The IRS on March 1 issued Notice 2018-18 (the Notice) stating that Treasury intends to issue regulations that will exclude an S corporation from the definition of a corporation for Section 1061 purposes. Section 1061(c)(4)(A) provides that the term ‘applicable partnership interest’ does not include any partnership interest held directly or indirectly ‘by a corporation’. The Notice indicates that the forthcoming guidance will be effective for taxable years beginning after December 31, 2017.
Although it is unclear when these regulations will be issued, the intended retroactive effective date means that taxpayers should consider the implications of this guidance in their transactions. In addition, taxpayers may want to consider whether providing input or comments to Treasury on this matter would be useful.
Taxpayers also should be aware that in several states, bills have been proposed to change how carried interest is taxed at the state level. For example, California AB-2731 proposes adding California Revenue and Taxation Code section 17044, which would impose a 17% tax on taxable income derived from an ‘investment management services interest’ effective for taxable years beginning on or after January 1, 2018. While the California bill likely faces obstacles due to a large California projected budget surplus and the need to have a two-thirds ‘yes’ vote in the California Legislature, similar bills are also pending in other state legislatures. For example, Arizona, Illinois, New York, and New Jersey have similar legislation pending. Affected taxpayers should continue to track the developments at both the federal and state level.
National Tax Services Market Leader and Mergers and Acquisitions Tax Leader, PwC US