IRS Private Letter Ruling 9741017

Private Letter Ruling

Number: 9741017

Internal Revenue Service

July 10, 1997

Internal Revenue Service

Department of the Treasury

Washington, DC 20224

Index No.: 1031.00-00

Dear *****:

This is in response to the request dated November 12, 1996, submitted on behalf of Taxpayer by ***** seeking a ruling that an exchange of certain interests will qualify as an exchange of like-kind property subject to nonrecognition pursuant to § 1031 of the Internal Revenue Code. In connection with the aforementioned ruling request the Taxpayer also requested a ruling that the interests which are the subject of the proposed exchange, will not be considered interests in a partnership within the meaning of § 761, because an exchange of partnership interests is not eligible for nonrecognition treatment under § 1031.

Based on the facts and analysis presented below, we conclude that the interests to be exchanged do represent interests in a partnership. Therefore, because the exchange is an exchange of interests in a partnership, it cannot qualify for nonrecognition treatment under § 1031.

The information submitted discloses that each of the brothers, A and B, owns a one-half interest in Taxpayer, which itself owns ten rental real properties. A and B have responsibility for making major decisions regarding their properties. Management of the properties is performed by a property management corporation of which A and B are equal stockholders, but are no longer employees. A and B represent that they have never executed any partnership agreement regarding Taxpayer or considered themselves to be anything other than equal owners of the properties. For the five consecutive tax years 19x1 to 19x5, however, all net income and losses of Taxpayer relating to the properties have been reported on Form 1065, a Partnership Return.

A and B represent that irreconcilable differences have developed between them regarding their ownership of the properties. Moreover, A and B are considering estate planning issues relating to the properties. To address those issues, A and B propose a like-kind exchange between themselves involving nine of the properties. After the exchange, six of the properties will be owned entirely by B, and three will be owned by A. The tenth property will continue to be owned by A and B as co-owners.

Section 1031(a)(1) of the Code provides generally that no gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held either for productive use in a trade or business or for investment.

Section 1031(a)(2)(D) provides that this subsection shall not apply to any exchange of interests in a partnership.

Section 761 provides that the term "partnership" includes a syndicate, group, pool, joint venture, or other unincorporated organization through or by means of which any business, financial operation or venture is carried on, and which is not a corporation, trust, or estate.

Section 1.761-1(a) of the Income Tax Regulations provides that a joint undertaking merely to share expenses is not a partnership. For example, if two or more persons jointly construct a ditch to drain surface water from their properties, they are not partners. Mere co-ownership of property that is maintained, kept in repair, and rented or leased does not constitute a partnership. For example, if an individual owner, or tenants in common, of farm property lease it to a farmer for cash rental or a share of the crops, they do not necessarily create a partnership thereby. Tenants in common, however, may be partners if they actively carry on a trade, business, financial operation, or venture and divide the profits thereof. For example, a partnership exists if co-owners of an apartment building leave space and in addition provide services to the occupants either directly or through an agent.

In Rev. Rul. 75-374, 1975-2 C.B. 261, two parties each own an undivided one-half interest in an apartment project. A management company retained by the co-owners manages the building. Customary tenant services such a heat and water, unattended parking, trash removal, normal repairs, and cleaning of public areas are furnished at no additional charge. Additional services, such as attendant parking, cabanas, and gas and electricity are provided by the management company for a separate charge. The ruling holds that the furnishing of customary services in connection with the maintenance and repair of an apartment project will not render co-ownership a partnership. The furnishing of additional services by the owners or through an agent will render a co-ownership a partnership. The revenue ruling concludes that since the management company is not an agent of the owners and the owners did not share the income earned from the additional services, the owners were not furnishing services. Therefore, the owners are to be treated as co-owners and not partners under section 761.

Without making a determination under Rev. Rul. 75-374 regarding A's and B's joint business activities relating to the properties, we note a crucial test under case law of whether the co-owners of property intended to create a partnership, as evidenced by their actions, notwithstanding the lack of characterization of their relationship. See Estate of Levine , 72 T.C. 780, 785 (1979). In this instance, we believe that Taxpayer's filing of partnership tax returns for several tax years indicates an intention to be taxed as a partnership. Accordingly, we conclude that A's and B's co-ownership of Taxpayer constitutes a partnership under section 761(a) and the regulations thereunder rather than a mere co-ownership.

Since an exchange of partnership interests can not qualify for deferral under section 1031(a)(1) by reason of section 1031(a)(2)(D) we can not rule that the transaction qualifies for deferral as a like-kind exchange.

In accordance with the provisions of a power of attorney currently on file, we are sending a copy of this ruling letter to *****.

A copy of this letter must be attached to any income tax return to which it is relevant.

This ruling is directed only to the taxpayer(s) requesting it. Section 6110(j)(3) of the Code provides that it may not be used or cited as precedent.

Sincerely yours,

Assistant Chief Counsel

(Income Tax and Accounting)

David L. Crawford, Jr.

Chief, Branch 5