Israel Greenwald & Ruth Greenwald v. Commissioner

ISRAEL GREENWALD AND RUTH GREENWALD, ET AL., 1

PETITIONERS v. COMMISSIONER OF INTERNAL

REVENUE, RESPONDENT

Docket Nos. 29126–11, 29244–11, Filed May 21, 2014.

3203–12, 3212–12,

3213–12, 3215–12,

3216–12, 3217–12,

3218–12.

Ps owned interests in bona fide partnerships that were sub-

ject to the tax audit and litigation procedures of I.R.C. secs.

1 Cases of the following petitioners are consolidated herewith: Brian

308

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(308) GREENWALD v. COMMISSIONER 309

6221–6234. The partnerships liquidated, and the partnership

items for the year of liquidation were determined in partner-

ship-level proceedings. Following those proceedings, R issued

notices of deficiency determining the partners’ gain on liquida-

tion of the partnerships. Ps filed petitions in response to those

notices of deficiency and later moved to dismiss for lack of

jurisdiction, arguing that outside basis is a partnership item

that should have been determined at the partnership level

and that the notices of deficiency are invalid. Held: Gain or

loss on the disposition of a bona fide partnership interest is

an affected item that requires partner-level determinations if

the amount of that gain or loss could be affected by a partner-

level determination.

Peter L. Banis, for petitioners.

Nina P. Ching, for respondent.

OPINION

BUCH, Judge: These cases involve affected items deficiency

proceedings that follow from previous partnership-level pro-

ceedings in this Court. 2 Petitioners filed a motion to dismiss

for lack of subject matter jurisdiction, and their argument is

that outside basis is a partnership item that had to be raised

and determined in the prior partnership-level proceedings.

Respondent argues that this Court has jurisdiction because

outside basis is an affected item that requires partner-level

determinations. Both parties, however, miss the mark. In

these partner-level affected items proceedings, we have juris-

diction to redetermine the amounts of any deficiencies attrib-

utable to affected items that require partner-level determina-

tions. Because partner-level determinations are required, we

have jurisdiction to redetermine the deficiencies at issue.

Auchter and Nancy Auchter, docket No. 29244–11; Paul H. Hildebrandt

and Judith A. Hildebrandt, docket No. 3203–12; Michael Cohen and Susan

Cohen, docket No. 3212–12; Bernard J. Sachs and Joan K. Sachs, docket

No. 3213–12; David Kraus and Susan Kraus, docket No. 3215–12; Jona-

than L. Levine and Sarah S. Levine, docket No. 3216–12; John A.

Hildebrandt and Jean E. Hildebrandt, docket No. 3217–12; and David S.

Marsden and Rosemary Marsden, docket No. 3218–12.

2 Regency Plaza Assocs. of N.J. v. Commissioner, docket Nos. 7150–08

and 7197–08 (decisions entered June 30, 2010).

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310 142 UNITED STATES TAX COURT REPORTS (308)

Background

Petitioners in these consolidated cases resided in the fol-

lowing locations at the time the petitions were filed: the

Greenwalds, docket No. 29126–11, lived in New York; the

Auchters, docket No. 29244–11, lived in New Jersey; Paul

and Judith Hildebrandt, docket No. 3203–12, lived in New

Jersey; the Cohens, docket No. 3212–12, lived in New York;

the Sachses, docket No. 3213–12, lived in Maryland; the

Krauses, docket No. 3215–12, lived in New York; the

Levines, docket No. 3216–12, lived in New Jersey; John and

Jean Hildebrandt, docket No. 3217–12, lived in New Jersey;

and the Marsdens, docket No. 3218–12, lived in New Jersey.

