The responsibilities and obligations of the tax matters partner.

• Author: Garrison, Larry R.

The tax matters partner (or tax matters person) performs an integral role as the official representative of the partnership (or limited liability company) vis-a-vis the IRS, receiving various notices of entity audit, notifying other partners and making elections (including choice of forum) on behalf of the entity. This article details these responsibilities, offers planning safeguards and highlights a new election for large partnerships after the Taxpayer ,Relief Act of 1997.

Prior to the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA), partnership audits were conducted and any resulting adjustments were made at the partner level. TEFRA Section 402 added Secs. 6221-6231, which generally provide for a unified partnership focus in both administrative and judicial proceedings. Under Sec. 6221, the tax treatment of partnership items is to be determined at the partnership level. This centralized concept applies to all partnerships under Sec. 6231(a)(1)(A), except for certain partnerships having 10 or fewer partners.(1) The Small Business job Protection Act of 1996 (SBJPA) repealed Sec. 6244, which contained unified entity-level audit rules for S corporations.(2)

Because the audit is conducted at the entity level, a "tax matters partner" (TMP) must be designated. The TMP serves as the entity's representative in IRS-related matters.

The number of limited liability companies (LLCs) has increased dramatically in the last few years.(3) Conversion from a partnership to an LLC allows the entity to continue to operate under the partnership form if state LLC requirements are met; the partnership's TMP can continue to serve as the LLC's TMP. However, for new (i.e., unconverted) LLCs, members need to be aware of their responsibility in selecting a TMP, This article discusses the TMP selection process in light of 1996 final regulations(4) and highlights the TMP's various responsibilities. The rules apply equally to partnerships and LLCs.

Designating the TMP

Definitions

Regs. Sec. 301.6231(a)(7)-2(a) provides that a "member-manager" of an LLC is treated as a general partner; a member of an LLC who is not a member-manager is treated as a partner other than a general partner. A member-manager is defined by Regs. Sec. 301.6231(a)(7)-2(b)(3) as a member of the LLC who, alone or together with others, is vested with the continuing exclusive authority to make the management decisions necessary to conduct the business for which the organization was formed. If the LLC has no elected or designated member-managers, each member of the LLC is treated as a member-manager.

Designation Methods

Under Regs. Sec. 301.6231 (a) (7)-1, there are four ways a partnership may designate its TMP:

1. A partnership may designate a TMP for the partnership tax year on the partnership return for that year. The designation is made on the space provided on the partnership return or by attaching a statement to that return (Regs. Sec. 301.6231(a)(7)-1(c)).

2. If a partnership return has previously been filed (and a TMP selected), a successor TMP can be chosen by having the current TMP so certify in a statement sent to the service center where the partnership return is filed (Regs. Sec. 301.6231 (a) (7)-1(d)).

3. A partnership may designate a TMP after filing the partnership return for a tax year by submitting a statement signed by general partners who held more than 50% of the aggregate interest in partnership profits held by all general partners at the close of the tax year. All limited partnership interests held by a general partner are included in computing the aggregate interest in partnership profits held by the general partner (Regs. Sec. 301.6231(a)(7)-1(e)).

4. If the partnership does not have a general partner capable of serving as the TMP, a person other than a general partner may be substituted. The partnership may designate the TMP by filing a statement signed by the general and limited partners. The signing partners must have held more than 50% of the aggregate interest in partnership profits held by all partners at the close of the tax year. The designation may be made if, at the time of the designation, each partner who was a general partner at the close of the tax year for which the designation is made (1) is deceased (or if an entity, has been liquidated or dissolved); (2) has been adjudicated by a court to be incompetent; (3) has had his partnership items converted into nonpartnership items under Sec. 6231 (b); or (4) is no longer a partner in the partnership (Regs. Sec. 301.6231(a)(7)-1(f)).

   Regs. Sec. 301.6231(a)(7)-1(b)(1) provides that a general partner may be designated as the TMP if he was a general partner (1) at some time during the tax year for which the designation is made or (2) at the time the designation is made. According to Regs. Sec. 301.6231(a)(7)-1(b)(2), without the Service's consent, a non-U.S. person may not be designated the TMP if a U.S. person is eligible to be the TMP.

   Default Rules

   The Code provides default rules if the partnership fails to properly designate a TMP. Sec. 6231(a)(7)(B) provides that if no general partner is designated, the TMP will be the general partner with the largest profits interest in the partnership at the close of the tax year involved. If there is more than one such partner, the partner whose name appears first alphabetically is the TMP, according to Sec. 6231(a)(7)(B).

   According to Regs. Sec. 301.6231 (a)(7)-1(o), the Service may deem it impractical to apply the largest-profits-interest rule in any of the following situations:

1. The general partner with the largest profits interest is not apparent from the Schedules K-1 and not otherwise readily determinable.

2. Each general partner has a zero profits interest because of death, adjudication of incompetence, partnership liquidation or conversion of partnership items to nonpartnership items.

3. The general partner with the largest profits interest (i) has been notified of suspension from practice before the Service, (ii) is incarcerated, (iii) is residing outside the US. or (iv) cannot be located or cannot perform the functions of the TMP. (Lack of cooperation with the Service is not a basis for finding that a partner cannot perform the functions of a TMP)

   Regs. Sec. 301.6231(a)(7)-1(p)(1) provides that, when it is impractical to apply the largest-profits-interest rule, the Service will generally select the TMP from the general partners who were such at some time during the tax year under examination. The Service will give the partnership 30 days' notice under Regs. Sec. 301.6231(a)(7)-1(r) (2), during which time the partnership may designate the TMP before the Service does.

   According to Regs. Sec. 301.6231(a)(7)-1(p)(2), the Service may select a general or limited partner as the TMP if all of the general partners who were partners at some time during the tax year under examination are deemed to have a zero profits interest in the partnership. The partner must be a partner in the partnership at the close of the tax year under examination. Under Regs. Sec. 301.6231 (a)(7)-1(q) (2), in selecting a partner, the Service may consider:

1. The partner's general knowledge in tax matters and the administrative operation of the partnership.

2. The partner's access to the partnership's books and records.

3. The partner's profits interest.

4. The views of the partners with a majority interest in the partnership regarding the selection.

5. Whether the partner is a partner when the TMP selection is made.

6. Whether the partner is a U.S. person under Sec. 7701 (a) (30).

   Cases: In Computer Programs Lambda Ltd.,(5) the Tax Court appointed a limited partner as the TMP after notice and hearing, when there were no general partners meeting the TMP eligibility requirements. Under Regs. Sec. 301.6231(a)(7)-1(q) (3), if a partner is selected by the IRS under Regs. Sec. 301.6231(a)(7)-1(p) (2) or (3) (ii), the partnership may not designate a partner who is not a general partner to serve as the TMP in place of the TMP selected by the Service.

   In Monetary II Limited Partnerships,(6) a former general partner was allowed to be TMP for a year in which that partner held a partnership interest. According to the Ninth Circuit, the fact that the partner no longer held an interest in the partnership was not controlling, only that he had been a partner in the year at issue.

   In Montana Sapphire Associates, Ltd.,(7) the Tax...