Can a partnership use IITA Section 304(f) alternative apportionment (specific accounting) to change how business income is allocated among its nonresident partners under Section 305(a)?

Plain-English summary

A real estate investment fund organized as a limited partnership asked the Illinois Department of Revenue for permission to use "specific accounting" instead of the standard statutory apportionment formula on its 2016 Illinois income tax return. The fund held interests through two single-member LLCs (one with property only in Illinois, one only in Texas) and a third entity, a partnership with property in California, Oregon, Washington, and Nevada. The fund was split into three partner classes ("A," "B," and "C"), and due to a history of partner buyouts, not every partner held an interest in every class. As a result, some partners had no ownership interest at all in the properties located in California, Oregon, Washington, or Nevada, yet the standard statutory apportionment formula would still allocate some Illinois taxable income to those partners, while partners with interests in those other states would see their income in those states disproportionately reduced.

The Department explained that its two types of letter rulings are Private Letter Rulings (PLRs), which are binding on the Department as to the specific taxpayer and facts presented, and General Information Letters (GILs) like this one, which do not state Department policy and are not binding. The Department then turned to the substance of the request. Section 304(f) of the Illinois Income Tax Act (35 ILCS 5/304(f)) allows a taxpayer to petition for an alternative allocation or apportionment method (including separate accounting, excluding or adding factors, or another equitable method) when the standard formula does not fairly represent the extent of the taxpayer's business activity in Illinois, or, for years ending on or after December 31, 2008, does not fairly represent the market for the taxpayer's goods, services, or other business income sources.

The Department denied the petition because the fund's problem was not that Section 304(f)'s general apportionment formula failed to reflect the fund's own market. Instead, the mismatch arose from Section 305(a) of the Illinois Income Tax Act, which separately governs how a partnership's Illinois business income is allocated pro rata among nonresident partners according to their distributive shares. Because the fund's letter did not show that applying Section 304(a) failed to reflect the fund's market for its goods, services, or other business income, Section 304(f) did not give the Department authority to override the Section 305(a) allocation rule for nonresident partners. The Department noted that the fund could supplement its petition with additional information for reconsideration, and pointed out that under 86 Ill. Adm. Code 100.3390(e)(1), any such petition must be filed at least 120 days before the due date (including extensions) of the first return for which the alternative method is sought.

What this means for you

If you are a partnership with mismatched partner interests across states

This ruling shows that Section 304(f) alternative apportionment is not a tool for fixing discrepancies between a partnership's statutory income allocation among partners and each partner's actual economic interest in specific properties or states. If your issue is that Section 305(a)'s pro rata allocation among nonresident partners produces results that differ from partners' federal distributive shares, Section 304(f) relief is unlikely to apply unless you can also show the general Section 304(a) apportionment formula itself fails to reflect your business's market in Illinois.

If you are considering a Section 304(f) petition

Focus your petition on showing that the standard formula under Section 304(a) through (e) or (h) does not fairly represent your business activity or market, not on downstream effects at the partner level. Remember the filing deadline: 86 Ill. Adm. Code 100.3390(e)(1) requires the petition to be filed at least 120 days before the due date (including extensions) of the first return for which you are seeking the alternative method.

Common questions

Q: Did the Department grant the fund's request to use specific accounting?
A: No. The Department stated that "your petition cannot be granted at this time" and later confirmed "your request for an alternative apportionment method cannot be granted."

Q: Why wasn't Section 304(f) alternative apportionment available here?
A: Because the fund's letter did not show that applying IITA Section 304(a) failed to reflect the market for the fund's goods, services, or other sources of business income; instead, the issue was how Section 305(a) allocates income pro rata among nonresident partners, which Section 304(f) does not authorize the Department to override.

Q: Can the fund try again?
A: Yes. The Department said that if the fund has additional information not previously submitted, it "may supplement your petition and we will reconsider your request."

Q: Is this ruling binding on the Department for other taxpayers?
A: No. This is a General Information Letter (GIL), which "do[es] not constitute statements of Department policy that apply, interpret or prescribe the tax laws and are not binding against the Department," unlike a Private Letter Ruling (PLR), which is binding only as to the specific taxpayer and facts presented.

Citations and references

• 35 ILCS 5/304(f) — Illinois Income Tax Act, alternative apportionment petition provision
• 35 ILCS 5/305(a) — Illinois Income Tax Act, pro rata allocation of partnership business income to nonresident partners
• 86 Ill. Adm. Code 100.3390 — regulation under which the petition was submitted
• 86 Ill. Adm. Code 100.3390(e)(1) — 120-day filing deadline for alternative apportionment petitions
• 2 Ill. Adm. Code 100.1200(b) and (c) — regulation distinguishing PLRs from GILs and describing their binding effect

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2017.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2017/it-17-0003-gil.pdf

Original ruling text

IT 17-0003-GIL 03/01/2017 Alternative Apportionment
Section 304(f) Does Not Authorize Alternative Method of Apportionment under
305(a)

Section

March 1, 2017
Re:

Petition for Alternative Apportionment

Dear Xxxxx:
This is in response to your letter dated December 2, 2016 in which you requested permission to use an
alternative method of allocation or apportionment. Department of Revenue (“Department”) regulations
require that the Department issue only two types of letter rulings, Private Letter Rulings (“PLRs”) and
General Information Letters (“GILs”). PLRs are issued by the Department in response to specific
taxpayer inquiries concerning the application of a tax statute or rule to a particular fact situation. A PLR
is binding against the Department, but only as to the taxpayer issued the ruling and only to the extent
the facts recited in the PLR are correct and complete. GILs do not constitute statements of Department
policy that apply, interpret or prescribe the tax laws and are not binding against the Department. See 2
Ill. Adm. Code 100.1200(b) and (c). For the reasons discussed below, your petition cannot be granted
at this time.
Your letter states as follows:
NAME Real Estate Value Fund, L.P. (the Fund) is submitting this petition under 86 Ill. Adm. Code
100.3390. It is requesting permission to use specific accounting instead of the applicable
statutory apportionment formula for filing its 2016 income tax return.
The Fund invests in various companies which own real estate. These investments are long term
investments. Currently, two of the investments are single member limited liability companies
(“SMLLC”). Each of these SMLLC own property which is only located in one state (“COMPANY,
LLC” only has property and operations in Illinois and “COMPANY 1, LLC” only has property and
operations in Texas). The third investment owned by the Fund is COMPANY 2, a partnership.
COMPANY 2 has property in California, Oregon, Washington, and Nevada.
The Fund is divided into three classes, “A”, “B”, and “C”. The partners of the Fund are not
necessarily “partners” for purposes of all the classes within the Fund (see attached schedule)
due to various buyouts of partners, etc. that have occurred over the life of the Fund. The
allocations and distributions to each partner, for both book and federal purposes, are determined
by the funds they have a partnership share in under the Fund agreement. As such, COMPANY
3 and COMPANY 4 have no interests in properties located in California, Oregon, Washington,
or Nevada. Similarly, none of their income or distributions for federal income tax or book
purposes is derived from operations in these four states. To use the statutory formula provided
in Illinois’ statutes would result in taxable income being apportioned to these partners when they
have no ownership interest in properties within Illinois. In addition, the amount of taxable income
in states in which the partners have an interest(s) in properties, and which use the same or
similar apportionment schemes, would be disproportionately reduced

IT 17-0003-GIL
The justification for specific accounting is that the typical state apportionment would yield taxable
income to each partner which is different from the amount allocable to each partner for federal
tax purposes. This is due to the unique structure of this partnership in which properties in specific
states are owned by different pass-through or disregarded entities. These entities comprise the
funds noted above which have differing ownership; they are almost “partnerships” within a
partnership. By using specific accounting, the federal allocable income and state taxable per
partner, not to mention the economics of the ownership arrangement, should agree. Using
statutory partnership will result in the income “deck” being reshuffled among the partners and
not agreeing with federal allocable income.

RULING
Section 304(f) of the Illinois Income Tax Act (“IITA” 35 ILCS 5/304(f)) states:
If the allocation and apportionment provisions of subsections (a) through (e) and of subsection
(h) do not, for taxable years ending before December 31, 2008,
fairly represent the extent of a
person’s business activity in this State, or, for taxable years ending on or after December 31, 2008,
fairly represent the market for the person’s goods, services, or other sources of business income, the
person may petition for, or the Director may, without a petition, permit or require, in respect of all or any
part of the person’s business activity, if reasonable:
(1) Separate Accounting;
(2) The exclusion of any one or more factors;
(3) The inclusion of one or more additional factors which will fairly represent the person’s
business activities or market in this State; or
(4) The employment of any other method to effectuate an equitable allocation and
apportionment of the person’s business income.

IITA Section 305(a) provides the method of allocation of partnership business income by nonresident
partners. The section states:
The respective shares of partners other than residents in so much of the business income of the
partnership as is allocated or apportioned to this State in the possession of the partnership shall
be taken into account by such partners pro rata in accordance with their respective distributive
shares of such partnership income for the partnership’s taxable year and allocated to this State.
In this case, IITA Section 305(a) governs the apportionment of nonresident partners with respect to
their income from the Fund. Your letter indicates that due to the manner in which the partners share
the income of the Fund, the apportionment rule under IITA Section 305(a) will result in income to each
partner which is different from the amount allocable to each partner for federal tax purposes. IITA
Section 304(f) allows the Department to permit or require an alternative apportionment method where
the provisions of IITA Section 304(a) through 304(e), and 304(h), do not fairly represent the market for
the person’s goods, services, or other sources of business income. Your letter does not indicate that
the Fund’s application of IITA Section 304(a) fails to reflect the market for the Fund’s goods, services,
or other sources of business income. Section 304(f) does not authorize the Department to permit a
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IT 17-0003-GIL
departure from the apportionment rule for nonresident partners prescribed under IITA Section 305(a).
Therefore, your request for an alternative apportionment method cannot be granted.
However, if you have additional information related to this request that was not previously submitted,
you may supplement your petition and we will reconsider your request. Please note that 86 Ill. Adm.
Code Section 100.3390(e)(1) requires a petition to be filed at least 120 days prior to the due date
(including extensions) for the first return for which permission is sought to use the alternative
apportionment method.

Sincerely,

Brian Stocker
Associate Counsel (Income Tax)
16gc0097

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