In laying out the facts, we focus on the Greenwalds. 3

Mr. Greenwald was a limited partner in Regency Plaza

Associates of New Jersey (Regency Plaza). Regency Plaza

was subject to the unified partnership audit and litigation

procedures of the Tax Equity and Fiscal Responsibility Act of

1982 (TEFRA), Pub. L. No. 97–248, sec. 402(a), 96 Stat. at

648. The partnership was involved in an apartment project

that was managed by Republic Management, Inc., which also

managed 14 other apartment projects insured by the Depart-

ment of Housing and Urban Development. As a result of a

transfer of a partnership interest, Regency Plaza attached a

section 754 4 election to its 1995 Form 1065, U.S. Return of

Partnership Income, which neither side claims was revoked.

In 1996 Regency Plaza petitioned the U.S. Bankruptcy

Court for the District of Massachusetts, Western Division, for

relief under chapter 11. Just over a year after the petition

was filed, the Circuit Court of the Sixth Judicial Circuit in

and for Duval County, Florida, entered a final judgment of

foreclosure. The partnership owned property that was subject

to a mortgage in favor of Beal Bank, S.S.B., which mortgage

was security for a nonrecourse debt against property owned

by Regency Plaza. This judgment allowed Beal Bank to fore-

3 This case has been consolidated with eight other cases. One of the

other cases involves Regency Plaza, and the others involve a separate part-

nership, Prince Manor Apartment Associates. Irrespective of the differing

entities and petitioners, the dispositive facts are similar in all of the cases.

4 Unless otherwise indicated, all section references are to the Internal

Revenue Code in effect for the year at issue, and all Rule references are

to the Tax Court Rules of Practice and Procedure.

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(308) GREENWALD v. COMMISSIONER 311

close its mortgage. Regency Plaza terminated on July 31,

1997.

Because Regency Plaza had failed to file any tax returns

after filing its return for 1995, the Internal Revenue Service

prepared substitute Forms 1065 on Regency Plaza’s behalf

for the 1996 and 1997 taxable years using the 1995 return.

On October 15, 2007, the IRS issued a notice of final partner-

ship administrative adjustment (FPAA) to Regency Plaza for

its taxable years ending December 31, 1996, and July 31,

1997. In response to the FPAA, Brian and Nancy Auchter,

partners other than the tax matters partner, filed petitions

in the Tax Court. 5 Mr. Greenwald filed notices of election to

participate in both cases. He also filed motions to have him-

self appointed the tax matters partner. The Court granted

these motions. The cases were consolidated and later settled.

After the conclusion of the TEFRA proceeding respondent

sent the Greenwalds a notice of computational adjustment

pertaining to Regency Plaza’s 1996 and 1997 taxable years.

Four days later, on September 23, 2011, respondent issued a

notice of deficiency to the Greenwalds for their 1997 taxable

year. The notice of deficiency made an adjustment to the

Greenwalds’ long-term capital gain and made other cor-

responding adjustments. The IRS included a spreadsheet

with the notice of deficiency explaining how it had calculated

the Greenwalds’ long-term capital gain. The spreadsheet

refers to information taken from Regency Plaza’s 1996 and

1997 Forms 1065 and the 1997 Schedule K–1, Partner’s

Share of Income, Credits, Deductions, etc., for Mr.

Greenwald. Again, the Forms 1065 were prepared by

respondent on behalf of Regency Plaza, as was the Schedule

K–1. After the notice of deficiency was issued, respondent

revised the initial computational adjustments to allow for a

rental real estate loss and a passive activity loss using

information provided by the Greenwalds. The modified com-

putational adjustments increased the Greenwalds’ deficiency

by $42; however, respondent seeks only to enforce the defi-

ciency as set forth in the original notice.

These cases were calendared for trial at the Court’s trial

session in Boston, Massachusetts. At the calendar call the

parties moved to submit the cases under Rule 122. However,

5 See supra note 2.

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312 142 UNITED STATES TAX COURT REPORTS (308)

the Greenwalds (through their counsel) also stated that they

wanted to submit additional evidence. The cases were

recalled, and the Greenwalds explained that the evidence

was documents from the attorney who represented another

partnership and general partner in a criminal action by the

United States for equity skimming with respect to Regency

Plaza. Respondent objected to the documents because they

were not relevant and because they had not been provided to

respondent until the morning of the scheduled trial. To avoid

a continuance, the Greenwalds withdrew the documents.

