That’s Judge Kroupa’s lesson for Brookie Ashland, CEO of Cutler & Co., LLC, which checked the box as a partnership. The case is Stephan F. Brennan and Beth A. Brennan, T. C. Memo. 2012-187, filed 7/9/12, but Steph and Beth are consolidated with Brookie and Melvin W.
Cutler ran stock portfolios, and allegedly made a huge guaranteed payment to Melvin W. and another to Furey (a partner who bailed out and settled with IRS pre-trial), which resulted in a big loss pass-through to the Cutler partners. Meanwhile, Brookie and Melvin W. had created Airport Plaza, a partnership, to which Brookie and Steph contributed their membership interests in Cutler. So Airport Plaza was a partner of Cutler for tax purposes.
Brookie and Melvin W. take big loss carryforwards and carrybacks, as do Steph and Beth, but IRS blows up the whole deal. Brookie, Melvin W., Steph and Beth all petition, but admit that neither Melvin W. nor Furey ever got the guaranteed payments.
IRS moves in mid-trial to dismiss for lack of jurisdiction, as the issue of the pass-through loss from Cutler to Airport Plaza to Steph and Brookie are TEFRA (partnership) items, not individual items, and that the statute of limitations has run on TEFRA adjustments to Cutler for both IRS and Brookie.
After briefing and trial, Judge Kroupa bounces the whole case.
Subject-matter jurisdiction is critical, and can be raised at any time by any party or by the Court itself; it cannot be waived, because it goes to the heart of whether the Court has the right to decide anything.
And here, says Judge Kroupa, there is no right. Brookie claims that Cutler is exempt from TEFRA as a small partnership. “The parties’ dispute over Cutler’s TEFRA status centers around whether Cutler qualified for the small partnership exception to TEFRA. See sec. 6231(a)(1)(B). The small partnership exception exempts certain partnerships with 10 or fewer partners from the provisions of TEFRA on an annual basis. Id. The small partnership exception does not apply to a partnership for a taxable year if any partner in the partnership during that taxable year is a ‘pass-thru’ partner as defined in section 6231(a)(9). A ‘pass-thru partner’ means a partnership, estate, trust, S corporation, nominee or other similar person through whom other persons hold an interest in the partnership. Sec. 6231(a)(9).” T.C. Memo. 2012-187, at pp. 8-9.
So we come to Airport Plaza (AP). Was AP a partner in Cutler? If so, no small partnership exception to TEFRA, and Brookie is out.
AP was supposed to dissolve by its own terms the year before the big loss, except it didn’t. It was still executing documents during the year at issue. Even if it was winding down in that year, it was still a partnership until all assets were distributed and all activity ended.
Brookie claims AP wasn’t a real partnership, but that gets nowhere. She created AP, and signed AP’s tax return (a Form 1065). Judge Kroupa: “A taxpayer is free to conduct business through a variety of business organizations. Once a business form is chosen and reported on a return, however, the taxpayer bears the risk that its chosen form is valid for Federal tax purposes. The Court of Appeals for the Ninth Circuit has held the Commissioner may bind a taxpayer to an adopted business form that the taxpayer represents as valid. This rule holds true even if the adopted business form in substance is invalid for tax purposes. The rule exists because to permit taxpayers to challenge at will their own adopted form in favor of what they assert is actually the true substance would encourage post-transactional planning, promote unwarranted litigation by taxpayers, and raise a heavy administrative burden on the Government, including substantial problems of proof.
“We shall not allow the Ashlands to disavow Airport Plaza’s validity as a partnership for tax purposes under the circumstances.” T. C. Memo. 2012-187, at pp. 11-12 (Citations omitted.)
Takeaway–You choose it, you’re stuck with it.