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<p>Tax Insights from State and Local Tax Services www.pwc.com New York City issues Statement of Audit Procedure on application of IRC Sections 734 and 743 under the Unincorporated Business Tax May 16, 2017 In brief The New York City Department of Finance (Department) recently issued a Statement of Audit Procedure (SAP) addressing the application of Internal Revenue Code (IRC) sections 734 and 743 to the New York City Unincorporated Business Tax (UBT). The SAPs are used by Department audit staff for guidance on various audit-related matters and may be useful in understanding the audit process. In the SAP, the Department concluded that the UBT incorporates IRC section 734 basis adjustments into the computation of unincorporated business taxable income. However, unincorporated business taxable income may not change in connection with an IRC section 743(b) adjustment where the taxpayer is not the transferee of a partnership interest since the adjustment only affects a transferee���s income, gain, loss, and deduction. [Statement of Audit Procedure UBT-2017-1, New York City Department of Finance, May 5, 2017] In detail Generally, this SAP states that for federal and UBT purposes a partnership cannot adjust the basis of its assets following (1) a distribution of property to a partner or (2) a transfer of a partnership interest. An election under IRC section 754, however, allows such adjustments under either IRC section 734(b), where the basis of the partnership property shall be adjusted in the case of a distribution of property, or IRC section 743(b), in the case of a transfer of a partnership interest. The UBT does not include any specific statutory modification to the federal calculation of basis. Because the UBT starts with federal gross income and deductions, the SAP reasons that a change in basis at the federal level in certain cases results in a corresponding change to basis at the City UBT level. IRC Section 734(b) Basis Adjustments IRC section 734 provides the conditions for an adjustment to the basis of undistributed partnership property after a partnership distributes property to a partner. In such cases, the partnership adjusts its common basis in its undistributed property, and does not make adjustments that apply separately to any particular partner as detailed in Treasury Regulation § 1.734-1. In the SAP, the Department notes that an IRC section 734(b) basis adjustment affects the partnership’s subsequent calculations of federal income, gain, loss, and deduction, which then flow through to its Tax Insights 2 pwc New York City unincorporated business taxable income. Therefore, for UBT purposes, IRC 734(b) basis adjustments are incorporated in the computation of unincorporated business taxable income. IRC Section 743(b) Basis Adjustments IRC section 743 provides the conditions for an adjustment to the basis of partnership property following the transfer of an interest in a partnership. In such cases, the partnership makes an adjustment to basis with respect to the transferee partner only, and does not adjust the common basis of its property as detailed in Treasury Regulation § 1.743-1(j). A separate distributive share calculation must then be made to reflect the effects of the IRC section 743(b) adjustment that applies to the transferee’s distributive share of income, gain, loss, and deduction. The Department observes that IRC section 743 basis adjustments do not affect the partnership’s subsequent calculations of income, gain, loss, or deduction because they only affect the transferee’s income, gain, loss and deduction. Therefore, a basis adjustment in connection with IRC section 743 does not flow through to the partnership’s unincorporated business taxable income. The SAP provides examples of how both IRC sections 734(b) and 743(b) affect UBT, including sales of partnership interests and liquidating distributions. Other issues The Department notes that in analyzing transfers of partnership interests and assets, New York City conforms to IRC sections 707(a)(2)(B) and 755, as well as the applicable treasury regulations, legislative history, and case law. The Department also follows Revenue Ruling 99-5 (1999-1 C.B. 434) and Revenue Ruling 99-6 (1999-1 C.B. 432) to determine the consequences of transfers of partnership interests that result in the formation and dissolution of partnerships for tax purposes. The SAP provides examples pertaining to the Department’s conformity to Revenue Ruling 99-5 and Revenue Ruling 99-6, including a partial sale of interest in a disregarded entity (DRE), a contribution to a DRE, or a sale of interest resulting in a DRE. The takeaway Taxpayers in New York City finally have guidance regarding how the New York City Department of Finance will seek to apply IRC sections 734 and 743 to the UBT. Taxpayers with IRC section 734 or 743 adjustments should take this opportunity to evaluate the treatment of these adjustments on their UBT returns. Since the Department now accepts that IRC section 734 basis adjustments are incorporated in the computation of unincorporated business taxable income, care should be taken when determining whether a basis adjustment is pursuant to IRC section 734 or 743. To the extent that there is a basis adjustment pursuant to IRC section 743, taxpayers should keep in mind that SAPs merely reflect the Department’s interpretation of the law and do not have the force and effect of laws or regulations. © 2017 PricewaterhouseCoopers LLP, a Delaware limited liability partnership. All rights reserved. PwC refers to the United States member firm, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. SOLICITATION This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors. At PwC, our purpose is to build trust in society and solve important problems. PwC is a network of firms in 157 countries with more than 223,000 people who are committed to delivering quality in assurance, advisory and tax services. Find out more and tell us what matters to you by visiting us at www.pwc.com/US. Let’s talk For more information on the New York City Statement of Audit Procedure, please contact: State and Local Tax Services—Asset and Wealth Management Brian Rebhun Principal, New York +1 (646) 471-4024 brian.rebhun@pwc.com Carolyn Makuen Managing Director, New York +1 (646) 471-7942 carolyn.makuen@pwc.com Jonathan Robin Director, New York +1 (646) 313-3939 jonathan.robin@pwc.com Michael Zargari Director, New York +1 (646) 471-3708 michael.zargari@pwc.com Michael Fogel Director, New York +1 (646) 471-5357 michael.fogel@pwc.com Click here to access our library of past state and local tax Insights. </p>