Accordingly, these cases were submitted under Rule 122 and

a briefing schedule was established. After the Greenwalds

submitted their opening brief, they filed their motion to dis-

miss. As a result, the briefing schedule was suspended, and

the Court now turns to the jurisdictional question.

Discussion

I. Partnership and TEFRA Overview

Partnerships are passthrough entities and, as such, are not

responsible for paying Federal income tax. Instead, the part-

ners report their shares of the partnership items on their

own income tax returns. Sec. 701. Although the partnership

does not file an annual income tax return, it must file an

annual information return that identifies each partner’s

share of income, deductions, and other tax items. Sec.

6031(a).

Congress passed TEFRA over 30 years ago. TEFRA’s uni-

fied audit and litigation procedures were enacted to alleviate

the administrative burden caused by duplicative audits and

litigation. Samueli v. Commissioner, 132 T.C. 336, 340

(2009). A goal of TEFRA was to ‘‘promote increased compli-

ance and more efficient administration of the tax laws.’’ H.R.

Conf. Rept. No. 97–760, at 600 (1982), 1982–2 C.B. 600, 662.

Section 6221 provides that the tax treatment of all ‘‘part-

nership items’’ is determined at the partnership level. The

Secretary must mail each notice partner whose name and

address is furnished a notice of the beginning of an adminis-

trative partnership-level proceeding and an FPAA. Sec.

6223(a). The determination of partnership items in a part-

nership-level proceeding (either through a defaulted FPAA or

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(308) GREENWALD v. COMMISSIONER 313

a final court decision) is conclusive. 6 Once adjustments are

made at the partnership level, the IRS will make any nec-

essary partner-level changes, including changes to ‘‘affected

items’’. If the adjustment to an affected item is merely com-

putational and can be made without making additional

partner-level determinations, the IRS can directly assess the

tax due without having to follow the usual deficiency proce-

dures. Sec. 6230(a)(1); sec. 301.6231(a)(6)–1T(a), Temporary

Proced. & Admin. Regs., 52 Fed. Reg. 6790 (Mar. 5, 1987). 7

However, if an adjustment to an affected item requires a

partner-level factual determination, the IRS must follow defi-

ciency procedures. Sec. 6230(a)(2)(A)(i); sec. 301.6231(a)(6)–

1T(a), Temporary Proced. & Admin. Regs., 52 Fed. Reg. 6779

(Mar. 5, 1987). 8

II. Partnership Items

A partner’s basis in his partnership interest is an affected

item to the extent it is not a partnership item. Sec.

301.6231(a)(5)–1T(b), Temporary Proced. & Admin. Regs., 52

Fed. Reg. 6790 (Mar. 5, 1987). 9 A partnership item is ‘‘any

item required to be taken into account for the partnership’s

taxable year under any provision of subtitle A [Income

Taxes] to the extent [the] regulations * * * provide that, for

purposes of this subtitle, such item is more appropriately

determined at the partnership level than at the partner

level.’’ Sec. 6231(a)(3). The ‘‘critical element’’ is that the part-

nership is required to make the determination. Sec.

6 Except

in limited circumstances, refund suits for adjustments attrib-

utable to partnership items are not permitted. Sec. 7422(h). And even

then, any prior partnership item determination is conclusive. Sec.

6230(c)(4); see also New Millennium Trading, L.L.C. v. Commissioner, 131

T.C. 275, 280 (2008).

7 This rule is now set forth in permanent regulations at sec.

301.6231(a)(6)–1(a)(2), Proced. & Admin. Regs., which apply to taxable

years beginning on or after October 4, 2001. Sec. 301.6231(a)(6)–1(c),

Proced. & Admin. Regs.

