships that have a foreign person as a direct or indirect partner) that transfers an interest in a partnership (other than certain interests in a publicly traded partnership) in a transaction described in Code Sec. 864(c)(8) must notify the partnership within 30 days of the transfer by providing a statement that includes information relevant to the partnership for making calculations under Code Sec. 864(c)(8), including the date on which the notifying transferor transferred its interest, and other identifying information regarding the transferor and transferee.

The proposed regulations provide various exceptions to withholding and procedures for determining the amount to withhold. Under these rules, the person required to withhold may generally rely on information provided in certifications that it receives or that is contained in its own books and records. A certification includes any documents associated with the certification, such as statements from the partnership, IRS forms, withholding certificates, withholding statements, certifications, or other documentation. The proposed regulations provide six exceptions to withholding by a transferee. These exceptions generally allow the transferee to rely on certain certifications that it receives from the transferor or partnership unless it has actual knowledge that the certifications are incorrect or unreliable. When the partnership is a transferee because it makes a distribution, it may instead rely on its books and records unless it knows, or has reason to know, that the information is incorrect or unreliable. The proposed regulations provide the requirements for a certification of non-foreign status (including the requirement that it include the transferor's TIN), and clarify that a valid Form W - 9, Request for Taxpayer Identification Number and Certification, may be used for this purpose, including a Form W - 9 for the transferor that is already in the transferee's possession. The proposed regulations also clarify that a Form W - 9 may be used to establish non-foreign status of a transferor for purposes of Code Sec. 1445.

For a discussion of the rules under Code Sec. 1446(f), see Parker Tax ¶202,145.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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