Investment managers would count covered partnership gains as ordinary income

Investment managers would generally count gains from covered partnership stakes as ordinary income. This covers stakes linked to investment services in partnerships that meet the bill’s asset and capital tests for two straight calendar quarters after enactment. Losses count as ordinary losses only up to earlier gains counted as ordinary income, minus earlier ordinary losses. Returns on qualifying invested capital are excluded when the partnership allocates them as the bill requires. Domestic C corporations, which pay corporate income tax, are generally exempt. Certain publicly traded acquisition companies are excluded from that exemption, and tax officials may provide otherwise. Certain dividends and small business stock gains tied to covered stakes would lose special tax treatment. These rules generally apply to partnership tax years ending after enactment. For a year spanning enactment, covered gain is capped at the smaller of the full year’s gain or gain from after enactment.

People receiving partnership stakes for work would generally be treated as choosing to count any taxable value at transfer. This applies to partnership stakes transferred for work done for the partnership or for its benefit. A recipient may opt out of the transfer-year tax election. The stake’s value would equal what the recipient would receive if the partnership sold its assets at market value, paid its debts, and split the proceeds. This applies to partnership stakes transferred after enactment.

People selling covered stakes would generally count gains as ordinary income, and some property payouts would also trigger gain. The sale rule covers stakes linked to investment services in qualifying partnerships. The payout rule covers property given to a partner because of such a stake. Gifts and transfers at death follow separate rules; the recipient keeps the stake’s covered status. A property payout triggers gain when the property’s market value exceeds its tax basis, the amount used to figure gain. That gain counts as ordinary income to the extent the bill’s partnership gain rule applies. Qualifying invested capital is excluded from the sale rule. Certain exchanges can avoid immediate gain recognition if the holder makes an election and follows reporting rules. Domestic C corporations are generally exempt, except certain publicly traded acquisition companies or where tax officials provide otherwise. The sale and property payout rules apply to transactions after enactment.

Managers would count certain investment-linked income as ordinary income, and individuals would include covered income and losses in self-employment earnings. The first rule covers people who provide substantial investment services and hold certain interests in the entity they serve. The second covers individuals who provide specified investment services and receive income or losses from covered interests. The ordinary-income rule applies when an interest’s value or payments are closely tied to income or gains from assets the manager works with. Partnership stakes and, generally, interests in taxable corporations are excluded from that rule. Certain publicly traded acquisition companies can be covered. Domestic C corporations are generally exempt from the ordinary-income rule, except those acquisition companies or where tax officials provide otherwise. The self-employment calculation excludes some returns on qualifying invested capital. The rule for other investment-linked income takes effect on enactment. The self-employment changes generally apply to tax years ending after enactment.

Taxpayers would need to meet three conditions to seek relief from certain tax penalties. This applies to certain tax underpayments tied to investment-linked income or guidance meant to prevent people from avoiding the partnership rules. Taxpayers must disclose the relevant facts, have strong legal support, and reasonably believe their tax treatment was more likely right than wrong. These penalty provisions generally apply to tax years ending after enactment.