8 This rule is now set forth in permanent regulations at sec.

301.6231(a)(6)–1(a)(3), Proced. & Admin. Regs., which apply to taxable

years beginning on or after October 4, 2001. Sec. 301.6231(a)(6)–1(c),

Proced. & Admin. Regs.

9 Permanent regulations replaced the temporary regulations for taxable

years beginning on or after October 4, 2001. Sec. 301.6231(a)(5)–1(f),

Proced. & Admin. Regs.

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314 142 UNITED STATES TAX COURT REPORTS (308)

301.6231(a)(3)–1(c)(1), Proced. & Admin. Regs. The failure of

the partnership to actually make the determination does not

prevent an item from being a partnership item. Id.

Partnerships do not keep track of the partners’ outside

bases, but they may be required to take a partner’s outside

basis into account in some situations. For example, when a

partner purchases an interest in a partnership, the partner-

ship may elect under section 754 to make optional adjust-

ments to the basis of partnership property. If such an elec-

tion is made, the partner’s initial basis in the partnership is

a partnership item. Sec. 301.6231(a)(3)–1(a)(3), Proced. &

Admin. Regs. However, if the election is not made, the part-

nership is not required to determine the partner’s initial out-

side basis. Tigers Eye Trading, LLC v. Commissioner, 138

T.C. 67, 117 (2012). Accordingly, a partner’s outside basis

generally would be an affected item. Sec. 6231(a)(3); see

Tigers Eye Trading, LLC v. Commissioner, 138 T.C. at 117.

III. Jurisdiction

The Tax Court is a court of limited jurisdiction and can

exercise jurisdiction only to the extent provided by statute.

Sec. 7442. Section 6214(a) provides the Court with jurisdic-

tion to redetermine the correct amount of a deficiency as long

as the taxpayer files a timely petition from a valid notice of

deficiency. Sec. 6213(a). While the deficiency procedures gen-

erally do not need to be followed so as to determine affected

items flowing from a TEFRA partnership-level proceeding, an

exception is carved out for affected items that require

partner-level determinations. Sec. 6230(a)(2)(A)(i).

IV. Precedents

In their motion to dismiss, petitioners rely heavily on

Tigers Eye Trading, LLC v. Commissioner, 138 T.C. 67. In

Tigers Eye the parties stipulated that the partnership was a

sham. Id. at 102. Accordingly, ‘‘[n]o additional facts [were]

required to determine the absence of an outside basis’’

because the partnership did not exist for Federal tax pur-

poses. Id. at 119. Because no further determinations were

necessary, outside basis was a partnership item. Id. More-

over, that outside basis determination also resulted in a

determination of the applicability of a gross valuation

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misstatement penalty. See sec. 6226(f) (giving the Court

jurisdiction to determine ‘‘the applicability of any penalty,

addition to tax, or additional amount which relates to an

adjustment to a partnership item’’ for taxable years ending

after August 5, 1997). No further partner-level determina-

tions were required in that instance.

The Supreme Court recently addressed this same issue in

United States v. Woods, 571 U.S. ll, 134 S. Ct. 557 (2013),

and came to the same conclusion. Again, the Court stated

that where the partnership is a sham, no partner-level deter-

minations are needed to determine outside basis because

‘‘once the partnerships were deemed not to exist for tax pur-

poses, no partner could legitimately claim an outside basis

greater than zero.’’ Id. at ll, 134 S. Ct. at 565–566. This

flows from the fact that there can be no basis in an asset

that does not exist, such as nonexistent partnership interest.

The Court went on to say that ‘‘‘the basis misstatement and

the transaction’s lack of economic substance are inextricably

intertwined’’’. Id. at ll, 134 S. Ct. at 567 (quoting Bemont

Invs., LLC v. United States, 679 F.3d 339, 354 (5th Cir.

