In Uncategorized on 09/03/2012 at 11:14

Maybe not, if your partner really isn’t your partner. See Historic Boardwalk Hall, LLC, et. al. v. Com’r., Docket No. 11-1832, 3d Cir., 8/27/12, a little Labor Day light reading overturning Tax Court’s decision released 1/3/11, 136 T. C. 1. See my blogpost “Social Engineering Trumps the Code”, 1/3/11.

This case arose from a Section 47 Historic Rehabilitation Tax Credit (HRTC). The New Jersey Sports and Exhibition Authority (not to be confused with a sneaker retailer of similar name) wanted to make the old Atlantic City landmark into a sports and exhibition venue, but needed to raise money. So Pitney Bowes, the postage meter company, came into the deal through a broker who was selling tax credits.

You’ll remember Tax Court said, essentially, that to disregard the effects of the tax credits would be to disregard Congress’ will–to encourage the rehabilitation of historic structures and that Congress knew that the majority of such rehabilitation projects could not succeed without tax incentives. So the Tax Court ran roughshod over any conflicting provision of Code or Regulations that IRS could muster.

Third Circuit wasn’t having any of this. Although paying lip service to Tax Court’s notion that “…the HRTC statute is a deliberate decision to skew the neutrality of the tax system to encourage taxable entities to invest, both in form and substance, in historic rehabilitation projects,” (Decision at p. 15), Third Circuit reverses Tax Court and torpedoes Pitney’s credit.

While the rehab project was supposedly a partnership between New Jersey Sports and Pitney, Pitney had virtually zero economic risk; no real share in profits and losses; and could be taken out with its tax credit intact. And New Jersey Sports guaranteed Pitney against any tax loss.

Now economic substance was argued, but did not play a role in the outcome. “Accordingly, we focus our analysis on whether PB is as a bona fide partner in HBH [Historic Boardwalk Hall, the partnership], and in doing so, we assume, without deciding, that this transaction had economic substance. Specifically, we do not opine on the parties’ dispute as to whether, under Sacks v. Commissioner, 69 F.3d 982 (9th Cir. 1995), we can consider the HRTCs in evaluating whether a transaction has economic substance.” Decision, at p. 54, continuation of footnote 50.

So the issue is whether Pitney had any interest in the success or failure of HBH as an ongoing enterprise. If not, there was simply a prohibited sale of a tax credit. In short, did Pitney have any skin in the game?

Now there’s a lengthy discussion of the difference between economic substance and form-over-substance, and the famous codification of economic substance in the 2010 Health Care Act, but here none of this is relevant. Likewise there’s no suggestion that partners cannot limit their risk in an enterprise. But here Pitney had no meaningful risk to the downside, and no realistic prospect of gain to the upside, barring the HRTC.

So, as I said in my blogpost “Social Engineering Trumps the Code”, 1/3/11, “(T)he Third Circuit will no doubt have something to say about this. Follow.”

Did they ever!

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