Assessment Period Remains Open in Partnership Case

Editor: John L. Miller, CPA

In Blak Investments, 133 T.C. No. 19 (2009), the Tax Court applied Sec. 6501(c)(10) to extend the assessment statute of limitation for a taxpayer with an undisclosed listed transaction on a return due prior to October 22, 2004.

Background

This case involved a transaction in which two partners (1) borrowed Treasury securities and sold them in the open market (a short sale), (2) contributed the short sale proceeds, as well as the obligation to cover the short sale, to a partnership in exchange for interests in that partnership, and (3) claimed that their bases in the partnership were increased by the short sale proceeds but were not reduced by the obligation to cover the short sale. After the contribution, the partnership redeemed the partners’ interests, and the partners claimed significant losses on their federal income tax returns. Neither the partnership nor the partners had adequately disclosed their participation in the transaction on their federal income tax returns for the 2001 and 2002 tax years, which were filed on October 15, 2002, and October 15, 2003, respectively. The IRS issued a final partnership administrative adjustment (FPAA) on October 13, 2006, disallowing the losses and imposing accuracyrelated penalties.

The Tax Court held that the transaction at issue was a listed transaction because it was substantially similar to the sonofboss transactions described in Notice 200044, which determined that those are listed transactions. The more interesting issue in the case, however, was whether the effective date of Sec. 6707A precludes the application of Sec. 6501(c)(10) to the transaction at hand.

Statute of Limitation Applicable to Partnership and Partner Assessments

Secs. 6501(a) and 6229(a) contain the statute of limitation rules applicable to partnership and partner assessments. Sec. 6501(a) contains the general rule limiting the period in which the IRS can assess tax to three years from the date a return is filed. Sec. 6229(a) guides the timely issuance of an FPAA and provides that an FPAA may be issued within three years from the later of (1) the date on which the partnership return for the tax year was filed or (2) the last day for filing the return for that year, determined without regard to extensions.

Sec. 6501(c)(10) may extend the statute of limitation on assessment under certain circumstances. It provides that if a taxpayer fails to disclose on a return or statement for any tax year information required under Sec. 6011 for a listed transaction, as defined in Sec. 6707A(c)(2), the period of limitation does not expire until one year after the IRS is given this information. Sec. 6501(c)(10) was enacted as part of the American Jobs Creation Act of 2004, P.L. 108357 (AJCA), on October 22, 2004, and was effective for tax years for which the period for assessing a deficiency had not expired before October 22, 2004.

Sec. 6707A, which imposes penalties for failure to disclose reportable and listed transactions, was also added to the Code by the AJCA and was effective for returns due after October 22, 2004, that were not filed prior to that date. Sec. 6707A(c)(2) defines the term “listed transaction” as “a reportable transaction which is the same as, or substantially similar to, a transaction specifically identified by the Secretary as a tax avoidance transaction for purposes of section 6011.”

The Interplay and Applicability of Secs. 6501(c)(10) and 6707A

The taxpayer in this case argued that because Sec. 6707A is incorporated into Sec. 6501(c)(10), the effective date of Sec. 6707A should control; therefore, Sec. 6501(c)(10) cannot apply to any transaction for which a return or statement was due on or before October 22, 2004.

The Tax Court acknowledged that Sec. 6707A(c) applies to statements and returns due after October 22, 2004, while Sec. 6501(c)(10) applies to tax years for which the period for assessing a deficiency did not expire before October 22, 2004. The court concluded:

Because AJCA makes section 6501(c)(10) applicable for tax years for which the period of limitations remains open as of the date of enactment of the AJCA, section 6501(c)(10) may apply to transactions which are required to be disclosed on returns due well before that date and which therefore would not be subject to a section 6707A penalty if left undisclosed. For that reason, application of the effective date of section 6707A to section 6501(c)(10) would render the express effective date of section 6501(c)(10) meaningless, violating the cardinal principle of statutory construction.

Conclusion

The Tax Court held that Sec. 6501(c)(10) is effective for tax years for which the period for assessing a deficiency did not expire before October 22, 2004, and that the effective date of Sec. 6707A, defining a listed transaction and incorporated into Sec. 6501(c)(10), had no bearing on the application of Sec. 6501(c)(10) in this case. This meant that the limitation period for assessment of tax resulting from the adjustment of partnership items for the 2001 tax year was open under Sec. 6501(c)(10). This demonstrates that taxpayers with undisclosed reportable or listed transactions in tax years for which the Sec. 6501(a) statute of limitation was open on October 22, 2004, may have potential exposure.

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EditorNotes

John Miller is a faculty instructor at Metropolitan Community College in Omaha, NE. Kathy Petronchak and Julia Lagun are with Deloitte Tax LLP in Washington, DC. Ms. Petronchak is a member of the AICPA Tax Division’s IRS Practice and Procedures Committee. For further information about this column, contact Mr. Miller at johnmillercpa@cox.net.