2012)). Thus, as with Tigers Eye, the Court held that outside

basis is a partnership item when the partnership is held to

be a sham, and the applicability of the gross valuation

misstatement penalty arises as a preliminary determination.

Even then, the penalty determination is ‘‘provisional’’. Id. at

ll, 134 S. Ct. at 564. Notwithstanding this type of isolated

situation in which outside basis is determined at the partner-

ship level, the Supreme Court acknowledged that a court

may otherwise need to determine ‘‘affected or non-partner-

ship items such as outside basis.’’ Id.

Even then, we do not determine basis in a vacuum. In

these proceedings, we have jurisdiction to redetermine the

amounts of deficiencies. See secs. 6230(a)(2)(A)(i), 6214(a). To

determine the amount of a deficiency, any number of

partner-level determinations may be required, even when

components of the partner’s basis in a partnership interest

are fixed as a result of one or more partnership-level deter-

minations. If, for example, a partner sold a partnership

interest, any deficiency relating to that sale would need to be

determined at the partner level. The amount realized on that

sale would be a partner-level determination even if all of the

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316 142 UNITED STATES TAX COURT REPORTS (308)

components of the partner’s basis in the partnership interest

may already have been determined at the partnership level.

In these specific cases, the partners were charged with

income as a result of the discharge of partnership liabilities;

thus petitioners argue that no partner-level determinations

are necessary. They are mistaken.

Their outside basis is not fixed by partnership-level deter-

minations, even in the case of a section 754 election. The Tax

Court in Tigers Eye and the Supreme Court in Woods held

that outside basis was a partnership item because the part-

nerships were shams and thus no other determinations were

necessary to preliminarily determine that a gross valuation

misstatement penalty applied. That is not the case before us.

The TEFRA proceeding regarding Regency Plaza did not

determine that the partnership was a sham, and thus in

these proceedings we must treat it as a bona fide partner-

ship.

Redetermining the amounts of deficiencies resulting from

partnership-level adjustments will require that we look to

the partners’ specific facts. For example, if a partner

incurred litigation costs in the defense of the ownership of

the partnership interest, those costs would be added to the

partner’s outside basis, but they would not be taken into

account as part of a section 754 election or any other part-

nership-level determination. Cf. Lange v. Commissioner, T.C.

Memo. 1998–161. To make such a determination, the IRS is

required to follow deficiency procedures. Sec. 6230(a)(2)(A)(i).

Determining that a partner did not incur such a cost is

just as much a partner-level determination. As we have pre-

viously stated: ‘‘Neither the Code nor the regulations there-

under require that partner-level determinations actually

result in a substantive change to a determination made at

the partnership level.’’ Domulewicz v. Commissioner, 129

T.C. 11, 20 (2007), aff ’d in part, rev’d in part sub nom.

Desmet v. Commissioner, 581 F.3d 297 (6th Cir. 2009). In

dicta, the Court of Appeals for the Sixth Circuit arguably

took issue with this statement, stating that it ‘‘conflicts with

TEFRA’s mandate to resolve all issues in a single proceeding

against the partnership whenever possible.’’ Desmet v.

Commissioner, 581 F.3d at 304. However, TEFRA’s mandate

is that all partnership items be resolved in a single pro-

ceeding. Sec. 6221. And the controlling statute explicitly

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requires that, if partner-level determinations are necessary

to determine the correct amount of tax, the IRS must follow

deficiency procedures. Sec. 6230(a)(2)(A)(i). To ignore poten-

tial partner-level determinations by assessing without fol-

lowing deficiency procedures would have the effect of

depriving partners of a prepayment forum where there is a

dispute as to the amount or existence of partner-level deter-

minations that could affect the amount of the assessment.

Section 6230(a)(2)(A)(i) is specifically intended to give part-

ners that prepayment forum.

Under these facts, outside basis is an affected item

requiring partner-level determinations, and we have subject-

matter jurisdiction over these cases.

To reflect the foregoing,

An appropriate order will be issued.

f

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