IRS clarifies withholding tax on disposition of partnership interests by non-U.S. persons

April 02, 2018

Tax Alert

Author(s): Sean Clancy, Shahzad A. Malik

Executive Summary

On December 22, 2017, President Trump signed a bill into law generally referred to as the Tax Cuts and Jobs Act (the Act). Included in the Act is a provision imposing a tax on non-United States persons transferring interests in certain partnerships. Moreover, the Act imposes a new withholding obligation on any person purchasing a partnership interest from a non-United States person if the partnership holds assets used in a United States trade or business.

The Act’s withholding provision has added substantial complexity and risk for purchasers of fund interests where the fund is treated as a partnership for United States federal income tax purposes and the transferors are non-United States persons.

On April 2, 2018, the IRS issued Notice 2018-29 (the Notice). Among other things, the Notice provides interim guidance for withholding obligations while the IRS prepares comprehensive regulations.

Summary of the New Tax and Withholding Obligations

The Act revises Section 864(c) of the Internal Revenue Code (the Code) to provide that gain or loss on the sale of partnership interests occurring on or after November 27, 2017, is treated as effectively connected with a United States trade or business to the extent that the transferor of such partnership interests would have effectively connected a gain or loss if the partnership had sold all of its assets for their fair market value as of the date of the transfer.

The Act adds Section 1446(f) of the Code, which requires that the transferee withhold 10% of the “amount realized” by a transferor that is a non-United States person on the sale or exchange of partnership interests occurring after December 31, 2017, if: (1) any portion of the transferor’s gain on the sale of the interest would be effectively connected income under Section 864(c) of the Code and (2) the transferor does not provide a certificate of non-foreign status.

The Act further provides that if the transferee fails to withhold as described above, the partnership is required to withhold on future distributions to the transferee-partner.

The withholding obligation has prompted purchasers of entities taxed as partnerships (a category that includes most private equity funds) to seek assurances from transferors that the transaction is not subject to the new withholding tax imposed by Section 1446(f). However, there is substantial uncertainty about the acceptable form of certification of non-foreign status, how to determine the basis for withholding, and the proper procedures and timing for withholding and depositing withheld amounts.

Further, although the Act authorizes the IRS to publish regulations, the Act itself provides no guidance as to how a purchaser would ascertain whether the sale would give rise to effectively connected income of the seller. It is also unclear whether the tax and withholding obligation is imposed on transactions that would otherwise qualify for non-recognition treatment under other sections of the Code.

Summary IRS Notice 2018-29

On April 2, 2018, the IRS published Notice 2018-29 (the Notice), announcing the IRS’s intention to issue regulations under Section 1446(f) of the Code to address the questions raised above. The Notice also provides interim guidance upon which taxpayers are permitted to rely until the IRS issues final regulations. The interim guidance provided by the IRS is summarized as follows.

  • The withholding rules continue to be suspended with respect to publicly traded partnerships, as provided in Notice 2018-08.
  • Until the final regulations are published, taxpayers required to withhold and remit taxes pursuant to Section 1446(f) of the Code should do so within twenty (20) days of the transaction in accordance with the principles of Section 1445 (i.e., the provisions related to the Foreign Interest in Real Property Tax Act [FIRPTA]) and the regulations thereunder. Forms 8288 and 8288-A should be used to report and pay withheld amounts, with the phrase “Section 1446(f)(1) Withholding” written at the top of each form. The IRS intends to publish regulations that will waive penalties and interest with respect to such forms that were due on or before May 31, 2018, if such forms are filed, and such amounts are paid, on or before May 31, 2018.
  • To avoid withholding liability, a purchaser may rely on either of the following documents, received from the seller: (1) a certification of non-foreign status if the certificate is in the form described by Section 1.1445-2(b) of the Treasury Regulations or (2) a properly completed, unmodified Form W-9 to establish the non-foreign status of the transferor, provided in each case the purchaser does not have actual knowledge of the falsity of such a document.
  • If a seller cannot give said certification, a purchaser may also rely on a certification from the seller that no gain will be realized on the sale of the partnership interests, provided the certification includes the seller’s United States TIN and is signed under penalties of perjury. This provision does not apply if there is a gain, but such gain is not recognized because of a non-recognition provision of the Code.
  • If a seller cannot give either said certification, a purchaser may also rely on a certification from the seller, received no more than thirty (30) days before the transaction, that: (1) the seller was a partner in the partnership for the entirety of the preceding two taxable years of the partnership, and (2) the seller’s allocable share of effectively connected income for each of those taxable years was less than twenty-five percent (25%) of the seller’s total distributive share of income for that year. A seller is not permitted to make this certification, however, if it did not have a distributive share of income in any of its immediately preceding three taxable years during which the partnership had effectively connected income.
  • Alternatively, a purchaser may rely on a certification from the partnership itself, stating that if the partnership had sold all of its assets for their fair market value at the time of the transaction, the amount of gain that would be effectively connected with a United States trade or business would be less than twenty-five percent (25%) of the total gain. Again, this certification must be signed under penalties of perjury and must be received not more than thirty (30) days before the transaction.

  • The withholding rule of Section 1446(f) of the Code does apply to distributions from a partnership where the amount of the distribution exceeds a partner’s outside basis in the partnership. The partnership generally may rely on its books and records or a certification from the distributee partner to determine whether the distribution exceeds the distributee partner’s outside basis.
  • The IRS is analyzing the appropriate treatment of non-recognition transactions under Section 864(c)(8) of the Code. Until the IRS issues regulations on that subject, taxpayers may avoid withholding by receiving a certification in the form described by Section 1.1445-2(d) of the Treasury Regulations.
  • The Notice also provides that the “amount realized,” which forms the basis for withholding, includes the reduction in the transferor’s share of partnership liabilities. The Notice provides for a certification procedure to determine the amount of such reduction, and therefore the required amount of withholding. The Notice further provides that “a difference in the amount of the transferor’s share of partnership liabilities of twenty-five percent or less is not a significant difference.” In certain circumstances, where the purchaser is unable to determine the reduction in the seller’s share of partnership liabilities, the withholding liability may be capped at the amount of consideration received by the seller from the purchaser.
  • The Notice provides additional interim guidance regarding coordination with Section 1445 withholding, the timing requirements of Section 1446(f)(4) (i.e., the partnership’s obligation to withhold distributions to the transferor partner if the transferor partner fails to meet its obligations under Section 1446(f)), and tiered partnerships.


The Notice provides interim answers to most of the pressing questions left unanswered by the Tax Cuts and Jobs Act of 2017. Until the IRS issues regulations providing further details, purchasers of partnership interests should comply with the certification requirements of the Notice to avoid the imposition of taxes, penalties, and interest. Taxpayers that have closed on transactions before May 31, 2018, should file the forms prescribed by the Notice by such date to avoid the imposition of penalties and interest.

The foregoing has been prepared for the general information of clients and friends of the firm. It is not meant to provide legal advice with respect to any specific matter and should not be acted upon without professional counsel. If you have any questions or require any further information regarding these or other related matters, please contact your regular Nixon Peabody LLP representative. This material may be considered advertising under certain rules of professional conduct.

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