When a partner's interest in a partnership is reduced after brownfield property is placed in service but within the same partnership tax year, which ownership percentage governs the partner's share of the brownfield redevelopment tax credit?

Plain-English summary

Metro Management I, LLC, a New York LLC taxed as a partnership, owned a 99.1% general partner interest in a New York limited partnership (LP). LP and another company were remediating and redeveloping a brownfield site under a Brownfield Cleanup Agreement with the state Department of Environmental Conservation, and both had received a Certificate of Completion letting each claim its own brownfield redevelopment tax credit. LP planned to build an eight-story residential building; the tangible property costs for that project spanned multiple tax years, and Petitioner's ownership interest in LP was scheduled to drop from 99.1% to 0.9% shortly after the qualifying property was placed in service. Petitioner asked how to allocate the tangible property credit component of the brownfield credit given that timing.

The Department walked through the mechanics: under IRC § 702(a) and § 704(a)-(b), a partner's distributive share of a partnership credit is generally set by the partnership agreement, or - if the agreement is silent or the allocation lacks substantial economic effect - by the partner's interest in the partnership, using the same allocation the partnership uses to divide taxable income or loss. The brownfield credit's tangible property component is allowed for the taxable year in which the qualified tangible property is placed in service (Tax Law § 21(a)(3)), and a partner reports its share for the partnership year ending within its own year (IRC § 706(a)).

Petitioner posed two hypotheticals. In the first, the property was placed in service on December 30, 2006, and the ownership reduction did not occur until January 3, 2007 - a different tax year entirely - so the 2006 credit was simply allocated at Petitioner's 99.1% interest for 2006. In the second, the property was placed in service on January 30, 2007, and the reduction to 0.9% happened later that same year, on February 28, 2007. Because both events fell within the same 2007 partnership taxable year, the Department had to address whether the mid-year reduction could shift some of the credit to the new, smaller interest.

The answer was no. IRC § 706(c)(2)(B) provides that a partnership's taxable year does not close when a partner disposes of less than its entire interest or has its interest reduced; the partnership year simply runs to its normal end, per Treasury Regulation § 1.706-1(c)(4). Where a partner's interest varies during the year, IRC § 706(d)(1) requires allocating items by a method that accounts for the partners' varying interests during the year - but courts (citing Richardson v. Commissioner, 693 F.2d 1189) have read § 706 to bar shifting partnership losses (and, here, credits) to an interest that arose after the underlying item was already fixed. Because Petitioner held 99.1% on January 30, 2007, the date the property was placed in service, its distributive share of LP's brownfield redevelopment tax credit for 2007 remained 99.1%, notwithstanding the reduction to 0.9% a month later. The opinion did not address whether the brownfield credit was otherwise allowable on these facts.

What this means for you

Partnerships with brownfield or other placed-in-service tax credits

If a partner's ownership percentage changes during the same taxable year in which qualified property is placed in service, the credit generally attaches to the partner's interest as of the placed-in-service date. A later reduction in that partner's interest within the same year does not pull any of the credit over to the new, smaller interest or to an incoming partner.

Accountants and tax professionals structuring interest changes around credit events

Timing matters: if an ownership change occurs in a different taxable year than the placed-in-service date, ordinary year-by-year allocation applies and there's no varying-interest issue. But if the reduction happens within the same year, expect the varying-interest rules of IRC § 706(d)(1) and the case law under § 706(c)(2)(B) to lock the credit to the interest held on the placed-in-service date rather than letting it float to whoever holds the interest later in the year.

Common questions

Q: Does a partner's interest reduction ever close the partnership's taxable year?
A: No. Under IRC § 706(c)(2)(B), the taxable year does not close (other than at its normal year-end) when a partner sells or exchanges less than its entire interest, or when a partner's interest is reduced by a new partner entering, a partial liquidation, a gift, or otherwise.

Q: In the ruling's second hypothetical, why did Petitioner keep 99.1% of the credit even after dropping to 0.9%?
A: Because the qualified property was placed in service on January 30, 2007, while Petitioner still held 99.1%. The reduction to 0.9% on February 28, 2007, came afterward, and case law under IRC § 706 (Richardson v. Commissioner) bars shifting a partnership credit to an interest that arose after the item giving rise to the credit was already fixed.

