Treasury Department Moving Closer to Finalizing Rules on COD Income for Partnerships

Dec 09, 2010   

On December 1, 2010, the Treasury Department announced its goal of finalizing regulations dealing with cancellation of debt income (“COD”) in partnerships contained in Section 108(e)(8) of the internal revenue code (“IRC”) this fiscal year. The regulations, when finalized, would extend most of the COD rules which now apply to corporations to partnerships.

In 2004, Section 108(e)(8) was amended to include discharges of partnership indebtedness occurring on or after October 22, 2004. Prior to the amendment, Section 108(e)(8) only applied to discharges of corporate indebtedness. Section 108(e)(8), as amended, provides that for purposes of determining income of a debtor from discharge of indebtedness (COD income), if a debtor corporation transfers stock or a debtor partnership transfers a capital or profits interest in such partnership to a creditor in satisfaction of its recourse or nonrecourse indebtedness, such corporation or partnership shall be treated as having satisfied the indebtedness with an amount of money equal to the fair market value of the stock or interest. In the case of a partnership, any COD income recognized under section 108(e)(8) shall be included in the distributive shares of the partners in the partnership immediately before such discharge.

Though first proposed by the Department of the Treasury in 2008, partnership COD regulations have been difficult to finalize because several rules that affect corporate CODs do not have analogous counterparts in the partnership provisions. However, at least four IRC provisions affecting corporate COD do not have analogous provisions in partnership codes so simply applying the corporate COD rules to partnerships would be problematic.

The proposed regulations provide guidance regarding the determination of discharge of indebtedness income of a partnership that transfers a partnership interest to a creditor in satisfaction of the partnerships indebtedness (debt-for-equity exchange). The proposed regulations also provide that Section 721 applies to a contribution of a partnerships recourse or nonrecourse indebtedness by a creditor to the partnership in exchange for a capital or profits interest in the partnership.

Fuerst Ittleman anxiously awaits development of finalized regulations by the Department of the Treasury. Keep coming back to our Blog regularly for the latest information on the finalization of COD Income regulations for partnerships. If you have any questions regarding corporate or partnership taxation, please contact Fuerst Ittleman at contact@fidjlaw.com.