July 17, 2018 / North America
Last July, foreign investors rejoiced at the Tax Court’s ruling in Grecian Magnesite Mining, Industrial & Shipping Co. SA v. Commissioner, which held that gains or losses on sales of partnership interests should be treated as gains or losses on the sales of capital assets. While the Service did not formally announce whether it would follow the Tax Court’s decision in Grecian Magnesite, the decision was considered a favorable ruling for taxpayers. We explained the potential impact in “Tax Court’s Grecian Formula Combs in Colorable Claims for Refunds by Foreign Taxpayers.”
Unfortunately, it turns out that the Tax Court’s ruling’s apparent positive impact did not survive tax reform. The Tax Cuts and Jobs Act (TCJA) ushered in new and significant changes to international taxation, including a provision that supersedes the Tax Court’s decision in Grecian Magnesite through the interplay of amended Sections 864(c)(8) and 1446(f). As with many aspects of tax reform, there is very little guidance on the scope of these sections, prompting a request for guidance. Thus, this article aims to help navigate how these sections apply, and the effect of these new rules on foreign investors (as well as to domestic withholding agents).
The sale, exchange, or other disposition (collectively “disposition”) of a partnership interest held by a foreign person may trigger the newly enacted withholding and filing requirements. The TCJA expanded the prior withholding regime on the disposition of partnership interests by foreign persons to include all partnership assets that can be connected to a U.S. trade or business (i.e., “effectively connected”). Amended Section 864(c)(8) of the Internal Revenue Code (the “Code”) specifies that effectively connected income includes the gain or loss on the sale of an interest in a partnership that is engaged in a U.S. trade or business. The amount of gain or loss deemed effectively connected, however, cannot exceed the gain or loss a partner might receive if the partnership had sold all of its assets at their fair market value.