Q: How is a partner's distributive share of a partnership credit determined in general?
A: Under IRC § 704(a), the partnership agreement controls. If the agreement doesn't address the credit, or the allocation lacks substantial economic effect, IRC § 704(b) requires allocating in accordance with the partner's actual interest in the partnership, using the same method the partnership uses for taxable income or loss under IRC § 702(a)(8).

Q: Did the Department decide whether the brownfield credit was actually allowable here?
A: No. The opinion expressly states it does not address whether the brownfield redevelopment tax credit is allowable with respect to the tangible property to be placed in service - it only addresses the allocation question.

Citations and references

• Tax Law § 21(a)(3) - the tangible property credit component of the brownfield redevelopment tax credit is allowed for the taxable year the qualified property is placed in service
• Tax Law § 21(b)(1) - defines a "qualified site" as one with a DEC certificate of completion
• Tax Law § 606(dd) - allows the brownfield redevelopment tax credit against the personal income tax, computed under § 21
• Tax Law § 607(a) - terms used in Article 22 take their meaning from federal income tax law absent a different meaning
• IRC § 702(a) - each partner separately takes into account its distributive share of partnership credit items
• IRC § 704(a)-(b) - distributive share follows the partnership agreement, or the partner's actual interest if the agreement is silent or lacks substantial economic effect
• IRC § 706(a) - a partner includes its share of partnership items for the partnership year ending within the partner's taxable year
• IRC § 706(c)(2)(B) - the partnership's taxable year does not close on a partner's disposition of less than its entire interest or a reduction of interest
• IRC § 706(d)(1) - requires a method accounting for partners' varying interests during a year in which interests change
• 26 CFR 1.706-1(c)(4) - the partnership taxable year continues to its normal end on a partial disposition or reduction of a partner's interest
• Richardson v. Commissioner, 693 F.2d 1189 - cited for the principle that § 706 bars allocating partnership losses/credits to an interest arising after the item was sustained

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/income_ao_2006.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/income/a06_8i.pdf

Original ruling text

New York State Department of Taxation and Finance

TSB-A-06(8)I
Income Tax
November 30, 2006

Office of Tax Policy Analysis
Technical Services Division
STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. I060130B

On January 30, 2006, a Petition for Advisory Opinion was received from Metro
Management I, LLC, c\o Jon Schuyler Brooks, Esq., 930 Broadway, Woodmere, New York
11598.
The issue raised by Petitioner, Metro Management I, LLC, is how to allocate a
brownfield redevelopment tax credit, relating to qualified tangible property, among partners of a
New York limited partnership (LP) when the costs incurred by the partnership are over multiple
tax years and ownership interest in the partnership changes.
Petitioner submits the following facts as the basis for this Advisory Opinion.
Petitioner is a New York Limited Liability Company (LLC) that is treated as a
partnership for federal income tax purposes. All partners of Petitioner are individuals who are
residents of New York State. Petitioner is a general partner and has a 99.1% interest in LP. Both
Petitioner’s and LP’s taxable year is a calendar year. LP’s partnership agreement does not
specifically provide as to any partner’s distributive share of income, gain, loss, deduction or
credit (or item thereof). LP and another limited liability company (Commercial) are parties to a
Brownfield Cleanup Agreement executed with the New York State Department of
Environmental Conservation (DEC) to remediate and redevelop a qualified site.
The redevelopment plan consists of the construction of an eight-story building, divided
into two units pursuant to a condominium plan filed with and approved by the Office of the
Attorney General of the State of New York. One unit, occupying the first floor will be built and
owned by Commercial and will be leased to a single commercial tenant. The second unit
encompasses floors two through eight and will contain approximately one hundred units of
affordable rental housing and will be built and owned by LP.
DEC has issued a Certificate of Completion (COC) jointly to LP and Commercial
allowing each to claim its respective brownfield redevelopment tax credit.
The qualified tangible property will be placed in service on the qualified site within ten
years from the date of issuance of the COC.
Petitioner retains ownership interest in LP from the date LP first incurs costs related to
the qualified tangible property through the date the qualified tangible property is placed in
service.

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Petitioner describes two hypothetical situations involving change in ownership of
partnership interest in LP:

1. Qualified tangible property will be placed in service on December 30, 2006. On
   January 3, 2007, Petitioner’s ownership interest in LP will be reduced from 99.1%
   to .9%.
2. Qualified tangible property will be placed in service on January 30, 2007. On
   February 28, 2007, Petitioner’s ownership interest in LP will be reduced from
   99.1% to .9%.
   Applicable law and regulations
   Section 21(a) of the Tax Law provides, in part:
   (1) General. A taxpayer subject to tax under article nine, nine-A, twenty-two,
   thirty-two or thirty-three of this chapter shall be allowed a credit against such tax,
   pursuant to the provisions referenced in subdivision (f) of this section. Such credit shall
   be allowed with respect to a qualified site, as such term is defined in paragraph one of
   subdivision (b) of this section. The amount of the credit in a taxable year shall be the sum
   of the credit components specified in paragraphs two, three and four of this subdivision
   applicable in such year.
   *

*

*

(3) Tangible property credit component. The tangible property credit component
shall be equal to the applicable percentage of the cost or other basis for federal income
tax purposes of tangible personal property and other tangible property, including
buildings and structural components of buildings, which constitute qualified tangible
property. The credit component amount so determined shall be allowed for the taxable
year in which such qualified tangible property is placed in service on a qualified site with
respect to which a certificate of completion has been issued to the taxpayer for up to ten
taxable years after the date of the issuance of such certificate of completion. . . .
Section 21(b)(1) of the Tax Law provides:
Qualified site. A “qualified site” is a site with respect to which a certificate of
completion has been issued to the taxpayer by the commissioner of environmental
conservation pursuant to section 27-1419 of the environmental conservation law.
Section 606(dd) of the Tax Law provides:
Brownfield redevelopment tax credit.

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(1) Allowance of credit. A taxpayer shall be allowed a credit, to be computed as
provided in section twenty-one of this chapter, against the tax imposed by this article.
(2) Application of credit. If the amount of the credit allowed under this subsection
for any taxable year shall exceed the taxpayer's tax for such year, the excess shall be
treated as an overpayment of tax to be credited or refunded in accordance with the
provisions of section six hundred eighty-six of this article, provided, however, that no
interest shall be paid thereon.
Section 607(a) of the Tax Law provides:
General. Any term used in this article shall have the same meaning as when used
in a comparable context in the laws of the United States relating to federal income taxes,
unless a different meaning is clearly required but such meaning shall be subject to the
exceptions or modifications prescribed in this article or by statute. Any reference in this
article to the laws of the United States shall mean the provisions of the internal revenue
code of nineteen hundred eighty-six (unless a reference to the internal revenue code of
nineteen hundred fifty-four is clearly intended), and amendments thereto, and other
provisions of the laws of the United States relating to federal income taxes, as the same
may be or become effective at any time or from time to time for the taxable year.
Section 702(a) of the Internal Revenue Code (IRC) provides, in part:
General Rule. In determining his income tax, each partner shall take into account
separately his distributive share of the partnership’s -- . . .
(7) other items of income, gain, loss, deduction, or credit, to the extent provided
by regulations prescribed by the Secretary, and
(8) taxable income or loss, exclusive of items requiring separate computation
under other paragraphs of this subsection.
Section 704 of the IRC provides, in part:
(a) Effect of Partnership Agreement. A partner’s distributive share of income,
gain, loss, deduction, or credit shall, except as otherwise provided in this chapter, be
determined by the partnership agreement.
(b) Determination of Distributive Share. A partner’s distributive share of income,
gain, loss, deduction, or credit (or item thereof) shall be determined in accordance with
the partner’s interest in the partnership (determined by taking into account all facts and
circumstances), if

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(1) the partnership agreement does not provide as to the partner’s distributive
share of income, gain, loss, deduction or credit (or item thereof) or
(2) the allocation to a partner under the agreement of income, gain, loss,
deduction, or credit (or item thereof) does not have substantial economic effect. . . .
Section 706(a) of the IRC provides:
Year in Which Partnership Income Is Includible. In computing the taxable
income of a partner for a taxable year, the inclusions required by section 702 and section
707(c) with respect to a partnership shall be based on the income, gain, loss, deduction,
or credit of the partnership for any taxable year of the partnership ending within or with
the taxable year of the partner.
Section 706(c)(2)(B) of the IRC provides:
Disposition of less than entire interest. The taxable year of a partnership shall not
close (other than at the end of a partnership’s taxable year as determined under subsection
(b)(1)) with respect to a partner who sells or exchanges less than his entire interest in the
partnership or with respect to a partner whose interest is reduced (whether by entry of a
new partner, partial liquidation of a partner’s interest, gift, or otherwise).
Section 706(d)(1) of the IRC provides, in part:
In general. Except as provided in paragraphs (2) and (3), if during any taxable
year of the partnership there is a change in any partner's interest in the partnership, each
partner's distributive share of any item of income, gain, loss, deduction, or credit of the
partnership for such taxable year shall be determined by the use of any method prescribed
by the Secretary by regulations which takes into account the varying interests of the
partners in the partnership during such taxable year.
Section 1.706-1(c)(4) of the Treasury Regulations provides, in part:
Disposition of less than entire interest. If a partner sells or exchanges a part of his
interest in a partnership, or if the interest of a partner is reduced, the partnership taxable
year shall continue to its normal end. In such case, the partner's distributive share of items
which he is required to include in his taxable income under the provisions of section
702(a) shall be determined by taking into account his varying interests in the partnership
during the partnership taxable year in which such sale, exchange, or reduction of interest
occurred.

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Opinion
Pursuant to section 607(a) of the Tax Law, any term used for purposes of the New York
personal income tax shall have the same meaning as used in the laws of the United States
relating to federal income taxes unless a different meaning is clearly required.
Section 702(a) of the IRC provides that each partner shall take into account separately his
distributive share of the partnership’s credit. Section 704(a) of the IRC provides that a partner’s
distributive share of the partnership’s credit is determined by the partnership agreement.
Pursuant to section 704(b) of the IRC, if a partnership agreement does not provide as to the
partner’s distributive share of the credit, or the allocation to a partner under the agreement does
not have substantial economic effect, a partner’s distributive share of a credit is determined in
accordance with the partner’s interest in the partnership. In general, the allocation of tax credits
for New York personal income tax purposes is determined in accordance with the same
allocation that partners use to divide the taxable income or loss described in section 702(a)(8) of
the IRC.
Pursuant to section 21(a)(3) of the Tax Law, the tangible property credit component of
the brownfield redevelopment tax credit is allowable for the taxable year in which qualified
tangible property is placed in service on a qualified site with respect to which a certificate of
completion has been issued. Pursuant to section 706(a) of the IRC, Petitioner includes its share
of the credit from LP for the taxable year of LP ending within or with the taxable year of
Petitioner. Both Petitioner’s and LP’s taxable year is the calendar year.
With respect to hypothetical situation 1, the qualified tangible property will be placed in
service on December 30, 2006. Accordingly, the credit is allowable in 2006. Petitioner’s
distributive share of the credit is allocable to Petitioner in accordance with the allocation used by
LP to divide the taxable income or loss described in section 702(a)(8) of the IRC. Therefore,
Petitioner’s distributive share of LP’s allowable brownfield redevelopment tax credit for tax year
2006 is 99.1%.
With respect to hypothetical situation 2, the qualified tangible property will be placed in
service on January 30, 2007. Accordingly, the credit is allowable in 2007. Petitioner’s
distributive share of the credit is allocable to Petitioner in accordance with the allocation used by
LP to divide the taxable income or loss described in section 702(a)(8) of the IRC. On February
28, 2007, Petitioner’s ownership interest in LP will be reduced from 99.1% to .9%. Pursuant to
section 706(d)(1) of the IRC, as a result of the change in Petitioner’s interest in the partnership,
Petitioner’s distributive share of the credit is determined by taking into account LP’s varying
interests of partners in the partnership during the partnership taxable year. Petitioner’s
ownership interest in LP at the time the property will be placed in service on January 30, 2007, is
99.1%. Section 706 of the IRC has been construed by the courts to prohibit allocation of
partnership losses to a new partnership interest that occurred subsequent to the date that the
losses were sustained by the partnership (see Richardson v Commissioner of Internal Revenue,

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693 F2d 1189). Pursuant to section 706, therefore, the tangible property credit component of the
brownfield credit may not be allocated to a new partnership interest that occurred subsequent to
the date that the property was placed in service. Accordingly, Petitioner’s distributive share of
LP’s allowable brownfield redevelopment tax credit (which subsequently flows through
Petitioner to its partners) for tax year 2007 is 99.1%.
It should be noted that this Advisory Opinion does not address whether the brownfield
redevelopment tax credit is allowable in the present case with respect to the tangible property to
be placed in service.

DATED: November 30, 2006

NOTE:

/s/
Jonathan Pessen
Tax Regulations Specialist IV
Technical Services Division

The opinions expressed in Advisory Opinions are
limited to the facts set forth therein.